Additionally, the Captives had previously entered into a stop loss agreement with Imagine Insurance Company Limited (“Imagine”) by which Imagine agreed to cede certain losses to the Captives. Concurrently, with the Company’s purchase of ACHL, the Company, through AII, entered into a novation agreement by which AII assumed all of Imagine’s rights and obligations under the stop loss agreement.
• Policy acquisition expenses comprise commissions directly attributable to those agents, wholesalers or brokers that produce premiums written on our behalf. In most instances, commissions are paid based on collected premium, which reduces our credit risk exposure associated with producers in case a policyholder does not pay a premium. We pay state and local taxes, licenses and fees, assessments and contributions to various state workers’ compensation guaranty funds based on our premiums or losses in each state. Surcharges that the Company may be required to charge insureds in certain jurisdictions are considered accrued liabilities, rather than expense.
Notwithstanding the inherent uncertainty, the Company has not experienced material variability in its loss development factors. We believe that it is reasonably likely that we could experience a 5% deviation in our loss and loss adjustment expense reserves due to changes in the elements that underlie loss development, such as claims frequency or severity. For example, as of December 31, 2009, the average cost per workers’ compensation claim was $10,426, which was a 6% increase over the claims severity from 2001 - 2008 of $9,830. In 2009, claims frequency (number of claims per $1.0 million of payroll) increased to 0.99 from 0.97, an increase of 1.8%, for the period between 2001 and 2008.
Based on guidance in FASB ASC 320-10-65 (Prior authoritative literature: FSP 115-2 Recognition and Presentation of Other-Than-Temporary-Impairments), in the event of the decline in fair value of a debt security, a holder of that security that does not intend to sell the debt security and for whom it is not more than likely than not that such holder will be required to sell the debt security before recovery of its amortized cost basis, is required to separate the decline in fair value into (a) the amount representing the credit loss and (b) the amount related to other factors. The amount of total decline in fair value related to the credit loss shall be recognized in earnings as an OTTI with the amount related to other factors recognized in accumulated other comprehensive loss net loss, net of tax. OTTI credit losses result in a permanent reduction of the cost basis of the underlying investment. The determination of OTTI is a subjective process, and different judgments and assumptions could affect the timing of the loss realization. During 2009, 2008 and 2007, the Company recorded impairment write-downs of $24.8 million, $52.8 million and $8.4 million, respectively after determining that certain of its investments were OTTI.
20.1% for the years ended December 31, 2009 and 2008, respectively. The increase in the expense ratio resulted, primarily, from the decrease in ceding commission received from Maiden Insurance during the period. In 2008, the ceding commission, which is based on earned premium ceded by the Company, included ceding commission earned on $78.2 million of unearned premium that the Company had assumed on June 1, 2008 in connection with the UBI acquisition. The reduction in ceding commission had the effect of increasing acquisition costs on a consolidated basis and for each segment compared to the corresponding period in 2008.
Net Premiums Earned Less Expenses Included in Combined Ratio (Underwriting Income). Net premiums earned less expenses included in combined ratio decreased $3.1 million or 7.0% to $41.1 million for the year ended December 31, 2009 from $44.2 million for the year ended December 31, 2008. The decrease resulted primarily from increases to both loss and loss adjustment expenses and policy acquisition costs related to the commercial package business obtained in the UBI acquisition in the second quarter of 2008.
2008, respectively. The improvement of the loss and loss adjustment ratio resulted from the effect of the Company’s actual loss experience, which has continued to develop more favorably than the Company’s actuarially projected ultimate losses as well as a reduction of a approximately $8 million in loss reserves related to prior accident years.
Ceding Commission. Ceding commission represents commission earned primarily through the Maiden Quota Share, whereby AmTrust receives a 31% or 34.375% commission, depending on the type of business, on earned premium ceded to Maiden Insurance. The ceding commission earned during the years ended December 31, 2009 and 2008 was $25.9 million and $27.0 million, respectively. Ceding commission was consistent year over year as growth in premium ceded to Maiden Insurance in 2009 was offset, primarily, by the allocation in related to the 2008 to this segment’s of its proportionate share of ceding commission 2008 cession to Maiden Insurance of $78.2 million of unearned premium assumed in connection with the acquisition of UBI during the second quarter of 2008.
Acquisition Costs and Other Underwriting Expenses; Expense Ratio. Acquisition costs and other underwriting expenses increased $10.7 million or 18.4% to $69.0 million for the year ended December 31, 2009 from $58.3 million for the year ended December 31, 2008. The expense ratio increased to 27.9% for the year ended December 31, 2009 from 25.7% for the year ended December 31, 2008. The increase in the expense ratio resulted, primarily, from the decrease in ceding commission received from Maiden Insurance during the period. In 2008, the ceding commission, which is based on earned premium ceded by the Company, included the segment’s proportionate share of ceding commission earned on the $78.2 million of unearned premium that the Company had assumed on June 1, 2008 in connection with the UBI acquisition. The ceding commission revenue is allocated to each segment based on that segment’s proportionate share of the Company’s overall acquisition costs. Therefore, the reduction in ceding commission had the effect of increasing acquisition costs compared to the corresponding period in 2008.
As of December 31, 2009, the weighted average duration of our fixed income securities was 3.3 years and had a yield of 3.83%.
Quarterly, the Company’s Investment Committee (“Committee”) evaluates each security which has an unrealized loss as of the end of the subject reporting period for other-than-temporary-impairment. The Committee uses a set of quantitative and qualitative criteria to review our investment portfolio to evaluate the necessity of recording impairment losses for other-than-temporary declines in the fair value of our investments. Some of the criteria the Company considers include:
• the length of time the security’s fair value has been below its amortized cost;
There are 225 securities at December 31, 2009 that account for the gross unrealized loss, none of which is deemed by the Company to be OTTI. Significant factors influencing the Company’s determination that unrealized losses were temporary included the magnitude of the unrealized losses in relation to each security’s cost, the nature of the investment and management’s intent not to sell these securities and it being not more likely than not that the Company will be required to sell these investments before anticipated recovery of fair value to the Company’s cost basis.
The laws of the jurisdictions in which our Insurance Subsidiaries are organized regulate and restrict, under certain circumstances, their ability to pay dividends to us. As of December 31, 2009 and 2008, respectively, the Insurance Subsidiaries would have been permitted to pay dividends in the aggregate of approximately $202.3 million and $129.4 million, respectively. The Company’s Insurance Subsidiaries paid dividends of $4.5 million in 2009. There were no dividends paid in 2008 and 2007. In addition, the terms of the Company’s debt arrangements limit our ability to pay dividends on its common stock, and future borrowings may include prohibitions and restrictions on dividends. Additional information regarding our dividends is presented in the subheading “Certain International Tax Considerations” in Item 1. Business, in Item 1A. Risk Factors and in the subheading “Dividend Policy” in Item 5. Market for Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchase of Equity Securities appearing elsewhere in this Form 10-K.
The reinsurance provides aggregate coverage, excess of an aggregate retention of $20 million, for acts of terrorism, excluding acts of nuclear, biological or chemical terrorism. Any terrorism losses, of which there were none, count towards the annual aggregate limits of the reinsurance listed above.
Effective June 1, 2009 through December 31, 2010, as respects in-force, new and renewal business, the Company changed the structure of its casualty reinsurance program. As of that date, the company’s non-program umbrella business is reinsured on a quota share basis, whereby the company cedes 70% of the first $5.0 million of loss per policy per occurrence or in the aggregate, and 100% of the next $5.0 million of loss per policy per occurrence or in the aggregate. The quota share protection inures to the benefit of the Company’s casualty excess of loss program, which provides coverage as follows: