MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - ------------------------------------------------------
The primary sources of the Company's liquidity are (1) funds generated from insurance operations including net investment income, (2) proceeds from the sale of investments and (3) proceeds from maturing investments. The Company generally experiences positive cash flow resulting from the fact that premiums are collected on insurance policies in advance of the disbursement of funds in payment of claims. Operating costs of the insurance subsidiaries, other than loss and loss expense payments, generally average less than 30% of premiums earned on a consolidated basis and the remaining amount is available for investment for varying periods of time depending on the type of insurance coverage provided. Because losses are often settled in periods different from when they are incurred, at times, operating cash flows may turn negative as loss settlements on claim reserves established in prior years exceed net premium revenue and receipts of investment income. During 2004, positive cash flow from operations totaled $72.3 million compared to $56.9 million in 2003, generally in line with the increase in net premium earned during 2004.
For several years, the Company's investment philosophy has emphasized the purchase of short-term bonds with maximum quality and liquidity. As interest rates have declined and yield curves have not provided a strong incentive to lengthen maturities in recent years, the Company has maintained and, during 2004, increased its short-term position with respect to the vast majority of its fixed maturity investments in anticipation of rate increases expected to occur in 2005. The average life of the Company's bond and short-term investment portfolio was 2.2 years and 2.8 years at December 31, 2004 and 2003, respectively. The Company also remains an active participant in the equity securities market using capital which is not considered necessary to fund current operations. The long-term horizon for the Company's equity investments allows it to invest in positions where ultimate value, and not short-term market fluctuation, is the primary focus. Investments made by the Company's domestic insurance subsidiaries are regulated by guidelines promulgated by the National Association of Insurance Commissioners which are designed to provide protection for both policyholders and shareholders.
After giving effect to changes in unearned premiums, net premiums earned increased 18% to $172.1 million for 2004 from $146.2 million for 2003. Excluding inter-company reinsurance arrangements, net premiums earned from all trucking-related insurance products increased by $21.7 million (24%). Net premiums earned from the Company's private passenger automobile and small workers' compensation programs also increased $3.4 million (9%) and $1.9 million (31%), respectively. These increases were partially offset by a decrease in net premium earned from non-affiliated reinsurance assumed of $1.3 million (12%) from 2003.
Realized net capital gains were $9.8 million in 2004 compared to gains of $10.0 million for 2003. The current year's net gain consisted of gains on equity securities of $8.5 million, gains on fixed maturities of $1.9 million, and losses on other investments of $.6 million. Capital gains for the current year include a net gain of $1.2 million attributable to the process of accounting for "other than temporary impairment" in the investment portfolio. The net gain includes $2.4 million representing subsequent appreciation on previously written down securities disposed of during 2004 offset by additional write downs during the year. See the Investment Valuation section under the caption Critical Accounting Policies and Note B to the consolidated financial statements for further information with respect to the other than temporary impairment adjustment process.
The loss and loss expense ratio for fleet trucking products for 2004 reflects an increase in severity of accidents, particularly in the large fleet excess product. While overall frequency in the trucking lines has not increased significantly, the frequency of severe losses was higher in 2004. Part of the increase in severity is attributable to social inflation factors which result in higher jury awards and settlements on serious accidents. The Company's higher retention under recent reinsurance treaty renewals also allows for more net volatility in this line of business. The loss and loss expense ratio for reinsurance assumed increased by 8 percentage points, and relates primarily to hurricane losses in 2004. The small business workers' compensation program continued to perform poorly. This continued unsatisfactory performance prompted management to discontinue this product in the current year fourth quarter.
reinsurance structure for its large trucking fleets can have a significant impact on future loss developments and, as a result, loss and loss expense ratios and prior year reserve development may not be consistent year to year.
As a result of the factors mentioned above, net income for 2004 was $30.3 million compared to $33.1 million for 2003. Diluted earnings per share decreased to $2.05 in 2004 from $2.25 in 2003. Earnings per share from operations, before realized gains or losses on investments, was $1.62 in 2004 compared to $1.81 in 2003.
Realized net capital gains were $10.0 million in 2003 compared to losses of $16.4 million for 2002. The current year's net gain consisted of gains on equity securities of $9.3 million, gains on fixed maturities of $.5 million, and gains on other investments of $.2 million. The gains on equity securities include approximately $3.9 million of gains realized by disposal of securities whose recorded value had previously been written down due to other than temporary impairment concerns. Partially offsetting the effect of other than temporary impairment adjustments on securities sold was $2.4 million in unrealized losses on fixed maturity securities still owned which experienced a decline in market value of more than 20% for more than six months and, accordingly, were reclassified as realized losses during 2003. The gains realized during 2003 reflect the improvement in the equity markets, in general, particularly in the last quarter.
Losses and loss expenses incurred during 2003 increased $27.6 million (41%) to $95.7 million. The increase in losses incurred is reflective of the 40% increase in net premiums earned, as previously discussed. The 2003 consolidated loss and loss expense ratio was 65.5% compared to 65.2% for 2002. The loss and loss expense ratios for the Company's fleet trucking and private passenger automobile programs were fairly consistent with that experienced in 2002. Small fleet trucking experienced a 14 percentage point increase in its loss and loss expense ratio due to the increased frequency and severity of reported claims while the loss and loss expense ratio for reinsurance assumed dropped by 10 percentage points, reflecting the lack of major catastrophe activity affecting treaties in which the Company participates. The loss and loss expense ratio for the small business workers' compensation program increased to 91.4% in 2003 from 54.7% in 2002. This significant increase is due to approximately $.7 million in adjustments to prior year losses resulting from internal management review of the reserving methodologies for this product as well as increased frequency and severity of 2003 losses.
Other operating expenses for 2003, before credits for allowances from reinsurers, increased $10.8 million (27%) to $50.6 million. Gross expenses increased at a lower rate than the increase in premium volume because much of the Company's expense structure is fixed and does not vary directly with volume. Personnel related expenses, including amounts allocated to loss expenses and investment income, increased 26% due mainly to employee incentives based upon Company performance in addition to a 7% increase in the number of employees during 2003. Direct commission expense increased $2.9 million (33%) due to growth in all of the Company's business produced by outside agents and as the result of increased participation in voluntary reinsurance assumed treaties. Ceding commission allowances from reinsurers increased $2.5 million (14%), resulting from increased premium volume ceded under reinsurance agreements covering Protective's fleet trucking business. The ratio of net operating expenses of the insurance subsidiaries to net premiums earned was 26.5% during 2003 compared to 26.1% for 2002. Including the agency operations, and after elimination of inter-company commissions, the ratio of other operating expenses to operating revenue was 18.4% for 2003 compared with 17.8% for 2002, with the increase primarily attributable to the lower ratio of ceding commission income to gross acquisition costs, as less of the gross premium is ceded to reinsurers.
As a result of the factors mentioned above, net income for 2003 was $33.1 million compared to $12.4 million for 2002. Diluted earnings per share increased to $2.25 in 2003 from $.84 in 2002. Earnings per share from operations before realized gains or losses on investments was $1.81 in 2003 compared to $1.57 in 2002.
Approximately 67% of the Company's assets are composed of investments at December 31, 2004. Approximately 3% of these investments, consisting of limited partnership investments in equity trading and hedge funds, real estate development ventures and venture capital funds, do not have readily determinable market values. For these investments, we estimate fair value by reference to the underlying assets of the limited partnerships. In addition, approximately $16.9 million of fixed maturity investments (3% of total invested assets) consists of bonds rated as less than investment grade at year end. The majority of this total is composed of shares in a widely diversified high yield municipal bond fund where exposure to default by any single issuer is extremely limited. Further, the average bond quality of assets held in this fund at year end was BBB, which would be considered investment grade. We have included the investment in this fund in the total of non-investment grade bonds since, under the terms of the fund, the average bond quality could fall below BBB.
Amounts recoverable under the terms of reinsurance contracts comprise approximately 27% of total Company assets as of December 31, 2004. In order to be able to provide the high limits required by the Company's trucking company insureds, we share a significant amount of the insurance risk of the underlying contracts with various insurance entities through the use of reinsurance contracts. Some reinsurance contracts provide that a loss be shared among the Company and its reinsurers on a predetermined pro-rata basis ("quota-share") while other contracts provide that the Company keep a fixed amount of the loss, similar to a deductible, with reinsurers taking all losses above this fixed amount ("excess of loss"). Some risks are covered by a combination of quota-share and excess of loss contracts. The computation of amounts due from reinsurers is based upon the terms of the various contracts and follows the underlying estimation process for loss and loss expense reserves, as described below. Accordingly, the uncertainties inherent in the loss and loss expense reserving process also affect the amounts recorded as recoverable from reinsurers. Estimation uncertainties are greatest for claims which have occurred but which have not yet been reported to the Company. Further, the high limits provided by the Company's insurance policies for trucking liability and workers' compensation, provide more variability in the estimation process than lines of business with lower coverage limits.
As with any receivable, credit risk exists in the recoverability of reinsurance. This is even more pronounced than in normal receivable situations since recoverable amounts are not generally due until the loss is settled
which, in some cases, may be many years after the contract was written. If a reinsurer is unable, in the future, to meet its financial commitments under the terms of the contracts, the Company would be responsible for the reinsurer's portion of the loss. The financial condition of each of the Company's reinsurers is initially determined upon the execution of a given treaty and only reinsurers with the highest credit ratings available are utilized. However, as noted above, reinsurers are often not called upon to satisfy their obligations for several years and changes in credit worthiness can occur in the interim period. Reviews of the current financial strength of each reinsurer are made continually and, should impairment in the ability of a reinsurer be determined to exist, current year operations would be charged in amounts sufficient to provide for the Company's additional liability. Such charges are included in other operating expenses, rather than losses and loss expenses incurred, since the inability of the Company to collect from reinsurers is a credit risk rather than a deficiency associated with the loss reserving process.
The reserving process requires management to continuously monitor and evaluate the life cycle of claims based on the class of business and the nature of claims. Our claims range from the very routine private passenger automobile "fender bender" to the highly complex and costly third party bodily injury claim involving large tractor-trailer rigs. Reserving for each class of claims requires a set of assumptions based upon historical experience, knowledge of current industry trends and seasoned judgment. The high limits provided in the Company's trucking liability policies provide for greater variation in the reserving process for more serious claims. Court rulings, tort reform (or lack thereof) and trends in jury awards also play a significant role in the estimation process of larger claims. The Company continuously reviews and evaluates loss developments subsequent to each measurement date and adjusts its reserve estimation assumptions, as necessary, in an effort to achieve the best possible estimate of the ultimate remaining loss costs at any point in time. Changes to previously established reserve amounts are charged or credited to losses and loss expenses incurred in the accounting periods in which they are determined. Note C to the consolidated financial statements includes additional information relating to loss and loss adjustment expense reserve development.
Any forward-looking statements in this report including, without limitation, statements relating to the Company's plans, strategies, objectives, expectations, intentions and adequacy of resources, are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Investors are cautioned
The liability method is used in accounting for federal income taxes. Using this method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. The provision for deferred federal income tax was based on items of income and expense that were reported in different years in the financial statements and tax returns and were measured at the tax rate in effect in the year the difference originated. Net deferred tax liabilities reported at December 31, 2004 and 2003 consisted of:
The total deferred tax assets at December 31, 2004 included $7,828 in special tax deposits covered under Section 847 of the Internal Revenue Code, as explained in the following paragraph, which compares to $5,523 in special tax deposits at December 31, 2003. Adjusted for the special deposits, net deferred tax assets at December 31, 2004 were $6,725 compared with $8,322 million at December 31, 2003.
Section 847 of the Internal Revenue Code created a mechanism which assures recoverability for the deferred tax asset arising from the discounting of property and casualty loss reserves for tax purposes. This provision allows an insurer to take a special tax deduction equal to the discount on post 1986 accident year loss and loss expense reserves while making "special estimated tax payments" equal to the amount of the tax benefit derived from the special deduction. The "special estimated tax payments" can be carried forward for fifteen years to offset taxes arising from decreases in the special deduction and can be treated as regular estimated payments or refunded at the end of the carryforward period. Because the recovery of this deferred tax asset is guaranteed, it need not be considered when determining the recoverability of deferred tax assets.
Of the remaining deferred tax assets at December 31, 2004, approximately $3,115 relate to other policy liability discounts required by the Internal Revenue Code which are perpetual in nature and, in the absence of the termination of business, will not reverse to a material degree in the foreseeable future. An additional $1,583 relates to impairment adjustments made to investments, as required by accounting regulations. The sizable unrealized gains in the Company's investment portfolios would allow for the recovery of this deferred tax at any time. The balance of deferred tax assets, approximately $2,027, consists of various normal operating expense accruals and is not considered to be material. As a result of its analysis, management does not believe that any of these assets are impaired at December 31, 2004.
