ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion of financial condition and results of operations highlights significant factors influencing Erie Indemnity Company ("Indemnity", "we", "us", "our"). This discussion should be read in conjunction with the audited financial statements and related notes and all other items contained within this Annual Report on Form 10-K as these contain important information helpful in evaluating our financial condition and results of operations.
INDEX
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
"Safe Harbor" Statement under the Private Securities Litigation Reform Act of 1995:
Statements contained herein that are not historical fact are forward-looking statements and, as such, are subject to risks and uncertainties that could cause actual events and results to differ, perhaps materially, from those discussed herein. Forward-looking statements relate to future trends, events or results and include, without limitation, statements and assumptions on which such statements are based that are related to our plans, strategies, objectives, expectations, intentions, and adequacy of resources. Examples of forward-looking statements are discussions relating to premium and investment income, expenses, operating results, and compliance with contractual and regulatory requirements. Forward-looking statements are not guarantees of future performance and involve risks and uncertainties that are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements. Among the risks and
uncertainties, in addition to those set forth in our filings with the Securities and Exchange Commission, that could cause actual results and future events to differ from those set forth or contemplated in the forward-looking statements include the following:
•dependence upon our relationship with the Erie Insurance Exchange ("Exchange") and the management fee under the agreement with the subscribers at the Exchange;
•dependence upon our relationship with the Exchange and the growth of the Exchange, including:
◦general business and economic conditions;
◦factors affecting insurance industry competition;
◦dependence upon the independent agency system; and
◦ability to maintain our reputation for customer service;
•dependence upon our relationship with the Exchange and the financial condition of the Exchange, including:
◦the Exchange's ability to maintain acceptable financial strength ratings;
◦factors affecting the quality and liquidity of the Exchange's investment portfolio;
◦changes in government regulation of the insurance industry;
◦litigation and regulatory actions;
◦emerging claims and coverage issues in the industry; and
◦severe weather conditions or other catastrophic losses, including terrorism;
•potential impacts of the COVID-19 pandemic on the growth and financial condition of the Exchange;
•costs of providing policy issuance and renewal services to the Exchange under the subscriber's agreement;
•ability to attract and retain talented management and employees;
•ability to ensure system availability and effectively manage technology initiatives;
•difficulties with technology or data security breaches, including cyber attacks;
•ability to maintain uninterrupted business operations;
•outcome of pending and potential litigation;
•potential impacts of the COVID-19 pandemic on our operations, the business operations of our customers and/or independent agents, or our third-party vendor operations;
•factors affecting the quality and liquidity of our investment portfolio; and
•our ability to meet liquidity needs and access capital.
A forward-looking statement speaks only as of the date on which it is made and reflects our analysis only as of that date. We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events, changes in assumptions, or otherwise.
RECENT ACCOUNTING STANDARDS
See Item 8. "Financial Statements and Supplementary Data - Note 2, Significant Accounting Policies, of Notes to Financial Statements" contained within this report for a discussion of recently adopted accounting standards and the impact on our financial statements.
OPERATING OVERVIEW
Overview
We are a Pennsylvania business corporation that since 1925 has been the managing attorney-in-fact for the subscribers (policyholders) at the Exchange, a reciprocal insurer that writes property and casualty insurance. Our primary function as attorney-in-fact is to perform policy issuance and renewal services on behalf of the subscribers at the Exchange. We also act as attorney-in-fact on behalf of the Exchange, as well as the service provider for its insurance subsidiaries, with respect to all administrative services.
The Exchange is a reciprocal insurance exchange, which is an unincorporated association of individuals, partnerships and corporations that agree to insure one another. Each applicant for insurance to the Exchange signs a subscriber's agreement, which contains an appointment of Indemnity as their attorney-in-fact to transact the business of the Exchange on their behalf.
Pursuant to the subscriber’s agreement for acting as attorney-in-fact in these two capacities, we earn a management fee. Management fee revenue is based upon all direct and affiliated assumed premiums written by the Exchange and the management fee rate, which is not to exceed 25%. Our Board of Directors establishes the management fee rate at least annually, generally in December for the following year. The process of setting the management fee rate includes the evaluation of current year operating results compared to both prior year and industry estimated results for both Indemnity and the Exchange, and consideration of several factors for both entities including: their relative financial strength and capital position; projected revenue, expense and earnings for the subsequent year; future capital needs; as well as competitive position. The management fee rate was set at 25% for 2020, 2019 and 2018. Our Board of Directors set the 2021 management fee rate again at 25%, its maximum level.
Our earnings are primarily driven by the management fee revenue generated for the services we provide to the Exchange. The policy issuance and renewal services we provide to 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 66% of our 2020 policy issuance and renewal expenses. The underwriting services we provide include underwriting and policy processing and comprised approximately 10% of our 2020 policy issuance and renewal 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 11% of our 2020 policy issuance and renewal expenses. Included in these expenses are allocations of costs for departments that support these policy issuance and renewal functions.
By virtue of its legal structure as a reciprocal insurer, the Exchange does not have any employees or officers. Therefore, it enters into contractual relationships by and through an attorney-in-fact. Indemnity serves as the attorney-in-fact on behalf of the Exchange with respect to its administrative services. The Exchange's insurance subsidiaries also utilize Indemnity for these services 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. Life insurance 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. Included in these expenses are allocations of costs for departments that support these administrative functions. The amounts incurred for these services are reimbursed to Indemnity at cost in accordance with the subscriber's agreement and the service agreements. State insurance regulations require that intercompany service agreements and any material amendments be approved in advance by the state insurance department.
Our results of operations are tied to the growth and financial condition of the Exchange as the Exchange is our sole customer, and our earnings are largely generated from management fees based on the direct and affiliated assumed premiums written by the Exchange. The Exchange generates revenue by insuring preferred and standard risks, with personal lines comprising 71% of the 2020 direct and affiliated assumed written premiums and commercial lines comprising the remaining 29%. The principal personal lines products are private passenger automobile and homeowners. The principal commercial lines products are commercial multi-peril, commercial automobile and workers compensation.
We generate investment income from our fixed maturity and equity security portfolios. Our portfolio is managed with the objective of maximizing after-tax returns on a risk-adjusted basis. We actively evaluate the portfolios for securities in an unrealized loss position and record impairment write-downs on investments in instances where we have the intent to sell or it's more likely than not that we would be required to sell the security. Impairments resulting from a credit loss are recognized in earnings with a corresponding allowance on the balance sheet.
Coronavirus ("COVID-19") Pandemic
On March 11, 2020, the outbreak of the coronavirus ("COVID-19") was declared a global pandemic. The significant volatility in the financial markets, economic disruption and uncertainty resulting from the COVID-19 pandemic that began in the first quarter of 2020 continues to evolve and the pandemic’s ultimate impact and duration remain highly uncertain at this time.
The impact the COVID-19 pandemic has on the premiums written by the Exchange, our sole customer, affects our management fee revenue. While the Exchange experienced declines in new business premiums in the first half of 2020 due to business disruptions and recessionary conditions, new business premiums grew 10.8% in the second half of 2020 compared to the same period in 2019, primarily driven by growth in the personal auto and homeowners lines of business. The uncertainty of the ongoing impacts of the COVID-19 pandemic will likely continue in 2021 and may continue until such time as the spread of the virus is contained. In response to reduced driving conditions resulting from the COVID-19 pandemic, the Exchange implemented $200 million in personal and commercial auto rate reductions, which became effective in the third quarter of 2020, resulting in a decrease of approximately $90 million in the Exchange written premiums and a corresponding decrease of approximately $22 million in our management fee revenue in 2020. The remainder of the rate reductions will impact the Exchange’s written premiums and our corresponding management fee revenue in 2021. There may also be other market and/or regulatory pressures that could impact the Exchange’s operations. In 2020, within our cost of operations, we incurred increased agent incentive costs as lower claim frequency resulted in improved agent profitability. We also incurred additional technology costs in support of remote working conditions for our employees. These expenses, among others, could continue to persist as the full extent and duration of the pandemic’s impacts remain uncertain. While the financial market volatility created by the COVID-19 pandemic had a negative impact on our investment portfolio in the first quarter of 2020, markets substantially recovered through the remainder of the year, resulting in overall realized and unrealized gains in 2020. We could experience future losses and/or impairments to the portfolio given the pandemic’s impact on market conditions. We have provided additional disclosure of these impacted areas throughout our Management’s Discussion and Analysis that follows. A broader discussion of the potential future impacts has also been disclosed in the Financial Condition, Liquidity and Capital Resources, and Part I, Item 1A. "Risk Factors" related to COVID-19 contained within this report.
We have a dedicated internal committee comprised of management from various finance disciplines reviewing our risk positions and emerging trends on an ongoing basis as circumstances are evolving. The committee is reviewing risk scenarios and performing stress tests, including the review of cash flow trends, liquidity requirements and other forms of risk quantification. This provides tools for management, as well as our Risk Committee of the Board of Directors, to assess risks and prioritize key issues.
While we were not required to close our physical locations under the state mandated closure of nonessential services, out of concern for the health and safety of our employees, over 90% of our workforce has been working remote since March 2020. We have had no significant interruption to our core business processes or systems to date. We have had no significant changes to our financial close or reporting processes or related internal controls, nor do we anticipate any significant future challenges at this time. We have a dedicated team developing a return to the office plan that will be implemented when it becomes feasible and safe.
Financial Overview
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Years ended December 31,
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(dollars in thousands, except per share data)
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2020
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% Change
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2019
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% Change
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2018
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Operating income
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$
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338,157
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(5.4)
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%
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$
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357,339
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3.8
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%
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$
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344,343
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Total investment income
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32,867
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(17.8)
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39,967
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54.9
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25,796
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Interest expense, net
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731
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(14.7)
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856
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(65.2)
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2,460
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Other (expense) income
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(1,778)
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NM
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255
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(93.0)
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3,641
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Income before income taxes
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368,515
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(7.1)
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396,705
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6.8
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371,320
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Income tax expense
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75,211
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(5.8)
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79,884
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(3.9)
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83,096
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Net income
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$
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293,304
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(7.4)
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%
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$
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316,821
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9.9
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%
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$
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288,224
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Net income per share - diluted
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$
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5.61
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(7.4)
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%
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$
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6.06
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9.9
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%
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$
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5.51
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NM = not meaningful
Operating income decreased in 2020 compared to 2019 as growth in operating expenses outpaced the growth in operating revenues. Management fee revenue is based upon the management fee rate we charge and the direct and affiliated assumed premiums written by the Exchange. The management fee rate was 25% for 2020, 2019, and 2018. The direct and affiliated assumed premiums written by the Exchange increased 1.7% to $7.6 billion in 2020 and 5.2% to $7.5 billion in 2019.
Cost of operations for policy issuance and renewal services increased 3.3% to $1.6 billion in 2020 primarily due to higher commissions driven by direct and affiliated assumed written premium growth, higher agent incentive compensation driven by lower automobile claims frequency experienced by the Exchange, and higher personnel costs. Cost of operations for policy issuance and renewal services increased 5.5% to $1.5 billion in 2019 driven primarily by higher commissions and higher investments in information technology, partially offset by lower agent and employee incentive costs related to less profitable growth on the property and casualty insurance business of the Exchange.
Management fee revenue for administrative services increased 4.0% to $59.5 million in 2020 compared to 6.7% to $57.2 million in 2019. The administrative services reimbursement revenue and corresponding cost of operations increased both total operating revenue and total operating expenses to $609.4 million in 2020 and $582.0 million in 2019, but had no net impact on operating income.
Total investment income decreased $7.1 million in 2020 primarily driven by higher impairments and lower net investment income reflecting lower interest rates due to market volatility caused by the COVID-19 pandemic. Total investment income increased $14.2 million in 2019 primarily driven by net realized investment gains and higher net investment income.
Income tax expense was $75.2 million in 2020 compared to $79.9 million in 2019. Income tax expense was reduced in 2019 by $4.0 million as a result of settling an uncertain tax position, which decreased our effective tax rate by 1.0%.
General Conditions and Trends Affecting Our Business
Economic conditions
Unfavorable changes in economic conditions, including declining consumer confidence, inflation, high unemployment, and the threat of recession, among others, may lead the Exchange’s customers to modify coverage, not renew policies, or even cancel policies, which could adversely affect the premium revenue of the Exchange, and consequently our management fee. The extent to which economic conditions could impact the Exchange’s operations and our management fee was exacerbated with the COVID-19 pandemic. The extent and duration of the impacts to economic conditions remain uncertain as the pandemic continues to evolve. See Financial Condition, Liquidity and Capital Resources, and Part I, Item 1A. "Risk Factors" contained within this report for a discussion of the potential impacts of the COVID-19 pandemic on our operations.
Financial market volatility
Our portfolio of fixed maturity and equity security investments is subject to market volatility especially in periods of instability in the worldwide financial markets. Over time, net investment income could also be impacted by volatility and by the general level of interest rates, which impact reinvested cash flow from the portfolio and business operations. Depending upon market conditions, which are unpredictable and remain uncertain, considerable fluctuation could exist in the fair value of our investment portfolio and reported total investment income, which could have an adverse impact on our financial condition, results of operations, and cash flows. Significant volatility has been seen in the global financial markets since the outbreak of the COVID-19 pandemic. The extent of the impact on our invested assets cannot be estimated with a high degree of certainty at this time given the ongoing developments of this pandemic and the related impacts on the financial markets.
CRITICAL ACCOUNTING ESTIMATES
The financial statements include amounts based upon estimates and assumptions that have a significant effect on reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period and related disclosures. We consider an accounting estimate to be critical if 1) it requires assumptions to be made that were uncertain at the time the estimate was made, and 2) different estimates that could have been used, or changes in the estimate that are likely to occur from period-to-period, could have a material impact on our Statements of Operations or Financial Position.
The following presents a discussion of those accounting policies surrounding estimates that we believe are the most critical to our reported amounts and require the most subjective and complex judgment. If actual events differ significantly from the underlying assumptions, there could be material adjustments to prior estimates that could potentially adversely affect our results of operations, financial condition, and cash flows. The estimates and the estimating methods used are reviewed continually, and any adjustments considered necessary are reflected in current earnings.
Investment Valuation
Available-for-sale securities
We make estimates concerning the valuation of all investments. Valuation techniques are used to derive the fair value of the available-for-sale securities we hold. Fair value is the price that would be received to sell an asset in an orderly transaction between willing market participants at the measurement date.
Fair value measurements are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect our view of market assumptions in the absence of observable market information. We utilize valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs.
For purposes of determining whether the market is active or inactive, the classification of a financial instrument is based upon the following definitions:
•An active market is one in which transactions for the assets being valued occur with sufficient frequency and volume to provide reliable pricing information.
•An inactive (illiquid) market is one in which there are few and infrequent transactions, where the prices are not current, price quotations vary substantially, and/or there is little information publicly available for the asset being valued.
We continually assess whether or not an active market exists for all of our investments and as of each reporting date re-evaluate the classification in the fair value hierarchy. All assets carried at fair value are classified and disclosed in one of the following three categories:
•Level 1 – Quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity can access at the measurement date.
•Level 2 – Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.
•Level 3 – Unobservable inputs for the asset or liability.
Level 1 reflects market data obtained from independent sources, such as prices obtained from an exchange or a nationally recognized pricing service for identical instruments in active markets and primarily includes preferred stock.
Level 2 includes those financial instruments that are valued using industry-standard models that consider various inputs, such as the interest rate and credit spread for the underlying financial instruments. All significant inputs are observable, or derived from observable information in the marketplace, or are supported by observable levels at which transactions are executed in the marketplace. Financial instruments in this category primarily include corporate bonds, structured securities and preferred stock.
Level 3 securities are valued based upon unobservable inputs, reflecting our estimates of value based upon assumptions used by market participants. Securities are also assigned to Level 3 in cases where non-binding broker quotes are significant to the valuation and there is a lack of transparency as to whether these quotes are based upon information that is observable in the marketplace. Fair value estimates for securities valued using unobservable inputs require significant judgment due to the
illiquid nature of the market for these securities and represent the best estimate of the fair value that would occur in an orderly transaction between willing market participants at the measurement date under current market conditions. Fair value for these securities is generally valued using an estimate of fair value based upon indicative market prices that include significant unobservable inputs not based upon, nor corroborated by, market information, including the utilization of discounted cash flow analyses which have been risk-adjusted to take into account illiquidity and other market factors. This category primarily consists of structured securities and corporate bonds.
As of each reporting period, financial instruments recorded at fair value are classified based upon the lowest level of input that is significant to the fair value measurement. The presence of at least one unobservable input that has significant impact to the fair value measurement would result in classification as a Level 3 instrument. Our assessment of the significance of a particular input to the fair value measurement requires judgment, and considers factors specific to the asset, such as the relative impact on the fair value as a result of including a particular input and market conditions. We did not make any other significant judgments except as described above.
Estimates of fair values for our investment portfolio are obtained primarily from a nationally recognized pricing service. Our Level 1 securities are valued using an exchange traded price provided by the pricing service. Pricing service valuations for Level 2 securities 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.
Although virtually all of our prices are obtained from third party sources, we also perform internal pricing reviews, including evaluating the methodology and inputs used to ensure that we determine the proper classification level of the financial instrument and reviewing securities with price changes that vary significantly from current market conditions or independent price sources. Price variances are investigated and corroborated by market data and transaction volumes. We have reviewed the pricing methodologies of our pricing service as well as other observable inputs and believe that the prices adequately consider market activity in determining fair value.
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.
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. As of December 31, 2020, nearly all of our available-for-sale and equity securities were priced using a third party pricing service.
Impairments
Available-for-sale securities in an unrealized loss position are evaluated to determine whether the impairment is a result of credit loss or other factors. If we have the intent to sell or it's more likely than not that we would be required to sell the security before recovery of the amortized cost basis, the entire impairment is recognized in earnings. Securities that have experienced a decline in fair value 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 credit related. Impairment resulting from a credit loss is recognized in earnings with a corresponding allowance on the balance sheet. Future recoveries of credit loss result in an adjustment to the allowance and earnings in the period the credit conditions improve. Factors considered in the evaluation of credit loss include the extent to which fair value is less than cost and fundamental factors specific to the issuer such as financial condition, changes in credit ratings, near and long-term business prospects and other factors, as well as the likelihood of recovery of the amortized cost of the security. If the qualitative review indicates credit impairment, the allowance for credit loss is measured as the amount that the security’s amortized cost exceeds the present value of cash flows expected to be collected and is limited to the amount that fair value is below amortized cost.
Retirement Benefit Plans for Employees
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. 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 includes pension benefits for employees performing administrative services and the Exchange's allocated share of costs for employees in departments that support the administrative functions.
Our pension obligation is developed from actuarial estimates. Several statistical and other factors, which attempt to anticipate future events, are used in calculating the expense and liability related to the plans. Key factors include assumptions about the discount rates and expected rates of return on plan assets. We review these assumptions annually and modify them considering historical experience, current market conditions, including changes in investment returns and interest rates, and expected future trends.
Accumulated and projected benefit obligations are expressed as the present value of future cash payments. We discount those cash payments based upon a yield curve developed from corporate bond yield information with maturities that correspond to the payment of benefits. Lower discount rates increase present values and subsequent year pension expense, while higher discount rates decrease present values and subsequent year pension expense. The construction of the yield curve is based upon yields of corporate bonds rated AA or equivalent quality. Target yields are developed from bonds at various maturity points and a curve is fitted to those targets. Spot rates (zero coupon bond yields) are developed from the yield curve and used to discount benefit payment amounts associated with each future year. The present value of plan benefits is calculated by applying the spot/discount rates to projected benefit cash flows. A single discount rate is then developed to produce the same present value. The cash flows from the yield curve were matched against our projected benefit payments in the pension plan, which have a duration of about 19 years. This yield curve supported the selection of a 2.96% discount rate for the projected benefit obligation at December 31, 2020 and for the 2021 pension expense. The same methodology was used to develop the 3.59% and 4.47% discount rates used to determine the projected benefit obligation for 2019 and 2018, respectively, and the pension expense for 2020 and 2019, respectively. A 25 basis point decrease in the discount rate assumption, with other assumptions held constant, would increase pension cost in the following year by $6.8 million, of which our share would be approximately $2.8 million, and would increase the pension benefit obligation by $61.6 million.
Unrecognized actuarial gains and losses arise from several factors, including experience and assumption changes in the obligations and from the difference between expected returns and actual returns on plan assets. These unrecognized gains and losses are recorded in the pension plan obligation and accumulated other comprehensive income (loss). These amounts are systematically recognized to net periodic pension expense in future periods, with gains decreasing and losses increasing future pension expense. If actuarial net gains or losses exceed 5% of the greater of the projected benefit obligation and the market-related value of plan assets, the excess is recognized through the net periodic pension expense equally over the estimated service period of the employee group, which is currently 14 years.
The expected long-term rate of return for the pension plan 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. The expected long-term rate of return is less susceptible to annual revisions, as there are typically no significant changes in the asset mix. Based on the current asset allocation and a review of the key factors and expectations of future asset performance, we reduced the expected return on asset assumption from 6.00% to 5.50% for 2021. A change of 25 basis points in the expected long-term rate of return assumption, with other assumptions held constant, would have an estimated $2.3 million impact on net pension benefit cost in the following year, of which our share would be approximately $0.9 million.
We use a four-year averaging method to determine the market-related value of plan assets, which is used to determine the expected return component of pension expense. Under this methodology, asset gains or losses that result from returns that differ from our long-term rate of return assumption are recognized in the market-related value of assets on a level basis over a four-year period. The market-related asset experience during 2020 that related to the actual investment return being different from that assumed during the prior year was a gain of $146.3 million. Recognition of this gain will be deferred and recognized over a four-year period, consistent with the market-related asset value methodology. Once factored into the market-related asset value, these experience gains and losses will be amortized over a period of 14 years, which is the remaining service period of the employee group.
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 mutual fund and a separate account 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. Trustee and custodian valuation methodologies for Level 2 securities 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. There were no Level 3 investments in 2020 or 2019.
We expect our net pension benefit costs to increase from $45.1 million in 2020 to $56.6 million in 2021 primarily driven by the decrease in the discount rate. Our share of the net pension benefit costs after reimbursements was $18.5 million in 2020. We expect our share of the net pension benefit costs to be approximately $23.2 million in 2021.
The actuarial assumptions we used in determining our pension obligation may differ materially from actual results due to changing market and economic conditions, higher or lower withdrawal rates, or longer or shorter life spans of participants. While we believe that the assumptions used are appropriate, differences in actual experience or changes in assumptions may materially affect our financial position, results of operations, or cash flows. See Item 8. "Financial Statements and Supplementary Data - Note 10, Postretirement Benefits, of Notes to Financial Statements" contained within this report for additional details on the pension plans.
RESULTS OF OPERATIONS
Management fee revenue
We have two performance obligations in the subscriber’s agreement, providing policy issuance and renewal services and acting as attorney-in-fact for the Exchange, as well as the service provider for its insurance subsidiaries, with respect to all administrative services. We earn management fees for acting as the attorney-in-fact for the subscribers at the Exchange in these two capacities. Our revenues are allocated between the two performance obligations.
Management fee rate
The management fee is calculated by multiplying all direct and affiliated assumed premiums written by the Exchange by the management fee rate, which is determined by our Board of Directors at least annually. The management fee rate was set at 25%, the maximum rate, for 2020, 2019 and 2018. Changes in the management fee rate can affect our revenue and net income significantly. The transaction price for management fee revenue and administrative service reimbursement revenue is allocated based on the estimated standalone selling prices developed using industry information and other available information for similar services. We update the transaction price allocation annually based upon the most recent information available or more frequently if there have been significant changes in any components considered in the transaction price. In 2020, we reviewed the transaction price allocation quarterly to consider the most current economic conditions related to the COVID-19 pandemic. The reviews resulted in no material change to the allocation.
The following table presents the allocation and disaggregation of revenue for our two performance obligations:
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Years ended December 31,
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(dollars in thousands)
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2020
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% Change
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2019
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% Change
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2018
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Policy issuance and renewal services
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|
|
|
|
|
|
|
|
Direct and affiliated assumed premiums written by the Exchange
|
|
$
|
7,613,519
|
|
|
1.7
|
|
%
|
|
$
|
7,486,030
|
|
|
5.2
|
|
%
|
|
$
|
7,112,846
|
|
Management fee rate
|
|
24.2
|
%
|
|
|
|
|
24.2
|
%
|
|
|
|
|
24.2
|
%
|
Management fee revenue
|
|
1,842,472
|
|
|
1.7
|
|
|
|
1,811,619
|
|
|
5.2
|
|
|
|
1,721,309
|
|
Change in allowance for management fee returned on cancelled policies (1)
|
|
(678)
|
|
|
41.7
|
|
|
|
(1,162)
|
|
|
33.3
|
|
|
|
(1,742)
|
|
Management fee revenue - policy issuance and renewal services, net
|
|
$
|
1,841,794
|
|
|
1.7
|
|
%
|
|
$
|
1,810,457
|
|
|
5.3
|
|
%
|
|
$
|
1,719,567
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Administrative services
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct and affiliated assumed premiums written by the Exchange
|
|
$
|
7,613,519
|
|
|
1.7
|
|
%
|
|
$
|
7,486,030
|
|
|
5.2
|
|
%
|
|
$
|
7,112,846
|
|
Management fee rate
|
|
0.8
|
%
|
|
|
|
|
0.8
|
%
|
|
|
|
|
0.8
|
%
|
Management fee revenue
|
|
60,908
|
|
|
1.7
|
|
|
|
59,888
|
|
|
5.2
|
|
|
|
56,903
|
|
Change in contract liability (2)
|
|
(1,376)
|
|
|
47.8
|
|
|
|
(2,633)
|
|
|
17.9
|
|
|
|
(3,209)
|
|
Change in allowance for management fee returned on cancelled policies (1)
|
|
(69)
|
|
|
(34.6)
|
|
|
|
(51)
|
|
|
17.0
|
|
|
|
(62)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Management fee revenue - administrative services, net
|
|
59,463
|
|
|
4.0
|
|
|
|
57,204
|
|
|
6.7
|
|
|
|
53,632
|
|
Administrative services reimbursement revenue
|
|
609,435
|
|
|
4.7
|
|
|
|
582,010
|
|
|
0.3
|
|
|
|
580,336
|
|
Total revenue from administrative services
|
|
$
|
668,898
|
|
|
4.6
|
|
%
|
|
$
|
639,214
|
|
|
0.8
|
|
%
|
|
$
|
633,968
|
|
(1) Management fees are returned to the Exchange when policies are cancelled mid-term and unearned premiums are refunded. We record an estimated allowance for management fees returned on mid-term policy cancellations. This estimated allowance has been allocated between the two performance obligations consistent with the revenue allocation proportion. The potential for a greater number of mid-term cancellations as a result of the COVID-19 pandemic was taken into consideration in the determination of this allowance in 2020.
(2) Management fee revenue - administrative services is recognized over time as the services are performed. See Item 8. "Financial Statements - Note 3, Revenue, of Notes to Financial Statements" contained within this report.
Direct and affiliated assumed premiums written by the Exchange
Direct and affiliated assumed premiums include premiums written directly by the Exchange and premiums assumed from its wholly owned property and casualty subsidiaries. Direct and affiliated assumed premiums written by the Exchange increased 1.7% to $7.6 billion in 2020, from $7.5 billion in 2019, driven by an increase in policies in force. Year-over-year policies in force for all lines of business increased 2.1% in 2020 as the result of continuing strong policyholder retention, compared to 1.8% in 2019. The year-over-year average premium per policy for all lines of business decreased 0.4% at December 31, 2020, compared to an increase of 3.2% at December 31, 2019. The year-over-year average premium per policy at December 31, 2020 was impacted by the rate reductions for personal and commercial auto policies as a result of the COVID-19 pandemic.
Premiums generated from new business decreased 1.2% to $852 million in 2020. While new business policies written increased 5.0 % in 2020, year-over-year average premium per policy on new business decreased 5.9% at December 31, 2020, driven by the personal and commercial auto rate reductions which took effect in the third quarter of 2020. Premiums generated from new business decreased 2.6% to $863 million in 2019. While year-over-year average premium per policy on new business increased 5.1% at December 31, 2019, new business policies written decreased 7.4% in 2019.
Premiums generated from renewal business increased 2.1% to $6.8 billion in 2020, compared to 6.4%, or $6.6 billion, in 2019. Underlying the trend in renewal business premiums were increases in average premium per policy and steady policy retention ratios. The renewal business year-over-year average premium per policy increased 0.4% at December 31, 2020, compared to 2.9% at December 31, 2019.
The Exchange implements rate changes in order to meet loss cost expectations. As the Exchange writes policies with annual terms only, rate actions take 12 months to be fully recognized in written premium and 24 months to be recognized in earned premiums. Since rate changes are realized at renewal, it takes 12 months to implement a rate change to all policyholders and another 12 months to earn the increased or decreased premiums in full. As a result, certain rate changes approved in 2019 were reflected in 2020, and a portion of the rate actions in 2020, primarily those in response to reduced driving conditions resulting from the COVID-19 pandemic, will be reflected in 2021. The Exchange continuously evaluates pricing and product offerings to meet consumer demands.
Personal lines – Total personal lines premiums written increased 1.3% to $5.4 billion in 2020, from $5.3 billion in 2019, driven by an increase in total personal lines policies in force of 2.2%. While the impacts of the COVID-19 pandemic, including changes in consumer behavior and driving patterns, among others, significantly reduced new personal policies written in the second quarter of 2020, new personal policies written increased 20.7% in the second half of 2020, compared to the same period last year. Total personal lines year-over-year average premium per policy decreased 0.8% at December 31, 2020, compared to the prior year, driven by personal auto rate reductions. Total personal lines policies in force increased 1.8% in 2019 and year-over-year average premium per policy increased 2.9% at December 31, 2019.
Commercial lines – Total commercial lines premiums written increased 2.6% to $2.2 billion in 2020, compared to 2019, driven by a 1.6% increase in total commercial lines policies in force and a 0.9% increase in the total commercial lines year-over-year average premium per policy. While there was a significant reduction in new commercial policies written in the second quarter of 2020 as a result of the business disruptions and unfavorable economic conditions related to the COVID-19 pandemic, new commercial policies written increased 2.4% in the second half of 2020 compared to the same period last year. The second half of 2020 activity was primarily driven by an increase in commercial auto policies written which was partially offset by a decrease in workers compensation policies written. Total commercial lines premiums written increased 6.1% in 2019, compared to 2018, driven by a 2.4% increase in total commercial lines policies in force and a 3.6% increase in the total commercial lines year-over-year average premium per policy.
Future trends-premium revenue – Through a careful agency selection process, the Exchange plans to continue its effort to expand the size of its agency force to increase market penetration in existing operating territories to contribute to future growth. While our agents initially experienced business declines resulting from disruptions created by the COVID-19 pandemic, there have been no significant disruptions in their operations. The continued impacts of the COVID-19 pandemic could make it difficult for our independent agents to write new business and retain existing business and/or constrain our ability to recruit new agents.
Changes in premium levels attributable to the growth in policies in force directly affect the profitability of the Exchange and have a direct bearing on our management fee. Our continued focus on underwriting discipline and the maturing of pricing sophistication models have contributed to the Exchange's steady policy retention ratios. The continued growth of its policy base is dependent upon the Exchange's ability to retain existing and attract new subscribers/policyholders. A lack of new policy growth or the inability to retain existing customers could have an adverse effect on the Exchange's premium level growth, and consequently our management fee.
Changes in premium levels attributable to rate changes also directly affect the profitability of the Exchange and have a direct bearing on our management fee. Pricing actions contemplated or taken by the Exchange are subject to various regulatory requirements of the states in which it operates. The pricing actions already implemented, or to be implemented, have an effect on the market competitiveness of the Exchange's insurance products. Such pricing actions, and those of the Exchange's competitors, could affect the ability of the Exchange's agents to retain and attract new business; additionally, exposure reductions and/or changes in mix of business as a result of economic conditions could impact the average premium written and affiliated assumed by the Exchange, as customers may reduce coverages.
The COVID-19 pandemic may have a negative impact on the Exchange's premiums, and therefore our management fees, given recessionary economic conditions and related declines in consumer activity and demand for certain services, as well as the potential for sustained changes in driving patterns. The remaining rate reductions implemented for personal and commercial auto policies in response to the COVID-19 pandemic are estimated to decrease premiums by $110 million with a corresponding decrease of $28 million in management fee revenue in 2021. Future premiums could also be impacted by potential regulatory changes resulting from the COVID-19 pandemic.
The extent of the impact to the Exchange's premiums and our management fee cannot be estimated with a high degree of certainty at this time given the ongoing developments related to this pandemic. See also Part I, Item 1A. "Risk Factors" contained within this report.
Policy issuance and renewal services
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years ended December 31,
|
(dollars in thousands)
|
|
2020
|
|
% Change
|
|
2019
|
|
% Change
|
|
2018
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Management fee revenue - policy issuance and renewal services, net
|
|
$
|
1,841,794
|
|
|
1.7
|
|
%
|
|
$
|
1,810,457
|
|
|
5.3
|
|
%
|
|
$
|
1,719,567
|
|
Service agreement revenue
|
|
25,797
|
|
|
(6.6)
|
|
|
|
27,627
|
|
|
(3.7)
|
|
|
|
28,677
|
|
|
|
1,867,591
|
|
|
1.6
|
|
|
|
1,838,084
|
|
|
5.1
|
|
|
|
1,748,244
|
|
Cost of policy issuance and renewal services
|
|
1,588,897
|
|
|
3.3
|
|
|
|
1,537,949
|
|
|
5.5
|
|
|
|
1,457,533
|
|
Operating income - policy issuance and renewal services
|
|
$
|
278,694
|
|
|
(7.1)
|
|
%
|
|
$
|
300,135
|
|
|
3.2
|
|
%
|
|
$
|
290,711
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Policy issuance and renewal services
We allocate a portion of the management fee, which currently equates to 24.2% of the direct and affiliated assumed premiums written by the Exchange, for providing policy issuance and renewal services. This portion of the management fee is recognized as revenue when the policy is issued or renewed because it is at that time that the services we provide are substantially complete and the executed insurance policy is transferred to the customer. The increase in management fee revenue for policy issuance and renewal services was driven by the increase in the direct and affiliated assumed premiums written by the Exchange discussed previously.
Service agreement revenue
Service agreement revenue includes service charges we collect from subscribers/policyholders for providing extended payment terms on policies written and affiliated assumed by the Exchange, and late payment and policy reinstatement fees. The service charges are fixed dollar amounts per billed installment. The decrease in service agreement revenue reflects the continued shift to payment plans that do not incur service charges or offer a premium discount for certain payment methods.
Cost of policy issuance and renewal services
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years ended December 31,
|
(dollars in thousands)
|
|
2020
|
|
% Change
|
|
2019
|
|
% Change
|
|
2018
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commissions:
|
|
|
|
|
|
|
|
|
|
|
|
|
Total commissions
|
|
$
|
1,051,272
|
|
|
2.6
|
|
%
|
|
$
|
1,024,654
|
|
|
4.2
|
|
%
|
|
$
|
983,758
|
|
Non-commission expense:
|
|
|
|
|
|
|
|
|
|
|
|
|
Underwriting and policy processing
|
|
$
|
160,646
|
|
|
3.7
|
|
%
|
|
$
|
154,934
|
|
|
3.8
|
|
%
|
|
$
|
149,234
|
|
Information technology
|
|
173,827
|
|
|
3.7
|
|
|
|
167,600
|
|
|
16.0
|
|
|
|
144,495
|
|
Sales and advertising
|
|
53,212
|
|
|
1.6
|
|
|
|
52,362
|
|
|
(5.8)
|
|
|
|
55,608
|
|
Customer service
|
|
34,638
|
|
|
7.1
|
|
|
|
32,353
|
|
|
9.9
|
|
|
|
29,447
|
|
Administrative and other
|
|
115,302
|
|
|
8.7
|
|
|
|
106,046
|
|
|
11.6
|
|
|
|
94,991
|
|
Total non-commission expense
|
|
537,625
|
|
|
4.7
|
|
|
|
513,295
|
|
|
8.3
|
|
|
|
473,775
|
|
Total cost of policy issuance and renewal services
|
|
$
|
1,588,897
|
|
|
3.3
|
|
%
|
|
$
|
1,537,949
|
|
|
5.5
|
|
%
|
|
$
|
1,457,533
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commissions – Commissions increased $26.6 million in 2020 compared to 2019 resulting from higher direct and affiliated assumed premiums written by the Exchange and higher agent incentive compensation. The Exchange experienced a significant decrease in automobile claims frequency and related loss expense beginning in March 2020 that continued through May 2020 driven by the COVID-19 pandemic, which contributed to an increase in the profitability component of the agent incentive bonuses. Claims frequency increased in June 2020 and maintained consistent levels through the remainder of 2020. Commissions increased $40.9 million in 2019 compared to 2018 resulting from higher direct and affiliated assumed premiums written by the Exchange, somewhat offset by lower agent incentive costs related to less profitable growth.
Non-commission expense – Non-commission expense increased $24.3 million in 2020 compared to 2019. Underwriting and policy processing costs increased $5.7 million primarily due to increased personnel costs and underwriting report costs. Information technology costs increased $6.2 million primarily due to increased personnel costs and hardware and software costs. Administrative and other expenses increased $9.3 million primarily driven by increased personnel costs. Increased personnel costs in all categories included higher incentive plan award accruals related to underwriting performance in 2020
compared to targets and higher vacation accruals as employees took less vacation in 2020 as a result of the COVID-19 pandemic.
In 2019, non-commission expense increased $39.5 million compared to 2018. Underwriting and policy processing costs increased $5.7 million primarily due to increased underwriting report costs and other policy acquisition costs. Information technology costs increased $23.1 million primarily due to increased professional fees and hardware and software costs. Sales and advertising costs decreased $3.2 million due to decreased personnel costs. Customer service costs increased $2.9 million primarily due to increased credit card processing fees and personnel costs. Administrative and other expenses increased $11.1 million primarily driven by an increase in the long-term incentive plan costs due to a higher company stock price in 2019 compared to 2018 and several multi-year commitments made to support community development initiatives. Personnel costs in all expense categories were impacted by increased medical expenses, somewhat offset by lower estimated costs for incentive plans related to sales and underwriting performance in 2019 compared to targets.
Administrative services
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years ended December 31,
|
(dollars in thousands)
|
|
2020
|
|
% Change
|
|
2019
|
|
% Change
|
|
2018
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Management fee revenue - administrative services, net
|
|
$
|
59,463
|
|
|
4.0
|
|
%
|
|
$
|
57,204
|
|
|
6.7
|
|
%
|
|
$
|
53,632
|
|
Administrative services reimbursement revenue
|
|
609,435
|
|
|
4.7
|
|
|
|
582,010
|
|
|
0.3
|
|
|
|
580,336
|
|
Total revenue allocated to administrative services
|
|
668,898
|
|
|
4.6
|
|
|
|
639,214
|
|
|
0.8
|
|
|
|
633,968
|
|
Administrative services expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
Claims handling services
|
|
525,072
|
|
|
3.7
|
|
|
|
506,491
|
|
|
0.1
|
|
|
|
505,843
|
|
Investment management services
|
|
36,835
|
|
|
9.5
|
|
|
|
33,640
|
|
|
4.9
|
|
|
|
32,065
|
|
Life management services
|
|
47,528
|
|
|
13.5
|
|
|
|
41,879
|
|
|
(1.3)
|
|
|
|
42,428
|
|
Operating income - administrative services
|
|
$
|
59,463
|
|
|
4.0
|
|
%
|
|
$
|
57,204
|
|
|
6.7
|
|
%
|
|
$
|
53,632
|
|
Administrative services
We allocate a portion of the management fee, which currently equates to 0.8% of the direct and affiliated assumed premiums written by the Exchange, to the administrative services. This portion of the management fee is recognized as revenue over a four-year period representing the time over which the services are provided. We also report reimbursed costs as revenues, which are recognized monthly as services are provided.
Cost of administrative services
By virtue of its legal structure as a reciprocal insurer, the Exchange does not have any employees or officers. Therefore, it enters into contractual relationships by and through an attorney-in-fact. Indemnity serves as the attorney-in-fact on behalf of the Exchange with respect to its administrative services in accordance with the subscriber's agreement. The Exchange's insurance subsidiaries also utilize Indemnity for these services in accordance with the service agreements between each of the subsidiaries and Indemnity. The amounts incurred for these services are reimbursed to Indemnity at cost in accordance with the subscriber's agreement and the service agreements. We record these reimbursements due from the Exchange and its insurance subsidiaries as a receivable.
Total investment income
A summary of the results of our investment operations is as follows for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(dollars in thousands)
|
|
2020
|
|
% Change
|
|
2019
|
|
% Change
|
|
2018
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net investment income
|
|
$
|
29,753
|
|
|
(12.6)
|
|
%
|
|
$
|
34,059
|
|
|
15.9
|
|
%
|
|
$
|
29,387
|
|
Net realized investment gains (losses)
|
|
6,392
|
|
|
4.7
|
|
|
|
6,103
|
|
|
NM
|
|
|
(2,010)
|
|
Net impairment losses recognized in earnings
|
|
(3,278)
|
|
|
NM
|
|
|
(195)
|
|
|
NM
|
|
|
(1,581)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total investment income
|
|
$
|
32,867
|
|
|
(17.8)
|
|
%
|
|
$
|
39,967
|
|
|
54.9
|
|
%
|
|
$
|
25,796
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NM = not meaningful
Net investment income
Net investment income primarily includes interest and dividends on our fixed maturity and equity security portfolios, net of investment expenses. Net investment income decreased by $4.3 million in 2020, compared to 2019, primarily due to decreased income from cash and cash equivalents driven by lower rates and invested balances, somewhat offset by increased preferred stock income resulting from higher invested balances. Net investment income increased by $4.7 million in 2019, compared to 2018, primarily due to an increase in cash and cash equivalent and agent loan interest income reflecting higher invested balances and rates, somewhat offset by decreased income on fixed maturities due to lower invested balances and yields.
Net realized investment gains (losses)
A breakdown of our net realized investment gains (losses) is as follows for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2020
|
|
2019
|
|
2018
|
|
|
|
|
|
|
|
Securities sold:
|
|
|
|
|
|
|
Available-for-sale securities
|
|
$
|
1,335
|
|
|
$
|
4,619
|
|
|
$
|
(1,297)
|
|
Equity securities
|
|
(713)
|
|
|
(1)
|
|
|
(111)
|
|
|
|
|
|
|
|
|
Equity securities change in fair value
|
|
5,769
|
|
|
1,485
|
|
|
(708)
|
|
|
|
|
|
|
|
|
Miscellaneous
|
|
1
|
|
|
—
|
|
|
106
|
|
Net realized investment gains (losses)
|
|
$
|
6,392
|
|
|
$
|
6,103
|
|
|
$
|
(2,010)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized gains of $6.4 million in 2020 were primarily due market value adjustments on equity securities and from the sale of available-for-sale securities. Net realized gains of $6.1 million in 2019 were primarily due to gains from sales of available-for-sale securities and increases in fair value of equity securities, while losses of $2.0 million in 2018 were due to losses from sales of available-for-sale and equity securities and decreases in fair value of equity securities.
Net impairment losses recognized in earnings
Net impairment losses recognized on available-for-sale securities in 2020 include $2.3 million of securities in an unrealized loss position where we had intent to sell prior to recovery of our amortized cost basis and $0.7 million of credit impairment losses. The remaining impairments include the change in the current expected credit loss allowance related to our agent loans. The COVID-19 pandemic's impact on financial markets contributed to higher impairment losses on our available-for-sale securities during 2020 compared to prior years. Net impairment losses recognized in 2019 and 2018 included securities in an unrealized loss position that we intended to sell prior to expected recovery of our amortized cost basis as well as securities in an unrealized loss position where we determined the loss was other-than-temporary based on credit factors.
Financial Condition of Erie Insurance Exchange
Serving in the capacity of attorney-in-fact for the Exchange, we are dependent on the growth and financial condition of the Exchange, who is our sole customer. The strength of the Exchange and its wholly owned subsidiaries is rated annually by A.M. Best Company through assessing its financial stability and ability to pay claims. The ratings are generally based upon factors relevant to policyholders and are not directed toward return to investors. The Exchange and each of its property and casualty subsidiaries are rated A+ "Superior", the second highest financial strength rating, which is assigned to companies that have achieved superior overall performance when compared to the standards established by A.M. Best and have a superior ability to meet obligations to policyholders over the long term. On July 8, 2020, the outlook for the financial strength rating was affirmed as stable. As of December 31, 2020, only approximately 12% of insurance groups, in which the Exchange is included, are rated A+ or higher.
The financial statements of the Exchange are prepared in accordance with statutory accounting principles prescribed by the Commonwealth of Pennsylvania. Financial statements prepared under statutory accounting principles focus on the solvency of the insurer and generally provide a more conservative approach than under U.S. generally accepted accounting principles. Statutory direct written premiums of the Exchange and its wholly owned property and casualty subsidiaries grew 1.7% to $7.6 billion in 2020 from $7.5 billion in 2019. These premiums, along with investment income, are the major sources of cash that support the operations of the Exchange. Policyholders' surplus, determined under statutory accounting principles, was $10.7 billion and $9.5 billion at December 31, 2020 and 2019, respectively. The Exchange and its wholly owned property and casualty subsidiaries' year-over-year policy retention ratio continues to be high at 89.9% at December 31, 2020 and 90.0% at December 31, 2019.
We have prepared our financial statements considering the financial strength of the Exchange based on its A.M. Best rating and strong level of surplus. We are monitoring risks related to the COVID-19 pandemic on an ongoing basis and believe that the Exchange falls within established risk tolerances. However, see Part I, Item 1A. "Risk Factors" for possible outcomes that could impact that determination.
FINANCIAL CONDITION
Investments
Our investment portfolio is managed with the objective of maximizing after-tax returns on a risk-adjusted basis. The following table presents the carrying value of our investments as of December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(dollars in thousands)
|
|
2020
|
|
% to
total
|
|
2019
|
|
% to
total
|
Fixed maturities
|
|
$
|
928,236
|
|
|
84
|
%
|
|
$
|
730,701
|
|
|
82
|
%
|
Equity securities:
|
|
|
|
|
|
|
|
|
Preferred stock
|
|
94,071
|
|
|
9
|
|
|
64,752
|
|
|
7
|
|
Common stock
|
|
19
|
|
|
0
|
|
|
2,381
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Agent Loans (1)
|
|
69,212
|
|
|
6
|
|
|
67,696
|
|
|
8
|
|
Other investments
|
|
14,325
|
|
|
1
|
|
|
28,205
|
|
|
3
|
|
Total investments
|
|
$
|
1,105,863
|
|
|
100
|
%
|
|
$
|
893,735
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)The current portion of agent loans is included with prepaid expenses and other current assets in the Statements of Financial Position.
We continually review our investment portfolio for impairment and determine whether the impairment is a result of credit loss or other factors. We individually analyze all positions with an emphasis on those in a significant unrealized loss position. If we have the intent to sell or it's more likely than not that we would be required to sell the security before recovery of the amortized cost basis, the entire impairment is recognized in earnings. Factors considered in the evaluation of credit loss include the extent to which fair value is less than cost and fundamental factors specific to the issuer such as financial condition, changes in credit ratings, near and long-term business prospects and other factors, as well as the likelihood of recovery of the amortized cost of the security. Impairment resulting from credit loss is recognized in earnings with a corresponding allowance on the balance sheet. We believe our investment valuation philosophy and accounting practices result in appropriate and timely measurement of fair value and recognition of impairment.
Fixed maturities
Under our investment strategy, we maintain a fixed maturity portfolio that is of high quality and well diversified within each market sector. This investment strategy also achieves a balanced maturity schedule. Our fixed maturity portfolio is managed with the goal of achieving reasonable returns while limiting exposure to risk.
Fixed maturities are carried at fair value with unrealized gains and losses, net of deferred taxes, included in shareholders' equity. Net unrealized gains on fixed maturities, net of deferred taxes, totaled $23.3 million at December 31, 2020, compared to net unrealized gains of $4.5 million at December 31, 2019.
The following table presents a breakdown of the fair value of our fixed maturity portfolio by industry sector and rating as of December 31, 2020: (1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
|
Non-investment
|
|
Fair
|
|
|
AAA
|
|
AA
|
|
A
|
|
BBB
|
|
grade
|
|
value
|
Basic materials
|
|
$
|
0
|
|
|
$
|
0
|
|
|
$
|
3,277
|
|
|
$
|
4,053
|
|
|
$
|
8,911
|
|
|
$
|
16,241
|
|
Communications
|
|
0
|
|
|
8,932
|
|
|
8,661
|
|
|
22,451
|
|
|
18,973
|
|
|
59,017
|
|
Consumer
|
|
0
|
|
|
3,246
|
|
|
25,221
|
|
|
66,057
|
|
|
43,391
|
|
|
137,915
|
|
Diversified
|
|
0
|
|
|
0
|
|
|
0
|
|
|
1,072
|
|
|
423
|
|
|
1,495
|
|
Energy
|
|
0
|
|
|
7,548
|
|
|
4,701
|
|
|
18,288
|
|
|
11,424
|
|
|
41,961
|
|
Financial
|
|
0
|
|
|
1,035
|
|
|
59,632
|
|
|
117,261
|
|
|
12,393
|
|
|
190,321
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Industrial
|
|
0
|
|
|
0
|
|
|
10,220
|
|
|
14,851
|
|
|
18,465
|
|
|
43,536
|
|
Structured securities (2)
|
|
146,270
|
|
|
168,083
|
|
|
34,018
|
|
|
13,439
|
|
|
0
|
|
|
361,810
|
|
Technology
|
|
0
|
|
|
5,311
|
|
|
12,308
|
|
|
18,448
|
|
|
11,388
|
|
|
47,455
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Utilities
|
|
0
|
|
|
0
|
|
|
3,945
|
|
|
18,997
|
|
|
5,543
|
|
|
28,485
|
|
Total
|
|
$
|
146,270
|
|
|
$
|
194,155
|
|
|
$
|
161,983
|
|
|
$
|
294,917
|
|
|
$
|
130,911
|
|
|
$
|
928,236
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) Ratings are supplied by S&P, Moody’s, and Fitch. The table is based upon the lowest rating for each security.
(2) Structured securities include residential and commercial mortgage-backed securities, collateralized debt obligations, and asset-backed securities.
Equity Securities
Equity securities consist of nonredeemable preferred and common stock and are carried at fair value in the Statements of Financial Position with all changes in unrealized gains and losses reflected in the Statements of Operations.
The following table presents an analysis of the fair value of our nonredeemable preferred and common stock securities by sector as of December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2020
|
|
2019
|
|
|
|
|
Preferred Stock
|
|
Common
stock
|
|
Preferred Stock
|
|
Common
stock
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Communications
|
|
$
|
2,699
|
|
|
$
|
0
|
|
|
$
|
1,052
|
|
|
$
|
2,381
|
|
|
|
Consumer
|
|
3,068
|
|
|
0
|
|
|
508
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Energy
|
|
2,187
|
|
|
19
|
|
|
1,881
|
|
|
0
|
|
|
|
Financial services
|
|
76,575
|
|
|
0
|
|
|
53,513
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Industrial
|
|
800
|
|
|
0
|
|
|
980
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Utilities
|
|
8,742
|
|
|
0
|
|
|
6,818
|
|
|
0
|
|
|
|
Total
|
|
$
|
94,071
|
|
|
$
|
19
|
|
|
$
|
64,752
|
|
|
$
|
2,381
|
|
|
|
Shareholders' Equity
Postretirement benefit plans
The funded status of our postretirement benefit plans is recognized in the Statements of Financial Position, with a corresponding adjustment to accumulated other comprehensive income (loss), net of tax. At December 31, 2020, shareholders' equity amounts related to these postretirement plans increased by $20.0 million, net of tax, of which $10.6 million represents amortization of the prior service cost and net actuarial loss and $9.4 million represents the current period actuarial gain. The actuarial gain was driven by higher than expected returns on assets which exceeded losses incurred as a result of the lower discount rate in 2020. At December 31, 2019, shareholders' equity amounts related to these postretirement plans increased by $1.7 million, net of tax, of which $4.9 million represents amortization of the prior service cost and net actuarial loss offset by $3.2 million of current period actuarial loss. The 2019 actuarial loss was primarily due to the change in the discount rate assumption used to measure the future benefit obligations to 3.59% in 2019, from 4.47% in 2018. 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 includes pension benefits for employees performing administrative services and their allocated share of costs for employees in departments that support the administrative functions.
Home Office Expansion
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. On January 1, 2019, the Credit Facility converted to a fully-amortized term loan with monthly payments of principal and interest at a fixed rate of 4.35% over a period of 28 years. We capitalized applicable interest charges incurred during the construction period of long-term building projects as part of the historical cost of the asset. The building was completed in the fourth quarter of 2020.
LIQUIDITY AND CAPITAL RESOURCES
While we did not see a significant impact on our sources or uses of cash in 2020 as a result of the COVID-19 pandemic, we may experience future reductions in our management fee revenue if the Exchange’s premium growth is constrained. Also, future disruptions in the markets could occur which may affect our liquidity position. Accordingly, we continue to monitor the sufficiency of our liquidity and capital resources given the potential impact of the COVID-19 pandemic. There is potential that the funding requirements for our costs of operations will increase related to agent compensation and technology costs, among others. If our normal operating and investing cash activities were to become insufficient to meet future funding requirements, we believe we have sufficient access to liquidity through our cash position, liquid marketable securities and our $100 million line of credit that does not expire until October 2023. See broader discussions of potential risks to our operations in the Operating Overview and Part I, Item 1A. "Risk Factors" contained within this report.
Sources and Uses of Cash
Liquidity is a measure of a company's ability to generate sufficient cash flows to meet the short- and long-term cash requirements of its business operations and growth needs. Our liquidity requirements have been met primarily by funds generated from management fee revenue and income from investments. Cash provided from these sources is used primarily to fund the costs of our management operations including commissions, salaries and wages, pension plans, share repurchases, dividends to shareholders, and the purchase and development of information technology. We expect that our operating cash needs will be met by funds generated from operations.
Volatility in the financial markets presents challenges to us as we do occasionally access our investment portfolio as a source of cash. Some of our fixed income investments, despite being publicly traded, may be illiquid. Volatility in these markets could impair our ability to sell certain of our fixed income securities or cause such securities to sell at deep discounts. We believe we have sufficient liquidity to meet our needs from sources other than the liquidation of securities, even if market volatility persists throughout 2021 and beyond.
Cash flow activities
The following table provides condensed cash flow information for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2020
|
|
2019
|
|
2018
|
Net cash provided by operating activities
|
|
$
|
342,595
|
|
|
$
|
364,527
|
|
|
$
|
263,585
|
|
Net cash used in investing activities
|
|
(243,225)
|
|
|
(124,634)
|
|
|
(81,398)
|
|
Net cash used in financing activities
|
|
(274,869)
|
|
|
(169,571)
|
|
|
(131,491)
|
|
Net (decrease) increase in cash
|
|
$
|
(175,499)
|
|
|
$
|
70,322
|
|
|
$
|
50,696
|
|
Net cash provided by operating activities was $342.6 million in 2020, compared to $364.5 million in 2019 and $263.6 million in 2018. Decreased cash provided by operating activities in 2020 was primarily due to an increase in cash paid for agent commissions of $33.3 million due to higher scheduled commissions driven by premium growth, increased general operating expenses paid of $17.4 million and increased administrative services expenses paid of $16.2 million. Offsetting the decrease in cash provided by operating activities was an increase of $42.5 million in management fee received driven by growth in direct and affiliated assumed premiums written by the Exchange, compared to 2019. Increased cash provided by operating activities in 2019 was primarily due to an increase of $93.8 million in management fee revenue received driven by growth in direct and affiliated assumed premiums written by the Exchange and a decrease in pension contributions and employee benefits paid of $72.8 million, driven by the $80 million accelerated pension contribution in 2018. Offsetting the increase in cash provided by operating activities was increased cash paid for agent commissions of $41.8 million due to higher scheduled commissions driven by premium growth, compared to 2018.
Net cash used in investing activities totaled $243.2 million in 2020, compared to $124.6 million in 2019 and $81.4 million in 2018. Net cash used in investing activities increased in 2020 as purchases of available-for-sale securities exceeded the proceeds generated from investment sales and maturities/calls of available-for-sale securities. Fixed asset purchases decreased $46.5 million in 2020 compared to 2019 primarily due to the completion of the new home office building in the fourth quarter of 2020 which was funded primarily by the senior secured draw term loan credit facility. In 2019, we generated more proceeds from investment activity, which were offset by higher purchases of available-for-sale securities and equity securities due to portfolio rebalancing. Fixed asset purchases also increased primarily related to the new home office building.
Net cash used in financing activities totaled $274.9 million in 2020, compared to $169.6 million in 2019 and $131.5 million in 2018. The increase in cash used in 2020, compared to 2019, was due to an increase in dividends paid to shareholders. In
addition to the normal quarterly dividends paid in 2020, the Board also declared a special one-time cash dividend of $2.00 on each Class A share and $300 on each Class B share totaling $93.1 million, which was paid in December 2020. The increase in cash used in 2019, compared to 2018, was due to an increase in dividends paid to shareholders and principal payments on the senior secured draw term loan credit facility, which commenced January 1, 2019.
No shares of our Class A nonvoting common stock were repurchased in 2020, 2019 and 2018 in conjunction with our stock repurchase program. In 2011, our Board of Directors approved a continuation of the current stock repurchase program for a total of $150 million with no time limitation. This repurchase authority includes, and is not in addition to, any unspent amounts remaining under the prior authorization. We had approximately $17.8 million of repurchase authority remaining under this program at December 31, 2020, based upon trade date.
We purchase shares of our outstanding Class A nonvoting common stock outside of our publicly announced share repurchase program for certain stock-based incentive plans. We purchased 31,248 shares for $5.8 million in 2020, 15,003 shares for $2.6 million in 2019 and 27,120 shares for $3.2 million in 2018 to settle awards for our equity compensation plan and to fund the rabbi trust for the outside director deferred stock compensation plan and the incentive compensation deferral plan. All shares were delivered in the year they were purchased.
Capital Outlook
We regularly prepare forecasts evaluating the current and future cash requirements for both normal and extreme risk events, including the current COVID-19 pandemic. Should an extreme risk event result in a cash requirement exceeding normal cash flows, we have the ability to meet our future funding requirements through various alternatives available to us.
Outside of our normal operating and investing cash activities, future funding requirements could be met through: 1) cash and cash equivalents, which total approximately $161.2 million at December 31, 2020, 2) a $100 million bank revolving line of credit, and 3) liquidation of unpledged assets held in our investment portfolio, including preferred and common stock and investment grade bonds which totaled approximately $646.4 million at December 31, 2020. Volatility in the financial markets could impair our ability to sell certain fixed income securities or cause such securities to sell at deep discounts. Additionally, we have the ability to curtail or modify discretionary cash outlays such as those related to shareholder dividends and share repurchase activities.
As of December 31, 2020, we have access to a $100 million bank revolving line of credit with a $25 million letter of credit sublimit that expires on October 30, 2023. As of December 31, 2020, a total of $99.1 million remains available under the facility due to $0.9 million outstanding letters of credit, which reduce the availability for letters of credit to $24.1 million. We had no borrowings outstanding on our line of credit as of December 31, 2020. Investments with a fair value of $124.9 million were pledged as collateral on the line at December 31, 2020. These securities have no trading restrictions and are reported as available-for-sale securities and cash and cash equivalents in the Statements of Financial Position. The bank requires compliance with certain covenants, which include leverage ratios and debt restrictions. We were in compliance with our bank covenants at December 31, 2020.
Contractual Obligations
We have certain obligations and commitments to make future payments under various contracts. As of December 31, 2020, the aggregate obligations were as follows:
|
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|
|
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments due by period
|
(in thousands)
|
|
Total
|
|
2021
|
|
2022-2023
|
|
2024-2025
|
|
2026 and thereafter
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term debt (1)
|
|
$
|
160,648
|
|
|
$
|
6,183
|
|
|
$
|
12,366
|
|
|
$
|
12,366
|
|
|
$
|
129,733
|
|
Home office expansion (2)
|
|
13,556
|
|
|
13,556
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating leases (3)
|
|
14,537
|
|
|
10,817
|
|
|
3,452
|
|
|
89
|
|
|
179
|
|
Other commitments (4)
|
|
385,707
|
|
|
244,638
|
|
|
125,434
|
|
|
14,977
|
|
|
658
|
|
Gross contractual obligations (5)
|
|
574,448
|
|
|
275,194
|
|
|
141,252
|
|
|
27,432
|
|
|
130,570
|
|
Estimated reimbursements from affiliates (6)
|
|
114,293
|
|
|
68,694
|
|
|
38,891
|
|
|
6,318
|
|
|
390
|
|
Net contractual obligations
|
|
$
|
460,155
|
|
|
$
|
206,500
|
|
|
$
|
102,361
|
|
|
$
|
21,114
|
|
|
$
|
130,180
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
|
|
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|
|
(1) Long-term debt amount differs from the balance presented on the Statements of Financial Position as the amount in the table above includes interest and principal payments.
(2) We agreed to the guaranteed maximum price terms of an agreement with our construction manager for the construction of the office building that will serve as part of our principal headquarters. The building was completed in the fourth quarter of 2020. Commitments due in 2021 represent settlement of final construction costs. This project is primarily being funded by the senior secured draw term loan credit facility included in long-term debt in the table above. Included in these amounts are obligations for furniture and fixtures and information technology costs for the office building.
(3) Operating leases represent the total commitment for the lease components of our operating lease agreements. Non-lease component commitments related to these contracts are included in other commitments. See Item 8. "Financial Statements and Supplementary Data - Note 2, Significant Accounting Policies and Note 8, Leases, of Notes to Financial Statements" contained within this report.
(4) Other commitments include various agreements for services, including information technology, support, and maintenance obligations, and other obligations in the ordinary course of business. These agreements are enforceable and legally binding and specify fixed or minimum quantities to be purchased and the approximate timing of the transaction. The table above also includes agreements that contain cancellation provisions, some of which may require us to pay a termination fee. The amounts under such contracts are included in the table above as we expect to make future cash payments according to the contract terms.
(5) The obligation for our unfunded Supplemental Employee Retirement Plan (SERP) for our executive and senior management is not included in gross contractual obligations. The accumulated benefit obligation for this plan at December 31, 2020 is $26.5 million. We expect to have sufficient cash flows from operations to meet the future benefit payments as these become due.
(6) We are reimbursed from the Exchange and its subsidiaries for a portion of the costs related to other commitments and operating leases.
Our funding policy for our defined benefit pension plan is generally to contribute an amount equal to the greater of the target normal cost for the plan year, or the amount necessary to fund the plan to 100%. Historically, this has resulted in an annual pension contribution. In 2018, however, we made accelerated pension contributions totaling $80 million. Following our 2018 contribution, 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%.
Off-Balance Sheet Arrangements
Off-balance sheet arrangements include those with unconsolidated entities that may have a material current or future effect on our financial condition or results of operations, including material variable interests in unconsolidated entities that conduct certain activities. We have no material off-balance sheet obligations.
Enterprise Risk Management
The role of our Enterprise Risk Management ("ERM") function is to ensure that all significant risks are clearly identified, understood, proactively managed and consistently monitored to achieve strategic objectives for all stakeholders. Our ERM program views risk holistically across our entire group of companies. It ensures implementation of risk responses to mitigate potential impacts. See Part I, Item 1A. "Risk Factors" contained in this report for a list of risk factors.
Our ERM process is founded on a governance framework that includes oversight at multiple levels of our organization, including our Board of Directors and executive management. Accountability to identify, manage, and mitigate risk is embedded within all functions and areas of our business. We have defined risk tolerances to monitor and manage significant risks within acceptable levels. In addition to identifying, evaluating, prioritizing, monitoring, and mitigating significant risks, our ERM process includes extreme event analyses and scenario testing. Given our defined tolerance for risk, risk model output is used to quantify the potential variability of future performance and the sufficiency of capital and liquidity levels.
TRANSACTIONS/AGREEMENTS WITH RELATED PARTIES
Board Oversight
Our Board of Directors has a broad oversight responsibility over our intercompany relationships with the Exchange. As a consequence, our Board of Directors may be required to make decisions or take actions that may not be solely in the interest of our shareholders, such as setting the management fee rate paid by the Exchange to us and ratifying any other significant activity.
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 & Casualty Company and Flagship City Insurance Company, and a wholly owned life insurance company, Erie Family Life Insurance Company. Indemnity and the Exchange, and its wholly owned subsidiaries, meet the definition of an insurance holding company system.
All transactions within a holding company system affecting the member insurers of the holding company system must be fair and reasonable and any charges or fees for services performed must be reasonable. Approval by the applicable insurance commissioner is required prior to the consummation of transactions affecting the members within a holding company system.
Intercompany Agreements
Subscriber's and services agreements
We serve as attorney-in-fact for the subscribers at the Exchange, a reciprocal insurance exchange. Each applicant for insurance to a reciprocal insurance exchange signs a subscriber's agreement that contains an appointment of an attorney-in-fact. Through the designation of attorney-in-fact, we are required to provide policy issuance and renewal services and act as the attorney-in-fact for the Exchange with respect to all administrative services, as discussed previously. Pursuant to the subscriber's agreement, we earn a management fee for these services calculated as a percentage of the direct and affiliated assumed premiums written by the Exchange. By virtue of its legal structure as a reciprocal insurer, the Exchange does not have any employees or officers. Therefore, it enters into contractual relationships by and through the attorney-in-fact. The Exchange's insurance subsidiaries also utilize Indemnity for all administrative services in accordance with the service agreements between each of the subsidiaries and Indemnity. The amounts incurred for all administrative services are reimbursed to Indemnity at cost in accordance with the subscriber's agreement and the service agreements. These reimbursements are settled on a monthly basis. State insurance regulations require that intercompany service agreements and any material amendments be approved in advance by the state insurance department.
Leased property
We lease the home office from the Exchange. Rent is based on rental rates of like property in Erie, Pennsylvania and all operating expenses including utilities, cleaning, repairs, real estate taxes, and property insurance are the responsibility of the tenant (Indemnity). Rental costs of shared facilities are allocated based upon usage or square footage occupied. We also had a lease commitment with EFL for a field office until 2018.
We previously owned three field offices for which rental costs of shared facilities were allocated based upon usage or square footage occupied. In 2018, we sold the three field offices to the Exchange at the current independent appraised value in order to align the ownership interest of these facilities with the functions being performed at these locations, which are claims-related activities.
Cost Allocation
The allocation of costs affects our financial condition and that of the Exchange and its wholly owned subsidiaries. Management's role is to determine that allocations are consistently made in accordance with the subscriber's agreement with the subscribers at the Exchange, intercompany service agreements, and applicable insurance laws and regulations. Allocation of costs under these various agreements requires judgment and interpretation, and such allocations are performed using a consistent methodology, which is intended to adhere to the terms and intentions of the underlying agreements.
Intercompany Receivables
We have significant receivables from the Exchange and its affiliates that result in a concentration of credit risk. Net receivables from the Exchange and other affiliates were $494.6 million, or 23.4% of total assets, at December 31, 2020 and $468.6 million, or 23.2% of total assets, at December 31, 2019. These receivables include management fees due for policy issuance and renewal services performed by us under the subscriber's agreement, and certain costs we incur acting as the attorney-in-fact on behalf of the Exchange as well as the service provider for its insurance subsidiaries with respect to all administrative services,
as discussed previously. These receivables from the Exchange and its affiliates are settled monthly. We continually monitor the financial strength of the Exchange.
Surplus Note
We previously held a $25 million surplus note issued to us by EFL that was payable on demand on or after December 31, 2018. In 2018, EFL, with the appropriate approval from the Pennsylvania Insurance Commissioner, satisfied its obligation and repaid the surplus note. EFL paid related interest to us of $1.6 million in 2018.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Shareholders of Erie Indemnity Company
Opinion on the Financial Statements
We have audited the accompanying statements of financial position of Erie Indemnity Company (the "Company") as of December 31, 2020 and 2019, the related statements of operations, comprehensive income, shareholders’ equity and cash flows for each of the three years in the period ended December 31, 2020, and the related notes (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2020, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated February 25, 2021 expressed an unqualified opinion thereon.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures include examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
|
|
|
|
|
|
|
|
|
|
|
Proportional Cost Allocation
|
Description of the Matter
|
|
For the year ended December 31, 2020, the Company’s administrative services reimbursement revenue totaled $609.4 million. The Company’s primary function, as attorney-in-fact, is to perform certain services on behalf of the subscribers at the Erie Insurance Exchange (Exchange) and its insurance subsidiaries, in accordance with the Subscriber’s Agreement and the service agreements with each of the Exchange’s insurance subsidiaries. As explained in Note 2 of the financial statements, pursuant to approved service agreements, administrative services, which include costs associated with claims handling services, life insurance related operating activities, investment management, and operating overhead incurred by the Company on behalf of the Exchange and its insurance subsidiaries, are reimbursed to the Company at cost and recorded as administrative services reimbursement revenue. To determine the proportional cost allocation to each entity, the Company determines utilization statistics using numerous variables including, among others, employee count, square footage, vehicle count, and project hours.
Auditing management’s proportional cost allocations was complex due to the number of costs that are included in the allocations and the judgment applied in determining the utilization statistics used to determine the proportional allocations to each entity.
|
How We Addressed the Matter in Our Audit
|
|
We obtained an understanding, evaluated the design and tested the operating effectiveness of controls over the Company’s proportional cost allocations process. This included, among others, testing management’s review controls over the determination of the utilization statistics and ultimate allocation of costs to the Exchange and its insurance subsidiaries.
To test the Company’s proportional cost allocations, our procedures included, among others, evaluating that the costs included in the allocations are in accordance with the Subscriber’s Agreement and the service agreements with each of the Exchange’s insurance subsidiaries. We tested the completeness and accuracy of the costs subjected to allocation through testing of the reconciliation of the costs recorded in the source systems to the costs that are allocated. We evaluated the allocation of costs to the Exchange and its insurance subsidiaries with the costs allocated in prior periods.
|
/s/ Ernst & Young LLP
We have served as the Company's auditor since 2003.
Cleveland, OH
February 25, 2021
ERIE INDEMNITY COMPANY
STATEMENTS OF OPERATIONS
Years ended December 31, 2020, 2019 and 2018
(dollars in thousands, except per share data)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2020
|
|
2019
|
|
2018
|
Operating revenue
|
|
|
|
|
|
|
Management fee revenue - policy issuance and renewal services, net
|
|
$
|
1,841,794
|
|
|
$
|
1,810,457
|
|
|
$
|
1,719,567
|
|
Management fee revenue - administrative services, net
|
|
59,463
|
|
|
57,204
|
|
|
53,632
|
|
Administrative services reimbursement revenue
|
|
609,435
|
|
|
582,010
|
|
|
580,336
|
|
Service agreement revenue
|
|
25,797
|
|
|
27,627
|
|
|
28,677
|
|
Total operating revenue
|
|
2,536,489
|
|
|
2,477,298
|
|
|
2,382,212
|
|
|
|
|
|
|
|
|
Operating expenses
|
|
|
|
|
|
|
Cost of operations - policy issuance and renewal services
|
|
1,588,897
|
|
|
1,537,949
|
|
|
1,457,533
|
|
Cost of operations - administrative services
|
|
609,435
|
|
|
582,010
|
|
|
580,336
|
|
Total operating expenses
|
|
2,198,332
|
|
|
2,119,959
|
|
|
2,037,869
|
|
Operating income
|
|
338,157
|
|
|
357,339
|
|
|
344,343
|
|
|
|
|
|
|
|
|
Investment income
|
|
|
|
|
|
|
Net investment income
|
|
29,753
|
|
|
34,059
|
|
|
29,387
|
|
Net realized investment gains (losses)
|
|
6,392
|
|
|
6,103
|
|
|
(2,010)
|
|
Net impairment losses recognized in earnings
|
|
(3,278)
|
|
|
(195)
|
|
|
(1,581)
|
|
|
|
|
|
|
|
|
Total investment income
|
|
32,867
|
|
|
39,967
|
|
|
25,796
|
|
|
|
|
|
|
|
|
Interest expense, net
|
|
731
|
|
|
856
|
|
|
2,460
|
|
Other (expense) income
|
|
(1,778)
|
|
|
255
|
|
|
3,641
|
|
Income before income taxes
|
|
368,515
|
|
|
396,705
|
|
|
371,320
|
|
Income tax expense
|
|
75,211
|
|
|
79,884
|
|
|
83,096
|
|
Net income
|
|
$
|
293,304
|
|
|
$
|
316,821
|
|
|
$
|
288,224
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings Per Share
|
|
|
|
|
|
|
Net income per share
|
|
|
|
|
|
|
Class A common stock – basic
|
|
$
|
6.30
|
|
|
$
|
6.80
|
|
|
$
|
6.19
|
|
Class A common stock – diluted
|
|
$
|
5.61
|
|
|
$
|
6.06
|
|
|
$
|
5.51
|
|
Class B common stock – basic and diluted
|
|
$
|
945
|
|
|
$
|
1,020
|
|
|
$
|
928
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average shares outstanding – Basic
|
|
|
|
|
|
|
Class A common stock
|
|
46,188,659
|
|
|
46,188,836
|
|
|
46,188,637
|
|
Class B common stock
|
|
2,542
|
|
|
2,542
|
|
|
2,542
|
|
|
|
|
|
|
|
|
Weighted average shares outstanding – Diluted
|
|
|
|
|
|
|
Class A common stock
|
|
52,313,360
|
|
|
52,319,860
|
|
|
52,315,213
|
|
Class B common stock
|
|
2,542
|
|
|
2,542
|
|
|
2,542
|
|
See accompanying notes to Financial Statements. See Note 14, "Accumulated Other Comprehensive Income (Loss)", for amounts reclassified out of accumulated other comprehensive income (loss) into the Statements of Operations.
ERIE INDEMNITY COMPANY
STATEMENTS OF COMPREHENSIVE INCOME
Years ended December 31, 2020, 2019 and 2018
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2020
|
|
2019
|
|
2018
|
Net income
|
|
$
|
293,304
|
|
|
$
|
316,821
|
|
|
$
|
288,224
|
|
|
|
|
|
|
|
|
Other comprehensive income, net of tax
|
|
|
|
|
|
|
Change in unrealized holding gains (losses) on available-for-sale securities
|
|
18,738
|
|
|
11,718
|
|
|
(9,937)
|
|
Pension and other postretirement plans
|
|
19,987
|
|
|
1,698
|
|
|
35,712
|
|
Total other comprehensive income, net of tax
|
|
38,725
|
|
|
13,416
|
|
|
25,775
|
|
|
|
|
|
|
|
|
Comprehensive income
|
|
$
|
332,029
|
|
|
$
|
330,237
|
|
|
$
|
313,999
|
|
See accompanying notes to Financial Statements. See Note 14, "Accumulated Other Comprehensive Income (Loss)", for amounts reclassified out of accumulated other comprehensive income (loss) into the Statements of Operations.
ERIE INDEMNITY COMPANY
STATEMENTS OF FINANCIAL POSITION
At December 31, 2020 and 2019
(dollars in thousands, except per share data)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2020
|
|
2019
|
Assets
|
|
|
|
|
Current assets:
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
161,240
|
|
|
$
|
336,739
|
|
Available-for-sale securities
|
|
17,697
|
|
|
32,810
|
|
Equity securities
|
|
19
|
|
|
2,381
|
|
Receivables from Erie Insurance Exchange and affiliates, net
|
|
494,637
|
|
|
468,636
|
|
Prepaid expenses and other current assets
|
|
49,897
|
|
|
44,943
|
|
|
|
|
|
|
Federal income taxes recoverable
|
|
2,664
|
|
|
462
|
|
|
|
|
|
|
Accrued investment income
|
|
6,146
|
|
|
5,433
|
|
Total current assets
|
|
732,300
|
|
|
891,404
|
|
|
|
|
|
|
Available-for-sale securities, net
|
|
910,539
|
|
|
697,891
|
|
Equity securities
|
|
94,071
|
|
|
64,752
|
|
|
|
|
|
|
Fixed assets, net
|
|
265,341
|
|
|
221,379
|
|
Agent loans, net
|
|
62,449
|
|
|
60,978
|
|
Deferred income taxes, net
|
|
12,341
|
|
|
17,186
|
|
Other assets
|
|
40,081
|
|
|
62,650
|
|
Total assets
|
|
$
|
2,117,122
|
|
|
$
|
2,016,240
|
|
|
|
|
|
|
Liabilities and shareholders' equity
|
|
|
|
|
Current liabilities:
|
|
|
|
|
Commissions payable
|
|
$
|
262,338
|
|
|
$
|
262,963
|
|
Agent bonuses
|
|
110,158
|
|
|
96,053
|
|
Accounts payable and accrued liabilities
|
|
150,706
|
|
|
134,957
|
|
Dividends payable
|
|
48,200
|
|
|
44,940
|
|
Contract liability
|
|
36,917
|
|
|
35,938
|
|
Deferred executive compensation
|
|
17,319
|
|
|
10,882
|
|
Current portion of long-term borrowings
|
|
2,031
|
|
|
1,979
|
|
Total current liabilities
|
|
627,669
|
|
|
587,712
|
|
|
|
|
|
|
Defined benefit pension plans
|
|
164,346
|
|
|
145,659
|
|
Long-term borrowings
|
|
93,833
|
|
|
95,842
|
|
Contract liability
|
|
18,878
|
|
|
18,435
|
|
Deferred executive compensation
|
|
14,904
|
|
|
13,734
|
|
|
|
|
|
|
Other long-term liabilities
|
|
9,444
|
|
|
21,605
|
|
Total liabilities
|
|
929,074
|
|
|
882,987
|
|
|
|
|
|
|
Shareholders' equity
|
|
|
|
|
Class A common stock, stated value $0.0292 per share; 74,996,930 shares authorized; 68,299,200 shares issued; 46,189,068 shares outstanding
|
|
1,992
|
|
|
1,992
|
|
Class B common stock, convertible at a rate of 2,400 Class A shares for one Class B share, stated value $70 per share; 3,070 shares authorized; 2,542 shares issued and outstanding
|
|
178
|
|
|
178
|
|
Additional paid-in-capital
|
|
16,487
|
|
|
16,483
|
|
Accumulated other comprehensive loss
|
|
(78,143)
|
|
|
(116,868)
|
|
Retained earnings
|
|
2,393,624
|
|
|
2,377,558
|
|
Total contributed capital and retained earnings
|
|
2,334,138
|
|
|
2,279,343
|
|
Treasury stock, at cost; 22,110,132 shares held
|
|
(1,163,670)
|
|
|
(1,158,910)
|
|
Deferred compensation
|
|
17,580
|
|
|
12,820
|
|
Total shareholders' equity
|
|
1,188,048
|
|
|
1,133,253
|
|
Total liabilities and shareholders' equity
|
|
$
|
2,117,122
|
|
|
$
|
2,016,240
|
|
See accompanying notes to Financial Statements.
ERIE INDEMNITY COMPANY
STATEMENTS OF SHAREHOLDERS' EQUITY
Years ended December 31, 2020, 2019 and 2018
(dollars in thousands, except per share data)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Class A common stock
|
Class B common stock
|
Additional paid-in-capital
|
Accumulated other comprehensive income (loss)
|
Retained earnings
|
Treasury stock
|
Deferred compensation
|
Total shareholders' equity
|
Balance, December 31, 2017
|
$
|
1,992
|
|
$
|
178
|
|
$
|
16,470
|
|
$
|
(156,059)
|
|
$
|
2,140,853
|
|
$
|
(1,155,668)
|
|
$
|
9,578
|
|
$
|
857,344
|
|
Cumulative effect adjustments (1)
|
|
|
|
|
(38,392)
|
|
|
|
(38,392)
|
|
Net income
|
|
|
|
|
288,224
|
|
|
|
288,224
|
|
Other comprehensive income
|
|
|
|
25,775
|
|
|
|
|
25,775
|
|
Dividends declared:
|
|
|
|
|
|
|
|
|
Class A $3.42 per share
|
|
|
|
|
(157,964)
|
|
|
|
(157,964)
|
|
Class B $513.00 per share
|
|
|
|
|
(1,304)
|
|
|
|
(1,304)
|
|
Net purchase of treasury stock (2)
|
|
|
(11)
|
|
|
|
0
|
|
|
(11)
|
|
Deferred compensation
|
|
|
|
|
|
(2,566)
|
|
2,566
|
|
0
|
|
Rabbi trust distribution (3)
|
|
|
|
|
|
609
|
|
(609)
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2018
|
$
|
1,992
|
|
$
|
178
|
|
$
|
16,459
|
|
$
|
(130,284)
|
|
$
|
2,231,417
|
|
$
|
(1,157,625)
|
|
$
|
11,535
|
|
$
|
973,672
|
|
Net income
|
|
|
|
|
316,821
|
|
|
|
316,821
|
|
Other comprehensive income
|
|
|
|
13,416
|
|
|
|
|
13,416
|
|
Dividends declared:
|
|
|
|
|
|
|
|
|
Class A $3.665 per share
|
|
|
|
|
(169,283)
|
|
|
|
(169,283)
|
|
Class B $549.75 per share
|
|
|
|
|
(1,397)
|
|
|
|
(1,397)
|
|
Net purchase of treasury stock (2)
|
|
|
24
|
|
|
|
0
|
|
|
24
|
|
Deferred compensation
|
|
|
|
|
|
(2,208)
|
|
2,208
|
|
0
|
|
Rabbi trust distribution (3)
|
|
|
|
|
|
923
|
|
(923)
|
|
0
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2019
|
$
|
1,992
|
|
$
|
178
|
|
$
|
16,483
|
|
$
|
(116,868)
|
|
$
|
2,377,558
|
|
$
|
(1,158,910)
|
|
$
|
12,820
|
|
$
|
1,133,253
|
|
Cumulative effect adjustment (1)
|
|
|
|
|
(1,075)
|
|
|
|
(1,075)
|
|
Net income
|
|
|
|
|
293,304
|
|
|
|
293,304
|
|
Other comprehensive income
|
|
|
|
38,725
|
|
|
|
|
38,725
|
|
Dividends declared:
|
|
|
|
|
|
|
|
|
Class A $5.93 per share
|
|
|
|
|
(273,902)
|
|
|
|
(273,902)
|
|
Class B $889.50 per share
|
|
|
|
|
(2,261)
|
|
|
|
(2,261)
|
|
Net purchase of treasury stock (2)
|
|
|
4
|
|
|
|
0
|
|
|
4
|
|
Deferred compensation
|
|
|
|
|
|
(5,465)
|
|
5,465
|
|
0
|
|
Rabbi trust distribution (3)
|
|
|
|
|
|
705
|
|
(705)
|
|
0
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2020
|
$
|
1,992
|
|
$
|
178
|
|
$
|
16,487
|
|
$
|
(78,143)
|
|
$
|
2,393,624
|
|
$
|
(1,163,670)
|
|
$
|
17,580
|
|
$
|
1,188,048
|
|
(1) Cumulative effect adjustments in 2018 are primarily related to the implementation of new revenue recognition guidance effective January 1, 2018. The Cumulative effect adjustment in 2020 is related to the implementation of new credit loss allowance accounting guidance effective January 1, 2020. See Note 2, "Significant Accounting Policies."
(2) Net purchases of treasury stock in 2018, 2019 and 2020 includes the repurchase of our Class A common stock in the open market that were subsequently distributed to satisfy stock based compensation awards. See Note 11, "Incentive and Deferred Compensation Plans".
(3) Distributions of our Class A shares were made from the rabbi trust to a retired director and an incentive compensation deferral plan participant in 2018, 2019 and 2020. See Note 11, "Incentive and Deferred Compensation Plans".
See accompanying notes to Financial Statements.
ERIE INDEMNITY COMPANY
STATEMENTS OF CASH FLOWS
Years ended December 31, 2020, 2019 and 2018
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2020
|
|
2019
|
|
2018
|
Cash flows from operating activities
|
|
|
|
|
|
|
Management fee received
|
|
$
|
1,887,537
|
|
|
$
|
1,845,075
|
|
|
$
|
1,751,247
|
|
Administrative services reimbursements received
|
|
587,347
|
|
|
588,255
|
|
|
574,698
|
|
Service agreement fee received
|
|
25,797
|
|
|
27,627
|
|
|
28,677
|
|
Net investment income received
|
|
35,740
|
|
|
36,442
|
|
|
44,662
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commissions paid to agents
|
|
(928,864)
|
|
|
(895,563)
|
|
|
(853,758)
|
|
Agents bonuses paid
|
|
(108,227)
|
|
|
(115,795)
|
|
|
(134,314)
|
|
Salaries and wages paid
|
|
(188,070)
|
|
|
(186,460)
|
|
|
(182,537)
|
|
Pension contributions and employee benefits paid
|
|
(33,098)
|
|
|
(42,728)
|
|
|
(115,525)
|
|
General operating expenses paid
|
|
(253,545)
|
|
|
(236,128)
|
|
|
(208,036)
|
|
Administrative services expenses paid
|
|
(598,753)
|
|
|
(582,528)
|
|
|
(580,338)
|
|
Income taxes paid
|
|
(82,576)
|
|
|
(72,817)
|
|
|
(58,814)
|
|
Interest paid
|
|
(693)
|
|
|
(853)
|
|
|
(2,377)
|
|
Net cash provided by operating activities
|
|
342,595
|
|
|
364,527
|
|
|
263,585
|
|
|
|
|
|
|
|
|
Cash flows from investing activities
|
|
|
|
|
|
|
Purchase of investments:
|
|
|
|
|
|
|
Available-for-sale securities
|
|
(396,014)
|
|
|
(956,818)
|
|
|
(392,895)
|
|
Equity securities
|
|
(79,518)
|
|
|
(66,760)
|
|
|
(4,087)
|
|
|
|
|
|
|
|
|
Other investments
|
|
(1,142)
|
|
|
(1,080)
|
|
|
(243)
|
|
Proceeds from investments:
|
|
|
|
|
|
|
Available-for-sale securities sales
|
|
101,718
|
|
|
687,347
|
|
|
235,323
|
|
Available-for-sale securities maturities/calls
|
|
118,852
|
|
|
303,798
|
|
|
134,396
|
|
Equity securities
|
|
70,405
|
|
|
16,109
|
|
|
4,162
|
|
|
|
|
|
|
|
|
Other investments
|
|
613
|
|
|
3,722
|
|
|
3,387
|
|
Purchase of fixed assets
|
|
(55,528)
|
|
|
(102,039)
|
|
|
(56,297)
|
|
Proceeds from disposal of fixed assets
|
|
15
|
|
|
777
|
|
|
6,014
|
|
Loans to agents
|
|
(10,098)
|
|
|
(17,611)
|
|
|
(42,594)
|
|
Collections on agent loans
|
|
7,472
|
|
|
7,921
|
|
|
6,436
|
|
Repayment of note receivable from Erie Family Life Insurance
|
|
—
|
|
|
—
|
|
|
25,000
|
|
Net cash used in investing activities
|
|
(243,225)
|
|
|
(124,634)
|
|
|
(81,398)
|
|
|
|
|
|
|
|
|
Cash flows from financing activities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividends paid to shareholders
|
|
(272,902)
|
|
|
(167,651)
|
|
|
(156,474)
|
|
|
|
|
|
|
|
|
Net (payments) proceeds from long-term borrowings
|
|
(1,967)
|
|
|
(1,920)
|
|
|
24,983
|
|
Net cash used in financing activities
|
|
(274,869)
|
|
|
(169,571)
|
|
|
(131,491)
|
|
|
|
|
|
|
|
|
Net (decrease) increase in cash and cash equivalents
|
|
(175,499)
|
|
|
70,322
|
|
|
50,696
|
|
Cash and cash equivalents, beginning of year
|
|
336,739
|
|
|
266,417
|
|
|
215,721
|
|
Cash and cash equivalents, end of year
|
|
$
|
161,240
|
|
|
$
|
336,739
|
|
|
$
|
266,417
|
|
|
|
|
|
|
|
|
Supplemental disclosure of noncash transactions
|
|
|
|
|
|
|
Transfer of investments from other investments to equity securities
|
|
$
|
13,041
|
|
|
$
|
3,310
|
|
|
$
|
—
|
|
Liability incurred to purchase fixed assets
|
|
$
|
14,214
|
|
|
$
|
6,800
|
|
|
$
|
8,453
|
|
Operating lease assets obtained in exchange for new operating lease liabilities
|
|
$
|
4,943
|
|
|
$
|
35,483
|
|
|
$
|
—
|
|
See accompanying notes to Financial Statements. See Note 18, "Supplementary Data on Cash Flows", for additional supplemental cash flow information.
ERIE INDEMNITY COMPANY
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.
Our primary function as attorney-in-fact is to perform policy issuance and renewal services on behalf of the subscribers at the Exchange. We also act as attorney-in-fact on behalf of the Exchange with respect to all claims handling and investment management services, as well as the service provider for all claims handling, life insurance, and investment management services for its insurance subsidiaries, collectively referred to as "administrative services". Acting as attorney-in-fact in these two capacities 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. Pursuant to the subscriber's agreement for acting as attorney-in-fact in these two capacities, we earn a management fee calculated as a percentage of the direct and affiliated assumed premiums written by the Exchange.
The policy issuance and renewal services we provide to 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 66% of our 2020 policy issuance and renewal expenses. The underwriting services we provide include underwriting and policy processing and comprised approximately 10% of our 2020 policy issuance and renewal 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 11% of our 2020 policy issuance and renewal expenses. Included in these expenses are allocations of costs for departments that support these policy issuance and renewal functions.
By virtue of its legal structure as a reciprocal insurer, the Exchange does not have any employees or officers. Therefore, it enters into contractual relationships by and through an attorney-in-fact. Indemnity serves as the attorney-in-fact on behalf of the Exchange with respect to its administrative services. The Exchange's insurance subsidiaries also utilize Indemnity for these services 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. Life insurance 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. Included in these expenses are allocations of costs for departments that support these administrative functions. The amounts incurred for these services are reimbursed to Indemnity at cost in accordance with the subscriber's agreement and the service agreements. State insurance regulations require that intercompany service agreements and any material amendments be approved in advance by the state insurance department.
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 for its management fee and cost reimbursements. See Note 16, "Concentrations of Credit Risk".
Coronavirus ("COVID-19") pandemic
On March 11, 2020, the outbreak of the coronavirus ("COVID-19") was declared a global pandemic. The significant volatility in the financial markets, economic disruption and uncertainty resulting from the COVID-19 pandemic that began in the first quarter of 2020 continues to evolve and the pandemic’s ultimate impact and duration remain highly uncertain at this time. The Exchange’s previously announced rate reductions that became effective in the second half of 2020, coupled with the uncertain economic conditions, will likely continue to constrain the Exchange’s premium growth which will impact our management fee revenue. The Exchange’s underwriting profitability has improved largely due to declines in claims frequency. The extent and
duration of changes in consumer behavior and driving patterns and the resulting impact to the Exchange’s growth and financial condition remain uncertain.
The economic conditions resulting from the COVID-19 pandemic may negatively impact the collectability of the Exchange’s premiums receivable, however no significant impact has been noted through the date of this report. While our investment portfolio was negatively impacted by the volatility in the financial markets in the first quarter of 2020, markets substantially recovered through the remainder of 2020. We are unable to predict the duration or extent of the business disruption or the financial impact given the ongoing development of the pandemic and its impacts on the economy and financial markets.
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
We adopted Accounting Standards Update ("ASU") 2016-13, "Financial Instruments-Credit Losses" which applies to our receivable from Erie Insurance Exchange and affiliates, agent loans, and investments, on January 1, 2020. The guidance 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 current expected credit loss model and credit losses relating to available-for-sale debt securities to be recognized through an allowance for credit losses.
For assets measured at amortized cost for which a current expected credit loss allowance was required, we adopted the guidance using the modified-retrospective approach. At January 1, 2020, we recorded current expected credit loss allowances related to agent loans of $0.8 million and receivables from Erie Insurance Exchange and affiliates of $0.6 million. This resulted in the recording of a cumulative effect adjustment, net of taxes, to retained earnings of $1.1 million. Our available-for-sale investments are not measured at amortized cost, and therefore do not require the use of a current expected credit loss model. Any credit losses, however, are required to be recorded as an allowance for credit losses rather than a reduction of the carrying value of the asset. For available-for-sale securities, we adopted the guidance using the prospective approach and recorded an initial allowance for credit losses of $0.6 million at March 31, 2020.
We adopted Accounting Standards Codification ("ASC") 842, "Leases" on January 1, 2019 using the optional transition method, which permits entities to apply the new guidance prospectively with certain practical expedients available. We elected the package of practical expedients which among other things allowed us to carry forward the historical lease classifications. We did not elect the hindsight practical expedient in determining the lease term for existing leases. The adoption of the new standard resulted in the recognition of operating lease assets of $32.7 million and operating lease liabilities of $32.1 million on the Statement of Financial Position at January 1, 2019. The adoption of this standard did not have a material impact on our Statement of Operations and had no impact on our net cash flows.
We adopted ASC 606, "Revenue from Contracts with Customers" on January 1, 2018, using the modified retrospective method applied to all contracts. Under ASC 606, we determined that we have two performance obligations under the subscriber’s agreement. The first performance obligation is providing policy issuance and renewal services. The second performance obligation is acting as the attorney-in-fact on behalf of the Exchange, as well as the service provider for its insurance subsidiaries, with respect to all administrative services. Upon adoption of ASC 606, the management fee earned per the subscriber’s agreement, currently 25% of all direct and affiliated assumed premiums written by the Exchange, is allocated between the two performance obligations. Prior to the adoption of ASC 606, the entire management fee was allocated to the policy issuance and renewal services. Additionally, the expenses we incur and related reimbursements we receive related to the administrative services are presented gross in our Statement of Operations effective January 1, 2018.
On January 1, 2018, we established a contract liability of $48.5 million representing the portion of revenue not yet earned related to the administrative services to be provided in subsequent years. We recorded a related deferred tax asset of $10.2 million and a cumulative effect adjustment that reduced retained earnings by $38.3 million. The adoption of ASC 606 changed the presentation of our Statement of Cash Flows, but had no net impact to 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 debt securities and redeemable preferred stock are classified as available-for-sale and reported at fair value with unrealized investment gains and losses, net of income taxes, recognized in other comprehensive income. Available-for-sale securities with a remaining maturity of 12 months or less and any security that we intend to sell as of the reporting date are classified as current assets.
Available-for-sale securities in an unrealized loss position are evaluated to determine whether the impairment is a result of credit loss or other factors. If we have the intent to sell or it's more likely than not that we would be required to sell the security before recovery of the amortized cost basis, the entire impairment is recognized in earnings. Securities that have experienced a decline in fair value 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 credit related. Impairment resulting from a credit loss is recognized in earnings with a corresponding allowance on the balance sheet. Future recoveries of credit loss result in an adjustment to the allowance and earnings in the period the credit conditions improve. Factors considered in the evaluation of credit loss include the extent to which fair value is less than cost and fundamental factors specific to the issuer such as financial condition, changes in credit ratings, near and long-term business prospects and other factors, as well as the likelihood of recovery of the amortized cost of the security. If the qualitative review indicates credit impairment, the allowance for credit loss is measured as the amount that the security’s amortized cost exceeds the present value of cash flows expected to be collected and is limited to the amount that fair value is below amortized cost.
Equity securities – Non-redeemable preferred and common stocks are classified as equity securities and reported at fair value with changes in fair value recognized in net realized investment gains (losses). Securities that we intend to sell as of the reporting date are classified as current assets.
Realized gains and losses and investment income – Realized gains and losses on sales of available-for-sale and equity securities are recognized in income based upon the specific identification method and reported as net realized investment gains (losses). Interest income is recognized as earned and includes amortization of premium and accretion of discount. Income is recognized based on the constant effective yield method, which includes periodically updated prepayment assumptions obtained from third party data sources on our prepaying securities. The effective yield for prepaying securities is recalculated on a retrospective basis. Dividend income is recognized at the ex-dividend date. Interest and dividend income and the results of our limited partnership investments are reported as net investment income. We do not record an allowance for credit losses on accrued investment income as any amount deemed uncollectible is reversed from interest income in the period the expected payment defaults.
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 settle or be realized. 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.
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 building and building improvements, equipment, furniture and fixtures, 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, buildings and building improvements are depreciated over 20-45 years, equipment is depreciated over 3-10 years, and furniture and fixtures are depreciated over 7 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 significant long-term building projects as part of the historical cost of the asset.
Agent loans
Agent loans, the majority of which are senior secured, are carried at unpaid principal balance with interest recorded in investment income as earned. The current portion of agent loans is recorded in prepaid expenses and other current assets. The adoption of ASU 2016-13 on January 1, 2020 requires the recording of a current expected credit loss allowance on these loans. The allowance is estimated using available loss history and/or external loss rates based on comparable loan losses and considers current conditions and forecasted information. When establishing the expected credit loss allowance upon implementation of ASU 2016-13, a cumulative effect adjustment was recorded to beginning retained earnings. Future changes to the allowance
will be recognized in earnings as adjustments to net impairment losses. Prior to the adoption of ASU 2016-13, we did not record an allowance for credit losses as the majority of these loans are senior secured and have had insignificant default amounts.
Other assets
Other assets include operating lease assets, other investments, and other long-term prepaid assets. The determination of whether an arrangement is a lease and the related lease classification is made at inception of a contract. Our leases are classified as operating leases. Operating lease assets and liabilities are recorded at inception based on the present value of the future minimum lease payments over the lease term at commencement date. When an implicit rate for the lease is not available, we use our incremental borrowing rate based on the information available at commencement date to determine the present value of future payments. Lease terms include options to extend or terminate the lease when it is reasonably certain that we will exercise that option. Most of our lease contracts contain lease and non-lease components. Non-lease components are expensed as incurred. Operating lease assets are included in other assets, and the current and noncurrent portions of the operating lease liabilities are included in accounts payable and accrued expenses and other long-term liabilities, respectively.
Agent bonus estimates
Our more significant agent bonus plan is based upon an individual agency's property and casualty underwriting profitability and also includes 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 this agent bonus plan is based upon the performance over 36 months, and 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. Our second agent bonus plan is based on an agency's one-year underwriting profitability and uses a similar model but considers actual and forecasted results for a calendar year only. 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 cost of operations - policy issuance and renewal services.
Recognition of management fee revenue
We earn management fees from the Exchange under the subscriber’s agreement for services provided. Pursuant to the subscriber’s agreement, we may retain up to 25% of all direct and affiliated assumed premiums written by the Exchange. The management fee rate is set at least annually by our Board of Directors. The management fee revenue is calculated by multiplying the management fee rate by the direct and affiliated assumed premiums written by the Exchange and is allocated between the two performance obligations we have under the subscriber's agreement. The first performance obligation is to provide policy issuance and renewal services. The second performance obligation is acting as the attorney-in-fact with respect to the administrative services.
Management fee revenue allocated to the policy issuance and renewal services is recognized at the time of policy issuance or renewal, because it is at the time of policy issuance or renewal when the economic benefit of the service we provide (the substantially completed policy issuance or renewal service) and the control of the promised asset (the executed insurance policy) transfers to the customer.
Management fee revenue allocated to the second performance obligation relates to us acting as the attorney-in-fact on behalf of the Exchange, as well as the service provider for its insurance subsidiaries, with respect to the administrative services and is recognized over a four-year period representing the time over which the economic benefit of the services provided (i.e. management of the administrative services) transfers to the customer.
Administrative services
By virtue of its legal structure as a reciprocal insurer, the Exchange does not have any employees or officers. Therefore, it enters into contractual relationships by and through an attorney-in-fact. Indemnity serves as the attorney-in-fact on behalf of the Exchange with respect to its administrative services in accordance with the subscriber's agreement. The Exchange's insurance subsidiaries also utilize Indemnity for these services 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. Life insurance 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. Included in these expenses are allocations of costs for departments that support these administrative functions. Common overhead expenses and certain service department costs incurred by us on behalf of the Exchange and its insurance 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. The expenses we incur and related reimbursements we receive for administrative services are presented gross in our Statement of Operations. Reimbursements are settled on a monthly basis. The amounts incurred for these services are reimbursed to Indemnity at cost in accordance with the subscriber's
agreement and the service agreements. State insurance regulations require that intercompany service agreements and any material amendments be approved in advance by the state insurance department.
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 and its property and casualty subsidiaries. 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.
Reclassifications
Certain amounts previously reported in the 2019 and 2018 financial statements have been reclassified for comparative purposes to conform to the current period’s presentation. “Limited partnership investments” has now been combined within “Other assets” in the Statements of Financial Position and “Equity in earnings (losses) of limited partnerships” is now included in “Net investment income” in the Statements of Operations. The reclassifications had no effect on previously reported net income.
Note 3. Revenue
The majority of our revenue is derived from the subscriber’s agreement between us and the subscribers (policyholders) at the Exchange. Pursuant to the subscriber’s agreement, we earn a management fee calculated as a percentage, not to exceed 25%, of all direct and affiliated assumed written premiums of the Exchange.
We allocate a portion of our management fee revenue, currently 25% of the direct and affiliated assumed written premiums of the Exchange, between the two performance obligations we have under the subscriber’s agreement. The first performance obligation is to provide policy issuance and renewal services to the subscribers (policyholders) at the Exchange, and the second is to act as attorney-in-fact on behalf of the Exchange, as well as the service provider for its insurance subsidiaries, with respect to all administrative services. The transaction price, including management fee revenue and administrative service reimbursement revenue, is allocated based on the estimated standalone selling prices developed using industry information and other available information for similar services. We update the transaction price allocation annually based upon the most recent information available or more frequently if there have been significant changes in any components considered in the transaction price. In 2020, we reviewed the transaction price allocation quarterly to consider the most current economic conditions related to the COVID-19 pandemic. The reviews resulted in no material change to the allocation.
The first performance obligation is to provide policy issuance and renewal services that result in executed insurance policies between the Exchange or one of its insurance subsidiaries and the subscriber (policyholder). The subscriber (policyholder), receives economic benefits when substantially all the policy issuance or renewal services are complete and an insurance policy is issued or renewed by the Exchange or one of its insurance subsidiaries. It is at the time of policy issuance or renewal that the allocated portion of revenue is recognized.
The Exchange, by virtue of its legal structure as a reciprocal insurer, does not have any employees or officers. Therefore, it enters into contractual relationships by and through an attorney-in-fact. Indemnity serves as the attorney-in-fact on behalf of the Exchange with respect to its administrative services in accordance with the subscriber's agreement. The Exchange's insurance subsidiaries also utilize Indemnity for these services in accordance with the service agreements between each of the subsidiaries and Indemnity. Collectively, these services represent a second performance obligation under the subscriber’s agreement and the service agreements. The revenue allocated to this performance obligation is recognized over time as these services are provided. The portion of revenue not yet earned is recorded as a contract liability in the Statements of Financial Position. The administrative services expenses we incur and the related reimbursements we receive are recorded gross in the Statements of Operations.
Indemnity records a receivable from the Exchange for management fee revenue when the premium is written or assumed from affiliates by the Exchange. Indemnity collects the management fee from the Exchange when the Exchange collects the premiums from the subscribers (policyholders). As the Exchange issues policies with annual terms only, cash collections generally occur within one year.
The amount of management fee revenue we receive can vary due to the potential of mid-term cancellations. Management fees are returned to the Exchange when policyholders cancel their insurance coverage mid-term and unearned premiums are refunded to them. We maintain an estimated allowance to reduce the management fee to its estimated net realizable value to account for the potential of mid-term policy cancellations based on historical cancellation rates. In 2020, our historical cancellation rates were adjusted to include the potential for increased cancellations given the current economic conditions related to the COVID-19 pandemic. This estimated allowance has been allocated between the two performance obligations consistent with the revenue allocation proportions.
The following table disaggregates revenue by our two performance obligations for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2020
|
|
2019
|
|
2018
|
Management fee revenue - policy issuance and renewal services, net
|
|
$
|
1,841,794
|
|
|
$
|
1,810,457
|
|
|
$
|
1,719,567
|
|
|
|
|
|
|
|
|
Management fee revenue - administrative services, net
|
|
59,463
|
|
|
57,204
|
|
|
53,632
|
|
Administrative services reimbursement revenue
|
|
609,435
|
|
|
582,010
|
|
|
580,336
|
|
Total administrative services
|
|
$
|
668,898
|
|
|
$
|
639,214
|
|
|
$
|
633,968
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 4. 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 13, "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 11, "Incentive and Deferred Compensation Plans".
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)
|
|
|
|
|
|
|
|
For the years ended December 31,
|
|
|
|
|
|
|
|
|
2020
|
|
2019
|
|
2018
|
|
|
Allocated net income (numerator)
|
|
Weighted shares (denominator)
|
|
Per- share amount
|
|
Allocated net income (numerator)
|
|
Weighted shares (denominator)
|
|
Per- share amount
|
|
Allocated net income (numerator)
|
|
Weighted shares (denominator)
|
|
Per- share amount
|
Class A – Basic EPS:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income available to Class A stockholders
|
|
$
|
290,902
|
|
|
46,188,659
|
|
|
$
|
6.30
|
|
|
$
|
314,227
|
|
|
46,188,836
|
|
|
$
|
6.80
|
|
|
$
|
285,864
|
|
|
46,188,637
|
|
|
$
|
6.19
|
|
Dilutive effect of stock-based awards
|
|
0
|
|
|
23,901
|
|
|
—
|
|
|
0
|
|
|
30,224
|
|
|
—
|
|
|
0
|
|
|
25,776
|
|
|
—
|
|
Assumed conversion of Class B shares
|
|
2,402
|
|
|
6,100,800
|
|
|
—
|
|
|
2,594
|
|
|
6,100,800
|
|
|
—
|
|
|
2,360
|
|
|
6,100,800
|
|
|
—
|
|
Class A – Diluted EPS:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income available to Class A stockholders on Class A equivalent shares
|
|
$
|
293,304
|
|
|
52,313,360
|
|
|
$
|
5.61
|
|
|
$
|
316,821
|
|
|
52,319,860
|
|
|
$
|
6.06
|
|
|
$
|
288,224
|
|
|
52,315,213
|
|
|
$
|
5.51
|
|
Class B – Basic EPS:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income available to Class B stockholders
|
|
$
|
2,402
|
|
|
2,542
|
|
|
$
|
945
|
|
|
$
|
2,594
|
|
|
2,542
|
|
|
$
|
1,020
|
|
|
$
|
2,360
|
|
|
2,542
|
|
|
$
|
928
|
|
Class B – Diluted EPS:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income available to Class B stockholders
|
|
$
|
2,401
|
|
|
2,542
|
|
|
$
|
945
|
|
|
$
|
2,593
|
|
|
2,542
|
|
|
$
|
1,020
|
|
|
$
|
2,359
|
|
|
2,542
|
|
|
$
|
928
|
|
Note 5. Fair Value
Financial instruments carried at fair value
Our available-for-sale and equity 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 equity 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. Financial instruments are categorized based upon the following characteristics or inputs to the valuation techniques:
•Level 1 – Quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity can access at the measurement date.
•Level 2 – Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.
•Level 3 – Unobservable inputs for the asset or liability.
Estimates of fair values for our investment portfolio are obtained primarily from a nationally recognized pricing service. Our Level 1 securities are valued using an exchange traded price provided by the pricing service. Pricing service valuations for Level 2 securities 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.
Although virtually all of our prices are obtained from third party sources, we also perform internal pricing reviews, including evaluating the methodology and inputs used to ensure that we determine the proper classification level of the financial instrument and reviewing securities with price changes that vary significantly from current market conditions or independent price sources. Price variances are investigated and corroborated by market data and transaction volumes. We have reviewed the pricing methodologies of our pricing service as well as other observable inputs and believe that the prices adequately consider market activity in determining fair value.
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.
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. As of December 31, 2020, nearly all of our available-for-sale and equity securities were priced using a third party pricing service.
The following tables present our fair value measurements on a recurring basis by asset class and level of input as of:
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|
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|
|
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2020
|
|
|
|
(in thousands)
|
|
Total
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
|
|
|
|
|
|
|
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt securities
|
|
$
|
566,425
|
|
|
$
|
1,281
|
|
|
$
|
559,319
|
|
|
$
|
5,825
|
|
Residential mortgage-backed securities
|
|
112,179
|
|
|
0
|
|
|
111,242
|
|
|
937
|
|
Commercial mortgage-backed securities
|
|
120,201
|
|
|
0
|
|
|
100,739
|
|
|
19,462
|
|
Collateralized debt obligations
|
|
110,447
|
|
|
0
|
|
|
110,447
|
|
|
0
|
|
Other debt securities
|
|
18,984
|
|
|
0
|
|
|
18,984
|
|
|
0
|
|
Total available-for-sale securities
|
|
928,236
|
|
|
1,281
|
|
|
900,731
|
|
|
26,224
|
|
Equity securities - nonredeemable preferred and common stock:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financial services sector
|
|
76,575
|
|
|
24,981
|
|
|
51,594
|
|
|
0
|
|
Utilities sector
|
|
8,742
|
|
|
3,957
|
|
|
4,785
|
|
|
0
|
|
Consumer sector
|
|
3,068
|
|
|
576
|
|
|
2,492
|
|
|
0
|
|
Communications sector
|
|
2,699
|
|
|
2,699
|
|
|
0
|
|
|
0
|
|
Energy sector
|
|
2,206
|
|
|
676
|
|
|
1,530
|
|
|
0
|
|
Industrial sector
|
|
800
|
|
|
800
|
|
|
0
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total equity securities
|
|
94,090
|
|
|
33,689
|
|
|
60,401
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,022,326
|
|
|
$
|
34,970
|
|
|
$
|
961,132
|
|
|
$
|
26,224
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
|
|
(in thousands)
|
|
Total
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
|
|
|
|
|
|
|
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt securities
|
|
$
|
454,880
|
|
|
$
|
2,683
|
|
|
$
|
443,873
|
|
|
$
|
8,324
|
|
Residential mortgage-backed securities
|
|
125,343
|
|
|
0
|
|
|
125,343
|
|
|
0
|
|
Commercial mortgage-backed securities
|
|
67,541
|
|
|
0
|
|
|
64,220
|
|
|
3,321
|
|
Collateralized debt obligations
|
|
77,856
|
|
|
0
|
|
|
77,856
|
|
|
0
|
|
Other debt securities
|
|
5,081
|
|
|
0
|
|
|
5,081
|
|
|
0
|
|
Total available-for-sale securities
|
|
730,701
|
|
|
2,683
|
|
|
716,373
|
|
|
11,645
|
|
Equity securities - nonredeemable preferred and common stock:
|
|
|
|
|
|
|
|
|
Financial services sector
|
|
53,513
|
|
|
14,927
|
|
|
38,586
|
|
|
0
|
|
Utilities sector
|
|
6,818
|
|
|
3,190
|
|
|
3,628
|
|
|
0
|
|
Communications sector
|
|
3,433
|
|
|
3,433
|
|
|
0
|
|
|
0
|
|
Energy sector
|
|
1,881
|
|
|
0
|
|
|
1,881
|
|
|
0
|
|
Industrial sector
|
|
980
|
|
|
0
|
|
|
980
|
|
|
0
|
|
Consumer sector
|
|
508
|
|
|
0
|
|
|
508
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
Total equity securities
|
|
67,133
|
|
|
21,550
|
|
|
45,583
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
797,834
|
|
|
$
|
24,233
|
|
|
$
|
761,956
|
|
|
$
|
11,645
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We review the fair value hierarchy classifications each reporting period. Transfers between hierarchy levels may occur due to changes in available market observable inputs.
Level 3 Assets – Year-to-Date Change:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
Beginning balance at December 31, 2019
|
|
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, 2020
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt securities
|
|
$
|
8,324
|
|
|
$
|
(2)
|
|
|
$
|
(156)
|
|
|
$
|
7,180
|
|
|
$
|
(1,405)
|
|
|
$
|
10,526
|
|
|
$
|
(18,642)
|
|
|
$
|
5,825
|
|
Residential mortgage-backed securities
|
|
0
|
|
|
(19)
|
|
|
(48)
|
|
|
287
|
|
|
(1,539)
|
|
|
11,496
|
|
|
(9,240)
|
|
|
937
|
|
Commercial mortgage-backed securities
|
|
3,321
|
|
|
(183)
|
|
|
913
|
|
|
12,281
|
|
|
(2,334)
|
|
|
39,591
|
|
|
(34,127)
|
|
|
19,462
|
|
Collateralized debt obligations
|
|
0
|
|
|
0
|
|
|
3
|
|
|
247
|
|
|
0
|
|
|
0
|
|
|
(250)
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total available-for-sale securities
|
|
11,645
|
|
|
(204)
|
|
|
712
|
|
|
19,995
|
|
|
(5,278)
|
|
|
61,613
|
|
|
(62,259)
|
|
|
26,224
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nonredeemable preferred stock
|
|
0
|
|
|
151
|
|
|
0
|
|
|
2,836
|
|
|
0
|
|
|
0
|
|
|
(2,987)
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Level 3 securities
|
|
$
|
11,645
|
|
|
$
|
(53)
|
|
|
$
|
712
|
|
|
$
|
22,831
|
|
|
$
|
(5,278)
|
|
|
$
|
61,613
|
|
|
$
|
(65,246)
|
|
|
$
|
26,224
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Level 3 Assets – Year-to-Date Change:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
Beginning balance at December 31, 2018
|
|
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, 2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt securities
|
|
$
|
12,577
|
|
|
$
|
10
|
|
|
$
|
146
|
|
|
$
|
2,020
|
|
|
$
|
(7,415)
|
|
|
$
|
11,542
|
|
|
$
|
(10,556)
|
|
|
$
|
8,324
|
|
Residential mortgage-backed securities
|
|
0
|
|
|
4
|
|
|
15
|
|
|
921
|
|
|
(32)
|
|
|
0
|
|
(908)
|
|
|
0
|
|
Commercial mortgage-backed securities
|
|
0
|
|
|
(9)
|
|
|
(21)
|
|
|
478
|
|
|
(1,068)
|
|
|
7,281
|
|
|
(3,340)
|
|
|
3,321
|
|
Collateralized debt obligations
|
|
0
|
|
|
0
|
|
|
1
|
|
|
2,300
|
|
|
0
|
|
|
0
|
|
|
(2,301)
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Level 3 available-for-sale securities
|
|
$
|
12,577
|
|
|
$
|
5
|
|
|
$
|
141
|
|
|
$
|
5,719
|
|
|
$
|
(8,515)
|
|
|
$
|
18,823
|
|
|
$
|
(17,105)
|
|
|
$
|
11,645
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) These amounts are reported 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.
Financial instruments not carried at fair value
The following table presents the carrying values and fair values of financial instruments categorized as Level 3 in the fair value hierarchy that are recorded at carrying value as of:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2020
|
|
December 31, 2019
|
(in thousands)
|
|
Carrying Value
|
|
Fair Value
|
|
Carrying Value
|
|
Fair Value
|
|
|
|
|
|
|
|
|
|
Agent loans (1)
|
|
$
|
69,212
|
|
|
$
|
73,854
|
|
|
$
|
67,696
|
|
|
$
|
71,602
|
|
Long-term borrowings (2)
|
|
96,113
|
|
|
113,054
|
|
|
98,080
|
|
|
101,888
|
|
(1)The discount rate used to calculate fair value at December 31, 2020 is reflective of an increase in the BB+ financial yield curve due to the market volatility resulting from the COVID-19 pandemic.
(2)The discount rate used to calculate fair value at December 31, 2020 is reflective of a decline in U.S. Treasury bond yields due to the market volatility resulting from the COVID-19 pandemic.
Note 6. Investments
Available-for-sale securities
See Note 5, "Fair Value" for additional fair value disclosures. The following tables summarize the cost and fair value, net of credit loss allowance, of our available-for-sale securities as of:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2020
|
(in thousands)
|
|
Amortized cost
|
|
Gross unrealized gains
|
|
Gross unrealized losses
|
|
Estimated fair value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt securities
|
|
$
|
546,096
|
|
|
$
|
21,843
|
|
|
$
|
1,514
|
|
|
$
|
566,425
|
|
Residential mortgage-backed securities
|
|
108,840
|
|
|
3,373
|
|
|
34
|
|
|
112,179
|
|
Commercial mortgage-backed securities
|
|
115,346
|
|
|
5,090
|
|
|
235
|
|
|
120,201
|
|
Collateralized debt obligations
|
|
110,121
|
|
|
657
|
|
|
331
|
|
|
110,447
|
|
Other debt securities
|
|
18,387
|
|
|
606
|
|
|
9
|
|
|
18,984
|
|
Total available-for-sale securities, net
|
|
$
|
898,790
|
|
|
$
|
31,569
|
|
|
$
|
2,123
|
|
|
$
|
928,236
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
(in thousands)
|
|
Amortized cost
|
|
Gross unrealized gains
|
|
Gross unrealized losses
|
|
Estimated fair value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt securities
|
|
$
|
450,295
|
|
|
$
|
6,289
|
|
|
$
|
1,704
|
|
|
$
|
454,880
|
|
Residential mortgage-backed securities
|
|
124,337
|
|
|
1,056
|
|
|
50
|
|
|
125,343
|
|
Commercial mortgage-backed securities
|
|
67,210
|
|
|
479
|
|
|
148
|
|
|
67,541
|
|
Collateralized debt obligations
|
|
78,059
|
|
|
44
|
|
|
247
|
|
|
77,856
|
|
Other debt securities
|
|
5,049
|
|
|
71
|
|
|
39
|
|
|
5,081
|
|
Total available-for-sale securities, net
|
|
$
|
724,950
|
|
|
$
|
7,939
|
|
|
$
|
2,188
|
|
|
$
|
730,701
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The amortized cost and estimated fair value of available-for-sale securities at December 31, 2020, are shown below by remaining contractual term to maturity. 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.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2020
|
|
|
Amortized
|
|
Estimated
|
(in thousands)
|
|
cost
|
|
fair value
|
|
|
|
|
|
Due in one year or less
|
|
$
|
17,393
|
|
|
$
|
17,553
|
|
Due after one year through five years
|
|
419,019
|
|
|
435,504
|
|
Due after five years through ten years
|
|
185,849
|
|
|
189,711
|
|
Due after ten years
|
|
276,529
|
|
|
285,468
|
|
Total available-for-sale securities (1)
|
|
$
|
898,790
|
|
|
$
|
928,236
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)The contractual maturities of our available-for-sale securities are included in the table. However, given our intent to sell certain impaired securities, these securities are classified as current assets in our Statements of Financial Position at December 31, 2020.
The below securities have been evaluated and determined to be temporary declines in fair value for which we expect to recover our entire principal plus interest. The following tables present available-for-sale securities based on length of time in a gross unrealized loss position as of:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2020
|
|
|
Less than 12 months
|
|
12 months or longer
|
|
Total
|
|
|
Fair
|
|
Unrealized
|
|
Fair
|
|
Unrealized
|
|
Fair
|
|
Unrealized
|
|
No. of
|
(dollars in thousands)
|
|
value
|
|
losses
|
|
value
|
|
losses
|
|
value
|
|
losses
|
|
holdings
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt securities
|
|
$
|
39,693
|
|
|
$
|
644
|
|
|
$
|
7,952
|
|
|
$
|
870
|
|
|
$
|
47,645
|
|
|
$
|
1,514
|
|
|
257
|
|
Residential mortgage-backed securities
|
|
8,163
|
|
|
34
|
|
|
0
|
|
|
0
|
|
|
8,163
|
|
|
34
|
|
|
13
|
|
Commercial mortgage-backed securities
|
|
16,582
|
|
|
235
|
|
|
0
|
|
|
0
|
|
|
16,582
|
|
|
235
|
|
|
31
|
|
Collateralized debt obligations
|
|
50,036
|
|
|
232
|
|
|
10,899
|
|
|
99
|
|
|
60,935
|
|
|
331
|
|
|
65
|
|
Other debt securities
|
|
1,019
|
|
|
9
|
|
|
0
|
|
|
0
|
|
|
1,019
|
|
|
9
|
|
|
4
|
|
Total available-for-sale securities
|
|
$
|
115,493
|
|
|
$
|
1,154
|
|
|
$
|
18,851
|
|
|
$
|
969
|
|
|
$
|
134,344
|
|
|
$
|
2,123
|
|
|
370
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quality breakdown of available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment grade
|
|
$
|
86,807
|
|
|
$
|
561
|
|
|
$
|
10,899
|
|
|
$
|
99
|
|
|
$
|
97,706
|
|
|
$
|
660
|
|
|
119
|
|
Non-investment grade
|
|
28,686
|
|
|
593
|
|
|
7,952
|
|
|
870
|
|
|
36,638
|
|
|
1,463
|
|
|
251
|
|
Total available-for-sale securities
|
|
$
|
115,493
|
|
|
$
|
1,154
|
|
|
$
|
18,851
|
|
|
$
|
969
|
|
|
$
|
134,344
|
|
|
$
|
2,123
|
|
|
370
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
|
Less than 12 months
|
|
12 months or longer
|
|
Total
|
|
|
Fair
|
|
Unrealized
|
|
Fair
|
|
Unrealized
|
|
Fair
|
|
Unrealized
|
|
No. of
|
(dollars in thousands)
|
|
value
|
|
losses
|
|
value
|
|
losses
|
|
value
|
|
losses
|
|
holdings
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt securities
|
|
$
|
25,804
|
|
|
$
|
342
|
|
|
$
|
15,699
|
|
|
$
|
1,362
|
|
|
$
|
41,503
|
|
|
$
|
1,704
|
|
|
158
|
|
Residential mortgage-backed securities
|
|
16,712
|
|
|
50
|
|
|
0
|
|
|
0
|
|
|
16,712
|
|
|
50
|
|
|
7
|
|
Commercial mortgage-backed securities
|
|
21,981
|
|
|
147
|
|
|
372
|
|
|
1
|
|
|
22,353
|
|
|
148
|
|
|
30
|
|
Collateralized debt obligations
|
|
20,889
|
|
|
33
|
|
|
41,010
|
|
|
214
|
|
|
61,899
|
|
|
247
|
|
|
49
|
|
Other debt securities
|
|
2,350
|
|
|
39
|
|
|
0
|
|
|
0
|
|
|
2,350
|
|
|
39
|
|
|
2
|
|
Total available-for-sale securities
|
|
$
|
87,736
|
|
|
$
|
611
|
|
|
$
|
57,081
|
|
|
$
|
1,577
|
|
|
$
|
144,817
|
|
|
$
|
2,188
|
|
|
246
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quality breakdown of available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment grade
|
|
$
|
76,315
|
|
|
$
|
287
|
|
|
$
|
46,390
|
|
|
$
|
218
|
|
|
$
|
122,705
|
|
|
$
|
505
|
|
|
100
|
|
Non-investment grade
|
|
11,421
|
|
|
324
|
|
|
10,691
|
|
|
1,359
|
|
|
22,112
|
|
|
1,683
|
|
|
146
|
|
Total available-for-sale securities
|
|
$
|
87,736
|
|
|
$
|
611
|
|
|
$
|
57,081
|
|
|
$
|
1,577
|
|
|
$
|
144,817
|
|
|
$
|
2,188
|
|
|
246
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit loss allowance on investments
As of December 31, 2020, the current expected credit loss allowance on agent loans is $1.1 million and the credit loss allowance on available-for-sale securities is $0.2 million.
Net investment income
Investment income, net of expenses, was generated from the following portfolios for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2020
|
|
2019
|
|
2018
|
|
|
|
|
|
|
|
Available-for-sale securities (1)
|
|
$
|
22,631
|
|
|
$
|
22,496
|
|
|
$
|
24,978
|
|
Equity securities
|
|
4,147
|
|
|
1,418
|
|
|
628
|
|
Cash equivalents and other
|
|
4,436
|
|
|
11,206
|
|
|
4,806
|
|
Total investment income
|
|
31,214
|
|
|
35,120
|
|
|
30,412
|
|
Less: investment expenses
|
|
1,461
|
|
|
1,061
|
|
|
1,025
|
|
Investment income, net of expenses
|
|
$
|
29,753
|
|
|
$
|
34,059
|
|
|
$
|
29,387
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) Includes interest earned on note receivable from EFL of $1.6 million in 2018. The note was repaid in full in 2018.
Realized investment gains (losses)
Realized gains (losses) on investments were as follows for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2020
|
|
2019
|
|
2018
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross realized gains
|
|
$
|
3,920
|
|
|
$
|
6,258
|
|
|
$
|
1,892
|
|
Gross realized losses
|
|
(2,585)
|
|
|
(1,639)
|
|
|
(3,189)
|
|
Net realized gains (losses) on available-for-sale securities
|
|
1,335
|
|
|
4,619
|
|
|
(1,297)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity securities
|
|
5,056
|
|
|
1,484
|
|
|
(819)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Miscellaneous
|
|
1
|
|
|
0
|
|
|
106
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized investment gains (losses)
|
|
$
|
6,392
|
|
|
$
|
6,103
|
|
|
$
|
(2,010)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The portion of net unrealized gains and losses recognized during the reporting period related to equity securities held at the reporting date is calculated as follows for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2020
|
|
2019
|
|
2018
|
|
|
Equity securities:
|
|
|
|
|
|
|
|
|
Net gains (losses) recognized during the period
|
|
$
|
5,056
|
|
|
$
|
1,484
|
|
|
$
|
(819)
|
|
|
|
Less: net (losses) gains recognized on securities sold
|
|
(469)
|
|
|
360
|
|
|
(86)
|
|
|
|
Net unrealized gains (losses) recognized on securities held at reporting date
|
|
$
|
5,525
|
|
|
$
|
1,124
|
|
|
$
|
(733)
|
|
|
|
Net impairment losses recognized in earnings
Upon adoption of ASU 2016-13 on January 1, 2020, impairments on available-for-sale securities that are deemed to be credit related are recognized in earnings with a corresponding available-for-sale security allowance. All unrealized losses related to factors other than credit are recorded in other comprehensive income. Prior to January 1, 2020, we had the intent to sell all credit-impaired available-for-sale securities; therefore, the entire amount of the impairment charges was included in earnings and no impairments were recognized in other comprehensive income. See also Note 2, "Significant Accounting Policies".
Impairments on available-for-sale securities and agent loans were as follows for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2020
|
|
2019
|
|
2018
|
Available-for-sale securities:
|
|
|
|
|
|
|
Intent to sell
|
|
$
|
2,274
|
|
|
$
|
195
|
|
|
$
|
1,581
|
|
Credit impaired
|
|
707
|
|
|
—
|
|
|
—
|
|
Total available-for-sale securities
|
|
2,981
|
|
|
195
|
|
|
1,581
|
|
Agent loans - expected credit losses
|
|
297
|
|
|
—
|
|
|
—
|
|
Net impairment losses recognized in earnings
|
|
$
|
3,278
|
|
|
$
|
195
|
|
|
$
|
1,581
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 7. Fixed Assets
The following table summarizes our fixed assets by category as of December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2020
|
|
2019
|
Software
|
|
$
|
196,139
|
|
|
$
|
191,709
|
|
Land, buildings, and building improvements
|
|
121,332
|
|
|
5,068
|
|
Equipment
|
|
37,426
|
|
|
14,546
|
|
Furniture and fixtures
|
|
20,998
|
|
|
1,934
|
|
Leasehold improvements
|
|
1,313
|
|
|
1,313
|
|
Projects in progress
|
|
47,277
|
|
|
22,992
|
|
Construction in progress
|
|
—
|
|
|
122,801
|
|
Total fixed assets, gross
|
|
424,485
|
|
|
360,363
|
|
Less: Accumulated depreciation and amortization
|
|
(159,144)
|
|
|
(138,984)
|
|
Fixed assets, net
|
|
$
|
265,341
|
|
|
$
|
221,379
|
|
Land, buildings, and building improvements, equipment, and furniture and fixtures increased due to the completion of a new office building serving as part of our principal headquarters in the fourth quarter of 2020. The building was financed using a senior secured draw term loan credit facility. See Note 9, "Borrowing Arrangements". Interest capitalized during construction was $3.5 million, $3.4 million, and $1.5 million for the years ended December 31, 2020, 2019 and 2018, respectively. Projects in progress include certain computer software and software developments costs for internal use that are not yet subject to amortization. Depreciation and amortization of fixed assets totaled $21.2 million, $16.8 million and $13.4 million for the years ended December 31, 2020, 2019 and 2018, respectively, and is included in cost of operations - policy issuance and renewal services.
Note 8. Leases
The following table summarizes our lease assets and liabilities as of December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
2020
|
|
2019
|
Operating lease assets
|
|
$
|
14,381
|
|
|
$
|
22,401
|
|
|
|
|
|
|
Operating lease liabilities - current
|
|
$
|
10,713
|
|
|
$
|
11,289
|
|
Operating lease liabilities - long-term
|
|
3,643
|
|
|
10,665
|
|
Total operating lease liabilities
|
|
$
|
14,356
|
|
|
$
|
21,954
|
|
We currently have leases for real estate, technology equipment, copiers, and vehicles. Our largest operating lease asset at December 31, 2020 of $6.3 million is for office space leased from the Exchange, including the home office. Under this lease, rent is based on rental rates of like property and all operating expenses are the responsibility of the tenant (Indemnity). The lease agreement expires December 31, 2021. See Note 15, "Related Party".
Operating lease costs for the years ended December 31, 2020 and 2019 totaled $13.1 million and $14.0 million, respectively. Of this amount, the Exchange and its subsidiaries reimbursed us $5.3 million and $6.0 million for the years ended December 31, 2020 and 2019, respectively, which represents the allocated share of lease costs supporting administrative services activities.
Note 9. Borrowing Arrangements
Bank Line of Credit
As of December 31, 2020, we have access to a $100 million bank revolving line of credit with a $25 million letter of credit sublimit that expires on October 30, 2023. As of December 31, 2020, 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, 2020. Investments with a fair value of $124.9 million were pledged as collateral on the line at December 31, 2020. The securities pledged as collateral have no trading restrictions and are reported as available-for-sale securities and cash and cash equivalents as of December 31, 2020. 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, 2020.
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 to serve as part of our principal headquarters. On January 1, 2019, the Credit Facility converted to a fully-amortized term loan with monthly payments of principal and interest at a fixed rate of 4.35% over a period of 28 years. Investments with a fair value of $126.5 million were pledged as collateral for the facility and are reported as available-for-sale securities and cash and cash equivalents as of December 31, 2020. 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, 2020.
The remaining unpaid balance from the Credit Facility is reported at carrying value, net of unamortized loan origination and commitment fees as long-term borrowings. See Note 5, "Fair Value" for the estimated fair value of these borrowings.
Annual principal payments
The following table sets forth future principal payments:
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
Year
|
|
Principal payments
|
2021
|
$
|
2,031
|
|
2022
|
|
2,109
|
|
2023
|
|
2,226
|
|
2024
|
|
2,302
|
|
2025
|
|
2,449
|
|
Thereafter
|
|
84,996
|
|
Note 10. 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 employees performing administrative services and their allocated share of costs for employees in departments that support the administrative functions. 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.
Cost of pension plans
Pension plan cost includes the following components:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
2020
|
|
2019
|
|
2018
|
|
Service cost for benefits earned
|
|
$
|
43,492
|
|
|
$
|
33,854
|
|
|
$
|
38,052
|
|
|
Interest cost on benefit obligation
|
|
37,578
|
|
|
39,306
|
|
|
35,382
|
|
|
Expected return on plan assets
|
|
(49,411)
|
|
|
(47,484)
|
|
|
(51,260)
|
|
|
Prior service cost amortization
|
|
1,343
|
|
|
1,394
|
|
|
1,353
|
|
|
Net actuarial loss amortization
|
|
12,125
|
|
|
5,113
|
|
|
12,809
|
|
|
|
|
|
|
|
|
|
|
Pension plan cost (1)
|
|
$
|
45,127
|
|
|
$
|
32,183
|
|
|
$
|
36,336
|
|
|
(1) 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:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2020
|
|
2019
|
|
2018
|
|
2017
|
|
|
|
|
|
|
|
|
|
|
|
Employee pension plan:
|
|
|
|
|
|
|
|
|
|
Discount rate
|
|
2.96
|
%
|
|
3.59
|
%
|
|
4.47
|
%
|
|
3.73
|
%
|
|
Expected return on assets
|
|
6.00
|
|
|
6.00
|
|
|
6.75
|
|
|
6.75
|
|
|
Compensation increases (1)
|
|
3.21
|
|
|
3.21
|
|
|
3.32
|
|
|
3.32
|
|
|
|
|
|
|
|
|
|
|
|
|
SERP:
|
|
|
|
|
|
|
|
|
|
Discount rate – pre-retirement/post-retirement (2)
|
|
2.86
|
|
|
3.59/3.09
|
|
4.47/3.97
|
|
3.73/3.23
|
|
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 3.21% in 2020 and 2019 and 3.32% in 2018 would produce similar results.
(2) In 2020, the SERP discount rate methodology was revised to utilize SERP specific cash outflows independent of the employee pension plan discount rate, eliminating a difference between pre-retirement and post-retirement rates.
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 all periods presented was based upon a yield curve developed from corporate bond yield information.
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.
Funding policy/funded status
In 2018, we made accelerated pension contributions totaling $80 million. Following our 2018 contributions, 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 to the 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)
|
|
|
|
|
|
|
|
2020
|
|
2019
|
|
|
|
|
|
|
|
|
|
|
|
Funded status at end of year
|
|
$
|
(165,098)
|
|
|
$
|
(146,842)
|
|
|
|
|
|
|
|
|
|
|
|
|
Pension liabilities – due within one year (1)
|
|
$
|
(752)
|
|
|
$
|
(1,183)
|
|
|
|
|
Pension liabilities – due after one year
|
|
(164,346)
|
|
|
(145,659)
|
|
|
|
|
Net amount recognized
|
|
$
|
(165,098)
|
|
|
$
|
(146,842)
|
|
|
|
|
(1) The current portion of pension liabilities is included in accounts payable and accrued liabilities.
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)
|
|
|
|
|
|
|
|
2020
|
|
2019
|
|
|
|
Projected benefit obligation, beginning of year
|
|
$
|
1,054,467
|
|
|
$
|
886,165
|
|
|
|
|
Service cost for benefits earned
|
|
43,492
|
|
|
33,854
|
|
|
|
|
Interest cost on benefit obligation
|
|
37,578
|
|
|
39,306
|
|
|
|
|
Plan amendments
|
|
0
|
|
|
452
|
|
|
|
|
Actuarial loss
|
|
134,470
|
|
|
138,144
|
|
|
|
|
Benefits paid
|
|
(23,848)
|
|
|
(43,454)
|
|
|
|
|
|
|
|
|
|
|
|
|
Projected benefit obligation, end of year
|
|
$
|
1,246,159
|
|
|
$
|
1,054,467
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated benefit obligation, end of year
|
|
$
|
1,006,884
|
|
|
$
|
858,209
|
|
|
|
|
Projected benefit obligations increased $191.7 million at December 31, 2020 compared to December 31, 2019 due primarily to actuarial losses resulting from the lower discount rate used to measure the future benefit obligations. The discount rate decreased to 2.96% in 2020 from 3.59% in 2019. The decrease in benefits paid of $19.6 million in 2020 compared to 2019 was primarily due to a pension plan amendment made in 2019 offering a one-time lump sum payment to former vested employees.
Both the defined benefit plan and the SERP had projected benefit obligations in excess of plan assets at December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
Projected Benefit Obligation in Excess of Plan Assets
|
|
|
|
2020
|
|
2019
|
|
Projected benefit obligation
|
|
$
|
1,246,159
|
|
|
$
|
1,054,467
|
|
|
|
|
|
|
|
|
Plan assets
|
|
1,081,061
|
|
|
907,625
|
|
|
The SERP had accumulated benefit obligations in excess of plan assets at December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
Accumulated Benefit Obligation in Excess of Plan Assets
|
|
|
|
2020
|
|
2019
|
|
|
|
|
|
|
|
Accumulated benefit obligation
|
|
$
|
26,462
|
|
|
$
|
23,411
|
|
|
Plan assets
|
|
—
|
|
|
—
|
|
|
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)
|
|
|
|
|
|
|
|
2020
|
|
2019
|
|
|
|
Fair value of plan assets, beginning of year
|
|
$
|
907,625
|
|
|
$
|
767,569
|
|
|
|
|
Actual gain on plan assets
|
|
195,713
|
|
|
182,002
|
|
|
|
|
Employer contributions
|
|
1,571
|
|
|
1,508
|
|
|
|
|
Benefits paid
|
|
(23,848)
|
|
|
(43,454)
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair value of plan assets, end of year
|
|
$
|
1,081,061
|
|
|
$
|
907,625
|
|
|
|
|
Accumulated other comprehensive loss
Net actuarial loss and prior service cost included in accumulated other comprehensive loss that were not yet recognized as components of net benefit costs were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
2020
|
|
2019
|
|
|
|
Net actuarial loss
|
|
$
|
118,721
|
|
|
$
|
142,678
|
|
|
|
|
Prior service cost
|
|
9,570
|
|
|
10,913
|
|
|
|
|
Net amount not yet recognized
|
|
$
|
128,291
|
|
|
$
|
153,591
|
|
|
|
|
Other comprehensive income
Amounts recognized in other comprehensive income for pension plans were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
2020
|
|
2019
|
|
Net actuarial (gain) loss arising during the year
|
|
$
|
(11,832)
|
|
|
$
|
3,626
|
|
|
Amortization of net actuarial loss
|
|
(12,125)
|
|
|
(5,113)
|
|
|
Amortization of prior service cost
|
|
(1,343)
|
|
|
(1,394)
|
|
|
Amendments (1)
|
|
0
|
|
|
452
|
|
|
|
|
|
|
|
|
Total recognized in other comprehensive income
|
|
$
|
(25,300)
|
|
|
$
|
(2,429)
|
|
|
(1) In 2019, there was one new SERP participant.
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 and a separate account 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:
|
|
2020
|
|
2019
|
|
2020
|
|
2019
|
|
Equity securities:
|
|
|
|
|
|
|
|
|
|
U.S. equity securities
|
|
27
|
%
|
(1)
|
27
|
%
|
|
28
|
%
|
|
28
|
%
|
|
Non-U.S. equity securities
|
|
18
|
|
(2)
|
18
|
|
|
18
|
|
|
18
|
|
|
Total equity securities
|
|
45
|
|
|
45
|
|
|
46
|
|
|
46
|
|
|
Debt securities
|
|
54
|
|
(3)
|
54
|
|
|
53
|
|
|
53
|
|
|
Other
|
|
1
|
|
(4)
|
1
|
|
|
1
|
|
|
1
|
|
|
Total
|
|
100
|
%
|
|
100
|
%
|
|
100
|
%
|
|
100
|
%
|
|
(1) U.S. equity securities – 23% seek to achieve excess returns relative to the Russell 2000 Index. The remaining 77% 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 21% are allocated to international emerging market investments. The remaining 68% 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 – 33% are allocated to long U.S. Treasury Strips, 67% are allocated to U.S. corporate bonds with an emphasis on long duration bonds rated A or better.
(4) Institutional money market fund.
The following tables present fair value measurements for the pension plan assets by major category and level of input as of:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2020
|
|
|
|
Fair value measurements of plan assets using:
|
|
(in thousands)
|
|
Total
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Equity securities:
|
|
|
|
|
|
|
|
|
|
U.S. equity securities
|
|
$
|
296,624
|
|
|
$
|
0
|
|
|
$
|
296,624
|
|
|
$
|
0
|
|
|
Non-U.S. equity securities
|
|
196,971
|
|
|
134,841
|
|
|
62,130
|
|
|
0
|
|
|
Total equity securities
|
|
493,595
|
|
|
134,841
|
|
|
358,754
|
|
|
0
|
|
|
Debt securities
|
|
574,910
|
|
|
0
|
|
|
574,910
|
|
|
0
|
|
|
Other
|
|
12,556
|
|
|
12,556
|
|
|
0
|
|
|
0
|
|
|
Total
|
|
$
|
1,081,061
|
|
|
$
|
147,397
|
|
|
$
|
933,664
|
|
|
$
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
|
|
Fair value measurements of plan assets using:
|
|
(in thousands)
|
|
Total
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Equity securities:
|
|
|
|
|
|
|
|
|
|
U.S. equity securities
|
|
$
|
248,585
|
|
|
$
|
0
|
|
|
$
|
248,585
|
|
|
$
|
0
|
|
|
Non-U.S. equity securities
|
|
165,752
|
|
|
0
|
|
|
165,752
|
|
|
0
|
|
|
Total equity securities
|
|
414,337
|
|
|
0
|
|
|
414,337
|
|
|
0
|
|
|
Debt securities
|
|
482,497
|
|
|
0
|
|
|
482,497
|
|
|
0
|
|
|
Other
|
|
10,791
|
|
|
10,791
|
|
|
0
|
|
|
0
|
|
|
Total
|
|
$
|
907,625
|
|
|
$
|
10,791
|
|
|
$
|
896,834
|
|
|
$
|
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 mutual fund and a separate account 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. Trustee and custodian valuation methodologies for Level 2 securities 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:
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
Year ending
December 31,
|
|
Expected future
benefit payments
|
2021
|
$
|
25,940
|
|
2022
|
|
29,162
|
|
2023
|
|
33,450
|
|
2024
|
|
36,643
|
|
2025
|
|
40,136
|
|
2026 - 2030
|
|
248,536
|
|
Employee savings plan
All full-time and regular part-time employees are eligible to participate in a qualified 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 $15.8 million in 2020, $14.9 million in 2019, and $13.9 million in 2018. In 2018, we made an additional discretionary employer contribution of $5.4 million, as a way of sharing the tax savings realized from the lower corporate income tax rate that became effective January 1, 2018 with our employees. The Exchange and its subsidiaries reimbursed us for approximately 59% of the matching and discretionary 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, 2020 and 2019.
Note 11. 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. If the funding qualifier is met, plan participants are eligible to receive the incentive based upon attainment of corporate and individual performance measures, which can include various financial 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 corporate performance measures 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. 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, 2020, the plan awards for the 2018-2020 performance period, which will be granted as a cash award were fully vested. Distributions will be made in 2021 once peer group financial information becomes available. The estimated plan award based upon the peer group information as of September 30, 2020 is $11.2 million. At December 31, 2019, the fully vested cash awards for the 2017-2019 performance period that were not deferred totaled $7.4 million and were paid to participants in June 2020. At December 31, 2018, the awards paid in cash for the 2016-2018 performance period were fully vested and resulted in a $8.2 million payment to plan participants in June 2019. At December 31, 2017, the awards for the 2015-2017 performance period were fully vested and resulted in a $8.3 million payment to plan participants in June 2018. The ECDC has determined that the plan awards for the 2019-2021 and 2020-2022 performance periods will be paid in cash.
The Exchange and its subsidiaries reimburse us for compensation costs of employees performing administrative services. Earned compensation costs are allocated to these 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 $12.0 million in 2020, $7.3 million in 2019, and $6.3 million in 2018. The related tax benefits recognized in income were $2.5 million in 2020, $1.5 million in 2019, and $1.3 million in 2018. The Exchange and its subsidiaries reimburse us for approximately 48% of the annual compensation cost of these plans. At December 31, 2020, there was $6.8 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 plan
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
We have 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. The shares are held in a rabbi trust, which was established to hold the shares earned under both the incentive compensation deferral plan and the deferred 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. Vested share credits will be paid to participants from the rabbi trust upon separation from service in approximate equal annual installments of Class A shares for a period of three years. In 2020, the rabbi trust purchased 3,934 shares of our common stock in the open market at an average price of $155.92 for $0.6 million to satisfy the liability for the 2019 AIP awards and 18,126 shares at an average price of $185.31 for $3.4 million to satisfy the liability for the 2017-2019 LTIP performance period awards deferred under the incentive compensation deferral plan. In 2019, the rabbi trust purchased 4,387 shares of our common stock in the open market at an average price of $176.34 for $0.8 million to satisfy the liability for the 2018 AIP awards deferred under the incentive compensation deferral plan. In 2018, the rabbi trust purchased 12,005 shares of our common stock in the open market at an average price of $119.28 for $1.4 million to satisfy the liability for the 2017 AIP awards deferred under the incentive compensation deferral plan.
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, which are held in the rabbi trust.
The rabbi trust purchased 7,401 shares of our common stock on the open market at an average price of $201.78 for $1.5 million in 2020, 7,370 shares at an average price of $194.62 for $1.4 million in 2019, and 9,285 shares at an average price of $122.19 for $1.1 million in 2018 to satisfy the liability of the stock compensation plan for outside directors. The shares are distributed to the outside director from the rabbi trust upon ending board service. The total compensation charged to operations related to these awards totaled $0.9 million, $1.1 million and $0.8 million in 2020, 2019 and 2018, respectively.
The following table sets forth a reconciliation of beginning and ending balances of our deferred executive compensation liability as of December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
2020
|
|
2019
|
|
2018
|
|
|
|
|
|
|
|
Deferred executive compensation, beginning of the year
|
|
$
|
24,616
|
|
|
$
|
26,182
|
|
|
$
|
30,057
|
|
Annual incentive plan awards
|
|
5,619
|
|
|
2,745
|
|
|
4,751
|
|
Long-term incentive plan awards
|
|
12,381
|
|
|
7,267
|
|
|
6,331
|
|
|
|
|
|
|
|
|
Employer match and hypothetical earnings on deferred compensation
|
|
2,962
|
|
|
2,700
|
|
|
1,484
|
|
Total plan awards and earnings
|
|
20,962
|
|
|
12,712
|
|
|
12,566
|
|
Total plan awards paid
|
|
(10,121)
|
|
|
(12,852)
|
|
|
(14,482)
|
|
Compensation deferred
|
|
4,668
|
|
|
1,579
|
|
|
1,928
|
|
Distributions from the deferred compensation plans
|
|
(2,081)
|
|
|
(797)
|
|
|
(1,321)
|
|
Forfeitures (1)
|
|
(356)
|
|
|
—
|
|
|
—
|
|
Funding of rabbi trust for deferred stock compensation plan for outside directors
|
|
(1,493)
|
|
|
(1,434)
|
|
|
(1,165)
|
|
Funding of rabbi trust for incentive compensation deferral plan
|
|
(3,972)
|
|
|
(774)
|
|
|
(1,401)
|
|
Deferred executive compensation, end of the year
|
|
$
|
32,223
|
|
|
$
|
24,616
|
|
|
$
|
26,182
|
|
(1) Forfeitures are the result of a plan participant 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.
To date, all awards have been satisfied with shares of our Class A common stock. In 2020, we purchased 1,787 Class A shares with an average share price of $165.82 and a market value of $0.3 million to satisfy the liability for the 2017 plan year. In 2019, we purchased 3,246 Class A shares with an average share price of $132.35 and a market value of $0.4 million to satisfy the liability for the 2016 plan year. In 2018, we purchased 5,830 shares with an average share price of $117.39 and a market value of $0.7 million to satisfy the liability for the 2015 plan year and remainder of the 2014 plan year awards. The total compensation charged to operations related to these ECP awards was $0.7 million in 2020, $0.5 million in 2019, and $0.4 million in 2018. The Exchange and its subsidiaries reimburse us for earned compensation costs of employees performing administrative services, which can fluctuate each year based on the plan participants. The Exchange and its subsidiaries reimbursed us for approximately 59%, 49%, and 68% of the awards paid in 2020, 2019, and 2018 respectively. Unearned compensation expense of $0.6 million is expected to be recognized over a period of three years.
Note 12. Income Taxes
The provision for income taxes consists of the following for the years ended December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
2020
|
|
2019
|
|
2018
|
|
|
|
|
|
|
|
Current income tax expense
|
|
$
|
80,373
|
|
|
$
|
76,535
|
|
|
$
|
84,454
|
|
Deferred income tax (benefit) expense
|
|
(5,162)
|
|
|
3,349
|
|
|
(1,358)
|
|
|
|
|
|
|
|
|
Income tax expense
|
|
$
|
75,211
|
|
|
$
|
79,884
|
|
|
$
|
83,096
|
|
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)
|
|
|
|
|
2020
|
|
2019
|
|
2018
|
Income tax at statutory rate
|
|
$
|
77,388
|
|
|
$
|
83,308
|
|
|
$
|
77,977
|
|
|
|
|
|
|
|
|
Tax-exempt interest
|
|
—
|
|
|
(123)
|
|
|
(1,305)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Decrease) increase in unrecognized tax benefits
|
|
—
|
|
|
(3,088)
|
|
|
3,088
|
|
Other, net
|
|
(2,177)
|
|
|
(213)
|
|
|
3,336
|
|
Income tax expense
|
|
$
|
75,211
|
|
|
$
|
79,884
|
|
|
$
|
83,096
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Temporary differences and carry-forwards, which give rise to deferred tax assets and liabilities, are as follows as of December 31:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
2020
|
|
2019
|
Deferred tax assets:
|
|
|
|
|
Pension and other postretirement benefits
|
|
$
|
29,065
|
|
|
$
|
25,720
|
|
Other employee benefits
|
|
14,544
|
|
|
11,835
|
|
Deferred revenue
|
|
3,872
|
|
|
3,755
|
|
Allowance for management fee returned on cancelled policies
|
|
3,515
|
|
|
3,421
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized losses on investments
|
|
1,083
|
|
|
—
|
|
Other
|
|
2,692
|
|
|
1,663
|
|
Total deferred tax assets
|
|
54,771
|
|
|
46,394
|
|
Deferred tax liabilities:
|
|
|
|
|
Depreciation
|
|
29,978
|
|
|
19,454
|
|
Unrealized gains on investments
|
|
7,540
|
|
|
4,181
|
|
Prepaid expenses
|
|
3,800
|
|
|
4,890
|
|
|
|
|
|
|
Commissions
|
|
884
|
|
|
545
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
|
|
228
|
|
|
138
|
|
Total deferred tax liabilities
|
|
42,430
|
|
|
29,208
|
|
Net deferred tax asset
|
|
$
|
12,341
|
|
|
$
|
17,186
|
|
If we determine that any of our deferred tax assets will not result in future tax benefits, a valuation allowance must be established for the portion of the assets that are not expected to be realized. We had no valuation allowance recorded at December 31, 2020 or 2019.
A reconciliation of unrecognized tax benefits for the years ended December 31 is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
2020
|
|
2019
|
|
2018
|
Balance at the beginning of the year
|
|
$
|
0
|
|
|
$
|
3,088
|
|
|
$
|
0
|
|
Additions for current year tax positions
|
|
—
|
|
|
—
|
|
|
7,719
|
|
Reductions for current year tax positions
|
|
—
|
|
|
—
|
|
|
(4,631)
|
|
Additions for prior year tax positions
|
|
—
|
|
|
4,631
|
|
|
—
|
|
Reductions for prior year tax positions
|
|
—
|
|
|
(7,719)
|
|
|
—
|
|
Balance at the end of the year
|
|
$
|
0
|
|
|
$
|
0
|
|
|
$
|
3,088
|
|
The uncertain tax position including $3.1 million of tax expense and $0.9 million of interest expense recorded in 2018 was settled during 2019. This settlement reduced our effective tax rate by 1.0% in 2019. The amounts recorded in 2018 resulted from the difference in measuring the tax liability at the previous tax rate and the current enacted tax rate. The recording of the uncertain tax position and related interest expense increased our 2018 effective tax rate by 1.0%.
Tax years ending December 31, 2019, 2018 and 2017 remain open to IRS examination. We are not currently 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 13. 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 2020, 2019 or 2018.
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. In 2011, our Board of Directors approved a continuation of the current stock repurchase program for a total of $150 million, with no time limitation. 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 2020, 2019 or 2018. We had approximately $17.8 million of repurchase authority remaining under this program at December 31, 2020, based upon trade date.
We made stock repurchases in 2020, 2019, and 2018 outside of our publicly announced share repurchase program related to stock-based awards. See Note 11, "Incentive and Deferred Compensation Plans" for additional information.
Note 14. 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)
|
|
2020
|
|
2019
|
|
2018
|
|
|
Before Tax
|
Income Tax
|
Net
|
|
Before Tax
|
Income Tax
|
Net
|
|
Before Tax
|
Income Tax
|
Net
|
Investment securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
AOCI (loss), beginning of year
|
|
$
|
5,664
|
|
$
|
1,189
|
|
$
|
4,475
|
|
|
$
|
(9,169)
|
|
$
|
(1,926)
|
|
$
|
(7,243)
|
|
|
$
|
3,410
|
|
$
|
716
|
|
$
|
2,694
|
|
OCI (loss) before reclassifications
|
|
22,074
|
|
4,636
|
|
17,438
|
|
|
19,257
|
|
4,044
|
|
15,213
|
|
|
(15,372)
|
|
(3,228)
|
|
(12,144)
|
|
Realized investment (gains) losses
|
|
(1,335)
|
|
(280)
|
|
(1,055)
|
|
|
(4,619)
|
|
(970)
|
|
(3,649)
|
|
|
1,297
|
|
272
|
|
1,025
|
|
Impairment losses
|
|
2,981
|
|
626
|
|
2,355
|
|
|
195
|
|
41
|
|
154
|
|
|
1,581
|
|
332
|
|
1,249
|
|
Cumulative effect of adopting ASU 2016-01 (1)
|
|
—
|
|
—
|
|
—
|
|
|
—
|
|
—
|
|
—
|
|
|
(85)
|
|
(18)
|
|
(67)
|
|
OCI (loss)
|
|
23,720
|
|
4,982
|
|
18,738
|
|
|
14,833
|
|
3,115
|
|
11,718
|
|
|
(12,579)
|
|
(2,642)
|
|
(9,937)
|
|
AOCI (loss), end of year
|
|
$
|
29,384
|
|
$
|
6,171
|
|
$
|
23,213
|
|
|
$
|
5,664
|
|
$
|
1,189
|
|
$
|
4,475
|
|
|
$
|
(9,169)
|
|
$
|
(1,926)
|
|
$
|
(7,243)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pension and other postretirement plans:
|
|
|
|
|
|
|
|
|
AOCI (loss), beginning of year
|
|
$
|
(153,600)
|
|
$
|
(32,257)
|
|
$
|
(121,343)
|
|
|
$
|
(155,749)
|
|
$
|
(32,708)
|
|
$
|
(123,041)
|
|
|
$
|
(200,954)
|
|
$
|
(42,201)
|
|
$
|
(158,753)
|
|
OCI (loss) before reclassifications
|
|
11,832
|
|
2,485
|
|
9,347
|
|
|
(4,085)
|
|
(858)
|
|
(3,227)
|
|
|
31,401
|
|
6,594
|
|
24,807
|
|
Amortization of prior service costs (2)
|
|
1,343
|
|
282
|
|
1,061
|
|
|
1,394
|
|
293
|
|
1,101
|
|
|
1,353
|
|
284
|
|
1,069
|
|
Amortization of net actuarial loss (2)
|
|
12,125
|
|
2,546
|
|
9,579
|
|
|
4,840
|
|
1,016
|
|
3,824
|
|
|
12,451
|
|
2,615
|
|
9,836
|
|
OCI
|
|
25,300
|
|
5,313
|
|
19,987
|
|
|
2,149
|
|
451
|
|
1,698
|
|
|
45,205
|
|
9,493
|
|
35,712
|
|
AOCI (loss), end of year
|
|
$
|
(128,300)
|
|
$
|
(26,944)
|
|
$
|
(101,356)
|
|
|
$
|
(153,600)
|
|
$
|
(32,257)
|
|
$
|
(121,343)
|
|
|
$
|
(155,749)
|
|
$
|
(32,708)
|
|
$
|
(123,041)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
AOCI (loss), beginning of year
|
|
$
|
(147,936)
|
|
$
|
(31,068)
|
|
$
|
(116,868)
|
|
|
$
|
(164,918)
|
|
$
|
(34,634)
|
|
$
|
(130,284)
|
|
|
$
|
(197,544)
|
|
$
|
(41,485)
|
|
$
|
(156,059)
|
|
Investment securities
|
|
23,720
|
|
4,982
|
|
18,738
|
|
|
14,833
|
|
3,115
|
|
11,718
|
|
|
(12,579)
|
|
(2,642)
|
|
(9,937)
|
|
Pension and other postretirement plans
|
|
25,300
|
|
5,313
|
|
19,987
|
|
|
2,149
|
|
451
|
|
1,698
|
|
|
45,205
|
|
9,493
|
|
35,712
|
|
OCI
|
|
49,020
|
|
10,295
|
|
38,725
|
|
|
16,982
|
|
3,566
|
|
13,416
|
|
|
32,626
|
|
6,851
|
|
25,775
|
|
AOCI (loss), end of year
|
|
$
|
(98,916)
|
|
$
|
(20,773)
|
|
$
|
(78,143)
|
|
|
$
|
(147,936)
|
|
$
|
(31,068)
|
|
$
|
(116,868)
|
|
|
$
|
(164,918)
|
|
$
|
(34,634)
|
|
$
|
(130,284)
|
|
(1)A reclassification of unrealized losses of equity securities from AOCI (loss) to retained earnings was required at January 1, 2018 as a result of new accounting guidance.
(2)These components of AOCI (loss) are included in the computation of net periodic pension cost. See Note 10, "Postretirement Benefits", for additional information.
Note 15. Related Party
Management fee
A management fee is charged to the Exchange for services we provide under the subscriber's agreement with subscribers at the Exchange. The fee is a percentage of direct and affiliated assumed premiums written by the Exchange. This percentage rate is determined at least annually by our Board of Directors but cannot exceed 25%. The management fee rate charged the Exchange was 25% in 2020, 2019 and 2018. The Board of Directors elected to maintain the fee at 25% beginning January 1, 2021.
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 & Casualty Company and Flagship City Insurance Company, and a wholly owned life insurance company, Erie Family Life Insurance Company. Indemnity and the Exchange, and its wholly owned subsidiaries, meet the definition of an insurance holding company system.
All transactions within a holding company system affecting the member insurers of the holding company system must be fair and reasonable and any charges or fees for services performed must be reasonable. Approval by the applicable insurance commissioner is required prior to the consummation of transactions affecting the members within a holding company system.
Office leases
We lease the home office from the Exchange. See Note 8, "Leases". Lease expense totaled $6.1 million in both 2020 and 2019 and $6.0 million in 2018. Operating expenses, including utilities, cleaning, repairs, real estate taxes, and property insurance, totaled $15.7 million, $16.7 million, and $13.5 million in 2020, 2019, and 2018, respectively. The Exchange and its subsidiaries reimburse us for rent costs and related operating expenses of shared facilities used to perform administrative services, which are allocated based upon usage or square footage occupied. Reimbursements related to the use of this space totaled $4.6 million, $4.2 million, and $3.9 million in 2020, 2019, and 2018, respectively. We also had a lease commitment with EFL for a field office until 2018. Annual rentals paid to EFL under this lease totaled $0.4 million in 2018.
We previously owned three field offices for which rental costs of shared facilities were allocated based upon usage or square footage occupied. In 2018, we sold the field offices we owned to the Exchange at the current independent appraised value in order to align the ownership interest of these facilities with the functions being performed at these locations, which are claims-related activities. We recognized a gain on the sale of $3.4 million, which is included in "Other (expense) income".
Notes receivable from EFL
We previously held a $25 million surplus note issued to us by EFL that was payable on demand on or after December 31, 2018. In 2018, EFL, with the appropriate approval from the Pennsylvania Insurance Commissioner, satisfied its obligation and repaid the surplus note. EFL paid related interest to us of $1.6 million in 2018.
Note 16. Concentrations of Credit Risk
Financial instruments that could potentially expose us to concentrations of credit risk include our unsecured receivables from the Exchange. A large majority of our revenue and receivables are from the Exchange and its affiliates. See also Note 1, "Nature of Operations". Net management fee amounts and other reimbursements due from the Exchange and its affiliates were $494.6 million and $468.6 million at December 31, 2020 and 2019, respectively. Given the financial strength of the Exchange and historical experience of no credit losses, we previously did not record a credit loss allowance to these receivables. Upon adoption of ASU 2016-13, we recorded an allowance for current expected credit losses of $0.6 million related to the receivables from the Exchange and affiliates. See also Note 2, "Significant Accounting Policies". There was no material change to this allowance as of December 31, 2020.
Note 17. Commitments and Contingencies
In 2020, we entered into an agreement with a bank for the establishment of a loan participation program for agent loans. The maximum amount of loans to be funded through this program is $100 million. We have committed to fund a minimum of 30% of each loan executed through this program. As of December 31, 2020, the total loans executed under this agreement totaled $14.9 million, of which our portion of the loans is $6.4 million. Additionally, we have agreed to guarantee a portion of the funding provided by the other participants in the program in the event of default. As of December 31, 2020, our maximum potential amount of future payments on the guaranteed portion is $1.5 million. All loan payments under the participation program are current as of December 31, 2020.
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, results of 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 18. 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:
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(in thousands)
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2020
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2019
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2018
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Cash flows from operating activities:
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Net income
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$
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293,304
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$
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316,821
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$
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288,224
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Adjustments to reconcile net income to net cash provided by operating activities:
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Depreciation and amortization
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21,195
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|
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16,813
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13,368
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Deferred income tax (benefit) expense
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(5,162)
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|
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3,349
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(1,358)
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|
|
|
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Lease amortization expense
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13,108
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|
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13,959
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|
—
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Realized (gains) losses and impairments on investments
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(3,114)
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(5,908)
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3,591
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|
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(Gain) loss on disposal of fixed assets
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(15)
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|
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75
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|
|
(3,047)
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Net investment income
|
|
5,878
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|
|
543
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|
|
6,423
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Increase (decrease) in deferred compensation
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7,611
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(1,541)
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(3,886)
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|
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Increase in receivables from affiliates
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(26,548)
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(19,505)
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(30,804)
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(Increase) decrease in accrued investment income
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(713)
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|
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(170)
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|
|
1,590
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|
(Increase) decrease in federal income taxes recoverable
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|
(2,202)
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|
|
7,700
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|
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21,738
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Decrease (increase) in prepaid pension
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41,227
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|
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28,798
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(47,335)
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(Increase) decrease in prepaid expenses and other assets
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(2,569)
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|
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(9,407)
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6,446
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(Decrease) increase in accounts payable and accrued expenses
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(14,307)
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|
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(3,627)
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|
|
11,039
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(Decrease) increase in commissions payable
|
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(625)
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|
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21,390
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|
|
13,449
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Increase (decrease) in accrued agent bonuses
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14,105
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(7,409)
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|
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(19,066)
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Increase in contract liability
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1,422
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|
|
2,646
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|
|
3,213
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Net cash provided by operating activities
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$
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342,595
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$
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364,527
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$
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263,585
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Note 19. Subsequent Events
No items were identified in this period subsequent to the financial statement date that required adjustment or additional disclosure.