On August 12, 2015, the Company issued $100.0 million in aggregate principal amount of its 2045 Subordinated Notes through an underwritten public offering. See Note 11 of the notes to the consolidated financial statements in Item 8 of Part II of this report for additional information on this debt issuance.
Although variability is inherent in estimates, the Company believes that the liability for unpaid losses and loss adjustment expenses reflects its best estimate for future amounts needed to pay losses and related loss adjustment expenses and the impact of its reinsurance coverage with respect to insured events.
Loss reserve estimates for the Company’s Reinsurance Operations are developed by independent, external actuaries; however, management is responsible for the final determination of loss reserve selections. The data for this analysis is organized by treaty and treaty year. As with the Company’s reserves for its Insurance Operations, reserves for its Reinsurance Operations are characterized as short-tail and long-tail. Long-tail exposures include workers compensation, professional liability, and excess and umbrella liability. Short-tail exposures are primarily catastrophe exposed property and marine accounts.
For many reserve categories, paid loss data for recent periods may be too immature or erratic for accurate loss projections. This situation often exists for long-tail exposures. In addition, changes in the factors described above may result in inconsistent payment patterns. Finally, estimating the paid loss pattern subsequent to the most mature point available in the data analyzed often involves considerable uncertainty for long-tail reserve categories.
The Company’s net reserves for losses and loss adjustment expenses of $571.9 million as of December 31, 2015 relate to multiple accident years. Therefore, the impact of changes in frequency and severity for more than one accident year could be higher or lower than the amounts reflected above.
The expense ratio for the Company’s Personal Lines was 39.2% for the year ended December 31, 2015, compared with 41.7% for the year ended December 31, 2014. The decrease in the expense ratio is primarily due to impact on underwriting expenses from the acquisition date adjustments to fair value of deferred acquisition costs and intangible assets. The expense ratio is a GAAP financial measure that is calculated by dividing the sum of acquisition costs and other underwriting expenses by net premiums earned.
The loss ratio for the Company’s Reinsurance Operations was 26.8% for 2015 compared with 34.8% for 2014.
Including cash and short-term investments, the average duration of the Company’s fixed maturities portfolio, excluding agency mortgage-backed securities was 2.3 years as of December 31, 2015, compared with 1.9 years as of December 31, 2014. Changes in interest rates can cause principal payments on certain investments to extend or shorten which can impact duration. At December 31, 2015, the Company’s embedded book yield on its fixed maturities, not including cash, was 2.2% compared with 2.1% at December 31, 2014. As of December 31, 2015, the Company’s investment portfolio held $93.5 million in tax-free municipal bonds with an embedded book yield of 2.7% compared with an embedded book yield of 3.3% on $69.5 million in tax-free municipal bonds as of December 31, 2014.
The combined ratio for the Company’s Commercial Lines was 97.8% for 2014, compared with 104.0% for 2013. Excluding the impact of prior accident year adjustments, the current accident year combined ratio decreased from 107.9% in 2013 to 103.7% in 2014. See discussion of loss ratio included in “Net Losses and Loss Adjustment Expenses” above and discussion of expense ratio in preceding paragraph above for an explanation of this decrease.
As of December 31, 2014, the Company held agency mortgage-backed securities with a book value of $156.3 million. Excluding the agency mortgage-backed securities, the average duration of the Company’s fixed maturities portfolio was 2.0 years as of December 31, 2014, compared with 1.9 years as of December 31, 2013. Including cash and short-term investments, the average duration of the Company’s fixed maturities portfolio, excluding agency mortgage-backed securities was 1.9 years as of December 31, 2014 and December 31, 2013. Changes in interest rates can cause principal payments on certain investments to extend or shorten which can impact duration. At December 31, 2014, the Company’s embedded book yield on its fixed maturities, not including cash, was 2.1% compared with 2.6% at December 31, 2013. As of December 31, 2014, the Company’s investment portfolio held $69.5 million in tax-free municipal bonds with an embedded book yield of 3.3% compared with an embedded book yield of 3.0% on $98.7 million in tax-free municipal bonds as of December 31, 2013.
