Company Quick10K Filing
Mercury General
Price55.26 EPS4
Shares55 P/E15
MCap3,060 P/FCF7
Net Debt-315 EBIT285
TEV2,744 TEV/EBIT10
TTM 2019-09-30, in MM, except price, ratios
10-Q 2020-03-31 Filed 2020-05-05
10-K 2019-12-31 Filed 2020-02-12
10-Q 2019-09-30 Filed 2019-10-29
10-Q 2019-06-30 Filed 2019-07-30
10-Q 2019-03-31 Filed 2019-04-30
10-K 2018-12-31 Filed 2019-02-13
10-Q 2018-09-30 Filed 2018-10-30
10-Q 2018-06-30 Filed 2018-07-31
10-Q 2018-03-31 Filed 2018-05-01
10-K 2017-12-31 Filed 2018-02-08
10-Q 2017-09-30 Filed 2017-10-31
10-Q 2017-06-30 Filed 2017-08-01
10-Q 2017-03-31 Filed 2017-05-02
10-K 2016-12-31 Filed 2017-02-09
10-Q 2016-09-30 Filed 2016-11-01
10-Q 2016-06-30 Filed 2016-08-02
10-Q 2016-03-31 Filed 2016-05-03
10-K 2015-12-31 Filed 2016-02-09
10-Q 2015-09-30 Filed 2015-11-02
10-Q 2015-06-30 Filed 2015-08-04
10-Q 2015-03-31 Filed 2015-04-28
10-K 2014-12-31 Filed 2015-02-09
10-Q 2014-09-30 Filed 2014-11-04
10-Q 2014-06-30 Filed 2014-07-29
10-Q 2014-03-31 Filed 2014-04-29
10-K 2013-12-31 Filed 2014-02-10
10-Q 2013-09-30 Filed 2013-10-30
10-Q 2013-06-30 Filed 2013-07-31
10-Q 2013-03-31 Filed 2013-05-01
10-K 2012-12-31 Filed 2013-02-11
10-Q 2012-09-30 Filed 2012-10-31
10-Q 2012-06-30 Filed 2012-08-01
10-Q 2012-03-31 Filed 2012-05-02
10-K 2011-12-31 Filed 2012-02-14
10-Q 2011-09-30 Filed 2011-11-02
10-Q 2011-06-30 Filed 2011-08-03
10-Q 2011-03-31 Filed 2011-05-04
10-K 2010-12-31 Filed 2011-02-14
10-Q 2010-09-30 Filed 2010-11-02
10-Q 2010-06-30 Filed 2010-08-04
10-Q 2010-03-31 Filed 2010-05-05
10-K 2009-12-31 Filed 2010-02-18
8-K 2020-05-19
8-K 2020-05-13
8-K 2020-05-04
8-K 2020-04-09
8-K 2020-02-10
8-K 2020-01-16
8-K 2019-10-28
8-K 2019-10-01
8-K 2019-07-29
8-K 2019-05-08
8-K 2019-04-29
8-K 2019-02-11
8-K 2018-12-12
8-K 2018-11-27
8-K 2018-10-29
8-K 2018-07-30
8-K 2018-05-09
8-K 2018-04-30
8-K 2018-04-27
8-K 2018-03-02
8-K 2018-02-15
8-K 2018-02-05
8-K 2018-02-05

MCY 10Q Quarterly Report

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 Risks
Item 4. Controls and Procedures
Part II - Other Information
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 3. Defaults Upon Senior Securities
Item 4. Mine Safety Disclosures
Item 5. Other Information
Item 6. Exhibits
EX-10.1 mcy-2020331x10qxex101.htm
EX-10.2 mcy-2020331x10qxex102.htm
EX-15.1 mcy-2020331x10qxex151.htm
EX-15.2 mcy-2020331x10qxex152.htm
EX-31.1 mcy-2020331x10qxex311.htm
EX-31.2 mcy-2020331x10qxex312.htm
EX-32.1 mcy-2020331x10qxex321.htm
EX-32.2 mcy-2020331x10qxex322.htm

Mercury General Earnings 2020-03-31

Balance SheetIncome StatementCash Flow
10.08.06.04.02.00.02012201420172020
Assets, Equity
1.10.90.60.40.1-0.12012201420172020
Rev, G Profit, Net Income
0.20.10.0-0.0-0.1-0.22012201420172020
Ops, Inv, Fin

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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, 2020
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 No. 001-12257
 ______________________________
MERCURY GENERAL CORPORATION
(Exact name of registrant as specified in its charter)
 ________________________________
California
95-2211612
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
 
 
 
4484 Wilshire Boulevard

Los Angeles,
California
90010
(Address of principal executive offices)
(Zip Code)
Registrant’s telephone number, including area code: (323937-1060
 _______________________________
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
Trading Symbol(s)
Name of Each Exchange on Which Registered
Common Stock
MCY
New York Stock Exchange
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  o
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files).    Yes  ý    No o
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 the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act. 
Large accelerated filer
ý
  
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. o
Indicate by check mark whether the registrant is a shell company (as defined in the Rule 12b-2 of the Exchange Act).    Yes     No  ý
At April 30, 2020, the registrant had issued and outstanding an aggregate of 55,357,691 shares of its Common Stock.
 





MERCURY GENERAL CORPORATION
INDEX TO FORM 10-Q
 
 
 
 
 
 
Page
 
 
 
 
Item 1
 
 
 
 
 
Item 2
Item 3
Item 4
 
 
 
 
 
 
Item 1
Item 1A
Item 2
Item 3
Item 4
Item 5
Item 6
 
 

2


PART I - FINANCIAL INFORMATION
 
Item 1. Financial Statements

MERCURY GENERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands)
 
March 31, 2020
 
December 31, 2019
 
(unaudited)
 
 
ASSETS
 
 
 
Investments, at fair value:
 
 
 
Fixed maturity securities (amortized cost $3,229,887; $2,973,276)
$
3,299,873

 
$
3,093,275

Equity securities (cost $729,588; $648,282)
619,684

 
724,751

Short-term investments (cost $242,081; $494,060)
237,520

 
494,135

Total investments
4,157,077

 
4,312,161

Cash
252,836

 
294,398

Receivables:
 
 
 
Premiums
633,328

 
606,316

       Allowance for credit losses on premiums receivable
(10,000
)
 
(1,445
)
                    Premiums receivable, net of allowance for credit losses
623,328

 
604,871

Accrued investment income
43,101

 
40,107

Other
7,831

 
6,464

Total receivables
674,260

 
651,442

Reinsurance recoverables
70,366

 
78,774

Allowance for credit losses on reinsurance recoverables
(148
)
 

             Reinsurance recoverables, net of allowance for credit losses
70,218

 
78,774

Deferred policy acquisition costs
234,642

 
233,166

Fixed assets (net of accumulated depreciation $318,274; $312,060)
169,287

 
168,986

Operating lease right-of-use assets
45,126

 
44,909

Current income taxes

 
7,642

Deferred income taxes
26,689

 

Goodwill
42,796

 
42,796

Other intangible assets, net
10,400

 
10,636

Other assets
33,567

 
44,247

Total assets
$
5,716,898

 
$
5,889,157

LIABILITIES AND SHAREHOLDERS’ EQUITY
 
 
 
Loss and loss adjustment expense reserves
$
1,897,945

 
$
1,921,255

Unearned premiums
1,384,803

 
1,355,547

Notes payable
372,233

 
372,133

Accounts payable and accrued expenses
150,307

 
143,318

Operating lease liabilities
48,238

 
47,996

Current income taxes
5,510

 

Deferred income taxes

 
27,964

Other liabilities
234,418

 
221,442

Total liabilities
4,093,454

 
4,089,655

Commitments and contingencies


 


Shareholders’ equity:
 
 
 
Common stock without par value or stated value:
       Authorized 70,000 shares; issued and outstanding 55,358; 55,358
98,863

 
98,828

Retained earnings
1,524,581

 
1,700,674

Total shareholders’ equity
1,623,444

 
1,799,502

Total liabilities and shareholders’ equity
$
5,716,898

 
$
5,889,157

See accompanying Notes to Consolidated Financial Statements.

3


MERCURY GENERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
(unaudited)
 
 
Three Months Ended March 31,
 
2020
 
2019
Revenues:
 
 
 
Net premiums earned
$
922,574

 
$
870,245

Net investment income
34,495

 
34,174

Net realized investment (losses) gains
(251,320
)
 
111,074

Other
2,562

 
2,250

Total revenues
708,311

 
1,017,743

Expenses:
 
 
 
Losses and loss adjustment expenses
651,670

 
630,416

Policy acquisition costs
156,533

 
148,413

Other operating expenses
76,557

 
67,489

Interest
4,256

 
4,256

Total expenses
889,016

 
850,574

(Loss) income before income taxes
(180,705
)
 
167,169

Income tax (benefit) expense
(41,501
)
 
31,302

Net (loss) income
$
(139,204
)
 
$
135,867

Net (loss) income per share:
 
 
 
Basic
$
(2.51
)
 
$
2.46

Diluted
$
(2.51
)
 
$
2.45

Weighted average shares outstanding:
 
 
 
Basic
55,358

 
55,341

Diluted
55,358

 
55,348

























 

See accompanying Notes to Consolidated Financial Statements.

4


MERCURY GENERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
(in thousands)
(unaudited)

 
Three Months Ended March 31,
 
2020
 
2019
Common stock, beginning of period
$
98,828

 
$
98,026

Proceeds from stock options exercised

 
453

Share-based compensation expense
35

 
16

Common stock, end of period
98,863

 
98,495

Retained earnings, beginning of period
1,700,674

 
1,519,658

       Cumulative effect of adopting ASU 2016-13 (Note1)
(2,014
)
 

Retained earnings, beginning of period, as adjusted
1,698,660

 
1,519,658

Net (loss) income
(139,204
)
 
135,867

Dividends paid to shareholders
(34,875
)
 
(34,726
)
Retained earnings, end of period
1,524,581

 
1,620,799

Total shareholders’ equity, end of period
$
1,623,444

 
$
1,719,294





































See accompanying Notes to Consolidated Financial Statements.

5


MERCURY GENERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)

 
Three Months Ended March 31,
 
2020
 
2019
CASH FLOWS FROM OPERATING ACTIVITIES
 
 
 
Net (loss) income
$
(139,204
)
 
$
135,867

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
16,026

 
15,085

Net realized investment losses (gains)
251,320

 
(111,074
)
Increase in premiums receivable
(20,312
)
 
(24,923
)
Decrease in reinsurance recoverables
8,397

 
106,588

Changes in current and deferred income taxes
(41,501
)
 
31,338

Increase in deferred policy acquisition costs
(1,477
)
 
(4,592
)
Decrease in loss and loss adjustment expense reserves
(23,310
)
 
(41,800
)
Increase in unearned premiums
29,256

 
37,480

Increase in accounts payable and accrued expenses
9,640

 
22,742

Share-based compensation
35

 
16

Other, net
8,276

 
7,960

Net cash provided by operating activities
97,146

 
174,687

CASH FLOWS FROM INVESTING ACTIVITIES
 
 
 
Fixed maturity securities available for sale in nature:
 
 
 
Purchases
(334,517
)
 
(146,592
)
Sales
23,503

 
15,197

Calls or maturities
41,643

 
80,099

Equity securities available for sale in nature:
 
 
 
Purchases
(361,942
)
 
(256,696
)
Sales
269,320

 
227,787

Changes in securities payable and receivable
8,864

 
15,901

Decrease (increase) in short-term investments
254,811

 
(113,287
)
Purchases of fixed assets
(10,305
)
 
(8,430
)
Other, net
4,790

 
1,421

Net cash used in investing activities
(103,833
)
 
(184,600
)
CASH FLOWS FROM FINANCING ACTIVITIES
 
 
 
Dividends paid to shareholders
(34,875
)
 
(34,726
)
Proceeds from stock options exercised

 
453

Net cash used in financing activities
(34,875
)
 
(34,273
)
Net decrease in cash
(41,562
)
 
(44,186
)
Cash:
 
 
 
Beginning of the year
294,398

 
314,291

End of period
$
252,836

 
$
270,105

SUPPLEMENTAL CASH FLOW DISCLOSURE
 
 
 
Interest paid
$
8,269

 
$
8,268

Income taxes refunded, net
$

 
$
36












See accompanying Notes to Consolidated Financial Statements.

6


MERCURY GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

1. General

Consolidation and Basis of Presentation

The interim consolidated financial statements include the accounts of Mercury General Corporation and its subsidiaries (referred to herein collectively as the “Company”). For the list of the Company’s subsidiaries, see Note 1. Summary of Significant Accounting Policies of the Notes to Consolidated Financial Statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019. These interim financial statements have been prepared in conformity with U.S. generally accepted accounting principles (“GAAP”), which differ in some respects from those filed in reports to insurance regulatory authorities. The financial data of the Company included herein are unaudited. In the opinion of management, all material adjustments of a normal recurring nature have been made to present fairly the Company’s financial position at March 31, 2020 and the results of operations and cash flows for the periods presented. All intercompany transactions and balances have been eliminated.

Certain financial information that is normally included in annual financial statements prepared in accordance with GAAP, but that is not required for interim reporting purposes, has been omitted from the accompanying interim consolidated financial statements and related notes. Readers are urged to review the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 for more complete descriptions and discussions. Operating results and cash flows for the three months ended March 31, 2020 are not necessarily indicative of the results that may be expected for the year ending December 31, 2020.

Certain prior period amounts have been reclassified to conform to the current period presentation.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosures of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. These estimates require the Company to apply complex assumptions and judgments, and often the Company must make estimates about the effects of matters that are inherently uncertain and will likely change in subsequent periods. The most significant assumptions in the preparation of these consolidated financial statements relate to reserves for losses and loss adjustment expenses. Actual results could differ from those estimates. See Note 1. Summary of Significant Accounting Policies of the Notes to Consolidated Financial Statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.
Earnings per Share

Potentially dilutive securities representing approximately 68,000 shares of common stock were excluded from the computation of diluted loss per common share for the three months ended March 31, 2020 because their effect would have been anti-dilutive. There were no potentially dilutive securities with anti-dilutive effect for the three months ended March 31, 2019.
Dividends per Share

The Company declared and paid a dividend per share of $0.6300 and $0.6275 during the three months ended March 31, 2020 and 2019, respectively.
Deferred Policy Acquisition Costs

Deferred policy acquisition costs consist of commissions paid to outside agents, premium taxes, salaries, and certain other underwriting costs that are incremental or directly related to the successful acquisition of new and renewal insurance contracts and are amortized over the life of the related policy in proportion to premiums earned. Deferred policy acquisition costs are limited to the amount that will remain after deducting from unearned premiums and anticipated investment income, the estimated losses and loss adjustment expenses, and the servicing costs that will be incurred as premiums are earned. The Company’s deferred policy acquisition costs are further limited by excluding those costs not directly related to the successful acquisition of insurance contracts. Deferred policy acquisition cost amortization was $156.5 million and $148.4 million for the three months ended March 31, 2020 and 2019, respectively. The Company does not defer advertising expenditures but expenses them as incurred. The Company

7


recorded net advertising expense of approximately $11.7 million and $13.6 million for the three months ended March 31, 2020 and 2019, respectively.

Reinsurance

Unearned premiums and loss and loss adjustment expense reserves are stated in the accompanying consolidated financial statements before deductions for ceded reinsurance. Unearned premiums and loss and loss adjustment expense reserves that are ceded to reinsurers are carried in other assets and reinsurance recoverables, respectively, in the Company's consolidated balance sheets. Earned premiums are stated net of deductions for ceded reinsurance.

The Company is party to a Catastrophe Reinsurance Treaty (the "Treaty") covering a wide range of perils that is effective through June 30, 2020. The Treaty provides $600 million of coverage on a per occurrence basis after covered catastrophe losses exceed the $40 million Company retention limit. The Treaty specifically excludes coverage for any Florida business and for California earthquake losses on fixed property policies, such as homeowners, but does cover losses from fires following an earthquake. In addition, the Treaty provides for one full reinstatement of coverage limits and excludes losses from wildfires on certain coverage layers of the Treaty.

The Company recognized ceded premiums earned of approximately $14 million and $15 million for the three months ended March 31, 2020 and 2019, respectively, which are included in net premiums earned in its consolidated statements of operations. The Company recognized ceded losses and loss adjustment expenses of approximately $(1) million and $(58) million for the three months ended March 31, 2020 and 2019, respectively, which are included in losses and loss adjustment expenses in its consolidated statements of operations. The large negative ceded losses and loss adjustment expenses for the three months ended March 31, 2019 resulted from the re-estimation of the catastrophe loss reserves, including estimated subrogation, on the 2018 Camp and Woolsey Fires and the 2017 Southern California wildfires, which had previously been ceded to reinsurers under the Treaty, in conjunction with the sale of the Company's subrogation rights during the first quarter of 2019. The re-estimation primarily benefited the Company's reinsurers. See Note 10. Loss and Loss Adjustment Expense Reserves for additional information.

The Company's insurance subsidiaries, as primary insurers, are required to pay losses to the extent reinsurers are unable to discharge their obligations under the reinsurance agreements.
Revenue from Contracts with Customers (Topic 606)

The Company's revenue from contracts with customers is commission income earned from third-party insurers by its 100% owned insurance agencies, which amounted to approximately $4.7 million and $4.2 million, with related expenses of $3.0 million and $2.7 million, for the three months ended March 31, 2020 and 2019, respectively. All of the commission income, net of related expenses, is included in other revenues in the Company's consolidated statements of operations, and in other income of the Property and Casualty business segment in the Company's segment reporting (see Note 13. Segment Information).
 
As of March 31, 2020 and December 31, 2019, the Company had no contract assets and contract liabilities, and no remaining performance obligations associated with unrecognized revenues.

Capitalized Implementation Costs for Cloud Computing Arrangements

On January 1, 2020, the Company adopted Accounting Standards Update ("ASU") 2018-15, "Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40), Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract," prospectively to all implementation costs incurred after the adoption date. Prior to the adoption date, such implementation costs were accounted for in a manner consistent with the guidance in ASU 2018-15. The majority of the Company's cloud computing arrangements relate to service contracts with third parties that host the Company's data and computing infrastructure that are used in providing services to and supporting transactions with its existing or potential policyholders and insurance agents. The capitalized implementation costs are amortized over the term of the hosting arrangement.

The balance of capitalized implementation costs for cloud computing arrangements, net of accumulated amortization, was $5.5 million and $4.4 million at March 31, 2020 and December 31, 2019, respectively, which is included in other assets in the Company's consolidated balance sheets. The accumulated amortization was $0.5 million and $0.3 million at March 31, 2020 and December 31, 2019, respectively. The amortization expense related to the capitalized implementation costs was $0.2 million for the three months ended March 31, 2020, which is included in other operating expenses in the Company's consolidated statements of operations. The Company had no amortization expense for the three months ended March 31, 2019.


8


Allowance for Credit Losses

On January 1, 2020, the Company adopted ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) along with certain additional ASUs on Topic 326 using a modified retrospective transition method, and recognized the cumulative-effect adjustment of approximately $2 million to the beginning retained earnings of 2020. The cumulative-effect adjustment primarily resulted from re-estimating credit losses on the outstanding balances of the Company's premiums receivable and reinsurance recoverables at the adoption date. Topic 326 replaces the "incurred loss" methodology for recognizing credit losses with a methodology that reflects expected credit losses for financial assets that are not accounted for at fair value through net income. The Company's investment portfolio, not including accrued investment income, was not affected by Topic 326 as it applies the fair value option to all of its investments (see Note 4).

Premiums Receivable

The majority of the Company's premiums receivable are short-term in nature and are due within a year, consistent with the policy term of its insurance policies sold. Generally, premiums are collected prior to providing risk coverage, minimizing the Company's exposure to credit risk. The Company monitors the credit risk associated with premiums receivable, taking into consideration the fact that credit risk is reduced by the Company's right to offset loss payments and unearned premiums against premiums receivable. The Company has established an allowance for uncollectible premiums receivable related to credit risk, and the estimated allowance is reviewed quarterly and adjusted as appropriate based on evaluations of balances due from insureds, management’s experience, historical data, current economic conditions, and reasonable and supportable forecasts of future economic conditions that affect the collectibility of the reported amounts. In estimating an allowance for uncollectible premiums receivable, the Company assesses customer balances and write-offs by state, line of business, and the year the premiums were written, leveraging its current process for analyzing uncollectibility of premiums receivable. This allowance is based on historical write-off percentages adjusted for the effects of current trends and reasonable and supportable forecasts, as well as expected recoveries of amounts written off.

Evaluating the current trends or economic conditions that impact the Company's ability to collect premiums receivable and projecting those into the remaining life of premiums receivable in order to develop a reasonable and supportable forecast of the ultimate collectibility involve significant judgment and assumptions about future economic conditions. The Company believes that the high unemployment rate resulting from the outbreak of a novel strain of coronavirus (“COVID-19”) will lead to a significant increase in uncollectible amounts over the life of the premiums receivable balances outstanding at March 31, 2020. In addition, the Company has been offering payment grace periods upon request from customers, which adds an element of uncertainty to the collectibility. Actual uncollectible amounts could be considerably more or less than the estimate. If future economic conditions, including the severity of job losses in the states in which the Company operates, were to be much worse than expected, the actual uncollectible amounts could be significantly greater than the allowance for credit losses on premiums receivable. The Company monitors the overall credit risk of premiums receivable by regularly reviewing macroeconomic indicators such as unemployment and interest rates, regulatory developments such as restrictions on cancellation of policies for nonpayment of premiums, and insurance policy specific indicators such as trends in daily policy cancellations due to nonpayment of premiums and daily premium due date extensions granted to its insureds.

The following table presents a summary of changes in allowance for credit losses on premiums receivable:
 
 
Three Months Ended March 31,
 
 
2020
 
2019
 
 
 
 
 
 
 
(Amounts in thousands)
Beginning balance
 
$
1,445

 
$
1,458

     Cumulative effect of adopting ASU 2016-13 for premiums receivable 
 
1,855

 

Beginning balance, as adjusted
 
3,300

 
1,458

     Provision during the period for expected credit losses (1)
 
8,169

 
1,563

Write-off amounts during the period
 
(1,658
)
 
(1,870
)
Recoveries during the period of amounts previously written off
 
189

 
170

Ending balance
 
$
10,000

 
$
1,321

__________ 
(1) The provision during the three months ended March 31, 2020 increased significantly due to the adverse impact of worsening economic conditions following the COVID-19 pandemic on the estimate of uncollectible premiums receivable based on reasonable and supportable forecasts.

9


Reinsurance Recoverables

Reinsurance recoverables are balances due to the Company from its reinsurers for paid and unpaid losses and loss adjustment expenses. A credit exposure exists with respect to these balances to the extent that any reinsurer is unable to meet its obligations. The Company has established an allowance for uncollectible reinsurance recoverables related to credit risk, and changes in the allowance are presented as a component of losses and loss adjustment expenses in the Company's consolidated statements of operations. The Company reviews the allowance quarterly and adjusts it as necessary to reflect changes in estimates of uncollectible balances. The Company evaluates the financial condition of its reinsurers and monitors concentration risk to minimize its exposure to significant losses from individual reinsurers. The Company attempts to mitigate its credit risk related to reinsurance by entering into reinsurance arrangements with reinsurers that have high credit ratings and by obtaining collateral as necessary. The primary method of obtaining collateral is through letters of credit.

Generally, the Company uses a default analysis to estimate uncollectible reinsurance recoverables. The primary components of the default analysis are reinsurance recoverable balances by reinsurer, net of collateral and any liabilities held by the Company subject to a right of offset, and future default factors used to estimate the probability that the reinsurer may be unable to meet its future obligations in full. The determination of the future default factor is based on a historical default factor published by a major rating agency applicable to the particular financial strength rating class. Application of future default factors also requires considerable judgment and assumptions, such as timing of loss payments and duration of the outstanding recoverable balances. Based on its past experiences with major catastrophes, the Company assumed that the majority of the reinsurance recoverable balances on unpaid losses outstanding at March 31, 2020 will be billed and collected or written off over the course of the next 5 years, and that the outstanding reinsurance recoverable balances on paid losses will be collected or written off within a year.

AM Best's Financial Strength Ratings of the Company's reinsurers ranged between A- and A++. While a ratings downgrade would result in an increase in provision for uncollectible reinsurance recoverables and a charge to earnings in that period, a downgrade in and of itself does not imply that the Company will be unable to collect all of the reinsurance recoverables from the reinsurers in question. To the extent the creditworthiness of the Company's reinsurers were to deteriorate due to an adverse event affecting the reinsurance industry, such as a large number of major catastrophes, actual uncollectible amounts could be significantly greater than the allowance for uncollectible reinsurance recoverables. The Company monitors credit risk by reviewing the credit ratings of its reinsurers, adequacy of letters of credit, and broader industry risks such as catastrophes impacting our reinsurers.

The following table presents a summary of changes in allowance for credit losses on reinsurance recoverables:
 
 
Three Months Ended March 31,
 
 
2020
 
2019
 
 
 
 
 
 
 
(Amounts in thousands)
Beginning balance
 
$

 
$

     Cumulative effect of adopting ASU 2016-13 for reinsurance recoverables 
 
159

 

Beginning balance, as adjusted
 
159

 

     Provision during the period for expected credit losses
 
(11
)
 

Write-off amounts during the period
 

 

Recoveries during the period of amounts previously written off
 

 

Ending balance
 
$
148

 
$



Accrued Interest Receivables

The Company made certain accounting policy elections for its accrued interest receivables on the adoption date of Topic 326 as allowed: a) an election to present accrued interest receivable balances separately from the associated financial assets on the balance sheet, and b) an election not to measure an allowance for credit losses on accrued interest receivable amounts and instead write off uncollectible accrued interest amounts in a timely manner by reversing interest income.

As a general policy, the Company writes off the accrued interest receivable balance when it receives a default notice or when the scheduled interest payment is not received, unless management determines that the default is temporary considering all of the relevant information. The Company believes that for the majority of its investment securities, writing off the uncollectible interest receivable balance within a year from the due date is considered timely. In all cases, the Company writes off the accrued interest receivable immediately if management determines that it is not reasonably expected that the payment will be received. The Company did not have any cumulative-effect adjustment as a result of adopting Topic 326 for its accrued interest receivables. The Company's

10


accrued interest receivable balances are included in accrued investment income receivables in its consolidated balance sheets. There were no accrued interest receivable amounts considered uncollectible or written off during the three months ended March 31, 2020 and 2019.

2. Recently Issued Accounting Standards

In March 2020, the Financial Accounting Standards Board ("FASB") issued ASU 2020-04, "Reference Rate Reform (Topic 848), Facilitation of the Effects of Reference Rate Reform on Financial Reporting." ASU 2020-04 provides optional expedients and exceptions for applying GAAP to contracts, hedging relationships, and other transactions affected by reference rate reform if certain criteria are met. The amendments in this ASU apply only to contracts, hedging relationships, and other transactions that reference LIBOR or other interbank offered rates expected to be discontinued because of reference rate reform. ASU 2020-04 is effective for all entities as of March 12, 2020 through December 31, 2022. The Company expects to apply the optional expedients in this ASU to its unsecured credit facility that references LIBOR (see Note 11), when the facility is modified with a replacement rate before LIBOR expires. The Company does not expect any material impact on its consolidated financial statements and related disclosures resulting from applying this ASU.

3. Financial Instruments

Financial instruments recorded in the consolidated balance sheets include investments, note receivable, other receivables, options sold, accounts payable, and unsecured notes payable. Due to their short-term maturities, the carrying values of other receivables and accounts payable approximate their fair values. All investments are carried at fair value in the consolidated balance sheets.

The following table presents the fair values of financial instruments:
 
March 31, 2020
 
December 31, 2019
 
 
 
 
 
(Amounts in thousands)
Assets
 
 
 
Investments
$
4,157,077

 
$
4,312,161

Note receivable
5,698

 
5,665

Liabilities
 
 
 
Options sold
3,154

 
77

Unsecured notes
406,350

 
394,279


Investments
The Company applies the fair value option to all fixed maturity and equity securities and short-term investments at the time an eligible item is first recognized. The cost of investments sold is determined on a first-in and first-out method and realized gains and losses are included in net realized investment gains or losses in the Company's consolidated statements of operations. See Note 4. Fair Value Option for additional information.

In the normal course of investing activities, the Company either forms or enters into relationships with variable interest entities ("VIEs"). A VIE is an entity that either has investors that lack certain essential characteristics of a controlling financial interest, such as simple majority kick-out rights, or lacks sufficient funds to finance its own activities without financial support provided by other entities. The Company performs ongoing qualitative assessments of the VIEs to determine whether the Company has a controlling financial interest in the VIE and therefore is the primary beneficiary. The Company is deemed to have a controlling financial interest when it has both the ability to direct the activities that most significantly impact the economic performance of the VIE and the obligation to absorb losses or right to receive benefits from the VIE that could potentially be significant to the VIE. Based on the Company's assessment, if it determines it is the primary beneficiary, the Company consolidates the VIE in its consolidated financial statements.

From time to time, the Company forms special purpose investment vehicles to facilitate its investment activities involving derivative instruments such as total return swaps, or limited partnerships such as private equity funds. These special purpose investment vehicles are consolidated VIEs as the Company has determined it is the primary beneficiary of such VIEs. Creditors have no recourse against the Company in the event of default by these VIEs. The Company had no implied or unfunded commitments to these VIEs at March 31, 2020 and December 31, 2019. The Company's financial or other support provided to these VIEs and its loss exposure are limited to its collateral and original investment.


11


The Company invests, directly or indirectly through its consolidated VIEs, in limited partnerships or limited liability companies such as private equity funds. These investments are non-consolidated VIEs as the Company has determined it is not the primary beneficiary. The Company's maximum exposure to loss is limited to the total carrying value that is included in equity securities in the Company's consolidated balance sheets. At March 31, 2020 and December 31, 2019, the Company had no outstanding unfunded commitments to these VIEs whereby the Company may be called by the VIEs during the commitment period to fund the purchase of new investments and the expenses of the VIEs.
    
Note Receivable
In August 2017, the Company completed the sale of approximately six acres of land located in Brea, California (the "Property"), for a total sale price of approximately $12.2 million. Approximately $5.7 million of the total sale price was received in the form of a promissory note (the "Note") and the remainder in cash. The Note is secured by a first trust deed and an assignment of rents on the Property, and bears interest at an annual rate of 3.5%, payable in monthly installments. The Note matures in August 2020. Interest earned on the Note is recognized in other revenues in the Company's consolidated statements of operations. The Company elected to apply the fair value option to the Note at the time it was first recognized. The fair value of note receivable is included in other assets in the Company's consolidated balance sheets, while the changes in fair value of note receivable are included in net realized investment gains or losses in the Company's consolidated statements of operations.

Options Sold
The Company writes covered call options through listed and over-the-counter exchanges. When the Company writes an option, an amount equal to the premium received by the Company is recorded as a liability and is subsequently adjusted to the current fair value of the option written. Premiums received from writing options that expire unexercised are treated by the Company as realized gains from investments on the expiration date. If a call option is exercised, the premium is added to the proceeds from the sale of the underlying security or currency in determining whether the Company has realized a gain or loss. The Company, as writer of an option, bears the market risk of an unfavorable change in the price of the security underlying the written option. Liabilities for covered call options are included in other liabilities in the Company's consolidated balance sheets.
Unsecured Notes
The fair value of the Company’s publicly traded $375 million unsecured notes at March 31, 2020 and December 31, 2019 was obtained from a third party pricing service.

For additional disclosures regarding methods and assumptions used in estimating fair values, see Note 5. Fair Value Measurements.

4. Fair Value Option

The Company applies the fair value option to all fixed maturity and equity investment securities and short-term investments at the time an eligible item is first recognized. In addition, the Company elected to apply the fair value option to the note receivable recognized as part of the sale of land in August 2017. The primary reasons for electing the fair value option were simplification and cost-benefit considerations as well as the expansion of the use of fair value measurement by the Company consistent with the long-term measurement objectives of the FASB for accounting for financial instruments.

Gains or losses due to changes in fair value of financial instruments measured at fair value pursuant to application of the fair value option are included in net realized investment gains or losses in the Company’s consolidated statements of operations. Interest and dividend income on investment holdings are recognized on an accrual basis at each measurement date and are included in net investment income in the Company’s consolidated statements of operations, while interest earned on the note receivable is included in other revenues in the Company’s consolidated statements of operations.












12


The following table presents gains (losses) due to changes in fair value of investments and the note receivable that are measured at fair value pursuant to application of the fair value option:
 
Three Months Ended March 31,
 
2020
 
2019
 
 
 
 
 
(Amounts in thousands)
Fixed maturity securities
$
(50,013
)
 
$
49,775

Equity securities
(186,373
)
 
53,687

Short-term investments
(4,637
)
 
734

    Total investments
$
(241,023
)
 
$
104,196

Note receivable
33

 
31

       Total (losses) gains
$
(240,990
)
 
$
104,227


5. Fair Value Measurements

The Company employs a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The fair value of a financial instrument is the amount 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 using the exit price. Accordingly, when market observable data are not readily available, the Company’s own assumptions are used to reflect those that market participants would be presumed to use in pricing the asset or liability at the measurement date. Assets and liabilities recorded at fair value on the consolidated balance sheets are categorized based on the level of judgment associated with inputs used to measure their fair values and the level of market price observability, as follows:
Level 1
Unadjusted quoted prices are available in active markets for identical assets or liabilities as of the reporting date.
Level 2
Pricing inputs are other than quoted prices in active markets, which are based on the following:
 
•     Quoted prices for similar assets or liabilities in active markets;
 
•     Quoted prices for identical or similar assets or liabilities in non-active markets; or
 
•     Either directly or indirectly observable inputs as of the reporting date.
Level 3
Pricing inputs are unobservable and significant to the overall fair value measurement, and the determination of fair value requires significant management judgment or estimation.
In certain cases, inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement in its entirety. Thus, a Level 3 fair value measurement may include inputs that are observable (Level 1 or Level 2) and unobservable (Level 3). The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and consideration of factors specific to the asset or liability.
The Company uses prices and inputs that are current as of the measurement date, including during periods of market disruption. In periods of market disruption, the ability to observe prices and inputs may be reduced for many instruments. This condition could cause an instrument to be reclassified from Level 1 to Level 2, or from Level 2 to Level 3. The Company recognizes transfers between levels at either the actual date of the event or a change in circumstances that caused the transfer.
Summary of Significant Valuation Techniques for Financial Assets and Financial Liabilities
The Company’s fair value measurements are based on the market approach, which utilizes market transaction data for the same or similar instruments.
The Company obtained unadjusted fair values on 98.8% of its investment portfolio at fair value from an independent pricing service at March 31, 2020. For a private equity fund that was classified as Level 3 and included in equity securities at December 31, 2019, the Company obtained specific unadjusted broker quotes based on net fund value and, to a lesser extent, unobservable inputs from at least one knowledgeable outside security broker to determine the fair value. The fair value of the private equity fund was $1.2 million at December 31, 2019. The Company reclassified this fund from Level 3 to private equity funds measured at net asset value at March 31, 2020, due to the use of the practical expedient based NAV in measuring the fair value of the fund.

Level 1 measurements - Fair values of financial assets and financial liabilities are obtained from an independent pricing service, and are based on unadjusted quoted prices for identical assets or liabilities in active markets. Additional pricing services and closing

13


exchange values are used as a comparison to ensure that reasonable fair values are used in pricing the investment portfolio.
U.S. government bonds /Short-term bonds: Valued using unadjusted quoted market prices for identical assets in active markets.
Common stock: Comprised of actively traded, exchange listed U.S. and international equity securities and valued based on unadjusted quoted prices for identical assets in active markets.
Money market instruments: Valued based on unadjusted quoted prices for identical assets in active markets.
Options sold: Comprised of free-standing exchange listed derivatives that are actively traded and valued based on unadjusted quoted prices for identical instruments in active markets.
Level 2 measurements - Fair values of financial assets and financial liabilities are obtained from an independent pricing service or outside brokers, and are based on prices for similar assets or liabilities in active markets or valuation models whose inputs are observable, directly or indirectly, for substantially the full term of the asset or liability. Additional pricing services are used as a comparison to ensure reliable fair values are used in pricing the investment portfolio.
Municipal securities: Valued based on models or matrices using inputs such as quoted prices for identical or similar assets in active markets.
Mortgage-backed securities: Comprised of securities that are collateralized by residential and commercial mortgage loans valued based on models or matrices using multiple observable inputs, such as benchmark yields, reported trades and broker/dealer quotes, for identical or similar assets in active markets. The Company had holdings of $18.8 million and $18.9 million at fair value in commercial mortgage-backed securities at March 31, 2020 and December 31, 2019, respectively.
Corporate securities/Short-term bonds: Valued based on a multi-dimensional model using multiple observable inputs, such as benchmark yields, reported trades, broker/dealer quotes and issue spreads, for identical or similar assets in active markets.
Non-redeemable preferred stock: Valued based on observable inputs, such as underlying and common stock of same issuer and appropriate spread over a comparable U.S. Treasury security, for identical or similar assets in active markets.
Collateralized loan obligations ("CLOs"): Valued based on underlying debt instruments and the appropriate benchmark spread for similar assets in active markets.
Other asset-backed securities: Comprised of securities that are collateralized by non-mortgage assets, such as automobile loans, valued based on models or matrices using multiple observable inputs, such as benchmark yields, reported trades and broker/dealer quotes, for identical or similar assets in active markets.
Note receivable: Valued based on observable inputs, such as benchmark yields, and considering any premium or discount for the differential between the stated interest rate and market interest rates, based on quoted market prices of similar instruments.
Level 3 measurements - Fair values of financial assets are based on inputs that are both unobservable and significant to the overall fair value measurement, including any items in which the evaluated prices obtained elsewhere are deemed to be of a distressed trading level.
Private equity fund: Private equity fund that was not measured at net asset value ("NAV") was valued based on underlying investments of the fund or assets similar to such investments in active markets, taking into consideration specific unadjusted broker quotes based on net fund value and unobservable inputs from at least one knowledgeable outside security broker related to liquidity assumptions.
Fair value measurement using NAV practical expedient - The fair value of the Company's investment in private equity funds measured at net asset value is determined using NAV as advised by the external fund managers and the third party administrators. The NAV of the Company's limited partnership or limited liability company interest in such a fund is based on the manager's and the administrator's valuation of the underlying holdings in accordance with the fund's governing documents and GAAP. In accordance with applicable accounting guidance, private equity funds measured at fair value using the NAV practical expedient are not classified in the fair value hierarchy. The strategy of two of the three such funds with a fair value of approximately $48.8 million at March 31, 2020 is to provide current income to investors by investing mainly in secured loans, CLOs or CLO issuers, and equity interests in vehicles established to purchase and warehouse loans; the strategy of the other such fund with a fair value of approximately $1.2 million at March 31, 2020 is to achieve favorable long-term financial returns and measurable positive social and environmental returns by investing in privately held technology, healthcare, specialty consumer goods and service companies. The Company has made all of its capital contributions in these funds and had no outstanding unfunded commitments at March 31, 2020 with respect to the funds. The underlying assets of the funds are expected to be liquidated over the period of approximately one to 10 years from March 31, 2020. In addition, the Company does not have the ability to redeem or withdraw from the funds, or to sell, assign, pledge

14


or transfer its investment, without the consent from the General Partner or Managers of each fund, but will receive distributions based on the liquidation of the underlying assets and the interest proceeds from the underlying assets.
The Company’s financial instruments at fair value are reflected in the consolidated balance sheets on a trade-date basis. Related unrealized gains or losses are recognized in net realized investment gains or losses in the consolidated statements of operations. Fair value measurements are not adjusted for transaction costs.

