The income statement information and related underwriting and other ratios presented below are for our continuing operations. The financial results of the U.K.-produced business are presented as discontinued operations in our consolidated financial statements and are excluded from the income statement information below. The selected balance sheet information also excludes specific assets and liabilities related to our discontinued operations. The assets and
liabilities of the discontinued operations are only included in total assets, total liabilities and total stockholder’s equity. The selected consolidated financial data should be read together with “Management’s Discussion and Analysis of
Financial Condition and Results of Operations” and our consolidated financial statements and the related notes included elsewhere in this Annual Report on Form 10-K.
(1) Gross written premiums (“GWP”) includes business from certain niches that are no longer part of our ongoing business. GWP from exited niches included in “Other” consists of: (i) primary and excess workers’ compensation coverage for Self-Insured Groups; (ii) niches exited prior to 2018, many with a concentration in commercial auto; (iii) participation in industry pools; and (iv) emerging new business. The table below includes GWP for each customer segment for the years ended December 31, 2020, 2019, 2018, 2017 and 2016. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for more information.
(3) Adjusted operating income (loss) is a non-GAAP financial measure. We calculate adjusted operating income as net income, excluding net realized investment gains (losses), impairment of goodwill and expenses relating to various transactions that we consider to be unique and non-recurring in nature (net of estimated tax impact). See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Reconciliation of Non-GAAP Financial Measures” for a reconciliation of net income in accordance with GAAP to adjusted operating income.
(4) The loss and LAE ratio is the ratio, expressed as a percentage, of losses and LAE, allocated and unallocated, to net earned premiums, net of the effects of reinsurance. For the years ended December 31, 2017 and 2016 the Company’s loss reserves developed adversely by $20.3 million and $60.1 million, respectively.
(5) The expense ratio is the ratio, expressed as a percentage, of underwriting, acquisition and insurance expenses to net earned premiums.
(9) Return on equity represents net income expressed on an annualized basis as a percentage of average beginning and ending stockholders’ equity during the period.
(11) For our insurance subsidiaries, the statutory capital and surplus represents the excess of assets over liabilities as determined in accordance with statutory accounting principles as determined by the NAIC.
(a) Exited niches excluding excess workers’ compensation accounted for $27.6 million of total net loss reserves as of December 31, 2020.
This Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the audited consolidated financial statements and the notes thereto included elsewhere in this Annual Report on Form 10-K. Certain restatements have been made to historical information to give effect to the IPO merger, in which ProSight Global Holdings Limited merged with and into the Company, and related transactions. See Note 1 - Background in the notes to the consolidated financial statements included elsewhere in this Annual Report on Form 10-K. This discussion contains forward-looking statements that reflect our plans, estimates and beliefs, and involve risks and uncertainties. Our actual results and the timing of certain events could differ materially from those anticipated in these forward-looking statements as a result of several factors, including those discussed in the section titled “Risk factors” included under Part I, Item 1A and elsewhere in this Annual Report on this Form 10-K. See “Special Note Regarding Forward-Looking Statements.”
● our strategies to continue our growth trajectory, expand our distribution network and maintain underwriting profitability;
● the impact of coronavirus disease 2019 (“COVID-19”) and related economic conditions and governmental actions, including the Company's assessment of the vulnerability of certain categories of investments to the economic disruptions associated with COVID-19;
● our loss expectations and expectation to decrease our loss ratio;
● our expectations with respect to the ultimate financial obligations to the buyers of our United Kingdom (“U.K.”) operations; and
statements contained in this Annual Report. In addition, even if our results of operations, financial condition and cash flows, and the development of the market in which we operate, are consistent with the forward-looking statements contained in this Annual Report, those results or developments may not be indicative of results or developments in subsequent periods. New factors emerge from time to time that may cause our business not to develop as we expect, and it is not possible for us to predict all of them. Factors that could cause actual results and outcomes to differ from those reflected in forward-looking statements include:
● the risk that the parties to the proposed merger may not be able to satisfy the conditions of the proposed merger in a timely manner or at all;
● the outcome of any potential legal proceedings that may be instituted against us;
● the absence of a previous public market for shares of our common stock; and
On January 15, 2021, we announced that we had entered into an agreement and plan of merger (the “Merger Agreement”) with Pedal Parent Inc., a Delaware corporation (“Parent”), owned by affiliates of TowerBrook Capital Partners L.P. and Further Global Capital Management, and Pedal Merger Sub, Inc., pursuant to which, subject to the terms and conditions of the Merger Agreement, Pedal Merger Sub, Inc. would merge with and into the Company (the “proposed merger”), with the Company surviving as a wholly owned subsidiary of Parent. For a further discussion of the proposed merger, see Item 1. “Business” and Note 22. “Subsequent Events” to our consolidated financial statements on this Annual Report.
On July 29, 2019, the Company completed its initial public offering (“IPO”) with the sale of 7,857,145 shares of the Company’s common stock, including the issuance and sale by the Company of 4,285,715 shares of the Company’s common stock and the sale by ProSight Parallel Investment LLC and ProSight Investment LLC (“PI”) (collectively, the “GS Investors”) and ProSight TPG, L.P., TPG PS 1, L.P., TPG PS 2, L.P., TPG PS 3, L.P. and TPG PS 4, L.P. (collectively the “TPG Investors” and together with the GS Investors, the “Principal Stockholders”) of 3,571,430 shares of the Company’s common stock.
The offer and sale of all shares sold in the IPO, including those sold in connection with the underwriters’ exercise of their over-allotment option, were registered pursuant to a registration statement filed on Form S-1, which the Securities and Exchange Commission (“SEC”) declared effective on July 24, 2019. After deducting underwriting discounts and commissions and estimated offering expenses (including expenses related to the offering pursuant to the underwriters’ exercise of their overallotment option), the net proceeds to the Company from the IPO were approximately $50.8 million.
● Average size and premium rate of newly issued and renewed policies; and
We earn insurance premiums on a pro rata basis over the term of the policy. Our insurance policies generally have a term of one year. Net earned premiums represent the earned portion of our GWP, less that portion of our GWP that is earned and ceded to third-party reinsurers under our reinsurance agreements.
Losses and LAE are a function of the amount and type of insurance contracts we write, the loss experience associated with the underlying coverage, and the expenses incurred in the handling of the losses. In general, our losses and LAE are affected by:
● Trends in the average size of losses incurred on a particular type of business;
Underwriting, acquisition and insurance expenses include policy acquisition costs and other underwriting expenses. Policy acquisition costs are principally comprised of the commissions we pay our distribution partners and ceding commissions we receive on business ceded under certain reinsurance contracts, as well as taxes we pay to the states in which we write business, generally based on premium volume. Policy acquisition costs that are directly related to the successful acquisition of those policies are deferred. The amortization of such policy acquisition costs is charged to expense in proportion to premium earned over the policy life. Other underwriting expenses represent the general and administrative expenses of our insurance business including employment costs, telecommunication and technology costs, the costs of our leases, and legal and auditing fees.
In connection with the divestment of our U.K. business, New York Marine as reinsured entered into the whole account quota share reinsurance agreements (the “WAQS”) with third party reinsurers to maintain reasonable underwriting leverage within New York Marine and its subsidiary insurance companies during a transition period following the U.K. divestment. The effective date of the WAQS was April 1, 2017. The reinsurers’ ceding participation is an aggregate 26.0%. A provisional ceding commission of 30.0% to 30.5% is received as a reduction in the amount of ceded premium. Subject to limits, these ceding commissions will vary in subsequent periods based on contractual ultimate loss ratios. During 2018 and following the transition of the U.S. business back to New York Marine, the WAQS were terminated. Previously ceded written and unearned premium, net of the ceding commission, was reversed. Loss reserves on premium earned prior to the cut-off termination remain ceded loss reserves. There were no ceded loss reserves under the WAQS as of December 31, 2020 and $33.1 million as of December 31, 2019. Loss reserve development on the reserves ceded under the WAQS is included in continuing operations.
The effect of the WAQS on our results of operations is primarily reflected in our ceded written premiums, losses and LAE, as well as our underwriting, acquisition and insurance expenses. For the year ended December 31, 2020 there was no impact of WAQS on underwriting results or ratios.
(3) Adjusted loss and LAE ratio, adjusted expense ratio and adjusted combined ratio are non-GAAP financial measures. We define adjusted loss and LAE ratio, adjusted expense ratio and adjusted combined ratio as the corresponding ratio excluding the effects of the WAQS. We use these adjusted ratios as internal performance measures in the management of our operations because we believe they give our management and other users of our financial information useful insight into our results of operations and our underlying business performance. Our adjusted loss and LAE ratio, adjusted expense ratio and adjusted combined ratio should not be viewed as substitutes for our loss and LAE ratio, expense ratio and combined ratio, respectively.
(1) Underwriting (loss) income, adjusted operating income and adjusted operating return on equity are non-GAAP financial measures. See “Reconciliation of Non-GAAP Financial Measures” for reconciliations of net income in accordance with GAAP to underwriting (loss) income and adjusted operating income.
Net income from continuing operations was $27.8 million for the year ended December 31, 2020 compared to $45.5 million for the year ended December 31, 2019, a decrease of $17.7 million, or 39.0%. The decrease in net income from continuing operations is driven by a reduction in net earned premium due to the contraction of gross written premium and reduced insured exposures resulting from the economic downturn caused by the COVID-19 pandemic, combined with a higher net loss ratio due to catastrophe losses in the third quarter.
GWP were $817.1 million for the year ended December 31, 2020 compared to $968.0 million for the year ended December 31, 2019, a decrease of $150.9 million, or 15.6%.
● Transportation GWP decreased by 42.4% to $64.6 million for the year ended December 31, 2020 compared to $112.2 million for the year ended December 31, 2019. The premium contraction is primarily driven by reduced insured exposures and new business opportunities of $22.7 million in Taxis, $17.0 million in School Bus, and $16.7 million in Charter Bus due to the COVID-19 pandemic.
● Media and Entertainment GWP decreased by 28.9% to $88.8 million for the year ended December 31, 2020 compared to $124.9 million for the year ended December 31, 2019. The premium contraction is driven by $11.2 million of exposure reductions, $9.2 million of declines in renewal business and $6.5 million of reduced new business opportunities in the Live Entertainment and Film niches primarily due to regulatory restrictions and mandatory social distancing resulting from COVID-19.
● Marine and Energy GWP increased by 16.4% to $110.2 million for the year ended December 31, 2020 compared to $94.7 million for the year ended December 31, 2019. The premium growth is driven by $26.0 million of increased new business, primarily in the Propane & Fuel Dealers niche.
● Professional Services GWP increased by 9.7% to $130.9 million for the year ended December 31, 2020 compared to $119.3 million for the year ended December 31, 2019. The premium growth is driven by $11.6 million of increased renewal business in the Credit Unions and Custom Brokers niches.
Net written premiums decreased by $158.0 million, or 18.5%, to $694.2 million for the year ended December 31, 2020 from $852.1 million for the year ended December 31, 2019. The decrease in net written premiums was due to a
reduction in gross written premiums due to the economic downturn from the COVID-19 pandemic as well as the exit of monoline workers’ compensation.
Net earned premiums decreased by $70.1 million, or 8.7%, to $737.8 million for the year ended December 31, 2020 from $807.9 million for the year ended December 31, 2019. The decrease in net earned premiums directly related to contraction of net written premiums.
Our loss and LAE ratio was 64.1% for the year ended December 31, 2020 compared to 62.0% for the year ended December 31, 2019. During the year ended December 31, 2020 the Company’s reserve for unpaid losses and loss adjustment expenses for accident years 2019 and prior developed unfavorably by $0.7 million driven by unfavorable development of $21.8 million in General Liability, $16.8 million unfavorable development in Commercial Multiple Peril and $8.1 million unfavorable development in Commercial Auto, partially offset by $36.5 million of favorable development in Workers’ Compensation and $9.5 million of favorable development in All Other lines. In addition, the Company incurred $15.2 million of losses and loss adjustment expenses related to premium adjustments earned during the year ended December 31, 2020, attributable to accident years 2019 and 2018. The unfavorable development in General Liability, Commercial Multiple Peril and Commercial Auto related to 2013 through 2017 accident years due largely to increased severities in runoff components. The favorable development in Workers’ Compensation derived from lower than expected claims severity across all customer segments primarily in accident years 2015 through 2018. The favorable development in All Other lines was driven mostly by Ocean Marine.
The following tables summarize the effect of the factors indicated above on the loss and LAE ratios and adjusted loss and LAE ratios for the years ended December 31, 2020 and 2019:
The following table presents the loss and LAE ratio before and after the effects of reinsurance, for the years ended December 31, 2020 and 2019:
Our expense ratio was 37.0% for the year ended December 31, 2020 compared to 36.0% for the year ended December 31, 2019. This increase is driven by contraction of net earned premium due to the impact of the economic downturn from the COVID-19 pandemic on GWP.
Our combined ratio was 101.1% for the year ended December 31, 2020 compared to 98.0% for the year ended December 31, 2019. Our adjusted combined ratio was 101.1% for the year ended December 31, 2020 compared to 98.0% for the year ended December 31, 2019.
Our net investment income increased by 6.0% to $73.0 million for the year ended December 31, 2020 from $68.9 million for the year ended December 31, 2019. Our average invested assets increased 11.6% from $2.0 billion for the year ended December 31, 2019, to $2.2 billion for the year ended December 31, 2020. Net investment yield decreased by 0.1 percentage points, to 3.3% as of December 31, 2020 compared to 3.4% as of December 31, 2019. Gross investment income increased by $5.3 million to $76.5 million for the year ended December 31, 2020 compared to $71.2 million for the year ended December 31, 2019.
Realized investment gains, net increased by $4.2 million due to non-recurring realized gains on the sale of certain securities as part of the repositioning of the investment portfolio, calls, and corporate actions during a favorable price environment for the year ended December 31, 2020.
The following table summarizes the components of net investment income and realized investment gains, net for the years ended December 31, 2020 and 2019:
The weighted average duration of our fixed income portfolio, including cash equivalents, was 4.8 years at December 31, 2020 and 3.4 years at December 31, 2019.
On March 27, 2020, the President of the United States signed into law the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”). The CARES Act, among other things, includes certain income tax provisions for individuals and corporations; however, these benefits do not impact the Company’s current tax provision.
We are organized as a holding company with our operations primarily conducted by our wholly owned insurance subsidiaries, New York Marine and Gotham, which are domiciled in New York, and Southwest Marine, which is domiciled in Arizona. Accordingly, the holding company may receive cash through: (i) loans from banks; (ii) draws on a revolving loan agreement; (iii) issuance of equity and debt securities; (iv) corporate service fees from our operating subsidiaries; (v) payments from our subsidiaries pursuant to our consolidated tax allocation agreement and other transactions; and (vi) subject to certain limitations discussed below, dividends from our insurance subsidiaries. We also may use the proceeds from these sources to contribute funds to the insurance subsidiaries in order to support premium growth, reduce our reliance on reinsurance, and pay dividends and taxes and for other business purposes.
Our $140.0 million aggregate principal amount of 7.5% Senior Unsecured Notes and $25.0 million aggregate principal amount of 6.5% Senior Notes (collectively, the “Notes”) matured in November 2020. In June 2020, we entered into a credit agreement (the “Credit Agreement”) with certain lenders and Truist Bank, N.A., as administrative agent (“Truist”), providing for a $165.0 million delayed draw term loan facility (the “Term Loan Facility”). The Company used the Term Loan Facility proceeds to repay $165.0 million in complete satisfaction of the outstanding debt under the Notes. (see “- Credit Agreement” and “-Senior Debt).
The most significant source of cash for our operating subsidiaries is from premiums received from our insureds, which, for most policies, we receive at the beginning of the coverage period, and net of the related commission amount for the policies. Our most significant cash outflow is for claims that arise when a policyholder incurs an insured loss. We also use cash to pay for operating expenses such as salaries, rent and taxes and capital expenditures such as technology systems. Because the payment of claims occurs well after the receipt of the premium, we invest the cash in various investment securities that generally earn interest and dividends. The operating subsidiaries’ investment portfolios represent an additional source of liquidity that could be accessed if needed. As described under “-Reinsurance” below, we use reinsurance to manage the risk that we take on our policies. We cede, or pay out, part of the premiums we receive to our reinsurers and collect cash back when losses subject to our reinsurance coverage are paid.
Our cash flows for the years ended December 31, 2020, 2019 and 2018 were:
On June 12, 2020 (the “Effective Date”), we entered into a credit agreement (the “Credit Agreement”) with certain lenders and Truist Bank, N.A., as administrative agent (“Truist”), providing for a $165.0 million delayed draw term loan facility (the “Term Loan Facility”). Borrowings under the Term Loan Facility were used to refinance the Notes at maturity. The Credit Agreement includes a letter of credit sub-limit of up to $5.0 million and a swingline loan sub-limit of up to $5.0 million. Further, the Credit Agreement provided for an uncommitted revolving loan facility (the “Revolving Credit Facility”) in an initial aggregate amount of $35.0 million, which subsequently became committed and increased to an aggregate of $65.0 million pursuant to the Incremental Agreement (defined below). At our option, borrowings under the Term Loan Facility and the Revolving Credit Facility would be (i) a “Base Rate Borrowing” which would bear interest at the Base Rate (as defined below) plus the Applicable Margin (as described below), or (ii) an “Eurodollar Borrowing” which would bear interest at the Adjusted LIBO Rate (defined as reserve-adjusted LIBOR, subject to a floor of 0.75%), for periods of one, two, three or six months, plus the Applicable Margin. The Base Rate is the highest of (a) the rate of interest announced publicly by Truist as its prime lending rate, (b) 0.5% above the federal funds rate, (c) the Adjusted LIBO Rate determined on a daily basis for a one-month period (subject to a floor of 0.75%) plus 1.00%, and (d) zero percent. The Applicable Margin for a Eurodollar Borrowing will range from 2.00% to 3.25% per annum based upon ProSight’s Debt to Capitalization Ratio (as defined in the Credit Agreement) in effect on such date. The initial Applicable Margin for Base Rate Borrowings is 100 basis points lower than the Applicable Margin for Eurodollar Borrowings. The Applicable Margin at the Effective date for Eurodollar Borrowings was 3.00% and this rate was in effect as of the date of filing of this Annual Report. Following such date, the Applicable Margin will be determined as set forth above.
Credit Facility as of the filing date of this Annual Report. Following such date, the commitment fee will be determined as set forth above.
As a condition precedent to entry into the Credit Agreement, we terminated our amended and restated revolving loan agreement, dated as of March 15, 2019, with Citizens Bank, N.A. (“Citizens”), which had previously provided for a $50.0 million revolving credit facility. No amounts were outstanding under this facility at termination.
On June 30, 2020, we entered into an incremental facility agreement and amendment (the “Incremental Agreement”) with certain lenders and Truist as administrative agent. The Incremental Agreement supplemented the Credit Agreement by obtaining from lenders commitments with respect to the Revolving Credit Facility provided for under the Credit Agreement, and increasing the Revolving Credit Facility from $35.0 million as stated in the Credit Agreement to an aggregate amount of $65.0 million.
The Revolving Credit Facility may be used for general corporate purposes, including, without limitation, to support business growth and to provide additional liquidity if needed. On July 14, 2020, the Company drew down $5.0 million on the Revolving Credit Facility and on August 3, 2020, the Company drew down an additional $30.0 million, primarily to make capital contributions to its insurance subsidiaries. On November 25,2020, the Company drew down an additional $7.0 million on the Revolving Credit Facility, primarily to make interest payments on its Senior Unsecured Notes due November 2020 and for additional liquidity needs. As of the date of this filing, there is $42.0 million outstanding under the Revolving Credit Facility.
In November 2013, ProSight issued $140.0 million of 7.5% Senior Unsecured Notes due November 2020 and in January 2015, issued an additional $25.0 million of 6.5% Senior Notes due November 2020. The notes provided for semi-annual interest payments and matured on November 26, 2020. The Note Purchase Agreements required us, upon the occurrence of certain change of control events that result in a downgrade of the ratings assigned to the notes, to offer to each holder to prepay such holder’s notes at a price equal to 100% of the principal amount thereof plus any accrued interest. The Note Purchase Agreements also included certain covenants that restrict our ability to incur indebtedness, make restricted payments, incur liens, and require that we maintain specified liquidity levels.
Interest payments of $12.1 million per annum were made on these Senior Unsecured Notes in each of the years ended December 31, 2020, 2019 and 2018.
We actively use ceded reinsurance across our book of business to reduce our overall risk position and to protect our capital. Reinsurance involves a primary insurance company transferring, or “ceding”, a portion of its premium and losses in order to limit its exposure. The ceding of liability to a reinsurer does not relieve the obligation of the primary insurance to the policyholder. The primary insurer remains liable for the entire loss if the reinsurer fails to meet its obligations under the reinsurance agreement. Our reinsurance agreements are primarily contracted under excess of loss agreements. In excess of loss reinsurance, the reinsurer agrees to assume all or a portion of the ceding company’s losses, in excess of a specified amount. In excess of loss reinsurance, the premium payable to the reinsurer is negotiated by the parties based on their assessment of the amount of risk being ceded to the reinsurer because the reinsurer does not share proportionately in the ceding company’s losses.
The following is a summary of our significant in-force excess of loss reinsurance programs as of December 31, 2020:
ProSight and its insurance subsidiaries have a financial strength rating of “A-” (Excellent) from A.M. Best. A.M. Best assigns 16 ratings to insurance companies, which currently range from “A++” (Superior) to “F” (In Liquidation). The “A-” (Excellent) rating is assigned to insurers that have, in A.M. Best’s opinion, an excellent ability to meet their ongoing obligations to policyholders. This rating is intended to provide an independent opinion of an insurer’s ability to meet its obligation to policyholders and is not an evaluation directed at investors. See also “Risk Factors-Risks Related to Our Business-A downgrade in our Financial Strength Ratings (“FSRs”) from A.M. Best could negatively affect our results of operations.”
The financial strength ratings assigned by A.M. Best have an impact on the ability of the insurance subsidiaries to attract and retain our distribution partners and on the risk profiles of the submissions for insurance that the insurance subsidiaries receive. The “A-” (Excellent) rating affirmed by A.M. Best on December 17, 2020 is consistent with our business plan and allows us to actively pursue relationships with the distribution partners identified in our marketing plan.
(2) Amounts represent anticipated cash interest payments and commitment fees related to the Company’s senior debt and credit agreements.
(3) Amounts represent the principal balance and are not necessarily the carrying value of the Company’s debt on the balance sheet, which includes unamortized issuance costs.
(4) Amounts represent anticipated cash interest payments related to the Company’s secured loan payable.
At December 31, 2020, total stockholders’ equity was $624.0 million and tangible stockholders’ equity was $606.7 million compared to total stockholders’ equity of $543.0 million and tangible stockholders’ equity of $513.8 million at December 31, 2019. The increase in both total and tangible stockholders’ equity was primarily due to net income of $22.2 million and net increase in accumulated other comprehensive income of $51.7 million for the year ended December 31, 2020.
Tangible stockholders’ equity is a non-GAAP financial measure. We define tangible stockholders’ equity as stockholders’ equity less goodwill and net intangible assets. Our definition of tangible stockholders’ equity may not be comparable to that of other companies, and it should not be viewed as a substitute for stockholders’ equity calculated in accordance with GAAP. We use tangible stockholders’ equity internally to evaluate the strength of our balance sheet and to compare returns relative to this measure.
Stockholders’ equity at December 31, 2020, 2019 and 2018, reconciles to tangible stockholders’ equity as follows:
On July 24, 2019, the 2019 Plan became effective immediately prior to the effectiveness of the registration statement filed in connection with the IPO. The 2019 Plan provides for the grant of stock options, stock appreciation rights, restricted share awards (“RSAs”), RSUs, dividend equivalent rights, performance-based shares, performance-vesting share awards (“PSAs”) or other equity-based or equity-related awards.
On July 24, 2019, the 2019 Employee Stock Purchase Plan (the “2019 ESPP”) became effective immediately prior to the effectiveness of the registration statement filed in connection with the IPO. A total of 1,000,000 shares of the Company’s common stock are reserved and available for sale under the 2019 ESPP.
We did not declare any dividends in the years ended December 31, 2020, 2019 and 2018.
At December 31, 2020, the majority of the portfolio, or $2.2 billion, was comprised of securities that are classified as available-for-sale and carried at fair value with unrealized gains and losses on these securities, net of applicable taxes, reported as a separate component of accumulated other comprehensive income. Also included in our investments were $348.3 million of alternative investments carried at fair value. Our securities, including cash equivalents, had a weighted average duration of 4.8 years and an average rating of “A” at December 31, 2020.
At December 31, 2020 and 2019, the amortized cost and fair value on fixed-maturity securities were as follows:
The amortized cost and fair value of our available-for-sale investments in fixed maturity securities presented by contractual maturity as of December 31, 2020 and 2019, were as follows:
The fair value of our restricted assets was $489.8 million at December 31, 2020. This includes $76.9 million of funds in trust for the mutual benefit of our insurance companies due to participation in our intercompany pooling agreement. Restricted investments decreased 15.2%, or $88.1 million, when compared to December 31, 2019 primarily due to the closure of three collateral trust accounts in the third and fourth quarter, offset by an increase in reinsurance collateral and state deposits, and market appreciation from fixed maturity securities during the year.
We do not have any material off-balance sheet arrangements as of December 31, 2020.
Net income from continuing operations for the years ended December 31, 2020, 2019 and 2018, reconciles to underwriting (loss) income as follows:
Adjusted operating income is a non-GAAP financial measure that we use as an internal performance measure in the management of our operations because we believe it gives our management and other users of our financial information useful insight into our results of operations and underlying business performance, by excluding items that are not part of our underlying profitability drivers or likely to re-occur in the foreseeable future. Adjusted operating income should not be considered in isolation or viewed as a substitute for our net income calculated in accordance with GAAP. Other companies may calculate adjusted operating income differently.
Net income from continuing operations for the years ended December 31, 2020, 2019 and 2018, reconciles to adjusted operating income as follows:
Our IBNR reserves are developed in accordance with Actuarial Standards of Practice promulgated by the American Academy of Actuaries. Our reserve review utilizes several accepted loss reserving methods to arrive at our best estimate of loss reserves. We give consideration to the relative strengths and weaknesses of each of the methods in deriving our actuarial best estimate of the liabilities. Where we have limited years of loss experience compared to the period over which we expect losses to be reported, we use industry and/or peer-group data in addition to our own data as a basis for selecting the parameters underlying our reserving methods. We monitor loss emergence monthly. We carefully consider other internal or external factors such as underwriting, claims handling, economic, or environmental changes that could adversely affect the accuracy of the assumptions underlying our standard actuarial methods and when necessary we will adjust these assumptions, methods, and/or procedures to ensure that they appropriately reflect these changing conditions. The average duration of loss reserves is 5.6 years, as of December 31, 2020.
Our Reserve Committee includes our Chief Actuary, Chief Executive Officer, Chief Financial Officer, Chief Underwriting and Risk Officer, and Chief Claims Officer. The Reserve Committee meets quarterly to review the actuarial reserving recommendations made by the Chief Actuary. In establishing the actuarial recommendation for the reserves for losses and LAE, our actuary’s estimate of the current Initial Expected Loss Ratio (“IELR”) is derived from the pricing IELR at the niche level, policy year, and reserving group. Our reserve estimate is derived from our proprietary reserving
model that calculates a point estimate for our ultimate losses. Although we believe that our assumptions and methodology are reasonable, our ultimate payments may vary, potentially materially, from the estimates we have made.
The table below quantifies the impact of potential reserve deviations from our carried reserve at December 31, 2020. We applied sensitivity factors to incurred losses for the three most recent accident years and to the carried reserve for all prior accident years combined. In the selection of the volatility factors, we have considered the potential impact of changes in current loss trends, pricing trends, and other actuarial reserving assumptions. The aggregate development depicted in the sensitivity analysis is consistent with the average development in recent calendar periods and a reasonable depiction of the potential volatility of the reserve estimates for the current calendar period. We believe that potential changes such as these would not have a material impact on our liquidity.
During the year ended December 31, 2020 the Company’s reserve for unpaid losses and loss adjustment expenses for accident years 2019 and prior developed unfavorably by $0.7 million driven by unfavorable development of $21.8 million in General Liability, $16.8 million unfavorable development in Commercial Multiple Peril and $8.1 million unfavorable development in Commercial Auto, partially offset by $36.5 million of favorable development in Workers’ Compensation and $9.5 million of favorable development in All Other lines. In addition, the Company incurred $15.2 million of losses and loss adjustment expenses related to premium adjustments earned during the year ended December 31, 2020, attributable to accident years 2019 and 2018. The unfavorable development in General Liability, Commercial Multiple Peril and Commercial Auto related to 2013 through 2017 accident years due largely to increased severities in runoff components. The favorable development in Workers’ Compensation derived from lower than expected claims severity across all customer segments primarily in accident years 2015 through 2018. The favorable development in All Other lines was driven mostly by Ocean Marine.
During the year ended December 31, 2018, our reserve for unpaid losses and loss adjustment expenses for accident years 2017 and prior developed favorably by $5.0 million. Favorable development of  $5.0 million for the year ended December 31, 2018, was driven primarily by favorable development of  $14.4 million in Workers’ Compensation, $15.6 million in Commercial Auto and $4.1 million from Marine Liability within the All Other Lines category, partially offset by $16.5 million adverse development in General Liability and $12.2 million adverse development in Commercial Multiple Peril. Lower than expected claim severity was the main driver of the favorable development in Workers’ Compensation of which $6.2 million came from 2014, 2015 and 2016 accident years in primary Workers’ Compensation and $8.2 million came from 2014 and 2015 accident years in excess Workers’ Compensation. Favorable development in Commercial Auto was driven mainly by the 2013, 2015 and 2016 accident years where severity trends of the previous two calendar year periods improved during 2018 across multiple niches. Marine Liability is a low frequency, high severity line of business and as a result, development often varies significantly from the average expectation. The $16.5 million adverse development in General Liability primarily related to 2013, 2014 and 2015 accident years due to increased severities in the Construction customer segment from reduced effectiveness of risk transfer from our general contractor insureds to subcontractors. The $12.2 million in adverse development in Commercial Multiple Peril is primarily from the Media and Entertainment customer segment driven by a longer development trend than that underlying the historic performance of premises liability.
We record deferred income taxes as assets or liabilities on our balance sheet to reflect the net tax effect of the temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and their respective tax bases. Deferred tax assets and liabilities are measured by applying enacted tax rates in effect for the years in which such differences are expected to reverse. Our deferred tax assets result from temporary differences primarily attributable to loss reserves, unearned premium reserves and net adjusted operating losses from prior periods. Our deferred tax liabilities result primarily from unrealized gains in the investment portfolio and deferred acquisition costs. We review the need for a valuation allowance related to our deferred tax assets each quarter. We reduce our deferred tax assets by a valuation allowance when we determine that it is more likely than not that some portion or all of the deferred tax assets will not be realized. The assessment of whether or not a valuation allowance is needed requires us to use significant judgment. See Note 12 Income Taxes in Item 8. Financial Statements and Supplementary Data on this Annual Report on Form 10-K for further discussion regarding our deferred tax assets and liabilities.
On December 22, 2017, the President of the United States signed into law the TCJA, which significantly changed U.S. tax law by, among other things, lowering corporate income tax rates from 35% to 21%.
The SEC staff issued Staff Accounting Bulletin No. 118 (“SAB 118”) to address the application of U.S. GAAP in situations when a registrant does not have the necessary information available, prepared, or analyzed (including computations) in reasonable detail to complete the accounting for certain income tax effects of the TCJA. The Company has recognized a tax impact of $6.1 million related to the transition adjustment for loss discounting which has been included in its components of deferred tax assets and liabilities as part of its consolidated financial statements for the year ended December 31, 2020. The ultimate impact may differ from these provisional amounts due to, among other things, additional analysis, changes in interpretations and assumptions the Company has made, additional regulatory guidance that may be issued, and actions the Company may take as a result of the TCJA. The accounting is expected to be complete when the U.S. Treasury issues further guidance.
We have audited the accompanying consolidated balance sheets of ProSight Global, Inc. and Subsidiaries (the Company) as of December 31, 2020 and 2019, the related consolidated statements of operations, comprehensive income (loss), stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2020, and the related notes and financial statement schedules listed in the Index at Item 15 (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2020, in conformity with U.S. generally accepted accounting principles.
As a result of the IPO merger, the assets and liabilities of the Company include, effective July 25, 2019, the assets and liabilities of PGHL. In addition, on July 24, 2019, in connection with the IPO merger, the Company’s duly adopted amended and restated certificate of incorporation (the “Certificate of Incorporation”) became effective, providing for, among other things, the authorization of 200,000,000 shares of common stock and 50,000,000 shares of preferred stock. The consolidated financial statements, related notes and schedules have been restated for all historical periods prior to and including June 30, 2019, presented to give effect to the IPO merger and related conversion of shares, including reclassifying an amount equal to the change in value of common stock to additional paid-in capital, as well as the effectiveness of the Certificate of Incorporation.
Prior to the IPO merger, PGHL’s subsidiaries ProSight Specialty International Holdings Limited (“PSIH”) and ProSight Specialty European Holdings Limited (“PSEH”) were merged with and into ProSight Global, Inc., effective February 5, 2019. Additionally, effective February 5, 2019, PSBL became a wholly-owned subsidiary of the Company. Prior to February 5, 2019, PSBL was a wholly-owned subsidiary of PSEH.
On July 29, 2019, the Company completed its IPO with the sale of 7,857,145 shares of the Company’s common stock, including the issuance and sale by the Company of 4,285,715 shares of the Company’s common stock and the sale
by PI and PPI (collectively, the “GS Investors”) and PT, TPG PS 1, L.P., TPG PS 2, L.P., TPG PS 3, L.P. and TPG PS 4, L.P. (collectively the “TPG Investors” and together with the GS Investors, the “Principal Stockholders”) of 3,571,430 shares of the Company’s common stock.
The accompanying consolidated financial statements have been prepared in conformity with U.S. generally accepted accounting principles (“GAAP”).
Fixed maturity securities may include U.S. treasury securities, government agency securities, municipal debt obligations, residential mortgage backed securities (“RMBS”), commercial mortgage backed securities (“CMBS”), collateralized loan obligations (“CLO”), asset backed securities (“ABS”) and corporate debt securities.
Fixed maturity securities categorized as available-for-sale (“AFS”) are reported at estimated fair value and include those fixed income investments where the Company’s intent to carry such investments to maturity may be affected in future periods by changes in market interest rates, tax position or credit quality. Unrealized gains and losses, net of related deferred income taxes, on AFS securities are reflected in accumulated other comprehensive income (loss) (“AOCI”) in stockholders’ equity.
Non-redeemable preferred stock securities with readily determinable fair values are recorded at fair value. Changes in fair value of such investments are recorded in the consolidated statements of operations within net investment income.
Premiums are reflected in income on a monthly pro rata basis over the terms of the respective policies. Accordingly, unearned premium reserves are established for the portion of premiums written applicable to unexpired policies in force. The allowance for credit loss for premium receivable is an assessment of ultimate non-collectability based on historical experience applicable to the respective current collection action status, age of the amount outstanding and expected collection costs.
The Company maintains a reinsurance receivable allowance for credit losses based on sources of credit ratings of reinsurers and applies probabilities of default and loss given default to the total uncollateralized exposure including incurred but not reported (“IBNR”) by rating class.
Property, equipment, and leasehold improvements are depreciated over their estimated useful lives, which are approximately three to seven years. Costs incurred in developing or obtaining software are capitalized and depreciated on a straight-line basis over their estimated useful lives, which are approximately three to seven years.
Other depreciable assets, primarily leasehold improvements, as of December 31, 2020 and 2019, had unamortized balances of $2.4 million and $3.3 million, respectively. The Company recorded depreciation expense of $1.1 million and $1.2 million and $1.5 million, for the years ended 2020, 2019 and 2018, respectively.
The Company provides deferred income taxes on temporary differences between the financial reporting basis and the tax basis of the Company’s assets and liabilities based upon enacted tax rates. The effect of a change in tax rates is recognized in income in the period of change. The Company provides for a valuation allowance on certain deferred tax assets primarily as a result of the uncertainty that the Company can fully utilize all deferred taxes that arose from net operating losses (“NOLs”) incurred. This uncertainty stems from issues relating to the current economic conditions and limitations on the period that such losses can be carried forward prior to expiring. To the extent the Company generates future operating income to offset these losses, it may recover some or the entire amount of the deferred income taxes associated with temporary differences.
On December 22, 2017, the Tax Cuts and Jobs Act (“Tax Reform”) was enacted which reduced the corporate tax rate from 35% to 21% effective January 1, 2018. This resulted in a re-measurement of the Company’s net deferred taxes
● Paid Development Method: a paid loss development pattern is calculated based on historical paid loss development data, and this pattern is then used to project the latest evaluation of cumulative paid losses for each accident year or underwriting year, as appropriate, to ultimate levels;
● Bornhuetter-Ferguson Method: the results from the Expected Loss Ratio Method are essentially blended with either the Reported Loss Development Method or the Paid Development Method.
Entities are required to measure compensation cost for awards of equity instruments to employees based on the grant-date fair value of those awards and recognize compensation expense over the service period that the awards are expected to vest. The Company records compensation costs on a straight-line basis over the vesting period of all awards except when an award requires accelerated recognition. The Company does not apply a forfeiture rate to unvested awards and accounts for forfeitures as they occur. Stock-based compensation expense related to long-term incentive awards and director restricted stock units (“RSUs”) are included in general and administrative expenses in the Company’s consolidated statements of operations. Stock-based compensation expense related to supplemental RSUs and founders grant awards are included in other expenses in the Company’s consolidated statements of operations.
Finite-lived intangible assets are amortized over their estimated useful lives. Indefinite-lived other intangible assets are tested for impairment annually, in the fourth quarter, or when certain triggering events require such tests.
All share and per share amounts in the financial statements, related notes and schedules have been restated for all historical periods prior to and including June 30, 2019, presented to give effect to the merger and related conversion of shares, including reclassifying an amount equal to the change in value of common stock to additional paid-in capital, as well as the effectiveness of the Certificate of Incorporation.
In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-02, Leases (“ASU 2016-02”) to improve the financial reporting of leasing transactions. Under this ASU, lessees will recognize a right-of-use asset and corresponding liability on the balance sheet for all leases, except for leases covering a period of fewer than 12 months. The liability is to be measured as the present value of the future minimum lease payments taking into account renewal options, if applicable, plus initial incremental direct costs such as commissions. The minimum payments are discounted using the rate implicit in the lease or, if not known, the lessee’s incremental borrowing rate. The lessee’s income statement treatment for leases will vary depending on the nature of the lease. A financing type lease is present when, among other matters, the asset is being leased for a substantial portion of its economic life or has an end-of-term title transfer or a bargain purchase option as in today’s practice. The payment of the liability set up for such leases will be apportioned between interest and principal; the right-of use asset will be generally amortized on a straight-line basis. If the lease does not qualify as a financing type lease, it will be accounted for on the income statement as rent on a straight-line basis. ASU 2016-02 requires the application of a modified retrospective approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements.
In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses, Measurement of Credit Losses on Financial Instruments (“ASU 2016-13”). ASU 2016-13 will change the way entities recognize impairment of financial assets by requiring immediate recognition of estimated credit losses expected to occur over the remaining life of many financial assets, including, among others, held-to-maturity debt securities, trade receivables, and reinsurance receivables. ASU 2016-13 requires a valuation allowance to be calculated on these financial assets and that they be presented on the financial statements net of the valuation allowance. The valuation allowance is a measurement of expected losses that is based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. This methodology is referred to as the current expected credit loss model. The Company adopted ASU 2016-13 in the first quarter of 2020 using a modified retrospective approach. As of January 1, 2020, the Company’s adoption of this guidance did not have a material impact on the Company’s retained earnings.
In December 2019, the FASB issued ASU 2019-12, Income Taxes - Simplifying the Accounting for Income Taxes (“ASU 2019-12”). Among other items, the amendments in ASU 2019-12 simplify the accounting treatment of tax law changes and year-to-date losses in interim periods. An entity generally recognizes the effects of a change in tax law in the period of enactment; however, there is an exception for tax laws with delayed effective dates. Under current guidance, an entity may not adjust its annual effective tax rate for a tax law change until the period in which the law is effective. This exception was removed under ASU 2019-12, thereby providing that all effects of a tax law change are recognized in the period of enactment, including adjustment of the estimated annual effective tax rate. Regarding year-to-date losses in interim periods, an entity is required to estimate its annual effective tax rate for the full fiscal year at the end of each interim period and use that rate to calculate its income taxes on a year-to-date basis. However, current guidance provides an exception that when a loss in an interim period exceeds the anticipate loss for the year, the income tax benefit is limited to the amount that would be recognized if the year-to-date loss were the anticipated loss for the full year. ASU 2019-12 removes this exception and provides that in this situation, an entity would compute its income tax benefit at each interim period based on its estimated annual effective tax rate. ASU 2019-12 is effective for public entities for annual periods beginning after December 15, 2020, including interim periods within those annual periods, with early adoption permitted. For the Company, ASU 2019-12 is effective for annual periods beginning after December 15, 2021 and interim periods
Intangible assets acquired include the value of licenses, trade names, agency relationships, non-compete agreements, renewal rights, and valuation of business acquired. Intangible assets acquired included $17.1 million, which are not subject to amortization, and $13.6 million that amortizes over a period of 2 to 15 years. Of the $13.6 million intangible assets acquired, $0.1 million remain to be amortized at December 31, 2020.
On January 14, 2021, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) under the terms of which all outstanding shares of common stock of the Company would be acquired in an all-cash transaction valued at approximately $586.0 million. Using the market approach, the fair value of the Company was determined to be less than its carrying amount. As the difference between the Company’s carrying amount and its fair value was greater than the carrying amount of goodwill, the Company recognized an impairment charge of $11.9 million within other expense in the Company’s consolidated statements of operations for the year ended December 31, 2020 equal to the total carrying amount of goodwill. For a further discussion of the proposed merger and the Merger Agreement, see Item 1. “Business” and Note 22. “Subsequent Events” to our consolidated financial statements on this Annual Report.
In connection with the above sale, the Company provided Aggregate Stop Loss reinsurance protection for development of the Syndicate covered reserves for which the Company has a liability of $32.0 million and $24.0 million as of December 31, 2020 and 2019, respectively.
The Company’s investment portfolio consists of fixed maturity securities, commercial levered loans, limited partnerships and limited liability companies, non-redeemable preferred stock securities, bond exchange-traded funds, and short-term investments. Fixed maturity securities may include U.S. Treasury securities, government agency securities, municipal debt obligations, residential mortgage-backed securities, commercial mortgage-backed securities, collateralized loan obligations, asset-backed securities and corporate debt securities. Corporate debt securities may include investment grade and below investment grade bonds, bank loan investments and redeemable preferred stock securities. The Company has designated its investments in fixed maturity securities as available-for-sale securities.
For fixed maturity securities in an unrealized loss position that require a credit loss analysis, the Company estimates a present value of expected cash flows. If the results of the cash flow analysis indicate that the Company will not recover the full amount of its amortized cost basis, the Company records a credit loss for the excess of amortized cost over the present value of expected cash flows, not to exceed the unrealized loss. Changes in the credit loss allowance are
recognized through realized investment gains, net on the consolidated statements of operations. The credit loss allowance expense for fixed maturity securities was $1.5 million for the year ended December 31, 2020.
(e) The amortized cost and fair value of fixed maturity securities, which excludes the Company’s structured securities portfolio, at December 31, 2020, by contractual maturity are shown below. Expected maturities will differ from contractual maturities, because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
The Company did not have any non-income producing fixed maturity investments for the years ended December 31, 2020 or 2019, respectively.
The carrying values used for investments in limited partnerships and limited liability companies generally are established on the basis of the current valuations provided by the managers of such investments. These valuations are determined based upon the valuation criteria established by the governing documents of such investments or utilized in
(h) Proceeds from sales and redemptions in AFS securities totaled $558.7 million, $302.9 million and $255.2 million for the years ended December 31, 2020, 2019 and 2018 respectively. Gross realized gains from sales and redemptions in AFS securities totaled $7.3 million, $1.4 million, and $0.6 million for the years ended December 31, 2020, 2019 and 2018, respectively. Gross realized losses from sales and redemptions of AFS investments totaled $0.9 million, $0.7 million and $2.2 million for the years ended December 31, 2020, 2019 and 2018, respectively.
