Attached files
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EX-23 - EX-23 - DONEGAL GROUP INC | w81976exv23.htm |
EX-21 - EX-21 - DONEGAL GROUP INC | w81976exv21.htm |
EX-32.2 - EX-32.2 - DONEGAL GROUP INC | w81976exv32w2.htm |
EX-31.1 - EX-31.1 - DONEGAL GROUP INC | w81976exv31w1.htm |
EX-31.2 - EX-31.2 - DONEGAL GROUP INC | w81976exv31w2.htm |
EX-32.1 - EX-32.1 - DONEGAL GROUP INC | w81976exv32w1.htm |
EX-10.OO - EX-10.OO - DONEGAL GROUP INC | w81976exv10woo.htm |
EX-10.QQ - EX-10.QQ - DONEGAL GROUP INC | w81976exv10wqq.htm |
EX-10.RR - EX-10.RR - DONEGAL GROUP INC | w81976exv10wrr.htm |
EX-10.TT - EX-10.TT - DONEGAL GROUP INC | w81976exv10wtt.htm |
EX-10.NN - EX-10.NN - DONEGAL GROUP INC | w81976exv10wnn.htm |
EX-10.MM - EX-10.MM - DONEGAL GROUP INC | w81976exv10wmm.htm |
EX-10.SS - EX-10.SS - DONEGAL GROUP INC | w81976exv10wss.htm |
EX-10.PP - EX-10.PP - DONEGAL GROUP INC | w81976exv10wpp.htm |
10-K - FORM 10-K - DONEGAL GROUP INC | w81976e10vk.htm |
Financial Information
Selected Consolidated Financial Data
Year Ended December 31, | 2010 | 2009 | 2008 | 2007 | 2006 | |||||||||||||||
Income Statement Data |
||||||||||||||||||||
Premiums earned |
$ | 378,030,129 | $ | 355,025,477 | $ | 346,575,266 | $ | 310,071,534 | $ | 301,478,162 | ||||||||||
Investment income, net |
19,949,714 | 20,630,583 | 22,755,784 | 22,785,252 | 21,320,081 | |||||||||||||||
Realized investment gains (losses) |
4,395,720 | 4,479,558 | (2,970,716 | ) | 2,051,050 | 1,829,539 | ||||||||||||||
Total revenues |
408,817,787 | 386,262,310 | 372,424,227 | 340,618,294 | 329,967,034 | |||||||||||||||
Income before income tax (benefit) |
9,844,149 | 20,676,689 | 32,092,044 | 52,848,938 | 56,622,263 | |||||||||||||||
Income tax (benefit) |
(1,623,030 | ) | 1,846,611 | 6,550,066 | 14,569,033 | 16,407,541 | ||||||||||||||
Net income |
11,467,179 | 18,830,078 | 25,541,978 | 38,279,905 | 40,214,722 | |||||||||||||||
Basic earnings per share Class A |
.46 | .76 | 1.03 | 1.55 | 1.65 | |||||||||||||||
Diluted earnings per share Class A |
.46 | .76 | 1.02 | 1.53 | 1.60 | |||||||||||||||
Cash dividends per share Class A |
.46 | .45 | .42 | .36 | .33 | |||||||||||||||
Basic earnings per share Class B |
.41 | .68 | .92 | 1.39 | 1.48 | |||||||||||||||
Diluted earnings per share Class B |
.41 | .68 | .92 | 1.39 | 1.48 | |||||||||||||||
Cash dividends per share Class B |
.41 | .40 | .37 | .31 | .28 | |||||||||||||||
Balance Sheet Data at Year End |
||||||||||||||||||||
Total investments |
$ | 728,541,814 | $ | 666,835,186 | $ | 632,135,526 | $ | 605,869,587 | $ | 591,337,674 | ||||||||||
Total assets |
1,174,619,523 | 935,601,927 | 880,109,036 | 834,095,576 | 831,697,811 | |||||||||||||||
Debt obligations |
56,082,371 | 15,465,000 | 15,465,000 | 30,929,000 | 30,929,000 | |||||||||||||||
Stockholders equity |
380,102,810 | 385,505,699 | 363,583,865 | 352,690,191 | 320,802,262 | |||||||||||||||
Book value per share |
14.86 | 15.12 | 14.29 | 13.92 | 12.70 |
8 DONEGAL GROUP INC.
Managements Discussion and Analysis of Results of Operations and Financial Condition |
10 | |||
Consolidated Balance Sheets |
20 | |||
Consolidated Statements of Income and Comprehensive Income |
21 | |||
Consolidated Statements of Stockholders Equity |
22 | |||
Consolidated Statements of Cash Flows |
23 | |||
Notes to Consolidated Financial Statements |
24 | |||
Report of Independent Registered Public Accounting Firm Consolidated Financial Statements |
40 | |||
Managements Report on Internal Control Over Financial Reporting |
41 | |||
Report of Independent Registered Public Accounting Firm Internal Control Over Financial
Reporting |
42 | |||
Comparison of Total Return on Our Common Stock with Certain Averages |
43 | |||
Corporate Information |
44 |
2010 ANNUAL REPORT 9
Managements Discussion and Analysis of Results of Operations and Financial Condition
General
Donegal Mutual Insurance Company (Donegal Mutual)
organized us as an insurance holding company on August 26,
1986. Our insurance subsidiaries, Atlantic States
Insurance Company (Atlantic States), Southern Insurance
Company of Virginia (Southern), Le Mars Insurance
Company (Le Mars), the Peninsula Insurance Group
(Peninsula), which consists of Peninsula Indemnity
Company and The Peninsula Insurance Company, Sheboygan
Falls Insurance Company (Sheboygan) and Michigan
Insurance Company (Michigan), write personal and
commercial lines of property and casualty coverages
exclusively through a network of independent insurance
agents in certain Mid-Atlantic, Midwest, New England and
Southern states. We acquired Michigan on December 1, 2010,
and we have included Michigans results of operations in
our consolidated results from that date. We acquired
Sheboygan on December 1, 2008, and we have included
Sheboygans results of operations in our consolidated
results from that date. The personal lines products of our
insurance subsidiaries consist primarily of homeowners and
private passenger automobile policies. The commercial
lines products of our insurance subsidiaries consist
primarily of commercial automobile, commercial multi-peril
and workers compensation policies. We also own
48.2% of the outstanding stock of Donegal Financial
Services Corporation (DFSC), a thrift holding company.
Donegal Mutual owns the remaining
51.8% of the outstanding stock of DFSC.
At December 31, 2010, Donegal Mutual held approximately
42% of our outstanding Class A common stock and
approximately 75% of our outstanding Class B common stock,
which provide Donegal Mutual with 66% of the total voting
power of our common stock. Our insurance subsidiaries and
Donegal Mutual have interrelated operations. While
maintaining the separate corporate existence of each
company, our insurance subsidiaries and Donegal Mutual
conduct business together as the Donegal Insurance Group.
As such, Donegal Mutual and our insurance subsidiaries
share the same business philosophy, the same management,
the same employees and the same facilities and offer the
same types of insurance products.
In December 2006, Donegal Mutual consummated an
affiliation with Sheboygan. As part of the affiliation,
Donegal Mutual made a $3.5 million contribution note
investment in Sheboygan. During 2008, Sheboygans board
of directors adopted a plan of conversion to convert to
a stock insurance company. Following policyholder and
regulatory approval of the plan of conversion, we
acquired Sheboygan as of December 1, 2008 for
approximately $12.0 million in cash, including payment
of the contribution note and accrued interest to Donegal
Mutual.
In February 2009, our board of directors authorized a
share repurchase program, pursuant to which we may
purchase up to 300,000 shares of our Class A common stock
at market prices prevailing from time to time in the open
market subject to the provisions of Securities and
Exchange Commission Rule 10b-18 and in privately
negotiated transactions. We purchased 9,702 and 7,669
shares of our Class A common stock under this program
during 2010 and 2009, respectively. As of December 31,
2010, we had the authority to
purchase 282,629 shares under this program.
In October 2009, Donegal Mutual consummated an
affiliation with Southern Mutual Insurance Company
(Southern Mutual), pursuant to which Donegal Mutual
purchased a surplus note of Southern Mutual in the
principal amount of $2.5 million, Donegal Mutual
designees became a majority of the members of Southern
Mutuals board of directors and Donegal Mutual
agreed to provide quota-share reinsurance to Southern
Mutual for 100% of its business. Effective October 31,
2009, Donegal Mutual began to include business assumed
from Southern Mutual in its pooling agreement with
Atlantic States. Southern Mutual writes primarily
personal lines of insurance in Georgia and South
Carolina and had direct written premiums of
approximately $12.8 million and $13.3 million in 2010
and 2009, respectively.
In April 2010, DFSC and certain of its affiliates,
including Donegal Mutual and us, and Union National
Financial Corporation (UNNF) executed an agreement
pursuant to which DFSC and UNNF would merge, with DFSC as
the surviving company in the merger. The merger is subject
to a number of conditions, including the approval of
various federal bank regulatory agencies. Under the
agreement, Province Bank FSB and Union National Community
Bank, which UNNF owns, would also merge. The combined bank
would have total assets of approximately $600 million and
would have 13 branch locations in Lancaster County,
Pennsylvania. The companies expect to complete the mergers
in the first quarter of 2011. Following the mergers, we
expect to continue using the equity method of accounting
for our investment in DFSC. Under the equity method, we
record our investment at cost, with adjustments for our
share of DFSCs earnings and losses as well as changes in
DFSCs equity due to unrealized gains and losses.
In December 2010, we acquired Michigan, which had been a
majority-owned subsidiary of West Bend Mutual Insurance
Company (West Bend). Michigan writes various lines of
property and casualty insurance and had direct written
premiums of $105.4 million and net written premiums of
$27.1 million for the year ended December 31, 2010.
Effective on December 1, 2010, Michigan entered into a 50%
quota-share agreement with third-party reinsurers and a
25% quota-share reinsurance agreement with Donegal Mutual
to replace the 75% quota-share reinsurance agreement
Michigan maintained with West Bend through November 30,
2010. The final purchase price for the acquisition was
approximately $42.3 million in cash.
Pooling Agreement and Other Transactions with Affiliates
In the mid-1980s, Donegal Mutual recognized the need to
develop additional sources of capital and surplus to
remain competitive and to have the capacity to expand its
business and assure its long-term viability. Donegal
Mutual determined to implement a downstream holding
company structure as a strategic response. Thus, in 1986,
Donegal Mutual formed us as a downstream holding company,
then wholly owned by Donegal Mutual. We in turn formed
Atlantic States as our wholly owned subsidiary. Donegal
Mutual and Atlantic States then entered into a
proportional reinsurance agreement, or pooling agreement,
in 1986. Under this pooling agreement, Donegal Mutual and
Atlantic States pool substantially all of their respective
premiums, losses and expenses. Donegal Mutual then cedes
80% of the pooled premiums, losses and expenses to
Atlantic States.
Since 1986, we have completed three public offerings. A
major purpose of those offerings was to provide capital
for Atlantic States and
our other insurance subsidiaries and to fund
acquisitions. As the capital of Atlantic States
increased, its underwriting capacity increased
proportionately. Thus, as we originally planned in the
mid-1980s, Atlantic States has had access to the capital
necessary to support the growth of its direct business
and increases in the amount and percentage of business it
assumes from the underwriting pool. As a result, the
participation of Atlantic States in the inter-
10
company pool has increased over the years from its
initial 35% participation in 1986 to its 80% participation
from and after February 29, 2008, and the size of the pool
has increased substantially. From July 1, 2000 through
February 29, 2008, Atlantic States had a 70% share of the
results of the pool, and Donegal Mutual had a 30% share of
the results of the pool.
The risk profiles of the business Atlantic States and
Donegal Mutual write have historically been, and
continue to be, substantially similar. The same
executive management and underwriting personnel
administer products, classes of business underwritten,
pricing practices and underwriting standards of Donegal
Mutual and our insurance subsidiaries.
In addition, as the Donegal Insurance Group, Donegal
Mutual and our insurance subsidiaries share a combined
business plan to achieve market penetration and
underwriting profitability objectives. The products our
insurance subsidiaries and Donegal Mutual offer are
generally complementary, thereby allowing the Donegal
Insurance Group to offer a broader range of products to a
given market and to expand the Donegal Insurance Groups
ability to service an entire personal lines or commercial
lines account. Distinctions within the products of
Donegal Mutual and our insurance subsidiaries generally
relate to specific risk profiles targeted within similar
classes of business, such as preferred tier versus
standard tier products, but we and Donegal Mutual do not
allocate all of the standard risk gradients to one
company. Therefore, the underwriting profitability of the
business written directly by the individual companies
will vary. However, since the underwriting pool
homogenizes the risk characteristics of all business
written directly by Donegal Mutual and Atlantic States,
Donegal Mutual and Atlantic States share the underwriting
results in proportion to their respective participation
in the pool. We realize 80% of the underwriting results
of the pool because of the 80% participation of Atlantic
States in the underwriting pool. The business Atlantic
States derives from the pool represents the predominant
percentage of our total revenues. See Note
3 Transactions with Affiliates for more information
regarding the pooling agreement.
In addition to the pooling agreement and third-party
reinsurance, our insurance subsidiaries have various
reinsurance arrangements with Donegal Mutual. These
agreements include:
| catastrophe reinsurance agreements with Atlantic States, Le Mars and Southern; | ||
| an excess of loss reinsurance agreement with Southern; | ||
| a quota-share reinsurance agreement with Le Mars; | ||
| a quota-share reinsurance agreement with Peninsula; | ||
| a quota-share reinsurance agreement with Southern; and | ||
| a quota-share reinsurance agreement with Michigan. |
The intent of the excess of loss and catastrophe
reinsurance agreements is to lessen the effects of a
single large loss, or an accumulation of smaller losses
arising from one event, to levels that are appropriate
given each subsidiarys size, underwriting profile and
surplus position.
The intent of the quota-share reinsurance agreement with
Le Mars is to transfer to Le Mars 100% of the premiums
and losses related to certain products Donegal Mutual
offers in certain Midwest states, which provide the
availability of complementary products to Le Mars
commercial accounts.
Donegal Mutual and Peninsula have a
quota-share reinsurance agreement that transfers to
Donegal Mutual 100% of the premiums and losses related to
the workers compensation product line of Peninsula in
certain states, which provides the availability of an
additional workers compensation tier to
Donegal Mutuals commercial accounts.
The intent of the quota-share reinsurance agreement with
Southern is to transfer to Southern 100% of the premiums
and losses related to certain personal lines products
Donegal Mutual offers in Virginia through the use of its
automated policy quoting and issuance system.
Donegal Mutual and Michigan have a quota-share
reinsurance agreement that transfers to Donegal Mutual
25% of the premiums and losses related to Michigans
business.
Donegal Mutual provides facilities, management and other
services to us and our insurance subsidiaries. Donegal
Mutual allocates certain related expenses to Atlantic
States in relation to the relative participation of
Atlantic States and Donegal Mutual in the pooling
agreement. Our insurance subsidiaries other than Atlantic
States reimburse Donegal Mutual for their personnel costs
and bear their proportionate share of information services
costs based on their percentage of the total written
premiums of the Donegal Insurance Group.
All new agreements and all changes to existing agreements
between our insurance subsidiaries and Donegal Mutual must
first be approved by a coordinating committee that is
comprised of two of our board members who do not serve on
Donegal Mutuals board and two members of Donegal Mutuals
board who do not serve on our board. In order to approve
an agreement or a change in an agreement, our members on
the coordinating committee must conclude that the
agreement or change is fair and equitable to us and in the
best interests of our stockholders, and Donegal Mutuals
members on the coordinating committee must conclude that
the agreement or change is fair and equitable to Donegal
Mutual and in the best interests of its policyholders.
We made no significant changes to the pooling agreement
or other reinsurance agreements with Donegal Mutual
during 2010 and 2009 except as noted above.
Critical Accounting Policies and Estimates
We combine our financial statements with those of our
insurance subsidiaries and present them on a consolidated
basis in accordance with United States generally accepted
accounting principles (GAAP).
Our insurance subsidiaries make estimates and assumptions
that can
have a significant effect on amounts and disclosures we
report in our financial statements. The most significant
estimates relate to the reserves of our insurance
subsidiaries for property and casualty insurance unpaid
losses and loss expenses, valuation of investments and
determination of other-than-temporary impairment and the
policy acquisition costs of our insurance subsidiaries.
While we believe our estimates and the estimates of our
insurance subsidiaries are appropriate, the ultimate
amounts may differ from the estimates provided. We
regularly review our methods for making these estimates,
and we reflect any adjustment we consider necessary in our
current results of operations.
Liability for Losses and Loss Expenses
Liabilities for losses and loss expenses are estimates at
a given point in time of the amounts an insurer expects to
pay with respect to policyholder claims based on facts and
circumstances then known. At the time of establishing its
estimates, an insurer recognizes that its ultimate
liability for losses and loss expenses will exceed or be
less than such estimates. Our insurance subsidiaries base
their estimates of liabilities for losses and loss
expenses on assumptions as to future loss trends and
expected claims severity, judicial theories of liability
and other factors. However, during the loss adjustment
period, our insurance subsidiaries may learn additional
facts regarding
11
individual claims, and, consequently, it often
becomes necessary for our insurance subsidiaries to refine
and adjust their estimates of liability. We reflect any
adjustments to our insurance subsidiaries liabilities for
losses and loss expenses in our operating results in the
period in which our insurance subsidiaries make the
changes in estimates.
Our insurance subsidiaries maintain liabilities for the
payment of losses and loss expenses with respect to both
reported and unreported claims. Our insurance subsidiaries
establish these liabilities for the purpose of covering
the ultimate costs of settling all losses, including
investigation and litigation costs. Our insurance
subsidiaries base the amount of their liability for
reported losses primarily upon a case-by-case evaluation
of the type of risk involved, knowledge of the
circumstances surrounding each claim and the insurance
policy provisions relating to the type of loss their
policyholder incurred. Our insurance subsidiaries
determine the amount of their liability for unreported
claims and loss expenses on the basis of historical
information by line of insurance. Our insurance
subsidiaries account for inflation in the reserving
function through analysis of costs and trends and reviews
of historical reserving results. Our insurance
subsidiaries closely monitor their liabilities and
recompute them periodically using new information on
reported claims and a variety of statistical techniques.
Our insurance subsidiaries do not discount their
liabilities for losses.
Reserve estimates can change over time because of
unexpected changes in assumptions related to our insurance
subsidiaries external environment and, to a lesser
extent, assumptions as to our insurance subsidiaries
internal operations. For example, our insurance
subsidiaries have experienced a decrease in claims
frequency on workers compensation claims during the past
several years while
claims severity has gradually increased. These trend
changes give rise to greater uncertainty as to the pattern
of future loss settlements on workers compensation
claims. Related uncertainties regarding future trends
include the cost of medical technologies and procedures
and changes in the utilization of medical procedures.
Assumptions related to our insurance subsidiaries
external environment include the absence of significant
changes in tort law and the legal environment that
increase liability exposure, consistency in judicial
interpretations of insurance coverage and policy
provisions and the rate of loss cost inflation. Internal
assumptions include consistency in the recording of
premium and loss statistics, consistency in the recording
of claims, payment and case reserving methodology,
accurate measurement of the impact of rate changes and
changes in policy provisions, consistency in the quality
and characteristics of business written within a given
line of business and consistency in reinsurance coverage
and collectibility of reinsured losses, among other items.
To the extent our insurance subsidiaries determine that
underlying factors impacting their assumptions have
changed, our insurance subsidiaries attempt to make
appropriate adjustments for such changes in their
reserves. Accordingly, our insurance subsidiaries
ultimate liability for unpaid losses and loss expenses
will likely differ from the amount recorded at December
31, 2010. For every 1% change in our insurance
subsidiaries estimate for loss and loss expense reserves,
net of reinsurance recoverable, the effect on our pre-tax
results of operations would be approximately $2.2 million.
The establishment of appropriate liabilities is an
inherently uncertain process, and we can provide no
assurance that our insurance subsidiaries ultimate
liability will not exceed our insurance subsidiaries loss
and loss expense reserves and have an adverse effect on
our results of operations and financial condition.
Furthermore, we cannot predict the timing, frequency and
extent of
adjustments to our insurance subsidiaries estimated
future liabilities, since the historical conditions and
events that serve as a basis for our insurance
subsidiaries estimates of ultimate claim costs may
change. As is the case for substantially all property and
casualty insurance companies, our insurance subsidiaries
have found it necessary in the past to increase their
estimated future liabilities for losses and loss expenses
in certain periods, and in other periods their estimates
have exceeded their actual liabilities. Changes in our
insurance subsidiaries estimate of their liability for
losses and loss expenses generally reflect actual payments
and their evaluation of information received since the
prior reporting date. Our insurance subsidiaries
recognized a (decrease) increase in their liability for
losses and loss expenses of prior years of ($2.9) million,
$9.8 million and $2.7 million in 2010, 2009 and 2008,
respectively. Our insurance subsidiaries made no
significant changes in their reserving philosophy, key
reserving assumptions or claims management personnel, and
there have been no significant offsetting changes in
estimates that increased or decreased their loss and loss
expense reserves in those years. The majority of the 2010
development related to decreases in the liability for
losses and loss expenses of prior years for Atlantic
States and Peninsula. The 2010 development represented
1.6% of the December 31, 2009 carried reserves and was
driven primarily by lower-than-expected severity in the
private passenger automobile liability and homeowners
lines of business in accident years prior to 2009.
Excluding the impact of isolated catastrophic weather
events, our
insurance subsidiaries have noted stable amounts in the
number of claims incurred and a slight downward trend in
the number of claims outstanding at period ends relative
to their premium base in recent years across most of
their lines of business. However, the amount of the
average claim outstanding has increased gradually over
the past several years as the property and casualty
insurance industry has experienced increased litigation
trends and economic conditions that have extended the
estimated length of disabilities and contributed to
increased medical loss costs and a general slowing of
settlement rates in litigated claims. Our insurance
subsidiaries could have to make further adjustments to
their estimates in the future. However, on the basis of
our insurance subsidiaries internal procedures, which
analyze, among other things, their prior assumptions,
their experience with similar cases and historical trends
such as reserving patterns, loss payments, pending levels
of unpaid claims and product mix, as well as court
decisions, economic conditions and public attitudes, we
believe that our insurance subsidiaries have made
adequate provision for their liability for losses and
loss expenses.
Atlantic States participation in the pool with Donegal
Mutual exposes it to adverse loss development on the
business of Donegal Mutual that is included in the pool.
However, pooled business represents the predominant
percentage of the net underwriting activity of both
companies, and Donegal Mutual and Atlantic States would
proportionately share any adverse risk development of the
pooled business. The business in the pool is homogenous
and each company has a pro-rata share of the entire pool.
Since substantially all of the business of Atlantic States
and Donegal Mutual is pooled and the results shared by
each company according to its participation level under
the terms of the pooling agreement, the intent of the
underwriting pool is to produce a more uniform and stable
underwriting result from year to year for each company
than they would experience individually and to spread the
risk of loss between the companies.
12
Our insurance subsidiaries liability for losses and
loss expenses by major line of business as of December 31,
2010 and 2009 consisted of the following:
(in thousands) | 2010 | 2009 | ||||||
Commercial lines: |
||||||||
Automobile |
$ | 22,790 | $ | 21,465 | ||||
Workers compensation |
54,902 | 38,092 | ||||||
Commercial multi-peril |
32,961 | 30,640 | ||||||
Other |
3,875 | 1,886 | ||||||
Total commercial lines |
114,528 | 92,083 | ||||||
Personal lines: |
||||||||
Automobile |
83,042 | 70,019 | ||||||
Homeowners |
18,695 | 16,312 | ||||||
Other |
1,632 | 1,848 | ||||||
Total personal lines |
103,369 | 88,179 | ||||||
Total commercial and personal lines |
217,897 | 180,262 | ||||||
Plus reinsurance recoverable |
165,422 | 83,337 | ||||||
Total liability for losses and loss expenses |
$ | 383,319 | $ | 263,599 | ||||
We have evaluated the effect on our insurance
subsidiaries loss and loss expense reserves and our
stockholders equity in the event of reasonably likely
changes in the variables considered in establishing loss
and loss expense reserves. We established the range of
reasonably likely changes based on a review of changes in
accident year development by line of business and applied
it to our insurance subsidiaries loss reserves as a
whole. The selected range does not necessarily indicate
what could be the potential best or worst case or likely
scenario. The following table sets forth the effect on
our insurance subsidiaries loss and loss expense
reserves and our stockholders equity in the event of
reasonably likely changes in the variables considered in
establishing loss and loss expense reserves:
Adjusted Loss and | Adjusted Loss and | |||||||||||||||||
Loss Expense | Percentage | Loss Expense | Percentage | |||||||||||||||
Change in Loss | Reserves Net of | Change in | Reserves Net of | Change in | ||||||||||||||
and Loss Expense | Reinsurance as of | Equity as of | Reinsurance as of | Equity as of | ||||||||||||||
Reserves Net of | December 31, | December 31, | December 31, | December 31, | ||||||||||||||
Reinsurance | 2010 | 2010(1) | 2009 | 2009(1) | ||||||||||||||
(dollars in thousands) | ||||||||||||||||||
-10.0 | % | $ | 196,107 | 3.7 | % | $ | 162,236 | 3.0 | % | |||||||||
-7.5 | 201,555 | 2.8 | 166,742 | 2.3 | ||||||||||||||
-5.0 | 207,002 | 1.9 | 171,249 | 1.5 | ||||||||||||||
-2.5 | 212,450 | 0.9 | 175,755 | 0.8 | ||||||||||||||
Base | 217,897 | | 180,262 | | ||||||||||||||
2.5 | 223,344 | -0.9 | 184,769 | -0.8 | ||||||||||||||
5.0 | 228,792 | -1.9 | 189,275 | -1.5 | ||||||||||||||
7.5 | 234,239 | -2.8 | 193,782 | -2.3 | ||||||||||||||
10.0 | 239,687 | -3.7 | 198,288 | -3.0 |
(1) | Net of income tax effect. |
Our insurance subsidiaries base their reserves for unpaid
losses and loss expenses on current trends in loss and
loss expense development and reflect their best estimates
for future amounts needed to pay losses and loss expenses
with respect to incurred events currently known to them
plus incurred but not reported (IBNR) claims. Our
insurance subsidiaries develop their reserve estimates
based on an assessment of known facts and circumstances,
review of historical loss settlement patterns, estimates
of trends in claims severity, frequency, legal and regulatory
changes and other assumptions. Our insurance subsidiaries
consistently apply actuarial loss reserving techniques and
assumptions, which rely on historical information as
adjusted to reflect current conditions, including
consideration of recent case reserve activity. For the
year ended December 31, 2010, our insurance subsidiaries
used the most-likely number determined by our actuaries.
Based upon information provided by our actuaries during
the development of our insurance subsidiaries net
reserves for losses and loss expenses for the year ended
December 31, 2010, we developed a range from a low of
$200.4 million to a high of $236.8 million and with a
most-likely number of $217.9 million. The range of
estimates for commercial lines in 2010 was $105.4 million
to $124.4 million, and we selected the actuaries
most-likely number of $114.5 million. The range of
estimates for personal lines in 2010 was
$95.0 million to $112.4 million, and we selected the
actuaries most-likely number of $103.4 million. Based
upon information provided by our actuaries during the
development of our insurance subsidiaries net reserves
for losses and loss expenses for the year ended December
31, 2009, we developed a range from a low of $165.6
million to a high of $196.2 million and with a most-likely
number of $180.3 million. The range of estimates for
commercial lines in 2009 was $84.6 million to $100.2
million, and we selected the actuaries most-likely number
of $92.1 million. The range of estimates for personal
lines in 2009 was $81.0 million to $96.0 million, and we
selected the actuaries most-likely number of $88.2
million.
Our insurance subsidiaries seek to enhance their
underwriting results by carefully selecting the product
lines they underwrite. For personal lines products, our
insurance subsidiaries insure standard and preferred risks
in private passenger automobile and homeowners lines. For
commercial lines products, the commercial risks that our
insurance subsidiaries primarily insure are mercantile
risks, business offices, wholesalers, service providers,
contractors and artisan risks, limiting industrial and
manufacturing exposures. Our insurance subsidiaries have
limited exposure to asbestos and other environmental
liabilities. Our insurance subsidiaries write no medical
malpractice or professional liability risks. Through the
consistent application of this disciplined underwriting
philosophy, our insurance subsidiaries have avoided many
of the long-tail issues other insurance companies have
faced. We consider workers compensation to be a
long-tail line of business, in that workers
compensation claims tend to be settled over a longer
timeframe than those in our other lines of business. The
following table presents 2010 and 2009 claim count and
payment amount information for workers compensation. The
table does not include amounts related to Michigan, which
we acquired December 1, 2010. Workers compensation losses
primarily consist of indemnity and medical costs for
injured workers.
For the Year Ended | ||||||||
December 31, | ||||||||
2010 | 2009 | |||||||
(dollars in thousands) | ||||||||
Number of claims pending, beginning of period |
1,296 | 1,401 | ||||||
Number of claims reported |
2,936 | 2,449 | ||||||
Number of claims settled or dismissed |
2,909 | 2,554 | ||||||
Number of claims pending, end of period |
1,323 | 1,296 | ||||||
Losses paid |
$ | 18,193 | $ | 17,131 | ||||
Loss expenses paid |
3,918 | 3,944 |
13
Investments
We make estimates concerning the valuation of our
investments and the recognition of other-than-temporary
declines in the value of our investments. For equity
securities, we write down the investment to its fair
value, and we reflect the amount of the write-down as a
realized loss in our results of operations when we
consider the decline in value of an individual investment
to be other than temporary. We individually monitor all
investments for other-than-temporary declines in value.
Generally, we assume there
has been an other-than-temporary decline in value if an
individual equity security has depreciated in value by
more than 20% of original cost, and has been in such an
unrealized loss position for more than six months. We held
five equity securities that were in an unrealized loss
position at December 31, 2010. Based upon our analysis of
general market conditions and underlying factors impacting
these equity securities, we considered these declines in
value to be temporary. With respect to a debt security
that is in an unrealized loss position, we first assess if
we intend to sell the debt security. If we determine we
intend to sell the debt security, we recognize the
impairment loss in our results of operations. If we do not
intend to sell the debt security, we determine whether it
is more likely than not that we will be required to sell
the security prior to recovery. If we determine it is more
likely than not that we will be required to sell the debt
security prior to recovery, we recognize an impairment
loss in our results of operations. If we determine it is
more likely than not that we will not be required to sell
the debt security prior to recovery, we then evaluate
whether a credit loss has occurred. We determine whether a
credit loss has occurred by comparing the amortized cost
of the debt security to the present value of the cash
flows we expect to collect. If we expect a cash flow
shortfall, we consider that a credit loss has occurred. If
we determine that a credit loss has occurred, we consider
the impairment to be other than temporary. We then
recognize the amount of the impairment loss related to the
credit loss in our results of operations, and we recognize
the remaining portion of the impairment loss in our other
comprehensive income, net of applicable taxes. In
addition, we may write down securities in an unrealized
loss position based on a number of other factors,
including when the fair value of an investment is
significantly below its cost, when the financial condition
of the issuer of a security has deteriorated, the
occurrence of industry, company or geographic events that
have negatively impacted the value of a security and
rating agency downgrades. We held 302 debt securities that
were in an unrealized loss position at December 31, 2010.
Based upon our analysis of general market conditions and
underlying factors impacting these debt securities, we
considered these declines in value to be temporary. We did
not recognize any impairment losses in 2010 or 2009. We
included losses of $1.2 million in net realized investment
gains (losses) in 2008 for certain equity investments
trading below cost on an other-than-temporary basis.
We held fixed maturities and equity securities with
unrealized losses representing declines that we
considered temporary at December 31, 2010 as follows:
Less than 12 months | 12 months or longer | |||||||||||||||
Fair | Unrealized | Fair | Unrealized | |||||||||||||
Value | Losses | Value | Losses | |||||||||||||
U.S. Treasury securities
and obligations of
U.S. government
corporations
and agencies |
$ | 23,901,400 | $ | 452,352 | $ | | $ | | ||||||||
Obligations of states
and political
subdivisions |
171,609,617 | 5,208,910 | 1,406,325 | 91,184 | ||||||||||||
Corporate securities |
44,101,089 | 1,061,972 | 490,970 | 11,514 | ||||||||||||
Residential mortgage-backed securities |
35,930,054 | 453,967 | 750 | 18 | ||||||||||||
Equity securities |
313,888 | 35,182 | | | ||||||||||||
Totals |
$ | 275,856,048 | $ | 7,212,383 | $ | 1,898,045 | $ | 102,716 | ||||||||
We held fixed maturities and equity securities with
unrealized losses representing declines that we
considered temporary at December 31, 2009 as follows:
Less than 12 months | 12 months or longer | |||||||||||||||
Fair | Unrealized | Fair | Unrealized | |||||||||||||
Value | Losses | Value | Losses | |||||||||||||
U.S. Treasury securities
and obligations of
U.S. government
corporations
and agencies |
$ | 26,703,601 | $ | 585,364 | $ | | $ | | ||||||||
Obligations of states
and political
subdivisions |
17,971,018 | 256,527 | 29,582,488 | 786,970 | ||||||||||||
Corporate securities |
1,284,405 | 23,525 | 666,941 | 61,366 | ||||||||||||
Residential mortgage-backed securities |
23,514,855 | 328,969 | 477,421 | 543 | ||||||||||||
Equity securities |
2,139,457 | 227,798 | | | ||||||||||||
Totals |
$ | 71,613,336 | $ | 1,422,183 | $ | 30,726,850 | $ | 848,879 | ||||||||
We present our investments in available-for-sale
fixed maturity and equity securities at estimated fair
value and classify them in one of the three categories we
describe in Note 6 Fair Value Measurements. The
estimated fair value of a security may differ from the
amount that could be realized if we sold the security in a
forced transaction. In addition, the valuation of fixed
maturity investments is more subjective when markets are
less liquid, increasing the potential that the estimated
fair value does not reflect the price at which an actual
transaction would occur. We utilize nationally recognized
independent pricing services to estimate fair values for
our fixed maturity and equity investments. We generally
obtain one price per security. The pricing services
utilize market quotations for fixed maturity and equity
securities that have quoted prices in active markets. For
fixed maturity securities that generally do not trade on a
daily basis, the pricing services prepare estimates of
fair value measurements using proprietary pricing
applications, which include available relevant market
information, benchmark yields, sector curves and matrix
pricing. The pricing services do not use broker quotes in
determining the fair values of our investments. We review
the estimates of fair value the pricing services provide
to determine if the estimates obtained are representative
of fair values based upon our general knowledge of the
market, our research findings related to unusual
fluctuations in value and our comparison of such values to
execution prices for similar securities. As of December
31, 2010 and 2009, we received one estimate per security
from one of the pricing services, and we priced all but an
insignificant amount of
our Level 1 and Level 2 investments using those prices. In
our review of the estimates provided by the pricing
services as of December 31, 2010 and 2009, we did not
identify any discrepancies, and we did not make any
adjustments to the estimates the pricing services
provided. We reclassified one equity security to Level 3
during 2009. We utilized a fair value model that
incorporated significant other unobservable inputs, such
as estimated volatility, to estimate the equity securitys
fair value.
We had no sales or transfers from the held to maturity
portfolio in 2010, 2009 or 2008.
Policy Acquisition Costs
We defer our insurance subsidiaries policy acquisition
costs, consisting primarily of commissions, premium taxes
and certain other underwriting costs that vary with and
relate directly to the production of business, and
amortize these costs over the period in which our
insurance subsidiaries earn the premiums. The method our
insurance subsidiaries follow in computing
14
deferred policy acquisition costs limits the
amount of such deferred costs to their estimated
realizable value, which gives effect to the premium to
be earned, related investment income, losses and loss
expenses and certain other costs we expect to incur as
our insurance subsidiaries earn the premium.
Management Evaluation of Operating Results
We believe that the principal factors contributing to
our earnings over the past several years have been our
insurance subsidiaries overall premium growth,
earnings from acquisitions and our insurance
subsidiaries disciplined underwriting practices.
The property and casualty insurance industry is highly
cyclical, and individual lines of business experience
their own cycles within the overall property and casualty
insurance industry cycle. Premium rate levels relate to
the availability of insurance coverage, which varies
according to the level of surplus in the insurance
industry and other factors. The level of surplus in the
industry varies with returns on capital and regulatory
barriers to the withdrawal of surplus. Increases in
surplus have generally been accompanied by increased price
competition among property and casualty insurers. If our
insurance subsidiaries were to find it necessary to reduce
premiums or limit premium increases due to competitive
pressures on pricing, our insurance subsidiaries could
experience a reduction in profit margins and revenues, an
increase in ratios of losses and expenses to premiums and,
therefore, lower profitability. The cyclicality of the
insurance market and its potential impact on our results
is difficult to predict with any significant reliability.
We evaluate the performance of our commercial lines and
personal lines segments primarily based upon the
underwriting results of our insurance subsidiaries as
determined under statutory accounting practices (SAP),
which our management uses to measure performance for the
total business of our insurance subsidiaries. We use the
following financial data to monitor and evaluate our
operating results:
Year Ended December 31, | ||||||||||||
(in thousands) | 2010 | 2009 | 2008 | |||||||||
Net premiums written: |
||||||||||||
Personal lines: |
||||||||||||
Automobile |
$ | 171,497 | $ | 161,932 | $ | 154,091 | ||||||
Homeowners |
83,415 | 77,420 | 72,195 | |||||||||
Other |
13,135 | 13,135 | 13,254 | |||||||||
Total personal lines |
268,047 | 252,487 | 239,540 | |||||||||
Commercial lines: |
||||||||||||
Automobile |
37,094 | 34,054 | 35,959 | |||||||||
Workers compensation |
34,920 | 28,921 | 36,459 | |||||||||
Commercial multi-peril |
47,411 | 44,000 | 49,004 | |||||||||
Other |
4,050 | 3,767 | 3,979 | |||||||||
Total commercial lines |
123,475 | 110,742 | 125,401 | |||||||||
Total net premiums written |
$ | 391,522 | $ | 363,229 | $ | 364,941 | ||||||
Components of GAAP combined ratio: |
||||||||||||
Loss ratio |
72.6 | % | 70.7 | % | 64.7 | % | ||||||
Expense ratio |
32.0 | 31.3 | 32.1 | |||||||||
Dividend ratio |
0.1 | 0.2 | 0.4 | |||||||||
GAAP combined ratio |
104.7 | % | 102.2 | % | 97.2 | % | ||||||
Revenues: |
||||||||||||
Premiums earned: |
||||||||||||
Personal lines |
$ | 260,900 | $ | 242,313 | $ | 225,143 | ||||||
Commercial lines |
117,755 | 113,233 | 121,567 | |||||||||
SAP premiums earned |
378,655 | 355,546 | 346,710 | |||||||||
GAAP adjustments |
(625 | ) | (521 | ) | (135 | ) | ||||||
GAAP premiums earned |
378,030 | 355,025 | 346,575 | |||||||||
Net investment income |
19,950 | 20,631 | 22,756 | |||||||||
Realized investment gains (losses) |
4,396 | 4,480 | (2,971 | ) | ||||||||
Other |
6,442 | 6,597 | 5,952 | |||||||||
Total revenues |
$ | 408,818 | $ | 386,733 | $ | 372,312 | ||||||
Year Ended December 31, | ||||||||||||
(in thousands) | 2010 | 2009 | 2008 | |||||||||
Components of net income: |
||||||||||||
Underwriting (loss) income: |
||||||||||||
Personal lines |
$ | (22,526 | ) | $ | (17,235 | ) | $ | (7,609 | ) | |||
Commercial lines |
2,252 | 5,805 | 13,819 | |||||||||
SAP underwriting
(loss) income |
(20,274 | ) | (11,430 | ) | 6,210 | |||||||
GAAP adjustments |
2,458 | 3,636 | 3,530 | |||||||||
GAAP underwriting
(loss) income |
(17,816 | ) | (7,794 | ) | 9,740 | |||||||
Net investment income |
19,950 | 20,631 | 22,756 | |||||||||
Realized investment gains (losses) |
4,396 | 4,480 | (2,971 | ) | ||||||||
Other |
3,314 | 3,360 | 2,567 | |||||||||
Income before income tax
benefit (expense) |
9,844 | 20,677 | 32,092 | |||||||||
Income tax benefit (expense) |
1,623 | (1,847 | ) | (6,550 | ) | |||||||
Net income |
$ | 11,467 | $ | 18,830 | $ | 25,542 | ||||||
Statutory Combined Ratios
We evaluate our insurance operations by monitoring certain
key measures of growth and profitability. In addition to
using GAAP-based performance measurements, we also utilize
certain non-GAAP financial measures that we believe are
valuable in managing our business and for comparison to
our peers. These non-GAAP measures are underwriting (loss)
income, statutory combined ratio and net premiums written.
An insurance companys statutory combined ratio is a standard
measure of underwriting profitability. This ratio is the
sum of the ratio of calendar-year incurred losses and loss
expenses to premiums earned; the ratio of expenses
incurred for commissions, premium taxes and underwriting
expenses to premiums written and the ratio of dividends to
policyholders to premiums earned. The statutory combined
ratio does not reflect investment income, federal income
taxes or other non-operating income or expense. A ratio of
less than 100 percent generally indicates underwriting
profitability. The statutory combined ratio differs from
the GAAP combined ratio. In calculating the GAAP combined
ratio, installment payment fees are not deducted from
incurred expenses, and the expense ratio is based on
premiums earned instead of premiums written. The following
table sets forth our insurance subsidiaries statutory
combined ratios by major line of business for the years
ended December 31, 2010 and 2009:
For Year Ended | ||||||||
December 31, | ||||||||
2010 | 2009 | |||||||
Commercial lines: |
||||||||
Automobile |
90.0 | % | 90.5 | % | ||||
Workers compensation |
99.3 | 97.4 | ||||||
Commercial multi-peril |
96.7 | 95.6 | ||||||
Other |
42.8 | 23.4 | ||||||
Total commercial lines |
93.6 | 92.2 | ||||||
Personal lines: |
||||||||
Automobile |
103.8 | 103.8 | ||||||
Homeowners |
115.4 | 111.4 | ||||||
Other |
97.0 | 86.7 | ||||||
Total personal lines |
107.0 | 105.2 | ||||||
Total commercial and personal lines |
102.9 | 101.1 |
15
Results of Operations
Years Ended December 31, 2010 and 2009
Years Ended December 31, 2010 and 2009
Net Premiums Written
Our insurance subsidiaries 2010 net premiums written
increased 7.8% to $391.5 million, compared to $363.2
million for 2009. Commercial lines net premiums written
increased $12.8 million, or 11.6%, for 2010 compared to
2009, due in part to expansion of commercial lines
products in subsidiaries acquired in recent years.
Personal lines net premiums written increased
$15.5 million, or 6.1%, for 2010 compared to 2009, due
largely to premium rate increases implemented throughout
2010. Net premiums written for 2009 included a $5.4
million transfer of unearned premium related to Donegal
Mutuals affiliation with Southern Mutual.
Net Premiums Earned
Our insurance subsidiaries net premiums earned increased
to $378.0 million for 2010, an increase of $23.0 million,
or 6.5%, over 2009. Our insurance subsidiaries net earned
premiums during 2010 have grown due to the increase in
written premiums during 2009. Our insurance subsidiaries
earn premiums and recognize them as income over the terms
of the policies they issue. Such terms are generally one
year or less in duration. Therefore, increases or
decreases in net premiums earned will generally reflect
increases or decreases in net premiums written in the
preceding twelvemonth period compared to the same period
one year earlier.
Investment Income
For 2010, our net investment income was $19.9 million, a
slight decrease from 2009. An increase in our average
invested assets from $649.5 million in 2009 to $697.7
million in 2010 was offset by a decrease in our annualized
average rate of return to 2.9% in 2010, compared to 3.2%
in 2009. The decrease in our annualized average rate of
return on investments was primarily due to lower
reinvestment rates for securities added to our fixed
income portfolio during 2010.
Installment Payment Fees
Our insurance subsidiaries installment fees increased
primarily as a result of increases in policy counts during
2010.
Net Realized Investment Gains/Losses
Our net realized investment gains in 2010 and 2009 were
$4.4 million and $4.5 million, respectively. Realized
investment gains in 2010 resulted primarily from sales of
equity securities as well as fixed maturity investments
that had appreciated significantly during the year. We
recognized no impairment charges in 2010 or 2009. The net
realized investment gains in both periods resulted from
turnover within our investment portfolio.
Losses and Loss Expenses
Our insurance subsidiaries loss ratio, which is the
ratio of incurred losses and loss expenses to premiums
earned, was 72.6% in 2010, compared to 70.7% in 2009.
Our insurance subsidiaries commercial lines loss ratio
increased to 66.6% in 2010, compared to 64.3% in 2009.
This increase resulted primarily from the workers
compensation loss ratio increasing to
80.0% in 2010, compared to 75.1% in 2009, and the
commercial multi-peril ratio increasing to 67.4% in 2010,
compared to 66.3% in 2009, as a result of increased claim
severity. The personal lines loss ratio increased to 75.3%
in 2010, compared to 73.6% in 2009, primarily as a result
of an increase in the homeowners loss ratio to 80.7% in
2010, compared to 78.3% in 2009, as a result of an
increase in
weather-related claims and increased property claims from
fires.
Underwriting Expenses
Our insurance subsidiaries expense ratio, which is the
ratio of policy acquisition and other underwriting
expenses to premiums earned, was 32.0% in 2010, compared
to 31.3% in 2009.
Combined Ratio
Our insurance subsidiaries combined ratio was 104.7% and
102.2% in 2010 and 2009, respectively. The combined ratio
represents the sum of the loss ratio, expense ratio and
dividend ratio, which is the ratio of workers
compensation policy dividends incurred to premiums
earned.
Interest Expense
Our interest expense in 2010 was $799,578, compared to
$1.7 million in 2009. We attribute the decrease in
interest expense to the interest expense we paid in 2009
related to a premium tax litigation settlement.
Income Taxes
Our income tax (benefit) expense was ($1.6) million in 2010, compared to
$1.8 million in 2009. For 2010, our tax-exempt interest
income exceeded our taxable income. As a result, we
carried back a net operating loss to the taxable income
of prior years, and our income tax benefit reflects a
current tax benefit for the carryback.
Net Income and Earnings Per Share
Our net income in 2010 was $11.5 million, or $.46 per
share of Class A common stock and $.41 per share of
Class B common stock, compared to our net income of
$18.8 million, or $.76 per share of Class A common stock
and $.68 per share of Class B common stock, in 2009. Our
Class A shares outstanding increased slightly to 20.0
million at December 31, 2010, compared to 19.9 million
at December 31, 2009. Our Class B shares outstanding did
not change at 5.6 million.
Book Value Per Share and Return on Equity
Our stockholders equity decreased by $5.4 million in
2010. We attribute the decrease to a decline in our net
after-tax unrealized gains within our available-for-sale
fixed maturity and equity investment portfolio from $15.0
million at December 31, 2009 to $8.6 million at December
31, 2010. This decline reflects the impact of increased
market interest rates on the fair value of our fixed
maturity investments during 2010. Book value per share
decreased by 1.7% to $14.86 at December 31, 2010,
compared to $15.12 a year earlier. Our return on average
equity was 3.0% for 2010, compared to
5.0% for 2009.
Years Ended December 31, 2009 and 2008
Net Premiums Written
Our insurance subsidiaries 2009 net premiums written
decreased slightly to $363.2 million, compared to $364.9
million for 2008. Commercial lines net premiums written
decreased $14.7 million, or 11.7%, for 2009 compared to
2008. Personal lines net premiums written increased $13.0
million, or 5.4%, for 2009 compared to 2008. Net premiums
written for 2009 included a $5.4 million transfer of
unearned premium related to Donegal Mutuals affiliation
with Southern Mutual. Net premiums written for 2008
included a $13.6 million transfer of unearned premiums
related to the change in the pooling agreement between
Atlantic States and Donegal Mutual effective March 1,
2008.
Net Premiums Earned
Our insurance subsidiaries net premiums earned increased
to $355.0 million for 2009, an increase of $8.4 million,
or 2.4%, over 2008. Our insurance subsidiaries net earned
premiums during 2009 grew due to the increase in written
premiums during 2008. Our insurance subsidiaries earn
premiums and recognize them as income over the terms of
the policies they issue. Such terms are generally one year
or less in duration. Therefore, increases or decreases in
net premiums earned will generally reflect increases or
decreases in net premiums written in the preceding
twelve-month period compared to the same period one year
earlier.
Investment Income
For 2009, our net investment income was $20.6 million, a
9.7% decrease from 2008. An increase in our average
invested assets from $619.0 million in 2008 to $649.5
million in 2009 was offset by a decrease in our annualized
average return to 3.2% in 2009, compared to 3.7% in 2008.
The decrease
16
in our annualized average rate of return on
investments was primarily due to lower reinvestment rates
for securities added to our fixed income portfolio during
2009.
Installment Payment Fees
Our insurance subsidiaries installment fees increased
primarily as a result of increases in policy counts during
2009.
Net Realized Investment Gains/Losses
Our net realized investment gains (losses) in 2009 and
2008 were $4.5 million and ($3.0) million, respectively.
Realized investment gains in 2009 resulted primarily from
sales of equity securities as well as fixed maturity
investments that had appreciated significantly during the
year. Realized investment losses in 2008 included $2.4
million representing our pro rata share of investment
losses in a limited partnership investment that was
solely invested in equity securities. We recognized no
impairment charges in 2009, compared to impairment
charges of $1.2 million in 2008. Our impairment charges
for 2008 were the result of declines in the fair value of
equity securities that we determined to be other than
temporary. The remaining net realized investment gains
and losses in both periods resulted from turnover within
our investment portfolio.
Losses and Loss Expenses
Our insurance subsidiaries loss ratio, which is the
ratio of incurred losses and loss expenses to premiums
earned, was 70.7% in 2009, compared to 64.7% in 2008.
Our insurance subsidiaries commercial lines loss ratio
increased to 64.3% in 2009, compared to 56.6% in 2008.
This increase primarily resulted from the workers
compensation loss ratio increasing to
75.1% in 2009, compared to 58.9% in 2008, and the
commercial automobile loss ratio increasing to 56.4% in
2009, compared to 53.5% in 2008, as a result of increased
claim severity and less favorable prior-accident-year loss
reserve development. The personal lines loss ratio
increased to 73.6% in 2009, compared to 69.1% in 2008,
primarily as a result of an increase in the homeowners
loss ratio to 78.3% in 2009, compared to 63.0% in 2008, as
a result of an increase in weather-related claims and
increased property claims from fires.
Underwriting Expenses
Our insurance subsidiaries expense ratio, which is the
ratio of policy acquisition and other underwriting
expenses to premiums earned, was 31.3% in 2009, compared
to 32.1% in 2008. The decrease in the 2009 expense ratio
reflects decreased underwriting-based incentive
compensation costs in 2009 compared to 2008 and expense
savings initiatives that commenced in the fourth quarter
of 2008.
Combined Ratio
Our insurance subsidiaries combined ratio was 102.2% and
97.2% in 2009 and 2008, respectively. The combined ratio
represents the sum of the loss ratio, expense ratio and
dividend ratio, which is the ratio of workers
compensation policy dividends incurred to premiums
earned.
Interest Expense
Our interest expense in 2009 was $1.7 million, compared to
$1.8 million in 2008. The decrease in interest expense
reflected the redemption of $15.5 million of subordinated
debentures in August 2008 and a decrease in average
interest rates on our subordinated debentures in 2009
compared to 2008, offset by interest expense related to a
premium tax litigation settlement.
Income Taxes
Our income tax expense was $1.8 million in 2009, compared
to $6.6 million in 2008, representing an effective tax
rate of 8.9%, compared to 20.4% in 2008. The change in
effective tax rates was primarily due to tax-exempt
interest income representing a larger proportion of income
before income tax expense in 2009 compared to 2008. We
benefited from a 9.9% increase in tax-exempt interest
income in 2009 compared to 2008.
Net Income and Earnings Per Share
Our net income in 2009 was $18.8 million, or $.76 per
share of Class A common stock and $.68 per share of Class
B common stock on a diluted basis, compared to our net
income of $25.5 million, or $1.02 per share of Class A
common stock and $.92 per share of Class B common stock on
a diluted basis, in 2008. Our fully diluted Class A shares
outstanding decreased slightly to 19.9 million at December
31, 2009, compared to 20.0 million at December 31, 2008,
as a result of our repurchase of treasury stock. Our Class
B shares outstanding did not change at 5.6 million.
Book Value Per Share and Return on Equity
Our stockholders equity increased by $21.9 million in
2009, primarily as a result of favorable operating
results and unrealized gains within our investment
portfolio. Book value per share increased by 5.8% to
$15.12 at December 31, 2009, compared to $14.29 a year
earlier. Our return on average equity was 5.0% for
2009, compared to 7.1% for 2008.
Financial Condition
Liquidity and Capital Resources
Liquidity is a measure of an entitys ability to secure
enough cash to meet its contractual obligations and
operating needs as they arise. Our major sources of
funds from operations are the net cash flows generated
from our insurance subsidiaries underwriting results,
investment income and maturing investments.
We have historically generated sufficient net positive
cash flow from our operations to fund our commitments and
build our investment portfolio, thereby increasing future
investment returns. The impact of the pooling agreement
with Donegal Mutual historically has been
cash flow positive because of the historical profitability
of the underwriting pool. We settle the pool monthly,
thereby resulting in cash flows substantially similar to
cash flows that would result from the underwriting of
direct business. We maintain a high degree of liquidity in
our investment portfolio in the form of marketable fixed
maturities, equity securities and short-term investments.
We structure our fixed-maturity investment portfolio
following a laddering approach so that projected cash
flows from investment income and principal maturities are
evenly distributed from a timing perspective. This
laddering provides an additional measure of liquidity to
meet our obligations and the obligations of our insurance
subsidiaries should an unexpected variation occur in the
future. Net cash flows provided by operating activities in
2010, 2009 and 2008, were $22.0 million, $34.1 million and
$52.9 million, respectively.
In June 2010, we renewed our
existing credit agreement with Manufacturers and Traders
Trust Company (M&T) relating to a $35.0 million
unsecured, revolving line of credit that will expire in
June 2013. We may request a one-year extension of the
credit agreement as of each anniversary date of the
agreement. In October 2010, we requested and received
approval of an increase in the credit amount to $60.0
million. In December 2010, we borrowed $35.0 million in
connection with our acquisition of Michigan. As of
December 31, 2010, we had $35.0 million in outstanding
borrowings and had the ability to borrow $25.0 million at
interest rates equal to M&Ts current prime rate or the
then current LIBOR rate plus between 1.75% and 2.25%,
depending on our leverage ratio. We pay a fee of 0.2% per
annum on the loan commitment amount regardless of usage.
The credit agreement requires our compliance with certain
covenants, which include minimum levels of our net worth,
leverage ratio and statutory surplus and the A.M. Best
ratings of our insurance subsidiaries. We complied with
all requirements of the credit agreement during the year
ended December 31, 2010.
Michigan has an agreement with the Federal Home Loan Bank
(FHLB) of Indianapolis. Through its membership, Michigan
has issued debt to the FHLB of Indianapolis in exchange
for cash advances in the amount of $617,371 as of December
31, 2010. The interest rate on the advances is variable
and was .50% at December 31, 2010. The advances are due in
2011.
17
The following table shows expected payments for our
significant contractual obligations as of December 31,
2010:
Less | ||||||||||||||||||||
than 1 | 1-3 | 4-5 | After 5 | |||||||||||||||||
(in thousands) | Total | year | years | years | years | |||||||||||||||
Net liability for
unpaid losses and
loss expenses of
our insurance
subsidiaries |
$ | 217,897 | $ | 101,217 | $ | 96,668 | $ | 8,787 | $ | 11,225 | ||||||||||
Subordinated
debentures |
20,465 | | | | 20,465 | |||||||||||||||
Borrowings under
line of credit |
35,617 | 617 | 35,000 | | | |||||||||||||||
Payable for purchase
of Michigan |
7,207 | 7,207 | | | | |||||||||||||||
Total contractual
obligations |
$ | 281,186 | $ | 109,041 | $ | 131,668 | $ | 8,787 | $ | 31,690 | ||||||||||
We estimate the timing of the amounts for the net
liability for unpaid losses and loss expenses of our
insurance subsidiaries based on historical experience and
expectations of future payment patterns. We have shown the
liability net of reinsurance recoverable on unpaid losses
and loss expenses to reflect expected future cash flows
related to such liability. Assumed amounts from the
underwriting pool with Donegal Mutual represent a
substantial portion of our insurance subsidiaries gross
liability for unpaid losses and loss expenses, and ceded
amounts to the underwriting pool represent a substantial
portion of our insurance subsidiaries reinsurance
recoverable on unpaid losses and loss expenses. We will
include future cash settlement of Atlantic States assumed
liability from the pool in our monthly settlements of
pooled activity, wherein we net amounts ceded to and
assumed from the pool. Although Donegal Mutual and
Atlantic States do not anticipate any further changes in
the pool participation levels in the foreseeable future,
any such change would be prospective in nature and
therefore would not impact the timing of expected payments
for Atlantic States proportionate liability for pooled
losses occurring in periods prior to the effective date of
such change.
We estimate the timing of the amounts for the
subordinated debentures based on their contractual
maturities. We may redeem the debentures at our option, at
par, dates as discussed in Note 10 Borrowings. Our
subordinated debentures carry interest rates that vary as
discussed in Note
10Borrowings. Based upon the interest rates in effect as
of December 31, 2010, our annual interest cost associated
with our subordinated debentures is approximately
$871,000. For every 1% change in the three-month LIBOR
rate, the effect on our annual interest cost would be
approximately $200,000.
We estimate the timing of the
amounts for the borrowings under our line of credit based
on their contractual maturities as discussed in Note 10
Borrowings. Our borrowings under our line of credit carry
interest rates that vary as discussed in Note 10
Borrowings. Based upon the interest rates in effect as of
December 31, 2010, our annual interest cost associated
with our borrowings under our line of credit is
approximately $791,000. For every 1% change in the
interest rate associated with our borrowings under our
line of credit, the effect on our annual interest cost
would be approximately $356,000.
Cash dividends declared
to stockholders totaled $11.5 million, $11.2 million and
$10.4 million in 2010, 2009 and 2008, respectively. There
are no regulatory restrictions on our payment of dividends
to our stockholders, although there are state law
restrictions on the payment of dividends from our
insurance subsidiaries to us. Our insurance subsidiaries
are required by law to maintain certain minimum surplus on
a statutory basis and are subject to regulations under
which payment of dividends from statutory surplus is
restricted and may require prior approval of their
domiciliary insurance regulatory authorities. Our
insurance subsidiaries are subject to risk-based capital
(RBC) requirements. At December 31, 2010, each of our
insurance subsidiaries had capital substantially above the
RBC requirements. In 2011, amounts available for
distribution as dividends to us from our insurance
subidiaries without prior approval of their domiciliary
insurance
regulatory authorities are $19.2 million from Atlantic
States, $2.6 million from Le Mars,
$3.7 million from Michigan, $4.2 million from Peninsula,
$0 from Sheboygan and $0 from Southern.
Investments
At December 31, 2010 and 2009, our investment portfolio
of primarily investment-grade bonds, common stock,
short-term investments and cash totaled $744.9 million
and $679.8 million, respectively, representing 63.4% and
72.7%, respectively, of our total assets.
At December 31, 2010 and 2009, the carrying value of
our fixed maturity investments represented 91.8% and
88.7% of our total invested assets, respectively.
Our fixed maturity investments consisted of high-quality
marketable bonds, of which 99.0% were rated at
investment-grade levels at December 31, 2010 and 2009. As
we invested excess cash from operations and proceeds from
maturities of fixed maturity investments during 2010, we
decreased our holdings of tax-exempt fixed maturities to
reduce the percentage of our total portfolio that is
invested in municipal securities.
At December 31, 2010, the net unrealized gain on
available-for-sale fixed maturity investments, net of
deferred taxes, amounted to $1.7 million, compared to
$9.2 million at December 31, 2009.
At December 31, 2010, the net unrealized gain on our
equity securities, net of deferred taxes, amounted to
$6.9 million, compared to $5.8 million at December 31,
2009.
Quantitative and Qualitative Disclosures About Market Risk
We are exposed to the impact of interest rate changes,
changes in fair values of investments and to credit risk.
In the normal course of business, we employ established
policies and procedures to manage our exposure to changes
in interest rates, fluctuations in the fair market value
of our debt and equity securities and credit risk. We seek
to mitigate these risks by various actions described
below.
Interest Rate Risk
Our exposure to market risk for a change in interest
rates is concentrated in our investment portfolio. We
monitor this exposure through periodic reviews of asset
and liability positions. We regularly monitor estimates
of cash flows and the impact of interest rate
fluctuations relating to the investment portfolio.
Generally, we do not hedge our exposure to interest rate
risk because we have the capacity to, and do, hold fixed
maturity investments to maturity.
Principal cash flows and related weighted-average interest
rates by expected maturity dates for financial instruments
sensitive to interest rates at December 31, 2010 are as
follows:
Principal | Weighted-Average | |||||||
(in thousands) | Cash Flows | Interest Rate | ||||||
Fixed maturity
and short-term investments: |
||||||||
2011 |
$ | 53,551 | 1.14 | % | ||||
2012 |
24,891 | 4.10 | ||||||
2013 |
27,004 | 4.02 | ||||||
2014 |
25,261 | 3.94 | ||||||
2015 |
42,080 | 4.08 | ||||||
Thereafter |
523,954 | 4.42 | ||||||
Total |
$ | 696,741 | ||||||
Fair value |
$ | 712,431 | ||||||
Debt: |
||||||||
2011 |
$ | 617 | 0.50 | % | ||||
2013 |
35,000 | 2.25 | ||||||
Thereafter |
20,465 | 4.35 | ||||||
Total |
$ | 56,082 | ||||||
Fair value |
$ | 56,082 | ||||||
18
Actual cash flows from investments may differ from
those stated as a result of calls and prepayments.
Equity Price Risk
Our portfolio of equity securities, which we carry on our
consolidated balance sheets at estimated fair value, has
exposure to price risk, which is the risk of potential
loss in estimated fair value resulting from an adverse
change in prices. Our objective is to earn competitive
relative returns by investing in a diverse portfolio of
high-quality, liquid securities.
Credit Risk
Our objective is to earn competitive returns by investing
in a diversified portfolio of securities. Our portfolio
of fixed maturity securities and, to a lesser extent,
short-term investments is subject to credit risk. We
define this risk as the potential loss in fair value
resulting from adverse changes in the borrowers ability
to repay the debt. We manage this risk by performing an
analysis of prospective investments and through regular
reviews of our portfolio by our investment staff. We also
limit the amount of our total investment portfolio that
we invest in any one security.
Our insurance subsidiaries provide property and liability
insurance coverages through independent insurance agencies
located throughout their operating areas. Our insurance
subsidiaries bill the majority of this business directly
to the insured, although our insurance subsidiaries bill a
portion of their commercial business through their agents,
to whom they extend credit in the normal course of
business.
Because the pooling agreement does not relieve Atlantic
States of primary liability as the originating insurer,
Atlantic States is subject to a concentration of credit
risk arising from business ceded to Donegal Mutual. Our
insurance subsidiaries maintain reinsurance agreements
with Donegal Mutual and with a number of other major
unaffiliated authorized reinsurers.
Through November 30, 2010, Michigan and West Bend were
parties to quota-share reinsurance agreements whereby
Michigan ceded 75% (80% prior to 2008) of its business to
West Bend. Michigan and West Bend agreed to terminate the
reinsurance agreement in effect as of November 30, 2010 on
a run-off basis. West Bends obligations related to all
past reinsurance agreements with Michigan remain in effect
for all policies effective prior to December 1, 2010. West
Bend and Michigan entered into a trust agreement on
December 1, 2010. Under the terms of the trust agreement,
West Bend placed into trust, for the sole
benefit of Michigan, assets with a fair value equal to the
amount of unearned premiums and unpaid losses and loss
expenses, reduced by any net premium balances not yet paid
by Michigan, that West Bend had assumed pursuant to such
reinsurance agreements as of November 30, 2010. The amount
of assets required to be held in trust is adjustable
monthly based upon the remaining net obligations of West
Bend. West Bend may terminate the trust agreement on the
earlier of December 1, 2020 or the date when the
obligations of West Bend are equal to or less than
$5.0 million. As of December 31, 2010, West Bends net
obligations under the reinsurance agreements were
approximately $58.0 million, and the fair value of assets
held in trust was approximately $64.0 million.
Impact of Inflation
Our insurance subsidiaries establish their property and
casualty insurance premium rates before they know the
amount of losses and loss settlement expenses, or the
extent to which inflation may impact such expenses.
Consequently, our insurance subsidiaries attempt, in
establishing rates, to anticipate the potential impact
of inflation.
Impact of New Accounting Standards
In June 2009, the Financial Accounting Standards Board
(FASB) issued Financial Accounting Standard (FAS)
166, Accounting for Transfers of Financial Assets, an
Amendment of FASB Statement No. 140, codified in FASB
Accounting Standards Codification (ASC) subtopic
860-20. ASC subtopic 860-20 amends the derecognition
guidance in FAS 140 and eliminates the concept of
qualifying special-purpose entities. ASC subtopic
860-20 is effective for fiscal years and interim
periods beginning after November 15, 2009. We adopted
ASC subtopic 860-20 on January 1, 2010. The adoption
did not impact our financial position or results of
operations.
In June 2009, the FASB issued FAS 167,
Amendments to FASB Interpretation No. 46(R), which
amends the consolidation guidance applicable to
variable interest entities (VIEs) and is codified in
ASC subtopic 810-10. An entity would consolidate a VIE,
as the primary beneficiary, when the entity has both of
the following characteristics: (a) the power to direct
the activities of a VIE that most significantly impact
the entitys economic performance and (b) the
obligation to absorb losses of the entity that could
potentially be significant to the VIE or the right to
receive benefits from the entity that could potentially
be significant to the VIE. ASC subtopic 810-10 requires
ongoing reassessment of whether an enterprise is the
primary beneficiary of a VIE. ASC subtopic 810-10
amends interpretation 46(R) to eliminate the
quantitative approach previously required for
determining the primary beneficiary of a VIE. ASC
subtopic 810-10 is effective for fiscal years and
interim periods beginning after November 15, 2009. We
adopted ASC subtopic 810-10 on January
1, 2010. The adoption did not impact our financial
position or results of operations.
In January 2010, the FASB issued Accounting Standards
Update (ASU) 2010-06, Improving Disclosures about Fair
Value Measurements. ASU 2010-06 amends ASC subtopic
820-10 by requiring new, and clarifying existing, fair
value disclosures. ASU 2010-06 is effective for the
interim period ended March 31, 2010, except for certain
new Level 3 roll forward disclosures, which are effective
for fiscal years
beginning after December 15, 2010 and for interim periods
within those fiscal years. We have included herein the
disclosures ASU 2010-06 requires for 2010, and we will
include the Level 3 roll forward disclosures ASU 2010-06
requires for fiscal years and interim periods beginning
after December 31, 2010.
In October 2010, the FASB issued updated guidance to
address the diversity in practice for the accounting for
costs associated with acquiring or renewing insurance
contracts. This guidance modifies the definition of
acquisition costs to specify that a cost must be directly
related to the successful acquisition of a new or renewal
insurance contract in order to be deferred. If application
of this guidance would result in the capitalization of
acquisition costs that a reporting entity had not
previously capitalized, the entity may elect not to
capitalize those costs. The updated guidance is effective
for periods ending after December 15, 2011. We do not
expect the adoption of this guidance to have a material
impact on our financial position or results of operations.
19
Donegal Group Inc.
Consolidated Balance Sheets
December 31, | 2010 | 2009 | ||||||
Assets |
||||||||
Investments |
||||||||
Fixed maturities |
||||||||
Held to maturity, at amortized cost (fair value $67,808,721 and $77,005,740) |
$ | 64,766,429 | $ | 73,807,126 | ||||
Available for sale, at fair value (amortized cost $601,302,986 and $503,745,585) |
603,846,201 | 517,703,672 | ||||||
Equity securities, available for sale, at fair value (cost $2,503,565 and $3,804,064) |
10,161,614 | 9,914,626 | ||||||
Investments in affiliates |
8,991,577 | 9,309,347 | ||||||
Short-term investments, at cost, which approximates fair value |
40,775,993 | 56,100,415 | ||||||
Total investments |
728,541,814 | 666,835,186 | ||||||
Cash |
16,342,212 | 12,923,898 | ||||||
Accrued investment income |
7,365,171 | 6,202,710 | ||||||
Premiums receivable |
96,467,949 | 61,187,021 | ||||||
Reinsurance receivable |
173,836,746 | 84,670,009 | ||||||
Deferred policy acquisition costs |
34,445,579 | 32,844,179 | ||||||
Deferred tax asset, net |
11,988,169 | 5,086,949 | ||||||
Prepaid reinsurance premiums |
89,365,771 | 56,040,728 | ||||||
Property and equipment, net |
7,069,086 | 6,592,223 | ||||||
Accounts receivable securities |
428,983 | 588,292 | ||||||
Federal income taxes recoverable |
948,325 | 663,047 | ||||||
Goodwill |
5,493,316 | 922,040 | ||||||
Other intangible assets |
958,010 | | ||||||
Other |
1,368,392 | 1,045,645 | ||||||
Total assets |
$ | 1,174,619,523 | $ | 935,601,927 | ||||
Liabilities and Stockholders Equity |
||||||||
Liabilities |
||||||||
Losses and loss expenses |
$ | 383,318,672 | $ | 263,598,844 | ||||
Unearned premiums |
297,272,161 | 241,821,419 | ||||||
Accrued expenses |
21,287,406 | 10,578,695 | ||||||
Reinsurance balances payable |
19,140,322 | 2,561,426 | ||||||
Borrowings under line of credit |
35,617,371 | | ||||||
Cash dividends declared to stockholders |
2,870,955 | 2,798,378 | ||||||
Subordinated debentures |
20,465,000 | 15,465,000 | ||||||
Accounts payable securities |
| 6,828,873 | ||||||
Payable for the purchase of Michigan |
7,207,471 | | ||||||
Due to affiliate |
2,926,104 | 3,813,294 | ||||||
Drafts payable |
1,304,779 | 884,993 | ||||||
Other |
3,106,472 | 1,745,306 | ||||||
Total liabilities |
794,516,713 | 550,096,228 | ||||||
Stockholders Equity |
||||||||
Preferred stock, $1.00 par value, authorized 2,000,000 shares; none issued |
| | ||||||
Class A common stock, $.01 par value, authorized 30,000,000 shares, issued
20,656,527 and 20,569,930 shares and outstanding 19,994,226 and 19,917,331 shares |
206,566 | 205,700 | ||||||
Class B common stock, $.01 par value, authorized 10,000,000 shares, issued 5,649,240
shares and outstanding 5,576,775 shares |
56,492 | 56,492 | ||||||
Additional paid-in capital |
167,093,504 | 164,585,214 | ||||||
Accumulated other comprehensive income |
8,561,086 | 15,007,044 | ||||||
Retained earnings |
213,435,095 | 214,755,495 | ||||||
Treasury stock, at cost |
(9,249,933 | ) | (9,104,246 | ) | ||||
Total stockholders equity |
380,102,810 | 385,505,699 | ||||||
Total liabilities and stockholders equity |
$ | 1,174,619,523 | $ | 935,601,927 | ||||
See accompanying notes to consolidated financial statements.
20
Donegal Group Inc.
Consolidated Statements of Income and Comprehensive Income
Year Ended December 31, | 2010 | 2009 | 2008 | |||||||||
Statements of Income |
||||||||||||
Revenues |
||||||||||||
Net premiums earned (includes affiliated
reinsurance of $134,823,098, $128,747,699 and
$130,067,404 see footnote 3) |
$ | 378,030,129 | $ | 355,025,477 | $ | 346,575,266 | ||||||
Investment income, net of investment expenses |
19,949,714 | 20,630,583 | 22,755,784 | |||||||||
Installment payment fees |
5,519,287 | 5,205,109 | 5,025,138 | |||||||||
Lease income |
922,937 | 921,583 | 926,690 | |||||||||
Net realized investment gains (losses) |
4,395,720 | 4,479,558 | (2,970,716 | ) | ||||||||
Total revenues |
408,817,787 | 386,262,310 | 372,312,162 | |||||||||
Expenses |
||||||||||||
Net losses and loss expenses (includes
affiliated reinsurance of $81,539,930,
$68,712,989 and $85,598,098 see footnote 3) |
274,308,858 | 250,835,396 | 224,300,964 | |||||||||
Amortization of deferred policy acquisition costs |
66,354,000 | 60,292,000 | 58,250,000 | |||||||||
Other underwriting expenses |
54,564,500 | 50,843,464 | 53,108,436 | |||||||||
Policyholder dividends |
619,158 | 848,882 | 1,175,809 | |||||||||
Interest |
799,578 | 1,746,509 | 1,821,229 | |||||||||
Other |
2,327,544 | 1,019,370 | 1,563,680 | |||||||||
Total expenses |
398,973,638 | 365,585,621 | 340,220,118 | |||||||||
Income before income tax (benefit) expense |
9,844,149 | 20,676,689 | 32,092,044 | |||||||||
Income tax (benefit) expense |
(1,623,030 | ) | 1,846,611 | 6,550,066 | ||||||||
Net income |
$ | 11,467,179 | $ | 18,830,078 | $ | 25,541,978 | ||||||
Basic earnings per common share: |
||||||||||||
Class A common stock |
$ | .46 | $ | .76 | $ | 1.03 | ||||||
Class B common stock |
$ | .41 | $ | .68 | $ | .76 | ||||||
Diluted earnings per common share: |
||||||||||||
Class A common stock |
$ | .46 | $ | .76 | $ | 1.02 | ||||||
Class B common stock |
$ | .41 | $ | .68 | $ | .92 | ||||||
Statements of Comprehensive Income |
||||||||||||
Net income |
$ | 11,467,179 | $ | 18,830,078 | $ | 25,541,978 | ||||||
Other comprehensive (loss) income, net of tax |
||||||||||||
Unrealized (losses) gains on securities: |
||||||||||||
Unrealized holding (loss) gain arising during
the period, net of income tax (benefit) of
($1,976,358), $8,680,941 and ($3,872,368) |
(3,544,783 | ) | 16,249,716 | (7,191,540 | ) | |||||||
Reclassification adjustment for (gains) losses
included in net income, net of income tax
(benefit) of $1,494,545, $1,523,050 and
($1,039,751) |
(2,901,175 | ) | (2,956,508 | ) | 1,930,965 | |||||||
Other comprehensive (loss) income |
(6,445,958 | ) | 13,293,208 | (5,260,575 | ) | |||||||
Comprehensive income |
$ | 5,021,221 | $ | 32,123,286 | $ | 20,281,403 | ||||||
See accompanying notes to consolidated financial statements.
21
Donegal Group Inc.
Consolidated Statements of Stockholders Equity
Consolidated Statements of Stockholders Equity
Accumulated | ||||||||||||||||||||||||||||||||||||
Common Stock | Additional | Other | Total | |||||||||||||||||||||||||||||||||
Class A | Class B | Class A | Class B | Paid-In | Comprehensive | Retained | Treasury | Stockholders' | ||||||||||||||||||||||||||||
Shares | Shares | Amount | Amount | Capital | Income | Earnings | Stock | Equity | ||||||||||||||||||||||||||||
Balance, January 1, 2008 |
20,167,999 | 5,649,240 | $ | 201,680 | $ | 56,492 | $ | 156,850,666 | $ | 6,974,411 | $ | 193,806,855 | $ | (5,199,913 | ) | $ | 352,690,191 | |||||||||||||||||||
Issuance of common stock (stock compensation plans) |
326,765 | 3,268 | 3,853,328 | 3,856,596 | ||||||||||||||||||||||||||||||||
Net income |
25,541,978 | 25,541,978 | ||||||||||||||||||||||||||||||||||
Cash dividends |
(10,417,517 | ) | (10,417,517 | ) | ||||||||||||||||||||||||||||||||
Grant of stock options |
1,749,063 | (1,749,063 | ) | | ||||||||||||||||||||||||||||||||
Tax benefit on exercise of stock options |
683,881 | 683,881 | ||||||||||||||||||||||||||||||||||
Purchase of treasury stock |
(3,510,689 | ) | (3,510,689 | ) | ||||||||||||||||||||||||||||||||
Other comprehensive loss |
(5,260,575 | ) | (5,260,575 | ) | ||||||||||||||||||||||||||||||||
Balance, December 31, 2008 |
20,494,764 | 5,649,240 | $ | 204,948 | $ | 56,492 | $ | 163,136,938 | $ | 1,713,836 | $ | 207,182,253 | $ | (8,710,602 | ) | $ | 363,583,865 | |||||||||||||||||||
Issuance of common stock (stock compensation plans) |
75,166 | 752 | 1,385,285 | 1,386,037 | ||||||||||||||||||||||||||||||||
Net income |
18,830,078 | 18,830,078 | ||||||||||||||||||||||||||||||||||
Cash dividends |
(11,193,845 | ) | (11,193,845 | ) | ||||||||||||||||||||||||||||||||
Grant of stock options |
62,991 | (62,991 | ) | | ||||||||||||||||||||||||||||||||
Purchase of treasury stock |
(393,644 | ) | (393,644 | ) | ||||||||||||||||||||||||||||||||
Other comprehensive income |
13,293,208 | 13,293,208 | ||||||||||||||||||||||||||||||||||
Balance, December 31, 2009 |
20,569,930 | 5,649,240 | $ | 205,700 | $ | 56,492 | $ | 164,585,214 | $ | 15,007,044 | $ | 214,755,495 | $ | (9,104,246 | ) | $ | 385,505,699 | |||||||||||||||||||
Issuance of common stock (stock compensation plans) |
86,597 | 866 | 1,198,556 | 1,199,422 | ||||||||||||||||||||||||||||||||
Net income |
11,467,179 | 11,467,179 | ||||||||||||||||||||||||||||||||||
Cash dividends |
(11,477,845 | ) | (11,477,845 | ) | ||||||||||||||||||||||||||||||||
Grant of stock options |
1,309,734 | (1,309,734 | ) | | ||||||||||||||||||||||||||||||||
Purchase of treasury stock |
(145,687 | ) | (145,687 | ) | ||||||||||||||||||||||||||||||||
Other comprehensive loss |
(6,445,958 | ) | (6,445,958 | ) | ||||||||||||||||||||||||||||||||
Balance, December 31, 2010 |
20,656,527 | 5,649,240 | $ | 206,566 | $ | 56,492 | $ | 167,093,504 | $ | 8,561,086 | $ | 213,435,095 | $ | (9,249,933 | ) | $ | 380,102,810 | |||||||||||||||||||
See accompanying notes to consolidated financial statements.
22
Donegal Group Inc.
Consolidated Statements of Cash Flows
Consolidated Statements of Cash Flows
Year Ended December 31, | 2010 | 2009 | 2008 | |||||||||
Cash Flows from Operating Activities: |
||||||||||||
Net income |
$ | 11,467,179 | $ | 18,830,078 | $ | 25,541,978 | ||||||
Adjustments to reconcile net income to net cash provided by operating activities: |
||||||||||||
Depreciation and amortization |
3,143,767 | 2,552,186 | 2,401,345 | |||||||||
Net realized investment (gains) losses |
(4,395,720 | ) | (4,479,558 | ) | 2,970,716 | |||||||
Equity loss (income) |
268,341 | (471,097 | ) | (112,065 | ) | |||||||
Changes in Assets and Liabilities: |
||||||||||||
Losses and loss expenses |
14,904,770 | 23,789,568 | 9,952,760 | |||||||||
Unearned premiums |
21,762,781 | 12,807,490 | 22,477,395 | |||||||||
Accrued expenses |
718,956 | (3,571,059 | ) | 966,958 | ||||||||
Premiums receivable |
(7,478,337 | ) | (5,849,751 | ) | (3,173,057 | ) | ||||||
Deferred policy acquisition costs |
(1,601,400 | ) | (3,302,898 | ) | (3,306,209 | ) | ||||||
Deferred income taxes |
(2,380,430 | ) | (1,250,187 | ) | (832,628 | ) | ||||||
Reinsurance receivable |
(5,348,447 | ) | (4,717,038 | ) | 204,249 | |||||||
Accrued investment income |
(489,244 | ) | 452,796 | (668,682 | ) | |||||||
Amounts due to/from affiliate |
(887,190 | ) | 665,237 | 2,906,139 | ||||||||
Reinsurance balances payable |
(320,278 | ) | 994,610 | (636,074 | ) | |||||||
Prepaid reinsurance premiums |
(8,270,621 | ) | (4,604,241 | ) | (4,111,609 | ) | ||||||
Current income taxes |
(368,145 | ) | 1,927,881 | (2,618,163 | ) | |||||||
Other, net |
1,278,821 | 323,491 | 898,872 | |||||||||
Net adjustments |
10,537,624 | 15,267,430 | 27,319,947 | |||||||||
Net cash provided by operating activities |
22,004,803 | 34,097,508 | 52,861,925 | |||||||||
Cash Flows from Investing Activities: |
||||||||||||
Purchase of fixed maturities |
||||||||||||
Available for sale |
(195,198,227 | ) | (158,409,231 | ) | (204,882,809 | ) | ||||||
Purchase of equity securities |
(59,191,998 | ) | (39,163,607 | ) | (45,091,418 | ) | ||||||
Sale of fixed maturities |
||||||||||||
Available for sale |
72,092,788 | 62,668,210 | 28,971,515 | |||||||||
Maturity of fixed maturities |
||||||||||||
Held to maturity |
8,649,275 | 25,617,925 | 53,830,674 | |||||||||
Available for sale |
80,116,222 | 48,363,915 | 69,699,141 | |||||||||
Sale of equity securities |
70,029,195 | 39,638,895 | 71,177,458 | |||||||||
Payments to Sheboygan policyholders |
| (6,526,527 | ) | (3,352,938 | ) | |||||||
Purchase of Michigan |
(35,088,228 | ) | | | ||||||||
Net (increase) decrease in investment in affiliates |
| (100,000 | ) | 464,000 | ||||||||
Net purchase of property and equipment |
(651,160 | ) | (941,020 | ) | (1,222,246 | ) | ||||||
Net sales (purchases) of short-term investments |
16,052,089 | 15,852,054 | (453,790 | ) | ||||||||
Net cash used in investing activities |
(43,190,044 | ) | (12,999,386 | ) | (30,860,413 | ) | ||||||
Cash Flows from Financing Activities: |
||||||||||||
Issuance of common stock |
1,199,422 | 1,386,037 | 3,856,596 | |||||||||
Redemption of subordinated debentures |
| | (15,464,000 | ) | ||||||||
Cash dividends paid |
(11,405,268 | ) | (10,997,571 | ) | (10,025,711 | ) | ||||||
Purchase of treasury stock |
(145,687 | ) | (393,644 | ) | (3,510,689 | ) | ||||||
Borrowings under line of credit, net |
34,955,088 | | | |||||||||
Tax benefit on exercise of stock options |
| | 683,881 | |||||||||
Net cash provided by (used in) financing activities |
24,603,555 | (10,005,178 | ) | (24,459,923 | ) | |||||||
Net increase (decrease) in cash |
3,418,314 | 11,092,944 | (2,458,411 | ) | ||||||||
Cash at beginning of year |
12,923,898 | 1,830,954 | 4,289,365 | |||||||||
Cash at end of year |
$ | 16,342,212 | $ | 12,923,898 | $ | 1,830,954 | ||||||
See accompanying notes to consolidated financial statements.
23
Notes to Consolidated Financial Statements
1 Summary of Significant Accounting Policies
Organization and Business
Donegal Mutual Insurance Company (Donegal Mutual)
organized us as an insurance holding company on August
26, 1986. Our insurance subsidiaries, Atlantic States
Insurance Company (Atlantic States), Southern
Insurance Company of Virginia (Southern), Le Mars
Insurance Company (Le Mars), the Peninsula Insurance
Group (Peninsula), which consists of Peninsula
Indemnity Company and The Peninsula Insurance Company,
Sheboygan Falls Insurance Company (Sheboygan) and
Michigan Insurance Company (Michigan), write
personal and commercial lines of property and casualty
coverages exclusively through a network of independent
insurance agents in certain Mid-Atlantic, Midwest, New
England and Southern states. We acquired Michigan on
December 1, 2010, and we have included Michigans
results of operations in our consolidated results from
that date. We acquired Sheboygan on December 1, 2008,
and we have included Sheboygans results of operations
in our consolidated results from that date. We have
three operating segments: our investment function, our
personal lines of insurance and our commercial lines
of insurance. The personal lines products of our
insurance subsidiaries consist primarily of homeowners
and private passenger automobile policies. The
commercial lines products of our insurance
subsidiaries consist primarily of commercial
automobile, commercial multi-peril and workers
compensation policies. We also own
48.2% of the outstanding stock of Donegal Financial
Services Corporation (DFSC), a thrift holding
company that owns Province Bank FSB. Donegal Mutual
owns the remaining 51.8% of the outstanding stock of
DFSC.
At December 31, 2010, Donegal Mutual held
approximately 42% of our outstanding Class A common
stock and approximately 75% of our outstanding Class B
common stock, which provide Donegal Mutual with 66% of
the total voting power of our common stock. Our
insurance subsidiaries and Donegal Mutual have
interrelated operations. While each company maintains
its separate corporate existence, our insurance
subsidiaries and Donegal Mutual conduct business
together as the Donegal Insurance Group. As such,
Donegal Mutual and our insurance
subsidiaries share the same business philosophy, the
same management, the same employees and the same
facilities and offer the same types of insurance
products.
Atlantic States, our largest subsidiary, participates
in a pooling agreement with Donegal Mutual. Under the
pooling agreement, the two companies pool their
insurance business, and each company receives an
allocated percentage of the pooled business. From July
1, 2000 through February 29, 2008, Atlantic States had
a 70% share of the results of the pool, and Donegal
Mutual had a 30% share of the results of the pool.
Effective March 1, 2008, Donegal Mutual and Atlantic
States amended the pooling agreement to increase
Atlantic States share of the pooled business to 80%.
The risk profiles of the business Atlantic States
and Donegal Mutual write have historically been, and
continue to be, substantially similar. The same
executive management and underwriting personnel
administer products, classes of business
underwritten, pricing practices and underwriting
standards of Donegal Mutual and our insurance
subsidiaries.
In addition, as the Donegal Insurance Group, Donegal
Mutual and our insurance subsidiaries share a
combined business plan to achieve market penetration
and underwriting profitability objectives. The
products our insurance subsidiaries and Donegal
Mutual market are generally complementary, thereby
allowing the Donegal Insurance Group to offer a
broader range of products to a given market and to
expand the Donegal Insurance Groups ability to
service an entire personal lines or commercial lines
account. Distinctions within the products of Donegal
Mutual and our
insurance subsidiaries generally relate to specific
risk profiles targeted within similar classes of
business, such as preferred tier versus standard tier
products, but we do not allocate all of the standard
risk gradients to one company. Therefore, the
underwriting profitability of the business the
individual companies write directly will vary.
However, as the risk characteristics of all business
Donegal Mutual and Atlantic States write directly are
homogenized within the underwriting pool, Donegal
Mutual and Atlantic States share the underwriting
results in proportion to their respective
participation in the pool. Pooled business represents
the predominant percentage of the net underwriting
activity of both Donegal Mutual and Atlantic States.
See Note 3 Transactions with Affiliates for more
information regarding the pooling agreement.
In October 2009, Donegal Mutual consummated an
affiliation with Southern Mutual Insurance Company
(Southern Mutual), pursuant to which Donegal Mutual
purchased a surplus note of Southern Mutual in the
principal amount of $2.5 million, Donegal Mutual
designees became a majority of the members of Southern
Mutuals board of directors, and Donegal Mutual agreed
to provide quota-share reinsurance to Southern Mutual
for 100% of its business. Effective October 31, 2009,
Donegal Mutual began to include business assumed from
Southern Mutual in its pooling agreement with Atlantic
States. Southern Mutual writes primarily personal lines
of insurance in Georgia and South Carolina and had
direct written premiums of approximately $12.8 million
and $13.3 million in 2010 and 2009, respectively.
Pursuant to applicable accounting standards, Southern
Mutual is a variable interest entity, of which we are
not the primary beneficiary.
In April 2010, DFSC and certain of its affiliates,
including Donegal Mutual and us, and Union National
Financial Corporation (UNNF) executed an agreement
pursuant to which DFSC and UNNF would merge, with DFSC
as the surviving company in the merger. The merger is
subject to a number of conditions, including the
approval of various federal bank regulatory agencies.
Under the agreement, Province Bank FSB and Union
National Community Bank, which UNNF owns, would also
merge. The combined bank would have total assets of
approximately $600 million (unaudited) and would have
13 branch locations in Lancaster County, Pennsylvania.
The companies expect to complete the mergers in the
first quarter of 2011. Following the mergers, we
expect to continue using the equity method of
accounting for our investment in DFSC. Under the
equity method, we record our investment at cost, with
adjustments for our share of DFSCs earnings and
losses as well as changes in DFSCs equity due to
unrealized gains and losses.
In December 2010, we acquired Michigan, which had been
a majority-owned subsidiary of West Bend Mutual
Insurance Company (West Bend). Michigan writes
various lines of property and casualty insurance and
had direct written premiums of $105.4 million and net
written premiums of $27.1 million for the year ended
December 31, 2010. Effective on December 1, 2010,
Michigan entered into a 50% quota-share agreement with
third-party reinsurers and a 25% quota-share
reinsurance agreement with Donegal Mutual to replace
the 75% quota-share reinsurance agreement Michigan
maintained with West Bend through November 30, 2010.
The final purchase price for the acquisition was
approximately $42.3 million in cash.
Basis of Consolidation
Our consolidated financial statements, which we have
prepared in accordance with accounting principles
generally accepted in the United States of America,
include our accounts and those of our wholly owned
subsidiaries. We have eliminated all significant
inter-company accounts and transactions in
consolidation. The terms we, us, our or the
Company as used herein refer to the consolidated
entity.
24
Use of Estimates
In preparing our consolidated financial statements,
our management makes estimates and assumptions that
affect the reported amounts of assets and liabilities
as of the date of the balance sheet and revenues and
expenses for the period. Actual results could differ
significantly from those estimates.
We make estimates
and assumptions that can have a significant effect on
amounts and disclosures we report in our consolidated
financial statements. The most significant estimates
relate to our insurance subsidiaries reserves for
property and casualty insurance unpaid losses and loss
expenses, valuation of investments and determination
of other-than-temporary impairment and our insurance
subsidiaries policy acquisition costs. While we
believe our estimates and the estimates of our
insurance subsidiaries are appropriate, the ultimate
amounts may differ from the estimates provided. We
regularly review our methods for making these
estimates as well as the continuing appropriateness of
the estimated amounts, and we reflect any adjustment
we consider necessary in our current results of
operations.
Reclassification
We have reclassified certain amounts in 2010 as
reported in our Consolidated Statements of Income to
conform to the current year presentation.
Investments
We classify our debt and equity securities into the following categories:
Held to MaturityDebt
securities that we have the positive intent and ability to hold to maturity; reported at amortized
cost.
Available for SaleDebt and equity securities not
classified as held to maturity; reported at fair
value, with unrealized gains and losses excluded
from income and reported as a separate component
of stockholders equity (net of tax effects).
Short-term investments carried at amortized cost,
which approximates fair value.
We make estimates concerning the valuation of our
investments and the recognition of other-than-temporary
declines in the value of our investments. For equity
securities, we write down the investment to its fair
value, and we reflect the amount of the write-down as a
realized loss in our results of operations when we
consider the decline in value of an individual
investment to be other than temporary. We individually
monitor all of our investments for other-than-temporary
declines in value. Generally, we assume there has been
an other-than-temporary decline in value if an
individual equity security has depreciated in value by
more than 20% of original cost and has been in such an
unrealized loss position for more than six months. As
of April 1, 2009, we adopted new accounting guidance
related to the accounting for and presentation of
impairment losses on debt securities. With respect to a
debt security that is in an unrealized loss position,
we first assess if we intend to sell the debt security.
If we determine we intend to sell the debt security, we
recognize the impairment loss in our results of
operations. If we do not intend to sell the debt
security, we determine whether it is more likely than
not that we will be required to sell the security prior
to recovery. If we determine it is more likely than not
that we will be required to sell the debt security
prior to recovery, we recognize an impairment loss in
our results of operations. If we determine it is more
likely than not that we will not be required to sell
the debt security prior to recovery, we then evaluate
whether a credit loss has occurred. We determine
whether a credit loss has occurred by comparing the
amortized cost of the debt security to the present
value of the cash flows we expect to collect. If we
expect a cash flow shortfall, we consider that a credit
loss has occurred. If we determine that a credit loss
has occurred, we consider the impairment to be other
than temporary. We then recognize the amount of the
impairment loss related to the credit loss in our
results of operations, and we recognize the remaining
portion of the impairment loss in our other
comprehensive income, net of applicable taxes. In
addition, we may write down securities in an unrealized
loss
position based on a number
of other factors, including when the fair value of an
investment is significantly below its cost, when the
financial condition of the issuer of a security has
deteriorated, the occurrence of industry, company or
geographic events that have negatively impacted the
value of a security and rating agency downgrades.
We amortize premiums and discounts on debt
securities over the life of the security as an
adjustment to yield using the effective interest
method. We compute realized investment gains and
losses using the specific identification method.
We amortize premiums and discounts for
mortgage-backed debt securities using anticipated
prepayments.
We account for investments in affiliates using the
equity method of accounting. Under the equity method,
we record our investment at cost, with adjustments for
our share of the affiliates earnings and losses as
well as changes in the affiliates equity due to
unrealized gains and losses.
Fair Values of Financial Instruments
We use the following methods and assumptions in
estimating our fair value disclosures:
InvestmentsWe
present our investments in available-for-sale fixed
maturity and equity securities at estimated fair value.
The estimated fair value of a security may differ from
the amount that could be realized if we sold the
security in a forced transaction. In addition, the
valuation of fixed maturity investments is more
subjective when markets are less liquid, increasing the
potential that the estimated fair value does not
reflect the price at which an actual transaction would
occur. We utilize nationally recognized independent
pricing services to estimate fair values for our fixed
maturity and equity investments. We generally obtain
one price per security. The pricing services utilize
market quotations for fixed maturity and equity
securities that have quoted prices in active markets.
For fixed maturity securities that generally do not
trade on a daily basis, the pricing services prepare
estimates of fair value measurements using proprietary
pricing applications, which include available relevant
market information, benchmark yields, sector curves and
matrix pricing. The pricing services do not use broker
quotes in determining the fair values of our
investments. We review the estimates of fair value the
pricing services provide to determine if the estimates
obtained are representative of fair values based upon
our general knowledge
of the market, our research findings related to unusual
fluctuations in value and our comparison of such values
to execution prices for similar securities. See Note
6 Fair Value Measurements for more information
regarding our methods and assumptions in estimating
fair values.
Cash and Short-Term InvestmentsThe carrying amounts reported in the balance sheet for these
instruments approximate their fair values.
Premiums and Reinsurance Receivables and PayablesThe
carrying amounts reported in the balance sheet for these instruments related to premiums and paid
losses and loss expenses approximate their fair values.
Subordinated DebenturesThe carrying amounts
reported in the balance sheet for these instruments
approximate their fair values.
Revenue Recognition
Our insurance subsidiaries recognize insurance
premiums as income over the terms of the policies
they issue. Our insurance subsidiaries calculate
unearned premiums on a daily pro-rata basis. We
recorded an unearned premium liability for the fair
value of the net unexpired portion of the insurance
contracts we acquired in connection with our
acquisition of Michigan. We will recognize this
unearned premium liability as income over the terms
of Michigans policies.
25
Policy Acquisition Costs
We defer our insurance subsidiaries policy acquisition
costs, consisting primarily of commissions, premium
taxes and certain other underwriting costs, reduced by
ceding commissions, that vary with and relate directly
to the production of business. We amortize these
deferred policy acquisition costs over the period in
which our insurance subsidiaries earn the premiums. The
method we follow in computing deferred policy
acquisition costs limits the amount of such deferred
costs to their estimated realizable value, which gives
effect to the premium to be earned, related investment
income, losses and loss expenses and certain other
costs we expect to incur as our insurance subsidiaries
earn the premium. Estimates in the calculation of
policy acquisition costs have not shown material
variability because of uncertainties in applying
accounting principles or as a result of sensitivities
to changes in key assumptions.
Property and Equipment
We report property and equipment at depreciated cost
that we compute using the straight-line method based
upon estimated useful lives of the assets.
Losses and Loss Expenses
Liabilities for losses and loss expenses are estimates
at a given point in time of the amounts an insurer
expects to pay with respect to policyholder claims
based on facts and circumstances then known. At the
time of establishing its estimates, an insurer
recognizes that its ultimate liability for losses and
loss expenses will exceed or be less than such
estimates. Our insurance subsidiaries base their
estimates of liabilities for losses and loss expenses
on assumptions as to future loss trends and expected
claims severity, judicial theories of liability and
other factors. However, during the loss adjustment
period, our insurance subsidiaries may learn additional
facts regarding certain claims, and consequently, it
often becomes necessary for our insurance subsidiaries
to refine and adjust their estimates of liability. We
reflect any adjustments to our insurance subsidiaries
liabilities for losses and loss expenses in our
operating results in the period in which our insurance
subsidiaries record the changes in estimates.
Our insurance subsidiaries maintain liabilities for the
payment of losses and loss expenses with respect to
both reported and unreported claims. Our insurance
subsidiaries establish these liabilities for the
purpose of covering the ultimate costs of settling all
losses, including investigation and litigation costs.
Our insurance subsidiaries base the amount of their
liability for reported losses primarily upon a
case-by-case evaluation of the type of risk involved,
knowledge of the circumstances surrounding each claim
and the insurance policy provisions relating to the
type of loss their policyholder incurred. Our insurance
subsidiaries determine the amount of their liability
for unreported claims and loss expenses on the basis of
historical information by line of insurance. Our
insurance subsidiaries account for inflation in the
reserving function through analysis of costs and trends
and reviews of historical reserving results. Our
insurance subsidiaries closely monitor their
liabilities and recompute them periodically using new
information on reported claims and a variety of
statistical techniques. Our insurance subsidiaries do
not discount their liabilities for losses.
We recorded a liability for the fair value of the net
loss and loss expense reserves we assumed in
connection with our acquisition of Michigan. We
incorporated various factors in
determining the fair value of these reserve
estimates, including the guarantee against any
deficiency in excess of $1.0 million discussed in
Note 4Business Combinations.
Reserve estimates can change over time because of
unexpected changes in assumptions related to our
insurance subsidiaries external environment and, to
a lesser extent, assumptions as to our insurance
subsidiaries internal operations. For example, our
insurance subsidiaries have experienced a decrease in
claims frequency on workers compensation claims
during the past several years while claims severity
has gradually increased. These trend changes give
rise to greater uncertainty as to the pattern of
future loss settlements on workers compensation
claims. Related uncertainties regarding future trends
include the cost of medical technologies and
procedures and changes in the utilization of medical
procedures. Assumptions related to our insurance
subsidiaries external environment include the absence
of significant changes in tort law and the legal
environment that increase liability exposure,
consistency in judicial interpretations of insurance
coverage and policy provisions and the rate of loss
cost inflation. Internal assumptions include
consistency in the recording of premium and loss
statistics, consistency in the recording of claims,
payment and case reserving methodology, accurate
measurement of the impact of rate changes and changes
in policy provisions, consistency in the quality and
characteristics of business written within a given line
of business and consistency in reinsurance coverage and
collectibility of reinsured losses, among other items.
To the extent our insurance subsidiaries determine that
underlying factors impacting their assumptions have
changed, our insurance subsidiaries attempt to make
appropriate adjustments for such changes in their
reserves. Accordingly, our insurance subsidiaries
ultimate liability for unpaid losses and loss expenses
will likely differ from the amount recorded.
Our
insurance subsidiaries seek to enhance their
underwriting results by carefully selecting the product
lines they underwrite. Our insurance subsidiaries
personal lines products include standard and preferred
risks in private passenger automobile and homeowners
lines. Our insurance subsidiaries commercial lines
products primarily include mercantile risks, business
offices, wholesalers, service providers and artisan
risks,
avoiding industrial and manufacturing exposures. Our
insurance subsidiaries have limited exposure to
asbestos and other environmental liabilities. Our
insurance subsidiaries write no medical malpractice or
other professional liability risks.
Income Taxes
We currently file a consolidated federal income tax return.
We account for income taxes using the asset and
liability method. The objective of the asset and
liability method is to establish deferred tax assets
and liabilities for the temporary differences between
the financial reporting basis and the tax basis of
our assets and liabilities at enacted tax rates
expected to be in effect when we realize or settle
such amounts.
Credit Risk
Our objective is to earn competitive returns by
investing in a diversified portfolio of securities.
Our portfolio of fixed maturity securities and, to a
lesser extent, short-term investments is subject to
credit risk. We define this risk as the potential
loss in fair value resulting from adverse changes in
the borrowers ability to repay the debt. We manage
this risk by performing an analysis of prospective
investments and through regular reviews of our
portfolio by our investment staff. We also limit the
amount of our total investment portfolio that we
invest in any one security.
Our insurance subsidiaries provide property and
liability insurance coverages through independent
insurance agencies located throughout their operating
areas. Our insurance subsidiaries bill the majority of
this business directly to the insured, although our
insurance subsidiaries bill a portion of their
commercial business through their agents, to whom they
extend credit in the normal course of business.
Our insurance subsidiaries have reinsurance
agreements with Donegal Mutual and with a number of
other major unaffiliated authorized reinsurers.
Reinsurance Accounting and Reporting
Our insurance subsidiaries rely upon reinsurance
agreements to limit their maximum net loss from large
single risks or risks in concentrated areas and to
increase their capacity to write insurance. Reinsurance
does not relieve our insurance subsidiaries from
liability to their respective policyholders. To the
extent that a reinsurer cannot pay losses for which it
is liable under the terms of a reinsurance agreement,
our insurance subsidiaries retain continued liability
for such losses. However,
in an effort to reduce the risk of non-payment, our
insurance subsidiaries require all of their reinsurers
to have an A.M. Best rating of A- or better or, with
respect to foreign reinsurers, to have a financial
condition that, in the opinion of management, is
equivalent to a company with an A.M. Best rating of A-
or better. See Note 11 Reinsurance for more
information regarding our reinsurance agreements.
26
Stock-Based Compensation
We measure all share-based payments to employees,
including grants of stock options, using a
fair-value-based method and record such expense in our
results of operations. In determining the expense we
record for stock options granted to directors and
employees of our subsidiaries and affiliates other
than Donegal Mutual, we estimate the fair value of
each option award on the date of grant using the
Black-Scholes option pricing model. The significant
assumptions we utilize in applying the Black-Scholes
option pricing model are the risk-free interest rate,
expected term, dividend yield and expected volatility.
We did not realize any tax benefits upon the exercise
of stock options in 2010 or 2009. We classified tax
benefits realized upon the exercise of stock options of
$683,881 for the year ended December 31, 2008 as
financing activities in our consolidated statement of
cash flows.
Earnings per Share
We calculate basic earnings per share by dividing net
income by the weighted-average number of common
shares outstanding for the period. Diluted earnings
per share reflects the dilution that could occur if
securities or other contracts to issue common stock
were exercised or converted into common stock.
We have two classes of common stock, which we refer to
as Class A common stock and Class B common stock. Our
Class A common stock is entitled to cash dividends that
are at least 10% higher than those declared and paid on
our Class B common stock. Accordingly, we use the
two-class method for the computation of earnings per
common share. The two-class method is an earnings
allocation formula that determines earnings per share
separately for each class of common stock based on
dividends declared and an allocation of remaining
undistributed earnings using a participation percentage
that reflects the dividend rights of each class.
Goodwill and Other Intangible Assets
Goodwill represents the excess of the purchase price
over the underlying fair value of acquired entities.
When completing acquisitions, we seek to also identify
separately identifiable intangible assets that we have
acquired. We assess goodwill and intangible assets with
an indefinite useful life for impairment annually. We
also assess goodwill and other intangible assets for
impairment upon the occurrence of certain events. In
making our assessment, we consider a number of factors
including operating results, business plans, economic
projections, anticipated future cash flows and current
market data. Inherent uncertainties exist with respect
to these factors and to our judgment in applying them
when we make our assessment. Impairment of goodwill and
other intangible assets could result from changes in
economic and operating conditions in future periods.
2 Impact of New Accounting Standards
In June 2009, the Financial Accounting Standards Board
(FASB) issued Financial Accounting Standard (FAS)
166, Accounting for Transfers of Financial Assets, an
Amendment of FASB Statement No. 140, codified in FASB
Accounting Standards Codification (ASC) subtopic
860-20. ASC subtopic 860-20 amends the derecognition
guidance in FAS 140 and eliminates the concept of
qualifying special-purpose entities. ASC subtopic
860-20 is effective for fiscal years and interim
periods beginning after November 15, 2009. We adopted
ASC subtopic 860-20 on January 1, 2010. Our adoption
did not impact our financial position or results of
operations.
In June 2009, the FASB issued FAS 167,
Amendments to FASB Interpretation No. 46(R), which
amends the consolidation guidance applicable to
variable interest entities (VIEs) and is codified in
ASC subtopic 810-10. An entity would consolidate a VIE,
as the primary beneficiary, when the entity has both of
the following characteristics: (a) the power to direct
the activities of a VIE that most significantly impact
the entitys economic performance and (b) the
obligation to absorb losses of the entity that could
potentially be significant to
the VIE or the right to receive benefits from the
entity that could potentially be significant to the
VIE. ASC subtopic 810-10
requires ongoing reassessment of whether an enterprise
is the primary beneficiary of a VIE. ASC subtopic
810-10 amends interpretation 46(R) to eliminate the
quantitative approach previously required for
determining the primary beneficiary of a VIE. ASC
subtopic 810-10 is effective for fiscal years and
interim periods beginning after November 15, 2009. We
adopted ASC subtopic 810-10 on January
1, 2010. Our adoption did not impact our financial
position or results of operations.
In January 2010, the FASB issued Accounting Standards
Update (ASU) 2010-06, Improving Disclosures about
Fair Value Measurements. ASU 2010-06 amends ASC
subtopic 820-10 by requiring new, and clarifying
existing, fair value disclosures. ASU 2010-06 is
effective for the interim period ended March 31, 2010,
except for certain new Level 3 roll forward
disclosures, which are effective for fiscal years
beginning after December 15, 2010 and for interim
periods within those fiscal years. We have included
herein the disclosures ASU 2010-06 requires for 2010,
and we will include the Level 3 roll forward
disclosures ASU 2010-06 requires for fiscal years and
interim periods beginning after December 31, 2010.
In October 2010, the FASB issued updated guidance to
address the diversity in practice for the accounting
for costs associated with acquiring or renewing
insurance contracts. This guidance modifies the
definition of acquisition costs to specify that a cost
must be directly related to the successful acquisition
of a new or renewal insurance contract in order to be
deferred. If application of this guidance would result
in the capitalization of acquisition costs that a
reporting entity had not previously capitalized, the
entity may elect not to capitalize those costs. The
updated guidance is effective for periods ending after
December 15, 2011. We do not expect our adoption of
this guidance to have a material impact on our
financial position or results of operations.
3 Transactions with Affiliates
Our insurance subsidiaries conduct business and have
various agreements with Donegal Mutual that we
describe below:
a. Reinsurance Pooling and Other Reinsurance Arrangements
Atlantic States, our largest subsidiary, and Donegal
Mutual have a pooling agreement under which both
companies contribute all of their direct written
business to the pool and receive an
allocated percentage of their combined underwriting
results, excluding certain reinsurance Donegal Mutual
assumes from our insurance subsidiaries. From July 1,
2000 through February 29, 2008, Atlantic States had a
70% share of the results of the pool, and Donegal
Mutual had a 30% share of the results of the pool.
Effective March 1, 2008, Donegal Mutual and Atlantic
States amended the pooling agreement to increase
Atlantic Statess share of the pooled business to 80%.
The intent of the pooling agreement is to produce more
uniform and stable underwriting results from year to
year for each pool participant than they would
experience individually and to spread the risk of loss
between the participants based on each participants
relative amount of surplus and relative access to
capital. Each participant in the pool has at its
disposal the capacity of the entire pool, rather than
being limited to policy exposures of a size
commensurate with its own capital and surplus.
The following amounts represent reinsurance Atlantic
States ceded to the pool during 2010, 2009 and 2008:
2010 | 2009 | 2008 | ||||||||||
Premiums earned |
$ | 105,376,068 | $ | 96,502,445 | $ | 93,336,444 | ||||||
Losses and loss expenses |
$ | 81,203,625 | $ | 68,248,082 | $ | 54,407,168 | ||||||
Prepaid reinsurance
premiums |
$ | 57,783,435 | $ | 52,199,831 | $ | 48,448,624 | ||||||
Liability for losses and
loss expenses |
$ | 65,028,781 | $ | 55,396,390 | $ | 45,777,168 | ||||||
27
The following amounts represent reinsurance
Atlantic States assumed from the pool during 2010,
2009 and 2008:
2010 | 2009 | 2008 | ||||||||||
Premiums earned |
$ | 238,308,846 | $ | 223,223,583 | $ | 220,641,805 | ||||||
Losses and loss expenses |
$ | 160,256,348 | $ | 138,058,878 | $ | 140,969,892 | ||||||
Unearned premiums |
$ | 125,322,884 | $ | 117,044,000 | $ | 110,064,380 | ||||||
Liability for losses and
loss expenses |
$ | 134,580,026 | $ | 131,247,578 | $ | 121,366,321 |
Donegal Mutual and Southern have a quota-share
reinsurance agreement whereby Southern assumes 100% of
the premiums and losses related to personal lines
products Donegal Mutual offers in Virginia through the
use of its automated policy quoting and issuance
system. Donegal Mutual and Le Mars have a quota-share
reinsurance agreement whereby Le Mars assumes 100% of
the premiums and losses related to certain
products Donegal Mutual offers in certain Midwest
states, which provide the availability of
complementary products to Le Mars commercial
accounts. The following amounts represent reinsurance
Southern and Le Mars assumed from Donegal Mutual
pursuant to the quota-share reinsurance agreements
during 2010, 2009 and 2008:
2010 | 2009 | 2008 | ||||||||||
Premiums earned |
$ | 14,516,901 | $ | 12,856,983 | $ | 9,690,726 | ||||||
Losses and loss expenses |
$ | 12,600,094 | $ | 10,987,391 | $ | 7,612,090 | ||||||
Unearned premiums |
$ | 8,124,069 | $ | 6,998,285 | $ | 6,064,734 | ||||||
Liability for losses and
loss expenses |
$ | 7,316,879 | $ | 4,868,486 | $ | 2,672,698 |
Donegal Mutual and Michigan have a quota-share
reinsurance agreement whereby Donegal Mutual assumes
25% of the premiums and losses related to the business
of Michigan. Donegal Mutual and Peninsula have a
quota-share reinsurance agreement whereby Donegal
Mutual assumes 100% of the premiums and losses related
to the workers compensation product line of Peninsula
in certain states. The business Donegal Mutual assumes
becomes part of the pooling agreement between Donegal
Mutual and Atlantic States. The following amounts
represent reinsurance ceded to Donegal Mutual pursuant
to these quota-share reinsurance agreements during
2010, 2009 and 2008:
2010 | 2009 | 2008 | ||||||||||
Premiums earned |
$ | 4,516,313 | $ | 2,515,075 | $ | 880,017 | ||||||
Losses and loss expenses |
$ | 3,463,112 | $ | 2,342,895 | $ | 697,929 | ||||||
Prepaid reinsurance
premiums |
$ | 4,590,424 | $ | 1,855,076 | $ | 889,993 | ||||||
Liability for losses and
loss expenses |
$ | 4,006,231 | $ | 1,980,626 | $ | 679,718 |
Atlantic States, Southern and Le Mars each have a
catastrophe reinsurance agreement with Donegal Mutual
that limits the maximum liability under any one
catastrophic occurrence to $1,000,000, $750,000 and
$500,000, respectively, with a combined limit of
$1,800,000 for a catastrophe involving a combination
of these subsidiaries. Donegal Mutual and Southern
have an excess of loss reinsurance agreement in which
Donegal Mutual assumes up to $350,000 ($300,000 in
2008) of losses in excess of $400,000 ($300,000 in
2008). In
2009, Donegal Mutual and Sheboygan had an excess of
loss reinsurance agreement in which Donegal Mutual
assumed up to $50,000 of losses in excess of $150,000.
The following amounts represent reinsurance ceded to
Donegal Mutual pursuant to these reinsurance
agreements during 2010, 2009 and 2008:
2010 | 2009 | 2008 | ||||||||||
Premiums earned |
$ | 8,110,268 | $ | 8,315,347 | $ | 5,508,666 | ||||||
Losses and loss expenses |
$ | 6,649,775 | $ | 9,742,303 | $ | 7,878,787 | ||||||
Liability for losses and
loss expenses |
$ | 3,441,447 | $ | 3,268,129 | $ | 5,456,611 |
The following amounts represent the effect of
affiliated reinsurance transactions on net
premiums our insurance subsidiaries earned during
2010, 2009 and 2008:
2010 | 2009 | 2008 | ||||||||||
Assumed |
$ | 252,825,747 | $ | 236,080,566 | $ | 230,332,531 | ||||||
Ceded |
(118,002,649 | ) | (107,332,867 | ) | (99,725,127 | ) | ||||||
Net |
$ | 134,823,098 | $ | 128,747,699 | $ | 130,607,404 | ||||||
The following amounts represent the effect of
affiliated reinsurance transactions on net losses
and loss expenses our insurance subsidiaries
incurred during 2010, 2009 and 2008:
2010 | 2009 | 2008 | ||||||||||
Assumed |
$ | 172,856,442 | $ | 149,046,269 | $ | 148,581,982 | ||||||
Ceded |
(91,316,512 | ) | (80,333,280 | ) | (62,983,884 | ) | ||||||
Net |
$ | 81,539,930 | $ | 68,712,989 | $ | 85,598,098 | ||||||
b. Expense Sharing
Donegal Mutual provides facilities, management and
other services to us and our insurance subsidiaries.
Donegal Mutual allocates certain related expenses to
Atlantic States in relation to the relative
participation of Atlantic States and Donegal Mutual
in the pooling agreement. Our insurance subsidiaries
other than Atlantic States reimburse Donegal Mutual
for their personnel costs and bear their
proportionate share of information services costs
based on their percentage of the total written
premiums of the Donegal Insurance Group. Charges for
these services totalled $63,982,793, $60,175,789 and
$56,819,869 for 2010, 2009 and 2008, respectively.
c. Lease Agreement
We lease office equipment and automobiles with terms
ranging from 3 to 10 years to Donegal Mutual under a
10-year lease agreement dated January 1, 2010.
d. Legal Services
Donald H. Nikolaus, our President and one of our
directors, is a partner in the law firm of Nikolaus &
Hohenadel. Such firm has served as our general counsel
since 1986, principally in connection with the defense
of claims litigation arising in Lancaster, Dauphin and
York counties of Pennsylvania. We pay such firm its
customary fees for such services.
e. Province Bank
As of December 31, 2010 and 2009, we had $11,851,757
and $10,163,195, respectively, in checking accounts
with Province Bank FSB, a wholly owned subsidiary of
DFSC. We earned $1,575, $3,260 and $133,251 in
interest on these accounts during 2010, 2009 and 2008,
respectively
4 Business Combinations
On December 1, 2010, we acquired all of the
outstanding stock of Michigan. We accounted for this
acquisition as a business combination.
We acquired Michigan from West Bend and its other
stockholders for a price equal to 122% of Michigans
stockholders equity as of November 30, 2010, or
approximately $42.3 million in cash. We paid $35.1
million to Michigans stockholders in December 2010
and recorded an additional amount payable as of
December 31, 2010 of $7.2 million, which we paid
pursuant to the terms of our acquisition agreement in
the first quarter of 2011. The acquisition of
Michigan enabled us to extend our insurance business
to the state of Michigan. Michigan writes various
lines of property and casualty insurance and had
direct written premiums of $105.4 million and $106.6
million and net premiums earned of $26.9 million and
$27.0 million for the years ended December 31, 2010
and 2009, respectively. Michigans stockholders
equity and total assets as of December 31, 2009 were
$32.0 million and $224.5 million, respectively. We
recorded goodwill of approximately $4.6 million and
other intangible assets of approximately
28
$958,000, none of which are deductible for
federal income tax purposes. Pursuant to the terms of
our acquisition agreement with West Bend, West Bend
has guaranteed us against any deficiency in excess of
$1.0 million in the loss and loss expenses of Michigan
as of November 30, 2010. Conversely, we have agreed to
return 50% of any redundancy in excess of $1.0
million. Any such deficiency or redundancy will be
based on a final actuarial review of the development
of such reserves to be conducted three years after
November 30, 2010. Through December 1, 2010, Michigan
and West Bend were parties to quota-share reinsurance
agreements whereby Michigan ceded 75% (80% prior to
2008) of its business to West Bend. Michigan and West
Bend agreed to terminate the reinsurance agreement in
effect as of November 30, 2010 on a run-off basis.
West Bends obligations related to all past
reinsurance agreements with Michigan remain in effect
for all policies effective prior to December 1, 2010.
West Bend and Michigan entered into a trust agreement
on December 1, 2010. Under the terms of the trust
agreement, for the sole benefit of Michigan, West Bend
placed into trust assets with a fair value equal to
the amount of unearned premiums and unpaid losses and
loss adjustment expenses, reduced by any net premium
balances not yet paid by Michigan, that West Bend had
assumed pursuant to such reinsurance agreements as of
November 30, 2010. The amount of assets required to be
held in trust is adjustable monthly based upon the
remaining net obligations of West Bend. West Bend may
terminate the trust agreement on the earlier of
December 1, 2020 or the date when the obligations of
West Bend are equal to or less than $5.0 million. As
of December 31, 2010, West Bends net obligations
under the reinsurance agreements were approximately
$58.0 million, and the fair value of assets held in
trust was approximately $64.0 million.
We recorded the assets that we acquired and the
liabilities that we assumed at their estimated
acquisition date fair value. The fair value
adjustments we made are preliminary in nature and are
subject to change as we obtain further data and
complete our valuation analysis. The following is a
summary of the estimated fair value of the net assets
we acquired at the date of the Michigan acquisition
based on purchase price allocations:
(in thousands) | ||||
Assets acquired: |
||||
Investments |
$ | 68,693 | ||
Premiums receivable |
27,803 | |||
Prepaid reinsurance premiums |
25,054 | |||
Reinsurance receivable |
83,818 | |||
Goodwill |
4,571 | |||
Other intangible assets |
958 | |||
Other |
3,004 | |||
Total assets acquired |
213,901 | |||
Liabilities assumed: |
||||
Losses and loss expenses |
104,815 | |||
Unearned premiums |
33,688 | |||
Reinsurance balances payable |
16,899 | |||
Accrued expenses |
9,990 | |||
Other |
6,213 | |||
Total liabilities assumed |
171,605 | |||
Net assets acquired |
$ | 42,296 | ||
We recorded goodwill of $4.6 million in connection
with the Michigan acquisition. The goodwill consists
largely of economies of scale we expect to realize
from integrating the operations of Michigan into
those of the Donegal Insurance Group and benefits we
expect to derive from Michigans relationships with
its independent agents and policyholders.
We intend to operate Michigan as a subsidiary and
continue to maintain its trade name for the
foreseeable future. We have therefore established a
trade name intangible asset in the amount of
$958,000, which represents the estimated value of the
future benefits we will derive from the continued use
of the trade name. We will not amortize the trade
name intangible asset because we have determined that
the trade name intangible asset has an indefinite
life. We will evaluate the trade name intangible
asset for impairment annually or upon the occurrence
of certain future events.
Our consolidated financial statements for the year
ended December 31, 2010 include the operations of
Michigan from December 1, 2010, the date we acquired
it. Effective on December 1, 2010, Michigan entered
into a 50% quota-share reinsurance agreement with
third-party reinsurers and a 25% quota-share
reinsurance agreement with Donegal Mutual to replace
the 75% quota-share reinsurance agreement Michigan
maintained with West Bend through November 30, 2010.
Donegal Mutual includes the business it assumes from
Michigan in its pooling agreement with Atlantic
States. Our total revenues related to the operations
of Michigan and Atlantic States allocation with
respect to Donegal Mutuals quota-share reinsurance
agreement for the period December 1, 2010 through
December 31, 2010 were approximately
$2.4 million. Michigans results of operations for the
period December 1, 2010 through December 31, 2010 did
not significantly impact our consolidated net income
for 2010.
The following table presents our unaudited pro forma
historical results for the years ended December 31,
2010 and 2009 as if we had acquired Michigan at January
1, 2009 and Michigan had entered into a 25% quota-share
reinsurance agreement with Donegal Mutual as of that
date:
Year Ended December 31, | ||||||||
2010 | 2009 | |||||||
(in thousands, except per share data) | ||||||||
Total revenues |
$ | 458,231 | $ | 423,184 | ||||
Income before income tax benefit |
13,619 | 15,232 | ||||||
Income tax benefit |
(741 | ) | (146 | ) | ||||
Net Income |
14,360 | 15,378 | ||||||
Class A earnings per share
basic and diluted |
0.58 | 0.62 | ||||||
Class B earnings per share
basic and diluted |
0.52 | 0.55 |
Significant pro forma income statement adjustments
for the year ended December 31, 2009 included a $3.8
million decrease in premiums earned related to the
recognition of the pro forma fair value adjustment
associated with the net unearned premium liability as
of January 1, 2009. We have prepared the unaudited
pro forma results above for comparative purposes
only. These unaudited pro forma results are not
necessarily indicative of the results of operations
that actually would have resulted had the acquisition
occurred at January 1, 2009, nor are the pro forma
results necessarily indicative of future operating
results.
During 2008, we acquired all of the outstanding
stock of Sheboygan. We accounted for this
acquisition as a business combination.
In December 2006, Donegal Mutual consummated an
affiliation with Sheboygan. As part of the affiliation,
Donegal Mutual entered into a management agreement with
and purchased a
$3.5 million surplus note issued by Sheboygan. During
2007, Sheboygans board of directors adopted a plan of
conversion to convert to a stock insurance company.
Following policyholder and regulatory approval of the
plan of conversion, we acquired all of the outstanding
stock of Sheboygan as of December 1, 2008 for
approximately $12.0 million in cash, including payment
of the principal amount of the surplus note ($3.5
million) and accrued interest ($32,171) to Donegal
Mutual. The payment also included a surplus
contribution ($8.5 million) to Sheboygan to support
future premium growth. We have included Sheboygans
results of operations in our consolidated results from
December 1, 2008. At December 31, 2010 and 2009,
Sheboygan had amounts due to policyholders pursuant to
the plan of conversion of $334,019 and $316,927,
respectively.
The acquisition of Sheboygan enabled us to extend our
insurance business to Wisconsin. Sheboygan, organized
under the laws of Wisconsin in 1899, operates as a
property and casualty insurer in Wisconsin. Personal
lines coverages represent a majority of Sheboygans
premiums written, with the balance coming from
farmowners and mercantile and service businesses.
Sheboygans largest lines of business are homeowners,
private passenger automobile liability and physical
damage. We based the purchase price of Sheboygan upon
an independent valuation of Sheboygan as of September
30, 2008.
29
5 Investments
The amortized cost and estimated fair values of fixed
maturities and equity securities at December 31, 2010
and 2009 are as follows:
2010 | ||||||||||||||||
Gross | Gross | Estimated | ||||||||||||||
Amortized | Unrealized | Unrealized | Fair | |||||||||||||
Held to Maturity | Cost | Gains | Losses | Value | ||||||||||||
U.S. Treasury securities
and obligations of
U.S. government
corporations
and agencies |
$ | 1,000,000 | $ | 84,320 | $ | | $ | 1,084,320 | ||||||||
Obligations of states
and political
subdivisions |
59,852,427 | 2,893,921 | | 62,746,348 | ||||||||||||
Corporate securities |
3,246,980 | 25,027 | | 3,272,007 | ||||||||||||
Residential mortgage-backed securities |
667,022 | 39,042 | 18 | 706,046 | ||||||||||||
Totals |
$ | 64,766,429 | $ | 3,042,310 | $ | 18 | $ | 67,808,721 | ||||||||
2010 | ||||||||||||||||
Gross | Gross | Estimated | ||||||||||||||
Amortized | Unrealized | Unrealized | Fair | |||||||||||||
Available for Sale | Cost | Gains | Losses | Value | ||||||||||||
U.S. Treasury securities
and obligations of
U.S. government
corporations
and agencies |
$ | 57,283,889 | $ | 484,282 | $ | 452,352 | $ | 57,315,819 | ||||||||
Obligations of states
and political
subdivisions |
388,091,036 | 6,838,193 | 5,300,094 | 389,629,135 | ||||||||||||
Corporate securities |
67,518,441 | 649,969 | 1,073,486 | 67,094,924 | ||||||||||||
Residential mortgage-backed securities |
88,409,620 | 1,850,670 | 453,967 | 89,806,323 | ||||||||||||
Fixed maturities |
601,302,986 | 9,823,114 | 7,279,899 | 603,846,201 | ||||||||||||
Equity securities |
2,503,565 | 7,693,231 | 35,182 | 10,161,614 | ||||||||||||
Totals |
$ | 603,806,551 | $ | 17,516,345 | $ | 7,315,081 | $ | 614,007,815 | ||||||||
2009 | ||||||||||||||||
Gross | Gross | Estimated | ||||||||||||||
Amortized | Unrealized | Unrealized | Fair | |||||||||||||
Held to Maturity | Cost | Gains | Losses | Value | ||||||||||||
U.S. Treasury securities
and obligations of
U.S. government
corporations
and agencies |
$ | 2,000,000 | $ | 80,260 | $ | | $ | 2,080,260 | ||||||||
Obligations of states
and political
subdivisions |
61,736,351 | 3,011,092 | 24,034 | 64,723,409 | ||||||||||||
Corporate securities |
6,243,138 | 72,300 | 13,034 | 6,302,404 | ||||||||||||
Residential mortgage-backed securities |
3,827,637 | 72,059 | 29 | 3,899,667 | ||||||||||||
Totals |
$ | 73,807,126 | $ | 3,235,711 | $ | 37,097 | $ | 77,005,740 | ||||||||
2009 | ||||||||||||||||
Gross | Gross | Estimated | ||||||||||||||
Amortized | Unrealized | Unrealized | Fair | |||||||||||||
Available for Sale | Cost | Gains | Losses | Value | ||||||||||||
U.S. Treasury securities
and obligations of
U.S. government
corporations
and agencies |
$ | 41,061,366 | $ | 154,076 | $ | 585,363 | $ | 40,630,079 | ||||||||
Obligations of states
and political
subdivisions |
346,798,545 | 12,587,395 | 1,019,462 | 358,366,478 | ||||||||||||
Corporate securities |
26,971,526 | 866,136 | 71,859 | 27,765,803 | ||||||||||||
Residential mortgage-backed securities |
88,914,148 | 2,356,647 | 329,483 | 90,941,312 | ||||||||||||
Fixed maturities |
503,745,585 | 15,964,254 | 2,006,167 | 517,703,672 | ||||||||||||
Equity securities |
3,804,064 | 6,338,360 | 227,798 | 9,914,626 | ||||||||||||
Totals |
$ | 507,549,649 | $ | 22,302,614 | $ | 2,233,965 | $ | 527,618,298 | ||||||||
The amortized cost and estimated fair value of fixed
maturities at December 31, 2010, by contractual maturity,
are shown below. Expected maturities may differ from
contractual maturities because borrowers may have the
right to call or prepay obligations with or without call
or prepayment penalties.
