Company Quick10K Filing
Quick10K
EMC Insurance Group
Closing Price ($) Shares Out (MM) Market Cap ($MM)
$35.98 22 $779
10-Q 2019-03-31 Quarter: 2019-03-31
10-K 2018-12-31 Annual: 2018-12-31
10-Q 2018-09-30 Quarter: 2018-09-30
10-Q 2018-06-30 Quarter: 2018-06-30
10-Q 2018-03-31 Quarter: 2018-03-31
10-K 2017-12-31 Annual: 2017-12-31
10-Q 2017-09-30 Quarter: 2017-09-30
10-Q 2017-06-30 Quarter: 2017-06-30
10-Q 2017-03-31 Quarter: 2017-03-31
10-K 2016-12-31 Annual: 2016-12-31
10-Q 2016-09-30 Quarter: 2016-09-30
10-Q 2016-06-30 Quarter: 2016-06-30
10-Q 2016-03-31 Quarter: 2016-03-31
10-K 2015-12-31 Annual: 2015-12-31
10-Q 2015-09-30 Quarter: 2015-09-30
10-Q 2015-06-30 Quarter: 2015-06-30
10-Q 2015-03-31 Quarter: 2015-03-31
10-K 2014-12-31 Annual: 2014-12-31
10-Q 2014-09-30 Quarter: 2014-09-30
10-Q 2014-06-30 Quarter: 2014-06-30
10-Q 2014-03-31 Quarter: 2014-03-31
10-K 2013-12-31 Annual: 2013-12-31
8-K 2019-07-10 Regulation FD, Exhibits
8-K 2019-05-22 Regulation FD, Exhibits
8-K 2019-05-09 Earnings, Regulation FD, Exhibits
8-K 2019-05-08 Enter Agreement, Amend Bylaw, Regulation FD, Exhibits
8-K 2019-04-05 Regulation FD, Exhibits
8-K 2019-02-07 Earnings, Regulation FD, Exhibits
8-K 2019-01-18 Regulation FD, Exhibits
8-K 2019-01-08 Other Events, Exhibits
8-K 2018-12-12 Enter Agreement
8-K 2018-11-15 Other Events, Exhibits
8-K 2018-11-07 Earnings, Regulation FD, Exhibits
8-K 2018-11-05 Regulation FD, Exhibits
8-K 2018-10-30 Regulation FD, Exhibits
8-K 2018-10-29 Regulation FD, Exhibits
8-K 2018-10-05 Regulation FD, Exhibits
8-K 2018-08-28 Regulation FD, Exhibits
8-K 2018-08-23 Regulation FD, Exhibits
8-K 2018-08-07 Earnings, Regulation FD, Exhibits
8-K 2018-07-26 Regulation FD, Exhibits
8-K 2018-06-28 Regulation FD, Exhibits
8-K 2018-05-22 Regulation FD, Exhibits
8-K 2018-05-16 Amend Bylaw, Shareholder Vote, Exhibits
8-K 2018-04-16 Regulation FD, Exhibits
8-K 2018-03-15 Regulation FD, Exhibits
8-K 2018-03-02 Enter Agreement, Regulation FD, Exhibits
8-K 2018-02-08 Earnings, Regulation FD, Exhibits
8-K 2018-02-05 Enter Agreement
8-K 2018-01-30 Regulation FD, Exhibits
8-K 2018-01-08 Regulation FD, Exhibits
8-K 2018-01-02 Enter Agreement, Exhibits
MU Micron Technology 43,460
WRK Westrock 9,550
FOE Ferro 1,300
DSX Diana Shipping 335
NTIC Northern Technologies International 119
MDLY Medley Management 89
MODD Modular Medical 0
RCHA Rich Pharmaceuticals 0
TGRP Tron Group 0
PROC Procaccianti Hotel REIT 0
EMCI 2019-03-31
Part I. Financial Information
Item 1. Financial Statements
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
Part II. Other Information
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 6. Exhibits
EX-31.1 a2019331ex311.htm
EX-31.2 a2019331ex312.htm
EX-32.1 a2019331ex321.htm
EX-32.2 a2019331ex322.htm

EMC Insurance Group Earnings 2019-03-31

EMCI 10Q Quarterly Report

Balance SheetIncome StatementCash Flow

10-Q 1 a201933110q.htm 10-Q Document

emcgrouplogoa05.jpg

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q 
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES  EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2019
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________________to __________________ 
Commission File Number: 0-10956
EMC INSURANCE GROUP INC.
(Exact name of registrant as specified in its charter)
Iowa
 
42-6234555
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. employer identification no.)
717 Mulberry Street, Des Moines, Iowa
 
50309
(Address of principal executive offices)
 
(Zip code)
(515) 345-2902
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by 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. ý  Yes    o  No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). ý  Yes    o  No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company.  See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
o
Large accelerated filer
ý
Accelerated filer
o
Non-accelerated filer
o
Smaller reporting company
o
Emerging growth company
 
(Do not check if a smaller reporting 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. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o  Yes    ý  No



Securities registered pursuant to Section 12(b) of the Act:
 
 
 
 
Common Stock, Par Value $1.00
EMCI
The Nasdaq Global Select Market
(Title of class)
(Trading symbol)
(Name of each exchange on which registered)
As of April 30, 2019, there were 21,668,287 shares of common stock, $1.00 par value, issued and outstanding.



TABLE OF CONTENTS




PART I.
FINANCIAL INFORMATION

ITEM 1.
FINANCIAL STATEMENTS

EMC INSURANCE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
 
 
March 31, 
 2019
 
December 31, 
 2018
($ in thousands, except share and per share amounts)
 
(Unaudited)
 

ASSETS
 
 
 
 
Investments:
 
 
 
 
Fixed maturity securities available-for-sale, at fair value (amortized cost $1,255,775 and $1,273,132)
 
$
1,291,860

 
$
1,282,909

Equity investments, at fair value (cost $167,632 and $160,371)
 
242,583

 
215,363

Equity investments, at alternative measurement of cost less impairments
 
1,200

 
1,200

Other long-term investments
 
18,099

 
19,316

Short-term investments
 
48,265

 
28,204

Total investments
 
1,602,007

 
1,546,992

 
 
 
 
 
Cash
 
232

 
337

Reinsurance receivables due from affiliate
 
35,767

 
37,361

Prepaid reinsurance premiums due from affiliate
 
7,530

 
8,789

Deferred policy acquisition costs (affiliated $47,422 and $44,440)
 
47,422

 
44,760

Amounts due from affiliate to settle inter-company transaction balances
 
11,905

 
5,154

Prepaid pension and postretirement benefits due from affiliate
 
17,355

 
17,691

Accrued investment income
 
11,713

 
10,468

Accounts receivable
 
1,038

 
1,658

Income taxes recoverable
 
2,465

 
6,697

Goodwill
 
942

 
942

Other assets (affiliated $3,678 and $4,510)
 
3,851

 
4,629

Total assets
 
$
1,742,227

 
$
1,685,478

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

See accompanying Notes to Consolidated Financial Statements.