Prospectively, as fixed income investments mature and new cash is obtained, the cash available to invest will be invested in accordance with the Company’s investment policy. The Company’s investment policy allows the Company to invest in taxable and tax-exempt fixed income investments as well as publicly traded and private equity investments. With respect to bonds, the Company’s credit exposure limit for each issuer varies with the issuer’s credit quality. The allocation between taxable and tax-exempt bonds is determined based on market conditions and tax considerations. The fixed income portfolio currently has a duration of 1.99 years which allows the Company to defensively position itself during the current low interest rate environment.
Global Indemnity’s U.S. insurance companies, excluding Personal Lines, and Global Indemnity Reinsurance currently participate in a stop loss agreement that provides protection to the U.S. insurance companies, excluding Personal Lines, in a loss corridor from 70% to 90% subject to certain restrictions.
income during the period. Net transaction gains, primarily comprised of re-measurement of known losses on claims to be paid in foreign currencies, were $0.4 million, $0.5 million and $0.3 million for the years ended December 31, 2015, 2014, and 2013, respectively.
The transaction is being accounted for using the purchase method of accounting. The assets and liabilities acquired by the Company were adjusted to estimated fair value. The $1.7 million excess of cash and acquisition cost over the estimated fair value of assets acquired was recognized as goodwill. Under the purchase method of accounting, goodwill is not amortized but is tested for impairment at least annually.
Foreign bonds-As of December 31, 2015, gross unrealized losses related to foreign bonds were $0.739 million. Of this amount, $0.042 million have been in an unrealized loss position for twelve months or greater and are rated A. For this sector, detailed financial models are maintained that include a projection of each issuer’s future financial performance, including prospective debt servicing capabilities, capital structure composition, and the value of the collateral. The analysis incorporates the macroeconomic environment, industry conditions in which the issuer operates, the issuer’s current competitive position, its vulnerability to changes in the competitive and regulatory environment, issuer liquidity, issuer commitment to bondholders, issuer creditworthiness, and asset protection. Part of the process also includes running downside scenarios to evaluate the expected likelihood of default as well as potential losses in the event of default.
Other invested assets consist of limited liability partnerships whose fair value is based on net asset value per share practical expedient. In accordance with the accounting guidance adopted this quarter, these investments have been excluded from the fair value hierarchy listed above. The following table provides the fair value and future funding commitments related to these investments at December 31, 2015 and 2014.
As a result of the acquisition of American Reliable, the cost basis of intangible assets increased from $19.4 million at December 31, 2014 to $51.3 million at December 31, 2015.
During 2015, the Company reduced its prior accident year loss reserves by $34.7 million, which consisted of a $25.6 million decrease related to Commercial Lines and a $9.1 million decrease related to Reinsurance Operations.
The Company incurred $3.7 million in deferred issuance costs associated with the notes, which is being amortized over the term of the notes. Interest expense, including amortization of deferred issuance costs, recognized on the notes was $3.0 million for the year ended December 31, 2015.
(1) Includes the weighted average strike price on 60,000 of options which are excluded from the intrinsic value calculation of $3.3 million due to the strike price of the options exceeding the fair value of $29.02 at December 31, 2015.
During 2013, the Company granted an aggregate of 50,421 A ordinary shares, at a weighted average grant date fair value of $23.83 per share, to non-employee directors under the previous share incentive plan.
The acquisition of American Reliable has impacted the way the Company manages and analyzes its operating results. The business acquired from American Reliable is considered to be a separate segment, Personal Lines. The Company now manages its business through three reportable business segments: Commercial Lines, managed in Bala Cynwyd, PA, offers specialty property and casualty products designed for product lines such as Small Business Binding Authority, Property Brokerage, and Programs; Personal Lines, managed in Scottsdale, AZ, offers specialty personal lines and agricultural coverage; and Reinsurance Operations, managed in Bermuda, provides reinsurance solutions through brokers and primary writers including insurance and reinsurance companies.
Prior to 2015, the Commercial Lines segment was known as Insurance Operations segment. With the acquisition of American Reliable, the Insurance Operations segment was renamed to Commercial Lines segment. The newly acquired American Reliable became the Company’s Personal Lines segment. For segment reporting, the values for 2013 and 2014 did not change for Commercial Lines and Reinsurance Operations.