MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE
OF CONTENTS
31
Introduction
The following Management’s Discussion and Analysis of Financial Condition and Results of Operations is intended to assist readers in understanding
the interim consolidated results of operations and financial condition of The Hanover Insurance Group, Inc. and subsidiaries (“THG”) and should be read in conjunction with the interim consolidated financial statements and related footnotes
included elsewhere in this Quarterly Report on Form 10-Q and the Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in our 2010 Annual Report on Form 10-K filed with the Securities and Exchange
Commission on February 24, 2011.
Our results of operations include the accounts of The Hanover Insurance Company (“Hanover
Insurance”) and Citizens Insurance Company of America, our principal U.S. domiciled property and casualty companies; and certain other insurance and non-insurance subsidiaries. In addition, effective July 1, 2011, we acquired Chaucer
Holdings PLC (“Chaucer”), a specialist underwriting group which operates through the Society and Corporation of Lloyd’s (“Lloyd’s”). Our results of operations include Chaucer’s results for the period from
July 1, 2011 through September 30, 2011.
Our Chaucer business manages and provides capital to support syndicates underwriting at
Lloyd’s. Our underwriting agent, Chaucer Syndicates Ltd., underwrites a range of risks through Lloyd’s Syndicate 1084 and nuclear industry exposures through Lloyd’s Syndicate 1176. Currently, we retain an economic interest in these
syndicates of approximately 84% and 55%, respectively. We also provide managing agent and other business services to Syndicates 4242 and 1301, for which we receive fees. Our Chaucer business is headquartered in London, with a regional presence
in Whitstable, England and locations in Houston, Singapore, Buenos Aires, and Copenhagen, which provide access to business worldwide.
Executive Overview
Our business operations include insurance products and services currently provided through four operating
segments: Commercial Lines, Personal Lines, and Other Property and Casualty; and with the acquisition on July 1, 2011, our Chaucer segment.
As further described in Note 3 – “Acquisitions” of the Notes to Interim Consolidated Financial Statements, we completed the acquisition of Chaucer on July 1, 2011, which has added
meaningful business volumes to our third quarter results and has affected the comparability of our interim consolidated financial statements and related footnotes. For the three months ended September 30, 2011, our discussion of the results of
operations includes results from all our segments. Results of operations for the comparable period in 2010 do not include any results of Chaucer. Chaucer’s financial results for the three months ended September 30, 2011 will be discussed
separately for the standalone period. For the nine months ended September 30 2011, our discussion for the results of operations reflects Chaucer’s results only for the period from July 1, 2011 through September 30, 2011, while
the Commercial Lines, Personal Lines, and Other Property and Casualty segments include the nine month period. Results of operations for the comparable period in 2010 do not include any results of Chaucer.
During the first nine months of 2011, there was an unprecedented level of weather–related events that affected the property and casualty industry.
We incurred pre-tax catastrophe losses of $306.0 million during the first nine months of 2011, including $99.6 million in the third quarter, of which $13.6 million relates to our Chaucer segment. During the first nine months of 2010, pre-tax
catastrophe losses were $143.5 million, with $24.1 million in the third quarter. Our 2011 catastrophe losses were principally the result of winter storms, tornado, hail and windstorm activity in both the Midwest and the Northeast in the first half
of the year and Hurricane Irene during the third quarter.
During the first nine months of 2011, our segment loss excluding taxes and interest
of $4.6 million also includes $19.9 million of segment income generated by Chaucer in the third quarter. A decrease of $31.4 million in favorable development on prior years’ loss and loss adjustment expense (“LAE”) reserves for our
Commercial, Personal, and Other Property and Casualty lines also contributed to the overall decline in segment results from the prior year. Segment income for our Commercial, Personal, and Other Property and Casualty lines, excluding catastrophes
and development, was $211.9 million in the first nine months of 2011, compared to $207.6 million in the same period of 2010, reflecting growth in earned premium and the resulting positive effect on our expense ratio, and what we believe is an
improved mix of business.
Commercial Lines
We believe our small commercial capabilities, distinctiveness in the middle market, and continued development of specialty business provides us with a diversified portfolio of products and delivers
significant value to agents and policyholders. Growth in our specialty lines continues to be a significant part of our strategy. The expansion of product offerings in our specialized businesses has been supported by several acquisitions over the
past several years. During the first nine months of 2011, our Commercial Lines segment net written premium grew by approximately 6%, driven by our specialty businesses. Our net earned premium increased by more than 23% during the first nine months
of 2011, primarily as a result of premiums written pursuant to the 2010 renewal rights transaction with OneBeacon.
32
We believe these efforts have and will continue to drive improvement in our overall mix of business and
ultimately our underwriting profitability. Our losses and loss adjustment expenses were higher in the first nine months of 2011 as compared to the prior year, primarily due to the high level of catastrophe losses and, to a lesser extent,
non-catastrophe weather-related losses. Notwithstanding the increase in losses and LAE, there was a modest increase in current accident year income primarily due to the growth in earned premium and changes to our mix of business.
In the Commercial Lines market, continued price competition, while moderating in certain lines of business, requires us to be highly disciplined in our
underwriting process to ensure that we write business only at acceptable margins. In certain lines of business where a weak economy may be a particularly important factor, such as surety and workers’ compensation, we endeavor to adjust pricing
or take a more conservative approach to risk selection in order to more appropriately reflect the higher risk of loss. Additionally, we are seeking additional rate increases in our property lines as a result of the heightened catastrophe and
non-catastrophe weather-related losses that we experienced in the first nine months of 2011.
Personal Lines
In our Personal Lines business, we maintain our focus on partnering with high quality, value-added agencies that deliver consultative selling and stress
the importance of account rounding (the conversion of single policy customers to accounts with multiple policies and additional coverages). Account business represents 67% of total policies in force compared to 65% in the same period in 2010. We are
focused on making investments that help maintain profitability, build a distinctive position in the market, and provide us with profitable growth opportunities. We continue to seek to diversify our premium outside of our core states by growing in
other targeted states.
Written premiums in Personal Lines in the first nine months of 2011 were comparable to the same period in 2010. Current
year underwriting results, excluding catastrophes, improved slightly in the first nine months of 2011, as compared to the same period in 2010. During the period, lower operating expenses were partially offset by less favorable current accident year
results driven by non- catastrophe weather-related losses. Similar to our strategy in Commercial Lines, we are seeking additional rate increases in our property lines (homeowners coverage) as a result of the recent catastrophe and non-catastrophe
weather-related losses that we and others in the industry experienced. In addition, continued increases in premium are expected in our target growth states as we seek to improve profitability and diversify from our existing core states.
Chaucer
Lloyd’s is a leading
insurance and reinsurance market and provides us with access to specialist business in over 200 countries and territories worldwide through its international licenses, brand reputation and strong security rating. We currently deploy specialist
underwriters in over 30 major Lloyd’s insurance and reinsurance classes within our diversified portfolio, which includes property, marine and aviation, energy, U.K. motor, and casualty and other coverages (which includes international
liability, specialist coverages, and syndicate participations).
After a difficult period for international insurance markets since 2010, with
increased frequency and severity of both natural and man-made catastrophes worldwide, we expect underwriting opportunities to increase and terms and conditions to improve across the majority of international risk classes for our Chaucer business.
While continuing to manage our diversified portfolio, we are focusing our capital and underwriting capabilities in those areas where rates are expected to be more favorable, in particular for catastrophe-exposed property, marine and energy risks,
and away from business where rates are currently under pressure, notably casualty and aviation. Additionally, we expect to benefit from continued rate increases in the U.K. motor market, which accounts for approximately 28% of Chaucer’s net
written premium for the third quarter of 2011.
We continue to closely manage our existing portfolio of products and plan to profitably grow
this business. We are also seeking opportunities to further diversify the business, including the development of new lines of business, such as our new international liability division, that are expected to meet our return on capital criteria. We
believe the factors underpinning our ability to successfully manage both the scale and composition of our business is our membership in the Lloyd’s platform, the strength and depth of our underwriting teams and the broad diversity of our
underwriting portfolio.
We believe that these strengths, combined with our continued active management of our underwriting portfolio and the
opportunities that we expect to arise across the majority of our markets, provide a strong basis for the profitable development of the Chaucer business.
33
Description of Operating Segments
Our primary business operations include insurance products and services currently provided through four operating segments. These operating segments are
Commercial Lines, Personal Lines, Other Property and Casualty, and, with the acquisition on July 1, 2011, our Chaucer segment. Commercial Lines includes commercial multiple peril, commercial automobile, workers’ compensation and other
commercial coverages, such as specialty program business, inland marine, surety and other bonds, professional liability and management liability. Personal Lines includes personal automobile, homeowners and other personal coverages. Chaucer includes
property, marine and aviation, energy, U.K. motor, and casualty and other coverages (which includes international liability, specialist coverages, and syndicate participations). The Other Property and Casualty segment consists of Opus Investment
Management, Inc., which markets investment management services to institutions, pension funds and other organizations; earnings on holding company assets; and, a voluntary pools business which is in run-off. We present the separate financial
information of each segment consistent with the manner in which our chief operating decision maker evaluates results in deciding how to allocate resources and in assessing performance.
Results of Operations – Net Income
Our consolidated
net income includes the results of our four operating segments (segment income), which we evaluate on a pre-tax basis, and our interest expense on debt. Segment income excludes certain items which we believe are not indicative of our core
operations. The income of our segments excludes items such as income taxes and net realized investment gains and losses, including net gains and losses on certain derivative instruments, because fluctuations in these gains and losses are determined
by interest rates, financial markets and the timing of sales. Also, segment income excludes net gains and losses on disposals of businesses, discontinued operations, costs to acquire businesses, restructuring costs, extraordinary items, the
cumulative effect of accounting changes and certain other items. Although the items excluded from segment income may be significant components in understanding and assessing our financial performance, we believe a discussion of segment income
enhances an investor’s understanding of our results of operations by segregating income attributable to the core operations of the business. However, segment income should not be construed as a substitute for net income determined in accordance
with generally accepted accounting principles (“GAAP”).
Catastrophe losses are a significant component in understanding and
assessing the financial performance of our business. However, catastrophic events make it difficult to assess other underlying trends in this business. Management believes that providing certain financial metrics and trends excluding the effects of
catastrophes helps investors to understand the variability in periodic earnings and to evaluate the underlying performance of our operations.
Our consolidated net loss for the three months ended September 30, 2011 was $9.7 million, compared to net income of $52.3 million for the three
months ended September 30, 2010. The $62.0 million decrease is primarily due to a $63.2 million decline in after-tax segment income, principally driven by an increase in catastrophe and non-catastrophe weather-related activity, partially offset
by income from our recently acquired Chaucer segment. In addition, we recorded a $6.6 million loss as a result of a foreign exchange contract entered into in connection with the Chaucer acquisition, which was offset by net foreign exchange gains of
$6.7 million. See Note 3 – “Acquisitions” of the Notes to Interim Consolidated Financial Statements in this Form 10-Q for additional information.
Our consolidated net loss for the nine months ended September 30, 2011 was $12.2 million, compared to net income of $96.4 million for the nine months ended September 30, 2010. The $108.6 million
decrease is primarily due to a $109.1 million decline in after-tax segment income, again principally driven by an increase in catastrophe and non-catastrophe weather-related activity, partially offset by income from our Chaucer segment.
Additionally, in the nine months ended September 30, 2011, advisory, legal, and accounting costs associated with the acquisition of Chaucer and other acquisition expenses totaled $15.7 million, and we recorded an $11.3 million loss in
connection with the aforementioned foreign exchange contract. Partially offsetting these decreases were net foreign exchange gains of $6.7 million.