3


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
 
 
March 31, 
 2019
 
December 31, 
 2018
($ in thousands, except share and per share amounts)
 
(Unaudited)
 

LIABILITIES
 
 
 
 
Losses and settlement expenses (affiliated $774,644 and $771,872)
 
$
780,393

 
$
777,190

Unearned premiums (affiliated $271,127 and $267,064)
 
271,127

 
268,511

Other policyholders' funds (all affiliated)
 
8,326

 
8,807

Surplus notes payable to affiliate
 
25,000

 
25,000

Pension benefits payable to affiliate
 
3,738

 
4,070

Deferred income taxes
 
14,844

 
4,908

Other liabilities (affiliated $20,328 and $31,121)
 
22,465

 
31,210

Total liabilities
 
1,125,893

 
1,119,696

 
 
 
 
 
STOCKHOLDERS' EQUITY
 
 
 
 
Common stock, $1 par value, authorized 30,000,000 shares; issued and outstanding, 21,668,287 shares in 2019 and 21,615,105 shares in 2018
 
21,668

 
21,615

Additional paid-in capital
 
129,928

 
128,451

Accumulated other comprehensive income
 
22,090

 
1,620

Retained earnings
 
442,648

 
414,096

Total stockholders' equity
 
616,334

 
565,782

Total liabilities and stockholders' equity
 
$
1,742,227

 
$
1,685,478

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

See accompanying Notes to Consolidated Financial Statements.


4


 
 
 
 
 
EMC INSURANCE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)

 
 
Three months ended March 31,
($ in thousands, except share and per share amounts)
 
2019
 
2018
REVENUES
 
 
 
 
Premiums earned (affiliated $166,747 and $154,246)
 
$
167,302

 
$
155,786

Net investment income
 
12,763

 
11,371

Net realized investment gains/losses and change in unrealized gains on equity investments
 
22,643

 
(5,393
)
Other income (affiliated $1,456 and $1,581)
 
1,535

 
1,615

Total revenues
 
204,243

 
163,379

 
 
 
 
 
LOSSES AND EXPENSES
 
 
 
 
Losses and settlement expenses (affiliated $102,691 and $110,570)
 
104,969

 
110,628

Dividends to policyholders (all affiliated)
 
2,771

 
2,120

Amortization of deferred policy acquisition costs (affiliated $29,892 and $26,917)
 
29,970

 
27,292

Other underwriting expenses (affiliated $22,715 and $22,920)
 
22,592

 
22,855

Interest expense (all affiliated)
 
171

 
142

Other expenses (affiliated $645 and $498)
 
1,485

 
870

Total losses and expenses
 
161,958

 
163,907

Income (loss) before income tax expense (benefit)
 
42,285

 
(528
)
 
 
 
 
 
INCOME TAX EXPENSE (BENEFIT)
 
 
 
 
Current
 
4,259

 
1,206

Deferred
 
4,495

 
(1,658
)
Total income tax expense (benefit)
 
8,754

 
(452
)
Net income (loss)
 
$
33,531

 
$
(76
)
 
 
 
 
 
Net income (loss) per common share - basic and diluted
 
$
1.55

 
$

 
 
 
 
 
Dividend per common share
 
$
0.23

 
$
0.22

 
 
 
 
 
Average number of common shares outstanding - basic and diluted
 
21,638,588

 
21,501,897

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

See accompanying Notes to Consolidated Financial Statements.



5


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
 
 
 
 
 
 
 
Three months ended 
 March 31,
($ in thousands)
 
2019
 
2018
Net income (loss)
 
$
33,531

 
$
(76
)
 
 
 
 
 
OTHER COMPREHENSIVE INCOME (LOSS)
 
 
 
 
Unrealized holding gains (losses) on investment securities not reflected in net income, net of deferred income tax expense (benefit) of $5,468 and $(5,042)
 
20,568

 
(18,969
)
Reclassification adjustment for net realized investment losses included in net income, net of income tax benefit of $57 and $51
 
215

 
193

Reclassification adjustment for amounts amortized into net periodic pension and postretirement benefit income, net of deferred income tax expense of $(84) and $(144):
 
 
 
 
Net actuarial loss
 
197

 
81

Prior service credit
 
(510
)
 
(622
)
Total reclassification adjustment associated with affiliate's pension and postretirement benefit plans
 
(313
)
 
(541
)
 
 
 
 
 
Other comprehensive income (loss)
 
20,470

 
(19,317
)
 
 
 
 
 
Total comprehensive income (loss)
 
$
54,001

 
$
(19,393
)
All affiliated balances presented above are the result of related party transactions with Employers Mutual.

See accompanying Notes to Consolidated Financial Statements.


6


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(Unaudited)

($ in thousands, except per share amounts)
 
Common
stock
 
Additional
paid-in capital
 
Accumulated
other
comprehensive
income (loss)
 
Retained
earnings
 
Total
stockholders'
equity
Balance at December 31, 2018
 
$
21,615

 
$
128,451

 
$
1,620

 
$
414,096

 
$
565,782

Issuance of common stock through stock plans
 
73

 
2,078

 
 

 
 

 
2,151

Repurchase of common stock
 
(20
)
 
(623
)
 
 

 
 

 
(643
)
Increase resulting from stock-based compensation expense
 
 

 
22

 
 

 
 

 
22

Other comprehensive income (loss)
 
 

 
 

 
20,470

 
 

 
20,470

Net income (loss)
 
 

 
 

 
 

 
33,531

 
33,531

Dividends paid to public stockholders ($0.23 per share)
 
 

 
 

 
 

 
(2,271
)
 
(2,271
)
Dividends paid to affiliate ($0.23 per share)
 
 

 
 

 
 

 
(2,708
)
 
(2,708
)
Balance at March 31, 2019
 
$
21,668

 
$
129,928

 
$
22,090

 
$
442,648

 
$
616,334


($ in thousands, except per share amounts)
 
Common
stock
 
Additional
paid-in capital
 
Accumulated
other
comprehensive
income (loss)
 
Retained
earnings
 
Total
stockholders'
equity
Balance at December 31, 2017
 
$
21,455

 
$
124,556

 
$
83,384

 
$
374,451

 
$
603,846

Cumulative adjustment for adoption of financial instruments recognition and measurement changes
 
 
 
 
 
(66,234
)
 
66,234

 

Issuance of common stock through stock plans
 
94

 
2,304

 
 

 
 

 
2,398

Repurchase of common stock
 
(30
)
 
(772
)
 
 

 
 

 
(802
)
Increase resulting from stock-based compensation expense
 
 

 
18

 
 

 
 

 
18

Other comprehensive income (loss)
 
 

 
 

 
(19,317
)
 
 

 
(19,317
)
Net income (loss)
 
 

 
 

 
 

 
(76
)
 
(76
)
Dividends paid to public stockholders ($0.22 per share)
 
 

 
 

 
 

 
(2,128
)
 
(2,128
)
Dividends paid to affiliate ($0.22 per share)
 
 

 
 

 
 

 
(2,590
)
 
(2,590
)
Balance at March 31, 2018
 
$
21,519

 
$
126,106

 
$
(2,167
)
 
$
435,891

 
$
581,349

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

See accompanying Notes to Consolidated Financial Statements.



7


EMC INSURANCE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
 
 
Three months ended 
 March 31,
($ in thousands)
 
2019
 
2018
CASH FLOWS FROM OPERATING ACTIVITIES
 
 
 
 
Net income (loss)
 
$
33,531

 
$
(76
)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
 
 
 
 
Losses and settlement expenses (affiliated $2,772 and $6,427)
 
3,203

 
4,443

Unearned premiums (affiliated $4,063 and $1,558)
 
2,616

 
1,274

Other policyholders' funds due to affiliate
 
(481
)
 
(427
)
Amounts due to/from affiliate to settle inter-company transaction balances
 
(6,751
)
 
(153
)
Net pension and postretirement benefits due from affiliate
 
(392
)
 
(827
)
Reinsurance receivables due from affiliate
 
1,594

 
374

Prepaid reinsurance premiums due from affiliate
 
1,259

 
1,188

Commissions payable (affiliated $(9,154) and $(7,893))
 
(9,153
)
 
(7,817
)
Deferred policy acquisition costs (affiliated $(2,982) and $(1,819))
 
(2,662
)
 
(1,778
)
Accrued investment income
 
(1,245
)
 
(330
)
Current income tax
 
4,232

 
1,207

Deferred income tax
 
4,495

 
(1,658
)
Net realized investment gains/losses and change in unrealized gains on equity investments
 
(22,643
)
 
5,393

Other, net (affiliated $(785) and $(727))
 
3,267

 
2,644

Total adjustments to reconcile net income (loss) to net cash provided by operating activities
 
(22,661
)
 
3,533

Net cash provided by operating activities
 
10,870

 
3,457

CASH FLOWS FROM INVESTING ACTIVITIES
 
 
 
 
Purchases of fixed maturity securities available-for-sale
 
(10,311
)
 
(53,019
)
Disposals of fixed maturity securities available-for-sale
 
25,955

 
51,447

Purchases of equity investments
 
(18,333
)
 
(20,143
)
Disposals of equity investments
 
15,169

 
19,168

Purchases of other long-term investments
 

 
(4,507
)
Disposals of other long-term investments
 
77

 
2,305

Net (purchases) disposals of short-term investments
 
(20,061
)
 
1,949

Net receipts under reverse repurchase agreements
 

 
2,500

Net cash used in investing activities
 
(7,504
)
 
(300
)
CASH FLOWS FROM FINANCING ACTIVITIES
 
 
 
 
Issuance of common stock through affiliate’s stock plans
 
2,151

 
2,398

Repurchase of common stock
 
(643
)
 
(802
)
Dividends paid to stockholders (affiliated $(2,708) and $(2,590))
 
(4,979
)
 
(4,718
)
Net cash used in financing activities
 
(3,471
)
 
(3,122
)
NET INCREASE (DECREASE) IN CASH
 
(105
)
 
35

Cash at the beginning of the year
 
337

 
347

Cash at the end of the quarter
 
$
232

 
$
382

All affiliated balances presented above are the result of related party transactions with Employers Mutual.
See accompanying Notes to Consolidated Financial Statements.

8


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

1.
BASIS OF PRESENTATION
EMC Insurance Group Inc., a majority owned subsidiary of Employers Mutual Casualty Company (Employers Mutual), is an insurance holding company with operations in property and casualty insurance and reinsurance.  The term "Company" is used interchangeably to describe EMC Insurance Group Inc. (Parent Company only) and EMC Insurance Group inc. and its subsidiaries. The Company writes property and casualty insurance in both commercial and personal lines of insurance, with a focus on medium-sized commercial accounts; however, on October 29, 2018, the Company, Employers Mutual and their subsidiary insurance companies (collectively the "EMC Insurance Companies") announced that they had made a strategic decision to exit personal lines business so that more time and resources can be dedicated to the commercial and reinsurance business. As a result, personal lines premiums written declined significantly during the first quarter of 2019. Personal lines premiums earned also declined, though the decline was much smaller since the premiums are earned over the policies' annual terms. The Company's reinsurance business is primarily written through a quota share reinsurance agreement with Employers Mutual. A small portion of the assumed reinsurance business was previously written on a direct basis, outside the quota share reinsurance agreement.
The accompanying unaudited consolidated financial statements have been prepared on the basis of U.S. generally accepted accounting principles (GAAP) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements.  The Company has evaluated all subsequent events through the date the financial statements were issued.  In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation of the interim financial statements have been included.  The results of operations for the interim periods reported are not necessarily indicative of results to be expected for the year.  The consolidated balance sheet at December 31, 2018 has been derived from the audited financial statements at that date, but does not include all of the information and notes required by GAAP for complete financial statements.
In reading these financial statements, reference should be made to the Company’s 2018 Form 10-K and 10-K/A for more detailed footnote information.

Accounting Pronouncements Adopted
In March 2017, the Financial Accounting Standards Board (FASB) updated guidance related to Receivables-Nonrefundable Fees and Other Costs Subtopic 310-20 of the Accounting Standards CodificationTM (Codification or ASC). The objective of this update is to shorten the amortization period of premiums on certain callable fixed maturity securities to the earliest call date. The Company adopted this guidance on January 1, 2019, and it did not have a material impact on the consolidated financial statements.
In February 2016, the FASB issued updated guidance in Leases Topic 842 of the ASC, which supersedes the guidance in Leases Topic 840 of the ASC. The objective of this update is to increase transparency and comparability among organizations by requiring recognition of lease assets and lease liabilities on the balance sheet, and disclosure of key information about leasing arrangements. The Company adopted this guidance during the first quarter of 2019, though management concluded that lease costs allocated to the Company through the pooling and quota share agreements cannot be attributed to a specified asset, and therefore do not meet the definition of a leased asset contained in the guidance. As a result, adoption of this guidance had no impact on the consolidated financial statements.


9


2.
TRANSACTIONS WITH AFFILIATES
An inter-company reinsurance program is in place between the Company's insurance subsidiaries in the property and casualty insurance segment and Employers Mutual. This reinsurance program is intended to reduce the volatility of the Company's quarterly results caused by excessive catastrophe and storm losses, and provide protection from both the frequency and severity of such losses. The reinsurance program consists of two semi-annual aggregate catastrophe excess of loss treaties. The first treaty is effective each year from January 1 through June 30, and has a retention of $22.0 million and a limit of $24.0 million. The total cost of this treaty is approximately $6.0 million. The second treaty is effective each year from July 1 through December 31, and has a retention of $15.0 million and a limit of $12.0 million. The total cost of this treaty is approximately $1.4 million. The terms of these treaties were the same in 2018. Losses and settlement expenses ceded to Employers Mutual under the inter-company reinsurance program totaled $527,000 for the three months ended March 31, 2019 compared to $467,000 for the same period in 2018. All catastrophe and storm losses assumed by the property and casualty insurance subsidiaries (net of applicable reinsurance recoveries from external reinsurance protections purchased by the pool participants) are subject to the terms of these treaties, and there is no co-participation provision.
An inter-company reinsurance program is also in place between the Company's reinsurance subsidiary and Employers Mutual. The reinsurance program consists of two treaties. The first is a per occurrence catastrophe excess of loss treaty with a retention of $10.0 million, a limit of $10.0 million, 20 percent co-participation, and no reinstatement. The total cost of this treaty is approximately $1.6 million. The second is an annual aggregate catastrophe excess of loss treaty with a retention of $20.0 million, a limit of $100.0 million, and 20 percent co-participation. The total cost of this treaty is approximately $3.6 million. Any losses recovered under the per occurrence treaty inure to the benefit of the aggregate treaty, and only catastrophic events with total losses greater than $500,000 are subject to the terms of the aggregate treaty. The terms of the program were the same in 2018. Losses and settlement expenses ceded to Employers Mutual under the inter-company reinsurance program totaled $1.7 million for the three months ended March 31, 2019, compared to $(753,000) for the three months ended March 31, 2018. For both periods, these amounts represent development on prior accident years' losses, net of any applicable outside reinsurance recoveries.
On November 20, 2018, the Company announced receipt of a non-binding indicative proposal dated November 15, 2018 from Employers Mutual to purchase all the outstanding common stock of the Company not already owned by Employers Mutual, and the formation of a special committee of the Company's board of directors to consider the proposal. The proposal, which is subject to certain conditions, provides that the shares will be purchased at a price of $30 per share in cash. The special committee, which consists of the Company's four independent directors, has retained its own independent financial and legal advisors to assist it in considering the proposal. Discussions between the special committee and Employers Mutual continued through the first quarter of 2019.

3.
REINSURANCE
The effect of reinsurance on premiums written and earned, and losses and settlement expenses incurred, for the three months ended March 31, 2019 and 2018 is presented below.  The classification of the assumed and ceded reinsurance amounts between affiliates and nonaffiliates is based on the participants in the underlying reinsurance agreements, and is intended to provide an understanding of the actual source of the reinsurance activities.  This presentation differs from the classifications used in the consolidated financial statements, where all amounts flowing through the pooling and quota share agreements and inter-company reinsurance programs with Employers Mutual are reported as “affiliated” balances.
 
 
 
 
 
 
 
 
 
 
 
 
 
 

10


 
 
Three months ended March 31, 2019
($ in thousands)
 
Property and
casualty
insurance
 
Reinsurance
 
Total
Premiums written
 
 
 
 
 
 
Direct
 
$
105,233

 
$

 
$
105,233

Assumed from nonaffiliates
 
965

 
48,735

 
49,700

Assumed from affiliates
 
134,343

 

 
134,343

Ceded to nonaffiliates
 
(6,812
)
 
(1,973
)
 
(8,785
)
Ceded to affiliates
 
(108,213
)
 
(1,313
)
 
(109,526
)
Net premiums written
 
$
125,516

 
$
45,449

 
$
170,965

 
 
 
 
 
 
 
Premiums earned
 
 
 
 
 
 
Direct
 
$
101,267

 
$

 
$
101,267

Assumed from nonaffiliates
 
1,038

 
46,248

 
47,286

Assumed from affiliates
 
134,354

 

 
134,354

Ceded to nonaffiliates
 
(7,640
)
 
(2,405
)
 
(10,045
)
Ceded to affiliates
 
(104,247
)
 
(1,313
)
 
(105,560
)
Net premiums earned
 
$
124,772

 
$
42,530

 
$
167,302

 
 
 
 
 
 
 
Losses and settlement expenses incurred
 
 
 
 
 
 
Direct
 
$
60,935

 
$

 
$
60,935

Assumed from nonaffiliates
 
987

 
31,049

 
32,036

Assumed from affiliates
 
77,778

 
255

 
78,033

Ceded to nonaffiliates
 
(1,258
)
 
(1,582
)
 
(2,840
)
Ceded to affiliates
 
(61,462
)
 
(1,733
)
 
(63,195
)
Net losses and settlement expenses incurred
 
$
76,980

 
$
27,989

 
$
104,969


11


 
 
Three months ended March 31, 2018
($ in thousands)
 
Property and
casualty
insurance
 
Reinsurance
 
Total
Premiums written
 
 
 
 
 
 
Direct
 
$
100,044

 
$

 
$
100,044

Assumed from nonaffiliates
 
1,018

 
41,121

 
42,139

Assumed from affiliates
 
130,201

 

 
130,201

Ceded to nonaffiliates
 
(7,970
)
 
(2,005
)
 
(9,975
)
Ceded to affiliates
 
(103,024
)
 
(1,313
)
 
(104,337
)
Net premiums written
 
$
120,269

 
$
37,803

 
$
158,072

 
 
 
 
 
 
 
Premiums earned
 
 
 
 
 
 
Direct
 
$
95,745

 
$

 
$
95,745

Assumed from nonaffiliates
 
1,002

 
41,092

 
42,094

Assumed from affiliates
 
129,148

 

 
129,148

Ceded to nonaffiliates
 
(8,538
)
 
(2,625
)
 
(11,163
)
Ceded to affiliates
 
(98,725
)
 
(1,313
)
 
(100,038
)
Net premiums earned
 
$
118,632

 
$
37,154

 
$
155,786

 
 
 
 
 
 
 
Losses and settlement expenses incurred
 
 
 
 
 
 
Direct
 
$
52,287

 
$

 
$
52,287

Assumed from nonaffiliates
 
992

 
26,415

 
27,407

Assumed from affiliates
 
85,967

 
358

 
86,325

Ceded to nonaffiliates
 
(2,991
)
 
(399
)
 
(3,390
)
Ceded to affiliates
 
(52,754
)
 
753

 
(52,001
)
Net losses and settlement expenses incurred
 
$
83,501

 
$
27,127

 
$
110,628


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

12


4.
LIABILITY FOR LOSSES AND SETTLEMENT EXPENSES
The following table sets forth a reconciliation of beginning and ending reserves for losses and settlement expenses of the Company.  Amounts presented are on a net basis, with a reconciliation of beginning and ending reserves to the gross amounts presented in the consolidated financial statements.
 
 
Three months ended March 31,
($ in thousands)
 
2019
 
2018
Gross reserves at beginning of year
 
$
777,190

 
$
732,612

Re-valuation due to foreign currency exchange rates
 
(593
)
 
525

Less ceded reserves at beginning of year
 
36,595

 
30,923

Net reserves at beginning of year
 
741,188

 
701,164

 
 
 
 
 
Incurred losses and settlement expenses related to:
 
 

 
 

Current year
 
118,259

 
116,204

Prior years
 
(13,290
)
 
(5,576
)
Total incurred losses and settlement expenses
 
104,969

 
110,628

 
 
 
 
 
Paid losses and settlement expenses related to:
 
 

 
 

Current year
 
23,608

 
24,262

Prior years
 
76,412

 
81,877

Total paid losses and settlement expenses
 
100,020

 
106,139

 
 
 
 
 
Net reserves at end of period
 
746,137

 
705,653

Plus ceded reserves at end of period
 
34,927

 
30,549

Re-valuation due to foreign currency exchange rates
 
(671
)
 
853

Gross reserves at end of period
 
$
780,393

 
$
737,055


There is an inherent amount of uncertainty involved in the establishment of insurance liabilities.  This uncertainty is greatest in the current and more recent accident years because a smaller percentage of the expected ultimate claims have been reported, adjusted and settled compared to more mature accident years.  As the carried reserves for these accident years run off, the overall expectation is that, more often than not, favorable development will occur.  However, there is also the possibility that the ultimate settlement of liabilities associated with these accident years will show adverse development, and such adverse development could be substantial.
Changes in reserve estimates are reflected in net income in the year such changes are recorded.  Following is an analysis of the reserve development the Company experienced during the three months ended March 31, 2019 and 2018.  Care should be exercised when attempting to analyze the financial impact of the reported development amounts because, as noted above, the overall expectation is that, more often than not, favorable development will occur as the prior accident years’ reserves run off.


13


2019 Development
For the property and casualty insurance segment, the March 31, 2019 estimate of loss and settlement expense reserves for accident years 2018 and prior decreased $9.6 million from the estimate at December 31, 2018.  This decrease represents 1.8 percent of the December 31, 2018 gross carried reserves and is primarily attributed to reductions in prior year ultimate loss ratios for most lines of business except personal auto liability and homeowners. The commercial auto liability and workers' compensation lines of business were the largest contributors to favorable development. Favorable development in the commercial auto liability line of business was a result of decreases in ultimate severity estimates for accident years 2014, 2016, 2017 and 2018. Favorable development in the workers compensation line of business is the result of a decrease in estimated ultimate frequency and severity for accident year 2018, and decreases in estimated ultimate severity for several prior accident years except 2015 and 2016, which experienced adverse development. Personal auto liability and homeowners experienced adverse development as estimated ultimate severity increased for accident year 2018.
For the reinsurance segment, the March 31, 2019 estimate of loss and settlement expense reserves for accident years 2018 and prior decreased $3.6 million from the estimate at December 31, 2018.  This decrease represents 1.5 percent of the December 31, 2018 gross carried reserves and is primarily attributed to lower ultimate losses impacting accident years 2003-2015 and 2018 for casualty excess contracts and accident years 2016-2018 for property-casualty global excess contracts.

2018 Development
For the property and casualty insurance segment, the March 31, 2018 estimate of loss and settlement expense reserves for accident years 2017 and prior decreased $2.1 million from the estimate at December 31, 2017.  This decrease represented 0.4 percent of the December 31, 2017 gross carried reserves and was primarily attributed to decreases in the ultimate loss ratios for several accident years, including 2017, due to reductions in expected ultimate frequency and/or severity in the workers' compensation line of business. The commercial auto liability line of business experienced adverse development due to higher than expected severity in the 2017 accident year.
For the reinsurance segment, the March 31, 2018 estimate of loss and settlement expense reserves for accident years 2017 and prior increased $3.4 million from the estimate at December 31, 2017.  This increase represented 1.5 percent of the December 31, 2017 gross carried reserves and was primarily attributed to lower ultimate loss estimates impacting accident years 2014-2017 for the property pro rata, catastrophe and per risk excess, and property-casualty global excess lines of business. The favorable development was partially offset by adverse development on casualty excess contracts for years 2007, 2012, 2014, and 2017, whose ultimates were increased in response to higher than expected reported losses.

5.
SEGMENT INFORMATION
The Company’s operations consist of a property and casualty insurance segment and a reinsurance segment.  The property and casualty insurance segment writes both commercial and personal lines of insurance, with a focus on medium-sized commercial accounts.  The reinsurance segment provides reinsurance for other insurers and reinsurers.  The segments are managed separately due to differences in the insurance products sold and the business environments in which they operate. Management evaluates the performance of its insurance segments using financial measurements based on Statutory Accounting Principles (SAP) instead of GAAP. Such measures include premiums written, premiums earned, statutory underwriting profit (loss), and investment results, as well as loss and loss adjustment expense ratios, trade underwriting expense ratios, and combined ratios.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

14


Summarized financial information for the Company’s segments is as follows:
Three months ended March 31, 2019
 
Property and
casualty
insurance
 
Reinsurance
 
Parent
company
 
Consolidated
($ in thousands)
 
 
 
 
Premiums earned
 
$
124,772

 
$
42,530

 
$

 
$
167,302

 
 
 
 
 
 
 
 
 
Underwriting profit (loss):
 
 
 
 
 
 
 
 
SAP underwriting profit (loss)
 
1,407

 
3,563

 

 
4,970

GAAP adjustments
 
1,210

 
820

 

 
2,030

GAAP underwriting profit (loss)
 
2,617

 
4,383

 

 
7,000

 
 
 
 
 
 
 
 
 
Net investment income
 
9,138

 
3,608

 
17

 
12,763

Net realized investment gains/losses and change in unrealized gains on equity investments
 
14,168

 
8,542

 
(67
)
 
22,643

Other income (loss)
 
1,533

 
2

 

 
1,535

Interest expense
 
171

 

 

 
171

Other expenses
 
311

 

 
1,174

 
1,485

Income (loss) before income tax expense (benefit)
 
$
26,974

 
$
16,535

 
$
(1,224
)
 
$
42,285

 
 
 
 
 
 
 
 
 
Assets
 
$
1,220,775

 
$
512,430

 
$
617,254

 
$
2,350,459

Eliminations
 

 

 
(606,809
)
 
(606,809
)
Reclassifications
 
(934
)
 

 
(489
)
 
(1,423
)
Total assets
 
$
1,219,841

 
$
512,430

 
$
9,956

 
$
1,742,227


15


Three months ended March 31, 2018
 
Property and
casualty
insurance
 
Reinsurance
 
Parent
company
 
Consolidated
($ in thousands)
 
 
 
 
Premiums earned
 
$
118,632

 
$
37,154

 
$

 
$
155,786

 
 
 
 
 
 
 
 
 
Underwriting profit (loss):
 
 
 
 
 
 
 
 
SAP underwriting profit (loss)
 
(9,036
)
 
1,563

 

 
(7,473
)
GAAP adjustments
 
262

 
102

 

 
364

GAAP underwriting profit (loss)
 
(8,774
)
 
1,665

 

 
(7,109
)
 
 
 
 
 
 
 
 
 
Net investment income
 
8,148

 
3,218

 
5

 
11,371

Net realized investment gains/losses and change in unrealized gains on equity investments
 
(3,293
)
 
(2,100
)
 

 
(5,393
)
Other income (loss)
 
2,051

 
(436
)
 

 
1,615

Interest expense
 
142

 

 

 
142

Other expenses
 
233

 

 
637

 
870

Income (loss) before income tax expense (benefit)
 
$
(2,243
)
 
$
2,347

 
$
(632
)
 
$
(528
)
 
 
 
 
 
 
 
 
 
Year ended December 31, 2018
 
 
 
 
 
 
 
 
Assets
 
$
1,191,286

 
$
485,270

 
$
565,905

 
$
2,242,461

Eliminations
 

 

 
(556,977
)
 
(556,977
)
Reclassifications
 

 

 
(6
)
 
(6
)
Total assets
 
$
1,191,286

 
$
485,270

 
$
8,922

 
$
1,685,478


16


The following table displays the premiums earned for the property and casualty insurance segment and the reinsurance segment for the three months ended March 31, 2019 and 2018, by line of insurance.
 
 
Three months ended March 31,
($ in thousands)
 
2019
 
2018
Property and casualty insurance
 
 
 
 
Commercial lines:
 
 
 
 
Automobile
 
$
32,907

 
$
30,644

Property
 
27,671

 
26,429

Workers' compensation
 
23,543

 
24,902

Other liability
 
28,905

 
24,962

Other
 
2,506

 
2,186

Total commercial lines
 
115,532

 
109,123

 
 
 
 
 
Personal lines
 
9,240

 
9,509

Total property and casualty insurance
 
$
124,772

 
$
118,632

 
 
 
 
 
Reinsurance
 
 
 
 
Pro rata reinsurance
 
$
13,006

 
$
13,073

Excess of loss reinsurance
 
29,524

 
24,081

Total reinsurance
 
$
42,530

 
$
37,154

 
 
 
 
 
Consolidated
 
$
167,302

 
$
155,786


6.
INCOME TAXES
The actual income tax expense (benefit) for the three months ended March 31, 2019 and 2018 differed from the “expected” income tax expense (benefit) for those periods (computed by applying the United States federal corporate tax rate of 21 percent to income (loss) before income tax) as follows:
 
 
Three months ended 
 March 31,
($ in thousands)
 
2019
 
2018
Computed "expected" income tax expense (benefit)
 
$
8,880

 
$
(111
)
Increases (decreases) in tax resulting from:
 
 
 
 
Tax-exempt interest income
 
(283
)
 
(310
)
Dividends received deduction
 
(132
)
 
(123
)
Proration of tax-exempt interest and dividends received deduction
 
104

 
108

Internal Revenue Code 50(d)(5) income from investment tax credits
 
221

 
36

Other, net
 
(36
)
 
(52
)
Total income tax expense (benefit)
 
$
8,754

 
$
(452
)

Pursuant to Staff Accounting Bulletin No. 118 issued by the Securities and Exchange Commission, the Company made reasonable estimates of the effects the Tax Cuts and Jobs Act (TCJA) had on deferred income tax assets and liabilities at December 31, 2017 and the interim periods in 2018. For items where the Company could not make a reasonable estimate, primarily loss reserve discounting, the Company used existing accounting guidance and the provisions of the tax laws that were in place prior to the enactment. Subsequently, the Company made its final determination of the effects of the TCJA when the Internal Revenue Service (IRS) issued Revenue Procedure 2019-06, which provided applicable discount factors for both the transition obligation (reserves at January 1, 2018), and reserves at December 31, 2018.

17


The Company had no provision for uncertain income tax positions at March 31, 2019 or December 31, 2018.  The Company recognized no interest expense or other penalties related to U.S. federal or state income taxes during the three months ended March 31, 2019 or 2018.  It is the Company’s accounting policy to reflect income tax penalties as other expense, and interest as interest expense.
The Company files a U.S. federal income tax return, along with various state income tax returns.  The Company is no longer subject to U.S. federal and state income tax examinations by tax authorities for years before 2015.  

7.
EMPLOYEE RETIREMENT PLANS
The components of net periodic benefit cost (income) for Employers Mutual’s pension and postretirement benefit plans is as follows:
 
 
Three months ended 
 March 31,
($ in thousands)
 
2019
 
2018
Pension plans:
 
 
 
 
Service cost
 
$
4,071

 
$
4,126

Interest cost
 
2,949

 
2,665

Expected return on plan assets
 
(5,440
)
 
(5,978
)
Amortization of net actuarial loss
 
598

 
125

Net periodic pension benefit cost
 
$
2,178

 
$
938

 
 
 
 
 
Postretirement benefit plans:
 
 
 
 
Service cost
 
$
353

 
$
368

Interest cost
 
546

 
521

Expected return on plan assets
 
(1,095
)
 
(1,204
)
Amortization of net actuarial loss
 
245

 
234

Amortization of prior service credit
 
(2,285
)
 
(2,782
)
Net periodic postretirement benefit income
 
$
(2,236
)
 
$
(2,863
)

Net periodic pension benefit cost allocated to the Company amounted to $653,000 and $282,000 for the three months ended March 31, 2019 and 2018, respectively.  Net periodic postretirement benefit income allocated to the Company amounted to $636,000 and $806,000 for the three months ended March 31, 2019 and 2018, respectively. The service cost component of net periodic pension and postretirement benefit cost/(income) allocated to the Company is included in the income statement line titled "other underwriting expenses". The other components of net periodic pension and postretirement benefit cost/(income) are included in the income statement line titled "other income".
Employers Mutual plans to contribute approximately $7.0 million to the pension plan in 2019. No contributions are expected to be made to the Voluntary Employee Beneficiary Association (VEBA) trust in 2019.

8.
STOCK-BASED COMPENSATION
The Company has a stock-based compensation plan for non-employee directors. Employers Mutual also has several stock plans which utilize the common stock of the Company.  Employers Mutual can provide the common stock required under its plans by: 1) using shares of common stock that it currently owns; 2) purchasing common stock in the open market; or 3) directly purchasing common stock from the Company at the current fair value. Employers Mutual's current practice is to purchase common stock from the Company for use in all of its stock plans (including its non-employee director stock purchase plan and its employee stock purchase plan). A portion of the compensation expense recognized by Employers Mutual (as the requisite service period for restricted stock awards/units is rendered) is allocated to the Company’s property and casualty insurance subsidiaries though their participation in the pooling agreement.

18


An account Employers Mutual established to hold previously granted restricted stock awards until they vest will periodically contain excess shares of the Company's stock stemming from forfeitures and surrenders. During the first three months of 2019, the Company repurchased 20,221 shares of stock from this unvested restricted stock account at an average cost of $31.83. These repurchased shares are not deemed to be shares repurchased under the Company's stock repurchase program.
During the first three months of 2019, 122,073 restricted stock units were granted to eligible employees of Employers Mutual. Under the stock plans, 96,374 shares of restricted stock vested, and 32,262 options were exercised at a weighted average exercise price of $12.58. The Company recognized compensation expense from these plans of $283,000 ($223,000 net of tax) and $413,000 ($326,000 net of tax) for the three months ended March 31, 2019 and 2018, respectively.  

9.
DISCLOSURES ABOUT THE FAIR VALUES OF FINANCIAL INSTRUMENTS
The carrying amounts and estimated fair values of the Company’s financial instruments as of March 31, 2019 and December 31, 2018 are summarized in the tables below.
March 31, 2019
 
Carrying
amounts
 
Estimated
fair values
($ in thousands)
 
 
Assets:
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
U.S. treasury
 
$
8,113

 
$
8,113

U.S. government-sponsored agencies
 
309,120

 
309,120

Obligations of states and political subdivisions
 
276,857

 
276,857

Commercial mortgage-backed
 
86,664

 
86,664

Residential mortgage-backed
 
168,765

 
168,765

Other asset-backed
 
17,719

 
17,719

Corporate
 
424,622

 
424,622

Total fixed maturity securities available-for-sale
 
1,291,860

 
1,291,860

 
 
 
 
 
Equity investments, at fair value
 
 
 
 
Common stocks:
 
 
 
 
Financial services
 
47,345

 
47,345

Information technology
 
39,346

 
39,346

Healthcare
 
34,006

 
34,006

Consumer staples
 
14,694

 
14,694

Consumer discretionary
 
28,764

 
28,764

Energy
 
15,853

 
15,853

Industrials
 
19,435

 
19,435

Other
 
15,471

 
15,471

Non-redeemable preferred stocks
 
18,180

 
18,180

Investment funds
 
9,489

 
9,489

Total equity investments
 
242,583

 
242,583

 
 
 
 
 
Short-term investments
 
48,265

 
48,265

 
 
 
 
 
Liabilities:
 
 
 
 
Surplus notes
 
25,000

 
16,056


19


December 31, 2018
 
Carrying
amounts
 
Estimated
fair values
($ in thousands)
 
 
Assets:
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
U.S. treasury
 
$
8,021

 
$
8,021

U.S. government-sponsored agencies
 
304,479

 
304,479

Obligations of states and political subdivisions
 
283,651

 
283,651

Commercial mortgage-backed
 
84,379

 
84,379

Residential mortgage-backed
 
162,137

 
162,137

Other asset-backed
 
20,834

 
20,834

Corporate
 
419,408

 
419,408

Total fixed maturity securities available-for-sale
 
1,282,909

 
1,282,909

 
 
 
 
 
Equity investments, at fair value
 
 
 
 
Common stocks:
 
 
 
 
Financial services
 
41,839

 
41,839

Information technology
 
31,581

 
31,581

Healthcare
 
34,571

 
34,571

Consumer staples
 
13,180

 
13,180

Consumer discretionary
 
22,765

 
22,765

Energy
 
13,372

 
13,372

Industrials
 
19,389

 
19,389

Other
 
14,371

 
14,371

Non-redeemable preferred stocks
 
16,654

 
16,654

Investment funds
 
7,641

 
7,641

Total equity investments
 
215,363

 
215,363

 
 
 
 
 
Short-term investments
 
28,204

 
28,204

 
 
 
 
 
Liabilities:
 
 
 
 
Surplus notes
 
25,000

 
15,259


The estimated fair values of fixed maturity and equity securities is based on quoted market prices, where available.  In cases where quoted market prices are not available, fair values are based on a variety of valuation techniques depending on the type of security.
Short-term investments generally include money market funds, U.S. Treasury bills and commercial paper.  Short-term investments are carried at fair value, which approximates cost, due to the highly liquid nature of the securities.   Short-term securities are classified as Level 1 fair value measurements when the fair values can be validated by recent trades.  When recent trades are not available, fair value is deemed to be the cost basis and the securities are classified as Level 2 fair value measurements.
The estimated fair value of the surplus notes is derived by discounting future expected cash flows at a rate deemed appropriate over a 25-year term (the surplus notes have no stated maturity date, and the interest to be paid is assumed to continue at the current interest rate in place of 2.73 percent).

20


Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.  The following fair value hierarchy prioritizes inputs to valuation techniques used to measure fair value.
 
Level 1 -
Unadjusted quoted prices for identical assets or liabilities in active markets that the Company has the ability to access.
 
 
 
 
Level 2 -
Quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in inactive markets; or valuations based on models where the significant inputs are observable (e.g., interest rates, yield curves, prepayment speeds, default rates, loss severities, etc.) or can be corroborated by observable market data.
 
 
 
 
Level 3 -
Prices or valuation techniques that require significant unobservable inputs because observable inputs are not available.  The unobservable inputs may reflect the Company’s own judgments about the assumptions that market participants would use.
 
