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UNITED STATES SECURITIES AND
EXCHANGE COMMISSION Washington, D.C. 20549
   FORM 10-Q (Mark One)þ
    
    Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934For the quarterly period ended March 31, 2005
 or o
    
    Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934For the transition period from  to
 Commission File Number 000-51124 SeaBright Insurance Holdings, Inc.  Delaware
    
    56-2393241(State or other jurisdiction of incorporation
    
    (IRS Employer Identification No.)or organization)
 2101 4th Avenue, Suite 1600
Seattle, Washington 98121
(Address of principal executive offices, including zip code) (206) 269-8500
(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 past 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 þ No o Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of
the Securities Exchange Act of 1934). Yes o No þ Indicate the number of shares outstanding of each of the issuers classes of common equity, as of
the latest practicable date: Class
    
    Shares outstanding as of May 10, 2005Common Stock, $0.01 Par Value
    
    16,402,808




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SeaBright Insurance Holdings, Inc. Index to Form 10-Q PagePart I.
    
    Financial InformationItem 1.
    
    Financial Statements
    
    
    2Condensed Consolidated Balance Sheets as of March 31, 2005 and
December 31, 2004
    
    
    2Condensed Consolidated Statements of Operations for the Three Months
Ended March 31, 2005 and 2004
    
    
    3Condensed Consolidated Statements of Cash Flows for the Three Months
Ended March 31, 2005 and 2004
    
    
    4Notes to Unaudited Condensed Consolidated Financial Statements
    
    
    5Item 2.
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    12Factors That May Affect Our Business, Future Operating Results and Financial Condition
    
    
    20Item 3.
    
    Quantitative and Qualitative Disclosures About Market Risk
    
    
    32Item 4.
    
    Controls and Procedures
    
    
    33Part II.
    
    Other InformationItem 2.
    
    Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    33Item 4.
    
    Submission of Matters to a Vote of Security Holders
    
    
    33Item 6.
    
    Exhibits
    
    
    34Signatures
    
    
    34EXHIBIT 31.1EXHIBIT 31.2EXHIBIT 32.1EXHIBIT 32.2
 - 1 -




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PART I  FINANCIAL INFORMATION 
 Item 1. Financial Statements SEABRIGHT INSURANCE HOLDINGS, INC. AND SUBSIDIARIES 
 CONDENSED CONSOLIDATED BALANCE SHEETS  March 31,
    
    
    December 31,2005
    
    
    2004(Unaudited)(in thousands)ASSETSInvestment securities available-for-sale, at fair value
    
    $
    186,191
    
    
    $
    105,661Cash and cash equivalents
    
    
    18,787
    
    
    
    8,279Accrued investment income
    
    
    1,968
    
    
    
    1,096Premiums receivable, net of allowance
    
    
    8,635
    
    
    
    7,397Deferred premiums
    
    
    67,693
    
    
    
    59,243Retrospective premiums accrued
    
    
    1,228
    
    
    
    1,086Federal income tax recoverable
    
    
    
    
    
    
    397Service income receivable
    
    
    325
    
    
    
    304Reinsurance recoverables
    
    
    15,239
    
    
    
    13,484Receivable under adverse development cover
    
    
    2,853
    
    
    
    2,853Prepaid reinsurance
    
    
    5,067
    
    
    
    5,254Property and equipment, net
    
    
    539
    
    
    
    493Deferred federal income taxes, net
    
    
    6,162
    
    
    
    3,604Deferred policy acquisition costs, net
    
    
    8,592
    
    
    
    7,588Intangible assets, net
    
    
    1,910
    
    
    
    2,093Goodwill
    
    
    1,821
    
    
    
    1,821Other assets
    
    
    5,607
    
    
    
    5,459Total assets
    
    $
    332,617
    
    
    $
    226,112LIABILITIES AND STOCKHOLDERS EQUITYLiabilities:Unpaid loss and loss adjustment expense
    
    $
    83,092
    
    
    $
    68,228Unearned premiums
    
    
    75,239
    
    
    
    67,626Reinsurance funds withheld and balances payable
    
    
    1,736
    
    
    
    1,553Premiums payable
    
    
    4,286
    
    
    
    3,128Accrued expenses and other liabilities
    
    
    14,247
    
    
    
    15,207Federal income tax payable
    
    
    2,387
    
    
    
    Surplus notes
    
    
    12,000
    
    
    
    12,000Total liabilities
    
    
    192,987
    
    
    
    167,742Commitments and contingenciesStockholders equity:Series A preferred stock, $0.01 par value; 750,000 shares authorized;
issued and outstanding  no shares at March 31, 2005 and
508,265.25 shares at December 31, 2004
    
    
    
    
    
    
    5Undesignated preferred stock, $0.01 par value; 10,000,000 shares
authorized; no shares issued and outstanding
    
    
    
    
    
    
    Common stock, $0.01 par value; authorized  75,000,000 shares at
March 31, 2005 and 10,000,000 shares at December 31, 2004;
issued and outstanding  16,402,808 shares at March 31, 2005
and no shares at December 31, 2004
    
    
    164
    
    
    
    Paid-in capital
    
    
    131,028
    
    
    
    50,831Accumulated other comprehensive income (loss)
    
    
    (1,274
    )
    
    
    530Retained earnings
    
    
    9,712
    
    
    
    7,004Total stockholders equity
    
    
    139,630
    
    
    
    58,370Total liabilities and stockholders equity
    
    $
    332,617
    
    
    $
    226,112
 See accompanying notes to condensed consolidated financial statements. - 2 -




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SEABRIGHT INSURANCE HOLDINGS, INC. AND SUBSIDIARIES 
 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited) Three Months Ended March 31,2005
    
    
    2004(in thousands, except income pershare information)Revenue:Premiums earned
    
    $
    29,159
    
    
    $
    8,513Net investment income
    
    
    1,299
    
    
    
    448Net realized gain (loss)
    
    
    (56
    )
    
    
    27Claims service income
    
    
    582
    
    
    
    785Other service income
    
    
    50
    
    
    
    387Other income
    
    
    1,174
    
    
    
    55332,208
    
    
    
    10,713Losses and expenses:Loss and loss adjustment expenses
    
    
    20,267
    
    
    
    6,599Underwriting, acquisition and insurance expenses
    
    
    6,379
    
    
    
    2,547Other expenses
    
    
    1,721
    
    
    
    1,01528,367
    
    
    
    10,161Income before federal income taxes
    
    
    3,841
    
    
    
    552Federal income tax expense (benefit):Current
    
    
    2,720
    
    
    
    712Deferred
    
    
    (1,587
    )
    
    
    (514
    )1,133
    
    
    
    198Net income
    
    $
    2,708
    
    
    $
    354Basic earnings per share
    
    $
    0.21
    
    
    $
    Diluted earnings per share
    
    $
    0.18
    
    
    $
    0.05Weighted average basic shares outstanding
    
    
    12,757,740
    
    
    
    Weighted average diluted shares outstanding
    
    
    14,684,044
    
    
    
    6,988,114
 See accompanying notes to condensed consolidated financial statements. - 3 -




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SEABRIGHT INSURANCE HOLDINGS, INC. AND SUBSIDIARIES 
 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited) Three Months Ended March 31,2005
    
    
    2004(in thousands)Cash flows from operating activities:Net income
    
    $
    2,708
    
    
    $
    354Adjustments to reconcile net income to cash provided
by operating activities:Amortization of deferred policy acquisition costs
    
    
    4,226
    
    
    
    982Policy acquisition costs deferred
    
    
    (5,230
    )
    
    
    (2,925
    )Provision for depreciation and amortization
    
    
    544
    
    
    
    369Net realized (gain) loss on investments
    
    
    56
    
    
    
    (27
    )Benefit for deferred federal income taxes
    
    
    (1,587
    )
    
    
    (514
    )Changes in certain assets and liabilities:Federal income tax recoverable and payable
    
    
    2,784
    
    
    
    551Unpaid loss and loss adjustment expense
    
    
    14,864
    
    
    
    2,875Reinsurance recoverables, net of reinsurance withheld
    
    
    (1,966
    )
    
    
    (1,898
    )Unearned premiums, net of deferred premiums
and premiums receivable
    
    
    (2,217
    )
    
    
    4,021Accrued investment income
    
    
    (872
    )
    
    
    (124
    )Other assets and other liabilities
    
    
    2,086
    
    
    
    3,043Net cash provided by operating activities
    
    
    15,396
    
    
    
    6,707Cash flows from investing activities:Purchases of investments
    
    
    (138,682
    )
    
    
    (9,514
    )Sales of investments
    
    
    51,668
    
    
    
    4,931Maturities and other
    
    
    1,873
    
    
    
    465Purchases of property and equipment
    
    
    (103
    )
    
    
    (75
    )Net cash used in investing activities
    
    
    (85,244
    )
    
    
    (4,193
    )Cash flows from financing activities:Proceeds from issuance of common stock
    
    
    80,356
    
    
    
    Net cash provided by financing activities
    
    
    80,356
    
    
    
    Net increase in cash and cash equivalents
    
    
    10,508
    
    
    
    2,514Cash and cash equivalents at beginning of period
    
    
    8,279
    
    
    
    5,008Cash and cash equivalents at end of period
    
    $
    18,787
    
    
    $
    7,522Supplemental disclosures:Interest paid on surplus notes
    
    $
    195
    
    
    $
    
 See accompanying notes to condensed consolidated financial statements. - 4 -




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SEABRIGHT INSURANCE HOLDINGS, INC. AND SUBSIDIARIES 
 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 1. Organization SeaBright Insurance Holdings, Inc., a Delaware corporation (SIH), was formed in June 2003.
On July 14, 2003, SIH entered into a purchase agreement with Kemper Employers Group, Inc. (KEG),
Eagle Pacific Insurance Company, Inc. and Pacific Eagle Insurance Company, Inc., which we refer to
collectively as Eagle or the Eagle Entities, and Lumbermens Mutual Casualty Company (LMC) (the
Acquisition). Under this agreement, SIH acquired Kemper Employers Insurance Company (KEIC),
PointSure Insurance Services, Inc. (PointSure), and certain assets of Eagle, primarily renewal
rights. SeaBright Insurance Company (SBIC), formerly KEIC, is licensed to write workers
compensation insurance in 43 states and the District of Columbia. Domiciled in the State of
Illinois and commercially domiciled in the State of California, it writes both state act workers
compensation insurance and United States Longshore and Harbor Workers Compensation insurance
(USL&H). Prior to the Acquisition, beginning in 2000, KEIC wrote business only in California. In
May 2002, KEIC ceased writing business and by December 31, 2003, all premiums related to business
prior to the Acquisition were 100% earned. PointSure is engaged primarily in administrative and brokerage activities. The Eagle Entities,
from whom we purchased certain assets, were both writers of state act workers compensation and
USL&H insurance, whose policies are in run-off as of March 31, 2005. Under new ownership, KEIC resumed writing business effective October 1, 2003, primarily
targeting policy renewals for former Eagle business in the States of California, Hawaii and Alaska.
In November 2003, the Illinois Department of Financial and Professional Regulation, Division of
Insurance (the Illinois Division of Insurance) granted permission for KEIC to change its name to
SeaBright Insurance Company. 2. Summary of Significant Accounting Policies a. Basis of Presentation The accompanying unaudited condensed consolidated financial statements include the accounts of
SIH and its wholly owned subsidiaries, PointSure and SBIC (collectively, the Company). All
significant intercompany transactions among these affiliated entities have been eliminated in
consolidation. The accompanying unaudited condensed consolidated financial statements have been prepared in
accordance with U.S. generally accepted accounting principles (GAAP) for interim financial
information and pursuant to the instructions to Form 10-Q. Accordingly, they do not include all of
the information and notes required by GAAP for complete financial statements. The condensed
consolidated balance sheet at December 31, 2004 has been derived from the audited financial
statements at that date but does not include all of the information and notes required by GAAP for
complete financial statements. These financial statements and notes should be read in conjunction
with the audited financial statements and notes for the year ended December 31, 2004 included in
the Companys Annual Report on Form 10-K, which was filed with the Securities and Exchange
Commission on March 28, 2005. In the opinion of management, the unaudited condensed consolidated financial statements
include all adjustments, consisting only of normal recurring adjustments, necessary to state fairly
the financial information set forth therein. Results of operations for the three month period ended
March 31, 2005 are not necessarily indicative of the results expected for the full fiscal year or
for any future period. b. Use of Estimates The preparation of the consolidated financial statements in conformity with GAAP requires
management of the Company to make a number of estimates and assumptions relating to the reported
amount of assets and liabilities and the disclosure of contingent assets and liabilities at the
date of the consolidated financial statements and the reported amounts of revenues and expenses
during the period. For example, the Company has used significant
estimates in determining the unpaid loss and loss adjustment expenses, goodwill and other
intangibles, earned premiums on retrospectively rated policies, earned but unbilled premiums,
federal income taxes and amounts related to reinsurance. Actual results could differ from those
estimates. Such estimates and judgments could change in the future as more information becomes
known, which could impact the amounts reported and disclosed herein. - 5 -




