Prior to the initial public offering ("IPO") which was completed on November 5, 2013, the Company had two classes of common shares outstanding: Class A common shares and Class B-2 common shares. The Class A common shares accrued a 10% cumulative dividend and the Class B-2 common shares had no stated dividend rate with any dividends being declared at the discretion of the Company's Board of Directors. Accordingly, earnings (loss) per common share was calculated using the "two-class" method which provides that earnings and losses be allocated to each class of common
shares according to dividends declared and their respective participation rights. Substantially all of the net income (loss) for the periods prior to the IPO was allocated to the Class A common shares for purposes of determining earnings per share. Upon the completion of the IPO, all of the Class A common shares and the Class B-2 common shares converted into a single class of common shares (the "Common Shares").
Except as otherwise indicated, “Market Share” means our market share as measured by our share of total new insurance written (“NIW”) on a flow basis (in which loans are insured in individual, loan-by-loan transactions) in the U.S. private mortgage insurance industry, and excludes both NIW under the Home Affordable Refinance Program (“HARP” and such NIW, the “HARP NIW”) and bulk insurance (in which each loan in a portfolio of loans is insured in a single transaction).
In 2010, Essent became the first private mortgage insurer to be approved by the GSEs since 1995, and we are licensed to write coverage in all 50 states and the District of Columbia. We completed our initial public offering ("IPO") in November 2013. The financial strength of Essent Guaranty, Inc., our wholly-owned insurance subsidiary, is rated Baa2 with a stable outlook by Moody's Investors Service ("Moody's") and BBB+ with a stable outlook by S&P Global Ratings ("S&P").
We also offer mortgage-related insurance and reinsurance through our wholly-owned Bermuda-based subsidiary, Essent Reinsurance Ltd., which we refer to as "Essent Re." As of December 31, 2016, Essent Re provided insurance or reinsurance relating to the risk in force on loans in reference pools acquired by Freddie Mac and Fannie Mae covering approximately $384.1 million of risk, including in connection with Freddie Mac's Agency Credit Insurance Structure ("ACIS") and Fannie Mae's Credit Insurance Risk Transfer ("CIRT") programs. Essent Re has also reinsured 25% of Essent Guaranty, Inc.'s GSE-eligible mortgage insurance NIW originated since July 1, 2014 under a quota share reinsurance agreement. In 2016, S&P assigned a financial strength rating of BBB+ with a stable outlook to Essent Re.
Because an overwhelming majority of our current and expected future business is the provision of mortgage insurance on loans sold to the GSEs, changes to the business practices of the GSEs or any regulation relating to the GSEs may impact our business and our results of operations. The Federal Housing Finance Agency ("FHFA") is the regulator and conservator of the
GSEs with authority to control and direct their operations. The FHFA has directed, and is likely to continue to direct, changes to the business operations of the GSEs in ways that affect the mortgage insurance industry.
Effective December 31, 2015, Fannie Mae and Freddie Mac, at the direction of the FHFA, implemented new coordinated Private Mortgage Insurer Eligibility Requirements, which we refer to as the "PMIERs." The PMIERs represent the standards by which private mortgage insurers are eligible to provide mortgage insurance on loans owned or guaranteed by Fannie Mae and Freddie Mac. The PMIERs include financial strength requirements incorporating a risk-based framework that require approved insurers to have a sufficient level of liquid assets from which to pay claims. The PMIERs also include enhanced operational performance expectations and define remedial actions that apply should an approved insurer fail to comply with these requirements. As of December 31, 2016, Essent Guaranty, Inc., our GSE-approved mortgage insurance company, was in compliance with the PMIERs.
We expect that most lenders will be reluctant to make non-QM loans because they will not be entitled to the presumption against civil liability under the Dodd-Frank Act, and mortgage investors may be reluctant to purchase mortgages or mortgage-backed securities that are not QMs due to potential assignee liability for such loans. As a result, we believe that the QM regulations have a direct impact on establishing a subset of borrowers who can meet the regulatory standards and directly affect the willingness of lenders and mortgage investors to extend mortgage credit and therefore the size of the residential mortgage market. To the extent the use of private mortgage insurance causes a loan not to meet the definition of a QM, the volume of loans originated with mortgage insurance may decline. In addition, the impact of the mortgage insurance premiums on the calculation of points and fees for purposes of QM may influence the use of mortgage insurance, as well as our mix of premium plans and therefore our profitability. See "-Factors Affecting Our Results of Operations-Persistency and Business Mix" and "Risk Factors-Risks Relating to Our Business-Our business prospects and operating results could be adversely impacted if, and to the extent that, the Consumer Financial Protection Bureau's ("CFPB") final rule defining a qualified mortgage ("QM") reduces the size of the origination market or creates incentives to use government mortgage insurance programs."
The Dodd-Frank Act provides for an originator or issuer risk retention requirement on securitized mortgage loans that do not meet the definition of a QRM. The QRM regulations, which became effective on December 24, 2015, align the definition of a QRM loan with that of a QM loan. Given the alignment of the QRM definition to QM, unless the QRM or QM definitions are revised we expect little or no adverse impact to our current business from the final QRM standards. If, however, the QRM definition is changed (or the QM definition is amended) in a manner that is unfavorable to us, such as to give no consideration to mortgage insurance in computing LTV or to require a large down payment for a loan to qualify as a QRM, the attractiveness of originating and securitizing loans with lower down payments may be reduced, which may adversely affect the future demand for mortgage insurance. See "Business-Regulation-Federal Mortgage-Related Laws and Regulation-Dodd-Frank Act-Qualified Residential Mortgage Regulations-Risk Retention Requirements" and "Risk Factors-Risks Relating to Our Business-The amount of insurance we write could be adversely affected by the implementation of the Dodd-Frank Act's risk retention requirements and the definition of Qualified Residential Mortgage ("QRM")."
Premium rates, which represent the amount of the premium due as a percentage of IIF. Premium rates are based on the risk characteristics of the loans insured, the percentage of coverage on the loans, competition from other mortgage insurers and general industry conditions; and
Premiums associated with our GSE risk share transactions are based on the level of risk in force.
Prepayment speeds and the relative mix of business between single premium policies and monthly premium policies also impact our profitability. Our premium rates include certain assumptions regarding repayment or prepayment speeds of the mortgages. Because premiums are paid at origination on single premium policies, assuming all other factors remain constant, if loans are prepaid earlier than expected, our profitability on these loans is likely to increase and, if loans are repaid slower than expected, our profitability on these loans is likely to decrease. By contrast, if monthly premium loans are repaid earlier than anticipated, our premium earned with respect to those loans and therefore our profitability declines. Currently, the expected return on single premium policies is less than the expected return on monthly policies.
Other income also includes revenues associated with contract underwriting services and changes in the fair value of derivative instruments. The level of contract underwriting revenue is dependent upon the number of customers who have engaged us for this service and the number of loans underwritten for these customers. Through June 30, 2016, the insurance and certain of the reinsurance policies issued by Essent Re in connection with the ACIS program were previously accounted for as derivatives under U.S. generally accepted accounting principles ("GAAP") with the fair value of these policies reported as an asset or liability and changes in the fair value of these policies reported in earnings. Changes in the fair value of these policies were impacted by changes in market observable factors. In the quarter ended September 30, 2016, these policies were amended and are now accounted for as insurance rather than as derivatives. See Note 16 to our consolidated financial statements.
We believe, based upon our experience and industry data, that claims incidence for mortgage insurance is generally highest in the third through sixth years after loan origination. As of December 31, 2016, 83% of our IIF relates to business written since January 1, 2014 and was less than three years old. Although the claims experience on new insurance written by us to date has been favorable, we expect incurred losses and claims to increase as a greater amount of this book of insurance reaches its anticipated period of highest claim frequency. The actual default rate and the average reserve per default that we experience as our portfolio matures is difficult to predict and is dependent on the specific characteristics of our current in-force book (including the credit score of the borrower, the loan-to-value ratio of the mortgage, geographic concentrations, etc.), as well as the profile of new business we write in the future. In addition, the default rate and the average reserve per default will be affected by future macroeconomic factors such as housing prices, interest rates and employment.
Our most significant expense is compensation and benefits for our employees, which represented 64%, 64% and 66% of other underwriting and operating expenses for the years ended December 31, 2016, 2015 and 2014, respectively. Compensation and benefits expense includes base and incentive cash compensation, stock compensation expense, benefits and payroll taxes. Compensation and benefits expense has steadily increased as we have increased our staffing from 289 employees at January 1, 2014 to 376 at December 31, 2016, primarily in our business development and operations functions to support the growth of our business. The growth in our sales organization contributed to the growth of our active customers and NIW. We also expanded our underwriting and customer service teams to support this new business.
Income taxes are incurred based on the amount of earnings or losses generated in the jurisdictions in which we operate and the applicable tax rates and regulations in those jurisdictions. Through December 31, 2014, substantially all of our business activity had been conducted in the United States where we are subject to corporate level Federal income taxes. Our U.S. insurance subsidiaries are generally not subject to income taxes in the states in which we operate; however, our non-insurance subsidiaries are subject to state income taxes. In lieu of state income taxes, our insurance subsidiaries pay premium taxes that are recorded in other underwriting and operating expenses.
As discussed above, premiums we collect and earn are generated based on our IIF, which is a function of our NIW and cancellations. From 2010, when we first began writing policies, through December 31, 2016, we have increased our NIW annually. We have also grown the number of customers who have approved us to provide mortgage insurance over this period, as well as increased our NIW from certain customers. The following table includes a summary of the change in our IIF for the years ended December 31, 2016, 2015 and 2014 for our U.S. mortgage insurance portfolio. In addition, this table includes our risk in force ("RIF") at the end of each period.
The following is a summary of our IIF at December 31, 2016 by vintage:
Our average premium rate is dependent on a number of factors, including: (1) the risk characteristics and average coverage on the mortgages we insure; (2) the mix of monthly premiums compared to single premiums in our portfolio; (3) cancellations of non-refundable single premiums during the period; and (4) changes to our pricing. For the years ended December 31, 2016, 2015 and 2014, our average premium rate was 0.57%, 0.56% and 0.55%, respectively.
As of December 31, 2016, our combined net risk in force for our U.S. insurance companies was $16.8 billion and our combined statutory capital was $1.1 billion, resulting in a risk-to-capital ratio of 14.7:1. The amount of capital required varies in each jurisdiction in which we operate; however, generally, the maximum permitted risk-to-capital ratio is 25.0 to 1. State insurance regulators are currently examining their respective capital rules to determine whether, in light of the recent financial crisis, changes are needed to more accurately assess mortgage insurers' ability to withstand stressful economic conditions. As a result, the capital metrics under which they assess and measure capital adequacy may change in the future. Independent of the state regulator and GSE capital requirements, management continually assesses the risk of our insurance portfolio and current market and economic conditions to determine the appropriate levels of capital to support our business.
For the year ended December 31, 2016, we reported net income of $222.6 million, compared to net income of $157.3 million for the year ended December 31, 2015. The increase in our operating results in 2016 over 2015 was primarily due to an increase in net premiums earned associated with the growth of our IIF and an increase in net investment income, partially offset by increases in other underwriting and operating expenses, the provision for losses and loss adjustment expenses and income taxes.
Other income includes fees earned for information technology and customer support services provided to Triad, contract underwriting revenues and changes in the fair value of the insurance and certain reinsurance policies issued by Essent Re under the ACIS program. The increase in other income for the year ended December 31, 2016 compared to the same period in 2015 was primarily due to an increase in favorable net valuation adjustments associated with ACIS contracts formerly accounted for as insurance rather than as derivatives, and an increase in contract underwriting revenue, partially offset by a decrease in Triad service fees associated with a reduction in the number of Triad's mortgage insurance policies in force. The fees earned from Triad will continue to decrease over time as Triad's existing policies are cancelled.
The increase in the number of defaults at December 31, 2016 compared to December 31, 2015 was primarily due to an increase in our IIF and policies in force, as well as further seasoning of our insurance portfolio.
Our subsidiaries in the United States file a consolidated U.S. Federal income tax return. Our income tax expense was $89.3 million for the year ended December 31, 2016 compared to $71.1 million for the year ended December 31, 2015. Our effective tax rate was 28.6% and 31.1% for the years ended December 31, 2016 and 2015, respectively. During 2016, the proportion of our consolidated earnings generated in Bermuda increased as a result of insurance and reinsurance contracts executed with Freddie Mac and Fannie Mae and the quota share reinsurance agreement between Essent Guaranty, Inc. and Essent Re. Bermuda does not have a corporate income tax.
At December 31, 2016 and 2015, we concluded that it was more likely than not that our deferred tax assets would be realized. In 2017, we expect an increasing portion of our consolidated earnings will be generated in Bermuda and accordingly expect that our effective tax rate will decline below our effective tax rate for the year ended December 31, 2016.
Other income includes fees earned for information technology and customer support services provided to Triad, contract underwriting revenues and changes in the fair value of the insurance and certain reinsurance policies issued by Essent Re under the ACIS program. The increase in other income for the year ended December 31, 2015 compared to the same period in 2014 was primarily due to the change in fair value of the derivative liability and an increase in contract underwriting revenue, partially offset by a decrease in fees earned from Triad as a result of a reduction of the number of Triad's mortgage insurance policies in force.
The increase in the number of defaults at December 31, 2015 compared to December 31, 2014 was primarily due to an increase in our IIF and policies in force, as well as further seasoning of our insurance portfolio.
During the year ended December 31, 2015, the provision for losses and LAE was $11.9 million, comprised of $15.0 million of current year losses partially offset by $3.1 million of favorable prior years' loss development. During the year ended December 31, 2014, the provision for losses and LAE was $6.3 million, comprised of $6.9 million of current year losses partially offset by $0.6 million of favorable prior years' loss development. In both periods, the favorable prior years' loss development was the result of a re-estimation of amounts ultimately to be paid on prior year defaults in the default inventory, including the impact of previously identified defaults that cured.
Our subsidiaries in the United States file a consolidated U.S. Federal income tax return. Our income tax expense was$71.1 million for the year ended December 31, 2015 compared to $47.4 million for the year ended December 31, 2014. Our effective tax rate was 31.1% for the year ended December 31, 2015. During 2015, the proportion of our consolidated earnings generated in Bermuda increased as a result of insurance and reinsurance contracts executed with Freddie Mac and Fannie Mae and the quota share reinsurance agreement entered in to by Essent Guaranty, Inc. and Essent Re effective July 1, 2014. Bermuda does not have a corporate income tax.