The following tables present information about the Company’s assets and liabilities measured at fair value on a recurring basis, and indicate the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair values:

 
March 31, 2020
 
Level 1
 
Level 2
 
Level 3
 
Total
 
 
 
 
 
 
 
 
 
(Amounts in thousands)
Assets
 
 
 
 
 
 
 
Fixed maturity securities:
 
 
 
 
 
 
 
U.S. government bonds
$
23,974

 
$

 
$

 
$
23,974

Municipal securities

 
2,720,194

 

 
2,720,194

Mortgage-backed securities

 
83,523

 

 
83,523

Corporate securities

 
269,517

 

 
269,517

Collateralized loan obligations

 
184,926

 

 
184,926

Other asset-backed securities

 
17,739

 

 
17,739

Total fixed maturity securities
23,974

 
3,275,899

 

 
3,299,873

Equity securities:
 
 
 
 
 
 
 
Common stock
537,331

 

 

 
537,331

Non-redeemable preferred stock

 
32,309

 

 
32,309

Private equity funds measured at net asset value (1)
 
 
 
 
 
 
50,044

Total equity securities
537,331

 
32,309

 

 
619,684

Short-term investments:
 
 
 
 
 
 
 
Short-term bonds
526

 
48,420

 

 
48,946

Money market instruments
188,574

 

 

 
188,574

Total short-term investments
189,100

 
48,420

 

 
237,520

Other assets:
 
 
 
 
 
 
 
Note receivable

 
5,698

 

 
5,698

Total assets at fair value
$
750,405

 
$
3,362,326

 
$

 
$
4,162,775

Liabilities
 
 
 
 
 
 
 
Other liabilities:
 
 
 
 
 
 
 
Options sold
$
3,154

 
$

 
$

 
$
3,154

Total liabilities at fair value
$
3,154


$


$


$
3,154


15


 
December 31, 2019
 
Level 1
 
Level 2
 
Level 3
 
Total
 
 
 
 
 
 
 
 
 
(Amounts in thousands)
Assets
 
 
 
 
 
 
 
Fixed maturity securities:
 
 
 
 
 
 
 
U.S. government bonds
$
22,637

 
$

 
$

 
$
22,637

Municipal securities

 
2,554,208

 

 
2,554,208

Mortgage-backed securities

 
63,003

 

 
63,003

Corporate securities

 
235,565

 

 
235,565

Collateralized loan obligations

 
199,217

 

 
199,217

Other asset-backed securities

 
18,645

 

 
18,645

Total fixed maturity securities
22,637

 
3,070,638

 

 
3,093,275

Equity securities:
 
 
 
 
 
 
 
Common stock
586,367

 

 

 
586,367

Non-redeemable preferred stock

 
49,708

 

 
49,708

Private equity fund

 

 
1,203

 
1,203

Private equity funds measured at net asset value (1)
 
 
 
 
 
 
87,473

Total equity securities
586,367

 
49,708

 
1,203

 
724,751

Short-term investments:
 
 
 
 
 
 
 
Short-term bonds
2,822

 
30,080

 

 
32,902

Money market instruments
461,233

 

 

 
461,233

Total short-term investments
464,055

 
30,080

 

 
494,135

Other assets:
 
 
 
 
 
 


Note receivable

 
5,665

 

 
5,665

Total assets at fair value
$
1,073,059


$
3,156,091


$
1,203


$
4,317,826

Liabilities
 
 
 
 
 
 
 
Other liabilities:
 
 
 
 
 
 
 
Options sold
$
77

 
$

 
$

 
$
77

Total liabilities at fair value
$
77

 
$

 
$

 
$
77


__________ 
(1) The fair value is measured using the NAV practical expedient; therefore, it is not categorized within the fair value hierarchy. The fair value amount is presented in this table to permit reconciliation of the fair value hierarchy to the amounts presented in the Company's consolidated balance sheets.

The following table presents a summary of changes in fair value of Level 3 financial assets and financial liabilities:
 
 
Private Equity Fund
 
 
Three Months Ended March 31,
 
 
2020
 
2019
 
 
 
 
 
 
 
(Amounts in thousands)
Beginning balance
 
$
1,203

 
$
1,445

     Realized (losses) gains included in earnings
 
(1
)
 
111

Settlements
 

 
(343
)
Transfer out (1)
 
(1,202
)
 

Ending balance
 
$

 
$
1,213

The amount of total gains for the period included in earnings attributable to assets still held at March 31
 
$

 
$
103


__________ 
(1) The private equity fund was reclassified from Level 3 to private equity funds measured at net asset value due to the use of the NAV practical expedient in measuring the fair value of the fund at March 31, 2020.

There were no transfers between Levels 1, 2, and 3 of the fair value hierarchy during the three months ended March 31, 2020

16


and 2019. A private equity fund was reclassified from Level 3 to private equity funds measured at net asset value at March 31, 2020, as described above.

At March 31, 2020, the Company did not have any nonrecurring fair value measurements of nonfinancial assets or nonfinancial liabilities.
Financial Instruments Disclosed, But Not Carried, at Fair Value
The following tables present the carrying value and fair value of the Company’s financial instruments disclosed, but not carried, at fair value, and the level within the fair value hierarchy at which such instruments are categorized:
 
March 31, 2020
 
Carrying Value
 
Fair Value
 
Level 1
 
Level 2
 
Level 3
 
 
 
 
 
 
 
 
 
 
 
(Amounts in thousands)
Liabilities