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EX-32.2 - EXHIBIT 32.2 SECTION 906 CFO CERTIFICATION - OLD REPUBLIC INTERNATIONAL CORPexhibit322.htm
EX-31.1 - EXHIBIT 31.1 SECTION 302 CEO CERTFICIATION - OLD REPUBLIC INTERNATIONAL CORPexhibit311.htm
EX-32.1 - EXHIBIT 32.1 SECTION 906 CEO CERTIFICATION - OLD REPUBLIC INTERNATIONAL CORPexhibit321.htm
EX-31.2 - EXHIBIT 31.2 SECTION 302 CFO CERTIFICATION - OLD REPUBLIC INTERNATIONAL CORPexhibit312.htm

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
 
FORM 10-Q

[x]
Quarterly report pursuant to section 13 or 15(d) of the Security Exchange Act of 1934
 
for the quarterly period ended: September 30, 2010 or
   
[  ]
Transition report pursuant to section 13 or 15(d) of the Security Exchange Act of 1934

Commission File Number:
001-10607
 

 
OLD REPUBLIC INTERNATIONAL CORPORATION
 
 
(Exact name of registrant as specified in its charter)
 



Delaware
 
No. 36-2678171
(State or other jurisdiction of
 
(IRS Employer Identification No.)
incorporation or organization)
   


307 North Michigan Avenue, Chicago, Illinois
 
60601
(Address of principal executive office)
 
(Zip Code)



Registrant's telephone number, including area code: 312-346-8100


Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes: x  No: ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes: x No: ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “accelerated filer”, “large accelerated filer”, and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one).



Large accelerated filer x
Accelerated filer ¨
   
Non-accelerated filer ¨
Smaller reporting company ¨


Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2). Yes:¨ No:x


 
Class
 
Shares Outstanding
September 30, 2010
Common Stock / $1 par value
 
241,079,437





There are 42 pages in this report

 
 

 


OLD REPUBLIC INTERNATIONAL CORPORATION
 
Report on Form 10-Q / September 30, 2010
 
INDEX
   
   
   
 
PAGE NO.
   
PART I
FINANCIAL INFORMATION:
 
     
 
CONSOLIDATED BALANCE SHEETS
3
     
 
CONSOLIDATED STATEMENTS OF INCOME
4
     
 
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
4
     
 
CONSOLIDATED STATEMENTS OF CASH FLOWS
5
     
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
6 - 14
     
 
MANAGEMENT ANALYSIS OF FINANCIAL POSITION AND RESULTS OF OPERATIONS
15 - 38
     
 
QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
39
     
 
CONTROLS AND PROCEDURES
39
     
PART II
OTHER INFORMATION:
 
     
 
ITEM 1 – LEGAL PROCEEDINGS
40
     
 
ITEM 1A – RISK FACTORS
40
     
 
ITEM 6 – EXHIBITS
40
   
SIGNATURE
41
   
EXHIBIT INDEX
42


 
2

 
 
Old Republic International Corporation and Subsidiaries
Consolidated Balance Sheets
($ in Millions, Except Share Data)
   
(Unaudited)
   
   
September 30,
 
December 31,
   
2010
 
2009
         
Assets
           
Investments:
           
Available for sale:
           
Fixed maturity securities (at fair value) (amortized cost: $7,493.3 and $7,896.2)
 
$
8,185.5
 
$
8,326.8
Equity securities (at fair value) (adjusted cost: $412.0 and $357.5)
   
619.5
   
502.9
Short-term investments (at fair value which approximates cost)
   
917.3
   
826.7
Miscellaneous investments
   
21.4
   
24.0
Total
   
9,743.8
   
9,680.5
Other investments
   
7.1
   
7.8
Total investments
   
9,751.0
   
9,688.4
             
Other Assets:
           
Cash
   
88.0
   
77.3
Securities and indebtedness of related parties
   
11.1
   
17.1
Accrued investment income
   
105.5
   
113.3
Accounts and notes receivable
   
778.3
   
788.6
Federal income tax recoverable: Current
   
7.8
   
7.3
Prepaid federal income taxes
   
102.9
   
221.4
Reinsurance balances and funds held
   
99.1
   
141.9
Reinsurance recoverable:
Paid losses
   
79.0
   
66.7
 
Policy and claim reserves
   
2,388.8
   
2,491.2
Deferred policy acquisition costs
   
196.0
   
206.9
Sundry assets
   
386.9
   
369.3
     
4,243.8
   
4,501.6
Total Assets
 
$
13,994.8
 
$
14,190.0
             
Liabilities, Preferred Stock, and Common Shareholders’ Equity
           
Liabilities:
           
Losses, claims, and settlement expenses
 
$
7,465.8
 
$
7,915.0
Unearned premiums
   
1,059.6
   
1,038.1
Other policyholders' benefits and funds
   
181.9
   
185.2
Total policy liabilities and accruals
   
8,707.5
   
9,138.4
Commissions, expenses, fees, and taxes
   
278.0
   
266.3
Reinsurance balances and funds
   
276.5
   
321.3
Federal income tax payable: Deferred
   
155.2
   
47.5
Debt
   
346.4
   
346.7
Sundry liabilities
   
193.2
   
178.0
Commitments and contingent liabilities
           
Total Liabilities
   
9,957.1
   
10,298.6
             
Preferred Stock (1)
   
-
   
-
             
Common Shareholders’ Equity:
           
Common stock (1)
   
241.0
   
240.6
Additional paid-in capital
   
419.4
   
412.4
Retained earnings
   
2,848.7
   
2,927.3
Accumulated other comprehensive income (loss)
   
567.7
   
353.7
Unallocated ESSOP shares (at cost)
   
(39.2)
   
(42.7)
Treasury stock (at cost)(1)
   
-
   
-
Total Common Shareholders' Equity
   
4,037.7
   
3,891.4
Total Liabilities, Preferred Stock and Common Shareholders’ Equity
 
$
13,994.8
 
$
14,190.0
               
               
(1)  
At September 30, 2010 and December 31, 2009, there were 75,000,000 shares of $0.01 par value preferred stock authorized, of which no shares were outstanding. As of the same dates, there were 500,000,000 shares of common stock, $1.00 par value, authorized, of which 241,079,437 at September 30, 2010 and 240,685,448 at December 31, 2009 were issued. At September 30, 2010 and December 31, 2009, there were 100,000,000 shares of Class B Common Stock, $1.00 par value, authorized, of which no shares were issued. There were no common shares classified as treasury stock as of September 30, 2010 and December 31, 2009.

See accompanying Notes to Consolidated Financial Statements.

