Property and casualty insurance operations are conducted through three subsidiaries and represent the most significant segment of the Company’s business, totaling 78 percent of consolidated premiums earned in 2015. The Company’s three property and casualty insurance subsidiaries and two subsidiaries and an affiliate of Employers Mutual (Union Insurance Company of Providence, EMC Property & Casualty Company and Hamilton Mutual Insurance Company) are parties to a pooling agreement with Employers Mutual. Under the terms of the pooling agreement, each company cedes to Employers Mutual all of its insurance business, and assumes from Employers Mutual an amount equal to its participation in the pool. All premiums, losses, settlement expenses, and other underwriting and administrative expenses, excluding the voluntary reinsurance business assumed by Employers Mutual from nonaffiliated insurance companies, are prorated among the parties on the basis of participation in the pool. Employers Mutual negotiates reinsurance agreements that provide protection to the pool and each of its participants, including protection against losses arising from catastrophic events. The aggregate participation of the Company’s property and casualty insurance subsidiaries in the pool is 30 percent.
Reinsurance operations are conducted through EMC Reinsurance Company and accounted for 22 percent of consolidated premiums earned in 2015. The Company’s reinsurance subsidiary is party to a quota share agreement and an excess of loss agreement with Employers Mutual. Under the terms of the quota share agreement, the reinsurance subsidiary assumes 100 percent of Employers Mutual’s assumed reinsurance business, subject to certain exceptions. Under the terms of the excess of loss agreement (covering both business assumed from Employers Mutual through the quota share agreement, as well as business obtained outside the quota share agreement), the reinsurance subsidiary retains the first $4.0 million of losses per event, and also retains 20.0 percent of any losses between $4.0 million and $10.0 million and 10.0 percent of any losses between $10.0 million and $50.0 million. The cost of the excess of loss reinsurance protection, which includes reimbursement for the cost of reinsurance protection purchased by Employers Mutual to protect itself from the assumption of excessive losses in the event of a major catastrophe, is 8.0 percent (9.0 percent in 2013) of the reinsurance subsidiary’s total assumed reinsurance premiums written.
An actuarial evaluation of the prior quarter’s case and bulk case loss reserve adequacy is performed each quarter. If that analysis indicates that the aggregate reserves of the individual claim files established by the claims department combined with the carried bulk case loss reserve (if any) is not within a few percentage points of a benchmark established by the actuarial department, the actuarial department will recommend that an adjustment be made to the current quarter’s bulk case loss reserve. Management reviews all recommendations submitted by the actuarial department and considers such recommendations in the determination of its best estimate of the Company’s overall liability.
Carried reserves established in addition to those reported by the ceding companies totaled approximately $75.0 million at December 31, 2015. Since many ceding companies in the HORAD book of business do not report IBNR loss reserves, Employers Mutual establishes a bulk IBNR loss reserve to cover the lag in reporting. For the few ceding companies that do report IBNR loss reserves, Employers Mutual carries them as reported. These reported IBNR loss reserves are subtracted from the total IBNR loss reserve calculated by Employers Mutual’s actuaries, with the difference carried as bulk IBNR loss reserves. Except for a negative bulk IBNR loss reserve established by Employers Mutual's actuaries in 2015, and a small IBNR loss reserve generally established to cover a one-month lag in reporting (which was suspended in 2015), the MRB IBNR loss reserve is established by the management of MRB. Employers Mutual rarely records additional case loss reserves.
The Company has exposure to construction defect claims arising from general liability policies issued by the pool participants to contractors. Most of the pool participants’ construction defect claims are concentrated in a limited number of states, and the pool participants have taken steps to mitigate this exposure. Construction defect is a highly uncertain exposure due to such issues as whether coverage exists, definition of an occurrence, determination of ultimate damages, and allocation of such damages to financially responsible parties. Newly reported construction defect claims numbered 338, 385 and 232 in 2015, 2014 and 2013, respectively, and produced incurred losses and paid settlement expenses of approximately $3.2 million, $2.9 million and $5.1 million in each respective period. Incurred losses and paid settlement expenses on all construction defect claims totaled approximately $4.8 million in 2015. At December 31, 2015, the Company carried case loss reserves of approximately $5.6 million on 398 open construction defect claims.
