annual report, which have been audited by PricewaterhouseCoopers LLP. The selected historical consolidated financial data for the year ended December 31, 2000 and as of December 31, 2000 have been derived from Thomas Black Corporation's consolidated financial statements not included in this annual report, which have been audited by PricewaterhouseCoopers LLP. As a result of the Acquisition, financial data for periods prior to the Acquisition may not be comparable with financial data for periods following the Acquisition.
The following discussion contains forward-looking statements. We intend statements which are not historical in nature to be, and are hereby identified as "forward-looking statements" to be covered by the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. In addition, the Company's senior management may make forward-looking statements orally to analysts, investors, the media and others. This safe harbor requires that we specify important factors that could cause actual results to differ materially from those contained in forward-looking statements made by or on behalf of us. We cannot promise that our expectations in such forward-looking statements will turn out to be correct. Our actual results could be materially different from and worse than our expectations. See "Forward-Looking Statements" on page 49 for specific important factors that could cause actual results to differ materially from those contained in forward-looking statements.
In this discussion, "Safety" refers to Safety Insurance Group, Inc. and "our Company," "we," "us" and "our" refer to Safety Insurance Group, Inc. and its consolidated subsidiaries. Our subsidiaries consist of Safety Insurance Company ("Safety Insurance"), Safety Indemnity Insurance Company, Thomas Black Insurance Agency, Inc. ("TBIA") and RBS, Inc., TBIA's holding company.
We are a leading provider of private passenger automobile insurance in Massachusetts. In addition to private passenger automobile insurance (which represented 81.0% of our direct written premiums in 2004), we offer a portfolio of other insurance products, including commercial automobile (10.4% of 2004 direct written premiums), homeowners (7.2% of 2004 direct written premiums), dwelling fire, umbrella and business owner policies. Operating exclusively in Massachusetts through our insurance company subsidiaries, Safety Insurance and Safety Indemnity Insurance Company (together referred to as the "Insurance Subsidiaries"), we have established strong relationships with 556 independent insurance agents in 659 locations throughout Massachusetts. We have used these relationships and our extensive knowledge of the Massachusetts market to become the second largest private passenger automobile insurance carrier in Massachusetts, capturing an approximate 11.0% share of the Massachusetts private passenger automobile market in 2004, according to the CAR Cession Volume Analysis Report of March 1, 2005, based on automobile exposures. These statistics total, for each vehicle insured, the number of months during the year insurance for that vehicle is in effect, to arrive at an aggregate number of car-months for each insurer; this aggregate number, divided by 12, equals the insurer's number of car-years, a measure we refer to in this Form 10-K as automobile exposures.
company's utilization of a credit system CAR has designed to encourage carriers to reduce their use of CAR. In addition, based on our market share, we are assigned certain licensed producers by CAR that have been unable to obtain a voluntary contract with another insurer. We call these agents Exclusive Representative Producers, or ERPs.
•The ERP financial burden will be distributed amongst all companies in a manner that ensures that each company's share of the ERP burden is proportional to its voluntary agent market share.
•Companies with more than 2% of the market are required to be servicing carriers for CAR.
•On February 1, 2005 CAR will redistribute ERPs amongst the 12 largest companies such that:
•Each company will have an equitable share or number of ERP policies, and
•Beginning January 1, 2006, new business will be eligible for the MAIP.
While state-mandated average maximum private passenger automobile insurance rates increased 2.5% for 2004, our average premium per automobile exposure in the year ended December 31, 2004 increased from the year ended December 31, 2003 by approximately 6.1%. This increase was primarily the result of purchases of new automobiles by our insureds. We believe that the continued benefits of our rate pursuit initiative, which validates insured rating classifications and discount eligibility, contributed to the increase in our average premiums received per automobile exposure. The table below shows average Massachusetts-mandated private passenger automobile premium rate changes and changes in our average premium per automobile exposure from 1995-2004.
(1)Source: Commissioner rate decisions for 1995 - 2004. (2)Source: Safety Insurance. Statutory Accounting Principles
restricted shares and 711,410 nonqualified stock options. Grants made under the Incentive Plan are as follows:
(1)The exercise price of the options grant effective on November 27, 2002 is equal to the IPO price of our stock on that same day. The exercise price of the remaining option grants is equal to the closing price of our common stock on the grant effective date.
We reinsure with other insurance companies a portion of our potential liability under the policies we have underwritten, thereby protecting us against an unexpectedly large loss or a catastrophic occurrence that could produce large losses, primarily in our homeowners line of business. As of January 1, 2005 our catastrophe reinsurance provides gross per occurrence reinsurance coverage up to $250,000. This catastrophe reinsurance protects us in the event of a "426-year storm" (that is, a storm of a severity expected to occur once in a 426-year period). Swiss Re, our primary reinsurer, maintains an A.M. Best rating of "A+" (Superior). All of our other reinsurers have an A.M. Best rating of "A" (Excellent) or better. We are a participant in CAR, a state-established body that runs the residual market reinsurance programs for both private passenger and commercial automobile insurance in Massachusetts under which premiums, expenses, losses and loss adjustment expenses on ceded business are shared by all insurers writing automobile insurance in Massachusetts. We also participate in the Massachusetts Property Insurance Underwriting Association in which premiums, expenses, losses and loss adjustment expenses on homeowners business that cannot be placed in the voluntary market are shared by all insurers writing homeowners insurance in Massachusetts. As of December 31, 2004, we had no material amounts recoverable from any reinsurer, excluding the residual markets described above.
Significant periods of time can elapse between the occurrence of an insured loss, the reporting to us of that loss and our final payment of that loss. To recognize liabilities for unpaid losses, we establish reserves as balance sheet liabilities. Our reserves represent estimates of amounts needed to pay reported and unreported losses and the expenses of investigating and paying those losses, or loss
adjustment expenses. Every quarter, we review our previously established reserves and adjust them, if necessary.
For further information, see "Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations: Net Realized Investment Losses."
(1)Obligations of U.S. Government agencies include collateralized mortgage obligations issued, guaranteed and/or insured by the following issuers: Government National Mortgage Association (GNMA), Federal Home Loan Mortgage Corporation (FHLMC) and Federal National Mortgage Association (FNMA). The total of these fixed maturity securities was $120,636 at fair value and $120,729 at amortized cost as of December 31, 2004. As such, the asset-backed securities presented exclude such issuers already presented under U.S. Treasury securities and obligations of U.S. Government Agencies. As of December 31, 2004, our portfolio of fixed maturity investments was comprised entirely of investment grade corporate fixed maturity securities, U.S. government and agency securities and asset-backed securities (i.e., all our securities received a rating assigned by Moody's Investors Service, Inc. of Baa or higher, except the few securities not rated by Moody's which received S&P ratings of AA/A or higher, as well as a rating assigned by the Securities Valuation Office of the National Association of Insurance Commissioners of 1 or 2).
Of the $2,967 gross unrealized losses as of December 31, 2004, $2,269 relates to fixed maturity obligations of states and political subdivisions and U.S. government agencies. The remaining $698 of gross unrealized losses relates primarily to holdings of investment grade asset-backed, corporate and other fixed maturity securities.
Finance and Other Service Income. Finance and other service income includes revenues from premium installment charges, which we recognize when earned, and other miscellaneous income and fees. Finance and other service income for the year ended December 31, 2004 remained constant at $15,615 compared to $15,409 for the 2003 period. This resulted from increases in premium installment billing fees due to growth in the number of policies and the fee charged per policy, offset by decreases in miscellaneous income from CAR.
Net Written Premiums. Net written premiums for the year ended December 31, 2003 increased by $49,356, or 9.5%, to $566,970 from $517,614 for the comparable 2002 period. This was primarily due to an increase in direct written premiums, partly offset by an increase in premiums ceded to CAR.
Net Investment Income. Investment income for the year ended December 31, 2003 decreased to $26,086 from $26,142 for the comparable 2002 period. Average cash and investment securities (at amortized cost) increased by $79,008 or 14.1% to $638,931 for the year ended December 31, 2003 from $559,923 for the comparable 2002 period. Offsetting the effect of this increase was a decrease in net effective yield on our investment portfolio to 4.1% from 4.7% during the same period in 2003 due to declining interest rates, as well as a change in management's investment strategy to shorten the portfolio duration, shift to higher rated securities, and increase tax-exempt holdings. Our duration decreased to 4.2 years at December 31, 2003 from 5.0 years at December 31, 2002. In addition, during the third quarter of 2003, a retrospective adjustment was made which decreased investment income by $595 due to a periodic revaluation of our asset-backed securities using revised prepayment assumptions and resulting assumed cash flows associated with the loans underlying these securities.
As of December 31, 2003, our portfolio of fixed maturity investments was comprised entirely of investment grade corporate fixed maturities securities, U.S. government and agency securities and asset-backed securities (i.e., all our securities received a rating assigned by Moody's Investors Services, Inc. of Baa or higher, except the few securities not rated by Moody's which received S&P ratings of Aaa/Aa or higher, as well as a rating assigned by the Securities Valuation Office of the National Association of Insurance Commissioners of 1 or 2).
illustrates the length of time that they have been in a continuous unrealized loss position as of December 31, 2003.
Of the $1,993 gross unrealized losses as of December 31, 2003, $1,593 relates to fixed maturity obligations of states and political subdivisions and U.S. government agencies. The remaining $400 of gross unrealized losses relates to holdings of investment grade asset-backed, corporate and other fixed maturities securities. Gross unrealized losses increased to $1,993 at December 31, 2003 from $926 at December 31, 2002.
Finance and Other Services Income. Finance and other services income includes revenues from premium installment charges, which we recognize when earned, and other miscellaneous income and fees. Finance and other services income for the year ended December 31, 2003 increased by $1,241, or 8.8%, to $15,409 from $14,168 for the comparable 2002 period. This increase was due to a $1,172 increase in premium installment billing fees due to growth in the number of policies and the fee charged per policy, coupled with a $69 increase in miscellaneous income from CAR.
Losses and Loss Adjustment Expenses. Losses and loss adjustment expenses incurred for the year ended December 31, 2003 increased $45,791, or 12.2%, to $420,969 from $375,178 for the comparable 2002 period. Our GAAP loss ratio for the year ended December 31, 2003 increased to 77.9% compared to 76.7% for the comparable 2002 period. Our GAAP loss ratio excluding loss adjustment expenses for the year ended December 31, 2003 increased to 70.2% compared to 68.3% for the comparable 2002 period. The 2003 increase in our GAAP loss ratio excluding loss adjustment expenses is primarily due
to increased claim frequency and severity from unusually harsh winter conditions in Massachusetts during the first quarter of 2003 on our homeowners line of business.
Income Taxes. Our effective tax rate on net income before preferred stock dividends was 28.0% and 10.9% for the years ended December 31, 2003 and 2002, respectively. For the years ended December 31, 2003 and 2002, the effective rate was lower than the statutory rate of 35% primarily due to adjustments for tax-exempt investment income.
Net Income Before Preferred Stock Dividends. Net income for the year ended December 31, 2003 increased to $28,482 from net income before preferred stock dividends of $10,461 for the comparable 2002 period.
Net cash used for financing activities was $4,607 and $4,473 during the year ended December 31, 2004 and 2003, respectively, which resulted from dividends paid to shareholders less payments of management notes and proceeds from stock option exercises.
Concurrent with the closing of our IPO and repayment of the old credit facility, Safety obtained a new $30,000 revolving credit facility. Bank of America is the lender under this credit facility. Safety borrowed the entire $30,000 under this credit facility at the closing of the IPO and paid down the balance to $19,956 on December 5, 2002 with the approximately $10,000 net proceeds from the exercise of the underwriter's over-allotment option for 900,000 shares of our common stock. Loans under the credit facility bear interest at our option at either (i) the LIBOR rate plus 1.50% per annum or (ii) the higher of Bank of America's prime rate or 0.50% above the federal funds rate plus 1.50% per annum. The credit facility is due and payable at maturity on November 27, 2005, which is three years from the closing of the IPO. Interest only is payable prior to maturity. The obligations of Safety under the credit facility are secured by pledges of the assets of Safety and the capital stock of Safety's operating subsidiaries. The credit facility is guaranteed by the non-insurance company subsidiaries of Safety. The credit facility contains covenants including requirements to maintain minimum risk based capital ratios and statutory surplus of Safety Insurance as well as limitations or restrictions on indebtedness, liens, dividends, and other matters. As of December 31, 2004, we were in compliance with all such covenants.
We have obligations to make future payments under contracts and credit-related financial instruments and commitments. At December 31, 2004, certain long-term aggregate contractual obligations and credit-related commitments are summarized as follows:
(1)We cannot reasonably estimate the future payments due by year as our loss and LAE reserves do not have contractual maturity dates and the timing of future payments and final settlement of claims is subject to significant uncertainty. There were no material changes in any of our contractual obligations outside the ordinary course of our business during the year ended December 31, 2004. Our loss and loss adjustment expense reserves, debt and capital lease obligations are currently reflected in our December 31, 2004 and 2003 balance sheets under GAAP.
•Descriptions of assumptions underlying or relating to any of the foregoing.
Forward-looking statements are not guarantees of future performance. By their nature, forward-looking statements are subject to risks and uncertainties. There are a number of factors, many of which are beyond our control, that could cause actual future conditions, events, results or trends to differ significantly and/or materially from historical results or those projected in the forward-looking statements. These factors include but are not limited to the competitive nature of our industry and the possible adverse effects of such competition. Although a number of national insurers that are much larger than we are do not currently compete in a material way in the Massachusetts private passenger automobile market, if one or more of these companies decided to aggressively enter the market it could have a material adverse effect on us. Other significant factors include conditions for business operations and restrictive regulations in Massachusetts, the possibility of losses due to claims resulting
We have completed an integrated audit of Safety Insurance Group, Inc.'s 2004 consolidated financial statements and of its internal control over financial reporting as of December 31, 2004 and audits of its 2003 and 2002 consolidated financial statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Our opinions, based on our audits, are presented below.
In our opinion, the consolidated financial statements listed in the accompanying index, present fairly, in all material respects, the financial position of Safety Insurance Group, Inc. at December 31, 2004 and 2003, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2004 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedules listed in the index appearing under 15(a)(2) present fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedules based on our audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit of financial statements includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.
The consolidated financial statements have been prepared on the basis of accounting principles generally accepted in the United States of America ("GAAP"). The consolidated financial statements include Safety Insurance Group, Inc. and its subsidiaries (together referred to as the "Company"). The subsidiaries consist of Safety Insurance Company, Safety Indemnity Insurance Company, Thomas Black Insurance Agency, Inc. ("TBIA"), and RBS, Inc., TBIA's holding company. All intercompany transactions have been eliminated.
Prior to the November 27, 2002 initial public offering ("IPO"), approximately 72% of the outstanding common stock of the Company was owned by certain investors assembled by The Jordan Company, LLC, an investment firm that sponsored the Acquisition. The remaining 28% was owned by executive management. (See Note 12 regarding promissory notes received from management.) JZ Equity Partners plc, a London-based publicly traded investment trust, owned approximately 50% of the outstanding mandatorily redeemable preferred stock of the Company; the other 50% was owned by third parties. The preferred stock was cumulative, non-voting with a 6% dividend rate and was mandatorily redeemable on October 16, 2012 or upon a change in control. See Note 9.
1,866,665 common shares upon conversion of all outstanding preferred stock (the "Preferred Share Exchange"), concurrent with the IPO.
Investments in fixed maturities available for sale, which include taxable and non-taxable bonds and redeemable preferred stocks, are reported at fair value. Investments in equity securities available for sale, which include interests in mutual funds, are reported at fair value. Fair values are derived from external market quotations. Unrealized gains or losses on fixed maturity and equity securities, reported at fair value, are excluded from earnings and reported in a separate component of shareholders' equity, known as "Accumulated other comprehensive income (loss), net of federal income taxes", until realized. Realized gains or losses on the sale or maturity of investments are determined on the basis of the specific cost identification method. Fixed maturities and equity securities that experience declines in value that are other-than-temporary are written down to fair value with a corresponding charge to net realized losses on investments.
Cash equivalents, consist of money market accounts and United States ("U.S.") Treasury bills with original maturities of three months or less, are stated at cost, which approximates fair value.
Amounts that vary with and are primarily related to acquiring new and renewal business, principally commissions and premium taxes, are deferred and amortized ratably over the effective period of the policies. All other acquisition expenses are charged to expenses as incurred. Deferred policy acquisition costs are reviewed to determine if they are recoverable from future income, and if not, are charged to expense. Future investment income attributable to related premiums is taken into account in measuring the recoverability of the carrying value of this asset. All other acquisition expenses are charged to expense as incurred. Amortization of acquisition costs in the amount of $88,425, $82,203 and $69,644 were charged to underwriting expenses for the years ended December 31, 2004, 2003 and 2002, respectively.
Equity and deposits in pools represents the net receivable cash amounts due from the residual market mechanisms, Commonwealth Automobile Reinsurers ("CAR"), for automobile and Massachusetts Property Insurance Underwriting Association ("FAIR Plan"), for homeowner insurance in Massachusetts. See Note 10 for a discussion of the Company's accounting for amounts assumed from residual markets.
Ceded premiums are charged to income over the terms of the respective policies and the applicable term of the reinsurance contracts with third party reinsurers. Prepaid reinsurance premiums represent the unexpired portion of premiums ceded to CAR and other reinsurers.
Advance premiums are recorded as a liability and not recognized as income until earned. Such amounts are included in accounts payable and accrued liabilities and totaled $21,207 and $21,551 at December 31, 2004 and 2003, respectively.
As described in Note 6, certain members of management were granted stock appreciation rights ("SARs") on October 16, 2001. Prior to the IPO, the SARs were to vest 20% per annum commencing on December 31, 2002. As of the close of the IPO, the SARs became fully vested and were automatically exercised. The SARs were accounted for in accordance with the provisions of FASB Interpretation ("FIN") No. 28 "Accounting for Stock Appreciation Rights and Other Variable Stock Options or Awards Plans". Under FIN 28, compensation expense is accrued over the period or periods in which the employee performs the related services and is recognized to the extent that the fair market of the Company's stock exceeds the exercise price of the SARs. Changes in the fair market value of the stock in an accounting period, to the extent it still exceeds the exercise price, are recorded as compensation expense.
On June 25, 2002, the Board adopted the 2002 Management Omnibus Incentive Plan ("the Incentive Plan"). The Incentive Plan provides for a variety of awards, including nonqualified stock options, SARs and restricted stock awards. The Company has granted certain stock option awards under this Incentive Plan and follows the accounting for these options under the recognition and measurement principles of Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees", as allowed by FAS 123, "Accounting for Stock-Based Compensation" and as amended by FAS 148, "Accounting for Stock-Based Compensation-Transition and Disclosure".
The Company's insurance subsidiaries, domiciled in the Commonwealth of Massachusetts, prepare statutory financial statements in accordance with the accounting practices prescribed or permitted by the Commonwealth of Massachusetts Division of Insurance ("the Division"). Prescribed statutory accounting practices are those practices that are incorporated directly or by reference in state laws, regulations, and general administrative rules applicable to all insurance enterprises domiciled in a particular state. Permitted statutory accounting practices include practices not prescribed by the Division, but allowed by the Division. See Note 14.
In December 2004, the Financial Accounting Standards Board ("FASB") issued FAS 123 (revised 2004), Share-Based Payment ("FAS 123(R)"). This statement requires companies to measure and recognize the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value. FAS 123(R) replaces FAS 123, Accounting for Stock-Based Compensation ("FAS 123"), and supersedes APB 25, Accounting for Stock Issued to Employees. The provisions of this statement are effective for interim and annual periods beginning after June 15, 2005. The Company is evaluating the effects of FAS 123(R) and expects to begin expensing stock options in the third quarter of 2005.
The Company comprises one business segment: property and casualty insurance operations. Management organizes the business around private passenger automobile insurance in Massachusetts sold exclusively through independent agents and offers other personal and commercial insurance as complementary products. In accordance with FAS 131, Disclosures About Segments of an Enterprise and Related Information, the financial information of the segment is presented consistent with the way results are regularly evaluated by the chief operating decision maker in deciding how to allocate resources and in assessing performance.
Effective January 1, 2002, the Company re-established the Safety Insurance Company 401(k) qualified defined contribution retirement plan (the "Retirement Plan"). The Retirement Plan is available to all eligible employees of the Company. An employee must be 21 years of age to be eligible to participate in the Retirement Plan, and is allowed to contribute on a pre-tax basis up to the maximum allowed under federal law. The Retirement Plan is administered by the Company and is subject to the provisions of the Employee Retirement Income Security Act of 1974 ("ERISA"). At the close of each Retirement Plan year, the Company makes a matching contribution equal to 75% of the amount each participant contributed during the plan year from their total pay, up to a maximum amount of 8% of the patrticipant's base salary, to those participants who have contributed to the Retirement Plan, worked 1,000 hours and were employed on the last day of the Retirement Plan year. Compensation expense related to the Retirement Plan was $1,113, $969 and $567 for the years ended December 31, 2004, 2003 and 2002, respectively.
The Incentive Plan provides for a variety of awards, including nonqualified stock options ("NQSOs"), stock appreciation rights and restricted stock ("RS") awards. The maximum number of shares of common stock with respect to which awards may be granted under the Incentive Plan is 1,250,000. On December 31, 2004, there were 298,529 shares available for future grant. The Board and the Compensation Committee intend to issue more awards under the Incentive Plan in the future. Grants made under the Incentive Plan are as follows:
(1)The exercise price of the options grant effective on November 27, 2002 is equal to the IPO price of the Company's stock on that same day. The exercise price of the remaining option grants is equal to the closing price of the Company's common stock on the grant effective date.
(2)The fair value of the restricted stock grant is equal to the closing price of the Company's common stock on the grant effective date.
The Company has various noncancelable long-term operating leases. The approximate minimum annual rental payments due under these lease agreements as of December 31, 2004 are as follows:
Certain lease agreements contain renewal options and, in addition to the minimum annual rentals, generally provide for payment of a share of the real estate taxes and operating expenses in excess of a base amount. Rental expense was $2,826, $2,718, $2,737 for the years ended December 31, 2004, 2003 and 2002, respectively. All leases expire prior to 2009. The Company expects that in the normal course of business, leases that expire will be renewed.
Massachusetts law requires that insurers licensed to do business in Massachusetts participate in the Massachusetts Insurers Insolvency Fund ("Insolvency Fund"). Members of the Insolvency Fund are assessed a proportionate share of the obligations and expenses of the Insolvency Fund in connection with an insolvent insurer. It is anticipated that there will be additional assessments from time to time relating to various insolvencies. Although the timing and amounts of any future assessments are not known, based upon existing knowledge, management's opinion is that such future assessments will not have a material effect upon the financial position of the Company. In 2004, 2003 and 2002, the Company received notice of assessments from the Insolvency Fund amounting to $2,538, $3,423 and $2,103, which it expensed for the years ended December 31, 2004, 2003 and 2002, respectively.
Concurrent with the IPO and repayment of the old credit facility, Safety obtained a new $30,000 revolving credit facility. Bank of America is the lender under this credit facility. Safety borrowed the entire $30,000 under this credit facility at the closing of the IPO and paid down the balance to $19,956 on December 5, 2002 with the approximately $10,000 net proceeds from the exercise of the underwriter's over-allotment option for 900,000 shares of the Company's common stock. Loans under the credit facility bear interest at the Company's option at either (i) the LIBOR rate plus 1.50% per annum or (ii) the higher of Bank of America's prime rate or 0.50% above the federal funds rate plus 1.50% per annum. The credit facility is due and payable at maturity on November 27, 2005, which is three years from the closing of the IPO. Interest only is payable prior to maturity. The obligations of Safety under the credit facility are secured by pledges of the assets of Safety and the capital stock of Safety's operating subsidiaries. The credit facility is guaranteed by the non-insurance company subsidiaries of Safety. The credit facility contains covenants including requirements to maintain minimum risk based capital ratios and statutory surplus of Safety Insurance as well as limitations or restrictions on indebtedness, liens, dividends, and other matters. As of December 31, 2004, the Company was in compliance with all such covenants.
At December 31, 2004 and 2003, the Company had utilized advances of $19,956. The interest rate was 4.26% at December 31, 2004 and an average of 3.27% during 2004. The interest rate was 2.81% at December 31, 2003 and an average of 3.22% during 2003.
As part of the funding for the Acquisition, the Company entered into a $20,000 revolving credit facility and a $55,000 senior secured term loan with a bank in October 2001. The obligations of the Company on these loans were collateralized by (i) a 100% pledge of the stock of Safety Insurance Company, RBS, Inc. and TBIA, and (ii) a perfected first priority security interest, subject to permitted liens, in all of the assets, whenever acquired, of TBC, RBS, Inc. and TBIA. Both loans bore interest at LIBOR plus 3.75%. The Company utilized the net proceeds from the IPO and the new secured revolving credit facility to repay $66,550 of indebtedness (including accrued interest) in 2002, thereby paying off this prior credit facility.
were to mature December 31, 2011 and could be redeemed at the option of the Company prior to maturity with no redemption premium or penalty. The senior subordinated notes bore an interest rate of 13%. The Company utilized the net proceeds from the IPO and the new secured revolving credit facility to repay $30,293 of indebtedness (including accrued interest) in 2002, thereby paying off these notes.
The Company incurred interest expense of $672, $646 and $7,254 for the years ended December 31, 2004, 2003 and 2002, respectively, related to all current outstanding obligations during these periods.
The preferred stock was redeemable at any time at the option of the Company at the stock's liquidation preference plus any accrued dividends. The stock was mandatorily redeemable (at the issue price) at the earlier of October 16, 2012 or upon a change in control of the Company.
Upon closing of the IPO, the Company paid TJC Management Corporation, an affiliate of the Jordan Company ("TJC"), a $4,000 termination fee related to the annual fee that ceased at the IPO, as agreed with TJC under the amended management agreement. This has been included in other expenses in the statement of operations for the year ended December 31, 2002.
In connection with the Acquisition, each member of the executive management team issued a recourse promissory note to, and entered into a pledge agreement with the Company. Pursuant to the notes, the Company loaned management an aggregate of $695 in order to purchase common stock in connection with the Acquisition and the Restricted Stock Plan. Pursuant to pledge agreements, the management team pledged the common stock back to the Company as security for the loans made under the promissory notes. The notes bore interest at a rate of 5% annually and were due and payable on the earlier of December 31, 2011 or 90 days after any management team member ceases to be an employee of the Company. Each member may prepay his note at any time without penalty. At December 31, 2003, the loans were carried in the financial statements at $34, which represents the outstanding principal and accrued interest on the notes. During 2004 the Company received $34 representing prepayments of all outstanding loan principal and accrued interest through the dates of final payments. Such loans had been recorded as contra-equity in accordance with the accounting policy described in Note 3.
Gross deferred income tax assets prior to valuation allowances totaled $37,470 and $34,480 at December 31, 2004 and 2003, respectively. Gross deferred income tax liabilities totaled $20,581 and $22,237 at December 31, 2004 and 2003, respectively.
The Company's insurance subsidiaries are subject to various regulatory restrictions that limit the maximum amount of dividends available to be paid to their parent without prior approval of the Commonwealth of Massachusetts Commissioner of Insurance (the "Commissioner"). Massachusetts' statute limits the dividends an insurer may pay in any twelve month period, without the prior permission of the Commissioner, to the greater of (i) 10% of the insurer's surplus as of the preceding December 31 or (ii) the insurer's net income for the twelve-month period ending the preceding December 31, in each case determined in accordance with statutory accounting practices. The Company's insurance company subsidiaries may not declare an "extraordinary dividend" (defined as any dividend or distribution that, together with other distributions made within the preceding twelve months, exceeds the limits established by Massachusetts' statute) until thirty days after the Commissioner has received notice of the intended dividend and has not objected. As historically administered by the Commissioner, this provision requires the Commissioner's prior approval of an extraordinary dividend. Under Massachusetts law an insurer may pay cash dividends only from its unassigned funds, also known as earned surplus, and the insurer's remaining surplus must be both reasonable in relation to its outstanding liabilities and adequate to its financial needs. At year-end 2004, the statutory surplus of Safety Insurance was $278,161, and its net income for 2004 was $42,251. As a result, a maximum of $42,251 is available in 2005 for such dividends without prior approval of the Commissioner.
At December 31, 2004 and 2003, investments in fixed maturities had a fair value, which equaled carrying value, of $664,596 and $673,636, respectively. There were no investments in fixed maturities for which a quoted market price or dealer price was not available at December 31, 2004 or, 2003, respectively.