Estimated | ||||||||
Amortized | Fair | |||||||
Cost | Value | |||||||
Held to maturity |
||||||||
Due in one year or less |
$ | 2,997,301 | $ | 3,022,079 | ||||
Due after one year through five years |
13,810,698 | 14,522,647 | ||||||
Due after five years through ten years |
45,524,127 | 47,723,927 | ||||||
Due after ten years |
1,767,281 | 1,834,021 | ||||||
Residential mortgage-backed
securities |
667,022 | 706,047 | ||||||
Total held to maturity |
$ | 64,766,429 | $ | 67,808,721 | ||||
Available for sale |
||||||||
Due in one year or less |
$ | 9,898,080 | $ | 9,970,843 | ||||
Due after one year through five years |
105,006,683 | 106,936,765 | ||||||
Due after five years through ten years |
154,749,181 | 155,998,372 | ||||||
Due after ten years |
243,239,422 | 241,133,898 | ||||||
Residential mortgage-backed
securities |
88,409,620 | 89,806,323 | ||||||
Total available for sale |
$ | 601,302,986 | $ | 603,846,201 | ||||
The amortized cost of fixed maturities on deposit with
various regulatory authorities at December 31, 2010 and
2009 amounted to $10,181,518 and $9,761,979,
respectively.
Investments in affiliates consisted of the following at
December 31, 2010 and 2009:
2010 | 2009 | |||||||
DFSC |
$ | 8,526,577 | $ | 8,844,347 | ||||
Other |
465,000 | 465,000 | ||||||
Total |
$ | 8,991,577 | $ | 9,309,347 | ||||
We made an additional equity investment in DFSC in the
amount of $100,000 during 2009. Other income and expenses
in our consolidated statements of income include
(expenses) income of ($268,341), $471,097 and $112,065 for
2010, 2009 and 2008, respectively, representing our share
of DFSCs income or loss. In addition, other comprehensive
(loss) income in our statements of comprehensive income
includes net unrealized (losses) gains of ($32,129),
$93,647 and $193,241 for 2010, 2009 and 2008,
respectively, representing our share of DFSCs unrealized
investment gains or losses.
30
Other investment in affiliates represents our
investment in statutory trusts that hold our
subordinated debentures that we discuss in Note 10
Borrowings.
We derive net investment income, consisting primarily
of interest and dividends, from the following sources:
2010 | 2009 | 2008 | ||||||||||
Fixed maturities |
$ | 23,995,220 | $ | 24,458,118 | $ | 23,379,999 | ||||||
Equity securities |
42,869 | 69,287 | 552,575 | |||||||||
Short-term investments |
91,665 | 199,735 | 1,079,325 | |||||||||
Other |
46,095 | 47,514 | 36,008 | |||||||||
Investment income |
24,175,849 | 24,774,654 | 25,047,907 | |||||||||
Investment expenses |
(4,226,135 | ) | (4,144,071 | ) | (2,292,123 | ) | ||||||
Net investment income |
$ | 19,949,714 | $ | 20,630,583 | $ | 22,755,784 | ||||||
Gross realized gains and losses from investments and
the change in the difference between fair value and
cost of investments, before applicable income taxes,
are as follows:
2010 | 2009 | 2008 | ||||||||||
Gross realized gains: |
||||||||||||
Fixed maturities |
$ | 4,136,455 | $ | 2,654,648 | $ | 1,641,249 | ||||||
Equity securities |
1,791,585 | 2,179,331 | 2,397,716 | |||||||||
5,928,040 | 4,833,979 | 4,038,965 | ||||||||||
Gross realized losses: |
||||||||||||
Fixed maturities |
533,918 | 102,143 | 311,900 | |||||||||
Equity securities |
998,402 | 252,278 | 6,697,781 | |||||||||
1,532,320 | 354,421 | 7,009,681 | ||||||||||
Net realized gains (losses) |
$ | 4,395,720 | $ | 4,479,558 | $ | (2,970,716 | ) | |||||
Change in difference between
fair value and cost of
investments: |
||||||||||||
Fixed maturities |
$ | (11,571,194 | ) | $ | 18,779,926 | $ | (7,235,434 | ) | ||||
Equity securities |
1,547,487 | 3,154,823 | (3,440,944 | ) | ||||||||
Totals |
$ | (10,023,707 | ) | $ | 21,934,749 | $ | (10,676,378 | ) | ||||
We held fixed maturities and equity securities with
unrealized losses representing declines that we
considered temporary at December 31, 2010 as follows:
Less than 12 months | 12 months or longer | |||||||||||||||
Fair | Unrealized | Fair | Unrealized | |||||||||||||
Value | Losses | Value | Losses | |||||||||||||
U.S. Treasury securities
and obligations of
U.S. government
corporations
and agencies |
$ | 23,901,400 | $ | 452,352 | $ | | $ | | ||||||||
Obligations of states
and political
subdivisions |
171,609,617 | 5,208,910 | 1,406,325 | 91,184 | ||||||||||||
Corporate securities |
44,101,089 | 1,061,972 | 490,970 | 11,514 | ||||||||||||
Residential mortgage-backed securities |
35,930,054 | 453,967 | 750 | 18 | ||||||||||||
Equity securities |
313,888 | 35,182 | | | ||||||||||||
Totals |
$ | 275,856,048 | $ | 7,212,383 | $ | 1,898,045 | $ | 102,716 | ||||||||
We held fixed maturities and equity securities with
unrealized losses representing declines that we
considered temporary at December 31, 2009 as follows:
Less than 12 months | 12 months or longer | |||||||||||||||
Fair | Unrealized | Fair | Unrealized | |||||||||||||
Value | Losses | Value | Losses | |||||||||||||
U.S. Treasury securities
and obligations of
U.S. government
corporations
and agencies |
$ | 26,703,601 | $ | 585,364 | $ | | $ | | ||||||||
Obligations of states
and political
subdivisions |
17,971,018 | 256,527 | 29,582,488 | 786,970 | ||||||||||||
Corporate securities |
1,284,405 | 23,525 | 666,941 | 61,366 | ||||||||||||
Residential mortgage-backed securities |
23,514,855 | 328,969 | 477,421 | 543 | ||||||||||||
Equity securities |
2,139,457 | 227,798 | | | ||||||||||||
Totals |
$ | 71,613,336 | $ | 1,422,183 | $ | 30,726,850 | $ | 848,879 | ||||||||
We make estimates concerning the valuation of our
investments and the recognition of other-than-temporary
declines in the value of our investments. For equity
securities, we write down the investment to its fair
value, and we reflect the amount of the write-down as a
realized loss in our results of operations when we
consider the decline in value of an individual investment
to be other than temporary. We individually monitor all
investments for other-than-temporary declines in value.
Generally, we assume there has been an
other-than-temporary decline in value if an individual
equity security has depreciated in value by more than 20%
of original cost and has been in such an unrealized loss
position for more than six months. We held five equity
securities that were in an unrealized loss position at
December 31, 2010. Based upon our analysis of general
market conditions and underlying factors impacting these
equity
securities, we considered these declines in value to be
temporary. With respect to a debt security that is in an
unrealized loss position, we first assess if we intend to
sell the debt security. If we determine we intend to sell
the debt security, we recognize the impairment loss in our
results of operations. If we do not intend to sell the
debt security, we determine whether it is more likely than
not that we will be required to sell the debt security
prior to recovery. If we determine it is more likely than
not that we will be required to sell the debt security
prior to recovery, we recognize an impairment loss in our
results of operations. If we determine it is more likely
than not that we will not be required to sell the debt
security prior to recovery, we then evaluate whether a
credit loss has occurred. We determine whether a credit
loss has occurred by comparing the amortized cost of the
debt security to the present value of the cash flows we
expect to collect. If we expect a cash flow shortfall, we
consider that a credit loss has occurred. If we determine
that a credit loss has occurred, we consider the
impairment to be other than temporary. We then recognize
the amount of the impairment loss related to the credit
loss in our results of operations, and we recognize the
remaining portion of the impairment loss in our other
comprehensive income, net of applicable taxes. In
addition, we may write down securities in an unrealized
loss position based on a number of other factors,
including when the fair value of an investment is
significantly below its cost, when the financial condition
of the issuer of a security has deteriorated, the
occurrence of industry, company or geographic events that
have negatively impacted the value of a security and
rating agency downgrades. We held 302 debt securities that
were in an unrealized loss position at December 31, 2010.
Based upon our analysis of general market conditions and
underlying factors impacting these debt securities, we
considered these declines in value to be temporary.
We did not recognize any impairment losses in 2010 or
2009. We included losses of $1.2 million in net realized
investment gains (losses) in 2008 for certain equity
investments trading below cost on an
other-than-temporary basis.
31
We had no sales or transfers from the held to
maturity portfolio in 2010, 2009 or 2008.
We have no derivative instruments or hedging activities.
6 Fair Value Measurements
We account for financial assets using a framework that establishes a hierarchy that ranks the
quality and reliability of inputs, or assumptions, used in the determination of fair value, and we
classify financial assets and liabilities carried at fair value in one of the following three
categories:
Level 1 quoted prices in active markets for identical assets and liabilities;
Level 2 directly or indirectly observable inputs other than Level 1 quoted prices; and
Level 3 unobservable inputs not corroborated by market data.
For investments that have quoted market prices in active
markets, we use the quoted market price as fair value and
include these investments in Level 1 of the fair value
hierarchy. We classify publicly traded equity securities
as Level
1. When quoted market prices in active markets are not
available, we base fair values on quoted market prices of
comparable instruments or broker quotes we obtain from
independent pricing services through a bank trustee. We
classify our fixed maturity investments as Level 2. Our
fixed maturity investments consist of U.S. Treasury
securities and obligations of U.S. government corporations
and agencies, obligations of states and political
subdivisions, corporate securities and residential
mortgage-backed securities.
We reclassified one equity security to Level 3 during
2009. We utilized a fair value model that incorporated
significant other unobservable inputs, such as estimated
volatility, to estimate the equity securitys fair
value. We are restricted from selling certain shares we
obtained in the initial public offering for a period of
18 to 24 months, and the fair value we determined as of
December 31, 2010 reflects this selling restriction. We
recorded an unrealized gain of $1.3 million and $3.4
million related to this security in other comprehensive
income for the years ended December 31, 2010 and 2009,
respectively.
We present our investments in available-for-sale fixed
maturity and equity securities at estimated fair value.
The estimated fair value of a security may differ from the
amount that could be realized if we sold the security in a
forced transaction. In addition, the valuation of fixed
maturity investments is more subjective when markets are
less liquid, increasing the potential that the estimated
fair value does not reflect the price at which an actual
transaction would occur. We utilize nationally recognized
independent pricing services to estimate fair values for
substantially all of our fixed maturity and equity
investments. We generally obtain one price per security.
The pricing services utilize market quotations for fixed
maturity and equity securities that have quoted prices in
active markets. For fixed maturity securities that
generally do not trade on a daily basis, the pricing
services prepare estimates of fair value measurements
using proprietary pricing applications, which include
available relevant market information, benchmark yields,
sector curves and matrix pricing. The pricing services do
not use broker quotes in determining the fair values of
our investments. We review the estimates of fair value the
pricing services provide to determine if the estimates
obtained are representative of fair values based upon our
general knowledge of the market, our research findings
related to unusual fluctuations in value and our
comparison of such values to execution prices for similar
securities. As of December 31, 2010 and 2009, we received
one estimate per security from one of the pricing
services, and we priced all but an insignificant amount of
our Level 1 and Level 2 investments using those prices. In
our review of the estimates provided by the pricing
services as of December 31, 2010 and 2009, we did not
identify any discrepancies, and we did not make any
adjustments to the estimates the pricing services
provided.
We present our cash and short-term investments at
estimated fair value. The carrying values in the balance
sheet for premiums receivable and reinsurance
receivables and payables for premiums and paid losses and
loss expenses approximate their fair values. The carrying
amounts reported in the balance sheet for our subordinated
debentures approximate their fair values.
We evaluate our
assets and liabilities on a regular basis to determine the
appropriate level at which to classify them for each
reporting period.
The following table presents our fair
value measurements for our investments in
available-for-sale fixed maturity and equity securities as
of December 31, 2010:
Fair Value Measurements Using | ||||||||||||||||
Quoted Prices in | Significant | |||||||||||||||
Active Markets | Other | Significant | ||||||||||||||
for Identical | Observable | Unobservable | ||||||||||||||
Assets | Inputs | Inputs | ||||||||||||||
Fair Value | (Level 1) | (Level 2) | (Level 3) | |||||||||||||
U.S. Treasury
securities and
obligations of
U.S. government
corporations and
agencies |
$ | 57,315,820 | $ | | $ | 57,315,820 | $ | | ||||||||
Obligations of
states and political
subdivisions |
389,629,135 | | 389,629,135 | | ||||||||||||
Corporate securities |
67,094,923 | | 67,094,923 | | ||||||||||||
Residential mortgage-backed securities |
89,806,323 | | 89,806,323 | | ||||||||||||
Equity securities |
10,161,614 | 1,152,250 | 1,436,476 | 7,572,888 | ||||||||||||
Totals |
$ | 614,007,815 | $ | 1,152,250 | $ | 605,282,677 | $ | 7,572,888 | ||||||||
The following table presents our fair value
measurements for our investments in available-for-sale
fixed maturity and equity securities as of December 31,
2009:
Fair Value Measurements Using | ||||||||||||||||
Quoted Prices in | Significant | |||||||||||||||
Active Markets | Other | Significant | ||||||||||||||
for Identical | Observable | Unobservable | ||||||||||||||
Assets | Inputs | Inputs | ||||||||||||||
Fair Value | (Level 1) | (Level 2) | (Level 3) | |||||||||||||
U.S. Treasury
securities and
obligations of
U.S. government
corporations and
agencies |
$ | 40,630,079 | $ | | $ | 40,630,079 | $ | | ||||||||
Obligations of
states and political
subdivisions |
358,366,478 | | 358,366,478 | | ||||||||||||
Corporate securities |
27,765,803 | | 27,765,803 | | ||||||||||||
Residential mortgage-backed securities |
90,941,312 | | 90,941,312 | | ||||||||||||
Equity securities |
9,914,626 | 2,426,567 | 1,256,405 | 6,231,654 | ||||||||||||
Totals |
$ | 527,618,298 | $ | 2,426,567 | $ | 518,960,077 | $ | 6,231,654 | ||||||||
The following table presents a roll forward of
the significant unobservable inputs for our Level 3
equity securities for 2010 and 2009:
2010 | 2009 | |||||||
Balance, January 1 |
$ | 6,231,654 | $ | | ||||
Reclassification to Level 3 |
| 4,958,531 | ||||||
Sales of securities |
| (1,293,600 | ) | |||||
Change in net unrealized gains |
1,341,234 | 2,566,723 | ||||||
Balance, December 31 |
$ | 7,572,888 | $ | 6,231,654 | ||||
32
7 Deferred Policy Acquisition Costs
Changes in our insurance subsidiaries deferred policy
acquisition costs are as follows:
2010 | 2009 | 2008 | ||||||||||
Balance, January 1 |
$ | 32,844,179 | $ | 29,541,281 | $ | 26,235,072 | ||||||
Acquisition costs deferred |
67,955,400 | 63,594,898 | 61,556,209 | |||||||||
Amortization charged
to earnings |
(66,354,000 | ) | (60,292,000 | ) | (58,250,000 | ) | ||||||
Balance, December 31 |
$ | 34,445,579 | $ | 32,844,179 | $ | 29,541,281 | ||||||
8 Property and Equipment
Property and equipment at December 31, 2010 and 2009
consisted of the following:
Estimated | ||||||||||||
Useful | ||||||||||||
2010 | 2009 | Life | ||||||||||
Office equipment |
$ | 8,324,930 | $ | 8,177,197 | 5-15 years | |||||||
Automobiles |
1,966,152 | 1,591,133 | 3 years | |||||||||
Real estate |
5,016,722 | 5,016,722 | 15-50 years | |||||||||
Software |
2,518,826 | 1,631,763 | 5 years | |||||||||
17,826,630 | 16,416,815 | |||||||||||
Accumulated depreciation |
(10,757,544 | ) | (9,824,592 | ) | ||||||||
$ | 7,069,086 | $ | 6,592,223 | |||||||||
Depreciation expense for 2010, 2009 and 2008 amounted to $1.2 million,
$1.0 million and $1.0 million respectively.
9 Liability for Losses and Loss Expenses
The establishment of an appropriate liability for losses
and loss expenses is an inherently uncertain process, and
we can provide no assurance that our insurance
subsidiaries ultimate liability will not exceed their
loss and loss expense reserves and have an adverse effect
on our results of operations and financial condition.
Furthermore, we cannot predict the timing, frequency and
extent of adjustments to our insurance subsidiaries
estimated future liabilities, since the historical
conditions and events that serve as a basis for our
insurance subsidiaries estimates of ultimate claim costs
may change. As is the case for substantially all property
and casualty insurance companies, our insurance
subsidiaries have found it necessary in the past to
increase their estimated future liabilities for losses and
loss expenses in certain periods, and in other periods
their estimates have exceeded their actual liabilities.
Changes in our insurance subsidiaries estimate of their liability for losses and
loss expenses generally reflect actual payments and their
evaluation of information received since the prior
reporting date.
We summarize activity in our insurance subsidiaries
liability for losses and loss expenses as follows:
2010 | 2009 | 2008 | ||||||||||
Balance at January 1 |
$ | 263,598,844 | $ | 239,809,276 | $ | 226,432,402 | ||||||
Less reinsurance
recoverable |
(83,336,726 | ) | (78,502,518 | ) | (76,280,437 | ) | ||||||
Net balance at January 1 |
180,262,118 | 161,306,758 | 150,151,965 | |||||||||
Acquisition of Sheboygan |
| | 2,173,374 | |||||||||
Acquisition of Michigan |
26,960,063 | | | |||||||||
Incurred related to: |
||||||||||||
Current year |
277,193,930 | 241,012,436 | 221,617,127 | |||||||||
Prior years |
(2,885,072 | ) | 9,822,960 | 2,683,837 | ||||||||
Total incurred |
274,308,858 | 250,835,396 | 224,300,964 | |||||||||
Paid related to: |
||||||||||||
Current year |
179,069,304 | 152,292,967 | 143,369,098 | |||||||||
Prior years |
84,565,436 | 79,587,069 | 71,950,447 | |||||||||
Total paid |
263,634,740 | 231,880,036 | 215,319,545 | |||||||||
Net balance at
December 31 |
217,896,299 | 180,262,118 | 161,306,758 | |||||||||
Plus reinsurance
recoverable |
165,422,373 | 83,336,726 | 78,502,518 | |||||||||
Balance at December 31 |
$ | 383,318,672 | $ | 263,598,844 | $ | 239,809,276 | ||||||
We presented the liability for losses and loss expenses
that we assumed in connection with our acquisition of
Michigan net of reinsurance recoverable of
$77.9 million. Our insurance subsidiaries recognized a
(decrease) increase in their liability for losses and
loss expenses of prior years of ($2.9) million, $9.8
million and $2.7 million in 2010, 2009 and 2008,
respectively. Our insurance subsidiaries made no
significant changes in their reserving philosophy, key
reserving assumptions or claims management personnel, and
have made no significant offsetting changes in estimates
that increased or decreased their loss and loss expense
reserves in these years. The majority of the 2010
development related to decreases in the liability for
losses and loss expenses of prior years for Atlantic
States and Peninsula. The 2010 development represented
1.6% of the December 31, 2009 net carried reserves and
resulted primarily from lower-than-expected severity in
the private passenger automobile liability and homeowners
lines of business in accident years prior to 2009. The 2009 development
represented 6.0% of the December 31, 2008 net carried
reserves and resulted primarily from higher-than-expected
severity in the private passenger automobile liability,
homeowners and workers compensation lines of business in
accident year 2008. The 2008 development represented 1.2%
of the December 31, 2007 net carried reserves and
resulted primarily from higher-than-expected severity in
the private passenger automobile liability line of
business in accident year 2007.
10 Borrowings
Line of Credit
In June 2010, we renewed our existing credit agreement
with Manufacturers and Traders Trust Company (M&T)
relating to a $35.0 million unsecured, revolving line of
credit that will expire in June 2013. We may request a
one-year extension of the credit agreement as of each
anniversary date of the agreement. In October 2010, we
requested and received approval of an increase in the
credit amount to $60.0 million. In December 2010, we
borrowed $35.0 million in connection with our acquisition
of Michigan. As of December 31, 2010, we had $35.0 million
in outstanding borrowings and had the ability to borrow
$25.0 million at interest rates equal to M&Ts current
prime rate or the then current LIBOR rate plus between
1.75% and 2.25%, depending on our leverage ratio. We pay a
fee of 0.2% per annum on the loan commitment amount
regardless of usage. The credit agreement requires our
compliance with certain covenants, which include minimum
levels of our net worth, leverage ratio and statutory
surplus and the A.M. Best ratings of our insurance
subsidiaries. We complied with all requirements of the
credit agreement during the year ended December 31, 2010.
Michigan has an agreement with the Federal Home Loan Bank
(FHLB) of Indianapolis. Through its membership, Michigan
has issued debt to the FHLB of Indianapolis in exchange
for cash advances in the amount of $617,371 as of December
31, 2010. The interest rate on the advances is variable
and was .50% at December 31, 2010. The advances are due in
2011. The table below presents the amount of FHLB of
Indianapolis stock purchased, collateral pledged and
assets related to Michigans agreement at December 31,
2010.
FHLB stock purchased and owned
as part of the agreement |
$ | 125,000 | ||
Collateral pledged, at par
(carrying value $3,139,987) |
3,450,000 | |||
Borrowing capacity currently available |
2,962,700 |
Subordinated Debentures
On May 15, 2003, we received $15.0 million in net
proceeds from the issuance of subordinated debentures.
We redeemed these debentures on August 15, 2008.
On October 29, 2003, we received $10.0 million in net
proceeds from the issuance of subordinated debentures. The
debentures mature on October 29, 2033 and are callable at
our option, at par. The debentures carry an interest rate
equal to the three-month LIBOR rate plus 4.10%, which is
adjustable quarterly. At December 31, 2010, the interest
rate on these debentures was 4.14% and was next subject to
adjustment on January 29, 2011. As of December 31, 2010
and 2009, our consolidated balance sheets included an
33
investment in a statutory trust of $310,000 and subordinated debentures of
$10.3 million related to this transaction.
On May 24, 2004, we received $5.0 million in net proceeds
from the issuance of subordinated debentures. The
debentures mature on May 24, 2034 and are callable at our
option, at par. The debentures carry an interest rate
equal to the three-month LIBOR rate plus 3.85%, which is
adjustable quarterly. At December 31, 2010, the interest
rate on these debentures was 4.13% and was next subject to
adjustment on February 24, 2011. As of December 31, 2010
and 2009, our consolidated balance sheets included an
investment in a statutory trust of $155,000 and
subordinated debentures of $5.2 million related to this
transaction.
In January 2002, West Bend purchased a surplus note from Michigan for
$5.0 million to increase Michigans statutory surplus. On
December 1, 2010, Donegal Mutual purchased the surplus
note from West Bend at face value. The surplus note
carries an interest rate of 5.00%, and any repayment of
principal requires prior insurance regulatory approval.