34
The following table reflects segment income as determined in accordance with GAAP and a
reconciliation of total segment income to consolidated net income
.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
|
Nine Months Ended
September 30,
|
|
|
(in millions)
|
|
2011
|
|
|
2010
|
|
|
2011
|
|
|
2010
|
|
|
Segment income (loss) before income taxes:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial Lines
|
|
$
|
(22.1
|
)
|
|
$
|
35.1
|
|
|
$
|
(28.4
|
)
|
|
$
|
74.8
|
|
|
Personal Lines
|
|
|
(4.8
|
)
|
|
|
43.0
|
|
|
|
2.4
|
|
|
|
74.0
|
|
|
Chaucer
|
|
|
19.9
|
|
|
|
—
|
|
|
|
19.9
|
|
|
|
—
|
|
|
Other Property and Casualty
|
|
|
(0.6
|
)
|
|
|
1.1
|
|
|
|
1.5
|
|
|
|
2.7
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
(7.6
|
)
|
|
|
79.2
|
|
|
|
(4.6
|
)
|
|
|
151.5
|
|
|
Interest expense on debt
|
|
|
(17.4
|
)
|
|
|
(11.8
|
)
|
|
|
(38.6
|
)
|
|
|
(32.8
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total segment income before income taxes
|
|
|
(25.0
|
)
|
|
|
67.4
|
|
|
|
(43.2
|
)
|
|
|
118.7
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax (expense) benefit on segment income
|
|
|
6.5
|
|
|
|
(22.7
|
)
|
|
|
12.6
|
|
|
|
(40.2
|
)
|
|
Net realized investment gains
|
|
|
8.2
|
|
|
|
5.7
|
|
|
|
24.9
|
|
|
|
16.8
|
|
|
Net loss from retirement of debt
|
|
|
(0.1
|
)
|
|
|
—
|
|
|
|
(2.3
|
)
|
|
|
—
|
|
|
Costs related to acquired businesses
|
|
|
(1.9
|
)
|
|
|
—
|
|
|
|
(15.7
|
)
|
|
|
—
|
|
|
Loss on derivative instruments
|
|
|
(6.6
|
)
|
|
|
—
|
|
|
|
(11.3
|
)
|
|
|
—
|
|
|
Net foreign exchange gains
|
|
|
6.7
|
|
|
|
—
|
|
|
|
6.7
|
|
|
|
—
|
|
|
Income tax (expense) benefit on non-segment income
|
|
|
2.5
|
|
|
|
1.0
|
|
|
|
14.1
|
|
|
|
0.5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from continuing operations
|
|
|
(9.7
|
)
|
|
|
51.4
|
|
|
|
(14.2
|
)
|
|
|
95.8
|
|
|
Gain from discontinued operations, net of taxes
|
|
|
—
|
|
|
|
0.9
|
|
|
|
2.0
|
|
|
|
0.6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$
|
(9.7
|
)
|
|
$
|
52.3
|
|
|
$
|
(12.2
|
)
|
|
$
|
96.4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
35
Segment Results
The following is our discussion and analysis of the results of operations by business segment. The segment results are presented before taxes and other
items which management believes are not indicative of our core operations, including realized gains and losses.
The following table
summarizes the results of operations for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
|
Nine Months Ended
September 30,
|
|
|
(in millions)
|
|
2011
|
|
|
2010
|
|
|
2011
|
|
|
2010
|
|
|
Segment revenues
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net premiums written
|
|
$
|
1,051.0
|
|
|
$
|
803.7
|
|
|
$
|
2,616.3
|
|
|
$
|
2,330.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net premiums earned
|
|
$
|
1,018.6
|
|
|
$
|
728.0
|
|
|
$
|
2,550.8
|
|
|
$
|
2,092.3
|
|
|
Net investment income
|
|
|
67.8
|
|
|
|
61.3
|
|
|
|
189.2
|
|
|
|
184.2
|
|
|
Fees and other income
|
|
|
14.6
|
|
|
|
10.1
|
|
|
|
34.5
|
|
|
|
29.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total segment revenues
|
|
|
1,101.0
|
|
|
|
799.4
|
|
|
|
2,774.5
|
|
|
|
2,305.5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Losses and operating expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Losses and LAE
|
|
|
734.9
|
|
|
|
454.6
|
|
|
|
1,863.4
|
|
|
|
1,384.6
|
|
|
Policy acquisition expenses
|
|
|
241.1
|
|
|
|
173.4
|
|
|
|
603.2
|
|
|
|
490.8
|
|
|
Other operating expenses
|
|
|
132.6
|
|
|
|
92.2
|
|
|
|
312.5
|
|
|
|
278.6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total losses and operating expenses
|
|
|
1,108.6
|
|
|
|
720.2
|
|
|
|
2,779.1
|
|
|
|
2,154.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment income (loss) before income taxes
|
|
$
|
(7.6
|
)
|
|
$
|
79.2
|
|
|
$
|
(4.6
|
)
|
|
$
|
151.5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, 2011 Compared to Three Months Ended September 30, 2010
Segment losses were $7.6 million in the three months ended September 30, 2011, compared to income of $79.2 million in the
three months ended September 30, 2010, a decrease in earnings of $86.8 million. Chaucer’s results accounted for $19.9 million of segment income in the three months ended September 30, 2011, partially offsetting the losses in our other
segments. Catastrophe related losses for our Commercial and Personal Lines businesses in the quarter were $86.0 million, compared to $24.1 million in the same period of 2010, an increase of $61.9 million. Excluding the impact of catastrophe related
activity, segment losses for our Commercial and Personal Lines businesses would have decreased by $44.8 million. This decrease was primarily due to less favorable current accident year results and lower favorable development on prior years’
loss and LAE reserves. The unfavorable current accident year results are primarily due to a higher level of non-catastrophe weather-related loss and LAE claims activity in both Commercial and Personal Lines, and to increased losses in our surety
business. Favorable development on prior years’ loss and LAE reserves decreased $13.7 million in the quarter to $12.2 million, from $25.9 million in the same period in 2010.
Net premiums written grew by $247.3 million in the three months ended September 30, 2011, compared to the three months ended September 30, 2010, and net premiums earned grew by $290.6 million.
Chaucer accounted for $222.3 million of net premiums written and $244.8 million of net premiums earned in the three months ended September 30, 2011. The balance of the growth is primarily attributable to Commercial Lines. The more significant
increase in net premiums earned in Commercial Lines is a result of the significant growth in net premiums written in 2010, which resulted from the OneBeacon renewal rights transaction, as well as growth in our AIX program business, and growth in
various niche and segmented businesses. We anticipate that quarter over quarter growth in net earned premium will continue to exceed the increase in written premium through the remainder of 2011, as we continue to recognize this prior year growth in
Commercial Lines.
36
Production and Underwriting Results
The following table summarizes GAAP financial information including net premiums written and loss, LAE, expense and combined ratios for the Commercial Lines, Personal Lines and Chaucer segments. Loss,
LAE, catastrophe loss and combined ratios shown below include prior year reserve development. These items are not meaningful for our Other Property and Casualty segment.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30, 2011
|
|
|
(dollars in millions)
|
|
Gross
Written
Premium
|
|
|
Net Written
Premium
|
|
|
Net Earned
Premium
|
|
|
Catastrophe
Loss Ratios
|
|
|
Loss & LAE
Ratios
|
|
|
Expense
Ratios
|
|
|
Combined
Ratios
|
|
|
Commercial Lines
|
|
$
|
501.3
|
|
|
$
|
438.4
|
|
|
$
|
410.1
|
|
|
|
9.7
|
|
|
|
74.9
|
|
|
|
38.7
|
|
|
|
113.6
|
|
|
Personal Lines
|
|
|
415.1
|
|
|
|
390.3
|
|
|
|
363.7
|
|
|
|
12.7
|
|
|
|
80.0
|
|
|
|
27.1
|
|
|
|
107.1
|
|
|
Chaucer
|
|
|
281.9
|
|
|
|
222.3
|
|
|
|
244.8
|
|
|
|
5.6
|
|
|
|
56.0
|
|
|
|
39.1
|
|
|
|
95.1
|
|
|
Total
|
|
$
|
1,198.3
|
|
|
$
|
1,051.0
|
|
|
$
|
1,018.6
|
|
|
|
9.8
|
|
|
|
72.2
|
|
|
|
34.6
|
|
|
|
106.8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30, 2010
|
|
|
(dollars in millions)
|
|
Gross
Written
Premium
|
|
|
Net Written
Premium
|
|
|
Net Earned
Premium
|
|
|
Catastrophe
Loss Ratios
|
|
|
Loss & LAE
Ratios
|
|
|
Expense
Ratios
|
|
|
Combined
Ratios
|
|
|
Commercial Lines
|
|
$
|
474.9
|
|
|
$
|
415.3
|
|
|
$
|
360.2
|
|
|
|
2.3
|
|
|
|
57.1
|
|
|
|
42.0
|
|
|
|
99.1
|
|
|
Personal Lines
|
|
|
414.2
|
|
|
|
388.4
|
|
|
|
367.8
|
|
|
|
4.3
|
|
|
|
67.7
|
|
|
|
27.4
|
|
|
|
95.1
|
|
|
Total
|
|
$
|
889.1
|
|
|
$
|
803.7
|
|
|
$
|
728.0
|
|
|
|
3.3
|
|
|
|
62.4
|
|
|
|
34.6
|
|
|
|
97.0
|
|
The following table summarizes net premiums written, and loss and LAE and catastrophe loss ratios by line of business for
the Commercial Lines and Personal Lines segments. Loss and LAE and catastrophe loss ratios include prior year reserve development.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
|
|
|
2011
|
|
|
2010
|
|
|
(dollars in millions)
|
|
Net
Premiums
Written
|
|
|
Loss &
LAE
Ratios
|
|
|
Cata-
strophe
Loss
Ratios
|
|
|
Net
Premiums
Written
|
|
|
Loss
&
LAE
Ratios
|
|
|
Cata-
strophe
Loss
Ratios
|
|
|
Commercial Lines:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial multiple peril
|
|
$
|
152.8
|
|
|
|
75.9
|
|
|
|
16.7
|
|
|
$
|
151.8
|
|
|
|
54.7
|
|
|
|
3.3
|
|
|
Commercial automobile
|
|
|
64.0
|
|
|
|
69.8
|
|
|
|
3.6
|
|
|
|
61.2
|
|
|
|
64.6
|
|
|
|
0.2
|
|
|
Workers’ compensation
|
|
|
43.5
|
|
|
|
73.0
|
|
|
|
—
|
|
|
|
46.2
|
|
|
|
65.9
|
|
|
|
—
|
|
|
Other commercial
|
|
|
178.1
|
|
|
|
76.2
|
|
|
|
8.7
|
|
|
|
156.1
|
|
|
|
53.9
|
|
|
|
2.8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Commercial Lines
|
|
|
438.4
|
|
|
|
74.9
|
|
|
|
9.7
|
|
|
|
415.3
|
|
|
|
57.1
|
|
|
|
2.3
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Personal Lines:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Personal automobile
|
|
|
233.7
|
|
|
|
71.4
|
|
|
|
1.2
|
|
|
|
239.1
|
|
|
|
71.3
|
|
|
|
0.6
|
|
|
Homeowners
|
|
|
144.8
|
|
|
|
96.7
|
|
|
|
33.9
|
|
|
|
137.9
|
|
|
|
63.1
|
|
|
|
11.6
|
|
|
Other personal
|
|
|
11.8
|
|
|
|
69.8
|
|
|
|
13.2
|
|
|
|
11.4
|
|
|
|
41.9
|
|
|
|
2.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Personal Lines
|
|
|
390.3
|
|
|
|
80.0
|
|
|
|
12.7
|
|
|
|
388.4
|
|
|
|
67.7
|
|
|
|
4.3
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
828.7
|
|
|
|
77.3
|
|
|
|
11.1
|
|
|
$
|
803.7
|
|
|
|
62.4
|
|
|
|
3.3
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
37
The following table summarizes premiums written on a gross and net basis and net premiums earned by line of
business for the Chaucer segment.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
2011
|
|
|
(in millions)
|
|
Gross
Written
Premium
|
|
|
Net
Written
Premium
|
|
|
Net
Earned
Premium
|
|
|
Chaucer:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Property
|
|
$
|
52.6
|
|
|
$
|
39.6
|
|
|
$
|
52.4
|
|
|
Marine and Aviation
|
|
|
69.4
|
|
|
|
56.2
|
|
|
|
60.1
|
|
|
Energy
|
|
|
43.3
|
|
|
|
29.7
|
|
|
|
41.1
|
|
|
U.K. Motor
|
|
|
71.7
|
|
|
|
63.0
|
|
|
|
59.8
|
|
|
Casualty and Other.
|
|
|
44.9
|
|
|
|
33.8
|
|
|
|
31.4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Chaucer
|
|
$
|
281.9
|
|
|
$
|
222.3
|
|
|
$
|
244.8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table summarizes GAAP underwriting results for the Commercial Lines, Personal Lines, Chaucer and Other
Property and Casualty segments and reconciles it to segment income.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
|
|
|
2011
|
|
|
2010
|
|
|
(dollars in millions)
|
|
Commercial
Lines
|
|
|
Personal
Lines
|
|
|
Chaucer
|
|
|
Other
Property
and
Casualty
|
|
|
Total
|
|
|
Commercial
Lines
|
|
|
Personal
Lines
|
|
|
Other
Property
and
Casualty
|
|
|
Total
|
|
|
GAAP underwriting profit (loss), excluding prior year reserve development and catastrophes
|
|
$
|
(20.5
|
)
|
|
$
|
8.8
|
|
|
$
|
9.1
|
|
|
$
|
(0.1
|
)
|
|
$
|
(2.7
|
)
|
|
$
|
(6.0
|
)
|
|
$
|
21.8
|
|
|
$
|
0.3
|
|
|
$
|
16.1
|
|
|
Prior year favorable
loss and LAE reserve development
|
|
|
3.6
|
|
|
|
8.5
|
|
|
|
16.6
|
|
|
|
0.1
|
|
|
|
28.8
|
|
|
|
16.5
|
|
|
|
9.3
|
|
|
|
0.1
|
|
|
|
25.9
|
|
|
Pre-tax catastrophe effect
|
|
|
(39.8
|
)
|
|
|
(46.2
|
)
|
|
|
(13.6
|
)
|
|
|
—
|
|
|
|
(99.6
|
)
|
|
|
(8.2
|
)
|
|
|
(15.9
|
)
|
|
|
—
|
|
|
|
(24.1
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
GAAP underwriting profit (loss)
|
|
|
(56.7
|
)
|
|
|
(28.9
|
)
|
|
|
12.1
|
|
|
|
—
|
|
|
|
(73.5
|
)
|
|
|
2.3
|
|
|
|
15.2
|
|
|
|
0.4
|
|
|
|
17.9
|
|
|
Net investment income
|
|
|
34.0
|
|
|
|
22.7
|
|
|
|
8.6
|
|
|
|
2.5
|
|
|
|
67.8
|
|
|
|
32.3
|
|
|
|
25.4
|
|
|
|
3.6
|
|
|
|
61.3
|
|
|
Fees and other income
|
|
|
5.3
|
|
|
|
3.5
|
|
|
|
4.1
|
|
|
|
1.7
|
|
|
|
14.6
|
|
|
|
4.7
|
|
|
|
3.9
|
|
|
|
1.5
|
|
|
|
10.1
|
|
|
Other operating expenses
|
|
|
(4.7
|
)
|
|
|
(2.1
|
)
|
|
|
(4.9
|
)
|
|
|
(4.8
|
)
|
|
|
(16.5
|
)
|
|
|
(4.2
|
)
|
|
|
(1.5
|
)
|
|
|
(4.4
|
)
|
|
|
(10.1
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment income (loss) before income taxes
|
|
$
|
(22.1
|
)
|
|
$
|
(4.8
|
)
|
|
$
|
19.9
|
|
|
$
|
(0.6
|
)
|
|
$
|
(7.6
|
)
|
|
$
|
35.1
|
|
|
$
|
43.0
|
|
|
$
|
1.1
|
|
|
$
|
79.2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial Lines
Commercial Lines net premiums written was $438.4 million in the three months ended September 30, 2011, compared to $415.3 million in the three months ended September 30, 2010. This $23.1 million
increase was primarily driven by growth in our specialty businesses, particularly in our AIX program business, which accounted for $10.8 million of this growth. Also benefiting the overall growth comparison in net premiums written were modest rate
increases.
Commercial Lines underwriting loss in the three months ended September 30, 2011 was $56.7 million, compared to a profit of
$2.3 million for the three months ended September 30, 2010, a decline of $59.0 million. This was due to increased catastrophe losses and decreased favorable development on prior years’ loss and LAE reserves. Catastrophe losses for the
three months ended September 30, 2011 were $39.8 million, primarily due to Hurricane Irene, compared to $8.2 million for the three months ended September 30, 2010, an increase of $31.6 million. Favorable development on prior years’
loss and LAE reserves for the three months ended September 30, 2011 was $3.6 million compared to $16.5 million for the three months ended September 30, 2011, a decrease of $12.9 million.
Commercial Lines underwriting loss, excluding prior year loss and LAE reserve development and catastrophes, was $20.5 million in the three months ended
September 30, 2011, compared to $6.0 million for the three months ended September 30, 2010. This $14.5 million decline was primarily due to increased losses in our surety business, driven by the current economic environment and its impact
on the construction industry, and to non-catastrophe weather-related loss and LAE claims activity. Depressed economic conditions may continue to negatively impact our underwriting results for our surety business. The higher level of earned premiums
primarily resulted from our 2010 OneBeacon transaction, from growth in our AIX program business, and from other growth initiatives.
38
We continue to experience price competition in certain lines of business in our Commercial Lines segment,
although this trend is moderating in certain lines of business, such as workers’ compensation. Our ability to increase Commercial Lines net premiums written while maintaining or improving underwriting results may be affected by continuing price
competition and the current challenging economic environment.
Personal Lines
Personal Lines net premiums written was $390.3 million in the three months ended September 30, 2011, compared to $388.4 million in the three months
ended September 30, 2010, an increase of $1.9 million, or 0.5%. The factors contributing to this modest increase were higher rates in both our personal automobile and homeowners lines and a net premiums written increase of 6.1% in our target
growth states. These increases were partially offset by our continued focus on driving profit improvement in our core states through both rate increases and more selective portfolio management, resulting in lower new business activity. Continued
increases in premium are expected in our target growth states as we seek to improve profitability in those states and diversify from our existing core states.
Net premiums written in the personal automobile line of business declined 2.3%, primarily as a result of fewer policies in force in Michigan, Massachusetts, New York and Florida, which we attribute to
more selective portfolio management and rate increases we have implemented despite the competitive pricing environment. Net premiums written in the homeowners line of business increased 5.0%, resulting primarily from rate increases.
Personal Lines underwriting loss for the three months ended September 30, 2011 was $28.9 million, compared to a profit of $15.2 million for the
three months ended September 30, 2010, a decrease of $44.1 million. This was primarily due to increased catastrophe losses and less favorable ex-catastrophe current accident year results. Catastrophe losses for the three months ended
September 30, 2011 were $46.2 million, primarily due to Hurricane Irene, compared to $15.9 million for the three months ended September 30, 2010, an increase of $30.3 million. Favorable development on prior years’ loss and LAE
reserves for the three months ended September 30, 2011 was $8.5 million compared to $9.3 million for the three months ended September 30, 2010, a decrease of $0.8 million.
Personal Lines underwriting profit, excluding prior year loss and LAE reserve development and catastrophes, was $8.8 million in the three months ended September 30, 2011, compared to $21.8 million
for the three months ended September 30, 2010. This $13.0 million decrease in non-catastrophe current accident year results was primarily due to increases in non-catastrophe weather-related loss and LAE claims activity in our homeowners line.
Although we have been able to obtain rate increases in our Personal Lines markets and believe that this ability will continue, our ability to
maintain and increase Personal Lines net written premium and to maintain and improve underwriting results has been and may continue to be affected by price competition and regulatory and legal developments. Our rate actions have adversely affected
our ability to increase our policies in force and new business, particularly in our core states and in Florida. There is no assurance that we will be able to maintain our current level of production or maintain or increase rates in light of the
highly competitive environment.
Chaucer
Chaucer’s net premiums written was $222.3 million for the three months ended September 30, 2011. By line of business, Chaucer’s net premiums written were comprised of 28.3% U.K. motor,
25.3% marine and aviation, 17.8% property, 13.4% energy and 15.2% casualty and other lines. This mix of business was driven and supported by our specialist underwriting strategy which is focused on actively managing the premium portfolio and risk
exposures. Casualty and other lines are primarily comprised of Chaucer’s specialist and international liability lines of business.
Chaucer’s underwriting profit for the three months ended September 30, 2011 was $12.1 million. Catastrophe losses for the three months ended
September 30, 2011 were $13.6 million, principally due to flash floods in Denmark and Hurricane Irene. Favorable development on prior years’ loss and LAE reserves for the three months ended September 30, 2011 was $16.6 million.
Chaucer’s underwriting profit, excluding prior year loss and LAE development and catastrophes, was $9.1 million in the three months
ended September 30, 2011. Underwriting expenses of $95.7 million, representing 39.1% of the earned premium, included integration and employee expenses in support of assimilation with our operations.
We currently expect to achieve average rate increases for many Chaucer lines combined in 2012. Recent natural catastrophe losses, particularly those
affecting the U.S., New Zealand and Japan, are expected to trigger more favorable pricing in the majority of catastrophe-exposed territories. We also expect to see favorable rate increases in our energy portfolio as markets respond to losses in
2011. Our casualty and aviation accounts are expected to continue to be challenging, with over-capacity leading to weak pricing. In addition, our U.K. motor account has seen significant price increases over the last two years. Although we expect a
modestly lower level of rate increases in our U.K. motor business in 2012, we anticipate that rate increases will moderately exceed claims inflation. There can be no assurance that we will be able to maintain or increase our rates in light of
economic and regulatory conditions in our markets.
39
Other Property and Casualty
Other Property and Casualty segment loss was $0.6 million for the three months ended September 30, 2011, compared to a profit of $1.1 million for the three months ended September 30, 2010. The
$1.7 million decrease is primarily due to lower net investment income.
Nine Months Ended September 30, 2011 Compared to Nine
Months Ended September 30, 2010
Segment loss was $4.6 million in the nine months ended September 30, 2011, compared to a
profit of $151.5 million in the nine months ended September 30, 2010, a decrease of $156.1 million. Chaucer’s results accounted for $19.9 million of segment income in the nine months ended September 30, 2011, partially offsetting
losses in our Commercial Lines business. Catastrophe related activity for our Commercial and Personal Lines businesses was $292.4 million in the nine months ended September 30, 2011, compared to $143.5 million for the same period in 2010, an
increase of $148.9 million. Excluding the impact of catastrophe related activity, earnings for our Commercial and Personal Lines businesses would have decreased by $27.1 million. This decrease was primarily due to lower favorable development on
prior years’ loss and LAE reserves and higher non-catastrophe weather-related losses, partially offset by our growth in earned premium and resulting positive effect on our expense ratio. Favorable development on prior years’ loss and LAE
reserves for the nine months ended September 30, 2011 was $56.0 million compared to $87.4 million in the prior year, a decrease of $31.4 million.
40
Net premiums written grew by $285.4 million in the first nine months of 2011, compared to the first nine
months of 2010, and net premiums earned grew by $458.5 million. Chaucer accounted for $222.3 million of net premiums written and $244.8 million of net premiums earned in the nine months ended September 30, 2011. The balance of the growth is
primarily attributable to Commercial Lines. The more significant increase in net premiums earned in Commercial Lines is a result of the significant growth in net premiums written in 2010, which resulted from the OneBeacon renewal rights transaction,
as well as growth in our AIX program business, and growth in various niche and segmented businesses.
Production and Underwriting
Results
The following table summarizes GAAP financial information including net premiums written and loss, LAE, expense and combined
ratios for the Commercial Lines, Personal Lines and Chaucer segments. Loss, LAE, catastrophe loss and combined ratios shown below include prior year reserve development. These items are not meaningful for our Other Property and Casualty segment.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine months ended September 30, 2011
|
|
|
(dollars in millions)
|
|
Gross
Written
Premium
|
|
|
Net Written
Premium
|
|
|
Net Earned
Premium
|
|
|
Catastrophe
Loss Ratios
|
|
|
Loss & LAE
Ratios
|
|
|
Expense
Ratios
|
|
|
Combined
Ratios
|
|
|
Commercial Lines
|
|
$
|
1,462.7
|
|
|
$
|
1,287.4
|
|
|
$
|
1,219.4
|
|
|
|
11.8
|
|
|
|
71.6
|
|
|
|
39.0
|
|
|
|
110.6
|
|
|
Personal Lines
|
|
|
1,181.3
|
|
|
|
1,106.3
|
|
|
|
1,086.5
|
|
|
|
13.6
|
|
|
|
78.6
|
|
|
|
27.0
|
|
|
|
105.6
|
|
|
Chaucer
|
|
|
281.9
|
|
|
|
222.3
|
|
|
|
244.8
|
|
|
|
5.6
|
|
|
|
56.0
|
|
|
|
39.1
|
|
|
|
95.1
|
|
|
Total
|
|
$
|
2,925.9
|
|
|
$
|
2,616.0
|
|
|
$
|
2,550.7
|
|
|
|
12.0
|
|
|
|
73.1
|
|
|
|
33.9
|
|
|
|
107.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine months ended September 30, 2010
|
|
|
(dollars in millions)
|
|
Gross
Written
Premium
|
|
|
Net Written
Premium
|
|
|
Net Earned
Premium
|
|
|
Catastrophe
Loss Ratios
|
|
|
Loss & LAE
Ratios
|
|
|
Expense
Ratios
|
|
|
Combined
Ratios
|
|
|
Commercial Lines
|
|
$
|
1,376.5
|
|
|
$
|
1,215.7
|
|
|
$
|
988.7
|
|
|
|
5.3
|
|
|
|
59.4
|
|
|
|
42.7
|
|
|
|
102.1
|
|
|
Personal Lines
|
|
|
1,186.5
|
|
|
|
1,114.9
|
|
|
|
1,103.3
|
|
|
|
8.2
|
|
|
|
72.3
|
|
|
|
27.7
|
|
|
|
100.0
|
|
|
Total
|
|
$
|
2,563.0
|
|
|
$
|
2,330.6
|
|
|
$
|
2,092.0
|
|
|
|
6.9
|
|
|
|
66.2
|
|
|
|
34.7
|
|
|
|
100.9
|
|
The following table summarizes net premiums written, and loss and LAE and catastrophe loss ratios by line of business for
the Commercial Lines and Personal Lines segments. Loss and LAE and catastrophe loss ratios include prior year reserve development.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30,
|
|
|
|
|
2011
|
|
2010
|
|
|
(dollars in millions)
|
|
Net
Premiums
Written
|
|
|
Loss &
LAE
Ratios
|
|
|
Cata-
strophe
Loss
Ratios
|
|
Net
Premiums
Written
|
|
|
Loss &
LAE
Ratios
|
|
|
Cata-
strophe
Loss
Ratios
|
|
|
Commercial Lines:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial multiple peril
|
|
$
|
434.7
|
|
|
|
82.8
|
|
|
24.6
|
|
$
|
440.0
|
|
|
|
63.3
|
|
|
|
11.3
|
|
|
Commercial automobile
|
|
|
190.7
|
|
|
|
64.5
|
|
|
1.7
|
|
|
192.3
|
|
|
|
58.3
|
|
|
|
0.4
|
|
|
Workers’ compensation
|
|
|
133.5
|
|
|
|
67.5
|
|
|
—
|
|
|
127.0
|
|
|
|
57.1
|
|
|
|
—
|
|
|
Other commercial
|
|
|
528.5
|
|
|
|
65.7
|
|
|
7.9
|
|
|
456.4
|
|
|
|
57.2
|
|
|
|
3.7
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Commercial Lines
|
|
|
1,287.4
|
|
|
|
71.6
|
|
|
11.8
|
|
|
1,215.7
|
|
|
|
59.4
|
|
|
|
5.3
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Personal Lines:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Personal automobile
|
|
|
694.4
|
|
|
|
70.5
|
|
|
1.3
|
|
|
717.4
|
|
|
|
71.5
|
|
|
|
1.2
|
|
|
Homeowners
|
|
|
379.2
|
|
|
|
95.6
|
|
|
36.9
|
|
|
365.3
|
|
|
|
76.6
|
|
|
|
22.6
|
|
|
Other personal
|
|
|
32.7
|
|
|
|
55.8
|
|
|
10.1
|
|
|
32.2
|
|
|
|
41.3
|
|
|
|
3.8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Personal Lines
|
|
|
1,106.3
|
|
|
|
78.6
|
|
|
13.6
|
|
|
1,114.9
|
|
|
|
72.3
|
|
|
|
8.2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
2,393.7
|
|
|
|
74.8
|
|
|
12.7
|
|
$
|
2,330.6
|
|
|
|
66.2
|
|
|
|
6.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
41
The following table summarizes GAAP underwriting results for the Commercial Lines, Personal Lines, Chaucer
and Other Property and Casualty segments and reconciles it to segment income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30,
|
|
|
|
|
2011
|
|
|
2010
|
|
|
(in millions)
|
|
Commercial
Lines
|
|
|
Personal
Lines
|
|
|
Chaucer
|
|
|
Other
Property
and
Casualty
|
|
|
Total
|
|
|
Commercial
Lines
|
|
|
Personal
Lines
|
|
|
Other
Property
and
Casualty
|
|
|
Total
|
|
|
GAAP underwriting profit (loss), excluding prior year reserve development and catastrophes
|
|
$
|
(14.8
|
)
|
|
$
|
49.7
|
|
|
$
|
9.1
|
|
|
$
|
(0.2
|
)
|
|
$
|
43.8
|
|
|
$
|
(20.2
|
)
|
|
$
|
45.7
|
|
|
$
|
0.1
|
|
|
$
|
25.6
|
|
|
Prior year favorable
loss and LAE reserve development
|
|
|
27.2
|
|
|
|
28.5
|
|
|
|
16.6
|
|
|
|
0.3
|
|
|
|
72.6
|
|
|
|
50.2
|
|
|
|
36.6
|
|
|
|
0.6
|
|
|
|
87.4
|
|
|
Pre-tax catastrophe effect
|
|
|
(144.4
|
)
|
|
|
(148.0
|
)
|
|
|
(13.6
|
)
|
|
|
—
|
|
|
|
(306.0
|
)
|
|
|
(52.5
|
)
|
|
|
(91.0
|
)
|
|
|
—
|
|
|
|
(143.5
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
GAAP underwriting profit (loss)
|
|
|
(132.0
|
)
|
|
|
(69.8
|
)
|
|
|
12.1
|
|
|
|
0.1
|
|
|
|
(189.6
|
)
|
|
|
(22.5
|
)
|
|
|
(8.7
|
)
|
|
|
0.7
|
|
|
|
(30.5
|
)
|
|
Net investment income
|
|
|
101.6
|
|
|
|
68.5
|
|
|
|
8.6
|
|
|
|
10.5
|
|
|
|
189.2
|
|
|
|
96.6
|
|
|
|
76.6
|
|
|
|
11.0
|
|
|
|
184.2
|
|
|
Fees and other income
|
|
|
15.6
|
|
|
|
9.8
|
|
|
|
4.1
|
|
|
|
5.0
|
|
|
|
34.5
|
|
|
|
14.0
|
|
|
|
10.4
|
|
|
|
4.6
|
|
|
|
29.0
|
|
|
Other operating expenses
|
|
|
(13.6
|
)
|
|
|
(6.1
|
)
|
|
|
(4.9
|
)
|
|
|
(14.1
|
)
|
|
|
(38.7
|
)
|
|
|
(13.3
|
)
|
|
|
(4.3
|
)
|
|
|
(13.6
|
)
|
|
|
(31.2
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment income (loss) before income taxes
|
|
$
|
(28.4
|
)
|
|
$
|
2.4
|
|
|
$
|
19.9
|
|
|
$
|
1.5
|
|
|
$
|
(4.6
|
)
|
|
$
|
74.8
|
|
|
$
|
74.0
|
|
|
$
|
2.7
|
|
|
$
|
151.5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial Lines
Commercial Lines net premiums written was $1,287.4 million in the nine months ended September 30, 2011, compared to $1,215.7 million in the nine months ended September 30, 2010. This $71.7
million increase was primarily driven by growth in our specialty businesses, particularly in our AIX program business, which accounted for $39.6 million of this growth. Also benefiting the overall growth comparison in net premiums written were
modest rate increases.
Commercial Lines underwriting loss in the nine months ended September 30, 2011 was $132.0 million, compared to
$22.5 million in the nine months ended September 30, 2010, an increase in losses of $109.5 million. This is due to increased catastrophe losses and decreased favorable development on prior years loss and LAE reserves, partially offset by our
growth in earned premium and resulting positive effect on our expense ratio. Catastrophe losses for the nine months ended September 30, 2011 were $144.4 million primarily due to Hurricane Irene, significant tornado, hail and windstorm activity
in the second quarter and winter storms in the first quarter, compared to the $52.5 million for the nine months ended September 30, 2010, an increase of $91.9 million. Favorable development on prior years’ loss and LAE reserves for the
first nine months of 2011 was $27.2 million compared to $50.2 million for the first nine months of 2010, a decrease of $23.0 million. Included in 2010 results was $7.5 million of favorable LAE development, principally related to a change in the cost
factors used for establishing unallocated LAE reserves.
Commercial Lines underwriting loss, excluding prior year loss and LAE reserve
development and catastrophes, in the nine months ended September 30, 2011 was $14.8 million, compared to $20.2 million in the nine months ended September 30, 2010. This $5.4 million improvement resulted from growth in earned premium and
the resulting positive effect on our expense ratio, and from an improved mix of business. Partially offsetting the effect of this growth were higher non-catastrophe weather-related losses and LAE, and higher losses in our surety business. The higher
level of earned premiums primarily resulted from our 2010 OneBeacon transaction, from growth in our AIX program business, and from other growth initiatives.
42
Personal Lines
Personal Lines net premiums written in the nine months ended September 30, 2011 was $1,106.3 million, compared to $1,114.9 million in the nine months ended September 30, 2010, a decrease of $8.6
million, or 0.8%. The most significant factors contributing to this decrease were actions we have taken to reduce our market concentration in Louisiana, and our continued focus on driving profit improvement in our core states through both rate
increases and more selective portfolio management, resulting in lower new business activity. These decreases were partially offset by higher rates in both our personal automobile and homeowners lines and a net premiums written increase of 7.0% in
our target growth states. Continued increases in premium are expected in our target growth states as we seek to improve profitability in those states and diversify from our core states.
Net premiums written in the personal automobile line of business declined 3.2%, primarily as a result of fewer policies in force in Michigan, Massachusetts, New York and Florida, which we attribute more
selective portfolio management and rate increases we have implemented despite the competitive pricing environment. Net premiums written in the homeowners line of business increased 3.8%, resulting primarily from rate increases.
Personal Lines underwriting loss in the nine months ended September 30, 2011 was $69.8 million, compared to $8.7 million in the nine months ended
September 30, 2010, an increase in losses of $61.1 million. This increase is due to increased catastrophe losses and decreased favorable development on prior years loss and LAE reserves, partially offset by lower operating expenses. Catastrophe
losses were $148.0 million for the nine months ended September 30, 2011 primarily to Hurricane Irene, significant tornado, hail and windstorm activity in the second quarter and winter storms in the first quarter, compared to $91.0 million in
the nine months ended September 30, 2010, an increase of $57.0 million. Favorable development on prior years’ loss and LAE reserves was $28.5 million for first nine months of 2011, compared to $36.6 million for the first nine months of
2010, a decrease of $8.1 million. Included in 2010 results was $2.3 million of favorable LAE development, principally related to a change in the cost factors used for establishing unallocated LAE reserves.
Personal Lines underwriting profit, excluding prior year loss and LAE reserve development and catastrophes, was $49.7 million for the nine months ended
September 30, 2011, compared to $45.7 million for the nine months ended September 30, 2010, an increase of $4.0 million. This increase in non-catastrophe current accident year results was primarily due to lower operating expenses,
partially offset by less favorable current accident year results primarily due to non-catastrophe weather-related losses.
Chaucer
The acquisition of Chaucer was completed on July 1, 2011. Our financial results of operations do not include the financial
results of Chaucer for any period prior to the date it was acquired. Please refer to the Chaucer section of “Production and Underwriting Results” located on page 41 of this Form 10-Q for information on the financial results of the Chaucer
segment for the period beginning July 1, 2011 and ending September 30, 2011.
Other Property and Casualty
Other Property and Casualty segment income in the nine months ended September 30, 2011 was $1.5 million, compared to $2.7 million in the nine months
ended September 30, 2010. The $1.2 million decrease is primarily due to lower net investment income and less favorable development in our run-off voluntary pools.
43
Reserve for Losses and Loss Adjustment Expenses
The table below provides a reconciliation of the gross beginning and ending reserve for unpaid losses and loss adjustment expenses (including Chaucer with
respect to the three month period ended September 30, 2011) as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
September 30,
|
|
|
(in millions)
|
|
2011
|
|
|
2010
|
|
|
Gross loss and LAE reserves, beginning of period
|
|
$
|
3,277.7
|
|
|
$
|
3,153.9
|
|
|
Reinsurance recoverable on unpaid losses
|
|
|
1,115.5
|
|
|
|
1,060.2
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss and LAE reserves, beginning of period
|
|
|
2,162.2
|
|
|
|
2,093.7
|
|
|
Net incurred losses and LAE in respect of losses occurring in:
|
|
|
|
|
|
|
|
|
|
Current year
|
|
|
1,936.0
|
|
|
|
1,472.0
|
|
|
Prior years
|
|
|
(72.6
|
)
|
|
|
(87.4
|
)
|
|
|
|
|
|
|
|
|
|
|
|
Total incurred losses and LAE
|
|
|
1,863.4
|
|
|
|
1,384.6
|
|
|
|
|
|
|
|
|
|
|
|
|
Net payments of losses and LAE in respect of losses occurring in:
|
|
|
|
|
|
|
|
|
|
Current year, excluding Chaucer
|
|
|
921.1
|
|
|
|
727.4
|
|
|
Prior years, excluding Chaucer
|
|
|
670.9
|
|
|
|
620.4
|
|
|
Chaucer (for the three month period ended September 30, 2011)
|
|
|
150.9
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
Total payments
|
|
|
1,742.9
|
|
|
|
1,347.8
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchase of Chaucer, net of reinsurance recoverable on unpaid losses of $674.4
|
|
|
1,626.2
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchase of Campania
|
|
|
—
|
|
|
|
30.2
|
|
|
|
|
|
|
|
|
|
|
|
|
Effect of foreign exchange rate changes
|
|
|
(20.7
|
)
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
Net reserve for losses and LAE, end of period
|
|
|
3,888.2
|
|
|
|
2,160.7
|
|
|
Reinsurance recoverable on unpaid losses
|
|
|
1,833.8
|
|
|
|
1,071.4
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross reserve for losses and LAE, end of period
|
|
$
|
5,722.0
|
|
|
$
|
3,232.1
|
|
|
|
|
|
|
|
|
|
|
|
The table below summarizes the gross reserve for losses and LAE by line of business.
|
|
|
|
|
|
|
|
|
|
|
(in millions)
|
|
September 30,
2011
|
|
|
December 31,
2010
|
|
|
Workers’ Compensation
|
|
$
|
540.8
|
|
|
$
|
529.0
|
|
|
Commercial Automobile
|
|
|
231.9
|
|
|
|
224.5
|
|
|
Commercial Multiple Peril
|
|
|
579.9
|
|
|
|
470.4
|
|
|
AIX
|
|
|
226.8
|
|
|
|
211.9
|
|
|
Other Commercial
|
|
|
368.4
|
|
|
|
347.2
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Commercial
|
|
|
1,947.8
|
|
|
|
1,783.0
|
|
|
|
|
|
|
|
|
|
|
|
|
Personal Automobile
|
|
|
1,355.9
|
|
|
|
1,358.4
|
|
|
Homeowners and Other
|
|
|
163.0
|
|
|
|
136.3
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Personal
|
|
|
1,518.9
|
|
|
|
1,494.7
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Chaucer
|
|
|
2,255.3
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loss and LAE reserves
|
|
$
|
5,722.0
|
|
|
$
|
3,277.7
|
|
|
|
|
|
|
|
|
|
|
|
44
Loss and LAE reserves for Chaucer were $2,255.3 million as of September 30, 2011. For our Commercial
and Personal Lines businesses, total loss and LAE reserves increased by $189.0 million for the nine months ended September 30, 2011, primarily due to catastrophe losses in the period. Other Commercial lines are primarily comprised of our
professional liability, general liability, umbrella, and marine lines. Included in the above table, in the Chaucer segment, is $301.9 million of reserves related to Chaucer’s participation in Syndicate 4000, consisting of financial and
professional liability lines written in 2008 and prior. Also included in the above table, primarily in Other Commercial lines, are $64.5 million and $68.4 million of asbestos and environmental reserves as of September 30, 2011 and
December 31, 2010, respectively.
In determining carried reserves as set forth above, management considers actuarial point estimates,
which are primarily based on historical and current information, and other qualitative information. Such qualitative information may include legal and regulatory developments, changes in claim handling, claim cost inflation, recent entry into new
markets or products, changes in underwriting practices, concerns that we do not have sufficient or quality historical reported and paid loss and LAE information with respect to a particular line or segment of our business, effects of the economy,
perceived anomalies in the historical results, evolving trends or other factors. For our Commercial and Personal Lines businesses, at September 30, 2011 and December 31, 2010, total recorded net reserves were $53.9 million, or 2.4%, and
$65.4 million, or 3.1%, greater than actuarially indicated reserves, respectively. As of July 1, 2011, our opening reserve balances for Chaucer were established at fair value as part of our purchase accounting process.
Prior Year Development
Loss and
LAE reserves for claims occurring in prior years developed favorably by $72.6 million and $87.4 million during the first nine months of 2011 and 2010, respectively. These amounts include favorable loss and LAE reserve development of $16.6 million
for Chaucer for the three months ended September 30, 2011. The Chaucer favorable development was primarily the result of lower than expected losses in our energy line, primarily related to the 2009 and 2010 accident years. For our Commercial
and Personal Lines businesses, the favorable loss and LAE reserve development during the first nine months of 2011 was primarily the result of lower than expected losses in the personal automobile line, primarily related to bodily injury coverage in
the 2008 through 2010 accident years, the commercial multiple peril line related to the 2007 through 2010 accident years and lower than expected losses in the 2007 through 2010 accident years in the workers’ compensation line. In addition,
within other commercial lines, unfavorable development in our professional liability and surety lines were partially offset by favorable development in our healthcare and other commercial property lines.
The favorable loss and LAE reserve development during the first nine months of 2010 was primarily the result of lower than expected losses in the
personal automobile line across all coverages, primarily in the 2007 through 2009 accident years, the commercial multiple peril line related to the 2007 through 2009 accident years and lower than expected losses in the 2007 through 2010 accident
years in the workers’ compensation line. In addition, the workers’ compensation line related to the 2005, 2008 and 2009 accident years contributed to favorable development. The 2010 amount includes $9.8 million of favorable development
resulting from a change in the cost factors used for establishing unallocated LAE reserves.
Although we experienced significant favorable
development in both losses and LAE in recent years, there can be no assurance that this level of favorable development will occur in the future. We have, and we believe that we will continue to experience, less favorable prior year development in
future years than we experienced recently. The factors that resulted in the favorable development of prior year reserves are considered in our ongoing process for establishing current accident year reserves. In light of our recent years of favorable
development, the factors driving this development were considered to varying degrees in setting the more recent years’ accident year reserves. As a result, we expect the current and most recent accident year reserves not to develop as favorably
as they have in the past. In light of the significance, in recent periods, of favorable development to our segment income, declines in favorable reserve development could be material to our results of operations.
45
Investments
Investment Results
Net investment
income increased $6.5 million, or 10.6%, to $67.8 million for the three months ended September 30, 2011, and increased $5.0 million, or 2.7%, to $189.2 million for the nine months ended September 30, 2011. The increase is primarily due to
the acquisition of Chaucer and its related investment income, which contributed $8.6 million to each of these periods, partially offset by the impact of lower new money yields on fixed maturities. Also, higher dividend income from equity securities,
lower investment expenses and higher income from partnerships contributed to the increase in net investment income. The average pre-tax earned yield on fixed maturities was 4.49% and 5.46% for the three months ended September 30, 2011 and
September 30, 2010, respectively, and 4.99% and 5.48% for the first nine months of 2011 and 2010, respectively. Average pre-tax earned yield on fixed maturities was 5.31% for the three months and nine months ended September 30, 2011,
respectively, for the U.S. domiciled companies. Chaucer’s average pre-tax earned yield on fixed maturities was 2.00% for the three months ended September 30, 2011. We expect declines in average investment yields in future periods to
continue if new money rates remain at their current lower levels.
Investment Portfolio
We held cash and investment assets diversified across several asset classes, as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2011
|
|
|
December 31, 2010
|
|
|
(dollars in millions)
|
|
Carrying
Value
|
|
|
% of Total
Carrying
Value
|
|
|
Carrying
Value
|
|
|
% of Total
Carrying
Value
|
|
|
Fixed maturities, at fair value
|
|
$
|
6,227.6
|
|
|
|
82.0
|
%
|
|
$
|
4,797.9
|
|
|
|
91.3
|
%
|
|
Equity securities, at fair value
|
|
|
246.3
|
|
|
|
3.3
|
|
|
|
128.6
|
|
|
|
2.4
|
|
|
Cash and cash equivalents
|
|
|
922.7
|
|
|
|
12.1
|
|
|
|
290.4
|
|
|
|
5.5
|
|
|
Other investments
|
|
|
194.1
|
|
|
|
2.6
|
|
|
|
39.4
|
|
|
|
0.8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash and investments
|
|
$
|
7,590.7
|
|
|
|
100.0
|
%
|
|
$
|
5,256.3
|
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and Investments
Total cash and investments increased $2.3 billion, or 44.4%, for the nine months ended September 30, 2011. The increase is attributable to the acquisition of Chaucer, with total cash and investments
of $2.4 billion at September 30, 2011, consisting of $1,525.3 million of fixed maturities, $632.4 million of cash and cash equivalents, $146.8 million of other investments and $84.5 million of equity securities. Excluding Chaucer’s cash
and investments, the investment portfolio decreased approximately 1% for the year.
Our fixed maturity portfolio is comprised primarily of
corporate securities, taxable and tax-exempt municipal securities, residential mortgage-backed securities, commercial mortgage-backed securities, foreign government securities, U.S. government securities and asset-backed securities.
The following table provides information about the investment types of our fixed maturities portfolio:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2011
|
|
|
(in millions)
Investment Type
|
|
Amortized
Cost
|
|
|
Fair Value
|
|
|
Net Unrealized
Gain
|
|
|
Change in Net
Unrealized
During 2011
|
|
|
U.S. Treasury and government agencies
|
|
$
|
272.0
|
|
|
$
|
279.0
|
|
|
$
|
7.0
|
|
|
$
|
5.2
|
|
|
Foreign government
|
|
|
302.6
|
|
|
|
302.9
|
|
|
|
0.3
|
|
|
|
0.3
|
|
|
Municipals:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Taxable
|
|
|
802.9
|
|
|
|
861.2
|
|
|
|
58.3
|
|
|
|
59.3
|
|
|
Tax exempt
|
|
|
167.1
|
|
|
|
171.7
|
|
|
|
4.6
|
|
|
|
1.6
|
|
|
Corporate
|
|
|
3,150.7
|
|
|
|
3,291.4
|
|
|
|
140.7
|
|
|
|
(3.7
|
)
|
|
Asset-backed:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential mortgage-backed
|
|
|
825.7
|
|
|
|
864.7
|
|
|
|
39.0
|
|
|
|
9.1
|
|
|
Commercial mortgage-backed
|
|
|
338.1
|
|
|
|
346.1
|
|
|
|
8.0
|
|
|
|
(9.3
|
)
|
|
Asset-backed
|
|
|
107.0
|
|
|
|
110.6
|
|
|
|
3.6
|
|
|
|
(0.1
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total fixed maturities
|
|
$
|
5,966.1
|
|
|
$
|
6,227.6
|
|
|
$
|
261.5
|
|
|
$
|
62.4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
During the first nine months of 2011, our net unrealized gains on fixed maturities increased $62.4 million, or 31.3%, to
a net unrealized gain of $261.5 million at September 30, 2011, compared to $199.1 million at December 31, 2010.
46
Amortized cost and fair value by rating category were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2011
|
|
|
December 31, 2010
|
|
|
(dollars in millions)
NAIC Designation
|
|
Rating Agency
Equivalent
Designation
|
|
Amortized
Cost
|
|
|
Fair
Value
|
|
|
% of
Total
Fair
Value
|
|
|
Amortized
Cost
|
|
|
Fair
Value
|
|
|
% of
Total
Fair
Value
|
|
|
1
|
|
Aaa/Aa/A
|
|
$
|
4,343.5
|
|
|
$
|
4,529.7
|
|
|
|
72.7
|
%
|
|
$
|
3,175.0
|
|
|
$
|
3,290.5
|
|
|
|
68.6
|
%
|
|
2
|
|
Baa
|
|
|
1,282.2
|
|
|
|
1,360.0
|
|
|
|
21.9
|
|
|
|
1,115.0
|
|
|
|
1,180.4
|
|
|
|
24.6
|
|
|
3
|
|
Ba
|
|
|
152.0
|
|
|
|
156.6
|
|
|
|
2.5
|
|
|
|
141.1
|
|
|
|
149.3
|
|
|
|
3.1
|
|
|
4
|
|
B
|
|
|
129.7
|
|
|
|
126.1
|
|
|
|
2.0
|
|
|
|
119.7
|
|
|
|
123.5
|
|
|
|
2.6
|
|
|
5
|
|
Caa and lower
|
|
|
45.8
|
|
|
|
41.8
|
|
|
|
0.7
|
|
|
|
36.3
|
|
|
|
39.1
|
|
|
|
0.8
|
|
|
6
|
|
In or near default
|
|
|
12.9
|
|
|
|
13.4
|
|
|
|
0.2
|
|
|
|
11.7
|
|
|
|
15.1
|
|
|
|
0.3
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total fixed maturities
|
|
|
|
$
|
5,966.1
|
|
|
$
|
6,227.6
|
|
|
|
100.0
|
%
|
|
$
|
4,598.8
|
|
|
$
|
4,797.9
|
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Based on ratings by the National Association of Insurance Commissioners (“NAIC”), approximately 95% of the
fixed maturity portfolio consisted of investment grade securities at September 30, 2011 and 93% as of December 31, 2010.
The
quality of our fixed maturity portfolio remains strong based on ratings, capital structure position, support through guarantees, underlying security and parent ownership and yield curve position. We do not hold any securities in the following
sectors: subprime mortgages, either directly or through mortgage-backed securities; collateralized debt obligations; collateralized loan obligations; or credit derivatives.
We have sovereign debt totaling $150.7 million, or 2.0% of the total portfolio, primarily in the United Kingdom (U.K.), Germany, France and Denmark as a result of the Chaucer acquisition. We have no
sovereign debt exposure to Greece, Ireland or Portugal. Also, we hold $73.3 million of foreign agency debt securities, primarily from Germany, the Netherlands, Great Britain and Norway, as well as $44.9 million of supranational securities. Exposure
to European banks, excluding the U.K., is approximately $137 million, or 1.8% of our total portfolio. Exposure to credit in other European sectors, excluding the U.K., is 2.7% of the portfolio. These securities are high quality, large cap
multi-national companies and well diversified by sector, country and issuer.
