The increase in the C & CAE ratio in 2007 was primarily due to unfavorable development for claims occurring in prior accident years on the nonstandard personal auto lines offset by favorable development in the run off lines. The expense ratio declined primarily due to Policy acquisition costs specifically due to decreases in commission rates, marketing expenses and some underwriting expenses.
Claims and claim adjustment expenses increased $24,577,000 (18%) in 2007 and the C & CAE ratio was 81.7% in 2007 versus 71.2% in 2006. The runoff lines recorded favorable development for prior accident years of approximately $2,315,000 and $4,938,000 during 2007 and 2006, respectively. The C & CAE ratio for nonstandard personal auto was 82.9% and 73.8% for 2007 and 2006, respectively. The increase in 2007 was primarily due to unfavorable development for claims occurring in prior accident years of approximately $16,043,000, which includes $2,051,000 for “extra-contractual” claims, as described below. The following presents the unfavorable development for the three major regions and includes development for defense and cost containment expenses but does not include development for adjustment and other expenses:
In November 2006, the Company completed a rights offering which raised approximately $17.9 million in net proceeds. The Common Stock available through the rights offering, which included an over-subscription privilege, was fully subscribed. Primarily as a result of this rights offering, the number of shares of Common Stock outstanding increased from 20,225,574 as of December 31, 2005 to 24,924,825 as of December 31, 2006.
Deferred tax assets are evaluated and a valuation allowance is established if it is more likely than not that all or a portion of the deferred tax asset will not be realized. See Notes 1(l) “Federal Income Taxes” in Notes to Consolidated Financial Statement appearing under Part 1. Financial Information - Item 1. “Financial Statements” of this report for further discussion.
With regard to liquidity, the average duration of the investment portfolio is approximately 1.6 year. The fair value of the fixed maturity portfolio at December 31, 2007 was $740,000 below amortized cost, before taxes. Unrealized losses were not material at December 31, 2007 (see Note 2 and Note 18 of Notes to Consolidated Financial Statements which appear in Item 8 of this Report). Various insurance departments of states in which the Company operates require the deposit of funds to protect policyholders within those states. At December 31, 2007 and December 31, 2006, the balance on deposit for the benefit of such policyholders totaled $5,218,000 and $10,401,000, respectively.
Premiums receivable decreased due to the decrease in premium writings. This balance is comprised primarily of premiums due from insureds. Most of the policies are written with a down payment and monthly payment terms of up to four months on six month policies. The Company recorded an allowance for doubtful accounts of $569,000 and $880,000 as of December 31, 2007 and 2006, respectively, which it considers adequate. The decrease in the allowance for doubtful accounts was due primarily to the decrease in writings.
Unearned premiums decreased primarily as a result of the decrease in premium writings, mentioned previously.
Pricing decisions in new states and markets, involving different claims environments, distribution sources and customer demographics, must necessarily be made without the same level of experience and data that is available in existing markets.
The key assumptions identified above are in turn based on additional underlying assumptions regarding numerous internal and external factors, which often vary for different states, programs and coverage groups, for different accident periods and for different actuarial estimation methodologies. Internal factors include, but are not limited to, the experience level of our claims department personnel, changes in claims department processes, and changes in underwriting standards and rules. External factors include, but are not limited to, claim severity, claim frequency, inflation in costs to repair or replace damaged property, inflation in the cost of medical services, legislative activities, regulatory changes, judicial changes, and litigation trends.
Finally, development patterns can vary by accident quarter as changes have occurred and are expected to continue within our claims department. We believe that these changes resulted in an acceleration of exposure recognition and in ultimate claim settlement. Our expansion into different geographical areas within each state has caused our mix of business to change, and the credibility associated with data for each accident quarter has changed over time. As a result, our development patterns exhibit a greater variance than the development patterns for a stable, larger and more mature book of business, and we recognize this volatility in our analysis of the data.