The following discussion of our financial condition and results of operations contains certain forward-looking statements. See “Item 1 - Business - Uncertainties Relating To Forward-Looking Statements” elsewhere in this report for important information regarding forward-looking statements, which is incorporated herein by reference.
With the exception of our two fixed-income securities with Level 3 fair values, we have determined that the markets for our other fixed-income securities are active. Accordingly, prices obtained from pricing vendors for our Level 2 fair value fixed-income securities have not been adjusted as the prices provided by vendors appear to be
These policy acquisition costs are deferred and amortized over the period in which the related premiums are earned. Under GAAP, the premiums that will be earned in future periods, to which these deferred costs relate, must produce sufficient profits to offset the future expense that will be recognized from the amortization of the DAC; that is, the DAC must be recoverable. In evaluating the recoverability of DAC, we have made certain assumptions regarding the future amount and timing of costs associated with the business written, such as costs to maintain the policies and the ultimate projected loss and loss adjustment expense payments associated with these policies. In addition, we have considered future investment income, at an assumed 3.1% yield, in determining the recoverability of DAC. Based on our analysis as of December 31, 2009, the DAC of $6.1 million carried on the Consolidated Balance Sheets, included elsewhere in this report, was deemed to be fully recoverable.
Underwriting Gain or Loss: This metric measures the overall profitability of our insurance underwriting operations. It is the gain or loss that remains after deducting net loss and loss adjustment expenses and underwriting expenses incurred from net premiums earned. We use this measure to evaluate the underwriting performance of our insurance operations in relation to peer companies.
Of the $36.6 million of 2009 favorable prior year development, $42.2 million was attributable to medical professional liability reserves, partially offset by $5.6 million of unfavorable development on workers’ compensation reserves. This compares with $33.4 million of favorable development and $1.9 million of unfavorable development on medical professional liability and workers’ compensation loss reserves, respectively, in 2008.
In addition to an increase in paid severity due to a general change in the composition of our outstanding claims inventory, our reserve estimates also include projections of higher severity contemplating medical loss cost inflation and our higher reinsurance retention levels in recent years. As noted in the table above, our average net paid loss, which is one measure of claim severity, has increased in recent years. However, the increases noted were not as great as those anticipated in our reserve estimates, and as a result we have recognized favorable development on our prior year medical professional liability loss reserves in each of the last several years.
The reserve range, as of December 31, 2009, is a normal distribution, meaning that reserves are more likely to develop around the center of the range, or carried reserves, and less likely as one approaches either the high or low end of the range. However it is meaningful to note the potential variability in the Company’s pre-tax income if actual claims experience were to emerge more favorably, the lower end of the range, or less favorably, the higher end of the range, than anticipated, as shown in the table below.
Other investments increased $29.0 million to $53.3 million at December 31, 2009 from $24.3 million at December 31, 2008. This increase was primarily the result of a $30.0 million investment in various limited partnerships late in 2009. One of our directors, who is also the beneficial owner of 11.2% of our common stock, is the managing member of Stilwell Value LLC, the general partner of these partnerships. The investment objective of these partnerships is long term capital appreciation through investment in publicly traded common equity. These investments were approved by the Board of Directors and Audit Committee of the Company and are believed to be on the same terms and conditions as currently offered to other investors in the Partnerships. See Note 13 of Notes to Consolidated Financial Statements included elsewhere in this report for additional information regarding these limited partnership investments.
Deferred policy acquisition costs (“DAC”) (carried on the accompanying Consolidated Balance Sheets in other assets) include commissions, premium taxes and other costs incurred in and that vary with premium generation. These costs are deferred and amortized over the period in which the related premiums are earned, typically one year. After considering future investment income, management has determined that all deferred policy acquisition costs are recoverable as of December 31, 2009. See Note 6 for activity in the deferred acquisition cost asset.
Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. The Company did not receive any call premiums during the any of the three years ended December 31, 2009, 2008 or 2007. Call premiums are recorded as investment income in the period in which the security is called.
Unrealized gains or losses on the Company’s available-for-sale investment securities arising during the period, as well as the amortization of unrealized gains and losses on the Company’s held-to-maturity securities that resulted from their transfer, are required to be reported in other comprehensive income, net of tax.
The following table shows net unrealized gains (losses) on available-for-sale investment securities arising during the period, as well as the amortization of unrealized gains related to held-to-maturity securities, reclassification adjustments, and the related deferred income tax effects included in other comprehensive income for the years ended December 31, 2009, 2008 and 2007.
At December 31, 2009 and 2008, property and equipment consisted of the following:
Reinsurance arises from the Company seeking to reduce its loss exposure on its higher limit policies. The Company has mainly entered into excess of loss contracts for medical malpractice and workers’ compensation. A reconciliation of direct premiums to net premiums, on both a written and earned basis, for the years ended December 31, 2009, 2008 and 2007, is as follows:
The Company’s income tax reconciliation for the years ended December 31, 2009, 2008 and 2007, is as follows:
The Board of Directors and shareholders have authorized the American Physicians Capital, Inc. Stock Compensation Plan (the “Plan”). The Plan provides for the award of stock options and other share-based awards for officers, directors and employees of the Company. These awards must be approved by the compensation committee of the board of directors. The total number of shares of the Company’s common stock authorized for issuance under the Plan is 2,400,000 shares, of which only 13,800 remain available at December 31, 2009 for future grants.
Deferred policy acquisition costs are charged against operations as incurred for statutory accounting purposes.
The amount of dividends that the Company’s insurance subsidiaries can pay to APCapital in any 12-month period without prior regulatory approval is limited to the greater of statutory net income for the preceding year, excluding net realized gains on the sale of investments, or 10% of statutory surplus as of the preceding year end on an individual company basis. Due to the parent/subsidiary relationship between American Physicians and APSpecialty, the dividends payable to APCapital are effectively restricted to the net income or surplus limits as they pertain to American Physicians. In accordance with these limits, during 2009 APCapital’s insurance subsidiaries paid it dividends totaling $45.0 million. The insurance subsidiaries could pay dividends to APCapital of approximately $40.0 million in 2010 without prior regulatory approval. However, the $40.0 million that may be paid in 2010 is subject to limitation based on the timing and amount of the dividends that were paid in the preceding 12 months.
These condensed financial statements should be read in conjunction with the accompanying consolidated financial statements and notes thereto of American Physicians Capital, Inc. and Subsidiaries.