Our U.S. insurance subsidiaries are subject to certain capital and dividend rules and regulations prescribed by jurisdictions in which they are authorized to operate and the GSEs. Under the insurance laws of the Commonwealth of Pennsylvania, the insurance subsidiaries may pay dividends during any twelve-month period in an amount equal to the greater of (i) 10% of the preceding year-end statutory policyholders' surplus or (ii) the preceding year's statutory net income. The Pennsylvania statute also requires that dividends and other distributions be paid out of positive unassigned surplus without prior approval. At December 31, 2016, Essent Guaranty, Inc., had unassigned surplus of approximately $13.6 million and has paid no dividends since its inception. Essent Guaranty of PA, Inc. had unassigned surplus of approximately $8.4 million as of December 31, 2016, and paid to its parent company, Essent US Holdings, Inc., a $5.0 million dividend in February 2017. Essent Re is subject to certain dividend restrictions as prescribed by the Bermuda Monetary Authority and under certain agreements with counterparties. In connection with a quota share reinsurance agreement with Essent Guaranty, Inc., Essent Re has agreed to maintain a minimum total equity of $100 million. As of December 31, 2016, Essent Re had total equity of $401.3 million. In connection with its insurance and reinsurance activities, Essent Re is required to maintain assets in trusts for the benefit of its contractual counterparties. The fair value of the investments on deposit in these trusts was $349.6 million at December 31, 2016. At December 31, 2016, our insurance subsidiaries were in compliance with these rules, regulations and agreements.
Cash flow used in investing activities totaled $365.3 million for the year ended December 31, 2016 as compared to cash used in investing activities of $220.7 million for the year ended December 31, 2015 and $727.7 million for the year ended December 31, 2014. The increase in cash flow used in investing activities primarily related to investing cash flows from the business and investing the $100 million borrowed under the revolving credit facility. The decrease in cash flow used in investing activities in the year ended December 31, 2015, as compared to the year ended December 31, 2014, was primarily related to investing proceeds from our IPO, secondary offering, and capital contributions from our initial investors during 2014.
Cash flow provided by financing activities totaled $94.8 million for the year ended December 31, 2016 as compared to cash flow used in financing activities of $3.2 million for the year ended December 31, 2015. The increase in cash flow provided by financing activities of $98.0 million was primarily related to the $100 million borrowing under the revolving credit facility. The proceeds of this borrowing were contributed to Essent Re to support new business.
During the year ended December 31, 2016, no capital contributions were made by Essent Group Ltd. to our U.S. insurance subsidiaries. During the year ended December 31, 2015, capital contributions of $20.0 million were made by Essent Group Ltd. to our U.S. insurance subsidiaries.
Essent Re has entered into risk share insurance and reinsurance transactions with Freddie Mac and Fannie Mae. Essent Re also executed a quota share reinsurance transaction with Essent Guaranty, Inc. to reinsure 25% of Essent Guaranty, Inc.’s GSE-eligible NIW effective July 1, 2014. Essent Group Ltd. made capital contributions to Essent Re of $130.0 million and $41.2 million during the years ended December 31, 2016 and 2015, respectively, to support new business. As of December 31, 2016, Essent Re had total stockholders’ equity of $401.3 million and net risk in force of $4.2 billion.
Effective December 31, 2015, Fannie Mae and Freddie Mac, at the direction of the FHFA, implemented new coordinated Private Mortgage Insurer Eligibility Requirements, which we refer to as the "PMIERs." The PMIERs represent the standards by which private mortgage insurers are eligible to provide mortgage insurance on loans owned or guaranteed by Fannie Mae and Freddie Mac. The PMIERs include financial strength requirements incorporating a risk-based framework that require approved insurers to have a sufficient level of liquid assets from which to pay claims. The PMIERs also include enhanced operational performance expectations and define remedial actions that apply should an approved insurer fail to comply with these requirements. As of December 31, 2016, Essent Guaranty, Inc., our GSE-approved mortgage insurance company, was in compliance with the PMIERs. As of December 31, 2016, Essent Guaranty, Inc.'s Available Assets were $1.18 billion and its
Minimum Required Assets were $1.13 billion based on our interpretation of the PMIERs.
As of December 31, 2016, stockholders’ equity was $1.3 billion compared to $1.1 billion as of December 31, 2015. This increase was primarily due to net income generated in 2016.
The total fair value of our investment portfolio was $1.6 billion as of December 31, 2016 and $1.3 billion as of December 31, 2015. In addition, our total cash was $27.5 million as of December 31, 2016, compared to $24.6 million as of December 31, 2015. The increase in investments and cash was primarily due to investing net cash flows from operations and the $100 million borrowed under the revolving credit facility.
