estimates for our share of the catastrophe losses generated in the residual market for property insurance by the Massachusetts Property Insurance Underwriting Association (“FAIR Plan”). The reinsurance market has seen from the various software modelers, increases in the estimate of damage from hurricanes in the southern and northeast portions of the United States due to revised estimations of increased hurricane activity and increases in the estimation of demand surge in the periods following a significant event. We continue to manage and model our exposure and adjust our reinsurance programs as a result of the changes to the models. As of January 1, 2017, we have purchased four layers of excess catastrophe reinsurance providing $615,000 of coverage for property losses in excess of $50,000 up to a maximum of $665,000. Our reinsurers’ co-participation is 65.0% of $100,000 for the 1st layer, 80.0% of $280,000 for the 2nd layer, 80.0% of $135,000 for the 3rd layer and 80.0% of $100,000 for the 4th layer. As a result of the changes to the models, and our revised reinsurance program, our catastrophe reinsurance in 2017 protects us in the event of a “130-year storm” (that is, a storm of a severity expected to occur once in a 130-year period). Swiss Re, our primary reinsurer, maintains an A.M. Best rating of “A+” (Superior). Most of our other reinsurers have an A.M. Best rating of “A+” (Superior) or “A” (Excellent).
On December 15, 2015, the Company filed for arbitration with a reinsurer in regards to the reinsurance recoverable resulting from the 2015 winter storm losses that are admissible under our contract. The total amount of recoverable in dispute, which is based on our total incurred loss, was $20,918 and $22,838 as of December 31, 2017 and 2016, respectively. The change in the recovery is attributable to changes in the total incurred loss for reserve development. On January 8, 2018 the Company received a final order from the panel of arbitrators in which the reinsurer would pay the Company $9,200 for settlement of all paid and outstanding losses. The remaining unrecovered amount of $11,718 was expensed in 2017.
At December 31, 2017 and December 31, 2016, the reinsurance recoverable on paid and unpaid loss and loss adjustment expenses related to the 2015 snow event from all reinsuers was $675 and $31,701, respectively.
Net Investment Income. Net investment income for the year ended December 31, 2017 increased by $345, or 0.9%, to $38,758 from $38,413 for the comparable 2016 period. Net effective annual yield on the investment portfolio was 3.1% for each of the years ended December 31, 2017 and December 31, 2016. Our duration was 3.7 years at December 31, 2017, compared to 4.3 years at December 31, 2016.
Realized Gains on Investments. Net realized gains on investments were $6,036 for the year ended December 31, 2017 compared to $5,559 for the comparable 2016 period.
(4) Amounts in this column represent other-than-temporary impairment (“OTTI”) recognized in accumulated other comprehensive income.
The majority of unrealized losses recorded on the investment portfolio at December 31, 2017 resulted from fluctuations in market interest rates and other temporary market conditions as opposed to fundamental changes in the credit quality of the issuers of such securities. Given our current level of liquidity, the fact that we do not intend to sell these securities, and that it is more likely than not that we will not be required to sell these securities prior to recovery of the cost basis of these securities, these decreases in values are viewed as being temporary.
Losses and Loss Adjustment Expenses. Losses and loss adjustment expenses incurred for the year ended December 31, 2017 increased by $10,454, or 2.1%, to $503,887 from $493,433 for the comparable 2016 period.
Our GAAP loss ratio for the year ended December 31, 2017 and 2016 was 65.1% and 65.3%, respectively. Our GAAP loss ratio excluding loss adjustment expenses was 57.5% and 56.8% for the year ended December 31, 2017 and 2016, respectively. Total prior year favorable development included in the pre-tax results for the year ended December 31, 2017 was $41,784, compared to $45,448, for the comparable 2016 period.
Income Tax Expense (Credit). Our effective tax rates were 28.0% and 30.8% for the years ended December 31, 2017 and 2016, respectively. The effective rate in 2017 was lower than the statutory rate of 35.0% primarily due to adjustments for tax-exempt investment income and the impact of the re-measurement of the net deferred tax liability as a result of the enactment of the TCJA.
On December 22, 2017, the U.S. Tax Cuts and Jobs Act (the “TCJA”) was enacted, which significantly amends the Internal Revenue Code of 1986. The TCJA, among other things, reduces the corporate tax rate from a statutory rate of 35% to 21%, imposes additional limitations on net operating losses and executive compensation, allows for the full expensing of certain capital expenditures, and enacts other changes impacting the insurance industry. The impact of the tax rate change has been recorded through the Statement of Operations for the year ended December 31, 2017.
Direct Written Premiums. Direct written premiums for the year ended December 31, 2016 increased by $25,829, or 3.3%, to $811,559 from $785,730 for the comparable 2015 period. The 2016 increases occurred primarily in our commercial automobile and homeowners business lines which experienced increases of 7.5% and 7.4%, respectively, in average written premium per exposure. Written exposures increased by 3.8% and decreased by 0.5% in our commercial automobile and homeowners lines, respectively. Our private passenger line also experienced an increase of 3.1% in average written premium per exposure.
Net Realized Gains (Losses) on Investments. Net realized gains on investments were $5,559 for the year ended December 31, 2016 compared to net realized losses on investments of $469 for the comparable 2015 period. The increase is a result of sales of equity securities during 2016.
(3) Our investment portfolio included 343 securities in an unrealized loss position at December 31, 2016.
The Moody's ratings of our insured investments held at December 31, 2016 are essentially the same with or without the investment guarantees.
The majority of the unrealized losses recorded on the investment portfolio at December 31, 2016 resulted from fluctuations in market interest rates and other temporary market conditions as opposed to fundamental changes in the credit quality of the issuers of such securities. Given our current level of liquidity, the fact that we do not intend to sell these securities, and that it is more likely than not that we will not be required to sell these securities prior to recovery of the cost basis of these securities, these decreases in values are viewed as being temporary.
Net Impairment Losses on Investments. Net impairment losses on investments were $798 and $796 for the year ended December 31, 2016 and December 31, 2015.
Income Tax Expense (Credit). Our effective tax rates were 30.8% and 51.6% for the years ended December 31, 2016 and 2015, respectively. The effective rate in 2016 was lower than the statutory rate of 35.0% primarily due to adjustments for tax-exempt investment income. The effective rate for 2015 is the result of the net loss of the Company, which is increased by the adjustments for tax-exempt interest income.
Net cash used for investing activities was $14,924 and $84,252 for the years ended December 31, 2017 and December 31, 2016, respectively, as purchases of fixed maturity and equity securities exceeded sales, paydowns, calls and maturities of fixed maturity and equity securities. Net cash provided by investing activities was $23,845 during the year ended December 31, 2015, as sales, paydowns, calls and maturities of fixed maturities and equity securities exceeded purchases of fixed maturity and equity securities due to the payment of claims resulting from the 2015 winter events.
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 2017, the statutory surplus of Safety Insurance was $617,577, and its net income for 2017 was $57,982. As a result, a maximum of $61,758 is available in 2018 for such dividends without prior approval of the Commissioner. Under this Massachusetts statute, the Insurance Subsidiaries has restricted net assets in the amount of $555,819 at December 31, 2017. During the twelve months ended December 31, 2017, Safety Insurance recorded dividends to Safety of $41,826.
On February 15, 2018, our Board approved and declared a quarterly cash dividend on our common stock of $0.80 per share to be paid on March 15, 2018 to shareholders of record on March 1, 2018. We plan to continue to declare and pay quarterly cash dividends in 2018, depending on our financial position and the regularity of our cash flows.
On August 3, 2007, the Board of Directors approved a share repurchase program of up to $30,000 of the Company’s outstanding common shares. As of December 31, 2017, the Board of Directors had cumulatively authorized increases to the existing share repurchase program of up to $150,000 of its outstanding common shares. Under the program, the Company may repurchase shares of its common stock for cash in public or private transactions, in the open market or otherwise. The timing of such repurchases and actual number of shares repurchased will depend on a variety of factors including price, market conditions and applicable regulatory and corporate requirements. The program does not require us to repurchase any specific number of shares and may be modified, suspended or terminated at any time without prior notice. At December 31, 2017 and December 31, 2016, the Company had purchased 2,279,570 shares at a cost of $83,835.
As of December 31, 2017, the Company had loss and LAE reserves of $574,054, unpaid reinsurance recoverables of $83,085 and net loss and LAE reserves of $490,969. Our loss and LAE reserves are estimates as described in more detail under Critical Accounting Policies and Estimates. The specific amounts and timing of obligations related to case reserves, IBNR reserves and related LAE reserves are not set contractually, and the amounts and timing of these obligations are unknown. Nonetheless, based upon our cumulative claims paid over the last ten years, the Company estimates that its loss and LAE reserves will be paid in the period shown above. While management believes that historical performance of loss payment patterns is a reasonable source for projecting future claims payments, there is inherent uncertainty in this estimated projected settlement of loss and LAE reserves, and as a result these estimates will differ, perhaps significantly, from actual future payments. Our operations typically generate substantial positive cash flows from operations as most premiums are received in advance of the time when claim and benefit payments are required. These positive operating cash flows are expected to continue to meet our liquidity requirements, including any unexpected variations in the timing of claim settlements.
When a claim is reported, claims personnel establish a “case reserve” for the estimated amount of the ultimate payment. The amount of the reserve is primarily based upon an evaluation of the type of claim involved, the circumstances surrounding each claim and the policy provisions relating to the loss. The estimate reflects the informed
judgment of such personnel based on general insurance reserving practices and on the experience and knowledge of the claims person. During the loss adjustment period, these estimates are revised as deemed necessary by our claims department based on subsequent developments and periodic reviews of the cases. When a claim is closed with or without a payment, the difference between the case reserve and the settlement amount creates a reserve deficiency if the payment exceeds the case reserve or a reserve redundancy if the payment is less than the case reserve.
Management determines our loss and LAE reserves estimate based upon the analysis of our actuaries. A reasonable estimate is derived by selecting a point estimate within a range of indications as calculated by our actuaries using generally accepted actuarial techniques. The key assumption in most actuarial analysis is that past patterns of frequency and severity will repeat in the future, unless a significant change in the factors described above takes place. Our key factors and resulting assumptions are the ultimate frequency and severity of claims, based upon the most recent ten years of claims reported to the Company, and the data CAR reports to us to calculate our share of the residual market, as of the date of the applicable balance sheet. For each accident year and each coverage within a line of business our actuaries calculate the ultimate losses incurred. Our total reserves are the difference between the ultimate losses incurred and the cumulative loss and loss adjustment payments made to date. Our IBNR reserves are calculated as the difference between our total reserves and the outstanding case reserves at the end of the accounting period. To determine ultimate losses, our actuaries calculate a range of indications and select a point estimation using such actuarial techniques as:
Paid Loss Indications: This method projects ultimate loss estimates based upon extrapolations of historic paid loss trends. This method tends to be used on short tail lines such as automobile physical damage.
Such techniques assume that past experience, adjusted for the effects of current developments and anticipated trends, is an appropriate basis for predicting our ultimate losses, total reserves and resulting IBNR reserves. It is possible that the final outcome may fall above or below these amounts as a result of a number of factors, including immature data, sparse data, or significant growth in a line of business. Using these methodologies our actuaries established a range of reasonably possible estimations for net reserves of approximately $440,918 to $510,166 as of December 31, 2017 compared to a range of $436,208 to $493,754 as of December 31, 2016. In general, the low and high values of the ranges represent reasonable minimum and maximum values of the indications based on the techniques described above. Our selected point estimate of net loss and LAE reserves based upon the analysis of our actuaries was $490,969 as of December 31, 2017 compared to $476,597 as of December 31, 2016.
The following tables present the point estimation of the recorded reserves and the range of estimations by line of business for net loss and LAE reserves as of December 31, 2017 and December 31, 2016.
The following table presents our total net reserves and the corresponding case reserves and IBNR reserves for each line of business as of December 31, 2017 and December 31, 2016.
The following tables present information by line of business for our total net reserves and the corresponding retained (i.e. direct less ceded) reserves and assumed reserves as of December 31, 2017 and 2016.
Establishment of appropriate reserves is an inherently uncertain process. There can be no certainty that currently established reserves based on our key assumptions regarding frequency and severity in our lines of business, or our assumptions regarding our share of the CAR loss will prove adequate in light of subsequent actual experience. To the extent that reserves are inadequate and are strengthened, the amount of such increase is treated as a charge to earnings in the period that the deficiency is recognized. To the extent that reserves are redundant and are released, the amount of the release is a credit to earnings in the period the redundancy is recognized. For the twelve months ended December 31, 2017, a 1 percentage-point change in the loss and LAE ratio would result in a change in reserves of $7,741. Each 1 percentage-point change in the loss and loss expense ratio would have had a $5,032 effect on net income, or $0.33 per diluted share.
The following table presents a comparison of prior year development of our net reserves for losses and LAE for the years ended December 31, 2017, 2016 and 2015, respectively. Each accident year represents all claims for an annual accounting period in which loss events occurred, regardless of when the losses are actually reported, booked or paid. Our financial statements reflect the aggregate results of the current and all prior accident years.
The following table presents information by line of business for prior year development of retained reserves for losses and LAE for the year ended December 31, 2017 that is, all our reserves except for business ceded or assumed from CAR and other residual markets.
The following table presents information by line of business for prior year development of reserves assumed from residual markets for losses and LAE for the year ended December 31, 2017.
Our private passenger automobile line of business prior year reserves decreased by $24,464 for the year ended December 31, 2017. The decrease was primarily due to improved retained private passenger results of $19,820 for the accident years 2013 through 2016.
The improved retained private passenger results were primarily due to fewer IBNR claims than previously estimated and better than previously estimated severity on our established bodily injury and property damage case reserves.
Our retained commercial automobile line of business prior year reserves decreased by $5,397 for the year ended December 31, 2017 due primarily to fewer IBNR claims than previously estimated.
Our retained homeowners line of business prior year reserves decreased by $1,812 for the year ended December 31, 2017 due primarily to re-estimation of catastrophe losses for 2013 through 2015. The unfavorable development in accident year 2015 is attributable to the reinsurance arbitration in regards to the reinsurance recoverable resulting from the 2015 winter storm losses that are admissible under our contract. The total amount of recoverable in dispute, which is based on our total incurred loss, was $20,918. On January 8, 2018 the Company received a final order from the panel of arbitrators in which the reinsurer would pay the Company $9,200 for settlement of all paid and outstanding losses. The remaining unrecovered amount of $11,718 was expensed in 2017.
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 from severe weather, the possibility that we may be unable to collect from reinsurers, the possibility that the Commissioner may approve future Rule changes that change the operation of the residual market, the possibility that existing insurance-related laws and regulations will become further restrictive in the future, our possible need for and availability of additional financing, and our dependence on strategic relationships, among others, and other risks and factors identified from time to time in our reports filed with the SEC. Refer to Part I, Item 1A - Risk Factors.
The Company was incorporated on June 25, 2001 in the State of Delaware. On October 16, 2001, the Company acquired all of the issued and outstanding common stock of Thomas Black Corporation (“TBC”) and its property and casualty subsidiaries. TBC subsequently merged with and into Safety Insurance Group, Inc. with Safety Insurance Group, Inc. being the corporation surviving the merger.
The Company is a leading provider of property and casualty insurance focused primarily on the Massachusetts market. The Company’s principal product line is private passenger automobile insurance, which accounted for 56.7% of its direct written premiums in 2017. The Company operates through its insurance company subsidiaries, Safety Insurance Company, Safety Indemnity Insurance Company, and Safety Property and Casualty Insurance Company (together referred to as the “Insurance Subsidiaries”).
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 common stocks, mutual funds and a real estate investment trust (“REIT”), are reported at fair value. Fair values for fixed maturity securities are based on estimates obtained from independent pricing services. Fair values for equity securities are derived from external market quotations, with the exception of the REIT whose fair value was determined using the trust’s net asset value obtained from its audited financial statements. Short-term investments, which consist of U.S. Treasury securities, are reported at amortized cost, which approximates fair value. Other long-term investments consist of investments in limited partnerships. The partnership interest is accounted for using the equity method of accounting and recorded in earnings from partnership investments. The carrying value of this investment is written down, or impaired, to fair value when a decline in value is considered to be other-than-temporary. In applying the equity method (including assessment for other-than-temporary impairment), the Company uses financial information provided by the investee, generally on a three month lag. 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, net of taxes,” until realized. Realized gains or losses on the sale or maturity of investments are determined based on 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 impairment losses on investments.
Amounts included in accounts receivable represent premiums as well as finance charges, the majority of which are both billed on a monthly installment basis. Accounts receivable are stated net of allowances for doubtful accounts. At December 31, 2017 and 2016, these allowances were $414 and $435, respectively. Uncollected premium balances over ninety days past due are written off.
Amounts that vary with and are primarily related to the successful acquisition of a new or renewal insurance contract, principally commissions and premium taxes, are deferred and amortized ratably over the effective period of the policies. All other acquisition expenses are expensed 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 not taken into account in measuring the recoverability of the carrying value of this asset. Amortization of acquisition costs in the amount of $144,703, $141,540, and $138,239 was charged to underwriting, operating and other expenses for the years ended 2017, 2016 and 2015, respectively.
The TCJA modified the provisions applicable to the determination of the tax basis of unpaid loss reserves. These modifications impact the payment pattern and applicable interest rate. The TCJA instructed the Treasury to provide discount factors and other guidance necessary to determine the necessary transition adjustment. This
information has not been released; accordingly, we have applied the law existing prior to the enactment of the TCJA. These provisions would have no effect on the net deferred tax liability as of December 31, 2017 or the total tax expense for the year ended December 31, 2017.
award, and is recognized as an expense over the requisite service period (generally the vesting period of the equity grant).
In December 2016, the FASB issued ASU 2016-19 - Technical Corrections and Improvements, which covers a wide range of Topics in the Accounting Standards Codification (ASC). The amendments in this Update represent changes to clarify, correct errors, or make minor improvements to the ASC, making it easier to understand and apply by eliminating inconsistencies and providing clarifications. The amendments generally fall into one of the following categories: amendments related to differences between original guidance and the ASC, guidance clarification and reference corrections, simplification, or minor improvements. Most of the amendments in ASU 2016-19 do not require transition guidance and are effective upon issuance of ASU 2016-19. The impact of the adoption of ASU 2016-19 was not material to the Company’s financial position, results of operations, cash flows or disclosures.
In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. ASU 2016-15 reduces diversity in practice in how certain transactions are classified in the statement of cash flows. The amendments in ASU 2016-15 provide guidance on specific cash flow issues including debt prepayment or debt extinguishment costs, settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing, contingent consideration payments made after a business combination, proceeds from the settlement of insurance claims, proceeds from the settlement of corporate-owned life insurance policies, and distributions received from equity method investees. ASU 2016-15 is effective for annual and interim periods beginning after December 15, 2017. The Company does not expect the adoption of ASU 2016-15 to have a material impact to its Consolidated Statements of Cash Flows.
In August 2014, the FASB issued ASU 2014-15, Presentation of Financial Statements - Going Concern (Subtopic 205-40): Disclosures of Uncertainties about an Entity’s Ability as a Going Concern. ASU 2014-15 provides guidance on determining when and how to disclose going concern uncertainties in the financial statements, and requires management to perform interim and annual assessments of an entity’s ability to continue as a going concern within one year of the date the financial statements are issued. ASU 2014-15 is effective for annual periods ending after December 15, 2016 and interim periods thereafter. Management has assessed and concluded that there were no conditions or events, considered in the aggregate, that raise substantial doubt about the Company’s ability to continue as a going concern within one year after the date the financial statements were issued.
