On October 16, 2009 we closed on our initial public offering. In the offering, after paying our offering expenses in 2008 and 2009 and funding the loan to our ESOP, we received net proceeds of $45,172 which has been reflected in cash and cash equivalents, total assets and shareholders’ equity. We have weighted the return on average equity ratios for 2009 to account for the days in 2009 we were a public company. Statutory surplus and the ratio of net premiums to statutory surplus include $25,000 that was contributed to Penn Millers Insurance Company at the completion of the offering.
Some of the statements contained in this document are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expect,” “plan,” “intend,” “anticipate,” “believe,” “estimate,” “predict,” “potential” or “continue,” the negative of these terms or other terminology. Forward-looking statements are based on the opinions and estimates of management at the time the statements are made and are subject to certain risks and uncertainties that could cause actual results to differ materially from those anticipated in the forward-looking statements. These forward-looking statements include statements of goals, intentions and expectations; statements regarding prospects and business strategy; and estimates of future costs, benefits and results. The forward-looking statements are subject to numerous assumptions, risks and uncertainties, including, among other things, the factors discussed under the heading Item 1A - “Risk Factors” included in this Form 10-K that could affect the actual outcome of future events. All of these factors are difficult to predict and many are beyond our control.
Unfavorable prior year reserve development of $1,555; prior year reserve development was $2,737 excluding the impact of the reversal of the stop loss contract
Underwriting income (loss) measures the pre-tax profitability of our insurance segments. It is derived by subtracting losses and loss adjustment expenses, amortization of deferred policy acquisition costs, and underwriting and administrative expenses from earned premiums. Each of these items is presented as a caption in our consolidated statements of operations.
Basic earnings per share is calculated by dividing income available to common shareholders for the period we were a public company by the weighted average number of common shares outstanding during the period. The weighted average number of common shares outstanding excludes the shares of our ESOP that the Company has not yet committed to release to participants’ accounts.
The actuary produces and reviews several indications of ultimate loss using this method based on various loss development factors (LDF) selections, such as:
Selected LDF Pattern (LDFs are selected for each evaluation based on the actuary’s review of the historical development).
Frequency/Severity Method - The Frequency/Severity Method combines estimates of ultimate claim counts and estimates of per claim ultimate loss severities to yield estimates of ultimate losses. Both the ultimate claim counts and ultimate severity are estimated using a loss development factor approach similar to the Incurred Loss Development Method. For this reason, the same considerations discussed in the Incurred Loss Development Method apply to this method as well. Ultimate claim counts and ultimate severities are multiplied together to produce an estimate of ultimate losses. This method is useful in more recent accident years where the data is not mature and is especially useful when loss development patterns are volatile or not well established.
Our actuary developed a range of reasonable reserve estimates which reflect the uncertainty inherent in the loss reserving process. This range does not represent the range of all possible outcomes. We believe that the actuarially-determined ranges represent reasonably likely changes in the losses and LAE estimates, however actual results could differ significantly from these estimates. The range was determined by line of business and accident year after a review of the output generated by the various actuarial methods utilized. The actuary reviewed the variance around the select loss reserve estimates for each of the actuarial methods and selected reasonable low and high estimates based on his knowledge and judgment. In making these judgments the actuary typically assumed, based on his experience, that the larger the reserve the less volatility and that property reserves would exhibit less volatility than casualty reserves. In addition, when selecting these low and high estimates, the actuary considered:
The selection of the ultimate loss is based on information unique to each line of business and accident year and the judgment and expertise of our actuary and management. Although the retentions of our per risk excess of loss reinsurance covering many of these lines of business is higher relative to 2007, our aggregate stop loss reinsurance contract limits the potential for further development across all lines for the reserves associated with the 2008 and 2009 accident years. As of December 31, 2009 and December 31, 2008, we had ceded reinsurance loss recoverable under this stop loss contract of $0 and $4,292, respectively, which is included in the net liabilities reported below. As of December 31, 2009, the actual 2009 and 2008 accident year loss ratios for business subject to the aggregate stop loss treaty were approximately 66% and 77%, respectively. For additional information concerning the stop loss reinsurance contract, see Item 1 - “Business - Reinsurance.”
We have reviewed the potential of a tax position regarding a worthless stock deduction for our investment in Eastern Insurance Group. We have determined that the more-likely-than-not (i.e., a greater than fifty percent likelihood that the deduction will be sustained upon examination) recognition threshold would not be met. If we were to conclude to take this tax deduction on our 2009 federal income tax return, the benefit would need to be recorded as an uncertain tax position, with no current benefit recognized. The maximum impact of a tax deduction is approximately $900, with a reasonable possibility that the tax return position will not be taken.
To the extent our defined benefit pension plan and SERP are underfunded, we will continue to make contributions to these plans. As of December 31, 2009, our defined benefit pension plan and SERP were underfunded by $2,112 and $1,679, respectively. The amount of our future contributions will vary and is subject to a number of factors, including, the performance of the plans’ investments, interest rates, and the ongoing determinations of the Internal Revenue Service in regard to pension plan funding requirements.
The components of premiums written and earned, for the years ended December 31, 2009, 2008 and 2007 are as follows:
The decrease in total losses and LAE in 2009 as compared to 2008 of $4,636 is primarily due to a significantly lower level of large loss activity in 2009, particularly as it relates to property losses. In addition to reduced severity, we observed some moderate declines in new claim frequency in 2009.
The underwriting expense ratio declined from 33.3%, for the year ended December 31, 2007, to 32.8% for the year ended December 31, 2008 due to the increase in underwriting expenses relative to the larger increase in net premiums earned.
Commercial auto coverage protects businesses against liability to others for both bodily injury and property damage, medical payments to insureds and occupants of their vehicles, physical damage to an insured’s own vehicle from collision and various other perils, and damages caused by uninsured motorists. Commercial automobile policies are generally marketed only in conjunction with other supporting lines. As of December 31, 2009, our agribusiness segment had approximately 900 commercial automobile insurance policies in force. Our 2009 loss ratio for commercial auto increased due to an increase in severity attributable to an increase in the number of large claims and unfavorable development on previously reported claims.
Slightly lower catastrophic losses were offset by the reversal of the stop loss in the third quarter of 2009 that resulted in $3,724 of ceded incurred losses being reversed for the commercial business segment, compared to ceded losses incurred of $3,724 that were recognized in 2008. For additional information concerning the stop loss reinsurance contract, see the Item 1 - “Business - Reinsurance.”
This decrease is primarily attributable to the strategic decision to terminate relationships with unprofitable producers and to stop writing unprofitable classes of business, and overall lower severity of large losses in 2009 compared to 2008.
Losses and LAE increased $4,910 in the year ended December 31, 2008, a 23.9% increase from 2007.
Discontinued operations represent components of the Company that have either been disposed of or are classified as held-for-sale if both the operations and cash flows of the components have been or will be eliminated from ongoing operations of the Company as a result of the disposal and when the criteria for discontinued operations have been met. The results of operations of reporting units classified as discontinued operations are done so for all periods presented. The Company classifies assets and liabilities of reporting units as held-for-sale when the criteria for held-for-sale accounting are met. At the time a reporting unit qualifies for held-for-sale accounting, the reporting unit is evaluated to determine whether or not the carrying value exceeds its fair value less costs to sell. Any loss resulting from carrying value exceeding fair value less cost to sell is recorded in the period the reporting unit initially meets held-for-sale accounting. Management judgment is required to (1) assess the criteria required to meet held-for-sale accounting and (2) estimate fair value. Subsequent to initial classification as held for sale, the reporting unit is carried at the lower of its carrying amount or fair value less cost to sell. Changes to the fair value could result in an increase or decrease to previously recognized losses. The assets and liabilities of a disposed group, classified as held-for-sale, are presented separately in the appropriate asset and liability sections of the consolidated balance sheets for all periods presented.
Comprehensive income (loss) for the years ended December 31, 2009, 2008, and 2007 consisted of the following:
At December 31, 2009, the minimum aggregate rental and lease commitments for continuing operations are as follows:
On July 22, 2009, the Company refinanced its long-term debt and lines of credit by entering into a new, four year $3,000 revolving line of credit with a commercial bank. The new line of credit note required monthly payments of accrued interest, with principal due no later than the maturity of the loan agreement, four years from the inception date. The initial interest rate on outstanding borrowings was based on the London Interbank Offered Rate (0.23% at December 31, 2009) plus 175 basis points.
In 2008, the Company’s board of directors approved a plan to explore the sale of EIG. The decision resulted from continued evaluation of the Company’s long term strategic plans and the role that the insurance brokerage segment played in that strategy. In the third quarter of 2008, the board approved a plan for a public offering and, at the same time, fully committed to the sale of EIG in order to concentrate solely on insurance underwriting as a long term core competency.