Policies-in-force over the last twelve months increased 7.0% in the preferred risk auto market and increased 17.4% in the standard and nonstandard auto lines. Voluntary auto new business sales in 2002 increased 30.9% compared to 2001. The sales closure ratio (new policies written to quotes) and the policy retention rate both improved in 2002 aided by recent rate increases taken by competitors. Total voluntary auto policies-in-force at December 31, 2002 were 419,000 higher than at December 31, 2001, following a slight decline in policies-in-force in 2001 from 2000.
The process of establishing reserves by General Re, like most other reinsurers, requires numerous estimates and judgments by management. Loss reserve estimates are based primarily on claims reported by ceding companies (such amounts generally exclude IBNR claims), analysis of historical claim reporting patterns of ceding companies, and estimates of expected overall loss amounts for all accident periods. Expected overall losses are partly based upon assumptions with respect to both General Re’s and ceding companies’ premium rate adequacy. Premium rate adequacy assumptions are an indicator of the profitability of the subject business reinsured and are important in establishing reserves for claims that will be reported and settled over long periods into the future. Claim frequency or count analyses are generally not practicable because such data is either not provided by ceding companies or otherwise not timely or reliable. Loss reserves, which are established based on estimates by line of business and type of coverage, are regularly re-evaluated and appropriate adjustments are made to bring reserves in line with the revised estimates.
Retroactive reinsurance contracts indemnify ceding companies for losses arising under insurance or reinsurance contracts written in the past, usually many years ago. While contract terms vary, losses under the contracts are subject to a very large aggregate dollar limit, occasionally exceeding $1 billion under a single contract. Generally, it is also anticipated, although not assured, that claims under retroactive contracts will be paid over long time periods. As a result, premiums paid by ceding companies are, in part, discounted for time value. However, these contracts do not produce an immediate underwriting loss for financial reporting purposes. The excess of the estimated ultimate claims payable over the premiums received is established as a deferred charge asset which is subsequently amortized over the expected claim settlement periods. Such amortization is included as a component of losses incurred and essentially represents the net underwriting losses from this business in each of the past three years.
In 2002, BHRG wrote an increasing amount of business under quota-share contracts. Most of the increased premium volume in 2002 derived from several new contracts with Lloyd’s syndicates and from a new contract with a major U.S. based insurer. In a quota-share arrangement, BHRG essentially participates proportionately in the premiums and claims of the business written by the ceding company. BHRG was willing to enter into these new contracts because it believed the level of rate adequacy in certain property/casualty markets was much improved in relation to past years. BHRG’s continued participation in this business will depend on the availability of other sources of capacity for Lloyd’s syndicates as well as the expectation of continued rate adequacy of the Lloyd’s business being reinsured. Accordingly, the level of this business expected to be written in 2003 is uncertain.
Invested assets increased during 2002 by $7 billion to $79 billion at December 31, 2002 following a decrease of $4 billion during 2001. The increase in invested assets during 2002 was primarily the result of significant operating cash flow, represented by a $6 billion increase in policyholder float. In 2001 the decrease in invested assets was primarily attributed to a $6 billion decline in the market values of Berkshire’s major equity investments and $4 billion of dividends paid to Berkshire during the year. Partially offsetting these declines was an increase in investments resulting from an increase in float generated by insurance operations.
Realized investment gains and losses have been a recurring element in Berkshire’s net earnings for many years. Such amounts - recorded when investments are: (1) sold; (2) other-than-temporarily impaired; or (3) marked-to-market with a corresponding gain or loss included in earnings - may fluctuate significantly from period to period, resulting in a meaningful effect on reported net earnings. However, the amount of realized gains in a given period has no practical analytical value, especially given the magnitude of unrealized gains existing in Berkshire’s consolidated investment portfolio.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Berkshire Hathaway Inc. and subsidiaries as of December 31, 2002 and 2001, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2002 in conformity with accounting principles generally accepted in the United States of America.
Berkshire completed its initial assessment of goodwill during the second quarter of 2002 and no transitional impairment charges were required. In addition, goodwill was reviewed during the fourth quarter of 2002 and no impairment charges were required. Subsequently, goodwill must be reviewed for impairment at least annually, and impairments, if any, will be charged to operating earnings.
Combined shareholders’ equity of U.S. based property/casualty insurance subsidiaries determined pursuant to statutory accounting rules (Statutory Surplus as Regards Policyholders) was approximately $28.4 billion at December 31, 2002 and $27.2 billion at December 31, 2001. Effective January 1, 2001, Berkshire’s U.S. based insurance subsidiaries adopted several new statutory accounting policies as required under the Codification of Statutory Accounting Principles. The adoption of the new statutory accounting policies reduced the combined statutory surplus of Berkshire’s U.S. based insurance subsidiaries by approximately $8.0 billion. The most significant new accounting policy related to the recording of net deferred income tax liabilities, which included deferred taxes on existing unrealized gains in equity securities.