 
 
 
NAV -
The fair values of investment company limited partnership investments and similar vehicles (referred to as investment funds) are based on the capital account balances reported by the investment funds subject to their management review and adjustment. These capital account balances reflect the fair value of the investment funds.
The Company uses an independent pricing source to obtain the estimated fair values of a majority of its securities, subject to an internal validation.  The fair values are based on quoted market prices, where available.  This is typically the case for equity securities and money market funds, which are accordingly classified as Level 1 fair value measurements.  In cases where quoted market prices are not available, fair values are based on a variety of valuation techniques depending on the type of security.  Fixed maturity securities, non-redeemable preferred stocks and various short-term investments in the Company’s portfolio may not trade on a daily basis; however, observable inputs are utilized in their valuations, and these securities are therefore classified as Level 2 fair value measurements.  Following is a brief description of the various pricing techniques used by the independent pricing source for different asset classes.
U.S. Treasury securities (including bonds, notes, and bills) are priced according to a number of live data sources, including active market makers and inter-dealer brokers.  Prices from these sources are reviewed based on the sources’ historical accuracy for individual issues and maturity ranges.
U.S. government-sponsored agencies and corporate securities (including fixed-rate corporate bonds and medium-term notes) are priced by determining a bullet (non-call) spread scale for each issuer for maturities going out to forty years.  These spreads represent credit risk and are obtained from the new issue market, secondary trading, and dealer quotes.  An option adjusted spread model is incorporated to adjust spreads of issues that have early redemption features.  The final spread is then added to the U.S. Treasury curve.
Obligations of states and political subdivisions are priced by tracking and analyzing actively quoted issues and reported trades, material event notices and benchmark yields.  Municipal bonds with similar characteristics are grouped together into market sectors, and internal yield curves are constructed daily for these sectors.  Individual bond evaluations are extrapolated from these sectors, with the ability to make individual spread adjustments for attributes such as discounts, premiums, alternative minimum tax, and/or whether or not the bond is callable.
Mortgage-backed and asset-backed securities are first reviewed for the appropriate pricing speed (if prepayable), spread, yield and volatility.  The securities are priced with models using spreads and other information solicited from market buy- and sell-side sources, including primary and secondary dealers, portfolio managers, and research analysts.  To determine a tranche’s price, first the benchmark yield is determined and adjusted for collateral performance, tranche level attributes and market conditions.  Then the cash flow for each tranche is generated (using consensus prepayment speed assumptions including, as appropriate, a prepayment projection based on historical statistics of the underlying collateral).  The tranche-level yield is used to discount the cash flows and generate the price.  Depending on the characteristics of the tranche, a volatility-driven, multi-dimensional single cash flow stream model or an option-adjusted spread model may be used.  When cash flows or other security structure or market information is not available, broker quotes may be used.
On a quarterly basis, the Company receives from its independent pricing service a list of fixed maturity securities, if any, that were priced solely from broker quotes.  For these securities, fair value may be determined using the broker quotes, or by the Company using similar pricing techniques as the Company’s independent pricing service.  Depending on the level of observable inputs, these securities would be classified as Level 2 or Level 3 fair value measurements.   At March 31, 2019 and December 31, 2018, the Company had no securities priced solely from broker quotes.

21


A small number of the Company’s securities are not priced by the independent pricing service.  One of these was an equity security that was reported as a Level 3 fair value measurement since no observable inputs were used in its valuation. This security was sold in the fourth quarter of 2018 and in prior periods was reported at the fair value obtained from the Securities Valuation Office (SVO) of the National Association of Insurance Commissioners (NAIC).  The SVO established a per share price for this security based on an annual review of that company’s financial statements, typically performed during second quarter.  The other securities not priced by the Company’s independent pricing service consist of six fixed maturity securities. One of these fixed maturity securities (two at December 31, 2018), classified as Level 3 fair value measurements, are corporate securities that convey premium tax benefits and are not publicly traded. The fair values for these securities are based on discounted cash flow analyses. The other fixed maturity securities are classified as Level 2 fair value measurements.  The fair values for these fixed maturity securities were obtained from either the SVO, the Company's investment custodian, or the Company's investment department using similar pricing techniques as the Company’s independent pricing service.

22


Presented in the tables below are the estimated fair values of the Company’s financial instruments as of March 31, 2019 and December 31, 2018.
March 31, 2019
 
 
 
 
 
Fair value measurements using
($ in thousands)
 
Total
 
Investments measured at net asset value (NAV)
 
Quoted
prices in
active markets
for identical
assets
(Level 1)
 
Significant
other
observable
inputs
(Level 2)
 
Significant
unobservable
inputs
(Level 3)
Financial instruments reported at fair value on recurring basis:
 
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
 
 
 
 
 
 
U.S. treasury
 
$
8,113

 
$

 
$

 
$
8,113

 
$

U.S. government-sponsored agencies
 
309,120

 

 

 
309,120

 

Obligations of states and political subdivisions
 
276,857

 

 

 
276,857

 

Commercial mortgage-backed
 
86,664

 

 

 
86,664

 

Residential mortgage-backed
 
168,765

 

 

 
168,765

 

Other asset-backed
 
17,719

 

 

 
17,719

 

Corporate
 
424,622

 

 

 
424,421

 
201

Total fixed maturity securities available-for-sale
 
1,291,860

 

 

 
1,291,659

 
201

 
 
 
 
 
 
 
 
 
 
 
Equity investments, at fair value:
 
 
 
 
 
 
 
 
 
 
Common stocks:
 
 
 
 
 
 
 
 
 
 
Financial services
 
47,345

 

 
47,345

 

 

Information technology
 
39,346

 

 
39,346

 

 

Healthcare
 
34,006

 

 
34,006

 

 

Consumer staples
 
14,694

 

 
14,694

 

 

Consumer discretionary
 
28,764

 

 
28,764

 

 

Energy
 
15,853

 

 
15,853

 

 

Industrials
 
19,435

 

 
19,435

 

 

Other
 
15,471

 

 
15,471

 

 

Non-redeemable preferred stocks
 
18,180

 

 
8,578

 
9,602

 

Investment funds
 
9,489

 
9,489

 

 

 

Total equity investments
 
242,583

 
9,489

 
223,492

 
9,602

 

 
 
 
 
 
 
 
 
 
 
 
Short-term investments
 
48,265

 

 
48,265

 

 

 
 
 
 
 
 
 
 
 
 
 
Financial instruments not reported at fair value:
 
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
 
Surplus notes
 
16,056

 

 

 

 
16,056


23


December 31, 2018
 
 
 
 
 
Fair value measurements using
($ in thousands)
 
Total
 
Investments measured at net asset value (NAV)
 
Quoted
prices in
active markets
for identical
assets
(Level 1)
 
Significant
other
observable
inputs
(Level 2)
 
Significant
unobservable
inputs
(Level 3)
Financial instruments reported at fair value on recurring basis:
 
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
 
Fixed maturity securities available-for-sale:
 
 
 
 
 
 
 
 
 
 
U.S. treasury
 
$
8,021

 
$

 
$

 
$
8,021

 
$

U.S. government-sponsored agencies
 
304,479

 

 

 
304,479

 

Obligations of states and political subdivisions
 
283,651

 

 

 
283,651

 

Commercial mortgage-backed
 
84,379

 

 

 
84,379

 

Residential mortgage-backed
 
162,137

 

 

 
162,137

 

Other asset-backed
 
20,834

 

 

 
20,834

 

Corporate
 
419,408

 

 

 
419,149

 
259

Total fixed maturity securities available-for-sale
 
1,282,909