 
3

 

Old Republic International Corporation and Subsidiaries
Consolidated Statements of Income (Unaudited)
($ in Millions, Except Share Data)
   
Quarters Ended
 
Nine Months Ended
   
September 30,
 
September 30,
   
2010
 
2009
 
2010
 
2009
Revenues:
                       
Net premiums earned
 
$
797.7
 
$
866.8
 
$
2,296.4
 
$
2,326.3
Title, escrow, and other fees
   
87.6
   
71.8
   
252.9
   
201.6
Total premiums and fees
   
885.4
   
938.7
   
2,549.3
   
2,528.0
Net investment income
   
92.6
   
96.7
   
284.0
   
283.9
Other income
   
4.5
   
5.7
   
14.2
   
20.0
Total operating revenues
   
982.6
   
1,041.2
   
2,847.6
   
2,831.9
Realized investment gains (losses):
                       
From sales
   
5.1
   
.6
   
80.9
   
1.0
From impairments
   
(1.2)
   
(1.5)
   
(1.2)
   
(1.5)
Total realized investment gains (losses)
   
3.8
   
(.9)
   
79.7
   
(.5)
Total revenues
   
986.5
   
1,040.2
   
2,927.3
   
2,831.4
                         
Benefits, Claims and Expenses:
                       
Benefits, claims and settlement expenses
   
602.4
   
669.9
   
1,596.7
   
1,956.7
Dividends to policyholders
   
2.4
   
1.2
   
6.6
   
6.0
Underwriting, acquisition, and other expenses
   
436.1
   
388.3
   
1,254.4
   
1,060.3
Interest and other charges
   
6.2
   
9.8
   
18.1
   
15.8
Total expenses
   
1,047.3
   
1,069.4
   
2,875.9
   
3,039.0
Income (loss) before income taxes (credits)
   
(60.7)
   
(29.1)
   
51.3
   
(207.6)
                         
Income Taxes (Credits):
                       
Current
   
2.8
   
10.9
   
14.1
   
47.5
Deferred
   
(24.5)
   
(47.5)
   
(6.3)
   
(192.7)
Total
   
(21.7)
   
(36.5)
   
7.8
   
(145.2)
                         
Net Income (Loss)
 
$
(38.9)
 
$
7.4
 
$
43.5
 
$
(62.3)
                         
Net Income (Loss) Per Share:
                       
Basic:
 
$
(.16)
 
$
.03
 
$
.18
 
$
(.26)
Diluted:
 
$
(.16)
 
$
.03
 
$
.18
 
$
(.26)
                         
Average shares outstanding:
Basic
   
236,697,304
   
235,761,056
   
236,552,548
   
235,563,448
 
Diluted
   
236,697,304
   
235,878,936
   
236,708,140
   
235,563,448
                         
Dividends Per Common Share:
                       
Cash:
 
$
.1725
 
$
.1700
 
$
.5175
 
$
.5100
 
 
 
Consolidated Statements of Comprehensive Income (Unaudited)
   
Quarters Ended
 
Nine Months Ended
   
September 30,
 
September 30,
   
2010
 
2009
 
2010
 
2009
Net income (loss) as reported
 
$
(38.9)
 
$
7.4
 
$
43.5
 
$
(62.3)
                         
Other comprehensive income (loss):
                       
Post-tax net unrealized gains (losses) on securities
   
128.4
   
222.9
   
210.0
   
367.8
    Other adjustments     2.7      8.3      4.0      17.2 
Net adjustments
   
131.2
   
231.3
   
214.0
   
385.1
                         
Comprehensive income (loss)
 
$
92.2
 
$
238.7
 
$
257.5
 
$
322.7


See accompanying Notes to Consolidated Financial Statements.

 
4

 

Old Republic International Corporation and Subsidiaries
Consolidated Statements of Cash Flows (Unaudited)
($ in Millions)
   
Nine Months Ended
   
September 30,
   
2010
 
2009
         
Cash flows from operating activities:
           
Net income (loss)
 
$
43.5
 
$
(62.3)
Adjustments to reconcile net income (loss) to
           
net cash provided by operating activities:
           
Deferred policy acquisition costs
   
11.4
   
10.5
Premiums and other receivables
   
13.6
   
(155.0)
Unpaid claims and related items
   
(299.8)
   
478.7
Other policyholders’ benefits and funds
   
(29.8)
   
(42.7)
Income taxes
   
(7.1)
   
(161.3)
Prepaid federal income taxes
   
118.5
   
241.9
Reinsurance balances and funds
   
(14.3)
   
56.7
Realized investment (gains) losses
   
(79.7)
   
.5
Accounts payable, accrued expenses and other
   
70.8
   
71.1
Total
   
(172.9)
   
438.0
             
Cash flows from investing activities:
           
Fixed maturity securities:
           
Maturities and early calls
   
568.9
   
825.1
Sales
   
718.7
   
81.5
Sales of:
           
Equity securities
   
107.4
   
-
Other - net
   
5.9
   
3.5
Purchases of:
           
Fixed maturity securities
   
(856.8)
   
(1,239.2)
Equity securities
   
(130.2)
   
-
Other-net
   
(21.1)
   
(12.9)
Net decrease (increase) in short-term investments
   
(90.1)
   
(105.1)
Other-net
   
2.8
   
(10.4)
Total
   
305.5
   
(457.5)
             
Cash flows from financing activities:
           
Issuance of debentures and notes
   
215.0
   
576.2
Issuance of common shares
   
2.9
   
1.1
Redemption of debentures and notes
   
(218.2)
   
(447.2)
Dividends on common shares
   
(122.1)
   
(119.9)
Other-net
   
.6
   
-
Total
   
(121.7)
   
10.0
             
Increase (decrease) in cash:
   
10.7
   
(9.4)
Cash, beginning of period
   
77.3
   
63.9
Cash, end of period
 
$
88.0
 
$
54.5
             
Supplemental cash flow information:
           
Cash paid during the period for:
Interest
 
$
16.1
 
$
4.0
 
Income taxes
 
$
16.1
 
$
16.0










See accompanying Notes to Consolidated Financial Statements.

 
5

 

OLD REPUBLIC INTERNATIONAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
($ in Millions, Except Share Data)

1.
Accounting Policies and Basis of Presentation:

The accompanying consolidated financial statements have been prepared in conformity with the Financial Accounting Standards Board’s (“FASB”) Accounting Standards Codification (“ASC”) of accounting principles generally accepted in the United States of America (“GAAP”).

Pertinent accounting and disclosure pronouncements issued from time to time by the FASB are adopted by the Company as they become effective. The accompanying financial statements incorporate a new pronouncement which modifies current accounting guidance governing consolidation of variable interest entities, effective January 1, 2010. The Company’s adoption of this pronouncement had no effect on the conduct of its business and did not materially affect its reported financial condition or net income (loss). In October 2010, the FASB issued authoritative guidance regarding the deferral of acquisition costs incurred by insurance entities. The new guidance, which is effective for interim and annual periods beginning after December 15, 2011, limits the capitalization of acquisition costs to those that are incrementally or directly related to the successful acquisition of new or renewal insurance contracts. The Company is currently evaluating this recently ratified guidance, however at this time, it does not expect the impact to have a material effect on its consolidated financial statements.

The financial accounting and reporting process relies on estimates and on the exercise of judgment. In the opinion of management all adjustments, consisting only of normal recurring accruals necessary for a fair presentation of the results have been recorded for the interim periods. Amounts shown in the consolidated financial statements and applicable notes are stated (except as otherwise indicated and as to share data) in millions, which amounts may not add to totals shown due to truncation. Necessary reclassifications are made in prior periods’ financial statements whenever appropriate to conform to the most current presentation.

 
6

 

2.
Common Share Data:

Earnings Per Share - Consolidated basic earnings per share excludes the dilutive effect of common stock equivalents and is computed by dividing income (loss) available to common stockholders by the weighted-average number of common shares actually outstanding for the period. Diluted earnings per share are similarly calculated with the inclusion of dilutive common stock equivalents. The following table provides a reconciliation of net income (loss) and number of shares used in basic and diluted earnings per share calculations.

