- Further deterioration in both claims frequency and severity for leases expiring in 2003. During the second quarter of 2003, the Company engaged a consulting firm to aid in evaluating the ultimate potential loss exposure under these policies. Based upon the study and the subsequent evaluation by the Company, the Company changed its assumptions relating to future frequency and severity of losses, the estimate for unpaid loss and loss adjustment expenses by $33.0 million. The Company primarily attributes this deterioration to the following factors that led to a softening of prices in the used car market subsequent to the September 11, 2001 terrorist attacks: prolonged 0% new car financing rates and other incentives which increased new car sales and the volume of trade-ins, daily rental units being sold into the market earlier and in greater numbers than expected, further adding to the over supply of used cars, and the overall uncertain economic conditions.
Net Loss and Loss Adjustment Expenses: Net loss and loss adjustment expenses increased $91.8 million (34.3%) to $359.2 million for the year ended December 31, 2003 from $267.4 million for the same period of 2002 and the loss ratio decreased to 62.8% in 2003 from 63.3% in 2002. This increase in net loss and loss adjustment expenses was due to the 35.7% growth in net earned premiums, a $38.8 million increase in the estimated gross and net loss for unreported claims incurred and related claim adjustment expenses on residual value polices issued during the years 1998 through 2002, and a $5.8 million net increase in the estimated gross and net loss reserves for loss and loss adjustment expenses primarily for claims made professional liability and commercial automobile lines of business in prior accident years. Additionally, during the year the Company ceded $109.3 million of net earned premium and $62.7 million in net loss and loss adjustment expenses pursuant to the quota share reinsurance agreement (see Premiums).
Premiums: Gross written premiums grew $190.1 million (40.1%) to $663.7 million in 2002 from $473.6 million in 2001; gross earned premiums grew $134.4 million (31.9%) to $555.5 million in 2002 from $421.1 million in 2001; net written premiums increased $189.4 million (56.7%) to $523.2 million in 2002 from $333.8 million in 2001; and net earned premiums grew $125.1 million (42.2%) to $421.2 million in 2002 from $296.1 million in 2001.
- - Further rating downgrades of certain major competitor property and casualty insurance companies have led to their diminished presence in the Company's commercial and specialty lines business segments and continue to result in additional prospects and increased premium writings, most notably for the Company's various commercial package and non-profit D&O product lines.
Additionally, the respective net written premium increases (decreases) for commercial lines, specialty lines and personal lines segments for the year ended December 31, 2002 vs. December 31, 2001 amount to $160.5 million (71.7%), $31.8 million (45.6%) and ($2.9) million (7.1%) respectively. The differing percentage increases (decreases) in net written premiums versus gross written premiums for the year is primarily due to the Company commuting a 2001 accident year aggregate stop loss reinsurance program during the quarter ended June 30, 2002 whereby net written and net earned premiums increased by $3.6 million ($2.4 million Commercial Lines, $0.8 million Specialty Lines, $0.4 million Personal Lines), and in part to other various changes in, or pricing of, the Company's reinsurance program.
FASB Interpretation 46 "Consolidation of Variable Interest Entities" was issued in January 2003 and is effective at various dates for various requirements. This interpretation addresses consolidation of variable interest entities (formerly known as special purpose entities). Management has determined that this interpretation will have no effect on the Company's consolidated financial statements.
Additionally, the Insurance Subsidiaries have investments, principally asset backed securities, which collateralize the borrowings from the Federal Home Loan Bank of Pittsburgh, see Note 10. The carrying value of these investments was $59.1 million and $49.2 million as of December 31, 2003 and 2002, respectively.
The Company had aggregate borrowings of $48.5 million and $39.1 million as of December 31, 2003 and 2002, respectively, from the Federal Home Loan Bank of Pittsburgh. These borrowings bear interest at adjusted LIBOR and mature twelve months from inception. The proceeds from these borrowings were invested in asset backed securities and collateralized mortgage obligations to achieve a positive spread between the rate of interest on these securities and the borrowing rates. The weighted-average interest rate on borrowings outstanding as of December 31, 2003 was 1.23%.
(2) The Company uses the Black-Scholes pricing model to calculate the fair value of the options awarded as of the date of grant.
The Company is subject to routine legal proceedings in connection with its property and casualty insurance business. The Company also is not involved in any pending or threatened legal or administrative proceedings which management believes can reasonably be expected to have a material adverse effect on the Company's financial condition or results of operations.