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EX-32.2 - EXHIBIT 32.2 - EMC INSURANCE GROUP INCa2015331ex322.htm

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q 
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES  EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2015
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________________to __________________ 
Commission File Number: 0-10956
EMC INSURANCE GROUP INC.
(Exact name of registrant as specified in its charter)
Iowa
 
42-6234555
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
717 Mulberry Street, Des Moines, Iowa
 
50309
(Address of principal executive offices)
 
(Zip Code)
(515) 345-2902
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
ý  Yes    o  No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
ý  Yes    o  No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
o
Accelerated filer
ý
Non-accelerated filer
o
Smaller reporting company
o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
o  Yes    ý  No
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Class
 
Outstanding at April 30, 2015
Common stock, $1.00 par value
 
13,723,395
 



TABLE OF CONTENTS




PART I.
FINANCIAL INFORMATION

ITEM 1.
FINANCIAL STATEMENTS

EMC INSURANCE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
 
 
March 31, 
 2015
 
December 31, 
 2014
($ in thousands, except share and per share amounts)
 
(Unaudited)
 

ASSETS
 
 
 
 
Investments:
 
 
 
 
Fixed maturity securities available-for-sale, at fair value (amortized cost $1,084,305 and $1,080,006)
 
$
1,138,223

 
$
1,127,499

Equity securities available-for-sale, at fair value (cost $127,418 and $123,972)
 
199,557

 
197,036

Other long-term investments
 
9,717

 
6,227

Short-term investments
 
47,233

 
53,262

Total investments
 
1,394,730

 
1,384,024

 
 
 
 
 
Cash
 
404

 
383

Reinsurance receivables due from affiliate
 
27,304

 
28,603

Prepaid reinsurance premiums due from affiliate
 
7,098

 
8,865

Deferred policy acquisition costs (affiliated $40,605 and $38,930)
 
41,128

 
39,343

Amounts due from affiliate to settle inter-company transaction balances
 
7,594

 

Prepaid pension and postretirement benefits due from affiliate
 
17,134

 
17,360

Accrued investment income
 
11,403

 
10,295

Accounts receivable
 
2,179

 
1,767

Goodwill
 
942

 
942

Other assets (affiliated $3,966 and $4,900)
 
4,043

 
6,238

Total assets
 
$
1,513,959

 
$
1,497,820

All affiliated balances presented above are the result of related party transactions with Employers Mutual.

See accompanying Notes to Consolidated Financial Statements.

3


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
 
 
March 31, 
 2015
 
December 31, 
 2014
($ in thousands, except share and per share amounts)
 
(Unaudited)
 

LIABILITIES
 
 
 
 
Losses and settlement expenses (affiliated $647,663 and $650,652)
 
$
657,285

 
$
661,309

Unearned premiums (affiliated $232,814 and $230,460)
 
234,471

 
232,093

Other policyholders' funds (all affiliated)
 
11,109

 
10,153

Surplus notes payable to affiliate
 
25,000

 
25,000

Amounts due affiliate to settle inter-company transaction balances
 

 
8,559

Pension benefits payable to affiliate
 
3,963

 
4,162

Income taxes payable
 
8,671

 
3

Deferred income taxes
 
30,791

 
28,654

Other liabilities (affiliated $15,394 and $23,941)
 
15,470

 
25,001

Total liabilities
 
986,760

 
994,934

 
 
 
 
 
STOCKHOLDERS' EQUITY
 
 
 
 
Common stock, $1 par value, authorized 20,000,000 shares; issued and outstanding, 13,700,025 shares in 2015 and 13,562,980 shares in 2014
 
13,700

 
13,563

Additional paid-in capital
 
110,684

 
106,672

Accumulated other comprehensive income
 
84,884

 
81,662

Retained earnings
 
317,931

 
300,989

Total stockholders' equity
 
527,199

 
502,886

Total liabilities and stockholders' equity
 
$
1,513,959

 
$
1,497,820

All affiliated balances presented above are the result of related party transactions with Employers Mutual.

See accompanying Notes to Consolidated Financial Statements.


4


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
 
 
Three months ended 
 March 31,
($ in thousands, except share and per share amounts)
 
2015
 
2014
REVENUES
 
 
 
 
Premiums earned (affiliated $137,419 and $131,932)
 
$
138,731

 
$
133,080

Investment income, net
 
11,206

 
11,855

Net realized investment gains, excluding impairment losses on securities available-for-sale
 
1,401

 
1,578

Total "other-than-temporary" impairment losses on securities available-for-sale
 
(618
)
 
(316
)
Portion of "other-than-temporary" impairment losses on fixed maturity securities available-for-sale reclassified from other comprehensive income (before taxes)
 

 

Net impairment losses on securities available-for-sale
 
(618
)
 
(316
)
Net realized investment gains
 
783

 
1,262

Other income (affiliated $657 and $129)
 
1,615

 
34

Total revenues
 
152,335

 
146,231

 
 
 
 
 
LOSSES AND EXPENSES
 
 
 
 
Losses and settlement expenses (affiliated $75,272 and $88,691)
 
75,785

 
88,969

Dividends to policyholders (all affiliated)
 
2,900

 
1,716

Amortization of deferred policy acquisition costs (affiliated $25,212 and $24,429)
 
25,441

 
24,615

Other underwriting expenses (all affiliated)
 
17,521

 
15,430

Interest expense (all affiliated)
 
84

 
84

Other expense (affiliated $441 and $324)
 
667

 
528

Total losses and expenses
 
122,398

 
131,342

Income before income tax expense
 
29,937

 
14,889

 
 
 
 
 
INCOME TAX EXPENSE
 
 
 
 
Current
 
9,205

 
4,102

Deferred
 
402

 
192

Total income tax expense
 
9,607

 
4,294

Net income
 
$
20,330

 
$
10,595

 
 
 
 
 
Net income per common share - basic and diluted
 
$
1.49

 
$
0.79

 
 
 
 
 
Dividend per common share
 
$
0.25

 
$
0.23

 
 
 
 
 
Average number of common shares outstanding - basic and diluted
 
13,624,201

 
13,348,730

All affiliated balances presented above are the result of related party transactions with Employers Mutual.

See accompanying Notes to Consolidated Financial Statements.


 
 
 
 
 

5


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
 
 
Three months ended 
 March 31,
($ in thousands)
 
2015
 
2014
Net income
 
$
20,330

 
$
10,595

 
 
 
 
 
OTHER COMPREHENSIVE INCOME (LOSS)
 
 
 
 
Change in unrealized holding gains on investment securities, net of deferred income tax expense of $2,689 and $5,866
 
4,993

 
10,894

Reclassification adjustment for realized investment gains included in net income, net of income tax expense of $(764) and $(571)
 
(1,418
)
 
(1,059
)
Reclassification adjustment for amounts amortized into net periodic pension and postretirement benefit income, net of deferred income tax expense of $(190) and $(242):
 
 
 
 
Net actuarial loss
 
184

 
88

Prior service credit
 
(537
)
 
(537
)
Total reclassification adjustment associated with affiliate's pension and postretirement benefit plans
 
(353
)
 
(449
)
 
 
 
 
 
Other comprehensive income
 
3,222

 
9,386

 
 
 
 
 
Total comprehensive income
 
$
23,552

 
$
19,981

All affiliated balances presented above are the result of related party transactions with Employers Mutual.

See accompanying Notes to Consolidated Financial Statements.
 
 
 
 
 



6


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
 
 
Three months ended 
 March 31,
($ in thousands)
 
2015
 
2014
CASH FLOWS FROM OPERATING ACTIVITIES
 
 
 
 
Net income
 
$
20,330

 
$
10,595

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
 
Losses and settlement expenses (affiliated $(2,989) and $17,442)
 
(4,024
)
 
17,168

Unearned premiums (affiliated $2,354 and $1,872)
 
2,378

 
1,986

Other policyholders' funds due to affiliate
 
956

 
(20
)
Amounts due to/from affiliate to settle inter-company transaction balances
 
(16,153
)
 
(16,482
)
Net pension and postretirement benefits due from affiliate
 
(516
)
 
(809
)
Reinsurance receivables due from affiliate
 
1,299

 
(696
)
Prepaid reinsurance premiums due from affiliate
 
1,767

 
651

Commissions payable (affiliated $(6,075) and $(6,518))
 
(6,072
)
 
(6,516
)
Deferred policy acquisition costs (affiliated $(1,675) and $(673))
 
(1,785
)
 
(726
)
Accrued investment income
 
(1,108
)
 
(578
)
Current income tax
 
8,702

 
2,532

Deferred income tax
 
402

 
192

Net realized investment gains
 
(783
)
 
(1,262
)
Other, net (affiliated $(1,540) and $(3,930))
 
291

 
(3,887
)
Total adjustments to reconcile net income to net cash provided by operating activities
 
(14,646
)
 
(8,447
)
Net cash provided by operating activities
 
5,684

 
2,148

CASH FLOWS FROM INVESTING ACTIVITIES
 
 
 
 
Purchases of fixed maturity securities available-for-sale
 
(66,928
)
 
(14,494
)
Disposals of fixed maturity securities available-for-sale
 
61,119

 
22,216

Purchases of equity securities available-for-sale
 
(17,269
)
 
(12,664
)
Disposals of equity securities available-for-sale
 
15,710

 
10,283

Purchases of other long-term investments
 
(5,141
)
 
(4,367
)
Disposals of other long-term investments
 
88

 

Net purchases of short-term investments
 
6,029

 
(4,151
)
Net cash used in investing activities
 
(6,392
)
 
(3,177
)
CASH FLOWS FROM FINANCING ACTIVITIES
 
 
 
 
Issuance of common stock through affiliate’s stock plans
 
4,083

 
4,364

Excess tax benefit associated with affiliate’s stock plans
 
34

 
58

Dividends paid to stockholders (affiliated $(1,962) and $(1,805))
 
(3,388
)
 
(3,064
)
Net cash provided by financing activities
 
729

 
1,358

NET INCREASE IN CASH
 
21

 
329

Cash at the beginning of the year
 
383

 
239

Cash at the end of the quarter
 
$
404

 
$
568

All affiliated balances presented above are the result of related party transactions with Employers Mutual.

See accompanying Notes to Consolidated Financial Statements.

7


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1.
BASIS OF PRESENTATION
EMC Insurance Group Inc., a majority owned subsidiary of Employers Mutual Casualty Company (Employers Mutual), is an insurance holding company with operations in property and casualty insurance and reinsurance.  The Company writes property and casualty insurance in both commercial and personal lines of insurance, with a focus on medium-sized commercial accounts.  The term “Company” is used interchangeably to describe EMC Insurance Group Inc. (Parent Company only) and EMC Insurance Group Inc. and its subsidiaries.
The accompanying unaudited consolidated financial statements have been prepared on the basis of U.S. generally accepted accounting principles (GAAP) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements.  The Company has evaluated all subsequent events through the date the financial statements were issued.  In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation of the interim financial statements have been included.  The results of operations for the interim periods reported are not necessarily indicative of results to be expected for the year.  The consolidated balance sheet at December 31, 2014 has been derived from the audited financial statements at that date, but does not include all of the information and notes required by GAAP for complete financial statements.
During the first quarters of 2015 and 2014, the Company invested $4.0 million and $4.4 million, respectively, in a limited partnership that is designed to help protect the Company from a sudden and significant decline in the value of its equity portfolio. This investment is included in "other long-term investments" in the Company's financial statements and is carried under the equity method of accounting. Because of the nature of this investment, which is used solely to support the equity tail-risk hedging strategy, changes in the carrying value of the limited partnership are recorded as realized investment gains (losses), rather than as a component of investment income.
Certain amounts previously reported in the prior years’ consolidated financial statements have been reclassified or adjusted to conform to current year presentation.
In reading these financial statements, reference should be made to the Company’s 2014 Form 10-K or the 2014 Annual Report to Stockholders for more detailed footnote information.

2.
REINSURANCE
The effect of reinsurance on premiums written and earned, and losses and settlement expenses incurred, for the three months ended March 31, 2015 and 2014 is presented below.  The classification of the assumed and ceded reinsurance amounts between affiliates and nonaffiliates is based on the participants in the underlying reinsurance agreements, and is intended to provide an understanding of the actual source of the reinsurance activities.  This presentation differs from the classifications used in the consolidated financial statements, where all amounts flowing through the pooling, quota share and excess of loss agreements with Employers Mutual are reported as “affiliated” balances.

8


 
 
Three months ended March 31, 2015
($ in thousands)
 
Property and
casualty
insurance
 
Reinsurance
 
Total
Premiums written
 
 
 
 
 
 
Direct
 
$
88,760

 
$

 
$
88,760

Assumed from nonaffiliates
 
971

 
37,977

 
38,948

Assumed from affiliates
 
113,145

 

 
113,145

Ceded to nonaffiliates
 
(5,320
)
 
(881
)
 
(6,201
)
Ceded to affiliates
 
(88,760
)
 
(2,968
)
 
(91,728
)
Net premiums written
 
$
108,796

 
$
34,128

 
$
142,924

 
 
 
 
 
 
 
Premiums earned
 
 
 
 
 
 
Direct
 
$
89,852

 
$

 
$
89,852

Assumed from nonaffiliates
 
1,033

 
35,871

 
36,904

Assumed from affiliates
 
112,761

 

 
112,761

Ceded to nonaffiliates
 
(5,589
)
 
(2,377
)
 
(7,966
)
Ceded to affiliates
 
(89,852
)
 
(2,968
)
 
(92,820
)
Net premiums earned
 
$
108,205

 
$
30,526

 
$
138,731

 
 
 
 
 
 
 
Losses and settlement expenses incurred
 
 
 
 
 
 
Direct
 
$
35,437

 
$

 
$
35,437

Assumed from nonaffiliates
 
546

 
20,900

 
21,446

Assumed from affiliates
 
55,898

 
243

 
56,141

Ceded to nonaffiliates
 
231

 
(1,926
)
 
(1,695
)
Ceded to affiliates
 
(35,437
)
 
(107
)
 
(35,544
)
Net losses and settlement expenses incurred
 
$
56,675

 
$
19,110

 
$
75,785


9


 
 
Three months ended March 31, 2014
($ in thousands)
 
Property and
casualty
insurance
 
Reinsurance
 
Total
Premiums written
 
 
 
 
 
 
Direct
 
$
90,040

 
$

 
$
90,040

Assumed from nonaffiliates
 
788

 
39,514

 
40,302

Assumed from affiliates
 
107,048

 

 
107,048

Ceded to nonaffiliates
 
(5,322
)
 
(3,762
)
 
(9,084
)
Ceded to affiliates
 
(90,041
)
 
(2,860
)
 
(92,901
)
Net premiums written
 
$
102,513

 
$
32,892

 
$
135,405

 
 
 
 
 
 
 
Premiums earned
 
 
 
 
 
 
Direct
 
$
91,075

 
$

 
$
91,075

Assumed from nonaffiliates
 
844

 
38,950

 
39,794

Assumed from affiliates
 
105,881

 

 
105,881

Ceded to nonaffiliates
 
(5,478
)
 
(4,257
)
 
(9,735
)
Ceded to affiliates
 
(91,075
)
 
(2,860
)
 
(93,935
)
Net premiums earned
 
$
101,247

 
$
31,833

 
$
133,080

 
 
 
 
 
 
 
Losses and settlement expenses incurred
 
 
 
 
 
 
Direct
 
$
48,010

 
$

 
$
48,010

Assumed from nonaffiliates
 
602

 
24,400

 
25,002

Assumed from affiliates
 
68,172

 
291

 
68,463

Ceded to nonaffiliates
 
(1,048
)
 
(3,467
)
 
(4,515
)
Ceded to affiliates
 
(48,010
)
 
19

 
(47,991
)
Net losses and settlement expenses incurred
 
$
67,726

 
$
21,243

 
$
88,969

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Individual lines in the above tables are defined as follows:
“Direct” represents business produced by the property and casualty insurance subsidiaries.
“Assumed from nonaffiliates” for the property and casualty insurance subsidiaries represents their aggregate 30 percent pool participation percentage of involuntary business assumed by the pool participants pursuant to state law. For the reinsurance subsidiary, this line represents the reinsurance business assumed through the quota share agreement (including “fronting” activities initiated by Employers Mutual) and the business assumed outside the quota share agreement.
“Assumed from affiliates” for the property and casualty insurance subsidiaries represents their aggregate 30 percent pool participation percentage of all the pool members’ direct business.  The amounts reported under the caption “Losses and settlement expenses incurred” also include claim-related services provided by Employers Mutual that are allocated to the property and casualty insurance subsidiaries and the reinsurance subsidiary.
“Ceded to nonaffiliates” for the property and casualty insurance subsidiaries represents their aggregate 30 percent pool participation percentage of 1) the amounts ceded to nonaffiliated reinsurance companies in accordance with the terms of the reinsurance agreements providing protection to the pool and each of its participants, and 2) the amounts ceded on a mandatory basis to state organizations in connection with various programs.  For the reinsurance subsidiary, this line includes reinsurance business that is ceded to other insurance companies in connection with “fronting” activities initiated by Employers Mutual.
“Ceded to affiliates” for the property and casualty insurance subsidiaries represents the cession of their direct business to Employers Mutual under the terms of the pooling agreement.  For the reinsurance subsidiary this line represents amounts ceded to Employers Mutual under the terms of the excess of loss reinsurance agreement.

10


3.
SEGMENT INFORMATION
 
 
 
 
 
 
 
 
 
The Company’s operations consist of a property and casualty insurance segment and a reinsurance segment.  The property and casualty insurance segment writes both commercial and personal lines of insurance, with a focus on medium-sized commercial accounts.  The reinsurance segment provides reinsurance for other insurers and reinsurers.  The segments are managed separately due to differences in the insurance products sold and the business environments in which they operate.
 
 
 
 
 
 
 
 
 
Summarized financial information for the Company’s segments is as follows:
Three months ended March 31, 2015
 
Property and
casualty
insurance
 
Reinsurance
 
Parent
company
 
Consolidated
($ in thousands)
 
 
 
 
Premiums earned
 
$
108,205

 
$
30,526

 
$

 
$
138,731

 
 
 
 
 
 
 
 
 
Underwriting profit (loss)
 
14,078

 
3,006

 

 
17,084

Net investment income (loss)
 
8,026

 
3,184

 
(4
)
 
11,206

Realized investment gains
 
700

 
83

 

 
783

Other income (loss)
 
182

 
1,433

 

 
1,615

Interest expense
 
84

 

 

 
84

Other expenses
 
206

 

 
461

 
667

Income (loss) before income tax expense (benefit)
 
$
22,696

 
$
7,706

 
$
(465
)
 
$
29,937

 
 
 
 
 
 
 
 
 
Assets
 
$
1,066,912

 
$
439,382

 
$
527,485

 
$
2,033,779

Eliminations
 

 

 
(518,915
)
 
(518,915
)
Reclassifications
 

 

 
(905
)
 
(905
)
Total assets
 
$
1,066,912

 
$
439,382

 
$
7,665

 
$
1,513,959


Three months ended March 31, 2014
 
Property and
casualty
insurance
 
Reinsurance
 
Parent
company
 
Consolidated
($ in thousands)
 
 
 
 
Premiums earned
 
$
101,247

 
$
31,833

 
$

 
$
133,080

 
 
 
 
 
 
 
 
 
Underwriting profit (loss)
 
(475
)
 
2,825

 

 
2,350

Net investment income (loss)
 
8,616

 
3,243

 
(4
)
 
11,855

Realized investment gains
 
1,011

 
251

 

 
1,262

Other income (loss)
 
201

 
(167
)
 

 
34

Interest expense
 
84

 

 

 
84

Other expenses
 
174

 

 
354

 
528

Income (loss) before income tax expense (benefit)
 
$
9,095

 
$
6,152

 
$
(358
)
 
$
14,889

 
 
 
 
 
 
 
 
 
Year ended December 31, 2014
 
 
 
 
 
 
 
 
Assets
 
$
1,057,429

 
$
434,139

 
$
503,008

 
$
1,994,576

Eliminations
 

 

 
(495,288
)
 
(495,288
)
Reclassifications
 
(909
)
 

 
(559
)
 
(1,468
)
Total assets
 
$
1,056,520

 
$
434,139

 
$
7,161

 
$
1,497,820


11


The following table displays the net premiums earned of the property and casualty insurance segment and the reinsurance segment for the three months ended March 31, 2015 and 2014, by line of insurance.
 
 
Three months ended March 31,
($ in thousands)
 
2015
 
2014
Property and casualty insurance segment
 
 
 
 
Commercial lines:
 
 
 
 
Automobile
 
$
25,396

 
$
22,802

Property
 
25,066

 
23,317

Workers' compensation
 
22,367

 
21,053

Liability
 
22,416

 
20,455

Other
 
1,966

 
1,779

Total commercial lines
 
97,211

 
89,406

 
 
 
 
 
Personal lines:
 
 
 
 
Automobile
 
5,817

 
6,411

Property
 
4,974

 
5,244

Liability
 
203

 
186

Total personal lines
 
10,994

 
11,841

Total property and casualty insurance
 
$
108,205

 
$
101,247

 
 
 
 
 
Reinsurance segment
 
 
 
 
Pro rata reinsurance:
 
 
 
 
Property and liability
 
$
1,239

 
$
1,064

Property
 
3,567

 
5,777

Crop
 
294

 
438

Liability
 
3,801

 
2,792

Marine
 
3,403

 
3,411

Total pro rata reinsurance
 
12,304

 
13,482

 
 
 
 
 
Excess of loss reinsurance:
 
 
 
 
Property
 
14,462

 
15,459

Liability
 
3,756

 
2,891

Surety
 
4

 
1

Total excess of loss reinsurance
 
18,222

 
18,351

Total reinsurance
 
$
30,526

 
$
31,833

 
 
 
 
 
Consolidated
 
$
138,731

 
$
133,080



12


4.
INCOME TAXES
The actual income tax expense for the three months ended March 31, 2015 and 2014 differed from the “expected” income tax expense for those periods (computed by applying the United States federal corporate tax rate of 35 percent to income before income tax expense) as follows:
 
 
Three months ended 
 March 31,
($ in thousands)
 
2015
 
2014
Computed "expected" income tax expense
 
$
10,478

 
$
5,211

Increases (decreases) in tax resulting from:
 
 
 
 
Tax-exempt interest income
 
(698
)
 
(944
)
Dividends received deduction
 
(258
)
 
(220
)
Proration of tax-exempt interest and dividends received deduction
 
143

 
175

Other, net
 
(58
)
 
72

Total income tax expense
 
$
9,607

 
$
4,294


The Company had no provision for uncertain income tax positions at March 31, 2015 or December 31, 2014.  The Company did not recognize any interest expense or other penalties related to U.S. federal or state income taxes during the three months ended March 31, 2015 or 2014.  It is the Company’s accounting policy to reflect income tax penalties as other expense, and interest as interest expense.
The Company files a U.S. federal income tax return, along with various state income tax returns.  The Company is no longer subject to U.S. federal and state income tax examinations by tax authorities for years before 2011.  The Company’s 2011 income tax return has been audited and no adjustments were proposed.

5.
EMPLOYEE RETIREMENT PLANS
The components of net periodic benefit cost (income) for Employers Mutual’s pension and postretirement benefit plans is as follows:
 
 
Three months ended 
 March 31,
($ in thousands)
 
2015
 
2014
Pension plans:
 
 
 
 
Service cost
 
$
3,644

 
$
3,191

Interest cost
 
2,278

 
2,381

Expected return on plan assets
 
(5,075
)
 
(5,183
)
Amortization of net actuarial loss
 
517

 
64

Amortization of prior service cost
 
8

 
8

Net periodic pension benefit cost
 
$
1,372

 
$
461

 
 
 
 
 
Postretirement benefit plans:
 
 
 
 
Service cost
 
$
353

 
$
315

Interest cost
 
537

 
564

Expected return on plan assets
 
(1,104
)
 
(1,099
)
Amortization of net actuarial loss
 
436

 
413

Amortization of prior service credit
 
(2,866
)
 
(2,867
)
Net periodic postretirement benefit income
 
$
(2,644
)
 
$
(2,674
)


13



Net periodic pension benefit cost allocated to the Company amounted to $421,000 and $144,000 for the three months ended March 31, 2015 and 2014, respectively.  Net periodic postretirement benefit income allocated to the Company amounted to $762,000 and $771,000 for the three months ended March 31, 2015 and 2014, respectively.
The Company’s share of Employers Mutual’s 2015 planned contribution to the pension plan, if made, will be approximately $2.1 million. No contributions will be made to the Voluntary Employee Beneficiary Association (VEBA) trust in 2015.

6.
STOCK-BASED COMPENSATION
The Company has no stock-based compensation plans of its own; however, Employers Mutual has several stock plans which utilize the common stock of the Company.  Employers Mutual can provide the common stock required under its plans by: 1) using shares of common stock that it currently owns; 2) purchasing common stock on the open market; or 3) directly purchasing common stock from the Company at the current fair value.  Employers Mutual has historically purchased common stock from the Company for use in its stock plans and its non-employee director stock plans.  Beginning in the second quarter of 2014, Employers Mutual is also purchasing common stock from the Company to fulfill its obligations under its employee stock purchase plan (previously the shares needed for this plan were purchased in the open market).
Stock Plans
Employers Mutual currently maintains two separate stock plans for the benefit of officers and key employees of Employers Mutual and its subsidiaries.  A total of 1,500,000 shares of the Company’s common stock have been reserved for issuance under the 2003 Employers Mutual Casualty Company Incentive Stock Option Plan (2003 Plan) and a total of 2,000,000 shares have been reserved for issuance under the 2007 Employers Mutual Casualty Company Stock Incentive Plan (2007 Plan).  
The 2003 Plan permitted the issuance of incentive stock options only, while the 2007 Plan permits the issuance of performance shares, performance units, and other stock-based awards, in addition to qualified (incentive) and non-qualified stock options, stock appreciation rights, restricted stock and restricted stock units.  Both plans provide for a ten-year time limit for granting awards.  No additional options can be granted under the 2003 Plan due to the expiration of the term of the plan. Options granted under the plans generally have a vesting period of five years, with options becoming exercisable in equal annual cumulative increments commencing on the first anniversary of the option grant.  Option prices cannot be less than the fair value of the common stock on the date of grant. Restricted stock awards granted under the 2007 Plan generally have a vesting period of four years, with shares vesting in equal annual cumulative increments commencing on the first anniversary of the grant. Holders of unvested shares of restricted stock receive compensation income equal to the amount of any dividends declared on the common stock.
The Senior Executive Compensation Committee of Employers Mutual’s Board of Directors grants the awards and is the administrator of the plans.  The Company’s Compensation Committee must consider and approve all awards granted to the Company’s executive officers.
The Company recognized compensation expense from these plans of $73,000 ($48,000 net of tax) and $51,000 ($33,000 net of tax) for the three months ended March 31, 2015 and 2014, respectively.  During the first three months of 2015, 68,764 shares of restricted stock were granted under the 2007 Plan to eligible participants and 27,357 shares of restricted stock vested. In addition, 92,017 options were exercised under the plans at a weighted average exercise price of $21.39.


14


7.
DISCLOSURES ABOUT THE FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amount and the estimated fair value of the Company’s financial instruments is summarized below.
March 31, 2015
 
Carrying
amount
 
Estimated
fair value
($ in thousands)
 
 
Assets:
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
U.S. treasury
 
$
9,792

 
$
9,792

U.S. government-sponsored agencies
 
223,029

 
223,029

Obligations of states and political subdivisions
 
322,293

 
322,293

Commercial mortgage-backed
 
44,858

 
44,858

Residential mortgage-backed
 
94,331

 
94,331

Other asset-backed
 
14,985

 
14,985

Corporate
 
428,935

 
428,935

Total fixed maturity securities available-for-sale
 
1,138,223

 
1,138,223

 
 
 
 
 
Equity securities available-for-sale:
 
 
 
 
Common stocks:
 
 
 
 
Financial services
 
34,277

 
34,277

Information technology
 
27,380

 
27,380

Healthcare
 
29,199

 
29,199

Consumer staples
 
14,923

 
14,923

Consumer discretionary
 
24,559

 
24,559

Energy
 
23,582

 
23,582

Industrials
 
18,161

 
18,161

Other
 
14,744

 
14,744

Non-redeemable preferred stocks
 
12,732

 
12,732

Total equity securities available-for-sale
 
199,557

 
199,557

 
 
 
 
 
Short-term investments
 
47,233

 
47,233

 
 
 
 
 
Liabilities:
 
 
 
 
Surplus notes
 
25,000

 
12,738


15


December 31, 2014
 
Carrying
amount
 
Estimated
fair value
($ in thousands)
 
 
Assets:
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
U.S. treasury
 
$
9,703

 
$
9,703

U.S. government-sponsored agencies
 
215,616

 
215,616

Obligations of states and political subdivisions
 
326,058

 
326,058

Commercial mortgage-backed
 
46,762

 
46,762

Residential mortgage-backed
 
97,953

 
97,953

Other asset-backed
 
16,005

 
16,005

Corporate
 
415,402

 
415,402

Total fixed maturity securities available-for-sale
 
1,127,499

 
1,127,499

 
 
 
 
 
Equity securities available-for-sale:
 
 
 
 
Common stocks:
 
 
 
 
Financial services
 
34,379

 
34,379

Information technology
 
26,865

 
26,865

Healthcare
 
26,852

 
26,852

Consumer staples
 
16,694

 
16,694

Consumer discretionary
 
22,691

 
22,691

Energy
 
22,863

 
22,863

Industrials
 
18,221

 
18,221

Other
 
16,056

 
16,056

Non-redeemable preferred stocks
 
12,415

 
12,415

Total equity securities available-for-sale
 
197,036

 
197,036

 
 
 
 
 
Short-term investments
 
53,262

 
53,262

 
 
 
 
 
Liabilities:
 
 
 
 
Surplus notes
 
25,000

 
12,308


The estimated fair value of fixed maturity and equity securities is based on quoted market prices, where available.  In cases where quoted market prices are not available, fair values are based on a variety of valuation techniques depending on the type of security.
Short-term investments generally include money market funds, U.S. Treasury bills and commercial paper.  Short-term investments are carried at fair value, which approximates cost, due to the highly liquid nature of the securities.   Short-term securities are classified as Level 1 fair value measurements when the fair values can be validated by recent trades.  When recent trades are not available, fair value is deemed to be the cost basis and the securities are classified as Level 2 fair value measurements.
The estimated fair value of the surplus notes is derived by discounting future expected cash flows at a rate deemed appropriate.  The discount rate was set at the average of current yields-to-maturity on several insurance company surplus notes that are traded in observable markets, adjusted upward by 50 basis points to reflect illiquidity and perceived risk premium differences. Other assumptions include a 25-year term (the surplus notes have no stated maturity date) and an interest rate that continues at the current 1.35 percent interest rate. The rate is typically adjusted every five years and is based upon the then-current Federal Home Loan Bank borrowing rate for 5-year funds available to Employers Mutual.

16


Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.  The following fair value hierarchy prioritizes inputs to valuation techniques used to measure fair value:
 
Level 1 -
Unadjusted quoted prices for identical assets or liabilities in active markets that the Company has the ability to access.
 
 
 
 
Level 2 -
Quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in inactive markets; or valuations based on models where the significant inputs are observable (e.g., interest rates, yield curves, prepayment speeds, default rates, loss severities, etc.) or can be corroborated by observable market data.
 
 
 
 
Level 3 -
Prices or valuation techniques that require significant unobservable inputs because observable inputs are not available.  The unobservable inputs may reflect the Company’s own judgments about the assumptions that market participants would use.
The Company uses an independent pricing source to obtain the estimated fair values of a majority of its securities, subject to an internal validation.  The fair values are based on quoted market prices, where available.  This is typically the case for equity securities and money market funds, which are accordingly classified as Level 1 fair value measurements.  In cases where quoted market prices are not available, fair values are based on a variety of valuation techniques depending on the type of security.  Fixed maturity securities, non-redeemable preferred stocks and various short-term investments in the Company’s portfolio may not trade on a daily basis; however, observable inputs are utilized in their valuations, and these securities are therefore classified as Level 2 fair value measurements.  Following is a brief description of the various pricing techniques used by the independent pricing source for different asset classes.
U.S. Treasury securities (including bonds, notes, and bills) are priced according to a number of live data sources, including active market makers and inter-dealer brokers.  Prices from these sources are reviewed based on the sources’ historical accuracy for individual issues and maturity ranges.
U.S. government-sponsored agencies and corporate securities (including fixed-rate corporate bonds and medium-term notes) are priced by determining a bullet (non-call) spread scale for each issuer for maturities going out to forty years.  These spreads represent credit risk and are obtained from the new issue market, secondary trading, and dealer quotes.  An option adjusted spread model is incorporated to adjust spreads of issues that have early redemption features.  The final spread is then added to the U.S. Treasury curve.
Obligations of states and political subdivisions are priced by tracking and analyzing actively quoted issues and reported trades, material event notices and benchmark yields.  Municipal bonds with similar characteristics are grouped together into market sectors, and internal yield curves are constructed daily for these sectors.  Individual bond evaluations are extrapolated from these sectors, with the ability to make individual spread adjustments for attributes such as discounts, premiums, alternative minimum tax, and/or whether or not the bond is callable.
Mortgage-backed and asset-backed securities are first reviewed for the appropriate pricing speed (if prepayable), spread, yield and volatility.  The securities are priced with models using spreads and other information solicited from Wall Street buy- and sell-side sources, including primary and secondary dealers, portfolio managers, and research analysts.  To determine a tranche’s price, first the benchmark yield is determined and adjusted for collateral performance, tranche level attributes and market conditions.  Then the cash flow for each tranche is generated (using consensus prepayment speed assumptions including, as appropriate, a prepayment projection based on historical statistics of the underlying collateral).  The tranche-level yield is used to discount the cash flows and generate the price.  Depending on the characteristics of the tranche, a volatility-driven, multi-dimensional single cash flow stream model or an option-adjusted spread model may be used.  When cash flows or other security structure or market information is not available, broker quotes may be used.

17


On a quarterly basis, the Company receives from its independent pricing service a list of fixed maturity securities, if any, that were priced solely from broker quotes.  For these securities, fair value may be determined using the broker quotes, or by the Company using similar pricing techniques as the Company’s independent pricing service.  Depending on the level of observable inputs, these securities would be classified as Level 2 or Level 3 fair value measurements.   At March 31, 2015 and December 31, 2014, the Company had no securities priced solely from broker quotes.
A small number of the Company’s securities are not priced by the independent pricing service.  One equity security is reported as a Level 3 fair value measurement at March 31, 2015 and December 31, 2014, since no reliable observable inputs are used in its valuation.  This equity security continues to be reported at the fair value obtained from the Securities Valuation Office (SVO) of the National Association of Insurance Commissioners (NAIC).  The SVO establishes a per share price for this security based on an annual review of that company’s financial statements, typically performed during the second quarter.  The other securities not priced by the Company’s independent pricing service at March 31, 2015 and December 31, 2014 include ten fixed maturity securities. Two of these fixed maturity securities, classified as Level 3 fair value measurements, are corporate securities that convey premium tax benefits and are not publicly traded. The fair values for these securities are based on discounted cash flow analyses. The other fixed maturity securities are classified as Level 2 fair value measurements.  The fair values for these fixed maturity securities were obtained from either the SVO or the Company's investment custodian using similar pricing techniques as the Company’s independent pricing service.

18


Presented in the table below are the estimated fair values of the Company’s financial instruments as of March 31, 2015 and December 31, 2014.
March 31, 2015
 
 
 
Fair value measurements using
($ in thousands)
 
Total
 
Quoted
prices in
active markets
for identical
assets
(Level 1)
 
Significant
other
observable
inputs
(Level 2)
 
Significant
unobservable
inputs
(Level 3)
Financial instruments reported at fair value on recurring basis:
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
 
 
 
 
U.S. treasury
 
$
9,792

 
$

 
$
9,792

 
$

U.S. government-sponsored agencies
 
223,029

 

 
223,029

 

Obligations of states and political subdivisions
 
322,293

 

 
322,293

 

Commercial mortgage-backed
 
44,858

 

 
44,858

 

Residential mortgage-backed
 
94,331

 

 
94,331

 

Other asset-backed
 
14,985

 

 
14,985

 

Corporate
 
428,935

 

 
427,272

 
1,663

Total fixed maturity securities available-for-sale
 
1,138,223

 

 
1,136,560

 
1,663

 
 
 
 
 
 
 
 
 
Equity securities available-for-sale:
 
 
 
 
 
 
 
 
Common stocks:
 
 
 
 
 
 
 
 
Financial services
 
34,277

 
34,274

 

 
3

Information technology
 
27,380

 
27,380

 

 

Healthcare
 
29,199

 
29,199

 

 

Consumer staples
 
14,923

 
14,923

 

 

Consumer discretionary
 
24,559

 
24,559

 

 

Energy
 
23,582

 
23,582

 

 

Industrials
 
18,161

 
18,161

 

 

Other
 
14,744

 
14,744

 

 

Non-redeemable preferred stocks
 
12,732

 
8,039

 
4,693

 

Total equity securities available-for-sale
 
199,557

 
194,861

 
4,693

 
3

 
 
 
 
 
 
 
 
 
Short-term investments
 
47,233

 
47,233

 

 

 
 
 
 
 
 
 
 
 
Financial instruments not reported at fair value:
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
Surplus notes
 
12,738

 

 

 
12,738


19


December 31, 2014
 
 
 
Fair value measurements using
($ in thousands)
 
Total
 
Quoted
prices in
active markets
for identical
assets
(Level 1)
 
Significant
other
observable
inputs
(Level 2)
 
Significant
unobservable
inputs
(Level 3)
Financial instruments reported at fair value on recurring basis:
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
 
 
 
 
U.S. treasury
 
$
9,703

 
$

 
$
9,703

 
$

U.S. government-sponsored agencies
 
215,616

 

 
215,616

 

Obligations of states and political subdivisions
 
326,058

 

 
326,058

 

Commercial mortgage-backed
 
46,762

 

 
46,762

 

Residential mortgage-backed
 
97,953

 

 
97,953

 

Other asset-backed
 
16,005

 

 
16,005

 

Corporate
 
415,402

 

 
413,740

 
1,662

Total fixed maturity securities available-for-sale
 
1,127,499

 

 
1,125,837

 
1,662

 
 
 
 
 
 
 
 
 
Equity securities available-for-sale:
 
 
 
 
 
 
 
 
Common stocks:
 
 
 
 
 
 
 
 
Financial services
 
34,379

 
34,376

 

 
3

Information technology
 
26,865

 
26,865

 

 

Healthcare
 
26,852

 
26,852

 

 

Consumer staples
 
16,694

 
16,694

 

 

Consumer discretionary
 
22,691

 
22,691

 

 

Energy
 
22,863

 
22,863

 

 

Industrials
 
18,221

 
18,221

 

 

Other
 
16,056

 
16,056

 

 

Non-redeemable preferred stocks
 
12,415

 
7,745

 
4,670

 

Total equity securities available-for-sale
 
197,036

 
192,363

 
4,670

 
3

 
 
 
 
 
 
 
 
 
Short-term investments
 
53,262

 
53,262

 

 

 
 
 
 
 
 
 
 
 
Financial instruments not reported at fair value:
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
Surplus notes
 
12,308

 

 

 
12,308


20


Presented in the table below is a reconciliation of the assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three months ended March 31, 2015 and 2014.  Any unrealized gains or losses on these securities are recognized in other comprehensive income.  Any gains or losses from disposals or impairments of these securities are reported as realized investment gains or losses in net income.
 
 
Fair value measurements using significant unobservable (Level 3) inputs ($ in thousands)
Three months ended March 31, 2015
 
Fixed maturity securities available-for-sale, corporate
 
Equity securities
available-for-sale,
financial services
 
Total
Beginning balance
 
$
1,662

 
$
3

 
$
1,665

Settlements
 
(4
)
 

 
(4
)
Unrealized gains (losses) included in other comprehensive income
 
5

 

 
5

Balance at March 31, 2015
 
$
1,663

 
$
3

 
$
1,666


 
 
Fair value measurements using significant unobservable (Level 3) inputs ($ in thousands)
Three months ended March 31, 2014
 
Fixed maturity securities available-for-sale, corporate
 
Equity securities
available-for-sale,
financial services
 
Total
Beginning balance
 
$
1,976

 
$
3

 
$
1,979

Unrealized gains (losses) included in other comprehensive income
 
(1
)
 

 
(1
)
Balance at March 31, 2014
 
$
1,975

 
$
3

 
$
1,978


There were no transfers into or out of Levels 1 or 2 during the three months ended March 31, 2015 or 2014.  It is the Company’s policy to recognize transfers between levels at the beginning of the reporting period.


21


8.
INVESTMENTS
Investments of the Company’s insurance subsidiaries are subject to the insurance laws of the state of their incorporation. These laws prescribe the kind, quality and concentration of investments that may be made by insurance companies.  In general, these laws permit investments, within specified limits and subject to certain qualifications, in federal, state and municipal obligations, corporate bonds, preferred and common stocks and real estate mortgages.  The Company believes that it is in compliance with these laws.
The amortized cost and estimated fair value of securities available-for-sale as of March 31, 2015 and December 31, 2014 are as follows.  All securities are classified as available-for-sale and are carried at fair value.
March 31, 2015
 
Amortized
cost
 
Gross
unrealized
gains
 
Gross
unrealized
losses
 
Estimated
fair value
($ in thousands)
 
 
 
 
Securities available-for-sale:
 
 
 
 
 
 
 
 
Fixed maturity securities:
 
 
 
 
 
 
 
 
U.S. treasury
 
$
9,582

 
$
210

 
$

 
$
9,792

U.S. government-sponsored agencies
 
220,768

 
3,295

 
1,034

 
223,029

Obligations of states and political subdivisions
 
294,630

 
27,704

 
41

 
322,293

Commercial mortgage-backed
 
41,277

 
3,581

 

 
44,858

Residential mortgage-backed
 
97,867

 
1,484

 
5,020

 
94,331

Other asset-backed
 
13,742

 
1,243

 

 
14,985

Corporate
 
406,439

 
22,727

 
231

 
428,935

Total fixed maturity securities
 
1,084,305

 
60,244

 
6,326

 
1,138,223

 
 
 
 
 
 
 
 
 
Equity securities:
 
 
 
 
 
 
 
 
Common stocks:
 
 
 
 
 
 
 
 
Financial services
 
23,724

 
10,719

 
166

 
34,277

Information technology
 
17,470

 
9,964

 
54

 
27,380

Healthcare
 
15,536

 
13,665

 
2

 
29,199

Consumer staples
 
8,827

 
6,106

 
10

 
14,923

Consumer discretionary
 
12,706

 
11,868

 
15

 
24,559

Energy
 
16,375

 
7,558

 
351

 
23,582

Industrials
 
9,555

 
8,695

 
89

 
18,161

Other
 
11,143

 
3,669

 
68

 
14,744

Non-redeemable preferred stocks
 
12,082

 
820

 
170

 
12,732

Total equity securities
 
127,418

 
73,064

 
925

 
199,557

Total securities available-for-sale
 
$
1,211,723

 
$
133,308

 
$
7,251

 
$
1,337,780


22


December 31, 2014
 
Amortized
cost
 
Gross
unrealized
gains
 
Gross
unrealized
losses
 
Estimated
fair value
($ in thousands)
 
 
 
 
Securities available-for-sale:
 
 
 
 
 
 
 
 
Fixed maturity securities:
 
 
 
 
 
 
 
 
U.S. treasury
 
$
9,574

 
$
129

 
$

 
$
9,703

U.S. government-sponsored agencies
 
215,425

 
2,313

 
2,122

 
215,616

Obligations of states and political subdivisions
 
299,258

 
26,840

 
40

 
326,058

Commercial mortgage-backed
 
42,996

 
3,766

 

 
46,762

Residential mortgage-backed
 
100,296

 
1,402

 
3,745

 
97,953

Other asset-backed
 
14,798

 
1,213

 
6

 
16,005

Corporate
 
397,659

 
18,485

 
742

 
415,402

Total fixed maturity securities
 
1,080,006

 
54,148

 
6,655

 
1,127,499

 
 
 
 
 
 
 
 
 
Equity securities:
 
 
 
 
 
 
 
 
Common stocks:
 
 
 
 
 
 
 
 
Financial services
 
22,586

 
11,835

 
42

 
34,379

Information technology
 
15,755

 
11,110

 

 
26,865

Healthcare
 
14,673

 
12,179

 

 
26,852

Consumer staples
 
10,584

 
6,112

 
2

 
16,694

Consumer discretionary
 
11,304

 
11,420

 
33

 
22,691

Energy
 
15,837

 
7,458

 
432

 
22,863

Industrials
 
9,658

 
8,596

 
33

 
18,221

Other
 
11,493

 
4,563

 

 
16,056

Non-redeemable preferred stocks
 
12,082

 
617

 
284

 
12,415

Total equity securities
 
123,972

 
73,890

 
826

 
197,036

Total securities available-for-sale
 
$
1,203,978

 
$
128,038

 
$
7,481

 
$
1,324,535


23


The following table sets forth the estimated fair value and gross unrealized losses associated with investment securities that were in an unrealized loss position as of March 31, 2015 and December 31, 2014, listed by length of time the securities were in an unrealized loss position.
March 31, 2015
 
Less than twelve months
 
Twelve months or longer
 
Total
($ in thousands)
 
Fair
value
 
Unrealized
losses
 
Fair
value
 
Unrealized
losses
 
Fair
value
 
Unrealized
losses
Fixed maturity securities:
 
 
 
 
 
 
 
 
 
 
 
 
U.S. government-sponsored agencies
 
$
51,725

 
$
226

 
$
37,523

 
$
808

 
$
89,248

 
$
1,034

Obligations of states and political subdivisions
 
4,894

 
41

 

 

 
4,894

 
41

Commercial mortgage-backed
 
221

 

 

 

 
221

 

Residential mortgage-backed
 
18,318

 
1,161

 
23,684

 
3,859

 
42,002

 
5,020

Corporate
 
11,730

 
46

 
12,540

 
185

 
24,270

 
231

Total, fixed maturity securities
 
86,888

 
1,474

 
73,747

 
4,852

 
160,635

 
6,326

Equity securities:
 
 
 
 
 
 
 
 
 
 
 
 
Common stocks:
 
 
 
 
 
 
 
 
 
 
 
 
Financial services
 
5,130

 
158

 
57

 
8

 
5,187

 
166

Information technology
 
1,867

 
54

 

 

 
1,867

 
54

Healthcare
 
161

 
2

 

 

 
161

 
2

Consumer staples
 
266

 
10

 

 

 
266

 
10

Consumer discretionary
 
1,324

 
15

 

 

 
1,324

 
15

Energy
 
3,460

 
351

 

 

 
3,460

 
351

Industrials
 
2,189

 
89

 

 

 
2,189

 
89

Other
 
1,467

 
68

 

 

 
1,467

 
68

Non-redeemable preferred stocks
 

 

 
1,830

 
170

 
1,830

 
170

Total equity securities
 
15,864

 
747

 
1,887

 
178

 
17,751

 
925

Total temporarily impaired securities
 
$
102,752

 
$
2,221

 
$
75,634

 
$
5,030

 
$
178,386

 
$
7,251



24


December 31, 2014
 
Less than twelve months
 
Twelve months or longer
 
Total
($ in thousands)
 
Fair
value
 
Unrealized
losses
 
Fair
value
 
Unrealized
losses
 
Fair
value
 
Unrealized
losses
Fixed maturity securities:
 
 
 
 
 
 
 
 
 
 
 
 
U.S. government-sponsored agencies
 
$
24,473

 
$
94

 
$
97,446

 
$
2,028

 
$
121,919

 
$
2,122

Obligations of states and political subdivisions
 

 

 
3,757

 
40

 
3,757

 
40

Commercial mortgage-backed
 
1,102

 

 

 

 
1,102

 

Residential mortgage-backed
 
21,451

 
1,252

 
21,163

 
2,493

 
42,614

 
3,745

Other asset-backed
 
1,889

 
6

 

 

 
1,889

 
6

Corporate
 
16,740

 
281

 
28,257

 
461

 
44,997

 
742

Total, fixed maturity securities
 
65,655

 
1,633

 
150,623

 
5,022

 
216,278

 
6,655

Equity securities:
 
 
 
 
 
 
 
 
 
 
 
 
Common stocks:
 
 
 
 
 
 
 
 
 
 
 
 
Financial services
 
1,162

 
9

 
187

 
33

 
1,349

 
42

Consumer staples
 
1,051

 
2

 

 

 
1,051

 
2

Consumer discretionary
 
822

 
33

 

 

 
822

 
33

Energy
 
4,298

 
432

 

 

 
4,298

 
432

Industrials
 
1,406

 
33

 

 

 
1,406

 
33

Non-redeemable preferred stocks
 

 

 
1,716

 
284

 
1,716

 
284

Total equity securities
 
8,739

 
509

 
1,903

 
317

 
10,642

 
826

Total temporarily impaired securities
 
$
74,394

 
$
2,142

 
$
152,526

 
$
5,339

 
$
226,920

 
$
7,481


Unrealized losses on fixed maturity securities did not materially change at March 31, 2015.  Most of these securities are considered investment grade by credit rating agencies. Because management does not intend to sell these securities, does not believe it will be required to sell these securities before recovery, and believes it will collect the amounts due on these securities, it was determined that these securities were not “other-than-temporarily” impaired at March 31, 2015.
No particular sector or individual security accounted for a material amount of unrealized losses on common stocks at March 31, 2015.  The Company believes the unrealized losses on common stocks are primarily due to general fluctuations in the equity markets.  Because the Company has the ability and intent to hold these securities for a reasonable amount of time to allow for recovery, it was determined that these securities were not “other-than-temporarily” impaired at March 31, 2015.
All of the Company’s preferred stock holdings are perpetual preferred stocks.  The Company evaluates perpetual preferred stocks with unrealized losses for “other-than-temporary” impairment similar to fixed maturity securities since they have debt-like characteristics such as periodic cash flows in the form of dividends and call features, are rated by rating agencies and are priced like other long-term callable fixed maturity securities.  There was no evidence of any credit deterioration in the issuers of the preferred stocks and the Company does not intend to sell these securities before recovery, nor does it believe it will be required to sell these securities before recovery; therefore, it was determined that these securities were not “other-than-temporarily” impaired at March 31, 2015.

25


The amortized cost and estimated fair value of fixed maturity securities at March 31, 2015, 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.
($ in thousands)
 
Amortized
cost
 
Estimated
fair value
Securities available-for-sale:
 
 
 
 
Due in one year or less
 
$
40,128

 
$
40,717

Due after one year through five years
 
176,529

 
187,627

Due after five years through ten years
 
233,367

 
244,118

Due after ten years
 
495,137

 
526,572

Mortgage-backed securities
 
139,144

 
139,189

Totals
 
$
1,084,305

 
$
1,138,223


A summary of realized investment gains and (losses) is as follows:
 
 
Three months ended March 31,
($ in thousands)
 
2015
 
2014
Fixed maturity securities available-for-sale:
 
 
 
 
Gross realized investment gains
 
$
535

 
$
81

Gross realized investment losses
 

 
(92
)
 
 
 
 
 
Equity securities available-for-sale:
 
 
 
 
Gross realized investment gains
 
2,594

 
2,033

Gross realized investment losses
 
(329
)
 
(76
)
"Other-than-temporary" impairments
 
(618
)
 
(316
)
 
 
 
 
 
Other long-term investments:
 
 
 
 
Gross realized investment losses
 
(1,399
)
 
(368
)
Totals
 
$
783

 
$
1,262


Gains and losses realized on the disposition of investments are included in net income.  The cost of investments sold is determined on the specific identification method using the highest cost basis first.  The Company did not have any outstanding cumulative credit losses on fixed maturity securities that have been recognized in earnings from “other-than-temporary” impairments during any of the reported periods. The amounts reported as “other-than-temporary” impairments on equity securities do not include any individually significant items. The realized investment losses recognized on other long-term investments for the three months ended March 31, 2015 and 2014 represent changes in the carrying value of a limited partnership that is used solely to support an equity tail-risk hedging strategy.

9.
CONTINGENT LIABILITIES
The Company and Employers Mutual and its other subsidiaries are parties to numerous lawsuits arising in the normal course of the insurance business.  The Company believes that the resolution of these lawsuits will not have a material adverse effect on its financial condition or its results of operations.  The companies involved have established reserves which are believed adequate to cover any potential liabilities arising out of all such pending or threatened proceedings.

26


The participants in the pooling agreement have purchased annuities from life insurance companies, under which the claimant is payee, to fund future payments that are fixed pursuant to specific claim settlement provisions.  The Company’s share of case loss reserves eliminated by the purchase of those annuities was $110,000 at December 31, 2014.  The Company had a contingent liability for the aggregate guaranteed amount of the annuities of $183,000 at December 31, 2014 should the issuers of those annuities fail to perform.  Although management is not able to verify the amount, the Company would likely have a similar contingent liability at March 31, 2015.  The probability of a material loss due to failure of performance by the issuers of these annuities is considered remote.

10.
STOCK REPURCHASE PROGRAM
On November 3, 2011, the Company’s Board of Directors authorized a $15 million stock repurchase program.  This program became effective immediately and does not have an expiration date.  The timing and terms of the purchases are determined by management based on board approved parameters and market conditions, and are conducted in accordance with the applicable rules of the Securities and Exchange Commission.  Common stock repurchased under this program will be retired by the Company.  No purchases have been made under this program.

11.
ACCUMULATED OTHER COMPREHENSIVE INCOME
The Company has available-for-sale securities and receives an allocation of the actuarial losses and net prior service credits associated with Employers Mutual’s pension and postretirement benefit plans, both of which generate accumulated other comprehensive income (loss) amounts.  The following table reconciles, by component, the beginning and ending balances of accumulated other comprehensive income, net of tax.
 
 
Accumulated other comprehensive income by component
($ in thousands)
 
Unrealized
gains (losses) on
available-for-
sale securities
 
Unrecognized
pension and
postretirement
benefit obligations
 
Total
Balance at December 31, 2014
 
$
78,362

 
$
3,300

 
$
81,662

Other comprehensive income before reclassifications
 
4,993

 

 
4,993

Amounts reclassified from accumulated other comprehensive income
 
(1,418
)
 
(353
)
 
(1,771
)
Other comprehensive income (loss)
 
3,575

 
(353
)
 
3,222

Balance at March 31, 2015
 
$
81,937

 
$
2,947

 
$
84,884




27


The following tables display amounts reclassified out of accumulated other comprehensive income and into net income during the three months ended March 31, 2015 and 2014, respectively.
 
 
Amounts reclassified from accumulated other comprehensive income
($ in thousands)
 
 
Accumulated other comprehensive
income components
 
Three months ended 
 March 31, 2015
 
Affected line item in the
consolidated statements
of income
Unrealized gains on investments:
 
 
 
 
Reclassification adjustment for realized investment gains included in net income
 
$
2,182

 
Net realized investment gains
Deferred income tax expense
 
(764
)
 
Income tax expense, current
Net reclassification adjustment
 
1,418

 
 
 
 
 
 
 
Unrecognized pension and postretirement benefit obligations:
 
 
 
 
Reclassification adjustment for amounts amortized into net periodic pension and postretirement benefit income:
 
 
 
 
Net actuarial loss
 
(284
)
 
(1)
Prior service credit
 
827

 
(1)
Total before tax
 
543

 
 
Deferred income tax expense
 
(190
)
 
Income tax expense, current
Net reclassification adjustment
 
353

 
 
 
 
 
 
 
Total reclassification adjustment
 
$
1,771

 
 
(1)
These reclassified accumulated other comprehensive income components are included in the computation of net periodic pension and postretirement benefit income (see Note 5, Employee Retirement Plans, for additional details).

28


 
 
Amounts reclassified from accumulated other comprehensive income
($ in thousands)
 
 
Accumulated other comprehensive
income components
 
Three months ended March 31, 2014
 
Affected line item in the
consolidated statements
of income
Unrealized gains on investments:
 
 
 
 
Reclassification adjustment for realized investment gains included in net income
 
$
1,630

 
Net realized investment gains
Deferred income tax expense
 
(571
)
 
Income tax expense, current
Net reclassification adjustment
 
1,059

 
 
 
 
 
 
 
Unrecognized pension and postretirement benefit obligations:
 
 
 
 
Reclassification adjustment for amounts amortized into net periodic pension and postretirement benefit income:
 
 
 
 
Net actuarial loss
 
(136
)
 
(1)
Prior service credit
 
827

 
(1)
Total before tax
 
691

 
 
Deferred income tax expense
 
(242
)
 
Income tax expense, current
Net reclassification adjustment
 
449

 
 
 
 
 
 
 
Total reclassification adjustment
 
$
1,508

 
 
(1)
These reclassified accumulated other comprehensive income components are included in the computation of net periodic pension and postretirement benefit income (see Note 5, Employee Retirement Plans, for additional details).

12.
NEW ACCOUNTING PRONOUNCEMENTS
In May 2014, the Financial Accounting Standards Board (FASB) updated its guidance related to the Revenue from Contracts with Customers Topic 606 of the Accounting Standards CodificationTM (Codification or ASC).  The objective of this update is to improve the reporting of revenue by providing a more robust framework for addressing revenue issues, and improved disclosure requirements. Current revenue recognition guidance in U.S. GAAP is comprised of broad revenue recognition concepts together with numerous revenue requirements for particular industries or transactions, which sometimes result in different accounting for economically similar transactions. This guidance is to be applied retrospectively to annual and interim reporting periods beginning after December 15, 2016.  Early adoption is not permitted.  The Company will adopt this guidance during the first quarter of 2017. Since premium revenue from insurance contracts is excluded from the scope of this updated guidance, adoption is expected to have little or no impact on the consolidated financial condition or operating results of the Company. The Company's largest non-premium revenue item is service charges related to the billing of the pool participants' direct written premiums to policyholders, which is included in "Other income" in the consolidated statements of income.

13.
SUBSEQUENT EVENTS
On May 7, 2015, the Company announced that its board of directors has approved a three-for-two stock split of the Company’s outstanding shares of common stock, to be effected in the form of a 50 percent stock dividend. Stockholders of record at the close of business on June 16, 2015 will receive one additional share of EMC Insurance Group Inc. common stock for every two shares of common stock held. The additional shares of EMC Insurance Group Inc. common stock will be distributed on June 23, 2015. The par value of the common stock will remain at $1.00 per share after the completion of the stock split.


29


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Unaudited)

The term “Company” is used below interchangeably to describe EMC Insurance Group Inc. (Parent Company only) and EMC Insurance Group Inc. and its subsidiaries.  The following discussion and analysis of the Company’s financial condition and results of operations should be read in conjunction with the Consolidated Financial Statements and Notes to Consolidated Financial Statements included under Item 1 of this Form 10-Q, and the Management’s Discussion and Analysis of Financial Condition and Results of Operations section of the Company’s 2014 Form 10-K.

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
The Private Securities Litigation Reform Act of 1995 provides issuers the opportunity to make cautionary statements regarding forward-looking statements.  Accordingly, any forward-looking statement contained in this report is based on management’s current beliefs, assumptions and expectations of the Company’s future performance, taking all information currently available into account.  These beliefs, assumptions and expectations can change as the result of many possible events or factors, not all of which are known to management.  If a change occurs, the Company’s business, financial condition, liquidity, results of operations, plans and objectives may vary materially from those expressed in the forward-looking statements.  The risks and uncertainties that may affect the actual results of the Company include, but are not limited to, the following:
catastrophic events and the occurrence of significant severe weather conditions;
the adequacy of loss and settlement expense reserves;
state and federal legislation and regulations;
changes in the property and casualty insurance industry, interest rates or the performance of financial markets and the general economy;
rating agency actions;
“other-than-temporary” investment impairment losses; and
other risks and uncertainties inherent to the Company’s business, including those discussed under the heading “Risk Factors” in the Company’s Annual Report on Form 10-K.
Management intends to identify forward-looking statements when using the words “believe”, “expect”, “anticipate”, “estimate”, “project” or similar expressions.  Undue reliance should not be placed on these forward-looking statements. The Company disclaims any obligation to update such statements or to announce publicly the results of any revisions that it may make to any forward-looking statements to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.

COMPANY OVERVIEW
The Company, a majority owned subsidiary of Employers Mutual Casualty Company (Employers Mutual), is an insurance holding company with operations in property and casualty insurance and reinsurance.
Property and casualty insurance operations are conducted through three subsidiaries and represent the most significant segment of the Company’s business, totaling 78 percent of consolidated premiums earned during the first three months of 2015.  The property and casualty insurance operations are integrated with the property and casualty insurance operations of Employers Mutual through participation in a reinsurance pooling agreement.  Because the Company conducts its property and casualty insurance operations together with Employers Mutual through the reinsurance pooling agreement, the Company shares the same business philosophy, management, employees and facilities as Employers Mutual and offers the same types of insurance products.

30


Reinsurance operations are conducted through EMC Reinsurance Company and accounted for 22 percent of consolidated premiums earned during the first three months of 2015.  The principal business activity of EMC Reinsurance Company is to assume, through a quota share reinsurance agreement, 100 percent of Employers Mutual’s assumed reinsurance business, subject to certain exceptions.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The accounting policies and estimates considered by management to be critically important in the preparation and understanding of the Company’s financial statements and related disclosures are presented in the Management’s Discussion and Analysis of Financial Condition and Results of Operations section of the Company’s 2014 Form 10-K.

RESULTS OF OPERATIONS
Results of operations by segment and on a consolidated basis for the three months ended March 31, 2015 and 2014 are as follows:
 
 
Three months ended March 31,
($ in thousands)
 
2015
 
2014
Property and casualty insurance
 
 
 
 
Premiums earned
 
$
108,205

 
$
101,247

Losses and settlement expenses
 
56,675

 
67,726

Acquisition and other expenses
 
37,452

 
33,996

Underwriting profit (loss)
 
$
14,078

 
$
(475
)
 
 
 
 
 
GAAP ratios:
 
 
 
 
Loss and settlement expense ratio
 
52.4
%
 
66.9
%
Acquisition expense ratio
 
34.6
%
 
33.6
%
Combined ratio
 
87.0
%
 
100.5
%
 
 
 
 
 
Losses and settlement expenses:
 
 
 
 
Insured events of current year
 
$
65,940

 
$
68,665

Decrease in provision for insured events of prior years
 
(9,265
)
 
(939
)
 
 
 
 
 
Total losses and settlement expenses
 
$
56,675

 
$
67,726

 
 
 
 
 
Catastrophe and storm losses
 
$
1,761

 
$
6,972

 
 
 
 
 
Large losses
 
$
4,258

 
$
4,196


31


 
 
Three months ended March 31,
($ in thousands)
 
2015
 
2014
Reinsurance
 
 
 
 
Premiums earned
 
$
30,526

 
$
31,833

Losses and settlement expenses
 
19,110

 
21,243

Acquisition and other expenses
 
8,410

 
7,765

Underwriting profit
 
$
3,006

 
$
2,825

 
 
 
 
 
GAAP ratios:
 
 
 
 
Loss and settlement expense ratio
 
62.6
%
 
66.7
%
Acquisition expense ratio
 
27.6
%
 
24.4
%
Combined ratio
 
90.2
%
 
91.1
%
 
 
 
 
 
Losses and settlement expenses:
 
 
 
 
Insured events of current year
 
$
24,438

 
$
22,892

Decrease in provision for insured events of prior years
 
(5,328
)
 
