The following table sets forth our selected historical consolidated financial data as of and for each of the five years ended December 31, 2017, 2016, 2015, 2014 and 2013.
We are a leading provider of private passenger and commercial automobile insurance in Massachusetts. In addition to private passenger automobile insurance (which represented 56.7% of our direct written premiums in 2017), we offer a portfolio of other insurance products, including commercial automobile (15.7% of 2017 direct written premiums), homeowners (22.7% of 2017 direct written premiums), dwelling fire, umbrella and business owner policies (totaling 4.9% of 2017 direct written premiums). Operating exclusively in Massachusetts, New Hampshire and Maine through our insurance company subsidiaries, Safety Insurance, Safety Indemnity, and Safety P&C (together referred to as the “Insurance Subsidiaries”), we have established strong relationships with independent insurance agents, who numbered 892 in 1,107 locations throughout these three states during 2017. We have used these relationships and our extensive knowledge of the market to become the fourth largest private passenger automobile carrier and the second largest commercial automobile carrier in Massachusetts, capturing an approximate 9.3% and 15.6% share, respectively, of the Massachusetts private passenger and commercial automobile markets in 2017, according to statistics compiled by CAR based on automobile exposures. We also are the third largest homeowners insurance carrier in Massachusetts with a 7.3% share of that market. We were ranked the 48th largest automobile writer in the country according to A.M. Best, based on 2016 direct written premiums. We were incorporated under the laws of Delaware in 2001, but through our predecessors, we have underwritten insurance in Massachusetts since 1979.
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 reinsurers was $675 and $31,701, respectively.
The following rate changes have been filed and approved by the insurance regulators of Massachusetts and New Hampshire in 2017 and 2016. Our Massachusetts private passenger automobile rates include a 13% commission rate for agents.
On March 10, 2006, the Board approved amendments to the Incentive Plan, subject to shareholder approval, to (i) increase the number of shares of common stock available for issuance by 1,250,000 shares, (ii) remove obsolete provisions, and (iii) make other non-material changes. A total of 1,250,000 shares of common stock had previously been authorized for issuance under the Incentive Plan. The Incentive Plan, as amended, was approved by the shareholders at the 2006 Annual Meeting of Shareholders which was held on May 19, 2006. Under the Incentive Plan, as amended, the maximum number of shares of common stock with respect to which awards may be granted is 2,500,000. As of December 31, 2017, there were 209,087 shares available for future grant. The Board and the Compensation Committee intend to issue more awards under the Incentive Plan in the future. Grants outstanding under the Incentive Plan as of December 31, 2017, were comprised of 198,746 restricted shares.
Grants made under the Incentive Plan during the years 2013 through 2017 were as follows.
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. We use various software products to measure our exposure to catastrophe losses and the probable maximum loss to us for catastrophe losses such as hurricanes. The models include
We are a participant in CAR, a state-established body that runs the residual market reinsurance programs for commercial automobile insurance in Massachusetts under which premiums, expenses, losses and loss adjustment expenses on ceded business are shared by all insurers writing commercial automobile insurance in Massachusetts. We also participate in the FAIR Plan 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. The FAIR Plan buys reinsurance to reduce their exposure to catastrophe losses. On July 1, 2017, the FAIR Plan purchased $2,000,000 of catastrophe reinsurance for property losses with retention of $100,000.
We also had $104,992 due from CAR comprising of loss and loss adjustment expense reserves, unearned premiums and reinsurance recoverables.
Direct Written Premiums. Direct written premiums for the year ended December 31, 2017 increased by $15,757, or 1.9%, to $827,316 from $811,559 for the comparable 2016 period. The 2017 increase occurred in our private passenger, commercial automobile and homeowners business lines which experienced increases of 3.3%, 2.3% and 4.0% respectively, in average written premium per exposure. Written exposures increased by 5.0% in our commercial automobile line and decreased by 3.0% in our private passenger automobile line and 1.0% in our homeowners line, respectively.