We lease office space in Pennsylvania, North Carolina, California and Bermuda under leases accounted for as operating leases. A portion of the space leased in North Carolina has been subleased to Triad; minimum lease payments shown above have not been reduced by minimum sublease rental income of $0.1 million due in 2017 under the non-cancelable sublease.
We establish reserves for losses based on our best estimate of ultimate claim costs for defaulted loans using the general principles contained in ASC No. 944, in accordance with industry practice. However, consistent with industry standards for
Under the current guidance a debt security impairment is deemed other-than-temporary if we either intend to sell the security, or it is more likely than not that we will be required to sell the security before recovery or we do not expect to collect cash flows sufficient to recover the amortized cost basis of the security. During the years ended December 31, 2016, 2015 and 2014, the unrealized losses recorded in the investment portfolio principally resulted from fluctuations in market interest rates and credit spreads. Each issuer is current on its scheduled interest and principal payments. We recorded other-than-temporary impairments of $0.1 million and $0.3 million in the years ended December 31, 2016 and 2015, respectively, for securities in an unrealized loss position. The impairments resulted from our intent to sell these securities subsequent to the reporting date. We recognized no other-than-temporary impairment losses in earnings associated with our investment portfolio in the year ended December 31, 2014.
Essent Group Ltd. (“Essent Group”) is a Bermuda-based holding company, which, through its wholly-owned subsidiaries, offers private mortgage insurance and reinsurance for mortgages secured by residential properties located in the United States. Mortgage insurance facilitates the sale of low down payment (generally less than 20%) mortgage loans into the secondary mortgage market, primarily to two government-sponsored enterprises ("GSEs"), Fannie Mae and Freddie Mac.
million for the years ended December 31, 2016, 2015 and 2014, respectively. Amortization of deferred policy acquisition costs totaled $5.8 million, $4.7 million and $3.2 million for the years ended December 31, 2016, 2015 and 2014, respectively, and was included in other underwriting and operating expenses on the consolidated statements of comprehensive income.
Mortgage guaranty insurance policies are contracts that are generally non-cancelable by the insurer, are renewable at a fixed price, and provide for payment of premium on a monthly, annual or single basis. Upon renewal, we are not able to re-underwrite or re-price our policies. Consistent with industry accounting practices, premiums written on a monthly basis are earned as coverage is provided. Monthly policies accounted for 81% of earned premium in 2016. Premiums written on an annual basis are amortized on a pro rata basis over the year of coverage. Primary mortgage insurance written on policies covering more than one year are referred to as single premium policies. A portion of the revenue from single premium policies is recognized in earned premium in the current period, and the remaining portion is deferred as unearned premium and earned over the expected life of the policy. If single premium policies related to insured loans are cancelled due to repayment by the borrower, and the premium is non-refundable, then the remaining unearned premium related to each cancelled policy is recognized as earned premium upon notification of the cancellation. The Company recorded $36.9 million and $21.8 million of earned premium related to policy cancellations for the years ended December 31, 2016 and 2015, respectively. Unearned premium represents the portion of premium written that is applicable to the estimated unexpired risk of insured loans. Rates used to determine the earning of single premium policies are estimates based on an analysis of the expiration of risk.
A significant portion of our premium revenue relates to master policies with certain lending institutions. For the year ended December 31, 2016 one lender represented 12% of our total revenue. The loss of this customer could have a significant impact on our revenues and results of operations.
We are required to establish a premium deficiency reserve if the net present value of the expected future losses and expenses for a particular group of policies exceeds the net present value of expected future premium, anticipated investment income and existing reserves for that specified group of policies. We reassess our expectations for premium, losses and expenses of our mortgage insurance business periodically and update our premium deficiency analysis accordingly. As of December 31, 2016 and 2015, we concluded that no premium deficiency reserve was required to be recorded in the accompanying consolidated financial statements.
Through June 30, 2016, insurance and certain reinsurance policies issued by Essent Re in connection with Freddie Mac's Agency Credit Insurance Structure ("ACIS") program were accounted for as derivatives under GAAP with the fair value of these policies reported as an asset or liability and changes in the fair value of these policies reported in earnings as a component of other income. During the quarter ended September 30, 2016, these contracts were amended and are now accounted for as insurance contracts rather than as derivatives. As of December 31, 2016, the Company had no derivative instruments.
We measure the cost of employee services received in exchange for awards of equity instruments at the grant date of the award using a fair value based method. Prior to our initial public offering, we estimated the fair value of each nonvested share grant on the date of grant based on management's best estimate using methods further described in Note 10 of our consolidated financial statements. Subsequent to our initial public offering, fair value is determined on the date of grant based on quoted market prices. We recognize compensation expense on nonvested shares over the vesting period of the award.