(j) Included in investments at December 31, 2020 and 2019, are securities required to be held by the Company (or those that are on deposit) with various regulatory authorities as required by law with a fair value of $233.4 million and $210.8 million, respectively. Fair value and carrying value of assets in the amount of $256.4 million and $241.0 million,
The change in fair value recognized in income on non-redeemable preferred stock securities for the year ended December 31, 2020 was a gain of $0.4 million. The gain consisted of an unrealized gain on non-redeemable preferred stock securities of $0.5 million and a loss recognized on the sale of non-redeemable preferred stock securities of $0.1 million.
Level 2 - Fair value is based on significant inputs, other than Level 1 inputs, that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the asset through corroboration with observable market data. Level 2 inputs include quoted market prices in active markets for similar assets,
The Company’s Level 2 assets include U.S. Treasury securities, government agency securities, municipal debt obligations, RMBS, CMBS, CLO, ABS, corporate debt securities, and non-redeemable preferred stock securities.
The Company’s Level 3 assets include its investments in certain corporate debt securities, certain non-redeemable preferred stock securities and commercial levered loans as they are illiquid and trade in inactive markets. These markets are considered inactive as a result of the low level of trades of such investments. Commercial levered loans are also not considered within the Level 3 tabular disclosure, because they are in the “held for investment” category and are also not measured at fair value on a recurring basis.
The corporate debt securities and non-redeemable preferred stock securities classified under Level 3 in the fair value hierarchy are either provided to the Company by an independent valuation service provider or calculated by the Company. For certain securities, the Company uses observable inputs such as readily available indices as well as change in estimated fund returns provided by third party investment managers. Unobservable inputs, significant to the measurement and valuation of the corporate debt securities are assumptions about prepayment speed, default rates and recovery rates. Significant changes to any of these inputs, or combination of inputs, could significantly change the fair value measurement for these securities when using the income approach.
The primary pricing sources for the Company’s investments in commercial levered loans are reviewed for reasonableness, based on the Company’s understanding of the respective market. Prices may then be determined using
valuation methodologies such as discounted cash flow models, as well as matrix pricing analyses performed on nonbinding quotes from brokers or other market makers.
The following table summarizes the components of AOCI for the years ended December 31, 2020, 2019 and 2018:
On May 3, 2019, the Company entered into a Transition and Separation Agreement (the “Separation Agreement”) with its former Chief Executive Officer (the “former CEO”). Under the Separation Agreement, the former CEO and the Company agreed to a general release of claims and his compliance with the restrictive covenants. The Company recorded an expense of $0.3 million and $8.0 million for the years ended December 31, 2020 and 2019, respectively, within other expense in the consolidated statements of operations relating to the severance payments and benefits payable to the former
CEO. Per the terms of the Separation Agreement, the former CEO’s profit interests (“P Shares”) were forfeited and outstanding RSUs are treated in accordance with the terms of the applicable award agreements. Additionally, the Company cancelled 137,987 shares of common stock in July 2019 with no consideration as per the terms of the Separation Agreement.
On January 23, 2020, the Company and the former CEO entered into an amendment to the Separation Agreement, which, among other things, provides that effective as of February 1, 2020, the former CEO resigned from his position as Executive Chairman of the Company.
The Company’s reinsurance agreements do not relieve its direct obligations to insureds. Thus, a credit exposure exists to the extent that any reinsurer fails to meet its obligations to the Company.
Total reinsurance ceded and assumed relating to premiums written, earned premiums and net losses and loss adjustment expenses incurred for the years ended December 31, 2020, 2019 and 2018 are as follows:
In 2018, the Company entered into a retroactive reinsurance agreement for the 2017 accident year. Subject carried reserves at the January 1, 2018 effective date were $107.8 million. The reinsurer provides a $40.0 million limit on
respective paid losses in excess of $119.3 million. The reinsurance cover has a retrospective rating feature of $21.0 million of premium accumulating at approximately 4% per annum. These are 100% recoverable to the Company to the extent losses do not exceed the retention. At December 31, 2020, the Company’s estimate of respective loss development remains below the retention and the adjustable premium is accrued as fully recoverable.
The reinsurance receivable allowance for credit loss is based on the credit ratings of reinsurers. Uncollateralized exposure on unrated or counterparties rated below investment grade at December 31, 2020 is $3.7 million. At December 31, 2020, 97.4% of uncollateralized exposures are rated above investment grade.
During the year ended December 31, 2018, the Company’s reserve for unpaid losses and loss adjustment expenses for accident years 2017 and prior developed favorably by $5.0 million. Favorable development of  $5.0 million for the year ended December 31, 2018, was driven primarily by favorable development of  $14.4 million in Workers’ Compensation, $15.6 million in Commercial Auto and $4.1 million from Marine Liability within the All Other lines category, partially offset by $16.5 million adverse development in General Liability and $12.2 million adverse development in Commercial Multiple Peril. Lower than expected claim severity was the main driver of the favorable development in Workers’ Compensation of which $6.2 million came from 2014, 2015 and 2016 accident years in primary Workers’ Compensation and $8.2 million came from 2014 and 2015 accident years in excess Workers’ Compensation. Favorable development in Commercial Auto was driven mainly by the 2013, 2015 and 2016 accident years where severity trends of the previous two calendar year periods improved during 2018 across multiple niches. Marine Liability is a low frequency, high severity line of business and as a result, development often varies significantly from the average expectation. The $16.5 million adverse development in General Liability primarily related to 2013, 2014 and 2015 accident years due to increased severities in the Construction customer segment from reduced effectiveness of risk transfer from our general contractor insureds to subcontractors. The $12.2 million in adverse development in Commercial Multiple Peril is primarily from the Media and Entertainment customer segment driven by a longer development trend than that underlying the historic performance of premises liability.
The following information presented summarizes incurred and paid claims development as of December 31, 2020, net of reinsurance, as well as cumulative claim frequency and the total of IBNR. IBNR anticipates both the development of existing claims and emergence of any new claims. The information about incurred and paid claims development for accident years 2011 through 2019 is unaudited and is presented as supplementary information. Information is also included for the portion of the reserve for unpaid losses and loss adjustment expenses, net of reinsurance that related to IBNR and the cumulative number of reported insurance claims. Claims are counted at the occurrence (e.g. date of the accident), line of business which is in accordance with the Company’s statutory filings, and policy level. For example, if a single occurrence (e.g. an auto accident) leads to a claim under an auto and an associated umbrella policy, they are each counted separately. Conversely, multiple claimants under the same occurrence/line/policy would contribute only a single count. The claim counts provided are on an accident year basis. A claim is considered reported when a reserve is established or a payment is made. Therefore, claims closed without payment are included in the claim counts as long as there was an associated case reserve at some point in its life cycle. The following tables are in thousands except claim counts.
The following table presents the historical average annual percentage payout of incurred claims, net of reinsurance, as of December 31, 2020:
The following tables represent information on the Company’s unpaid losses and loss adjustment expenses incurred and cumulative paid losses, since 2011 for Commercial Auto line, in thousands except claim counts:
The following tables represent information on unpaid losses and loss adjustment expenses incurred and cumulative paid losses, since 2011 for the Company’s Workers’ Compensation line, in thousands except claim counts:
The following tables represent information on unpaid losses and loss adjustment expenses incurred and cumulative paid losses, since 2011 for the Company’s Commercial Multiple Peril line, in thousands except claim counts:
PSIH acquired several entities in the U.K. in order to build the Syndicate. The Company changed its strategic direction with respect to its U.K. operations and placed the Syndicate into run-off, and then entered into a two-phase sale transaction to exit its U.K. operations, which closed in October 2017 and March 2018. There was no gain or loss recognized
from the sale of the U.K. operations. Additionally, there were no U.K. income taxes paid or recovered for the year ended December 31, 2018.
As discussed in Note. 1 Background, PSIH and PSEH were merged into the Company and PSBL became a direct subsidiary of the Company. The transactions were considered a tax-free contribution of capital from PGHL to the Company. Additionally, PGHL was merged into the Company and resulted in no tax effect in 2019, since the assets transferred were exchanged for common stock of the Company.
The components of deferred tax assets and liabilities as of December 31, 2020 and 2019, are as follows:
At December 31, 2020 and 2019, the U.S. federal NOLs that can be carried forward are $0.6 million and $0.4 million, respectively. As a result of the Company being able to fully utilize the remaining federal NOL after the valuation allowance, NOLs of $3.1 million, which were a component of discontinued operations, were reclassed to continuing operations as of December 31, 2020.
At December 31, 2020 and 2019, the state and local tax benefit of NOLs that can be carried forward are $17.4 million and $17.0 million, respectively, which is included in the state and local deferred tax asset. There were $0.1 million and $1.5 million of realized capital loss benefits that can be carried forward for the years ended December 31, 2020 and 2019, respectively. The range of years in which the federal NOLs can be brought forward against future tax liabilities is from 2020 through 2030.
As of December 31, 2020, the Company’s valuation allowance of $18.1 million is attributable to the uncertainty in the realization of certain deferred tax assets attributable to U.S. federal and state NOLs.
The income tax provisions differ from the amounts computed by applying the federal statutory rate to the income before income taxes due to the following:
The Company files a consolidated federal income tax return with PSBL. Beginning November 23, 2010, pursuant to the terms of a tax-sharing agreement, which provides that the consolidated tax liability is allocated among affiliates based on separate return calculations and tax attributes utilized within the consolidated group and are reimbursed to the affiliate that generated them. Intercompany tax balances are settled annually.
The Company’s U.S. domestic entities are subject to federal and state examinations by tax authorities for tax year 2015 and subsequent and for the tax year 2009 and subsequent for examinations by local tax authorities. Currently, the Company’s non-insurance subsidiaries are under an income tax examination in New York State for tax years 2015 through 2018.
The Company’s insurance subsidiaries are limited under state insurance laws, in the amount of ordinary dividends they may pay without regulatory approval. As of December 31, 2020, the maximum dividend that can be paid from the Company’s U.S. insurance subsidiaries to the Company without prior approval from the New York State Department of Financial Services is $66.8 million. Factors affecting the ability to pay dividends include levels of investment income in recent years and the Company’s statutory surplus position of the Company. Combined statutory net income and surplus of the Company’s domestic insurance subsidiaries as reported in the Combined Annual Statement were as follows:
In January 2015, the Company issued an additional $25.0 million 6.5% senior notes (“Senior Notes”) due November 2020 and provided for semi-annual interest payments. The Company repaid the Senior Notes in its entirety on November 25, 2020.
On November 25, 2020, the Company drew down $165.0 million under the Term Loan Facility and used the proceeds to fully redeem the Senior Unsecured Notes and Senior Notes.
Debt issuance costs of $4.6 million related to the Credit Agreement were incurred and are being amortized over the life of the loan.
On July 14, 2020, the Company drew down $5.0 million on the Revolving Credit Facility and on August 3, 2020, the Company drew down an additional $30.0 million, primarily to make capital contributions to its insurance subsidiaries. On November 25, 2020, the Company drew down $7.0 million, and used the proceeds to make interest payments on the Unsecured Senior Notes and Senior Notes.
In June 2020, the Company entered into a $24.9 million lease transaction that for accounting purposes is treated as a loan secured by a portion of the Company’s fixed assets and capitalized software, payable at 4.83% interest with a maturity date of July 1, 2025 and providing for monthly interest and principal payments.
Interest expense was $13.1 million, $12.8 million and $12.3 million for the years ended December 31, 2020, 2019 and 2018, respectively. Amortization expense related to debt issuance costs was $1.2 million, $0.3 million and $0.3 million for the years ended December 31, 2020, 2019 and 2018, respectively.
The Company determines if an arrangement is a lease on the commencement date of the contract. The right-of-use assets represent the Company’s right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. The right-of-use assets and lease liabilities are measured by the present value of the future minimum lease payments over the lease term. The Company uses the rate implicit in the lease
whenever that rate is readily determinable. If the rate implicit in the lease is not readily determinable, the Company uses its incremental borrowing rate. The right-of-use asset is then adjusted to exclude lease incentives. Certain leases may contain rental escalation, renewal options and/or termination options that are factored into our determination of lease payments when appropriate. Variable lease payment amounts that cannot be determined at the commencement of the lease are not included in the right-to-use assets or lease liabilities. Leases covering a period of fewer than 12 months are not recorded on the Company’s consolidated balance sheets. Rent expense is calculated using the straight-line method.
The right-of-use assets are reported as a component of other assets and the lease liabilities are reported as a component of other liabilities on the Company’s consolidated balance sheets.
The Company’s insurance agency subsidiary maintains separate underwriting accounts, which record all of the underlying insurance transactions of the insurance pools that it manages. These transactions primarily include collecting premiums from the insureds, collecting paid receivables from reinsurers, paying claims as losses become payable, paying reinsurance premiums to reinsurers, and remitting net account balances to member insurance companies in the pools that PSMC manages. Unremitted amounts to members of the insurance pools are held in a fiduciary capacity and interest income earned on such funds inures to the benefit of the members of the insurance pools based on their pro rata participation in the pools.
A summary of the fiduciary and pools’ underwriting accounts as of December 31, 2020 and 2019, is as follows:
For the year ended December 31, 2020 the Company had $18.2 million in unfunded commitments related to limited partnerships and a fixed maturity security.
In connection with, and prior to the completion of the IPO, the Company’s Amended and Restated 2010 Equity Incentive Plan (the “2010 Plan”) was terminated, and the Company adopted a new plan, the 2019 Equity Incentive Plan (the “2019 Plan”)
The following is a summary of the equity-based compensation included in the 2019 Plan, including the number of common stock shares granted to each award:
(i) Annual long-term equity incentive plan awards (“Annual LTIP Awards”): Annual LTIP Awards in 2019 included time-vesting RSUs and performance-vesting RSUs (“PSUs). Annual LTIP Awards in 2020 included RSUs, PSUs, RSAs, and PSAs.
RSAs vest annually over three years subject to continued employment through each such date. 110,466 time-vesting RSAs were granted in 2020 and the fair value of the awards on grant date was $1.5 million.
Vested RSUs awaiting conversion into common stock were 489,439 for the year ended December 31, 2020, 906,182 for the year ended December 31, 2019 and 548,292 for the year ended December 31, 2018.
As of December 31, 2020, The Company had approximately $11.8 million of total unrecognized stock-based compensation expense related to the equity awards expected to be recognized over a weighted-average period of 1.6 years.
For the benefit of its U.S.-based employees who meet certain service and age requirements, the Company offers a voluntary defined contribution 401(k) plan, a tax-qualified retirement plan subject to the Employee Retirement Income Security Act of 1974. The Company has elected to make matching contributions to eligible participants in an amount equal to 100% subject to a maximum of 6% of eligible compensation contributed to the plan as deferral contributions. Expense recorded for this plan was $2.2 million, $1.8 million and $2.1 million for the years ended December 31, 2020, 2019 and 2018, respectively.
The following table provides a summary of the Company’s gross written premiums by line of business within our Specialty Insurance segment.
The following table provides a reconciliation of the numerators and denominators of basic and diluted EPS:
The proposed merger is anticipated to close in the third quarter of 2021, subject to satisfaction or waiver of the closing conditions, including approval by regulatory authorities. The stockholder approval required to consummate the proposed merger has been obtained, and no further action by our stockholders in connection with the proposed merger is required.