DONEGAL GROUP INC (DGICA) FY 2021 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
Donegal Mutual Insurance Company (“Donegal Mutual”) organized us as an insurance holding company on August 26, 1986. See “Business - History and Organizational Structure” for more information. Our insurance
subsidiaries, Atlantic States Insurance Company (“Atlantic States”), Southern Insurance Company of Virginia (“Southern”), The Peninsula Insurance Company and Peninsula Indemnity Company (collectively, “Peninsula”), and Michigan Insurance Company
(“MICO”) and their affiliates write commercial and personal lines of property and casualty coverages exclusively through a network of independent insurance agents in certain Mid-Atlantic, Midwest, New England, Southern and Southwestern states. The
commercial lines products of our insurance subsidiaries consist primarily of commercial automobile, commercial multi-peril and workers’ compensation policies. The personal lines products of our insurance subsidiaries consist primarily of homeowners
and private passenger automobile policies.
At December 31, 2021, Donegal Mutual held approximately 41% of our outstanding Class A common stock and approximately 84% of our outstanding Class B common stock. This ownership provides Donegal Mutual with
approximately 70% of the combined voting power of our outstanding shares of Class A common stock and our outstanding shares of Class B common stock.
Donegal Mutual and Atlantic States have participated in a proportional reinsurance agreement, or pooling agreement, since 1986. Under the pooling agreement, Donegal Mutual and Atlantic States contribute substantially
all of their respective premiums, losses and loss expenses to the underwriting pool, and the underwriting pool, acting through Donegal Mutual, then allocates 80% of the pooled business to Atlantic States. Thus, Donegal Mutual and Atlantic States
share the underwriting results of the pooled business in proportion to their respective participation in the underwriting pool. The operations of our insurance subsidiaries and Donegal Mutual are interrelated due to the pooling agreement and other
factors. While maintaining the separate corporate existence of each company, our insurance subsidiaries conduct business together with Donegal Mutual and its insurance subsidiaries as the Donegal Insurance Group. The Donegal Insurance Group is not
a legal entity, is not an insurance company and does not issue or administer insurance policies. Rather, it is a trade name that refers to the group of insurance companies that are affiliated with Donegal Mutual. See “Business - Relationship with
Donegal Mutual” for more information regarding the pooling agreement and other transactions with our affiliates.
Donegal Mutual and our insurance subsidiaries operate together as the Donegal Insurance Group and share a combined business plan designed to achieve market penetration and underwriting profitability objectives. The
products our insurance subsidiaries and Donegal Mutual offer are generally complementary, thereby allowing Donegal Insurance Group to offer a broader range of products to a given market and to expand Donegal Insurance Group’s ability to service an
entire personal lines or commercial lines account. Distinctions within the products of Donegal Mutual and our insurance subsidiaries generally relate to specific risk profiles targeted within similar classes of business, such as preferred tier
products compared to standard tier products, but we do not allocate all of the standard risk gradients to one company. Therefore, the underwriting profitability of the business the individual companies write directly will vary. However, because the
pool homogenizes the risk characteristics of the predominant percentage of the business Donegal Mutual and Atlantic States write directly and each company shares the underwriting results according to each company’s participation percentage, each
company realizes its percentage share of the underwriting results of the pool.
Donegal Mutual completed the merger of Mountain States Mutual Casualty Company, or Mountain States, with and into Donegal Mutual effective May 25, 2017. Donegal Mutual was the surviving company in the merger, and
Mountain States’ insurance subsidiaries, Mountain States Indemnity Company and Mountain States Commercial Insurance Company (collectively, the “Mountain States insurance subsidiaries”), became insurance subsidiaries of Donegal Mutual upon
completion of the merger. Upon completion of the merger, Donegal Mutual assumed all of the policy obligations of Mountain States and began to market its products together with the Mountain States insurance subsidiaries as the Mountain States
Insurance Group in four Southwestern states. Donegal Mutual also entered into a 100% quota-share reinsurance agreement with the Mountain States insurance subsidiaries on the merger date. Beginning with policies effective in 2021, Donegal Mutual
began to place the business of the Mountain States Insurance Group into the underwriting pool. As a result, our consolidated financial results through December 31, 2020 excluded the results of the Mountain States Insurance Group operations in those
Southwestern states.
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We and Donegal Mutual Insurance Company sold Donegal Financial Services Corporation (“DFSC”) to Northwest Bancshares, Inc. (“Northwest”) on March 8, 2019, resulting in proceeds valued at approximately $85.8 million in
a combination of cash and Northwest common stock. Immediately prior to the closing of the merger, DFSC paid a dividend of approximately $29.2 million to us and Donegal Mutual. As the owner of 48.2% of DFSC’s common stock, we received a dividend
payment from DFSC of approximately $14.1 million and consideration from Northwest valued at approximately $41.4 million. We recorded a gain of $12.7 million from the sale of DFSC in our results of operations during 2019. We sold the Northwest
common stock that we received as part of the consideration during 2019. This transaction represented the culmination of a banking strategy that began with the formation of DFSC in 2000.
Effective December 1, 2019, our insurance subsidiaries Le Mars Insurance Company (“Le Mars”) and Sheboygan Falls Insurance Company (“Sheboygan Falls”) merged with and into Atlantic States (the “Mergers”). As a result
of the Mergers, the separate corporate existences of Le Mars and Sheboygan Falls ceased and Atlantic States continued as the surviving insurance company. Atlantic States placed the business of Le Mars and Sheboygan Falls, as their policies renewed
subsequent to the effective date of the Mergers, into the underwriting pool.