All share and per share amounts reported for prior years have been adjusted to reflect a three for two stock split that was completed on June 23, 2015.
The Company reported net income of $50.2 million ($2.43 per share) in 2015 compared to $30.0 million ($1.48 per share) in 2014. Improved premium rate adequacy, an increase in favorable development on prior years' reserves and below average catastrophe and storm losses together produced an excellent combined ratio, the lowest since 2006.
The loss and settlement expense ratio for the reinsurance segment decreased to 64.1 percent in 2015 from 73.9 percent in 2014. This decrease reflects a decline in both reported large losses (losses greater than $100,000) and catastrophe and storm losses, as well as a significant increase in the amount of favorable reserve development experienced on prior years' reserves. Results for 2015 include $4.1 million of catastrophe and storm losses from the Tianjin, China explosion, which is net of $400,000 of reinsurance recovery under the excess of loss reinsurance protection provided by Employers Mutual. Approximately $500,000 of this loss was from the MRB book of business and is reflected in the pro rata property line of business, while the remaining $3.6 million of this loss is reflected in the excess of loss property line of business (accounts for approximately 3.5 and 5.6 percentage points of the loss and settlement expense ratios reported for the pro rata property and excess of loss property lines of business, respectively). The elevated loss and settlement expense ratio reported for the excess of loss liability line of business is attributed to an increase in reported losses for contract years 2010 through 2014, and a corresponding increase in the amount of bulk IBNR loss reserves allocated to these relatively immature years of this long-tailed coverage. Two large reductions in carried reserves implemented during 2015 had an impact on the loss and settlement expense ratios reported for two lines of business. First, revised ultimate loss ratio information was received for several contract years from the ceding company for the offshore energy and liability proportional account, which reduced the carried amount of IBNR loss reserves. This reduction in IBNR loss reserves, coupled with the decrease in IBNR loss reserves resulting from the downward adjustment in expected ultimate premiums on this account (see discussion above), produced a small negative amount of incurred losses and settlement expenses in the pro rata marine line of business, and a corresponding negative loss and settlement expense ratio. Second, a large estimated loss reserve that was established on a German account in the fourth quarter of 2014 was taken down because of favorable development contained in an account statement received in 2015. This resulted in a lower than normal loss and settlement expense ratio in the multiline line of business. In addition to the two large reductions in carried reserves noted above, the favorable development experienced on prior years’ reserves reflects a reduction in IBNR loss reserves established for the 2014 contract year that could no longer be justified. Catastrophe and storm losses accounted for 12.0 percentage points of the loss and settlement expense ratio in 2015, which is lower than both the 14.4 percentage points reported in 2014 and the most recent 10-year average of 13.0 percentage points.
We have audited EMC Insurance Group Inc. and Subsidiaries’ internal control over financial reporting as of December 31, 2015, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). EMC Insurance Group Inc. and Subsidiaries’ management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.
The Company’s basic and diluted net income per share is computed by dividing net income by the weighted average number of common shares outstanding during each period. As previously noted, the Company receives the current fair value for all shares issued under Employers Mutual’s stock plans. As a result, the Company had no potential common shares outstanding during 2015, 2014 or 2013 that would have been dilutive to the calculation of net income per share.
All of the Company’s preferred stock holdings are perpetual preferred stocks. The Company evaluates perpetual preferred stocks with unrealized losses for “other-than-temporary” impairment similar to fixed maturity securities since they have debt-like characteristics such as periodic cash flows in the form of dividends and call features, are rated by rating agencies and are priced like other long-term callable fixed maturity securities. There was no evidence of any credit deterioration in the issuers of the preferred stocks and the Company does not intend to sell these securities before recovery, nor does it believe it will be required to sell these securities before recovery; therefore, it was determined that these securities were not “other-than-temporarily” impaired at December 31, 2015.
Temporary differences between the consolidated financial statement carrying amount and tax basis of assets and liabilities that give rise to significant portions of the deferred income tax asset (liability) at December 31, 2015 and 2014 are as follows: