|
Securities
registered pursuant to Section 12(g) of the Act:
None
|
|
Indicate
by check mark if the registrant is a well-known seasoned issuer, as
defined in Rule 405 of the Securities Act. Yes
¨
No
x
|
|
Indicate
by check mark if the registrant is not required to file reports pursuant
to Section 13 or Section 15(d) of the Act. Yes
¨
No
x
|
|
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). Yes
¨
No
¨
|
|
Indicate
by check mark whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90
days.
Yes
x
No
¨
|
|
Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.
¨
|
|
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 definition of “accelerated filer”, “large
accelerated filer” and “smaller reporting company” in Rule 12b-2 of the
Exchange Act. (Check one):
Large
accelerated filer
¨
Accelerated filer
¨
Non-accelerated filer
¨
Smaller reporting company
x
|
|
Indicate
by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
Yes
¨
No
x
|
|
State
the aggregate market value of the voting and non-voting common equity held
by non-affiliates computed by reference to the price at which the common
equity was last sold, or the average bid and asked price of such common
equity, as of the last business day of the registrant’s most recently
completed second fiscal quarter.
$67,409,850
|
|
Indicate
the number of shares outstanding of each of the registrant's classes of
common stock, as of the latest practicable date. 20,123,336 shares
of common stock, $.18 par value per share, outstanding as of March 19,
2010.
|
DOCUMENTS
INCORPORATED BY REFERENCE
The
information required by Part III is incorporated by reference from the
Registrant's definitive proxy statement to be filed with the Commission pursuant
to Regulation 14A not later than 120 days after the end of the fiscal year
covered by this report.
Unless
the context requires otherwise, in this Form 10-K the term “Hallmark” refers
solely to Hallmark Financial Services, Inc. and the terms “we,” “our,” and “us”
refer to Hallmark and its subsidiaries. The direct and indirect
subsidiaries of Hallmark are referred to in this Form 10-K in the manner
identified in the chart under “Item 1. Business – Operational
Structure.”
Risks Associated with
Forward-Looking Statements Included in this Form 10-K
This Form
10-K contains certain forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995, which are intended to be
covered by the safe harbors created thereby. Forward-looking statements
include statements which are predictive in nature, which depend upon or refer to
future events or conditions, or which include words such as “expect,”
“anticipate,” “intend,” “plan,” “believe,” “estimate” or similar
expressions. These statements include the plans and objectives of
management for future operations, including plans and objectives relating to
future growth of our business activities and availability of funds.
Statements regarding the following subjects are forward-looking by their
nature:
•
our business and growth strategies;
•
our performance goals;
•
our projected financial condition and operating
results;
•
our understanding of our competition;
•
industry and market trends;
•
the impact of technology on our products, operations and
business; and
•
any other statements or assumptions that are not historical
facts.
The
forward-looking statements included in this Form 10-K are based on current
expectations that involve numerous risks and uncertainties. Assumptions
relating to these forward-looking statements involve judgments with respect to,
among other things, future economic, competitive and market conditions,
legislative initiatives, regulatory framework, weather-related events and future
business decisions, all of which are difficult or impossible to predict
accurately and many of which are beyond our control. Although we believe
that the assumptions underlying these forward-looking statements are reasonable,
any of the assumptions could be inaccurate and, therefore, there can be no
assurance that the forward-looking statements included in this Form 10-K will
prove to be accurate. In light of the significant uncertainties inherent
in these forward-looking statements, the inclusion of such information should
not be regarded as a representation that our objectives and plans will be
achieved.
PART
I
Item
1. Business.
Who
We Are
We are a
diversified property/casualty insurance group that serves businesses and
individuals in specialty and niche markets. We offer standard commercial
insurance, specialty commercial insurance and personal insurance in selected
market subcategories that are characteristically low-severity and short-tailed
risks. We focus on marketing, distributing, underwriting and servicing
property/casualty insurance products that require specialized underwriting
expertise or market knowledge. We believe this approach provides us the
best opportunity to achieve favorable policy terms and pricing. The
insurance policies we produce are written by our four insurance company
subsidiaries as well as unaffiliated insurers.
We
market, distribute, underwrite and service our property/casualty insurance
products through five operating units, each of which has a specific focus.
Our AHIS Operating Unit primarily handles standard commercial insurance,
our TGA Operating Unit concentrates on excess and surplus lines commercial
insurance, our Aerospace Operating Unit specializes in general aviation
insurance, our Heath XS Operating Unit handles excess commercial automobile and
commercial umbrella risks on both an admitted and non-admitted basis and our
Personal Lines Operating Unit focuses on non-standard personal automobile
insurance and complementary personal insurance products and services. The
subsidiaries comprising our Heath XS Operating Unit were acquired effective
August 29, 2008.
Each
operating unit has its own management team with significant experience in
distributing products to its target markets and proven success in achieving
underwriting profitability and providing efficient claims management. Each
operating unit is responsible for marketing, distribution, underwriting and
claims management while we provide capital management, reinsurance, actuarial,
investment, financial reporting, technology and legal services and back office
support at the parent level. We believe this approach optimizes our
operating results by allowing us to effectively penetrate our selected specialty
and niche markets while maintaining operational controls, managing risks,
controlling overhead and efficiently allocating our capital across operating
units.
We expect
future growth to be derived from organic growth in the premium production of our
existing operating units and selected opportunistic acquisitions that meet our
criteria. For the year ended December 31, 2009, approximately 91% of the
total premium we produced was retained by our insurance company subsidiaries,
while the remaining 9% was written for or ceded to unaffiliated
insurers.
What
We Do
We market
standard commercial, specialty commercial and personal property/casualty
insurance products which are tailored to the risks and coverages required by the
insured. We believe that most of our target markets are underserved by
larger property/casualty underwriters because of the specialized nature of the
underwriting required. We are able to offer these products profitably as a
result of the expertise of our experienced underwriters. We also believe
our long-standing relationships with independent general agencies and retail
agents and the service we provide differentiate us from larger property/casualty
underwriters.
Our AHIS
Operating Unit primarily underwrites low-severity, short-tailed commercial
property/casualty insurance products in the standard market. These
products have historically produced stable loss results and include general
liability, commercial automobile, commercial property and umbrella
coverages. Our AHIS Operating Unit currently markets its products through
a network of 234 independent agents primarily serving businesses in the
non-urban areas of Texas, New Mexico, Oregon, Idaho, Montana, Washington, Utah,
and Wyoming.
Our TGA
Operating Unit primarily offers commercial property/casualty insurance products
in the excess and surplus lines market. Excess and surplus lines insurance
provides coverage for difficult to place risks that do not fit the underwriting
criteria of insurers operating in the standard market. Our TGA Operating
Unit focuses on small- to medium-sized commercial businesses that do not meet
the underwriting requirements of standard insurers due to factors such as loss
history, number of years in business, minimum premium size and types of business
operation. Our TGA Operating Unit primarily writes general liability,
commercial automobile and commercial property policies. Our TGA Operating
Unit markets its products through 64 general agency offices in Texas, Louisiana,
Oklahoma, Arkansas, and Missouri, as well as 651 independent retail agents in
Texas and Oregon.
Our
Aerospace Operating Unit offers general aviation property/casualty insurance
primarily for private and small commercial aircraft and airports.
The aircraft liability and hull insurance products underwritten by our
Aerospace Operating Unit are targeted to transitional or non-standard pilots who
may have difficulty obtaining insurance from a standard carrier. Airport
liability insurance is marketed to smaller, regional airports. Our
Aerospace Operating Unit markets these general aviation insurance products
through 194 independent specialty brokers in 47 states.
Our Heath
XS Operating Unit offers small and middle market commercial umbrella and excess
liability insurance on both an admitted and non-admitted basis focusing
primarily on trucking, specialty automobile, and non-fleet automobile coverage.
Typical risks range from one power unit to fleets of up to 200 power units. Our
Heath XS Operating Unit markets its products through 112 wholesale brokers in
all 50 states.
Our
Personal Lines Operating Unit offers non-standard personal automobile policies
which generally provide the minimum limits of liability coverage mandated by
state law to drivers who find it difficult to obtain insurance from standard
carriers due to various factors including age, driving record, claims history or
limited financial resources. Our Personal Lines Operating Unit also
provides personal products complementary to non-standard personal automobile
such as low value dwelling/homeowners, renters and motorcycle policies. Our
Personal Lines Operating Unit markets these policies through 3,463 independent
retail agents in 23 states.
Our
insurance company subsidiaries are American Hallmark Insurance Company of Texas
(“AHIC”), Hallmark Insurance Company (“HIC”), Hallmark Specialty Insurance
Company (“HSIC”) and Hallmark County Mutual Insurance Company “HCM”). AHIC, HIC,
and HSIC have entered into a pooling arrangement, pursuant to which AHIC retains
46.0% of the net premiums written, HIC retains 34.1% of the net premiums written
and HSIC retains 19.9% of the net premiums written. A.M. Best Company
(“A.M. Best”),
a
nationally recognized insurance industry rating service and publisher, has
pooled its ratings of these three insurance company subsidiaries and
assigned a financial strength rating of “A–” (Excellent) and an issuer credit
rating of “a-” to each of these individual insurance company subsidiaries and to
the pool formed by these three insurance company subsidiaries. Also, A.M.
Best has assigned HCM a financial strength rating of “A–” (Excellent) and an
issuer credit rating of “a-”.
Our five
operating units are segregated into three reportable industry segments for
financial accounting purposes. The Standard Commercial Segment presently
consists solely of the AHIS Operating Unit and the Personal Segment presently
consists solely of our Personal Lines Operating Unit. The Specialty
Commercial Segment includes our TGA Operating Unit, Aerospace Operating Unit,
and Heath XS Operating Unit. The following table displays the gross
premiums produced by these reportable segments for affiliated and unaffiliated
insurers for the years ended December 31, 2009, 2008 and 2007, as well as the
gross premiums written and net premiums written by our insurance subsidiaries
for these reportable segments for the same periods.
|
Year Ended December 31,
|
||||||||||||
|
2009
|
2008
|
2007
|
||||||||||
|
(dollars in thousands)
|
||||||||||||
|
Gross
Premiums Produced (1):
|
||||||||||||
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Standard
Commercial Segment
|
$ | 72,512 | $ | 80,193 | $ | 90,985 | ||||||
|
Specialty
Commercial Segment (2)
|
144,230 | 146,054 | 151,003 | |||||||||
|
Personal
Segment
|
71,708 | 60,834 | 55,916 | |||||||||
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Total
|
$ | 288,450 | $ | 287,081 | $ | 297,904 | ||||||
|
Gross
Premiums Written:
|
||||||||||||
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Standard
Commercial Segment
|
$ | 72,512 | $ | 80,190 | $ | 90,868 | ||||||
|
Specialty
Commercial Segment (2)
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143,338 | 102,825 | 102,688 | |||||||||
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Personal
Segment
|
71,708 | 60,834 | 55,916 | |||||||||
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Total
|
$ | 287,558 | $ | 243,849 | $ | 249,472 | ||||||
|
Net
Premiums Written:
|
||||||||||||
|
Standard
Commercial Segment
|
$ | 68,082 | $ | 75,361 | $ | 84,595 | ||||||
|
Specialty
Commercial Segment (2)
|
121,950 | 98,732 | 98,300 | |||||||||
|
Personal
Segment
|
71,708 | 60,834 | 55,916 | |||||||||
|
Total
|
$ | 261,740 | $ | 234,927 | $ | 238,811 | ||||||
|
|
(1)
Produced
premium is a non-GAAP measurement that management uses to track total
premium produced by our operations. Produced premium excludes
unaffiliated third party premium fronted on our recently acquired HCM
subsidiary. We believe this is a useful tool for users of our
financial statements to measure our premium production whether retained by
our insurance company subsidiaries or assumed by third party insurance
carriers who pay us commission
revenue.
|
|
|
(2)
The Heath
XS Operating Unit included in the Specialty Commercial Segment was
acquired effective August 29, 2008 and, therefore, is not included in the
year ended December 31, 2007.
|
Operational
Structure
Our
insurance company subsidiaries retain a portion of the premiums produced by our
operating units. The following chart reflects the operational structure of our
organization, the subsidiaries comprising our operating units and the operating
units included in each reportable segment as of December 31, 2009.
Standard
Commercial Segment / AHIS Operating Unit
The
Standard Commercial Segment of our business presently consists solely of our
AHIS Operating Unit. Our AHIS Operating Unit markets, underwrites and
services standard commercial lines insurance primarily in the non-urban areas of
Texas, New Mexico, Idaho, Oregon, Montana, Washington, Utah, and Wyoming.
The subsidiaries comprising our AHIS Operating Unit include American Hallmark
Insurance Services, a regional managing general agency, and ECM, a claims
administration company. American Hallmark Insurance Services targets
customers that are in low-severity classifications in the standard commercial
market, which as a group have relatively stable loss results. The typical
customer is a small- to medium-sized business with a policy that covers
property, general liability and automobile exposures. Our AHIS Operating
Unit underwriting criteria exclude lines of business and classes of risks that
are considered to be high-severity or volatile, or which involve significant
latent injury potential or other long-tailed liability exposures. ECM
administers the claims on the insurance policies produced by American Hallmark
Insurance Services. Products offered by our AHIS Operating Unit include
the following:
|
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Commercial
automobile.
Commercial automobile insurance
provides
third-party bodily injury and property damage coverage and first-party
property damage coverage against losses resulting from the ownership,
maintenance or use of automobiles and trucks in connection with an
insured’s business.
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General
liability.
General liability insurance provides coverage for
third-party bodily injury and property damage claims arising from
accidents occurring on the insured’s premises or from their general
business operations.
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Umbrella.
Umbrella insurance provides coverage for third-party liability
claims where the loss amount exceeds coverage limits provided by the
insured’s underlying general liability and commercial automobile
policies.
|
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Commercial
property.
Commercial property insurance provides first-party
coverage for the insured’s real property, business personal property, and
business interruption losses caused by fire, wind, hail, water damage,
theft, vandalism and other insured
perils.
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Commercial
multi-peril.
Commercial multi-peril insurance provides a
combination of property and liability coverage that can include commercial
automobile coverage on a single
policy.
|
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Business
owner’s.
Business owner’s insurance
provides
a package of coverage designed for small- to medium-sized businesses with
homogeneous risk profiles. Coverage includes general liability,
commercial property and commercial
automobile.
|
Our AHIS
Operating Unit markets its property/casualty insurance products through 234
independent agencies operating in its target markets. Our AHIS Operating
Unit applies a strict agent selection process and seeks to provide its
independent agents some degree of non-contractual geographic exclusivity.
Our AHIS Operating Unit also strives to provide its independent agents with
convenient access to product information and personalized service. As a
result, the Standard Commercial Segment has historically maintained excellent
relationships with its producing agents, as evidenced by the 23-year average
tenure of the 15 agency groups which each produced more than $1.0 million in
premium during the year ended December 31, 2009. During 2009, the top ten
agency groups produced approximately 37%, and no individual agency group
produced more than 8%, of the total premium volume of our AHIS Operating
Unit.
Our AHIS
Operating Unit writes most risks on a package basis using a commercial
multi-peril policy or a business owner’s policy. Umbrella policies are
written only when our AHIS Operating Unit also writes the insured’s underlying
general liability and commercial automobile coverage. Through December 31, 2005,
our AHIS Operating Unit marketed policies on behalf of Clarendon National
Insurance Company (“Clarendon”), a third-party insurer. Our AHIS Operating
Unit earns a commission based on a percentage of the earned premium it produced
for Clarendon. The commission percentage is determined by the underwriting
results of the policies produced. ECM receives a claim servicing fee based
on a percentage of the earned premium produced, with a portion deferred over
claim payment period for casualty claims. On July 1, 2005, our AHIS
Operating Unit began marketing new policies for AHIC and presently markets all
new and renewal policies exclusively for AHIC.
All of
the commercial policies written by our AHIS Operating Unit are for a term of 12
months. If the insured is unable or unwilling to pay for the entire
premium in advance, we provide an installment payment plan that allows the
insured to pay 20% down and the remaining payments over eight months. We
charge a flat $7.50 installment fee per payment for the installment payment
plan.
Specialty
Commercial Segment
The
Specialty Commercial Segment of our business includes our TGA Operating Unit,
our Aerospace Operating Unit, and our Heath XS Operating Unit. The
subsidiaries comprising our Heath XS Operating Unit were acquired effective
August 29, 2008. During 2009, our TGA Operating Unit accounted for
approximately 66% of the aggregate premiums produced by the Specialty Commercial
Segment, with our Heath XS Operating Unit and Aerospace Operating Unit
accounting for 17% and 17%, respectively.
TGA Operating
Unit.
Our TGA Operating Unit markets, underwrites, finances and
services commercial lines insurance in Texas, Louisiana, Arkansas, Oklahoma,
Missouri and Oregon with a particular emphasis on commercial automobile, general
liability and commercial property risks produced on an excess and surplus lines
basis. Excess and surplus lines insurance provides coverage for difficult
to place risks that do not fit the underwriting criteria of insurers operating
in the standard market. The subsidiaries comprising our TGA Operating Unit
include TGA, which is a regional managing general agency, TGASRI and PAAC, which
provides premium financing for policies marketed by TGA and certain unaffiliated
general and retail agents. TGA accounts for approximately 98% of the premium
volume financed by PAAC.
Our TGA
Operating Unit focuses on small- to medium-sized commercial businesses that do
not meet the underwriting requirements of traditional standard insurers due to
issues such as loss history, number of years in business, minimum premium size
and types of business operation. During 2009, commercial automobile and
general liability approximated 63% and 29%, respectively, of the premiums
produced by our TGA Operating Unit. Target risks for commercial automobile
insurance are small- to medium-sized businesses with ten or fewer vehicles which
include artisan contractors, local light- to medium-service vehicles and retail
delivery vehicles. Target risks for general liability insurance are small
business risk exposures including artisan contractors, sales and service
organizations, and building and premiums exposures. Target risks for
commercial property insurance are low- to mid-value structures including office
buildings, mercantile shops, restaurants and rental dwellings, in each case with
aggregate property limits of less than $500,000. The commercial insurance
products offered by our TGA Operating Unit include the following:
|
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Commercial
automobile.
Commercial automobile insurance provides third-party
bodily injury and property damage coverage and first-party property damage
coverage against losses resulting from the ownership, maintenance or use
of automobiles and trucks in connection with an insured’s
business.
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General
liability.
General liability insurance provides coverage for
third-party bodily injury and property damage claims arising from
accidents occurring on the insured’s premises or from their general
business operations.
|
|
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Commercial
property.
Commercial property insurance
provides
first-party coverage for the insured’s real property, business personal
property, theft and business interruption losses caused by fire, wind,
hail, water damage, vandalism and other insured perils. Windstorm,
hurricane and hail are generally excluded in coastal
areas.
|
Our TGA
Operating Unit produces business through a network of 64 general agency offices
in Texas, Louisiana, Oklahoma, Arkansas, and Missouri, as well as through 651
independent retail agents in Texas and Oregon. Our TGA Operating
Unit strives to simplify the placement of its excess and surplus lines policies
by providing prompt quotes and signature-ready applications to its independent
agents. During 2009, general agents accounted for approximately 78% of total
premiums produced by our TGA Operating Unit, with the remaining 22% being
produced by retail agents. During 2009, the top ten general agents
produced approximately 37%, and no general agent produced more than 7%, of the
total premium volume of our TGA Operating Unit. During the same period,
the top ten retail agents produced approximately 5%, and no retail agent
produced more than 1%, of the total premium volume of our TGA Operating
Unit.
Through
2008, all business of our TGA Operating Unit was produced under a fronting
agreement with member companies of the Republic Group (“Republic”) which granted
our TGA Operating Unit the authority to develop underwriting programs, set
rates, appoint retail and general agents, underwrite risks, issue policies and
adjust and pay claims. During 2007, 2008 and 2009 AHIC assumed 60%, 70%
and 100%, respectively, of the premium written under this fronting agreement
pursuant to a reinsurance agreement with Republic which expired on December 31,
2009. Commission revenue was generated under the fronting agreement on the
portion of premiums not assumed by AHIC. An additional commission may be
earned if certain loss ratio targets are met. Additional revenue was generated
from fully earned policy fees and installment billing fees charged on the legacy
personal lines products. During the fourth quarter of 2009, HCM began
fronting the coverages previously written through Republic.
The
majority of the commercial policies written by our TGA Operating Unit are for a
term of 12 months. Exceptions include a few commercial automobile policies
that are written for a term that coincides with the annual harvest of crops and
special event general liability policies that are written for the term of the
event, which is generally one to two days. Commercial lines policies are
paid in full up front or financed with various premium finance companies,
including PAAC.
Aerospace
Operating Unit.
Our Aerospace Operating Unit markets, underwrites
and services general aviation property/casualty insurance in 47 states.
The subsidiaries comprising our Aerospace Operating Unit include Aerospace
Insurance Managers, which markets standard aviation coverages, ASRI, which
markets excess and surplus lines aviation coverages, and ACMG, which handles
claims management. Aerospace Insurance Managers is one of only a few
similar entities in the U.S. and has focused on developing a well-defined niche
centering on transitional pilots, older aircraft and small airports and
aviation-related businesses. Products offered by our Aerospace Operating
Unit include the following:
|
|
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Aircraft.
Aircraft insurance provides third-party bodily injury and property
damage coverage and first-party hull damage coverage against losses
resulting from the ownership, maintenance or use of
aircraft.
|
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Airport
liability.
Airport liability insurance provides coverage for
third-party bodily injury and property damage claims arising from
accidents occurring on airport premises or from their
operations.
|
Our
Aerospace Operating Unit generates its business through 194 aviation specialty
brokers. These specialty brokers submit to Aerospace Insurance Managers
requests for aviation insurance quotations received from the states in which we
operate and our Aerospace Operating Unit selectively determines the risks
fitting its target niche for which it will prepare a quote. During 2009,
the top ten independent specialty brokers produced approximately 31%, and no
broker produced more than 7%, of the total premium volume of our Aerospace
Operating Unit.
Our
Aerospace Operating Unit independently develops, underwrites and prices each
coverage written. We target pilots who may lack experience in the type of
aircraft they have acquired or are transitioning between types of
aircraft. We also target pilots who may be over the age limits of other
insurers. We do not accept aircraft that are used for hazardous purposes
such as crop dusting or heli-skiing. Liability limits are controlled, with
approximately 95% of the aircraft written in 2009 bearing per-occurrence limits
of $1,000,000 and per-passenger limits of $100,000 or less. The average
insured aircraft hull value for aircraft written in 2009 was approximately
$161,900.
Prior to
July 1, 2006, our Aerospace Operating Unit produced policies for American
National Property & Casualty Insurance Company (“ANPAC”) under a reinsurance
program which ceded 100% of the business to several reinsurers. Under this
arrangement, revenue was generated primarily from commissions based on written
premiums net of cancellations and endorsement return premiums. An additional
commission may be earned based upon the profitability of the business to the
reinsurers. Beginning July 1, 2006, we began issuing general aviation
policies through our insurance companies and currently 40 of the 48 states are
written through our insurance companies with the remaining eight states written
under a fronting arrangement with ANPAC and reinsured by AHIC.
Heath XS
Operating Unit.
Our Heath XS Operating
Unit markets, underwrites and services small and middle market commercial
umbrella and excess liability insurance on both an admitted and non-admitted
basis in all 50 states. Limits of liability offered are from $1,000,000 to
$5,000,000 in coverage in excess of the primary carrier’s limits of
liability. The principal focus of the Heath XS Operating Unit is
transportation, specifically trucking for hire, specialty automobile and
non-fleet automobile coverage. The Heath XS Operating Unit also provides
umbrella and excess liability coverage for small to midsize businesses in class
categories such as contracting, manufacturing, hospitality and
service.
The
majority of insurance policies written by our Heath XS Operating Unit are on an
annual basis, however exceptions are common in an attempt to have policy
effective dates coincide with those of the primary insurance policies.
Policy premiums are collected in full and are due 30 days from the inception
date of the policy.
Our
Heath XS Operating Unit markets its products through 112 wholesale brokers
covering all 50 states. During 2009, the top ten wholesale brokers
accounted for 52% of our Heath XS Operating Units premium volume with no single
wholesale broker accounting for more than 15%. During 2009, excess
commercial liability accounted for 96% of the premiums produced by our Heath XS
Operating Unit, with the remaining 4% coming from commercial umbrella
risks. The commercial insurance products offered by our Heath XS Operating
Unit include the following:
|
|
·
|
Commercial
excess liability risks
.
Liability
insurance designed to provide an extra layer of protection for bodily
injury, personal and advertising injury, or property damage losses above
the primary layer of automobile, general liability and employers liability
insurance. The excess insurance does not begin until the limits of
liability in the primary layer have been exhausted. The excess layer
provides not only higher limits, but catastrophic protection from large
losses.
|
|
|
·
|
Commercial
umbrella risks.
Liability insurance
protecting businesses for bodily injury, personal and advertising injury,
or property damage claims in excess of the limits of their primary
commercial automobile, general liability and employers liability policies,
and for some claims excluded by their primary policies (subject to a
deductible). Umbrella liability provides not only higher limits, but
catastrophic protection for large
losses.
|
Through
June 30, 2009, our Heath XS Operating Unit wrote policies under a fronting
arrangement pursuant to which we assumed 35% of the risk. Effective July 1,
2009, in states where we are admitted, we directly insure policies written by
our Heath XS Operating Unit and reinsure a portion of the risk with third party
carriers. In states where we are not admitted, our Heath XS Operating Unit
writes policies under fronting arrangements pursuant to which we assume all of
the risk and then retrocede a portion of the risk to third party
reinsurers. We presently reinsure or retrocede 79% of the risk on policies
written by our Heath XS Operating Unit.
Personal
Segment / Personal Lines Operating Unit
The
Personal Segment of our business presently consists solely of our Personal Lines
Operating Unit. Our Personal Lines Operating Unit markets and services
non-standard personal automobile policies and low value dwelling/homeowners,
renters and motorcycle coverage in 23 states. We conduct this business
under the name Hallmark Insurance Company. Hallmark Insurance Company provides
management, policy and claims administration services to HIC and includes the
operations of American Hallmark General Agency, Inc. and Hallmark Claims
Services, Inc. Our non-standard personal automobile insurance generally provides
for the minimum limits of liability coverage mandated by state laws to drivers
who find it difficult to purchase automobile insurance from standard carriers as
a result of various factors, including driving record, vehicle, age, claims
history, or limited financial resources. Products offered by our Personal
Lines Operating Unit include the following:
|
|
l
|
Personal
automobile liability.
Personal automobile liability insurance
provides coverage primarily at the minimum limits required by law for
automobile liability exposures, including bodily injury and property
damage, arising from accidents involving the
insured.
|
|
|
l
|
Personal
automobile physical damage.
Personal automobile physical damage
insurance provides collision and comprehensive coverage for physical
damage exposure to the insured vehicle as a result of an accident or as a
result of causes other than collision such as vandalism, theft, wind, hail
or water.
|
|
|
l
|
Low value
dwelling/homeowners.
Low value dwelling/homeowners insurance
provides coverage against insured’s property being destroyed or damaged by
various perils and coverage for liability exposure of the
insured.
|
|
|
l
|
Renters.
Renters insurance provides coverage for the contents of a renter’s
home or apartment and for liability. Renter’s policies are similar
to homeowners insurance, except they do not cover the
structure.
|
|
|
l
|
Motorcycle.
Motorcycle insurance provides coverage similar to the personal
automobile products. A motorcycle policy is generally utilized for
vehicles that do not qualify for a personal automobile policy because they
have fewer than four wheels. Passenger liability may be included or
excluded depending on customer choice or regulatory
requirements.
|
Our
Personal Lines Operating Unit markets its non-standard personal automobile,
motorcycle and property policies through 3,463 independent agents operating in
its target geographic markets. Non-standard automobile represented 96% of
the premiums produced during 2009. Subject to certain criteria, our Personal
Lines Operating Unit seeks to maximize the number of agents appointed in each
geographic area in order to more effectively penetrate its highly competitive
markets. However, our Personal Lines Operating Unit periodically evaluates its
independent agents and discontinues the appointment of agents whose production
history does not satisfy certain standards. During 2009, the top ten independent
agency groups produced approximately 14%, and no individual agency group
produced more than 3%, of the total premium volume of our Personal Lines
Operating Unit.
During
2009, personal automobile liability coverage accounted for approximately 78% and
personal automobile physical damage coverage accounted for the remaining 22% of
the total non-standard automobile premiums produced by our Personal Lines
Operating Unit. American Hallmark General Agency, Inc. currently offers
one-, two-, three-, six- and twelve-month policies. Our typical
non-standard personal automobile customer is unable or unwilling to pay a full
or half year's premium in advance. Accordingly, we currently offer a
direct bill program where the premiums are directly billed to the insured on a
monthly basis. We charge installment fees for each payment under the
direct bill program.
Our
Personal Lines Operating Unit markets non-standard personal automobile, low
value/dwelling homeowners, renters and motorcycle policies in 23 states directly
for HIC and AHIC. In Texas, our Personal Lines Operating Unit markets its
policies both through reinsurance arrangements with unaffiliated companies and
directly for HIC. We provide non-standard personal automobile coverage in Texas
through a reinsurance arrangement with Old American County Mutual Fire Insurance
Company (“OACM”). American Hallmark General Agency, Inc. holds a managing
general agency appointment from OACM to manage the sale and servicing of OACM
policies. HIC reinsures 100% of the OACM policies produced by American
Hallmark General Agency, Inc. under these reinsurance arrangements. During
the third quarter of 2009, HCM began fronting business previously written
through OACM.
Our
Competitive Strengths
We
believe that we enjoy the following competitive strengths:
|
|
·
|
Specialized
market knowledge and underwriting expertise.
All of our
operating units possess extensive knowledge of the specialty and niche
markets in which they operate, which we believe allows them to effectively
structure and market their property/casualty insurance products. Our
Personal Lines Operating Unit has a thorough understanding of the unique
characteristics of the non-standard personal automobile market. Our AHIS
Operating Unit has significant underwriting experience in its target
markets for standard commercial property/casualty insurance
products. In addition, our TGA Operating Unit, Aerospace Operating
Unit, and Heath XS Operating Unit have developed specialized underwriting
expertise which enhances their ability to profitably underwrite
non-standard property/casualty insurance
coverages.
|
|
|
·
|
Tailored
market strategies.
Each of our operating units has developed its
own customized strategy for penetrating the specialty or niche markets in
which it operates. These strategies include distinctive product
structuring, marketing, distribution, underwriting and servicing
approaches by each operating unit. As a result, we are able to
structure our property/casualty insurance products to serve the unique
risk and coverage needs of our insureds. We believe that these
market-specific strategies enable us to provide policies tailored to the
target customer which are appropriately priced and fit our risk
profile.
|
|
|
·
|
Superior
agent and customer service.
We believe that performing the
underwriting, billing, customer service and claims management functions at
the operating unit level allows us to provide superior service to both our
independent agents and insured customers. The easy-to-use interfaces
and responsiveness of our operating units enhance their relationships with
the independent agents who sell our policies. We also believe that
our consistency in offering our insurance products through hard and soft
markets helps to build and maintain the loyalty of our independent agents.
Our customized products, flexible payment plans and prompt claims
processing are similarly beneficial to our
insureds.
|
|
|
·
|
Market
diversification.
We believe that operating in various
specialty and niche segments of the property/casualty insurance market
diversifies both our revenues and our risks. We also believe our
operating units generally operate on different market cycles, producing
more earnings stability than if we focused entirely on one product. As a
result of the pooling arrangement among our insurance company
subsidiaries, we are able to efficiently allocate our capital among these
various specialty and niche markets in response to market conditions and
expansion opportunities. We believe that this market diversification
reduces our risk profile and enhances our
profitability.
|
|
|
·
|
Experienced
management team.
Our senior corporate management has an
average of over 20 years of insurance experience. In addition, our
operating units have strong management teams, with an average of more than
25 years of insurance industry experience for the heads of our operating
units and an average of more than 15 years of underwriting experience for
our underwriters. Our management has significant experience in all
aspects of property/casualty insurance, including underwriting, claims
management, actuarial analysis, reinsurance and regulatory
compliance. In addition, Hallmark’s senior management has a strong
track record of acquiring businesses that expand our product offerings and
improve our profitability profile.
|
Our
Strategy
We are
striving to become a “Best in Class” specialty insurance company offering
products in specialty and niche markets through the following
strategies:
|
|
·
|
Focusing on
underwriting discipline and operational efficiency.
We seek
to consistently generate an underwriting profit on the business we write
in hard and soft markets. Our operating units have a strong track
record of underwriting discipline and operational efficiency which we seek
to continue. We believe that in soft markets our competitors often
offer policies at a low or negative underwriting profit in order to
maintain or increase their premium volume and market share. In
contrast, we seek to write business based on its profitability rather than
focusing solely on premium production. To that end, we provide
financial incentives to many of our underwriters and independent agents
based on underwriting
profitability.
|
|
|
·
|
Achieving
organic growth in our existing business lines.
We believe
that we can achieve organic growth in our existing business lines by
consistently providing our insurance products through market cycles,
expanding geographically, expanding our product offerings, expanding our
agency relationships and further penetrating our existing customer
base. We believe that our extensive market knowledge and strong
agency relationships position us to compete effectively in our various
specialty and niche markets. We also believe there is a significant
opportunity to expand some of our existing business lines into new
geographical areas and through new agency relationships while maintaining
our underwriting discipline and operational efficiency. In addition,
we believe there is an opportunity for some of our operating units to
further penetrate their existing customer bases with additional products
offered by other operating units.
|
|
|
·
|
Pursuing
selected, opportunistic acquisitions.
We seek to
opportunistically acquire insurance organizations that operate in
specialty or niche property/casualty insurance markets that are
complementary to our existing operations. We seek to acquire
companies with experienced management teams, stable loss results and
strong track records of underwriting profitability and operational
efficiency. Where appropriate, we intend to ultimately retain
profitable business produced by the acquired companies that would
otherwise be retained by unaffiliated insurers. Our management has
significant experience in evaluating potential acquisition targets,
structuring transactions to ensure continued success and integrating
acquired companies into our operational
structure.
|
Distribution
We market
our property/casualty insurance products solely through independent general
agents, retail agents and specialty brokers. Therefore, our relationships
with independent agents and brokers are critical to our ability to identify,
attract and retain profitable business. Each of our operating units has
developed its own tailored approach to establishing and maintaining its
relationships with these independent distributors of our products. These
strategies focus on providing excellent service to our agents and brokers,
maintaining a consistent presence in our target niche and specialty markets
through hard and soft market cycles and fairly compensating the agents and
brokers who market our products. Our operating units also regularly
evaluate independent general and retail agents based on the underwriting
profitability of the business they produce and their performance in relation to
our objectives.
Except
for the products of our Aerospace Operating Unit and our Heath XS Operating
Unit, the distribution of property/casualty insurance products by our business
segments is geographically concentrated. For the twelve months ended
December 31, 2009, five states accounted for approximately 70% of the gross
premiums retained by our insurance subsidiaries. The following table
reflects the geographic distribution of our insured risks, as represented by
direct and assumed premiums written by our business segments for the twelve
months ended December 31, 2009.
|
Standard
|
Specialty
|
|||||||||||||||||||
|
Commercial
|
Commercial
|
Personal
|
Percent of
|
|||||||||||||||||
|
State
|
Segment
|
Segment
|
Segment
|
Total
|
Total
|
|||||||||||||||
|
(dollars in thousands)
|
||||||||||||||||||||
|
Texas
|
$ | 23,991 | $ | 91,490 | $ | 16,229 | $ | 131,710 | 45.8 | % | ||||||||||
|
Oregon
|
18,863 | 676 | 1,393 | 20,932 | 7.3 | % | ||||||||||||||
|
New
Mexico
|
10,598 | 630 | 9,316 | 20,544 | 7.1 | % | ||||||||||||||
|
Louisiana
|
- | 13,773 | 4,759 | 18,532 | 6.4 | % | ||||||||||||||
|
Arizona
|
- | 938 | 11,102 | 12,040 | 4.2 | % | ||||||||||||||
|
All
other states
|
19,060 | 35,831 | 28,909 | 83,800 | 29.2 | % | ||||||||||||||
|
Total
gross premiums written
|
$ | 72,512 | $ | 143,338 | $ | 71,708 | $ | 287,558 | ||||||||||||
|
Percent
of total
|
25.2 | % | 49.9 | % | 24.9 | % | 100.0 | % | ||||||||||||
Underwriting
The
underwriting process employed by our operating units involves securing an
adequate level of underwriting information, identifying and evaluating risk
exposures and then pricing the risks we choose to accept. Each of our
operating units offering commercial or aviation insurance products employs its
own underwriters with in-depth knowledge of the specific niche and specialty
markets targeted by that operating unit. We employ a disciplined
underwriting approach that seeks to provide policies appropriately tailored to
the specified risks and to adopt price structures that will be supported in the
applicable market. Our experienced commercial and aviation underwriters have
developed underwriting principles and processes appropriate to the coverages
offered by their respective operating units.
We
believe that managing the underwriting process through our operating units
capitalizes on the knowledge and expertise of their personnel in specific
markets and results in better underwriting decisions. All of our
underwriters have established limits of underwriting authority based on their
level of experience. We also provide financial incentives to many of our
underwriters based on underwriting profitability.
To better
diversify our revenue sources and manage our risk, we seek to maintain an
appropriate business mix among our operating units. At the beginning of each
year, we establish a target net loss ratio for each operating unit. We then
monitor the actual net loss ratio on a monthly basis. If any line of business
fails to meet its target net loss ratio, we seek input from our underwriting,
actuarial and claims management personnel to develop a corrective action
plan. Depending on the particular circumstances, that plan may involve
tightening underwriting guidelines, increasing rates, modifying product
structure, re-evaluating independent agency relationships or discontinuing
unprofitable coverages or classes of risk.
An
insurance company's underwriting performance is traditionally measured by its
statutory loss and loss adjustment expense ratio, its statutory expense ratio
and its statutory combined ratio. The statutory loss and loss adjustment
expense ratio, which is calculated as the ratio of net losses and loss
adjustment expenses (“LAE”) incurred to net premiums earned, helps to assess the
adequacy of the insurer’s rates, the propriety of its underwriting guidelines
and the performance of its claims department. The statutory expense ratio,
which is calculated as the ratio of underwriting and operating expenses to net
premiums written, assists in measuring the insurer’s cost of processing and
managing the business. The statutory combined ratio, which is the sum of
the statutory loss and LAE ratio and the statutory expense ratio, is indicative
of the overall profitability of an insurer’s underwriting activities, with a
combined ratio of less than 100% indicating profitable underwriting
results.
The
following table shows, for the periods indicated, (i) our gross premiums written
(in thousands); and (ii) our underwriting results as measured by the net
statutory loss and LAE ratio, the statutory expense ratio, and the statutory
combined ratio.
|
Year Ended December 31,
|
||||||||||||
|
2009
|
2008
|
2007
|
||||||||||
|
Gross
premiums written
|
$ | 287,558 | $ | 243,849 | $ | 249,472 | ||||||
|
Statutory
loss & LAE ratio
|
63.6 | % | 63.4 | % | 61.5 | % | ||||||
|
Statutory
expense ratio
|
32.2 | % | 30.9 | % | 30.0 | % | ||||||
|
Statutory
combined ratio
|
95.8 | % | 94.3 | % | 91.5 | % | ||||||
These
statutory ratios do not reflect the deferral of policy acquisition costs,
investment income, premium finance revenues, or the elimination of inter-company
transactions required by U.S. generally accepted accounting principles
(“GAAP”).
The
premium-to-surplus percentage measures the relationship between net premiums
written in a given period (premiums written, less returned premiums and
reinsurance ceded to other carriers) to policyholders surplus (admitted assets
less liabilities), determined on the basis of statutory accounting practices
prescribed or permitted by insurance regulatory authorities. Insurance
companies are expected to maintain a premium-to-surplus percentage of not more
than 300%. For the years ended December 31, 2009, 2008 and 2007, our
consolidated premium-to-surplus ratios were 150%, 170% and 181%,
respectively. .
Claims
Management and Administration
We
believe that effective claims management is critical to our success and that our
claims management process is cost-effective, delivers the appropriate level of
claims service and produces superior claims results. Our claims management
philosophy emphasizes the delivery of courteous, prompt and effective claims
handling and embraces responsiveness to policyholders and agents. Our
claims strategy focuses on thorough investigation, timely evaluation and fair
settlement of covered claims while consistently maintaining appropriate case
reserves. We seek to compress the cycle time of claim resolution in order to
control both loss and claim handling cost. We also strive to control legal
expenses by negotiating competitive rates with defense counsel and vendors,
establishing litigation budgets and monitoring invoices.
Each of
our operating units maintains its own dedicated staff of specialized claims
personnel to manage and administer claims arising under policies produced
through their respective operations. The claims process is managed through
a combination of experienced claims managers, seasoned claims supervisors,
trained staff adjusters and independent adjustment or appraisal services, when
appropriate. All adjusters are licensed in those jurisdictions for which they
handle claims that require licensing. Limits on settlement authority are
established for each claims supervisor and staff adjuster based on their level
of experience. Independent adjusters have no claim settlement
authority. Claim exposures are periodically and systematically reviewed by
claim supervisors and managers as a method of quality and loss control.
Large loss exposures are reviewed at least quarterly with senior management of
the operating unit and monitored by Hallmark senior management.
Claims
personnel receive in-house training and are required to attend various
continuing education courses pertaining to topics such as best practices, fraud
awareness, legal environment, legislative changes and litigation management.
Depending on the criteria of each operating unit, our claims adjusters are
assigned a variety of claims to enhance their knowledge and ensure their
continued development in efficiently handling claims. As of December 31, 2009,
our operating units had a total of 57 claims managers, supervisors and adjusters
with an average of approximately 15 years experience.
Analysis
of Losses and LAE
Our
consolidated financial statements include an estimated reserve for unpaid losses
and LAE. We estimate our reserve for unpaid losses and LAE by using
case-basis evaluations and statistical projections, which include inferences
from both losses paid and losses incurred. We also use recent historical
cost data and periodic reviews of underwriting standards and claims management
practices to modify the statistical projections. We give consideration to
the impact of inflation in determining our loss reserves, but do not discount
reserve balances.
The
amount of reserves represents our estimate of the ultimate cost of all unpaid
losses and LAE incurred. These estimates are subject to the effect of
trends in claim severity and frequency. We regularly review the estimates and
adjust them as claims experience develops and new information becomes
known. Such adjustments are included in current operations, including
increases and decreases, net of reinsurance, in the estimate of ultimate
liabilities for insured events of prior years.
Changes
in loss development patterns and claim payments can significantly affect the
ability of insurers to estimate reserves for unpaid losses and related
expenses. We seek to continually improve our loss estimation process by
refining our ability to analyze loss development patterns, claim payments and
other information within a legal and regulatory environment which affects
development of ultimate liabilities. Future changes in estimates of claim costs
may adversely affect future period operating results. However, such
effects cannot be reasonably estimated currently.
Reconciliation of
reserve for unpaid losses and LAE
.
The following table
provides a reconciliation of our beginning and ending reserve balances on a
net-of-reinsurance basis for the years ended December 31, 2009, 2008 and 2007,
to the gross-of-reinsurance amounts reported in our balance sheets at December
31, 2009, 2008 and 2007.
|
As of and for Year Ended December 31,
|
||||||||||||
|
2009
|
2008
|
2007
|
||||||||||
|
(dollars in thousands)
|
||||||||||||
|
Reserve
for unpaid losses and LAE, net of reinsurance recoverables, January
1
|
$ | 150,025 | $ | 120,849 | $ | 72,801 | ||||||
|
Provision
for losses and LAE for claims occurring in the current
period
|
151,999 | 146,059 | 139,332 | |||||||||
|
Increase
(decrease) in reserve for unpaid losses and LAE for claims occurring in
prior periods
|
1,620 | (1,815 | ) | (6,414 | ) | |||||||
|
Payments
for losses and LAE, net of reinsurance:
|
||||||||||||
|
Current
period
|
(62,584 | ) | (64,610 | ) | (54,809 | ) | ||||||
|
Prior
periods
|
(64,810 | ) | (50,458 | ) | (30,061 | ) | ||||||
|
Reserve
for unpaid losses and LAE at December 31, net of reinsurance
recoverable
|
$ | 176,250 | $ | 150,025 | $ | 120,849 | ||||||
|
Reinsurance
recoverable on unpaid losses and LAE at December 31
|
8,412 | 6,338 | 4,489 | |||||||||
|
Reserve
for unpaid losses and LAE at December 31, gross of
reinsurance
|
$ | 184,662 | $ | 156,363 | $ | 125,338 | ||||||
The $1.6
million unfavorable development and $1.8 million and $6.4 million favorable
development in prior accident years recognized in 2009, 2008 and 2007,
respectively, represent normal changes in our loss reserve estimates. In 2009,
the aggregate loss reserve estimates for prior years were increased to reflect
unfavorable loss development when the available information indicated a
reasonable likelihood that the ultimate losses would be more than the previous
estimates. In 2008 and 2007 the aggregate loss reserve estimates for prior years
were decreased to reflect favorable loss development when the available
information indicated a reasonable likelihood that the ultimate losses would be
less than the previous estimates. Generally, changes in reserves are caused by
variations between actual experience and previous expectations and by reduced
emphasis on the Bornhuetter-Ferguson method due to the aging of the accident
years. (See, “Item 7. Management’s Discussion and Analysis of Financial
Condition and Results of Operations - Critical Accounting Estimates and
Judgments - Reserves for unpaid losses and loss adjustment
expenses.”)
The $1.6
million increase in reserves for unpaid losses and LAE recognized in 2009 was
attributable to $2.0 million unfavorable development on claims incurred in the
2008 accident year, $0.7 million favorable development on claims incurred in the
2007 accident year and $0.3 million unfavorable development on claims incurred
in the 2006 and prior accident years. Our TGA Operating Unit and Aerospace
Operating Unit accounted for $4.1 million and $0.3 million of the increase in
reserves recognized during 2009, partially offset by a $1.8 million and $1.0
million decrease in reserves for our AHIS Operating Unit and Personal Lines
Operating Unit. The increase in reserves for our TGA Operating Unit is
driven by the development on a small number of commercial auto liability claims
in which later reporting of medical information resulted in TGA increasing case
reserves on claims with similar fact patterns. The decrease in reserves for our
AHIS Operating Unit was primarily the result of favorable claims development in
the 2006-2008 accident years with respect to general liability, partially offset
by a commercial package liability claim in accident year 2005.
The decrease in reserves
for our Personal Lines Operating Unit was primarily the result of favorable
claims development in accident years 2007 and 2008 as well as a loss recovery
from the 2002 accident year.
The $1.8
million decrease in reserves for unpaid losses and LAE recognized in 2008 was
attributable to $0.7 million favorable development on claims incurred in the
2007 accident year, $0.9 million favorable development on claims incurred in the
2006 accident year and $0.2 million favorable development on claims incurred in
the 2005 and prior accident years. Our AHIS Operating Unit and Personal
Lines Operating Unit accounted for $2.4 million and $0.7 million, respectively,
of the decrease in reserves recognized in 2008, partially offset by a $1.5
million increase in reserves in our TGA Operating Unit. The decrease
in reserves for our AHIS Operating Unit was primarily the result of favorable
claims development in the 2007 accident year with respect to the commercial
automobile physical damage and commercial property lines of business, offset
somewhat by unfavorable development in accident year 2005 with respect to
commercial package liability coverage. The decrease in reserves for our
Personal Lines Operating Unit was primarily the result of favorable claims
development in accident year 2006. The increase in reserves for our TGA
Operating Unit was primarily the result of unfavorable claims development in
accident years 2006 and 2007 attributable to a small number of larger than
normal commercial automobile liability claims, partially offset by favorable
claims development on the general liability line of business in accident years
2005 through 2007.
The $6.4
million decrease in reserves for unpaid losses and LAE recognized in 2007 was
attributable to $3.2 million favorable development on claims incurred in the
2006 accident year, $1.8 million favorable development on claims incurred in the
2005 accident year and $1.4 million favorable development on claims incurred in
the 2004 and prior accident years. Our TGA Operating Unit and AHIS
Operating Unit accounted for $3.7 million and $1.7 million, respectively, of the
decrease in reserves for unpaid losses and LAE recognized in 2007. Loss
experience data accumulated since our acquisition of the TGA Operating Unit in
January, 2006, were lower than the outside actuary’s estimate initially used to
establish loss reserves. In late 2006, our AHIS Operating Unit experienced
a small number of large, late reported general liability losses from earlier
accident years. As a result of this unexpected claim development, we
increased our loss reserve estimates for this business at the end of 2006.
However, subsequent experience suggested that the impact of these types of
claims would be less significant in more recent accident years than originally
anticipated due in part to coverage restrictions previously
implemented.
SAP/GAAP reserve
reconciliation.
The differences between
the reserves for unpaid losses and LAE reported in our consolidated financial
statements prepared in accordance with GAAP and those reported in our annual
statements filed with the Texas Department of Insurance, the Arizona Department
of Insurance and the Oklahoma Insurance Department in accordance with statutory
accounting practices (“SAP”) as of December 31, 2009 and 2008 are summarized
below.
|
As
of December 31,
|
||||||||
|
2009
|
2008
|
|||||||
|
(in
thousands)
|
||||||||
|
Reserve
for unpaid losses and LAE on a SAP basis (net of reinsurance recoverables
on unpaid losses)
|
$ | 176,250 | $ | 150,024 | ||||
|
Estimated
future unallocated LAE reserve for claim service
subsidiaries
|
- | 1 | ||||||
|
Reserve
for unpaid losses and LAE on a GAAP basis (net of reinsurance recoverables
on unpaid losses)
|
$ | 176,250 | $ | 150,025 | ||||
Analysis of loss
and LAE reserve development.
The following table
shows the development of our loss reserves, net of reinsurance, for years ended
December 31, 1999 through 2009. Section A of the table shows the estimated
liability for unpaid losses and LAE, net of reinsurance, recorded at the balance
sheet date for each of the indicated years. This liability represents the
estimated amount of losses and LAE for claims arising in prior years that are
unpaid at the balance sheet date, including losses that have been incurred but
not yet reported to us. Section B of the table shows the re-estimated
amount of the previously recorded liability, based on experience as of the end
of each succeeding year. The estimate is increased or decreased as more
information becomes known about the frequency and severity of
claims.
Cumulative
Redundancy/Deficiency (Section C of the table) represents the aggregate change
in the estimates over all prior years. Thus, changes in ultimate
development estimates are included in operations over a number of years,
minimizing the significance of such changes in any one year.
ANALYSIS
OF LOSS AND LAE DEVELOPMENT
As
of and for Year Ended December 31
|
1999
|
2000
|
2001
|
2002
|
2003
|
2004
|
2005
|
2006
|
2007
|
2008
|
2009
|
||||||||||||||||||||||||||||||||||
|
(dollars
in thousands)
|
||||||||||||||||||||||||||||||||||||||||||||
|
A.
Reserve for Unpaid Losses & LAE, Net of Reinsurance
Recoverables
|
$ | 5,409 | $ | 7,451 | $ | 7,919 | $ | 8,411 | $ | 21,197 | $ | 17,700 | $ | 25,997 | $ | 72,801 | $ | 120,849 | $ | 150,025 | $ | 176,250 | ||||||||||||||||||||||
|
B.
Net Reserve Re-estimated as of :
|
||||||||||||||||||||||||||||||||||||||||||||
|
One
year later
|
5,506 | 7,974 | 8,096 | 8,875 | 20,003 | 15,300 | 24,820 | 66,387 | 119,034 | 151,645 | ||||||||||||||||||||||||||||||||||
|
Two
years later
|
5,277 | 7,863 | 8,620 | 8,881 | 19,065 | 15,473 | 24,903 | 68,490 | 118,646 | |||||||||||||||||||||||||||||||||||
|
Three
years later
|
5,216 | 7,773 | 8,856 | 8,508 | 19,698 | 13,962 | 23,144 | 68,809 | ||||||||||||||||||||||||||||||||||||
|
Four
years later
|
5,095 | 7,901 | 8,860 | 8,446 | 18,551 | 14,166 | 23,455 | |||||||||||||||||||||||||||||||||||||
|
Five
years later
|
5,028 | 7,997 | 8,855 | 8,478 | 18,769 | 13,163 | ||||||||||||||||||||||||||||||||||||||
|
Six
years later
|
5,153 | 7,999 | 8,884 | 8,461 | 17,784 | |||||||||||||||||||||||||||||||||||||||
|
Seven
years later
|
5,153 | 8,026 | 8,669 | 7,949 | ||||||||||||||||||||||||||||||||||||||||
|
Eight
years later
|
5,182 | 8,014 | 8,855 | |||||||||||||||||||||||||||||||||||||||||
|
Nine
years later
|
5,170 | 8,007 | ||||||||||||||||||||||||||||||||||||||||||
|
Ten
years later
|
5,163 | |||||||||||||||||||||||||||||||||||||||||||
|
C.
Net Cumulative Redundancy (Deficiency)
|
246 | (556 | ) | (936 | ) | 462 | 3,413 | 4,537 | 2,542 | 3,992 | 2,203 | (1,620 | ) | |||||||||||||||||||||||||||||||
|
D.
Cumulative Amount of Claims Paid, Net of Reinsurance Recoveries,
through:
|
||||||||||||||||||||||||||||||||||||||||||||
|
One
year later
|
3.229 | 5,377 | 5,691 | 5,845 | 12,217 | 8,073 | 16,721 | 30,061 | 50,458 | 64,810 | ||||||||||||||||||||||||||||||||||
|
Two
years later
|
4,436 | 7,070 | 7,905 | 7,663 | 15,814 | 12,004 | 22,990 | 46,860 | 78,314 | |||||||||||||||||||||||||||||||||||
|
Three
years later
|
4,909 | 7,584 | 8,603 | 8,228 | 18,162 | 13,113 | 24,562 | 58,322 | ||||||||||||||||||||||||||||||||||||
|
Four
years later
|
5,014 | 7,810 | 8,798 | 8,374 | 17,997 | 13,750 | 9,014 | |||||||||||||||||||||||||||||||||||||
|
Five
years later
|
4,966 | 7,960 | 8,821 | 8,417 | 18,415 | 13,102 | ||||||||||||||||||||||||||||||||||||||
|
Six
years later
|
5,116 | 7,970 | 8,853 | 8,439 | 17,735 | |||||||||||||||||||||||||||||||||||||||
|
Seven
years later
|
5,124 | 7,995 | 8,869 | 7,949 | ||||||||||||||||||||||||||||||||||||||||
|
Eight
years later
|
5,151 | 8,014 | 8,855 | |||||||||||||||||||||||||||||||||||||||||
|
Nine
years later
|
5,170 | 8,007 | ||||||||||||||||||||||||||||||||||||||||||
|
Ten
years later
|
5,163 | |||||||||||||||||||||||||||||||||||||||||||
|
2009
|
2008
|
|||||||
|
Net
Reserve, December 31
|
$ | 176,250 | $ | 150,025 | ||||
|
Reinsurance
Recoverables
|
8,412 | 6,338 | ||||||
|
Gross
Reserve, December 31
|
$ | 184,662 | $ | 156,363 | ||||
|
Net
Re-estimated Reserve
|
$ | 151,645 | ||||||
|
Re-estimated
Reinsurance Recoverable
|
8,703 | |||||||
|
Gross
Re-estimated Reserve
|
$ | 160,348 | ||||||
|
Gross
Cumulative Deficiency
|
$ | (3,985 | ) | |||||
Reinsurance
We
reinsure a portion of the risk we underwrite in order to control our exposure to
losses and to protect our capital resources. We cede to reinsurers a
portion of these risks and pay premiums based upon the risk and exposure of the
policies subject to such reinsurance. Ceded reinsurance involves credit
risk and is generally subject to aggregate loss limits. Although the
reinsurer is liable to us to the extent of the reinsurance ceded, we are
ultimately liable as the direct insurer on all risks reinsured.
Reinsurance recoverables are reported after allowances for uncollectible
amounts. We monitor the financial condition of reinsurers on an ongoing
basis and review our reinsurance arrangements periodically. Reinsurers are
selected based on their financial condition, business practices and the price of
their product offerings. Our reinsurance facilities are subject to annual
renewal.
The
following table presents our gross and net premiums written and earned and
reinsurance recoveries for each of the last three years.
|
Year
Ended December 31,
|
||||||||||||
|
2009
|
2008
|
2007
|
||||||||||
|
Gross
premiums written
|
$ | 287,558 | $ | 243,849 | $ | 249,472 | ||||||
|
Ceded
premiums written
|
(25,818 | ) | (8,922 | ) | (10,661 | ) | ||||||
|
Net
premiums written
|
$ | 261,740 | $ | 234,927 | $ | 238,811 | ||||||
|
Gross
premiums earned
|
$ | 269,474 | $ | 244,656 | $ | 238,080 | ||||||
|
Ceded
premiums earned
|
(18,402 | ) | ||||||||||