Net Written Premiums. Net written premiums for the year ended December 31, 2017 increased by $14,584, or 1.9%, to $781,054 from $766,470 for the comparable 2016 period. The 2017 increase was primarily due to the factors that increased direct written premiums.
Earnings from Partnership Investments. Earnings from partnership investments were $2,082 for the year ended December 31, 2017 compared to $3,185 for the year ended December 31, 2016.
(3) Our investment portfolio included 367 securities in an unrealized loss position at December 31, 2017.
We reviewed the unrealized losses in our fixed income and equity portfolio as of December 31, 2017 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, the Company recognized OTTI of $256 for the year ended December 31, 2017, which consisted entirely of credit losses related to fixed maturity securities.
Net Impairment Losses on Investments. Net impairment losses on investments were $256 and $798 for the year ended December 31, 2017 and December 31, 2016
Underwriting, Operating and Related Expenses. Underwriting, operating and related expenses for the year ended December 31, 2017 increased by $15,419, or 6.6%, to $248,436 from $233,017 for the comparable 2016 period. Our GAAP expense ratio for the year ended December 31, 2017 increased to 32.1% from 30.8% for the comparable 2016 period. The increase in underwriting, operating and related expenses and the expense ratio is attributable to increases in contingent commissions and nonrecurring legal fees related to reinsurance arbitration.
Interest Expenses. Interest expense was $90 for each of the years ended December 31, 2017 and 2016. The credit facility commitment fee included in interest expense was $75 for each of the years ended December 31, 2017 and 2016.
SEC Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs Act (which we refer to as SAB 118) describes three scenarios associated with a company’s status of accounting for income tax reform. Under the SAB 118 guidance, we have determined that while our accounting for the following elements are incomplete, we are able to make reasonable estimates for certain effects of tax reform. As of the date of this Annual Report on Form 10-K, we are continuing to evaluate the accounting impactions of the TCJA as we continue to assemble and analyze all the information required to prepare and analyze these effects and await additional guidance from the U.S. Treasury Department, Internal Revenue Service or other standard-setting bodies. Additionally, we continue to analyze other information and regulatory guidance and accordingly we may record additional provisional amounts or adjustments to provisional amounts in future periods.
Net Income. Net income for the year ended December 31, 2017 was $62,387 compared to a net income of $64,585 for the comparable 2016 period.
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. We estimate that the loss reserve change will have no impact on our results of operation.
Net Written Premiums. Net written premiums for the year ended December 31, 2016 increased by $20,290, or 2.7%, to $766,470 from $746,180 for the comparable 2015 period. The 2016 increase was primarily due to the factors that increased direct written premiums.
Net Earned Premiums. Net earned premiums for the year ended December 31, 2016 increased by $17,596, or 2.4%, to $755,760 from $738,164 for the comparable 2015 period. The 2016 increase was primarily due to the factors that increased direct written premiums.
Net Investment Income. Net investment income for the year ended December 31, 2016 decreased by $2,121, or 5.2%, to $38,413 from $40,534 for the comparable 2015 period. The decrease is a result of changes in the average invested asset balance as a result of investment proceeds used in the payment of claims resulting from the 2015 winter events and increases in fixed maturity amortization. Net effective annual yield on the investment portfolio was 3.1% for the year ended December 31, 2016 compared to 3.3% for the year ended December 31, 2015. Our duration was 4.3 years at December 31, 2016 up from 4.1 years at December 31, 2015.
Earnings from Partnership Investments. Earnings from partnership investments were $3,185 for the year ended December 31, 2016 compared to $2,387 for the year ended December 31, 2015.
The following table illustrates the gross unrealized losses included in our investment portfolio and the fair value of those securities, aggregated by investment category. The table also illustrates the length of time that they have been in a continuous unrealized loss position as of December 31, 2016.
We reviewed the unrealized losses in our fixed income and equity portfolio as of December 31, 2016 for potential other-than-temporary asset impairments. The Company held five debt securities at December 31, 2016 with a material (20.0% 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, the Company recognized OTTI of $798 for the year ended December 31, 2016, which consisted entirely of credit losses related to fixed maturity securities.
Of the $13,269 gross unrealized losses as of December 31, 2016, $3,912 relates to obligations of U.S. Treasuries, states and political subdivisions. The remaining $9,357 of gross unrealized losses relates primarily to holdings of investment grade asset-backed, corporate, other fixed maturity and equity securities.
Finance and Other Service Income. Finance and other service income include revenues from premium installment charges, which we recognize when earned, and other miscellaneous income and fees. Finance and other service income decreased by $430, or 2.4%, to $17,703 for the year ended December 31, 2016 from $18,133 for the comparable 2015 period.
Our GAAP loss ratio for the years ended December 31, 2016 and 2015 was 65.3% and 83.0%, respectively. Our GAAP loss ratio excluding loss adjustment expenses was 56.8% and 72.9% for the years ended December 31, 2016 and 2015, respectively. Total prior year favorable development included in the pre-tax results for the year ended December 31, 2016 was $45,448, compared to $30,313, for the comparable 2015 period.
Underwriting, Operating and Related Expenses. Underwriting, operating and related expenses for the year ended December 31, 2016 increased by $19,078, or 8.9%, to $233,017 from $213,939 for the comparable 2015 period. Our GAAP expense ratios for the year ended December 31, 2016 increased to 30.8% from 29.0% for the comparable 2015 period. The increase in underwriting, operating and related expense and the expense ratio is attributable to increases in contingent commissions and bonus compensation.
Net cash provided by operating activities was $82,040, $98,824, and $22,891 during the years ended December 31, 2017, 2016, and 2015, respectively. Our operations typically generate positive cash flows from operations as most premiums are received in advance of the time when claim and benefit payments are required. Cash flows from operations in the year ended 2015 were lower than the years ended 2017 and 2016 due to the increased claims activity resulting from the 2015 winter events. These positive operating cash flows are expected to continue to meet our liquidity requirements.
Net cash used for financing activities was $45,460, $42,014, and $41,697 during the years ended December 31, 2017, 2016 and 2015, respectively. Net cash used for financing activities is primarily comprised of dividend payments to shareholders and the acquisition of treasury stock.
Since the initial public offering of its common stock in November 2002, the Company has paid regular quarterly dividends to shareholders of its common stock. Quarterly dividends paid during 2017 and 2016 were as follows:
At December 31, 2017 and 2016, our total IBNR reserves for our private passenger automobile line of business were comprised of $(31,856) and $(36,629) related to estimated ultimate decreases in the case reserves, including anticipated recoveries (i.e. salvage and subrogation), and $20,772 and $21,802 related to our estimation for not yet reported losses, respectively.
Our IBNR reserves consist of our estimate of the total loss reserves required less our case reserves. The IBNR reserves for CAR assumed commercial automobile business are 48.7% of our total reserves for CAR assumed commercial automobile business as of December 31, 2017 due to the reporting delays in the information we receive from CAR, as described further in the section on CAR Loss and Loss Adjustment Expense Reserves. Our IBNR reserves for FAIR Plan assumed homeowners are 69.3% of our total reserves for FAIR Plan assumed homeowners at December 31, 2017 due to similar reporting delays in the information we receive from FAIR Plan.
Although we rely to a significant extent in setting our reserves on the information the various residual markets provide, we are cautious in our use of that information, because of the delays in receiving data from the various residual markets. Because of the lag in the various residual market estimations, and in order to try to validate to the extent possible the information provided, we estimate the effects of the actions of our competitors in order to establish our Participation Ratio.
Our assumptions consider that past experience, adjusted for the effects of current developments and anticipated trends, are an appropriate basis for establishing our reserves. Our individual key assumptions could each have a reasonable possible range of plus or minus 5 percentage-points for each estimation, although there is no guarantee that our assumptions will not have more than a 5 percentage point variation. The following sensitivity tables present information for each of our primary lines of business on the effect each 1 percentage-point change in each of our key assumptions on unpaid frequency and severity could have on our retained (i.e., direct minus ceded) loss and LAE reserves and net income for the twelve months ended December 31, 2017. In evaluating the information in the table, it should be noted that a 1 percentage-point change in a single assumption would change estimated reserves by 1 percentage-point. A 1 percentage-point change in both our key assumptions would change estimated reserves within a range of plus or minus 2 percentage-points.
reserves and net income for the year ended December 31, 2017. In evaluating the information in the table, it should be noted that a 1 percentage-point change in our assumptions would change estimated reserves by 1 percentage-point.
The changes we have recorded in our reserves in the past illustrate the uncertainty of estimating reserves. Our prior year reserves decreased by $41,784, $45,448 and $30,313 for the years ended December 31, 2017, 2016, and 2015, respectively.
At the end of each period, the reserves were re-estimated for all prior accident years. Our prior year reserves decreased by $41,784, $45,448, and $30,313 for the years ended 2017, 2016, and 2015, respectively. The decreases in prior year reserves in 2017 resulted from re-estimations of prior year’s ultimate loss and LAE liabilities and are primarily composed of reductions of $29,855 in our retained automobile reserves and $10,201 in our retained other than auto and homeowner’s reserves, inclusive of the reinsurance recoverable loss. The decreases in prior year reserves in 2016 resulted from re-estimations of prior year’s ultimate loss and LAE liabilities and are primarily composed of reductions of $25,019 in our retained automobile reserves and $11,648 in our retained homeowner reserves. The decrease in prior year reserves during 2015 is primarily composed of reductions of $18,644 in our retained automobile reserves and $7,964 in our retained homeowners reserves. It is not appropriate to extrapolate future favorable or unfavorable development of reserves from this past experience.
The following table presents information by line of business for prior year development of our net reserves for losses and LAE for the year ended December 31, 2017.
In estimating all our loss reserves, including CAR, we follow the guidance prescribed by ASC 944, Financial Services-Insurance.
For further information, see “Results of Operations: Net Realized Gains (Losses) on Investments.”
Descriptions of plans or objectives of management for future operations, products or services;
We have audited the accompanying consolidated balance sheets of Safety Insurance Group, Inc. as of December 31, 2017 and December 31, 2016, and the related consolidated statements of operations, comprehensive income, changes in shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2017, including the related notes and financial statement schedules listed in the index appearing under Item 15(a)(2) (collectively referred to as the “consolidated financial statements”). We also have audited the Company's internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
The Company's management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in Management's Report on Internal Control over Financial Reporting under Item 9A. Our responsibility is to express opinions on the Company’s consolidated financial statements and on the Company's internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for 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.
No portion of the other-than-temporary impairments recognized in the period indicated were included in comprehensive income.
Premiums received in advance of the policy effective date are recorded as a liability and not recognized as income until earned. Such amounts are included in accounts payable and accrued liabilities and totaled $14,371 and $14,643 at December 31, 2017 and 2016, respectively.
Advertising costs are charged to expense when they are incurred. Total advertising costs were $2,216, $2,063 and $1,906 for the years ended December 31, 2017, 2016, and 2015, respectively.
Basic earnings (loss) per weighted average common share (“EPS”) are calculated by dividing net income (loss) by the weighted average number of basic common shares outstanding during the period. Diluted earnings (loss) per share amounts are based on the weighted average number of common shares including non-vested performance stock grants and the net effect of potentially dilutive common stock options.
(1) Excludes 1,587 of common equivalent shares related to stock options because their inclusion would be anti-dilutive due to the net loss of the Company.
(2) Excludes 46,805 of common equivalent shares related to non-vested performance shares because their inclusion would be anti-dilutive due to the net loss of the Company.
