Early asbestos claims focused on manufacturers and distributors of asbestos-containing products. Thus, the claims at issue largely arose out of the products hazard and typically fell within the policies’ aggregate limits of liability. Increasingly, policyholders, and to some extent the asbestos plaintiffs’ bar, have been asserting that asbestos claims are not subject to these aggregate limits and that each individual bodily injury claim should be treated as a separate occurrence, potentially creating even greater exposure for primary insurers.
The Company increased its reserves for asbestos liabilities in each of 2009, 2008 and 2007. Asbestos liabilities are uniquely difficult to estimate due to both industry-wide issues and Company-specific factors. Industry-wide trends and factors have generally been adverse to insurance companies and include complex coverage issues, expansive judicial interpretation, long reporting delays, substantial defense costs, venue shopping, bankruptcies of traditional defendants and targeting of peripheral defendants whose exposures may not be subject to aggregate policy limits. In developing its asbestos reserve estimates, the Company gives consideration to the current state of industry trends and factors, particularly those that most directly affect its policyholder universe such as the targeting of smaller, peripheral defendants. However, changes in these trends or the emergence of new trends or factors may not be reasonably foreseeable or their effects may not be reliably quantifiable as of the date of the Company’s estimate. Further, while industry trends are considered by the Company, increases in the Company’s asbestos reserve estimates are most directly and significantly affected by changes in the state of asbestos claims against Crum & Forster’s specific policyholders. A comparatively small number of policyholders account for a substantial share of the Company’s asbestos claim payout activity in any given period and of the asbestos net unpaid losses and ALAE reserves at each balance sheet date. Changes in the conditions of specific policyholders, such as being targeted by plaintiffs in a state or states from which claims had not been previously filed or expected, adverse court decisions regarding coverage or defense obligations, the discovery (or allegation) of the existence of additional policies issued by the Company or the inability of another of the policyholder’s insurers to discharge its policy obligations, thereby increasing the obligations of the remaining insurers, can have a material impact on the previous estimate of the potential liability associated with that policyholder. These changes may not have been foreseeable or lacked sufficient credibility, even if foreseeable, as of the date of the Company’s previous estimate.
There are risks and uncertainties associated with determining whether declines in the fair value of investments are other than temporary such as significant subsequent changes in general economic conditions, as well as specific business conditions affecting particular issuers; subjective assessments of issuer-specific factors (seniority of claims, collateral value, etc.); future financial market effects; stability of foreign governments and economies; future rating agency actions; and significant disclosures relating to accounting, fraud or corporate governance issues that may adversely affect certain investments. For the years ended December 31, 2009, 2008 and 2007, charges for other than temporary impairments amounted to $110.8 million, $194.7 million and $25.4 million, respectively, primarily related to write-downs of equity securities.
Although realization is not assured, management believes the recorded deferred tax assets are fully recoverable based on estimates of the future profitability of Crum & Forster’s taxable subsidiaries and current forecasts for the periods through which losses may be carried back and/or forward. The Company has several material deferred tax assets arising from investments (a significant portion of which relates to impairments), loss reserve discounting, deferred income on retroactive reinsurance and unearned premium adjustments. The realizability of these reversing deferred tax assets is considered in conjunction with similar originating deferred tax assets and other taxable income.
Crum & Forster is a national commercial property and casualty insurance company with a focused underwriting strategy targeting specialty classes of business and underserved market opportunities. The Company writes numerous lines of business including general liability, workers’ compensation, commercial automobile, property, commercial multi-peril, accident and health, fidelity and surety, personal automobile and homeowners. In 2009, approximately 44% of the Company’s gross written premiums arose from the offering of general liability including umbrella, workers’ compensation, commercial automobile and property policies to middle market commercial enterprises through the Company’s regional branch network. The balance of Crum & Forster’s business is comprised of a diverse portfolio of specialty businesses in which the Company has specific product, geographic or customer group expertise. These include: products such as accident and health, directors’ and officers’ liability and bail bonds; geographic specialties such as the Company’s coverage of non-standard, inner-city risks not typically well served by the standard market and Crum & Forster’s longstanding presence in the Hawaii market; and customer group expertise in the areas of propane distributors, explosive contractors, agriculture enterprises, and construction contractors written on a non-admitted basis.
The property market continues to experience downward pressure on rates, particularly in non-catastrophe zones. In the catastrophe zones, more recently, capacity has increased and rates have been leveling off.
For further details of investments, see Note 3 to the consolidated financial statements included in “Item 8. Financial Statements and Supplementary Data”.
Shareholder’s equity was $1,517.7 million and $1,166.4 million at December 31, 2009 and 2008, respectively. The increase from prior year end reflects $202.0 million of net income and net unrealized investment gains of $263.8 million, partially offset by dividends paid to Fairfax of $115.0 million.
Estimates of future payments pursuant to the Company’s contractual obligations at December 31, 2009 are summarized as follows:
Fixed income securities classified as held-for-trading include those purchased for short-term investment objectives and those voluntarily designated as such by management pursuant to the fair value option under Accounting Standards Codification (“ASC”) 815-15, Derivatives and Hedging, Embedded Derivatives (“ASC 815-15”). These securities include convertible securities with embedded derivatives (which allow the Company to convert the fixed income securities to equity securities), mortgage-backed securities purchased at deep discounts to par and certain corporate fixed income securities. Held-for-trading securities are recorded at fair value in the consolidated balance sheets with changes in fair value recognized as realized investment gains and losses in the consolidated statements of income in the period in which they occur.
The Company’s aggregate share of its equity investees’ balance sheets, which includes its share of those investees accounted for under the fair value option pursuant to ASC 825, had they been accounted for under the equity method, is summarized as follows:
Excludes $169,430 of U.S. government securities with a gain in other comprehensive income of $55,564 and realized gain of $139,163.
During the year ended December 31, 2009, the Company sold credit default swaps with a cost of $20,853 and notional amount of $1,387,500 for proceeds of $109,660.
On May 1, 2008 the Company invested $1,000 in the Ivy Realty Fund II, L.P, which represented the first capital call of a $10,000 capital commitment made to this fund.
The Company’s Level 2 investments (approximately 55% of total investment portfolio at fair value), the majority of which are in U.S. government, municipal and corporate fixed income securities, are priced using publicly traded over-the-counter prices or broker-dealer quotes. Observable inputs such as benchmark yields, reported trades, broker-dealer quotes, issuer spreads and bids are available for these investments. The Company’s Level 2 investments also include investment grade mortgage-backed securities, purchased at deep discounts to par, that are priced using broker-dealer quotes, credit default swaps that are priced using broker-dealer quotes which are based on observable credit spreads and inactively traded convertible corporate debentures which are valued using a pricing model, the inputs of which are derived principally from, or corroborated by, observable market data such as credit spreads and discount rates. For credit default swaps, the Company assesses the reasonableness of the fair values obtained from the broker-dealers by comparing the broker-dealer quotes to values produced using individual issuer credit default swap yield curves, by referencing them to movements in credit spreads and by comparing them to recent market transaction prices for similar credit default swaps where available. During the first quarter of 2009, the Company transferred $47,611 of Level 3 investments (comprised of investment grade mortgage-backed securities), to Level 2, after determining that broker-dealer quotes would be used to determine the fair value of the instruments.
The following table provides a summary of changes in fair value of Level 3 financial assets for the twelve months ended December 31, 2009 and 2008:
In December 2008, the Company elected the fair value option for its investments in Odyssey’s common and preferred stock. At the time, Odyssey was publicly traded on the New York Stock Exchange and its traded price was determined to be a better indicator of its value than its carrying value under the equity method. During the fourth quarter of 2009, Fairfax purchased the remaining outstanding shares of Odyssey’s common stock that Fairfax did not already own, which resulted in Odyssey becoming a wholly owned subsidiary of Fairfax. The Company owned approximately 8.8% of Odyssey at December 31, 2009. At December 31, 2009 and December 31, 2008, the Company’s investments in Odyssey’s common and preferred stock are recorded in derivatives and other invested assets on the consolidated balance sheets at fair values of $305,818 and $7,964, and $256,570 and $5,740, respectively. For the years ended December 31, 2009 and December 31, 2008, the total change in fair value of the Company’s investments in Odyssey common and preferred stock were gains of $51,472 and $8,154, respectively, which was recorded through net realized investment gains and losses in the consolidated statements of operations. Dividends of $1,719 and $636 were received from Odyssey for the twelve months ended December 31, 2009 and December 31, 2008, respectively, and have been recorded as investment income in the consolidated statements of operations.
For the year ended December 31, 2008, claims incurred ceded to reinsurers includes $75,866 of losses on commutations.
Deferred income taxes reflect the income tax impact of temporary differences between the amount of assets and liabilities for financial reporting purposes and such amounts as measured by income tax laws and regulations. Total deferred income tax expense/(benefit) in 2009, 2008 and 2007 was $10,344, $(164,313) and $143,814, respectively.
The Company and its subsidiaries lease office space and equipment under non-cancelable operating leases. These include a 20-year lease for the Company’s home office which expires on December 31, 2022 and has minimum lease payments remaining of $40,467. Minimum annual rentals are summarized as follows:
The Company’s quarterly financial data is summarized in the table below. This quarterly financial data is unaudited. In the opinion of management, all adjustments necessary to present fairly the results of operations for such periods have been made.
Investment income includes pre-tax equity in earnings (losses) of investees of $122, $(709) and $35,846 in 2009, 2008 and 2007, respectively.