The term "State Auto Financial" as used below refers only to State Auto
Financial Corporation and the terms "our Company," "we," "us," and "our" as used
below refer to State Auto Financial Corporation and its consolidated
subsidiaries. The term "second quarter" as used below refers to the three months
ended June 30 for the time period then ended. For a glossary of terms for State
Auto Financial Corporation and its subsidiaries and affiliates and a glossary of
selected insurance and accounting terms, see the section entitled "Important
Defined Terms Used in this Form 10-K" included in our Annual Report on Form 10-K
for the year ended December 31, 2011 (the "2011 Form 10-K").
The discussion and analysis presented below relates to the material changes in
financial condition and results of operations for our consolidated balance
sheets as of June 30, 2012 and December 31, 2011, and for the consolidated
statements of income for the three and six-month periods ended June 30, 2012 and
2011. This discussion and analysis should be read together with "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
included in the 2011 Form 10-K, and in particular the discussions in those
sections thereof entitled "Overview," "Executive Summary" and "Critical
Accounting Policies." Readers are encouraged to review the entire 2011 Form
10-K, as it includes information regarding our Company not discussed in this
Form 10-Q. This information will assist in your understanding of the discussion
of our current period financial results.
The discussion and analysis presented below includes forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933 and Section 21E
of the Securities Exchange Act of 1934. Forward-looking statements generally can
be identified by the use of forward-looking terminology such as "may," "will,"
"expect," "intend," "estimate," "anticipate," "project," "believe" or "continue"
or the negative thereof or variations thereon or similar terminology.
Forward-looking statements speak only as of the date the statements were made.
Although we believe that the expectations reflected in forward-looking
statements have a reasonable basis, we can give no assurance that these
expectations will prove to be correct. Forward-looking statements are subject to
risks and uncertainties that could cause actual events or results to differ
materially from those expressed in or implied by the statements. For a
discussion of the most significant risks and uncertainties that could cause our
actual results to differ materially from those projected, see "Risk Factors" in
Item 1A of the 2011 Form 10-K, updated by Part II, Item 1A of this Form 10-Q.
Except to the limited extent required by applicable law, we undertake no
obligation to update or revise any forward-looking statements, whether as a
result of new information, future events or otherwise.
The Company has four reportable segments: personal insurance, business
insurance, specialty insurance and investment operations. The reportable
insurance segments are business units managed separately because of the
differences in the type of customers they serve or products they provide or
services they offer. The insurance segments market a broad line of property and
casualty insurance products throughout the United States through independent
insurance agencies, which include retail agents and wholesale brokers. The
personal insurance segment provides primarily personal automobile and homeowners
to the personal insurance market. The business insurance segment provides
primarily commercial automobile, commercial multi-peril, fire & allied and
general liability insurance covering small-to-medium sized commercial exposures
in the business insurance market. The specialty insurance segment provides
commercial coverages, including workers' compensation for both the legacy State
Auto Group and the RTW, Inc. insurance subsidiaries that require specialized
product underwriting, claims handling or risk management services through a
distribution channel of retail agents and wholesale brokers, which may include
program administrators and other specialty sources. The investment operations
segment, managed by Stateco, provides investment services. See "Personal and
Business Insurance" and "Specialty Insurance" in Item 1 of the 2011 Form 10-K
for more information about our insurance segments. Financial information about
our reportable segments for 2012 is set forth in Note 8 of our condensed
consolidated financial statements included in Item 1 of this Form 10-Q.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
CRITICAL ACCOUNTING POLICIES
Deferred Acquisition Costs
As of January 1, 2012, we adopted retrospectively the FASB guidance Accounting
for Costs Associated with Acquiring or Renewing Insurance Contracts. See "New
Accounting Standards -Adoption of Accounting Pronouncements-Accounting for Costs
Associated with Acquiring or Renewing Insurance Contracts" included in this
Item 2 and Note 1 of our condensed consolidated financial statements included in
Item 1 of this Form 10-Q for the impact of this adoption at January 1, 2010.
Acquisition costs, consisting of commissions, premium taxes and certain
underwriting expenses related to the successful acquisition of acquiring or
renewing the production of property and casualty business, are deferred and
amortized over the same period in which the related premiums are earned. The
method followed for computing the acquisition costs limits the amount of such
deferred costs to their estimated realizable value. In determining estimated
realizable value, the computation gives effect to the premiums to be earned,
losses and loss expenses expected to be incurred, and certain other costs
expected to be incurred as premium is earned. Future changes in estimates, the
most significant of which is expected losses and loss adjustment expenses, that
indicate a reduction in expected future profitability may result in
unrecoverable deferred acquisition costs. The impact of the adoption at
December 31, 2011, was a reduction to shareholders' equity of $34.5 million, or
$0.86 book value per share, resulting in an adjusted book value per share of
$17.95. The previously reported book value per share as of December 31, 2011 was
$18.81 per share. All applicable prior period amounts have been adjusted to
conform to current period presentation.
POOLING ARRANGEMENT
The STFC Pooled Companies and the Mutual Pooled Companies participate in a quota
share reinsurance pooling arrangement referred to as the "Pooling Arrangement."
Under the Pooling Arrangement, State Auto Mutual assumes premiums, losses and
expenses from each of the Pooled Companies and in turn cedes to each of the
Pooled Companies a specified portion of premiums, losses and expenses based on
each of the Pooled Companies' respective pooling percentages. State Auto Mutual
then retains the balance of the pooled business.
In 2011, we made two changes to the Pooling Arrangement. First, as of January 1,
2011, we added the Rockhill Insurers to the pool each with a participation
percentage of 0.0% (the "1.1.11 pool change"). In conjunction with the 1.1.11
pool change, the STFC Pooled Companies received $149.8 million ($69.1 million in
cash and $80.7 million in investment securities) from the Rockhill Insurers for
net insurance liabilities transferred on January 1, 2011. The following table
sets forth the impact on our balance sheet at January 1, 2011:
($ millions) (Decrease)/Increase
Losses and loss expenses payable $ 124.5
Unearned premiums 34.1
Other liabilities (0.5 )
Less:
Deferred policy acquisition costs 8.3
Net cash and investment securities received $ 149.8
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Second, at the close of business on December 31, 2011, the Pooling Arrangement
was amended to reduce the overall participation percentage of the STFC Pooled
Companies from 80% to 65% and to include the pooling of applicable balance sheet
accounts such as accumulated other comprehensive income related to employee
benefit plans (the "12.31.11 pool change"). In conjunction with the 12.31.11
pool change, the STFC Pooled Companies paid $261.4 million in cash to the Mutual
Pooled Companies subsequent to year end for net liabilities transferred on
December 31, 2011. The following table sets forth the impact on our balance
sheet at December 31, 2011:
($ millions) (Decrease)/Increase
Losses and loss expenses payable $ (203.4 )
Unearned premiums (106.8 )
Pension and postretirement liabilities (52.3 )
Other liabilities 27.6
Accumulated other comprehensive income 59.1
Less:
Deferred policy acquisition costs (21.8 )
Other assets 7.4
Net cash paid $ (261.4 )
The following table sets forth the participants and their participation
percentages in the Pooling Arrangement for the period indicated:
Close of business
December 31, 2011 - January 1, 2011 -
June 30, 2012 December 31, 2011
STFC Pooled Companies:
State Auto P&C 51.0 % 59.0 %
Milbank 14.0 17.0
Farmers 0.0 3.0
SA Ohio 0.0 1.0
Total STFC Pooled Companies 65.0 80.0
State Auto Mutual Pooled
Companies:
State Auto Mutual 34.0 19.0
SA Wisconsin 0.0 0.0
SA Florida 0.0 0.0
Meridian Security 0.0 0.0
Meridian Citizens Mutual 0.5 0.5
Beacon National 0.0 0.0
Patrons Mutual 0.4 0.4
Litchfield 0.1 0.1
RIC 0.0 0.0
Plaza 0.0 0.0
American Compensation 0.0 0.0
Bloomington Compensation 0.0 0.0
Total State Auto Mutual Pooled
Companies 35.0 20.0
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
RESULTS OF OPERATIONS
Our net loss for the three and six months ended June 30, 2012 was $2.7 million
and $4.7 million, respectively, compared to net losses of $214.1 million and
$201.3 million, respectively, for the same 2011 periods. Our pretax loss for the
three and six months ended June 30, 2012 was $2.7 million and $4.7 million,
respectively, compared to pretax losses of $139.3 million and $123.7 million,
respectively, for the same 2011 periods. During the second quarter of 2012, our
insurance segment results were negatively impacted by two events - wind and hail
activity affecting the Louisville, Kentucky, and St. Louis, Missouri areas in
late April and, to a lesser extent, wind activity from a storm event in the
Midwest and Mid-Atlantic states at the end of June. Our 2012 results to date,
when compared to our 2011 results, for the same period, have reflected a
significant decrease in weather-related catastrophe losses. In addition, the
second quarter of 2011 included a non-cash charge of $115.0 million to establish
a valuation allowance against our net deferred tax asset at June 30, 2011. Our
2012 results have also been impacted by the reduction in our participation in
the Pooling Arrangement to 65% from 80% in 2011, as well as the quota share
reinsurance arrangement covering our homeowners book of business, discussed
below.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
The following table sets forth certain key performance indicators we use to
monitor our operations for the three and six months ended June 30, 2012 and
2011:
($ millions, except per share amounts) Three months ended
Six months ended
June 30 June 30
GAAP Basis: 2012 2011 2012 2011
Total revenues $ 286.7 384.4 $ 567.0 764.6
Net loss $ (2.7 ) (214.1 ) $ (4.7 ) (201.3 )
Basic (loss) earnings per share $ (0.07 ) (5.33 ) $ (0.12 ) (5.01 )
Diluted (loss) earnings per share $ (0.07 ) (5.33 ) $ (0.12 ) (5.01 )
Stockholders' equity $ 719.7 641.6
Return on average equity (LTM) 5.3 % (22.8 )%
Book value per share $ 17.82 15.94
Debt to capital ratio 13.9 15.4
Cat loss and ALAE ratio 13.2 44.3 10.5 24.5
Non-cat loss and LAE ratio 64.9 69.7 66.1 67.2
Loss and LAE ratio 78.1 114.0 76.6 91.7
Expense ratio 32.3 33.4 33.3 33.6
Combined ratio 110.4 147.4 109.9 125.3
Premium written growth (30.4 )% 9.9 (30.3 )% 16.7 (1)
Investment yield 3.9 % 4.1 3.5 % 3.9
Three months ended Six months ended
June 30 June 30
SAP Basis: 2012 2011 2012 2011
Cat loss and ALAE points 13.2 44.3 10.5 24.5
Non-cat loss and ALAE 57.4 62.5 58.8 60.6
ULAE 7.5 6.9 7.4 6.5
Loss and LAE ratio 78.1 113.7 76.7 91.6
Expense ratio 31.3 32.4 33.3 32.4
Combined ratio 109.4 146.1 110.0 124.0
Twelve months ended
June 30
2012 2011
Net premiums written to surplus 1.9 2.4
(1) Includes an increase of 5.4 points for the six months ended June 30, 2011
related to the one-time $34.1 million transfer of unearned premium by the
Rockhill Insurers on January 1, 2011, in conjunction with the 1.1.11 pool
change.