Commercial mortgage-backed securities (“CMBS”)
constitute $346.1 million of our invested assets, of which approximately 17% is fully defeased with U.S. government securities. The portfolio is seasoned, with approximately 61% of our CMBS holdings from pre-2005 vintages, 14% from the 2005 vintage,
10% from the 2007 vintage, 4% from the 2006 vintage, and 11% from 2010 and later vintages. The CMBS portfolio is of high quality with approximately 79% being AAA rated and 21% rated AA or A. The CMBS portfolio has a weighted average loan-to-value
ratio of 73% and credit enhancement of approximately 26% as of September 30, 2011.
Our municipal bond portfolio constitutes
approximately 14% of invested assets at September 30, 2011 and is 98% investment grade, without regard to any insurance enhancement. Currently, approximately 28% of the municipal bond portfolio has an insurance enhancement. The portfolio is
well diversified by geography, sector and source of payment, and primarily consists of taxable securities. Approximately 61% of the portfolio is invested in revenue bonds and 39% in general obligation bonds. Revenue bonds are backed by the revenue
stream generated by the services provided by the issuer, while general obligation bonds are backed by the authority that issued the debt and are secured by the taxing powers of those authorities.
Other investments consist primarily of overseas deposits, which are investments maintained in overseas funds and managed exclusively by Lloyd’s.
These funds are required in order to protect policyholders in overseas markets and enable our Chaucer segment to operate in those markets. Access to those funds is restricted and we have no control over the investment strategy. Also included in
other investments are investments in limited partnerships, which are accounted for under the equity method of accounting or at cost.
In
addition and in accordance with Lloyd’s operating guidelines, we are required to deposit funds at Lloyd’s to support our underwriting operations. These funds are available only to fund claim obligations. These restricted assets consisted
of approximately $392 million of fixed maturities and $99 million of cash and cash equivalents as of September 30, 2011. We also deposit funds with various state and governmental authorities in the U.S. For a discussion of our deposits with
state and governmental authorities, see also Note 4 – “Investments” of the Notes to Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended December 31, 2010.
Our fixed maturity and equity securities are classified as available-for-sale and are carried at fair value. Financial instruments whose value is
determined using significant management judgment or estimation constitute less than 2% of the total assets we measured at fair value. (See also Note 8 – “Fair Value”).
Although we expect to invest new funds primarily in investment grade fixed maturities, we have invested, and expect to continue to invest a portion of funds in common equity securities and below
investment grade fixed maturities and other assets.
47
Other-than-Temporary Impairments
For the three months ended September 30, 2011, we recognized $1.5 million of other-than-temporary impairments (“OTTI”) on fixed maturities in earnings. This included $1.1 million related to
below investment grade corporate debt securities which we intend to sell, primarily in the utilities sector, and $0.4 million related to estimated credit losses primarily on below investment grade residential mortgage-backed securities. For the
three months ended September 30, 2010, we recognized $1.4 million of OTTI on debt securities in earnings, primarily on below investment grade corporate bonds in the industrial sector that we classified as intend to sell.
For the first nine months of 2011, we recognized $3.7 million of OTTI on fixed maturity and equity securities in earnings. OTTI on debt securities was
$3.2 million, primarily on below investment grade bonds that we intend to sell, of which $1.6 million related to corporate bonds, principally in the utilities sector, and $1.0 million was related to a municipal bond. Additionally, we recognized OTTI
of $0.6 million related to estimated credit losses on residential mortgage-backed securities. We also recognized OTTI on a common stock of $0.5 million. For the first nine months of 2010, we recognized $7.5 million of OTTI on fixed maturities and
equity securities in earnings, of which $3.0 million related to debt securities that we classified as intend to sell, $2.6 million was estimated credit losses, primarily on investment grade residential mortgage backed securities, and $1.9 million
related to common stocks.
Unrealized Losses
The following table provides information about our fixed maturities and equity securities that are in an unrealized loss position. (See also Note 7 – “Investments” of the Notes to Interim
Consolidated Financial Statements.)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2011
|
|
|
December 31, 2010
|
|
|
(in millions)
|
|
Gross
Unrealized
Losses
|
|
|
Fair Value
|
|
|
Gross
Unrealized
Losses
|
|
|
Fair Value
|
|
|
Fixed maturities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment grade:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12 months or less
|
|
$
|
31.0
|
|
|
$
|
1,236.3
|
|
|
$
|
22.9
|
|
|
$
|
732.3
|
|
|
Greater than 12 months
|
|
|
10.9
|
|
|
|
102.9
|
|
|
|
29.7
|
|
|
|
208.2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total investment grade fixed maturities
|
|
|
41.9
|
|
|
|
1,339.2
|
|
|
|
52.6
|
|
|
|
940.5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Below investment grade:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12 months or less
|
|
|
19.1
|
|
|
|
218.7
|
|
|
|
1.0
|
|
|
|
51.1
|
|
|
Greater than 12 months
|
|
|
1.0
|
|
|
|
1.5
|
|
|
|
12.0
|
|
|
|
90.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total below investment grade fixed maturities
|
|
|
20.1
|
|
|
|
220.2
|
|
|
|
13.0
|
|
|
|
141.1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12 months or less
|
|
|
12.4
|
|
|
|
160.9
|
|
|
|
1.9
|
|
|
|
45.8
|
|
|
Greater than 12 months
|
|
|
0.2
|
|
|
|
1.3
|
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total equity securities
|
|
|
12.6
|
|
|
|
162.2
|
|
|
|
1.9
|
|
|
|
45.8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
74.6
|
|
|
$
|
1,721.6
|
|
|
$
|
67.5
|
|
|
$
|
1,127.4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross unrealized losses on fixed maturities and equity securities was $74.6 million at September 30, 2011, compared
to $67.5 million at December 31, 2010, an increase of $7.1 million, or 10.5%. The increase in unrealized losses was primarily attributable to the volatility in the equity markets, as well as the widening of credit spreads across all sectors,
partially offset by lower interest rates. Securities acquired from Chaucer were recorded at fair value as of the acquisition date of July 1, 2011. Therefore, gross unrealized losses associated with the Chaucer portfolio include only losses as
of September 30, 2011. At September 30, 2011, gross unrealized losses primarily consist of $47.6 million of corporate fixed maturities, $12.6 million of equity securities, $9.7 million of mortgage-backed securities and $4.6 million in
municipal and U.S. Treasury and government agency securities.
We view the gross unrealized losses on fixed maturities and equity securities
as being temporary since it is our assessment that these securities will recover in the near term, allowing us to realize their anticipated long-term economic value. With respect to gross unrealized losses on fixed maturities, we do not intend to
sell nor is it more likely than not we will be required to sell debt securities before this expected recovery of amortized cost (See also “Liquidity and Capital Resources”). With respect to equity securities, we have the intent and ability
to retain such investments for the period of time anticipated to allow for this expected recovery in fair value. The risks inherent in our assessment methodology include the risk that, subsequent to the balance sheet date, market factors may differ
from our expectations; the global economic recovery is less robust than we expect or reverts to recessionary trends; we may decide to subsequently sell a security for unforeseen business needs; or changes in the credit assessment or equity
characteristics from our original assessment may lead us to determine that a sale at the current value would maximize recovery on such investments. To the extent that there are such adverse changes, an OTTI would be recognized as a realized loss.
Although unrealized losses are not reflected in the results of financial operations until they are realized or deemed “other-than-temporary”, the fair value of the underlying investment, which does reflect the unrealized loss, is reflected
in our Consolidated Balance Sheets.
48
The following table sets forth gross unrealized losses for fixed maturities by maturity period and for
equity securities at September 30, 2011 and December 31, 2010. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations, with or without call or prepayment penalties, or we
may have the right to put or sell the obligations back to the issuers.
|
|
|
|
|
|
|
|
|
|
|
(in millions)
|
|
September 30,
2011
|
|
|
December 31,
2010
|
|
|
Due in one year or less
|
|
$
|
2.2
|
|
|
$
|
2.6
|
|
|
Due after one year through five years
|
|
|
19.1
|
|
|
|
11.4
|
|
|
Due after five years through ten years
|
|
|
17.9
|
|
|
|
17.1
|
|
|
Due after ten years
|
|
|
13.1
|
|
|
|
21.6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
52.3
|
|
|
|
52.7
|
|
|
Mortgage-backed securities
|
|
|
9.7
|
|
|
|
12.9
|
|
|
|
|
|
|
|
|
|
|
|
|
Total fixed maturities
|
|
|
62.0
|
|
|
|
65.6
|
|
|
Equity securities
|
|
|
12.6
|
|
|
|
1.9
|
|
|
|
|
|
|
|
|
|
|
|
|
Total fixed maturities and equity securities
|
|
$
|
74.6
|
|
|
$
|
67.5
|
|
|
|
|
|
|
|
|
|
|
|
The carrying values of defaulted fixed maturity securities on non-accrual status at September 30, 2011 and
December 31, 2010 were not material. The effects of non-accruals compared with amounts that would have been recognized in accordance with the original terms of the fixed maturities, were reductions in net investment income of $1.7 million for
the nine months ended September 30, 2011 and 2010. Any defaults in the fixed maturities portfolio in future periods may negatively affect investment income.
Our investment portfolio and shareholders’ equity can be significantly impacted by changes in market values of our securities. As the U.S. and global financial markets and economies, while continuing
to recover, remain unstable, market volatility could increase and defaults on fixed income securities could occur. As a result, we could incur additional realized and unrealized losses in future periods, which could have a material adverse impact on
our results of operations and/or financial position.
Fiscal and monetary policies in place, primarily in the United States and Europe, are
supportive of moderate economic growth. The removal or modification of these policies could have an adverse effect on issuers’ level of business activity or liquidity, increasing the probability of future defaults. While we may experience
defaults on fixed income securities, particularly with respect to non-investment grade securities, it is difficult to foresee which issuers, industries or markets will be affected. As a result, the value of our fixed maturity portfolio could change
rapidly in ways we cannot currently anticipate. Depending on market conditions, we could incur additional realized and unrealized losses in future periods.
Derivative Instruments
We maintain an overall risk management strategy that can
incorporate the use of derivative instruments to manage significant unplanned fluctuations in earnings caused by foreign currency and interest rate volatility.
In April 2011, we entered into a foreign currency forward contract to hedge the foreign currency exchange risk embedded in the purchase price of Chaucer, which was denominated in U.K. Pounds Sterling
(“GBP”). This contract had a notional amount of £297.9 million and was settled on July 14, 2011. For the three months and nine months ended September 30, 2011, we recognized in income from continuing operations a loss
of $6.6 million and $11.3 million, respectively. The loss on the contract was due to a decrease in the exchange rate between the GBP and the U.S. dollar, and was offset by the lower U.S. dollars required to meet the GBP based purchase price. Since a
foreign currency hedge in which the hedged item is a forecasted transaction relating to a business combination does not qualify for hedge accounting under ASC 815,
Derivatives and Hedging
(“ASC 815”), we did not apply hedge
accounting to this transaction. See Note 3 – “Acquisitions” in this Form 10-Q for additional information.
In May 2011, we
entered into a treasury lock forward agreement to hedge the interest rate risk associated with our planned issuance of senior debt, which was completed on June 17, 2011. This hedge qualified as a cash flow hedge under ASC 815. It matured in
June 2011 and resulted in a loss of $1.9 million, which was recorded in accumulated other comprehensive income and will be recognized in earnings over the term of the senior notes.
Additionally, Chaucer held foreign currency forward contracts utilized to mitigate changes in fair value caused by foreign currency fluctuation in converting the fair value of GBP and Euro denominated
investment portfolios into their U.S. dollar denominated equivalent. These portfolios supported U.S. dollar denominated claim reserve liabilities. During the third quarter, we recognized a gain of $6.5 million related to these instruments. All
Chaucer forward contracts were terminated in October 2011.
49
Other Items
Net income also includes the following items:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
|
(in millions)
|
|
Commercial
Lines
|
|
|
Personal
Lines
|
|
|
Chaucer
|
|
|
Other
Property
and
Casualty
|
|
|
Discontinued
Operations
|
|
|
Total
|
|
|
2011
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized investment gains (losses)
|
|
$
|
1.2
|
|
|
$
|
0.6
|
|
|
$
|
6.3
|
|
|
$
|
0.1
|
|
|
$
|
—
|
|
|
$
|
8.2
|
|
|
Net gain (loss) from the retirement of debt
|
|
|
0.3
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(0.4
|
)
|
|
|
—
|
|
|
|
(0.1
|
)
|
|
Costs related to acquired businesses
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(1.9
|
)
|
|
|
—
|
|
|
|
(1.9
|
)
|
|
Gain (loss) on derivative instruments
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
(6.6
|
)
|
|
|
—
|
|
|
|
(6.6
|
)
|
|
Net foreign exchange gains
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
6.7
|
|
|
|
—
|
|
|
|
6.7
|
|
|
|
|
|
|
|
|
|
|
2010
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized investment gains
|
|
$
|
3.6
|
|
|
$
|
1.7
|
|
|
$
|
—
|
|
|
$
|
0.4
|
|
|
$
|
—
|
|
|
$
|
5.7
|
|
|
Discontinued operations, net of taxes
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
0.9
|
|
|
|
0.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30,
|
|
|
(in millions)
|
|
Commercial
Lines
|
|
|
Personal
Lines
|
|
|
Chaucer
|
|
|
Other
Property
and
Casualty
|
|
|
Discontinued
Operations
|
|
|
Total
|
|
|
2011
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized investment gains (losses)
|
|
$
|
4.0
|
|
|
$
|
2.7
|
|
|
$
|
6.3
|
|
|
$
|
11.9
|
|
|
$
|
—
|
|
|
$
|
24.9
|
|
|
Net gain (loss) from the retirement of debt
|
|
|
0.3
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(2.6
|
)
|
|
|
—
|
|
|
|
(2.3
|
)
|
|
Costs related to acquired businesses
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(15.7
|
)
|
|
|
—
|
|
|
|
(15.7
|
)
|
|
Gain (loss) on derivative instruments
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
(11.3
|
)
|
|
|
—
|
|
|
|
(11.3
|
)
|
|
Net foreign exchange gains
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
6.7
|
|
|
|
—
|
|
|
|
6.7
|
|
|
Discontinued operations, net of taxes
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
2.0
|
|
|
|
2.0
|
|
|
|
|
|
|
|
|
|
|
2010
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized investment gains
|
|
$
|
7.4
|
|
|
$
|
8.8
|
|
|
$
|
—
|
|
|
$
|
0.6
|
|
|
$
|
—
|
|
|
$
|
16.8
|
|
|
Discontinued operations, net of taxes
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
0.6
|
|
|
|
0.6
|
|
We manage investment assets for our Commercial Lines, Personal Lines, and Other Property and Casualty segments based on
the requirements of our U.S. combined property and casualty companies. We allocate the investment income, expenses and realized gains to our Commercial Lines, Personal Lines and Other Property and Casualty segments based on actuarial information
related to the underlying businesses. We manage investment assets separately for our Chaucer segment.
Net realized gains on investments were
$8.2 million and $5.7 million in the three months ended September 30, 2011 and 2010, respectively. Net realized gains in 2011 are primarily due to $6.5 million of gains on foreign currency hedges and $3.5 million of gains recognized primarily
from the sale of fixed maturities and equity securities, partially offset by $1.5 million of other-than-temporary impairments from fixed maturities. Net realized gains in 2010 are due to $10.4 million of gains recognized primarily from the sale of
fixed maturities, partially offset by a $3.7 million loss on futures contracts relating to the release of tax capital loss carryforwards and $1.4 million of impairments from both fixed maturities and equity securities.
Net realized gains on investments were $24.9 million and $16.8 million, in the nine months ended September 30, 2011 and 2010, respectively. Net
realized gains in the first nine months of 2011 are primarily due to $22.0 million of gains recognized primarily from the sale of fixed maturities and $6.5 million of gains on foreign currency hedges, partially offset by $3.7 million of
other-than-temporary impairments from fixed maturities and, to a lesser extent, equity securities. Net realized gains in the first nine months of 2010 are due to $26.4 million of gains recognized primarily from the sale of fixed maturities and to a
lesser extent, equity securities, partially offset by $7.5 million of impairments from both fixed maturities and equity securities.
Acquisition costs were $1.9 million and $15.7 million for the three months and nine months ended September 30, 2011, respectively, and primarily
consist of advisory, legal, and accounting costs associated with the acquisition of Chaucer. See Note 3 – “Acquisitions” in this Form 10-Q for additional information.
50
In connection with the acquisition of Chaucer, we entered into a foreign exchange forward contract, which
provided for an economic hedge between the agreed upon purchase price of Chaucer in GBP and currency fluctuations between the GBP and U.S. dollar prior to close. This contract effectively locked in the U.S. dollar equivalent of the purchase price to
be delivered in GBP and was settled in July 2011 at a loss of $11.3 million, of which $4.7 million and $6.6 million was recognized during the three months ended June 30, 2011 and September 30, 2011, respectively. The loss on the contract
was due to a decrease in the exchange rate between the GBP and U.S. dollar and was offset by the lower U.S. dollars required to meet the GBP based purchase price, which resulted in a $6.4 million gain on foreign exchange. Additional decreases in the
exchange rate occurred subsequent to payment of cash proceeds on July 14, 2011. Gains of $0.3 million were recognized related to the loan notes and other payables that are due in GBP to certain former shareholders of Chaucer common stock. We
will be subject to fluctuations in the currency until such loan notes have been paid.
Income Taxes
We are subject to the tax laws and regulations of the U.S. and foreign countries in which we operate. We file a consolidated U.S.
federal income tax return that includes the holding company and its U.S. subsidiaries. Generally, taxes are accrued at the U.S. rate of 35% for income from the U.S. operations. Our primary non-U.S. jurisdiction is the U.K. with a 26% rate. However,
we accrue taxes on certain non-U.S. income which is subject to U.S. tax as a result of being owned by a U.S. shareholder at the U.S. rate. Foreign tax credits, where available, are utilized to offset U.S. tax as permitted. Certain of our non-U.S.
income are not subject to U.S. tax until repatriated as these earnings are intended to be permanently reinvested overseas. Foreign taxes on this non-U.S. income are accrued at the local foreign rate and do not have an accrual for U.S. deferred
taxes.
Three Months Ended September 30, 2011 Compared to Three Months Ended September 30, 2010
The provision for income taxes from continuing operations was a benefit of $9.0 million in the three months ended September 30, 2011, resulting in an
effective tax rate of 48.1% of pre-tax loss, compared to an expense of $21.7 million during the same period in 2010, resulting in an effective tax rate of 29.7% of pre-tax income. These provisions reflect the significant fluctuations in pre-tax GAAP
results from 2010 to 2011, i.e. pre-tax income in 2010 versus a pre-tax loss in 2011, and decreases in our valuation allowance related to realized gains of $8.2 million and $5.7 million in the three months ended September 30, 2011 and 2010,
respectively. In addition, the 2011 provision reflects a $1.7 million benefit related to tax planning strategies implemented in prior years. Absent these benefits, the provision for income taxes from continuing operations would have been a benefit
of $6.7 million or 35.8% and an expense of $24.7 million or 33.8% for the three months ended September 30, 2011 and 2010, respectively. The increase in 2011 is due to lower underwriting results and its disproportionate impact on permanent items
in our estimated effective tax rate.
Our income tax provision on segment income was a benefit of $6.5 million during the three months ended
September 30, 2011, compared to expense of $22.7 million during the same period in 2010. These provisions resulted in effective tax rates for segment income of 26.0% and 33.7% in 2011 and 2010, respectively. The decrease is primarily due to
lower underwriting income in 2011.
Nine Months Ended September 30, 2011 Compared to Nine Months Ended September 30, 2010
The provision for income taxes from continuing operations was a benefit of $26.7 million during the first nine months of 2011,
resulting in an effective tax rate of 65.3% of pre-tax loss compared to an expense of $39.7 million during the same period in 2010, resulting in an effective tax rate of 29.3% of pre-tax income. These provisions reflect the significant fluctuations
in pre-tax GAAP results from 2010 to 2011, i.e. pre-tax income in 2010 versus a pre-tax loss in 2011, and decreases in our valuation allowance related to realized gains of $24.9 million and $16.8 million in the first nine months of 2011 and 2010,
respectively. In addition, the 2011 provision reflects a $5.8 million benefit related to tax planning strategies implemented in prior years. Absent these benefits, the provision for income taxes from continuing operations would have been a benefit
of $14.4 million or 35.2% and an expense of $46.0 million or 33.9% for the nine months ended September 30, 2011 and 2010, respectively. The increase in 2011 is due to lower underwriting results and its disproportionate impact on permanent items
in our estimated effective tax rate
Our income tax provision on segment income was a benefit of $12.6 million for the first nine months of
2011, compared to an expense of $40.2 million during the same period in 2010. These provisions resulted in effective tax rates for segment income of 29.2% and 33.9% in 2011 and 2010, respectively. The decrease is primarily due to lower underwriting
income in 2011.
In September 2011, we completed a transaction which resulted in the realization, for tax purposes only, of unrealized gains
in our investment portfolio of $98.4 million. This transaction enabled us to recognize capital loss carryforwards to offset this gain, and resulted in the release of $10.9 million of the valuation allowance we held against the deferred tax asset
related to these capital loss carryforwards. The release was reflected as a benefit in accumulated other comprehensive income. The $10.9 million will be released into income from continuing operations, related to non-segment income, in future years,
as the investment securities subject to these transactions are sold or mature.
Our valuation allowance related to our deferred tax asset was
$54.0 million at September 30, 2011, compared to $91.5 million at December 31, 2010, a decrease of $37.5 million. The decrease in this valuation allowance primarily resulted from unrealized appreciation in our investment portfolio, the
aforementioned transaction and net realized capital gains in our Consolidated Statements of
51
Income. Accordingly, we recorded decreases in our valuation allowance of $22.8 million and $10.9 million as adjustments to Accumulated Other Comprehensive Income and decrease in our valuation
allowance of $6.5 million as an adjustment to Income Tax Expense. In addition, in the 2010 U.S. federal income tax return we were able to utilize an additional $7.6 million of capital loss carryforward that expired in 2010. As such, we increased our
valuation allowance by $2.6 million with an equal and offsetting increase to the related deferred tax asset. The remaining increase of $0.1 million was reflected in Discontinued Operations.
In April 2011, we received notification that an interest refund claim filed with the Internal Revenue Service in 2009 had been accepted. The interest refund related to tax liabilities of our former
life operations of $0.6 million was recorded in Discontinued Operations in the first three months of 2011.
Critical Accounting Estimates
Our Consolidated Financial Statements have been prepared in conformity with U.S. GAAP and include certain accounting policies that we consider to be critical due to the amount of judgment and uncertainty
inherent in the application of those policies. While we believe that the amounts included in our consolidated financial statements reflect out best judgment, the use of different assumptions could produce materially different accounting estimates.
As disclosed in our 2010 Annual Report on Form 10-K, we believe the following accounting estimates are critical to our operations and require the most subjective and complex judgment:
|
|
•
|
|
Reserve for losses and loss expenses
|
|
|
•
|
|
Reinsurance recoverable balances
|
|
|
•
|
|
Pension benefit obligations
|
|
|
•
|
|
Other-than-temporary impairments (“OTTI”)
|
For a more detailed discussion of these critical accounting estimates, see our Annual Report on Form 10-K for the year ended December 31, 2010.
Statutory Surplus of U.S. Insurance Subsidiaries
The following table reflects statutory surplus of our U.S. insurance subsidiaries:
|
|
|
|
|
|
|
|
|
|
|
(in millions)
|
|
September 30,
2011
|
|
|
December 31,
2010
|
|
|
Total Statutory Surplus – U.S. Insurance Subsidiaries
|
|
$
|
1,538.5
|
|
|
$
|
1,747.3
|
|
The statutory surplus for our U.S. insurance subsidiaries decreased $205.4 million during the first nine months of 2011,
primarily due to a $99 million ordinary dividend paid to the holding company by Hanover Insurance in April 2011 and underwriting loss results for the nine months ended September 30, 2011.
The NAIC prescribes an annual calculation regarding risk based capital (“RBC”). RBC ratios for regulatory purposes are expressed as a
percentage of the capital required to be above the Authorized Control Level (the “Regulatory Scale”); however, in the insurance industry, RBC ratios are widely expressed as a percentage of the Company Action Level. The following table
reflects the Company Action Level, the Authorized Control Level and RBC ratios for Hanover Insurance, as of September 30, 2011, expressed both on the Industry Scale (Total Adjusted Capital divided by the Company Action Level) and Regulatory
Scale (Total Adjusted Capital divided by Authorized Control Level):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(dollars in millions)
|
|
Company
Action
Level
|
|
|
Authorized
Control
Level
|
|
|
RBC
Ratio
Industry
Scale
|
|
|
RBC
Ratio
Regulatory
Scale
|
|
|
The Hanover Insurance Company
|
|
$
|
583.6
|
|
|
$
|
291.8
|
|
|
|
261
|
%
|
|
|
523
|
%
|
52
Lloyd’s Capital Requirement
Chaucer corporate members operate in the Lloyd’s market, which requires that these members deposit funds, referred to as “Funds at
Lloyd’s”, to support their underwriting interests. Lloyd’s sets required capital annually for all participating syndicates based on each syndicates’ business plans, the rating and reserving environment, and discussions with
regulatory and rating agencies. Although the minimum capital levels are set by Lloyd’s, it is the responsibility of Chaucer to continually monitor the risk profiles of its managed syndicates to ensure that the level of funding remains
appropriate. Such capital is comprised of cash and cash equivalents, investments, undrawn letters of credit provided by various banks and other assets.
