Investment income increased as pre-tax investment yields rose to 3.8% in 2005 compared to 3.5% in 2004 and as the result of investing the 2005 cash flow from operations and the proceeds from the October 2005 equity offering in an investment environment where interest rates were fluctuating but generally increasing as the result of tightening monetary policy.
Marine Premium. The gross written premium for each of the years in the three-year period ended December 31, 2007 consisted of the following:
Net Earned Premium. Net earned premium increased 28.5% in 2007 compared to 2006 and increased 38.3% in 2006 compared to 2005. The 2007 and 2006 net earned premium reflects the strong growth in written premiums discussed above and, for 2006, the effect of ceded reinstatement premiums resulting from storm losses that affected 2005. The 2005 net earned premium was reduced by $14.5 million of reinstatement premium as a result of the losses from the 2005 Hurricanes. Excluding the
Commission Income. Commission income from unaffiliated business decreased 43.5% to $1.7 million in 2007 compared to 2006 and decreased 45.9% to $3.1 million in 2006 compared to $5.7 million in 2005. The 2007 and 2006 amounts reflect the elimination of the marine pool. Beginning with the 2006 underwriting year, there are no longer any marine pool unaffiliated insurance companies with the elimination of the marine pool and no longer any unaffiliated participants at Syndicate 1221 with the purchase of the minority interest. Any profit commission would therefore result from the run-off of underwriting years prior to 2006.
The losses for D&O business are generally very large and infrequent, and typically involve securities class actions. D&O claims report reasonably quickly, but may take several years to settle. While the Company has been writing D&O business since 2001, the limited claim history is generally insufficient to establish IBNR loss reserves using Company data. As a result, the Company principally employs assumptions based on industry experience coupled with input from its underwriters and its claims staff’s assessment of potential exposure to establish IBNR loss reserves. Another key assumption with respect to establishing IBNR loss reserves for D&O business is that such industry experience is representative of our future potential loss development with respect to trends in class action activity, such as the impact of stock option backdating, IPO laddering and, most recently, the sub-prime mortgage crisis. As time passes, for a given underwriting year, additional weight is given to assumptions relating to our actual experience and claims outstanding.
which are uncorrelated to each other, and therefore such amounts may not be representative of the actual aggregate favorable or unfavorable loss development amounts that may occur over time.
Commission Expense. Commission expense paid to unaffiliated brokers and agents is generally based on a percentage of the gross written premium and is reduced by ceding commissions the Company may receive on the ceded written premium. Commissions are generally deferred and recorded as deferred policy acquisition costs to the extent that they relate to unearned premium. The percentages of commission expense to net earned premium were 12.9% in 2007, 12.4% in 2006 and 12.6% in 2005. The 2005 commission expense ratio excluding the effects of the 2005 Hurricanes was 12.0%.
Reviews of our Insurance Companies Hurricanes Katrina and Rita exposures during 2007 resulted in a reduction to the Insurance Companies pre-tax income by $1.5 million. Much of this impact was the result of reallocating our net retention for these events between our Insurance Companies and Lloyd’s Operations
The Lloyd’s Operations consist of NUAL, which manages Syndicate 1221, Millennium Underwriting Ltd. and Navigators Corporate Underwriters Ltd. Both Millennium Underwriting Ltd. and Navigators Corporate Underwriters Ltd. are Lloyd’s corporate members with limited liability and provide capacity to Syndicate 1221. NUAL owns Navigators Underwriting Ltd., an underwriting managing agency with its principal office in Manchester, England, which underwrites cargo and engineering business for Syndicate 1221. In January 2005, we formed Navigators NV in Antwerp, Belgium, a wholly-owned subsidiary of NUAL. Navigators NV produces transport liability, cargo and marine liability premium on behalf of Syndicate 1221. The Lloyd’s Operations and Navigators Management (UK) Limited, a Navigators Agency which produces business for the U.K. Branch, are subsidiaries of Navigators Holdings (UK) Limited located in the United Kingdom.
We monitor our capital adequacy to support our business on a regular basis. The future capital requirements of our business will depend on many factors, including our ability to write new business successfully and to establish premium rates and reserves at levels sufficient to cover losses. Our ability to underwrite is largely dependent upon the quality of our claims paying and financial strength ratings as evaluated by independent rating agencies. In particular, we require (1) sufficient capital to maintain our financial strength ratings, as issued by several ratings agencies, at a level considered necessary by management to enable our Insurance Companies to compete; (2) sufficient capital to enable our Insurance Companies to meet the capital adequacy tests performed by statutory agencies in the United States and the United Kingdom and (3) letters of credit and other forms of collateral that are necessary to support the business plan of our Lloyd’s Operations.
Condensed Parent Company balance sheets as of December 31, 2007 and 2006 are shown in the table below: