10-Q 1 brhc10037124_10q.htm 10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549


FORM 10-Q


(Mark One)


QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2022
OR


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 0-15341


Donegal Group Inc.
(Exact name of registrant as specified in its charter)



Delaware
 
23-2424711
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
1195 River Road, P.O. Box 302, Marietta, PA 17547
(Address of principal executive offices) (Zip code)

(717) 426-1931
(Registrant’s telephone number, including area code)

Not applicable
(Former name, former address and former fiscal year, if changed since last report)


Indicate by check mark whether 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 ☒   No  ☐

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

 Large accelerated filer ☐
Accelerated filer
Non-accelerated filer ☐
 Smaller reporting company
Emerging growth company
 
 
 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.☐

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

Securities registered pursuant to Section 12(b) of the Act:

Title of Each Class
Trading Symbols
Name of Each Exchange on Which Registered
     
Class A Common Stock, $.01 par value
DGICA
The NASDAQ Global Select Market
     
Class B Common Stock, $.01 par value
DGICB
The NASDAQ Global Select Market

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:25,842,665 shares of Class A Common Stock, par value $0.01 per share, and 5,576,775 shares of Class B Common Stock, par value $0.01 per share, outstanding on May 2, 2022.



DONEGAL GROUP INC.
INDEX TO FORM 10-Q REPORT

   
Page
PART I
FINANCIAL INFORMATION
 
     
Item 1.
1
     
Item 2.
18
     
Item 3.
28
     
Item 4.
28
     
PART II
OTHER INFORMATION
 
     
Item 1.
29
     
Item 1A.
29
     
Item 2.
29
     
Item 3.
29
     
Item 4.
29
     
Item 5.
29
     
Item 6.
30
   
31

PART I. FINANCIAL INFORMATION

Item 1.
Financial Statements

Donegal Group Inc. and Subsidiaries
Consolidated Balance Sheets

   
March 31,
2022
   
December 31,
2021
 
   
(Unaudited)
       
Assets
           
Investments
           
Fixed maturities
           
Held to maturity, at amortized cost
 
$
690,691,302
   
$
668,104,568
 
Available for sale, at fair value
   
516,894,776
     
532,629,015
 
Equity securities, at fair value
   
54,046,368
     
63,419,973
 
Short-term investments, at cost, which approximates fair value
   
9,194,174
     
12,692,341
 
Total investments
   
1,270,826,620
     
1,276,845,897
 
Cash
   
56,074,886
     
57,709,375
 
Accrued investment income
   
9,448,842
     
8,214,971
 
Premiums receivable
   
182,475,495
     
168,862,580
 
Reinsurance receivable
   
448,295,785
     
455,411,009
 
Deferred policy acquisition costs
   
71,608,211
     
68,028,373
 
Deferred tax asset, net
   
12,493,161
     
6,685,619
 
Prepaid reinsurance premiums
   
174,523,309
     
176,935,842
 
Property and equipment, net
   
2,885,074
     
2,956,930
 
Accounts receivable - securities
   
1,936
     
2,252
 
Federal income taxes recoverable
   
1,863,053
     
5,290,938
 
Receivable from Michigan Catastrophic Claims Association
          18,112,800  
Due from affiliate
    2,209,909       1,922,717  
Goodwill
   
5,625,354
     
5,625,354
 
Other intangible assets
   
958,010
     
958,010
 
Other
   
1,472,250
     
1,612,732
 
Total assets
 
$
2,240,761,895
   
$
2,255,175,399
 
Liabilities and Stockholders’ Equity
               
Liabilities
               
Losses and loss expenses
 
$
1,071,587,385
   
$
1,077,620,301
 
Unearned premiums
   
589,739,092
     
572,958,422
 
Accrued expenses
   
4,900,102
     
4,028,659
 
Reinsurance balances payable
   
4,069,560
     
3,946,105
 
Borrowings under lines of credit
   
35,000,000
     
35,000,000
 
Cash dividends declared to stockholders
   

     
4,915,268
 
Cash refunds due to Michigan policyholders
          18,112,800  
Accounts payable - securities
   
3,247,575
     
 
Other
   
7,952,320
     
7,557,757
 
Total liabilities
   
1,716,496,034
     
1,724,139,312
 
Stockholders’ Equity
               
Preferred stock, $0.01 par value, authorized 2,000,000 shares; none issued
   
     
 
Class A common stock, $0.01 par value, authorized 50,000,000 shares, issued 28,790,510
and 28,756,203 shares and outstanding 25,787,922 and 25,753,615 shares
   
287,906
     
287,562
 
Class B common stock, $0.01 par value, authorized 10,000,000 shares, issued 5,649,240
shares and outstanding 5,576,775 shares
   
56,492
     
56,492
 
Additional paid-in capital
   
305,668,006
     
304,889,481
 
Accumulated other comprehensive (loss) income
   
(17,306,674
)
   
3,283,551
 
Retained earnings
   
276,786,488
     
263,745,358
 
Treasury stock, at cost
   
(41,226,357
)
   
(41,226,357
)
Total stockholders’ equity
   
524,265,861
     
531,036,087
 
Total liabilities and stockholders’ equity
 
$
2,240,761,895
   
$
2,255,175,399
 

See accompanying notes to consolidated financial statements.

Donegal Group Inc. and Subsidiaries
Consolidated Statements of Income
(Unaudited)

   
Three Months Ended March 31,
 
   
2022
   
2021
 
Revenues:
           
Net premiums earned
 
$
199,248,624
   
$
187,251,600
 
Investment income, net of investment expenses
   
7,858,881
     
7,510,578
 
Net investment (losses) gains (includes $ 165,354 and ($29,186) accumulated other comprehensive income reclassifications)
   
(76,247
)
   
2,469,054
 
Lease income
   
104,628
     
107,767
 
Installment payment fees
   
490,831
     
630,899
 
Total revenues
   
207,626,717
     
197,969,898
 
Expenses:
               
Net losses and loss expenses
   
117,883,002
     
119,219,747
 
Amortization of deferred policy acquisition costs
   
34,182,000
     
30,179,000
 
Other underwriting expenses
   
37,106,304
     
33,782,050
 
Policyholder dividends
   
1,648,751
     
1,294,021
 
Interest
   
153,033
     
312,326
 
Other expenses, net
   
427,388
     
432,069
 
Total expenses
   
191,400,478
     
185,219,213
 
Income before income tax expense
   
16,226,239
   
12,750,685
 
Income tax expense (includes $ 34,724 and ($6,129) income tax expense (benefit) from reclassification items)
   
3,081,210
   
2,220,837
 
Net income
 
$
13,145,029
 
$
10,529,848
 
Earnings per common share:
               
Class A common stock - basic and diluted
 
$
0.43
 
$
0.35
 
Class B common stock - basic and diluted
 
$
0.39
 
$
0.32
 


Donegal Group Inc. and Subsidiaries
Consolidated Statements of Comprehensive (Loss) Income
(Unaudited)

   
Three Months Ended March 31,
 
   
2022
   
2021
 
Net income
 
$
13,145,029
   
$
10,529,848
 
Other comprehensive loss, net of tax
               
Unrealized loss on securities:
               
Unrealized holding loss during the period, net of income tax benefit of ($5,438,628) and ($1,125,625)
   
(20,459,595
)
   
(4,230,172
)
Reclassification adjustment for (gains) losses included in net income, net of income tax expense (benefit) of $ 34,724 and ($6,129)
   
(130,630
)
   
23,057
 
Other comprehensive loss
   
(20,590,225
)
   
(4,207,115
)
Comprehensive (loss) income
 
$
(7,445,196
)
 
$
6,322,733
 

See accompanying notes to consolidated financial statements.

Donegal Group Inc. and Subsidiaries
Consolidated Statement of Stockholders’ Equity
(Unaudited)
Three Months Ended March 31, 2022
 
   
Class A
Shares
   
Class B
Shares
   
Class A
Amount
   
Class B
Amount
   
Additional
Paid-In Capital
   
Accumulated
Other
Comprehensive
Income (Loss)
   
Retained
Earnings
   
Treasury Stock
   
Total
Stockholders’
Equity
 
Balance, December 31, 2021
   
28,756,203
     
5,649,240
   
$
287,562
   
$
56,492
   
$
304,889,481
   
$
3,283,551
   
$
263,745,358
   
$
(41,226,357
)
 
$
531,036,087
 
Issuance of common stock
(stock compensation plans)
   
33,407
     
     
335
     
     
423,665
     
     
     
     
424,000
 
Share-based compensation
   
900
     
     
9
     
     
256,451
     
     
     
     
256,460
 
Net income
   
     
     
     
     
     
     
13,145,029
     
     
13,145,029
 
Cash dividends declared
   
     
     
     
     
     
     
(5,490
)
   
     
(5,490
)
Grant of stock options
   
     
     
     
     
98,409
     
     
(98,409
)
   
     
 
Other comprehensive loss
   
     
     
     
     
     
(20,590,225
)
   
     
     
(20,590,225
)
Balance, March 31, 2022
   
28,790,510
     
5,649,240
   
$
287,906
   
$
56,492
   
$
305,668,006
   
$
(17,306,674
)
 
$
276,786,488
   
$
(41,226,357
)
 
$
524,265,861
 

Three Months Ended March 31, 2021
 
   
Class A
Shares
   
Class B
Shares
   
Class A
Amount
   
Class B
Amount
   
Additional
Paid-In Capital
   
Accumulated
Other
Comprehensive
Income
   
Retained
Earnings
   
Treasury Stock
   
Total
Stockholders’
Equity
 
Balance, December 31, 2020
   
27,651,774
     
5,649,240
   
$
276,518
   
$
56,492
   
$
289,149,567
   
$
11,130,612
   
$
258,387,288
   
$
(41,226,357
)
 
$
517,774,120
 
Issuance of common stock
(stock compensation plans)
   
33,336
     
     
334
     
     
419,454
     
     
     
     
419,788
 
Share-based compensation
   
346,124
     
     
3,461
     
     
4,719,388
     
     
     
     
4,722,849
 
Net income
   
     
     
     
     
     
     
10,529,848
     
     
10,529,848
 
Cash dividends declared
   
     
     
     
     
     
     
(5,000
)
   
     
(5,000
)
Grant of stock options
   
     
     
     
     
109,184
     
     
(109,184
)
   
     
 
Other comprehensive loss
   
     
     
     
     
     
(4,207,115
)
   
     
     
(4,207,115
)
Balance, March 31, 2021
   
28,031,234
     
5,649,240
   
$
280,313
   
$
56,492
   
$
294,397,593
   
$
6,923,497
   
$
268,802,952
   
$
(41,226,357
)
 
$
529,234,490
 

See accompanying notes to consolidated financial statements.

Donegal Group Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited)

   
Three Months Ended March 31,
 
   
2022
   
2021
 
Cash Flows from Operating Activities:
           
Net income
 
$
13,145,029
   
$
10,529,848
 
Adjustments to reconcile net income to net cash provided by operating activities:
               
Depreciation, amortization and other non-cash items
   
1,343,128
     
1,654,449
 
Net investment losses (gains)
   
76,247
     
(2,469,054
)
Changes in assets and liabilities:
               
Losses and loss expenses
   
(6,032,916
)
   
34,971,439
 
Unearned premiums
   
16,780,670
     
40,291,574
 
Premiums receivable
   
(13,612,915
)
   
(12,012,018
)
Deferred acquisition costs
   
(3,579,838
)
   
(5,373,755
)
Deferred income taxes
   
(334,190
)
   
84,596
 
Reinsurance receivable
   
7,115,224
     
(17,430,975
)
Prepaid reinsurance premiums
   
2,412,533
     
(11,681,526
)
Accrued investment income
   
(1,233,871
)
   
(1,009,425
)
Due from affiliate
   
(287,192
)
   
(6,372,406
)
Reinsurance balances payable
   
123,455
     
581,043
 
Current income taxes
   
3,427,885
     
2,148,756
 
Accrued expenses
   
871,443
     
(5,552,527
)
Other, net
   
535,049
     
1,516,906
 
Net adjustments
   
7,604,712
     
19,347,077
 
Net cash provided by operating activities
   
20,749,741
     
29,876,925
 
Cash Flows from Investing Activities:
               
Purchases of fixed maturities, held to maturity
   
(28,656,113
)
   
(33,904,795
)
Purchases of fixed maturities, available for sale
   
(34,281,491
)
   
(16,747,351
)
Purchases of equity securities, available for sale
   
(5,276,815
)
   
(13,885,992
)
Maturity of fixed maturities:
               
Held to maturity
   
9,203,976
     
7,317,449
 
Available for sale
   
23,296,757
     
69,586,285
 
Sales of equity securities, available for sale
   
14,408,819
     
6,300,459
 
Net sales of property and equipment
   
28,288
     
684,629
 
Net sales (purchases) of short-term investments
   
3,498,167
     
(198,239
)
Net cash (used in) provided by investing activities
   
(17,778,412
)
   
19,152,445
 
Cash Flows from Financing Activities:
               
Cash dividends paid
   
(4,920,758
)
   
(4,441,301
)
Issuance of common stock
   
314,940
     
4,709,242
 
Payments on lines of credit
   
     
(50,000,000
)
Net cash used in financing activities
   
(4,605,818
)
   
(49,732,059
)
Net decrease in cash
   
(1,634,489
)
   
(702,689
)
Cash at beginning of period
   
57,709,375
     
103,094,236
 
Cash at end of period
 
$
56,074,886
   
$
102,391,547
 
Cash paid during period - Interest
 
$
161,506
   
$
257,821
 
Net cash paid during period - Taxes
 
$
   
$
 

See accompanying notes to consolidated financial statements.

DONEGAL GROUP INC. AND SUBSIDIARIES
(Unaudited)
Notes to Consolidated Financial Statements

1 -
Organization



Donegal Mutual Insurance Company (“Donegal Mutual”) organized us as an insurance holding company on August 26, 1986. Our insurance subsidiaries, Atlantic States Insurance Company (“Atlantic States”), Southern Insurance Company of Virginia (“Southern”), the Peninsula Insurance Group (“Peninsula”), which consists of Peninsula Indemnity Company and The Peninsula Insurance Company and Michigan Insurance Company (“MICO”), and our affiliates write personal and commercial lines of property and casualty coverages exclusively through a network of independent insurance agents in certain Mid-Atlantic, Midwestern, New England, Southern and Southwestern states.



At March 31, 2022, we had three segments: our investment function, our commercial lines of insurance and our personal lines of insurance. The commercial lines products of our insurance subsidiaries consist primarily of commercial automobile, commercial multi-peril and workers’ compensation policies. The personal lines products of our insurance subsidiaries consist primarily of homeowners and private passenger automobile policies.

 

At March 31, 2022, Donegal Mutual held approximately 41% of our outstanding Class A common stock and approximately 84% of our outstanding Class B common stock. This ownership provides Donegal Mutual with approximately 70% of the total voting power of our common stock. Our insurance subsidiaries and Donegal Mutual have interrelated operations due to a pooling agreement and other intercompany agreements and transactions. While each company maintains its separate corporate existence, our insurance subsidiaries and Donegal Mutual conduct business together as the Donegal Insurance Group. As such, Donegal Mutual and our insurance subsidiaries share the same business philosophy, the same management, the same employees and the same facilities and offer the same types of insurance products.



Atlantic States, our largest subsidiary, participates in a proportional reinsurance agreement, or pooling agreement, with Donegal Mutual. Under the pooling agreement, Donegal Mutual and Atlantic States contribute substantially all of their respective premiums, losses and loss expenses to the underwriting pool, and the underwriting pool, acting through Donegal Mutual, then allocates 80% of the pooled business to Atlantic States. Thus, Donegal Mutual and Atlantic States share the underwriting results of the pooled business in proportion to their respective participation in the underwriting pool.



In addition, Donegal Mutual has a 100% quota-share reinsurance agreement with Southern Mutual Insurance Company, or Southern Mutual. Donegal Mutual places its assumed business from Southern Mutual into the underwriting pool.



Donegal Mutual completed the merger of Mountain States Mutual Casualty Company, or Mountain States, with and into Donegal Mutual effective May 25, 2017. Donegal Mutual was the surviving company in the merger, and Mountain States’ insurance subsidiaries, Mountain States Indemnity Company and Mountain States Commercial Insurance Company (collectively, the “Mountain States insurance subsidiaries”), became insurance subsidiaries of Donegal Mutual upon completion of the merger. Upon completion of the merger, Donegal Mutual assumed all of the policy obligations of Mountain States and began to market its products together with the Mountain States insurance subsidiaries as the Mountain States Insurance Group in four Southwestern states. Donegal Mutual also entered into a 100% quota-share reinsurance agreement with the Mountain States insurance subsidiaries on the merger date. Beginning with policies effective in 2021, Donegal Mutual began to place the business of the Mountain States Insurance Group into the underwriting pool.



The same executive management and underwriting personnel administer products, classes of business underwritten, pricing practices and underwriting standards of Donegal Mutual and our insurance subsidiaries. In addition, as the Donegal Insurance Group, Donegal Mutual and our insurance subsidiaries share a combined business plan to achieve market penetration and underwriting profitability objectives. The products our insurance subsidiaries and Donegal Mutual market are generally complementary, thereby allowing the Donegal Insurance Group to offer a broader range of products to a given market and to expand the Donegal Insurance Group’s ability to service an entire personal lines or commercial lines account. Distinctions within the products of Donegal Mutual and our insurance subsidiaries generally relate to specific risk profiles targeted within similar classes of business, such as preferred tier versus standard tier products, but we do not allocate all of the standard risk gradients to one company. Therefore, the underwriting profitability of the business the individual companies write directly will vary. However, the underwriting pool homogenizes the risk characteristics of all business that Donegal Mutual and Atlantic States write directly. The business Atlantic States derives from the underwriting pool represents a significant percentage of our total consolidated revenues.

2 -
Basis of Presentation



Our financial information for the interim periods included in this Form 10-Q Report is unaudited; however, our financial information we include in this Form 10-Q Report reflects all adjustments, consisting only of normal recurring adjustments that, in the opinion of our management, are necessary for a fair presentation of our financial position, results of operations and cash flows for those interim periods. Our results of operations for the three months ended March 31, 2022 are not necessarily indicative of the results of operations we expect for the year ending December 31, 2022.



We recommend you read the interim financial statements we include in this Form 10-Q Report in conjunction with the financial statements and the notes to our financial statements contained in our Annual Report on Form 10-K for the year ended December 31, 2021.

3 -
Earnings Per Share



We have two classes of common stock, which we refer to as our Class A common stock and our Class B common stock. Our certificate of incorporation provides that whenever our board of directors declares a dividend on our Class B common stock, our board of directors shall simultaneously declare a dividend on our Class A common stock that is payable to the holders of our Class A common stock at the same time and as of the same record date at a rate that is at least 10% greater than the rate at which our board of directors declared a dividend on our Class B common stock. Accordingly, we use the two-class method to compute our earnings per common share. The two-class method is an earnings allocation formula that determines earnings per share separately for each class of common stock based on dividends we have declared and an allocation of our remaining undistributed earnings using a participation percentage that reflects the dividend rights of each class. The table below presents for the periods indicated a reconciliation of the numerators and denominators we used to compute basic and diluted net income per share for our Class A common stock and our Class B common stock:
 
   
Three Months Ended March 31,
 
   
2022
   
2021
 
   
Class A
   
Class B
   
Class A
   
Class B
 
   
(in thousands, except per share data)
 
Basic earnings per share:
                       
Numerator:
                       
Allocation of net income
 
$
10,986
   
$
2,159
   
$
8,742
   
$
1,788
 
Denominator:
                               
Weighted-average shares outstanding
   
25,787
     
5,577
     
24,768
     
5,577
 
Basic earnings per share
 
$
0.43
   
$
0.39
   
$
0.35
   
$
0.32
 
                                 
Diluted earnings per share:
                               
Numerator:
                               
Allocation of net income
 
$
10,986
   
$
2,159
   
$
8,742
   
$
1,788
 
Denominator:
                               
Number of shares used in basic computation
   
25,787
     
5,577
     
24,768
     
5,577
 
Weighted-average shares effect of dilutive  securities:
                               
Director and employee stock options
   
22
     
     
128
     
 
Number of shares used in diluted computation
   
25,809
     
5,577
     
24,896
     
5,577
 
Diluted earnings per share
 
$
0.43
   
$
0.39
   
$
0.35
   
$
0.32
 
 

We did not include outstanding options to purchase the following number of shares of Class A common stock in our computation of diluted earnings per share because the exercise price of the options exceeded the average market price of our Class A common stock during the applicable periods.

   
Three Months Ended March 31,
 
   
2022
   
2021
 
                 
Number of options to purchase Class A shares excluded
   
5,434,934
     
6,051,359
 

4 -
Reinsurance



Atlantic States and Donegal Mutual have participated in a pooling agreement since 1986 under which they pool their direct premiums written, and Atlantic States and Donegal Mutual then share the underwriting results of the pool in accordance with the terms of the pooling agreement. Atlantic States has an 80% share of the results of the pool, and Donegal Mutual has a 20% share of the results of the pool. Donegal Mutual began placing the business of the Mountain States Insurance Group into the pool beginning with policies effective in 2021.



Our insurance subsidiaries and Donegal Mutual participate in a consolidated third-party reinsurance program. The coverage and parameters of the program are common to all of our insurance subsidiaries and Donegal Mutual. The program utilizes several different reinsurers. They require their reinsurers to maintain an A.M. Best rating of A- (Excellent) or better or, with respect to foreign reinsurers, have a financial condition that, in the opinion of our management, is equivalent to a company with at least an A- rating from A.M. Best. The following information describes the external reinsurance Donegal Mutual and our insurance subsidiaries have in place for 2022:


excess of loss reinsurance, under which Donegal Mutual and our insurance subsidiaries recover losses over a set retention of $2.0 million; and

 
catastrophe reinsurance, under which Donegal Mutual and our insurance subsidiaries recover 100% of an accumulation of many losses resulting from a single event, including natural disasters, over a set retention of $15.0 million up to aggregate losses of $185.0 million per occurrence.



For property insurance, our insurance subsidiaries have excess of loss reinsurance that provide for coverage of $38.0 million per loss over a set retention of $2.0 million. For liability insurance, our insurance subsidiaries have excess of loss reinsurance that provide for coverage of $73.0 million per occurrence over a set retention of $2.0 million. For workers’ compensation insurance, our insurance subsidiaries have excess of loss reinsurance that provide for coverage of $18.0 million on any one life over a set retention of $2.0 million.


In addition to the pooling agreement and third-party reinsurance, our insurance subsidiaries have a catastrophe reinsurance agreement with Donegal Mutual, under which each of our insurance subsidiaries recovers 100% of an accumulation of multiple losses resulting from a single event, including natural disasters, over a set retention of $2.0 million up to aggregate losses of $13.0 million per occurrence. The agreement also provides additional coverage for an accumulation of losses from a single event including a combination of our insurance subsidiaries over a combined retention of $5.0 million.



Our insurance subsidiaries and Donegal Mutual also purchase facultative reinsurance to cover certain exposures, including property exposures that exceeded the limits provided by their respective treaty reinsurance.



In order to write automobile insurance in the state of Michigan, MICO is required to be a member of the Michigan Catastrophic Claims Association (“MCCA”).  The MCCA provides reinsurance to MICO for personal automobile and commercial automobile personal injury claims in the state of Michigan over a set retention. In November 2021, the MCCA approved the return of approximately $3.0 billion of its estimated surplus to its member insurance companies and provided guidance to those companies with respect to the payment of refunds to Michigan policyholders in the first half of 2022. We recorded a receivable from the MCCA and a corresponding payable for cash refunds due to Michigan policyholders in the amount of $18.1 million on our balance sheet as of December 31, 2021. In March 2022, we received such payment from the MCCA and subsequently paid the refunds due to our Michigan policyholders.

5 -
Investments



The amortized cost and estimated fair values of our fixed maturities at March 31, 2022 were as follows:
 
   
Amortized Cost
   
Gross Unrealized
Gains
   
Gross Unrealized
Losses
   
Estimated Fair
Value
 
   
(in thousands)
 
Held to Maturity
                       
U.S. Treasury securities and obligations of U.S. government corporations and agencies
 
$
89,848
   
$
310
   
$
4,139
   
$
86,019
 
Obligations of states and political subdivisions
   
395,793
     
5,884
     
21,439
     
380,238
 
Corporate securities
   
190,105
     
2,594
     
5,844
     
186,855
 
Mortgage-backed securities
   
14,945
     
6
     
156
     
14,795
 
Totals
 
$
690,691
   
$
8,794
   
$
31,578
   
$
667,907
 
 
   
Amortized Cost
   
Gross Unrealized
Gains
   
Gross Unrealized
Losses
   
Estimated Fair
Value
 
   
(in thousands)
 
Available for Sale
                       
U.S. Treasury securities and obligations of U.S. government corporations and agencies
 
$
37,003
   
$
   
$
2,258
   
$
34,745
 
Obligations of states and political subdivisions
   
57,822
     
456
     
1,973
     
56,305
 
Corporate securities
   
219,350
     
1,307
     
5,484
     
215,173
 
Mortgage-backed securities
   
219,597
     
134
     
9,059
     
210,672
 
Totals
 
$
533,772
   
$
1,897
   
$
18,774
   
$
516,895
 



At March 31, 2022, our holdings of obligations of states and political subdivisions included general obligation bonds with an aggregate fair value of $283.6 million and an amortized cost of $296.1 million. Our holdings at March 31, 2022 also included special revenue bonds with an aggregate fair value of $152.9 million and an amortized cost of $157.5 million. With respect to both categories of those bonds at March 31, 2022, we held no securities of any issuer that comprised more than 10% of our holdings of either bond category. Education bonds and water and sewer utility bonds represented 48% and 35%, respectively, of our total investments in special revenue bonds based on the carrying values of these investments at March 31, 2022. Many of the issuers of the special revenue bonds we held at March 31, 2022 have the authority to impose ad valorem taxes. In that respect, many of the special revenue bonds we held at March 31, 2022 are similar to general obligation bonds.


 



The amortized cost and estimated fair values of our fixed maturities at December 31, 2021 were as follows:
 
   
Amortized Cost
   
Gross Unrealized
Gains
   
Gross Unrealized
Losses
   
Estimated Fair
Value
 
   
(in thousands)
 
Held to Maturity
                       
U.S. Treasury securities and obligations of U.S. government corporations and agencies
 
$
89,268
   
$
1,923
   
$
1,015
   
$
90,176
 
Obligations of states and political subdivisions
   
371,436
     
17,857
     
948
     
388,345
 
Corporate securities
   
191,147
     
11,576
     
773
     
201,950
 
Mortgage-backed securities
   
16,254
     
676
     
     
16,930
 
Totals
 
$
668,105
   
$
32,032
   
$
2,736
   
$
697,401
 
 
   
Amortized Cost
   
Gross Unrealized
Gains
   
Gross Unrealized
Losses
   
Estimated Fair
Value
 
   
(in thousands)
 
Available for Sale
                       
U.S. Treasury securities and obligations of U.S. government corporations and agencies
 
$
32,501
   
$
144
   
$
461
   
$
32,184
 
Obligations of states and political subdivisions
   
55,459
     
2,002
     
83
     
57,378
 
Corporate securities
   
215,669
     
6,817
     
874
     
221,612
 
Mortgage-backed securities
   
219,664
     
3,001
     
1,210
     
221,455
 
Totals
 
$
523,293
   
$
11,964
   
$
2,628
   
$
532,629
 



At December 31, 2021, our holdings of obligations of states and political subdivisions included general obligation bonds with an aggregate fair value of $284.9 million and an amortized cost of $272.7 million. Our holdings also included special revenue bonds with an aggregate fair value of $160.8 million and an amortized cost of $154.2 million. With respect to both categories of bonds, we held no securities of any issuer that comprised more than 10% of that category at December 31, 2021. Education bonds and water and sewer utility bonds represented 48% and 35%, respectively, of our total investments in special revenue bonds based on their carrying values at December 31, 2021. Many of the issuers of the special revenue bonds we held at December 31, 2021 have the authority to impose ad valorem taxes. In that respect, many of the special revenue bonds we held are similar to general obligation bonds.



We have segregated within accumulated other comprehensive (loss) income the net unrealized losses of $15.1 million arising prior to the November 30, 2013 reclassification date for fixed maturities reclassified from available for sale to held to maturity. We are amortizing this balance over the remaining life of the related securities as an adjustment of yield in a manner consistent with the accretion of discount on the same fixed maturities. We recorded amortization of $ 149,475 and $371,265 in other comprehensive loss during the three months ended March 31, 2022 and 2021, respectively. At March 31, 2022 and December 31, 2021, net unrealized losses of $5.0 million and $5.2 million, respectively, remained within accumulated other comprehensive (loss) income.


We show below the amortized cost and estimated fair value of our fixed maturities at March 31, 2022 by contractual maturity. Expected maturities may differ from contractual maturities because issuers of the securities may have the right to call or prepay obligations with or without call or prepayment penalties

.
   
Amortized Cost
   
Estimated Fair
Value
 
   
(in thousands)
 
Held to maturity
           
Due in one year or less
 
$
60,854
   
$
62,484
 
Due after one year through five years
   
84,257
     
85,415
 
Due after five years through ten years
   
223,309
     
216,052
 
Due after ten years
   
307,326
     
289,161
 
Mortgage-backed securities
   
14,945
     
14,795
 
Total held to maturity
 
$
690,691
   
$
667,907
 
                 
Available for sale
               
Due in one year or less
 
$
29,090
   
$
29,320
 
Due after one year through five years
   
148,499
     
145,592
 
Due after five years through ten years
   
105,650
     
101,917
 
Due after ten years
   
30,936
     
29,394
 
Mortgage-backed securities
   
219,597
     
210,672
 
Total available for sale
 
$
533,772
   
$
516,895
 

10


The cost and estimated fair values of our equity securities at March 31, 2022 were as follows:
 
   
Cost
   
Gross Gains
   
Gross Losses
   
Estimated Fair
Value
 
   
(in thousands)
 
Equity securities
 
$
35,307
   
$
18,795
   
$
56
   
$
54,046
 



The cost and estimated fair values of our equity securities at December 31, 2021 were as follows:
 
   
Cost
   
Gross Gains
   
Gross Losses
   
Estimated Fair
Value
 
   
(in thousands)
 
Equity securities
 
$
43,263
   
$
20,413
   
$
256
   
$
63,420
 
 

We present below gross gains and losses from investments and the change in the difference between fair value and cost of investments:
 
   
Three Months Ended March 31,
 
   
2022
   
2021
 
   
(in thousands)
 
Gross realized gains:
           
Fixed maturities
 
$
234
   
$
193
 
Equity securities
   
843
     
73
 
Real estate
    477        
 
   
1,554
     
266
 
Gross realized losses:
               
Fixed maturities
   
69
     
222
 
Equity securities
   
824
     
 
     
893
     
222
 
Net realized gains
 

661
   

44
 
Gross unrealized gains on equity securities
    716       3,204  
Gross unrealized losses on equity securities
    (1,453 )     (779 )
Net investment (losses) gains
  $
(76 )   $
2,469  



We held fixed maturities with unrealized losses representing declines that we considered temporary at March 31, 2022 as follows:
 
   
Less Than 12 Months
   
More Than 12 Months
 
   
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
 
   
(in thousands)
 
U.S. Treasury securities and obligations of U.S. government corporations and agencies
 
$
52,488
   
$
2,816
   
$
31,710
   
$
3,581
 
Obligations of states and political subdivisions
   
231,429
     
19,976
     
28,289
     
3,436
 
Corporate securities
   
188,463
     
8,531
     
25,649
     
2,797
 
Mortgage-backed securities
   
192,115
     
7,590
     
14,313
     
1,625
 
Totals
 
$
664,495
   
$
38,913
   
$
99,961
   
$
11,439
 


11


We held fixed maturities with unrealized losses representing declines that we considered temporary at December 31, 2021 as follows:
 
   
Less Than 12 Months
   
More Than 12 Months
 
   
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
 
   
(in thousands)
 
U.S. Treasury securities and obligations of U.S. government corporations and agencies
 
$
27,691
   
$
412
   
$
28,426
   
$
1,064
 
Obligations of states and political subdivisions
   
56,655
     
899
     
7,091
     
132
 
Corporate securities
   
92,737
     
1,610
     
1,463
     
37
 
Mortgage-backed securities
   
90,006
     
1,128
     
2,361
     
82
 
Totals
 
$
267,089
   
$
4,049
   
$
39,341
   
$
1,315
 



We make estimates concerning the valuation of our investments and the recognition of other-than-temporary declines in the value of our investments. For equity securities, we measure investments at fair value, and we recognize changes in fair value in our results of operations. With respect to a debt security that is in an unrealized loss position, we first assess if we intend to sell the debt security. If we determine we intend to sell the debt security, we recognize the impairment loss in our results of operations. If we do not intend to sell the debt security, we determine whether it is more likely than not that we will be required to sell the debt security prior to recovery. If we determine it is more likely than not that we will be required to sell the debt security prior to recovery, we recognize the impairment loss in our results of operations. If we determine it is more likely than not that we will not be required to sell the debt security prior to recovery, we then evaluate whether a credit loss has occurred with respect to that security. We determine whether a credit loss has occurred by comparing the amortized cost of the debt security to the present value of the cash flows we expect to collect. If we expect a cash flow shortfall, we consider that a credit loss has occurred. If we determine that a credit loss has occurred, we consider the impairment to be other than temporary. We then recognize the amount of the impairment loss related to the credit loss in our results of operations, and we recognize the remaining portion of the impairment loss in our other comprehensive income, net of applicable taxes. In addition, we may write down securities in an unrealized loss position based on a number of other factors, including when the fair value of an investment is significantly below its cost, when the financial condition of the issuer of a security has deteriorated, the occurrence of industry, issuer or geographic events that have negatively impacted the value of a security and rating agency downgrades. We held 593 debt securities that were in an unrealized loss position at March 31, 2022. Based upon our analysis of general market conditions and underlying factors impacting these debt securities, we considered these declines in value to be temporary.



We amortize premiums and discounts on debt securities over the life of the security as an adjustment to yield using the effective interest method. We compute realized investment gains and losses using the specific identification method.



We amortize premiums and discounts on mortgage-backed debt securities using anticipated prepayments.

6 -
Segment Information



We evaluate the performance of our personal lines and commercial lines segments based upon the underwriting results of our insurance subsidiaries using statutory accounting principles (“SAP”) that various state insurance departments prescribe or permit. Our management uses SAP to measure the performance of our insurance subsidiaries instead of United States generally accepted accounting principles (“GAAP”). SAP financial measures are considered non-GAAP financial measures under applicable SEC rules because they include or exclude certain items that the most comparable GAAP financial measures do not ordinarily include or exclude.


12


Financial data by segment for the three months ended March 31, 2022 and 2021 is as follows:


   
Three Months Ended March 31,
 
   
2022
   
2021
 
   
(in thousands)
 
Revenues:
           
Premiums earned:
           
Commercial lines
 
$
124,329
   
$
109,226
 
Personal lines
   
74,920
     
78,026
 
GAAP premiums earned
   
199,249
     
187,252
 
Net investment income
   
7,859
     
7,511
 
Investment (losses) gains
   
(76
)
   
2,469
 
Other
   
595
     
738
 
Total revenues
 
$
207,627
   
$
197,970
 
Income before income tax expense:
               
Underwriting income (loss):
               
Commercial lines
 
$
62
   
$
(8,242
)
Personal lines
   
4,642
     
5,037
 
SAP underwriting income (loss)
   
4,704
     
(3,205
)
GAAP adjustments
   
3,725
     
5,982
 
GAAP underwriting income
   
8,429
     
2,777
 
Net investment income
   
7,859
     
7,511
 
Investment (losses) gains
   
(76
)
   
2,469
 
Other
   
14
     
(6
)
Income before income tax expense
 
$
16,226
   
$
12,751
 

7 -
Borrowings

Lines of Credit


In August 2020, we entered into a credit agreement with Manufacturers and Traders Trust Company (“M&T”) that related to a $20.0 million unsecured demand line of credit. The line of credit has no expiration date, no annual fees and no covenants. At March 31, 2022, we had no outstanding borrowings from M&T and had the ability to borrow up to $20.0 million at interest rates equal to the then-current LIBOR rate plus 2.00%.


13


Atlantic States is a member of the FHLB of Pittsburgh. Through its membership, Atlantic States has the ability to issue debt to the FHLB of Pittsburgh in exchange for cash advances. Atlantic States has a fixed-rate cash advance of $35.0 million that was outstanding at March 31, 2022. The cash advance carries a fixed interest rate of 1.74% and is due in August 2024. In March 2020, Atlantic States issued $50.0 million of debt to the FHLB of Pittsburgh in exchange for a cash advance in the same amount that carried a fixed interest rate of 0.83%. Atlantic States obtained this contingent liquidity funding in light of uncertainty surrounding the economic impact of the COVID-19 pandemic. Atlantic States repaid this advance when it became due in March 2021. The table below presents the amount of FHLB of Pittsburgh stock Atlantic States purchased, collateral pledged and assets related to Atlantic States’ membership in the FHLB of Pittsburgh at March 31, 2022.

FHLB of Pittsburgh stock purchased and owned
 
$
1,575,600
 
Collateral pledged, at par (carrying value $39,728,104)
   
40,871,156
 
Borrowing capacity currently available
   
2,703,399
 

8 -
Share–Based Compensation



We measure all share-based payments to employees, including grants of stock options, and use a fair-value-based method for the recording of related compensation expense in our results of operations. In determining the expense we record for stock options granted to directors and employees of our subsidiaries and affiliates, we estimate the fair value of each option award on the date of grant using the Black-Scholes option pricing model. The significant assumptions we utilize in applying the Black-Scholes option pricing model are the risk-free interest rate, the expected term, the dividend yield and the expected volatility.



We recorded compensation expense related to our stock compensation plans of $244,140 and $292,795 for the three months ended March 31, 2022 and 2021, respectively, with a corresponding income tax benefit of $51,269 and $61,487, respectively. At March 31, 2022, we had $1.2 million of unrecognized compensation expense related to nonvested share-based compensation granted under our stock compensation plans that we expect to recognize over a weighted average period of approximately 1.8 years.



We received cash from option exercises under all stock compensation plans during the three months ended March 31, 2022 and 2021 of $ 12,321 and $4.4 million, respectively. We realized actual tax benefits for the tax deductions related to those option exercises of $ 153 and $149,156 for the three months ended March 31, 2022 and 2021, respectively.

9 -
Fair Value Measurements



We account for financial assets using a framework that establishes a hierarchy that ranks the quality and reliability of the inputs, or assumptions, we use in the determination of fair value, and we classify financial assets and liabilities carried at fair value in one of the following three categories:


Level 1 – quoted prices in active markets for identical assets and liabilities;



Level 2 – directly or indirectly observable inputs other than Level 1 quoted prices; and



Level 3 – unobservable inputs not corroborated by market data.



For investments that have quoted market prices in active markets, we use the quoted market price as fair value and include these investments in Level 1 of the fair value hierarchy. We classify publicly-traded equity securities as Level 1. When quoted market prices in active markets are not available, we base fair values on quoted market prices of comparable instruments or price estimates we obtain from independent pricing services and include these investments in Level 2 of the fair value hierarchy. We classify our fixed maturity investments and non-publicly traded equity securities as Level 2. Our fixed maturity investments consist of U.S. Treasury securities and obligations of U.S. government corporations and agencies, obligations of states and political subdivisions, corporate securities and mortgage-backed securities.


14


We present our investments in available-for-sale fixed maturity and equity securities at estimated fair value. The estimated fair value of a security may differ from the amount that could be realized if we sold the security in a forced transaction. In addition, the valuation of fixed maturity investments is more subjective when markets are less liquid, increasing the potential that the estimated fair value does not reflect the price at which an actual transaction would occur. We utilize nationally recognized independent pricing services to estimate fair values or obtain market quotations for substantially all of our fixed maturity and equity investments. We generally obtain two prices per security. These pricing services utilize market quotations for fixed maturity and equity securities that have quoted prices in active markets. For fixed maturity securities that generally do not trade on a daily basis, the pricing services prepare estimates of fair value measurements based predominantly on observable market inputs. The pricing services do not use broker quotes in determining the fair values of our investments. Our investment personnel review the estimates of fair value the pricing services provide to verify that the estimates we obtain from the pricing services are representative of fair values based upon our investment personnel’s general knowledge of the market, their research findings related to unusual fluctuations in value and their comparison of such values to execution prices for similar securities. Our investment personnel monitor the market and are familiar with current trading ranges for similar securities and the pricing of specific investments. Our investment personnel review all pricing estimates that we receive from the pricing services against their expectations with respect to pricing based on fair market curves, security ratings, coupon rates, security types and recent trading activity. Our investment personnel periodically review documentation with respect to the pricing services’ pricing methodology that they obtain to determine if the primary pricing sources, market inputs and pricing frequency for various security types are reasonable. At March 31, 2022, we received two estimates per security from the pricing services, and we priced substantially all of our Level 1 and Level 2 investments using those prices. In our review of the estimates the pricing services provided at March 31, 2022, we did not identify any material discrepancies, and we did not make any adjustments to the estimates the pricing services provided.



We present our cash and short-term investments at estimated fair value. We classify these items as Level 1.



The carrying values we report in our balance sheet for premium receivables, reinsurance receivables related to paid losses and loss expenses and reinsurance balances payable approximate their fair values. The carrying amounts we report in our balance sheets for our subordinated debentures and borrowings under lines of credit approximate their fair values. We classify these items as Level 3.



We evaluate our assets and liabilities to determine the appropriate level at which to classify them for each reporting period.



The following table presents our fair value measurements for our investments in available-for-sale fixed maturity and equity securities at March 31, 2022:

   
Fair Value Measurements Using
 
   
Fair Value
   
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
   
Significant Other
Observable
Inputs (Level 2)
   
Significant
Unobservable
Inputs
(Level 3)
 
   
(in thousands)
 
U.S. Treasury securities and obligations of U.S. government corporations and agencies
 
$
34,745
   
$
   
$
34,745
   
$
 
Obligations of states and political subdivisions
   
56,305