To the extent possible, the Company attempts to recover the costs of inflation by increasing the premiums it charges. Within the fleet trucking business, a majority of the Company's premiums are charged as a percentage of an insured's gross revenue or payroll. As these charging bases increase with inflation, premium revenues are immediately increased. The remaining premium rates charged are adjustable only at periodic intervals and
To the extent inflation influences yields on investments, the Company is also affected. The Company's short-term and fixed investment portfolios are structured in direct response to available interest rates over the yield curve. As available market interest rates fluctuate in response to the presence or absence of inflation, the yields on the Company's investments are impacted. Further, as inflation affects current market rates of return, previously committed investments may rise or decline in value depending on the type and maturity of investment. (See comments under Market Risk, following.)
The most significant of the three identified market risks relates to prices in the equities market. Though not the largest category of the Company's invested assets, equity securities have the greatest potential for short-term price fluctuation. The market value of the Company's equity positions at December 31, 2004 was $133.0 million or approximately 23% of invested assets. This market valuation includes $66.7 million of appreciation over the cost basis of the equity security investments. Funds invested in the equities market are not considered to be assets necessary for the Company to conduct its daily operations and, therefore, can be committed for extended periods of time. The long-term nature of the Company's equity investments allows it to invest in positions where ultimate value, and not short-term market fluctuations, is the primary focus.
We estimate that a 100 basis point increase in market interest rates would have resulted in a pre-tax loss in the fair value of fixed maturity investments of approximately $5.5 million at December 31, 2004. Similarly, a 100 basis point decrease in market interest rates would have resulted in an estimated pre-tax gain in the fair value of these instruments of approximately $5.8 million at December 31, 2004. Note, however, that the hypothetical loss mentioned above would only be realized if the Company was obligated to sell bonds prior to maturity,
which is extremely unlikely. The aggregate value of money market and short-term investments, bonds maturing within twelve months and expected positive cash flow from operations for 2005 is equal to more than 100% of net loss and loss expense reserves at December 31, 2004.
The table below sets forth the amounts of the Company's contractual obligations at December 31, 2004.
The investment commitments in the above table relate to unfunded capital obligations for limited partnership investments the Company owned at December 31, 2004.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the 2004 consolidated financial statements of Baldwin & Lyons, Inc. and subsidiaries and our report dated March 4, 2005 expressed an unqualified opinion thereon.
We have audited the accompanying consolidated balance sheets of Baldwin & Lyons, Inc. and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of income, changes in equity other than capital, and cash flows for each of the three years in the period ended December 31, 2004. Our audits also included the financial statement schedules listed in the Index at Item 15(a). These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Baldwin & Lyons, Inc. and subsidiaries at December 31, 2004 and 2003, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Baldwin & Lyons, Inc.'s internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 4, 2005 expressed an unqualified opinion thereon.
BASIS OF PRESENTATION: The consolidated financial statements include the accounts of Baldwin & Lyons, Inc. and its wholly owned subsidiaries ("the Company"). All significant intercompany transactions and accounts have been eliminated in consolidation.
Should impairment in the ability of a reinsurer to satisfy its obligations to the Company be determined to exist, current year operations would be charged in amounts sufficient to provide for the Company's additional liability. Such charges are included in other operating expenses, rather than losses and loss expenses incurred, since the inability of the Company to collect from reinsurers is a credit risk rather than a deficiency associated with the loss reserving process.
RECLASSIFICATION: Certain prior year balances have been reclassified to conform to the current year presentation. All share amounts have been restated for the five-for-four stock split declared in February, 2003.
Note: Recovery in market value of an investment which has been adjusted for other than temporary impairment by inclusion in realized losses in the income statement is treated as an unrealized gain until the investment is disposed of.
The fair value and the cost or amortized cost of fixed maturity investments at December 31, 2004, by contractual maturity, are shown in the following table on page 41. Actual maturities may differ from contractual maturities because borrowers have, in some cases, the right to call or prepay obligations with or without call or prepayment penalties.
Substantially all of the Company's fixed income portfolio is managed by ABN AMRO Asset Management (ABN). A director of the Company is an executive officer of ABN. Management fees paid to ABN were $379, $366 and $348 during 2004, 2003 and 2002, respectively. The Company also has holdings in money market accounts which are managed by or purchased through ABN.
The reserves for losses and loss expenses, net of related reinsurance recoverables, at December 31, 2003, 2002 and 2001 were decreased by $14,956, $13,586 and $10,008, respectively, for claims that had occurred on or prior to those dates. These decreases are the result of the settlement of claims at amounts lower than previously reserved and changes in estimates of losses incurred but not reported as part of the normal reserving process. Included in the above developments during 2004, 2003 and 2002, are decreases of $656, $1,659 and $1,539, respectively, in reserves outstanding at December 31, 2003, 2002 and 2001 for losses and loss expenses related to environmental damage claims. Reserves for incurred but not reported environmental losses were $2,000 and $2,500 at December 31, 2004 and 2003, respectively.
Development during 2004 and 2002 also included decreases in reinsurance assumed loss and loss expense reserves at December 31, 2003 and 2001 of $2,412 and $1,305, respectively. Development during 2003 included an increase in reinsurance assumed loss reserves at December 31, 2002 of $799. Favorable loss development is influenced by the Company's long-standing policy of reserving for losses realistically and a willingness to settle claims based upon a seasoned evaluation of its exposures. Under terms of reinsurance agreements effective June 1, 1998, the Company's exposure on large fleet trucking losses dropped from $1,000 to $100 per occurrence. Effective in June of each year 2001 through 2004, terms of replacement reinsurance agreements increased the Company's maximum exposure on large fleet trucking losses to $1,020, $1,400, $1,625 and $2,000, respectively, per occurrence. The excess of loss treaty renewed in June, 2004 includes an aggregate deductible that must be exceeded before the Company can recover under the terms of the treaty. The Company retains a higher percentage of the direct premium in consideration of this deductible provision. 2004 net premium earned and losses incurred each include $2,278 relative to this deductible provision. The increased net retention per occurrence is reflected in the increase in the dollar amount of favorable development during 2004. These trends were considered in the establishment of the Company's reserves at December 31, 2004.
NOTE D - INCOME TAXES Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's deferred tax assets and liabilities as of December 31 are as follows:
Cash flows related to federal income taxes paid, net of refunds received, for 2004, 2003 and 2002 were $14,865, $14,100 and $7,250, respectively, including Section 847 special tax deposits. Future tax benefits on approximately $7,828 of deferred tax assets at December 31, 2004 arising from loss reserve discounting are assured based on Section 847 of the Internal Revenue Code.
The Company is required to establish a valuation allowance for any portion of the gross deferred tax asset that management believes will not be realized. Management has determined that no such valuation allowance is necessary at December 31, 2004.
NOTE E - REINSURANCE The insurance subsidiaries cede portions of their gross premiums written to certain other insurers under excess and quota share treaties and by facultative placements. Risks are reinsured with other companies to permit the recovery of a portion of related direct losses. The Company also serves as an assuming reinsurer under retrocessions from certain other reinsurers. These retrocessions include individual risks but are comprised primarily of high layer catastrophe treaties. Accordingly, the occurrence of a major catastrophic event can have a significant impact on the Company's operations. In addition, the insurance subsidiaries participate in certain involuntary reinsurance pools which require insurance companies to provide coverages on assigned risks. The assigned risk pools allocate participation to all insurers based upon each insurer's portion of premium writings on a state or national level. Historically, the operation of these assigned risk pools have resulted in net losses allocated to the Company although such losses have generally not been material in relation to the Company's direct and voluntary assumed operations.
Net income of the insurance subsidiaries, as determined in accordance with statutory accounting practices, was $19,941, $22,851 and $10,318 for 2004, 2003 and 2002, respectively. Consolidated statutory shareholder's equity for these subsidiaries was $319,436 and $304,651 at December 31, 2004 and 2003, respectively. Minimum statutory surplus necessary for the insurance subsidiaries to satisfy statutory risk based capital requirements was $73,157 at December 31, 2004.
NOTE H - EARNINGS PER SHARE The following is a reconciliation of the denominators used in the calculations of basic and diluted earnings per share for the years ended December 31:
No effect on net income was considered to result from the presumed exercise of the options used in calculating diluted earnings per share. Certain market value options, granted in 1997, were included in the computation of diluted earnings per share for 2004 and 2003. These market value options were not included in the computation of diluted earnings per share for 2002 because the exercise price during that year was greater than the average market price of the Company's stock.
In accordance with the terms of the 1981 Stock Purchase Plan (1981 Plan), the Company is obligated to repurchase shares issued under the 1981 Plan, at a price equal to 90% of the book value of the shares at the end of the quarter immediately preceding the date of repurchase. No shares have ever been repurchased under the 1981 Plan. At December 31, 2004 there were 160,847 shares (Class A) and 439,708 shares (Class B) outstanding which are eligible for repurchase by the Company.
A summary of the Company's stock option activity and related information for the years ended December 31 follows:
Exercise prices for options outstanding as of December 31, 2004 were $.80, $1.00, $20.60 or $26.00. The weighted-average remaining contractual lives of options exercisable at $.80 and $1.00 are 4.0 years and 9.4 years, respectively. The remaining contractual lives of options exercisable at $20.60 and $26.00 are 3 years and 6.3 years, respectively. Discounted options are granted to non-employee directors in lieu of directors' fees. In addition, during 2004, non-employee directors were each granted 1,500 options at market value on the date of grant. The compensation cost that has been charged against income for all stock-based compensation plans, consisting of directors' fees only, was $256, $143 and $134 for 2004, 2003 and 2002, respectively.
During 2002 and 2001, the Company offered loans to certain employees for the sole purpose of purchasing the Company's Class B common stock in the open market. $2,514 and $4,828 of such full-recourse loans were issued and outstanding at December 31, 2004 and 2003, respectively, and carry interest rates ranging from 4.75% to 6%, payable annually on the loan anniversary date. The underlying securities serve as collateral for these loans, which must be repaid no later than 10 years from the date of issue. This loan program was terminated in 2002.
During 2004, the Company borrowed $6,000 under lines of credit established with banks, all of which was outstanding at December 31, 2004. The average annual interest rate on these borrowings is 3.26% and repayment is due prior to September, 2005. The carrying amount of these borrowings approximates fair value.
The Company maintains a defined contribution 401(k) Employee Savings and Profit Sharing Plan ("the Plan") which covers all employees who have completed one year of service. The Company's contributions to the Plan for 2004, 2003 and 2002 were $1,053, $978 and $864, respectively.
NOTE L - REPORTABLE SEGMENTS The Company and its consolidated subsidiaries market and underwrite casualty insurance in five major specialty areas (reportable segments): (1) fleet trucking, (2) nonstandard private passenger automobile, (3) small fleet trucking, (4) the assumption of reinsurance and (5) small business workers' compensation. The fleet trucking segment provides multiple line insurance coverage to large trucking fleets which generally retain substantial amounts of self-insurance and to medium-sized trucking fleets on a first dollar or small deductible basis. The nonstandard private passenger automobile segment provides motor vehicle liability and physical damage coverages to individuals. The small fleet trucking segment provides commercial automobile coverages to small trucking fleets and owner/operators. The reinsurance assumed segment accepts retrocessions from selected reinsurance companies, principally reinsuring against catastrophes. The small business workers' compensation segment provides workers' compensation coverages to small businesses and other entities.
The Company's reportable segments are business units that operate in the property/casualty insurance industry and each offers products to different classes of customers. The reportable segments are managed separately due to the differences in underwriting criteria used to market products to each class of customer and the methods of distribution of the products each reportable segment provides. Segment information shown in the table below as "all other" includes products provided by the Company to assigned risks and residual markets as well as the runoff of discontinued product lines.
The Company evaluates performance and allocates resources based on gain or loss from insurance underwriting operations before income taxes. Underwriting gain or loss does not include net investment income or realized gains or losses on the
NOTE O - STOCK SPLIT At its regular meeting in February, 2003, the Company's Board of Directors declared a 25% stock dividend in the form of a five-for-four stock split on the Company's Class A and Class B Common Stock. The additional shares were distributed on March 3, 2003 to shareholders of record on February 17, 2003. Fractional shares were settled in cash using the closing
market value on February 17, 2003. All share and per share references within this report have been restated to reflect the stock split.
NOTE P - NEW ACCOUNTING PRONOUNCEMENT In December 2004, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 123 (revised 2004), SHARE-BASED PAYMENT ("SFAS No. 123R"), which is a revision of SFAS No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION ("SFAS No. 123") and supersedes APB Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES. SFAS No. 123R requires all share-based payments to employees, including grants of employee stock options, to be recognized in the financial statements based on their fair values. Pro forma disclosure is no longer an alternative.
For discounted stock options granted to employees and non-employee directors, there is no difference in the accounting treatment under SFAS No. 123 versus the previously used principle as provided by Accounting Principles Board Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES, and related Interpretations.