     
Quarters Ended
 
Nine Months Ended
     
September 30,
 
September 30,
     
2010
 
2009
 
2010
 
2009
                       
 
Numerator:
                       
      Net Income (Loss)   $      (38.9)    $ 7.4    $ 43.5    $ (62.3) 
 
Numerator for basic earnings per share -
                       
 
income (loss) available to common stockholders
   
(38.9)
   
7.4
   
43.5
   
(62.3)
 
Adjustment for interest expense incurred on
                       
 
assumed conversions of convertible senior notes
   
-
   
-
   
-
   
-
 
Numerator for diluted earnings per share -
                       
 
income (loss) available to common stockholders
                       
 
after assumed conversions
 
$
(38.9)
 
$
7.4
 
$
43.5
 
$
(62.3)
 
Denominator:
                       
 
Denominator for basic earnings per share -
                       
 
weighted-average shares (a)
   
236,697,304
   
235,761,056
   
236,552,548
   
235,563,448
 
Effect of dilutive securities - stock options
   
-
   
117,880
   
155,592
   
-
 
Effect of dilutive securities - convertible senior notes
   
-
   
-
   
-
   
-
 
Denominator for diluted earnings per share -
                       
 
adjusted weighted-average shares
                       
 
and assumed conversions (a)
   
236,697,304
   
235,878,936
   
236,708,140
   
235,563,448
 
Earnings per share:
Basic
 
$
(.16)
 
$
.03
 
$
.18
   $
(.26)
   
Diluted
 
$
(.16)
 
$
.03
 
$
.18
   $
(.26)
                           
 
Anti-dilutive common share equivalents
                       
 
excluded from earnings per share computations:
                       
 
Stock options
   
16,090,404
   
14,510,299
   
14,354,415
   
15,843,895
 
Convertible senior notes
   
27,457,584
   
27,452,271
   
27,457,584
   
27,452,271
 
Total
   
43,547,988
   
41,962,570
   
41,811,999
   
43,296,166
                             
                       
 (a)
In calculating earnings per share, pertinent accounting rules require that common shares owned by the Company’s Employee Savings and Stock Ownership Plan that are as yet unallocated to participants in the plan be excluded from the calculation. Such shares are issued and outstanding, have the same voting and other rights applicable to all other common shares.

3.
Investments:

The Company may classify its invested assets in terms of those assets relative to which it either (1) has the positive intent and ability to hold until maturity, (2) has available for sale or (3) has the intention of trading. As of September 30, 2010 and December 31, 2009, substantially all the Company's invested assets were classified as “available for sale.”

Fixed maturity securities classified as “available for sale” and other preferred and common stocks (equity securities) are included at fair value with changes in such values, net of deferred income taxes, reflected directly in shareholders’ equity. Fair values for fixed maturity securities and equity securities are based on quoted market prices or estimates using values obtained from independent pricing services as applicable.

The Company reviews the status and fair value changes of each of its investments on at least a quarterly basis during the year, and estimates of other-than-temporary impairments (“OTTI”) in the portfolio’s value are evaluated and established at each quarterly balance sheet date. In reviewing investments for OTTI, the Company, in addition to a security’s market price history, considers the totality of such factors as the issuer’s operating results, financial condition and liquidity, its ability to access capital markets, credit rating trends, most current audit opinion, industry and securities markets conditions, and analyst expectations to reach its conclusions. Sudden fair value declines caused by such adverse developments as newly emerged or imminent bankruptcy filings, issuer default on significant obligations, or reports of financial accounting developments that bring into question the validity of previously reported earnings or financial condition, are recognized as realized losses as soon as credible publicly available information emerges to confirm such developments. Absent issuer-specific circumstances that would result

 
7

 

in a contrary conclusion, any equity security with an unrealized investment loss amounting to a 20% or greater decline for a six month period is considered OTTI. In the event the Company’s estimate of OTTI is insufficient at any point in time, future periods’ net income (loss) would be adversely affected by the recognition of additional realized or impairment losses, but its financial position would not necessarily be affected adversely inasmuch as such losses, or a portion of them, could have been recognized previously as unrealized losses in shareholders’ equity. The Company recognized $1.2 of OTTI adjustments for the quarter and nine months ended September 30, 2010 while recognizing $1.5 of such adjustments for the quarter and nine months ended September 30, 2009.

The amortized cost and estimated fair values of fixed maturity securities are as follows:

       
Gross
 
Gross
 
Estimated
   
Amortized
 
Unrealized
 
Unrealized
 
Fair
   
Cost
 
Gains
 
Losses
 
Value
Fixed Maturity Securities:
                       
September 30, 2010:
                       
U.S. & Canadian Governments
 
$
987.5
 
$
79.2
 
$
-
 
$
1,066.8
Tax-exempt
   
1,533.7
   
103.4
   
-
   
1,637.2
Corporates
   
4,972.0
   
510.6
   
1.1
   
5,481.5
   
$
7,493.3
 
$
693.4
 
$
1.2
 
$
8,185.5
                         
December 31, 2009:
                       
U.S. & Canadian Governments
 
$
937.4
 
$
39.6
 
$
3.0
 
$
974.0
Tax-exempt
   
2,209.3
   
135.0
   
.3
   
2,344.0
Corporates
   
4,749.4
   
273.2
   
14.0
   
5,008.7
   
$
7,896.2
 
$
448.0
 
$
17.4
 
$
8,326.8

The amortized cost and estimated fair value of fixed maturity securities at September 30, 2010, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities since borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

       
Estimated
   
Amortized
 
Fair
   
Cost
 
Value
Fixed Maturity Securities:
           
Due in one year or less
 
$
820.6
 
$
833.9
Due after one year through five years
   
3,929.2
   
4,219.6
Due after five years through ten years
   
2,682.4
   
3,069.2
Due after ten years
   
60.8
   
62.6
   
$
7,493.3
 
$
8,185.5

A summary of the Company's equity securities reflecting reported adjusted cost, net of OTTI adjustments totaling $245.4 at September 30, 2010 and $317.3 at December 31, 2009 follows:

       
Gross
 
Gross
 
Estimated
   
Adjusted
 
Unrealized
 
Unrealized
 
Fair
   
Cost
 
Gains
 
Losses
 
Value
                         
September 30, 2010
 
$
412.0
 
$
220.8
 
$
13.3
 
$
619.5
                         
December 31, 2009
 
$
357.5
 
$
159.0
 
$
13.7
 
$
502.9

 
8

 

The following table reflects the Company’s gross unrealized losses and fair value, aggregated by category and length of time that individual securities have been in an unrealized loss position employing closing market price comparisons with an issuer’s adjusted cost at September 30, 2010 and December 31, 2009:

 
12 Months or Less
 
Greater than 12 Months
 
Total
 
Fair
Value
 
Unrealized Losses
 
Fair
Value
 
Unrealized Losses
 
Fair
Value
 
Unrealized Losses
September 30, 2010:
                                 
Fixed Maturity Securities:
                                 
U.S. & Canadian Governments
$
-
 
$
-
 
$
-
 
$
-
 
$
-
 
$
-
Tax-exempt
 
8.0
   
-
   
-
   
-
   
8.0
   
-
Corporates
 
1.7
   
-
   
26.6
   
1.1
   
28.3
   
1.1
Subtotal
 
9.8
   
-
   
26.6
   
1.1
   
36.4
   
1.2
Equity Securities
 
61.2
   
2.0
   
93.7
   
11.2
   
154.9
   
13.3
Total
$
71.0
 
$
2.1
 
$
120.3
 
$
12.4
 
$
191.3
 
$
14.5
                                   
December 31, 2009:
                                 
Fixed Maturity Securities:
                                 
U.S. & Canadian Governments
$
307.1
 
$
3.0
 
$
-
 
$
-
 
$
307.1
 
$
3.0
Tax-exempt
 
13.9
   
.2
   
3.1
   
-
   
17.1
   
.3
Corporates
 
302.5
   
5.1
   
139.3
   
8.9
   
441.8
   
14.0
Subtotal
 
623.6
   
8.4
   
142.5
   
8.9
   
766.1
   
17.4
Equity Securities
 
1.2
   
.2
   
99.5
   
13.4
   
100.8
   
13.7
Total
$
624.9
 
$
8.6
 
$
242.1
 
$
22.4
 
$
867.0
 
$
31.1

At September 30, 2010, the Company held 15 fixed maturity and 11 equity securities in an unrealized loss position, representing .8% as to fixed maturities and 26.2% as to equity securities of the total number of such issues held by the Company. Of the securities in an unrealized loss position, 5 fixed maturity securities and 2 equity securities had been in a continuous unrealized loss position for more than 12 months. The unrealized losses on these securities are primarily attributable to a post-purchase rising interest rate environment and/or a decline in the credit quality of some issuers, and with respect to equity securities, market volatility. As part of its assessment of other-than-temporary impairments, the Company considers its intent to continue to hold and the likelihood that it will not be required to sell investment securities in an unrealized loss position until cost recovery, principally on the basis of its asset and liability maturity matching procedures. The Company has not sold nor does it expect to sell investments for purposes of generating cash to pay claim or expense obligations.

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants (an exit price) at the measurement date. A fair value hierarchy is established that prioritizes the sources (“inputs”) used to measure fair value into three broad levels: inputs based on quoted market prices in active markets (Level 1); observable inputs based on corroboration with available market data (Level 2); and unobservable inputs based on uncorroborated market data or a reporting entity’s own assumptions (Level 3). Following is a description of the valuation methodologies and general classification used for securities measured at fair value.

The Company uses quoted values and other data provided by a nationally recognized independent pricing source as inputs into its quarterly process for determining fair values of its fixed maturity and equity securities. To validate the techniques or models used by pricing sources, the Company’s review process includes, but is not limited to: (i) initial and ongoing evaluation of methodologies used by outside parties to calculate fair value; and (ii) comparing the fair value estimates to its knowledge of the current market and to independent fair value estimates provided by the investment custodian. The independent pricing source obtains market quotations and actual transaction prices for securities that have quoted prices in active markets using its own proprietary method for determining the fair value of securities that are not actively traded. In general, these methods involve the use of “matrix pricing” in which the independent pricing source uses observable market inputs including, but not limited to, investment yields, credit risks and spreads, benchmarking of like securities, broker-dealer quotes, reported trades and sector groupings to determine a reasonable fair value.

Level 1 securities include U.S. and Canadian Treasury notes, publicly traded common stocks, the quoted net asset value (“NAV”) mutual funds, and most short-term investments in highly liquid money market instruments. Level 2 securities generally include corporate bonds, municipal bonds and certain U.S. and Canadian government agency securities. Securities classified within Level 3 include non-publicly traded bonds, short-term investments and common stocks.

 
9

 

The following table shows a summary of assets measured at fair value segregated among the various input levels described above:

 
Fair value measurements as of September 30, 2010:
 
Level 1
 
Level 2
 
Level 3
 
Total
Available for sale:
                     
Fixed maturity securities
$
338.6
 
$
7,817.6
 
$
29.2
 
$
8,185.5
Equity securities
 
617.5
   
-
   
1.8
   
619.5
Short-term investments
$
911.4
 
$
-
 
$
5.8
 
$
917.3

Investment income is reported net of allocated expenses and includes appropriate adjustments for amortization of premium and accretion of discount on fixed maturity securities acquired at other than par value. Dividends on equity securities are credited to income on the ex-dividend date. Realized investment gains and losses, which result from sales or write-downs of securities, are reflected as revenues in the income state­ment and are determined on the basis of amortized value at the date of sale for fixed maturity securities, and cost in regard to equity securities; such bases apply to the specific securities sold. Unrealized investment gains and losses, net of any defer­red income taxes, are recorded directly as a component of accumulated other comprehensive income in shareholders’ equity. At September 30, 2010, the Company and its subsidiaries had no non-income producing fixed maturity securities.

The following table reflects the composition of net investment income, net realized gains or losses, and the net change in unrealized invest­ment gains or losses for each of the years shown.

 
Quarters Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2010
 
2009
 
2010
 
2009
Investment income from:
                     
Fixed maturity securities
$
90.0
 
$
94.8
 
$
277.0
 
$
273.9
Equity securities
 
2.4
   
1.2
   
5.2
   
4.0
Short-term investments
 
.5
   
.8
   
1.2
   
4.9
Other sources
 
.3
   
.6
   
2.7
   
3.2
Gross investment income
 
93.4
   
97.5
   
286.2
   
286.2
     Investment expenses (a)   .7      .7      2.2      2.2 
    Net investment income
$
92.6
 
$
96.7
 
$
284.0
 
$
283.9
                       
Realized gains (losses) on:
                     
Fixed maturity securities:
                     
Gains
$
9.9
 
$
.7
 
$
50.4
 
$
1.7
Losses
 
-
   
(1.7)
   
(.1)
   
(1.7)
Net
 
9.9
   
(1.0)
   
50.2
   
-
                       
Equity securities & other long-term investments
 
(6.0)
   
-
   
29.4
   
(.5)
Total
 
3.8
   
(.9)
   
79.7
   
(.5)
Income taxes (credits)(b)
 
1.3
   
(20.8)
   
27.8
   
(54.1)
Net realized gains (losses)
$
2.5
 
$
19.8
 
$
51.8
 
$
53.6
Changes in unrealized investment gains (losses) on:
                     
Fixed maturity securities
$
125.4
 
$
235.2
 
$
260.6
 
$
448.5
Less: Deferred income taxes (credits)
 
43.8
   
82.3
   
91.0
   
156.9
Net change
$
81.6
 
$
152.9
 
$
169.5
 
$
291.6
                       
Equity securities & other long-term investments
$
72.0
 
$
107.6
 
$
62.2
 
$
117.2
Less: Deferred income taxes (credits)
 
25.2
   
37.6
   
21.7
   
41.0
Net change
$
46.8
 
$
69.9
 
$
40.4
 
$
76.2
                         

 
(a)
Investment expenses consist of personnel costs and investment management and custody service fees, as well as a negligible amount of interest incurred on funds held.
 
(b)
Reflects primarily the combination of fully taxable realized investment gains or losses and judgments about the recoverability of deferred tax assets.

 
10

 

4.
Pension Plans:

The Company has three pension plans covering a portion of its work force. All three plans have been closed to new participants since December 31, 2004. The Company’s policy is to fund the plans’ costs as they accrue. Plan assets are comprised principally of bonds, common stocks and short-term investments. Cash contributions of $2.0 were made to the pension plans in the third quarter of 2010, and additional cash contributions of $1.4 are expected to be made in the remaining portion of calendar year 2010.

5.
Information About Segments of Business:

The Company is engaged in the single business of insurance underwriting. It conducts its operations through a number of regulated insurance company subsidiaries organized into three major segments, namely its General Insurance (property and liability insurance), Mortgage Guaranty and Title Insurance Groups. The results of a small life & health insurance business are included with those of its corporate and minor service operations. Each of the Company’s segments underwrites and services only those insurance coverages which may be written by it pursuant to state insurance regulations and corporate charter provisions. Segment results exclude net realized investment gains or losses and other-than-temporary impairments as these are aggregated in the consolidated totals. The contributions of Old Republic’s insurance industry segments to consolidated totals are shown in the following table.

 
Quarters Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2010
 
2009
 
2010
 
2009
General Insurance Group:
                     
Net premiums earned
$
435.0
 
$
446.7
 
$
1,247.9
 
$
1,344.9
Net investment income and other income
 
66.1
   
67.6
   
200.7
   
200.3
Total revenues before realized gains or losses
$
501.1
 
$
514.4
 
$
1,448.7
 
$
1,545.2
Income (loss) before income taxes (credits) and
                     
realized investment gains or losses (a)
$
25.8
 
$
43.7
 
$
124.5
 
$
148.4
Income tax expense (credits) on above
$
9.3
 
$
10.9
 
$
37.0
 
$
38.3
                       
Mortgage Guaranty Group:
                     
Net premiums earned
$
120.3
 
$
221.5
 
$
385.7
 
$
508.4
Net investment income and other income
 
22.1
   
25.6
   
69.3
   
76.6
Total revenues before realized gains or losses
$
142.4
 
$
247.2
 
$
455.1
 
$
585.0
Income (loss) before income taxes (credits) and
                     
realized investment gains or losses (a)
$
(94.0)
 
$
(77.8)
 
$
(150.3)
 
$
(360.4)
Income tax expense (credits) on above
$
(33.5)
 
$
(28.5)
 
$
(55.6)
 
$
(130.2)
                       
Title Insurance Group:
                     
Net premiums earned
$
224.1
 
$
181.4
 
$
600.7
 
$
418.9
Title, escrow and other fees
 
87.6
   
71.8
   
252.9
   
201.6
Sub-total
 
311.8
   
253.3
   
853.6
   
620.6
Net investment income and other income
 
6.9
   
6.4
   
20.7
   
18.4
Total revenues before realized gains or losses
$
318.7
 
$
259.7
 
$
874.3
 
$
639.0
Income (loss) before income taxes (credits) and
                     
realized investment gains or losses (a)
$
5.7
 
$
4.0
 
$
1.1
 
$
.6
Income tax expense (credits) on above
$
1.9
 
$
1.0
 
$
-
 
$
(.9)
                       
Consolidated Revenues:
                     
Total revenues of above Company segments
$
962.4
 
$
1,021.3
 
$
2,778.2
 
$
2,769.3
Other sources (b)
 
33.9
   
34.0
   
110.5
   
102.1
Consolidated net realized investment gains (losses)
 
3.8
   
(.9)
   
79.7
   
(.5)
Consolidation elimination adjustments
 
(13.7)
   
(14.1)
   
(41.1)
   
(39.5)
Consolidated revenues
$
986.5
 
$
1,040.2
 
$
2,927.3
 
$
2,831.4
                       
Consolidated Income (Loss) Before Taxes (Credits):
                     
Total income (loss) before income taxes (credits)
                     
and realized investment gains or losses of
                     
above Company segments
$
(62.4)
 
$
(30.0)
 
$
(24.7)
 
$
(211.3)
Other sources – net (b)
 
(2.2)
   
1.8
   
(3.6)
   
4.3
Consolidated net realized investment gains (losses)
 
3.8
   
(.9)
   
79.7
   
(.5)
Consolidated income (loss)
                     
before income taxes (credits)
$
(60.7)
 
$
(29.1)
 
$
51.3
 
$
(207.6)

 
11

 

 
Quarters Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2010
 
2009
 
2010
 
2009
Consolidated Income Tax Expense (Credits):
                     
Total income tax expense (credits)
                     
for above Company segments
$
(22.2)
 
$
(16.5)
 
$
(18.4)
 
$
(92.8)
Other sources – net (b)
 
(.8)
   
.8
   
(1.5)
   
1.7
Income tax expense (credits) on
                     
consolidated net realized investment gains (losses)
 
1.3
   
(20.8)
   
27.8
   
(54.1)
Consolidated income tax expense (credits)
$
(21.7)
 
$
(36.5)
 
$
7.8
 
$
(145.2)

   
September 30,
 
December 31,
   
2010
 
2009
Consolidated Assets:
           
General
 
$
10,004.5
 
$
9,920.8
Mortgage
   
2,791.6
   
3,233.4
Title
   
884.8
   
852.8
Other assets (b)
   
599.4
   
503.5
Consolidation elimination adjustments
   
(285.6)
   
(320.5)
Consolidated
 
$
13,994.8
 
$
14,190.0
               
               

 
(a)
Income (loss) before taxes (credits) is reported net of interest charges on intercompany financing arrangements with Old Republic’s holding company parent for the following segments: General - $5.3 and $16.0 compared to $5.4 and $12.5 for the quarter and nine months ended September 30, 2010 and 2009, respectively; Mortgage - $1.8 and $5.3 compared to $1.7 and $5.5 for the quarter and nine months ended September 30, 2010 and 2009, respectively; and Title - $1.2 and $3.9 compared to $1.6 and $3.9 for the quarter and nine months ended September 30, 2010 and 2009, respectively.
 
(b)
Represents amounts for Old Republic’s holding company parent, minor corporate services subsidiaries, and a small life and health insurance operation.

6.
Commitments and Contingent Liabilities:

Legal proceedings against the Company and its subsidiaries routinely arise in the normal course of business and usually pertain to claim matters related to insurance policies and contracts issued by its insurance subsidiaries. Other, non-routine legal proceedings which may prove to be material to the Company or a subsidiary are discussed below.

Purported class action lawsuits are pending against the Company’s principal title insurance subsidiary, Old Republic National Title Insurance Company (“ORNTIC”), in federal courts in two states – Pennsylvania (Markocki et al. v. ORNTIC, U.S. District Court, Eastern District, Pennsylvania, filed June 8, 2006), and Texas (Ahmad et al. v. ORNTIC, U.S. District Court, Northern District, Texas, Dallas Division, filed February 8, 2008). The plaintiffs allege that ORNTIC failed to give consumers reissue and/or refinance credits on the premiums charged for title insurance covering mortgage refinancing transactions, as required by rate schedules filed by ORNTIC or by state rating bureaus with the state insurance regulatory authorities. The suits also allege violations of the federal Real Estate Settlement Procedures Act (“RESPA”). A class has been certified in the Pennsylvania action. Substantially similar lawsuits, though without alleging violations of RESPA, were pending against ORNTIC in Connecticut, New Jersey and Ohio but have subsequently been settled. The settlement agreement reached in the Connecticut action is not expected to cost ORNTIC more than $2.9, while that in New Jersey will cost less than $800,000, including attorneys' fees and administrative costs. The Ohio class action settlement caps ORNTIC’s exposure at $9.0.

Beginning in early February 2008, some 80 purported consumer class action lawsuits have been filed against the title industry’s principal title insurance companies, their subsidiaries and affiliates, and title insurance rating bureaus or associations in at least 10 states. The suits have been substantially identical in alleging that the defendant title insurers engaged in illegal price-fixing agreements to set artificially high premium rates and conspired to create premium rates which the state insurance regulatory authorities could not evaluate and therefore, could not adequately regulate. Many of the suits have since been dismissed and others consolidated. ORNTIC is currently among the named defendants in 35 of these actions in 5 states (California, Delaware, Ohio, New Jersey and Pennsylvania). The Company is a named defendant in the Ohio actions. No class has yet been certified in any of these suits, and none of the actions allege RESPA violations. The anti-trust allegations in the California action have been dismissed and only the allegations of improper business practices under state law remain. In the Pennsylvania actions, the claims for damages were dismissed, and only the claims for injunctive relief remain. The Delaware, Ohio and New Jersey actions were dismissed at the trial court level, and the dismissals are up on appeal before the 3rd and 6th Circuits U.S. Courts of Appeals.

National class action suits have been filed against the Company’s subsidiary, Old Republic Home Protection Company (“ORHP”) in the California Superior Court, San Diego, and the U.S. District Court in Birmingham,

 
12

 

Alabama. The California suit has been filed on behalf of all persons who made a claim under an ORHP home warranty contract from March 6, 2003 to the present. The suit alleges breach of contract, breach of the implicit covenant of good faith and fair dealing, violations of certain California consumer protection laws and misrepresentation arising out of ORHP’s alleged failure to adopt and implement reasonable standards for the prompt investigation and processing of claims under its home warranty contracts. The suit seeks unspecified damages consisting of the rescission of the class members’ contracts, restitution of all sums paid by the class members, punitive damages, and declaratory and injunctive relief. ORHP has removed the action to the U.S. District Court for the Southern District of California. The Alabama suit alleges that ORHP pays fees to the real estate brokers who market its home warranty contracts and that the payment of such fees is in violation of Section 8(a) of RESPA. The suit seeks unspecified damages, including treble damages under RESPA. No class has been certified in either action.

On December 19, 2008, Old Republic Insurance Company and Old Republic Insured Credit Services, Inc., (“Old Republic”) filed suit against Countrywide Bank FSB, Countrywide Home Loans, Inc. (“Countrywide”) and Bank of New York Mellon, BNY Mellon Trust of Delaware in the Circuit Court, Cook County, Illinois seeking declaratory judgment to rescind or terminate various credit indemnity policies issued to insure home equity loans and home equity lines of credit which Countrywide had securitized or held for its own account. In February of 2009, Countrywide filed a counterclaim alleging a breach of contract, bad faith and seeking a declaratory judgment challenging the factual and procedural bases that Old Republic had relied upon to deny or rescind coverage for individual defaulted loans under those policies. As of September 30, 2010, Old Republic had rescinded or denied coverage on more than 17,000 defaulted loans, based upon material misrepresentations either by Countrywide as to the credit characteristics of the loans or by the borrowers in their loan applications.

On November 3, 2010, Bank of America, N.A. (“B of A”) filed suit against Old Republic Insurance Company in the U.S. District Court for the Western District of North Carolina alleging breach of contract, breach of the duty of good faith and fair dealing, and bad faith with respect to Old Republic’s handling of certain claims under a policy of credit indemnity insurance issued to B of A. The policy is not related to those issued to Countrywide, which are the subject of the above-noted separate litigation. The B of A suit seeks a declaratory judgment with respect to the interpretation of certain policy terms, B of A’s compliance with certain terms and conditions of the policy, and the propriety of certain positions and procedures taken by Old Republic in response to claims filed by B of A. The suit also seeks money damages in excess of $160.0, pre- and post judgment interest, and unspecified punitive damages.

On December 31, 2009, two of the Company’s mortgage insurance subsidiaries, Republic Mortgage Insurance Company and Republic Mortgage Insurance Company of North Carolina (together “RMIC”) filed a Complaint for Declaratory Judgment in the Supreme Court of the State of New York, County of New York, against Countrywide Financial Corporation, Countrywide Home Loans, Inc., The Bank of New York Mellon Trust Company, N.A., BAC Home Loans Servicing, LP, and Bank of America N.A. as successor in interest to Countrywide Bank, N.A. (together “Countrywide”). The suit relates to five mortgage insurance master policies (the “Policies”) issued by RMIC to Countrywide or to the Bank of New York Mellon Trust Company as co-trustee for trusts containing securitized mortgage loans that were originated or purchased by Countrywide. RMIC has rescinded its mortgage insurance coverage on over 1,500 of the loans originally covered under the Policies based upon material misrepresentations of the borrowers in their loan applications or the negligence of Countrywide in its loan underwriting practices or procedures. Each of the coverage rescissions occurred after a borrower had defaulted and RMIC reviewed the claim and loan file submitted by Countrywide. The suit seeks the Court’s review and interpretation of the Policies’ incontestability provisions and its validation of RMIC’s investigation procedures with respect to the claims and underlying loan files.

On January 29, 2010, in response to RMIC’s suit, Countrywide served RMIC with a demand for arbitration under the arbitration clauses of the same Policies. The demand raises largely the same issues as those raised in RMIC’s suit against Countrywide, but from Countrywide’s perspective, as well as Countrywide’s and RMIC’s compliance with the terms, provisions and conditions of the Policies. The demand includes a prayer for punitive, compensatory and consequential damages. RMIC filed a motion to stay the arbitration, and Countrywide filed a motion to dismiss RMIC’s lawsuit and to compel the arbitration. On July 26, 2010, the Court granted Countrywide’s motion, ordering the matters be submitted to arbitration and dismissing the lawsuit. RMIC has filed a motion asking the Court to reconsider its order.

Except in the Connecticut, New Jersey and Ohio actions against the title companies, where settlement agreements have been approved, the ultimate impact of these lawsuits and the arbitration all of which seek unquantified damages, attorneys’ fees and expenses, is uncertain and not reasonably estimable. The Company and its subsidiaries intend to defend vigorously against each of the aforementioned actions. Although the Company does not believe that these actions will have a material adverse effect on its consolidated financial condition, results of operations or cash flows, there can be no assurance in those regards.

7.
Debt:

On April 29, 2009, the Company completed a public offering of $316.25 aggregate principal amount of Convertible Senior Notes. The notes bear interest at a rate of 8.0% per year, mature on May 15, 2012, and are

 
13

 

convertible at any time prior to maturity by the holder into 86.8224 shares of common stock per one thousand dollar note.

Consolidated debt of Old Republic and its subsidiaries is summarized below:

   
September 30, 2010
 
December 31, 2009
   
Carrying
 
Fair
 
Carrying
 
Fair
   
Amount
 
Value
 
Amount
 
Value
8% Convertible Senior Notes due 2012
 
$
316.2
 
$
411.4
 
$
316.2
 
$
358.9
ESSOP debt with an average yield of 3.78%
                       
and 3.85%, respectively
   
25.8
   
25.8
   
27.9
   
27.9
Other miscellaneous debt
   
4.4
   
4.4
   
2.5
   
2.5
Total debt
 
$
346.4
 
$
441.7
 
$
346.7
 
$
389.4

The Company currently has access to the commercial paper market for up to $150.0.

8.
Income Taxes:

Tax positions taken or expected to be taken in a tax return by the Company are recognized in the financial statements when it is more likely than not that the position would be sustained upon examination by tax authorities. There are no tax uncertainties that are expected to result in significant increases or decreases to unrecognized tax benefits within the next twelve month period. The Company views its income tax exposures as primarily consisting of timing differences whereby the ultimate deductibility of a taxable amount is highly certain but the timing of its deductibility is uncertain. Such differences relate principally to the timing of deductions for loss and premium reserves. As in prior examinations, the Internal Revenue Service (IRS) could assert that claim reserve deductions were overstated thereby reducing the Company’s statutory taxable income in any particular year. The Company believes that it establishes its reserves fairly and consistently at each balance sheet date, and that it would succeed in defending its tax position in these regards. Because of the impact of deferred tax accounting, the possible accelerated payment of tax to the IRS would not necessarily affect the annual effective tax rate. The Company classifies interest and penalties as income tax expense in the consolidated statement of income. Examinations of the Company’s consolidated Federal income tax returns through year-end 2006 have been completed and no significant adjustments have resulted.

9.
Merger:

On October 1, 2010, Old Republic merged with PMA Capital Corporation (“PMA”). Pursuant to the merger, Old Republic issued 17,754,047 shares of Old Republic common stock in exchange for all outstanding common shares of PMA. As a result of the merger, PMA and its subsidiaries became wholly-owned subsidiaries of Old Republic. The addition of PMA to Old Republic’s insurance group is expected to further diversify its General Insurance business.

The estimated fair value of consideration transferred approximates $247.0. Disclosures regarding the fair values of assets acquired, liabilities assumed, and goodwill recognized pursuant to the merger are not provided given that the initial accounting for the merger is not complete.

Old Republic’s consolidated results for the third quarter and first nine months of 2010 do not include amounts relating to PMA’s results of operations for the corresponding periods. The following table presents pro forma revenue and net income (loss) from continuing operations that combine the historical accounts of Old Republic and PMA, excluding any merger related expenses, as if the merger had occurred as of January 1, 2010 or January 1, 2009:

   
Supplemental Pro Forma
   
Information
       
Net Income
       
(Loss) from
   
Total
 
Continuing
   
Revenue
 
Operations
Nine months ended September 30:
           
2010
 
$
3,347.5
 
$
74.4
2009
   
3,232.9
   
(43.0)
             
Quarters ended September 30:
           
2010
   
1,141.3
   
(19.9)
2009
 
$
1,173.1
 
$
14.6

The proforma financial information is not necessarily indicative of what the past revenues and results of operations of the combined companies would have been, or those of the post merger periods.

 
14

 

OLD REPUBLIC INTERNATIONAL CORPORATION
MANAGEMENT ANALYSIS OF FINANCIAL POSITION AND RESULTS OF OPERATIONS
Nine Months Ended September 30, 2010 and 2009
($ in Millions, Except Share Data)

OVERVIEW

This management analysis of financial position and results of operations pertains to the consolidated accounts of Old Republic International Corporation (“Old Republic” or “the Company”). The Company conducts its operations through three major regulatory segments, namely, its General (property and liability), Mortgage Guaranty, and Title insurance segments. A small life and health insurance business, accounting for 2.4% of consolidated operating revenues for the nine months ended September 30, 2010 and 1.8% of consolidated assets as of September 30, 2010, is included within the corporate and other caption of this report.

The consolidated accounts are presented in conformity with the Financial Accounting Standards Board’s (“FASB”) Accounting Standards Codification (“ASC”) of accounting principles generally accepted in the United States of America (“GAAP”).

This management analysis should be read in conjunction with the consolidated financial statements and the footnotes appended to them.

The insurance business is distinguished from most others in that the prices (premiums) charged for various insurance products are set without certainty of the ultimate benefit and claim costs that will emerge or be incurred, often many years after issuance and expiration of a policy. This basic fact casts Old Republic as a risk-taking enterprise managed for the long run. Management therefore conducts the business with a primary focus on achieving favorable underwriting results over cycles, and on the maintenance of financial soundness in support of the insurance subsidiaries’ long-term obligations to insurance beneficiaries. To achieve these objectives, adherence to insurance risk management principles is stressed, and asset diversification and quality are emphasized. In addition to income arising from Old Republic’s basic underwriting and related services functions, significant investment income is earned from invested funds generated by those functions and from shareholders’ capital. Investment management aims for stability of income from interest and dividends, protection of capital, and sufficient liquidity to meet insurance underwriting and other obligations as they become payable in the future. Securities trading and the realization of capital gains are not objectives. The investment philosophy is therefore best characterized as emphasizing value, credit quality, and relatively long-term holding periods. The Company’s ability to hold both fixed maturity and equity securities for long periods of time is in turn enabled by the scheduling of maturities in contemplation of an appropriate matching of assets and liabilities.

In light of the above factors, the Company’s affairs are managed without regard to the arbitrary strictures of quarterly or even annual reporting periods that American industry must observe. In Old Republic’s view, such short reporting time frames do not comport well with the long-term nature of much of its business. Management believes that the Company’s operating results and financial condition can best be evaluated by observing underwriting and overall operating performance trends over succeeding five to ten year intervals. Such extended periods can encompass one or two economic and/or underwriting cycles, and thereby provide appropriate time frames for such cycles to run their course and for reserved claim costs to be quantified with greater finality and effect.

EXECUTIVE SUMMARY

Consolidated operating results, which exclude net realized investment gains or losses, drifted into negative territory in this year’s third quarter and first nine months. These results came on the heels of positive earnings posted in the first two quarters of 2010. By comparison, performance for the latest quarterly period was affected most negatively by higher claim costs in the Company’s General Insurance and Mortgage Guaranty segments. Old Republic’s Title Insurance business was profitable in this year's third quarter and year-to-date periods. These mixed segmented results not withstanding, 2010 year-to-date consolidated performance was much improved in comparison with that of 2009.

 
15

 

Consolidated Results – The major components of Old Republic’s consolidated results and other data for the periods reported upon are shown below:
 
 
Quarters Ended September 30,
 
Nine Months Ended September 30,
 
2010
 
2009
 
Change
 
2010
 
2009
 
Change
Operating revenues:
                                 
General insurance
$
501.1
 
$
514.4
 
-2.6
%
 
$
1,448.7
 
$
1,545.2
 
-6.2
%
Mortgage guaranty
 
142.4
   
247.2
 
-42.4
     
455.1
   
585.0
 
-22.2
 
Title insurance
 
318.7
   
259.7
 
22.7
     
874.3
   
639.0
 
36.8
 
Corporate and other
 
20.2
   
19.8
 
2.1
     
69.4
   
62.6
 
10.9
 
Total
$
982.6
 
$
1,041.2
 
-5.6
%
 
$
2,847.6
 
$
2,831.9
 
0.6
%
Pretax operating income (loss):
                                 
General insurance
$
25.8
 
$
43.7
 
-40.8
%
 
$
124.5
 
$
148.4
 
-16.1
%
Mortgage guaranty
 
(94.0)
   
(77.8)
 
-20.8
     
(150.3)
   
(360.4)
 
58.3
 
Title insurance
 
5.7
   
4.0
 
40.7
     
1.1
   
0.6
 
74.2
 
Corporate and other
 
(2.2)
   
1.8
 
-220.2
     
(3.6)
   
4.3
 
-184.0
 
Sub-total
 
(64.6)
   
(28.1)
 
-129.2
     
(28.3)
   
(207.0)
 
86.3
 
Realized investment gains (losses):
                                 
From sales
 
5.1
   
0.6
         
80.9
   
1.0
     
From impairments
 
(1.2)
   
(1.5)
         
(1.2)
   
(1.5)
     
Net realized investment gains (losses)
 
3.8
   
(0.9)
 
N/M
     
79.7
   
(0.5)
 
N/M
 
Consolidated pretax income (loss)
 
(60.7)
   
(29.1)
 
-108.4
     
51.3
   
(207.6)
 
124.7
 
Income taxes (credits)
 
(21.7)
   
(36.5)
 
40.5
     
7.8
   
(145.2)
 
105.4
 
Net income (loss)
$
(38.9)
 
$
7.4
 
N/M
   
$
43.5
 
$
(62.3)
 
169.8
%

Consolidated underwriting ratio:
                                 
Benefits and claim ratio
68.3
%
 
71.5
%
       
62.9
%
 
77.6
%
     
Expense ratio
48.3
   
40.5
         
48.2
   
40.8
       
Composite ratio
116.6
%
 
112.0
%
       
111.1
%
 
118.4
%
     

Components of diluted
                                 
earnings per share:
                                 
Net operating income (loss)
$
(0.17)
 
$
(0.05)
 
-240.0
%
 
$
(0.04)
 
$
(0.49)
 
91.8
%
Net realized investment gains (losses)
 
0.01
   
0.08
 
-87.5
     
0.22
   
0.23
 
-4.3
 
Net income (loss)
$
(0.16)
 
$
0.03
 
N/M
   
$
0.18
 
$
(0.26)
 
169.2
%
                                   
Cash dividends paid per share
$
0.1725
 
$
0.1700
 
1.5
%
 
$
0.5175
 
$
0.5100
 
1.5
%
                                   

N/M: Not meaningful

The recognition of realized investment gains or losses can be highly discretionary and arbitrary due to such factors as the timing of individual securities sales, recognition of estimated losses from write-downs of impaired securities, tax-planning considerations, and changes in investment management judgments relative to the direction of securities markets or the future prospects of individual investees or industry sectors. Likewise, non-recurring items which may emerge from time to time can distort the comparability of the Company’s results from period to period. Accordingly, management uses net operating income, a non-GAAP financial measure, to evaluate and better explain operating performance, and believes its use enhances an understanding of Old Republic’s basic business results. Operating income, however, does not replace net income determined in accordance with GAAP as a measure of total profitability.
 