In May 2015, the FASB issued ASU 2015-09, Disclosures about Short-Duration Contracts (Topic 944). The amendments in this update require insurance entities to disclose certain information about the liability for unpaid claims and claim adjustment expenses. The additional information required is focused on improvements in disclosures regarding insurance liabilities, including the nature, amount, timing, and uncertainty of cash flows related to those liabilities and the effect of those cash flows on the statement of comprehensive income. The disclosures required by this update are included in Note 6.
In March 2016, the FASB issued ASU 2016-09, Improvements to Employee Share-Based Payment Accounting (Topic 718). This update is intended to simplify several aspects of the accounting for share-based payment award transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. The new guidance requires all excess tax benefits and tax deficiencies to be recognized as income tax expense or benefit in the income statement and treated as discrete items in the reporting period. In addition, excess tax benefits are required to be classified along with other income tax cash flows as an operating activity. Further, the new guidance allows for a policy election to account for forfeitures as they occur rather than on an estimated basis. The Company adopted this ASU on January 1, 2017 and recorded a charge of $0.1 million to retained earnings as of that date representing a cumulative-effect adjustment associated with our election to recognize forfeitures as they occur. The classification of excess tax benefits and tax deficiencies as income tax benefit or expense may result in net income volatility in reporting periods subsequent to 2016. Through December 31, 2016, excess tax benefits have been recognized in additional paid-in-capital. The amount of excess tax benefits or tax deficiencies in future periods will vary based on the market value of the Company’s common stock at the vesting dates of nonvested common share and nonvested common share units.
The amortized cost and fair value of investments available for sale at December 31, 2016, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Because most U.S. agency mortgage-backed securities, residential and commercial mortgage securities and asset-backed securities provide for periodic payments throughout their lives, they are listed below in separate categories.
Effective with the completion of the transaction, Essent Guaranty began providing information systems maintenance and development services, customer service and policy administration support to Triad under the terms of a services agreement dated December 1, 2009. Triad retains the obligation for all risks insured under its existing insurance contracts and will continue to directly manage loss mitigation and claim activity on its insured business. Under the terms of the services agreement, we provide the following services to Triad in exchange for fees: (i) maintain and support the licensed technology and equipment and provide to Triad certain information and technology services; (ii) access to the Triad technology platform in order to support Triad's business pursuant to the license grant outlined in the services agreement; (iii) customer support-related services; and (iv) technology development services. Effective December 1, 2010, the fee is based principally on the number of Triad's insurance policies in force on a monthly basis. Accordingly, this fee is reduced as Triad's policies in force decline. We earned fees under the services agreement of $1.4 million, $1.8 million and $2.3 million for the years ended December 31, 2016, 2015 and 2014, respectively, which are included in other income in the accompanying consolidated statements of comprehensive income.
The following table summarizes incurred loss and allocated loss adjustment expense development, IBNR plus expected development on reported defaults and the cumulative number of reported defaults. The information about incurred loss development for the years ended December 31, 2010 to 2015 is presented as supplementary information.
The following table summarizes cumulative paid losses and allocated loss adjustment expenses, net of reinsurance. The information about paid loss development for the years ended December 31, 2010 through 2015 is presented as supplementary information.
For our mortgage insurance portfolio, our average annual payout of losses as of December 31, 2016 is as follows:
In addition to the indemnifications discussed above, in the normal course of business, we enter into agreements or other relationships with third parties pursuant to which we may be obligated under specified circumstances to indemnify the counterparties with respect to certain matters. Our contractual indemnification obligations typically arise in the context of agreements entered into by us to, among other things, purchase or sell services, finance our business and business transactions, lease real property and license intellectual property. The agreements we enter into in the normal course of business generally require us to pay certain amounts to the other party associated with claims or losses if they result from our breach of the agreement, including the inaccuracy of representations or warranties. The agreements we enter into may also contain other indemnification provisions that obligate us to pay amounts upon the occurrence of certain events, such as the negligence or willful misconduct of our employees, infringement of third-party intellectual property rights or claims that performance of the agreement constitutes a violation of law. Generally, payment by us under an indemnification provision is conditioned upon the other party making a claim, and typically we can challenge the other party's claims. Further, our indemnification obligations may be limited in time and/or amount, and in some instances, we may have recourse against third parties for certain payments made by us under an indemnification agreement or obligation. As of December 31, 2016, contingencies triggering material indemnification obligations or payments have not occurred historically and are not expected to occur. The nature of the indemnification provisions in the various types of agreements and relationships described above are believed to be low risk and pervasive, and we consider them to have a remote risk of loss or payment. We have not recorded any provisions on the consolidated balance sheets related to these indemnifications.