________
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Homeowners Quota Share Arrangement
To reduce risk and volatility, while providing us with additional catastrophe
reinsurance protection, the State Auto Group entered into a quota share
reinsurance agreement on December 31, 2011 with a syndicate of unaffiliated
reinsurers covering its homeowners book of business (the "HO QS Arrangement").
Under the HO QS Arrangement, the State Auto Group ceded to the reinsurers 75% of
its homeowners business under policies in force at December 31, 2011 and new and
renewal policies thereafter issued during the term of the agreement. The HO QS
Arrangement is in effect until December 31, 2014. See "Liquidity and Capital
Resources - Reinsurance Arrangements" for a discussion of the HO QS Arrangement.
We believe the long term benefits of our homeowner actions will be a more
predictable and profitable book of homeowners business and reduced risk to our
capital base.
For the three and six months ended June 30, 2012, the HO QS Arrangement reduced
our GAAP net underwriting loss by $24.4 million and $31.6 million, respectively,
and improved our GAAP combined ratio by 6.8 points and 3.9 points, respectively.
The following tables set forth, on a pro forma GAAP basis certain of our key
performance indicators excluding the impact of the HO QS Arrangement cession for
the three and six months ended June 30, 2012.
Reconciliation Table 1
Three months ended June 30, 2012
($ millions) GAAP HO QS Arrangement Cession - Overall Results
Pro-Forma
without HO QS
As Reported HO QS Cession Cession
Earned premiums $ 258.4 $ 41.8 $ 300.2
Losses and LAE incurred:
Cat loss and ALAE 34.0 30.1 64.1
Non-cat loss and LAE 167.7 24.0 191.7
Total Loss and LAE incurred 201.7 54.1 255.8
Acquisition and operating expenses 83.6 12.1 95.7
Net underwriting loss $ (26.9 ) $ (24.4 ) $ (51.3 )
Cat loss and ALAE ratio 13.2 % 72.0 % 21.4 %
Non-cat loss and LAE ratio 64.9 % 57.4 % 63.9 %
Total Loss and LAE ratio 78.1 % 129.4 % 85.3 %
Expense ratio 32.3 % 29.0 % 31.9 %
Combined ratio 110.4 % 158.4 % 117.2 %
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Reconciliation Table 2
Six months ended June 30, 2012
($ millions) GAAP HO QS Arrangement Cession - Overall Results
Pro-Forma
without HO QS
As Reported HO QS Cession Cession
Earned premiums $ 513.3 $ 83.5 $ 596.8
Losses and LAE incurred:
Cat loss and ALAE 54.0 47.5 101.5
Non-cat loss and LAE 339.0 43.4 382.4
Total Loss and LAE incurred 393.0 90.9 483.9
Acquisition and operating expenses 171.2 24.2 195.4
Net underwriting loss $ (50.9 ) $ (31.6 ) $ (82.5 )
Cat loss and ALAE ratio 10.5 % 56.9 % 17.0 %
Non-cat loss and LAE ratio 66.1 % 52.0 % 64.1 %
Total Loss and LAE ratio 76.6 % 108.9 % 81.1 %
Expense ratio 33.3 % 29.0 % 32.7 %
Combined ratio 109.9 % 137.9 % 113.8 %
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
For the three and six months and ended June 30, 2012, the HO QS Arrangement
reduced our SAP net underwriting loss by $26.1 million and $31.7 million,
respectively, and improved our SAP combined ratio by 6.8 points and 3.9 points,
respectively.
The following tables set forth, on a pro forma SAP basis, certain of our key
performance indicators excluding the impact of the HO QS Arrangement cession for
the three and six months ended June 30, 2012.
Reconciliation Table 3
Three months ended June 30, 2012
($ millions) SAP HO QS Arrangement Cession - Overall Results
Pro-Forma
without HO QS
As Reported HO QS Cession Cession
Net written premiums $ 269.4 $ 47.7 $ 317.1
Earned premiums 258.4 41.8 300.2
Losses and LAE incurred:
Cat loss and ALAE 34.0 30.1 64.1
Non-cat loss and ALAE 148.5 24.0 172.5
Total Loss and ALAE 182.5 54.1 236.6
ULAE 19.2 - 19.2
Total Loss and ALAE incurred 201.7 54.1 255.8
Underwriting expenses 84.2 13.8 98.0
Net underwriting loss $ (27.5 ) $ (26.1 ) $ (53.6 )
Cat loss and ALAE ratio 13.2 % 72.0 % 21.4 %
Non-cat loss and ALAE ratio 57.4 % 57.4 % 57.5 %
Total loss and ALAE ratio 70.6 % 129.4 % 78.9 %
ULAE ratio 7.5 % - 6.4 %
Total loss and LAE ratio 78.1 % 129.4 % 85.3 %
Expense ratio 31.3 % 29.0 % 30.9 %
Combined ratio 109.4 % 158.4 % 116.2 %
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Reconciliation Table 4
Six months ended June 30, 2012
($ millions) SAP HO QS Arrangement Cession - Overall Results
Pro-Forma
without HO QS
As Reported HO QS Cession Cession
Net written premiums $ 532.7 $ 83.9 $ 616.6
Earned premiums 513.3 83.5 596.8
Losses and LAE incurred:
Cat loss and ALAE 54.0 47.5 101.5
Non-cat loss and ALAE 301.3 43.4 344.7
Total Loss and ALAE 355.3 90.9 446.2
ULAE 38.2 - 38.2
Total Loss and ALAE incurred 393.5 90.9 484.4
Underwriting expenses 177.2 24.3 201.5
Net underwriting loss $ (57.4 ) $ (31.7 ) $ (89.1 )
Cat loss and ALAE ratio 10.5 % 56.9 % 17.0 %
Non-cat loss and ALAE ratio 58.8 % 52.0 % 57.8 %
Total loss and ALAE ratio 69.3 % 108.9 % 74.8 %
ULAE ratio 7.4 % - 6.4 %
Total loss and LAE ratio 76.7 % 108.9 % 81.2 %
Expense ratio 33.3 % 29.0 % 32.7 %
Combined ratio 110.0 % 137.9 % 113.9 %
See additional pro forma reconciliation tables for the HO QS Arrangement cession
on our personal insurance segment's SAP underwriting results at Reconciliation
Tables 7 and 8 and our homeowners' line of business at Reconciliation Tables 9
and 10.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Use of Non-GAAP Financial Measures
Certain information and results in our personal, business and specialty
insurance segments are presented in a manner which, on a pro forma basis,
(i) excludes the impact of the HO QS Arrangement cession for the three and six
months ended June 30, 2012, (ii) excludes the one-time impact of the 1.1.11 pool
change for the six months ended June 30, 2011, and (iii) assumes the 12.31.11
pool change from an 80% to 65% participation percentage had been in effect as of
January 1, 2011. These presentations are non-GAAP financial measures. We believe
these non-GAAP financial measures will enable investors to (a) better understand
the significance the reinsurance arrangement cession is contributing to our
reported results for the three and six months ended June 30, 2012, and
(b) perform a meaningful comparison of our results of operations for the three
and six months ended June 30, 2012 and 2011. See Reconciliation Tables 1- 4
above and Reconciliation Tables 5-10 below.
Insurance Segments
The insurance segments market a broad line of property and casualty insurance
products throughout the United States through independent insurance agencies,
which include retail agents and wholesale brokers. The personal insurance
segment provides primarily personal automobile and homeowners to the personal
insurance market. The business insurance segment provides primarily commercial
automobile, commercial multi-peril, fire & allied and general liability
insurance covering small-to-medium sized commercial exposures in the business
insurance market. The specialty insurance segment provides commercial coverages
requiring specialized product underwriting, claims handling or risk management
services through a distribution channel of retail agents and wholesale brokers,
which may include program administrators and other specialty sources.
Insurance industry regulators require our insurance subsidiaries to report their
financial condition and results of operations using SAP. We use SAP financial
results, along with industry standard financial measures determined on a SAP
basis and certain measures determined on a GAAP basis, to internally monitor the
performance of our insurance segments and reward our employees.
One of the more significant differences between GAAP and SAP is that SAP
requires all underwriting expenses to be expensed immediately and not deferred
over the same period that the premium is earned. In converting SAP underwriting
results to GAAP underwriting results, acquisition costs are deferred and
amortized over the periods the related written premiums are earned. For a
discussion of deferred acquisition costs, see "Critical Accounting Policies -
Deferred Acquisition Costs" section included in Item 7 of our 2011 Form 10-K.
The accounting for retroactive reinsurance contributes to the difference between
our GAAP loss and expense ratios and our SAP loss and expense ratios.
Retroactive reinsurance balances result from reinsurance placed to cover losses
on insured events occurring prior to the inception of a reinsurance contract.
For GAAP reporting, retroactive reinsurance balances are included in losses and
loss expenses in the condensed consolidated statements of income and the GAAP
loss ratio. Statutory accounting practices require retroactive reinsurance
balances to be recorded in other expenses rather than in losses and loss
expenses, and included in the SAP expense ratio.
All references to financial measures or components thereof in this discussion
are calculated on a GAAP basis, unless otherwise noted.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
The following tables set forth a summary of our insurance segments' SAP
underwriting loss and SAP combined ratio for the three and six months ended
June 30, 2012 and 2011:
($ millions) Three months ended
June 30, 2012
% % % %
Personal(1) Ratio Business Ratio Specialty Ratio Total(2) Ratio
Written premiums $ 121.2 90.6 57.6 269.4
Earned premiums 117.2 79.4 61.8 258.4
Cat loss and ALAE 17.1 14.6 16.6 20.9 0.3 0.5 34.0 13.2
Non-cat loss and ALAE 68.2 58.2 39.3 49.5 41.0 66.5 148.5 57.4
ULAE 12.0 10.3 5.1 6.5 2.1 3.4 19.2 7.5
Underwriting expenses 30.6 25.3 35.1 38.7 18.5 32.1 84.2 31.3
SAP underwriting loss and SAP
combined ratio $ (10.7 ) 108.4 (16.7 ) 115.6 (0.1 ) 102.5 (27.5 ) 109.4
($ millions) Three months ended
June 30, 2011
% % % %
Personal Ratio Business Ratio Specialty Ratio Total Ratio
Written premiums $ 211.7 102.7 72.7 387.1
Earned premiums 201.9 94.7 55.8 352.4
Cat loss and ALAE 118.8 58.9 37.2 39.4 0.1 0.1 156.1 44.3
Non-cat loss and ALAE 125.1 62.0 54.3 57.4 40.6 72.7 220.0 62.5
ULAE 16.1 7.9 6.6 6.9 1.8 3.3 24.5 6.9
Underwriting expenses 53.7 25.3 41.7 40.5 30.1 41.4 125.5 32.4
SAP underwriting loss and SAP
combined ratio $ (111.8 ) 154.1 (45.1 ) 144.2 (16.8 ) 117.5 (173.7 ) 146.1
(1) See Reconciliation Table 5 below for the impact of the HO QS Arrangement
cession on the SAP personal insurance segment's SAP underwriting results.
(2) See Reconciliation Table 3 above for the impact of the HO QS Arrangement
cession on our SAP underwriting results.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
($ millions) Six months ended
June 30, 2012
% % % %
Personal(1) Ratio Business Ratio Specialty Ratio Total(2) Ratio
Written premiums $ 234.2 170.6 127.9 532.7
Earned premiums 234.7 156.7 121.9 513.3
Cat loss and ALAE 22.9 9.8 30.8 19.6 0.3 0.3 54.0 10.5
Non-cat loss and ALAE 137.6 58.6 77.2 49.3 86.5 70.9 301.3 58.8
ULAE 23.3 9.9 10.9 7.0 4.0 3.2 38.2 7.4
Underwriting expenses 62.5 26.7 71.2 41.7 43.5 34.0 177.2 33.3
SAP underwriting loss and SAP
combined ratio $ (11.6 ) 105.0 (33.4 ) 117.6 (12.4 ) 108.4 (57.4 ) 110.0
($ millions) Six months ended
June 30, 2011
% % %(3) %(3)
Personal Ratio Business Ratio Specialty Ratio Total Ratio
Written premiums (3) $ 401.2 197.2 165.8 764.2
Earned premiums 405.5 189.5 107.6 702.6
Cat loss and ALAE 132.3 32.6 39.7 21.0 0.1 0.1 172.1 24.5
Non-cat loss and ALAE 240.5 59.3 112.4 59.3 72.8 67.6 425.7 60.6
ULAE 28.8 7.1 13.0 6.8 3.7 3.4 45.5 6.5
Underwriting expenses 103.2 25.7 81.5 41.3 63.1 38.1 247.8 32.4
SAP underwriting loss and SAP
combined ratio $ (99.3 ) 124.7 (57.1 ) 128.4 (32.1 ) 109.2 (188.5 ) 124.0
(1) See Reconciliation Table 6 below for the impact of the HO QS Arrangement
cession on the SAP personal insurance segment's SAP underwriting results.
(2) See Reconciliation Table 4 above for the impact of the HO QS Arrangement
cession on our SAP underwriting results.
(3) Written premium includes a one-time transfer of $34.1 million of unearned
premiums by the Rockhill Insurers to our specialty insurance segment in
conjunction with the 1.1.11 pool change. In connection with this unearned
premium transfer, we paid a one-time ceding commission of $8.3 million to
the Rockhill Insurers. Combined, these one-time transactions benefitted
our specialty insurance segment's statutory expense ratio by 3.5 points
and our overall expense ratio by 0.4 points.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Revenue
We measure top-line growth for our insurance segments based on net written
premiums, which represent the premiums on the policies we have issued for a
period, net of reinsurance. Net written premiums provide us with an indication
of how well we are doing in terms of revenue growth before it is actually
earned. Our policies provide a fixed amount of coverage for a stated period of
time, often referred to as "the policy term." As such, our written premiums are
recognized as earned ratably over the policy term. The unearned portion of
written premiums, called unearned premiums, is reflected on our balance sheet as
a liability and represents our obligation to provide coverage for the unexpired
term of the policies.
The following tables set forth the reconciliation of the one-time impact on net
written premiums for the six months ended June 30, 2011, of the unearned
premiums transferred by the Rockhill Insurers to us on January 1, 2011, in
conjunction with the 1.1.11 pool change and for the three and six months ended
June 30, 2011, on a pro forma basis which assumes that the 12.31.11 pool change
from an 80% to 65% participation percentage had been in effect as of January 1,
2011:
Reconciliation Table 5
Three months ended June 30, 2012
Net Written Premiums
Reconciliation Table From 80% to Pro Forma 65%
Pro-Forma
($ millions) As Reported As Reported 12.31.11
2012 Net 2011 Net Pool %
Written Written Change Pro Forma % Pro Forma
Premiums Premiums Impact 6/30/11 Change(1) Change(2)
Personal insurance segment:
Personal auto $ 97.5 $ 124.2 $ 23.3 $ 100.9 (21.5 ) (3.4 )
Homeowners 15.8 77.7 14.6 63.1 (79.7 ) (75.0 )
Other personal 7.9 9.8 1.8 8.0 (19.4 ) (1.3 )
Total personal 121.2 211.7 39.7 172.0 (42.7 ) (29.5 )
Business insurance segment:
Commercial auto 25.2 26.8 5.0 21.8 (6.0 ) 15.6
Commercial multi-peril 26.2 28.3 5.3 23.0 (7.4 ) 13.9
Fire & allied lines 18.8 24.0 4.5 19.5 (21.7 ) (3.6 )
Other & product liability 15.4 17.6 3.3 14.3 (12.5 ) 7.7
Other commercial 5.0 6.0 1.1 4.9 (16.7 ) 2.0
Total business 90.6 102.7 19.2 83.5 (11.8 ) 8.5
Specialty insurance segment:
RED 11.4 35.7 6.6 29.1 (68.1 ) (60.8 )
Rockhill 27.6 20.8 4.0 16.8 32.7 64.3
Workers' compensation 18.6 16.2 3.1 13.1 14.8 42.0
Total specialty 57.6 72.7 13.7 59.0 (20.8 ) (2.4 )
Total net written premiums $ 269.4 $ 387.1 $ 72.6$ 314.5
(30.4 ) (14.3 )
(1) Calculated based on as reported June 30, 2012 net written premiums change
from as reported June 30, 2011 net written premiums.
(2) Calculated based on as reported June 30, 2012 net written premiums change
from pro forma June 30, 2011 net written premiums.
37
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Reconciliation Table 6
Six months ended June 30, 2012
Net Written Premiums Reconciliation Table From 80% to Pro Forma 65%
Pro-Forma
($ millions) 2011
Net Written
As Reported As Reported 01.01.11 Premiums %
2012 Net 2011 Net Pool Excluding 12.31.11 Pro Pro
Written Written Change 01.01.11 Pool Pool Change Forma % Forma
Premiums Premiums Impact Change Impact 6/30/11 Change(1) Change(2)
Personal insurance segment:
Personal auto $ 191.5 $ 246.8 $ - $ 246.8 $ 46.3 $ 200.5 (22.4 ) (4.5 )
Homeowners 27.6 135.9 - 135.9 25.5 110.4 (79.7 ) (75.0 )
Other personal 15.1 18.5 - 18.5 3.4 15.1 (18.4 ) -
Total personal 234.2 401.2 - 401.2 75.2 326.0 (41.6 ) (28.2 )
Business insurance segment:
Commercial auto 46.2 50.1 - 50.1 9.4 40.7 (7.8 ) 13.5
Commercial multi-peril 49.9 54.7 - 54.7 10.3 44.4 (8.8 ) 12.3
Fire & allied lines 36.7 47.4 - 47.4 8.9 38.5 (22.6 ) (4.7 )
Other & product liability 28.8 33.8 - 33.8 6.3 27.5 (14.8 ) 4.7
Other commercial 9.0 11.2 - 11.2 2.1 9.1 (19.6 ) (1.1 )
Total business 170.6 197.2 - 197.2 37.0 160.2 (13.5 ) 6.5
Specialty insurance segment:
RED 42.9 59.3 - 59.3 11.1 48.2 (27.7 ) (11.0 )
Rockhill 48.1 60.1 24.3 35.8 6.7 29.1 (20.0 ) 65.3
Workers' compensation 36.9 46.4 9.8 36.6 6.9 29.7 (20.5 ) 24.2
Total specialty 127.9 165.8 34.1 131.7 24.7 107.0 (22.9 ) 19.5
Total net written premiums $ 532.7 $ 764.2 $ 34.1 $ 730.1 $ 136.9 $ 593.2 (30.3 ) (10.2 )
(1) Calculated based on as reported June 30, 2012 net written premiums change
from as reported June 30, 2011 net written premiums.
(2) Calculated based on as reported June 30, 2012 net written premiums change
from pro forma June 30, 2011 net written premiums.
38
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Personal Insurance Segment
The following table sets forth a summary of net written premiums by major
product line of business for our personal insurance segment for the three and
six months ended June 30, 2012 and 2011, on a pro forma basis which assumes that
the 12.31.11 pool change from an 80% to 65% participation percentage was in
effect as of January 1, 2011 (See Reconciliation Tables 5 and 6 above).
Three months ended Six months ended
June 30 June 30
Net Written Premiums
($ millions) Pro- Pro-
forma % forma %
2012 2011 Change 2012 2011 Change
Personal insurance segment:
Personal auto $ 97.5 100.9 (3.4 ) $ 191.5 200.5 (4.5 )
Homeowners 15.8 63.1 (75.0 ) 27.6 110.4 (75.0 )
Other personal 7.9 8.0 (1.3 ) 15.1 15.1 -
Total personal $ 121.2 172.0 (29.5 ) $ 234.2 326.0 (28.2 )
39
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
The following tables set forth a summary of SAP loss and ALAE ratios by major
product line of business for our personal insurance segment with the catastrophe
and non-catastrophe impact shown separately for the three and six months ended
June 30:
($ millions) %
Non-Cat Statutory Non-Cat Total Loss
Three months ended June 30 Earned Cat Loss Loss & Loss & Cat loss loss and LAE
Statutory Loss and LAE Ratios Premium & ALAE ALAE LAE Ratio Ratio Ratio
2012
Personal insurance segment:
Personal auto $ 95.8 7.4 57.8 65.2 7.7 60.3 68.0
Homeowners 14.5 7.6 7.2 14.8 53.0 50.0 103.0
Other personal 6.9 2.1 3.2 5.3 29.9 46.3 76.2
Total personal 117.2 17.1 68.2 85.3 14.6 58.2 72.8
ULAE - - - 12.0 - - 10.3
Total Loss and LAE $ 117.2 17.1 68.2 97.3 14.6 58.2 83.1
2011
Personal insurance segment:
Personal auto $ 124.5 12.7 75.4 88.1 10.2 60.6 70.8
Homeowners 68.5 100.3 43.1 143.4 146.4 62.9 209.3
Other personal 8.9 5.8 6.6 12.4 65.9 75.1 141.0
Total personal 201.9 118.8 125.1 243.9 58.9 62.0 120.9
ULAE - - - 16.1 - - 7.9
Total Loss and LAE $ 201.9 118.8 125.1 260.0 58.9 62.0 128.8
40
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
($ millions) %
Non-Cat Statutory Non-Cat Total Loss
Six months ended June 30 Earned Cat Loss Loss & Loss & Cat loss loss and LAE
Statutory Loss and LAE Ratios Premium & ALAE ALAE LAE Ratio Ratio Ratio
2012
Personal insurance segment:
Personal auto $ 191.8 10.2 117.3 127.5 5.3 61.2 66.5
Homeowners 29.1 7.7 14.9 22.6 26.5 51.4 77.9
Other personal 13.8 5.0 5.4 10.4 35.8 39.1 74.9
Total personal 234.7 22.9 137.6 160.5 9.8 58.6 68.4
ULAE - - - 23.3 - - 9.9
Total Loss and LAE $ 234.7 22.9 137.6 183.8 9.8 58.6 78.3
2011
Personal insurance segment:
Personal auto $ 251.6 12.9 153.5 166.4 5.2 61.0 66.2
Homeowners 136.4 113.6 77.9 191.5 83.2 57.1 140.3
Other personal 17.5 5.8 9.1 14.9 33.3 52.8 86.1
Total personal 405.5 132.3 240.5 372.8 32.6 59.3 91.9
ULAE - - - 28.8 - - 7.1
Total Loss and LAE $ 405.5 132.3 240.5 401.6 32.6 59.3 99.0
41
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
For the three and six months ended June 30, 2012, the HO QS Arrangement reduced
our SAP net underwriting loss in our personal insurance segment by $26.1 million
and $31.7 million, respectively, and improved our SAP combined ratio in our
personal insurance segment by 13.1 points and 8.6 points, respectively.
The following tables set forth certain key performance indicators concerning our
personal insurance segment which excludes, on a pro forma SAP basis, the impact
of the HO QS Arrangement cession for the three and six months ended June 30,
2012.
Reconciliation Table 7
Three months ended June 30, 2012
SAP HO QS Arrangement Cession - Personal Insurance
($ millions) Pro-Forma
HO QS without HO QS
As Reported Cession Cession
Net written premiums $ 121.2 $ 47.7 $ 168.9
Earned premiums 117.2 41.8 159.0
Losses and LAE Incurred:
Cat loss and ALAE 17.1 30.1 47.2
Non-cat loss and ALAE 68.2 24.0 92.2
Total Loss and ALAE 85.3 54.1 139.4
ULAE 12.0 - 12.0
Total Loss and LAE incurred 97.3 54.1 151.4
Underwriting expenses 30.6 13.8 44.4
Net underwriting loss $ (10.7 ) $ (26.1 ) $ (36.8 )
Cat loss and ALAE ratio 14.6 % 72.0 % 29.7 %
Non-cat loss and ALAE ratio 58.2 % 57.4 % 58.0 %
Total Loss and ALAE ratio 72.8 % 129.4 % 87.7 %
ULAE ratio 10.3 % - 7.5 %
Total Loss and LAE ratio 83.1 % 129.4 % 95.2 %
Expense ratio 25.3 % 29.0 % 26.3 %
Combined ratio 108.4 % 158.4 % 121.5 %
42
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Reconciliation Table 8
Six months ended June 30, 2012
SAP HO QS Arrangement Cession - Personal Insurance
($ millions) Pro-Forma
HO QS without HO QS
As Reported Cession Cession
Net written premiums $ 234.2 $ 83.9 $ 318.1
Earned premiums 234.7 83.5 318.2
Losses and LAE Incurred:
Cat loss and ALAE 22.9 47.5 70.4
Non-cat loss and ALAE 137.6 43.4 181.0
Total Loss and ALAE 160.5 90.9 251.4
ULAE 23.3 - 23.3
Total Loss and LAE incurred 183.8 90.9 274.7
Underwriting expenses 62.5 24.3 86.8
Net underwriting loss $ (11.6 ) $ (31.7 ) $ (43.3 )
Cat loss and ALAE ratio 9.8 % 56.9 % 22.1 %
Non-cat loss and ALAE ratio 58.6 % 52.0 % 56.9 %
Total Loss and ALAE ratio 68.4 % 108.9 % 79.0 %
ULAE ratio 9.9 % - 7.3 %
Total Loss and LAE ratio 78.3 % 108.9 % 86.3 %
Expense ratio 26.7 % 29.0 % 27.3 %
Combined ratio 105.0 % 137.9 % 113.6 %
Catastrophe losses on our personal insurance segment were $17.1 million and
$22.9 million, or 14.6 points and 9.8 points, for the three and six months ended
June 30, 2012, respectively. For the three and six months ended June 30, 2012,
cessions under the HO QS Arrangement reduced our personal insurance segment
catastrophe losses by $30.1 million and $47.5 million, or 15.1 points and 12.3
points, respectively. Catastrophe losses on our personal insurance segment were
$118.8 million and $132.3 million, or 58.9 points and 32.6 points, for the three
and six months ended June 30, 2011, respectively.
Personal auto net written premiums for the three and six months ended June 30,
2012 decreased 21.5% and 22.4%, respectively, compared to the same 2011 periods.
Personal auto net written premiums for the three and six months ended June 30,
2012 decreased 3.4% and 4.5%, respectively, compared to the three and six months
ended June 30, 2011 pro forma net written premiums. While we have experienced a
decline in premiums in our personal auto business, we have continued to achieve
premium growth in several states consistent with our strategy to expand our
geographic footprint beyond our core Midwest states. Much of this premium growth
has been from the states of Texas, Colorado, Connecticut and Georgia. In
addition, we have produced personal auto premium growth in underpenetrated
states, such as Illinois and Michigan. While premiums are down, we are
experiencing a slight increase in personal auto new business submissions and
improved issue to quote ratios. We believe our aggressive actions in addressing
profit levels in our
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
homeowners book of business has also impacted our personal auto accounts and
contributed to the loss of auto policies and the overall premium decline. The
loss of premium caused by the sale of our nonstandard automobile insurance
subsidiary, SA National, in 2010, accounted for $2.9 million of the decrease in
net written premiums for the six months ended June 30, 2012, when compared to
the same 2011 period.
Homeowners net written premiums for the three and six months ended June 30,
2012, decreased $61.9 million and $108.3 million, respectively, compared to the
same 2011 periods. Homeowners net written premiums for the three and six months
ended June 30, 2012, decreased $47.3 million and $82.8 million, respectively,
compared to three and six months ended June 30, 2011 pro forma net written
premiums. For the three and six months ended June 30, 2012, net written premiums
ceded under the HO QS Arrangement were $47.7 million and $83.9 million which
accounted for the decline when compared to the same 2011 periods.
For the three and six months ended June 30, 2012, homeowners net written
premiums, excluding the impact of the HO QS arrangement, were $63.5 million and
$111.5 million, respectively, compared to $63.1 million pro forma and $110.4
million pro forma, respectively, for the same 2011 periods. While we continue to
implement rate increases, we have seen a decline in our policy counts from our
core states of Ohio, Kentucky, Indiana, and Tennessee. However, we have seen
policy count growth in states that we have either expanded into or identified as
profitable growth opportunities.
The following tables set forth, on a pro forma SAP basis, certain key
performance indicators concerning the homeowners' line of business excluding the
impact of the HO QS Arrangement cession for the three and six months ended
June 30, 2012.
Reconciliation Table 9
Three months ended June 30, 2012
SAP HO QS Arrangement Cession - Homeowners
($ millions) Pro-Forma
HO QS without HO QS
As Reported Cession Cession
Net written premiums $ 15.8 $ 47.7 $ 63.5
Earned premiums 14.5 41.8 56.3
Losses and LAE incurred:
Cat loss and ALAE 7.6 30.1 37.7
Non-cat loss and ALAE 7.2 24.0 31.2
Total Loss and ALAE incurred $ 14.8 $ 54.1 $ 68.9
Cat loss and ALAE ratio 53.0 % 72.0 % 67.0 %
Non-cat loss and ALAE ratio 50.0 % 57.4 % 55.4 %
Total Loss and ALAE ratio 103.0 % 129.4 % 122.4 %
44
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Reconciliation Table 10
Six months ended June 30, 2012
SAP HO QS Arrangement Cession - Homeowners
($ millions) Pro-Forma
HO QS without HO QS
As Reported Cession Cession
Net written premiums $ 27.6 $ 83.9 $ 111.5
Earned premiums 29.1 83.5 112.6
Losses and LAE incurred:
Cat loss and ALAE 7.7 47.5 55.2
Non-cat loss and ALAE 14.9 43.4 58.3
Total Loss and ALAE incurred $ 22.6 $ 90.9 $
113.5
Cat loss and ALAE ratio 26.5 % 56.9 % 49.0 %
Non-cat loss and ALAE ratio 51.4 % 52.0 % 51.8 %
Total Loss and ALAE ratio 77.9 % 108.9 % 100.8 %
The homeowners SAP non-catastrophe loss ratio for the three and six months ended
June 30, 2012, decreased 12.9 points and 5.7 points, respectively, when compared
to the same 2011 periods. As we recognize our recent significant rate increases
as earned premium, we are experiencing an improvement in our non-catastrophe
loss ratio. We will continue to aggressively address our rate needs in the
homeowners' book of business and have filed and received regulatory approval for
double digit rate increases in 60% of our active states to date in 2012. The
most wind and weather prone states are in general receiving higher rate
increases.
We continue to implement additional strategies to improve our homeowners
results. By year end 2013, our CustomFitSM homeowners product will be deployed
in 20 of our 28 active states. We have placed a priority on introducing this
product in states which have historically experienced significant catastrophe
losses. States with the CustomFit homeowners product represent approximately 80%
of our homeowners' premium and our five year wind/hail losses. We are in the
process of developing our second generation of CustomFit homeowners, which we
expect to deploy in three states by the end of 2012.
In addition to rate increases and the continued deployment of our CustomFit
homeowners product, we are aggressively evaluating and monitoring unprofitable
agencies. This review includes evaluation of an agency's existing policies,
implementation of tighter new business and renewal guidelines for that agency,
and the application of other loss mitigation tools for use by that agency. These
efforts are directed at improving the operating results at the agency level. We
are continuing with a proactive insurance to value program, which is designed to
have our insureds maintain an amount of coverage sufficient to replace their
home and contents in the case of a total loss. Proper insurance to value ensures
that our premiums are commensurate with our loss exposure. In addition, we have
implemented mandatory wind and hail deductibles in targeted catastrophe prone
states. We will continue to evaluate if this loss mitigation tool is necessary
in additional states.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
We continue to execute various initiatives implemented in prior periods within
our property claims operations, which we believe will improve our loss ratio
results. For example, our dependence on outside appraisers has declined by
deploying in-house property adjusters working from their homes. In addition, all
but a few large property claims and a significant percentage of catastrophe
claims are now being handled in-house by State Auto adjusters. These changes are
intended to improve service and reduce expenses, which we believe will improve
loss ratio results.
Business Insurance Segment -
The following table sets forth a summary of net written premiums by major
product line of business for our business insurance segment for the three and
six months ended June 30, 2012 and 2011, on a pro forma basis which assumes that
the 12.31.11 pool change from an 80% to 65% participation percentage was in
effect as of January 1, 2011 (See Reconciliation Tables 5 and 6 above).
Three months ended Six months ended
June 30 June 30
Net Written Premiums
($ millions) Pro- Pro-
forma % forma %
2012 2011 Change 2012 2011 Change
Business insurance segment:
Commercial auto $ 25.2 21.8 15.6 $ 46.2 40.7 13.5
Commercial multi-peril 26.2 23.0 13.9 49.9 44.4 12.4
Fire & allied lines 18.8 19.5 (3.6 ) 36.7 38.5 (4.7 )
Other & product liability 15.4 14.3 7.7 28.8 27.5 4.7
Other commercial 5.0 4.9 2.0 9.0 9.1 (1.1 )
Total business $ 90.6 83.5 8.5 $ 170.6 160.2 6.5
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
The following tables set forth a summary of SAP loss and ALAE ratios by major
product line of business for our business insurance segment with the catastrophe
and non-catastrophe impact shown separately for the three and six months ended
June 30:
($ millions) %
Non-Cat Statutory Total Loss
Three months ended June 30 Earned Cat Loss Loss & Loss & Cat Non-Cat and LAE
Statutory Loss and LAE Ratios Premium & ALAE ALAE LAE Ratio Ratio Ratio
2012
Business insurance segment:
Commercial auto $ 19.9 0.4 11.2 11.6 2.0 56.3 58.3
Commercial multi-peril 23.1 7.0 15.6 22.6 30.4 67.6 98.0
Fire & allied lines 18.4 9.1 5.6 14.7 49.5 30.4 79.9
Other & product liability 13.7 - 5.6 5.6 - 40.7 40.7
Other commercial 4.3 0.1 1.3 1.4 0.9 31.9 32.8
Total business 79.4 16.6 39.3 55.9 20.9 49.5 70.4
ULAE - - - 5.1 - - 6.5
Total Loss and LAE $ 79.4 16.6 39.3 61.0 20.9 49.5 76.9
2011
Business insurance segment:
Commercial auto $ 23.5 2.4 11.7 14.1 10.4 49.8 60.2
Commercial multi-peril 25.7 15.5 12.9 28.4 60.4 50.2 110.6
Fire & allied lines 23.6 19.0 13.6 32.6 80.3 57.6 137.9
Other & product liability 16.3 - 13.8 13.8 - 84.3 84.3
Other commercial 5.6 0.3 2.3 2.6 5.4 42.5 47.9
Total business 94.7 37.2 54.3 91.5 39.4 57.4 96.8
ULAE - - - 6.6 - - 6.9
Total Loss and LAE $ 94.7 37.2 54.3 98.1 39.4 57.4 103.7
47
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
($ millions) %
Non-Cat Statutory Total LossSix months ended June 30 Earned Cat Loss Loss & Loss & Cat Non-Cat and LAE
Statutory Loss and LAE Ratios Premium & ALAE ALAE
LAE Ratio Ratio Ratio
2012
Business insurance segment:
Commercial auto $ 39.0 0.6 22.9 23.5 1.5 58.7 60.2
Commercial multi-peril 45.3 11.5 25.8 37.3 25.5 57.0 82.5
Fire & allied lines 37.0 18.6 11.9 30.5 50.1 32.2 82.3
Other & product liability 26.8 - 14.1 14.1 - 52.4 52.4
Other commercial 8.6 0.1 2.5 2.6 0.6 30.5 31.1
Total business 156.7 30.8 77.2 108.0 19.6 49.3 68.9
ULAE - - - 10.9 - - 7.0
Total Loss and LAE $ 156.7 30.8 77.2 118.9 19.6 49.3 75.9
2011
Business insurance segment:
Commercial auto $ 46.9 2.4 27.4 29.8 5.1 58.5 63.6
Commercial multi-peril 50.8 17.1 25.5 42.6 33.7 50.2 83.9
Fire & allied lines 47.8 19.4 28.8 48.2 40.6 60.2 100.8
Other & product liability 32.9 - 26.9 26.9 - 81.7 81.7
Other commercial 11.1 0.8 3.8 4.6 6.8 34.0 40.8
Total business 189.5 39.7 112.4 152.1 21.0 59.3 80.3
ULAE - - - 13.0 - - 6.8
Total Loss and LAE $ 189.5 39.7 112.4 165.1 21.0 59.3 87.1
Net written premiums for the business insurance segment for the three and six
months ended June 30, 2012 decreased 11.8% and 13.5%, respectively, compared to
the same 2011 periods. The business insurance segment net written premiums for
the three and six months ended June 30, 2012 increased 8.5% and 6.5%,
respectively, compared to the three and six months ended June 30, 2011 pro forma
net written premiums. Our premium growth is being driven primarily by three
factors: (i) we are writing larger average premium new business accounts,
(ii) we are receiving modest pricing increases on renewal business, and (iii) we
are experiencing more growth on existing polices due to improved economic
conditions. We seek to balance growth opportunities with our traditional
underwriting and pricing discipline.
In late 2011, we began introducing policy download capabilities for most
business insurance lines. Download capabilities allow agents to import policy
information directly into their agency management systems to better serve their
customers. Commercial auto and business owners products can now be downloaded to
our agents, and we expect commercial package policy download capabilities will
be available to our agents later this year.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
We have expanded the eligibility of our business owners products to facilitate
businesses with greater liability exposures, such as artisan contractors, auto
service garages, manufacturers and restaurants. While we regularly insure these
types of businesses through other insurance products, offering these products in
our business owners program leverages our bizXpressSM technology, and simplifies
the agent rating and submission processes. Our enhanced business owners product,
BOP Choice, has been introduced in all of our active states. The majority of our
new business premium has been generated from this new product. Currently BOP
Choice accounts for over 70% of our new business package submissions. Another
advantage of BOP Choice is a shift towards a higher percentage of casualty
business which we believe is desirable given our Midwest property
concentrations.
While intense competition in the business insurance segment continues, we have
been able to implement modest price increases for both new and renewal business.
We continue to use modeled pricing in all standard lines of business to more
accurately price individual accounts. In addition, new deductible guidelines
have been introduced to require higher wind/hail only deductibles on risks that
have multiple buildings at a single location susceptible to identified wind
zones.
In late 2012, we anticipate seeing the benefits from our new commercial lines
project, "Business Insurance Evolution." The project is designed to enhance our
pricing models, introduce business rules and improve work processes. Updated
models will be in place to provide more granular rating and risk
identification. Our business processes will promote greater efficiency and
quicker quoting for our agents. Business rules will be implemented to improve
workflow and underwriting decision making. Ultimately, we expect this project
will help us achieve more profitable and consistent underwriting results coupled
with lower expenses.
Our SAP non-catastrophe loss ratio in our business insurance segment for the
three and six months ended June 30, 2012, decreased 7.9 points and 10.0 points
compared to the same 2011 periods. This decrease was primarily due to fewer
large losses in our fire and allied lines, as well as improvements in overall
severity in our other & product liability line.
Similar to the personal insurance segment, we believe that the continued
implementation of our claims operations initiatives will improve our business
insurance loss ratio, particularly in fire and commercial multi-peril.
Specialty Insurance Segment
The following table sets forth a summary of net written premiums by major
product line of business for our specialty insurance segment for the three and
six months ended June 30, 2012 and 2011, on a pro forma basis which assumes that
the 12.31.11 pool change from an 80% to 65% participation percentage was in
effect as of January 1, 2011 (See Reconciliation Tables 5 and 6 above).
Three months ended Six months ended
June 30 June 30
Net Written Premiums
($ millions) Pro- Pro-
forma % forma %
2012 2011 Change 2012 2011 Change
Specialty insurance segment:
RED $ 11.4 29.1 (60.8 ) $ 42.9 48.2 (11.0 )
Rockhill 27.6 16.8 64.3 48.1 29.1 65.3
Workers' compensation 18.6 13.1 42.0 36.9 29.7 24.2
Total specialty $ 57.6 59.0 (2.4 ) $ 127.9 107.0 19.5
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
The following tables set forth a summary of SAP loss and LAE ratios for our
specialty insurance segment with the catastrophe and non-catastrophe impact
shown separately for the three and six months ended June 30:
($ millions)
Non-Cat Statutory Non-Cat Total LossThree months ended June 30 Earned Cat Loss Loss & Loss & Cat loss loss and LAE
Statutory Loss and LAE Ratios Premium & ALAE ALAE
LAE Ratio Ratio Ratio
Specialty insurance segment:
2012 $ 61.8 0.3 41.0 41.3 0.5 66.5 67.0
ULAE - - - 2.1 - - 3.4
Total Loss and LAE $ 61.8 0.3 41.0 43.4 0.5 66.5 70.4
2011 $ 55.8 0.1 40.6 40.7 0.1 72.7 72.8
ULAE - - - 1.8 - - 3.3
Total Loss and LAE $ 55.8 0.1 40.6 42.5 0.1 72.7 76.1
($ millions)
Non-Cat Statutory Non-Cat Total LossSix months ended June 30 Earned Cat Loss Loss & Loss & Cat loss loss and LAE
Statutory Loss and LAE Ratios Premium & ALAE ALAE
LAE Ratio Ratio Ratio
Specialty insurance segment:
2012 $ 121.9 0.3 86.5 86.8 0.3 70.9 71.2
ULAE - - - 4.0 - - 3.2
Total Loss and LAE $ 121.9 0.3 86.5 90.8 0.3 70.9 74.4
2011 $ 107.6 0.1 72.8 72.9 0.1 67.6 67.7
ULAE - - - 3.7 - - 3.4
Total Loss and LAE $ 107.6 0.1 72.8 76.6 0.1 67.6 71.1
Net written premiums for the specialty insurance segment for the three and six
months ended June 30, 2012 decreased 20.8% and 22.9%, respectively, compared to
the same 2011 periods. The specialty insurance segment net written premiums for
the three and six months ended June 30, 2012 decreased 2.4% and increased 19.5%,
respectively, compared to the three and six months ended June 30, 2011 pro forma
net written premiums.
Net written premiums for our RED unit for the three and six months ended
June 30, 2012 decreased 68.1% and 27.7%, respectively, compared to the same 2011
periods. The RED unit net written premiums for the three and six months ended
June 30, 2012 decreased 60.8% and 11.0%, respectively, compared to the three and
six months ended June 30, 2011 pro forma net written premiums. The decrease in
net written premiums was primarily due to the cancellation of a large commercial
auto program as of April 1, 2012.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Net written premiums for our Rockhill unit for the three and six months ended
June 30, 2012 increased 32.7% and decreased 20.0%, respectively, compared to the
same 2011 periods. The Rockhill unit net written premiums for the three and six
months ended June 30, 2012 increased 64.3% and 65.3%, respectively, compared to
the three and six months ended June 30, 2011 pro forma net written premiums. The
increase was impacted by the following:
• Growth driven by the addition of three new specialty programs including
a new general binding authority unit which will focus on small account
excess and surplus lines business generated through managing general
underwriters. These new programs accounted for $6.0 million and $6.6
million of the premium growth for the three and six months ended
June 30, 2012, respectively;
• Changes in the structure of two liability lines and all other perils
reinsurance programs made in 2011, which resulted in our retaining
additional written premium of $3.5 million and $6.5 million,
respectively, for the three and six months ended June 30, 2012;
• Significant rate increases in our property business and increased
business opportunities through our excess and surplus channel for
catastrophe exposed businesses due to recent global catastrophe events
and recent industry catastrophe model changes; and
• Volume growth in our excess and surplus casualty lines, which we believe
was attributable to early signs of stabilization in pricing in the
commercial lines market and the strengthening of broker relationships
and marketing initiatives.
Net written premiums for our workers' compensation unit for the three and six
months ended June 30, 2012 increased 14.8% and decreased 20.5%, respectively,
compared to the same 2011 periods. The workers' compensation unit net written
premiums for the three and six months ended June 30, 2012 increased 42.0% and
24.2%, respectively, compared to the three and six months ended June 30, 2011
pro forma net written premiums. The premium growth in our workers' compensation
unit was driven by increases in our mono-line product due primarily to state
expansion and a firming market place along with growth in our small account
workers' compensation product in our standard commercial book.
The SAP non-catastrophe loss ratio for the specialty lines insurance segment for
the three months ended June 30, 2012 decreased 6.2 points primarily due to
favorable prior year development in our umbrella and environmental lines
resulting from lower than expected frequency of claims, compared to the same
2011 period. The SAP non-catastrophe loss ratio for the specialty lines
insurance segment for the six months ended June 30, 2012 increased 3.3 points
due to losses within our RED unit with respect to a large commercial auto
trucking program, compared to the same 2011 period. As previously discussed,
this program was cancelled as of April 1, 2012.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Losses and loss expenses payable
The following table sets forth losses and loss expenses payable by major line of
business at June 30, 2012 and December 31, 2011:
($ millions) June 30, December 31, $
2012 2011 Change
Personal insurance segment:
Personal auto $ 190.7 195.9 (5.2 )
Homeowners 53.7 71.9 (18.2 )
Other personal 12.9 11.2 1.7
Total personal 257.3 279.0 (21.7 )
Business insurance segment:
Commercial auto 80.4 76.9 3.5
Commercial multi-peril 83.4 73.5 9.9
Fire & allied lines 29.7 24.3 5.4
Other & product liability 156.1 158.6 (2.5 )
Other business 3.3 3.6 (0.3 )
Total business 352.9 336.9 16.0
Specialty insurance segment 302.1 265.7 36.4
Total losses and loss expenses payable net of
reinsurance recoverable on losses and loss
expenses payable $ 912.3 881.6 30.7
Losses and loss expenses payable increased $30.7 million since December 31,
2011. The increase of $36.4 million in our specialty insurance segment was
primarily due to the recent earned premium growth, in particular our RED unit,
and the corresponding increase in claims activity. Our homeowners line of
business declined $18.2 million, primarily due to the ceding of reserves to
unaffiliated reinsurers in connection with the HO QS Arrangement, partially
offset by an increase in our catastrophe loss reserves. The increase in
commercial multi-peril was driven by growth in that line of business and, to a
lesser extent, a higher level of catastrophe loss reserves. We conduct quarterly
reviews of loss development reports and make judgments in determining the
reserves for ultimate losses and loss expenses payable. Several factors are
considered by us when estimating ultimate liabilities including consistency in
relative case reserve adequacy, consistency in claims settlement practices,
recent legal developments, historical data, actuarial projections, accounting
projections, exposure changes, anticipated inflation, current business
conditions, catastrophe developments, late reported claims, and other
reasonableness tests.
The risks and uncertainties inherent in our estimates include, but are not
limited to, actual settlement experience different from historical data, trends,
changes in business and economic conditions, court decisions creating
unanticipated liabilities, ongoing interpretation of policy provisions by the
courts, inconsistent decisions in lawsuits regarding coverage and additional
information discovered before settlement of claims. Our results of operations
and financial condition could be impacted, perhaps significantly, in the future
if the ultimate payments required to settle claims vary from the liability
currently recorded. For a discussion of our reserving methodologies as well as a
measure of sensitivity discussion see "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Critical Accounting Policies -
Loss and Loss Expenses Payable" in Item 7 of the 2011 Form 10-K.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Acquisition and Operating Expenses
Our GAAP expense ratios were 32.3 and 33.4 for the three months ended June 30,
2012 and 2011, respectively, and 33.3 and 33.6 for the six months ended June 30,
2012 and 2011, respectively.
Investment Operations Segment-
Our investments in fixed maturities, equity securities and certain other
invested assets are held as available-for-sale and carried at fair value. The
unrealized holding gains or losses, net of applicable deferred taxes, are
included as a separate component of stockholders' equity as accumulated other
comprehensive income and as such are not included in the determination of net
income.
For further discussion regarding the management of our investment portfolio, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Results of Operations - Investment Operations Segment" in Item 7 of
the 2011 Form 10-K.
Composition of Investment Portfolio
The following table sets forth the composition of our investment portfolio at
carrying value at June 30, 2012 and December 31, 2011:
($ millions) June 30, % of December 31, % of
2012 Total 2011 Total
Cash and cash equivalents $ 55.4 2.4 $ 356.0 13.8
Fixed maturities, at fair value:
Fixed maturities 1,678.2 72.9 1,674.5 64.8
Treasury inflation-protected securities 233.3 10.2 260.4 10.1
Total fixed maturities 1,911.5 83.1 1,934.9 74.9
Notes receivable from affiliate (1) 70.0 3.1 70.0 2.7
Equity securities, at fair value:
Large-cap securities 154.4 6.7 122.1 4.7
Small-cap securities 50.4 2.2 45.2 1.7
Total equity securities 204.8 8.9 167.3 6.4
Other invested assets, at fair value:
International instruments 52.6 2.3 52.6 2.0
Other invested assets 5.2 0.2 4.6 0.2
Total other invested assets, at fair value 57.8 2.5 57.2 2.2
Other invested assets, at cost 0.5 0.0 0.5 0.0
Total portfolio $ 2,300.0 100.0 $ 2,585.9 100.0
(1) In May 2009, we entered into two separate Credit Agreements with State
Auto Mutual. Under these Credit Agreements, State Auto Mutual borrowed a
total of $70.0 million from us on an unsecured basis. Interest is payable
semi-annually at a fixed annual interest rate of 7.00%. Principal is
payable May 2019.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
The following table sets forth the amortized cost and fair value of
available-for-sale fixed maturities by contractual maturity at June 30, 2012:
($ millions) Amortized Fair
cost value
Due in 1 year or less $ 49.2 49.8
Due after 1 year through 5 years 302.0 318.0
Due after 5 years through 10 years 463.0 502.8
Due after 10 years 551.7 594.2
U.S. government agencies residential mortgage-backed securities 424.5 446.7
Total $ 1,790.4 1,911.5
Expected maturities may differ from contractual maturities as the issuers may
have the right to call or prepay the obligations with or without call or
prepayment penalties. The duration of the fixed maturity portfolio was
approximately 3.93 and 3.71 as of June 30, 2012 and December 31, 2011,
respectively.
Investment Operations Revenue
The following table sets forth the components of net investment income for the
three and six months ended June 30, 2012 and 2011:
($ millions) Three months ended Six months ended
June 30 June 30
2012 2011 2012 2011
Gross investment income:
Fixed maturities $ 18.7 22.9 $ 34.4 41.8
Equity securities 1.0 1.5 2.0 2.8
Other 1.3 1.4 2.7 2.8
Total gross investment income 21.0 25.8 39.1 47.4
Less: Investment expenses 0.5 0.6 1.1 1.2
Net investment income $ 20.5 25.2 $ 38.0 46.2
Average invested assets (at cost) $ 2,124.9 2,447.6 $ 2,199.4 2,397.0
Annualized investment yield 3.9 % 4.1 3.5 % 3.9
Annualized investment yield, after tax 2.9 % 3.1 2.7 % 3.0
Net investment income, after tax $ 15.5 19.0 $ 29.1 35.7
Effective tax rate 24.5 % 24.6 23.4 % 22.7
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Our investment operations revenue for the three and six months ended June 30,
2012 was primarily impacted by the following factors.
• A cash outflow of $336.9 million related to the settlement of the
12.31.11 pool change and the HO QS Arrangement.
• Interest earned on our fixed maturity securities declined primarily due
to lower yields. As our higher yielding bonds mature or are
called by
the issuers, the proceeds are being reinvested at a lower
interest rate.
• Income earned on our Treasury Inflation-Protected Securities, which is
dependent on changes in the CPI Index, decreased by $1.7 million and
$2.8 million, respectively, for the three and six months ended June 30,
2012 when compared to the same 2011 periods.
The following table sets forth realized gains (losses) and the proceeds received
on sale for our investment portfolio for the three and six months ended June 30,
2012 and 2011:
Three months ended Six months ended
June 30, 2012 June 30, 2012
($ millions) Realized Proceeds Realized Proceeds
gains received gains received
(losses) on sale (losses) on sale
Realized gains:
Fixed maturities $ 7.5 138.0 $ 10.7 183.9
Equity securities 2.3 10.9 6.7 37.9
Total realized gains 9.8 148.9 17.4 221.8
Realized losses:
Equity securities:
Sales (1.8 ) 3.3 (1.9 ) 3.3
OTTI (1.1 ) - (1.5 ) -
Fixed maturities:
OTTI (0.2 ) - (0.2 ) -
Total realized losses (3.1 ) 3.3 (3.6 ) 3.3
Net realized gains on investments $ 6.7 152.2 $ 13.8 225.1
During the first half of 2012, equity sales were executed for various reasons,
including: (i) to accumulate cash for settlement of the transfers related to the
12.31.11 pool change (ii) the achievement of our price target, (iii) in response
to negative outlook announcements or changes in business conditions, which in
our opinion diminished the future business prospects on these securities, and
(iv) in order to manage our equity holdings consistent with our investment
policy.
When a fixed maturity security has been determined to have an
other-than-temporary decline in fair value, the impairment charge is separated
into an amount representing the credit loss, which is recognized in earnings,
and the amount related to non-credit factors, which is recognized in accumulated
other comprehensive income. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Critical Accounting Policies -
Investments" included in Item 7 of the 2011 Form 10-K for other-than-temporary
impairment ("OTTI") indicators. Future increases or decreases in fair value, if
not other-than-temporary, are included in accumulated other comprehensive
income.
When an equity security or other invested asset has been determined to have a
decline in fair value that is other-than-temporary, we adjust the cost basis of
the security to fair value. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Critical Accounting Policies -
Investments" included in Item 7 of the 2011 Form 10-K for OTTI impairment
indicators. This results in a charge to earnings as a realized loss, which is
not reversed for subsequent recoveries in fair value. Future increases or
decreases in fair value, if not other-than-temporary, are included in
accumulated other comprehensive income.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
The following table sets forth the realized losses related to OTTI on our
investment portfolio recognized for the three and six months ended June 30,
2012:
Three months ended Six months ended
June 30, 2012 June 30, 2012
($ millions, except # of positions) Number of Total Number of Total
positions impairment positions impairment
Equity securities:
Small-cap securities 12 $ (1.1 ) 19 $ (1.5 )
Bonds: 1 (0.2 ) 1 (0.2 )
Total other-than-temporary impairments 13 $ (1.3 ) 20 $ (1.7 )
Gross Unrealized Investment Gains and Losses
Based upon our review of our investment portfolio at June 30, 2012, we
determined that there were no individual investments with an unrealized holding
loss that had a fair value significantly below cost continually for more than
one year. The following table sets forth detailed information on our
available-for-sale investment portfolio by lot at fair value for our gross
unrealized holding gains (losses) at June 30, 2012:
($ millions, except # of positions) Gross Number Gross Number
Cost or unrealized of unrealized of
amortized holding gain holding loss Fair
cost gains positions losses positions value
Fixed maturities:
U.S. treasury securities and obligations of
U.S. government agencies $ 404.3 $ 36.2 74 $ (0.2 ) 8 $ 440.3
Obligations of states and political
subdivisions 719.0 48.2 273 (0.9 ) 34 766.3
Corporate securities 242.6 15.7 86 (0.1 ) 6 258.2
U.S. government agencies residential
mortgage-backed securities 424.5 23.2 130 (1.0 ) 18 446.7
Total fixed maturities 1,790.4 123.3 563 (2.2 ) 66 1,911.5
Equity securities:
Large-cap securities 134.1 22.9 46 (2.6 ) 11 154.4
Small-cap securities 40.2 10.2 74 - - 50.4
Total equity securities 174.3 33.1 120 (2.6 ) 11 204.8
Other invested assets 48.8 9.0 3 - - 57.8
Total available-for-sale investments $ 2,013.5 $ 165.4 686 $ (4.8 ) 77 $ 2,174.1
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
The following table sets forth our unrealized holding gains by investment type,
net of deferred tax that was included as a component of accumulated
comprehensive income (loss) at June 30, 2012 and December 31, 2011, and the
change in unrealized holding gains, net of deferred tax, for the six months
ended June 30, 2012:
($ millions) June 30, December 31, $
2012 2011 Change Available-for-sale investments:
Unrealized holding gains:
Fixed maturities $ 121.1 117.6 3.5
Equity securities 30.5 25.6 4.9
Other invested assets 9.0 8.6 0.4
Unrealized gains 160.6 151.8 8.8
Deferred federal income tax liability, net (52.8 ) (53.1 ) 0.3
Unrealized gains, net of tax $ 107.8 98.7 9.1
Fair Value Measurements
We primarily use one independent nationally recognized pricing service in
developing fair value estimates. We obtain one price per security, and our
processes and control procedures are designed to ensure the value is accurately
recorded on an unadjusted basis. Through discussions with the pricing service,
we gain an understanding of the methodologies used to price the different types
of securities, that the data and the valuation methods utilized are appropriate
and consistently applied, and that the assumptions are reasonable and
representative of fair value. To validate the reasonableness of the valuations
obtained from the pricing service, we compare to other fair value pricing
information gathered from other independent pricing sources. See Note 3, "Fair
Value of Financial Instruments" to our condensed consolidated financial
statements included in Item 1 of this Form 10-Q for a presentation of our
available-for-sale investments within the fair value hierarchy at June 30, 2012
and December 31, 2011.
As of June 30, 2012, Level 3 assets as a percentage of total assets were 0.1%
which we have determined to be insignificant.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Other Items
Income Taxes
Deferred income tax assets and liabilities represent the tax effect of the
differences between the financial statement carrying value of existing assets
and liabilities and their respective tax bases. In accordance with the Financial
Accounting Standards Board's Accounting Standards Codification 740, Income Taxes
(ASC 740), we periodically evaluate our deferred tax assets, which requires
significant judgment, to determine if they are realizable based upon weighing
all available evidence, both positive and negative, including our historical and
anticipated future taxable income. In making such judgments, significant weight
is given to evidence that can be objectively verified. At June 30, 2012 and
December 31, 2011, we recorded a valuation of $105.0 million and $103.3 million,
respectively. The following table sets forth, the components of our federal
income tax expense for the three and six months ended June 30, 2012 and 2011,
respectively.
Three Months Ended June 30 Six Months Ended June 30
($ millions) 2012 2011 2012 2011
Loss before federal income taxes $ (2.7 ) $ (139.3 ) $ (4.7 ) $ (123.7 )
Current tax benefit - (11.2 ) - (6.8 )
Deferred tax benefit (2.8 ) (40.6 ) (5.7 ) (42.2 )
(2.8 ) (51.8 ) (5.7 ) (49.0 )
Valuation allowance 2.8 126.6 5.7 126.6
Total Federal income tax expense - 74.8 - 77.6
Net loss $ (2.7 ) $ (214.1 ) $ (4.7 ) $ (201.3 )
In future periods we will re-assess our judgments and assumptions regarding the
realization of our net deferred tax assets, but until such time as the positive
evidence exceeds the negative evidence we will maintain a valuation allowance
against our net deferred tax assets. Until that time, as we report net earnings
and generate taxable income, we do not expect our consolidated statements of
income to reflect any federal income tax expense as we utilize our net operating
loss carryforward and release a corresponding amount of the net deferred tax
asset valuation allowance, unless we are in an "exception" position as described
by the intraperiod allocation guidance included in ASC 740.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Based on ASC 740 intraperiod tax allocation guidelines, the following sets forth
the change in valuation allowance attributable to continuing operations and
other comprehensive income for the three and six months ended June 30, 2012:
($ millions) Three Months Ended Six Months Ended
June 30 June 30
2012 2012
Continuing operations $ 2.8 $ 5.7
Other comprehensive income 1.7
(4.0 )
Change in valuation allowance $ 4.5 $
1.7
See Note 5 of our condensed consolidated financial statements included in Item 1
of this Form 10-Q.
LIQUIDITY AND CAPITAL RESOURCES
General
Liquidity refers to our ability to generate adequate amounts of cash to meet our
short- and long-term needs. Our primary sources of cash are premiums, investment
income, investment sales and the maturity of fixed income security investments.
The significant outflows of cash are payments of claims, commissions, premium
taxes, operating expenses, income taxes, dividends, interest and principal
payments on debt and investment purchases. The cash outflows may vary due to
uncertainties regarding settlement of large losses or catastrophe events. As a
result, we continually monitor our investment and reinsurance programs to ensure
they are appropriately structured to enable the insurance subsidiaries to meet
anticipated short- and long-term cash requirements without the need to sell
investments to meet fluctuations in claim payments.
Liquidity
Our insurance subsidiaries must have adequate liquidity to ensure that their
cash obligations are met. However, the STFC Pooled Companies do not have the
daily liquidity concerns normally associated with an insurance company due to
their participation in, and the terms of, the Pooling Arrangement. Under the
terms of the Pooling Arrangement, State Auto Mutual receives all premiums and
pays all losses and expenses associated with the insurance business produced by
the STFC Pooled Companies and the other pool participants, and then it settles
the intercompany balances generated by these transactions with the pool
participants within 45 days following each quarter end. We believe this provides
State Auto Mutual with sufficient liquidity to pay losses and expenses of our
insurance operations on a timely basis. When settling the intercompany balances,
State Auto Mutual provides the pool participants with full credit for the
premiums written net of losses paid during the quarter, retaining all receivable
amounts from insureds and agents and reinsurance recoverable on paid losses from
unaffiliated reinsurers. Any receivable amounts that are ultimately deemed to be
uncollectible are charged-off by State Auto Mutual and allocated to the pool
participant on the basis of its pooling percentage. As a result, we have an
off-balance sheet credit risk related to the balances due to State Auto Mutual
from insureds, agents and reinsurers, which are offset by the unearned premiums
from the respective policies. While the total amount due to State Auto Mutual
from policyholders and agents is significant, the individual amounts due are
relatively small at the policyholder and agency level. Based on historical data,
this credit risk exposure is not considered to be material to our financial
position, though the impact to income on a quarterly basis may be material. The
State Auto Group mitigates its exposure to this credit risk through its in-house
collections unit for both personal and commercial accounts which is supplemented
by third party collection service providers. The amounts deemed uncollectible by
State Auto Mutual and allocated to the STFC Pooled Companies are included in the
other expenses line item in the accompanying consolidated statements of income.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
We generally manage our cash flows through current operational activity and
maturing investments, without a need to liquidate any of our other investments.
However, should our written premiums decline or paid losses increase
significantly, or a combination thereof, our cash flows from operations could be
impacted requiring us to liquidate investments at losses. This action was not
necessary for the three and six months ended June 30, 2012.
We maintain a portion of our investment portfolio in relatively short-term and
highly liquid investments to ensure the immediate availability of funds to pay
claims and expenses. At June 30, 2012 and December 31, 2011, we had $55.4
million and $356.0 million, respectively, in cash and cash equivalents, and
$2,174.1 million and $2,159.4 million, respectively, of total available-for-sale
investments. Included in our fixed maturities available-for-sale were $10.0
million and $9.9 million of securities on deposit with insurance regulators as
required by law at June 30, 2012 and December 31, 2011, respectively. In
addition, substantially all of our fixed maturity and equity securities are
traded on public markets. For a further discussion regarding investments, see
"Investments Operations Segment" included in this Item 2.
Net cash used in operating activities was $324.2 for the first six months of
2012 compared to net cash provided by operating activities of $41.8 million for
the first six months of 2011. Net cash from operations will vary from period to
period if there are significant changes in underwriting results, primarily a
combination of the level of premiums written and loss and loss expenses paid,
changes in cash flows from investment income or federal income tax activity. The
majority of the change between periods was due to our settlement payment of
$261.4 million related to the 12.31.11 pool change and our payment of $75.5
million related to our share of the State Auto Group's initial net unearned
premium transfer under the HO QS Arrangement.
Net cash provided by investing activities was $34.9 million for the first six
months of 2012 compared to net cash used in investing activities of $26.3
million for the first six months of 2011. In the first quarter of 2012, we
continued to raise funds to complete the settlement of amounts owned related to
the 12.31.11 pool change and the HO QS Arrangement.
Net cash used in financing activities was $11.3 million and $10.4 million for
the first six months of 2012 and 2011, respectively.
Borrowing Arrangements
Credit Agreement
State Auto Financial has a $100.0 million unsecured revolving credit facility
with a syndicate of lenders which matures in September 2016 (the "Credit
Facility"). During the term of the Credit Facility, we have the right to
increase the total facility to a maximum amount of $150.0 million, provided that
no event of default has occurred and is continuing. The Credit Facility is
available for general corporate purposes and provides for interest-only payments
during its term, with principal and interest due in full at maturity. Interest
is based on LIBOR or a base rate plus a calculated margin amount. The Credit
Facility includes certain covenants, including financial covenants that require
us to maintain a minimum net worth and not exceed a certain debt to
capitalization ratio. As of June 30, 2012, State Auto Financial had not made any
borrowings and was in compliance with all of its covenants.
Senior Notes
State Auto Financial has outstanding $100.0 million of unsecured Senior Notes
due November 2013. The Senior Notes bear interest at a fixed rate of 6.25% per
annum, which is payable each May 15 and November 15. The Senior Notes are
general unsecured obligations ranking senior to all existing and future
subordinated indebtedness and equal with all existing and future senior
indebtedness. The Senior Notes are not guaranteed by any of State Auto
Financial's subsidiaries and thereby are effectively subordinated to all State
Auto Financial's subsidiaries' existing and future indebtedness.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Subordinated Debentures
State Auto Financial'sDelaware business trust subsidiary (the "Capital Trust")
has outstanding $15.0 million liquidation amount of capital securities, due
2033. In connection with the Capital Trust's issuance of the capital securities
and the related purchase by State Auto Financial of all of the Capital Trust's
common securities (liquidation amount of $0.5 million), State Auto Financial has
issued to the Capital Trust$15.5 million aggregate principal amount of
unsecured Floating Rate Junior Subordinated Debt Securities due 2033 (the
"Subordinated Debentures"). The sole assets of the Capital Trust are the
Subordinated Debentures and any interest accrued thereon. Interest on the
Capital Trust's capital and common securities is payable quarterly at a rate
equal to the three-month LIBOR rate plus 4.20%, adjusted quarterly. The
applicable interest rates for June 30, 2012 and 2011 were 4.67% and 4.50%,
respectively.
Reinsurance Arrangements
Members of the State Auto Group follow the customary industry practice of
reinsuring a portion of their exposures and paying to the reinsurers a portion
of the premiums received. Insurance is ceded principally to reduce net liability
on individual risks or for individual loss occurrences, including catastrophic
losses. Although reinsurance does not legally discharge the individual members
of the State Auto Group from primary liability for the full amount of limits
applicable under their policies, it does make the assuming reinsurer liable to
the extent of the reinsurance ceded.
To minimize the risk of reinsurer default, the State Auto Group cedes only to
third-party reinsurers who are rated A- or better by A.M. Best and also utilizes
both domestic and international markets to diversify its credit risk. We utilize
reinsurance to limit our loss exposure and contribute to our liquidity and
capital resources.
Homeowners Quota Share Reinsurance Arrangement
The State Auto Group entered into the HO QS Arrangement on December 31, 2011,
with a syndicate of unaffiliated reinsurers covering its homeowners book of
business. The HO QS Arrangement is in effect until December 31, 2014. Under the
HO QS Arrangement, the State Auto Group ceded to the reinsurers 75% of its
homeowners business under policies in force at December 31, 2011 and new and
renewal policies thereafter issued during the term of the agreement. A reinsurer
may terminate its participation in the HO QS Arrangement upon the occurrence of
certain events, including, without limitation, if the policyholders' surplus of
the State Auto Group is reduced by more than 25% from the amount of its surplus
as of September 30, 2011 or the State Auto Group is assigned an A.M. Best rating
below A-.
Under the HO QS Arrangement, the State Auto Group receives a 29.0% commission on
all premiums ceded to the reinsurers, and also may receive a profit commission.
The HO QS Arrangement provides the reinsurers with certain contractual rights in
the event that a "material adverse change," as defined in the agreement, occurs
to the State Auto Group. For example, the reinsurers may request the revision or
renegotiation of certain terms of the agreement if the State Auto Group's
homeowners exposure growth exceeds specified levels or if the State Auto Group
makes significant underwriting, claim handling or business mix changes that
adversely impact the business reinsured under the agreement. In the event the
parties do not agree on revised terms, the reinsurers may cancel the HO QS
Arrangement. Under the material adverse change provisions, the reinsurers may
reduce the ceding commission proportionally in the event the homeowners rate
changes implemented fall short of our pricing plan by more than certain
stipulated contractual amounts.
Under the HO QS Arrangement, the reinsurers have agreed to accept 75% of the
State Auto Group's subject homeowners net liability, except for ULAE expenses
which are not subject to recovery. The liability of the reinsurers will not
exceed any of the following: $3.0 million as to any one risk with respect to
property losses; $2.0 million as to any one insured with respect to liability
losses; $55.0 million as to all losses arising from any one loss occurrence; 50%
of the ceded net earned premium for the first contract year with respect to all
losses arising from all catastrophe loss occurrences commencing during the first
contact year, subject to an
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
amount not to exceed $181.0 million for the first contract year; 40% of the
ceded net earned premium for the second contract year with respect to all losses
arising from all catastrophe loss occurrences commencing during the second
contact year, subject to an amount not to exceed $150.0 million for the second
contract year; 30% of the ceded net earned premium for the third contract year
with respect to all losses arising from all catastrophe loss occurrences
commencing during the third contract year, subject to an amount not to exceed
$117.0 million for the third contract year; or 34% of the ceded net earned
premium for the term of the agreement with respect to all losses arising from
all catastrophe loss occurrences commencing during the term of the agreement,
subject to an amount not to exceed $380.0 million for the term of the contract.
A "catastrophe loss occurrence" is defined as any one loss occurrence which has
been assigned a catastrophe number by the ISO PCS. We believe this reinsurance
arrangement reduces risk and volatility to our overall book of business while
providing us with additional catastrophe protection.
Other Reinsurance Arrangements
Each member of the State Auto Group is party to working reinsurance treaties for
casualty, workers' compensation and property lines with several reinsurers
arranged through reinsurance intermediaries. These agreements are described in
more detail below. We have also secured other reinsurance to limit the net cost
of large loss events for certain types of coverage. The State Auto Group also
makes use of facultative reinsurance for unique risk situations. The State Auto
Group also participates in state insurance pools and associations. In general,
these pools and associations are state sponsored and/or operated, impose
mandatory participation by insurers doing business in that state, and offer
coverage for hard-to-place risks at premium rates established by the state
sponsor or operator, thereby transferring risk of loss to the participating
insurers in exchange for premiums which may not be commensurate with the risk
assumed.
Property Catastrophe
Members of the State Auto Group maintain a property catastrophe excess of loss
reinsurance agreement, covering catastrophe related events affecting at least
two risks. As of June 1, 2012, this property catastrophe reinsurance agreement
was revised to include property business written through our specialty segment.
Under this agreement, we retain the first $55.0 million of catastrophe loss,
each occurrence, with a 5% co-participation on the next $245.0 million
(previously $160.0 million) of covered loss, each occurrence. The reinsurers are
responsible for 95% of the excess over $55.0 million up to $300.0 million
(previously $215.0 million) of covered losses, each occurrence. Under this
agreement, our companies are responsible for losses above $300.0 million
(previously $215.0 million).
For property policies underwritten by our Rockhill unit, we also maintain a
separate property catastrophe excess of loss reinsurance agreement covering
catastrophe related events affecting at least two risks. Under this agreement,
we retain the first $15.0 million (previously $7.5 million) of catastrophe loss,
each occurrence, and the reinsurers are responsible for 100% of the excess over
$15.0 million up to $55.0 million (previously $85.0 million) of covered loss,
each occurrence. The rates for this reinsurance are negotiated annually.
Property Per Risk
As of July 1, 2012, the property per risk excess of loss reinsurance agreement
was revised to include the Rockhill unit's property business. This reinsurance
agreement provides that the State Auto Group is responsible for the first $1.0
million of each covered loss for business written as Rockhill unit's property
business, and first $3.0 million of each covered loss for other property
business. The State Auto Group also is responsible for an additional $2.0
million in aggregate retention per treaty year for losses exceeding $3.0
million. The reinsurers are responsible for 100% of the excess over $3.0 million
up to $20.0 million (previously $15.0 million for the Rockhill unit) of covered
loss. The rates for this reinsurance are negotiated annually.
For property policies underwritten by our Rockhill unit, we also maintain a
property surplus share agreement for wind-only insurance products. This
agreement provides for a proportional share of losses on all coastal wind
policies written with limits greater than $5.0 million and up to $10.0 million
of covered loss and all non coastal wind policies written with limits greater
than $10.0 million and up to $16.0 million of covered loss. The reinsurers'
limit cannot exceed more than $5.0 million on any one risk.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Casualty and Workers Compensation
As of July 1, 2012, we revised our casualty excess of loss reinsurance agreement
to include coverage for umbrella liability and workers compensation losses.
Under this agreement, each company in the State Auto Group is responsible for
the first $2.0 million of workers compensation, umbrella (previously a maximum
of $0.6 million), auto and other liability losses. The reinsurance agreement
provides coverage up to $10.0 million (previously $5.0 million for auto and
other liability). Policies underwritten by the Rockhill unit are not subject to
this casualty excess of loss reinsurance agreement. For workers compensation
risks, we also renewed a treaty that provides $1.0 million of coverage in excess
of a $1.0 million retention, subject to an additional $1.0 million in annual
aggregate retention.
Also, certain unusual claim situations involving bodily injury liability,
property damage, uninsured motorist and personal injury protection are covered
by an arrangement that provides for $30.0 million (previously $10.0 million) of
coverage in excess of $10.0 million (previously $5.0 million) retention for each
loss occurrence. This reinsurance sits above the $8.0 million excess of $2.0
million arrangement. The rates for this reinsurance are negotiated annually.
Policies underwritten by the Rockhill unit are not subject to this casualty
excess of loss reinsurance agreement.
In addition to the workers' compensation reinsurance described above, each
company in the State Auto Group is party to an agreement which provides an
additional layer of reinsurance for workers' compensation losses involving
multiple workers. Subject to $10.0 million of retention, reinsurers are
responsible for 100% of the excess over $10.0 million up to $30.0 million
(previously $20.0 million) of covered loss. This coverage is subject to a
"Maximum Any One Life" limitation of $20.0 million. This limitation means that
losses associated with each worker may contribute no more than $20.0 million
(previously $10.0 million) to covered loss under this agreement. The rates for
this reinsurance are negotiated annually.
For liability policies written through our Rockhill unit, we have a consolidated
casualty treaty whereby we retain the first $1.0 million of covered loss and the
reinsurers are responsible for 87% (previously 75%) of loss in excess of $1.0
million up to $11.0 million (previously $6.0 million). The rates for this
reinsurance are negotiated annually.
Effective October 1, 2011, we entered into a quota share reinsurance agreement
for Management & Professional Liability arising out of certain classes of
business underwritten in our Rockhill unit. For any subject losses, the treaty
pays 40% of 100%, up to 40% of $10.0 million, or $4.0 million. The remaining
loss amount was covered by the consolidated casualty reinsurance agreement. As
of July 1, 2012, this reinsurance agreement was terminated.
Credit and Financial Strength Ratings
In May 2012, A.M. Best affirmed the financial strength rating of A (Excellent)
and downgraded the issuer credit rating to "a" from "a+" of the State Auto
Group. A.M. Best also downgraded the debt rating to "bbb" from "bbb+" of State
Auto Financial Corporation.
In June 2012, Standard & Poor's affirmed the financial strength and issuer
credit ratings of State Auto Group at BBB+ and the issuer credit rating of State
Auto Financial Corporation at BB+.
Regulatory Considerations
At June 30, 2012, all of our insurance subsidiaries were in compliance with
statutory requirements relating to capital adequacy.
ADOPTION OF RECENT ACCOUNTING PRONOUNCEMENTS
Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts
In October 2010, the FASB issued updated guidance to address diversity in
practice for the accounting of costs associated with acquiring or renewing
insurance contracts. This guidance modifies the definition of acquisition costs
to specify that a cost be directly related to the successful acquisition of a
new or renewal insurance contract in order to be deferred. This guidance was
effective for
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
fiscal years beginning after December 15, 2011. The Company adopted this
guidance, with retrospective application, at January 1, 2012. The cumulative
effect of the retrospective adoption of this guidance reduced stockholders'
equity by $20.5 million, after-tax, at January 1, 2010. See Note 1 of our
condensed consolidated financial statements included in Item 1 of this Form
10-Q.
Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements
in U.S. GAAP and IFRS
The amendments in this guidance result in common fair value measurement and
disclosure requirements in GAAP and International Financial Reporting Standards
("IFRS"). Consequently, the amendments in the guidance change the wording used
to describe many of the requirements in GAAP for measuring fair value and for
disclosing information about fair value measurements. For many of the
requirements, the FASB does not intend for the amendments in the guidance to
result in a change in the application of the requirements in the Fair Value
Measurements Topic. The guidance also clarifies the FASB's intent about the
application of existing fair value measurement requirements as well as changes
to a particular principle or requirement for measuring fair value or for
disclosing information about fair value measurements. This guidance was
effective on a prospective basis for fiscal years and interim periods beginning
after December 15, 2011. The Company's adoption of this guidance at January 1,
2012 did not have a material impact on its consolidated financial statements.
Testing Goodwill for Impairment
In September 2011, the FASB issued updated guidance in relation to testing
goodwill for impairment. The amendments in the update permit an entity to first
assess qualitative factors to determine whether it is more likely than not that
the fair value of a reporting unit is less than its carrying amount as a basis
for determining whether it is necessary to perform the two-step goodwill
impairment. The more-likely-than-not threshold is defined as having a likelihood
of a more than 50 percent. Previous guidance under Topic 350 (Intangibles,
Goodwill and Other), required an entity to test goodwill for impairment on an
annual basis. Under this updated guidance, the test for impairment should be
performed on an annual basis unless an event occurs or circumstances change that
would more likely than not reduce the fair value of a reporting unit below its
carrying amount. If the fair value of a reporting unit is less than its carrying
amount, the second step of the test must be performed to measure the amount of
the impairment loss, if any. However, an entity is not required to calculate the
fair value of a reporting unit unless the entity determines that it is more
likely than not that its fair value is less than its carrying amount. This
guidance was effective for fiscal years and interim periods beginning after
December 15, 2011, with early adoption permitted. The Company's adoption of this
guidance at January 1, 2012 did not have a material impact on its consolidated
financial statements.
MARKET RISK
With respect to Market Risk, see the discussion regarding this subject at
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -Investment Operations Segment - Market Risk" in Item 7 of the 2011
Form 10-K. There have been no material changes from the information reported
regarding Market Risk in the 2011 Form 10-K.
