NOTES TO FINANCIAL STATEMENTS
Note 1. Nature of Operations
Erie Indemnity Company ("Indemnity", "we", "us", "our") is a publicly held Pennsylvania business corporation that has since its incorporation in 1925 served as the attorney-in-fact for the subscribers (policyholders) at the Erie Insurance Exchange ("Exchange"). The Exchange, which also commenced business in 1925, is a Pennsylvania-domiciled reciprocal insurer that writes property and casualty insurance. We function solely as the management company and all insurance operations are the responsibility of the Exchange.
Our primary function, as attorney-in-fact, is to perform certain services on behalf of the subscribers at the Exchange relating to policy issuance and renewals including the sales, underwriting, and issuance of policies. This is done in accordance with a subscriber's agreement (a limited power of attorney) executed individually by each subscriber (policyholder), which appoints us as their common attorney-in-fact to transact certain business on their behalf and to manage the affairs of the Exchange. Pursuant to the subscriber's agreement and for its services as attorney-in-fact, we earn a management fee calculated as a percentage of the direct and assumed premiums written by the Exchange.
The services we provide to the subscribers at the Exchange are related to the sales, underwriting and issuance of policies. The sales related services we provide include agent compensation and certain sales and advertising support services. Agent compensation includes scheduled commissions to agents based upon premiums written as well as additional commissions and bonuses to agents, which are earned by achieving targeted measures. Agent compensation comprised approximately
68%
of our
2017
expenses. The underwriting services we provide include underwriting and policy processing and comprised approximately
10%
of our
2017
expenses. The remaining services we provide include customer service and administrative support. We also provide information technology services that support all the functions listed above that comprised approximately
10%
of our
2017
expenses.
By virtue of its legal structure as a reciprocal insurer, the Exchange does not have the ability to enter into contractual relationships and therefore, Indemnity also serves as the attorney-in-fact on behalf of the Exchange for all claims handling and investment management services, which include certain common overhead and service department functions in accordance with the subscriber's agreement. The Exchange's insurance subsidiaries also utilize Indemnity for these services, including life management services for EFL, in accordance with the service agreements between each of the subsidiaries and Indemnity. Claims handling services include costs incurred in the claims process, including the adjustment, investigation, defense, recording and payment functions, as well as an allocation of costs for departments that support these claims functions. Life management services include costs incurred in the management and processing of life insurance business. Investment management services are related to investment trading activity, accounting and all other functions attributable to the investment of funds, including an allocation of costs for departments that support the investment function. The amounts incurred for these services are the responsibility of the Exchange and its insurance subsidiaries as outlined in the subscriber's agreement and the services agreements, and are reimbursed to Indemnity as cost. State insurance regulations require that intercompany service agreements and any material amendments be approved in advance by the state insurance department. See Note 13, "Related Party" contained within this report.
Our results of operations are tied to the growth and financial condition of the Exchange. If any events occurred that impaired the Exchange's ability to grow or sustain its financial condition, including but not limited to reduced financial strength ratings, disruption in the independent agency relationships, significant catastrophe losses, or products not meeting customer demands, the Exchange could find it more difficult to retain its existing business and attract new business. A decline in the business of the Exchange almost certainly would have as a consequence a decline in the total premiums paid and a correspondingly adverse effect on the amount of the management fees we receive. We also have an exposure to a concentration of credit risk related to the unsecured receivables due from the Exchange and its subsidiaries. See Note 14, "Concentrations of Credit Risk" contained within this report.
Note 2. Significant Accounting Policies
Basis of presentation
The accompanying financial statements have been prepared in conformity with U.S. generally accepted accounting principles ("GAAP").
Use of estimates
The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Recently adopted accounting standards
On February 14, 2018, the FASB issued ASU 2018-02,
"Income Statement-Reporting Comprehensive Income-Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income"
, which permits entities to reclassify from accumulated other comprehensive income to retained earnings tax effects stranded in accumulated other comprehensive income as a result of tax reform. ASU 2018-02 is effective for all entities for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption is permitted for reporting periods for which financial statements have not yet been issued or made available for issuance. We have elected to early adopt this guidance in 2017 using a portfolio method, which resulted in a decrease of
$26.4 million
in accumulated other comprehensive income and a corresponding increase in retained earnings.
In March 2017, the FASB issued ASU 2017-08,
"Receivables-Nonrefundable Fees and Other Costs"
, which shortens the amortization period for certain purchased callable debt securities held at a premium from maturity date to the earliest call date. ASU 2017-08 is effective for interim and annual reporting periods beginning after December 31, 2018. The guidance should be applied using a modified retrospective basis through a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption. Early adoption is permitted, including adoption in an interim period. We have evaluated this guidance and are already in compliance, therefore there is no impact on our financial statements.
Recently issued accounting standards
In March 2017, the FASB issued ASU 2017-07,
"Compensation-Retirement Benefits",
which requires the service cost component of net benefit costs to be reported with other compensation costs arising from services rendered by the pertinent employees during the period. The other components of net benefit costs are required to be presented separately from the service cost component and outside of income from operations. This amendment also allows only the service cost component to be eligible for capitalization when applicable. ASU 2017-17 is effective for interim and annual periods beginning after December 15, 2017. While the presentation of the costs within the Statements of Operations will change, we do not expect a material impact on our financial statements or related disclosures. Had the other components of net benefit costs been presented separately outside of operating income for the year ended December 31, 2017, other operating expenses would have been reduced by
$1.9 million
.
In June 2016, the FASB issued ASU 2016-13,
"Financial Instruments-Credit Losses"
, which requires financial assets measured at amortized cost to be presented at the net amount expected to be collected through the use of a new forward-looking expected loss model and credit losses relating to available-for-sale debt securities to be recognized through an allowance for credit losses. ASU 2016-13 is effective for interim and annual reporting periods beginning after December 15, 2019. Early adoption for interim and annual periods beginning after December 15, 2018 is permitted. We have evaluated the impact of this guidance on our invested assets. Our investments are not measured at amortized cost, which are the investments that require the use of a new expected loss model. Our available-for-sale debt securities will continue to be monitored for credit losses which would be reflected as an allowance for credit losses rather than a reduction of the carrying value of the asset. The other material financial assets subject to this guidance include our receivables from Erie Insurance Exchange and its subsidiaries. Given the financial strength of the Exchange, demonstrated by its strong surplus position and industry ratings, it is unlikely these receivables would have significant, if any, credit loss exposure. We do not expect a material impact on our financial statements or related disclosures as a result of this guidance.
In February 2016, the FASB issued ASU 2016-02,
"Leases"
, which requires lessees to recognize assets and liabilities arising from operating leases on the statement of financial position and to disclose key information about leasing arrangements. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Currently ASU 2016-02 requires leases to be recognized and measured at the beginning of the earliest period presented using a modified retrospective approach. In January 2018, the FASB issued a proposed ASU that would allow entities to recognize the cumulative effect adjustment in the year of adoption rather than the earliest period presented. Under existing guidance, we
recognize lease expense as a component of operating expenses in the Statements of Operations. We are evaluating our lease contracts to determine those that qualify for treatment as leases under the new guidance and the impact to our financial statements and disclosures.
In January 2016, the FASB issued ASU 2016-01,
"Financial Instruments-Overall"
. ASU 2016-01 revises the accounting related to the classification and measurement of investments in equity securities and the presentation of certain fair value changes for financial liabilities measured at fair value. ASU 2016-01 is effective for interim and annual reporting periods beginning after December 15, 2017. At December 31, 2017 we have equity securities with a fair value of
$12.8 million
. Changes in the fair value of these securities were recognized as a cumulative effect adjustment of
$0.1 million
at January 1, 2018.
In May 2014, the FASB issued ASU 2014-09,
"Revenue from Contracts with Customers"
.
Topic 606 requires an entity to recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. ASU 2014-09 is effective for fiscal years beginning after December 15, 2017, including interim periods within that reporting period, with early application permitted beginning in the first interim period in 2017. We adopted Topic 606 as of January 1, 2018 under the modified retrospective method recognizing the cumulative effect at the date of initial application.
We performed an analysis in accordance with the steps identified in the new guidance around the recognition, measurement, and presentation of management fee revenue. Our service fee revenue was determined to be outside of the scope of this new guidance.
Under Topic 606, we determined that we are acting as the attorney-in-fact for the subscribers at the Exchange in
two
capacities pursuant to the subscriber's agreement. The first is providing policy issuance and renewal services including the sales, underwriting, and issuance of policies. The second is acting as the attorney-in-fact for all claims handling and investment management services, which include certain common overhead and service department functions. Therefore, upon adoption of Topic 606 beginning January 1, 2018, the management fee, currently
25%
of all direct and assumed premiums written by the Exchange, will be allocated between the
two
performance obligations.
The first performance obligation related to the policy issuance and renewal services continues to be recognized at the time of policy issuance or renewal because it is at the time of policy issuance or renewal when the economic benefits of the service Indemnity provides (i.e. the substantially completed policy issuance or renewal service) and the control of the promised asset (i.e. the executed insurance policy) transfers to the customer. The vast majority of the management fee will be allocated to this performance obligation beginning January 1, 2018. Therefore, the related revenue recognition pattern for the majority of our revenues remains unchanged.
The second performance obligation is acting as the attorney-in-fact on behalf of the Exchange for all claims handling and investment management services, which include certain common overhead and service department functions. The amounts incurred for these services are the responsibility of the Exchange and are reimbursed to Indemnity at cost in accordance with the subscriber's agreement. Beginning January 1, 2018, a small portion of our management fee will be allocated to this performance obligation. The majority of the revenue allocated to this performance obligation will be recognized over several years because the economic benefit of the service provided (i.e. the claims handling services) and the control of the promised asset (i.e. the claims handling services) transfers to the customer over several years. We have also determined that we are functioning in a principal capacity for this performance obligation and the expenses and related reimbursements will be presented gross on our Statements of Operations effective January 1, 2018.
The adoption will not have a material impact on our financial condition, earnings, or earnings per share, and will have no impac
t on our cash flows.
Cash and cash equivalents
–
Cash, money market accounts and other short-term, highly liquid investments with a maturity of
three months
or less at the date of purchase, are considered cash and cash equivalents.
Investments
Available-for-sale securities
– Fixed maturity, preferred stock, and common stock securities classified as available-for-sale are reported at fair value. Common stock securities classified as available-for-sale represent certain exchange traded funds with underlying holdings of fixed maturity securities. Available-for-sale securities with a remaining maturity of
12 months
or less are reported as current assets on the Statements of Financial Position. Unrealized holding gains and losses, net of related tax effects, on available-for-sale securities are recorded directly to shareholders' equity as accumulated other comprehensive
income (loss). Realized gains and losses on sales of available-for-sale securities are recognized in income based upon the specific identification method. Interest and dividend income are recognized as earned and recorded to net investment income.
Available-for-sale securities are evaluated monthly for other-than-temporary impairment loss. For fixed income and redeemable preferred stock (debt securities) that have experienced a decline in fair value and that we intend to sell, or for which it is more likely than not we will be required to sell the security before recovery of its amortized cost, an other-than-temporary impairment is deemed to have occurred, and is recognized in earnings. Debt securities that have experienced a decline in fair value and that we do not intend to sell, and that we will not be required to sell before recovery, are evaluated to determine if the decline in fair value is other-than-temporary.
Some factors considered in this evaluation include:
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the extent and duration to which fair value is less than cost;
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historical operating performance and financial condition of the issuer;
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•
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short and long-term prospects of the issuer and its industry based upon analysts' recommendations;
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•
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specific events that occurred affecting the issuer, including a ratings downgrade;
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•
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near term liquidity position of the issuer; and
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•
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compliance with financial covenants.
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If a decline is deemed to be other-than-temporary, an assessment is made to determine the amount of the total impairment related to a credit loss and that related to all other factors. Consideration is given to all available information relevant to the collectability of the security in this determination. If the entire amortized cost basis of the security will not be recovered, a credit loss exists. Currently, we have the intent to sell all of our securities that have been determined to have a credit-related impairment. As a result, the entire amount of any impairment would be recognized in earnings. If we had securities with credit impairments that we did not intend to sell, the non-credit portion of the impairment would be recorded in other comprehensive income.
For nonredeemable preferred stock and common stock (equity securities) in an unrealized loss position where fair value is not expected to recover to our cost basis in a reasonable time period, or where we do not expect to hold the security for a period of time sufficient to allow for a recovery to our cost basis, an other-than-temporary impairment is deemed to have occurred, and is recognized in earnings.
Trading securities
– Common stock securities classified as trading securities are reported at fair value. Unrealized holding gains and losses on trading securities are included in net realized gains (losses) in the Statements of Operations. Realized gains and losses on sales of trading securities are recognized in income based upon the specific identification method. Dividend income is recognized as of the ex-dividend date.
Limited partnerships
– Limited partnerships include U.S. and foreign private equity, mezzanine debt, and real estate investments. The majority of our limited partnership holdings are considered investment companies and are recorded using the equity method of accounting. For these limited partnerships the general partners record assets at fair value, including any other-than-temporary impairments of these individual investments. Our ownership interest in partnerships accounted for under the equity method is generally less than
10%
, and does not provide us the ability to significantly influence the operations of the partnerships. However, we believe the equity method most appropriately reflects the value of our economic interest in these investments. We also own certain real estate limited partnerships that do not meet the criteria of an investment company. These partnerships prepare audited financial statements on a cost basis. We have elected to report these limited partnerships under the fair value option, which is based on the net asset value (NAV) from our partner's capital statement reflecting the general partner's estimate of fair value for the fund's underlying assets. Limited partnerships reported under the fair value option are disclosed in Note 4, "Fair Value" as other investments. Fair value provides consistency in the evaluation and financial reporting for these limited partnerships and limited partnerships accounted for under the equity method.
Because of the timing of the preparation and delivery of financial statements for limited partnership investments, the use of the most recently available financial statements provided by the general partners results in a quarter delay in the inclusion of the limited partnership results in our Statements of Operations. Due to this delay, these financial statements do not yet reflect the market conditions experienced in the fourth quarter of
2017
for all partnerships other than the real estate limited partnerships that are reported under the fair value option.
