MKL 09.30.2012 10-Q
Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
___________________________________________
 FORM 10-Q
___________________________________________
x
Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended September 30, 2012
or
¨
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from _______ to _______
Commission File Number: 001-15811
___________________________________________
MARKEL CORPORATION
(Exact name of registrant as specified in its charter)
___________________________________________
 
Virginia
 
54-1959284
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)

4521 Highwoods Parkway, Glen Allen, Virginia 23060-6148
(Address of principal executive offices)
(Zip Code)
(804) 747-0136
(Registrant’s telephone number, including area code)
 ___________________________________________
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x   No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes x No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer  x
 
Accelerated filer  o
 
Non-accelerated filer  o
 
Smaller reporting company  o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x
Number of shares of the registrant’s common stock outstanding at October 31, 2012: 9,624,398

Table of Contents

Markel Corporation
Form 10-Q
Index
 
 
 
 
 
 
Page Number
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

2
Table of Contents

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

MARKEL CORPORATION AND SUBSIDIARIES
Consolidated Balance Sheets
(dollars in thousands)
 
 
September 30,
2012
 
December 31,
2011
 
(unaudited)
 
 
ASSETS
 
 
 
Investments, available-for-sale, at estimated fair value:
 
 
 
Fixed maturities (amortized cost of $4,833,249 in 2012 and $5,172,952 in 2011)
$
5,280,549

 
$
5,538,174

Equity securities (cost of $1,375,406 in 2012 and $1,156,294 in 2011)
2,341,253

 
1,873,927

Short-term investments (estimated fair value approximates cost)
729,042

 
541,014

Total Investments
8,350,844

 
7,953,115

Cash and cash equivalents
834,828

 
775,032

Receivables
446,773

 
350,237

Reinsurance recoverable on unpaid losses
748,864

 
791,102

Reinsurance recoverable on paid losses
42,224

 
38,208

Deferred policy acquisition costs
167,185

 
194,674

Prepaid reinsurance premiums
114,354

 
97,074

Goodwill and intangible assets
997,834

 
867,558

Other assets
680,511

 
465,103

Total Assets
$
12,383,417

 
$
11,532,103

LIABILITIES AND EQUITY
 
 
 
Unpaid losses and loss adjustment expenses
$
5,306,045

 
$
5,398,869

Unearned premiums
1,053,135

 
915,930

Payables to insurance companies
100,079

 
64,327

Senior long-term debt and other debt (estimated fair value of $1,692,000 in 2012 and $1,391,000 in 2011)
1,510,598

 
1,293,520

Other liabilities
519,903

 
397,111

Total Liabilities
8,489,760

 
8,069,757

Redeemable noncontrolling interests
87,738

 
74,231

Commitments and contingencies

 

Shareholders’ equity:
 
 
 
Common stock
905,841

 
891,507

Retained earnings
2,009,133

 
1,835,086

Accumulated other comprehensive income
891,142

 
660,920

Total Shareholders’ Equity
3,806,116

 
3,387,513

Noncontrolling interests
(197
)
 
602

Total Equity
3,805,919

 
3,388,115

Total Liabilities and Equity
$
12,383,417

 
$
11,532,103

See accompanying notes to consolidated financial statements.

3
Table of Contents

MARKEL CORPORATION AND SUBSIDIARIES
Consolidated Statements of Income and Comprehensive Income (Loss)
(Unaudited)
 
Quarter Ended September 30,
 
Nine Months Ended September 30,
 
2012
 
2011
 
2012
 
2011
 
(dollars in thousands, except per share data)
OPERATING REVENUES
 
 
 
 
 
 
 
Earned premiums
$
530,537

 
$
509,203

 
$
1,573,189

 
$
1,462,515

Net investment income
64,438

 
62,199

 
207,834

 
196,551

Net realized investment gains:
 
 
 
 
 
 
 
Other-than-temporary impairment losses
(3,159
)
 
(9,846
)
 
(4,151
)
 
(11,553
)
Other-than-temporary impairment losses recognized in other comprehensive income (loss)
—

 
(138
)
 
—

 
(3,306
)
Other-than-temporary impairment losses recognized in net income
(3,159
)
 
(9,984
)
 
(4,151
)
 
(14,859
)
Net realized investment gains, excluding other-than-temporary impairment losses
8,390

 
22,823

 
29,507

 
40,282

Net realized investment gains
5,231

 
12,839

 
25,356

 
25,423

Other revenues
165,569

 
91,847

 
385,778

 
260,361

Total Operating Revenues
765,775

 
676,088

 
2,192,157

 
1,944,850

OPERATING EXPENSES
 
 
 
 
 
 
 
Losses and loss adjustment expenses
303,459

 
306,632

 
813,074

 
927,643

Underwriting, acquisition and insurance expenses
231,841

 
202,316

 
695,322

 
601,511

Amortization of intangible assets
7,959

 
6,023

 
25,078

 
17,586

Other expenses
145,339

 
70,302

 
343,462

 
218,270

Total Operating Expenses
688,598

 
585,273

 
1,876,936

 
1,765,010

Operating Income
77,177

 
90,815

 
315,221

 
179,840

Interest expense
24,692

 
23,656

 
69,068

 
64,516

Income Before Income Taxes
52,485

 
67,159

 
246,153

 
115,324

Income tax expense
811

 
12,490

 
45,998

 
19,145

Net Income
$
51,674

 
$
54,669

 
$
200,155

 
$
96,179

Net income attributable to noncontrolling interests
2,021

 
1,405

 
3,562

 
4,329

Net Income to Shareholders
$
49,653

 
$
53,264

 
$
196,593

 
$
91,850

 
 
 
 
 
 
 
 
OTHER COMPREHENSIVE INCOME (LOSS)
 
 
 
 
 
 
 
Change in net unrealized gains on investments, net of taxes:
 
 
 
 
 
 
 
Net holding gains (losses) arising during the period
$
100,630

 
$
(90,330
)
 
$
246,056

 
$
(5,606
)
Unrealized other-than-temporary impairment losses on fixed maturities arising during the period
(128
)
 
189

 
(136
)
 
1,657

Reclassification adjustments for net gains included in net income
(6,484
)
 
(7,995
)
 
(20,154
)
 
(15,286
)
Change in net unrealized gains on investments, net of taxes
94,018

 
(98,136
)
 
225,766

 
(19,235
)
Change in foreign currency translation adjustments, net of taxes
3,266

 
(8,133
)
 
2,927

 
(5,538
)
Change in net actuarial pension loss, net of taxes
522

 
379

 
1,487

 
1,080

Total Other Comprehensive Income (Loss)
97,806

 
(105,890
)
 
230,180

 
(23,693
)
Comprehensive Income (Loss)
$
149,480

 
$
(51,221
)
 
$
430,335

 
$
72,486

Comprehensive income attributable to noncontrolling interests
2,026

 
1,405

 
3,520

 
4,329

Comprehensive Income (Loss) to Shareholders
$
147,454

 
$
(52,626
)
 
$
426,815

 
$
68,157

 
 
 
 
 
 
 
 
NET INCOME PER SHARE
 
 
 
 
 
 
 
Basic
$
5.33

 
$
5.50

 
$
19.72

 
$
9.46

Diluted
$
5.32

 
$
5.48

 
$
19.67

 
$
9.42

See accompanying notes to consolidated financial statements.

4
Table of Contents

MARKEL CORPORATION AND SUBSIDIARIES
Consolidated Statements of Changes in Equity
(Unaudited)
 
 
Common
Stock
 
Retained
Earnings
 
Accumulated
Other
Comprehensive
Income
 
Total
Shareholders’
Equity
 
Noncontrolling
Interests
 
Total Equity
 
Redeemable
Noncontrolling
Interests
 
(dollars in thousands)
December 31, 2010
$
884,457

 
$
1,735,973

 
$
551,093

 
$
3,171,523

 
$
871

 
$
3,172,394

 
$
15,298

Net income (loss)
 
 
91,850

 
—

 
91,850

 
(345
)
 
91,505

 
4,674

Change in net unrealized gains on investments, net of taxes
 
 
—

 
(19,235
)
 
(19,235
)
 
—

 
(19,235
)
 
—

Change in foreign currency translation adjustments, net of taxes
 
 
—

 
(5,538
)
 
(5,538
)
 
—

 
(5,538
)
 
—

Change in net actuarial pension loss, net of taxes
 
 
—

 
1,080

 
1,080

 
—

 
1,080

 
—

Comprehensive Income (Loss)
 
 
 
 
 
 
68,157

 
(345
)
 
67,812

 
4,674

Issuance of common stock
1,182

 
—

 
—

 
1,182

 
—

 
1,182

 
—

Repurchase of common stock
—

 
(33,436
)
 
—

 
(33,436
)
 
—

 
(33,436
)
 
—

Restricted stock units expensed
4,606

 
—

 
—

 
4,606

 
—

 
4,606

 
—

Acquisitions
—

 
—

 
—

 
—

 
—

 
—

 
47,287

Other
148

 
—

 
—

 
148

 
—

 
148

 
(1,873
)
September 30, 2011
$
890,393

 
$
1,794,387

 
$
527,400

 
$
3,212,180

 
$
526

 
$
3,212,706

 
$
65,386

 
 
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2011
$
891,507

 
$
1,835,086

 
$
660,920

 
$
3,387,513

 
$
602

 
$
3,388,115

 
$
74,231

Net income (loss)
 
 
196,593

 
—

 
196,593

 
(742
)
 
195,851

 
4,304

Change in net unrealized gains on investments, net of taxes
 
 
—

 
225,766

 
225,766

 
—

 
225,766

 
—

Change in foreign currency translation adjustments, net of taxes
 
 
—

 
2,969

 
2,969

 
—

 
2,969

 
(42
)
Change in net actuarial pension loss, net of taxes
 
 
—

 
1,487

 
1,487

 
—

 
1,487

 
—

Comprehensive Income (Loss)
 
 
 
 
 
 
426,815

 
(742
)
 
426,073

 
4,262

Issuance of common stock
8,803

 
—

 
—

 
8,803

 
—

 
8,803

 
—

Repurchase of common stock
—

 
(16,062
)
 
—

 
(16,062
)
 
—

 
(16,062
)
 
—

Restricted stock units expensed
5,184

 
—

 
—

 
5,184

 
—

 
5,184

 
—

Acquisitions
—

 
—

 
—

 
—

 
—

 
—

 
7,896

Adjustment of redeemable noncontrolling interests
—

 
(6,484
)
 
—

 
(6,484
)
 
—

 
(6,484
)
 
6,484

Other
347

 
—

 
—

 
347

 
(57
)
 
290

 
(5,135
)
September 30, 2012
$
905,841

 
$
2,009,133

 
$
891,142

 
$
3,806,116

 
$
(197
)
 
$
3,805,919

 
$
87,738

See accompanying notes to consolidated financial statements.

