This management analysis of financial position and results of operations pertains to the consolidated accounts of Old Republic International Corporation ("Old Republic" or "the Company"). The Company conducts its operations through three major regulatory segments, namely, its General (property and liability), Mortgage Guaranty, and Title insurance segments. A small life and health insurance business, accounting for 1.8% of consolidated operating revenues for the year ended December 31, 2011 and 1.6% of consolidated assets as of that date, is included within the corporate and other caption of this report.
Assets consisting of gross paid losses recoverable from assuming reinsurers, and balance sheet date reserves similarly recoverable in future periods as gross losses are settled and paid, are established at the same time as the gross losses are paid or recorded as reserves. Accordingly, these assets are subject to the same estimation processes and valuations as the related gross amounts that are discussed below. As of the three most recent year ends, paid and outstanding reinsurance recoverable balances ranged between 30.1% and 34.5% and averaged 33.0% of the related gross reserves. See Part I, Item 1(d) for further discussion regarding recoverability of the Company's reinsurance balances.
The following tables provide information on production and related risk exposure trends for Old Republic's Mortgage Guaranty Group:
The Company's investment policies are not designed to maximize or emphasize the realization of investment gains. Rather, these policies aim for a stable source of income from interest and dividends, protection of capital, and the providing of sufficient liquidity to meet insurance underwriting and other obligations as they become payable in the future. Dispositions of fixed maturity securities generally arise from scheduled maturities and early calls; in 2011, 2010 and 2009, 34.4%, 45.5% and 87.2%, respectively, of all such dispositions resulted from these occurrences. Dispositions of securities at a realized gain or loss reflect such factors as ongoing assessments of issuers' business prospects, rotation among industry sectors, changes in credit quality, and tax planning considerations. Additionally, the amount of net realized gains and losses registered in any one accounting period are affected by the aforementioned assessments of securities' values for other-than-temporary impairment. As a result of the interaction of all these factors and considerations, net realized investment gains or losses can vary significantly from period-to-period, and, in the Company's view, are not indicative of any particular trend or result in the basics of its insurance business.
The mortgage guaranty claim ratios for the years presented were affected mostly by varying claim payment trends and reserve provisions as well as captive and pool transactions. As indicated in the above Executive Summary, Old Republic's mortgage guaranty subsidiaries negotiated the termination of various captive reinsurance and pool insurance contracts during 2010 and 2009. Taken together all of these transactions reduced the incurred claim ratio by 15.0 and 25.8 percentage points for the years ended December 31, 2010 and 2009, respectively. These claim ratios had risen through year-end 2009 principally as a result of higher reserve provisions and paid losses. Reserve provisions have been impacted by the levels of reported delinquencies emanating from the downturn in the national economy, widespread stress in housing and mortgage finance markets, and increasing unemployment. Trends in expected and actual claim frequency and severity have been impacted to varying degrees by several factors including, but not limited to, significant declines in home prices which limit a troubled borrower's ability to sell the mortgaged property in an amount sufficient to satisfy the remaining debt obligation, more restrictive mortgage lending standards which limit a borrower's ability to refinance the loan, increases in housing supply relative to recent demand, historically high levels of coverage rescissions and claims denials as a result of material misrepresentation in key underwriting information or non-compliance with prescribed underwriting guidelines, and changes in claim settlement costs. The latter costs are influenced by the amount of unpaid principal outstanding on delinquent loans as well as the rising expenses of settling claims due to higher investigations costs, legal fees, and accumulated interest expenses.
As determined by risk in force as of December 31, 2011, these 10 states represent approximately 50.1%, 58.8%, and 50.3%, of traditional primary, bulk, and total risk in force, respectively.
Old Republic International Corporation is a Chicago-based insurance holding company with subsidiaries engaged mainly in the general (property and liability), mortgage guaranty and title insurance businesses. In this report, "Old Republic", or "the Company" refers to Old Republic International Corporation and its subsidiaries as the context requires. The aforementioned insurance segments are organized as the Old Republic General Insurance, Mortgage Guaranty and Title Insurance Groups, and references herein to such groups apply to the Company's subsidiaries engaged in the respective segments of business. Results of a small life and health insurance business are included in the corporate and other caption of this report.
