Our insurance subsidiaries lease 461,717 square feet of office and warehouse space in numerous cities throughout the United States. All of these leases expire within 7 years. The most significant leased office spaces are located in Birmingham, Alabama and suburban Los Angeles, California. See Note 14 - Commitments and Contingencies of the Notes to Consolidated Financial Statements for further information about leases. We own a 33,515 square foot call center in McAllen, Texas, a 50,900 square foot call center in Tucson, Arizona, and two properties in Birmingham, Alabama - a 116,433 square foot call center and a 62,808 square foot warehouse.
In 2014 our gross written premium grew 1.6%. The majority of this growth came from California and Florida. See Results of Operations - Underwriting - Premium for a more detailed discussion of our gross written premium growth.
Net earnings and diluted earnings per share for the year ended December 31, 2014, were $57.2 million and $4.95, respectively, compared to $32.6 million and $2.80, respectively, for 2013. The increase in diluted earnings per share for the year ended December 31, 2014, was primarily due to an increase in underwriting income with an improvement in the accident year combined ratio from 97.7% at December 31, 2013, to 96.4% at December 31, 2014.
See Results of Operations - Underwriting - Profitability for a more detailed discussion of our underwriting results.
Pre-tax net investment income for the year ended December 31, 2014, was $35.6 million compared to $35.5 million for 2013.
The preparation of financial statements requires management to make estimates and assumptions that can have a significant effect on amounts reported in the financial statements. As more information becomes known, these estimates and assumptions could change and thus impact amounts reported in the future. We believe that the establishment of insurance reserves, the determination of “other-than-temporary” impairment on investments, accruals for litigation and valuation of goodwill are the
areas where the degree of judgment required to determine amounts recorded in the financial statements makes the accounting policies critical.
Paid and incurred frequency and severity methods utilizing paid and incurred claims count development and paid and incurred loss development to predict ultimate average frequency (claims count per policy or auto insured) or ultimate average severity (cost of claim per claim); and
As compared with loss and LAE reserves held at December 31, 2014, our best estimate of reserve ranges using indicated results from utilized estimates of loss and LAE could range from a deficiency of 7% or $46.6 million to a redundancy of 8% or $53.8 million. These ranges do not present a forecast of future redundancy or deficiency since actual development of future losses on current loss reserves may vary materially from those estimated in the year-end 2014 reserve tests. Reserves recorded are our best estimate of the ultimate amounts that will be paid.
As noted above, the highest degree of uncertainty is associated with reserves in the first twelve to eighteen months. The following table displays the accident year combined ratios as developed through December 31, 2014, for the four most recent accident years along with the potential combined ratios based on the low and high outcomes of the loss and LAE tests utilized:
The following table presents a reconciliation of our net liability to the gross liability for unpaid losses and LAE ($ in millions):
The following table summarizes the effect on each calendar year of reserve re-estimates, net of reinsurance, for each of the accident years presented. The total of each column details the amount of reserve re-estimates made in the indicated calendar year and shows the accident years to which the re-estimates are applicable.
Increases in severities in both bodily injury coverage in California and personal injury protection coverage in Florida related to
accident year 2011 were the primary sources of the $16.2 million unfavorable reserve development during the twelve months ended December 31, 2012.
We regularly evaluate our investment portfolio for potential impairment by evaluating each security position that has either of the following: a fair value of less than 95% of our book value or an unrealized loss that equals or exceeds $100,000. Since accurately predicting if or when a specific security will become other-than-temporarily impaired is not possible, total impairment charges could be material to the results of operations in a future period.
The National Association of Insurance Commissioners’ (“NAIC”) model law for risk-based capital (“RBC”) provides formulas to determine the amount of capital that an insurance company needs to ensure that it has an acceptable expectation of not becoming financially impaired. At December 31, 2014, the capital ratios of all our insurance subsidiaries exceeded the RBC requirements.
Agreement. At December 31, 2014, there were no borrowings outstanding under the Credit Agreement.
Our contractual obligations and those of our insurance subsidiaries as of December 31, 2014, were ($ in thousands):
We base the payout pattern for reserves for losses and LAE upon historical payment patterns and they do not represent actual contractual obligations. The timing and amounts ultimately paid will vary from these estimates, as discussed above under “Critical Accounting Policies” and in Note 1- Significant Reporting and Accounting Policies of the Notes to Consolidated Financial Statements.
Our consolidated investment portfolio at December 31, 2014, contained $1.4 billion in fixed maturity securities, $94.4 million in equity securities and $0.8 million of short-term investments, all carried at fair value with unrealized gains and losses reported in accumulated other comprehensive income, a separate component of shareholders' equity on an after-tax basis. At December 31, 2014, we had pre-tax net unrealized gains of $19.4 million on fixed maturities and pre-tax net unrealized gains of $16.5 million on equity securities. Combined, the pre-tax net unrealized gain increased by $10.3 million for the twelve months ended December 31, 2014, as a result of decreases in market interest rates during 2014.
Approximately 91.3% of our fixed maturity portfolio at December 31, 2014, was rated “investment grade” (credit rating of AAA to BBB) by nationally recognized rating agencies. The average credit rating of our fixed maturity portfolio was AA- at December 31, 2014. Investment grade securities generally bear lower yields and lower degrees of risk than those that are unrated or non-investment grade. We believe that a high quality investment portfolio is more likely to generate stable and predictable investment returns.
Our Level 1 securities are U.S. Treasury securities, an exchange-traded fund and equity securities held in a rabbi trust. Our Level 2 securities are comprised of securities whose fair value was determined using observable market inputs. Our Level 3 securities are comprised of (i) securities for which there is no active or inactive market for similar instruments, (ii) securities whose fair value is determined based on unobservable inputs and (iii) securities that nationally recognized statistical rating organizations do not rate.
Further, for all Level 2 securities, we compare the market price from the primary independent third party pricing service that is used to value the security with market prices from recent sales activity or, for those securities with no recent sales activity, with prices from another independent third party pricing service or non-binding broker quotes. This comparison is performed in order to determine if the price obtained from the primary independent pricing service is a reasonable price to use in our financial statements. We made no adjustments to the prices obtained from the primary independent pricing service as a result of
The $4.5 million and $2.8 million balances in receivable for securities sold at December 31, 2014, and December 31, 2013, respectively, represent fixed income securities sold in the normal course of business that had not settled prior to the end of their respective years.
We manage credit risk by diversifying our portfolio to avoid concentrations in any single industry group or issuer and by limiting investments in securities with lower credit ratings. The largest investment in any one fixed income security, excluding U.S. government securities, is $9.1 million or 0.6% of the fixed income investment portfolio. The top five investments in fixed income securities, excluding those issued by the U.S. government, make up 2.4% of the fixed income portfolio. The fair value of non-performing fixed maturities, securities that have not produced their stated rate of investment income during the previous twelve months, was $0.1 million, less than 0.1% of the $1.4 billion fixed portfolio as of December 31, 2014.
The following table presents the credit rating and fair value ($ in thousands) of our fixed maturity portfolio by major security type:
The following table presents the credit rating and fair value of our ABS portfolio at December 31, 2014 by deal origination
The following table presents the fair value of the revenue category of our state and municipal bond portfolio, by state and further classification, at December 31, 2014 ($ in thousands):
The average credit rating of our non-investment grade bonds is BB- and we have none that are rated below B-.
We do not own any investments that are denominated in a currency other than the U.S. dollar.
Equity price risk is the potential economic loss from adverse changes in equity security prices. Our exposure to equity price risk is limited, as our equity investments comprise only 6.2% of our total investment portfolio. At December 31, 2014, the fair value of our equity portfolio was $94.4 million.
Gross written premium in our Classic Collector product grew 8.6% during 2014. This growth was primarily due to growth in renewal business. As we narrow our focus in 2015, we will look for strategic alternatives for our Classic Collector book of business.
despite the decline in policies in force due to a shift in overall business mix toward policies offering broader coverage and higher average premium as well as growth in Florida business, which has a higher average premium per policy than our other states.
During 2013 personal auto insurance gross written premium in our Focus States grew 11.0% when compared with 2012. The increase in gross written premium was primarily due to growth in California and Florida, which grew a combined 14.6% during 2013 as a result of higher average premium and renewal business growth in both states. The growth in California and Florida was partially offset by declines in Texas and Arizona. We raised rates and tightened underwriting restrictions in these states in order to improve profitability.
