UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 1O-Q
(Mark One)
| x | Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the quarterly period ended September 30, 2009
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: 1-9518
THE PROGRESSIVE CORPORATION
(Exact name of registrant as specified in its charter)
| Ohio | 34-0963169 | |
| (State or other jurisdiction of incorporation or organization) |
(I.R.S. Employer Identification No.) | |
| 6300 Wilson Mills Road, Mayfield Village, Ohio | 44143 | |
| (Address of principal executive offices) | (Zip Code) | |
(440) 461-5000
(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 Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). 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. (Check one):
| Large accelerated filer | x | Accelerated filer | ¨ | |||
| Non-accelerated filer | ¨ (Do not check if a smaller reporting company) | Smaller reporting company | ¨ | |||
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.
Common Shares, $1.00 par value: 674,228,419 outstanding at October 31, 2009
PART I - FINANCIAL INFORMATION
| Item 1. | Financial Statements. |
The Progressive Corporation and Subsidiaries
Consolidated Statements of Income
(unaudited)
| Three Months | Nine Months | |||||||||||||||||||||
| Periods Ended September 30, |
2009 | 2008 | % Change |
2009 | 2008 | % Change |
||||||||||||||||
| (millions - except per share amounts) | ||||||||||||||||||||||
| Revenues |
||||||||||||||||||||||
| Net premiums earned |
$ | 3,445.4 | $ | 3,416.2 | 1 | $ | 10,293.4 | $ | 10,217.4 | 1 | ||||||||||||
| Investment income |
122.6 | 163.5 | (25 | ) | 376.2 | 488.6 | (23 | ) | ||||||||||||||
| Net realized gains (losses) on securities: |
||||||||||||||||||||||
| Other-than-temporary impairment (OTI) losses: |
||||||||||||||||||||||
| Total OTI losses |
(20.2 | ) | — | (74.0 | ) | — | ||||||||||||||||
| Less: portion of OTI losses recognized in other comprehensive income |
12.4 | — | 36.2 | — | ||||||||||||||||||
| Net impairment losses recognized in earnings |
(7.8 | ) | — | (37.8 | ) | — | ||||||||||||||||
| Net realized gains (losses) on securities |
46.6 | (1,373.4 | ) | 19.1 | (1,385.8 | ) | ||||||||||||||||
| Total net realized gains (losses) on securities |
38.8 | (1,373.4 | ) | NM | (18.7 | ) | (1,385.8 | ) | (99 | ) | ||||||||||||
| Service revenues |
4.5 | 3.8 | 18 | 12.1 | 12.4 | (2 | ) | |||||||||||||||
| Total revenues |
3,611.3 | 2,210.1 | 63 | 10,663.0 | 9,332.6 | 14 | ||||||||||||||||
| Expenses |
||||||||||||||||||||||
| Losses and loss adjustment expenses |
2,459.9 | 2,517.6 | (2 | ) | 7,259.5 | 7,472.9 | (3 | ) | ||||||||||||||
| Policy acquisition costs |
333.8 | 339.3 | (2 | ) | 1,004.1 | 1,019.5 | (2 | ) | ||||||||||||||
| Other underwriting expenses |
401.9 | 391.9 | 3 | 1,170.2 | 1,155.7 | 1 | ||||||||||||||||
| Investment expenses |
2.9 | 2.0 | 45 | 8.1 | 6.4 | 27 | ||||||||||||||||
| Service expenses |
5.5 | 6.0 | (8 | ) | 14.8 | 16.5 | (10 | ) | ||||||||||||||
| Interest expense |
35.3 | 34.2 | 3 | 103.7 | 102.8 | 1 | ||||||||||||||||
| Total expenses |
3,239.3 | 3,291.0 | (2 | ) | 9,560.4 | 9,773.8 | (2 | ) | ||||||||||||||
| Net Income (Loss) |
||||||||||||||||||||||
| Income (loss) before income taxes |
372.0 | (1,080.9 | ) | NM | 1,102.6 | (441.2 | ) | NM | ||||||||||||||
| Provision (benefit) for income taxes |
102.1 | (396.7 | ) | NM | 350.1 | (211.9 | ) | NM | ||||||||||||||
| Net income (loss) |
$ | 269.9 | $ | (684.2 | ) | NM | $ | 752.5 | $ | (229.3 | ) | NM | ||||||||||
| Computation of Earnings Per Share |
||||||||||||||||||||||
| Basic: |
||||||||||||||||||||||
| Average shares outstanding |
666.7 | 666.3 | — | 668.2 | 668.4 | — | ||||||||||||||||
| Per share |
$ | .40 | $ | (1.03 | ) | NM | $ | 1.13 | $ | (.34 | ) | NM | ||||||||||
| Diluted: |
||||||||||||||||||||||
| Average shares outstanding |
666.7 | 666.3 | — | 668.2 | 668.4 | — | ||||||||||||||||
| Net effect of dilutive stock-based compensation |
6.1 | 6.5 | (6 | ) | 5.0 | 6.2 | (19 | ) | ||||||||||||||
| Total equivalent shares |
672.8 | 672.8 | — | 673.2 | 674.6 | — | ||||||||||||||||
| Per share1 |
$ | .40 | $ | (1.03 | ) | NM | $ | 1.12 | $ | (.34 | ) | NM | ||||||||||
| Dividends declared per share2 |
$ | — | $ | — | $ | — | $ | — | ||||||||||||||
NM = Not Meaningful
| 1 | For 2009, amounts disclosed are diluted earnings per share. In 2008, due to the net loss reported in both the third quarter and first nine months of the year, the calculated diluted earnings per share was antidilutive; therefore, basic earnings per share is disclosed. |
| 2 | Progressive maintains an annual dividend program. See Note 9 - Dividends for further discussion. |
See notes to consolidated financial statements.
2
The Progressive Corporation and Subsidiaries
Consolidated Balance Sheets
(unaudited)
| September 30, | December 31, 2008 |
||||||||||
| (millions) |
2009 | 2008 | |||||||||
| Assets |
|||||||||||
| Investments - Available-for-sale, at fair value: |
|||||||||||
| Fixed maturities (amortized cost: $11,915.6, $9,557.3, and $10,295.3) |
$ | 11,729.9 | $ | 9,367.4 | $ | 9,946.7 | |||||
| Equity securities: |
|||||||||||
| Nonredeemable preferred stocks (cost: $762.7, $1,357.0, and $1,131.3) |
1,244.8 | 1,310.9 | 1,150.0 | ||||||||
| Common equities (cost: $290.4, $903.5, and $553.6) |
466.6 | 1,322.6 | 727.8 | ||||||||
| Short-term investments (amortized cost: $1,227.9, $733.8, and $1,153.6) |
1,227.9 | 733.8 | 1,153.6 | ||||||||
| Total investments |
14,669.2 | 12,734.7 | 12,978.1 | ||||||||
| Cash |
172.5 | 6.6 | 2.9 | ||||||||
| Accrued investment income |
103.6 | 130.3 | 125.7 | ||||||||
| Premiums receivable, net of allowance for doubtful accounts of $109.1, $106.3, and $113.7 |
2,636.1 | 2,584.8 | 2,408.6 | ||||||||
| Reinsurance recoverables, including $35.2, $35.0, and $44.0 on paid losses |
335.9 | 290.3 | 288.5 | ||||||||
| Prepaid reinsurance premiums |
68.4 | 63.5 | 62.4 | ||||||||
| Deferred acquisition costs |
433.6 | 448.8 | 414.0 | ||||||||
| Income taxes |
490.9 | 724.5 | 821.6 | ||||||||
| Property and equipment, net of accumulated depreciation of $577.8, $647.2, and $653.6 |
974.1 | 1,001.5 | 997.1 | ||||||||
| Other assets |
163.1 | 654.6 | 151.6 | ||||||||
| Total assets |
$ | 20,047.4 | $ | 18,639.6 | $ | 18,250.5 | |||||
| Liabilities and Shareholders’ Equity |
|||||||||||
| Unearned premiums |
$ | 4,493.5 | $ | 4,499.2 | $ | 4,175.9 | |||||
| Loss and loss adjustment expense reserves |
6,352.0 | 6,146.3 | 6,177.4 | ||||||||
| Accounts payable, accrued expenses, and other liabilities |
1,528.7 | 1,558.4 | 1,506.4 | ||||||||
| Debt1 |
2,176.8 | 2,175.1 | 2,175.5 | ||||||||
| Total liabilities |
14,551.0 | 14,379.0 | 14,035.2 | ||||||||
| Common Shares, $1.00 par value (authorized 900.0; issued 797.8, 797.9, and 797.9, including treasury shares of 121.6, 122.3, and 121.4) |
676.2 | 675.6 | 676.5 | ||||||||
| Paid-in capital |
922.2 | 874.9 | 892.9 | ||||||||
| Accumulated other comprehensive income (loss): |
|||||||||||
| Net unrealized gains (losses) on securities |
336.6 | 143.9 | (76.8 | ) | |||||||
| Portion of OTI losses recognized in other comprehensive income |
(23.5 | ) | — | — | |||||||
| Total net unrealized gains (losses) on securities |
313.1 | 143.9 | (76.8 | ) | |||||||
| Net unrealized gains on forecasted transactions |
23.0 | 25.6 | 24.9 | ||||||||
| Retained earnings |
3,561.9 | 2,540.6 | 2,697.8 | ||||||||
| Total shareholders’ equity |
5,496.4 | 4,260.6 | 4,215.3 | ||||||||
| Total liabilities and shareholders’ equity |
$ | 20,047.4 | $ | 18,639.6 | $ | 18,250.5 | |||||
| 1 | Consists of long-term debt. See Note 4 - Debt. |
See notes to consolidated financial statements.
3
The Progressive Corporation and Subsidiaries
Consolidated Statements of Changes in Shareholders’ Equity
(unaudited)
| Nine months ended September 30, |
2009 | 2008 | ||||||||||||||
| (millions) | ||||||||||||||||
| Retained Earnings |
||||||||||||||||
| Balance, Beginning of year |
$ | 2,697.8 | $ | 2,927.7 | ||||||||||||
| Cumulative effect of change in accounting principle1 |
189.6 | — | ||||||||||||||
| Balance, Beginning of year, as adjusted |
2,887.4 | 2,927.7 | ||||||||||||||
| Net income (loss) |
752.5 | $ | 752.5 | (229.3 | ) | $ | (229.3 | ) | ||||||||
| Treasury shares purchased |
(79.6 | ) | (155.6 | ) | ||||||||||||
| Other, net2 |
1.6 | (2.2 | ) | |||||||||||||
| Balance, End of period |
$ | 3,561.9 | $ | 2,540.6 | ||||||||||||
| Accumulated Other Comprehensive Income , Net of Tax |
||||||||||||||||
| Balance, Beginning of year |
$ | (51.9 | ) | $ | 492.8 | |||||||||||
| Cumulative effect of change in accounting principle1 |
(189.6 | ) | — | |||||||||||||
| Balance, Beginning of year, as adjusted |
(241.5 | ) | 492.8 | |||||||||||||
| Changes in: |
||||||||||||||||
| Net unrealized gains (losses) on securities |
603.0 | (321.1 | ) | |||||||||||||
| Portion of OTI losses recognized in other comprehensive income (loss) |
(23.5 | ) | — | |||||||||||||
| Total net unrealized gains (losses) on securities |
579.5 | (321.1 | ) | |||||||||||||
| Net unrealized gains on forecasted transactions |
(1.9 | ) | (2.2 | ) | ||||||||||||
| Other comprehensive income (loss) |
577.6 | 577.6 | (323.3 | ) | (323.3 | ) | ||||||||||
| Balance, End of period |
$ | 336.1 | $ | 169.5 | ||||||||||||
| Comprehensive Income (Loss) |
$ | 1,330.1 | $ | (552.6 | ) | |||||||||||
| Common Shares, $1.00 Par Value |
||||||||||||||||
| Balance, Beginning of year |
$ | 676.5 | $ | 680.2 | ||||||||||||
| Stock options exercised |
1.9 | 2.4 | ||||||||||||||
| Treasury shares purchased |
(5.9 | ) | (9.8 | ) | ||||||||||||
| Restricted stock issued, net of forfeitures |
3.7 | 2.8 | ||||||||||||||
| Balance, End of period |
$ | 676.2 | $ | 675.6 | ||||||||||||
| Paid-In Capital |
||||||||||||||||
| Balance, Beginning of year |
$ | 892.9 | $ | 834.8 | ||||||||||||
| Stock options exercised |
9.5 | 17.3 | ||||||||||||||
| Tax benefits from exercise/vesting of stock-based compensation |
2.9 | 8.4 | ||||||||||||||
| Treasury shares purchased |
(7.9 | ) | (12.1 | ) | ||||||||||||
| Restricted stock issued, net of forfeitures |
(3.7 | ) | (2.8 | ) | ||||||||||||
| Amortization of stock-based compensation |
27.2 | 25.8 | ||||||||||||||
| Other2 |
1.3 | 3.5 | ||||||||||||||
| Balance, End of period |
$ | 922.2 | $ | 874.9 | ||||||||||||
| Total Shareholders’ Equity |
$ | 5,496.4 | $ | 4,260.6 | ||||||||||||
| 1 | Pursuant to accounting guidance adopted during the second quarter 2009 relating to the recognition and presentation of other-than-temporary impairments. |
| 2 | Primarily reflects activity associated with our deferred compensation and incentive plans. |
There are 20.0 million Serial Preferred Shares authorized; no such shares are issued or outstanding.
There are 5.0 million Voting Preference Shares authorized; no such shares have been issued.
See notes to consolidated financial statements.
4
The Progressive Corporation and Subsidiaries
Consolidated Statements of Cash Flows
(unaudited)
| Nine months ended September 30, |
2009 | 2008 | ||||||
| (millions) | ||||||||
| Cash Flows From Operating Activities |
||||||||
| Net income (loss) |
$ | 752.5 | $ | (229.3 | ) | |||
| Adjustments to reconcile net income (loss) to net cash provided by operating activities: |
||||||||
| Depreciation |
65.2 | 72.1 | ||||||
| Amortization of fixed-income securities |
179.8 | 188.3 | ||||||
| Amortization of stock-based compensation |
28.0 | 25.8 | ||||||
| Net realized losses on securities |
18.7 | 1,385.8 | ||||||
| Net loss on disposition of property and equipment |
7.1 | 1.5 | ||||||
| Changes in: |
||||||||
| Premiums receivable |
(227.5 | ) | (189.7 | ) | ||||
| Reinsurance recoverables |
(47.4 | ) | 44.8 | |||||
| Prepaid reinsurance premiums |
(6.0 | ) | 6.3 | |||||
| Deferred acquisition costs |
(19.6 | ) | (22.5 | ) | ||||
| Income taxes |
18.5 | (445.5 | ) | |||||
| Unearned premiums |
317.6 | 288.8 | ||||||
| Loss and loss adjustment expense reserves |
174.6 | 203.6 | ||||||
| Accounts payable, accrued expenses, and other liabilities |
140.9 | 69.1 | ||||||
| Other, net |
12.7 | 39.4 | ||||||
| Net cash provided by operating activities |
1,415.1 | 1,438.5 | ||||||
| Cash Flows From Investing Activities |
||||||||
| Purchases: |
||||||||
| Fixed maturities |
(8,078.6 | ) | (3,337.3 | ) | ||||
| Equity securities |
(79.1 | ) | (568.8 | ) | ||||
| Short-term investments - auction rate securities |
— | (631.5 | ) | |||||
| Sales: |
||||||||
| Fixed maturities |
6,134.5 | 2,382.3 | ||||||
| Equity securities |
564.9 | 834.4 | ||||||
| Short-term investments - auction rate securities |
— | 631.5 | ||||||
| Maturities, paydowns, calls, and other: |
||||||||
| Fixed maturities |
534.7 | 337.5 | ||||||
| Equity securities |
— | 82.4 | ||||||
| Net purchases of short-term investments - other |
(74.4 | ) | (351.1 | ) | ||||
| Net unsettled security transactions |
(119.1 | ) | (494.7 | ) | ||||
| Purchases of property and equipment |
(50.3 | ) | (75.5 | ) | ||||
| Sales of property and equipment |
1.0 | .8 | ||||||
| Net cash used in investing activities |
(1,166.4 | ) | (1,190.0 | ) | ||||
| Cash Flows From Financing Activities |
||||||||
| Proceeds from exercise of stock options |
11.4 | 19.7 | ||||||
| Tax benefit from exercise/vesting of stock-based compensation |
2.9 | 8.4 | ||||||
| Dividends paid to shareholders1 |
— | (98.3 | ) | |||||
| Acquisition of treasury shares |
(93.4 | ) | (177.5 | ) | ||||
| Net cash used in financing activities |
(79.1 | ) | (247.7 | ) | ||||
| Increase in cash |
169.6 | .8 | ||||||
| Cash, January 1 |
2.9 | 5.8 | ||||||
| Cash, September 30 |
$ | 172.5 | $ | 6.6 | ||||
| 1 | Progressive maintains an annual dividend program. See Note 9 - Dividends for further discussion. |
See notes to consolidated financial statements.
5
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements
(unaudited)
Note 1 Basis of Presentation — These financial statements and the notes thereto should be read in conjunction with Progressive’s audited financial statements and accompanying notes included in our Annual Report on Form 10-K for the year ended December 31, 2008.
The consolidated financial statements reflect all normal recurring adjustments which, in the opinion of management, were necessary for a fair statement of the results for the interim periods presented. The results of operations for the period ended September 30, 2009, are not necessarily indicative of the results expected for the full year.
Subsequent events have been evaluated through November 9, 2009, the date the financial statements were issued via filing this Quarterly Report on Form 10-Q with the Securities and Exchange Commission.
Note 2 Investments — The following table presents the composition of our investment portfolio by major security type consistent with our internal classification of how we manage, monitor, and measure the portfolio:
| ($ in millions) |
Cost | Gross Unrealized Gains |
Gross Unrealized Losses |
Net Realized Gains (Losses)1 |
Fair Value | % of Total Fair Value |
||||||||||||||
| September 30, 2009 |
||||||||||||||||||||
| Fixed maturities: |
||||||||||||||||||||
| U.S. government obligations |
$ | 5,444.4 | $ | 11.9 | $ | (90.9 | ) | $ | — | $ | 5,365.4 | 36.6 | % | |||||||
| State and local government obligations |
2,131.5 | 57.3 | (14.8 | ) | — | 2,174.0 | 14.8 | |||||||||||||
| Corporate debt securities |
1,026.3 | 47.5 | (5.5 | ) | — | 1,068.3 | 7.3 | |||||||||||||
| Residential mortgage-backed securities |
590.6 | 2.9 | (82.2 | ) | — | 511.3 | 3.5 | |||||||||||||
| Commercial mortgage-backed securities |
1,559.1 | 23.2 | (47.3 | ) | — | 1,535.0 | 10.5 | |||||||||||||
| Other asset-backed securities |
501.2 | 5.4 | (2.3 | ) | — | 504.3 | 3.4 | |||||||||||||
| Redeemable preferred stocks |
661.4 | 18.5 | (109.4 | ) | — | 570.5 | 3.9 | |||||||||||||
| Other debt obligations |
1.1 | — | — | — | 1.1 | — | ||||||||||||||
| Total fixed maturities |
11,915.6 | 166.7 | (352.4 | ) | — | 11,729.9 | 80.0 | |||||||||||||
| Equity securities: |
||||||||||||||||||||
| Nonredeemable preferred stocks |
762.7 | 497.0 | (5.8 | ) | (9.1 | ) | 1,244.8 | 8.4 | ||||||||||||
| Common equities |
290.4 | 179.6 | (3.4 | ) | — | 466.6 | 3.2 | |||||||||||||
| Short-term investments: |
||||||||||||||||||||
| Other short-term investments |
1,227.9 | — | — | — | 1,227.9 | 8.4 | ||||||||||||||
| Total portfolio2,3 |
$ | 14,196.6 | $ | 843.3 | $ | (361.6 | ) | $ | (9.1 | ) | $ | 14,669.2 | 100.0 | % | ||||||
6
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
| ($ in millions) |
Cost | Gross Unrealized Gains |
Gross Unrealized Losses |
Net Realized Gains (Losses)1 |
Fair Value | % of Total Fair Value |
||||||||||||||
| September 30, 2008 |
||||||||||||||||||||
| Fixed maturities: |
||||||||||||||||||||
| U.S. government obligations4 |
$ | 2,281.0 | $ | 31.9 | $ | (.4 | ) | $ | — | $ | 2,312.5 | 18.1 | % | |||||||
| State and local government obligations |
3,099.6 | 21.2 | (66.7 | ) | — | 3,054.1 | 24.0 | |||||||||||||
| Foreign government obligations |
30.1 | .3 | — | — | 30.4 | .2 | ||||||||||||||
| Corporate debt securities |
857.8 | 1.5 | (34.5 | ) | — | 824.8 | 6.5 | |||||||||||||
| Residential mortgage-backed securities |
807.3 | 1.0 | (62.2 | ) | — | 746.1 | 5.9 | |||||||||||||
| Commercial mortgage-backed securities |
1,791.1 | 5.7 | (70.3 | ) | — | 1,726.5 | 13.5 | |||||||||||||
| Other asset-backed securities |
144.5 | — | (4.1 | ) | — | 140.4 | 1.1 | |||||||||||||
| Redeemable preferred stocks |
543.8 | — | (14.2 | ) | — | 529.6 | 4.2 | |||||||||||||
| Other debt obligations |
2.1 | .9 | — | — | 3.0 | — | ||||||||||||||
| Total fixed maturities |
9,557.3 | 62.5 | (252.4 | ) | — | 9,367.4 | 73.5 | |||||||||||||
| Equity securities: |
||||||||||||||||||||
| Nonredeemable preferred stocks |
1,357.0 | 1.3 | (9.2 | ) | (38.2 | ) | 1,310.9 | 10.3 | ||||||||||||
| Common equities |
903.5 | 457.5 | (38.4 | ) | — | 1,322.6 | 10.4 | |||||||||||||
| Short-term investments: |
||||||||||||||||||||
| Other short-term investments |
733.8 | — | — | — | 733.8 | 5.8 | ||||||||||||||
| Total portfolio2,3 |
$ | 12,551.6 | $ | 521.3 | $ | (300.0 | ) | $ | (38.2 | ) | $ | 12,734.7 | 100.0 | % | ||||||
| ($ in millions) |
Cost | Gross Unrealized Gains |
Gross Unrealized Losses |
Net Realized Gains (Losses)1 |
Fair Value | % of Total Fair Value |
||||||||||||||
| December 31, 2008 |
||||||||||||||||||||
| Fixed maturities: |
||||||||||||||||||||
| U.S. government obligations |
$ | 3,565.7 | $ | 129.0 | $ | (1.1 | ) | $ | — | $ | 3,693.6 | 28.5 | % | |||||||
| State and local government obligations |
3,041.4 | 53.1 | (90.1 | ) | — | 3,004.4 | 23.1 | |||||||||||||
| Foreign government obligations |
16.2 | .2 | — | — | 16.4 | .1 | ||||||||||||||
| Corporate debt securities |
692.1 | 1.6 | (54.4 | ) | — | 639.3 | 4.9 | |||||||||||||
| Residential mortgage-backed securities |
758.7 | 1.4 | (137.1 | ) | — | 623.0 | 4.8 | |||||||||||||
| Commercial mortgage-backed securities |
1,692.7 | 1.0 | (243.7 | ) | — | 1,450.0 | 11.2 | |||||||||||||
| Other asset-backed securities |
139.2 | — | (10.1 | ) | — | 129.1 | 1.0 | |||||||||||||
| Redeemable preferred stocks |
387.2 | 8.7 | (8.0 | ) | — | 387.9 | 3.0 | |||||||||||||
| Other debt obligations |
2.1 | .9 | — | — | 3.0 | — | ||||||||||||||
| Total fixed maturities |
10,295.3 | 195.9 | (544.5 | ) | — | 9,946.7 | 76.6 | |||||||||||||
| Equity securities: |
||||||||||||||||||||
| Nonredeemable preferred stocks |
1,131.3 | 73.5 | (17.3 | ) | (37.5 | ) | 1,150.0 | 8.9 | ||||||||||||
| Common equities |
553.6 | 203.5 | (29.3 | ) | — | 727.8 | 5.6 | |||||||||||||
| Short-term investments: |
||||||||||||||||||||
| Other short-term investments |
1,153.6 | — | — | — | 1,153.6 | 8.9 | ||||||||||||||
| Total portfolio2,3 |
$ | 13,133.8 | $ | 472.9 | $ | (591.1 | ) | $ | (37.5 | ) | $ | 12,978.1 | 100.0 | % | ||||||
| 1 | Represents net holding period gains (losses) on certain hybrid securities (discussed below). |
| 2 | At September 30, 2009 and December 31, 2008, we had $135.1 million and $254.2 million, respectively, of net unsettled security purchases (offset in other liabilities). At September 30, 2008, we had $484.7 million of net unsettled security sales (offset in other assets) and $67.0 million of other net unsettled security transactions (offset in other liabilities). |
| 3 | Includes $0.9 billion at September 30, 2009, and $1.0 billion at both September 30, 2008 and December 31, 2008, of securities in the portfolio of a consolidated, non-insurance subsidiary of the holding company, net of any unsettled security transactions. |
| 4 | Balance at September 30, 2008 includes $49.1 million of collateral in the form of Treasury Notes delivered to a counterparty on a derivative position; the position was closed in the fourth quarter 2008. See the Derivative Instruments section below for further discussion. |
7
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
Our fixed-maturity securities include debt securities and redeemable preferred stocks. At September 30, 2009, September 30, 2008, and December 31, 2008, the nonredeemable preferred stock portfolio included $11.4 million, $55.4 million, and $53.0 million, respectively, of hybrid securities (i.e., perpetual preferred stocks that have call features with fixed-rate coupons, whereby the change in value of the call features is a component of the overall change in value of the preferred stocks). Common equities include common stocks and other risk investments (i.e., private equity investments and limited partnership interests in private equity and mezzanine funds). Our other short-term investments include Eurodollar deposits, commercial paper, and other investments which are expected to mature within one year.
Our securities are reported at fair value, with the changes in fair value of these securities (other than hybrid securities and derivative instruments) reported as a component of accumulated other comprehensive income, net of deferred income taxes. The change in fair value of the hybrid securities and derivative instruments is recorded as a component of net realized gains (losses) on securities.
Other-than-Temporary Impairment (OTI) For the second quarter 2009, we adopted the new accounting standards related to OTI that provide guidance in determining whether impairments in debt securities are other-than-temporary and require additional disclosures relating to OTI and unrealized losses on investments; the new standards did not change the impairment model for equity securities. Pursuant to the new standard, we analyze our debt securities to determine if we intend to sell, or if it is more likely than not that we will be required to sell, the security prior to recovery and, if so, we write down the security to its current fair value with the entire amount of the write-down recorded to earnings. To the extent that it is more likely than not that we will hold the debt security until recovery (which could be maturity), we determine if any of the decline in value is due to a credit loss (i.e., where the present value of cash flows expected to be collected is lower than the amortized cost basis of the security) and, if so, we recognize that portion of the impairment in earnings, with the balance (i.e., non-credit related impairment) recognized as part of our net unrealized gains (losses) in other comprehensive income.
In addition, the new guidance requires that, during the initial period of adoption, we record a cumulative effect of change in accounting principle to reclassify the non-credit component of a previously recognized OTI from retained earnings to other comprehensive income. Based on our review of OTI losses on securities held at March 31, 2009, we reclassified $189.6 million (or $291.8 million on a pretax basis) from retained earnings to accumulated other comprehensive income (loss) during the second quarter 2009.
Under the new accounting guidance, we are required to separate our OTI losses between those related to a credit loss and the portion that was a non-credit related impairment. The following table shows our OTI losses under this guidance for the periods ended September 30, 2009:
| Three Months | Six Months1 | |||||||||||||||||
| (millions) |
Total OTI |
Credit Related and Other OTI (Income Statement) |
Non-Credit Related (Balance Sheet) |
Total OTI |
Credit Related and Other OTI (Income Statement) |
Non-Credit Related (Balance Sheet) | ||||||||||||
| Fixed maturities: |
||||||||||||||||||
| Residential mortgage-backed: |
||||||||||||||||||
| Bifurcated |
$ | 14.6 | $ | 2.2 | $ | 12.4 | $ | 52.9 | $ | 16.7 | $ | 36.2 | ||||||
| Non-bifurcated2 |
— | — | — | 14.2 | 14.2 | — | ||||||||||||
| Total fixed maturities |
14.6 | 2.2 | 12.4 | 67.1 | 30.9 | 36.2 | ||||||||||||
| Nonredeemable preferred stocks3 |
5.6 | 5.6 | NA | 5.6 | 5.6 | NA | ||||||||||||
| Common stocks |
— | — | NA | 1.3 | 1.3 | NA | ||||||||||||
| Total |
$ | 20.2 | $ | 7.8 | $ | 12.4 | $ | 74.0 | $ | 37.8 | $ | 36.2 | ||||||
NA = Not Applicable
| 1 | Reflects the period of time from the adoption of the new accounting standards, which was effective beginning in the second quarter 2009. |
| 2 | Represents securities where our total OTI was credit related; no unrealized losses are recorded as a component of accumulated other comprehensive income. |
| 3 | Write-down was due to weakened issuer fundamentals. |
8
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
The following table provides a rollforward of the amounts related to credit losses recognized in earnings for which a portion of the OTI loss was recognized in accumulated other comprehensive income:
| Six Months1 | |||||||||
| (millions) |
Corporate Debt |
Residential Mortgage- Backed |
Total | ||||||
| Beginning balance at April 1, 2009 |
$ | 6.5 | $ | 24.2 | $ | 30.7 | |||
| Credit losses for which an OTI was previously recognized2 |
— | 1.4 | 1.4 | ||||||
| Credit losses for which an OTI was not previously recognized2 |
— | 15.3 | 15.3 | ||||||
| Ending balance at September 30, 2009 |
$ | 6.5 | $ | 40.9 | $ | 47.4 | |||
| Three Months | |||||||||
| (millions) |
Corporate Debt |
Residential Mortgage- Backed |
Total | ||||||
| Beginning balance at July 1, 2009 |
$ | 6.5 | $ | 38.7 | $ | 45.2 | |||
| Credit losses for which an OTI was previously recognized2 |
— | 1.5 | 1.5 | ||||||
| Credit losses for which an OTI was not previously recognized2 |
— | .7 | .7 | ||||||
| Ending balance at September 30, 2009 |
$ | 6.5 | $ | 40.9 | $ | 47.4 | |||
| 1 | Reflects the period since adoption of the new accounting standards, which was effective beginning in the second quarter 2009. |
| 2 | Amounts reflect credit losses taken during the period on securities held and in an unrealized loss position at September 30, 2009. |
At September 30, 2009, we did not intend to sell the fixed-maturity securities on which a credit loss was recognized, and determined that it is more likely than not that we will not be required to sell the securities prior to the recovery (which could be maturity) of their respective cost bases.
In order to measure the amount of credit losses on the securities that were determined to be other-than-temporarily impaired during the third quarter 2009, we considered a number of factors and inputs related to the individual securities. During the third quarter 2009, all of the securities that comprise the $2.2 million in credit losses were within the home-equity residential mortgage-backed portfolio. The methodology and significant inputs used to measure the amount of credit losses in this portfolio included: current performance indicators on the underlying assets (i.e., delinquency rates, foreclosure rates, and default rates), credit support (via current levels of subordination), and historical credit ratings. Updated cash flow expectations were also generated by our portfolio managers based upon these performance indicators. In order to determine the amount of credit losses, if any, the net present value of the cash flows expected (i.e., expected recovery value) was calculated using the current implied yield for each security, and was compared to its current amortized value. In the event that the net present value was below the amortized value, a credit loss was deemed to exist, and the security was written-down to its net present value level.
Gross Unrealized Losses As of September 30, 2009, we had $358.2 million of gross unrealized losses in our fixed-income securities (i.e., fixed-maturity securities and nonredeemable preferred stocks) and $3.4 million in our common equities. We currently do not intend to sell the fixed-income securities and determined that it is more likely than not that we will not be required to sell these securities for the period of time necessary to recover their cost bases. In addition, we may retain the common stocks to maintain correlation to the Russell 1000 Index, as long as the portfolio and index correlation remain similar. If our strategy were to change and these securities were determined to be other-than-temporarily impaired, we would recognize a write-down in accordance with our stated policy.
9
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
The following tables show the composition of gross unrealized losses by major security type by the length of time that individual securities have been in a continuous unrealized loss position:
| (millions) |
Total Fair Value |
Total Unrealized Losses |
Less than 12 Months | 12 Months or Greater | |||||||||||||||||
| Fair Value |
Unrealized Losses |
Fair Value |
Unrealized Losses |
||||||||||||||||||
| September 30, 2009 |
|||||||||||||||||||||
| Fixed maturities: |
|||||||||||||||||||||
| U.S. government obligations |
$ | 3,842.3 | $ | (90.9 | ) | $ | 3,614.2 | $ | (85.6 | ) | $ | 228.1 | $ | (5.3 | ) | ||||||
| State and local government obligations |
684.3 | (14.8 | ) | 23.7 | (.1 | ) | 660.6 | (14.7 | ) | ||||||||||||
| Corporate debt securities |
203.3 | (5.5 | ) | 83.4 | (.8 | ) | 119.9 | (4.7 | ) | ||||||||||||
| Residential mortgage-backed securities |
386.8 | (82.2 | ) | 26.0 | (2.2 | ) | 360.8 | (80.0 | ) | ||||||||||||
| Commercial mortgage-backed securities |
572.8 | (47.3 | ) | 30.7 | (.6 | ) | 542.1 | (46.7 | ) | ||||||||||||
| Other asset-backed securities |
104.2 | (2.3 | ) | 93.5 | (.3 | ) | 10.7 | (2.0 | ) | ||||||||||||
| Redeemable preferred stocks |
504.2 | (109.4 | ) | 16.8 | (3.1 | ) | 487.4 | (106.3 | ) | ||||||||||||
| Total fixed maturities |
6,297.9 | (352.4 | ) | 3,888.3 | (92.7 | ) | 2,409.6 | (259.7 | ) | ||||||||||||
| Equity securities: |
|||||||||||||||||||||
| Nonredeemable preferred stocks |
51.4 | (5.8 | ) | 1.0 | (.4 | ) | 50.4 | (5.4 | ) | ||||||||||||
| Common equities |
35.2 | (3.4 | ) | 21.0 | (1.8 | ) | 14.2 | (1.6 | ) | ||||||||||||
| Total equity securities |
86.6 | (9.2 | ) | 22.0 | (2.2 | ) | 64.6 | (7.0 | ) | ||||||||||||
| Total portfolio |
$ | 6,384.5 | $ | (361.6 | ) | $ | 3,910.3 | $ | (94.9 | ) | $ | 2,474.2 | $ | (266.7 | ) | ||||||
| (millions) |
Total Fair Value |
Total Unrealized Losses |
Less than 12 Months | 12 Months or Greater | |||||||||||||||||
| Fair Value |
Unrealized Losses |
Fair Value |
Unrealized Losses |
||||||||||||||||||
| September 30, 2008 |
|||||||||||||||||||||
| Fixed maturities: |
|||||||||||||||||||||
| U.S. government obligations |
$ | 34.8 | $ | (.4 | ) | $ | 34.8 | $ | (.4 | ) | $ | — | $ | — | |||||||
| State and local government obligations |
1,544.2 | (66.7 | ) | 1,218.9 | (50.9 | ) | 325.3 | (15.8 | ) | ||||||||||||
| Corporate debt securities |
652.4 | (34.5 | ) | 482.9 | (20.3 | ) | 169.5 | (14.2 | ) | ||||||||||||
| Residential mortgage-backed securities |
723.3 | (62.2 | ) | 522.0 | (42.2 | ) | 201.3 | (20.0 | ) | ||||||||||||
| Commercial mortgage-backed securities |
1,626.6 | (70.3 | ) | 1,106.7 | (35.2 | ) | 519.9 | (35.1 | ) | ||||||||||||
| Other asset-backed securities |
127.6 | (4.1 | ) | 114.1 | (2.9 | ) | 13.5 | (1.2 | ) | ||||||||||||
| Redeemable preferred stocks |
515.2 | (14.2 | ) | 216.5 | (14.1 | ) | 298.7 | (.1 | ) | ||||||||||||
| Total fixed maturities |
5,224.1 | (252.4 | ) | 3,695.9 | (166.0 | ) | 1,528.2 | (86.4 | ) | ||||||||||||
| Equity securities: |
|||||||||||||||||||||
| Nonredeemable preferred stocks |
334.9 | (9.2 | ) | 128.9 | (5.1 | ) | 206.0 | (4.1 | ) | ||||||||||||
| Common equities |
217.5 | (38.4 | ) | 202.7 | (36.5 | ) | 14.8 | (1.9 | ) | ||||||||||||
| Total equity securities |
552.4 | (47.6 | ) | 331.6 | (41.6 | ) | 220.8 | (6.0 | ) | ||||||||||||
| Total portfolio |
$ | 5,776.5 | $ | (300.0 | ) | $ | 4,027.5 | $ | (207.6 | ) | $ | 1,749.0 | $ | (92.4 | ) | ||||||
10
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
| (millions) |
Total Fair Value |
Total Unrealized Losses |
Less than 12 Months | 12 Months or Greater | |||||||||||||||||
| Fair Value |
Unrealized Losses |
Fair Value |
Unrealized Losses |
||||||||||||||||||
| December 31, 2008 |
|||||||||||||||||||||
| Fixed maturities: |
|||||||||||||||||||||
| U.S. government obligations |
$ | 232.5 | $ | (1.1 | ) | $ | 232.5 | $ | (1.1 | ) | $ | — | $ | — | |||||||
| State and local government obligations |
1,100.6 | (90.1 | ) | 274.8 | (17.9 | ) | 825.8 | (72.2 | ) | ||||||||||||
| Corporate debt securities |
493.1 | (54.4 | ) | 278.3 | (27.4 | ) | 214.8 | (27.0 | ) | ||||||||||||
| Residential mortgage-backed securities |
592.8 | (137.1 | ) | 219.1 | (41.4 | ) | 373.7 | (95.7 | ) | ||||||||||||
| Commercial mortgage-backed securities |
1,422.1 | (243.7 | ) | 842.9 | (116.7 | ) | 579.2 | (127.0 | ) | ||||||||||||
| Other asset-backed securities |
128.8 | (10.1 | ) | 117.7 | (7.4 | ) | 11.1 | (2.7 | ) | ||||||||||||
| Redeemable preferred stocks |
60.6 | (8.0 | ) | 60.6 | (8.0 | ) | — | — | |||||||||||||
| Total fixed maturities |
4,030.5 | (544.5 | ) | 2,025.9 | (219.9 | ) | 2,004.6 | (324.6 | ) | ||||||||||||
| Equity securities: |
|||||||||||||||||||||
| Nonredeemable preferred stocks |
437.6 | (17.3 | ) | 305.4 | (13.2 | ) | 132.2 | (4.1 | ) | ||||||||||||
| Common equities |
123.2 | (29.3 | ) | 110.5 | (26.5 | ) | 12.7 | (2.8 | ) | ||||||||||||
| Total equity securities |
560.8 | (46.6 | ) | 415.9 | (39.7 | ) | 144.9 | (6.9 | ) | ||||||||||||
| Total portfolio |
$ | 4,591.3 | $ | (591.1 | ) | $ | 2,441.8 | $ | (259.6 | ) | $ | 2,149.5 | $ | (331.5 | ) | ||||||
Included in gross unrealized losses at September 30, 2009, was $21.4 million related to securities for which a portion of the OTI loss was recorded in earnings as a credit loss. The fair value and gross unrealized losses for these securities were comprised of the following:
| (millions) |
Total Fair Value |
Total Unrealized Losses |
Less than 12 Months | 12 Months or Greater | ||||||||||||||||
| Fair Value |
Unrealized Losses |
Fair Value |
Unrealized Losses |
|||||||||||||||||
| Fixed maturities: |
||||||||||||||||||||
| Residential mortgage-backed securities |
$ | 50.7 | $ | (21.4 | ) | $ | — | $ | — | $ | 50.7 | $ | (21.4 | ) | ||||||
| Total fixed maturities |
$ | 50.7 | $ | (21.4 | ) | $ | — | $ | — | $ | 50.7 | $ | (21.4 | ) | ||||||
Trading Securities At September 30, 2009, September 30, 2008, and December 31, 2008, we did not hold any trading securities and did not have any net realized gains (losses) on trading securities for the three and nine months ended September 30, 2009 and 2008.
Derivative Instruments We have invested in the following derivative exposures at various times: interest rate swaps, asset-backed credit default swaps, U.S. corporate debt credit default swaps, and cash flow hedges. In addition, during 2009, we invested in equity options as an economic, forecasted forward sale.
For all derivative positions discussed below, realized holding period gains and losses are netted with any upfront cash that may be exchanged under the contract to determine if the net position should be classified either as an asset or liability. To be reported as a component of the available-for-sale portfolio, the inception-to-date realized gain on the derivative position at period end would have to exceed any upfront cash received (net derivative asset). On the other hand, a net derivative liability would include any inception-to-date realized loss plus the amount of upfront cash received (or netted, if upfront cash was paid) and would be reported as a component of other liabilities. These net derivative assets/liabilities are not separately disclosed on the balance sheet due to their immaterial effect on our financial condition, cash flows, and results of operations.
11
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
The following table shows the status of our derivative instruments at September 30, 2009, September 30, 2008, and December 31, 2008, and for the three and nine months ended September 30, 2009 and 2008; amounts are on a pretax basis:
| (millions) | Balance Sheet |
Income Statement | ||||||||||||||||||||||||||||||||||||||
| Notional Value | Fair Value | Net Realized Gains (Losses) on Securities |
||||||||||||||||||||||||||||||||||||||
| Sept. 30, | Dec. 31, | Sept. 30, | Dec. 31, | Three months ended Sept. 30, |
Nine months ended Sept. 30, |
|||||||||||||||||||||||||||||||||||
| Derivatives |
2009 | 2008 | 2008 | Purpose |
Classification |
2009 | 2008 | 2008 | 2009 | 2008 | 2009 | 2008 | ||||||||||||||||||||||||||||
| Hedging instruments |
||||||||||||||||||||||||||||||||||||||||
| Foreign currency cash flow hedge |
$ | — | $ | — | $ | 8 | Forecasted transaction | Accumulated other comprehensive income | $ | .9 | $ | — | $ | .2 | $ | — | $ | — | $ | — | $ | — | ||||||||||||||||||
| Non-hedging instruments |
||||||||||||||||||||||||||||||||||||||||
| Assets: |
||||||||||||||||||||||||||||||||||||||||
| Interest rate swaps |
— | 1,275 | 1,800 | Manage portfolio duration | Investments - fixed maturities | — | 17.2 | 96.3 | — | 12.1 | — | 22.2 | ||||||||||||||||||||||||||||
| Corporate credit default swaps |
— | 520 | — | Manage credit risk | Investments - fixed maturities | — | 23.5 | — | — | 21.2 | — | 21.2 | ||||||||||||||||||||||||||||
| Liabilities: |
||||||||||||||||||||||||||||||||||||||||
| Interest rate swaps |
228 | — | — | Manage portfolio duration | Other liabilities | (2.1 | ) | — | — | 5.2 | — | (.6 | ) | — | ||||||||||||||||||||||||||
| Corporate credit default swaps |
25 | — | 25 | Manage credit risk | Other liabilities | (.8 | ) | — | (.5 | ) | (.3 | ) | — | (.5 | ) | — | ||||||||||||||||||||||||
| Asset-backed credit default swaps |
— | 140 | — | General portfolio investing | Other liabilities | — | (83.0 | ) | — | — | 4.1 | — | (22.1 | ) | ||||||||||||||||||||||||||
| Closed: |
||||||||||||||||||||||||||||||||||||||||
| Interest rate swaps |
3,958 | 1,550 | — | Manage portfolio duration | — | — | — | — | 6.4 | — | 6.9 | 57.1 | ||||||||||||||||||||||||||||
| Corporate credit default swaps |
7 | 50 | — | Manage credit risk | — | — | — | — | — | 30.8 | (.4 | ) | 30.8 | |||||||||||||||||||||||||||
| Equity options (a) (177,190 contracts) |
NA | NA | NA | Manage price risk | — | — | — | — | 1.5 | — | (9.1 | ) | — | |||||||||||||||||||||||||||
| Total |
NA | NA | NA | $ | (2.0 | ) | $ | (42.3 | ) | $ | 96.0 | $ | 12.8 | $ | 68.2 | $ | (3.7 | ) | $ | 109.2 | ||||||||||||||||||||
| (a) | Each contract is equivalent to 100 shares of common stock of the issuer; we had no option activity in 2008. |
NA = Not Applicable
CASH FLOW HEDGES
During the fourth quarter 2008, we entered into a cash flow hedge of forecasted foreign currency transactions. The hedge was designated as, and qualified for, cash flow hedge accounting treatment. We will defer the pretax gain or loss on this hedge and report the amount in accumulated other comprehensive income. During the third quarter 2009, we closed our hedge position and the pretax gain on the hedge will remain in accumulated other comprehensive income until we incur foreign expenses when we start writing business.
INTEREST RATE SWAPS
During the periods ended September 30, 2009, September 30, 2008, and December 31, 2008, we invested in interest rate swap positions primarily to manage the fixed-income portfolio duration. As of September 30, 2009, we delivered less than $0.1 million in cash collateral to the counterparties on our open interest rate swap positions. As of September 30, 2008 and December 31, 2008, we had received $37.2 million and $79.6 million, respectively, in cash collateral from the counterparties on our then open interest rate swap positions, which amounts were invested in short-term securities.
12
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
CORPORATE CREDIT DEFAULT SWAPS
During the periods ended September 30, 2009 and December 31, 2008, we held a position, which was opened during the third quarter 2008, on one corporate issuer within the financial services sector where we bought credit default protection in the form of a credit default swap for a 5-year time horizon. We hold this protection to reduce our exposure to additional valuation declines on our preferred stock due to potential credit impairment of the issuer. Additionally, during the third quarter 2009, we closed a position where we bought credit default protection in the form of credit default swaps for a 2-year time horizon on one corporate issuer within the industrial sector. We paid $0.6 million in upfront cash when we entered the 2-year exposure position, which was offset against our then open exposure. During the period ended September 30, 2008, we held open positions where we bought credit default protection in the form of credit default swaps for 3-year and 5-year time horizons on debt issuances of ten different corporate issuers within the financial services sector. We purchased the protection to reduce our overall financial sector exposure given the heightened risk in the financial markets and our exposure to financial firms.
EQUITY OPTIONS
During the quarter ended September 30, 2009, we closed positions where we simultaneously sold and purchased a substantially equivalent amount of call and put options, respectively, on Citigroup common stock, related to one of our preferred stock holdings. The purpose of this transaction was to effect a forward sale of a portion of the common stock we expected to receive from Citigroup resulting from the conversion of our preferred stock holding into common stock pursuant to Citigroup’s exchange that occurred during the third quarter 2009. All of the common stock we received from the preferred stock conversion into common stock was sold by the end of the third quarter. This was achieved through matching the strike price and term of the option contracts and was meant to offset the downside price risk of the common stock during the time period pending the exchange. As of September 30, 2009, we did not have any collateral deliveries related to this position outstanding as the position was closed.
ASSET-BACKED CREDIT DEFAULT SWAPS
We held no asset-backed credit default swap positions during the first nine months of 2009. During the first nine months of 2008, we held a position for which we sold credit protection in the form of a credit default swap comprised of a basket of 20 asset-backed bonds supported by sub-prime mortgage loans. We covered the credit default swap’s notional exposure by acquiring U.S. Treasury Notes of equal maturity and principal amount and reducing our overall exposure with any upfront cash received. During the fourth quarter 2008, we closed our entire asset-backed credit default swap position. As a result, we did not have any collateral deliveries related to this position outstanding at September 30, 2009 or December 31, 2008, compared to $62.6 million of delivered collateral ($49.1 million of U.S. Treasury Notes and $13.5 million of cash) at September 30, 2008.
Note 3 Fair Value — We have categorized our financial instruments, based on the degree of subjectivity inherent in the method by which they are valued, into a fair value hierarchy of three levels, as follows:
| • | Level 1: Inputs are unadjusted, quoted prices in active markets for identical instruments at the measurement date (e.g., U.S. government obligations and active exchange-traded equity securities). |
| • | Level 2: Inputs (other than quoted prices included within Level 1) that are observable for the instrument either directly or indirectly (e.g., certain corporate and municipal bonds and certain preferred stocks). This includes: (i) quoted prices for similar instruments in active markets, (ii) quoted prices for identical or similar instruments in markets that are not active, (iii) inputs other than quoted prices that are observable for the instruments, and (iv) inputs that are derived principally from or corroborated by observable market data by correlation or other means. |
| • | Level 3: Inputs that are unobservable. Unobservable inputs reflect the reporting entity’s subjective evaluation about the assumptions market participants would use in pricing the financial instrument (e.g., certain structured securities and privately held investments). |
During the second quarter 2009, we adopted the recently issued fair value guidance, pursuant to generally accepted accounting principles, that requires us to evaluate whether a market is distressed or inactive in determining the fair value for our portfolio. Based on this new guidance, we added to our review certain additional market level inputs to evaluate whether sufficient activity, volume, and new issuances existed to create an active market. Based on this evaluation, we concluded that there was sufficient activity related to the sectors and securities for which we obtained valuations.
13
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
The composition of the investment portfolio by major security type was:
| Fair Value | |||||||||||||||
| (millions) |
Level 1 | Level 2 | Level 3 | Total | Cost | ||||||||||
| September 30, 2009 |
|||||||||||||||
| Fixed maturities: |
|||||||||||||||
| U.S. government obligations |
$ | 5,365.4 | $ | — | $ | — | $ | 5,365.4 | $ | 5,444.4 | |||||
| State and local government obligations |
— | 2,174.0 | — | 2,174.0 | 2,131.5 | ||||||||||
| Corporate and other debt securities |
— | 1,040.6 | 28.8 | 1,069.4 | 1,027.4 | ||||||||||
| Asset-backed securities: |
|||||||||||||||
| Residential mortgage-backed |
— | 492.8 | 18.5 | 511.3 | 590.6 | ||||||||||
| Commercial mortgage-backed obligations |
— | 1,052.2 | 23.9 | 1,076.1 | 1,095.1 | ||||||||||
| Commercial mortgage-backed obligations: interest only |
— | 458.9 | — | 458.9 | 464.0 | ||||||||||
| Other asset-backed |
— | 496.0 | 8.3 | 504.3 | 501.2 | ||||||||||
| Total asset-backed securities |
— | 2,499.9 | 50.7 | 2,550.6 | 2,650.9 | ||||||||||
| Redeemable preferred stocks: |
|||||||||||||||
| Financials |
17.0 | 220.1 | — | 237.1 | 277.2 | ||||||||||
| Utilities |
— | 68.4 | — | 68.4 | 73.7 | ||||||||||
| Industrials |
— | 213.9 | 51.1 | 265.0 | 310.5 | ||||||||||
| Total redeemable preferred stocks |
17.0 | 502.4 | 51.1 | 570.5 | 661.4 | ||||||||||
| Total fixed maturities |
5,382.4 | 6,216.9 | 130.6 | 11,729.9 | 11,915.6 | ||||||||||
| Equity securities: |
|||||||||||||||
| Nonredeemable preferred stocks: |
|||||||||||||||
| Agencies |
2.9 | — | — | 2.9 | .9 | ||||||||||
| Financials |
523.2 | 549.9 | — | 1,073.1 | 595.5 | ||||||||||
| Utilities |
— | 58.7 | — | 58.7 | 50.8 | ||||||||||
| Industrials |
— | — | 110.1 | 110.1 | 115.5 | ||||||||||
| Total nonredeemable preferred stocks |
526.1 | 608.6 | 110.1 | 1,244.8 | 762.7 | ||||||||||
| Common equities: |
|||||||||||||||
| Common stock |
453.6 | — | — | 453.6 | 284.8 | ||||||||||
| Other risk investments |
— | — | 13.0 | 13.0 | 5.6 | ||||||||||
| Total common equities |
453.6 | — | 13.0 | 466.6 | 290.4 | ||||||||||
| $ | 6,362.1 | $ | 6,825.5 | $ | 253.7 | 13,441.3 | 12,968.7 | ||||||||
| Other short-term investments1 |
1,227.9 | 1,227.9 | |||||||||||||
| Total portfolio |
$ | 14,669.2 | $ | 14,196.6 | |||||||||||
| Debt2 |
$ | 2,138.9 | $ | 2,176.8 | |||||||||||
14
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
| Fair Value | |||||||||||||||
| (millions) |
Level 1 | Level 2 | Level 3 | Total | Cost | ||||||||||
| September 30, 2008 |
|||||||||||||||
| Fixed maturities: |
|||||||||||||||
| U.S. government obligations |
$ | 2,312.5 | $ | — | $ | — | $ | 2,312.5 | $ | 2,281.0 | |||||
| State and local government obligations |
— | 3,054.1 | — | 3,054.1 | 3,099.6 | ||||||||||
| Foreign government obligations |
— | 30.4 | — | 30.4 | 30.1 | ||||||||||
| Corporate and other debt securities |
— | 797.6 | 30.2 | 827.8 | 859.9 | ||||||||||
| Asset-backed securities: |
|||||||||||||||
| Residential mortgage-backed |
— | 731.4 | 14.7 | 746.1 | 807.3 | ||||||||||
| Commercial mortgage-backed obligations |
— | 1,126.7 | 37.0 | 1,163.7 | 1,205.3 | ||||||||||
| Commercial mortgage-backed obligations: interest only |
— | 556.2 | 6.6 | 562.8 | 585.8 | ||||||||||
| Other asset-backed |
— | 126.9 | 13.5 | 140.4 | 144.5 | ||||||||||
| Total asset-backed securities |
— | 2,541.2 | 71.8 | 2,613.0 | 2,742.9 | ||||||||||
| Redeemable preferred stocks: |
|||||||||||||||
| Financials |
14.4 | 198.9 | — | 213.3 | 213.3 | ||||||||||
| Utilities |
— | 62.9 | — | 62.9 | 68.2 | ||||||||||
| Industrials |
— | 253.4 | — | 253.4 | 262.3 | ||||||||||
| Total redeemable preferred stocks |
14.4 | 515.2 | — | 529.6 | 543.8 | ||||||||||
| Total fixed maturities |
2,326.9 | 6,938.5 | 102.0 | 9,367.4 | 9,557.3 | ||||||||||
| Equity securities: |
|||||||||||||||
| Nonredeemable preferred stocks: |
|||||||||||||||
| Agencies |
— | 15.7 | — | 15.7 | 15.7 | ||||||||||
| Financials |
481.5 | 634.9 | — | 1,116.4 | 1,157.6 | ||||||||||
| Utilities |
— | 66.6 | — | 66.6 | 68.2 | ||||||||||
| Industrials |
— | 112.2 | — | 112.2 | 115.5 | ||||||||||
| Total nonredeemable preferred stocks |
481.5 | 829.4 | — | 1,310.9 | 1,357.0 | ||||||||||
| Common equities: |
|||||||||||||||
| Common stock |
1,309.0 | — | — | 1,309.0 | 897.7 | ||||||||||
| Other risk investments |
— | — | 13.6 | 13.6 | 5.8 | ||||||||||
| Total common equities |
1,309.0 | — | 13.6 | 1,322.6 | 903.5 | ||||||||||
| $ | 4,117.4 | $ | 7,767.9 | $ | 115.6 | 12,000.9 | 11,817.8 | ||||||||
| Other short-term investments1 |
733.8 | 733.8 | |||||||||||||
| Total portfolio |
$ | 12,734.7 | $ | 12,551.6 | |||||||||||
| Debt2 |
$ | 1,833.4 | $ | 2,175.1 | |||||||||||
15
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
| Fair Value | |||||||||||||||
| (millions) |
Level 1 | Level 2 | Level 3 | Total | Cost | ||||||||||
| December 31, 2008 |
|||||||||||||||
| Fixed maturities: |
|||||||||||||||
| U.S. government obligations |
$ | 3,693.6 | $ | — | $ | — | $ | 3,693.6 | $ | 3,565.7 | |||||
| State and local government obligations |
— | 3,004.4 | — | 3,004.4 | 3,041.4 | ||||||||||
| Foreign government obligations |
— | 16.4 | — | 16.4 | 16.2 | ||||||||||
| Corporate and other debt securities |
— | 615.1 | 27.2 | 642.3 | 694.2 | ||||||||||
| Asset-backed securities: |
|||||||||||||||
| Residential mortgage-backed |
— | 622.7 | .3 | 623.0 | 758.7 | ||||||||||
| Commercial mortgage-backed obligations |
— | 934.9 | 21.8 | 956.7 | 1,160.0 | ||||||||||
| Commercial mortgage-backed obligations: interest only |
— | 488.7 | 4.6 | 493.3 | 532.7 | ||||||||||
| Other asset-backed |
— | 118.1 | 11.0 | 129.1 | 139.2 | ||||||||||
| Total asset-backed securities |
— | 2,164.4 | 37.7 | 2,202.1 | 2,590.6 | ||||||||||
| Redeemable preferred stocks: |
|||||||||||||||
| Financials |
12.1 | 155.7 | — | 167.8 | 166.1 | ||||||||||
| Utilities |
— | 37.0 | — | 37.0 | 37.0 | ||||||||||
| Industrials |
— | 138.4 | 44.7 | 183.1 | 184.1 | ||||||||||
| Total redeemable preferred stocks |
12.1 | 331.1 | 44.7 | 387.9 | 387.2 | ||||||||||
| Total fixed maturities |
3,705.7 | 6,131.4 | 109.6 | 9,946.7 | 10,295.3 | ||||||||||
| Equity securities: |
|||||||||||||||
| Nonredeemable preferred stocks: |
|||||||||||||||
| Agencies |
— | 1.0 | — | 1.0 | 1.0 | ||||||||||
| Financials |
477.2 | 505.9 | — | 983.1 | 960.3 | ||||||||||
| Utilities |
— | 53.6 | — | 53.6 | 54.5 | ||||||||||
| Industrials |
— | — | 112.3 | 112.3 | 115.5 | ||||||||||
| Total nonredeemable preferred stocks |
477.2 | 560.5 | 112.3 | 1,150.0 | 1,131.3 | ||||||||||
| Common equities: |
|||||||||||||||
| Common stock |
714.3 | — | — | 714.3 | 547.8 | ||||||||||
| Other risk investments |
— | — | 13.5 | 13.5 | 5.8 | ||||||||||
| Total common equities |
714.3 | — | 13.5 | 727.8 | 553.6 | ||||||||||
| $ | 4,897.2 | $ | 6,691.9 | $ | 235.4 | 11,824.5 | 11,980.2 | ||||||||
| Other short-term investments1 |
1,153.6 | 1,153.6 | |||||||||||||
| Total portfolio |
$ | 12,978.1 | $ | 13,133.8 | |||||||||||
| Debt2 |
$ | 1,581.6 | $ | 2,175.5 | |||||||||||
| 1 | Due to the underlying nature of these securities, cost approximates fair value. |
| 2 | Debt is not subject to measurement at fair value in the Consolidated Balance Sheets. Therefore, it is not broken out by hierarchy level; fair values are obtained from publicly quoted sources. |
Our portfolio valuations classified as either Level 1 or Level 2 in the above table are priced exclusively by external sources, including: pricing vendors, dealers/market makers, and exchange-quoted prices. With limited exceptions, our Level 3 securities are also priced externally; however, due to several factors (e.g., nature of the securities, level of activity, lack of similar securities trading to obtain observable market level inputs), these valuations are more subjective in nature. Certain private equity investments and fixed-income investments included in the Level 3 securities are valued using external pricing supplemented by internal review and analysis.
At September 30, 2009, vendor-quoted prices represented approximately 93% of our Level 1 classifications, compared to 74% at December 31, 2008, and 56% at September 30, 2008. The securities quoted by vendors in Level 1 represent holdings in our U.S. Treasury Notes, which are frequently traded and the quotes are considered similar to exchange trade quotes. The increase in Level 1 percentages for the periods reported above was the result of increasing our holdings in U.S. Treasury Notes reflecting our decision to reduce valuation volatility risk in the current environment. The balance of our Level 1 pricing comes from quotes obtained directly from trades made on an active exchange. At September 30, 2009, vendor-quoted prices comprised 92% of our Level 2 classifications, compared to 97% at December 31, 2008, and 96% at September 30, 2008. We reviewed independent documentation detailing the
16
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
pricing techniques, models, and methodologies used by these pricing vendors and believe that their policies adequately consider market activity, either based on specific transactions for the issue valued or based on modeling of securities with similar credit quality, duration, yield, and structure that were recently transacted. We continue to monitor any changes or modifications to their processes due to the recent market events. During 2009 and 2008, we reviewed each sector for transaction volumes and determined that sufficient activity and liquidity existed to provide a source for market level valuations, despite being below historical averages.
At September 30, 2009, broker-quoted prices represented the remaining 8% of our Level 2 classifications, compared to 3% at December 31, 2008, and 4% at September 30, 2008. In these instances, we typically use broker/dealers because the security we hold is not widely held or frequently traded and thus is not serviced by the pricing vendors. We reviewed independent documentation detailing the pricing techniques, models, and methodologies used by broker/dealers and determined that they used the same pricing techniques as the external vendor pricing sources discussed above. The broker/dealers contain back office pricing desks, separate from the day-to-day traders that buy and sell the securities. This process creates uniformity in pricing when they quote externally to their various customers. The broker/dealer valuations are quoted in terms of spreads to various indices and the spreads are based off recent transactions adjusted for movements since the last trade or based off similar characteristic securities currently trading in the market. These quotes are not considered binding offers to transact. From time to time, we will obtain more than one broker quote for a security, when we feel it is necessary. In addition, from time to time, we will receive a broker/dealer quote for those securities priced by vendors as further evaluation of market price. We believe this additional step helps to ensure that we are reporting the most representative price and validates our pricing methodology.
To the extent the inputs used by external pricers are determined to not contain sufficient observable market information, we will reclassify the affected security valuations to Level 3. At September 30, 2009 and 2008, as well as December 31, 2008, securities in our fixed-maturity portfolio listed as Level 3 were comprised substantially of securities that were either (i) private placement deals, (ii) thinly held and/or traded securities, or (iii) lower rated non-investment-grade securities, where little liquidity exists. Based on these factors, it was difficult to independently verify observable market inputs that were used to generate the external valuations we received. At September 30, 2009 and December 31, 2008, our nonredeemable preferred stocks listed as Level 3 represented three issues of a single issuer for which, based on illiquidity in the general preferred stock market and the lack of recent trading activity on these specific issues, we concluded the valuation warranted this lower classification. There were no preferred stocks listed as Level 3 at September 30, 2008. Lastly, at September 30, 2009 and 2008, as well as December 31, 2008, one private common equity security with an aggregate value of $10.2 million was priced internally.
During each valuation period, we create internal estimations of portfolio valuation (performance returns), based on current market-related activity (i.e., interest rate and credit spread movements and other credit-related factors) within each major sector of our portfolio. We compare our internally generated portfolio results with those generated based on quotes we received externally and research material valuation differences.
Based on the criteria described above, we believe that the current level classifications are appropriate based on the valuation techniques used and that our fair values accurately reflect current market assumptions in the aggregate.
17
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
The following tables provide a summary of changes in fair value associated with Level 3 assets for the three months and nine months ended September 30, 2009 and 2008:
| Level 3 Fair Value Nine months ended September 30, 2009 | |||||||||||||||||||||||||||||
| (millions) |
Fair value at December 31, 2008 |
Calls/ Maturities/ Paydowns |
Purchases | Sales | Realized (gain)/loss |
Change in Valuation |
Transfers in (out)1 |
Fair value at September 30, 2009 | |||||||||||||||||||||
| Fixed maturities: |
|||||||||||||||||||||||||||||
| Corporate debt securities |
$ | 27.2 | $ | — | $ | — | $ | (1.1 | ) | $ | (1.8 | ) | $ | 4.5 | $ | — | $ | 28.8 | |||||||||||
| Asset-backed securities: |
|||||||||||||||||||||||||||||
| Residential mortgage-backed |
.3 | — | 18.2 | — | — | — | — | 18.5 | |||||||||||||||||||||
| Commercial mortgage-backed |
21.8 | (.1 | ) | — | — | — | 3.7 | (1.5 | ) | 23.9 | |||||||||||||||||||
| Commercial mortgage-backed: interest-only |
4.6 | (.7 | ) | — | — | — | 1.8 | (5.7 | ) | — | |||||||||||||||||||
| Other asset-backed |
11.0 | (2.6 | ) | 11.0 | — | — | (.1 | ) | (11.0 | ) | 8.3 | ||||||||||||||||||
| Total asset-backed securities |
37.7 | (3.4 | ) | 29.2 | — | — | 5.4 | (18.2 | ) | 50.7 | |||||||||||||||||||
| Redeemable preferred stocks: |
|||||||||||||||||||||||||||||
| Industrials |
44.7 | — | — | — | — | 6.4 | — | 51.1 | |||||||||||||||||||||
| Total redeemable preferred stocks |
44.7 | — | — | — | — | 6.4 | — | 51.1 | |||||||||||||||||||||
| Total fixed maturities |
109.6 | (3.4 | ) | 29.2 | (1.1 | ) | (1.8 | ) | 16.3 | (18.2 | ) | 130.6 | |||||||||||||||||
| Nonredeemable preferred stocks: |
|||||||||||||||||||||||||||||
| Industrials |
112.3 | — | — | — | — | (2.2 | ) | — | 110.1 | ||||||||||||||||||||
| Total nonredeemable preferred stocks |
112.3 | — | — | — | — | (2.2 | ) | — | 110.1 | ||||||||||||||||||||
| Common equities: |
|||||||||||||||||||||||||||||
| Other risk investments |
13.5 | (.1 | ) | — | — | — | (.4 | ) | — | 13.0 | |||||||||||||||||||
| Total common equities |
13.5 | (.1 | ) | — | — | — | (.4 | ) | — | 13.0 | |||||||||||||||||||
| Total level 3 securities |
$ | 235.4 | $ | (3.5 | ) | $ | 29.2 | $ | (1.1 | ) | $ | (1.8 | ) | $ | 13.7 | $ | (18.2 | ) | $ | 253.7 | |||||||||
| Level 3 Fair Value Three months ended September 30, 2009 | |||||||||||||||||||||||||||||
| (millions) |
Fair value at June 30, 2009 |
Calls/ Maturities/ Paydowns |
Purchases | Sales | Realized (gain)/loss |
Change in Valuation |
Transfers in (out)1 |
Fair value at September 30, 2009 | |||||||||||||||||||||
| Fixed maturities: |
|||||||||||||||||||||||||||||
| Corporate debt securities |
$ | 27.4 | $ | — | $ | — | $ | (1.1 | ) | $ | (1.8 | ) | $ | 4.3 | $ | — | $ | 28.8 | |||||||||||
| Asset-backed securities: |
|||||||||||||||||||||||||||||
| Residential mortgage-backed |
.3 | — | 18.2 | — | — | — | — | 18.5 | |||||||||||||||||||||
| Commercial mortgage-backed |
18.2 | — | — | — | — | 5.7 | — | 23.9 | |||||||||||||||||||||
| Commercial mortgage-backed: interest-only |
4.8 | (.2 | ) | — | — | — | 1.1 | (5.7 | ) | — | |||||||||||||||||||
| Other asset-backed |
19.8 | (1.0 | ) | — | — | — | .5 | (11.0 | ) | 8.3 | |||||||||||||||||||
| Total asset-backed securities |
43.1 | (1.2 | ) | 18.2 | — | — | 7.3 | (16.7 | ) | 50.7 | |||||||||||||||||||
| Redeemable preferred stocks: |
|||||||||||||||||||||||||||||
| Industrials |
49.0 | — | — | — | — | 2.1 | — | 51.1 | |||||||||||||||||||||
| Total redeemable preferred stocks |
49.0 | — | — | — | — | 2.1 | — | 51.1 | |||||||||||||||||||||
| Total fixed maturities |
119.5 | (1.2 | ) | 18.2 | (1.1 | ) | (1.8 | ) | 13.7 | (16.7 | ) | 130.6 | |||||||||||||||||
| Nonredeemable preferred stocks: |
|||||||||||||||||||||||||||||
| Industrials |
112.2 | — | — | — | — | (2.1 | ) | — | 110.1 | ||||||||||||||||||||
| Total nonredeemable preferred stocks |
112.2 | — | — | — | — | (2.1 | ) | — | 110.1 | ||||||||||||||||||||
| Common equities: |
|||||||||||||||||||||||||||||
| Other risk investments |
13.1 | — | — | — | — | (.1 | ) | — | 13.0 | ||||||||||||||||||||
| Total common equities |
13.1 | — | — | — | — | (.1 | ) | — | 13.0 | ||||||||||||||||||||
| Total level 3 securities |
$ | 244.8 | $ | (1.2 | ) | $ | 18.2 | $ | (1.1 | ) | $ | (1.8 | ) | $ | 11.5 | $ | (16.7 | ) | $ | 253.7 | |||||||||
| 1 | Represents movement between the fair value hierarchy levels during 2009, reflecting changes in the inputs used to measure fair value during the period. |
18
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
| Level 3 Fair Value Nine months ended September 30, 2008 | ||||||||||||||||||||||||||||
| (millions) |
Fair value at December 31, 2007 |
Calls/ Maturities/ Paydowns |
Purchases | Sales | Realized (gain)/loss |
Change in Valuation |
Transfers in (out)1 |
Fair value at September 30, 2008 | ||||||||||||||||||||
| Fixed maturities: |
||||||||||||||||||||||||||||
| Corporate debt securities |
$ | 29.9 | $ | — | $ | — | $ | — | $ | — | $ | .3 | $ | — | $ | 30.2 | ||||||||||||
| Asset-backed securities: |
||||||||||||||||||||||||||||
| Residential mortgage-backed |
.5 | (4.1 | ) | — | — | — | (5.8 | ) | 24.1 | 14.7 | ||||||||||||||||||
| Commercial mortgage-backed |
46.6 | (.4 | ) | — | — | — | (9.2 | ) | — | 37.0 | ||||||||||||||||||
| Commercial mortgage-backed: interest-only |
11.8 | (1.0 | ) | — | — | — | (4.2 | ) | — | 6.6 | ||||||||||||||||||
| Other asset-backed |
30.6 | (3.1 | ) | — | (14.3 | ) | .5 | (.2 | ) | — | 13.5 | |||||||||||||||||
| Total asset-backed securities |
89.5 | (8.6 | ) | — | (14.3 | ) | .5 | (19.4 | ) | 24.1 | 71.8 | |||||||||||||||||
| Redeemable preferred stocks: |
||||||||||||||||||||||||||||
| Total fixed maturities |
119.4 | (8.6 | ) | — | (14.3 | ) | .5 | (19.1 | ) | 24.1 | 102.0 | |||||||||||||||||
| Nonredeemable preferred stocks: |
||||||||||||||||||||||||||||
| Industrials |
115.6 | — | — | — | — | — | (115.6 | ) | — | |||||||||||||||||||
| Total nonredeemable preferred stocks |
115.6 | — | — | — | — | — | (115.6 | ) | — | |||||||||||||||||||
| Common equities: |
||||||||||||||||||||||||||||
| Other risk investments |
13.7 | (.7 | ) | — | — | — | .6 | — | 13.6 | |||||||||||||||||||
| Total common equities |
13.7 | (.7 | ) | — | — | — | .6 | — | 13.6 | |||||||||||||||||||
| Total level 3 securities |
$ | 248.7 | $ | (9.3 | ) | $ | — | $ | (14.3 | ) | $ | .5 | $ | (18.5 | ) | $ | (91.5 | ) | $ | 115.6 | ||||||||
| Level 3 Fair Value Three months ended September 30, 2008 | ||||||||||||||||||||||||||||
| (millions) |
Fair value at June 30, 2008 |
Calls/ Maturities/ Paydowns |
Purchases | Sales | Realized (gain)/loss |
Change in Valuation |
Transfers in (out)1 |
Fair value at September 30, 2008 | ||||||||||||||||||||
| Fixed maturities: |
||||||||||||||||||||||||||||
| Corporate debt securities |
$ | 30.1 | $ | — | $ | — | $ | — | $ | — | $ | .1 | $ | — | $ | 30.2 | ||||||||||||
| Asset-backed securities: |
||||||||||||||||||||||||||||
| Residential mortgage-backed |
42.1 | (1.4 | ) | — | — | — | (3.4 | ) | (22.6 | ) | 14.7 | |||||||||||||||||
| Commercial mortgage-backed |
40.7 | — | — | — | — | (3.7 | ) | — | 37.0 | |||||||||||||||||||
| Commercial mortgage-backed: interest-only |
7.8 | (.4 | ) | — | — | — | (.8 | ) | — | 6.6 | ||||||||||||||||||
| Other asset-backed |
28.6 | (1.5 | ) | — | (14.3 | ) | .5 | .2 | — | 13.5 | ||||||||||||||||||
| Total asset-backed securities |
119.2 | (3.3 | ) | — | (14.3 | ) | .5 | (7.7 | ) | (22.6 | ) | 71.8 | ||||||||||||||||
| Redeemable preferred stocks: |
||||||||||||||||||||||||||||
| Total fixed maturities |
149.3 | (3.3 | ) | — | (14.3 | ) | .5 | (7.6 | ) | (22.6 | ) | 102.0 | ||||||||||||||||
| Nonredeemable preferred stocks: |
||||||||||||||||||||||||||||
| Common equities: |
||||||||||||||||||||||||||||
| Other risk investments |
13.8 | (.7 | ) | — | — | — | .5 | — | 13.6 | |||||||||||||||||||
| Total common equities |
13.8 | (.7 | ) | — | — | — | .5 | — | 13.6 | |||||||||||||||||||
| Total level 3 securities |
$ | 163.1 | $ | (4.0 | ) | $ | — | $ | (14.3 | ) | $ | .5 | $ | (7.1 | ) | $ | (22.6 | ) | $ | 115.6 | ||||||||
| 1 | Represents movement between the fair value hierarchy levels during 2008, reflecting changes in the inputs used to measure fair value during the period. |
19
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
Note 4 Debt — Debt consisted of:
| September 30, 2009 | September 30, 2008 | December 31, 2008 | ||||||||||||||||
| (millions) |
Carrying Value |
Fair Value |
Carrying Value |
Fair Value |
Carrying Value |
Fair Value | ||||||||||||
| 6.375% Senior Notes due 2012 |
$ | 349.1 | $ | 365.1 | $ | 348.8 | $ | 359.9 | $ | 348.9 | $ | 355.3 | ||||||
| 7% Notes due 2013 |
149.4 | 163.3 | 149.3 | 156.6 | 149.3 | 154.3 | ||||||||||||
| 6 5/8% Senior Notes due 2029 |
294.7 | 325.0 | 294.5 | 279.2 | 294.6 | 272.0 | ||||||||||||
| 6.25% Senior Notes due 2032 |
394.1 | 425.6 | 394.0 | 356.1 | 394.0 | 350.0 | ||||||||||||
| 6.70% Fixed-to-Floating Rate Junior |
||||||||||||||||||
| Subordinated Debentures due 2067 |
989.5 | 859.9 | 988.5 | 681.6 | 988.7 | 450.0 | ||||||||||||
| Total |
$ | 2,176.8 | $ | 2,138.9 | $ | 2,175.1 | $ | 1,833.4 | $ | 2,175.5 | $ | 1,581.6 | ||||||
On December 31, 2008, we entered into a 364-Day Secured Liquidity Credit Facility Agreement with National City Bank (NCB). Under this agreement, we may borrow up to $125 million, which may be increased to $150 million at our request but subject to NCB’s discretion. In conjunction with this agreement, we deposited $125 million into an FDIC-insured deposit account at NCB in January 2009 to provide us with additional cash availability in the event of a disruption to our cash management operations. Our access to these funds is unrestricted. However, if we withdraw funds from this account for any reason other than in connection with such a disruption in our cash management operations, the availability of borrowings under the NCB credit facility will be reduced on a dollar-for-dollar basis until such time as we replenish the funds to the deposit account. The credit facility will expire on December 31, 2009, unless earlier terminated according to its terms. We had no borrowings under this arrangement in 2008 or through the first nine months of 2009.
Note 5 Income Taxes — During the third quarter 2009, as a result of improved investment market conditions, we reversed the remaining valuation allowance on our deferred tax asset, which reduced the provision for income taxes by $18.0 million. Management believes it is more likely than not that the full amount of the deferred tax asset will ultimately be realized. We will continue to evaluate our deferred tax assets to determine if any changes to the valuation allowance are necessary.
There have been no material changes in our uncertain tax positions during the quarter ended September 30, 2009.
Note 6 Supplemental Cash Flow Information — Cash includes only bank demand deposits, including $125 million on deposit with National City Bank (see Note 4 – Debt for additional discussion). We paid income taxes of $368.2 million and $223.0 million during the nine months ended September 30, 2009 and 2008, respectively. Total interest paid was $93.4 million for both the nine months ended September 30, 2009 and 2008. Non-cash activity includes changes in net unrealized gains (losses) on investment securities.
Note 7 Segment Information — Our Personal Lines segment writes insurance for private passenger automobiles and recreational vehicles. Our Commercial Auto segment writes primary liability and physical damage insurance for automobiles and trucks owned by small businesses in the specialty truck and business auto markets. Our other indemnity businesses primarily include writing professional liability insurance for community banks and managing a small amount of run-off business. Our service businesses include providing insurance-related services, primarily policy issuance and claims adjusting services, for Commercial Auto Insurance Procedures/Plans (CAIP), which are state-supervised plans serving the involuntary market. All revenues are generated from external customers.
20
The Progressive Corporation and Subsidiaries
Notes to Consolidated Financial Statements—(Continued)
(unaudited)
Following are the operating results for the respective periods:
| Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||||||||||||||||||
| 2009 | 2008 | 2009 | 2008 | |||||||||||||||||||||||||||
| (millions) |
Revenues | Pretax Profit (Loss) |
Revenues | Pretax Profit (Loss) |
Revenues | Pretax Profit (Loss) |
Revenues | Pretax Profit (Loss) |
||||||||||||||||||||||
| Personal Lines |
||||||||||||||||||||||||||||||
| Agency |
$ | 1,819.3 | $ | 110.0 | $ | 1,840.5 | $ | 75.7 | $ | 5,463.1 | $ | 419.8 | $ | 5,534.5 | $ | 283.7 | ||||||||||||||
| Direct |
1,224.9 | 86.0 | 1,129.1 | 77.3 | 3,601.6 | 270.7 | 3,336.2 | 211.2 | ||||||||||||||||||||||
| Total Personal Lines1 |
3,044.2 | 196.0 | 2,969.6 | 153.0 | 9,064.7 | 690.5 | 8,870.7 | 494.9 | ||||||||||||||||||||||
| Commercial Auto |
395.4 | 50.4 | 441.1 | 13.6 | 1,211.0 | 162.9 | 1,331.1 | 73.4 | ||||||||||||||||||||||
| Other indemnity |
5.8 | 3.4 | 5.5 | .8 | 17.7 | 6.2 | 15.6 | 1.0 | ||||||||||||||||||||||
| Total underwriting operations |
3,445.4 | 249.8 | 3,416.2 | 167.4 | 10,293.4 | 859.6 | 10,217.4 | 569.3 | ||||||||||||||||||||||
| Service businesses |
4.5 | (1.0 | ) | 3.8 | (2.2 | ) | 12.1 | (2.7 | ) | 12.4 | ||||||||||||||||||||