At September 30, 2011, the required capital supporting our Lloyd’s business totaled £418.1 million. Funds held at Lloyd’s to satisfy this capital requirement consisted of:
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(in millions)
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Letters of credit
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£
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90.0
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Reinsurance agreement
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48.2
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Fixed maturities, at fair value
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251.5
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Cash and cash equivalents
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63.6
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Total securities, assets and letters of credit pledged to Lloyd’s
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£
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453.3
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Liquidity and Capital Resources
Liquidity is a measure of our ability to generate sufficient cash flows to meet the cash requirements of business operations. As a holding company, our
primary ongoing source of cash is dividends from our insurance subsidiaries. However, dividend payments to us by our U.S. insurance subsidiaries are subject to limitations imposed by regulators, such as prior notice periods and the requirement that
dividends in excess of a specified percentage of statutory surplus or prior year’s statutory earnings receive prior approval (so called “extraordinary dividends”). On April 15, 2011, a $99 million ordinary dividend was paid to
the holding company by Hanover Insurance. This dividend was used to help fund the acquisition of Chaucer.
Dividend payments to us by our
Chaucer business are regulated by the U.K. law and the U.K.’s Financial Services Authority (“FSA”). Dividends from Chaucer are dependent on dividends from its subsidiaries. Annual dividend payments from Chaucer are limited to retained
earnings that are not restricted by capital and other requirements for business at Lloyd’s. Also, Chaucer must provide advance notice to the FSA of certain proposed dividends or other payments from FSA regulated entities. There are currently no
plans to repatriate dividends to our holding company from Chaucer.
Sources of cash for our insurance subsidiaries primarily consist of
premiums collected, investment income and maturing investments. Primary cash outflows are paid claims, losses and loss adjustment expenses, policy acquisition expenses, other underwriting expenses and investment purchases. Cash outflows related to
losses and loss adjustment expenses can be variable because of uncertainties surrounding settlement dates for liabilities for unpaid losses and because of the potential for large losses either individually or in the aggregate. We periodically adjust
our investment policy to respond to changes in short-term and long-term cash requirements.
Net cash provided by operating activities was
$286.3 million during the first nine months of 2011, as compared to net cash used in operation activities of $15.0 million during the first nine months of 2010. The $301.3 million change primarily resulted from the absence in 2011 of a $100.0
million contribution made to our qualified defined benefit pension plan in 2010, and increased premium collections in the first nine months of 2011, primarily associated with OneBeacon business written in 2010 and with our Chaucer business.
Net cash provided by investing activities was $231.2 million during the first nine months of 2011, as compared to net cash used in investing
activities of $53.4 million during the first nine months of 2010. In 2011, cash provided by investing activities primarily resulted from $734.7 million of cash and cash equivalents acquired from Chaucer. These increases were offset by cash paid for
the Chaucer acquisition totaling $466.3 million, which included an $11.3 million payment related to a foreign exchange forward contract. During 2010, cash used was primarily related to our net purchases of equities.
Net cash provided by financing activities was $140.8 million during the first nine months of 2011, as compared to net cash provided by financing
activities of $24.7 million during the first nine months of 2010. During 2011, cash provided by financing activities primarily resulted from the issuance, on June 17, 2011, of $300.0 million of unsecured senior debentures. Cash received from
the issuance of debt was partially offset by the repurchase of $86.8 million of debt, the payment of dividends to our shareholders, repayments of collateral related to our securities lending program, and repurchases of common stock. During 2010,
cash provided by financing activities was primarily due to proceeds from the issuance, on February 23, 2010, of unsecured senior debentures. This was largely offset by repurchases of common stock, payments of dividends to our shareholders, and
repayments of collateral related to our securities lending program.
53
On June 17, 2011, the Company issued $300 million aggregate principal amount of 6.375% senior unsecured
notes due June 15, 2021. The senior debentures are subject to certain restrictive covenants, including limitations on the issuance or disposition of capital stock of restricted subsidiaries. These debentures pay interest semi – annually.
At September 30, 2011, the Company was in compliance with the covenants associated with this indenture.
In April 2011, the Company
entered into a bridge credit agreement for borrowings in an aggregate principal amount of up to $180 million to be used solely in connection with the acquisition of Chaucer. This bridge agreement terminated upon the issuance, on June 17, 2011,
of the aforementioned $300 million aggregate principal amount of 6.375% senior unsecured notes.
At September 30, 2011, THG, as a holding
company, held $238.0 million of fixed maturities and cash. We believe the holding company assets are sufficient to meet additional obligations of the holding company during the remainder of 2011, which consists primarily of the interest on our
senior debentures, our dividends to shareholders (as and to the extent declared), additional funds relating to the purchase of Chaucer, certain costs associated with benefits due to our former life employees and agents, and to the extent required,
payments related to indemnification of liabilities associated with the sale of various subsidiaries. We do not expect that it will be necessary to dividend additional funds from our insurance subsidiaries in order to fund 2011 holding company
obligations; however, we may decide to do so.
Dividends to common shareholders are subject to quarterly board approval and declaration.
During the first nine months of 2011, we paid three quarterly dividends, as declared by the Board, each of $0.275 per share to our shareholders, totaling $37.5 million. We believe that our holding company assets are sufficient to provide for future
shareholder dividends should the Board of Directors declare them.
We expect to continue to generate sufficient positive operating cash to
meet all short-term and long-term cash requirements relating to current operations, including the funding of our qualified defined benefit pension plan and Chaucer pension scheme. Based upon the current estimate of liabilities and certain
assumptions regarding investment returns and other factors, our qualified defined benefit pension plan is essentially fully funded as of September 30, 2011. As a result, we currently expect that significant cash contributions will not be
required for this plan for several years. The Chaucer pension scheme is approximately $17 million underfunded as of September 30, 2011. The ultimate payment amounts for both the defined benefit plan and the Chaucer pension scheme are based on
several assumptions, including but not limited to, the rate of return on plan assets, the discount rate for benefit obligations, mortality experience, interest crediting rates and the ultimate valuation and determination of benefit obligations.
Since differences between actual plan experience and our assumptions are likely, changes to our funding obligations in future periods are possible.
Our insurance subsidiaries maintain a high degree of liquidity within their respective investment portfolios in fixed maturity and short-term investments. We believe that the quality of the assets we hold
will allow us to realize the long-term economic value of our portfolio, including securities that are currently in an unrealized loss position. We do not anticipate the need to sell these securities to meet our insurance subsidiaries’ cash
requirements. We expect our insurance subsidiaries to generate sufficient operating cash to meet all short-term and long-term cash requirements. However, there can be no assurance that unforeseen business needs or other items will not occur causing
us to have to sell those securities in a loss position before their values fully recover, thereby causing us to recognize impairment charges in that time period.
Since October 2007 and through December 2010, our Board of Directors has authorized aggregate repurchases of our common stock of up to $500 million. Our repurchases may be executed using open market
purchases, privately negotiated transactions, accelerated repurchase programs or other transactions. We are not required to purchase any specific number of shares or to make purchases by any certain date under this program. On March 30, 2010,
we entered into an accelerated share repurchase agreement and utilized a portion of our existing share repurchase authorization for the immediate repurchase of 2.3 million of our common stock at a cost of $105.0 million. During the first nine
months of 2011, we repurchased 0.6 million shares of our common stock through open market purchases at a cost of $20.0 million.
Additionally, from time to time, we may also repurchase debt. In 2011, we repurchased, in several transactions, $69.5 million of Series B 8.207%
Subordinated Deferrable Interest Debentures (“Junior Debentures”) at a cost of $72.0 million, resulting in a net loss of $2.5 million. In addition, we repurchased $4.0 million of surplus notes outstanding related to AIX Holdings, Inc
(“AIX”), $8.0 million of capital securities related to AIX and $3.0 million of capital securities related to Professionals Direct, Inc. We may decide to repurchase additional debt on an opportunistic basis.
On August 2, 2011, we entered into a $200.0 million committed syndicated credit agreement which expires in August 2015. Borrowings, if any, under
this agreement are unsecured and incur interest at a rate per annum equal to, at our option, a designated base rate or the Euro dollar rate plus applicable margin. The agreement provides covenants, including but not limited to, maintaining a certain
level of consolidated equity, consolidated leverage ratios, and an RBC ratio in our primary U.S. domiciled property and casualty companies of 175%. We had no borrowings under this agreement during 2011. At September 30, 2011, we were in
compliance with these covenants.
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In 2010, Chaucer entered into a £90.0 million Standby Letter of Credit Facility (“Standby
Facility”) that is used to provide regulatory capital supporting Chaucer’s underwriting through two managed syndicates. The Standby Facility expires on December 31, 2015. We pay an annual commitment fee of 1.14 percent. The Standby
Facility contains restrictive financial covenants including, but not limited to, maintaining a minimum consolidated tangible net worth and a leverage ratio of less than or equal to 35 percent for Chaucer. We collateralized £10 million of
the facility under the terms of the agreement. We were in compliance with the covenants at September
30, 2011.
Off-Balance Sheet Arrangements
We currently do not have any material off-balance sheet arrangements that are reasonably likely to have a material effect on our financial position, revenues, expenses, results of operations, liquidity,
capital expenditures, or capital resources.
Contingencies and Regulatory Matters
Information regarding contingencies and regulatory matters appears in Part I – Note 13 “Commitments and Contingencies” of the Notes to
Interim Consolidated Financial Statements.
Risks and Forward-Looking Statements
Information regarding risk factors and forward-looking information appears in Part II – Item 1A of this Quarterly Report on Form 10-Q and in
Part I – Item 1A of our Annual Report on Form 10-K for the fiscal year ended December 31, 2010. This Management’s Discussion and Analysis should be read and interpreted in light of such factors.
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ITEM 3
QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK
Our market risks, the ways we manage them, and sensitivity to changes
in interest rates are summarized in Management’s Discussion and Analysis of Financial Condition and Results of Operations as of December 31, 2010, included in our Annual Report on Form 10-K for the year ended December 31, 2010. There
have been no material changes in the first nine months of 2011 to these risks or our management of them except for our exposure to changes in foreign currency rates as described below.
Foreign Currency Risk
Our Chaucer segment has exposure to foreign currency risk in
both its insurance contracts and its invested assets. Some of its insurance contracts provide that ultimate losses may be payable in foreign currencies depending on the country of original loss. Foreign currency exchange rate risk exists to the
extent that there is an increase in the exchange rate of the foreign currency in which losses are ultimately owed. Thus, our Chaucer segment attempts to manage its foreign currency risk by seeking to match its liabilities under insurance and
reinsurance polices that are payable in foreign currencies with cash and investments that are denominated in such currencies. Due to the extended time frame for settling claims, fluctuation in currency exchange rates, and other factors, we expect
from time to time to realize gains and or losses related to changes in the exchange rates.
Additionally, our Chaucer segment held foreign
currency forward contracts utilized to mitigate changes in fair value caused by foreign currency fluctuation in converting the fair value of U.K. Pound Sterling and Euro denominated investment portfolios into their U.S. dollar denominated
equivalent. These portfolios supported U.S. dollar denominated claim reserve liabilities. During the third quarter, we recognized a gain of $6.5 million related to these instruments. All Chaucer forward contracts were terminated in October 2011.
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ITEM 4
CONTROLS AND PROCEDURES
Disclosure Controls and Procedures Evaluation
Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of our disclosure controls and procedures,
as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”).
Limitations on the Effectiveness of Controls
Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls over financial reporting will prevent all error and all fraud. A control
system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. Further, the design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of
fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Controls can also be circumvented by the individual
acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance
that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures.
Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
Based on our controls evaluation, our Chief Executive Officer and Chief Financial Officer concluded that as of the end of the period covered by this quarterly report, our disclosure controls and
procedures were effective to provide reasonable assurance that (i) the information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods
specified in the SEC’s rules and forms and (ii) material information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding
required disclosure.
Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). Our management, including the
Chief Executive Officer and the Chief Financial Officer, conducted an evaluation of the internal control over financial reporting, as required by Rule 13a-15(d) of the Exchange Act, to determine whether any changes occurred during the period covered
by this quarterly report on Form 10-Q that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that there was no such changes during the quarter ended September 30, 2011, that has materially affected,
or is reasonably likely to materially affect, our internal control over financial reporting.
On July 1, 2011, the Company closed on the
acquisition of Chaucer Holdings PLC (“Chaucer”) for approximately $480 million, which represented approximately 5% of our total assets at the date of acquisition. We expect to first include Chaucer in our annual assessment for the year
ended December 31, 2012, as permitted for recently acquired businesses.
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