11 Reinsurance
Unaffiliated Reinsurers
Our insurance subsidiaries and Donegal Mutual purchase
certain third-party reinsurance on a combined basis. Le
Mars, Michigan, Peninsula and Sheboygan also have separate
third-party reinsurance programs that provide certain
coverage that is commensurate with their relative size and
exposures. Our insurance subsidiaries use several
different reinsurers, all of which, consistent with the
requirements of our insurance subsidiaries and Donegal
Mutual, have an A.M. Best rating of A- (Excellent) or
better or, with respect to foreign reinsurers, have a
financial condition that, in the opinion of our
management, is equivalent to
a company with at least an A- rating from A.M. Best. The
external reinsurance our insurance subsidiaries and
Donegal Mutual purchase includes excess of loss
reinsurance, under which their losses are automatically
reinsured, through a series of contracts, over a set
retention (generally $750,000), and catastrophic
reinsurance, under which they recover, through a series
of contracts, 100% of an accumulation of many losses
resulting from a single event, including natural
disasters, over a set retention (generally $3.0 million).
Our insurance subsidiaries principal third party
reinsurance agreement in 2010 was a multi-line per risk
excess of loss treaty that provided 100% coverage up to
$1.0 million for both property and liability losses over
the set retention. For property insurance, our insurance
subsidiaries also had excess of loss treaties that
provided for additional coverage over the multi-line
treaty up to $2.5 million per loss. For liability
insurance, our insurance subsidiaries had excess of loss
treaties that provided for additional coverage over the
multi-line treaty up to $40.0 million per occurrence. For
workers compensation insurance, our insurance
subsidiaries had excess of loss treaties that provided for
additional coverage over the multi-line treaty up to $10.0
million on any one life. Our insurance subsidiaries and
Donegal Mutual had property catastrophe coverage through a
series of layered treaties up to aggregate losses of
$100.0 million for any single event. As many as ten
reinsurers provided coverage on any one treaty with no
reinsurer taking more than 27.0% of any one treaty. The
amount of coverage provided under each of these types of
reinsurance depends upon the amount, nature, size and
location of the risks being reinsured. Donegal Mutual and
our insurance subsidiaries also purchased facultative
reinsurance to cover exposures from losses that exceeded
the limits provided by our respective treaty reinsurance.
Through December 1, 2010, Michigan and West Bend were
parties to quota-share reinsurance agreements whereby
Michigan ceded 75% (80% prior to 2008) of its business to
West Bend. Michigan and West Bend agreed to terminate the
reinsurance agreement in effect as of November 30, 2010
on a run-off basis. West Bends obligations related to
all past reinsurance agreements with Michigan remain in
effect for all policies effective prior to December 1,
2010 as we discuss in Note 4Business Combinations.
The following amounts represent ceded reinsurance
transactions with unaffiliated reinsurers during
2010, 2009 and 2008.
2010 | 2009 | 2008 | ||||||||||
Premiums written |
$ | 24,357,938 | $ | 19,758,224 | $ | 19,458,572 | ||||||
Premiums earned |
$ | 26,551,687 | $ | 19,870,265 | $ | 19,348,674 | ||||||
Losses and loss expenses |
$ | 19,764,441 | $ | 6,796,388 | $ | 11,129,036 | ||||||
Prepaid reinsurance premiums |
$ | 26,991,912 | $ | 1,985,821 | $ | 2,097,870 | ||||||
Liability for losses and
loss expenses |
$ | 92,945,915 | $ | 22,692,993 | $ | 27,258,815 |
Total Reinsurance
The following amounts represent our total ceded
reinsurance transactions with both affiliated and
unaffiliated reinsurers during 2010, 2009 and 2008:
2010 | 2009 | 2008 | ||||||||||
Premiums earned |
$ | 144,554,336 | $ | 127,203,132 | $ | 119,073,801 | ||||||
Losses and loss expenses |
$ | 111,080,953 | $ | 87,129,668 | $ | 74,112,920 | ||||||
Prepaid reinsurance premiums |
$ | 89,365,771 | $ | 56,040,728 | $ | 51,436,487 | ||||||
Liability for losses and
loss expenses |
$ | 165,442,373 | $ | 83,336,726 | $ | 78,502,518 |
The following amounts represent the effect of
reinsurance on premiums written for 2010, 2009 and
2008:
2010 | 2009 | 2008 | ||||||||||
Direct |
$ | 279,627,255 | $ | 250,989,795 | $ | 241,371,353 | ||||||
Assumed |
262,574,572 | 244,046,312 | 246,755,110 | |||||||||
Ceded |
(150,679,539 | ) | (131,807,381 | ) | (123,185,408 | ) | ||||||
Net premiums written |
$ | 391,522,288 | $ | 363,228,726 | $ | 364,941,055 | ||||||
The following amounts represent the effect of
reinsurance on premiums earned for 2010, 2009 and
2008:
2010 | 2009 | 2008 | ||||||||||
Direct |
$ | 269,394,549 | $ | 246,074,766 | $ | 235,212,229 | ||||||
Assumed |
253,189,916 | 236,153,843 | 230,436,838 | |||||||||
Ceded |
(144,554,336 | ) | (127,203,132 | ) | (119,073,801 | ) | ||||||
Net premiums earned |
$ | 378,030,129 | $ | 355,025,477 | $ | 346,575,266 | ||||||
12 Income Taxes
Our provision for income tax consists of the following:
2010 | 2009 | 2008 | ||||||||||
Current |
$ | 757,400 | $ | 3,096,798 | $ | 7,382,694 | ||||||
Deferred |
(2,380,430 | ) | (1,250,187 | ) | (832,628 | ) | ||||||
Federal tax (benefit) provision |
$ | (1,623,030 | ) | $ | 1,846,611 | $ | 6,550,066 | |||||
Our effective tax rate is different from the amount
computed at the statutory federal rate of 35% for 2010, 2009 and 2008.
The reasons for such difference and the related tax
effects are as follows:
2010 | 2009 | 2008 | ||||||||||
Income before income taxes |
$ | 9,844,149 | $ | 20,676,689 | $ | 32,092,044 | ||||||
Computed expected taxes |
3,445,452 | 7,236,841 | 11,232,215 | |||||||||
Tax-exempt interest |
(6,183,795 | ) | (6,237,961 | ) | (5,668,566 | ) | ||||||
Dividends received deduction |
(996 | ) | (17,574 | ) | (62,470 | ) | ||||||
Other, net |
1,116,309 | 865,305 | 1,048,887 | |||||||||
Federal income tax (benefit)
provision |
$ | (1,623,030 | ) | $ | 1,846,611 | $ | 6,550,066 | |||||
34
The tax effects of temporary differences that give
rise to significant portions of the deferred tax assets
and deferred tax liabilities at December 31, 2010 and
2009 are as follows:
2010 | 2009 | |||||||
Deferred tax assets: |
||||||||
Unearned premium |
$ | 14,826,320 | $ | 13,043,976 | ||||
Loss reserves |
6,954,685 | 5,715,157 | ||||||
Net operating loss carryforward - acquired companies |
2,497,122 | 2,497,122 | ||||||
Other |
5,518,681 | 4,000,325 | ||||||
Total gross deferred assets |
29,796,808 | 25,256,580 | ||||||
Less valuation allowance |
(746,368 | ) | (746,368 | ) | ||||
Net deferred tax assets |
29,050,440 | 24,510,212 | ||||||
Deferred tax liabilities: |
||||||||
Deferred policy acquisition costs |
13,204,370 | 11,505,045 | ||||||
Net unrealized gains |
3,649,494 | 7,120,393 | ||||||
Other |
208,407 | 797,825 | ||||||
Total gross deferred tax liabilities |
17,062,271 | 19,423,263 | ||||||
Net deferred tax asset |
$ | 11,988,169 | $ | 5,086,949 | ||||
We provide a valuation allowance when we believe it is
more likely than not that we will not realize some portion
of the tax asset. We established a valuation allowance of
$746,368 related to a portion of the net operating loss
carryforward of Le Mars at January 1, 2004. We have
determined that we are not required to establish a
valuation allowance for the other net deferred tax assets
of $29.1 million and $24.5 million at December 31, 2010
and 2009, respectively, since it is more likely than not
that we will realize these deferred tax assets through
reversals of existing temporary
differences, future taxable income, carrybacks to taxable
income in prior years and the implementation of
tax-planning strategies.
At December 31, 2010, we have a net operating loss
carryforward of $7.1 million, which is available to offset
our taxable income. This amount will begin to expire in
2011 if not utilized and is subject to an annual
limitation in the amount that we can use in any one year
of approximately $376,000. We also have an alternative
minimum tax credit carryforward of $4.0 million with an
indefinite life.
13 Stockholders Equity
On April 19, 2001, our stockholders approved an amendment
to our certificate of incorporation. Among other things,
the amendment reclassified our common stock as Class B
common stock and effected a one-for-three reverse split of
our Class B common stock effective April 19, 2001. The
amendment also authorized a new class of common stock with
one-tenth of a vote per share designated as Class A common
stock. Our board of directors also declared a dividend of
two shares of Class A common stock for each share of Class
B common stock, after the one-for-three reverse split,
held of record at the close of business April 19, 2001.
Each share of Class A common stock outstanding at the
time of the declaration of any dividend or other
distribution payable in cash upon the shares of Class B
common stock is entitled to a dividend or distribution
payable at the same time and to stockholders of record on
the same date in an amount at least 10% greater than any
dividend declared upon each share of Class B common
stock. In the event of our merger or consolidation with
or into another entity, the holders of Class A common
stock and the holders of Class B common stock are
entitled to receive the same per share consideration in
such merger or consolidation. In the event of our
liquidation, dissolution or winding-up, any assets
available to common stockholders will be distributed
pro-rata to the holders of Class A common stock and Class
B common stock after payment of all of our obligations.
In February 2009, our board of directors authorized a
share repurchase program, pursuant to which we may
purchase up to 300,000 shares of our Class A common stock
at market prices prevailing from time to time in the open
market subject to the provisions of Securities and
Exchange Commission Rule 10b-18 and in privately
negotiated transactions. We purchased 9,702 and 7,669
shares of our Class A common stock under this program
during 2010 and 2009, respectively. As of December 31,
2010, we had the authority to purchase 282,629 shares
under this program.
As of December 31, 2010, our treasury stock
consisted of 662,301 and 72,465 shares of Class A common
stock and Class B common stock, respectively. As of
December 31, 2009, our treasury stock consisted of
652,599 and 72,465 shares of Class A common stock and
Class B common stock, respectively.
14 Stock Compensation Plans
Equity Incentive Plans
During 1996, we adopted an Equity Incentive Plan for
Employees. During 2001, we adopted a nearly identical plan
that made a total of 2,666,667 shares of Class A common
stock available for issuance to employees of our
subsidiaries and affiliates. During 2005, we amended the
plan to make a total of 4,000,000 shares of Class A common
stock available for issuance. During 2007, we adopted a
nearly identical plan that made a total of 3,500,000
shares of Class A common stock available for issuance to
employees of our subidiaries and affiliates. Each plan
provides for the granting of awards by our board of
directors in the form of stock options, stock appreciation
rights, restricted stock or any combination of the above.
The plans provide that stock options may become
exercisable up to ten years from date of grant, with an
option price not less than fair market value on date of
grant. We have not granted any stock appreciation rights.
During 1996, we adopted an Equity Incentive Plan for
Directors. During 2001, we adopted a nearly identical plan
that made 355,556 shares of Class A common stock available
for issuance to our directors and those of our
subsidiaries and affiliates. During 2007, we adopted a
nearly identical plan that made 400,000 shares of Class A
common stock available for issuance to our directors and
the directors of our subsidiaries and affiliates. We may
make awards in the form of stock options. The plan also
provides for the issuance of 311 shares of restricted
stock to each director on the first business day of
January in each year. As of December 31, 2010, we had
394,500 unexercised options under these plans. In
addition, we issued 5,598, 4,665 and 4,665 shares of
restricted stock on January 2, 2010, 2009 and 2008,
respectively.
We measure all share-based payments to employees,
including grants of employee stock options, using a
fair-value-based method and record such expense in our
results of operations. In determining the expense we
record for stock options granted to directors and
employees of our subsidiaries and affiliates other than
Donegal Mutual, we estimate the fair value of each option
award on the date of grant using the Black-Scholes option
pricing model. The significant assumptions we utilize in
applying the Black-Scholes option pricing model are the
risk-free interest rate, expected term, dividend yield
and expected volatility. The risk-free interest rate is the implied
yield currently available on U.S. Treasury zero coupon
issues with a remaining term equal to the expected term
used as the assumption in the model. We base the expected
term of an option award on our historical experience of
similar awards. We determine the dividend yield by
dividing the per share dividend by the grant date stock
price. We base the expected volatility on the volatility
of our stock price over a historical period comparable to
the expected term.
The weighted-average grant date fair value of options
granted during 2010 was $1.26. We calculated this fair
value based upon a risk-free interest rate
35
of 1.04%, expected life of 3 years, expected
volatility of 29% and expected dividend yield of 4%.
The weighted-average grant date fair value of options
granted during 2009 was $1.63. We calculated this
fair value based upon a risk-free interest rate of
1.50%, expected life of 3 years, expected volatility
of 24% and expected dividend yield of 3%.
The weighted-average grant date fair value of options
granted during 2008 was $2.06. We calculated this
fair value based upon a risk-free interest rate of
2%, expected life of 3 years, expected volatility of
21% and expected dividend yield of 2%.
We charged compensation expense for our stock
compensation plans against income before income taxes
of $46,733, $232,872 and $205,288 for the years ended
December 31, 2010, 2009 and 2008, respectively, with a
corresponding income tax benefit of $15,889, $79,176
and $71,851. As of December 31, 2010 and 2009, our
total unrecognized compensation cost related to
nonvested share-based compensation granted under the
plan was $255,105 and $91,026, respectively. We expect
to recognize this cost over a weighted average period
of 1.8 years.
We account for share-based compensation to employees
and directors of Donegal Mutual as share-based
compensation to employees of a controlling entity. As
such, we measure the fair value of the award at the
grant date and recognize the fair value as a dividend
to the controlling entity. These provisions apply to
options granted to the employees and directors of
Donegal Mutual, the employer of record for the
employees that provide services to us. We recorded
implied dividends of $1,309,734, $62,991 and
$1,749,063 for the years ended December 31, 2010, 2009
and 2008, respectively.
We did not receive any cash from option exercises in
2010 or 2009. Cash received from option exercises
under all stock compensation plans for the year
ended December 31, 2008 was $2,358,916. The actual
tax benefit realized for the tax deductions from
option exercises of share-based compensation was
$683,881 for the year ended December 31, 2008.
All
options issued prior to 2001 converted to options on
Class A and Class B common stock as a result of our
recapitalization. No further shares are available
for plans in effect prior to 2007.
Information regarding activity in our stock option plans follows:
Weighted-Average | ||||||||
Number of | Exercise Price | |||||||
Options | Per Share | |||||||
Outstanding at December 31, 2007 |
2,384,722 | $ | 17.36 | |||||
Granted 2008 |
1,368,500 | 17.52 | ||||||
Exercised 2008 |
(247,955 | ) | 9.51 | |||||
Forfeited 2008 |
(82,835 | ) | 17.80 | |||||
Outstanding at December 31, 2008 |
3,422,432 | 17.98 | ||||||
Granted 2009 |
5,000 | 17.50 | ||||||
Forfeited 2009 |
(137,333 | ) | 17.97 | |||||
Outstanding at December 31, 2009 |
3,290,099 | 17.98 | ||||||
Granted 2010 |
1,787,500 | 14.00 | ||||||
Forfeited 2010 |
(15,500 | ) | 15.69 | |||||
Expired 2010 |
(1,063,432 | ) | 15.76 | |||||
Outstanding at December 31, 2010 |
3,998,667 | $ | 16.80 | |||||
Exercisable at: |
||||||||
December 31, 2008 |
1,767,810 | $ | 17.74 | |||||
December 31, 2009 |
2,451,556 | $ | 18.13 | |||||
December 31, 2010 |
1,805,751 | $ | 19.40 |
Shares available for future option grants at December
31, 2010 total 845,072 shares under all plans.
The following table summarizes information about
fixed stock options at December 31, 2010:
Number of | Weighted-Average | Number of | ||||||||||
Exercise | Options | Remaining | Options | |||||||||
Price | Outstanding | Contractual Life | Exercisable | |||||||||
$ | 14.00 | 1,779,500 | 5.0 years |
| ||||||||
17.50 | 1,237,000 | 2.5 years |
824,584 | |||||||||
18.70 | 3,000 | 2.5 years |
2,000 | |||||||||
21.00 | 958,667 | 1.0 years |
958,667 | |||||||||
21.00 | 20,500 | 2.0 years |
20,500 | |||||||||
Total | 3,998,667 | 1,805,751 | ||||||||||
Employee Stock Purchase Plans
During 1996, we adopted an Employee Stock Purchase
Plan. During 2001, we adopted a nearly identical
plan that made 533,333 shares of Class A common
stock available for issuance.
The 2001 plan extends over a 10-year period and
provides for shares to be offered to all eligible
employees at a purchase price equal to the lesser of
85% of the fair market value of our
Class A common stock on the last day before the first
day of each enrollment period (June 1 and December 1
of each year) under the plan or 85% of the fair market
value of our common stock on the last day of each
subscription period (June 30 and December 31 of each
year). A summary of plan activity follows:
Shares Issued | ||||||||
Price | Shares | |||||||
January 1, 2008 |
$ | 12.98 | 14,593 | |||||
July 1, 2008 |
13.49 | 11,498 | ||||||
January 1, 2009 |
14.25 | 10,770 | ||||||
July 1, 2009 |
12.93 | 11,304 | ||||||
January 1, 2010 |
12.85 | 11,717 | ||||||
July 1, 2010 |
10.45 | 12,403 |
On January 1, 2011, we issued an additional 13,243 shares at a price of
$11.02 per share under this plan.
Agency Stock Purchase Plans
During 1996, we adopted an Agency Stock Purchase Plan.
During 2001, we adopted a nearly identical plan that
made 533,333 shares of Class A common stock available
for issuance. The plan provides for agents of our
insurance subsidiaries and Donegal Mutual to invest up
to $12,000 per subscription period (April 1 to
September 30 and October 1 to March 31 of each year)
under various methods. We issue stock at the end of
each subscription period at a price equal to 90% of the
average market price during the last ten trading days
of each subscription period. During 2010, 2009 and
2008, we issued 56,879, 48,427 and 48,054 shares,
respectively, under this plan. Expense recognized under
the plan was not material.
36
15 Statutory Net Income, Capital
and Surplus and Dividend
Restrictions
The following is selected information, as filed with
insurance regulatory authorities, for our insurance
subsidiaries as determined in accordance with
accounting practices prescribed or permitted by such
insurance regulatory authorities:
2010 | 2009 | 2008 | ||||||||||
Atlantic States |
||||||||||||
Statutory capital
and surplus |
$ | 191,775,057 | $ | 189,679,919 | $ | 182,403,593 | ||||||
Statutory unassigned
surplus |
$ | 131,817,978 | $ | 133,732,099 | $ | 128,742,729 | ||||||
Statutory net income |
$ | 11,002,447 | $ | 12,445,231 | $ | 18,412,955 | ||||||
Southern |
||||||||||||
Statutory capital
and surplus |
$ | 63,609,630 | $ | 64,519,825 | $ | 64,272,437 | ||||||
Statutory unassigned
surplus |
$ | 12,612,044 | $ | 15,402,239 | $ | 15,154,851 | ||||||
Statutory net (loss) income |
$ | (2,083,206 | ) | $ | (1,017,998 | ) | $ | 1,608,947 | ||||
Le Mars |
||||||||||||
Statutory capital
and surplus |
$ | 25,539,580 | $ | 28,288,730 | $ | 27,914,815 | ||||||
Statutory unassigned
surplus |
$ | 12,485,531 | $ | 15,277,563 | $ | 15,322,075 | ||||||
Statutory net (loss) income |
$ | (3,166,242 | ) | $ | 716,138 | $ | 1,886,785 | |||||
Peninsula |
||||||||||||
Statutory capital
and surplus |
$ | 41,932,367 | $ | 38,986,329 | $ | 39,137,131 | ||||||
Statutory unassigned
surplus |
$ | 23,580,784 | $ | 20,832,470 | $ | 21,337,717 | ||||||
Statutory net income |
$ | 2,336,947 | $ | 1,023,349 | $ | 4,082,064 | ||||||
Sheboygan |
||||||||||||
Statutory capital
and surplus |
$ | 11,671,405 | $ | 11,857,971 | $ | 11,176,704 | ||||||
Statutory unassigned
(deficit) surplus |
$ | (479,140 | ) | $ | (243,626 | ) | $ | (855,467 | ) | |||
Statutory net (loss) income |
$ | (286,613 | ) | $ | 588,098 | $ | (1,110,861 | ) | ||||
Michigan |
||||||||||||
Statutory capital
and surplus |
$ | 37,343,663 | $ | 33,942,137 | $ | 29,801,758 | ||||||
Statutory unassigned
surplus |
$ | 10,240,870 | $ | 6,689,663 | $ | 4,047,086 | ||||||
Statutory net income |
$ | 3,026,178 | $ | 2,589,784 | $ | 4,502 |
Our principal source of cash for payment of
dividends are dividends from our insurance
subsidiaries. State insurance laws require our
insurance subsidiaries to maintain certain minimum
capital and surplus on a statutory basis. Our insurance
subsidiaries are subject to regulations that restrict
payment of dividends from statutory surplus and may
require prior approval of their domiciliary insurance
regulatory authorities. Our
insurance subsidiaries are also subject to risk based
capital (RBC) requirements that may further impact
their ability to pay dividends. At December 31, 2010,
our insurance subsidiaries had statutory capital and
surplus substantially above the RBC requirements.
Amounts available for distribution to us as dividends
from our insurance subsidiaries without prior approval
of insurance regulatory authorities in 2011 are
$19,177,506 from Atlantic States, $0 from Southern,
$2,553,958 from Le Mars, $4,193,237 from Peninsula, $0
from Sheboygan and $3,734,366 from Michigan.
16 Reconciliation of Statutory Filings to Amounts Reported Herein
Our insurance subsidiaries must file financial
statements with state insurance regulatory authorities
using accounting principles and practices established
by those authorities, which we refer to as statutory
accounting principles (SAP). Accounting principles
used to prepare these statutory financial statements
differ from financial statements prepared on the basis
of generally accepted accounting principles.
Reconciliations of statutory net income and capital and
surplus, as determined using SAP, to the amounts
included in the accompanying financial statements are
as follows:
Year Ended December 31, | ||||||||||||
2010 | 2009 | 2008 | ||||||||||
Statutory net income of
insurance subsidiaries |
$ | 9,163,680 | $ | 13,754,818 | $ | 25,946,589 | ||||||
Increases (decreases): |
||||||||||||
Deferred policy
acquisition costs |
1,601,400 | 3,302,898 | 3,306,209 | |||||||||
Deferred federal
income taxes |
2,380,430 | 1,250,187 | 811,722 | |||||||||
Salvage and subrogation
recoverable |
748,000 | 542,000 | 270,000 | |||||||||
Consolidating eliminations
and adjustments |
(12,776,620 | ) | (13,521,106 | ) | (23,708,578 | ) | ||||||
Parent-only net income |
10,350,289 | 13,501,281 | 18,916,036 | |||||||||
Net income as
reported herein |
$ | 11,467,179 | $ | 18,830,078 | $ | 25,541,978 | ||||||
Year Ended December 31, | ||||||||||||
2010 | 2009 | 2008 | ||||||||||
Statutory capital and surplus
of insurance subsidiaries |
$ | 371,871,702 | $ | 333,332,774 | $ | 324,904,680 | ||||||
Increases (decreases): |
||||||||||||
Deferred policy
acquisition costs |
34,445,579 | 32,844,179 | 29,541,281 | |||||||||
Deferred federal
income taxes |
(14,834,855 | ) | (15,676,995 | ) | (5,914,123 | ) | ||||||
Salvage and subrogation
recoverable |
9,955,000 | 9,207,000 | 8,665,000 | |||||||||
Non-admitted assets and
other adjustments, net |
4,889,231 | 2,913,878 | 2,795,785 | |||||||||
Fixed maturities |
4,430,879 | 13,135,848 | (3,419,625 | ) | ||||||||
Parent-only equity and
other adjustments |
(30,654,726 | ) | 9,749,015 | 7,010,867 | ||||||||
Stockholders equity as
reported herein |
$ | 380,102,810 | $ | 385,505,699 | $ | 363,583,865 | ||||||
17 Supplementary Cash Flow Information
The following reflects income taxes and interest paid
during 2010, 2009 and 2008:
2010 | 2009 | 2008 | ||||||||||
Income taxes |
$ | 1,100,000 | $ | 1,307,418 | $ | 9,325,000 | ||||||
Interest |
$ | 705,210 | $ | 1,828,278 | $ | 2,040,017 |
During 2009, we paid interest and penalties in
the amount of $974,204 related to a premium tax
litigation settlement. We recorded this amount as
interest expense in accordance with our accounting
policy.
37
18 Earnings Per Share
We have two classes of common stock, which we refer to
as Class A common stock and Class B common stock. Our
Class A common stock is entitled to cash dividends that
are at least 10% higher than the cash dividends
declared and paid on our Class B common stock.