Diluted EPS excludes stock options with exercise prices and exercise tax benefits greater than the average market price of the Company’s common stock during the period because their inclusion would be anti-dilutive. There were no anti-dilutive stock options or non-vested performance stock grants for the years ended December 31, 2017 and 2016.
Accounting Standards Codification (“ASC”) 718, Compensation -Stock Compensation requires the Company to measure and recognize the cost of employee services received in exchange for an award of equity instruments. Under the provisions of ASC 718, share-based compensation cost is measured at the grant date, based on the fair value of the
In February 2018, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2018-02, Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. The ASU provides guidance for an optional reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the newly-enacted federal corporate income tax rate as a result of the TCJA. The amount of the reclassification of the deferred tax in accumulated other comprehensive income is the difference between the historical corporate income tax rate and the newly enacted twenty-one percent corporate income tax rate. The new guidance will be effective for the Company’s year ending December 31, 2018. The Company is evaluating the impact of ASU 2018-02 on its financial position and did not early adopt ASU 2018-02 for the year ended December 31, 2017.
In October 2016, the FASB issued ASU 2016-17 - Consolidation (Topic 810): Interests Held through Related Parties that are Under Common Control, which amends the consolidation guidance on how a reporting entity that is the single decision maker of a variable interest entity (“VIE”) should treat indirect interests in the entity held through related parties that are under common control with the reporting entity when determining whether it is the primary beneficiary of that VIE. The Update requires the reporting entity, in determining whether it satisfies the second characteristic of a primary beneficiary, to include its indirect variable interests in a VIE held through related parties that are under common control on a proportionate basis as opposed to in their entirety. The amendments in this Update will be applied retrospectively and are effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. The impact of the adoption of ASU 2016-17 was not material to the Company’s financial position, results of operations or cash flows.
In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Statements, which amends the guidance for the impairment of financial instruments and is expected to result in more timely recognition of impairment losses. The update introduces an impairment model referred to as the current expected credit loss (“CECL”) model. The impairment model is based on expected losses rather than incurred losses. Under the new guidance, an entity recognizes as an allowance its estimate of expected credit losses. The ASU is also intended to reduce the complexity of the current guidance by decreasing the number of credit impairment models that entities use to account for debt instruments. For public business entities that are SEC filers, the amendments in ASU No. 2016-13 are effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Entities may adopt the amendments in this update earlier as of the fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is evaluating the impact of ASU 2016-13 on its financial position and results of operations with regards to potential credit losses on its Available For Sale investment portfolio. The extent of the increase of credit losses is under evaluation, but will depend upon the nature and characteristics of the Company’s portfolio at the adoption date, and the macroeconomic conditions and forecasts at the date.
In March 2016, the FASB issued ASU 2016-09, Compensation-Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. This ASC update requires all excess tax benefits and tax deficiencies to be recognized as income tax expense or benefit in the income statement, and be treated as discrete items in the reporting period in which they occur. Additionally, excess tax benefits will be classified with other income tax cash flows as an operating activity and cash paid by an employer when directly withholding shares for tax withholding purposes will be classified as a financing activity. Awards that are used to settle employee tax liabilities will be allowed to qualify for equity classification for withholdings up to the maximum statutory tax rates in applicable jurisdictions. Regarding forfeitures, a company can make an entity-wide accounting policy election to either continue estimating the number of awards that are expected to vest or account for forfeitures when they occur. The updated guidance is effective for annual periods beginning after December 15, 2016 and interim periods within those annual periods. The impact of the adoption of ASU 2016-09 was not material to the Company’s financial position, results of operations or cash flows.
In February 2016, the FASB issued ASU 2016-02, Leases. ASU 2016-02 establishes a right-of-use (“ROU”) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. The new standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. The Company is currently evaluating the impact of ASU 2016-02 by reviewing its existing lease contracts. The Company expects a gross-up of its Consolidated Balance Sheets as a result of recognizing lease liabilities and right of use assets. The extent of such gross-up is under evaluation. The Company does not expect material changes to the Consolidated Statements of Operations.
In January 2016, the FASB issued ASU 2016-01, Financial Instruments-Overall (Subtopic 825-10), Recognition and Measurement of Financial Assets and Financial Liabilities. The amendments in this ASC update address certain aspects of recognition, measurement, presentation and disclosure of financial instruments. ASU 2016-01: (1) requires equity investments (except those accounted for under the equity method or those that result in the consolidation of the investee) to be measured at fair value with changes in the fair value recognized in net income; (2) simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative
The Company’s investment portfolio included 367 and 343 securities in an unrealized loss position at December 31, 2017 and December 31, 2016, respectively.
The following tables as of December 31, 2017 and 2016 present the gross unrealized losses included in the Company’s investment portfolio and the fair value of those securities aggregated by investment category. The tables also present the length of time that they have been in a continuous unrealized loss position.
comprehensive income (loss). In instances where no credit loss exists but it is more likely than not that the Company will have to sell the debt security prior to the anticipated recovery, the decline in market value below amortized cost is recognized as an OTTI in earnings. In periods after the recognition of an OTTI on debt securities, the Company accounts for such securities as if they had been purchased on the measurement date of the OTTI at an amortized cost basis equal to the previous amortized cost basis less the OTTI recognized in earnings. For debt securities for which OTTI was recognized in earnings, the difference between the new amortized cost basis and the cash flows expected to be collected will be accreted or amortized into net investment income.
The qualitative analysis performed by the Company concluded that outside of the securities that were recognized through OTTI, the 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. Therefore, decreases in fair values of the Company’s securities are viewed as being temporary.
The following table summarizes the credit loss recognized in earnings related to fixed maturity securities:
At December 31, 2017 and December 31, 2016, there were no amounts included in accumulated other comprehensive income related to securities which were considered by the Company to be other-than-temporarily impaired.
The components of net investment income were as follows for the periods indicated.
Depreciation and amortization expense for the years ended December 31, 2017, 2016, and 2015 was $5,037, $4,382, and $3,907, respectively.
The Company sponsors 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. At the close of each Retirement Plan year, the Company makes a matching contribution equal to 100% of the amount each participant contributed during the plan year from their total pay, up to a maximum amount of 8% of the participant’s base salary, to those participants who have contributed to the Retirement Plan and were employed on the last day of the Retirement Plan year. Compensation expense related to the Retirement Plan was $3,164, $3,018, and $3,019 for the years ended December 31, 2017, 2016, and 2015, respectively.
The maximum number of shares of common stock with respect to which awards may be granted is 2,500,000. The Incentive Plan was amended in March of 2013 to remove "share recycling" plan provisions. Hence, shares of stock covered by an award under the Incentive Plan that are forfeited are no longer available for issuance in connection with 2013 and future grants of awards. At December 31, 2017, there were 209,087 shares available for future grant. The Board of Directors and the Compensation Committee intend to issue more awards under the Incentive Plan in the future.
For the years ended December 31, 2017, 2016, and 2015, the Company recorded compensation expense related to awards under the Incentive Plan of $3,358, $2,797, and $2,423, net of income tax benefit of $1,808, $1,506, and $1,304, respectively.
Actual payouts can range from 0% to 200% of target shares awarded depending upon the level of achievement of the respective market and performance conditions during a three fiscal-year performance period. Compensation
expense for share awards with a performance condition is based on the probable number of awards expected to vest using the performance level most likely to be achieved at the end of the performance period.
The Company has various non-cancelable long-term operating leases. The approximate minimum annual rental payments due under these lease agreements as of December 31, 2017 are presented in the following table.
A ninth amendment to a lease agreement for the lease of office space was executed on November 7, 2017. Under the provisions of this amendment, the lease term was extended an additional eleven years commencing on January 1, 2018, with an option to renew for two additional five-year terms.
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.
The Company became a member of the Federal Home Loan Bank of Boston (“FHLB-Boston”) during the quarter ended September 30, 2014. Membership in the FHLB-Boston allows the Company to borrow money at competitive interest rates provided the loan is collateralized by specific U.S Government residential mortgage backed
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.