5
Table of Contents

MARKEL CORPORATION AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Unaudited)
 
 
Nine Months Ended September 30,
 
2012
 
2011
 
(dollars in thousands)
OPERATING ACTIVITIES
 
 
 
Net income
$
200,155

 
$
96,179

Adjustments to reconcile net income to net cash provided by operating activities
39,390

 
164,929

Net Cash Provided By Operating Activities
239,545

 
261,108

INVESTING ACTIVITIES
 
 
 
Proceeds from sales of fixed maturities and equity securities
193,514

 
204,821

Proceeds from maturities, calls and prepayments of fixed maturities
354,489

 
255,951

Cost of fixed maturities and equity securities purchased
(390,927
)
 
(526,058
)
Net change in short-term investments
(183,748
)
 
(168,057
)
Acquisitions, net of cash acquired
(246,182
)
 
(20,319
)
Additions to property and equipment
(33,489
)
 
(43,511
)
Cost of equity method investments
(38,650
)
 
(10,600
)
Other
(8,996
)
 
13,290

Net Cash Used By Investing Activities
(353,989
)
 
(294,483
)
FINANCING ACTIVITIES
 
 
 
Additions to senior long-term debt and other debt
461,360

 
302,829

Repayments of senior long-term debt and other debt
(263,120
)
 
(57,393
)
Repurchases of common stock
(16,062
)
 
(33,436
)
Distributions to noncontrolling interests
(4,821
)
 
(2,419
)
Other
(6,730
)
 
1,235

Net Cash Provided By Financing Activities
170,627

 
210,816

Effect of foreign currency rate changes on cash and cash equivalents
3,613

 
(2,507
)
Increase in cash and cash equivalents
59,796

 
174,934

Cash and cash equivalents at beginning of period
775,032

 
745,259

CASH AND CASH EQUIVALENTS AT END OF PERIOD
$
834,828

 
$
920,193

See accompanying notes to consolidated financial statements.

6
Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. Basis of Presentation

Markel Corporation is a diverse financial holding company serving a variety of niche markets. Markel Corporation’s principal business markets and underwrites specialty insurance products and programs. Markel Corporation also owns interests in various industrial and service businesses that operate outside of the specialty insurance marketplace.

The consolidated balance sheet as of September 30, 2012, the related consolidated statements of income and comprehensive income (loss) for the quarters and nine months ended September 30, 2012 and 2011, and the consolidated statements of changes in equity and cash flows for the nine months ended September 30, 2012 and 2011 are unaudited. In the opinion of management, all adjustments necessary for fair presentation of such consolidated financial statements have been included. Such adjustments consist only of normal, recurring items. Interim results are not necessarily indicative of results of operations for the entire year. The consolidated balance sheet as of December 31, 2011 was derived from Markel Corporation’s audited annual consolidated financial statements.

The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (U.S. GAAP) and include the accounts of Markel Corporation and all subsidiaries (the Company). All significant intercompany balances and transactions have been eliminated in consolidation. The Company consolidates the results of its non-insurance subsidiaries on a one-month lag. Certain prior year amounts have been reclassified to conform to the current presentation.

The preparation of financial statements in accordance with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and the disclosure of contingent assets and liabilities. Actual results may differ materially from the estimates and assumptions used in preparing the consolidated financial statements.

The consolidated financial statements and notes are presented as permitted by Form 10-Q and do not contain certain information included in the Company’s annual consolidated financial statements and notes. Readers are urged to review the Company’s 2011 Annual Report on Form 10-K for a more complete description of the Company’s business and accounting policies.

ParkLand Ventures, Inc. (ParkLand), a subsidiary of the Company, has formed subsidiaries for the purpose of acquiring and financing real estate (the real estate subsidiaries). The assets of the real estate subsidiaries, which are not material to the Company, are consolidated in accordance with U.S. GAAP but are not available to satisfy the debt and other obligations of the Company or any affiliates other than the real estate subsidiaries.

2. Net Income per Share

Net income per share was determined by dividing adjusted net income to shareholders by the applicable weighted average shares outstanding. 

 
Quarter Ended September 30,
 
Nine Months Ended September 30,
(in thousands, except per share amounts)
2012
 
2011
 
2012
 
2011
Net income to shareholders
$
49,653

 
$
53,264

 
$
196,593

 
$
91,850

Less: Adjustment of redeemable noncontrolling interests
(1,702
)
 
—

 
6,484

 
—

Adjusted net income to shareholders
$
51,355

 
$
53,264

 
$
190,109

 
$
91,850

 
 
 
 
 
 
 
 
Basic common shares outstanding
9,632

 
9,680

 
9,641

 
9,706

Dilutive potential common shares
27

 
38

 
26

 
40

Diluted shares outstanding
9,659

 
9,718

 
9,667

 
9,746

Basic net income per share
$
5.33

 
$
5.50

 
$
19.72

 
$
9.46

Diluted net income per share
$
5.32

 
$
5.48

 
$
19.67

 
$
9.42




7
Table of Contents

3. Reinsurance

The following tables summarize the effect of reinsurance on premiums written and earned.

 
Quarter Ended September 30,
(dollars in thousands)
2012
 
2011
 
Written
 
Earned
 
Written
 
Earned
Direct
$
519,408

 
$
505,514

 
$
501,687

 
$
475,578

Assumed
91,425

 
94,822

 
82,948

 
86,134

Ceded
(71,209
)
 
(69,799
)
 
(59,957
)
 
(52,509
)
Net premiums
$
539,624

 
$
530,537

 
$
524,678

 
$
509,203


 
Nine Months Ended September 30,
(dollars in thousands)
2012
 
2011
 
Written
 
Earned
 
Written
 
Earned
Direct
$
1,568,092

 
$
1,505,710

 
$
1,482,903

 
$
1,383,678

Assumed
338,281

 
269,771

 
289,708

 
254,907

Ceded
(218,969
)
 
(202,292
)
 
(198,233
)
 
(176,070
)
Net premiums
$
1,687,404

 
$
1,573,189

 
$
1,574,378

 
$
1,462,515


Incurred losses and loss adjustment expenses were net of reinsurance recoverables (ceded incurred losses and loss adjustment expenses) of $15.3 million and $42.9 million, respectively, for the quarters ended September 30, 2012 and 2011 and $79.6 million and $136.7 million, respectively, for the nine months ended September 30, 2012 and 2011.

4. Investments

a)
The following tables summarize the Company’s available-for-sale investments.

 
September 30, 2012
(dollars in thousands)
Amortized
Cost
 
Gross
Unrealized
Holding
Gains
 
Gross
Unrealized
Holding
Losses
 
Unrealized
Other-Than-
Temporary
Impairment
Losses
 
Estimated
Fair
Value
Fixed maturities:
 
 
 
 
 
 
 
 
 
U.S. Treasury securities and obligations of U.S. government agencies
$
300,491

 
$
21,462

 
$
—

 
$
—

 
$
321,953

Obligations of states, municipalities and political subdivisions
2,653,298

 
257,461

 
(341
)
 
—

 
2,910,418

Foreign governments
544,544

 
57,673

 
(1
)
 
—

 
602,216

Residential mortgage-backed securities
261,089

 
19,515

 
(3
)
 
(2,258
)
 
278,343

Asset-backed securities
14,332

 
676

 
—

 
—

 
15,008

Public utilities
56,432

 
5,221

 
—

 
—

 
61,653

All other corporate bonds
1,003,063

 
94,765

 
(79
)
 
(6,791
)
 
1,090,958

Total fixed maturities
4,833,249

 
456,773

 
(424
)
 
(9,049
)
 
5,280,549

Equity securities:
 
 
 
 
 
 
 
 
 
Insurance companies, banks and trusts
442,119

 
383,397

 
(1,798
)
 
—

 
823,718

Industrial, consumer and all other
933,287

 
590,506

 
(6,258
)
 
—

 
1,517,535

Total equity securities
1,375,406

 
973,903

 
(8,056
)
 
—

 
2,341,253

Short-term investments
729,029

 
15

 
(2
)
 
—

 
729,042

Investments, available-for-sale
$
6,937,684

 
$
1,430,691

 
$
(8,482
)
 
$
(9,049
)
 
$
8,350,844


8
Table of Contents

 
December 31, 2011
(dollars in thousands)
Amortized
Cost
 
Gross
Unrealized
Holding
Gains
 
Gross
Unrealized
Holding
Losses
 
Unrealized
Other-Than-
Temporary
Impairment
Losses
 
Estimated
Fair
Value
Fixed maturities:
 
 
 
 
 
 
 
 
 
U.S. Treasury securities and obligations of U.S. government agencies
$
299,413

 
$
22,789

 
$
(9
)
 
$
—

 
$
322,193

Obligations of states, municipalities and political subdivisions
2,729,838

 
201,477

 
(794
)
 
—

 
2,930,521

Foreign governments
572,253

 
45,629

 
(1,068
)
 
—

 
616,814

Residential mortgage-backed securities
366,859

 
24,601

 
(18
)
 
(2,258
)
 
389,184

Asset-backed securities
16,096

 
731

 
(9
)
 
—

 
16,818

Public utilities
63,965

 
5,462

 
—

 
—

 
69,427

All other corporate bonds
1,124,528

 
78,053

 
(2,750
)
 
(6,614
)
 
1,193,217

Total fixed maturities
5,172,952

 
378,742

 
(4,648
)
 
(8,872
)
 
5,538,174

Equity securities:
 
 
 
 
 
 
 
 
 
Insurance companies, banks and trusts
389,421

 
296,648

 
(1,366
)
 
—

 
684,703

Industrial, consumer and all other
766,873

 
425,131

 
(2,780
)
 
—

 
1,189,224

Total equity securities
1,156,294

 
721,779

 
(4,146
)
 
—

 
1,873,927

Short-term investments
541,014

 
4

 
(4
)
 
—

 
541,014

Investments, available-for-sale
$
6,870,260

 
$
1,100,525

 
$
(8,798
)
 
$
(8,872
)
 
$
7,953,115


b)
The following tables summarize gross unrealized investment losses by the length of time that securities have continuously been in an unrealized loss position.

 
September 30, 2012
 
Less than 12 months
 
12 months or longer
 
Total
(dollars in thousands)
Estimated
Fair
Value
 
Gross
Unrealized
Holding and
Other-Than-
Temporary
Impairment
Losses
 
Estimated
Fair
Value
 
Gross
Unrealized
Holding and
Other-Than-
Temporary
Impairment
Losses
 
Estimated
Fair
Value
 
Gross
Unrealized
Holding and
Other-Than-
Temporary
Impairment
Losses
Fixed maturities:
 
 
 
 
 
 
 
 
 
 
 
Obligations of states, municipalities and political subdivisions
$
2,114

 
$
(50
)
 
$
3,873

 
$
(291
)
 
$
5,987

 
$
(341
)
Foreign governments
14,530

 
(1
)
 
—

 
—

 
14,530

 
(1
)
Residential mortgage-backed securities
560

 
(2,259
)
 
249

 
(2
)
 
809

 
(2,261
)
All other corporate bonds
—

 
(6,791
)
 
3,900

 
(79
)
 
3,900

 
(6,870
)
Total fixed maturities
17,204

 
(9,101
)
 
8,022

 
(372
)
 
25,226

 
(9,473
)
Equity securities:
 
 
 
 
 
 
 
 
 
 
 
Insurance companies, banks and trusts
18,449

 
(1,798
)
 
—

 
—

 
18,449

 
(1,798
)
Industrial, consumer and all other
64,568

 
(6,123
)
 
1,971

 
(135
)
 
66,539

 
(6,258
)
Total equity securities
83,017

 
(7,921
)
 
1,971

 
(135
)
 
84,988

 
(8,056
)
Short-term investments
160,991

 
(2
)
 
—

 
—

 
160,991

 
(2
)
Total
$
261,212

 
$
(17,024
)
 
$
9,993

 
$
(507
)
 
$
271,205

 
$
(17,531
)


9
Table of Contents

At September 30, 2012, the Company held 38 securities with a total estimated fair value of $271.2 million and gross unrealized losses of $17.5 million. Of these 38 securities, 10 securities had been in a continuous unrealized loss position for greater than one year and had a total estimated fair value of $10.0 million and gross unrealized losses of $0.5 million. Of these securities, eight were fixed maturities and two were equity securities. The Company does not intend to sell or believe it will be required to sell these fixed maturities before recovery of their amortized cost.

 
December 31, 2011
 
Less than 12 months
 
12 months or longer
 
Total
(dollars in thousands)
Estimated
Fair
Value
 
Gross
Unrealized
Holding and
Other-Than-
Temporary
Impairment
Losses
 
Estimated
Fair
Value
 
Gross
Unrealized
Holding and
Other-Than-
Temporary
Impairment
Losses
 
Estimated
Fair
Value
 
Gross
Unrealized
Holding and
Other-Than-
Temporary
Impairment
Losses
Fixed maturities:
 
 
 
 
 
 
 
 
 
 
 
U.S. Treasury securities and obligations of U.S. government agencies
$
32,384

 
$
(9
)
 
$
—

 
$
—

 
$
32,384

 
$
(9
)
Obligations of states, municipalities and political subdivisions
1,016

 
(2
)
 
17,261

 
(792
)
 
18,277

 
(794
)
Foreign governments
40,340

 
(1,068
)
 
—

 
—

 
40,340

 
(1,068
)
Residential mortgage-backed securities
489

 
(2,263
)
 
2,045

 
(13
)
 
2,534

 
(2,276
)
Asset-backed securities
—

 
—

 
32

 
(9
)
 
32

 
(9
)
All other corporate bonds
74,812

 
(7,829
)
 
7,923

 
(1,535
)
 
82,735

 
(9,364
)
Total fixed maturities
149,041

 
(11,171
)
 
27,261

 
(2,349
)
 
176,302

 
(13,520
)
Equity securities:
 
 
 
 
 
 
 
 
 
 
 
Insurance companies, banks and trusts
26,514

 
(1,366
)
 
—

 
—

 
26,514

 
(1,366
)
Industrial, consumer and all other
70,555

 
(2,774
)
 
18,525

 
(6
)
 
89,080

 
(2,780
)
Total equity securities
97,069

 
(4,140
)
 
18,525

 
(6
)
 
115,594

 
(4,146
)
Short-term investments
295,991

 
(4
)
 
—

 
—

 
295,991

 
(4
)
Total
$
542,101

 
$
(15,315
)
 
$
45,786

 
$
(2,355
)
 
$
587,887

 
$
(17,670
)

At December 31, 2011, the Company held 76 securities with a total estimated fair value of $587.9 million and gross unrealized losses of $17.7 million. Of these 76 securities, 17 securities had been in a continuous unrealized loss position for greater than one year and had a total estimated fair value of $45.8 million and gross unrealized losses of $2.4 million. Of these securities, 16 securities were fixed maturities and one was an equity security.

The Company completes a detailed analysis each quarter to assess whether the decline in the fair value of any investment below its cost basis is deemed other-than-temporary. All securities with unrealized losses are reviewed. The Company considers many factors in completing its quarterly review of securities with unrealized losses for other-than-temporary impairment, including the length of time and the extent to which fair value has been below cost and the financial condition and near-term prospects of the issuer. For equity securities, the ability and intent to hold the security for a period of time sufficient to allow for anticipated recovery is considered. For fixed maturities, the Company considers whether it intends to sell the security or if it is more likely than not that it will be required to sell the security before recovery, the implied yield-to-maturity, the credit quality of the issuer and the ability to recover all amounts outstanding when contractually due.


10
Table of Contents

For equity securities, a decline in fair value that is considered to be other-than-temporary is recognized in net income based on the fair value of the security at the time of assessment, resulting in a new cost basis for the security. For fixed maturities where the Company intends to sell the security or it is more likely than not that the Company will be required to sell the security before recovery of its amortized cost, a decline in fair value is considered to be other-than-temporary and is recognized in net income based on the fair value of the security at the time of assessment, resulting in a new cost basis for the security. If the decline in fair value of a fixed maturity below its amortized cost is considered to be other-than-temporary based upon other considerations, the Company compares the estimated present value of the cash flows expected to be collected to the amortized cost of the security. The extent to which the estimated present value of the cash flows expected to be collected is less than the amortized cost of the security represents the credit-related portion of the other-than-temporary impairment, which is recognized in net income, resulting in a new cost basis for the security. Any remaining decline in fair value represents the non-credit portion of the other-than-temporary impairment, which is recognized in other comprehensive income (loss). The discount rate used to calculate the estimated present value of the cash flows expected to be collected is the effective interest rate implicit for the security at the date of purchase.

When assessing whether it intends to sell a fixed maturity or if it is likely to be required to sell a fixed maturity before recovery of its amortized cost, the Company evaluates facts and circumstances including, but not limited to, decisions to reposition the investment portfolio, potential sales of investments to meet cash flow needs and potential sales of investments to capitalize on favorable pricing. Additional information on the methodology and significant inputs, by security type, that the Company used to determine the amount of credit loss recognized on fixed maturities with declines in fair value below amortized cost that were considered to be other-than-temporary is provided below.

Residential mortgage-backed securities. For mortgage-backed securities, credit impairment is assessed by estimating future cash flows from the underlying mortgage loans and interest payments. The cash flow estimate incorporates actual cash flows from the mortgage-backed securities through the current period and then projects the remaining cash flows using a number of assumptions, including prepayment rates, default rates, recovery rates on foreclosed properties and loss severity assumptions. Management develops specific assumptions using market data and internal estimates, as well as estimates from rating agencies and other third party sources. Default rates are estimated by considering current underlying mortgage loan performance and expectations of future performance. Estimates of future cash flows are discounted to present value. If the present value of expected cash flows is less than the amortized cost, the Company recognizes the estimated credit loss in net income.

Corporate bonds. For corporate bonds, credit impairment is assessed by evaluating the underlying issuer. As part of this assessment, the Company analyzes various factors, including the following:
•
fundamentals of the issuer, including current and projected earnings, current liquidity position and ability to raise capital;
•
fundamentals of the industry in which the issuer operates;
•
expectations of defaults and recovery rates;
•
changes in ratings by rating agencies;
•
other relevant market considerations; and
•
receipt of interest payments

Default probabilities and recovery rates from rating agencies are key factors used in calculating the credit loss. Additional research of the industry and issuer is completed to determine if there is any current information that may affect the fixed maturity or its issuer in a negative manner and require an adjustment to the cash flow assumptions.

11
Table of Contents


c)
The amortized cost and estimated fair value of fixed maturities at September 30, 2012 are shown below by contractual maturity.

(dollars in thousands)
Amortized
Cost
 
Estimated
Fair Value
Due in one year or less
$
311,759

 
$
316,794

Due after one year through five years
1,282,826

 
1,398,701

Due after five years through ten years
1,617,285

 
1,773,272

Due after ten years
1,345,958

 
1,498,431

 
4,557,828

 
4,987,198

Residential mortgage-backed securities
261,089

 
278,343

Asset-backed securities
14,332

 
15,008

Total fixed maturities
$
4,833,249

 
$
5,280,549


d)
The following table summarizes the activity for credit losses recognized in net income on fixed maturities where other-than-temporary impairment was identified and a portion of the other-than-temporary impairment was included in other comprehensive income (loss).

 
Quarter Ended September 30,
 
Nine Months Ended September 30,
(dollars in thousands)
2012
 
2011
 
2012
 
2011
Cumulative credit loss, beginning balance
$
21,370

 
$
15,167

 
$
21,370

 
$
10,307

Additions:
 
 
 
 
 
 
 
Other-than-temporary impairment losses not previously recognized
—

 
875

 
—

 
875

Increases related to other-than-temporary impairment losses previously recognized
—

 
598

 
—

 
5,473

Total additions
—

 
1,473

 
—

 
6,348

Reductions:
 
 
 
 
 
 
 
Sales of fixed maturities on which credit losses were recognized
—

 
—

 
—

 
(15
)
Cumulative credit loss, ending balance
$
21,370

 
$
16,640

 
$
21,370

 
$
16,640


12
Table of Contents


e)
The following table presents net realized investment gains and the change in net unrealized gains on investments. 

 
Quarter Ended September 30,
 
Nine Months Ended September 30,
(dollars in thousands)
2012
 
2011
 
2012
 
2011
Realized gains:
 
 
 
 
 
 
 
Sales of fixed maturities
$
2,576

 
$
1,858

 
$
7,863

 
$
12,560

Sales of equity securities
10,403

 
20,078

 
25,865

 
25,896

Other
—

 
940

 
655

 
2,459

Total realized gains
12,979

 
22,876

 
34,383

 
40,915

Realized losses:
 
 
 
 
 
 
 
Sales of fixed maturities
(118
)
 
(53
)
 
(457
)
 
(633
)
Sales of equity securities
(383
)
 
—

 
(331
)
 
—

Other-than-temporary impairments
(3,159
)
 
(9,984
)
 
(4,151
)
 
(14,859
)
Other
(4,088
)
 
—

 
(4,088
)
 
—

Total realized losses
(7,748
)
 
(10,037
)
 
(9,027
)
 
(15,492
)
Net realized investment gains
$
5,231

 
$
12,839

 
$
25,356

 
$
25,423

Change in net unrealized gains on investments:
 
 
 
 
 
 
 
Fixed maturities
$
37,488

 
$
113,936

 
$
82,078

 
$
178,359

Equity securities
98,964

 
(262,264
)
 
248,214

 
(209,346
)
Short-term investments
18

 
1

 
13

 
22

Net increase (decrease)
$
136,470

 
$
(148,327
)
 
$
330,305

 
$
(30,965
)

f)
The following table presents other-than-temporary impairment losses recognized in net income and included in net realized investment gains by investment type.

 
Quarter Ended September 30,
 
Nine Months Ended September 30,
(dollars in thousands)
2012
 
2011
 
2012
 
2011
Fixed maturities:
 
 
 
 
 
 
 
Residential mortgage-backed securities
$
—

 
$
(1,473
)
 
$
—

 
$
(6,348
)
Total fixed maturities
—

 
(1,473
)
 
—

 
(6,348
)
Equity securities:
 
 
 
 
 
 
 
Insurance companies, banks and trusts
(1,615
)
 
(4,048
)
 
(2,441
)
 
(4,048
)
Industrial, consumer and all other
(1,544
)
 
(4,463
)
 
(1,710
)
 
(4,463
)
Total equity securities
(3,159
)
 
(8,511
)
 
(4,151
)
 
(8,511
)
Total
$
(3,159
)
 
$
(9,984
)
 
$
(4,151
)
 
$
(14,859
)

5. Senior Long-Term Debt

On July 2, 2012, the Company issued $350 million of 4.90% unsecured senior notes due July 1, 2022. Net proceeds to the Company were $347.2 million. On August 1, 2012, the Company used a portion of these proceeds to redeem its 7.50% unsecured senior debentures due August 22, 2046 at a redemption price equal to 100% of their principal amount, or $150 million. This redemption resulted in a loss of $4.1 million, which is reflected in net realized investment gains. The proceeds from the July 2012 issuance are also being used to pre-fund the repayment of our 6.80% unsecured senior notes due 2013 at their maturity on February 15, 2013 ($246.7 million principal amount outstanding at September 30, 2012).



13
Table of Contents

6. Segment Reporting Disclosures

The Company operates in three segments of the specialty insurance marketplace: the Excess and Surplus Lines, the Specialty Admitted and the London markets. The Company considers many factors, including the nature of its insurance products, production sources, distribution strategies and regulatory environment in determining how to aggregate operating segments.

All investing activities related to our insurance operations are included in the Investing segment. For purposes of segment reporting, the Other Insurance (Discontinued Lines) segment includes lines of business that have been discontinued in conjunction with acquisitions. The Company’s non-insurance operations primarily consist of controlling interests in various industrial and service businesses. For purposes of segment reporting, the Company’s non-insurance operations are not considered to be a reportable operating segment.

Segment profit or loss for each of the Company’s operating segments is measured by underwriting profit or loss. The property and casualty insurance industry commonly defines underwriting profit or loss as earned premiums net of losses and loss adjustment expenses and underwriting, acquisition and insurance expenses. Underwriting profit or loss does not replace operating income or net income computed in accordance with U.S. GAAP as a measure of profitability. Underwriting profit or loss provides a basis for management to evaluate the Company’s underwriting performance. Segment profit for the Investing segment is measured by net investment income and net realized investment gains or losses.

For management reporting purposes, the Company allocates assets to its underwriting, investing and non-insurance operations. Underwriting assets are all assets not specifically allocated to the Investing segment or to the Company’s non-insurance operations. Underwriting assets are not allocated to the Excess and Surplus Lines, Specialty Admitted, London Insurance Market or Other Insurance (Discontinued Lines) segments since the Company does not manage its assets by operating segment. Invested assets related to our insurance operations are allocated to the Investing segment since these assets are available for payment of losses and expenses for all operating segments. The Company does not allocate capital expenditures for long-lived assets to any of its operating segments for management reporting purposes.


14
Table of Contents

a)
The following tables summarize the Company’s segment disclosures.
 
Quarter Ended September 30, 2012
(dollars in thousands)
Excess and
Surplus
Lines
 
Specialty
Admitted
 
London
Insurance
Market
 
Other
Insurance
(Discontinued
Lines)
 
Investing
 
Consolidated
Gross premium volume
$
253,014

 
$
167,747

 
$
190,071

 
$
1

 
$
—

 
$
610,833

Net written premiums
211,538

 
157,894

 
170,193

 
(1
)
 
—

 
539,624

Earned premiums
195,478

 
153,009

 
182,052

 
(2
)
 
—

 
530,537

Losses and loss adjustment expenses:
 
 
 
 
 
 
 
 
 
 
 
Current accident year
(134,504
)
 
(116,044
)
 
(122,192
)
 
—

 
—

 
(372,740
)
Prior accident years
51,310

 
11,504

 
32,744

 
(26,277
)
 
—

 
69,281

Underwriting, acquisition and insurance expenses:
 
 
 
 
 
 
 
 
 
 


Prospective adoption of ASU 2010-26 (1)
(2,125
)
 
(2,600
)
 
(1,809
)
 
—

 
—

 
(6,534
)
All other expenses
(88,093
)
 
(60,008
)
 
(76,820
)
 
(386
)
 
—

 
(225,307
)
Underwriting profit (loss)
22,066

 
(14,139
)
 
13,975

 
(26,665
)
 
—

 
(4,763
)
Net investment income
—

 
—

 
—

 
—

 
64,438

 
64,438

Net realized investment gains
—

 
—

 
—

 
—

 
5,231

 
5,231

Other revenues (insurance)
—

 
11,536

 
223

 
—

 
—

 
11,759

Other expenses (insurance)
—

 
(12,181
)
 
(970
)
 
—

 
—

 
(13,151
)
Segment profit (loss)
$
22,066

 
$
(14,784
)
 
$
13,228

 
$
(26,665
)
 
$
69,669

 
$
63,514

Other revenues (non-insurance)
 
 
 
 
 
 
 
 
 
 
153,810

Other expenses (non-insurance)
 
 
 
 
 
 
 
 
 
 
(132,188
)
Amortization of intangible assets
 
 
 
 
 
 
 
 
 
 
(7,959
)
Interest expense
 
 
 
 
 
 
 
 
 
 
(24,692
)
Income before income taxes
 
 
 
 
 
 
 
 
 
 
$
52,485

U.S. GAAP combined ratio (2)
89
%
 
109
%
 
92
%
 
NM

(3) 
 
 
101
%
 
Quarter Ended September 30, 2011
(dollars in thousands)
Excess and
Surplus
Lines
 
Specialty
Admitted
 
London
Insurance
Market
 
Other
Insurance
(Discontinued
Lines)
 
Investing
 
Consolidated
Gross premium volume
$
236,639

 
$
153,753

 
$
194,210

 
$
33

 
$
—

 
$
584,635

Net written premiums
200,658

 
147,169

 
176,829

 
22

 
—

 
524,678

Earned premiums
189,695

 
136,783

 
182,710

 
15

 
—

 
509,203

Losses and loss adjustment expenses:
 
 
 
 
 
 
 
 
 
 
 
Current accident year
(147,992
)
 
(112,607
)
 
(144,976
)
 
—

 
—

 
(405,575
)
Prior accident years
60,475

 
5,973

 
34,721

 
(2,226
)
 
—

 
98,943

Underwriting, acquisition and insurance expenses
(81,563
)
 
(51,695
)
 
(69,731
)
 
673

 
—

 
(202,316
)
Underwriting profit (loss)
20,615

 
(21,546
)
 
2,724

 
(1,538
)
 
—

 
255

Net investment income
—

 
—

 
—

 
—

 
62,199

 
62,199

Net realized investment gains
—

 
—

 
—

 
—

 
12,839

 
12,839

Other revenues (insurance)
—

 
10,061

 
—

 
—

 
—

 
10,061

Other expenses (insurance)
—

 
(3,046
)
 
47

 
—

 
—

 
(2,999
)
Segment profit (loss)
$
20,615

 
$
(14,531
)
 
$
2,771

 
$
(1,538
)
 
$
75,038

 
$
82,355

Other revenues (non-insurance)
 
 
 
 
 
 
 
 
 
 
81,786

Other expenses (non-insurance)
 
 
 
 
 
 
 
 
 
 
(67,303
)
Amortization of intangible assets
 
 
 
 
 
 
 
 
 
 
(6,023
)
Interest expense
 
 
 
 
 
 
 
 
 
 
(23,656
)
Income before income taxes
 
 
 
 
 
 
 
 
 
 
$
67,159

U.S. GAAP combined ratio (2)
89
%
 
116
%
 
99
%
 
NM

(3) 
 
 
100
%
(1)
Effective January 1, 2012, the Company prospectively adopted Financial Accounting Standards Board (FASB) Accounting Standards Update (ASU) No. 2010-26, Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts. At December 31, 2011, deferred policy acquisition costs included approximately $43 million of costs that no longer met the criteria for deferral as of January 1, 2012 and will be recognized into income primarily over the first nine months of 2012, consistent with policy terms. The quarter ended September 30, 2012 included $6.5 million of underwriting, acquisition and insurance expenses that were deferred as of December 31, 2011 and no longer met the criteria for deferral as of January 1, 2012.
(2)
The U.S. GAAP combined ratio is a measure of underwriting performance and represents the relationship of incurred losses, loss adjustment expenses and underwriting, acquisition and insurance expenses to earned premiums.
(3)
NM – Ratio is not meaningful.

15
Table of Contents

 
Nine Months Ended September 30, 2012
(dollars in thousands)
Excess and
Surplus
Lines
 
Specialty
Admitted
 
London
Insurance
Market
 
Other
Insurance
(Discontinued
Lines)
 
Investing
 
Consolidated
Gross premium volume
$
705,849

 
$
496,019

 
$
704,511

 
$
(6
)
 
$
—

 
$
1,906,373

Net written premiums
597,742

 
467,722

 
621,947

 
(7
)
 
—

 
1,687,404

Earned premiums
584,524

 
431,179

 
557,493

 
(7
)
 
—

 
1,573,189

Losses and loss adjustment expenses:
 
 
 
 
 
 
 
 
 
 
 
Current accident year
(390,254
)
 
(310,115
)
 
(372,869
)
 
—

 
—

 
(1,073,238
)
Prior accident years
132,583

 
27,747

 
118,994

 
(19,160
)
 
—

 
260,164

Underwriting, acquisition and insurance expenses:
 
 
 
 
 
 
 
 
 
 
 
Prospective adoption of ASU 2010-26 (1)
(16,652
)
 
(12,863
)
 
(11,578
)
 
—

 
—

 
(41,093
)
All other expenses
(255,295