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SEABRIGHT INSURANCE HOLDINGS, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) c. Revenue Recognition Premiums for primary and reinsured risks are included in revenue over the life of the contract
in proportion to the amount of insurance protection provided (i.e., ratably over the policy
period). The portion of the premium that is applicable to the unexpired period of the policies
in-force is not included in revenue but is deferred and recorded as unearned premium in the
liability section of the balance sheet. Deferred premiums represent the unbilled portion of annual
premiums. Earned premiums on retrospectively rated policies are based on the Companys estimate of loss
experience as of the measurement date. Loss experience includes known losses specifically
identifiable to a retrospective policy as well as provisions for future development on known losses
and for losses incurred but not yet reported, which are developed using actuarial loss development
factors that are consistent with how the Company projects losses in general. For retrospectively
rated policies, the governing contractual minimum and maximum rates are established at policy
inception and are made a part of the insurance contract. For the three month periods ended March
31, 2005 and 2004, approximately 25.9% and 26.1%, respectively, of premiums written related to
retrospectively rated policies. d. Unpaid Loss and Loss Adjustment Expense Unpaid loss and loss adjustment expense represents an estimate of the ultimate net cost of all
unpaid losses incurred through the specified period. The loss adjustment expenses component is an
estimate of unpaid expenses to be incurred in settlement of the claims included in the liability
for unpaid losses. These liabilities, which anticipate salvage and subrogation recoveries and are
presented gross of amounts recoverable from reinsurers, include estimates of future trends in claim
severity and frequency and other factors that could vary as the losses are ultimately settled. The Company uses independent actuaries to assist in the evaluation of the adequacy of its
reserve for unpaid loss and loss adjustment expense. In light of the Companys short operating
history and uncertainties concerning the effects of legislative reform specifically as it relates
to the Companys California workers compensation class of business, actuarial techniques are
applied that use the historical experience of the Companys predecessor as well as industry
information in the analysis of unpaid loss and loss adjustment expense. These techniques recognize,
among other factors:  
    the Companys claims experience and that of its predecessor;
    the industrys claims experience;
    historical trends in reserving patterns and loss payments;
    the impact of claim inflation;
    the pending level of unpaid claims;
    the cost of claim settlements;
    legislative reforms affecting workers compensation; and
    the environment in which insurance companies operate. Although it is not possible to measure the degree of variability inherent in such estimates,
management believes that the reserve for unpaid loss and loss adjustment expense is adequate. The
estimates are reviewed periodically and any necessary adjustments are included in the results of
operations of the period in which the adjustment is determined. e. Reinsurance The Company protects itself from excessive losses by reinsuring with nonaffiliated reinsurers
certain levels of risk in various areas of exposure. Reinsurance premiums, commissions, expense
reimbursements and reserves related to ceded business are accounted for on a basis consistent with
those used in accounting for original policies issued and the terms of the reinsurance contracts.
The unpaid loss and loss adjustment expense subject to the adverse - 6 -




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SEABRIGHT INSURANCE HOLDINGS, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) development cover with LMC is
calculated on a quarterly basis using generally accepted actuarial methodology. Amounts recoverable
in excess of acquired reserves at September 30, 2003 are recorded gross in unpaid loss and loss
adjustment expense in accordance with SFAS No. 141, Business Combinations, with a corresponding
amount receivable from the seller. Amounts are shown net in the income statement. Premiums ceded to
other companies are reported as a reduction of premiums written and earned. Reinsurance
recoverables are determined based on the terms and conditions of the reinsurance contracts. f. Income Taxes The asset and liability method is used in accounting for income taxes. Under this method,
deferred tax assets and liabilities are determined based on differences between the financial
reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and
laws that will be in effect when the differences are expected to reverse, net of any applicable
valuation allowances. g. Earnings Per Share The following table provides the reconciliation of basic and diluted weighted average shares
outstanding used in calculating earnings per share for the three month periods ended March 31, 2005
and 2004: Three MonthsEnded March 31,2005
    
    
    2004(in thousands)Basic weighted average shares outstanding
    
    
    12,758
    
    
    
    Weighted average shares issuable upon:Conversion of preferred stock outstanding prior to initial public offering
    
    
    1,728
    
    
    
    6,988Exercise of stock options and vesting of restricted stock
    
    
    198
    
    
    
    Diluted weighted average shares outstanding
    
    
    14,684
    
    
    
    6,988
 h. Stock Based Compensation The Company measures its employee stock-based compensation arrangements using the provisions
outlined in Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to
Employees, which is an intrinsic value-based method of recognizing compensation costs. The Company
has adopted the disclosure-only provisions of SFAS No. 123, Accounting for Stock-based
Compensation. None of the Companys stock options had an intrinsic value at grant date and,
accordingly, no compensation cost has been recognized for its stock option plan activity. The following table illustrates the effect on net income for the three month periods ended
March 31, 2005 and 2004 as if the Company had applied the fair value recognition provisions of SFAS
No. 123 to stock based compensation: Three MonthsEnded March 31,2005
    
    
    2004(in thousands, except income pershare data)Net income:As reported
    
    $
    2,708
    
    
    $
    354Less SFAS No. 123 compensation costs, net of taxes
    
    
    (60
    )
    
    
    (17
    )Pro forma net income
    
    $
    2,648
    
    
    $
    337Net income per common share:Basic  as reported
    
    $
    0.21
    
    
    $
    Basic  pro-forma
    
    $
    0.21
    
    
    $
    Diluted  as reported
    
    $
    0.18
    
    
    $
    0.05Diluted  pro-forma
    
    $
    0.18
    
    
    $
    0.05
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SEABRIGHT INSURANCE HOLDINGS, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) The compensation expense included in the pro forma net income is not likely to be
representative of the effect on reported net income for future years because options vest over
several years and additional awards may be made each year. i. Recent Accounting Statements SFAS No. 123 (revised 2004), Share-based Payment, was issued in December 2004. Statement No.
123(R) is a revision of SFAS No. 123, Accounting for Stock-Based Compensation. Statement No.
123(R) supersedes APB Opinion No. 25, Accounting for Stock Issued to Employees, and amends SFAS
No. 95, Statement of Cash Flows. Generally, the approach in Statement No. 123(R) is similar to
the approach described in Statement No. 123. However, Statement No. 123(R) requires all share-based
payments to employees, including grants of employee stock options, to be recognized in the income
statement based on their fair values. Pro forma disclosure is no longer an alternative. Statement No. 123(R) must be adopted no later than January 1, 2006, and the Company expects to
adopt the Statement on or before that date. As permitted by Statement No. 123, the Company
currently accounts for share-based payments to employees using the intrinsic value method as
detailed in Opinion No. 25 and, as such, generally recognizes no compensation cost for employee
stock options. Accordingly, the adoption of Statement No. 123(R)s fair value method will have an
impact on the Companys results of operations, although it will have no impact on the Companys
overall financial position. The impact of adoption of Statement No. 123(R) cannot be predicted at
this time because it will depend on levels of share-based payments granted in the future. However,
had the Company adopted Statement No. 123(R) in prior periods, the impact of the standard would
have approximated the impact of Statement No. 123 as described in the disclosure of pro forma net
income and earnings per share discussed above. j. Comprehensive Income The following table summarizes the Companys comprehensive income for the three month periods
ended March 31, 2005 and 2004: Three MonthsEnded March 31,2005
    
    
    2004(in thousands)Net income
    
    $
    2,708
    
    
    $
    354Reclassification adjustment for realized gains (losses) recorded into income,
net of tax expense (benefit) of $(19) in 2005 and $9 in 2004
    
    
    (37
    )
    
    
    18Increase (decrease) in unrealized gain on investment securities available-for-sale,
net of tax expense (benefit) of $(952) in 2005 and $227 in 2004
    
    
    (1,767
    )
    
    
    440Total comprehensive income
    
    $
    904
    
    
    $
    812
 3. Investments The consolidated cost or amortized cost, gross unrealized gains and losses, and estimated fair
value of investment securities available-for-sale at March 31, 2005 are as follows: March 31, 2005Cost or
    
    
    Gross
    
    
    GrossAmortized
    
    
    Unrealized
    
    
    Unrealized
    
    
    EstimatedCost
    
    
    Gains
    
    
    Losses
    
    
    Fair Value(In thousands)U.S. Treasury securities
    
    $
    26,449
    
    
    $
    16
    
    
    $
    (321
    )
    
    $
    26,144Government sponsored agency securities
    
    
    12,970
    
    
    
    
    
    
    
    (87
    )
    
    
    12,883Corporate securities
    
    
    24,725
    
    
    
    2
    
    
    
    (370
    )
    
    
    24,357Tax-exempt municipal securities
    
    
    96,728
    
    
    
    113
    
    
    
    (1,127
    )
    
    
    95,714Mortgage pass-through securities
    
    
    18,174
    
    
    
    1
    
    
    
    (148
    )
    
    
    18,027Collateralized mortgage obligations
    
    
    2,114
    
    
    
    
    
    
    
    (26
    )
    
    
    2,088Asset-backed securities
    
    
    6,991
    
    
    
    6
    
    
    
    (19
    )
    
    
    6,978Total investment securities available-for-sale
    
    $
    188,151
    
    
    $
    138
    
    
    $
    (2,098
    )
    
    $
    186,191
 The unrealized loss on temporarily impaired investments totaled $2.1 million at March 31, 2005
for investment securities available-for-sale with a fair value of $152.7 million. All were impaired
for less than one year. The - 8 -




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SEABRIGHT INSURANCE HOLDINGS, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) Company evaluated investment securities with March 31, 2005 fair values
less than amortized cost and has determined that the decline in value is temporary and is related
to the change in market interest rates since purchase. The amortized cost and estimated fair value of investment securities available-for-sale at
March 31, 2005, by contractual maturity, are set forth below. Actual maturities may differ from
contractual maturities because certain borrowers have the right to call or prepay obligations with
or without call or prepayment penalties. Cost or
    
    
    EstimatedMaturity
    
    Amortized Cost
    
    
    Fair Value(In thousands)Due in one year or less
    
    $
    10,050
    
    
    $
    10,035Due after one year through five years
    
    
    37,343
    
    
    
    37,016Due after five years through ten years
    
    
    77,331
    
    
    
    76,592Due after ten years
    
    
    36,148
    
    
    
    35,456Securities not due at a single maturity date
    
    
    27,279
    
    
    
    27,092Total investment securities available-for-sale
    
    $
    188,151
    
    
    $
    186,191
 The consolidated amortized cost of investment securities available-for-sale deposited with
various regulatory authorities was $50.8 million at March 31, 2005. 4. Premiums Direct premiums written totaled $44.1 million and $23.7 million for the three month periods
ended March 31, 2005 and 2004, respectively. Premiums receivable consist of the following at March 31, 2005 and December 31, 2004: March 31,
    
    
    December 31,2005
    
    
    2004(In thousands)Premiums receivable
    
    $
    9,363
    
    
    $
    8,068Allowance for doubtful accounts
    
    
    (728
    )
    
    
    (671
    )$
    8,635
    
    
    $
    7,397
 5. Reinsurance a. Reinsurance Ceded Under reinsurance agreements, the Company cedes various amounts of risk to nonaffiliated
insurance companies for the purpose of limiting the maximum potential loss arising from the
underlying insurance risks. Effective October 1, 2004, the Company entered into reinsurance
agreements wherein it retains the first $500,000 of each loss occurrence. Losses in excess of
$500,000 up to $100.0 million are 100% reinsured with nonaffiliated reinsurers. As part of the Acquisition, SIH and LMC entered into an adverse development excess of loss
reinsurance agreement (the Agreement). The Agreement, after taking into account any recoveries
from third party reinsurers, requires LMC to reimburse SBIC 100% of the excess of the actual loss
at December 31, 2011 over the initial loss reserves at September 30, 2003. The Agreement also
requires SBIC to reimburse LMC 100% of the excess of the initial loss reserves at September 30,
2003 over the actual loss results at December 31, 2011. The amount of adverse loss development
under the Agreement was $2.9 million at March 31, 2005. The increase in the amount due from LMC is
netted against loss and loss adjustment expense in the accompanying unaudited condensed
consolidated statements of operations. As part of the Agreement, LMC placed into trust (the Trust) an amount equal to 10% of the
balance sheet reserves of SBIC on the date of the Acquisition. Thereafter, the Trust shall be
adjusted each quarter, if warranted, to an amount equal to 102% of LMCs obligations under the
Agreement. Initial loss reserves were $16.0 million. The balance of the Trust was $4.8 million at
March 31, 2005 and December 31, 2004. - 9 -




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SEABRIGHT INSURANCE HOLDINGS, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) b. Reinsurance Assumed The Company assumes business from the National Council for Compensation Insurance in the
states of Alaska, Nevada and Oregon as part of the Residual Market Pool program. c. Reinsurance Recoverables and Income Statement Effects Balances affected by reinsurance transactions are reported gross of reinsurance in the
accompanying condensed consolidated balance sheets. Reinsurance recoverables are comprised of the
following amounts at March 31, 2005 and December 31, 2004: March 31,
    
    
    December 31,2005
    
    
    2004(In thousands)Reinsurance recoverables on unpaid loss and loss adjustment expenses
    
    $
    13,909
    
    
    $
    12,582Reinsurance recoverables on paid losses
    
    
    1,330
    
    
    
    902Total reinsurance recoverables
    
    $
    15,239
    
    
    $
    13,484
 The effects of reinsurance on income statements amounts are as follows for the three month
periods ended March 31, 2005 and 2004: Three MonthsEnded March 31,2005
    
    
    2004(in thousands)Reinsurance assumed:Written premiums
    
    $
    219
    
    
    $
    Earned premiums
    
    
    225
    
    
    
    Losses and loss adjustment expenses incurred
    
    
    128
    
    
    
    Reinsurance ceded:Written premiums
    
    $
    5,263
    
    
    $
    2,889Earned premiums
    
    
    5,450
    
    
    
    1,330Losses and loss adjustment expenses incurred
    
    
    2,177
    
    
    
    (9
    )
 6. Unpaid Loss and Loss Adjustment Expenses The following table summarizes the activity in unpaid loss and loss adjustment expense for the
three month periods ended March 31, 2005 and 2004: Three MonthsEnded March 31,2005
    
    
    2004(in thousands)Beginning balance
    
    $
    55,646
    
    
    $
    18,495Incurred related to:Current period
    
    
    20,267
    
    
    
    6,599Prior periods
    
    
    
    
    
    
    Total incurred
    
    
    20,267
    
    
    
    6,599Paid related to:Current period
    
    
    (2,509
    )
    
    
    (1,427
    )Prior periods
    
    
    (4,221
    )
    
    
    (1,667
    )Total paid
    
    
    (6,730
    )
    
    
    (3,094
    )Ending balance, net of reinsurance recoverables
of $13,909 in 2005 and $10,608 in 2004
    
    $
    69,183
    
    
    $
    22,000
 7. Surplus Notes In a private placement on May 26, 2004, SBIC issued $12.0 million in subordinated floating
rate surplus notes due in 2034. Interest, paid quarterly in arrears, is calculated at the beginning
of the interest payment period using the - 10 -




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SEABRIGHT INSURANCE HOLDINGS, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) 3-month LIBOR rate plus 400 basis points, subject to
certain limitations. Interest expense for the three months ended March 31, 2005 was $197,000. 8. Contingencies a.SBIC is subject to guaranty fund and other assessments by the states in which it writes
business. Guaranty fund assessments are accrued at the time premiums are written. Other assessments
are accrued either at the time of assessment or in the case of premium-based assessments, at the
time the premiums are written, or in the case of loss-based assessments, at the time the losses are
incurred. SBIC has recorded a liability for guaranty fund and other assessments of $2.6 million at
March 31, 2005 and has no related asset for premium offset or policy surcharges. This amount
represents managements best estimate based on information received from the states in which it
writes business and may change due to many factors, including the Companys share of the ultimate
cost of current insolvencies. The majority of assessments are paid out in the year following the
year in which the premium is written or the losses are paid. b.In June 2004, the Company was notified of a claim for damages brought by an individual
against PointSure. In April 2005, a complaint against PointSure in connection with this matter was
filed in the Superior Court of Washington for King County. The complaint alleges breach and unjust
enrichment related to the termination of an alleged contract between PointSure and the plaintiff
and seeks a judgment awarding damages to the plaintiff in an amount to be proven at trial, plus
attorneys fees and costs. The Company disputes the allegations in the complaint and is defending
this case vigorously. Management believes the outcome of this matter will not have a material
adverse effect on the Companys financial position. c.The Company is involved in various claims and lawsuits arising in the ordinary course of
business. Management believes the outcome of these matters will not have a material adverse effect
on the Companys financial position. 9. Initial Public Offering On January 26, 2005, the Company closed its initial public offering of 8,625,000 shares of
common stock, including the underwriters over-allotment option to purchase 1,125,000 shares of
common stock, at a price of $10.50 per share for net proceeds of approximately $80.4 million, after
deducting underwriters fees, commissions and offering costs totaling approximately $10.2 million.
As part of the initial public offering, all 508,365.25 outstanding shares of the Companys Series A
convertible preferred stock were converted into 7,777,808 shares of
the Companys common stock. Included in other assets at December 31, 2004 was approximately
$1.3 million of offering costs associated with the initial public offering. These costs were
deducted from the gross proceeds of the offering at closing. On January 26, 2005, the Company contributed approximately $74.8 million of the net proceeds
to SBIC. The Company intends to use the remaining net proceeds for general corporate purposes,
including supporting the growth of PointSure. The use of proceeds from the offering does not
represent a material change from the use of proceeds described in the prospectus that was included
in the related Registration Statement on Form S-1. Except for the contribution of proceeds to SBIC,
no proceeds or expenses were paid to the Companys directors, officers, ten percent shareholders or
affiliates. 10. Common Stock Options and Restricted Stock Awards The following table summarizes stock option activity since December 31, 2004: Number ofSharesStock options outstanding at December 31, 2004
    
    
    491,508Options granted
    
    
    310,351Options forfeited
    
    
    Stock options outstanding at March 31, 2005
    
    
    801,859
 - 11 -




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SEABRIGHT INSURANCE HOLDINGS, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) In March 2005, the Compensation Committee of the Board of Directors granted 2,000 shares of
restricted common stock to each of three non-employee directors. The restricted shares
automatically vest on the third anniversary of the date of grant. 
 Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations The following discussion of our financial condition and results of operations should be read
in conjunction with our unaudited condensed consolidated financial statements and accompanying
notes to those statements included in this quarterly report and with our 2004 audited financial
statements and notes thereto included in our Annual Report onForm 10-K, which was filed with the
Securities and Exchange Commission on March 28, 2005. Overview We are a specialty provider of multi-jurisdictional workers compensation insurance. We are
domiciled in Illinois, commercially domiciled in California and headquartered in Seattle,
Washington. We are licensed in 43 states and the District of Columbia to write workers
compensation insurance. Traditional providers of workers compensation insurance provide coverage
to employers under one or more state workers compensation laws, which prescribe benefits that
employers are obligated to provide to their employees who are injured arising out of or in the
course of employment. We focus on employers with complex workers compensation exposures and
provide coverage under multiple state and federal acts, applicable common law or negotiated
agreements. We also provide traditional state act coverage in markets we believe are underserved.
Our workers compensation policies are issued to employers who also pay the premiums. The policies
provide payments to covered, injured employees of the policyholder for, among other things,
temporary or permanent disability benefits, death benefits and medical and hospital expenses. The
benefits payable and the duration of such benefits are set by statute, and vary by jurisdiction and
with the nature and severity of the injury or disease and the wages, occupation and age of the
employee. SeaBright Insurance Holdings, Inc. (SeaBright or the Company) was formed in 2003 by
members of our current management and entities affiliated with Summit Partners, a leading private
equity and venture capital firm, for the purpose of completing a management-led buyout that closed
on September 30, 2003, which we refer to as the Acquisition. In the Acquisition, we acquired from
Lumbermens Mutual Casualty Company (LMC) and certain of its affiliates the renewal rights and
substantially all of the operating assets and employees of Eagle Pacific Insurance Company and
Pacific Eagle Insurance Company, which we collectively refer to as Eagle or the Eagle Entities.
Eagle Pacific began writing specialty workers compensation insurance almost 20 years ago. The
Acquisition gave us renewal rights to an existing portfolio of business, representing a valuable
asset given the renewal nature of our business, and a fully operational infrastructure that would
have taken many years to develop. These renewal rights
gave us access to Eagles customer lists and the right to seek to renew Eagles continuing
in-force insurance contracts. In the Acquisition, we also acquired 100% of the issued and outstanding capital stock of
Kemper Employers Insurance Company (KEIC) and PointSure Insurance Services, Inc. (PointSure), a
wholesale insurance broker and third party claims administrator. We acquired KEIC, a shell company
with no in-force policies or employees, solely for the purpose of acquiring its workers
compensation licenses in 43 states and the District of Columbia and for its certification with the
United States Department of Labor. Subsequent to the Acquisition, KEIC was renamed SeaBright
Insurance Company. SeaBright Insurance Company received an A- (Excellent) rating from A.M. Best
following the completion of the Acquisition. At closing of the Acquisition, $4.0 million of the purchase price was placed into escrow for a
period of two years. These funds are available to us as security for various obligations of LMC
pursuant to various agreements entered into in connection with the Acquisition. The escrow agent
will release the funds remaining in the escrow account to Kemper Employers Group, Inc. on October
2, 2005. To minimize our exposure to any past business underwritten by KEIC, we entered into an
adverse development cover agreement in connection with the Acquisition. Under the terms of this
agreement, we and LMC are required to indemnify each other with respect to developments in KEICs
loss reserves as they existed at the date of the Acquisition. Accordingly, if KEICs loss reserves
increase, LMC must indemnify us in the amount of the increase. To support LMCs obligations under
the adverse development cover, LMC funded a trust account at the time of the Acquisition in the
amount of $1.6 million as collateral for LMCs potential future obligations to us under the adverse
development cover. The minimum amount that must be maintained in the trust account is equal to the
greater of (a) $1.6 million or (b) 102% of the then - 12 -




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existing quarterly estimate of LMCs total
obligations under the adverse development cover. The amount on deposit in the trust account was
increased to $4.8 million on December 23, 2004. If LMC is placed into receivership and the amount
held in the collateralized reinsurance trust is inadequate to satisfy the obligations of LMC to us
under the adverse development cover, it is unlikely that we would recover any future amounts owing
by LMC to us. Principal Revenue and Expense Items We derive our revenue primarily from premiums earned, service fee income, net investment
income and net realized gains and losses from investments. Premiums Earned Gross premiums written include all premiums billed and unbilled by an insurance company during
a specified policy period. Premiums are earned over the terms of the related policies. At the end
of each accounting period, the portions of premiums that are not yet earned are included in
unearned premiums and are realized as revenue in subsequent periods over the remaining terms of the
policies. Our policies typically have a term of 12 months. Thus, for example, for a policy that is
written on July 1, 2004, one-half of the premiums would be earned in 2004 and the other half would
be earned in 2005. Premiums earned are the earned portion of our net premiums written. Net premiums written is
the difference between gross premiums written and premiums ceded or paid to reinsurers (ceded
premiums written). Our gross premiums written is the sum of both direct premiums and assumed
premiums before the effect of ceded reinsurance. Assumed premiums are premiums that we have
received from another company under a reinsurance agreement or from an authorized state mandated
pool. We earn our direct premiums written from our maritime, alternative dispute resolution (ADR)
and state act customers. We also earn a small portion of our direct premiums written from employers
who participate in the Washington Maritime Assigned Risk Plan. We immediately cede 100% of those
premiums, net of our expenses, and 100% of the losses in connection with that business to the plan.
We do not include premiums from the Washington Maritime Assigned Risk Plan in our direct premiums
written because it is not indicative of our core business or material to our results of operation. Net Investment Income and Realized Gains and Losses on Investments We invest our statutory surplus and the funds supporting our insurance liabilities (including
unearned premiums and unpaid loss and loss adjustment expenses) in cash, cash equivalents and fixed
income securities. Our investment income includes interest earned on our invested assets. Realized
gains and losses on invested assets are reported separately from net investment income. We earn
realized gains when invested assets are sold for an amount greater
than their amortized cost in the case of fixed maturity securities and recognize realized
losses when investment securities are written down as a result of an other-than-temporary
impairment or sold for an amount less than their carrying cost. Claims Service Income Substantially all of our claims service income is from contracts we have with LMC to provide
claims handling services for the policies written by the Eagle Entities prior to the Acquisition.
The claims service income we receive for providing these services approximates our costs and will
substantially decrease over the next several years as transactions related to the Eagle Entities
diminish. Other Service Income Following the Acquisition, we entered into servicing arrangements with LMC to provide policy
administration and accounting services for the policies written by the Eagle Entities prior to the
Acquisition. The fee income we receive for providing these services approximates our costs and will
substantially decrease over the next several years as transactions related to the Eagle Entities
diminish. - 13 -




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Our expenses consist primarily of: Loss and Loss Adjustment Expenses Loss and loss adjustment expenses represent our largest expense item and include (1) claim
payments made, (2) estimates for future claim payments and changes in those estimates for current
and prior periods and (3) costs associated with investigating, defending and adjusting claims. Underwriting, Acquisition and Insurance Expenses In our insurance subsidiary, we refer to the expenses that we incur to underwrite risks as
underwriting, acquisition and insurance expenses. Underwriting expenses consist of commission
expenses, premium taxes and fees and other underwriting expenses incurred in writing and
maintaining our business. Commission Expenses We pay commission expense in our insurance subsidiary to our brokers for the premiums that
they produce for us. Premium Taxes and Fees We pay state and local taxes based on premiums, licenses and fees, assessments and
contributions to workers compensation security funds. Other Underwriting Expenses Other underwriting expenses consist of general administrative expenses such as salaries, rent,
office supplies, depreciation and all other operating expenses not otherwise classified separately,
and boards, bureaus and assessments of statistical agencies for policy service and administration
items such as rating manuals, rating plans and experience data. Interest Expense Included in other expense is interest expense we incur on $12.0 million in surplus notes that
our insurance subsidiary issued in May 2004. The interest expense is paid quarterly in arrears. The
interest expense for each interest payment period is based on the three-month LIBOR rate two London
banking days prior to the interest payment period plus 400 basis points. Results of Operations Three Months Ended March 31, 2005 and 2004 Gross Premiums Written.Gross premiums written for the three months ended March 31, 2005
totaled $44.3 million, an increase of $20.6 million, or 86.9%, over $23.7 million of gross premiums
written in the same period of 2004. We began writing new insurance contracts on October 1, 2003
and began renewing some of the existing contracts of our predecessor expiring after that date. The
three months ended March 31, 2004 was only our second quarter of operations as SeaBright Insurance
Company. A significant portion of the increase in gross premiums written is attributable to our
expansion in California state act contractor business, which accounted for approximately 67.0% of
premiums written in the first quarter of 2005 compared to approximately 40.2% in the same period of
2004. On March 25, 2005, the Workers Compensation Insurance Rating Bureau (the WCIRB), an
industry-backed private organization that provides statistical analysis, submitted a filing with
the California Insurance Commissioner recommending a 10.4% decrease in advisory pure premium rates
on new and renewal policies effective July 1, 2005. The filing was made in response to reductions
in 2004 workers compensation claim costs in California, as well as anticipated future claim cost
reductions, as a result of reform legislation enacted primarily in 2003 and 2004. The rate is
advisory only and requires approval by the California Insurance Commissioner. If the advisory rate
reduction is approved, insurance companies may choose whether or not to adopt the new rates. A
public hearing on the matters contained in the WCIRBs filing was held on April 25, 2005 and will
reconvene on May 19, 2005 to gather additional information. At this time, we are unable to predict
the impact that the proposed rate reductions, if approved and adopted by us, might have on our
future financial position and results of operations. - 14 -




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Net Premiums Written.Net premiums written totaled $39.0 million for the three months ended
March 31, 2005 compared to $20.8 million in the same period in 2004, representing an increase of
$18.2 million, or 87.5%. Net premiums written are affected by premiums ceded under reinsurance
agreements with external reinsurers. Ceded written premiums for the three months ended March 31,
2005 totaled $5.3 million (12.0% of gross premiums written) compared to $2.9 million (12.2% of
gross premiums written) in the same period of 2004. Our reinsurance contracts provide for the
ceding of premiums on both a gross premiums written and gross premiums earned basis. Net Premiums Earned.Net premiums earned were $29.2 million for the three months ended March
31, 2005 compared to $8.5 million for the same period in 2004, representing an increase of $20.7
million, or 243.5%. As previously discussed, this increase is due to the increase in net premiums
written and to the fact that we had been in business for only six months at March 31, 2004. We
record the entire annual policy premium as unearned premium when written and earn the premium over
the life of the policy, which is generally twelve months. Because we acquired renewal rights and
not policies in the Acquisition, our actual results for the three months ended March 31, 2004 do
not reflect premiums earned on any policies written prior to September 30, 2003, the date of the
Acquisition. Net Investment Income.Net investment income was $1.3 million for the three months ended
March 31, 2005 compared to $0.4 million for the same period in 2004, representing an increase of
$0.9 million, or 225.0%. This increase is due primarily to an increase of approximately $99.0
million (163.6%) in average invested funds for the three months ended March 31, 2005 over the same
period in 2004. In May 2004, SeaBright Insurance Company issued, in a private placement, $12.0
million in subordinated floating rate surplus notes due in 2034. In June 2004, we sold 51,615.25
shares of Series A convertible preferred stock to our then-existing preferred stockholders and
certain members of management for total gross proceeds of $5.2 million. In January 2005, we
completed the initial public offering of our common stock, resulting in net proceeds of
approximately $80.4 million. Our yield on average invested assets for the three months ended March
31, 2005 was approximately 3.3% compared to approximately 3.0% for the same period in 2004. Service Income.Service income totaled $0.6 million for the three months ended March 31, 2005
compared to $1.2 million for the same period in 2004, representing a decrease of $0.6 million, or
50.0%. Our service income results from service arrangements we have with LMC for claims processing
services, policy administration and administrative services we perform for the Eagle Entities
insurance policies. Average monthly fees are declining as the volume of work decreases as a result
of the run off of our predecessors business. Other Income.Other income totaled $1.2 million for the three months ended March 31, 2005
compared to $0.6 million for the same period in 2004, representing an increase of $0.6 million, or
100.0%. Other income results primarily from the operations of PointSure, our non-insurance
subsidiary. Loss and Loss Adjustment Expenses.Loss and loss adjustment expenses totaled $20.3 million
for the three months ended March 31, 2005 compared to $6.6 million for the same period in 2004,
representing an increase of $13.7 million, or 207.6%. The higher loss and loss adjustment expenses
for the quarter ended March 31, 2005 are attributable to the increase in premiums earned for the
period. Our net loss ratio for the three months ended March 31, 2005 was 67.5% compared to 68.3%
for the same period in 2004. As of March 31, 2005, we had recorded a receivable of approximately
$2.9 million for adverse loss development under the adverse development cover since the date of the
Acquisition. We do not expect this receivable to have any material adverse effect on our future
cash flows if LMC fails to perform its obligations under the adverse development cover. At March
31, 2005, we have access to approximately $4.8 million under the collateralized reinsurance trust
in the event that LMC fails to satisfy its obligations under the adverse development cover. Underwriting Expenses.Underwriting expenses totaled $6.4 million for the three months ended
March 31, 2005, compared to $2.5 million for the same period in 2004, representing an increase of
$3.9 million, or 156.0%. Our net underwriting expense ratio for the three months ended March 31,
2005 was 21.7%, compared to 25.4% for the same period in 2004. The decrease in the net underwriting
expense ratio resulted primarily from the fact that our premiums earned grew at a faster rate than
our underwriting expenses, which allowed us to absorb more of our fixed costs. We have increased
our staffing levels and related expenses in preparation for anticipated growth of our business. Other Expenses.Other expenses totaled $1.7 million for the three months ended March 31,
2005, compared to $1.0 million for same period in 2004, representing an increase of $0.7 million,
or 70.0%. This increase resulted - 15 -




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primarily from interest expense related to $12.0 million in
surplus notes issued by our insurance subsidiary in May 2004 and an increase in PointSures
operating expenses. Federal Income Tax Expense.The effective tax rate for the three months ended March 31, 2005
was 29.5%, compared to 35.9% for the same period in 2004. The decrease in our effective tax rate in
2005 resulted primarily from an increase in the percentage of our portfolio invested in tax-exempt
securities. At March 31, 2005, approximately 51.4% of our portfolio was invested in tax-exempt
securities, compared to approximately 24.4% at March 31, 2004. Net Income.Net income was $2.7 million for the three months ended March 31, 2005, compared
to $0.4 million for the same period in 2004. The increase in net income resulted primarily from
increases in premiums earned and investment income for the period, offset by decreases in service
income and increases in the following types of expenses: loss and loss adjustment expenses;
underwriting acquisition and insurance expenses; and other expenses, including interest expense
related to the surplus notes. Liquidity and Capital Resources Our principal sources of funds are underwriting operations, investment income and proceeds
from sales and maturities of investments. Our primary use of funds is to pay claims and operating
expenses and to purchase investments. Our investment portfolio is structured so that investments mature periodically over time in
reasonable relation to current expectations of future claim payments. Since we have a limited
claims history, we have derived our expected future claim payments from industry and predecessor
trends and included a provision for uncertainties. Our investment portfolio as of March 31, 2005
has an effective duration of 5.1 years with individual maturities extending out to 32 years.
Currently, we make claim payments from positive cash flow from operations and invest excess cash in
securities with appropriate maturity dates to balance against anticipated future claim payments. As
these securities mature, we intend to invest any excess funds in investments with appropriate
durations to match against expected future claim payments. Our ability to adequately provide funds to pay claims comes from our disciplined underwriting
and pricing standards and the purchase of reinsurance to protect us against severe claims and
catastrophic events. Effective October 1, 2004, our reinsurance program provides us with 100%
reinsurance protection for each loss occurrence in excess of $500,000, up to $100.0 million. The
agreements for the current reinsurance program expire on October 1,
2005, at which time we expect to renew the program. Given industry and predecessor trends, we
believe we are sufficiently capitalized to retain the first $500,000 of each loss occurrence. At March 31, 2005, our portfolio is made up almost entirely of investment grade fixed income
securities with market values subject to fluctuations in interest rates. Prior to 2005, we did not
invest in common equity securities and we had no exposure to foreign currency risk. In February
2005, our investment policy was revised to allow for the investment of up to 2% of our investment
portfolio in foreign fixed income securities. While we have structured our investment portfolio to
provide an appropriate matching of maturities with anticipated claim payments, if we decide or are
required in the future to sell securities in a rising interest rate environment, we would expect to
incur losses from such sales. Our insurance subsidiary is required by law to maintain a certain minimum level of surplus on
a statutory basis. Surplus is calculated by subtracting total liabilities from total admitted
assets. The National Association of Insurance Commissioners has a risk-based capital standard
designed to identify property and casualty insurers that may be inadequately capitalized based on
inherent risks of each insurers assets and liabilities and its mix of net premiums written.
Insurers falling below a calculated threshold may be subject to varying degrees of regulatory
action. As of December 31, 2004, the last date that we were required to update the annual
risk-based capital calculation, the statutory surplus of our insurance subsidiary was in excess of
the prescribed risk-based capital requirements that correspond to any level of regulatory action. SeaBright operates as a holding company and has minimal revenue and expenses. Currently, there
are no plans to have our insurance subsidiary or PointSure pay a dividend to SeaBright. Our consolidated net cash provided by operating activities for the three months ended March
31, 2005 was $15.4 million, compared to our cash flow from operations of $6.7 million for the same
period in 2004. The increase is primarily attributable to increases in unpaid loss and loss
adjustment expense, federal income taxes payable, - 16 -




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amortization of deferred policy acquisition costs
and other assets and liabilities, offset by increases in policy acquisition costs deferred,
deferred federal income tax benefit, unearned premiums and balances related to reinsurance
recoverables, all as a result of our growth. We used net cash of $85.2 million for investing activities for the three months ended March
31, 2005, compared to $4.2 million for the same period in 2004. The difference between periods is
primarily attributable to the fact that we invested net proceeds totaling approximately $80.4
million resulting from the sale of 8,625,000 shares of common stock in our initial public offering
described below. For the three months ended March 31, 2005, financing activities provided cash of $80.4
million, primarily from the sale of 8,625,000 shares of common stock in our initial public offering
described below. No cash was provided by financing activities in the three months ended March 31,
2004. On January 26, 2005, we closed the initial public offering of 8,625,000 shares of our common
stock, including the underwriters over-allotment option to purchase 1,125,000 shares of our common
stock, at a price of $10.50 per share for net proceeds of approximately $80.4 million, after
deducting underwriters fees, commissions and offering costs totaling approximately $10.2 million.
On January 26, 2005, we contributed approximately $74.8 million of the net proceeds to SeaBright
Insurance Company. We intend to use the remaining net proceeds for general corporate purposes,
including supporting the growth of PointSure. In connection with the initial public offering, all
508,365.25 outstanding shares of our Series A convertible preferred stock were converted into
7,777,808 shares of common stock. Contractual Obligations and Commitments The following table identifies our contractual obligations by payment due period as of March
31, 2005: Payments Due by PeriodLess than
    
    
    
    
    
    
    
    
    
    
    More thanTotal
    
    
    1 Year
    
    
    1-3 Years
    
    
    4-5 Years
    
    
    5 Years(in thousands)Long term debt obligations:Surplus notes
    
    $
    12,000
    
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    12,000Loss and loss adjustment
expenses
    
    
    83,092
    
    
    
    11,882
    
    
    
    40,050
    
    
    
    11,965
    
    
    
    19,195Operating and lease obligations.
    
    
    1,798
    
    
    
    524
    
    
    
    1,093
    
    
    
    181
    
    
    
    Total
    
    $
    96,890
    
    
    $
    12,406
    
    
    $
    41,143
    
    
    $
    12,146
    
    
    $
    31,195
 The loss and loss adjustment expense payments due by period in the table above are based upon
the loss and loss adjustment expense estimates as of March 31, 2005 and actuarial estimates of
expected payout patterns and are not contractual liabilities as to time certain. Our contractual
liability is to provide benefits under the policies. As a result, our calculation of loss and loss
adjustment expense payments due by period is subject to the same uncertainties associated with
determining the level of unpaid loss and loss adjustment expenses generally and to the additional
uncertainties arising from the difficulty of predicting when claims (including claims that have not
yet been reported to us) will be paid. Actual payments of loss and loss adjustment expenses by
period will vary, perhaps materially, from the above table to the extent that current estimates of
loss and loss adjustment expenses vary from actual ultimate claims amounts and as a result of
variations between expected and actual payout patterns. See the discussion under the heading
Factors That May Affect Our Business, Future Operating Results
and Financial Condition - Our loss reserves are based on estimates and may be inadequate to cover our actual losses in this Item 2
for a discussion of the uncertainties associated with estimating unpaid loss and loss adjustment
expenses. Off-Balance Sheet Arrangements As of March 31, 2005, we had no off-balance sheet arrangements that have or are reasonably
likely to have a current or future effect on our financial condition, changes in financial
condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital
resources. Critical Accounting Policies, Estimates and Judgments It is important to understand our accounting policies in order to understand our financial
statements. Management considers some of these policies to be critical to the presentation of our
financial results, since they require management to make estimates and assumptions. These estimates
and assumptions affect the reported amounts of assets, liabilities, revenues, expenses and related
disclosures at the financial reporting date and - 17 -




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throughout the period being reported upon. Some of
the estimates result from judgments that can be subjective and complex, and consequently, actual
results reflected in future periods might differ from these estimates. The most critical accounting policies involve the reporting of unpaid loss and loss adjustment
expenses including losses that have occurred but were not reported to us by the financial reporting
date, the amount and recoverability of reinsurance recoverable balances, accounting for our adverse
development cover, deferred policy acquisition costs, deferred taxes, goodwill, intangibles,
retrospective premiums, earned but unbilled premiums and the impairment of investments. The
following should be read in conjunction with the notes to our financial statements. Unpaid Loss and Loss Adjustment Expenses Unpaid loss and loss adjustment expenses represent our estimate of the expected cost of the
ultimate settlement and administration of losses, based on known facts and circumstances. Included
in unpaid loss and loss adjustment expenses are amounts for case-based reserves, including
estimates of future developments on these claims, and claims incurred but not yet reported to us,
second injury fund, allocated claim adjustment expenses and unallocated claim adjustment expenses.
We use actuarial methodologies to assist us in establishing these estimates, including judgments
relative to estimates of future claims severity and frequency, length of time to achieve ultimate
resolution, judicial theories of liability and other third-party factors that are often beyond our
control. Due to the inherent uncertainty associated with the cost of unsettled and unreported
claims, the ultimate liability may differ from the original estimate. These estimates are regularly
reviewed and updated and any resulting adjustments are included in the current periods operating
results. Because of the relative immaturity of our unpaid loss and loss adjustment expenses,
actuarial techniques are applied that use the historical experience of our predecessor as well as
industry information in the analysis of our unpaid loss and loss adjustment expenses. Reinsurance Recoverables Reinsurance recoverables on paid and unpaid losses represent the portion of the loss and loss
adjustment expenses that is assumed by reinsurers. These recoverables are reported on our balance
sheet separately as assets, as reinsurance does not relieve us of our legal liability to
policyholders and ceding companies. We are required to pay losses even if a reinsurer fails to meet
its obligations under the applicable reinsurance agreement. Reinsurance recoverables are determined
based in part on the terms and conditions of reinsurance contracts, which could be subject to
interpretations that differ from ours based on judicial theories of liability. In addition, we bear
credit risk with respect to the reinsurers, which can be significant considering that some of the
unpaid loss and loss adjustment expenses remain outstanding for an extended period of time. Adverse Development Cover The unpaid loss and loss adjustment expense subject to the adverse development cover with LMC
is calculated on a quarterly basis using generally accepted actuarial methodologies. Amounts
recoverable in excess of acquired reserves at September 30, 2003 are recorded gross in unpaid loss
and loss adjustment expense in accordance with SFAS No. 141, Business Combinations, with a
corresponding amount receivable from the seller. Amounts are shown net in the income statement. Deferred Policy Acquisition Costs We defer commissions, premium taxes and certain other costs that vary with and are primarily
related to the acquisition of insurance contracts. These costs are capitalized and charged to
expense in proportion to the recognition of premiums earned. The method followed in computing
deferred policy acquisition costs limits the amount of these deferred costs to their estimated
realizable value, which gives effect to the premium to be earned, related investment income,
anticipated losses and settlement expenses and certain other costs we expect to incur as the
premium is earned. Judgments as to ultimate recoverability of these deferred costs are highly
dependent upon estimated future costs associated with the premiums written. Deferred Taxes We use the asset and liability method of accounting for income taxes. Under this method,
deferred tax assets and liabilities are recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of existing assets and liabilities and
their respective tax bases and operating loss and tax credit carry-forwards. Deferred tax assets
and liabilities are measured using tax rates expected to apply to taxable - 18 -




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income in the years in
which those temporary differences are expected to be recovered or settled. The effect on deferred
tax assets and liabilities of a change in tax rates is recognized in the income statement in the
period that includes the enactment date. In assessing the realizability of deferred tax assets, management considers whether it is more
likely than not that some portion or all of the deferred tax assets will not be realized. The
ultimate realization of deferred tax assets is dependent upon the generation of future taxable
income during the periods in which those temporary differences become deductible. Management
considers the scheduled reversal of deferred tax liabilities, projected future taxable income and
tax planning strategies in making this assessment. If necessary, we would establish a valuation
allowance to reduce the deferred tax assets to the amounts more likely than not to be realized. Goodwill and Other Intangible Assets Goodwill represents the excess of costs over fair value of assets of businesses acquired.
Goodwill and other intangible assets acquired in a purchase business combination and determined to
have an indefinite useful life are not amortized, but are instead tested for impairment at least
annually. Intangible assets with estimable useful lives are amortized over their respective
estimated useful lives to their estimated residual values, and reviewed for impairment in
accordance with SFAS No. 144, Accounting for Impairment or Disposal of Long-Lived Assets. Retrospective Premiums Retrospective premiums for primary and reinsured risks are included in income as earned on a
pro rata basis over the effective period of the respective policies. Earned premiums on
retrospectively rated policies are based on the Companys estimate of loss experience as of the
measurement date. Unearned premiums are deferred and include that portion of premiums written that
is applicable to the unexpired period of the policies in force and estimated adjustments of
premiums on policies that have retrospective rating endorsements. Earned But Unbilled Premiums We estimate the amount of premiums that have been earned but are unbilled at the end of the
period by analyzing historical earned premium adjustments made and applying an adjustment
percentage against premiums earned for the period. Impairment of Investment Securities Impairment of investment securities results in a charge to operations when the market value of
a security declines to below our cost and is deemed to be other-than-temporary. We regularly review
our fixed maturity
portfolio to evaluate the necessity of recording impairment losses for other-than-temporary
declines in the fair value of investments. A number of criteria are considered during this process,
including, but not limited to, the current fair value as compared to amortized cost or cost, as
appropriate, of the security, the length of time the securitys fair value has been below amortized
cost, our intent and ability to retain the investment for a period of time sufficient to allow for
an anticipated recovery in value and specific credit issues related to the issuer and current
economic conditions. In general, we focus on those securities whose fair values were less than 80%
of their amortized cost or cost, as appropriate, for six or more consecutive months.
Other-than-temporary impairment losses result in a permanent reduction of the carrying amount of
the underlying investment. Significant changes in the factors considered when evaluating
investments for impairment losses could result in a significant change in impairment losses
reported in the financial statements. Recent Accounting Pronouncements SFAS No. 123 (revised 2004), Share-based Payment, was issued in December 2004. Statement No.
123(R) is a revision of SFAS No. 123, Accounting for Stock-Based Compensation. Statement No.
123(R) supersedes APB Opinion No. 25, Accounting for Stock Issued to Employees, and amends SFAS
No. 95, Statement of Cash Flows. Generally, the approach in Statement No. 123(R) is similar to
the approach described in Statement No. 123. However, Statement No. 123(R) requires all share-based
payments to employees, including grants of employee stock options, to be recognized in the income
statement based on their fair values. Pro forma disclosure is no longer an alternative. Statement No. 123(R) must be adopted no later than January 1, 2006, and we expect to adopt the
Statement on or prior to that date. As permitted by Statement No. 123, we currently account for
share-based payments to employees using the intrinsic value method as detailed in Opinion No. 25
and, as such, generally recognizes no - 19 -




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compensation cost for employee stock options. Accordingly,
the adoption of Statement No. 123(R)s fair value method will have an impact on our results of
operations, although it will have no impact on our overall financial position. The impact of
adoption of Statement No. 123(R) cannot be predicted at this time because it will depend on levels
of share-based payments granted in the future. However, had we adopted Statement No. 123(R) in
prior periods, the impact of the standard would have approximated the impact of Statement No. 123
as described in Note 2.h. of the Notes to Unaudited Condensed Consolidated Financial Statements
included in Part I, Item 1 of this quarterly report. 
 Factors That May Affect Our Business, Future Operating Results and Financial Condition You should carefully consider the risks described below, together with all of the other
information included in this quarterly report. The risks and uncertainties described below are not
the only ones facing our company. If any of the following risks actually occurs, our business,
financial condition or operating results could be harmed. Any of the risks described below could
result in a significant or material adverse effect on our financial condition or results of
operations, and a corresponding decline in the market price of our common stock. You could lose all
or part of your investment. The risks discussed below also include forward-looking statements and
our actual results may differ substantially from those discussed in those forward-looking
statements. Please refer to the discussion under the heading Note on Forward-Looking Statements
in this Item 2. Risks Related to Our Business Our loss reserves are based on estimates and may be inadequate to cover our actual losses. If we fail to accurately assess the risks associated with the businesses that we insure, our
loss reserves may be inadequate to cover our actual losses and we may fail to establish appropriate
premium rates. We establish loss reserves in our financial statements that represent an estimate of
amounts needed to pay and administer claims with respect to insured events that have occurred,
including events that have not yet been reported to us. Loss reserves are estimates and are
inherently uncertain; they do not and cannot represent an exact measure of liability. Accordingly,
our loss reserves may prove to be inadequate to cover our actual losses. Any changes in these
estimates are reflected in our results of operations during the period in which the changes are
made, with increases in our loss reserves resulting in a charge to our earnings. Our loss reserve estimates are based on estimates of the ultimate cost of individual claims
and on actuarial estimation techniques. Several factors contribute to the uncertainty in
establishing these estimates. Judgment is required in actuarial estimation to ascertain the
relevance of historical payment and claim settlement patterns under current facts and
circumstances. Key assumptions in the estimation process are the average cost of claims over time,
which we refer to as severity trends, including the increasing level of medical, legal and
rehabilitation costs, and costs associated with fraud or other abuses of the medical claim process.
If there are unfavorable changes in severity trends, we may need to increase our loss reserves, as
described above. Our geographic concentration ties our performance to the business, economic and regulatory
conditions in California, Hawaii and Alaska. Any single catastrophe or other condition affecting
losses in these states could adversely affect our results of operations. Our business is concentrated in California (62.1% of direct premiums written for the year
ended December 31, 2004), Alaska (12.7% of direct premiums written for the same period) and Hawaii
(8.3% of direct premiums written for the same period). Accordingly, unfavorable business, economic
or regulatory conditions in those states could negatively impact our business. For example,
California, Hawaii and Alaska are states that are susceptible to severe natural perils, such as
tsunamis, earthquakes and hurricanes, along with the possibility of terrorist acts. Accordingly, we
could suffer losses as a result of catastrophic events in those states. Although geographic
concentration has not adversely affected our business in the past, we may in the future be exposed
to economic and regulatory risks or risks from natural perils that are greater than the risks faced
by insurance companies that conduct business over a greater geographic area. This concentration of
our business could have a material adverse effect on our financial condition or results of
operations. If we are unable to obtain or collect on our reinsurance protection, our business, financial
condition and results of operations could be materially adversely affected. We buy reinsurance protection to protect us from the impact of large losses. Reinsurance is an
arrangement in which an insurance company, called the ceding company, transfers insurance risk by
sharing premiums with another - 20 -




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insurance company, called the reinsurer. Conversely, the reinsurer
receives or assumes reinsurance from the ceding company. We currently participate in a workers
compensation and employers liability excess of loss reinsurance treaty program covering all of the
business that we write pursuant to which our reinsurers are liable for 100% of the ultimate net
losses in excess of $500,000 for the business we write, up to a $100.0 million limit. The treaty
program provides coverage in several layers. The availability, amount and cost of reinsurance
depend on market conditions and may vary significantly. As a result of catastrophic events, such as
the events of September 11, 2001, we may incur significantly higher reinsurance costs, more
restrictive terms and conditions, and decreased availability. For example, the second layer of our
current excess of loss reinsurance treaty program provides for a sub-limit on our reinsurers
maximum liability in the amount of $8.0 million for losses caused by acts determined by the U.S.
Office of Homeland Security to be terrorist acts, and the third and fourth layers of our
reinsurance program expressly do not cover losses caused by any act of terrorism, as defined in the
Terrorism Risk Insurance Act of 2002 (the Terrorism Risk Act). Because of these sub-limits and
exclusions, which are common in the wake of the events of September 11, 2001, we have significantly
greater exposure to losses resulting from acts of terrorism. The incurrence of higher reinsurance
costs and more restrictive terms could materially adversely affect our business, financial
condition and results of operations. The agreements for our current workers compensation excess of loss reinsurance treaty program
expire on October 1, 2005. Although we currently expect to renew the program upon its expiration,
any decrease in the amount of our reinsurance at the time of renewal, whether caused by the
existence of more restrictive terms and conditions or decreased availability, will also increase
our risk of loss and, as a result, could materially adversely affect our business, financial
condition and results of operations. We have not experienced difficulty in qualifying for or
obtaining sufficient reinsurance to appropriately cover our risks in the past. We currently have 10
reinsurers participating in our excess of loss reinsurance treaty program, and believe that this is
a sufficient number of reinsurers to provide us with reinsurance in the volume that we require.
However, it is possible that one or more of our current reinsurers could cancel participation, or
we could find it necessary to cancel the participation of one of our reinsurers, in our excess of
loss reinsurance treaty program. In either of those events, if our reinsurance broker is unable to
spread the cancelled or terminated reinsurance among the remaining reinsurers in the program, we
estimate that it could take approximately one to three weeks to identify and negotiate appropriate
documentation with a replacement reinsurer. During this time, we would be exposed to an increased
risk of loss, the extent of which would depend on the volume of cancelled reinsurance. In addition, we are subject to credit risk with respect to our reinsurers. Reinsurance
protection that we receive does not discharge our direct obligations under the policies we write.
We remain liable to our policyholders, even if we are unable to make recoveries to which we believe
we are entitled under our reinsurance contracts. Losses may not be recovered from our reinsurers
until claims are paid, and, in the case of long-term workers compensation cases, the
creditworthiness of our reinsurers may change before we can recover amounts to which we are
entitled. Although we have not experienced problems in the past resulting from the failure of a
reinsurer to pay our claims in a timely manner, if we experience these problems in the future, our
costs would increase and our revenues would decline. As of March 31, 2005, we had $19.2 million of
amounts recoverable from our reinsurers that we would be obligated to pay if our reinsurers failed
to pay us. The insurance business is subject to extensive regulation and legislative changes, which impact
the manner in which we operate our business. Our insurance business is subject to extensive regulation by the applicable state agencies in
the jurisdictions in which we operate, perhaps most significantly by the Illinois Department of
Financial and Professional Regulation, Division of Insurance and the California Department of
Insurance. These state agencies have broad regulatory powers designed to protect policyholders, not
stockholders or other investors. These powers include, among other things, the ability to:  
    place limitations on our ability to transact business with our affiliates;
    regulate mergers, acquisitions and divestitures involving our insurance company subsidiary;
    require SeaBright Insurance Company and PointSure to comply with various licensing
requirements and approvals that affect our ability to do business;
    approve or reject our policy coverage and endorsements;
    place limitations on our investments and dividends; - 21 -




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
    set standards of solvency to be met and maintained;
    regulate rates pertaining to our business;
    require assessments for the provision of funds necessary for the settlement of covered
claims under certain policies provided by impaired, insolvent or failed insurance
companies;
    require us to comply with medical privacy laws; and
    prescribe the form and content of, and examine, our statutory financial statements. For example, our ability to transact business with our affiliates and to enter into mergers,
acquisitions and divestitures involving our insurance company subsidiary is limited by the
requirements of the insurance holding company laws of Illinois and California. To comply with these
laws, we are required to file notices with the Illinois Department of Financial and Professional
Regulation, Division of Insurance and the California Department of Insurance to seek their
respective approvals at least 30 days before engaging in any intercompany transactions, such as
sales, purchases, exchanges of assets, loans, extensions of credit, cost sharing arrangements and
extraordinary dividends or other distributions to shareholders. Under these holding company laws,
any change of control transaction also requires prior notification and approval. Because these
governmental agencies may not take action or give approval within the 30 day period, these
notification and approval requirements may subject us to business delays and additional business
expense. If we fail to give these notifications, we may be subject to significant fines and
penalties and damaged working relations with these governmental agencies. In addition, workers compensation insurance is statutorily provided for in all of the states
in which we do business. State laws and regulations provide for the form and content of policy
coverage and the rights and benefits that are available to injured workers, their representatives
and medical providers. For example, in California, on January 1, 2003, workers compensation
legislation became effective that provides for increases in the benefits payable to injured
workers. Also, in California, workers compensation legislation intended to reduce certain costs
was enacted in September 2003 and April 2004. Among other things, this legislation established an
independent medical review process for resolving medical disputes, tightened standards for
determining impairment ratings by applying specific medical treatment guidelines, capped temporary
total disability payments to 104 weeks from first payment and enables injured workers to access
immediate medical care up to $10,000 but requires them to get medical care through a network of
doctors chosen by the employer. The implementation of these reforms affects the manner in which we
coordinate medical care costs with employers and the manner in which we oversee treatment plans. Our business is also affected by federal laws, including the USL&H Act, which is administered
by the Department of Labor, and the Merchant Marine Act of 1920, or Jones Act. The USL&H Act
contains various provisions affecting our business, including the nature of the liability of
employers of longshoremen, the rate of compensation to an injured longshoreman, the selection of
physicians, compensation for disability and death and the filing of claims. Currently, builders of
recreational boats over 65 feet in length are subject to the USL&H Act. A proposed amendment to the
USL&H Act would eliminate builders of recreational boats from the reach of the USL&H Act. If this
proposed amendment is adopted, we expect that we would lose a total of approximately $3.0 million
in annual direct written premium from policies currently providing USL&H Act coverage. The proposed
amendment would not have a material impact on our policies providing coverage under the Jones Act,
which gives certain employees at sea the right to sue their employers if such employees are
injured. In addition, we are impacted by the Terrorism Risk Act, as discussed earlier, and by the Gramm
Leach Bliley Act of 2002 related to disclosure of personal information. Moreover, changes in
federal tax laws could also impact our business. This extensive regulation of our business may affect the cost or demand for our products and
may limit our ability to obtain rate increases or to take other actions that we might desire to
increase our profitability. In addition, we may be unable to maintain all required approvals or
comply fully with the wide variety of applicable laws and regulations, which are continually
undergoing revision, or the relevant authoritys interpretation of such laws and regulations. - 22 -




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A downgrade in the A.M. Best rating of our insurance subsidiary could reduce the amount of
business we are able to write. Rating agencies rate insurance companies based on each companys ability to pay claims. Our
insurance company subsidiary currently has a rating of A- (Excellent) from A.M. Best, which is
the rating agency that we believe has the most influence on our business. The ratings of A.M. Best
are subject to periodic review using, among other things, proprietary capital adequacy models, and
are subject to revision or withdrawal at any time. Insurance ratings are directed toward the
concerns of policyholders and insurance agents and are not intended for the protection of investors
or as a recommendation to buy, hold or sell any of our securities. Our competitive position
relative to other companies is determined in part by our A.M. Best rating. We believe that our
business is particularly sensitive to our A.M. Best rating because we focus on larger customers
which tend to give substantial weight to the A.M. Best rating of their insurers. We expect that any
reduction in our A.M. Best rating below A- would cause a reduction in the number of policies we
write and could have a material adverse effect on our results of operations and our financial
position. The effects of emerging claim and coverage issues on our business are uncertain. As industry practices and legal, judicial, social and other environmental conditions change,
unexpected and unintended issues related to claims and coverage may emerge. These issues may
adversely affect our business by either extending coverage beyond our underwriting intent or by
increasing the number or size of claims. In some instances, these changes may not become apparent
until some time after we have issued insurance contracts that are affected by the changes. As a
result, the full extent of liability under our insurance contracts may not be known for many years
after a contract is issued. For example, the number or nature of existing occupational diseases may
expand beyond our expectation. In addition, medical costs associated with permanent and partial
disabilities may inflate more rapidly or higher than we currently expect. Expansions of this nature
may expose us to more claims than we anticipated when we wrote the underlying policy. Intense competition could adversely affect our ability to sell policies at rates we deem
adequate. In most of the states in which we operate, we face significant competition which, at times, is
intense. If we are unable to compete effectively, our business and financial condition could be
materially adversely affected. Competition in our businesses is based on many factors, including
premiums charged, services provided, financial strength ratings assigned by independent rating
agencies, speed of claims payments, reputation, perceived financial strength and general
experience. We compete with regional and national insurance companies and state-sponsored insurance
funds, as well as potential insureds that have decided to self-insure. Our principal competitors
include American International Group, Inc. (AIG), Majestic Insurance Company, Alaska National
Insurance Company, Signal Mutual Indemnity Association Ltd., Zurich and the State Compensation
Insurance Fund of California. Based on our internal calculations using information available to us,
we estimate that the State Compensation Insurance Fund of California, AIG, Zurich and Signal Mutual
Indemnity Association Ltd. had approximate market shares at
December 31, 2004 in the niche markets in which we operate of 16%, 9%, 5% and 1%,
respectively. We also estimate, based on these internal calculations, that Majestic Insurance
Company and Alaska National Insurance Company had market shares at December 31, 2004 of less than
1% in our targeted niche markets. We estimate our own market share in our targeted niche markets to
be approximately 1%. Many of our competitors have substantially greater financial and marketing
resources than we do, and some of our competitors, including the State Compensation Insurance Fund
of California, benefit financially by not being subject to federal income tax. Intense competitive
pressure on prices can result from the actions of even a single large competitor, such as the State
Compensation Insurance Fund in California or AIG. In addition, our competitive advantage may be limited due to the small number of insurance
products that we offer. Some of our competitors, such as AIG, have additional competitive leverage
because of the wide array of insurance products that they offer. For example, it may be more
convenient for a potential customer to purchase numerous different types of insurance products from
one insurance carrier. We do not offer a wide array of insurance products due to our targeted
market niches, and we may lose potential customers to our larger, more diverse competitors as a
result. On March 25, 2005, the Workers Compensation Insurance Rating Bureau (the WCIRB), an
industry-backed private organization that provides statistical analysis, submitted a filing with
the California Insurance Commissioner recommending a 10.4% decrease in advisory pure premium rates
on new and renewal policies effective July 1, 2005. The filing was made in response to reductions
in 2004 workers compensation claim costs in California, as well as anticipated future claim cost
reductions, as a result of reform legislation enacted primarily in 2003 and 2004. The - 23 -




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rate is
advisory only and requires approval by the California Insurance Commissioner. If the advisory rate
reduction is approved, insurance companies may choose whether or not to adopt the new rates. A
public hearing on the matters contained in the WCIRBs filing was held on April 25, 2005 and will
reconvene on May 19, 2005 to gather additional information. At this time, we are unable to predict
the impact that the proposed rate reductions, if approved and adopted by us, might have on our
future financial position and results of operations. If some of our competitors adopt the
recommended rate reduction and we do not, we may be unable to compete effectively and our business
and financial condition could be materially adversely affected. If we are unable to realize our investment objectives, our financial condition may be adversely
affected. Investment income is an important component of our revenues and net income. The ability to
achieve our investment objectives is affected by factors that are beyond our control. For example,
United States participation in hostilities with other countries and large-scale acts of terrorism
may adversely affect the economy generally, and our investment income could decrease. Interest
rates are highly sensitive to many factors, including governmental monetary policies and domestic
and international economic and political conditions. These and other factors also affect the
capital markets, and, consequently, the value of the securities we own. Any significant decline in
our investment income as a result of rising interest rates or general market conditions would have
an adverse effect on our net income and, as a result, on our stockholders equity and our
policyholders surplus. The outlook for our investment income is dependent on the future direction of interest rates
and the amount of cash flows from operations that are available for investment. The fair values of
fixed maturity investments that are available-for-sale fluctuate with changes in interest rates
and cause fluctuations in our stockholders equity. We could be adversely affected by the loss of one or more principal employees or by an inability
to attract and retain staff. Our success will depend in substantial part upon our ability to attract and retain qualified
executive officers, experienced underwriting talent and other skilled employees who are
knowledgeable about our business. We rely substantially upon the services of our senior management
team and key employees, consisting of John G. Pasqualetto, Chairman, President and Chief Executive
Officer; Richard J. Gergasko, Executive Vice President; Joseph S. De Vita, Senior Vice President,
Chief Financial Officer and Assistant Secretary; Richard W. Seelinger, Senior Vice President 
Claims; Marc B. Miller, M.D., Senior Vice President and Chief Medical Officer; Jeffrey C.
Wanamaker, Vice President  Underwriting; D. Drue Wax, Senior Vice President, General Counsel and
Secretary; James L. Borland, III, Vice President and Chief Information Officer; M. Philip Romney,
Vice President  Finance, Principal Accounting Officer and Assistant Secretary; and Chris A.
Engstrom, President  PointSure. Although we are not aware of any planned departures or
retirements, if we were to lose the services of members of our management team, our business could
be adversely affected. Many of our principal employees possess skills and extensive experience
relating to our market niches. Were we to lose any of these employees, it may be challenging for us
to attract a replacement employee with comparable skills and experience in our market niches. We
have
employment agreements with some of our executive officers. We do not currently maintain key
man life insurance policies with respect to any member of our senior management team or other
employees. We may require additional capital in the future, which may not be available or only available on
unfavorable terms. Our future capital requirements depend on many factors, including our ability to write new
business successfully and to establish premium rates and loss reserves at levels sufficient to
cover losses. To the extent that our current capital is insufficient to support future operating
requirements and/or cover claim losses, we may need to raise additional funds through financings or
curtail our growth. We believe that the net proceeds from the initial public offering of our common
stock, completed in January 2005, will satisfy our capital requirements for the foreseeable future.
However, because the timing and amount of our future needs for capital will depend on our growth
and profitability, we cannot provide any assurance in that regard. If we had to raise additional
capital, equity or debt financing may not be available at all or may be available only on terms
that are not favorable to us. In the case of equity financings, dilution to our stockholders could
result, and in any case such securities may have rights, preferences and privileges that are senior
to those applicable to our existing shareholders. If we cannot obtain adequate capital on favorable
terms or at all, we may be unable to support future growth or operating requirements and,
accordingly, our business, financial condition or results of operations could be materially
adversely affected. - 24 -




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Our status as an insurance holding company with no direct operations could adversely affect our
ability to pay dividends in the future. SeaBright is a holding company that transacts its business through its operating subsidiaries,
SeaBright Insurance Company and PointSure. Our primary assets are the stock of these operating
subsidiaries. Our ability to pay expenses and dividends depends, in the long run, upon the surplus
and earnings of our subsidiaries and the ability of our subsidiaries to pay dividends to us.
Payment of dividends by SeaBright Insurance Company is restricted by state insurance laws,
including laws establishing minimum solvency and liquidity thresholds, and could be subject to
contractual restrictions in the future, including those imposed by indebtedness we may incur in the
future. SeaBright Insurance Company is required to report any ordinary dividends to the Illinois
Department of Financial and Professional Regulation, Division of Insurance and the California
Department of Insurance prior to the payment of the dividend. In addition, SeaBright Insurance
Company is not authorized to pay any extraordinary dividends to SeaBright under Illinois or
California insurance laws without prior regulatory approval from the Illinois Department of
Financial and Professional Regulation, Division of Insurance or the California Department of
Insurance. As a result, at times, we may not be able to receive dividends from SeaBright Insurance
Company and we may not receive dividends in amounts necessary to pay dividends on our capital
stock. In addition, the payment of dividends by us is within the discretion of our board of
directors and will depend on numerous factors, including our financial condition, our capital
requirements and other factors that our board of directors considers relevant. Currently, we do not
intend to pay dividends on our capital stock. We rely on independent insurance brokers to distribute our products. Our business depends in part on the efforts of independent insurance brokers to market our
insurance programs successfully and produce business for us and on our ability to offer insurance
programs and services that meet the requirements of the clients and customers of these brokers. The
majority of the business in our workers compensation operations is produced by a group of
approximately 83 licensed insurance brokers. Brokers are not obligated to promote our insurance
programs and may sell competitors insurance programs. Several of our competitors, including AIG
and Zurich, offer a broader array of insurance programs than we do. Accordingly, our brokers may
find it easier to promote the broader range of programs of our competitors than to promote our
niche selection of insurance products. If our brokers fail or choose not to market our insurance
programs successfully or to produce business for us, our growth may be limited and our financial
condition and results of operations may be negatively affected. We have a limited operating history as a stand-alone entity and may experience difficulty in
transitioning to an independent public company. We commenced operations in October 2003 after acquiring KEIC, the renewal rights from, and
substantially all of the operating assets, systems and employees of, the Eagle Entities and
PointSure, a wholesale insurance broker and third party claims administrator affiliated with the
Eagle Entities. Although our management team is the same management team that operated the Eagle
Entities and PointSure for approximately five years prior to the Acquisition, we have a limited
operating history as a stand-alone entity and do not have the same resources available
to us that the Eagle Entities and PointSure had prior to the Acquisition. Accordingly, our
future results of operations or financial condition as a stand-alone entity may vary from the
results realized by the Eagle Entities and PointSure prior to the Acquisition. An investor in our
common stock should consider that our history as a stand-alone entity is relatively short and that
there is a limited basis for evaluating our performance. In addition, upon completion of our initial public offering in January 2005, we became a
publicly traded company and are now responsible for complying with the various federal and legal
regulatory requirements applicable to public companies. We will incur increased costs as a result
of being a public company, particularly in light of recently enacted and proposed changes in laws,
regulations and listing requirements, including those related to the Sarbanes-Oxley Act of 2002.
Our business and financial condition may be adversely affected if we are unable to effectively
manage these increased costs. Assessments and other surcharges for guaranty funds and second injury funds and other mandatory
pooling arrangements may reduce our profitability. Virtually all states require insurers licensed to do business in their state to bear a portion
of the unfunded obligations of impaired or insolvent insurance companies. These obligations are
funded by assessments that are expected to continue in the future as a result of insolvencies.
Assessments are levied by guaranty associations within the state, up to prescribed limits, on all
member insurers in the state on the basis of the proportionate share of the - 25 -




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premium written by
member insurers in the lines of business in which the impaired, insolvent or failed insurer is
engaged. Accordingly, the assessments levied on us may increase as we increase our premiums
written. Many states also have laws that established second injury funds to provide compensation to
injured employees for aggravation of a prior condition or injury, which are funded by either
assessments based on paid losses or premium surcharge mechanisms. For example, Alaska requires
insurers to contribute to its second injury fund annually an amount equal to the compensation the
injured employee is owed multiplied by a contribution rate based on the funds reserve rate. In
addition, as a condition of the ability to conduct business in some states, including California,
insurance companies are required to participate in mandatory workers compensation shared market
mechanisms or pooling arrangements, which provide workers compensation insurance coverage from
private insurers. Although we price our products to account for the obligations that we may have
under these pooling arrangements, we may not be successful in estimating our liability for these
obligations. Accordingly, our prices may not fully account for our liabilities under pooling
arrangements, which may cause a decrease in our profits. In 2004, we recorded a net loss of
approximately $311,000 for our required participation in these pooling arrangements from October 1,
2003 through December 31, 2004 in Alaska, Arizona, Nevada and Oregon. As we write policies in new
states that have pooling arrangements, we will be required to participate in additional pooling
arrangements. Further, the insolvency of other insurers in these pooling arrangements would likely
increase the liability for other members in the pool. The effect of these assessments and mandatory
shared market mechanisms or changes in them could reduce our profitability in any given period or
limit our ability to grow our business. In the event LMC is placed into receivership, we could lose our rights to fee income and
protective arrangements that were established in connection with the Acquisition, our reputation
and credibility could be adversely affected and we could be subject to claims under applicable
voidable preference and fraudulent transfer laws. The assets that SeaBright acquired in the Acquisition were acquired from LMC, and certain of
its affiliates. LMC and its insurance company affiliates are currently operating under a three-year
run off plan approved by the Illinois Department of Financial and Professional Regulation,
Division of Insurance. Run off is the professional management of an insurance companys
discontinued, distressed or non-renewed lines of insurance and associated liabilities outside of a
judicial proceeding. Under the run off plan, LMC will attempt to buy back some of its commercial
line policies and institute aggressive expense control measures in order to reduce its future loss
exposure and allow it to meet its obligations to current policyholders. According to LMCs
statutory financial statements as of and for the year ended December 31, 2004, LMC had a statutory
surplus of $171.4 million, a decrease of approximately $31.0 million from its surplus of $202.4
million as of December 31, 2003. On an operating basis, LMC lost approximately $66.0 million in the
year ended December 31, 2004. In connection with the Acquisition, we established various
arrangements with LMC and certain of its affiliates, including (1) servicing arrangements entitling
us to fee income for providing claims administration services for Eagle and (2) other protective
arrangements designed to minimize our exposure to any past business underwritten by KEIC, the shell
entity that we acquired from LMC for its insurance licenses, and any adverse developments in KEICs
loss reserves as they existed at the date of the Acquisition. In the event LMC is placed into
receivership, our business could be adversely affected in the following ways.  
    A receiver could seek to reject or terminate one or more of the services agreements
that were established in connection with the Acquisition between us and LMC or its
affiliates, including Eagle. In that event, we could lose the revenue we currently receive
under these services agreements. Our projected revenue under these agreements is
approximately $1.5 million in 2005 and $0.9 million in 2006.
    To minimize our exposure to any past business underwritten by KEIC, we entered into an
arrangement with LMC at the time of the Acquisition requiring LMC to indemnify us in the
event of adverse development of the loss reserves in KEICs balance sheet as they existed
on the date of closing of the Acquisition. We refer to this arrangement as the adverse
development cover. To support LMCs obligations under the adverse development cover, LMC
funded a trust account at the time of the Acquisition. The minimum amount that must be
maintained in the trust account is equal to the greater of (a) $1.6 million or (b) 102% of
the then-existing quarterly estimate of LMCs total obligations under the adverse
development cover. We refer to this trust account as the collateralized reinsurance trust
because the funds on deposit in the trust account serve as collateral for LMCs potential
future obligations to us under the adverse development cover. At December 31, 2004, the
liability of LMC under the adverse development cover was approximately $2.9 million. LMC
initially funded the trust account with $1.6 million to support its obligations under the
adverse development cover. In September 2004, we and LMC retained an independent actuary to
determine the appropriate amount of loss reserves that are subject to the adverse
development cover as of September 30, 2004. In - 26 -




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accordance with the terms of the protective
arrangements that we have established with LMC, on December 23, 2004, LMC deposited into a
trust account an additional approximately $3.2 million, resulting in a total balance in the
trust account of approximately $4.8 million. We and LMC are currently reviewing the results
of the final report received from the independent actuary in February 2005. If LMC is
placed into receivership and the amount held in the collateralized reinsurance trust is
inadequate to satisfy the obligations of LMC to us under the adverse development cover, it
is unlikely that we would recover any future amounts owed by LMC to us under the adverse
development cover in excess of the amounts currently held in trust because the director of
the Illinois Department of Financial and Professional Regulation, Division of Insurance
would have control of the assets of LMC.  
    Some of our customers are insured under Eagle insurance policies that we service
pursuant to the claims administration servicing agreement described above. Although
SeaBright is a separate legal entity from LMC and its affiliates, including Eagle, Eagles
policyholders may not readily distinguish SeaBright from Eagle and LMC if those policies
are not honored in the event LMC is found to be insolvent and placed into court-ordered
liquidation. If that were to occur, our market reputation and credibility and ability to
renew the underlying policies could be adversely affected.
    In connection with the Acquisition, LMC and its affiliates made various transfers and
payments to SeaBright, including approximately $13.0 million under the commutation
agreement and approximately $4.8 million to fund the collateralized reinsurance trust. In
the event that LMC is placed into receivership, it is possible that a receiver or creditor
could assert a claim seeking to unwind or recover these payments under applicable voidable
preference and fraudulent transfer laws. Risks Related to Our Industry Recent investigations into insurance brokerage practices could cause volatility in our stock and
adversely affect our business. On October 14, 2004, the Attorney General of the State of New York filed a well-publicized
civil complaint against a large insurance broker concerning, among other things, allegations that
so-called contingent commissions conflicted with the brokers duties to customers, that the broker
steered unsuspecting commercial clients to insurers with which the broker had lucrative contingent
commission arrangements, and that the broker and several insurers for whom it produced business
engaged in bid-rigging in connection with insurance premium quotes for commercial property and
casualty insurance. This investigation of the insurance industry has expanded to involve additional
companies and practices, including tying practices in connection with the purchase of reinsurance
through brokers as well as brokerage commissions paid in connection with producing group life and
health insurance business. As a result of the attendant publicity and because other states
attorneys general and insurance regulators have also initiated their own investigations of industry
practices relating to broker compensation, stock prices of companies in the insurance industry have
experienced substantial volatility and may experience continued volatility for the foreseeable
future. The Illinois Department of Financial and Professional Regulation, Division of Insurance is
among the regulators investigating insurance industry practices in the wake of the New York
Attorney Generals investigation. Our insurance company subsidiary, which is incorporated in
Illinois, received and, in November of 2004, responded to a subpoena from the Illinois Department
of Financial and Professional Regulation, Division of Insurance requesting answers to
interrogatories and production of certain documents relating to the Departments investigation of
producer compensation arrangements. We understand that these inquiries were made to all domestic
Illinois insurers and major brokerages who transact business in Illinois. We anticipate that
officials from other jurisdictions in which we do business may also initiate investigations into
similar matters and, accordingly, we could receive additional subpoenas and requests for
information with respect to these matters. The volatility caused by the many developments relating
to broker compensation may affect the price of our stock regardless of our practices in dealing
with brokers. Additionally, proposed legislation or new regulatory requirements are expected to be imposed
on the insurance industry and will impact our business and the manner in which we compensate our
brokers. On December 29, 2004, the National Association of Insurance Commissioners (the NAIC)
approved model producer compensation amendments to the model Producer Licensing Act. The brokerage
provision is based on a producer: (1) receiving compensation from the customer or (2) representing
the customer in the placement of the business. The producer is required to obtain the customers
consent in order to receive compensation from the insurer and to disclose the amount of that
compensation or, if that is not known, the method by which compensation will be determined with a - 27 -




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reasonable estimate of the amount, where possible. In the agent provision, which also may apply to
some brokerage situations, the producer must disclose to the customer that the producer will be
receiving compensation from the insurer, or that the producer represents the insurer and may
provide services to the customer for the insurer. The NAIC also directed the Executive Task Force
on Broker Activities to give further consideration to the development of additional requirements
for recognition of a fiduciary responsibility of producers, disclosure of all quotes received by a
broker and disclosures relating to agent-owned reinsurance arrangements. On March 14, 2005, the
NAIC received comments in a public hearing on these additional requirements and extended to March
22, 2005 its invitation for written responses to questions raised. Such questions included what
types of financial or other interests in an insurer or reinsurer should a producer be required to
disclose at the time of the transaction, whether insurance companies should be required to state
all compensation paid to a producer on all quote letters and declaration pages of policies, and
whether the developing provisions should be applicable to all producers or a specific subset of
producers. The California Department of Insurance has also proposed new regulations concerning brokers.
That Departments April 13, 2005 revision of the proposed regulations would make it an unfair
method of competition or unfair and deceptive act or practice for a producer to fail to disclose:
i) whether the producer will seek a quote for the client from one insurer or more than one insurer;
ii) the number of quotes obtained and the name of the insurer, the premium amount, and information
about compensation with regard to all quotes the client requests that he or she be given; iii)
whether the producer is acting on behalf of the insurer or the client in connection with the
placement; and iv) the amount of compensation the producer will receive if the client places
insurance with any insurer recommended by the producer. Written comments to these proposed
regulations were due to the Department by May 2, 2005 and a May 9, 2005 workshop was scheduled. In
addition, the Oregon Department of Consumer and Business Services, Insurance Division is
considering new regulations that would require written agreements between insurance producers and
prospective insureds and written agreements between wholesale insurance producers and their retail
sub-producers to contain detailed disclosures about services fees charged. Although PointSure, our in-house wholesale broker, currently provides disclosure to its
customers regarding any contingent compensation arrangements it may receive, PointSure may become
subject to additional disclosure requirements under various proposed regulations, and it is unclear
how these regulations, which primarily target retail brokers, will be applied to wholesale brokers.
The New York Attorney Generals investigation and all developing regulatory responses related to
the investigation represent an evolving area of law, and we cannot, at this point, predict its
consequences for the industry or for us. We may face substantial exposure to losses from terrorism for which we are required by law to
provide coverage. Under our workers compensation policies, we are required to provide workers compensation
benefits for losses arising from acts of terrorism. The impact of any terrorist act is
unpredictable, and the ultimate impact on us would depend upon the nature, extent, location and
timing of such an act. Notwithstanding the protection provided by the reinsurance we have purchased
and any protection provided by the Terrorism Risk Act, the risk of severe losses to us from acts of
terrorism has not been eliminated because, as discussed above, our excess of loss
reinsurance treaty program contains various sub-limits and exclusions limiting our reinsurers
obligation to cover losses caused by acts of terrorism. Accordingly, events may not be covered by,
or may exceed the capacity of, our reinsurance protection. Thus, any acts of terrorism could
materially adversely affect our business and financial condition. The threat of terrorism and military and other actions may result in decreases in our net
income, revenue and assets under management and may adversely affect our investment portfolio. The threat of terrorism, both within the United States and abroad, and military and other
actions and heightened security measures in response to these types of threats, may cause
significant volatility and declines in the equity markets in the United States and abroad, as well
as loss of life, property damage, additional disruptions to commerce and reduced economic activity.
Actual terrorist attacks could cause a decrease in our stockholders equity, net income and/or
revenue. The effects of these changes may result in a decrease in our stock price. In addition,
some of the assets in our investment portfolio may be adversely affected by declines in the bond
markets and declines in economic activity caused by the continued threat of terrorism, ongoing
military and other actions and heightened security measures. We cannot predict at this time whether and the extent to which industry sectors in which we
maintain investments may suffer losses as a result of potential decreased commercial and economic
activity, or how any such - 28 -




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decrease might impact the ability of companies within the affected
industry sectors to pay interest or principal on their securities, or how the value of any
underlying collateral might be affected. We can offer no assurances that terrorist attacks or the threat of future terrorist events in
the United States and abroad or military actions by the United States will not have a material
adverse effect on our business, financial condition or results of operations. Our results of operations and revenues may fluctuate as a result of many factors, including
cyclical changes in the insurance industry, which may cause the price of our common stock to be
volatile. The results of operations of companies in the insurance industry historically have been
subject to significant fluctuations and uncertainties. Our profitability can be affected
significantly by:  
    competition;
    rising levels of loss costs that we cannot anticipate at the time we price our products;
    volatile and unpredictable developments, including man-made, weather-related and other
natural catastrophes or terrorist attacks;
    changes in the level of reinsurance capacity and capital capacity;
    changes in the amount of loss reserves resulting from new types of claims and new or
changing judicial interpretations relating to the scope of insurers liabilities; and
    fluctuations in interest rates, inflationary pressures and other changes in the
investment environment, which affect returns on invested assets and may impact the ultimate
payout of losses. The supply of insurance is related to prevailing prices, the level of insured losses and the
level of industry surplus which, in turn, may fluctuate in response to changes in rates of return
on investments being earned in the insurance industry. As a result, the insurance business
historically has been a cyclical industry characterized by periods of intense price competition due
to excessive underwriting capacity as well as periods when shortages of capacity permitted
favorable premium levels. During 1998, 1999 and 2000, the workers compensation insurance industry
experienced substantial pricing competition, and this pricing competition greatly affected the
ability of our predecessor to increase premiums. Beginning in 2001 we witnessed a decrease in
pricing competition in the industry, which enabled us to raise our rates. Although rates for many
products have increased in recent years, the supply of insurance may increase, either by capital
provided by new entrants or by the commitment of additional capital by existing insurers, which may
cause prices to decrease. Any of these factors could lead to a significant reduction in premium
rates, less favorable policy terms and fewer submissions for our underwriting services. In addition
to these considerations, changes in the frequency and severity of losses suffered by insureds and
insurers
may affect the cycles of the insurance business significantly, and we expect to experience the
effects of such cyclicality. This cyclicality may cause the price of our securities to be volatile. Risks Related to Our Common Stock The price of our common stock may decrease. The trading price of shares of our common stock may decline for many reasons, some of which
are beyond our control, including, among others:  
    quarterly variations in our results of operations;
    changes in expectations as to our future results of operations, including financial
estimates by securities analysts and investors;
    announcements of claims against us by third parties;
    changes in law and regulation;
    results of operations that vary from those expected by securities analysts and investors; and
    future sales of shares of our common stock. - 29 -




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In addition, the stock market in recent years has experienced substantial price and volume
fluctuations that sometimes have been unrelated or disproportionate to the operating performance of
companies whose shares are traded. As a result, the trading price of shares of our common stock may
be below the initial public offering price and you may not be able to sell your shares at or above
the price you pay to purchase them. Future sales of shares of our common stock may affect their market price and the future exercise
of options may depress our stock price and will result in immediate and substantial dilution. We cannot predict what effect, if any, future sales of shares of our common stock, or the
availability of shares for future sale, will have on the market price of our common stock. Sales of
substantial amounts of our common stock in the public market, or the perception that such sales
could occur, could adversely affect the market price of our common stock and may make it more
difficult for you to sell your shares at a time and price which you deem appropriate. As of May 10, 2005, there were 16,402,808 shares of our common stock outstanding. Moreover,
807,859 additional shares of our common stock will be issuable upon the full exercise or conversion
of options and shares of restricted stock outstanding at March 31, 2005. In the event that any
outstanding options are exercised, you will suffer dilution of your investment. Applicable insurance laws may make it difficult to effect a change of control of our company. Our insurance company subsidiary is domiciled in the state of Illinois and commercially
domiciled in the state of California. The insurance holding company laws of Illinois and California
require advance approval by the Illinois Department of Financial and Professional Regulation,
Division of Insurance and the California Department of Insurance of any change in control of
SeaBright Insurance Company. Control is generally presumed to exist through the direct or
indirect ownership of 10% or more of the voting securities of a domestic insurance company or of
any entity that controls a domestic insurance company. In addition, insurance laws in many states
contain provisions that require prenotification to the insurance commissioners of a change in
control of a non-domestic insurance company licensed in those states. Any future transactions that
would constitute a change in control of SeaBright Insurance Company, including a change of control
of SeaBright, would generally require the party acquiring control to obtain the prior approval by
the Illinois Department of Financial and Professional Regulation, Division of Insurance and the
California Department of Insurance and may require pre-acquisition notification in applicable
states that have adopted pre-acquisition notification provisions. Obtaining these approvals may
result in a material delay of, or deter, any such transaction. These laws may discourage potential acquisition proposals and may delay, deter or prevent a
change of control of SeaBright, including through transactions, and in particular unsolicited
transactions, that some or all of the stockholders of SeaBright might consider to be desirable. Entities affiliated with Summit Partners have the ability to significantly influence our
business, which may be disadvantageous to other stockholders and adversely affect the trading
price of our common stock. Following the completion of the initial public offering of our common stock in January 2005,
entities affiliated with Summit Partners, collectively, beneficially own approximately 46.6% of our
outstanding common stock. As a result, these stockholders, acting together, will have the ability
to exert substantial influence over all matters requiring approval by our stockholders, including
the election and removal of directors and any proposed merger, consolidation or sale of all or
substantially all of our assets and other corporate transactions. In addition, these stockholders
may have interests that are different from ours. Under our amended and restated certificate
incorporation, none of the Summit entities or any director, officer, stockholder, member, manager
or employee of the Summit entities has any duty to refrain from engaging directly or indirectly in
the same or similar business activities or lines of business that we do. In the event that any
Summit entity acquires knowledge of a potential transaction or matter which may be a corporate
opportunity for itself and us, the Summit entity will not have any duty to communicate or offer
such opportunity to us and will not be liable to us or our stockholders for breach of any fiduciary
duty relating to such corporate opportunity. Our officers, directors and principal stockholders
could delay or prevent an acquisition or merger even if the transaction would benefit other
stockholders. Moreover, this concentration of stock ownership may make it difficult for
stockholders to replace management. In addition, this significant concentration of stock ownership
may adversely affect the trading price of our common stock because investors often perceive
disadvantages in owning stock in companies with significant or controlling stockholders. This
concentration could be disadvantageous to other stockholders with interests different from those of
our officers, - 30 -




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directors and principal stockholders and the trading price of shares of our common
stock could be adversely affected. Anti-takeover provisions in our amended and restated certificate of incorporation and by-laws
and under the laws of the State of Delaware could impede an attempt to replace or remove our
directors or otherwise effect a change of control of our company, which could diminish the value
of our common stock. Our amended and restated certificate of incorporation and by-laws contain provisions that may
make it more difficult for stockholders to replace directors even if the stockholders consider it
beneficial to do so. In addition, these provisions could delay or prevent a change of control that
a stockholder might consider favorable. For example, these provisions may prevent a stockholder
from receiving the benefit from any premium over the market price of our common stock offered by a
bidder in a potential takeover. Even in the absence of an attempt to effect a change in management
or a takeover attempt, these provisions may adversely affect the prevailing market price of our
common stock if they are viewed as discouraging takeover attempts in the future. In addition,
Section 203 of the Delaware General Corporation Law may limit the ability of an interested
stockholder to engage in business combinations with us. An interested stockholder is defined to
include persons owning 15% or more of any class of our outstanding voting stock. Our amended and restated certificate of incorporation and by-laws contain the following
provisions that could have an anti-takeover effect:  
    stockholders have limited ability to call stockholder meetings and to bring business
before a meeting of stockholders;
    stockholders may not act by written consent; and
    our board of directors may authorize the issuance of preferred stock with such rights,
powers and privileges as the board deems appropriate. These provisions may make it difficult for stockholders to replace management and could have
the effect of discouraging a future takeover attempt which is not approved by our board of
directors but which individual stockholders might consider favorable. Note on Forward-Looking Statements Some of the statements in this Item 2 and elsewhere in this quarterly report may include
forward-looking statements that reflect our current views with respect to future events and
financial performance. These statements include forward-looking statements both with respect to us
specifically and the insurance sector in general. Statements that include the words expect,
intend, plan, believe, project, estimate, may, should,
anticipate, will and similar statements of a future or forward-looking nature identify
forward-looking statements for purposes of the federal securities laws or otherwise. All forward-looking statements address matters that involve risks and uncertainties.
Accordingly, there are or will be important factors that could cause our actual results to differ
materially from those indicated in these statements. We believe that these factors include but are
not limited to the following:  
    ineffectiveness or obsolescence of our business strategy due to changes in current or
future market conditions;
    increased competition on the basis of pricing, capacity, coverage terms or other
factors;
    greater frequency or severity of claims and loss activity, including as a result of
natural or man-made catastrophic events, than our underwriting, reserving or investment
practices anticipate based on historical experience or industry data;
    the effects of acts of terrorism or war;
    developments in financial and capital markets that adversely affect the performance of our investments;
    changes in regulations or laws applicable to us, our subsidiaries, brokers or customers; - 31 -




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
    our dependency on a concentrated geographic market;
    changes in the availability, cost or quality of reinsurance and failure of our
reinsurers to pay claims timely or at all;
    decreased demand for our insurance products;
    loss of the services of any of our executive officers or other key personnel;
    the effects of mergers, acquisitions and divestitures that we may undertake;
    changes in rating agency policies or practices;
    changes in legal theories of liability under our insurance policies;
    changes in accounting policies or practices; and
    changes in general economic conditions, including inflation and other factors. The foregoing factors should not be construed as exhaustive and should be read in conjunction
with the other cautionary statements that are included in this quarterly report. We undertake no
obligation to publicly update or review any forward-looking statement, whether as a result of new
information, future developments or otherwise. If one or more of these or other risks or uncertainties materialize, or if our underlying
assumptions prove to be incorrect, actual results may vary materially from what we project. Any
forward-looking statements you read in this quarterly report reflect our views as of the date of
this quarterly report with respect to future events and are subject to these and other risks,
uncertainties and assumptions relating to our operations, results of operations, growth strategy
and liquidity. Before making an investment decision, you should carefully consider all of the
factors identified in this quarterly report that could cause actual results to differ. Additional information concerning these and other factors is contained in our SEC filings,
including, but not limited to, our 2004 Annual Report on Form 10-K. 
 Item 3. Quantitative and Qualitative Disclosures About Market Risk Market risk is the potential economic loss principally arising from adverse changes in the
fair value of financial instruments. The major components of market risk affecting us are credit
risk and interest rate risk. Credit Risk Credit Risk is the potential economic loss principally arising from adverse changes in the
financial condition of a specific debt issuer. We address this risk by investing primarily in
fixed-income securities which are rated A or higher by Standard & Poors. We also independently,
and through our outside investment managers, monitor the financial condition of all of the issuers
of fixed-income securities in the portfolio. To limit our exposure to risk, we employ stringent
diversification rules that limit the credit exposure to any single issuer or business sector. Interest Rate Risk We had fixed-income investments with a fair value of $186.2 million at March 31, 2005 that are
subject to interest rate risk. We manage the exposure to interest rate risk through a disciplined
asset/liability matching and capital management process. In the management of this risk, the
characteristics of duration, credit and variability of cash flows are critical elements. These
risks are assessed regularly and balanced within the context of the liability and capital position. The table below summarizes our interest rate risk. It illustrates the sensitivity of the fair
value of fixed-income investments to selected hypothetical changes in interest rates as of March
31, 2005. The selected scenarios are not predictions of future events, but rather illustrate the
effect that such events may have on the fair value of our fixed-income portfolio and shareholders
equity. - 32 -




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HypotheticalPercentageIncreaseEstimated
    
    
    
    
    
    
    (Decrease) inChange in
    
    
    
    
    
    
    ShareholdersHypothetical Change in Interest Rates
    
    Fair Value
    
    
    Fair Value
    
    
    Equity($ in thousands)200 basis point increase
    
    $
    (21,252
    )
    
    $
    164,939
    
    
    
    (11.4
    )%100 basis point increase
    
    
    (10,399
    )
    
    
    175,792
    
    
    
    (5.6
    )%No change
    
    
    
    
    
    
    186,191
    
    
    
    100 basis point decrease
    
    
    10,399
    
    
    
    196,590
    
    
    
    5.6
    %200 basis point decrease
    
    
    21,252
    
    
    
    207,443
    
    
    
    11.4
    %
 
 Item 4. Controls and Procedures Under the supervision and with the participation of management, including our Chief Executive
Officer and our Chief Financial Officer, we have carried out an evaluation of our disclosure
controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange
Act of 1934, as amended (the Exchange Act)). Based on that evaluation, our Chief Executive
Officer and our Chief Financial Officer concluded that our disclosure controls and procedures were
effective as of the end of the period covered by this report to ensure that information we are
required to disclose in reports that are filed or submitted under the Exchange Act is recorded,
processed, summarized and reported within the time periods specified in the rules and forms
specified by the Securities and Exchange Commission. There were no changes in our internal control
over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act) that
occurred during the period covered in this report that have materially affected, or are reasonably
likely to materially affect, our internal control over financial reporting. 
 PART II  OTHER INFORMATION 
 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds On January 19, 2005, the SEC declared effective our Registration Statement on Form S-1, as
amended (Registration No. 333-119111), as filed with the SEC in connection with the initial public
offering of 8,625,000 shares of our common stock. The managing underwriters in the offering were
Friedman, Billings, Ramsey & Co., Inc., Piper Jaffray & Co. and Cochran, Caronia & Co. Proceeds to
SeaBright, after accounting for approximately $6.3 million in underwriting discounts and
commissions and approximately $3.9 million in other expenses of the offering, were approximately
$80.4 million. The offering closed on January 26, 2005. On January 26, 2005, we contributed approximately $74.8 million of the net proceeds to
SeaBright Insurance Company. We intend to use the remaining net proceeds for general corporate
purposes, including supporting the growth of PointSure. Except for the capital contribution to
SeaBright Insurance Company, as of March 31, 2005, we had not used any of the remaining net
proceeds from the offering. Our use of the proceeds from the offering does not
represent a material change in the use of proceeds described in the prospectus included as
part of the Registration Statement. We did not purchase any of our equity securities during the three months ended March 31, 2005. 
 Item 4. Submission of Matters to a Vote of Security Holders Prior to the completion of our initial public offering on January 26, 2005, we had no common
stock outstanding and we had 508,365.25 shares of convertible preferred stock outstanding, 98.4% of
which was owned by entities affiliated with Summit Partners L.P. On January 20, 2005, Summit
Partners executed a written consent in accordance with the terms of our then-existing certificate
of incorporation in order to effect the automatic conversion of all of our outstanding convertible
preferred stock into common stock effective as of the consummation of our initial public offering. In addition, on January 20, 2005, all of our then-existing stockholders executed a consent in
lieu of holding our 2005 annual meeting of stockholders. Pursuant to this consent, J. Scott
Carter, Peter Y. Chung, William M. Feldman, Mural R. Josephson, George M. Morvis and John G.
Pasqualetto were elected as our directors to serve until our next annual meeting of stockholders
and until their successors are duly elected and qualified, or until their earlier death,
resignation or removal. Additionally, pursuant to the consent, the stockholders ratified the
appointment of KPMG LLP as our independent auditor for the fiscal
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Item 6. Exhibits The list of exhibits in the Exhibit Index to this quarterly report is incorporated herein by
reference. 
 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly
caused this report to be signed on its behalf by the undersigned thereunto duly authorized. SEABRIGHT INSURANCE HOLDINGS, INC.Date: May 11, 2005By:
    
    /s/ Joseph S. De VitaJoseph S. De VitaSenior Vice President, Chief Financial Officer andAssistant Secretary (Principal Financial Officer)
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EXHIBIT INDEX The list of exhibits in the Exhibit Index to this quarterly report on Form 10-Q is
incorporated herein by reference. Exhibits 31.1 and 31.2 are being filed as part of this quarterly
report on Form 10-Q. Exhibits 32.1 and 32.2 are being furnished with this quarterly report on Form
10-Q. ExhibitNumber
    
    Description31.1
    
    Rule 13a-14(a) Certification (Chief Executive Officer)31.2
    
    Rule 13a-14(a) Certification (Chief Financial Officer)32.1
    
    Section 1350 Certification (Chief Executive Officer)32.2
    
    Section 1350 Certification (Chief Financial Officer)