The current reinsurance recoverable related to the 2015 snow event from all reinsurers is $675.
The Company is subject to concentration of credit risk with respect to reinsurance ceded. At December 31, 2017, reinsurance receivables on paid and unpaid loss and LAE with a carrying value of $86,291 and ceded unearned premiums of $30,706 were associated with CAR. At December 31, 2016, reinsurance receivables on paid and unpaid loss and LAE with a carrying value of $70,623 and ceded unearned premiums of $26,964 were associated with CAR. The Company assumes a proportionate share of the obligations from CAR. The Company makes an estimate of its share of assumed activity from the most recent quarter reported by CAR and records adjustments to the reported activity to reflect its anticipated final assumed obligations. The Company’s participation in CAR resulted in assumed net losses of $5,444, $2,341 and $365 for the years ended December 31, 2017, 2016 and 2015, respectively.
The following table sets forth a reconciliation of beginning and ending reserves for losses and loss adjustment expenses (“LAE”), as shown in the Company’s consolidated financial statements for the periods indicated.
The following is information about incurred and paid claims development as of December 31, 2017 net of reinsurance, as well as cumulative claim frequency and the total of incurred-but-not-reported liabilities plus expected development on reported claims included within the net incurred claims amounts for our three largest lines of business. The cumulative number of reported claims include claims closed with payment, claims closed without payment and all open claims. It does not include anticipated IBNR claims. For the Private Passenger Automobile and Commercial Automobile lines of business, claim count is defined on a claimant basis where several claim counts may arise from a single auto accident. For Homeowners and all other lines of business, claim count is defined on an accident basis.
The deferred income tax asset (liability) represents the tax effects of temporary differences attributable to the Company’s consolidated federal tax return group. Its components were as shown in the following table for the periods indicated.
During the years ended December 31, 2017 and December 31, 2016 there were no material changes to the amount of the Company’s unrecognized tax benefits or to any assumptions regarding the amount of its ASC 740 liability.
As of December 31, 2017 and December 31, 2016, the Company had no unrecognized tax benefits, and none which if recognized would affect the effective tax rate. The Company does not currently anticipate significant changes in the amount of unrecognized income tax benefits during the next twelve months.
The Company’s U.S. federal tax return for the years ended December 31, 2015, 2014 and 2013 respectively, were examined by the IRS. This examination relates to the refund claim for the 2015 Net Operating Loss that was carried back to prior years, which triggered a review by the Joint Committee on Taxation. The review was completed during 2017 and no adjustments were noted as part of the review. All tax years prior to 2014 are closed.
In the Company’s opinion, adequate tax liabilities have been established for all open years. However, the amount of these tax liabilities could be revised in the near term if estimates of the Company’s ultimate liability are revised.
On December 22, 2017, 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. Tax related changes are recorded through the Statement of Operations for the year ended December 31, 2017. The December 31, 2017 net deferred tax liability has been measured at the 21% tax rate.
SEC Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs Act (which we refer to as SAB 118) describes three scenarios associated with a company’s status of accounting for income tax reform. Under the SAB 118 guidance, we have determined that we are able to make reasonable estimates for certain effects of tax reform. As of the date of this Annual Report on Form 10-K, we are continuing to evaluate the accounting impactions of the TCJA as we continue to assemble and analyze all the information required to prepare and analyze these effects and await additional guidance from the U.S. Treasury Department, IRS or other standard-setting bodies. Additionally, we continue to analyze other information and regulatory guidance and accordingly we may record additional provisional amounts or adjustments to provisional amounts in future periods.
The Company’s insurance company subsidiaries, domiciled in the Commonwealth of Massachusetts, prepare statutory financial statements in accordance with the accounting practices prescribed or permitted by 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. Statutory net income was $57,982, and $57,202 for the years ended December 31, 2017, and 2016 respectively. Statutory net loss of the Company’s insurance company subsidiaries was $12,209 for the year ended December 31, 2015. Statutory capital and surplus of the Company’s insurance subsidiaries was $617,577, and $604,813 at December 31, 2017 and 2016, respectively.
The NAIC has adopted a formula and model law to implement risk-based capital requirements for most property and casualty insurance companies, which are designed to determine minimum capital requirements and to raise the level of protection that statutory surplus provides for policyholder obligations. Under Massachusetts law, insurers having less total adjusted capital than that required by the risk-based capital calculation will be subject to varying
degrees of regulatory action, depending on the level of capital inadequacy. The risk-based capital law provides for four levels of regulatory action. The extent of regulatory intervention and action increases as the level of total adjusted capital to risk-based capital falls. As of December 31, 2017, the Insurance Subsidiaries had total adjusted capital of $617,577, which is in excess of amounts requiring company or regulatory action at any prescribed risk-based capital action level. Minimum statutory capital and surplus, or company action level risk-based capital, was $171,988 at December 31, 2017.
ASC 820, Fair Value Measurements and Disclosure provides a revised definition of fair value, establishes a framework for measuring fair value and expands financial statement disclosure requirements for fair value information. Under ASC 820, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants (an exit price). ASC 820 establishes a fair value hierarchy that distinguishes between inputs based on market data from independent sources (“observable inputs”) and a reporting entity’s internal assumptions based upon the best information available when external market data is limited or unavailable (“unobservable inputs”). The fair value hierarchy in ASC 820 prioritizes fair value measurements into three levels based on the nature of the inputs as follows:
Corporate and fixed maturities: overall credit quality, the establishment of a risk adjusted credit spread over the applicable risk-free yield curve for discounted cash flow valuations; assessments of the level of industry economic sensitivity, company financial policies, indenture restrictive covenants, and/or security and collateral.
In order to ensure the fair value determination is representative of an exit price (consistent with ASC 820), the Company’s procedures for validating quotes or prices obtained from third parties include, but are not limited to, obtaining a minimum of two price quotes for each fixed maturity security if possible, as discussed above, the periodic testing of sales activity to determine if there are any significant differences between the market price used to value the security as of the balance sheet date and the sales price of the security for sales that occurred around the balance sheet date, and the periodic review of reports provided by its investment manager regarding those securities with ratings changes and securities placed on its “Watch List.” In addition, valuation techniques utilized by pricing services and prices obtained from external sources are reviewed by the Company and its external investment manager, whose investment professionals are familiar with the securities being priced and the markets in which they trade, to ensure the fair value determination is representative of an exit price (consistent with ASC 820).
There were no transfers between Level 1 and Level 2 during the years ended December 31, 2017 or 2016.
The following tables summarize the changes in the Company’s Level 3 fair value securities for the periods indicated.
As of December 31, 2017 and December 31, 2016, there were approximately $24,130 and $19,961 in a real estate investment trust (“REIT”). The REIT is excluded from the fair value hierarchy because the fair value is recorded using the net asset value per share practical expedient. The net asset value per share of this REIT is derived from member ownership in the capital venture to which a proportionate share of independently appraised net assets is attributed. The fair value was determined using the trust’s net asset value obtained from its audited financial statements. The Company is required to submit a request to the REIT 45 days before a quarter end to dispose of the security.
Mr. A. Richard Caputo, Jr., a member of the Company’s Board of Directors and Chairman of its Investment Committee, until his resignation in February 2017, is a principal of The Jordan Company, LP (“Jordan”). In 2012, the Company participated as a lender in two loans made by syndicates of lenders to a portfolio company in which funds managed by Jordan are controlling or a significant investor. The first loan, made to Vantage Specialties, Inc., was disposed of in 2016. The second loan, made to ARCAS Automotive (formerly known as Sequa Auto), was disposed of in 2015. The Company made the loans on the same terms as the other lenders participating in the syndicate. The loans were subject to the approval of the Company’s full Investment Committee.