We lease office space for use in our operations under leases accounted for as operating leases. Total rent expense was $1.9 million, $1.9 million and $1.6 million for the years ended December 31, 2016, 2015 and 2014, respectively. The future minimum lease payments of non-cancelable operating leases are as follows at December 31, 2016:
On February 6, 2009, Essent Group adopted the 2009 Restricted Share Plan. In connection with the IPO in 2013, Essent Group's Board of Directors amended and restated the 2009 Restricted Share Plan, effective immediately prior to the initial public offering. In addition, Essent Group's Board of Directors adopted, and Essent Group's shareholders approved, the Essent Group Ltd. 2013 Long-Term Incentive Plan (the "2013 Plan"), which was effective upon completion of the initial public offering. The types of awards available under the 2013 Plan include nonvested shares, nonvested share units, non-qualified share options, incentive stock options, share appreciation rights, and other share-based or cash-based awards. The 2013 Plan authorized a total of 14.7 million Common Shares, which will be increased on the first day of each of the Company's fiscal years beginning with fiscal year 2014, in an amount equal to the lesser of (i) 1.5 million Common Shares, (ii) 2% of the Company's outstanding Common Shares on the last day of the immediately preceding fiscal year, or (iii) such number of Common Shares as determined by the Company's Board of Directors. The maximum number of common shares that may be issued in respect of incentive share options is 14.7 million. As of December 31, 2016, there were 14.1 million Common Shares available for future grant under the 2013 Plan.
In February 2015, certain members of senior management were granted nonvested Common Shares under the 2013 Plan that were subject to time-based and performance-based vesting. The time-based share awards granted in February 2015 vest in three equal installments on March 1, 2016, 2017 and 2018. The performance-based share awards granted in February 2015 vest based upon our compounded annual book value per share growth percentage during a three-year performance period that commenced on January 1, 2015 and vest on March 1, 2018.
In the event that the compounded annual book value per share growth falls between the performance levels shown above, the nonvested Common Shares earned will be determined on a straight-line basis between the respective levels shown.
In connection with our incentive program covering bonus awards for performance year 2013, in February 2014, time-based share awards and share units were issued to certain employees that vest in three equal installments on January 1, 2015, 2016 and 2017. In connection with our incentive program covering bonus awards for performance year 2014, in February 2015, time-based share awards and share units were issued to certain employees that vest in three equal installments on March 1, 2016, 2017 and 2018. In connection with our incentive program covering bonus awards for performance year 2015, in February 2016, time-based share awards and share units were issued to certain employees that vest in three equal installments on March 1, 2017, 2018 and 2019.
In May 2014, time-based share units were issued to non-employee directors that vest one year from the date of grant. The portion of the grant that related to director compensation for the period from our initial public offering through April 2014 vested on November 1, 2014 and the portion of the grant that related to director compensation from May 2014 through April 2015 vested on May 6, 2015. In May 2015, time-based share units were granted to non-employee directors that vested one year from the date of grant. In May 2016, time-based share units were granted to non-employee directors that vest one year from the date of grant.
Quoted market prices are used for the valuation of Common Shares granted subsequent to our initial public offering. For nonvested Common Share units granted in October 2013, the initial public offering price of Common Shares was used. For nonvested Common Shares granted in September 2013, prior to our IPO, the valuation estimate was based on analysis provided by the underwriters regarding the estimated fair value of Essent and the estimated IPO price range. Factors considered in determining the IPO price range and Common Share valuation included prevailing market conditions, estimates of the Company's business potential and earnings prospects, the Company's historical operating results, market valuations of companies deemed comparable to the Company and an assessment of risks and opportunities.
The total fair value of nonvested shares or share units that vested was $15.6 million, $22.4 million and $32.7 million for the years ended December 31, 2016, 2015 and 2014, respectively. As of December 31, 2016, there was $16.0 million of total unrecognized compensation expense related to nonvested shares or share units outstanding at December 31, 2016 and we expect to recognize the expense over a weighted average period of 1.6 years.
At December 31, 2016, our insurance subsidiaries were in compliance with these rules, regulations and agreements.
Essent is not subject to income taxation other than as stated above. There can be no assurance that there will not be changes in applicable laws, regulations, or treaties which might require Essent to change the way it operates or becomes subject to taxation.
The Company is a party to an investment advisory agreement with Goldman Sachs Asset Management, L.P., a subsidiary of The Goldman Sachs Group, Inc. ("Goldman Sachs"), one of Essent Group's investors. Through the date of our IPO, Goldman Sachs beneficially owned 11.35% of our outstanding shares. Subsequent to the IPO, Goldman Sachs directly held less than 10% of our outstanding shares. Investment expense incurred under the investment advisory agreement totaled $0.8 million, $0.7 million, and $0.5 million for the years ended December 31, 2016, 2015 and 2014, respectively. Goldman Sachs is also one of several lenders under our revolving credit facility discussed in Note 7 and was paid an upfront fee of $0.1 million in 2016. Commitment fees and interest expense incurred under the revolving credit facility allocable to Goldman Sachs totaled $0.1 million in 2016. The Company was also a party to underwriting agreements with Goldman Sachs in connection with the IPO and secondary offering of Common Shares. Amounts paid to Goldman Sachs in connection with the underwriting agreements totaled $3.5 million in 2014.