(1,649
)
 
 
 
 
 
Total losses and settlement expenses
 
$
19,110

 
$
21,243

 
 
 
 
 
Catastrophe and storm losses
 
$
2,809

 
$
440


32


 
 
Three months ended March 31,
($ in thousands, except per share amounts)
 
2015
 
2014
Consolidated
 
 
 
 
REVENUES
 
 
 
 
Premiums earned
 
$
138,731

 
$
133,080

Net investment income
 
11,206

 
11,855

Realized investment gains
 
783

 
1,262

Other income
 
1,615

 
34

 
 
152,335

 
146,231

LOSSES AND EXPENSES
 
 
 
 
Losses and settlement expenses
 
75,785

 
88,969

Acquisition and other expenses
 
45,862

 
41,761

Interest expense
 
84

 
84

Other expense
 
667

 
528

 
 
122,398

 
131,342

 
 
 
 
 
Income before income tax expense
 
29,937

 
14,889

Income tax expense
 
9,607

 
4,294

Net income
 
$
20,330

 
$
10,595

 
 
 
 
 
Net income per share
 
$
1.49

 
$
0.79

 
 
 
 
 
GAAP ratios:
 
 
 
 
Loss and settlement expense ratio
 
54.6
%
 
66.9
%
Acquisition expense ratio
 
33.1
%
 
31.3
%
Combined ratio
 
87.7
%
 
98.2
%
 
 
 
 
 
Losses and settlement expenses:
 
 
 
 
Insured events of current year
 
$
90,378

 
$
91,557

Decrease in provision for insured events of prior years
 
(14,593
)
 
(2,588
)
 
 
 
 
 
Total losses and settlement expenses
 
$
75,785

 
$
88,969

 
 
 
 
 
Catastrophe and storm losses
 
$
4,570

 
$
7,412

 
 
 
 
 
Large losses
 
$
4,258

 
$
4,196


The Company reported net income of $20.3 million ($1.49 per share) during the three months ended March 31, 2015, compared to $10.6 million ($0.79 per share) during the same period in 2014.  Results for the first quarter of 2015 are very encouraging, with both segments producing a substantial amount of underwriting profit. The property and casualty insurance segment, in particular, posted much better results due to a combination of: 1) a decline in weather-related losses (i.e., frozen pipes, roof collapses, auto accidents, fires, and slip and fall incidents) from the unusually high level experienced in the first quarter of 2014 due to the severe winter weather and unusually cold temperatures that persisted across much of the country during January and February, 2) an increase in favorable reserve development and 3) improved premium rate adequacy. Investment income declined 5.5 percent; however, most of this decline is attributed to the early payoff of a commercial mortgage-backed security during the first quarter of 2014 that had been purchased at a significant discount to par value, which accelerated the accretion of the discount and therefore increased investment income.

33



Premium income
Premiums earned increased 4.2 percent to $138.7 million for the three months ended March 31, 2015 from $133.1 million for the same period in 2014.  The property and casualty insurance segment reported an increase, while the reinsurance segment reported a decline. Rate levels continue to be restrained by increased competition, especially for quality accounts with good loss experience. Average rate level increases were in the low single-digits in the property and casualty insurance segment during the first quarter, and are expected to remain at that level during the remainder of the year. Rates-on-line for excess of loss reinsurance renewal business declined approximately 3.0 percent during the January 1 renewal season, but those declines were partially offset by a slight increase in retentions and an increase in limits purchased.
Premiums earned for the property and casualty insurance segment increased 6.9 percent to $108.2 million for the three months ended March 31, 2015 from $101.2 million for the same period in 2014.  This increase is primarily associated with renewal business, which increased six percent during the first quarter of 2015 due to a combination of rate level increases, growth in insured exposures and an increase in retained policies in the commercial lines of business. Renewal rates across both commercial and personal lines of business increased approximately three percent during the first quarter of 2015, and are expected to continue at a low single-digit pace through the remainder of the year due to competition restraints. While renewal rates for personal lines of business increased, written premiums were down due to the continued intentional reduction in policy count to lessen exposure concentrations.  During the first quarter of 2015, the overall policy retention rate remained strong at 86.1 percent (commercial lines at 86.9 percent and personal lines at 85.0 percent). These retention rates approximate those at the end of 2014.  New business continues to be in the desired range of growth (at 14 percent of the pool participants’ direct written premiums), and continues to be strongest outside of the core Midwest market.  This growth helps diversify the pool participants' book of business geographically, while staying consistent with the industry and line of business mix of the existing book of business. New business premium increased six percent overall, coming entirely from the commercial lines of business (personal lines new business premium was down).
Premiums earned for the reinsurance segment decreased 4.1 percent to $30.5 million for the three months ended March 31, 2015 from $31.8 million for the same period in 2014. This decrease primarily occurred in the pro rata property line of business, and is attributed to a non-recurring upward revision in the estimated ultimate premium for all accounts that was recognized in the first quarter of 2014. Competition in the reinsurance market began to increase during 2014 due to the entrance of non-traditional capital and this trend has continued into 2015, but at a more moderate level. As a result, premiums earned for excess of loss business was down slightly in the first quarter of 2015 compared to the same period in 2014.

Losses and settlement expenses
Losses and settlement expenses decreased 14.8 percent to $75.8 million for the three months ended March 31, 2015 from $89.0 million for the same period in 2014.  The loss and settlement expense ratio decreased to 54.6 percent for the three months ended March 31, 2015 from 66.9 percent for the same period in 2014.  Both segments experienced improvements in their loss and settlement expense ratios, but the improvement was especially large in the property and casualty insurance segment due to the unusually high level of losses that resulted from the severe winter weather and unusually cold temperatures experienced across much of the country in the first quarter of 2014. The actuarial analysis of the Company’s carried reserves as of December 31, 2014 indicated that the level of reserve adequacy was consistent with other recent evaluations.  From management’s perspective, this measure is more relevant to an understanding of the Company’s results of operations than the composition of the underwriting results between the current and prior accident years.

34


The loss and settlement expense ratio for the property and casualty insurance segment decreased to 52.4 percent for the three months ended March 31, 2015 from 66.9 percent for the same period in 2014.  This decrease is largely attributed to a decline in overall claim frequency across all major lines of business, primarily driven by the unusually high level of losses experienced during the first quarter of 2014 due to severe winter weather. Many of the first quarter 2014 severe winter weather losses were not classified as catastrophe and storm losses because cold weather events are generally not assigned an occurrence code by the Property & Liability Resource Bureau (PLRB); however, losses attributed to the polar vortex that impacted the eastern United States in early January were classified as catastrophe and storm losses because the PLRB assigned an occurrence code to that event. Catastrophe and storm losses accounted for just 1.6 percentage points of the loss and settlement expense ratio for the first quarter of 2015, compared to 6.9 percentage points during the same period in 2014 and 4.7 percentage points for the most recent 10-year average for this period. Large losses, which the Company defines as losses greater than $500,000 for the EMC Insurance Companies’ pool, excluding catastrophe and storm losses, were less than expected during the first quarters of both 2015 and 2014, accounting for just 3.9 and 4.1 percentage points, respectively, of the loss and settlement expense ratios.  Favorable development on prior years’ reserves increased substantially during the first quarter of 2015 compared to the same period in 2014. This increase is largely attributed to a return to historically observed development patterns on claims reported in prior accident years. Development amounts can vary significantly from quarter to quarter and year to year depending on a number of factors, including the number of claims settled and the settlement terms.
The loss and settlement expense ratio for the reinsurance segment decreased to 62.6 percent for the three months ended March 31, 2015 from 66.7 percent for the same period in 2014. This improvement is attributed to a decline in reported large losses (losses greater than $100,000), as well as an increase in the amount of favorable development experienced on prior years' reserves. Catastrophe and storm losses increased during the first quarter of 2015, primarily due to the large number of snow storms in the Northeastern United States.

Acquisition and other expenses
Acquisition and other expenses increased 9.8 percent to $45.9 million for the three months ended March 31, 2015 from $41.8 million for the same period in 2014.  The acquisition expense ratio increased to 33.1 percent for the three months ended March 31, 2015 from 31.3 percent for the same period in 2014.  The increase in the acquisition expense ratio is primarily attributed to an increase in commission expense in the reinsurance segment and an increase in policyholder dividend expense in the property and casualty insurance segment. Acquisition and other expenses for both periods include net periodic postretirement benefit income resulting from the amortization of a large prior service credit that resulted from an amendment of Employers Mutual's postretirement benefit plan in the fourth quarter of 2013. This prior service credit was recognized in accumulated other comprehensive income in the fourth quarter of 2013, and is being amortized out of accumulated other comprehensive income and into net income over 10 years.
The acquisition expense ratio for the property and casualty insurance segment increased to 34.6 percent for the three months ended March 31, 2015 from 33.6 percent for the same period in 2014.  This increase is attributed to higher policyholder dividend expense resulting from favorable loss experience on several safety dividend groups.
The acquisition expense ratio for the reinsurance segment increased to 27.6 percent for the three months ended March 31, 2015 from 24.4 percent for the same period in 2014. This increase is primarily attributed to a $1.1 million commission adjustment reported by a ceding company during the first quarter of 2015 that related to prior periods. The higher commission expense was partially offset by a decline in contingent commission expense.

Investment results
Net investment income decreased 5.5 percent to $11.2 million for the three months ended March 31, 2015 from $11.9 million for the same period in 2014.  Much of this decline is attributed to an early payoff of a commercial mortgage-backed security during the first quarter of 2014 that had been purchased at a significant discount to par value, which accelerated the accretion of the discount to par value and therefore increased investment income. Current interest rate levels remain below the average coupon rate of the fixed maturity portfolio, and will therefore likely continue to limit future growth in net investment income. The average coupon rate on the fixed maturity portfolio, excluding interest-only securities, was steady at 3.9 percent at March 31, 2015 and December 31, 2014, but down slightly from 4.0 percent at March 31, 2014.  The effective duration of the fixed maturity portfolio, excluding interest-only securities, was unchanged at 4.6 at both March 31, 2015 and December 31, 2014. The Company’s equity security holdings produced dividend income of $1.3 million during the first quarter of 2015 compared to $1.5 million during the same period of 2014.

35


The Company had net realized investment gains of $783,000 during the three months ended March 31, 2015 compared to $1.3 million during the same period in 2014. The reported amounts include $1.4 million and $368,000, respectively, of realized losses attributed to the decline in the carrying value of a limited partnership that helps protect the Company from a sudden and significant decline in the value of its equity portfolio (an equity tail-risk hedging strategy). The Company recognized "other-than-temporary" impairment losses of $618,000 during the three months ended March 31, 2015, compared to $316,000 during the same period in 2014. Those impairment losses were recognized on four equity securities in 2015 and two equity securities in 2014.

Other income
Included in other income are foreign currency exchange gains and losses recognized on the reinsurance segment’s foreign currency denominated reinsurance business.  For the three months ended March 31, 2015, the reinsurance segment had foreign currency exchange gains of $1.4 million, compared to foreign currency exchange losses of $166,000 during the same period in 2014.

Income tax
Income tax expense increased to $9.6 million for the three months ended March 31, 2015 from $4.3 million for the same period in 2014. The effective tax rate for the three months ended March 31, 2015 was 32.1 percent compared to 28.8 percent for the same period in 2014. The primary contributor to the differences between these effective tax rates and the United States federal corporate tax rate of 35 percent is tax-exempt interest income earned.

LIQUIDITY AND CAPITAL RESOURCES
Liquidity
Liquidity is a measure of a company’s ability to generate sufficient cash flows to meet cash obligations.  The Company had positive cash flows from operations of $5.7 million and $2.1 million during the first three months of 2015 and 2014, respectively. The Company typically generates substantial positive cash flows from operations because cash from premium payments is generally received in advance of cash payments made to settle claims.  These positive cash flows provide the foundation of the Company’s asset/liability management program and are the primary driver of the Company’s liquidity.  The Company invests in high quality, liquid securities to match the anticipated payments of losses and settlement expenses of the underlying insurance policies.  Because the timing of the losses is uncertain, the majority of the portfolio is maintained in short to intermediate maturity securities that can be easily liquidated or that generate adequate cash flow to meet liabilities.
The Company is a holding company whose principal asset is its investment in its property and casualty insurance subsidiaries and its reinsurance subsidiary (“insurance subsidiaries”).  As a holding company, the Company is dependent upon cash dividends from its insurance subsidiaries to meet all its obligations, including cash dividends to stockholders and the funding of the Company’s stock repurchase programs.  State insurance regulations restrict the maximum amount of dividends insurance companies can pay without prior regulatory approval.  The maximum amount of dividends that the insurance subsidiaries can pay to the Company in 2015 without prior regulatory approval is approximately $45.5 million.  The Company received $227,000 and $226,000 of dividends from its insurance subsidiaries and paid cash dividends to its stockholders totaling $3.4 million and $3.1 million during the first three months of 2015 and 2014, respectively.
The Company’s insurance subsidiaries must maintain adequate liquidity to ensure that their cash obligations are met; however, because of the property and casualty insurance subsidiaries’ participation in the pooling agreement and the reinsurance subsidiary’s participation in the quota share agreement, they do not have the daily liquidity concerns normally associated with an insurance company.  This is because under the terms of the pooling and quota share agreements, Employers Mutual receives all premiums and pays all losses and expenses associated with the insurance business produced by the pool participants and the assumed reinsurance business ceded to the Company’s reinsurance subsidiary, and then settles inter-company balances generated by these transactions with the participating companies on a monthly (pool participants) or quarterly (reinsurance subsidiary) basis.