The Company reviews the status and fair value changes of each of its investments on at least a quarterly basis during the year, and estimates of other-than-temporary impairments ("OTTI") in the portfolio's value are evaluated and established at each quarterly balance sheet date. In reviewing investments for OTTI, the Company, in addition to a security's market price history, considers the totality of such factors as the issuer's operating results, financial condition and liquidity, its ability to access capital markets, credit rating trends, most current audit opinion, industry and securities markets conditions, and analyst expectations to reach its conclusions. Sudden fair value declines caused by such adverse developments as newly emerged or imminent bankruptcy filings, issuer default on significant obligations, or reports of financial accounting developments that bring into question the validity of previously reported earnings or financial condition, are recognized as realized losses as soon as credible publicly available information emerges to confirm such developments. Absent issuer-specific circumstances that would result in a contrary conclusion, any equity security with an unrealized investment loss amounting to a 20% or greater decline for a six month period is considered OTTI. In the event the Company's estimate of OTTI is insufficient at any point in time, future periods' net income (loss) would be adversely affected by the recognition of additional realized or impairment losses, but its financial position would not necessarily be affected adversely inasmuch as such losses, or a portion of them, could have been recognized previously as unrealized losses in shareholders' equity. The Company recognized $50.2, $1.2 and $9.5 of OTTI adjustments for the years ended December 31, 2011, 2010 and 2009, respectively.
A summary of the Company's equity securities reflecting reported adjusted cost, net of OTTI adjustments totaling $138.5 and $245.4 at December 31, 2011 and 2010, respectively, follows:
Historically coverage rescissions and claims denials resulting from material misrepresentation in key underwriting information or non-compliance with terms of the master policy have not been material. Since 2008, however, in response to the significant increase in fraud and misrepresentation, the Company has incorporated into its reserving methodology certain assumptions regarding the expected levels of coverage rescissions and claim denials. Such estimates, which are evaluated as of each balance sheet date, are based on judgments relative to the level of expected coverage rescissions and claim denials on loans that are in default as of each balance sheet date taking into account observed trends in rescission and claim denial rates. On-going litigation and arbitration proceedings with respect to previously rescinded or denied claims are not considered in the establishment of reserves for estimated losses, claims and settlement expenses.
$101.2 of U.S. Treasury Tax and Loss Bonds were redeemed in 2011 relating to contingency reserve releases recorded in 2010. Purchases of U.S. Tax and Loss Bonds were $61.7 during 2011.
A summary of stock options outstanding and exercisable at December 31, 2011 follows:
During 2011 and 2010, the Company issued 8,516 and 371,212 shares, respectively, of restricted common stock to certain employees valued at $.1 and $4.9, respectively, vesting over 5 and 4.5 years, respectively. During the vesting period, restricted shares are nontransferable and subject to forfeiture, but are entitled to all of the other rights of outstanding shares. Compensation expense for restricted stock awards is recognized over the vesting period of the award and was immaterial for the years ended December 31, 2011 and 2010.
At December 31, 2011, the Company had sufficient liquid resources available to redeem the 8.0% Notes and a substantial portion of the 3.75% Notes. Management is exploring a number of options to address its liquidity needs in the circumstance that an event of default was to occur at a future date. These potential plans include an amendment to the 3.75% Notes removing RMIC from the definition of a Significant Subsidiary, an additional capital raise through issuance of new straight or convertible debt, or the utilization of intra system dividend capacity. While Management is confident that an event of default can be stemmed, there is no assurance that its impact could be addressed through execution of these plans.
Represents amounts for Old Republic's holding company parent, minor corporate services subsidiaries, and a small life and health insurance operation.
Income (loss) before taxes (credits) for 2011 includes an accrual of employment severance and similar costs ($10.7), elimination of previously deferred acquisition costs ($29.1) no longer deemed recoverable in future run-off periods, and the impairment of the historical goodwill balance of $10.7. 2010 and 2009 results reflect the impact of the accounting treatment for certain reinsurance commutations. Refer to further discussion at Note 1(e).