 
The above table shows both operating and net income or (loss) to highlight the effects of realized investment gain or loss recognition on period-to-period comparisons. Realized gains in this year’s first nine months resulted mostly from second quarter sales of securities, some of which had been impaired in prior years. The composition of realized gains shown in the above table is summarized below:
 
Quarters Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2010
 
2009
 
2010
 
2009
Realized gains (losses) from sales of
                     
previously impaired securities:
                     
Actual tax basis (loss) on sales
$
-
 
$
-
 
$
(44.0)
 
$
-
Accounting adjustment for impairment
                     
charges taken in prior periods
 
-
   
-
   
71.9
   
-
Net amount included herein
 
-
   
-
   
27.9
   
-
Net realized gains from sales of all other securities
 
5.1
   
0.6
   
53.0
   
1.0
Net gain (loss) from actual sales
 
5.1
   
0.6
   
80.9
   
1.0
Net realized losses from impairments
 
(1.2)
   
(1.5)
   
(1.2)
   
(1.5)
Net realized investment gains (losses) reported herein
$
3.8
 
$
(0.9)
 
$
79.7
 
$
(0.5)

 
16

 

General Insurance Results – Operating earnings for the year’s third quarter and first nine months were affected by lower underwriting performance when compared to the same periods of 2009. Key indicators of this outcome are shown in the following table.

 
General Insurance Group
 
Quarters Ended September 30,
 
Nine Months Ended September 30,
 
2010
 
2009
 
Change
 
2010
 
2009
 
Change
Net premiums earned
$
435.0
 
$
446.7
 
-2.6
%
 
$
1,247.9
 
$
1,344.9
 
-7.2
%
Net investment income
 
63.6
   
64.7
 
-1.8
     
192.9
   
191.8
 
0.6
 
Pretax operating income (loss)
$
25.8
 
$
43.7
 
-40.8
%
 
$
124.5
 
$
148.4
 
-16.1
%

Claim ratio
81.2
%
 
77.5
%
     
77.1
%
 
76.1
%
   
Expense ratio
26.1
   
25.8
       
26.9
   
26.0
     
Composite ratio
107.3
%
 
103.3
%
     
104.0
%
 
102.1
%
   

The continuation of a soft pricing environment and recessionary conditions have constrained premium growth during the past several years. Lessened economic activity affects such factors as sales and employment levels, both of which are important elements upon which Old Republic’s insurance premiums are based. While the General Insurance Group’s year-over-year invested asset base has grown by approximately 2.5%, net investment income decreased negligibly in this year’s latest quarter and increased slightly for it's 2010 year-to-date period. To a large extent this resulted from the low yield environment for quality securities to which investments are directed.

As the above table shows, overall claim ratios rose during the third quarter and first nine months of 2010. Most general insurance coverages reflected relatively stable underwriting performance except for consumer credit indemnity (“CCI”). The CCI coverage continued to produce significantly adverse claim experience even though consumer loan delinquency rates have subsided fairly steadily since mid-year 2009. The greater CCI claim costs were driven both by higher payment trends and by increased levels of claim verification and resolution activity. As a consequence, the overall general insurance claim ratio was affected adversely by 13.8 and 9.6 percentage points in this year’s third quarter and first nine months, respectively. These effects incorporate 2.9 and 1.0 percentage points, respectively, from additional claim costs pertaining to a non-recurring contract termination in this year's third quarter. CCI claim costs impacted equally the overall general insurance claim ratio by 7.2 percentage points for the third quarter and first nine months of 2009.

Expense-wise, the ratio increased slightly in 2010’s reporting periods as a small reduction in total operating expenses lagged a larger decline in the earned premium base.

Mortgage Guaranty Results Third quarter operating results deteriorated moderately in 2010, whereas comparative performance for this year’s first nine months reflected substantial improvement. In both instances, year-over-year comparisons were affected mostly by varying claim payment trends and reserve provisions as well as the captive and pool transactions discussed below. Key indicators of this segment’s changing performance are shown in the following tables:

 
Mortgage Guaranty Group
 
Quarters Ended September 30,
 
Nine Months Ended September 30,
 
2010
 
2009
 
Change
 
2010
 
2009
 
Change
Net premiums earned
$
120.3
 
$
221.5
 
-45.7
%
 
$
385.7
 
$
508.4
 
-24.1
%
Net investment income
 
20.7
   
23.8
 
-12.9
     
65.8
   
68.4
 
-3.8
 
Pretax operating income (loss)
$
(94.0)
 
$
(77.8)
 
-20.8
%
 
$
(150.3)
 
$
(360.4)
 
58.3
%

Claim ratio
179.1
%
 
134.2
%
     
140.6
%
 
170.7
%
   
Expense ratio
14.8
   
10.9
       
14.0
   
12.6
     
Composite ratio
193.9
%
 
145.1
%
     
154.6
%
 
183.3
%
   

During each of the periods reported upon, Old Republic’s mortgage guaranty subsidiaries negotiated the terminations of various captive reinsurance and pool insurance contracts. From a financial accounting standpoint premiums obtained upon terminations of captive reinsurance agreements are recognized as income when they are received rather than being deferred to future periods when related claim costs are expected to arise. Terminations of pool insurance contracts cause a reduction in incurred claims due to the positive effect of reserves released, but greater cash outflows occur. Taken together, these terminations had the following effects on key elements of reported results and operating cash flows.

 
17

 

 
Quarters Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2010
 
2009
 
2010
 
2009
Increase in net premiums earned
$
2.7
 
$
82.5
 
$
13.4
 
$
82.5
Reduction in incurred claim costs
 
-
   
-
   
51.8
   
-
Increase in pretax operating income (loss)
$
2.7
 
$
78.4
 
$
65.2
 
$
78.4
Effect on operating cash flows
$
117.4
 
$
77.5
 
$
(173.6)
 
$
77.5

Apart from the incremental premium income generated by captive reinsurance terminations, mortgage guaranty group earned premiums continued to decline during 2010. The reduction stemmed from lower volumes of new insurance, higher premium refunds related to claim rescissions, and the above noted termination of pool insurance contracts. Moreover, new business volume reflected continued weakness from the downturn in overall mortgage originations, lower industry penetration of the mortgage market, and the continuing effects of more selective underwriting guidelines in place since late 2007.

Year-to-date net investment income declined as the result of a lower invested asset base brought about by higher claim disbursements, the afore-noted termination of insured mortgage pools, and a low yield environment for quality investment securities.

Third quarter and year-to-date recurring claim costs for 2010 were significantly lower in comparison to the same periods of 2009. This outcome was largely the consequence of downward trends in newly reported and outstanding traditional primary loan delinquencies, as well as the continuation of historically high, though gradually declining levels of claim rescissions and denials. By contrast, claim payments rose sharply during these periods as previously pending documentation required to resolve claim filings progressed at a faster pace. The following table shows the major components of incurred claim ratios including the above noted effects of captive reinsurance and pool insurance contract terminations.

 
Mortgage Guaranty Group
 
Quarters Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2010
 
2009
 
2010
 
2009
Components of incurred claim ratio as a
                     
percent of earned premiums:
                     
Paid claims:
                     
Excluding captive and pool transactions
247.6
%
 
107.1
%
 
164.9
%
 
108.6
%
Captive and pool transactions
-102.4
   
-70.8
   
42.3
   
-31.1
 
Paid claim ratio
145.2
   
36.3
   
207.2
   
77.5
 
Claim reserve provisions:
                     
Excluding captive and pool transactions
-64.5
   
106.7
   
-5.3
   
95.2
 
Captive and pool transactions
98.4
   
-8.8
   
-61.3
   
-2.0
 
Claim reserve provision ratio
33.9