36


At the insurance subsidiary level, the primary sources of cash are premium income, investment income and proceeds from called or matured investments.  The principal outflows of cash are payments of claims, commissions, premium taxes, operating expenses, income taxes, dividends, interest and principal payments on debt, and investment purchases.  Cash outflows vary because of uncertainties regarding settlement dates for unpaid losses and the potential for large losses, either individually or in the aggregate.  Accordingly, the insurance subsidiaries maintain investment and reinsurance programs intended to provide adequate funds to pay claims without forced sales of investments.  The insurance subsidiaries also have the ability to borrow funds on a short-term basis (180 days) from Employers Mutual and its subsidiaries and affiliate under an Inter-Company Loan Agreement. In addition, Employers Mutual maintains access to a line of credit with the Federal Home Loan Bank that could be used to provide the insurance subsidiaries additional liquidity if needed.
The Company maintains a portion of its investment portfolio in relatively short-term and highly liquid investments to ensure the availability of funds to pay claims and expenses.  A variety of maturities are maintained in the Company’s investment portfolio to assure adequate liquidity.  The maturity structure of the fixed maturity portfolio is also established by the relative attractiveness of yields on short, intermediate and long-term securities.  The Company does not invest in non-investment grade debt securities.  Any non-investment grade securities held by the Company are the result of rating downgrades subsequent to their purchase.
The Company invests for the long term and generally purchases fixed maturity securities with the intent to hold them to maturity.  Despite this intent, the Company currently classifies fixed maturity securities as available-for-sale to provide flexibility in the management of its investment portfolio.  At March 31, 2015 and December 31, 2014, the Company had net unrealized holding gains, net of deferred taxes, on its fixed maturity securities available-for-sale of $35.0 million and $30.9 million, respectively.  The fluctuation in the fair value of these investments is primarily due to changes in the interest rate environment during this time period, but also reflects fluctuations in risk premium spreads over U.S. Treasuries.  Since the Company intends to hold fixed maturity securities to maturity, such fluctuations in the fair value of these investments are not expected to have a material impact on the operations of the Company, as forced liquidations of investments are not anticipated. The Company closely monitors the bond market and makes appropriate adjustments in its portfolio as conditions warrant.
The majority of the Company’s assets are invested in fixed maturity securities.  These investments provide a substantial amount of investment income that supplements underwriting results and contributes to net earnings.  As these investments mature, or are called, the proceeds are reinvested at current interest rates, which may be higher or lower than those now being earned; therefore, more or less investment income may be available to contribute to net earnings.  Due to the prolonged low interest rate environment, proceeds from calls and maturities in recent years have been reinvested at lower yields, which has had a negative impact on investment income.
The Company held $9.7 million and $6.2 million in minority ownership interests in limited partnerships and limited liability companies at March 31, 2015 and December 31, 2014, respectively.  During the first quarters of 2015 and 2014, the Company invested $4.0 million and $4.4 million, respectively, in a limited partnership that is designed to help protect the Company from a sudden and significant decline in the value of its equity portfolio. This investment is included in "other long-term investments" in the Company's financial statements and is carried under the equity method of accounting.
The Company’s cash balance was $404,000 and $383,000 at March 31, 2015 and December 31, 2014, respectively.
During the first three months of 2015, Employers Mutual made no contributions to its qualified pension plan or postretirement benefit plans.  The Company’s share of Employers Mutual’s 2015 planned contribution to its pension plan, if made, will be approximately $2.1 million. No contributions will be made to the VEBA trust in 2015.
During the first three months of 2014, Employers Mutual made no contributions to its qualified pension plan or postretirement benefit plans.  The Company reimbursed Employers Mutual $2.2 million for its share of the total 2014 pension contribution (no contributions were made to the postretirement benefit plans during 2014).

Capital Resources
Capital resources consist of stockholders’ equity and debt, representing funds deployed or available to be deployed to support business operations.  For the Company’s insurance subsidiaries, capital resources are required to support premium writings.  Regulatory guidelines suggest that the ratio of a property and casualty insurer’s annual net premiums written to its statutory surplus should not exceed three to one.  On an annualized basis, all of the Company’s property and casualty insurance subsidiaries were well under this guideline at March 31, 2015.

37


The Company’s insurance subsidiaries are required to maintain a certain minimum level of surplus on a statutory basis, and are subject to regulations under which the payment of dividends from statutory surplus is restricted and may require prior approval of their domiciliary insurance regulatory authorities.  The Company’s insurance subsidiaries are also subject to annual Risk Based Capital (RBC) requirements that may further impact their ability to pay dividends.  RBC requirements attempt to measure minimum statutory capital needs based upon the risks in a company’s mix of products and investment portfolio.  At December 31, 2014, the Company’s insurance subsidiaries had total adjusted statutory capital of $454.8 million, which is well in excess of the minimum risk-based capital requirement of $73.2 million.
The Company’s total cash and invested assets at March 31, 2015 and December 31, 2014 are summarized as follows:
 
 
March 31, 2015
($ in thousands)
 
Amortized
cost
 
Fair
value
 
Percent of total
fair value
 
Carrying
value
Fixed maturity securities available-for-sale
 
$
1,084,305

 
$
1,138,223

 
81.6
%
 
$
1,138,223

Equity securities available-for-sale
 
127,418

 
199,557

 
14.3

 
199,557

Cash
 
404

 
404

 

 
404

Short-term investments
 
47,233

 
47,233

 
3.4

 
47,233

Other long-term investments
 
9,717

 
9,717

 
0.7

 
9,717

 
 
$
1,269,077

 
$
1,395,134

 
100.0
%
 
$
1,395,134


 
 
December 31, 2014
($ in thousands)
 
Amortized
cost
 
Fair
value
 
Percent of total
fair value
 
Carrying
value
Fixed maturity securities available-for-sale
 
$
1,080,006

 
$
1,127,499

 
81.5
%
 
$
1,127,499

Equity securities available-for-sale
 
123,972

 
197,036

 
14.2

 
197,036

Cash
 
383

 
383

 

 
383

Short-term investments
 
53,262

 
53,262

 
3.9

 
53,262

Other long-term investments
 
6,227

 
6,227

 
0.4

 
6,227

 
 
$
1,263,850

 
$
1,384,407

 
100.0
%
 
$
1,384,407



38


The amortized cost and estimated fair value of fixed maturity and equity securities at March 31, 2015 were as follows:
($ in thousands)
 
Amortized
cost
 
Gross
unrealized
gains
 
Gross
unrealized
losses
 
Estimated
fair value
Securities available-for-sale:
 
 
 
 
 
 
 
 
Fixed maturity securities:
 
 
 
 
 
 
 
 
U.S. treasury
 
$
9,582

 
$
210

 
$

 
$
9,792

U.S. government-sponsored agencies
 
220,768

 
3,295

 
1,034

 
223,029

Obligations of states and political subdivisions
 
294,630

 
27,704

 
41

 
322,293

Commercial mortgage-backed
 
41,277

 
3,581

 

 
44,858

Residential mortgage-backed
 
97,867

 
1,484

 
5,020

 
94,331

Other asset-backed
 
13,742

 
1,243

 

 
14,985

Corporate
 
406,439

 
22,727

 
231

 
428,935

Total fixed maturity securities
 
1,084,305

 
60,244

 
6,326

 
1,138,223

 
 
 
 
 
 
 
 
 
Equity securities:
 
 
 
 
 
 
 
 
Common stocks:
 
 
 
 
 
 
 
 
Financial services
 
23,724

 
10,719

 
166

 
34,277

Information technology
 
17,470

 
9,964

 
54

 
27,380

Healthcare
 
15,536

 
13,665

 
2

 
29,199

Consumer staples
 
8,827

 
6,106

 
10

 
14,923

Consumer discretionary
 
12,706

 
11,868

 
15

 
24,559

Energy
 
16,375

 
7,558

 
351

 
23,582

Industrials
 
9,555

 
8,695

 
89

 
18,161

Other
 
11,143

 
3,669

 
68

 
14,744

Non-redeemable preferred stocks
 
12,082

 
820

 
170

 
12,732

Total equity securities
 
127,418

 
73,064

 
925

 
199,557

Total securities available-for-sale
 
$
1,211,723

 
$
133,308

 
$
7,251

 
$
1,337,780


The Company’s property and casualty insurance subsidiaries have $25.0 million of surplus notes issued to Employers Mutual.  The interest rate on the surplus notes is 1.35 percent.  Reviews of the interest rate are conducted by the Inter-Company Committees of the boards of directors of the Company and Employers Mutual every five years, with the next review due in 2018.  Payments of interest and repayments of principal can only be made out of the applicable subsidiary’s statutory surplus and are subject to prior approval by the insurance commissioner of the respective states of domicile.  The surplus notes are subordinate and junior in right of payment to all obligations or liabilities of the applicable insurance subsidiaries.  Total interest expense incurred on these surplus notes was $84,000 during the first three months of 2015 and 2014.  During the first quarter of 2015, the Company’s property and casualty insurance subsidiaries paid Employers Mutual for the interest that had been accrued on the surplus notes during 2014.
As of March 31, 2015, the Company had no material commitments for capital expenditures.


39


Off-Balance Sheet Arrangements
Employers Mutual collects from agents, policyholders and ceding companies all written premiums associated with the insurance business produced by the pool participants and the assumed reinsurance business ceded to the reinsurance subsidiary. Employers Mutual also collects from its reinsurers all losses and settlement expenses recoverable under the reinsurance contracts covering the pool participants and the fronting business ceded to the reinsurance subsidiary. Employers Mutual settles with the pool participants (monthly) and the reinsurance subsidiary (quarterly) the premiums written from these insurance policies and the paid losses and settlement expenses recoverable under the reinsurance contracts, providing full credit for the premiums written and the paid losses and settlement expenses recoverable under the reinsurance contracts generated during the period (not just the collected portion). Due to this arrangement, and since a significant portion of the premium balances are collected over the course of the coverage period, Employers Mutual carries a substantial receivable balance for insurance and reinsurance premiums in process of collection and, to a lesser extent, paid losses and settlement expenses recoverable from the reinsurance companies.  Any of these receivable amounts that are ultimately deemed to be uncollectible are charged-off by Employers Mutual and the expense is charged to the reinsurance subsidiary or allocated to the pool members on the basis of pool participation.  As a result, the Company has off-balance sheet arrangements with an unconsolidated entity that results in credit-risk exposures (Employers Mutual’s insurance and reinsurance premium receivable balances, and paid loss and settlement expense recoverable amounts) that are not reflected in the Company’s financial statements.  The average annual expense for such charge-offs allocated to the Company over the past ten years is $354,000. Based on this historical data, this credit-risk exposure is not considered to be material to the Company’s results of operations or financial position and, accordingly, no loss contingency liability has been recorded.

Investment Impairments and Considerations
The Company recorded "other-than-temporary" investment impairment losses of $618,000 during the three months ended March 31, 2015 on four equity securities, compared to $316,000 on two equity securities during the same period in 2014.
At March 31, 2015, the Company had unrealized losses on available-for-sale securities as presented in the following table. The estimated fair value is based on quoted market prices, where available.  In cases where quoted market prices are not available, fair values are based on a variety of valuation techniques depending on the type of security.  None of these securities are considered to be in concentrations by either security type or industry.  The Company uses several factors to determine whether the carrying value of an individual security has been “other-than-temporarily” impaired.  Such factors include, but are not limited to, the security’s value and performance in the context of the overall markets, length of time and extent the security’s fair value has been below carrying value, key corporate events and, for fixed maturity securities, the amount of collateral available. Based on these factors, the absence of management’s intent to sell these securities prior to recovery or maturity, and the fact that management does not anticipate that it will be forced to sell these securities prior to recovery or maturity, it was determined that the carrying value of these securities were not “other-than-temporarily” impaired at March 31, 2015.  Risks and uncertainties inherent in the methodology utilized in this evaluation process include interest rate risk, equity price risk, and the overall performance of the economy, all of which have the potential to adversely affect the value of the Company’s investments. Should a determination be made at some point in the future that these unrealized losses are “other-than-temporary”, the Company’s earnings would be reduced by approximately $4.7 million, net of tax; however, the Company’s financial position would not be affected because unrealized losses on available-for-sale securities are reflected in the Company’s financial statements as a component of stockholders’ equity, net of deferred taxes.

40


Following is a schedule of the length of time securities have continuously been in an unrealized loss position as of March 31, 2015.
 
 
Less than twelve months
 
Twelve months or longer
 
Total
($ in thousands)
 
Fair
value
 
Unrealized
losses
 
Fair
value
 
Unrealized
losses
 
Fair
value
 
Unrealized
losses
Fixed maturity securities:
 
 
 
 
 
 
 
 
 
 
 
 
U.S. government-sponsored agencies
 
$
51,725

 
$
226

 
$
37,523

 
$
808

 
$
89,248

 
$
1,034

Obligations of states and political subdivisions
 
4,894

 
41

 

 

 
4,894

 
41

Commercial mortgage-backed
 
221

 

 

 

 
221

 

Residential mortgage-backed
 
18,318

 
1,161

 
23,684

 
3,859

 
42,002

 
5,020

Corporate
 
11,730

 
46

 
12,540

 
185

 
24,270

 
231

Total, fixed maturity securities
 
86,888

 
1,474

 
73,747

 
4,852

 
160,635

 
6,326

Equity securities:
 
 
 
 
 
 
 
 
 
 
 
 
Common stocks:
 
 
 
 
 
 
 
 
 
 
 
 
Financial services
 
5,130

 
158

 
57

 
8

 
5,187

 
166

Information technology
 
1,867

 
54

 

 

 
1,867

 
54

Healthcare
 
161

 
2

 

 

 
161

 
2

Consumer staples
 
266

 
10

 

 

 
266

 
10

Consumer discretionary
 
1,324

 
15

 

 

 
1,324

 
15

Energy
 
3,460

 
351

 

 

 
3,460

 
351

Industrials
 
2,189

 
89

 

 

 
2,189

 
89

Other
 
1,467

 
68

 

 

 
1,467

 
68

Non-redeemable preferred stocks
 

 

 
1,830

 
170

 
1,830

 
170

Total equity securities
 
15,864

 
747

 
1,887

 
178

 
17,751

 
925

Total temporarily impaired securities
 
$
102,752

 
$
2,221

 
$
75,634

 
$
5,030

 
$
178,386

 
$
7,251


The Company does not purchase non-investment grade fixed maturity securities.  Any non-investment grade fixed maturity securities held are the result of rating downgrades that occurred subsequent to their purchase.  At March 31, 2015, the Company held $905,000 of non-investment grade fixed maturity securities in a net unrealized gain position of $70,000.

41


Following is a schedule of gross realized losses recognized in the first three months of 2015.  The schedule is aged according to the length of time the underlying securities were in an unrealized loss position.  
 
 
Realized losses from sales
 
"Other-than-
temporary"
impairment
losses
 
Other realized losses (1)
 
Total
gross
realized
losses
($ in thousands)
 
Book
value
 
Sales
price
 
Gross
realized
losses
 
 
 
Fixed maturity securities:
 
 
 
 
 
 
 
 
 
 
 
 
Three months or less
 
$

 
$

 
$

 
$

 
$

 
$

Over three months to six months
 

 

 

 

 

 

Over six months to nine months
 

 

 

 

 

 

Over nine months to twelve months
 

 

 

 

 

 

Over twelve months
 

 

 

 

 

 

Subtotal, fixed maturity securities
 

 

 

 

 

 

 
 
 
 
 
 
 
 
 
 
 
 
 
Equity securities:
 
 
 
 
 
 
 
 
 
 
 
 
Three months or less
 
7,414

 
7,085

 
329

 
302

 

 
631

Over three months to six months
 

 

 

 

 

 

Over six months to nine months
 

 

 

 
264

 

 
264

Over nine months to twelve months
 

 

 

 

 

 

Over twelve months
 

 

 

 
52

 

 
52

Subtotal, equity securities
 
7,414

 
7,085

 
329

 
618

 

 
947

 
 
 
 
 
 
 
 
 
 
 
 
 
Other long-term investments:
 
 
 
 
 
 
 
 
 
 
 
 
Three months or less
 

 

 

 

 
1,399

 
1,399

Over three months to six months
 

 

 

 

 

 

Over six months to nine months
 

 

 

 

 

 

Over nine months to twelve months
 

 

 

 

 

 

Over twelve months
 

 

 

 

 

 

Subtotal, other long-term investments
 

 

 

 

 
1,399

 
1,399

 
 
 
 
 
 
 
 
 
 
 
 
 
Total realized losses
 
$
7,414

 
$
7,085

 
$
329

 
$
618

 
$
1,399

 
$
2,346

(1) The amount reported for other long-term investments represents changes in the carrying value of a limited partnership that is utilized in the Company's equity tail-risk hedging strategy. Because of the nature of this investment, which was made solely to implement the equity tail-risk hedging strategy, changes in the carrying value of the limited partnership are recorded as realized investment gains/losses.

LEASES, COMMITMENTS AND CONTINGENT LIABILITIES
One of the Company’s property and casualty insurance subsidiaries leases office facilities in Bismarck, North Dakota with lease terms expiring in 2024.  Employers Mutual has entered into various leases for branch and service office facilities with lease terms expiring through 2024.  All of these lease costs are included as expenses under the pooling agreement.  The Company’s contractual obligations as of March 31, 2015 did not change materially from those presented in the Company’s 2014 Form 10-K.

42


The participants in the pooling agreement are subject to guaranty fund assessments by states in which they write business.  Guaranty fund assessments are used by states to pay policyholder liabilities of insolvent insurers domiciled in those states.  Many states allow assessments to be recovered through premium tax offsets.  The Company has accrued estimated guaranty fund assessments of $860,000 and $931,000 as of March 31, 2015 and December 31, 2014, respectively. Premium tax offsets of $949,000 and $969,000, which are related to prior guarantee fund payments and current assessments, have been accrued as of March 31, 2015 and December 31, 2014, respectively.  The guaranty fund assessments are expected to be paid over the next two years and the premium tax offsets are expected to be realized within ten years of the payments.  The participants in the pooling agreement are also subject to second-injury fund assessments, which are designed to encourage employers to employ workers with pre-existing disabilities.  The Company has accrued estimated second-injury fund assessments of $1.8 million and $1.7 million as of March 31, 2015 and December 31, 2014, respectively.  The second-injury fund assessment accruals are based on projected loss payments.  The periods over which the assessments will be paid is not known.
The participants in the pooling agreement have purchased annuities from life insurance companies, under which the claimant is payee, to fund future payments that are fixed pursuant to specific claim settlement provisions.  Based on information provided by the life insurance companies on an annual basis, the Company’s share of case loss reserves eliminated by the purchase of those annuities was $110,000 at December 31, 2014.  The Company had a contingent liability for the aggregate guaranteed amount of the annuities of $183,000 at December 31, 2014 should the issuers of those annuities fail to perform. Although management is not able to verify the amount, the Company would likely have a similar contingent liability at March 31, 2015.  The probability of a material loss due to failure of performance by the issuers of these annuities is considered remote.

ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The main objectives in managing the Company’s investment portfolios are to maximize after-tax investment return while minimizing risk, in order to provide maximum support for the underwriting operations.  Investment strategies are developed based upon many factors including underwriting results, regulatory requirements, fluctuations in interest rates and consideration of other market risks.  Investment decisions are centrally managed by investment professionals and are supervised by the investment committees of the respective boards of directors for each of the Company’s subsidiaries.
Market risk represents the potential for loss due to adverse changes in the fair value of financial instruments, and is directly influenced by the volatility and liquidity in the markets in which the related underlying assets are traded.  The market risks of the financial instruments owned by the Company relate to the investment portfolio, which exposes the Company to interest rate (inclusive of credit spreads) and equity price risk and, to a lesser extent, credit quality and prepayment risk. Monitoring systems and analytical tools are in place to assess each of these elements of market risk; however, there can be no assurance that future changes in interest rates, creditworthiness of issuers, prepayment activity, liquidity available in the market and other general market conditions will not have a material adverse impact on the Company’s results of operations, liquidity or financial position.
Two categories of influences on market risk exist as it relates to financial instruments.  First are systematic aspects, which relate to the investing environment and are out of the control of the investment manager.  Second are non-systematic aspects, which relate to the construction of the investment portfolio through investment policies and decisions, and are under the direct control of the investment manager.  The Company is committed to controlling non-systematic risk through sound investment policies and diversification.
Further analysis of the components of the Company’s market risk (including interest rate risk, equity price risk, credit quality risk, and prepayment risk) can be found in the Company’s 2014 Form 10-K.

ITEM 4.
CONTROLS AND PROCEDURES
The Company, under the supervision and with the participation of its management, including the Chief Executive Officer and the Chief Financial Officer, evaluated the effectiveness of the design and operation of the Company’s “disclosure controls and procedures” (as defined in Rule 13a-15(e) under the Exchange Act) as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and the Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective in timely making known to them material information relating to the Company and the Company’s consolidated subsidiaries required to be disclosed in the Company’s reports filed or submitted under the Exchange Act.

43


There were no changes in the Company’s internal control over financial reporting that occurred during the first quarter ended March 31, 2015 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II.
OTHER INFORMATION

ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

The following table sets forth information regarding purchases of equity securities by the Company and affiliated purchasers for the three months ended March 31, 2015:
Period
 
(a) Total
number of
shares
(or units)
purchased (1)
 
(b) Average
price
paid
per share
(or unit)
 
(c) Total number
of shares (or
units) purchased
as part of publicly
announced plans
or programs (2)
 
(d) Maximum number
(or approximate dollar
value) of shares
(or units) that may yet
be purchased under the
plans or programs
($ in thousands) (2) (3)
1/1/2015 - 1/31/2015
 
34

 
$
34.35

 

 
$
19,491

2/1/2015 - 2/28/2015
 
43

 
32.63

 

 
19,491

3/1/2015 - 3/31/2015
 
897

 
32.25

 

 
19,491

Total
 
974

 
$
32.34

 

 
 

(1)
Included in this column are shares purchased in the open market to fulfill the Company's obligations under its dividend reinvestment and common stock purchase plan.
(2)
On November 3, 2011, the Company’s Board of Directors authorized a $15 million stock repurchase program.  This program became effective immediately and does not have an expiration date.  No purchases have been made under this program.
(3)
On May 12, 2005, the Company announced that its parent company, Employers Mutual, had initiated a $15 million stock purchase program under which Employers Mutual would purchase shares of the Company’s common stock in the open market.  This purchase program became effective immediately and does not have an expiration date; however, this program has been dormant while the Company’s repurchase programs have been in effect.  A total of $4.5 million remains in this program.

44


ITEM 6.
EXHIBITS
31.1
 
Certification of President, Chief Executive Officer and Treasurer as required by Section 302 of the Sarbanes-Oxley Act of 2002
 
 
 
31.2
 
Certification of Senior Vice President and Chief Financial Officer as required by Section 302 of the Sarbanes-Oxley Act of 2002
 
 
 
32.1
 
Certification of President, Chief Executive Officer and Treasurer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 
 
 
32.2
 
Certification of Senior Vice President and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 
 
 
101.INS
 
XBRL Instance Document
 
 
 
101.SCH
 
XBRL Taxonomy Extension Schema Document
 
 
 
101.CAL
 
XBRL Taxonomy Extension Calculation Linkbase Document
 
 
 
101.DEF
 
XBRL Taxonomy Extension Definition Linkbase Document
 
 
 
101.LAB
 
XBRL Taxonomy Extension Label Linkbase Document
 
 
 
101.PRE
 
XBRL Taxonomy Extension Presentation Linkbase Document

45


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on May 7, 2015.

EMC INSURANCE GROUP INC.
Registrant
 
/s/ Bruce G. Kelley
Bruce G. Kelley
President, Chief Executive Officer and Treasurer
(Principal Executive Officer)

/s/ Mark E. Reese
Mark E. Reese
Senior Vice President and Chief Financial Officer
(Principal Accounting Officer)

46


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
INDEX TO EXHIBITS
Exhibit number
Item
 
 
31.1*
Certification of President, Chief Executive Officer and Treasurer as required by Section 302 of the Sarbanes-Oxley Act of 2002
 
 
31.2*
Certification of Senior Vice President and Chief Financial Officer as required by Section 302 of the Sarbanes-Oxley Act of 2002
 
 
32.1*
Certification of the President, Chief Executive Officer and Treasurer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 
 
32.2*
Certification of the Senior Vice President and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 
 
101.INS**
XBRL Instance Document
 
 
101.SCH**
XBRL Taxonomy Extension Schema Document
 
 
101.CAL**
XBRL Taxonomy Extension Calculation Linkbase Document
 
 
101.DEF**
XBRL Taxonomy Extension Definition Linkbase Document
 
 
101.LAB**
XBRL Taxonomy Extension Label Linkbase Document
 
 
101.PRE**
XBRL Taxonomy Extension Presentation Linkbase Document
*
Filed herewith
**
Furnished, not filed

47