In May 2014, the FASB issued as final, ASU 2014-09, Revenue from Contracts with Customers (Topic 606), which supersedes virtually all existing revenue recognition guidance under GAAP. The update's core principle is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The update is effective for interim and annual reporting periods in fiscal years beginning after December 15, 2017 and allows early adoption. ASU 2014-09 allows for the use of either the retrospective or modified retrospective approach of adoption. The Company does not expect the modified retrospective adoption of ASU 2014-09 to have a material impact on its financial position, results of operations, or cash flows, or disclosures.
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 ASC 280, Segment Reporting, 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.
Equity securities include interests in mutual funds held to fund the Company’s executive deferred compensation plan.
ASC 320, Investments-Debt and Equity Securities requires entities to separate an OTTI of a debt security into two components when there are credit related losses associated with the impaired debt security for which the Company asserts that it does not have the intent to sell the security, and it is more likely than not that it will not be required to sell the security before recovery of its cost basis. Under ASC 320, the amount of the OTTI related to a credit loss is recognized in earnings, and the amount of the OTTI related to other factors is recorded as a component of other
The unrealized losses in the Company’s fixed income and equity portfolio as of December 31, 2017 were reviewed for potential other-than-temporary asset impairments. The Company held two debt securities at December 31, 2017 with a material (20% or greater) unrealized loss for four or more consecutive quarters that additionally had certain qualitative factors that led to an impairment charge. As a result of our analysis, during the year ended December 31, 2017, the Company recognized $256 of OTTI losses which consisted entirely of credit losses related to fixed maturity securities. During the year ended December 31, 2016, the Company recognized $798 of OTTI losses which consisted entirely of credit losses related to fixed maturity securities.
As of December 31, 2016, all stock option awards have expired and all compensation expense related to stock option awards has been recognized. At December 31, 2015, the aggregate intrinsic value of outstanding shares under option was $84 with a weighted average remaining contractual term of 0.2 years, respectively. Aggregate intrinsic value represents the total pretax intrinsic value, which is the difference between the fair value based upon the Company’s closing year- end stock price at December 31, 2015 and the exercise price which would have been received by the option holders had all option holders exercised their options as of that date. The exercise price on stock options outstanding under the Incentive Plan was $42.85 at December 31, 2015. The total intrinsic value of options exercised during the years ended December 31, 2016, and 2015, $85, and $138, respectively.
In addition to service-based awards, the Company grants performance-based restricted shares to certain employees. These performance shares cliff vest after a three-year performance period provided certain performance measures are attained. A portion of these awards, which contain a market condition, vest according to the level of total shareholder return achieved by the Company compared to its property-casualty insurance peers over a three-year period. The remainders, which contain a performance condition, vest according to the level of Company’s combined ratio results compared to a target based on its property-casualty insurance peers.
Performance-based awards with market conditions are accounted for and measured differently from awards that have a performance or service condition. The effect of a market condition is reflected in the award’s fair value on the grant date. That fair value is recognized as compensation cost over the requisite service period regardless of whether the market-based performance objective has been satisfied.
As of December 31, 2017, there was $6,420 of unrecognized compensation expense related to non-vested restricted stock awards that is expected to be recognized over a weighted average period of 1.7 years. The total fair value of the shares that were vested and unrestricted during the years ended December 31, 2017, 2016, and 2015 was $3,387, $3,732 and $2,897, respectively.
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 $4,557, $4,242 and $4,293 for the years ended December 31, 2017, 2016, and 2015, respectively. All leases expire prior to 2029. The Company expects that in the normal course of business, leases that expire will be renewed.
As part of the Company’s investment activity, we have committed $60,000 to investments in limited partnerships in a real estate investment trust. The Company has contributed $30,240 to these commitments as of December 31, 2017. As of December 31, 2017, the remaining committed capital due to be called is $29,760.
The Company has a Revolving Credit Agreement (the “Credit Agreement”) with Citizens Bank, NA ((formerly known as RBS Citizens, N.A. (“Citizens Bank”)). The Credit Agreement provides a $30,000 revolving credit facility with an accordion feature allowing for future expansion of the committed amount up to $50,000. Loans under the credit facility bear interest at the Company’s option at either (i) the LIBOR rate plus 1.25% per annum or (ii) the higher of Citizens Bank prime rate or 0.5% above the federal funds rate plus 1.25% per annum. Interest only is payable prior to maturity. The Credit Agreement has a maturity date of August 14, 2018.
The Company’s obligations under the credit facility are secured by pledges of its assets and the capital stock of its operating subsidiaries. The credit facility is guaranteed by the Company’s non-insurance company subsidiaries. The credit facility contains covenants including requirements to maintain minimum risk-based capital ratios and statutory surplus of Safety Insurance Company as well as limitations or restrictions on indebtedness, liens, and other matters. As of December 31, 2017, the Company was in compliance with all covenants. In addition, the credit facility includes customary events of default, including a cross-default provision permitting the lenders to accelerate the facility if the Company (i) defaults in any payment obligation under debt having a principal amount in excess of $10,000 or (ii) fails to perform any other covenant permitting acceleration of all such debt.
securities. At December 31, 2017, the Company has the ability to borrow approximately $264,857 using eligible invested assets that would be used as collateral. The Company has no amounts outstanding from the FHLB-Boston at December 31, 2017.
At the end of each period, the reserves were re-estimated for all prior accident years. The Company’s prior year reserves decreased by $41,784, $45,448, and $30,313 for the years ended 2017, 2016, and 2015, respectively, and resulted from re-estimations of prior years’ ultimate loss and LAE liabilities. The decrease in prior year reserves during 2017 was primarily composed of reductions of $29,855 in the Company’s retained automobile and $10,201 in the Company’s retained other than auto and homeowners reserves, inclusive of the reinsurance recoverable loss. The decrease in prior year reserves during 2016 was primarily composed of reductions of $25,019 in the Company’s retained automobile and $11,648 in the Company’s retained homeowners reserves. The decrease in prior year reserves during 2015 was primarily composed of reductions of $18,644 in the Company’s retained automobile and $7,964 in the Company’s retained homeowners reserves.
The Company’s private passenger automobile line of business prior year reserves decreased during the years ended December 31, 2017, 2016 and 2015 primarily due to improved retained private passenger results. The improved retained private passenger results were primarily due to fewer incurred but not yet reported claims than previously estimated and better than previously estimated severity on the Company’s established bodily injury and property damage case reserves.
The information about incurred claims and allocated claim adjustment expense, net or reserves and paid ultimate claims development for the years ended December 31, 2008 to 2015 is presented as unaudited supplementary information.
The following is unaudited supplementary information about average historical claims duration as of December 31, 2016.
The TCJA modified the provisions applicable to the determination of the tax basis of unpaid loss reserves. These modifications impact the payment pattern and applicable interest rate. The TCJA instructed the Treasury to provide discount factors and other guidance necessary to determine the necessary transition adjustment. This information has not been released; accordingly, we have applied the law existing prior to the enactment of the TCJA. These provisions would have no effect on the net deferred tax liability as of December 31, 2017 or the total tax expense for the year ended December 31, 2017.
On August 3, 2007, the Board of Directors approved a share repurchase program of up to $30,000 of the Company’s outstanding common shares. As of December 31, 2017, the Board of Directors had cumulatively authorized increases to the existing share repurchase program of up to $150,000 of its outstanding common shares. Under the program, the Company may repurchase shares of its common stock for cash in public or private transactions, in the open market or otherwise. The timing of such repurchases and actual number of shares repurchased will depend on a variety of factors including price, market conditions and applicable regulatory and corporate requirements. The program does not require the Company to repurchase any specific number of shares and it may be modified, suspended or terminated at any time without prior notice. No share purchases were made by the Company under the program during the years ended December 31, 2017 and December 31, 2016. As of December 31, 2017, the Company had purchased 2,279,570 shares on the open market at a cost of $83,835.
The 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. Our 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 December 31, 2017, the statutory capital and surplus of Safety Insurance was $617,577 and its net income for 2017 was $57,982. As a result, a maximum of $61,758 is available in 2018 for such dividends without prior approval of the Commissioner. During the year ended December 31, 2017, Safety Insurance recorded dividends of $41,826. As result of this Massachusetts statute, the Insurance Subsidiaries had restricted net assets in the amount of $555,819 at December 31, 2017.
Fair values for the Company’s fixed maturity securities are based on prices provided by its custodian bank and its investment managers. Both the Company’s custodian bank and investment managers use a variety of independent, nationally recognized pricing services to determine market valuations. If the pricing service cannot provide fair value determinations, the Company obtains non-binding price quotes from broker-dealers. A minimum of two quoted prices is obtained for the majority of the Company’s available-for-sale fixed maturity securities in its investment portfolio. The Company’s custodian bank is its primary provider of quoted prices from third-party pricing services and broker-dealers. To provide reasonable assurance of the validity of each price or quote, a secondary third-party pricing service or broker-dealer quote is obtained from the Company’s investment managers. An examination of the pricing data is then performed for each security. If the variance between the primary and secondary price quotes for a security is within an accepted tolerance level, the quoted price obtained from the Company’s custodian bank is used in the financial statements for the security. If the variance between the primary and secondary price quotes exceeds an accepted tolerance level, the Company obtains a quote from an alternative source, if possible, and documents and resolves any differences between the pricing sources. In addition, the Company may request that its investment managers and its traders provide input as to which vendor is providing prices that its traders believe are reflective of fair value for the security. Following this process, the Company may decide to value the security in its financial statements using the secondary or alternative source if it believes that pricing is more reflective of the security’s value than the primary pricing provided by its custodian bank. The Company analyzes market valuations received to verify reasonableness, to understand the key assumptions used and their sources, and to determine an appropriate ASC 820 fair value hierarchy level based upon trading activity and the observability of market inputs. Based on this evaluation and investment class analysis, each price is classified into Level 1, 2 or 3.
The Company’s Level 1 securities consist of equity securities whose values are based on quoted prices in active markets for identical assets. The Company’s Level 2 securities are comprised of available-for-sale fixed maturity
securities whose fair value was determined using observable market inputs. The Company’s Level 3 security consists of an investment in the Federal Home Loan Bank of Boston related to Safety Insurance Company’s membership stock, which is not redeemable in a short-term time frame. Fair values for securities for which quoted market prices were unavailable were estimated based upon reference to observable inputs such as benchmark interest rates, market comparables, and other relevant inputs. Investments valued using these inputs include U.S. Treasury securities, obligations of states and political subdivisions, corporate and other securities, commercial and residential mortgage-backed securities, and other asset-backed securities. Inputs into the fair value application that are utilized by asset class include but are not limited to:
Commercial mortgage-backed securities: overall credit quality, including assessments of the level and variability of credit support and collateral type such as office, retail, or lodging, predictability of cash flows for the deal structure, prevailing economic market conditions.
All unadjusted estimates of fair value for our fixed maturities priced by the pricing services as described above are included in the amounts disclosed in Level 2. With the exception of the FHLB-Boston security, which is categorized as a Level 3 security, the Company’s entire available-for-sale portfolio was priced based upon quoted market prices or other observable inputs as of December 31, 2017. There were no significant changes to the valuation process during the year ended December 31, 2017. As of December 31, 2017 and December 31, 2016, no quotes or prices obtained were adjusted by management. All broker quotes obtained were non-binding.
At December 31, 2017 and December 31, 2016, investments in fixed maturities and equity securities classified
as available-for-sale had a fair value which equaled carrying value of $1,283,893 and $1,259,364, respectively. At December 31, 2017 and December 31, 2016, we held no short-term investments. The carrying values of cash and cash equivalents and investment income accrued approximated fair value.