LAE incurred as a percentage of net earned premium and (ii) underwriting expenses incurred, net of fees, as a percentage of net
The statutory combined ratio for the twelve months ended December 31, 2014, decreased by 2.4 points from the same period of 2013. The twelve months ended December 31, 2014, included $17.4 million of favorable development on prior year loss and LAE reserves compared to $2.9 million of unfavorable development on prior year loss and LAE reserves in 2013. Excluding the effect of development from both periods, the statutory combined ratio decreased by 0.9 points for the twelve months ended December 31, 2014, compared to 2013.
The GAAP combined ratio for the twelve months ended December 31, 2014, decreased by 2.9 points compared to 2013. Excluding the effect of development from both periods, the GAAP combined ratio decreased by 1.3 points for the twelve months ended December 31, 2014, compared to 2013.
The combined ratio in the Focus States decreased by 1.2 points for the twelve months ended December 31, 2014. The decline was primarily due to improvement in the California calendar year loss ratio as a result of favorable development from prior accident year loss and LAE reserves as well as an increase in average earned premium.
The combined ratio in the Other States decreased by 6.4 points for the twelve months ended December 31, 2014, primarily due to the fact that the business in Georgia, Nevada and Pennsylvania is primarily renewal business, which has a lower combined ratio. Earned premium and losses in these states are expected to continue to decline as we focus on renewal business only.
The statutory combined ratio for the twelve months ended December 31, 2013, decreased by 2.2 points from the same period of 2012. The twelve months ended December 31, 2013, included $2.9 million of unfavorable development on prior year loss and LAE reserves compared to $16.2 million of unfavorable development on prior year loss and LAE reserves in 2012. Excluding the effect of development from both periods, the statutory combined ratio decreased by 1.1 points for the twelve months ended December 31, 2013, compared to 2012.
The GAAP combined ratio for the twelve months ended December 31, 2013, decreased by 2.7 points compared to 2012. Excluding the effect of development from both periods, the GAAP combined ratio decreased by 1.6 points for the twelve months ended December 31, 2013, compared to 2012. The GAAP underwriting ratio declined by 1.2 points for the twelve months ended December 31, 2013, as a result of reduced commission rates on new and renewal business, a lower proportion of new business (on which we pay a higher commission rate than renewal business) and a lower ratio of fixed costs to premium as a result of premium growth in 2013.
Losses from catastrophes were $1.8 million for the twelve months ended December 31, 2013, compared to $4.0 million for 2012.
The combined ratio in the Other States decreased by 6.6 points for the twelve months ended December 31, 2013, primarily due to decreases in the loss and LAE ratios in Georgia, Nevada and Pennsylvania. We have raised rates and tightened underwriting restrictions in these states in order to improve their profitability.
Annualized returns declined in 2014 and 2013 due to new money rates that were lower than the book yields of maturing securities. Additionally, new money from operating cash flows was invested at these lower new money rates.
Included in investment income in 2013 was $1.7 million related to a change in estimate for principal prepayments for mortgage-backed securities. In October 2013 we began using a better estimate of expected mortgage principal prepayments. Until then, we had used an estimate that was based on the past three months of actual prepayments. The new estimate takes into consideration current and expected market conditions.
At December 31, 2014, we had $275.0 million of senior notes outstanding. These notes carry a coupon rate of 5.0% and require no principal payment until maturity in September 2022. On October 17, 2012, we fully redeemed the $195.0 million outstanding principal of senior notes (the "5.5% Senior Notes") due 2014 at a price of 106.729%, or $208.1 million plus accrued interest of $1.8 million. (See Note 4 - Long-Term Debt of the Notes to Consolidated Financial Statements for additional information on the Senior Notes).
Other expenses for the twelve months ended December 31, 2013, increased $0.5 million, primarily due to a $0.3 million increase in corporate litigation expense made up of items of a non-recurring nature.
The following table reconciles our U.S. statutory rate and effective tax rate for the periods ended December 31, 2014, 2013 and 2012:
In 2014 our underwriting profits increased as a result of a decrease in our combined ratio. This increase in income resulted in a smaller benefit from both tax exempt interest and the dividends received deduction, which therefore increased the effective tax rate.
on the remaining OTTI balance as of December 31, 2012, and our carryback potential, it was management's belief that it was more likely than not that we would be able to fully utilize the tax deductions related to OTTI that would be recognized in the future. Therefore, the balance in the valuation allowance was released in the fourth quarter of 2012.
Consolidated Statements of Comprehensive Income: Years ended December 31, 2014, 2013 and 2012
Consolidated Statements of Changes in Shareholders’ Equity: Years ended December 31, 2014, 2013 and 2012