Accordingly, we use the two-class method for the
computation of earnings per common share. The two-class
method is an earnings allocation formula that
determines earnings per share separately for each class
of common stock based on dividends declared and an
allocation of remaining undistributed earnings using a
participation percentage reflecting the dividend rights
of each class.
We present below a reconciliation of the numerators and denominators we used in the basic and
diluted per share computations for our Class A common stock:
(dollars in thousands, except per share data) | ||||||||||||
Year Ended December 31, | 2010 | 2009 | 2008 | |||||||||
Basic earnings per share: |
||||||||||||
Numerator: |
||||||||||||
Allocation of net income |
$ | 9,183 | $ | 15,049 | $ | 20,404 | ||||||
Denominator: |
||||||||||||
Weighted-average
shares outstanding |
19,961,274 | 19,903,069 | 19,866,099 | |||||||||
Basic earnings per share |
$ | 0.46 | $ | 0.76 | $ | 1.03 | ||||||
Diluted earnings per share: |
||||||||||||
Numerator: |
||||||||||||
Allocation of net income |
$ | 9,183 | $ | 15,049 | $ | 20,404 | ||||||
Denominator: |
||||||||||||
Number of shares used in
basic computation |
19,961,274 | 19,903,069 | 19,866,099 | |||||||||
Weighted-average effect of
dilutive securities |
||||||||||||
Add: Director and
employee stock options |
17,794 | | 89,419 | |||||||||
Number of shares used in
per share computations |
19,979,068 | 19,903,069 | 19,955,518 | |||||||||
Diluted earnings per share |
$ | .46 | $ | .76 | $ | 1.02 | ||||||
We used the following information in the basic
and diluted per share computations for our Class
B common stock:
(dollars in thousands, except per share data) | ||||||||||||
Year Ended December 31, | 2010 | 2009 | 2008 | |||||||||
Basic and diluted
earnings per share: |
||||||||||||
Numerator: |
||||||||||||
Allocation of net income |
$ | 2,284 | $ | 3,781 | $ | 5,138 | ||||||
Denominator: |
||||||||||||
Weighted-average
shares outstanding |
5,576,775 | 5,576,775 | 5,576,775 | |||||||||
Basic and diluted
earnings per share |
$ | 0.41 | $ | 0.68 | $ | 0.92 |
During 2010, 2009 and 2008, we did not include certain
options to purchase shares of common stock in the
computation of diluted earnings per share because the
exercise price of the options was greater than the
average market price. The following reflects such
options that remained outstanding at
December 31, 2010, 2009 and 2008:
2010 | 2009 | 2008 | ||||||||||
Options excluded from diluted
earnings per share |
2,219,167 | 3,290,099 | 1,018,167 |
19 Condensed Financial Information of Parent Company
Condensed Balance Sheets
(in thousands)
(in thousands)
December 31, | 2010 | 2009 | ||||||
Assets |
||||||||
Investment in subsidiaries/affiliates
(equity method) |
$ | 422,144 | $ | 385,445 | ||||
Short-term investments |
15,695 | 15,445 | ||||||
Cash |
841 | 1,105 | ||||||
Property and equipment |
1,309 | 1,262 | ||||||
Other |
1,078 | 875 | ||||||
Total assets |
$ | 441,067 | $ | 404,132 | ||||
Liabilities and Stockholders Equity |
||||||||
Liabilities |
||||||||
Cash dividends declared to stockholders |
$ | 2,871 | $ | 2,798 | ||||
Borrowings under line of credit |
35,000 | | ||||||
Subordinated debentures |
15,465 | 15,465 | ||||||
Payable for the purchase of Michigan |
7,207 | | ||||||
Other |
421 | 364 | ||||||
Total liabilities |
60,964 | 18,627 | ||||||
Stockholders equity |
380,103 | 385,505 | ||||||
Total liabilities and stockholders equity |
$ | 441,067 | $ | 404,132 | ||||
Condensed Statements of Income and Comprehensive Income
(in thousands)
(in thousands)
Year Ended December 31, | 2010 | 2009 | 2008 | |||||||||
Statements of Income |
||||||||||||
Revenues |
||||||||||||
Dividends from subsidiaries |
$ | 12,000 | $ | 14,000 | $ | 20,000 | ||||||
Other |
969 | 1,005 | 1,785 | |||||||||
Total revenues |
12,969 | 15,005 | 21,785 | |||||||||
Expenses |
||||||||||||
Operating expenses |
2,328 | 1,019 | 1,558 | |||||||||
Interest |
778 | 773 | 1,822 | |||||||||
Total expenses |
3,106 | 1,792 | 3,380 | |||||||||
Income before income tax benefit and equity
in undistributed net
income of subsidiaries |
9,863 | 13,213 | 18,405 | |||||||||
Income tax benefit |
(487 | ) | (288 | ) | (511 | ) | ||||||
Income before equity in undistributed
net income of subsidiaries |
10,350 | 13,501 | 18,916 | |||||||||
Equity in undistributed
net income of subsidiaries |
1,117 | 5,329 | 6,626 | |||||||||
Net income |
$ | 11,467 | $ | 18,830 | $ | 25,542 | ||||||
Statements of Comprehensive Income |
||||||||||||
Net income |
$ | 11,467 | $ | 18,830 | $ | 25,542 | ||||||
Other comprehensive (loss) income,
net of tax |
||||||||||||
Unrealized (loss) gain parent |
| | (60 | ) | ||||||||
Unrealized (loss) gain subsidiaries |
(6,446 | ) | 13,293 | (5,201 | ) | |||||||
Other comprehensive (loss) income,
net of tax |
(6,446 | ) | 13,293 | (5,261 | ) | |||||||
Comprehensive income |
$ | 5,021 | $ | 32,123 | $ | 20,281 | ||||||
38
Condensed Statements of Cash Flows
(in thousands)
(in thousands)
Year Ended December 31, | 2010 | 2009 | 2008 | |||||||||
Cash flows from operating activities: |
||||||||||||
Net income |
$ | 11,467 | $ | 18,830 | $ | 25,542 | ||||||
Adjustments: |
||||||||||||
Equity in undistributed net
income of subsidiaries |
(1,117 | ) | (5,329 | ) | (6,626 | |||||||
Other |
547 | (669 | ) | 924 | ||||||||
Net adjustments |
(570 | ) | (5,998 | ) | (5,702 | ) | ||||||
Net cash provided |
10,897 | 12,832 | 19,840 | |||||||||
Cash flows from investing activities: |
||||||||||||
Net sale of fixed maturities |
| | 5,214 | |||||||||
Net (purchase) sale of short-term
investments |
(249 | ) | (2,609 | ) | 11,367 | |||||||
Net purchase of property and
equipment |
(492 | ) | (644 | ) | (408 | ) | ||||||
Investment in subsidiaries |
(35,088 | ) | (100 | ) | (11,568 | ) | ||||||
Other |
20 | 19 | 110 | |||||||||
Net cash (used) provided |
(35,809 | ) | (3,334 | ) | 4,715 | |||||||
Cash flows from financing activities: |
||||||||||||
Cash dividends paid |
(11,405 | ) | (10,998 | ) | (10,026 | ) | ||||||
Issuance of common stock |
1,199 | 1,386 | 3,857 | |||||||||
Tax benefit on exercise of stock options |
| | 684 | |||||||||
Redemption of subordinated debentures |
| | (15,464 | ) | ||||||||
Borrowings under line of credit |
35,000 | | | |||||||||
Repurchase of treasury stock |
(146 | ) | (393 | ) | (3,511 | ) | ||||||
Net cash provided (used) |
24,648 | (10,005 | ) | (24,460 | ) | |||||||
Net change in cash |
(264 | ) | (507 | ) | 95 | |||||||
Cash at beginning of year |
1,105 | 1,612 | 1,517 | |||||||||
Cash at end of year |
$ | 841 | $ | 1,105 | $ | 1,612 | ||||||
20 Segment Information
We have three reportable segments, which consist of
our investment function, our personal lines of
insurance and our commercial lines of insurance.
Using independent agents, our insurance subsidiaries
market personal lines of insurance to individuals and
commercial lines of insurance to small and
medium-sized businesses.
We evaluate the performance of the personal lines
and commercial lines primarily based upon our
insurance subsidiaries underwriting results as
determined under SAP for our total business.
We do not allocate assets to the personal and
commercial lines and review them in total for purposes
of decision-making. We operate only in the United
States and no single customer or agent provides 10
percent or more of our revenues.
Financial data by segment is as follows:
2010 | 2009 | 2008 | ||||||||||
(in thousands) | ||||||||||||
Revenues: |
||||||||||||
Premiums earned: |
||||||||||||
Commercial lines |
$ | 117,755 | $ | 113,233 | $ | 121,567 | ||||||
Personal lines |
260,900 | 242,313 | 225,143 | |||||||||
SAP premiums earned |
378,655 | 355,546 | 346,710 | |||||||||
GAAP adjustments |
(625 | ) | (521 | ) | (135 | ) | ||||||
GAAP premiums earned |
378,030 | 355,025 | 346,575 | |||||||||
Net investment income |
19,950 | 20,631 | 22,756 | |||||||||
Realized investment gains (losses) |
4,396 | 4,480 | (2,971 | ) | ||||||||
Other |
6,442 | 6,597 | 6,064 | |||||||||
Total revenues |
$ | 408,818 | $ | 386,733 | $ | 372,424 | ||||||
2010 | 2009 | 2008 | ||||||||||
(in thousands) | ||||||||||||
Income before income taxes: |
||||||||||||
Underwriting (loss) income: |
||||||||||||
Commercial lines |
$ | 2,252 | $ | 5,805 | $ | 13,819 | ||||||
Personal lines |
(22,526 | ) | (17,235 | ) | (7,609 | ) | ||||||
SAP underwriting (loss) income |
(20,274 | ) | (11,430 | ) | 6,210 | |||||||
GAAP adjustments |
2,458 | 3,636 | 3,530 | |||||||||
GAAP underwriting (loss) income |
(17,816 | ) | (7,794 | ) | 9,740 | |||||||
Net investment income |
19,950 | 20,631 | 22,756 | |||||||||
Realized investment gains (losses) |
4,396 | 4,480 | (2,971 | ) | ||||||||
Other |
3,314 | 3,360 | 2,567 | |||||||||
Income before income taxes |
$ | 9,844 | $ | 20,677 | $ | 32,092 | ||||||
21 Guaranty Fund and Other Insurance-Related Assessments
Our insurance subsidiaries liabilities for guaranty
fund and other insurance-related assessments were
$2,129,722 and $2,663,049 at December 31, 2010 and
2009, respectively. These liabilities included
$440,553 and $517,610 related to surcharges collected
by our insurance subsidiaries on behalf of regulatory
authorities for 2010 and 2009, respectively.
22 Interim Financial Data (unaudited)
2010 | ||||||||||||||||
First | Second | Third | Fourth | |||||||||||||
Quarter | Quarter | Quarter | Quarter | |||||||||||||
Net premiums
earned |
$ | 91,372,096 | $ | 93,002,409 | $ | 94,948,843 | $ | 98,706,781 | ||||||||
Total revenues |
97,914,750 | 101,525,354 | 103,750,318 | 105,715,668 | ||||||||||||
Net losses and loss
expenses |
67,981,486 | 68,509,616 | 67,401,697 | 70,416,059 | ||||||||||||
Net income |
234,758 | 1,739,728 | 4,909,879 | 4,582,814 | ||||||||||||
Net earnings per
common share: |
||||||||||||||||
Class A common
stock basic
and diluted |
0.01 | 0.07 | 0.20 | 0.18 | ||||||||||||
Class B common
stock basic
and diluted |
0.01 | 0.06 | 0.18 | 0.16 | ||||||||||||
2009 | ||||||||||||||||
First | Second | Third | Fourth | |||||||||||||
Quarter | Quarter | Quarter | Quarter | |||||||||||||
Net premiums
earned |
$ | 88,349,543 | $ | 87,540,345 | $ | 87,997,723 | $ | 91,137,866 | ||||||||
Total revenues |
95,501,614 | 94,823,420 | 94,882,167 | 101,526,206 | ||||||||||||
Net losses and loss
expenses |
65,949,165 | 61,903,131 | 58,609,247 | 64,373,853 | ||||||||||||
Net income |
169,804 | 4,387,624 | 6,744,851 | 7,527,799 | ||||||||||||
Net earnings per
common share: |
||||||||||||||||
Class A common
stock basic
and diluted |
0.01 | 0.18 | 0.27 | 0.30 | ||||||||||||
Class B common
stock basic
and diluted |
0.01 | 0.16 | 0.24 | 0.27 | ||||||||||||
39
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors of Donegal Group Inc.
We have audited the accompanying consolidated balance sheets of Donegal Group Inc. and subsidiaries
(the Company) as of December 31, 2010 and 2009, and the related consolidated statements of income
and comprehensive income, stockholders equity, and cash flows for each of the years in the
three-year period ended December 31, 2010. These consolidated financial statements are the
responsibility of the Companys management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all
material respects, the financial position of Donegal Group Inc. and subsidiaries as of December 31,
2010 and 2009, and the results of their operations and their cash flows for each of the years in
the three-year period ended December 31, 2010, in conformity with U.S. generally accepted
accounting principles.
We also have audited, in accordance with the standards of the Public Company Oversight Board
(United States), Donegal Group Inc.s internal control over financial reporting as of December 31,
2010 based on the criteria established in Internal Control
Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March
14, 2011 expressed an unqualified opinion on the effectiveness of the Companys internal control
over financial reporting.
Philadelphia, Pennsylvania
March 14, 2011
40
Managements Report on Internal Control
Over Financial Reporting
Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over
financial reporting, as that term is defined in Rule 13a-15(f) under the Securities Exchange Act of
1934. Under the supervision and with the participation of our Chief Executive Officer and our Chief
Financial Officer, our management has conducted an evaluation of the effectiveness of our internal
control over financial reporting as of December 31, 2010, based on the framework and criteria
established in Internal Control Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (the COSO Framework).
Based on our evaluation under the COSO Framework, our management has concluded that our internal
control over financial reporting was effective as of December 31, 2010.
Internal control over financial reporting cannot provide absolute assurance of achieving financial
reporting objectives because of its inherent limitations. Internal control over financial reporting
is a process that involves human diligence and compliance and is subject to lapses in judgment and
breakdowns resulting from human failures. Internal control over financial reporting also can be
circumvented by collusion or improper management override. Because of such limitations, there is a
risk that material misstatements may not be prevented or detected on a timely basis by internal
control over financial reporting. However, these inherent limitations are known features of the
financial reporting process. Therefore, it is possible to design into the process safeguards to
reduce, though not eliminate, this risk.
Because of its inherent limitations, a system of internal control over financial reporting may not
prevent or detect all misstatements. Also, projections of any evaluation of effectiveness to future
periods are subject to the risk that controls may become inadequate because of changes in
conditions, or the degree of compliance with the policies or procedures may deteriorate.
Our managements assessment of the effectiveness of our internal control over financial reporting
as of December 31, 2010 included internal controls at all consolidated entities other than Michigan
Insurance Company (Michigan), which we acquired on December 1, 2010. Our management has not
evaluated Michigans internal controls over financial reporting, and our managements conclusion
regarding the effectiveness of internal controls over financial reporting does not extend to
Michigans internal controls.
The effectiveness of our internal control over financial reporting has been audited by KPMG LLP, an
independent registered public accounting firm, as stated in their report which is included herein.
Donald H. Nikolaus | ||||
President and Chief Executive Officer | ||||
Jeffrey D. Miller | ||||
Senior Vice President and Chief Financial Officer | ||||
March 14, 2011
41
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors of Donegal Group Inc.
We have audited Donegal Group Inc.s (the Company) internal control over financial reporting as of
December 31, 2010, based on criteria established in Internal
Control Integrated Framework issued
by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Donegal Group
Inc.s management is responsible for maintaining effective internal control over financial
reporting and for its assessment of the effectiveness of internal control over financial reporting,
included in the accompanying Managements Report on Internal Control Over Financial Reporting. Our
responsibility is to express an opinion on the Companys internal control over financial reporting
based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether effective internal control over financial reporting was
maintained in all material respects. Our audit included obtaining an understanding of internal
control over financial reporting, assessing the risk that a material weakness exists, and testing
and evaluating the design and operating effectiveness of internal control based on the assessed
risk. Our audit also included performing such other procedures as we considered necessary in the
circumstances. We believe that our audit provides a reasonable basis for our opinion.
A companys internal control over financial reporting is a process designed to provide reasonable
assurance regarding the reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted accounting principles. A
companys internal control over financial reporting includes those policies and procedures that (1)
pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the
transactions and dispositions of the assets of the company; (2) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of financial statements in accordance
with generally accepted accounting principles, and that receipts and expenditures of the company
are being made only in accordance with authorizations of management and directors of the company;
and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use, or disposition of the companys assets that could have a material effect on the
financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or
detect misstatements. Also, projections of any evaluation of effectiveness to future periods are
subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
In our opinion, Donegal Group Inc. maintained, in all material respects, effective internal control
over financial reporting as of December 31, 2010, based on
criteria established in Internal Control
Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission.
Donegal Group Inc. acquired Michigan Insurance Company on December 1, 2010 and management excluded
from its assessment of the effectiveness of Donegal Group Inc.s internal control over financial
reporting as of December 31, 2010, Michigan Insurance Companys internal control over financial
reporting associated with total assets of approximately $213.5 million and total revenues of
approximately $2.4 million included in the consolidated financial statements of Donegal Group Inc.
as of and for the year ended December 31, 2010. Our audit of internal control over financial
reporting of Donegal Group Inc. also excluded an evaluation of the internal control over financial
reporting of Michigan Insurance Company as of December 31, 2010.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight
Board (United States), the consolidated balance sheets of Donegal Group Inc. and subsidiaries as of
December 31, 2010 and 2009, and the related consolidated statements of income and comprehensive
income, stockholders equity, and cash flows for each of the years in the three-year period ended
December 31, 2010, and our report dated March 14, 2011 expressed an unqualified opinion on those
consolidated financial statements.
Philadelphia, Pennsylvania
March 14, 2011
42
Comparison of Total Return on Our
Common Stock with Certain Averages
Common Stock with Certain Averages
The following graph provides an indicator of cumulative total stockholder returns on our
common stock compared to the Russell 2000 Index and a peer group of property and casualty insurance
companies selected by Value Line, Inc. The members of the peer group are as follows: 21st Century
Holding Co., Acceptance Insurance Cos. Inc., ACE Ltd., Affirmative Insurance Holdings Inc., Allied
World Assurance Co. Holdings Ltd., Allstate Corp., American Financial Group Inc., American Safety
Insurance Holdings Ltd., AMERISAFE Inc., AmTrust Financial Services Inc., Arch Capital Group Ltd.,
Argo Group International Holdings Ltd., Aspen Insurance Holdings Ltd., AssuranceAmerica Corp.,
Assurant Inc., Baldwin & Lyons Inc. (Cl A), Baldwin & Lyons Inc. (Cl B), Berkshire Hathaway (CI B),
Chubb Corp., Cincinnati Financial Corp., CNA Financial Corp., CNA Surety Corp., CNinsure, Inc., CNO
Financial Group, Inc., Donegal Group Inc. (Cl A), Donegal Group Inc. (Cl B), Eastern Insurance
Holdings Inc., eHealth Inc., EMC Insurance Group Inc., Employers Holdings Inc., Endurance Specialty
Holdings Ltd., Erie Indemnity Co. (Cl A), Fairfax Financial Holdings Ltd., Fidelity National
Financial Inc., First Mercury Financial Corp., Flagstone Reinsurance Holdings Ltd., Fortegra
Financial Corp., Fremont Michigan InsuraCorp Inc., GAINSCO Inc., Global Indemnity PLC, Hallmark
Financial Services Inc., Harleysville Group Inc., HCC Insurance Holdings Inc., Homeowners Choice
Inc., Industrial Alliance Insurance & Financial Services Inc., Infinity Property & Casualty Corp.,
Kingsway Financial Services Inc., Maiden Holdings Ltd., Majestic Capital Ltd., Markel Corp.,
Meadowbrook Insurance Group Inc., Mercer Insurance Group Inc., Mercury General Corp., Montpelier Re
Holdings Ltd., National Interstate Corp., Old Republic International Corp., OneBeacon Insurance
Group Ltd. (Cl A), Penn Millers Holding Corp., Platinum Underwriters Holdings Ltd., PMI Group Inc.,
Progressive Corp., RLI Corp., Safety Insurance Group Inc., SeaBright Insurance Holdings Inc.,
Selective Insurance Group Inc., State Auto Financial Corp., Sun Life Financial Inc., The Hanover
Insurance Group Inc., Tower Group Inc., Travelers Cos. Inc., United Fire & Casualty Co., United
Insurance Holdings Corp., Universal Insurance Holdings Inc., Validus Holdings Ltd., W.R. Berkley
Corp. and XL Group PLC.
Comparison of Five-Year Cumulative Total Return*
Donegal Group Inc. Class A, Donegal Group Inc. Class B, Russell 2000 Index and Value Line Insurance (Property/Casualty)
Assumes $100 invested at the close of trading on December 31, 2005 in Donegal Group Inc. Class A
common stock, Donegal Group Inc. Class B common stock, Russell 2000 Index and Value Line Insurance
(Property/Casualty).
2005 | 2006 | 2007 | 2008 | 2009 | 2010 | |||||||||||||||||||
Donegal Group Inc. Class A |
$ | 100.00 | $ | 114.52 | $ | 102.53 | $ | 102.59 | $ | 97.88 | $ | 94.31 | ||||||||||||
Donegal Group Inc. Class B |
100.00 | 114.02 | 117.59 | 112.26 | 113.21 | 121.50 | ||||||||||||||||||
Russell 2000 Index |
100.00 | 117.00 | 113.79 | 74.19 | 92.90 | 116.40 | ||||||||||||||||||
Insurance (Property/Casualty) |
100.00 | 114.47 | 139.39 | 99.35 | 122.34 | 147.70 |
* | Cumulative total return assumes reinvestment of dividends. |
43
Corporate
Annual Meeting
April 21, 2011 at the Companys
headquarters at 10:00 a.m.
Form 10-K
A copy of Donegal Groups Annual Report on
Form 10-K will be furnished free upon
written request to Jeffrey D. Miller, Senior
Vice President and Chief Financial Officer,
at the corporate address.
Market Information
Donegal Groups Class A common stock and Class
B common stock trade on the NASDAQ Global
Select Market under the symbols DGICA and
DGICB. The following table shows the
dividends paid per share and the stock price
range for both classes of stock for each
quarter during 2010 and 2009:
Cash | ||||||||||||
Dividend | ||||||||||||
Declared | ||||||||||||
Quarter | High | Low | Per Share | |||||||||
2009 - Class A |
||||||||||||
1st |
$ | 17.00 | $ | 12.25 | $ | | ||||||
2nd |
17.47 | 13.61 | .1125 | |||||||||
3rd |
16.60 | 14.31 | .1125 | |||||||||
4th |
16.02 | 14.22 | .225 | |||||||||
2009 - Class B |
||||||||||||
1st |
$ | 17.50 | $ | 13.06 | $ | | ||||||
2nd |
16.68 | 13.41 | .10 | |||||||||
3rd |
17.68 | 12.75 | .10 | |||||||||
4th |
22.00 | 15.43 | .20 | |||||||||
2010 - Class A |
||||||||||||
1st |
$ | 15.95 | $ | 13.94 | $ | | ||||||
2nd |
15.00 | 12.12 | .115 | |||||||||
3rd |
13.53 | 10.78 | .115 | |||||||||
4th |
16.12 | 12.57 | .23 | |||||||||
2010 - Class B |
||||||||||||
1st |
$ | 19.19 | $ | 16.03 | $ | | ||||||
2nd |
19.16 | 15.84 | .1025 | |||||||||
3rd |
18.30 | 14.59 | .1025 | |||||||||
4th |
18.75 | 15.89 | .2050 |
Corporate Offices
1195 River Road
P.O. Box 302
Marietta, Pennsylvania 17547-0302
(800) 877-0600
E-mail Address: info@donegalgroup.com
Donegal Web Site: www.donegalgroup.com
1195 River Road
P.O. Box 302
Marietta, Pennsylvania 17547-0302
(800) 877-0600
E-mail Address: info@donegalgroup.com
Donegal Web Site: www.donegalgroup.com
Transfer Agent
Computershare Trust Company, N.A.
P.O. Box 43078
Providence, Rhode Island 02940-3078
(800) 317-4445
Web Site: www.computershare.com
Hearing Impaired: TDD: 800-952-9245
Computershare Trust Company, N.A.
P.O. Box 43078
Providence, Rhode Island 02940-3078
(800) 317-4445
Web Site: www.computershare.com
Hearing Impaired: TDD: 800-952-9245
Dividend Reinvestment and Stock Purchase Plan
The Company offers a dividend
reinvestment and stock purchase
plan through its transfer agent.
For information contact:
Donegal Group Inc.
Dividend Reinvestment and Stock Purchase Plan
Computershare Trust Company, N.A.
P.O. Box 43078
Providence, Rhode Island 02940-3078
Donegal Group Inc.
Dividend Reinvestment and Stock Purchase Plan
Computershare Trust Company, N.A.
P.O. Box 43078
Providence, Rhode Island 02940-3078
Stockholders
The following represent the number
of common stockholders of record
as of December 31, 2010:
Class A common stock |
1,243 | |||
Class B common stock |
392 |
DONEGAL GROUP INC.
44