The income tax expense for the year ended December 31, 2011 includes the tax benefit of $13.3 million associated with tax-exempt income compared to $13.2 million in the prior year.
On January 7, 2011, the South Carolina Supreme Court held in Crossmann v Harleysville Mutual Insurance Company (Opinion No. 26909, January 7, 2011) that a contractor’s or subcontractor’s negligent/faulty work does not constitute an “occurrence” under the applicable Commercial general liability policy. In May 2011, the South Carolina legislature passed legislation to overturn the Crossmann decision. The law purported to impact all pending and future claims. The constitutionality of the retroactive application of the legislation is now being challenged. We can not currently determine the effect that this constitutional challenge may have on the legislation or the effect of this legislation on Harleysville Group.
The severe downturn in the public debt and equity markets in 2008, reflecting uncertainties associated with the mortgage crisis, worsening economic conditions, widening of credit spreads, bankruptcies and government intervention in large financial institutions, has resulted in significant realized and unrealized losses in our investment portfolio in the past. Depending on market conditions going forward, we could incur substantial additional realized and unrealized losses in future periods, which could have a material adverse impact on our results of operations, financial condition, debt and financial strength ratings and ability to access capital markets.
In June 2011, the FASB issued ASU 2011-05, “Presentation of Comprehensive Income.” Under the amendments in this ASU, an entity has the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In December 2011, the FASB amended this guidance to postpone the requirement to present on the face of the financial statements reclassification adjustments for items that are reclassified from other comprehensive income to net income where the components of net income and the components of other comprehensive income are presented, and reinstate previous guidance related to such reclassifications. For public entities, the amendments in this ASU are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011, and are to be applied retrospectively. Early adoption is permitted. The adoption of this ASU will not have a material impact on the Company’s results of operations or financial position.
On September 28, 2011, the Company and the Mutual Company entered into an agreement and plan of merger (the Merger Agreement) with Nationwide Mutual Insurance Company (Nationwide) under which a subsidiary of Nationwide would merge into the Company. Nationwide would acquire all of the publicly held shares of common stock of the Company for $60.00 per share in cash, and the Mutual Company would merge into Nationwide and the policyholders and members of the Mutual Company would become policyholders and members of Nationwide. The Mutual Company has also entered into a voting agreement with Nationwide (the Voting Agreement) under which the Mutual Company agreed to vote its 53% voting interest in the Company in favor of the Merger. The Merger Agreement restricts the Company from engaging in certain activities and taking certain actions without Nationwide’s prior approval, including among others, the payment of stockholder dividends.
Affiliate balances are created primarily from the pooling arrangement (settled quarterly), allocation of common expenses, collection of premium balances and payment of claims (settled monthly). No interest is charged or received on affiliate balances due to the timely settlement terms and nature of the items. Interest expense on the loan from the Mutual Company described in Note 8 was $126,000, $137,000 and $290,000 in 2011, 2010 and 2009, respectively.
The amortized cost and estimated fair value of fixed maturity securities at December 31, 2011 by contractual maturity are shown below. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
In the commercial multi-peril line of business, a reduction in severity, primarily in accident years 2004 through 2009, led to the recognition of $18,945,000 of favorable development during 2010.
For share options, restricted stock and restricted stock unit awards granted under the plan, the Company recognized compensation expense of $5,638,000, $5,589,000, and $5,498,000 in 2011, 2010 and 2009, respectively. As of December 31, 2011, the Company’s total unrecognized compensation cost related to nonvested share-based compensation arrangements (including share options, restricted stock and restricted stock unit awards) granted under the plan was $3,807,000. The cost is expected to be recognized over a weighted average period of 1.7 years.
Harleysville Group has incentive bonus plans which include virtually all employees. Cash bonuses are earned on a formula basis depending upon the performance of Harleysville Group and the Mutual Company in relation to certain targets. Harleysville Group’s expense for such plans was $65,000, $5,829,000 and $7,732,000 for 2011, 2010 and 2009, respectively.
The net periodic pension cost for the plan, including the Mutual Company, consists of the following components:
The following table presents additional information about assets measured at fair value on a recurring basis for which significant unobservable inputs were used to determine fair value:
The GAAP adjustment of $16,418,000 for 2011 includes the impact on deferred acquisition costs related to the ceding commission paid in January 2011 of $6,998,000 related to the change in the intercompany pooling agreement as described in Note 3 of the Notes to Consolidated Financial Statements. The impact was all in commercial lines.