Nearly all of the underlying investments in our limited partnerships are valued using a source other than quoted prices in active markets. The fair value amounts for our private equity and mezzanine debt partnerships are based upon the financial statements of the general partners, who use multiple methods to estimate fair value including the market approach, income approach or the cost approach. The market approach uses prices and other pertinent information from market-generated transactions involving
identical or comparable assets or liabilities. Such valuation techniques often use market multiples derived from a set of comparables. The income approach uses valuation techniques to convert future cash flows or earnings to a single discounted present value amount. The measurement is based upon the value indicated by current market expectations on those future amounts. The cost approach is derived from the amount that is currently required to replace the service capacity of an asset. If information becomes available that would impair the cost of investments owned by the partnerships, then the general partner would adjust to the net realizable value. For real estate limited partnerships, the general partners record these at fair value based upon an independent appraisal or internal estimates of fair value.
While we perform various procedures in review of the general partners' valuations, we rely on the general partners' financial statements as the best available information to record our share of the partnership unrealized gains and losses resulting from valuation changes. Due to the limited market for these investments, there is a greater potential for market price variability.
Unrealized gains and losses for these investments are reflected in equity in earnings (losses) of limited partnerships in our Statements of Operations in accordance with the equity method of accounting or the fair value option, as applicable. Cash contributions made to and distributions received from the partnerships are recorded in the period in which the transaction occurs.
Deferred taxes
Deferred tax assets and liabilities are recorded for temporary differences between the tax basis of assets and liabilities and the reported amounts in the financial statements, using the statutory tax rates in effect for the year in which the differences are expected to reverse. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the results of operations in the period that includes the enactment date under the law. The need for valuation allowances on deferred tax assets are estimated based upon our assessment of the realizability of such amounts.
On December 22, 2017, the Tax Cuts and Jobs Act ("TCJA") was enacted which reduced the corporate tax rate from
35%
to
21%
effective January 1, 2018. This resulted in a re-measurement of our net deferred taxes to reflect the new rate at which the deferred items will be realized. The re-measurement of the net deferred tax asset as an other income tax expense resulted in tax effects of items within AOCI, which did not reflect the current enacted tax rate. As a result, we elected to make a one-time adjustment to reclassify the stranded tax effects from AOCI to retained earnings in accordance with ASU 2018-02. Income tax amounts are estimates based on our initial analysis and current interpretation of this legislation. Given the complexity of the legislation, anticipated guidance from the U.S. Treasury, and the potential for additional guidance from the Securities and Exchange Commission ("SEC") or the FASB, these estimates may be adjusted during 2018.
Fixed assets
Fixed assets are stated at cost less accumulated depreciation and amortization. Fixed assets are primarily comprised of software, which includes internally used capitalized software and development costs, as well as equipment, buildings and building improvements, and leasehold improvements. Assets in use are depreciated using the straight-line method over the estimated useful life except for leasehold improvements, which are depreciated over the shorter of their economic useful life or the lease term. Software is depreciated over periods ranging from
3
-
7 years
, equipment is depreciated over
3
-
10 years
, and buildings and building improvements are depreciated over
20
-
45 years
. We review long-lived assets for impairment whenever events or changes indicate that the carrying value may not be recoverable. Under these circumstances, if the fair value were less than the carrying amount of the asset, we would recognize a loss for the difference. We capitalize applicable interest charges incurred during the construction period of long-term building projects as part of the historical cost of the asset.
Agent bonus estimates
Agent bonuses are based upon an individual agency's property and casualty underwriting profitability and also include a component for growth in agency property and casualty premiums if the agency's underwriting profitability targets for the book of business are met. The estimate for agent bonuses, which are based upon the performance over
36 months
, is modeled on a monthly basis using actual underwriting results for the
two
prior years and current year-to-date actual results and forecasted results for the remainder of the year.
At December 31 of each year, we use actual data available and record an accrual based upon the expected payment amount. These costs are included in commissions expense in the Statements of Operations.
Recognition of management fee revenue
We earn management fees from the Exchange for providing policy issuance and renewal services including certain sales, underwriting, and policy issuance services. Pursuant to the subscriber's agreements with the subscribers (policyholders) at the Exchange, we may retain up to
25%
of all direct and assumed premiums written by the Exchange. Management fee revenue is calculated by multiplying the management fee rate by the direct and assumed premiums written by the Exchange. The
Exchange issues policies with annual terms only. Management fees are recorded as revenue upon policy issuance or renewal, as substantially all of the services required to be performed by us have been satisfied at that time. Certain activities are performed and related costs are incurred by us subsequent to policy issuance in connection with the services provided to the Exchange; however, these activities are inconsequential and perfunctory.
Recognition of service agreement revenue
Service agreement revenue consists of service charges we collect from policyholders for providing multiple payment plans on policies written by the Exchange. Service charges, which are flat dollar charges for each installment billed beyond the first installment, are recognized as revenue when bills are rendered to the policyholder.
Service agreement revenue also includes late payment and policy reinstatement fees, which are also recognized as revenue when bills are rendered to the policyholder.
Note 3. Earnings Per Share
Class A and Class B basic earnings per share and Class B diluted earnings per share are calculated under the two-class method. The two-class method allocates earnings to each class of stock based upon its dividend rights. Class B shares are convertible into Class A shares at a conversion ratio of
2,400
to 1. See Note 11, "Capital Stock".
Class A diluted earnings per share are calculated under the if-converted method, which reflects the conversion of Class B shares to Class A shares. Diluted earnings per share calculations include the dilutive effect of assumed issuance of stock-based awards under compensation plans that have the option to be paid in stock using the treasury stock method. See Note 9, "Incentive and Deferred Compensation Plans".
We recorded a one-time net non-cash tax expense of
$10.1 million
at
December 31, 2017
as a result of the enactment of the TCJA on
December 22, 2017
. See Note 10, "Income Taxes". This resulted in a reduction in Class A basic earnings per share of
$0.22
and diluted earnings per share of
$0.19
, and a reduction in Class B basic earnings per share of
$33
and diluted earnings per share of
$32
.
A reconciliation of the numerators and denominators used in the basic and diluted per-share computations is presented as follows for each class of common stock:
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(dollars in thousands, except per share data)
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For the years ended December 31,
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2017
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2016
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2015
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Allocated net income (numerator)
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Weighted shares (denominator)
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Per- share amount
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Allocated net income (numerator)
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Weighted shares (denominator)
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Per- share amount
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Allocated net income (numerator)
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Weighted shares (denominator)
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Per- share amount
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Class A – Basic EPS:
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Income available to Class A stockholders
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$
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195,386
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46,186,831
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$
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4.23
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$
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208,644
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46,188,952
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$
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4.52
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$
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173,248
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46,186,671
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$
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3.75
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Dilutive effect of stock-based awards
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0
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49,832
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—
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0
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145,551
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—
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0
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211,340
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—
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Assumed conversion of Class B shares
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1,613
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6,100,800
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—
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1,722
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6,100,800
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—
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1,430
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6,100,800
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—
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Class A – Diluted EPS:
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Income available to Class A stockholders on Class A equivalent shares
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$
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196,999
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52,337,463
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$
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3.76
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$
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210,366
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52,435,303
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$
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4.01
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$
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174,678
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52,498,811
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$
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3.33
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Class B – Basic EPS:
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Income available to Class B stockholders
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$
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1,613
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2,542
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$
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635
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$
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1,722
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2,542
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$
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678
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$
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1,430
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2,542
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$
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563
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Class B – Diluted EPS:
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Income available to Class B stockholders
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$
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1,613
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2,542
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$
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634
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$
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1,721
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2,542
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$
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677
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$
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1,429
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2,542
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$
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562
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Note 4. Fair Value
Our available-for-sale and trading securities are recorded at fair value, which is the price that would be received to sell the asset in an orderly transaction between willing market participants as of the measurement date.
Valuation techniques used to derive the fair value of our available-for-sale and trading securities are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources. Unobservable inputs reflect our own assumptions regarding fair market value for these securities. Although virtually all of our prices are obtained from third-party sources, we also perform an internal pricing review on outliers, which include securities with price changes inconsistent with current market conditions. Financial instruments are categorized based upon the following characteristics or inputs to the valuation techniques:
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Level 1 – Quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity can access at the measurement date.
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Level 2 – Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.
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Level 3 – Unobservable inputs for the asset or liability.
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Estimates of fair values for our investment portfolio are obtained primarily from a nationally recognized pricing service. Our Level 1 category includes those securities valued using an exchange traded price provided by the pricing service. The methodologies used by the pricing service that support a Level 2 classification of a financial instrument include multiple verifiable, observable inputs including benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, and reference data. Pricing service valuations for Level 3 securities are based upon proprietary models and are used when observable inputs are not available or in illiquid markets.
In limited circumstances we adjust the price received from the pricing service when, in our judgment, a better reflection of fair value is available based upon corroborating information and our knowledge and monitoring of market conditions such as a disparity in price of comparable securities and/or non-binding broker quotes. In other circumstances, certain securities are internally priced because prices are not provided by the pricing service.
We perform continuous reviews of the prices obtained from the pricing service. This includes evaluating the methodology and inputs used by the pricing service to ensure that we determine the proper classification level of the financial instrument. Price variances, including large periodic changes, are investigated and corroborated by market data. We have reviewed the pricing methodologies of our pricing service as well as other observable inputs, such as market data, and transaction volumes and believe that the prices adequately consider market activity in determining fair value.
When a price from the pricing service is not available, values are determined by obtaining broker/dealer quotes and/or market comparables. When available, we obtain multiple quotes for the same security. The ultimate value for these securities is determined based upon our best estimate of fair value using corroborating market information. Our evaluation includes the consideration of benchmark yields, reported trades, issuer spreads, two-sided markets, benchmark securities, bids, offers, and reference data.
The following tables present our fair value measurements on a recurring basis by asset class and level of input:
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At December 31, 2017
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Fair value measurements using:
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(in thousands)
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Total
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Quoted prices in
active markets for
identical assets
Level 1
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Observable
inputs
Level 2
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Unobservable
inputs
Level 3
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Available-for-sale securities:
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|
|
|
|
|
|
|
U.S. treasury
|
|
$
|
11,734
|
|
|
$
|
0
|
|
|
$
|
11,734
|
|
|
$
|
0
|
|
States & political subdivisions
|
|
259,264
|
|
|
0
|
|
|
259,264
|
|
|
0
|
|
Foreign government securities
|
|
503
|
|
|
0
|
|
|
503
|
|
|
0
|
|
Corporate debt securities
|
|
346,523
|
|
|
0
|
|
|
338,644
|
|
|
7,879
|
|
Residential mortgage-backed securities
|
|
25,571
|
|
|
0
|
|
|
25,571
|
|
|
0
|
|
Commercial mortgage-backed securities
|
|
32,804
|
|
|
0
|
|
|
32,804
|
|
|
0
|
|
Collateralized debt obligations
|
|
58,034
|
|
|
0
|
|
|
55,834
|
|
|
2,200
|
|
Other debt securities
|
|
11,528
|
|
|
0
|
|
|
11,528
|
|
|
0
|
|
Total fixed maturities
|
|
745,961
|
|
|
0
|
|
|
735,882
|
|
|
10,079
|
|
Nonredeemable preferred stock
|
|
12,752
|
|
|
2,015
|
|
|
10,737
|
|
|
0
|
|
Total available-for-sale securities
|
|
758,713
|
|
|
2,015
|
|
|
746,619
|
|
|
10,079
|
|
Other investments
(1)
|
|
4,816
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Total
|
|
$
|
763,529
|
|
|
$
|
2,015
|
|
|
$
|
746,619
|
|
|
$
|
10,079
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2016
|
|
|
Fair value measurements using:
|
(in thousands)
|
|
Total
|
|
Quoted prices in
active markets for
identical assets
Level 1
|
|
Observable
inputs
Level 2
|
|
Unobservable
inputs
Level 3
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
U.S. treasury
|
|
$
|
5,031
|
|
|
$
|
0
|
|
|
$
|
5,031
|
|
|
$
|
0
|
|
Government sponsored entities
|
|
2,026
|
|
|
0
|
|
|
2,026
|
|
|
0
|
|
States & political subdivisions
|
|
253,132
|
|
|
0
|
|
|
253,132
|
|
|
0
|
|
Corporate debt securities
|
|
322,948
|
|
|
0
|
|
|
313,596
|
|
|
9,352
|
|
Residential mortgage-backed securities
|
|
16,102
|
|
|
0
|
|
|
16,102
|
|
|
0
|
|
Commercial mortgage-backed securities
|
|
36,849
|
|
|
0
|
|
|
36,849
|
|
|
0
|
|
Collateralized debt obligations
|
|
69,253
|
|
|
0
|
|
|
69,253
|
|
|
0
|
|
Other debt securities
|
|
2,000
|
|
|
0
|
|
|
2,000
|
|
|
0
|
|
Total fixed maturities
|
|
707,341
|
|
|
0
|
|
|
697,989
|
|
|
9,352
|
|
Common stock
|
|
5,950
|
|
|
5,950
|
|
|
0
|
|
|
0
|
|
Total available-for-sale securities
|
|
713,291
|
|
|
5,950
|
|
|
697,989
|
|
|
9,352
|
|
Other investments
(1)
|
|
4,412
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Total
|
|
$
|
717,703
|
|
|
$
|
5,950
|
|
|
$
|
697,989
|
|
|
$
|
9,352
|
|
|
|
(1)
|
Other investments measured at fair value represent real estate funds included on the balance sheet as limited partnership investments that are reported under the fair value option using the net asset value practical expedient. These amounts are not required to be categorized in the fair value hierarchy. The investments can never be redeemed with the funds. Instead, distributions are received when liquidation of the underlying assets of the funds occur. It is estimated that the underlying assets will generally be liquidated between
5
and
10
years from the inception of the funds. The fair value of these investments is based on the net asset value (NAV) information provided by the general partner. Fair value is based on our proportionate share of the NAV based on the most recent partners' capital statements received from the general partners, which is generally one quarter prior to our balance sheet date. These values are then analyzed to determine if the NAV represents fair value at our balance sheet date, with adjustment being made where appropriate. We consider observable market data and perform a review validating the appropriateness of the NAV at each balance sheet date. It is likely that all of the investments will be redeemed at a future date for an amount different than the NAV of our ownership interest in partners' capital as of
December 31, 2017
and
December 31, 2016
. During the years ended
December 31, 2017
and 2016,
no
contributions were made and distributions totaling
$0.5 million
and
$0.9 million
, respectively, were received from these investments. There were
no
unfunded commitments related to the investments as of
December 31, 2017
and
$0.3 million
as of
December 31, 2016
.
|
We review the fair value hierarchy classifications each reporting period. Transfers between hierarchy levels may occur due to changes in available market observable inputs. Transfers in and out of level classifications are reported as having occurred at the beginning of the quarter in which the transfers occurred.
There were
no
transfers between Level 1 and Level 2 for the years ended
December 31, 2017
and 2016.
Level 3 Assets – Year-to-Date Change:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
Beginning balance at December 31, 2016
|
|
Included in
earnings
(1)
|
|
Included
in other
comprehensive
income
|
|
Purchases
|
|
Sales
|
|
Transfers
into
Level 3
(2)
|
|
Transfers
out of Level 3
(2)
|
|
Ending balance at December 31, 2017
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt securities
|
|
$
|
9,352
|
|
|
$
|
(85
|
)
|
|
$
|
(41
|
)
|
|
$
|
4,954
|
|
|
$
|
(5,411
|
)
|
|
$
|
11,196
|
|
|
$
|
(12,086
|
)
|
|
$
|
7,879
|
|
Collateralized debt obligations
|
|
0
|
|
|
0
|
|
|
0
|
|
|
2,200
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
2,200
|
|
Total fixed maturities
|
|
9,352
|
|
|
(85
|
)
|
|
(41
|
)
|
|
7,154
|
|
|
(5,411
|
)
|
|
11,196
|
|
|
(12,086
|
)
|
|
10,079
|
|
Total available-for-sale securities
|
|
9,352
|
|
|
(85
|
)
|
|
(41
|
)
|
|
7,154
|
|
|
(5,411
|
)
|
|
11,196
|
|
|
(12,086
|
)
|
|
10,079
|
|
Total Level 3 assets
|
|
$
|
9,352
|
|
|
$
|
(85
|
)
|
|
$
|
(41
|
)
|
|
$
|
7,154
|
|
|
$
|
(5,411
|
)
|
|
$
|
11,196
|
|
|
$
|
(12,086
|
)
|
|
$
|
10,079
|
|
Level 3 Assets – Year-to-Date Change:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
Beginning balance at December 31, 2015
|
|
Included in
earnings
(1)
|
|
Included
in other
comprehensive
income
|
|
Purchases
|
|
Sales
|
|
Transfers
into
Level 3
(2)
|
|
Transfers
out of Level 3
(2)
|
|
Ending balance at December 31, 2016
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt securities
|
|
$
|
69
|
|
|
$
|
173
|
|
|
$
|
107
|
|
|
$
|
13,935
|
|
|
$
|
(1,854
|
)
|
|
$
|
7,532
|
|
|
$
|
(10,610
|
)
|
|
$
|
9,352
|
|
Commercial mortgage-backed securities
|
|
0
|
|
|
0
|
|
|
3
|
|
|
1,000
|
|
|
0
|
|
|
0
|
|
|
(1,003
|
)
|
|
0
|
|
Collateralized debt obligations
|
|
8,577
|
|
|
4
|
|
|
(5
|
)
|
|
7,722
|
|
|
(54
|
)
|
|
2,114
|
|
|
(18,358
|
)
|
|
0
|
|
Total fixed maturities
|
|
8,646
|
|
|
177
|
|
|
105
|
|
|
22,657
|
|
|
(1,908
|
)
|
|
9,646
|
|
|
(29,971
|
)
|
|
9,352
|
|
Total available-for-sale securities
|
|
8,646
|
|
|
177
|
|
|
105
|
|
|
22,657
|
|
|
(1,908
|
)
|
|
9,646
|
|
|
(29,971
|
)
|
|
9,352
|
|
Total Level 3 assets
|
|
$
|
8,646
|
|
|
$
|
177
|
|
|
$
|
105
|
|
|
$
|
22,657
|
|
|
$
|
(1,908
|
)
|
|
$
|
9,646
|
|
|
$
|
(29,971
|
)
|
|
$
|
9,352
|
|
|
|
(1)
|
These amounts are reported in the Statements of Operations as net investment income and net realized investment gains (losses) for each of the periods presented above.
|
|
|
(2)
|
Transfers into and/or (out) of Level 3 are primarily attributable to the availability of market observable information and the re-evaluation of the observability of pricing inputs.
|
Quantitative and Qualitative Disclosures about Unobservable Inputs
When a non-binding broker quote was the only input available, the security was classified within Level 3. Use of non-binding brokers quotes totaled
$10.1 million
at
December 31, 2017
. The unobservable inputs are not reasonably available to us.
The following table presents our fair value measurements on a recurring basis by pricing source:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
At December 31, 2017
|
|
|
Total
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
Fixed maturities:
|
|
|
|
|
|
|
|
|
Priced via pricing services
|
|
$
|
743,761
|
|
|
$
|
0
|
|
|
$
|
735,882
|
|
|
$
|
7,879
|
|
Priced via market comparables/broker quotes
|
|
2,200
|
|
|
0
|
|
|
0
|
|
|
2,200
|
|
Total fixed maturities
|
|
745,961
|
|
|
0
|
|
|
735,882
|
|
|
10,079
|
|
Nonredeemable preferred stock:
|
|
|
|
|
|
|
|
|
Priced via pricing services
|
|
12,752
|
|
|
2,015
|
|
|
10,737
|
|
|
0
|
|
Total nonredeemable preferred stock
|
|
12,752
|
|
|
2,015
|
|
|
10,737
|
|
|
0
|
|
Other investments:
|
|
|
|
|
|
|
|
|
Priced via unobservable inputs
(1)
|
|
4,816
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Total other investments
|
|
4,816
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Total
|
|
$
|
763,529
|
|
|
$
|
2,015
|
|
|
$
|
746,619
|
|
|
$
|
10,079
|
|
|
|
(1)
|
Other investments measured at fair value represent real estate funds included on the balance sheet as limited partnership investments that are reported under the fair value option using the NAV practical expedient. These amounts are not required to be categorized in the fair value hierarchy. The fair value of these investments is based on the NAV information provided by the general partner.
|
There were
no
assets measured at fair value on a nonrecurring basis during the year ended
December 31, 2017
.
Note 5. Investments
Available-for-sale securities
The following tables summarize the cost and fair value of our available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2017
|
(in thousands)
|
|
Amortized cost
|
|
Gross unrealized gains
|
|
Gross unrealized losses
|
|
Estimated fair value
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
U.S. treasury
|
|
$
|
11,873
|
|
|
$
|
0
|
|
|
$
|
139
|
|
|
$
|
11,734
|
|
States & political subdivisions
|
|
254,533
|
|
|
5,351
|
|
|
620
|
|
|
259,264
|
|
Foreign government securities
|
|
501
|
|
|
2
|
|
|
0
|
|
|
503
|
|
Corporate debt securities
|
|
346,759
|
|
|
1,688
|
|
|
1,924
|
|
|
346,523
|
|
Residential mortgage-backed securities
|
|
25,324
|
|
|
371
|
|
|
124
|
|
|
25,571
|
|
Commercial mortgage-backed securities
|
|
33,475
|
|
|
26
|
|
|
697
|
|
|
32,804
|
|
Collateralized debt obligations
|
|
57,838
|
|
|
237
|
|
|
41
|
|
|
58,034
|
|
Other debt securities
|
|
11,496
|
|
|
32
|
|
|
0
|
|
|
11,528
|
|
Total fixed maturities
|
|
741,799
|
|
|
7,707
|
|
|
3,545
|
|
|
745,961
|
|
Nonredeemable preferred stock
|
|
12,837
|
|
|
15
|
|
|
100
|
|
|
12,752
|
|
Total available-for-sale securities
|
|
$
|
754,636
|
|
|
$
|
7,722
|
|
|
$
|
3,645
|
|
|
$
|
758,713
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2016
|
(in thousands)
|
|
Amortized cost
|
|
Gross unrealized gains
|
|
Gross unrealized losses
|
|
Estimated fair value
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
U.S. treasury
|
|
$
|
5,093
|
|
|
$
|
0
|
|
|
$
|
62
|
|
|
$
|
5,031
|
|
Government sponsored entities
|
|
2,004
|
|
|
22
|
|
|
0
|
|
|
2,026
|
|
States & political subdivisions
|
|
249,312
|
|
|
6,113
|
|
|
2,293
|
|
|
253,132
|
|
Corporate debt securities
|
|
321,041
|
|
|
3,293
|
|
|
1,386
|
|
|
322,948
|
|
Residential mortgage-backed securities
|
|
16,232
|
|
|
61
|
|
|
191
|
|
|
16,102
|
|
Commercial mortgage-backed securities
|
|
37,723
|
|
|
59
|
|
|
933
|
|
|
36,849
|
|
Collateralized debt obligations
|
|
68,998
|
|
|
351
|
|
|
96
|
|
|
69,253
|
|
Other debt securities
|
|
2,000
|
|
|
0
|
|
|
0
|
|
|
2,000
|
|
Total fixed maturities
|
|
702,403
|
|
|
9,899
|
|
|
4,961
|
|
|
707,341
|
|
Common stock
|
|
6,152
|
|
|
0
|
|
|
202
|
|
|
5,950
|
|
Total available-for-sale securities
|
|
$
|
708,555
|
|
|
$
|
9,899
|
|
|
$
|
5,163
|
|
|
$
|
713,291
|
|
The amortized cost and estimated fair value of fixed maturities at
December 31, 2017
, are shown below by remaining contractual term to maturity. Mortgage-backed securities are allocated based upon stated maturity dates. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2017
|
(in thousands)
|
|
Amortized
|
|
Estimated
|
|
|
cost
|
|
fair value
|
Due in one year or less
|
|
$
|
71,109
|
|
|
$
|
71,190
|
|
Due after one year through five years
|
|
313,305
|
|
|
315,436
|
|
Due after five years through ten years
|
|
240,614
|
|
|
242,739
|
|
Due after ten years
|
|
116,771
|
|
|
116,596
|
|
Total fixed maturities
|
|
$
|
741,799
|
|
|
$
|
745,961
|
|
Available-for-sale securities in a gross unrealized loss position are as follows. Data is provided by length of time for securities in a gross unrealized loss position.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2017
|
(dollars in thousands)
|
|
Less than 12 months
|
|
12 months or longer
|
|
Total
|
|
|
Fair
|
|
Unrealized
|
|
Fair
|
|
Unrealized
|
|
Fair
|
|
Unrealized
|
|
No. of
|
|
|
value
|
|
losses
|
|
value
|
|
losses
|
|
value
|
|
losses
|
|
holdings
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. treasury
|
|
$
|
10,237
|
|
|
$
|
110
|
|
|
$
|
1,497
|
|
|
$
|
29
|
|
|
$
|
11,734
|
|
|
$
|
139
|
|
|
4
|
|
States & political subdivisions
|
|
52,553
|
|
|
288
|
|
|
14,361
|
|
|
332
|
|
|
66,914
|
|
|
620
|
|
|
33
|
|
Corporate debt securities
|
|
171,154
|
|
|
1,585
|
|
|
31,113
|
|
|
339
|
|
|
202,267
|
|
|
1,924
|
|
|
331
|
|
Residential mortgage-backed securities
|
|
4,156
|
|
|
29
|
|
|
7,064
|
|
|
95
|
|
|
11,220
|
|
|
124
|
|
|
11
|
|
Commercial mortgage-backed securities
|
|
10,836
|
|
|
85
|
|
|
11,984
|
|
|
612
|
|
|
22,820
|
|
|
697
|
|
|
19
|
|
Collateralized debt obligations
|
|
21,598
|
|
|
41
|
|
|
0
|
|
|
0
|
|
|
21,598
|
|
|
41
|
|
|
12
|
|
Other debt securities
|
|
1,499
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
1,499
|
|
|
0
|
|
|
1
|
|
Total fixed maturities
|
|
272,033
|
|
|
2,138
|
|
|
66,019
|
|
|
1,407
|
|
|
338,052
|
|
|
3,545
|
|
|
411
|
|
Nonredeemable preferred stock
|
|
10,737
|
|
|
100
|
|
|
0
|
|
|
0
|
|
|
10,737
|
|
|
100
|
|
|
6
|
|
Total available-for-sale securities
|
|
$
|
282,770
|
|
|
$
|
2,238
|
|
|
$
|
66,019
|
|
|
$
|
1,407
|
|
|
$
|
348,789
|
|
|
$
|
3,645
|
|
|
417
|
|
Quality breakdown of fixed maturities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment grade
|
|
$
|
214,586
|
|
|
$
|
1,064
|
|
|
$
|
62,193
|
|
|
$
|
985
|
|
|
$
|
276,779
|
|
|
$
|
2,049
|
|
|
158
|
|
Non-investment grade
|
|
57,447
|
|
|
1,074
|
|
|
3,826
|
|
|
422
|
|
|
61,273
|
|
|
1,496
|
|
|
253
|
|
Total fixed maturities
|
|
$
|
272,033
|
|
|
$
|
2,138
|
|
|
$
|
66,019
|
|
|
$
|
1,407
|
|
|
$
|
338,052
|
|
|
$
|
3,545
|
|
|
411
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2016
|
(dollars in thousands)
|
|
Less than 12 months
|
|
12 months or longer
|
|
Total
|
|
|
Fair
|
|
Unrealized
|
|
Fair
|
|
Unrealized
|
|
Fair
|
|
Unrealized
|
|
No. of
|
|
|
value
|
|
losses
|
|
value
|
|
losses
|
|
value
|
|
losses
|
|
holdings
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. treasury
|
|
$
|
5,031
|
|
|
$
|
62
|
|
|
$
|
0
|
|
|
$
|
0
|
|
|
$
|
5,031
|
|
|
$
|
62
|
|
|
1
|
|
States & political subdivisions
|
|
84,611
|
|
|
2,293
|
|
|
0
|
|
|
0
|
|
|
84,611
|
|
|
2,293
|
|
|
40
|
|
Corporate debt securities
|
|
112,453
|
|
|
987
|
|
|
8,692
|
|
|
399
|
|
|
121,145
|
|
|
1,386
|
|
|
155
|
|
Residential mortgage-backed securities
|
|
7,451
|
|
|
60
|
|
|
4,974
|
|
|
131
|
|
|
12,425
|
|
|
191
|
|
|
13
|
|
Commercial mortgage-backed securities
|
|
26,509
|
|
|
437
|
|
|
4,319
|
|
|
496
|
|
|
30,828
|
|
|
933
|
|
|
28
|
|
Collateralized debt obligations
|
|
27,470
|
|
|
75
|
|
|
4,208
|
|
|
21
|
|
|
31,678
|
|
|
96
|
|
|
15
|
|
Total fixed maturities
|
|
263,525
|
|
|
3,914
|
|
|
22,193
|
|
|
1,047
|
|
|
285,718
|
|
|
4,961
|
|
|
252
|
|
Common stock
|
|
5,950
|
|
|
202
|
|
|
0
|
|
|
0
|
|
|
5,950
|
|
|
202
|
|
|
1
|
|
Total available-for-sale securities
|
|
$
|
269,475
|
|
|
$
|
4,116
|
|
|
$
|
22,193
|
|
|
$
|
1,047
|
|
|
$
|
291,668
|
|
|
$
|
5,163
|
|
|
253
|
|
Quality breakdown of fixed maturities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment grade
|
|
$
|
239,041
|
|
|
$
|
3,605
|
|
|
$
|
16,061
|
|
|
$
|
399
|
|
|
$
|
255,102
|
|
|
$
|
4,004
|
|
|
136
|
|
Non-investment grade
|
|
24,484
|
|
|
309
|
|
|
6,132
|
|
|
648
|
|
|
30,616
|
|
|
957
|
|
|
116
|
|
Total fixed maturities
|
|
$
|
263,525
|
|
|
$
|
3,914
|
|
|
$
|
22,193
|
|
|
$
|
1,047
|
|
|
$
|
285,718
|
|
|
$
|
4,961
|
|
|
252
|
|
The above securities have been evaluated and determined to be temporary impairments for which we expect to recover our entire principal plus interest. The primary components of this analysis include a general review of market conditions and financial performance of the issuer along with the extent and duration at which fair value is less than cost. Any securities that we intend to sell or will more likely than not be required to sell before recovery are included in other-than-temporary impairments, which are recognized in earnings.
Net investment income
Investment income, net of expenses, was generated from the following portfolios for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2017
|
|
2016
|
|
2015
|
Fixed maturities
(1)
|
|
$
|
23,587
|
|
|
$
|
20,175
|
|
|
$
|
16,457
|
|
Equity securities
|
|
82
|
|
|
171
|
|
|
1,045
|
|
Cash equivalents and other
|
|
2,486
|
|
|
1,391
|
|
|
1,174
|
|
Total investment income
|
|
26,155
|
|
|
21,737
|
|
|
18,676
|
|
Less: investment expenses
|
|
1,547
|
|
|
1,190
|
|
|
885
|
|
Investment income, net of expenses
|
|
$
|
24,608
|
|
|
$
|
20,547
|
|
|
$
|
17,791
|
|
|
|
(1)
|
Includes interest earned on note receivable from EFL of $
1.7 million
in 2017, 2016 and 2015.
|
Realized investment gains (losses)
Realized gains (losses) on investments were as follows for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2017
|
|
2016
|
|
2015
|
Available-for-sale securities:
|
|
|
|
|
|
|
Fixed maturities:
|
|
|
|
|
|
|
Gross realized gains
|
|
$
|
2,996
|
|
|
$
|
2,111
|
|
|
$
|
1,571
|
|
Gross realized losses
|
|
(1,611
|
)
|
|
(2,113
|
)
|
|
(1,764
|
)
|
Net realized gains (losses)
|
|
1,385
|
|
|
(2
|
)
|
|
(193
|
)
|
Equity securities:
|
|
|
|
|
|
|
|
|
Gross realized gains
|
|
0
|
|
|
1
|
|
|
759
|
|
Gross realized losses
|
|
(145
|
)
|
|
(34
|
)
|
|
(74
|
)
|
Net realized (losses) gains
|
|
(145
|
)
|
|
(33
|
)
|
|
685
|
|
Trading securities:
|
|
|
|
|
|
|
|
|
Common stock:
|
|
|
|
|
|
|
|
|
Gross realized gains
|
|
0
|
|
|
707
|
|
|
0
|
|
Net realized gains
|
|
0
|
|
|
707
|
|
|
0
|
|
Miscellaneous
|
|
|
|
|
|
|
Gross realized gains
|
|
96
|
|
|
0
|
|
|
0
|
|
Gross realized losses
|
|
(2
|
)
|
|
0
|
|
|
0
|
|
Net realized gains
|
|
94
|
|
|
0
|
|
|
0
|
|
Net realized investment gains
|
|
$
|
1,334
|
|
|
$
|
672
|
|
|
$
|
492
|
|
Other-than-temporary impairments on fixed maturity investments recognized in earnings were
$0.2 million
,
$0.4 million
and
$1.6 million
for the years ended December 31, 2017, 2016 and 2015, respectively. We have the intent to sell all credit-impaired fixed maturity securities; therefore, the entire amount of the impairment charges were included in earnings and
no
non-credit impairments were recognized in other comprehensive income. See also Note 2, "Significant Accounting Policies".
Limited partnerships
The majority of our limited partnership holdings are considered investment companies where the general partners record assets at fair value. These limited partnerships are recorded using the equity method of accounting and are generally reported on a one-quarter lag; therefore, our year-to-date limited partnership results through
December 31, 2017
are comprised of partnership financial results for the fourth quarter of
2016
and the first, second and third quarters of
2017
. Given the lag in reporting, our limited partnership results do not reflect the market conditions of the fourth quarter of
2017
. We also own some real estate limited partnerships that do not meet the criteria of an investment company. These partnerships prepare audited financial statements on a cost basis. We have elected to report these limited partnerships under the fair value option, which is based on the NAV from our partner's capital statement reflecting the general partner's estimate of fair value for the fund's underlying assets. Fair value provides consistency in the evaluation and financial reporting for these limited partnerships and limited partnerships accounted for under the equity method. Cash contributions made to and distributions received from the partnerships are recorded in the period in which the transaction occurs.
Amounts included in equity in earnings of limited partnerships by method of accounting are included below for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2017
|
|
2016
|
|
2015
|
Equity in earnings of limited partnerships accounted for under the equity method
|
|
$
|
1,925
|
|
|
$
|
6,273
|
|
|
$
|
16,545
|
|
Change in fair value of limited partnerships accounted for under the fair value option
|
|
876
|
|
|
752
|
|
|
438
|
|
Equity in earnings of limited partnerships
|
|
$
|
2,801
|
|
|
$
|
7,025
|
|
|
$
|
16,983
|
|
The following table summarizes limited partnership investments by sector at December 31:
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2017
|
|
2016
|
Private equity
|
|
$
|
31,663
|
|
|
$
|
35,228
|
|
Mezzanine debt
|
|
3,516
|
|
|
6,010
|
|
Real estate
|
|
5,127
|
|
|
12,509
|
|
Real estate - fair value option
|
|
4,816
|
|
|
4,412
|
|
Total limited partnerships
|
|
$
|
45,122
|
|
|
$
|
58,159
|
|
See also Note 15, "Commitments and Contingencies", for investment commitments related to limited partnerships.
Note 6. Fixed Assets
The following table summarizes our fixed assets by category at December 31:
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2017
|
|
2016
|
Software
|
|
$
|
129,553
|
|
|
$
|
124,093
|
|
Equipment
|
|
13,858
|
|
|
11,771
|
|
Land, buildings, and building improvements
|
|
7,627
|
|
|
7,627
|
|
Leasehold improvements
|
|
1,375
|
|
|
1,375
|
|
Projects in progress
|
|
21,898
|
|
|
17,812
|
|
Construction in progress
|
|
26,312
|
|
|
9,622
|
|
Total fixed assets, gross
|
|
200,623
|
|
|
172,300
|
|
Less: Accumulated depreciation
|
|
(117,474
|
)
|
|
(103,158
|
)
|
Fixed assets, net
|
|
$
|
83,149
|
|
|
$
|
69,142
|
|
Projects in progress include certain computer software and software developments costs for internal use that are not yet subject to amortization.
In 2016, we announced the construction of a new office building that will serve as part of our principal headquarters. The costs associated with this project are included in construction in progress. Capitalized interest included in construction in progress was
$0.6 million
for
2017
. There was
no
capitalized interest in
2016
. The project is expected to span approximately
three years
and is financed using a senior secured draw term loan credit facility. See Note 7, "Borrowing Arrangements".
For the years ended
December 31, 2017
,
2016
and
2015
, depreciation and amortization of fixed assets totaled
$14.8 million
,
$15.1 million
and
$15.9 million
, respectively, and is included in all other operating expenses in the Statements of Operations.
Note 7. Borrowing Arrangements
Bank Line of Credit
As of
December 31, 2017
, we have access to a
$100 million
bank revolving line of credit with a
$25 million
letter of credit sublimit that expires on
November 3, 2020
. As of
December 31, 2017
, a total of
$99.1 million
remains available under the facility due to
$0.9 million
outstanding letters of credit, which reduces the availability for letters of credit to
$24.1 million
. We had
no
borrowings outstanding on our line of credit as of
December 31, 2017
. Bonds with a fair value of
$108.0 million
were pledged as collateral on the line at
December 31, 2017
. The securities pledged as collateral have no trading restrictions and are reported as available-for-sale securities in the Statements of Financial Position as of
December 31, 2017
. The banks require compliance with certain covenants, which include leverage ratios and debt restrictions, for our line of credit. We are in compliance with all covenants at
December 31, 2017
.
Term Loan Credit Facility
In 2016, we entered into a credit agreement for a
$100 million
senior secured draw term loan credit facility ("Credit Facility") for the acquisition of real property and construction of an office building that will serve as part of our principal headquarters. Under the agreement,
$25 million
will be drawn on December 1, 2016, June 1, 2017, December 1, 2017, and June 1, 2018 ("Draw Period"). During the Draw Period, we will make monthly interest only payments under the Credit Facility and thereafter the Credit Facility converts to a fully-amortized term loan with monthly payments of principal and interest over a period of
28 years
. Borrowings under the Credit Facility will bear interest at a fixed rate of
4.35%
. In addition, we are required to pay a quarterly commitment fee of
0.08%
on the unused portion of the Credit Facility during the Draw Period. Total draws against the facility are
$75 million
as of
December 31, 2017
. Bonds with a fair value of
$108.3 million
were pledged as collateral for the facility and are reported as available-for-sale securities in the Statements of Financial Position as of
December 31, 2017
. The bank requires compliance with certain covenants, which include leverage ratios, debt restrictions and minimum net worth, for our Credit Facility. We are in compliance with all covenants at
December 31, 2017
.
Amounts drawn from the Credit Facility are reported at carrying value on our Statements of Financial Position, net of unamortized loan origination and commitment fees. The estimated fair value of this borrowing at
December 31, 2017
was
$72.4 million
. The estimated fair value was determined using estimates based upon interest rates and credit spreads and are classified as Level 3 in the fair value hierarchy as of
December 31, 2017
.
The scheduled maturity of the
$100 million
Credit Facility begins on January 1, 2019 with annual principal payments of
$1.9 million
in
2019
,
$2.0 million
in
2020
,
$2.0 million
in
2021
,
$2.1 million
in
2022
and
$92.0 million
thereafter.
Note 8. Postretirement Benefits
Pension plans
Our pension plans consist of a noncontributory defined benefit pension plan covering substantially all employees and an unfunded supplemental employee retirement plan ("SERP") for certain members of executive and senior management. The pension plans provide benefits to covered individuals satisfying certain age and service requirements. The defined benefit pension plan and SERP each provide benefits through a final average earnings formula.
Although we are the sponsor of these postretirement plans and record the funded status of these plans, the Exchange and its subsidiaries reimburse us for approximately
59%
of the annual benefit expense of these plans, which represents pension benefits for our employees performing claims and life insurance functions and their share of service department costs. For our funded pension plan, amounts are settled in cash for the portion of pension costs allocated to the Exchange and its subsidiaries. For our unfunded plans, we pay the obligations when due and amounts are settled in cash between entities when there is a payout.
Prior to 2003, the employee pension plan purchased annuities from Erie Family Life Insurance Company ("EFL"), a wholly owned subsidiary of the Exchange, for certain plan participants that were receiving benefit payments under the pension plan. These are nonparticipating annuity contracts under which EFL has unconditionally contracted to provide specified benefits to beneficiaries; however, the pension plan remains the primary obligor to the beneficiaries. A contingent liability of
$19.5 million
at
December 31, 2017
, exists in the event EFL does not honor the annuity contracts.
Cost of pension plans
Pension plan cost includes the following components:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
2017
|
|
2016
|
|
2015
|
|
Service cost for benefits earned
|
|
$
|
31,106
|
|
|
$
|
28,201
|
|
|
$
|
30,433
|
|
|
Interest cost on benefit obligation
|
|
34,275
|
|
|
33,125
|
|
|
30,755
|
|
|
Expected return on plan assets
|
|
(41,267
|
)
|
|
(39,520
|
)
|
|
(35,921
|
)
|
|
Prior service cost amortization
|
|
871
|
|
|
696
|
|
|
670
|
|
|
Net actuarial loss amortization
|
|
9,301
|
|
|
8,111
|
|
|
14,031
|
|
|
Settlement cost
(1)
|
|
302
|
|
|
—
|
|
|
—
|
|
|
Pension plan cost
(2)
|
|
$
|
34,588
|
|
|
$
|
30,613
|
|
|
$
|
39,968
|
|
|
|
|
(1)
|
The final SERP benefit for
two
former executives was settled with lump sum payments in 2017.
|
|
|
(2)
|
Pension plan costs represent the total cost before reimbursements to Indemnity from the Exchange and its subsidiaries.
|
Actuarial assumptions
The following table describes the assumptions at December 31 used to measure the year-end obligations and the net periodic benefit costs for the subsequent year:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2017
|
|
2016
|
|
2015
|
|
2014
|
|
Employee pension plan:
|
|
|
|
|
|
|
|
|
|
Discount rate
|
|
3.73
|
%
|
|
4.24
|
%
|
|
4.57
|
%
|
|
4.17
|
%
|
|
Expected return on assets
|
|
6.75
|
|
|
7.00
|
|
|
7.00
|
|
|
7.00
|
|
|
Compensation increases
(1)
|
|
3.32
|
|
|
3.32
|
|
|
3.32
|
|
|
3.32
|
|
|
SERP:
|
|
|
|
|
|
|
|
|
|
|
Discount rate – pre-retirement/post-retirement
|
|
3.73/3.23
|
|
|
4.24/3.74
|
|
|
4.57/4.07
|
|
|
4.17/3.67
|
|
|
Rate of compensation increase
|
|
5.00
|
|
|
5.00
|
|
|
5.00
|
|
|
5.00
|
|
|
|
|
(1)
|
The rate of compensation increase for the employee plan is age-graded. An equivalent single compensation increase rate of
3.32%
in
2017
,
2016
and
2015
would produce similar results.
|
The economic assumptions that have the most impact on the postretirement benefits expense are the discount rate and the long-term rate of return on plan assets. The discount rate assumption used to determine the benefit obligation for
2017
was based upon a yield curve developed from corporate bond yield information. The same methodology was employed to develop the discount rates used to determine the benefit obligation for
2016
and
2015
.
The pension plan's expected long-term rate of return represents the average rate of return to be earned on plan assets over the period the benefits included in the benefit obligation are to be paid. To determine the expected long-term rate of return assumption, we utilized models based upon rigorous historical analysis and forward-looking views of the financial markets based upon key factors such as historical returns for the asset class' applicable indices, the correlations of the asset classes under various market conditions and consensus views on future real economic growth and inflation. The expected future return for each asset class is then combined by considering correlations between asset classes and the volatilities of each asset class to produce a reasonable range of asset return results within which our expected long-term rate of return assumption falls.
Projected benefit obligations increased
$135.0 million
at
December 31, 2017
compared to
December 31, 2016
. The increase was driven by normal increases in benefit accruals, the lower discount rate and the improvement to the death benefit payable to active employees, partially offset by updated mortality tables.
Funding policy/funded status
In addition to the planned contribution of
$19.0 million
in January 2017, we made additional unplanned employer contributions of
$20 million
in August 2017 and
$19.9 million
in December
2017
. We also made an accelerated contribution of
$40 million
in January 2018 and plan to contribute another
$40 million
in April 2018. Following our
$80 million
contribution in
2018
, we would not expect to make a subsequent contribution until the sum of the target normal costs for plan years beginning on and after
December 31, 2017
exceeds
$80 million
, or earlier if a contribution is necessary to fund the plan to
100%
. At that time, our funding policy will again generally be to contribute an amount equal or greater of the target normal cost for the plan year, or the amount necessary to fund the plan to
100%
. Additional contributions may be necessary or desirable due to future plan changes, our particular business or investment strategy, or pending law changes. The following table sets forth the funded status of the pension plans and the amounts recognized in the Statements of Financial Position at December 31:
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
2017
|
|
2016
|
|
Funded status at end of year
|
|
$
|
(207,766
|
)
|
|
$
|
(224,115
|
)
|
|
|
|
|
|
|
|
Pension liabilities – due within one year
(1)
|
|
$
|
(236
|
)
|
|
$
|
(2,288
|
)
|
|
Pension liabilities – due after one year
|
|
(207,530
|
)
|
|
(221,827
|
)
|
|
Net amount recognized
|
|
$
|
(207,766
|
)
|
|
$
|
(224,115
|
)
|
|
(1) The current portion of pension liabilities is included in accounts payable and accrued liabilities in the Statements of Financial Position.
Benefit obligations
Benefit obligations are described in the following tables. Accumulated and projected benefit obligations represent the obligations of a pension plan for past service as of the measurement date. The accumulated benefit obligation is the present value of pension benefits earned as of the measurement date based on employee service and compensation prior to that date. It differs from the projected benefit obligation in that the accumulated benefit obligation includes no assumptions to reflect expected future compensation. The following table sets forth a reconciliation of beginning and ending balances of the projected benefit obligation, as well as the accumulated benefit obligation at December 31:
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
2017
|
|
2016
|
|
Projected benefit obligation, beginning of year
|
|
$
|
816,659
|
|
|
$
|
724,580
|
|
|
Service cost for benefits earned
|
|
31,106
|
|
|
28,201
|
|
|
Interest cost on benefit obligation
|
|
34,275
|
|
|
33,125
|
|
|
Plan amendments
|
|
5,050
|
|
|
2,114
|
|
|
Actuarial loss
|
|
82,940
|
|
|
43,032
|
|
|
Benefits paid
|
|
(16,184
|
)
|
|
(14,393
|
)
|
|
Settlement cost
|
|
(2,180
|
)
|
|
—
|
|
|
Projected benefit obligation, end of year
|
|
$
|
951,666
|
|
|
$
|
816,659
|
|
|
|
|
|
|
|
|
Accumulated benefit obligation, end of year
|
|
$
|
767,527
|
|
|
$
|
657,969
|
|
|
The following table describes plans with assets less than accumulated benefit obligation at December 31:
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
2017
|
|
2016
|
|
Projected benefit obligation
|
|
$
|
951,666
|
|
|
$
|
816,659
|
|
|
Accumulated benefit obligation
|
|
767,527
|
|
|
657,969
|
|
|
Plan assets
|
|
743,900
|
|
|
592,544
|
|
|
Both the defined benefit pension plan and the SERP had accumulated benefit obligations in excess of plan assets at
December 31, 2017
and
2016
.
Pension assets
The following table sets forth a reconciliation of beginning and ending balances of the fair value of plan assets at December 31:
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
2017
|
|
2016
|
|
Fair value of plan assets, beginning of year
|
|
$
|
592,544
|
|
|
$
|
551,491
|
|
|
Actual gain on plan assets
|
|
108,618
|
|
|
38,028
|
|
|
Employer contributions
|
|
61,102
|
|
|
17,418
|
|
|
Benefits paid
|
|
(16,184
|
)
|
|
(14,393
|
)
|
|
Settlements
(1)
|
|
(2,180
|
)
|
|
—
|
|
|
Fair value of plan assets, end of year
|
|
$
|
743,900
|
|
|
$
|
592,544
|
|
|
|
|
(1)
|
The final SERP benefit for
two
former executives was settled with lump sum payments in
2017
.
|
Accumulated other comprehensive income
Net actuarial loss and prior service cost included in accumulated other comprehensive income that were not yet recognized as components of net benefit costs were as follows:
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
2017
|
|
2016
|
|
Net actuarial loss
|
|
$
|
191,264
|
|
|
$
|
185,278
|
|
|
Prior service cost
|
|
10,201
|
|
|
6,023
|
|
|
Net amount not yet recognized
|
|
$
|
201,465
|
|
|
$
|
191,301
|
|
|
The estimated net actuarial loss and prior service cost for the pension plans that will be amortized from accumulated other comprehensive income into pension cost during
2018
is
$12.8 million
and
$1.1 million
, respectively.
Other comprehensive income
Amounts recognized in other comprehensive income for pension plans were as follows:
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
2017
|
|
2016
|
|
Net actuarial loss arising during the year
|
|
$
|
15,588
|
|
|
$
|
44,524
|
|
|
Amortization of net actuarial loss
|
|
(9,301
|
)
|
|
(8,111
|
)
|
|
Amortization of prior service cost
|
|
(871
|
)
|
|
(696
|
)
|
|
Amendments
(1)
|
|
5,050
|
|
|
2,114
|
|
|
Impact due to settlement
(2)
|
|
(302
|
)
|
|
—
|
|
|
Total recognized in other comprehensive income
|
|
$
|
10,164
|
|
|
$
|
37,831
|
|
|
|
|
(1)
|
Effective December 31, 2016, a plan amendment was adopted to enhance the surviving spouse's death benefits, which increased the pension plan obligation by
$3.6 million
and the SERP obligation by
$0.3 million
in 2017. In
2016
, a plan amendment was adopted to allow part time employees to participant in the pension plan, which added prior service cost of
$1.7 million
in
2016
. Additionally, there were
two
new SERP participants in
2017
and
one
new participant in
2016
, which contributed
$1.2 million
and
$0.4 million
, respectively.
|
|
|
(2)
|
The final SERP benefit for
two
former executives was settled with lump sum payments in
2017
.
|
Asset allocation
The employee pension plan utilizes a return seeking and a liability asset matching allocation strategy. It is based upon the understanding that 1) equity investments are expected to outperform debt investments over the long-term, 2) the potential volatility of short-term returns from equities is acceptable in exchange for the larger expected long-term returns, and 3) a portfolio structured across investment styles and markets (both domestic and foreign) reduces volatility. As a result, the employee pension plan's investment portfolio utilizes a broadly diversified asset allocation across domestic and foreign equity and debt markets. The investment portfolio is composed of commingled pools that are dedicated exclusively to the management of employee benefit plan assets.
The target and actual asset allocations for the portfolio are as follows for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Target asset
allocation
|
|
Target asset
allocation
|
|
Actual asset
allocation
|
|
Actual asset
allocation
|
|
Asset allocation:
|
|
2017
|
|
2016
|
|
2017
|
|
2016
|
|
Equity securities:
|
|
|
|
|
|
|
|
|
|
U.S. equity securities
|
|
35
|
%
|
(1)
|
35
|
%
|
|
39
|
%
|
|
38
|
%
|
|
Non-U.S. equity securities
|
|
20
|
|
(2)
|
20
|
|
|
19
|
|
|
18
|
|
|
Total equity securities
|
|
55
|
|
|
55
|
|
|
58
|
|
|
56
|
|
|
Debt securities
|
|
44
|
|
(3)
|
44
|
|
|
41
|
|
|
43
|
|
|
Other
|
|
1
|
|
(4)
|
1
|
|
|
1
|
|
|
1
|
|
|
Total
|
|
100
|
%
|
|
100
|
%
|
|
100
|
%
|
|
100
|
%
|
|
|
|
(1)
|
U.S. equity securities
–
22%
seek to achieve excess returns relative to the Russell 2000 Index, while
30%
seek to achieve excess returns relative to the S&P 500. The remaining
48%
of the allocation to U.S. equity securities are comprised of equity index funds that track the S&P 500.
|
|
|
(2)
|
Non-U.S. equity securities
–
11%
are allocated to international small cap investments, while another
11%
are allocated to international emerging market investments. The remaining
78%
of the Non-U.S. equity securities are allocated to investments seeking to achieve excess returns relative to an international market index.
|
|
|
(3)
|
Debt securities
–
44%
are allocated to long U.S. Treasury Strips,
44%
are allocated to U.S. corporate bonds with an emphasis on long duration bonds rated A or better, while the remaining
12%
are allocated to floating rate high income leverage loans.
|
|
|
(4)
|
Institutional money market fund.
|
The following tables represent the fair value measurements for the pension plan assets by major category and level of input:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2017
|
|
|
|
Fair value measurements of plan assets using:
|
|
(in thousands)
|
|
Total
|
|
Quoted prices in
active markets for
identical assets
Level 1
|
|
Significant
observable
inputs
Level 2
|
|
Significant
unobservable
inputs
Level 3
|
|
Equity securities:
|
|
|
|
|
|
|
|
|
|
U.S. equity securities
|
|
$
|
288,861
|
|
|
$
|
0
|
|
|
$
|
288,861
|
|
|
$
|
0
|
|
|
Non-U.S. equity securities
|
|
145,238
|
|
|
0
|
|
|
145,238
|
|
|
0
|
|
|
Total equity securities
|
|
434,099
|
|
|
0
|
|
|
434,099
|
|
|
0
|
|
|
Debt securities
|
|
303,331
|
|
|
0
|
|
|
303,331
|
|
|
0
|
|
|
Other
|
|
6,470
|
|
|
6,470
|
|
|
0
|
|
|
0
|
|
|
Total
|
|
$
|
743,900
|
|
|
$
|
6,470
|
|
|
$
|
737,430
|
|
|
$
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2016
|
|
|
|
Fair value measurements of plan assets using:
|
|
(in thousands)
|
|
Total
|
|
Quoted prices in
active markets for
identical assets
Level 1
|
|
Significant
observable
inputs
Level 2
|
|
Significant
unobservable
inputs
Level 3
|
|
Equity securities:
|
|
|
|
|
|
|
|
|
|
U.S. equity securities
|
|
$
|
225,446
|
|
|
$
|
0
|
|
|
$
|
225,446
|
|
|
$
|
0
|
|
|
Non-U.S. equity securities
|
|
107,953
|
|
|
0
|
|
|
107,953
|
|
|
0
|
|
|
Total equity securities
|
|
333,399
|
|
|
0
|
|
|
333,399
|
|
|
0
|
|
|
Debt securities
|
|
253,197
|
|
|
0
|
|
|
253,197
|
|
|
0
|
|
|
Other
|
|
5,948
|
|
|
5,948
|
|
|
0
|
|
|
0
|
|
|
Total
|
|
$
|
592,544
|
|
|
$
|
5,948
|
|
|
$
|
586,596
|
|
|
$
|
0
|
|
|
Estimates of fair values of the pension plan assets are obtained primarily from the trustee and custodian of our pension plan. Our Level 1 category includes a money market fund that is a mutual fund for which the fair value is determined using an exchange traded price provided by the trustee and custodian. Our Level 2 category includes commingled pools. Estimates of fair values for securities held by our commingled pools are obtained primarily from the trustee and custodian. The methodologies used by the trustee and custodian that support a financial instrument Level 2 classification include multiple verifiable, observable inputs including benchmark yields, reported trades, broker/dealer quotes, issuers spreads, two-sided markets, benchmark securities, bids, offers, and reference data.
Estimated future benefit payments
The following table sets forth amounts of benefits expected to be paid over the next
10
years from our pension plans as of December 31:
|
|
|
|
(in thousands)
|
|
|
Year ending
December 31,
|
|
Expected future
benefit payments
|
2018
|
$
|
20,739
|
2019
|
|
23,050
|
2020
|
|
25,665
|
2021
|
|
28,687
|
2022
|
|
31,650
|
2023 - 2027
|
|
210,951
|
Retiree health benefit plan
The retiree health benefit plan was terminated in 2006. We continue to provide retiree health benefits only to employees who met certain age and service requirements on or before July 1, 2010. The accumulated benefit obligation and net periodic benefit cost of this plan were not material to our financial statements.
Employee savings plan
All full-time and regular part-time employees are eligible to participate in a traditional qualified 401(k) or a Roth 401(k) savings plan. We match
100%
of the participant contributions up to
3%
of compensation and
50%
of participant contributions over
3%
and up to
5%
of compensation. Matching contributions paid to the plan were
$12.8 million
in
2017
,
$12.1 million
in
2016
, and
$11.6 million
in
2015
. The Exchange and its subsidiaries reimburse us for approximately
60%
of the matching contributions. Employees are permitted to invest the employer-matching contributions in our Class A common stock. Employees, other than executive and senior officers, may sell the shares at any time without restriction, provided they are in compliance with applicable insider trading laws; sales by executive and senior officers are subject to additional pre-clearance restrictions imposed by our insider trading policies. The plan acquires shares in the open market necessary to meet the obligations of the plan. Plan participants held
0.2 million
shares of our Class A common stock at
December 31, 2017
and
2016
.
Note 9. Incentive and Deferred Compensation Plans
We have
two
incentive plans and
two
deferred compensation plans for our executives, senior vice presidents and other selected officers, and
two
deferred compensation plans for our outside directors.
Annual incentive plan
Our annual incentive plan ("AIP") is a bonus plan that pays cash to our executives, senior vice presidents and other selected officers annually. Participants can elect to defer up to
100%
of the award under either the deferred compensation plan or the incentive compensation deferral plan, which began in 2017. The awards are based on attainment of corporate and individual performance measures, which can include various financial measures. The plan includes a funding qualifier which considers our financial results, based on operating income, before a payout can be made to plan participants. If the funding qualifier is met, plan participants are eligible to receive the incentive based upon specific performance measures. The measures are established at the beginning of each year by the Executive Compensation and Development Committee of our Board of Directors ("ECDC"), with ultimate approval by the full Board of Directors. The performance measures primarily included the growth in direct written premium and statutory combined ratio of the Exchange and its property and casualty subsidiaries for all periods presented.
Long-term incentive plan
Our long-term incentive plan ("LTIP") is a performance based incentive plan designed to reward executives, senior vice presidents and other selected officers who can have a significant impact on our long-term performance and to further align the interests of such employees with those of our shareholders. The LTIP permits grants of performance shares or units, or phantom shares to be satisfied with shares of our Class A common stock or cash payment as determined by the ECDC. Participants can elect to defer up to
100%
of the award under the incentive compensation deferral plan, which began in 2017. The ECDC determines the form of the award to be granted at the beginning of each performance period, which is generally a
three
-year period. The number of shares of the Company's common stock authorized for grant under the LTIP is
1.5 million
shares, with no one person able to receive more than
250,000
shares or the equivalent of
$5 million
during any one performance period. We repurchase our Class A common stock on the open market to settle stock awards under the plan. We do not issue new shares of common stock to settle stock awards. LTIP awards are considered vested at the end of each applicable performance period.
The LTIP provides the recipient the right to earn performance shares or units, or phantom stock based on the level of achievement of performance goals as defined by us. Performance measures and a peer group of property and casualty companies to be used for comparison are determined by the ECDC. The performance measures for all periods presented were the reported growth in direct written premium and statutory combined ratio of the Exchange and its property and casualty subsidiaries and return on invested assets over a
three
-year performance period as compared to the results of the peer group over the same period. Because the award is based upon a comparison to results of a peer group over a
three
-year period, the award accrual is based upon estimates of probable results for the remaining performance period. This estimate is subject to variability if our results or the results of the peer group are substantially different than the results we project.
The fair value of LTIP awards is measured at each reporting date at the current share price of our Class A common stock. A liability is recorded and compensation expense is recognized ratably over the performance period.
At
December 31, 2017
, the plan awards for the
2015-2017
performance period were fully vested. Distributions will be made in
2018
once peer group financial information becomes available. The estimated plan award based upon the peer group information as of
September 30, 2017
is
$8.4 million
. At
December 31, 2016
, the awards for the
2014-2016
performance period were fully vested. Participants had the option of receiving either cash or stock for the
2014-2016
and
2013-2015
awards. The cash award of
$4.7 million
was paid in
June 2017
and the stock award of
46,884
shares with an average share price of
$126.21
and a market value of
$5.9 million
was delivered to plan participants in
June 2017
. At
December 31, 2015
, the awards, granted as stock, for the
2013-2015
performance period were fully vested. The cash award of
$12.6 million
was paid in
June 2016
and the stock award of
7,661
shares with an average share price of
$96.64
and a market value of
$0.7 million
was delivered to plan participants in
June 2016
.
Earned compensation costs are allocated to related entities and reimbursed to us in cash once the payout is made. The total compensation cost charged to operations related to these LTIP awards was
$10.3 million
in
2017
,
$8.2 million
in
2016
, and
$13.4 million
in
2015
. The related tax benefits recognized in income were
$3.6 million
in
2017
,
$2.9 million
in
2016
, and
$4.7 million
in
2015
. The Exchange and its subsidiaries reimburse us for approximately
41%
of the annual compensation cost of these plans, which represents the amount of compensation expense for our employees performing claims and life insurance functions. At
December 31, 2017
, there was
$7.6 million
of total unrecognized compensation cost for non-vested LTIP awards related to open performance periods. Unrecognized compensation is expected to be recognized over a period of
two
years.
Deferred compensation plans
Our deferred compensation plan allows executives, senior vice presidents and other selected officers to elect to defer receipt of a portion of their compensation and AIP cash awards until a later date. Employer 401(k) matching contributions that are in excess of the annual contribution or compensation limits are also credited to the participant accounts for those who elected to defer receipt of some portion of their base salary. Participants select hypothetical investment funds for their deferrals which are credited with the hypothetical returns generated.
Incentive compensation deferral plan
Effective January 1, 2017, our Board of Directors approved an unfunded, non-qualified incentive compensation deferral plan for participants of the AIP and LTIP. Participants can elect to defer up to
100%
of their annual AIP award and/or up to
100%
of their LTIP award for each performance period. Deferred awards will be credited to a deferred stock account as credits denominated in Class A shares of the Company stock until retirement or other separation from service from the Company. Participants are
100%
vested at date of deferral. Vested share credits will be paid to participants upon separation from service in approximate equal annual installments of Class A shares for a period of
three
years.
Deferred compensation plans for outside directors
We have a deferred compensation plan for our outside directors that allows participants to defer receipt of a portion of their annual compensation until a later date. Participants select hypothetical investment funds for their deferrals which are credited with the hypothetical returns generated.
We also have a deferred stock compensation plan for our outside directors to further align the interests of directors with those of our shareholders that provides for a portion of the directors' annual compensation in shares of our Class A common stock.
Each director vests in the grant 25% every three months over the course of a year.
Dividends paid by us are credited to each director's account which vest immediately. We do not issue new shares of common stock to directors. Our practice is to repurchase shares of our Class A common stock in the open market to satisfy these awards.
Prior to October 2015, these shares were accounted for as a liability which was equal to the total number of share credits earned at the current fair market value. Directors were paid shares of our Class A common stock equal to the number of share credits in their deferred stock account upon ending board service.
In October 2015 we established a rabbi trust to hold the shares earned by outside directors. The rabbi trust purchased
9,663
shares of our common stock on the open market at an average price of
$121.85
for
$1.2 million
in
2017
,
7,432
shares at an average price of
$99.23
for
$0.7 million
in
2016
, and
94,938
shares at an average price of
$94.99
for
$9.0 million
in
2015
to satisfy the liability of the stock compensation plan for outside directors. The rabbi trust is classified and accounted for as equity in a manner consistent with the accounting for treasury stock. Dividends received on the shares in the rabbi trust are used to purchase additional shares. The shares are distributed to the outside director from the rabbi trust upon ending board service. The annual charge related to these awards totaled
$0.9 million
,
$0.5 million
and
$1.9 million
in
2017
,
2016
and
2015
, respectively.
On January 22, 2018, we amended the rabbi trust to permit the trust to also hold the shares earned by executives, senior vice presidents, and other selected officers who receive share awards as participants in the incentive compensation deferral plan.
The following summarizes our deferred executive and outside directors' compensation liability for
December 31
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
2017
|
|
2016
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
Annual incentive plan awards
|
|
$
|
6,118
|
|
|
$
|
6,460
|
|
|
$
|
7,057
|
|
Long-term incentive plan awards
|
|
10,931
|
|
|
11,321
|
|
|
14,228
|
|
Employer match and hypothetical earnings on deferred compensation
|
|
2,664
|
|
|
1,164
|
|
|
2,042
|
|
Total plan awards and earnings
|
|
19,713
|
|
|
18,945
|
|
|
23,327
|
|
Total plan awards paid
|
|
(20,621
|
)
|
|
(20,418
|
)
|
|
(14,317
|
)
|
Compensation deferred
|
|
680
|
|
|
1,214
|
|
|
996
|
|
Distributions from the deferred compensation plans
|
|
(853
|
)
|
|
(435
|
)
|
|
(1,688
|
)
|
Forfeitures
(1)
|
|
(593
|
)
|
|
(3,117
|
)
|
|
(821
|
)
|
Funding of rabbi trust
|
|
(1,177
|
)
|
|
(738
|
)
|
|
(9,018
|
)
|
Incentive plan and deferred compensation liabilities at end of period
|
|
$
|
30,057
|
|
|
$
|
32,908
|
|
|
$
|
37,457
|
|
(1) Forfeitures are the result of plan participants who separated from service with the Company.
Equity compensation plan
We also have an equity compensation plan ("ECP") which is designed to reward key employees, as determined by the ECDC or the chief executive officer, who can have a significant impact on our long-term performance and to further align the interests of such employees with those of our shareholders. The ECP permits grants of restricted shares, restricted share units and other share based awards, to be satisfied with shares of our Class A common stock or cash. The ECDC determines the form of the award to be granted at the beginning of each performance period. The number of shares of the Company's Class A common stock authorized for grant under the ECP is
100,000
shares, with no one person able to receive more than
5,000
shares in a calendar year. We do not issue new shares of common stock to satisfy plan awards. Share awards are settled through the repurchase of our Class A common stock on the open market.
Restricted share awards may be entitled to receive dividends payable during the performance period, or, if subject to performance goals, to receive dividend equivalents payable upon vesting. Dividend equivalents may provide for the crediting of interest or hypothetical reinvestment experience payable after expiration of the performance period.
Vesting conditions are determined at the time the award is granted and may include continuation of employment for a specific period, satisfaction of performance goals and the defined performance period, and the satisfaction of any other terms and conditions as determined to be appropriate. The plan is to remain in effect until December 31, 2022, unless earlier amended or terminated by our Board of Directors. Awards will be satisfied with shares of our Class A common stock for plan years
2017
,
2016
, and
2015
. The total number of restricted stock units granted under the plan was
4,000
in
2017
,
4,500
in
2016
, and
5,500
in
2015
. In January 2017,
3,785
Class A shares with an average share price of
$109.41
and a market value of
$0.4 million
were delivered to plan participants to satisfy the
2014
plan year award. The total compensation charged to operations related to these ECP awards was
$0.2 million
in
2017
,
$0.8 million
in
2016
, and
$0.4 million
in
2015
. The Exchange reimburses us for approximately
38%
of the annual compensation cost of these plans, which represents the amount of compensation expense for our employees performing claims functions. Unearned compensation expense of
$0.5 million
is expected to be recognized over a period of
three
years.
Note 10. Income Taxes
The provision for income taxes consists of the following for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
2017
|
|
2016
|
|
2015
|
Current income tax expense
|
|
$
|
81,689
|
|
|
$
|
109,727
|
|
|
$
|
106,155
|
|
Deferred income tax expense (benefit)
|
|
26,912
|
|
|
(2
|
)
|
|
(14,584
|
)
|
Other income tax expense
(1)
|
|
10,095
|
|
|
—
|
|
|
—
|
|
Income tax expense
|
|
$
|
118,696
|
|
|
$
|
109,725
|
|
|
$
|
91,571
|
|
|
|
(1)
|
The income tax expense for 2017 was impacted by the re-measurement of our deferred tax assets and liabilities due to the enactment of the TCJA on December 22, 2017, which reduced the corporate tax rate from
35%
to
21%
effective January 1, 2018.
|
A reconciliation of the provision for income taxes, with amounts determined by applying the statutory federal income tax rate to pre-tax income, is as follows for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
2017
|
|
2016
|
|
2015
|
Income tax at statutory rate
|
|
$
|
110,493
|
|
|
$
|
112,032
|
|
|
$
|
93,187
|
|
Change in tax rate
|
|
10,095
|
|
|
—
|
|
|
—
|
|
Tax-exempt interest
|
|
(2,278
|
)
|
|
(2,270
|
)
|
|
(2,285
|
)
|
Other, net
|
|
386
|
|
|
(37
|
)
|
|
669
|
|
Income tax expense
|
|
$
|
118,696
|
|
|
$
|
109,725
|
|
|
$
|
91,571
|
|
The change in tax rate represents the tax effect of the re-measurement of deferred tax assets and liabilities due to the enactment of the TCJA. Income tax expense increased by
$10.1 million
related to the TCJA, which included an increase of
$19.9 million
related to the re-measurement of our net deferred tax asset partially offset by a deferred tax benefit of
$9.8 million
primarily related to the acceleration of pension contributions.
Income tax amounts are estimates based on our initial analysis and current interpretation of this legislation. Given the complexity of the legislation, anticipated guidance from the U.S. Treasury, and the potential for additional guidance from the SEC or the FASB, these estimates may be adjusted during 2018.
Temporary differences and carry-forwards, which give rise to deferred tax assets and liabilities, are as follows for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
2017
(1)
|
|
2016
(1)
|
Deferred tax assets:
|
|
|
|
|
Other employee benefits
|
|
$
|
14,092
|
|
|
$
|
19,106
|
|
Pension and other postretirement benefits
(2)
|
|
22,758
|
|
|
65,241
|
|
Allowance for management fee returned on cancelled policies
|
|
3,024
|
|
|
4,795
|
|
Other
|
|
812
|
|
|
81
|
|
Total deferred tax assets
|
|
40,686
|
|
|
89,223
|
|
Deferred tax liabilities:
|
|
|
|
|
Depreciation
|
|
10,204
|
|
|
18,493
|
|
Prepaid expenses
|
|
5,568
|
|
|
8,120
|
|
Limited partnerships
|
|
4,509
|
|
|
5,597
|
|
Unrealized gains on investments
|
|
856
|
|
|
1,657
|
|
Other
|
|
159
|
|
|
1,467
|
|
Total deferred tax liabilities
|
|
21,296
|
|
|
35,334
|
|
Net deferred tax asset
|
|
$
|
19,390
|
|
|
$
|
53,889
|
|
|
|
(1)
|
Deferred tax balances were tax effected at
21%
in 2017, the corporate tax rate effective January 1, 2018, as a result of the enactment of the TCJA on December 22, 2017. For 2016, balances were tax effected at the then effective tax rate of
35%
.
|
|
|
(2)
|
Decrease in tax assets of pension and other postretirement benefits are primarily due to the
$39.9 million
of unplanned additional contributions in 2017, as well as accelerated contributions in 2018. We contributed
$40 million
in January 2018 and plan to contribute an additional
$40 million
in April 2018.
|
We had
no
valuation allowance recorded at
December 31, 2017
or
December 31, 2016
. At
December 31, 2017
, we had an uncertain tax position of
$2.3 million
, for which a current liability was recorded. As a related temporary tax difference was also recognized, there was no impact to our results of operations or financial position. We recognized interest of
$0.1 million
related to this uncertain tax position in income tax expense. The IRS has examined our tax filings through tax year ended 2012. We are currently not under IRS audit, nor have we been notified of an upcoming IRS audit.
We are the attorney-in-fact for the subscribers (policyholders) at the Exchange, a reciprocal insurance exchange. In that capacity, we provide all services and facilities necessary to conduct the Exchange's insurance business. Indemnity and the Exchange together constitute a single insurance business. Consequently, we are not subject to state corporate income or franchise taxes in states where the Exchange conducts its business and the states collect premium tax in lieu of corporate income or franchise tax, as a result of the Exchange's remittance of premium taxes in those states.
Note 11. Capital Stock
Class A and B common stock
We have two classes of common stock: Class A which has a dividend preference and Class B which has voting power and a conversion right. Each share of Class A common stock outstanding at the time of the declaration of any dividend upon shares of Class B common stock shall be entitled to a dividend payable at the same time, at the same record date, and in an amount at least equal to 2/3 of 1.0% of any dividend declared on each share of Class B common stock. We may declare and pay a dividend in respect to Class A common stock without any requirement that any dividend be declared and paid in respect to Class B common stock. Sole shareholder voting power is vested in Class B common stock except insofar as any applicable law shall permit Class A common shareholders to vote as a class in regards to any changes in the rights, preferences, and privileges attaching to Class A common stock. Holders of Class B shares may, at their option, convert their shares into Class A shares at the rate of
2,400
Class A shares per Class B share. There were
no
shares of Class B common stock converted into Class A common stock in
2017
,
2016
or
2015
.
Stock repurchases
Our Board of Directors authorized a stock repurchase program effective January 1, 1999 allowing the repurchase of our outstanding Class A nonvoting common stock. Treasury shares are recorded in the Statements of Financial Position at total cost based upon trade date. There were
no
shares repurchased under this program during
2017
or
2016
. In
October 2011
, our Board of Directors approved a continuation of the current stock repurchase program for a total of
$150 million
, with no time limitation. We had approximately
$17.8 million
of repurchase authority remaining under this program at
December 31, 2017
, based upon trade date.
In
2017
, we purchased
60,332
shares of our outstanding Class A nonvoting common stock outside of our publicly announced share repurchase program at a total cost of
$7.3 million
. Of this amount, we purchased
3,785
shares for
$0.4 million
, or
$111.55
per share, for stock-based awards in conjunction with our equity compensation plan. We purchased
9,663
shares for
$1.2 million
, or
$121.85
per share, to fund the rabbi trust for the outside director deferred stock compensation plan. The remaining
46,884
shares were purchased at a total cost of
$5.7 million
, or
$122.40
per share, for the vesting of stock-based awards in conjunction with our long-term incentive plan. These shares were delivered in 2017.
In
2016
, we purchased
15,093
shares of our outstanding Class A nonvoting common stock outside of our publicly announced share repurchase program at a total cost of
$1.5 million
. Of this amount, we purchased
7,432
shares for
$0.7 million
, or
$99.23
per share, to fund the rabbi trust for the outside director deferred stock compensation plan. The remaining
7,661
shares were purchased at a total cost of
$0.8 million
, or
$98.20
per share, for the vesting of stock-based awards in conjunction with our long-term incentive plan. These shares were delivered in 2016.
Note 12. Accumulated Other Comprehensive Income (Loss)
Changes in accumulated other comprehensive income ("AOCI") (loss) by component, including amounts reclassified to other comprehensive income ("OCI") (loss) and the related line item in the Statements of Operations where net income is presented, are as follows for the year ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2017
|
|
2016
|
|
2015
|
|
|
Before Tax
|
Income Tax
|
Net
|
|
Before Tax
|
Income Tax
|
Net
|
|
Before Tax
|
Income Tax
|
Net
|
Investment securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
AOCI, beginning of year
|
|
$
|
3,954
|
|
$
|
1,384
|
|
$
|
2,570
|
|
|
$
|
3,888
|
|
$
|
1,361
|
|
$
|
2,527
|
|
|
$
|
10,473
|
|
$
|
3,666
|
|
$
|
6,807
|
|
OCI (loss) before reclassifications - pre TCJA
(1)
|
|
(648
|
)
|
(227
|
)
|
(421
|
)
|
|
(385
|
)
|
(135
|
)
|
(250
|
)
|
|
(7,651
|
)
|
(2,678
|
)
|
(4,973
|
)
|
OCI before reclassifications - post TCJA
(1)
|
|
1,162
|
|
243
|
|
919
|
|
|
—
|
|
—
|
|
—
|
|
|
—
|
|
—
|
|
—
|
|
Realized investment (gains) losses
|
|
(1,240
|
)
|
(434
|
)
|
(806
|
)
|
|
35
|
|
12
|
|
23
|
|
|
(492
|
)
|
(172
|
)
|
(320
|
)
|
Impairment losses
|
|
182
|
|
64
|
|
118
|
|
|
416
|
|
146
|
|
270
|
|
|
1,558
|
|
545
|
|
1,013
|
|
OCI (loss)
|
|
(544
|
)
|
(354
|
)
|
(190
|
)
|
|
66
|
|
23
|
|
43
|
|
|
(6,585
|
)
|
(2,305
|
)
|
(4,280
|
)
|
Reclassification adjustment
(2)
|
|
—
|
|
(314
|
)
|
314
|
|
|
—
|
|
—
|
|
—
|
|
|
—
|
|
—
|
|
—
|
|
AOCI, end of year
|
|
$
|
3,410
|
|
$
|
716
|
|
$
|
2,694
|
|
|
$
|
3,954
|
|
$
|
1,384
|
|
$
|
2,570
|
|
|
$
|
3,888
|
|
$
|
1,361
|
|
$
|
2,527
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pension and other postretirement plans:
|
|
|
|
|
|
|
|
|
|
|
|
|
AOCI (loss), beginning of year
|
|
$
|
(190,695
|
)
|
$
|
(66,744
|
)
|
$
|
(123,951
|
)
|
|
$
|
(152,910
|
)
|
$
|
(53,519
|
)
|
$
|
(99,391
|
)
|
|
$
|
(191,552
|
)
|
$
|
(67,044
|
)
|
$
|
(124,508
|
)
|
OCI (loss) before reclassifications
|
|
(20,314
|
)
|
(7,111
|
)
|
(13,203
|
)
|
|
(46,244
|
)
|
$
|
(16,185
|
)
|
(30,059
|
)
|
|
24,094
|
|
8,433
|
|
15,661
|
|
Amortization of prior service costs
(3)
|
|
871
|
|
306
|
|
565
|
|
|
695
|
|
243
|
|
452
|
|
|
668
|
|
234
|
|
434
|
|
Amortization of net actuarial loss
(3)
|
|
8,882
|
|
3,109
|
|
5,773
|
|
|
7,764
|
|
2,717
|
|
5,047
|
|
|
13,880
|
|
4,858
|
|
9,022
|
|
Settlement loss
(3)
|
|
302
|
|
106
|
|
196
|
|
|
—
|
|
—
|
|
—
|
|
|
—
|
|
—
|
|
—
|
|
Impact of change in tax rate
(4)
|
|
—
|
|
1,436
|
|
(1,436
|
)
|
|
—
|
|
—
|
|
—
|
|
|
—
|
|
—
|
|
—
|
|
OCI (loss)
|
|
(10,259
|
)
|
(2,154
|
)
|
(8,105
|
)
|
|
(37,785
|
)
|
(13,225
|
)
|
(24,560
|
)
|
|
38,642
|
|
13,525
|
|
25,117
|
|
Reclassification adjustment
(2)
|
|
—
|
|
26,697
|
|
(26,697
|
)
|
|
—
|
|
—
|
|
—
|
|
|
—
|
|
—
|
|
—
|
|
AOCI (loss), end of year
|
|
$
|
(200,954
|
)
|
$
|
(42,201
|
)
|
$
|
(158,753
|
)
|
|
$
|
(190,695
|
)
|
$
|
(66,744
|
)
|
$
|
(123,951
|
)
|
|
$
|
(152,910
|
)
|
$
|
(53,519
|
)
|
$
|
(99,391
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
AOCI (loss), beginning of year
|
|
$
|
(186,741
|
)
|
$
|
(65,360
|
)
|
$
|
(121,381
|
)
|
|
$
|
(149,022
|
)
|
$
|
(52,158
|
)
|
$
|
(96,864
|
)
|
|
$
|
(181,079
|
)
|
$
|
(63,378
|
)
|
$
|
(117,701
|
)
|
Investment securities
|
|
(544
|
)
|
(354
|
)
|
(190
|
)
|
|
66
|
|
23
|
|
43
|
|
|
(6,585
|
)
|
(2,305
|
)
|
(4,280
|
)
|
Pension and other postretirement plans
|
|
(10,259
|
)
|
(2,154
|
)
|
(8,105
|
)
|
|
(37,785
|
)
|
(13,225
|
)
|
(24,560
|
)
|
|
38,642
|
|
13,525
|
|
25,117
|
|
OCI (loss)
|
|
(10,803
|
)
|
(2,508
|
)
|
(8,295
|
)
|
|
(37,719
|
)
|
(13,202
|
)
|
(24,517
|
)
|
|
32,057
|
|
11,220
|
|
20,837
|
|
Reclassification adjustment
(2)
|
|
—
|
|
26,383
|
|
(26,383
|
)
|
|
—
|
|
—
|
|
—
|
|
|
—
|
|
—
|
|
—
|
|
AOCI (loss), end of year
|
|
$
|
(197,544
|
)
|
$
|
(41,485
|
)
|
$
|
(156,059
|
)
|
|
$
|
(186,741
|
)
|
$
|
(65,360
|
)
|
$
|
(121,381
|
)
|
|
$
|
(149,022
|
)
|
$
|
(52,158
|
)
|
$
|
(96,864
|
)
|
|
|
(1)
|
Deferred taxes related to unrealized gains and losses for the period from December 23, 2017 through December 31, 2017 were recognized at the
21%
corporate rate following enactment of the TCJA. Prior to enactment, they were recognized at the
35%
corporate rate.
|
|
|
(2)
|
A one-time adjustment was made in the fourth quarter of 2017 to reclassify stranded tax effects of the components of AOCI resulting from enactment of TCJA from AOCI to retained earnings. As a result, the ending AOCI balances now reflect the new
21%
corporate rate, which represents the rate in which the amounts are expected to be settled. See Note 2, "Significant Accounting Policies".
|
|
|
(3)
|
These components of accumulated other comprehensive income (loss) are included in the computation of net periodic pension cost. See Note 8, "Postretirement Benefits", for additional information.
|
|
|
(4)
|
Deferred taxes related to the December 31, 2017 portion of the pension and other postretirement component recognized in AOCI of
$10.3 million
were recognized at the
21%
corporate rate following the enactment of the TCJA.
|
Note 13. Related Party
Management fee
A management fee is charged to the Exchange for services we provide under subscriber's agreements with subscribers at the Exchange. The fee is a percentage of direct and assumed premiums written by the Exchange. This percentage rate is adjusted at least annually by our Board of Directors but cannot exceed
25%
. The effective management fee rate charged the Exchange was
25%
in
2017
,
2016
and
2015
. The Board of Directors elected to maintain the fee at
25%
beginning January 1, 2018.
There is no provision in the subscriber's agreement for termination of our appointment as attorney-in-fact by the subscribers at the Exchange and the appointment is not affected by a policyholder's disability or incapacity.
Insurance holding company system
Most states have enacted legislation that regulates insurance holding company systems, defined as
two
or more affiliated persons,
one
or more of which is an insurer. The Exchange has the following wholly owned property and casualty subsidiaries: Erie Insurance Company, Erie Insurance Company of New York, Erie Insurance Property and Casualty Company and Flagship City Insurance Company, and a wholly owned life insurance company, Erie Family Life Insurance Company ("EFL"). Indemnity and the Exchange, and its wholly owned subsidiaries, meet the definition of an insurance holding company system.
Expense allocations
All claims handling services for the Exchange and its property and casualty insurance subsidiaries are performed by our employees who are entirely dedicated to claims related activities. All costs associated with these employees, including postretirement benefits, are reimbursed to us from the Exchange's revenues in accordance with the subscriber's agreement and the services agreements between us and the property and casualty insurance subsidiaries. We are reimbursed by EFL from its revenues for all costs, including postretirement benefits, associated with employees who perform life insurance related operating activities for EFL in accordance with its services agreement with us. See also Note 8, "Postretirement Benefits" for a discussion of intercompany expense allocations under the postretirement benefit plans. Investment management costs incurred by Indemnity on behalf of the Exchange and its subsidiaries are reimbursed to Indemnity in accordance with the subscriber's and services agreements, respectively. These services include Indemnity engaging third-party investment management services for several assets classes on behalf of the Exchange. Common overhead expenses and certain service department costs incurred by us on behalf of the Exchange and its wholly owned subsidiaries are reimbursed by the proper entity based upon appropriate utilization statistics (employee count, square footage, vehicle count, project hours, etc.) specifically measured to accomplish proportional allocations, which we believe are reasonable.
All reimbursements are made on an actual cost basis and do not include a profit component. We record these reimbursements as receivables from the Exchange and its subsidiaries with a corresponding reduction to our expenses. Reimbursements are settled on a monthly basis. The amounts incurred on behalf of the Exchange and its subsidiaries were as follows for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2017
|
|
2016
|
Erie Insurance Exchange
(1)
|
|
|
|
|
Operating expenses
|
|
$
|
447,953
|
|
|
$
|
429,985
|
|
Investment expenses
|
|
30,393
|
|
|
27,240
|
|
|
|
478,346
|
|
|
457,225
|
|
Erie Family Life Insurance
|
|
|
|
|
Operating expenses
|
|
$
|
41,793
|
|
|
$
|
36,818
|
|
Investment expenses
|
|
2,196
|
|
|
2,070
|
|
|
|
43,989
|
|
|
38,888
|
|
Total cash settlements
|
|
$
|
522,335
|
|
|
$
|
496,113
|
|
(1) Includes wholly owned property and casualty subsidiaries.
Office leases
We lease certain office space from the Exchange including the home office and
three
field office facilities. On April 28, 2017, after securing approval from the Pennsylvania Insurance Department, a new home office lease was executed between the Exchange and Indemnity, which was retroactive to January 1, 2017, when the prior lease expired. Under the new lease, rent is based on rental rates of like property in Erie, Pennsylvania and all operating expenses including utilities, cleaning, repairs, real estate taxes, property insurance and leasehold improvements are the responsibility of the tenant (Indemnity). This lease agreement expires December 31, 2021. Under the previous lease, rents were determined considering returns on invested capital
and included building operating and overhead costs. Rent costs and related operating expenses of shared facilities are allocated between Indemnity, Exchange and its subsidiaries based upon usage or square footage occupied. Rent expense under the new lease totaled
$6.3 million
in
2017
. Rent expenses totaled
$14.3 million
and
$12.2 million
in
2016
and
2015
, respectively, under the prior lease agreement, which included all operating expenses. Operating expenses totaled
$13.1 million
in 2017. Reimbursements from the Exchange and EFL related to the use of this space totaled
$4.6 million
in
2017
,
$4.9 million
in
2016
and
$3.6 million
in
2015
. We also have a lease commitment with EFL for a branch office until 2018. Annual rentals paid to EFL under this lease totaled
$0.4 million
in
2017
,
2016
and
2015
.
Notes receivable from EFL
We are due
$25 million
from EFL in the form of a surplus note that was issued in 2003. The note may be repaid only out of unassigned surplus of EFL. Both principal and interest payments are subject to prior approval by the Pennsylvania Insurance Commissioner. The note bears an annual interest rate of
6.7%
and will be payable on demand on or after December 31, 2018, with interest scheduled to be paid semi-annually. EFL paid annual interest to us of
$1.7 million
in
2017
,
2016
and
2015
.
Note 14. Concentrations of Credit Risk
Financial instruments could potentially expose us to concentrations of credit risk, including unsecured receivables from the Exchange. A large majority of our revenue and receivables are from the Exchange and its subsidiaries. See also Note 1, "Nature of Operations". Management fee amounts and other reimbursements due from the Exchange and its subsidiaries were
$418.3 million
and
$378.5 million
at
December 31, 2017
and
2016
, respectively.
Note 15. Commitments and Contingencies
We have contractual commitments to invest up to
$16.3 million
related to our limited partnership investments at
December 31, 2017
. These commitments are split between private equity securities of
$6.6 million
, mezzanine debt securities of
$8.2 million
, and real estate activities of
$1.5 million
. These commitments will be funded as required by the limited partnership agreements. In addition, we have commitments related to the remaining draws of the senior secured draw term loan credit facility. See Note 7, "Borrowing Arrangements".
We are involved in litigation arising in the ordinary course of conducting business. In accordance with current accounting standards for loss contingencies and based upon information currently known to us, we establish reserves for litigation when it is probable that a loss associated with a claim or proceeding has been incurred and the amount of the loss or range of loss can be reasonably estimated. When no amount within the range of loss is a better estimate than any other amount, we accrue the minimum amount of the estimable loss. To the extent that such litigation against us may have an exposure to a loss in excess of the amount we have accrued, we believe that such excess would not be material to our financial condition, results of operations, or cash flows. Legal fees are expensed as incurred. We believe that our accruals for legal proceedings are appropriate and, individually and in the aggregate, are not expected to be material to our financial condition, operations, or cash flows.
We review all litigation on an ongoing basis when making accrual and disclosure decisions. For certain legal proceedings, we cannot reasonably estimate losses or a range of loss, if any, particularly for proceedings that are in their early stages of development or where the plaintiffs seek indeterminate damages. Various factors, including, but not limited to, the outcome of potentially lengthy discovery and the resolution of important factual questions, may need to be determined before probability can be established or before a loss or range of loss can be reasonably estimated. If the loss contingency in question is not both probable and reasonably estimable, we do not establish an accrual and the matter will continue to be monitored for any developments that would make the loss contingency both probable and reasonably estimable. In the event that a legal proceeding results in a substantial judgment against, or settlement by, us, there can be no assurance that any resulting liability or financial commitment would not have a material adverse effect on our financial condition, results of operations, or cash flows.
Note 16.
Supplementary Data on Cash Flows
A reconciliation of net income to net cash provided by operating activities as presented in the Statements of Cash Flows is as follows for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
2017
|
|
2016
|
|
2015
|
Cash flows from operating activities:
|
|
|
|
|
|
|
Net income
|
|
$
|
196,999
|
|
|
$
|
210,366
|
|
|
$
|
174,678
|
|
Adjustments to reconcile net income to net cash provided by operating activities:
|
|
|
|
|
|
|
Depreciation and amortization
|
|
14,929
|
|
|
15,154
|
|
|
16,461
|
|
Deferred income tax expense (benefit)
|
|
26,912
|
|
|
(2
|
)
|
|
(14,584
|
)
|
Other income tax expense
(1)
|
|
10,095
|
|
|
—
|
|
|
—
|
|
Realized (gains) losses and impairments on investments
|
|
(1,152
|
)
|
|
(256
|
)
|
|
1,066
|
|
Equity in earnings of limited partnerships
|
|
(2,801
|
)
|
|
(7,025
|
)
|
|
(16,983
|
)
|
Net amortization of bond premium
|
|
7,038
|
|
|
7,436
|
|
|
8,160
|
|
Decrease in deferred compensation
|
|
(2,681
|
)
|
|
(4,561
|
)
|
|
(1,526
|
)
|
Limited partnership distributions
|
|
5,128
|
|
|
17,837
|
|
|
14,112
|
|
Increase in receivables from affiliates
|
|
(39,788
|
)
|
|
(30,485
|
)
|
|
(12,835
|
)
|
(Increase) decrease in accrued investment income
|
|
(516
|
)
|
|
(846
|
)
|
|
47
|
|
(Increase) decrease in federal income taxes recoverable
|
|
(24,640
|
)
|
|
6,687
|
|
|
(499
|
)
|
(Increase) decrease in prepaid pension
|
|
(27,265
|
)
|
|
10,524
|
|
|
20,307
|
|
(Increase) decrease in prepaid expenses and other assets
|
|
(7,636
|
)
|
|
(4,674
|
)
|
|
1,193
|
|
Increase in accounts payable and accrued expenses
|
|
17,183
|
|
|
11,144
|
|
|
3,633
|
|
Increase in commissions payable
|
|
17,565
|
|
|
15,017
|
|
|
5,624
|
|
Increase in accrued agent bonuses
|
|
7,756
|
|
|
8,020
|
|
|
18,524
|
|
Net cash provided by operating activities
|
|
$
|
197,126
|
|
|
$
|
254,336
|
|
|
$
|
217,378
|
|
|
|
(1)
|
Due to the enactment of the TCJA on December 22, 2017, income tax expense increased by
$10.1 million
, which included an increase of
$19.9 million
related to the re-measurement of our net deferred tax asset partially offset by a deferred tax benefit of
$9.8 million
primarily related to the acceleration of pension contributions.
|
Note 17. Quarterly Results of Operations (unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year ended December 31, 2017
|
(in thousands, except per share data)
|
|
First
quarter
|
|
Second
quarter
|
|
Third
quarter
|
|
Fourth
quarter
|
|
Year
|
Operating revenue
|
|
$
|
399,316
|
|
|
$
|
448,564
|
|
|
$
|
442,492
|
|
|
$
|
401,402
|
|
|
$
|
1,691,774
|
|
Operating expenses
|
|
332,782
|
|
|
365,520
|
|
|
361,656
|
|
|
343,444
|
|
|
1,403,402
|
|
Investment income
|
|
6,586
|
|
|
6,448
|
|
|
8,406
|
|
|
7,121
|
|
|
28,561
|
|
Interest expense, net
|
|
166
|
|
|
257
|
|
|
377
|
|
|
438
|
|
|
1,238
|
|
Income before income taxes
|
|
72,954
|
|
|
89,235
|
|
|
88,865
|
|
|
64,641
|
|
|
315,695
|
|
Net income
|
|
$
|
47,876
|
|
|
$
|
58,527
|
|
|
$
|
58,543
|
|
|
$
|
32,053
|
|
|
$
|
196,999
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share
(1)
|
|
|
|
|
|
|
|
|
|
|
Net income per share
|
|
|
|
|
|
|
|
|
|
|
Class A common stock – basic
|
|
$
|
1.03
|
|
|
$
|
1.26
|
|
|
$
|
1.26
|
|
|
$
|
0.69
|
|
|
$
|
4.23
|
|
Class A common stock – diluted
(2)
|
|
$
|
0.91
|
|
|
$
|
1.12
|
|
|
$
|
1.12
|
|
|
$
|
0.61
|
|
|
$
|
3.76
|
|
Class B common stock – basic
|
|
$
|
154
|
|
|
$
|
189
|
|
|
$
|
189
|
|
|
$
|
103
|
|
|
$
|
635
|
|
Class B common stock – diluted
|
|
$
|
154
|
|
|
$
|
188
|
|
|
$
|
189
|
|
|
$
|
103
|
|
|
$
|
634
|
|
|
|
(
1)
|
The cumulative sum of quarterly basic and diluted net income per share amounts may not equal total basic and diluted net income per share for the year due to differences in weighted average shares and equivalent shares outstanding for each of the periods presented.
|
|
|
(2)
|
Class A diluted earnings per share was reduced by
$0.19
for the fourth quarter and total year as a result of increased income tax expense from enactment of the TCJA of
$10.1 million
. See Note 3, "Earnings Per Share" and Note 10, "Income Taxes".
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year ended December 31, 2016
|
(in thousands, except per share data)
|
|
First
quarter
|
|
Second
quarter
|
|
Third
quarter
|
|
Fourth
quarter
|
|
Year
|
Operating revenue
|
|
$
|
374,728
|
|
|
$
|
423,884
|
|
|
$
|
418,406
|
|
|
$
|
379,613
|
|
|
$
|
1,596,631
|
|
Operating expenses
|
|
307,063
|
|
|
338,125
|
|
|
336,151
|
|
|
322,928
|
|
|
1,304,267
|
|
Investment income
|
|
2,559
|
|
|
7,404
|
|
|
4,326
|
|
|
13,539
|
|
|
27,828
|
|
Interest expense, net
|
|
—
|
|
|
—
|
|
|
—
|
|
|
101
|
|
|
101
|
|
Income before income taxes
|
|
70,224
|
|
|
93,163
|
|
|
86,581
|
|
|
70,123
|
|
|
320,091
|
|
Net income
|
|
$
|
45,895
|
|
|
$
|
61,309
|
|
|
$
|
57,376
|
|
|
$
|
45,786
|
|
|
$
|
210,366
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share
(1)
|
|
|
|
|
|
|
|
|
|
|
Net income per share
|
|
|
|
|
|
|
|
|
|
|
Class A common stock – basic
|
|
$
|
0.99
|
|
|
$
|
1.32
|
|
|
$
|
1.23
|
|
|
$
|
0.98
|
|
|
$
|
4.52
|
|
Class A common stock –
diluted
|
|
$
|
0.87
|
|
|
$
|
1.17
|
|
|
$
|
1.09
|
|
|
$
|
0.87
|
|
|
$
|
4.01
|
|
Class B common stock – basic
|
|
$
|
148
|
|
|
$
|
197
|
|
|
$
|
185
|
|
|
$
|
147
|
|
|
$
|
678
|
|
Class B common stock – diluted
|
|
$
|
148
|
|
|
$
|
197
|
|
|
$
|
185
|
|
|
$
|
147
|
|
|
$
|
677
|
|
|
|
(
1)
|
The cumulative sum of quarterly basic and diluted net income per share amounts may not equal total basic and diluted net income per share for the year due to differences in weighted average shares and equivalent shares outstanding for each of the periods presented.
|
Note 18.
Subsequent Events
No items were identified in this period subsequent to the financial statement date that required adjustment or disclosure, other than the disclosure made in Note 9, "Incentive and Deferred Compensation Plans" regarding the amendment to the rabbi trust agreement.