Rental expense for the Company's operations was approximately $45,189,000, $44,752,000 and $38,179,000 for 2014, 2013 and 2012, respectively. Future minimum lease payments, without provision for sublease income, are $41,210,000 in 2015, $36,547,000 in 2016 and $161,209,000 thereafter.
W. R. Berkley Corporation is an insurance holding company that is among the largest commercial lines writers in the United States and operates in three business segments: Insurance-Domestic, Insurance-International and Reinsurance-Global. Our decentralized structure provides us with the flexibility to respond quickly and efficiently to local or specific market conditions and to pursue specialty business niches. It also allows us to be closer to our customers in order to better understand their individual needs and risk characteristics. While providing our business units with certain operating autonomy, our structure allows us to capitalize on the benefits of economies of scale through centralized capital, investment, reinsurance and enterprise risk management, and actuarial, financial and corporate legal staff support. The Company’s primary sources of revenues and earnings are its insurance operations and its investments.
An important part of our strategy is to form new operating units to capitalize on various business opportunities. Since 2006, the Company has formed 24 new operating units that are focused on important parts of the economy in the U.S., including healthcare, energy and agriculture, and on growing international markets, including Scandinavia, Australia, the Asia-Pacific region and South America.
The Company has increasingly invested in equity securities, merger arbitrage securities, investment funds, private equity, loans and real estate related assets. The Company's investments in investment funds and its other alternative investments have experienced, and the Company expects to continue to experience, greater fluctuations in investment income.
The following presents a discussion of accounting policies and estimates relating to reserves for losses and loss expenses, assumed premiums and other-than-temporary impairments of investments. Management believes these policies and estimates are the most critical to its operations and require the most difficult, subjective and complex judgments.
Approximately $1.5 billion, or 16%, of the Company’s net loss reserves as of December 31, 2014 relate to the Reinsurance-Global segment. There is a higher degree of uncertainty and greater variability regarding estimates of assumed loss reserves because those estimates are based, in part, upon information received from ceding companies. If information received from ceding companies is not timely or correct, the Company’s estimate of ultimate losses may not be accurate. Furthermore, due to delayed reporting of claim information by ceding companies, the claim settlement tail for assumed reinsurance is extended. Management considers the impact of delayed reporting in its selection of assumed loss development factors.
Following is a summary of the Company’s net reserves for losses and loss expenses by major line of business as of December 31, 2014 and 2013:
(1) Reserves for excess and assumed workers’ compensation business are net of an aggregate net discount of $746 million and $837 million as of December 31, 2014 and 2013, respectively.
Favorable prior year development (net of additional and return premiums) was $85 million in 2014 compared with $98 million in 2013 and $103 million in 2012.
For the Insurance-Domestic segment, favorable development in 2014 of $92 million was driven primarily by other liability business for accident years 2006 through 2010, primarily related to our excess and surplus lines casualty business. Reported losses during these years continued to be below our initial expectations at the time the business was written, largely as a result of persistent improvement in claim frequency trends (i.e., number of reported claims per unit of exposure). As these accident years have matured, the weighting of actuarial methods has shifted from methods based on initial expected losses to methods based on actual reported losses. We believe the favorable claim frequency trends we have seen during this time period are due to changes in the mix of business written and to the general slowdown in the economy. Commercial automobile reported unfavorable development primarily as a result of large losses for long-haul trucking business in 2012 and 2013.
Favorable development in 2013 was primarily attributable to accident years 2006 through 2012 and included favorable development of $39 million for other liability business, $32 million for reinsurance assumed liability business, $22 million for workers’ compensation, $18 million for commercial property and $24 million for other lines of business. The favorable development in 2013 was largely driven by loss cost trends, which were more favorable than originally anticipated. In particular, loss frequency trends have been more favorable than expected for excess & surplus lines casualty business, workers' compensation and excess of loss professional and other liability business.
Favorable reserve development in 2012 was primarily attributable to improved claim frequency (i.e., number of reported claims per unit of exposure), especially in the excess and surplus casualty business. In addition, standard commercial lines business and reinsurance business experienced better than expected reported losses. The improvement was related primarily to accident years 2008 through 2010.
Reserve Discount. The Company discounts its liabilities for excess and assumed workers’ compensation business because of the long period of time over which losses are paid. Discounting is intended to appropriately match losses and loss expenses to income earned on investment securities supporting the liabilities. The expected losses and loss expense payout pattern subject to discounting was derived from the Company’s loss payout experience. For non-proportional business, reserves for losses and loss expenses have been discounted using risk-free discount rates determined by reference to the U.S. Treasury yield curve. For proportional business, reserves for losses and loss expenses have been discounted at the statutory rate of 2.0%. As of December 31, 2014, the aggregate blended discount rates ranged from 2.0% to 6.5%, with a weighted average discount
rate of 4.2%. The aggregate net discount, after reflecting the effects of ceded reinsurance, was $746 million and $837 million as of December 31, 2014 and December 31, 2013, respectively.
Assumed Reinsurance Premiums. The Company estimates the amount of assumed reinsurance premiums that it will receive under treaty reinsurance agreements at the inception of the contracts. These premium estimates are revised as the actual amount of assumed premiums is reported to the Company by the ceding companies. As estimates of assumed premiums are made or revised, the related amount of earned premiums, commissions and incurred losses associated with those premiums are recorded. Estimated assumed premiums receivable were approximately $85 million and $69 million at December 31, 2014 and December 31, 2013, respectively. The assumed premium estimates are based upon terms set forth in reinsurance agreements, information received from ceding companies during the underwriting and negotiation of agreements, reports received from ceding companies and discussions and correspondence with reinsurance intermediaries. The Company also considers its own view of market conditions, economic trends and experience with similar lines of business. These premium estimates represent management’s best estimate of the ultimate amount of premiums to be received under its assumed reinsurance agreements.
A summary of the Company’s non-investment grade fixed maturity securities that were in an unrealized loss position at December 31, 2014 is presented in the table below.
Preferred Stocks - At December 31, 2014, there were 6 preferred stocks in an unrealized loss position, with an aggregate fair value of $49.8 million and a gross unrealized loss of $4.2 million. Four of these preferred stocks are rated non-investment grade, and none are delinquent. Management believes the unrealized losses are due primarily to market and sector related factors and does not consider these to be OTTI.
In classifying particular financial securities in the fair value hierarchy, the Company uses its judgment to determine whether the market for a security is active and whether significant pricing inputs are observable. The Company determines the existence of an active market by assessing whether transactions occur with sufficient frequency and volume to provide reliable pricing information. The Company determines whether inputs are observable based on the use of such information by pricing services and external investment managers, the uninterrupted availability of such inputs, the need to make significant adjustments to such inputs and the volatility of such inputs over time. If the market for a security is determined to be inactive or
if significant inputs used to price a security are determined to be unobservable, the security is categorized in Level 3 of the fair value hierarchy.
Independent pricing services - The vast majority of the Company’s fixed maturity securities available for sale were priced by independent pricing services (generally one U.S. pricing service plus additional pricing services with respect to a limited number of foreign securities held by the Company). The prices provided by the independent pricing services are generally based on observable market data in active markets (e.g., broker quotes and prices observed for comparable securities). The determination of whether markets are active or inactive is based upon the volume and level of activity for a particular asset class. The Company reviews the prices provided by pricing services for reasonableness based upon current trading levels for similar securities. If the prices appear unusual to the Company, they are re-examined and the value is either confirmed or revised. In addition, the Company periodically performs independent price tests of a sample of securities to ensure proper valuation and to verify our understanding of how securities are priced. As of December 31, 2014, the Company did not make any adjustments to the prices provided by the pricing services. Based upon the Company’s review of the methodologies used by the independent pricing services, these securities were classified as Level 2.
Results of Operations for the Years Ended December 31, 2014 and 2013
The Company reported net income of $649 million in 2014 compared to $500 million in 2013. The 30% increase in net income was primarily due to increases in after-tax net investment gains of $92 million, after-tax underwriting income of $64 million and after-tax net investment income of $16 million. The number of weighted average diluted shares decreased as a result of the Company’s repurchases of its common stock in 2014 and 2013.
Average renewal premium rates (adjusted for change in exposures) increased 6.8% in 2012, 6.5% in 2013 and 3.4% in 2014. However, overall loss costs are also increasing, and current market price levels for certain lines of business remain below the prices required for the Company to achieve its long-term return objectives.
A summary of gross premiums written in 2014 compared with 2013 by line of business within each business segment follows:
Reinsurance-Global gross premiums decreased 14% to $695 million in 2014 from $809 million in 2013. Gross premiums written decreased $66 million (12%) for casualty lines and $48 million (17%) for property lines.
Net investment income increased 10% to $601 million in 2014 from $544 million in 2013 primarily due to an increase in income from investment funds, including aviation and rail equipment funds, real estate funds and energy funds. Investment funds are reported on a one quarter lag. The average annualized yield for fixed maturity securities declined to 3.4% from 3.5% due to lower long-term reinvestment yields available in the market. The average duration of the fixed maturity portfolio was 3.2 years at December 31, 2014 compared with 3.3 years at December 31, 2013. Average invested assets, at cost (including cash and cash equivalents), were $15.6 billion in 2014 and $14.8 billion in 2013.
Based on information received from energy fund managers, the Company expects to report losses from energy funds of $22 million pre-tax, or $14 million after-tax, in the first quarter of 2015. The Company expects the energy fund losses will be partially offset by earnings from other investment funds.
Insurance Service Fees. The Company is a servicing carrier of workers' compensation assigned risk plans for 20 states and provides insurance program management services to self-insureds, captives, governmental entities, risk retention groups, and insurance companies. Service fees increased to $117 million in 2014 from $108 million in 2013 primarily as a result of an increase in fees from assigned risk plans.
Net Realized Gains on Investment Sales. The Company buys and sells securities on a regular basis in order to maximize its total return on investments. Decisions to sell securities are based on management’s view of the underlying fundamentals of specific securities as well as management’s expectations regarding interest rates, credit spreads, currency values and general economic conditions. Net realized gains on investment sales were $255 million in 2014 compared with $128 million in 2013. Realized gains in 2014 were related primarily to the sale of real estate, investment funds and fixed income and equity securities and included an $86 million gain from the sale of a commercial office building in London, England and a gain of $39 million resulting from an initial public offering by one of the Company's private equity investees.
Revenues from Wholly-Owned Investees. Revenues from wholly-owned investees were derived from aviation-related businesses that provide services to aviation markets, including (i) the distribution, manufacturing, repair and overhaul of aircraft parts and components, (ii) the sale of new and used aircraft, and (iii) avionics, fuel, maintenance, storage and charter services. Revenues from wholly-owned investees increased to $410 million in 2014 from $408 million in 2013.
Losses and Loss Expenses. Losses and loss expenses increased to $3,491 million in 2014 from $3,197 million in 2013. The consolidated loss ratio was 60.8% in 2014 and 61.2% in 2013. Catastrophe losses, net of reinsurance recoveries and reinstatement premiums, were $87 million in 2014 compared with $65 million in 2013, an increase of 0.3 loss ratio points. Favorable prior year reserve development (net of premium offsets) was $85 million in 2014 compared with $98 million in 2013, a difference of 0.3 loss ratio points (see Critical Accounting Estimates, Reserves for Losses and Loss Expenses). The loss ratio excluding catastrophe losses and prior year reserve development decreased 1.0 points to 60.8% in 2014 from 61.8% in 2013. A summary of loss ratios in 2014 compared with 2013 by business segment follows:
Insurance-Domestic - The loss ratio of 60.2% in 2014 was 1.1 points lower than the loss ratio of 61.3% in 2013. Catastrophe losses were $65 million in 2014 compared with $38 million in 2013, an increase of 0.5 loss ratio points. Favorable prior year reserve development was $92 million in 2014 compared with $71 million in 2013, a difference of 0.3 loss ratio points. The loss ratio excluding catastrophe losses and prior year reserve development decreased 1.4 points to 60.8% in 2014 from 62.2% in 2013.
Net foreign currency gains of $27,000 in 2014 (compared with $10 million in 2013) resulted from transactions denominated in a currencies other than an operating unit’s functional currency.
Other costs and expenses represent general and administrative expenses of the parent company and other expenses not allocated to business segments, including the cost of certain long-term incentive plans. Other costs and expenses increased to $158 million in 2014 from $144 million in 2013 due primarily to an increase in general and administrative expenses, including employment costs and benefits.
The Company has not provided U.S. deferred income taxes on the undistributed earnings of approximately $58 million of its non-U.S. subsidiaries since these earnings are intended to be permanently reinvested in the non-U.S. subsidiaries.
Results of Operations for the Years Ended December 31, 2013 and 2012
Premiums. Gross premiums written were $6,511 million in 2013, an increase of 13% from $5,780 million in 2012. The growth was due to a combination of rate increases and increased exposures. Approximately 76% of policies expiring in 2013 were renewed, compared with a 78% renewal retention rate for policies expiring in 2012.
Net Investment Income. Following is a summary of net investment income for the years ended December 31, 2013 and 2012:
Underwriting expenses are comprised of commissions paid to agents and brokers, premium taxes and other assessments and internal underwriting costs. Underwriting expenses increased 11% compared with an increase in net premiums earned of 12%. The expense ratio (underwriting expenses expressed as a percentage of premiums earned) was 33.9% in 2013 and 34.1% in 2012.
Debt extinguishment costs of $7 million in 2013 related to the prepayment of subordinated debentures that were due in 2045 and were prepaid in May 2013.
Interest Expense. Interest expense was $123 million in 2013 compared with $126 million in 2012. The Company issued $350 million of 4.625% senior notes in March 2012 and repaid $200 million of 5.875% senior notes that matured in February 2013. In May 2013, the Company issued $350 million of 5.625% subordinated debentures due 2053 and prepaid $250 million of 6.750% subordinated debentures that were due in 2045.
As part of its investment strategy, the Company establishes a level of cash and highly liquid short-term and intermediate-term securities that, combined with expected cash flow, it believes is adequate to meet its payment obligations. Due to the historically low fixed maturity investment returns, the Company has increasingly invested in equity securities, merger arbitrage securities, investment funds, private equity, loans and real estate related assets. The Company's investments in investment funds and its other alternative investments have experienced, and the Company expects to continue to experience, greater fluctuations in investment income.
The Company also attempts to maintain an appropriate relationship between the average duration of the investment portfolio and the approximate duration of its liabilities (i.e., policy claims and debt obligations). The average duration of the investment portfolio was 3.2 years and 3.3 years at December 31, 2014 and 2013, respectively. The Company’s investment portfolio and investment-related assets as of December 31, 2014 were as follows:
Real Estate. Real estate is directly owned property held for investment. At December 31, 2014, real estate properties in operation included a long-term ground lease in Washington D.C. and an office building in West Palm Beach, Florida. In addition, there are three properties under development: an office building in London, a mixed-use project in Washington D.C. and an office complex in New York City. The Company expects to fund further development costs for these projects with a combination of its own funds and external financing.
Loans Receivable. Loans receivable, which are carried at amortized cost, had an amortized cost of $322 million and an aggregate fair value of $325 million at December 31, 2014. The amortized cost of loans receivable is net of a valuation allowance of $3 million as of December 31, 2014. Loans receivable include real estate loans of $243 million that are secured by commercial real estate located primarily in Arizona, Illinois, Maryland, New York, North Carolina, Texas and Virginia. Real estate loans receivable generally earn interest at floating LIBOR-based interest rates and have maturities (inclusive of extension
The Company files a consolidated income tax return in the U.S. and foreign tax returns in each of the countries in which it has overseas operations. At December 31, 2014, the Company had a deferred gross tax asset of $448 million (which primarily relates to loss and loss expense reserves and unearned premium reserves) and a gross deferred tax liability of $485 million (which primarily relates to deferred policy acquisition costs and unrealized investment gains). The realization of the deferred tax asset is dependent upon the Company's ability to generate sufficient taxable income in future periods. Based on historical results and the prospects for future operations, management anticipates that it is more likely than not that future taxable income will be sufficient for the realization of this asset.
the future, if such earnings were distributed to the Company, taxes of approximately $3.1 million, assuming all tax credits are realized, would be payable on such undistributed earnings and would be reflected in the tax provision for the year in which these earnings are no longer intended to be permanently reinvested in the foreign subsidiary.
Casualty reinsurance treaties - The Company purchases casualty reinsurance to reduce its exposure to large individual casualty losses, workers’ compensation catastrophe losses and casualty losses involving multiple claimants or insureds. A significant casualty treaty in effect as of January 1, 2015 provides protection for losses from single events with claims from two or more claimants or insureds. This treaty provides protection for losses between $2.5 million and $65 million for casualty business. For losses involving two or more claimants for primary workers’ compensation business, coverage is generally in place for losses between $5 million and $125 million. For excess workers’ compensation business, such coverage is generally in place for losses between $175 million and $245 million.
Following is a summary of earned premiums and loss and loss expenses ceded to reinsurers for each of the three years ended December 31, 2014:
Ceded earned premiums increased 7% in 2014 to $1,031 million. The increase was less than the increase in direct and assumed earned premiums of 9% due primarily to slower growth in assigned risk plan business, which is fully reinsured. The ceded losses and loss expenses ratio decreased 12 points to 46% in 2014 from 58% in 2013.
The following table presents the credit quality of amounts due from reinsurers as of December 31, 2014. Amounts due
(1) S&P rating, or if not rated by S&P, A.M. Best rating.
The estimated payments for reserves for losses and loss expenses in the above table represent the projected (undiscounted) payments for gross loss and loss expense reserves related to losses incurred as of December 31, 2014. The estimated payments in the above table do not consider payments for losses to be incurred in future periods. These amounts include reserves for reported losses and reserves for incurred but not reported losses. Estimated amounts recoverable from reinsurers are not reflected. The estimated payments by year are based on historical loss payment patterns. The actual payments may differ from the estimated amounts due to changes in ultimate loss reserves and in the timing of the settlement of those reserves. In addition, as of December 31, 2014, the Company had commitments to invest up to $242 million in certain investment funds. These amounts are not included in the above table.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of W. R. Berkley Corporation and subsidiaries as of December 31, 2014 and 2013, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2014, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), W. R. Berkley Corporation's internal control over financial reporting as of December 31, 2014, based on criteria established in Internal Control - Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated February 27, 2015 expressed an unqualified opinion on the effectiveness of the Company's internal control over financial reporting.
Audit premiums are recognized when they are reliably determinable. The change in accruals for earned but unbilled audit premiums increased net premiums written and premiums earned by $9 million, $12 million and $7 million in 2014, 2013 and 2012, respectively.
Fair value is defined as “the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.” Fair value of investments is determined based on a fair value hierarchy that prioritizes the use of observable inputs over the use of unobservable inputs and requires the use of observable inputs when available. (See Note 13 of the Notes to Consolidated Financial Statements.)
Property, furniture and equipment are carried at cost less accumulated depreciation. Depreciation is calculated using the estimated useful lives of the respective assets. Depreciation expense was $44 million, $38 million and $38 million for 2014, 2013 and 2012, respectively.
Goodwill and other intangible assets are tested for impairment on an annual basis and at interim periods where circumstances require. The Company's impairment test as of December 31, 2014 indicated that there were no impairment losses related to goodwill and other intangible assets. Intangible assets of $96 million and $72 million are included in other assets as of December 31, 2014 and 2013, respectively.
The following table summarizes the estimated fair value of net assets acquired and liabilities assumed for business combinations completed in 2014 and 2013:
The following table presents the components of the changes in accumulated other comprehensive income (loss) (AOCI) as of and for the year ended December 31, 2013:
The amortized cost and fair value of fixed maturity securities at December 31, 2014, by contractual maturity, are shown below. Actual maturities may differ from contractual maturities because certain issuers may have the right to call or prepay obligations.
At December 31, 2014 and 2013, there were no investments, other than investments in United States government and government agency securities, which exceeded 10% of common stockholders’ equity. At December 31, 2014, investments with a carrying value of $1,151 million were on deposit in custodial or trust accounts, of which $906 million was on deposit with state insurance departments, $188 million was on deposit in support of the Company’s underwriting activities at Lloyd’s, $44 million was on deposit as security for reinsurance clients and $13 million was on deposit as security for letters of credit issued in support of the Company’s reinsurance operations.
At December 31, 2014 and 2013, the fair value and carrying value of the arbitrage trading account were $451 million and $522 million, respectively. The primary focus of the trading account is merger arbitrage. Merger arbitrage is the business of investing in the securities of publicly held companies which are the targets in announced tender offers and mergers. Arbitrage investing differs from other types of investing in its focus on transactions and events believed likely to bring about a change in value over a relatively short time period (usually four months or less). The Company believes that this makes arbitrage investments less vulnerable to changes in general financial market conditions.
Other funds include private equity investments carried on the equity method of accounting, which includes a publicly traded common stock investment in HealthEquity, Inc. (HQY). Our ownership interest in HQY as of December 31, 2014 is 28.1%, with a fair value of $392 million and a carrying value of $45 million.
Loans receivable in non-accrual status as of December 31, 2014 was $14.2 million, primarily resulting from the transfer of such loans to held-for-sale.
The real estate loans are secured by commercial real estate primarily located in Arizona, Illinois, Maryland, New York, North Carolina, Texas and Virginia. These loans generally earn interest at floating LIBOR-based interest rates and have maturities (inclusive of extension options) through August 2025. The commercial loans are with small business owners who have secured the related financing with the assets of the business. These loans generally earn interest on a fixed basis and have varying maturities not exceeding 10 years.
The following table summarizes all securities in an unrealized loss position at December 31, 2014 and 2013 by the length of time those securities have been continuously in an unrealized loss position.
Preferred Stocks - At December 31, 2014, there were six preferred stocks in an unrealized loss position, with an aggregate fair value of $49.8 million and a gross unrealized loss of $4.2 million. Four of these preferred stocks are rated non-investment grade, and none are delinquent. Management believes the unrealized losses are due primarily to market and sector related factors and does not consider these to be OTTI.
Common Stocks - At December 31, 2014, there were two common stocks in an unrealized loss position, with an aggregate fair value of $15.9 million and a gross unrealized loss of $5.5 million. Based on management's view on the underlying securities, the Company does not consider the common stocks to be OTTI.
The following tables present the assets and liabilities measured at fair value on a recurring basis as of December 31, 2014 and 2013 by level:
There were no significant transfers in or out of Level 3 during the years ended December 31, 2014 or 2013.
Claims occurring during the current year are net of loss reserve discounts of $21,306,000, $22,680,000, and $26,078,000 in 2014, 2013 and 2012, respectively.
The decrease in estimates for claims occurring in prior years is net of loss reserve discount. On an undiscounted basis, the estimates for claims occurring in prior years decreased by $116,866,000, $77,430,000 and $100,667,000 in 2014, 2013 and 2012, respectively.
For the year ended December 31, 2014, estimates for claims occurring in prior years (net of additional and return premiums) decreased by $85 million. The favorable reserve development in 2014 was primarily attributable to domestic other liability business for accident years 2006 through 2010, primarily related to excess and surplus lines casualty business. The changes in prior year loss reserve estimates are generally the result of ongoing analysis of recent loss development trends. Original estimates are increased or decreased as additional information becomes known regarding individual claims and aggregate claim trends.
Favorable development in 2013 was primarily attributable to accident years 2006 through 2012 and included favorable development of $39 million for other liability business, $32 million for reinsurance assumed liability business, $22 million for workers’ compensation, $18 million for commercial property and $24 million for other lines of business. The 2013 favorable development was partially offset by unfavorable development of $23 million for commercial automobile business and $14 million for products liability business.
Favorable reserve development in 2012 was primarily attributable to improved claim frequency (i.e., number of reported claims per unit of exposure), especially in the excess and surplus casualty business.
The Company’s net reserves for losses and loss adjustment expenses relating to asbestos and environmental claims was $36 million at December 31, 2014 and 2013. The Company’s gross reserves for losses and loss adjustment expenses relating to asbestos and environmental claims were $56 million and $59 million at December 31, 2014 and 2013, respectively. Increases in net incurred losses and loss expenses for reported asbestos and environmental claims were approximately $4 million, $5
million and $2 million in 2014, 2013 and 2012, respectively. Net paid losses and loss expenses for asbestos and environmental claims were approximately $3 million in 2014, $3 million in 2013 and $2 million in 2012. The estimation of these liabilities is subject to significantly greater than normal variation and uncertainty because it is difficult to make an actuarial estimate of these liabilities due to the absence of a generally accepted actuarial methodology for these exposures and the potential effect of significant unresolved legal matters, including coverage issues, as well as the cost of litigating the legal issues. Additionally, the determination of ultimate damages and the final allocation of such damages to financially responsible parties are highly uncertain.
Discounting - The Company discounts its liabilities for excess and assumed workers’ compensation business because of the long period of time over which losses are paid. Discounting is intended to appropriately match losses and loss expenses to income earned on investment securities supporting the liabilities. The expected losses and loss expense payout pattern subject to discounting was derived from the Company’s loss payout experience. For non-proportional business, reserves for losses and loss expenses have been discounted using risk-free discount rates determined by reference to the U.S. Treasury yield curve. At December 31, 2014, the discount rates by year ranged from 2.0% to 6.5% with a weighted average discount rate of 4.2%. For proportional business, reserves for losses and loss expenses have been discounted at the statutory rate permitted by the Department of Insurance of the State of Delaware of 2%. The aggregate net discount, after reflecting the effects of ceded reinsurance, was $746 million, $837 million and $867 million at December 31, 2014, 2013 and 2012, respectively.
Indebtedness consisted of the following as of December 31, 2014 (the difference between the face value and the carrying value is unamortized discount):
In 2013, the Company issued $350 million aggregate principal amount of 5.625% Subordinated Debentures due April 2053. At December 31, 2014, the carrying value of the debentures, net of unamortized discount, was $340 million.
Income before income taxes from domestic operations was $910 million, $598 million and $624 million for the years ended December 31, 2014, 2013 and 2012, respectively. Income before income taxes from foreign operations was $42 million, $101 million and $78 million for the years ended December 31, 2014, 2013 and 2012, respectively.
The Company’s insurance subsidiaries are restricted by law as to the amount of dividends they may pay without the approval of regulatory authorities. The Company’s lead insurer, Berkley Insurance Company (BIC), directly or indirectly owns all of the Company’s other insurance companies. During 2015, the maximum amount of dividends that can be paid by BIC without such approval is approximately $631 million.
BIC’s net income and statutory capital and surplus, as determined in accordance with statutory accounting practices (SAP), are as follows:
The estimated fair values of the Company’s fixed maturity securities, equity securities available for sale and arbitrage trading account securities are based on various valuation techniques. Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date. Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for similar assets in active markets. Level 3 inputs are unobservable inputs for the asset or liability. Unobservable inputs may only be used to measure fair value to the extent that observable inputs are not available. The fair value of loans receivable are estimated by using current institutional purchaser yield requirements for loans with similar credit characteristics, which is considered a Level 2 input. The fair value of the senior notes, other debt and the subordinated debentures is based on spreads for similar securities, which is considered a Level 2 input.
The Company and its subsidiaries use office space and equipment under leases expiring at various dates. These leases are considered operating leases for financial reporting purposes. Some of these leases have options to extend the length of the leases and contain clauses for cost of living, operating expense and real estate tax adjustments. Future minimum lease payments, without provision for sublease income, are: $41,210,000 in 2015; $36,547,000 in 2016; $32,336,000 in 2017; $27,012,000 in 2018; $23,344,000 in 2019 and $78,517,000 thereafter. Rental expense was $45,198,000, $44,752,000 and $38,179,000 for 2014, 2013 and 2012, respectively.
Pursuant to the stock incentive plan, the Company may issue restricted stock units (RSUs) to employees of the Company and its subsidiaries. The RSUs generally vest three to five years from the award date and are subject to other vesting and forfeiture provisions contained in the award agreement. The following table summarizes RSU information for the three years ended December 31, 2014:
Upon vesting, shares of the Company’s common stock equal to the number of vested RSUs are issued or deferred to a later date, depending on the terms of the specific award agreement. As of December 31, 2014, 3,417,918 RSUs had been deferred. Accordingly, we have not included in the issued and outstanding common stock any shares relating to RSUs that have been granted but remain unvested or to issued RSUs that are vested and have been deferred.
The fair value of RSUs at the date of grant are recorded as unearned compensation, a component of stockholders’ equity, and expensed over the vesting period. Following is a summary of changes in unearned compensation for the three years ended December 31, 2014:
The Company and its subsidiaries have profit sharing plans in which substantially all employees participate. The plans provide for minimum annual contributions of 5% of eligible compensation; contributions above the minimum are discretionary and vary with each participating subsidiary’s profitability. Employees will become eligible to participate in the Plan on the first day of the calendar quarter following the first full calendar quarter after the Employee's date of hire provided the Employee has completed 250 hours of service during the calendar quarter. The plans provide that 40% of the contributions vest immediately and that the remaining 60% vest at varying percentages based upon years of service. Profit sharing expense was $38 million, $34 million, and $31 million in 2014, 2013 and 2012, respectively.
The following table is a summary of the outstanding LTIP awards as of December 31, 2014:
The following table summarizes the LTIP expense for each of the three years ended December 31, 2014:
The Company and its chairman of the board and chief executive officer entered into an unfunded supplemental benefit agreement (SBA) in 2004. On March 28, 2013, the Company agreed to terminate and distribute the retirement benefit of the SBA. As a result, the Company distributed retirement benefits of $0.3 million and $4.6 million in 2013 and 2014, respectively. The final retirement benefit of $59.4 million, which is fully accrued at December 31, 2014, will be distributed during the first quarter of 2015. Net retirement benefit expense was $7,696,000, $13,357,000 and $9,994,000 in 2012, 2013 and 2014, respectively.