The nonvested performance-based share awards are considered contingently issuable for purposes of the EPS calculation. Based on the compounded annual book value per share growth as of December 31, 2016, 2015 and 2014, 100% of the performance-based share awards would be issuable under the terms of the arrangements at each date if December 31 was the end of the contingency period.
Derivative liabilities-Through June 30, 2016, certain of our Freddie Mac ACIS contracts were accounted for as derivatives. In determining an exit market, we considered the fact that there is not a principal market for these contracts. In the absence of a principal market, we valued these ACIS contracts in a hypothetical market where market participants, and potential counterparties, included other mortgage guaranty insurers or reinsurers with similar credit quality to us. We believed that in the absence of a principal market, this hypothetical market provided the most relevant information with respect to fair value estimates. These ACIS contracts were classified as Level 3 of the fair value hierarchy. During the quarter ended September 30, 2016, these contracts were amended and are now accounted for as insurance contracts rather than as derivatives. As of December 31, 2016, the Company had no derivative instruments.
The following table presents changes during the years ended December 31, 2016 and 2015 in Level 3 liabilities measured at fair value on a recurring basis, and the net realized and unrealized losses (gains) related to the Level 3 liabilities in the consolidated balance sheets at December 31, 2016 and 2015. During the years ended December 31, 2016 and 2015, we had no Level 3 assets.
The following table summarizes the significant unobservable inputs used in our recurring Level 3 fair value measurements as of December 31, 2015:
Our U.S. insurance subsidiaries prepare statutory-basis financial statements in accordance with the accounting practices prescribed or permitted by their respective state’s department of insurance, which is a comprehensive basis of accounting other than GAAP. We did not use any prescribed or permitted statutory accounting practices (individually or in the aggregate) that resulted in reported statutory surplus or capital that was significantly different from the statutory surplus or capital that would have been reported had National Association of Insurance Commissioners’ statutory accounting practices been followed. The following table presents Essent Guaranty’s and Essent PA’s statutory net income, statutory surplus and contingency reserve liability as of and for the years ended December 31:
At December 31, 2016 and 2015, the statutory capital of our U.S. insurance subsidiaries, which is defined as the total of statutory surplus and contingency reserves, was in excess of the statutory capital necessary to satisfy their regulatory requirements.
Effective December 31, 2015, Fannie Mae and Freddie Mac, at the direction of the Federal Housing Finance Agency, implemented new coordinated Private Mortgage Insurer Eligibility Requirements, which we refer to as the "PMIERs." The PMIERs represent the standards by which private mortgage insurers are eligible to provide mortgage insurance on loans owned or guaranteed by Fannie Mae and Freddie Mac. The PMIERs include financial strength requirements incorporating a risk-based framework that require approved insurers to have a sufficient level of liquid assets from which to pay claims. The PMIERs also include enhanced operational performance expectations and define remedial actions that apply should an approved insurer fail to comply with these requirements. As of December 31, 2016, Essent Guaranty, our GSE-approved mortgage insurance company, was in compliance with the PMIERs.
Statement of Statutory Accounting Principles No. 58, Mortgage Guaranty Insurance, requires mortgage insurers to establish a special contingency reserve for statutory accounting purposes included in total liabilities equal to 50% of earned premium for that year. During 2016, Essent Guaranty increased its contingency reserve by $165.8 million and Essent PA increased its contingency reserve by $8.9 million. This reserve is required to be maintained for a period of 120 months to protect against the effects of adverse economic cycles. After 120 months, the reserve is released to unassigned funds. In the event an insurer’s loss ratio in any calendar year exceeds 35%, however, the insurer may, after regulatory approval, release from its contingency reserves an amount equal to the excess portion of such losses. Essent Guaranty and Essent PA did not release any amounts from their contingency reserves in 2016, 2015 or 2014.
Essent Guaranty has a capital maintenance agreement with Essent PA under which Essent Guaranty agreed to contribute funds, under specified conditions, to maintain Essent PA's risk-to-capital ratio at or below 25.0 to 1 in return for a surplus note. As of December 31, 2016, Essent PA's risk-to-capital ratio was 6.8:1 and there were no amounts outstanding related to this agreement.
The following table summarizes the unaudited results of operations for each quarter of 2016 and 2015. We have prepared the consolidated quarterly information on a basis consistent with the audited consolidated financial statements. In the opinion of management, the financial information reflects all adjustments (which include normal recurring adjustments) required for a fair presentation of the financial information for the quarters presented. This information should be read in conjunction with our audited financial statements and the related notes. The results of interim periods are not necessarily indicative of the results for the full year.
During the three years ending December 31, 2016, the Parent Company did not receive any dividends from its subsidiaries.