In July 2013, our board of directors authorized a share repurchase program pursuant to which we have the authority to purchase up to 500,000 additional shares of our Class A common stock at prices prevailing from time
to time in the open market subject to the provisions of the SEC Rule 10b-18 and in privately negotiated transactions. We did not purchase any shares of our Class A common stock under this program during 2021 or 2020. We have purchased a total of
57,658 shares of our Class A common stock under this program from its inception through December 31, 2021.
Critical Accounting Policies and Estimates
We combine our financial statements with those of our insurance subsidiaries and present them on a consolidated basis in accordance with GAAP.
Our insurance subsidiaries make estimates and assumptions that can have a significant effect on amounts and disclosures we report in our financial statements. The most significant estimates relate to the reserves of
our insurance subsidiaries for property and casualty insurance unpaid losses and loss expenses. While we believe our estimates and the estimates of our insurance subsidiaries are appropriate, the ultimate amounts may differ from the estimates we
provided. We regularly review our methods for making these estimates, and we reflect any adjustment we consider necessary in our results of operations for the period in which we make an adjustment.
Liability for Losses and Loss Expenses
Liabilities for losses and loss expenses are estimates at a given point in time of the amounts an insurer expects to pay with respect to incurred policyholder claims based on facts and circumstances the insurer
knows at that point in time. For example, legislative, judicial and regulatory actions may expand coverage definitions, retroactively mandate coverage or otherwise require our insurance subsidiaries to pay losses for damages that their policies
explicitly excluded or did not intend to cover. At the time of establishing its estimates, an insurer recognizes that its ultimate liability for losses and loss expenses will exceed or be less than such estimates. Our insurance subsidiaries base
their estimates of liabilities for losses and loss expenses on assumptions as to future loss trends, expected claims severity, judicial theories of liability and other factors. However, during the loss adjustment period, our insurance subsidiaries
may learn additional facts regarding individual claims, and, consequently, it often becomes necessary for our insurance subsidiaries to refine and adjust their estimates for these liabilities. We reflect any adjustments to the liabilities for
losses and loss expenses of our insurance subsidiaries in our consolidated results of operations in the period in which our insurance subsidiaries make adjustments to their estimates.
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Our insurance subsidiaries maintain liabilities for the payment of losses and loss expenses with respect to both reported and unreported claims. Our insurance subsidiaries establish these liabilities for the purpose
of covering the ultimate costs of settling all losses, including investigation and litigation costs. Our insurance subsidiaries base the amount of their liability for reported losses primarily upon a case-by-case evaluation of the type of risk
involved, knowledge of the circumstances surrounding each claim and the insurance policy provisions relating to the type of loss the policyholder incurred. Our insurance subsidiaries determine the amount of their liability for unreported claims and
loss expenses on the basis of historical information by line of insurance. Our insurance subsidiaries account for inflation in the reserving function through analysis of costs and trends and reviews of historical reserving results. Our insurance
subsidiaries monitor their liabilities closely and recompute them periodically using new information on reported claims and a variety of statistical techniques. Our insurance subsidiaries do not discount their liabilities for losses and loss
expenses.
Reserve estimates can change over time because of unexpected changes in assumptions related to our insurance subsidiaries’ external environment and, to a lesser extent, assumptions related to our insurance
subsidiaries’ internal operations. For example, our insurance subsidiaries have experienced an increase in claims severity and a lengthening of the claim settlement periods on bodily injury claims during the past several years. In addition, the
COVID-19 pandemic and related government mandates and restrictions resulted in various changes from historical claims reporting and settlement trends during 2020 and resulted in significant increases in loss costs in 2021 due to a number of
factors, including supply chain disruption, higher used automobile values, increases in the cost of replacement automobile parts and rising labor rates. These trend changes give rise to greater uncertainty as to the pattern of future loss
settlements. Related uncertainties regarding future trends include social inflation, availability and cost of building materials, availability of skilled labor, the rate of plaintiff attorney involvement in claims and the cost of medical
technologies and procedures. Assumptions related to our insurance subsidiaries’ external environment include the absence of significant changes in tort law and the legal environment that increase liability exposure, consistency in judicial
interpretations of insurance coverage and policy provisions and the rate of loss cost inflation. Internal assumptions include consistency in the recording of premium and loss statistics, consistency in the recording of claims, payment and case
reserving methodology, accurate measurement of the impact of rate changes and changes in policy provisions, consistency in the quality and characteristics of business written within a given line of business and consistency in reinsurance coverage
and collectability of reinsured losses, among other items. To the extent our insurance subsidiaries determine that underlying factors impacting their assumptions have changed, our insurance subsidiaries make adjustments in their reserves that they
consider appropriate for such changes. Accordingly, our insurance subsidiaries’ ultimate liability for unpaid losses and loss expenses will likely differ from the amount recorded at December 31, 2021. For every 1% change in our insurance
subsidiaries’ loss and loss expense reserves, net of reinsurance recoverable, the effect on our pre-tax results of operations would be approximately $6.3 million.
The establishment of appropriate liabilities is an inherently uncertain process and we can provide no assurance that our insurance subsidiaries’ ultimate liability will not exceed our insurance subsidiaries’ loss
and loss expense reserves and have an adverse effect on our results of operations and financial condition. Furthermore, we cannot predict the timing, frequency and extent of adjustments to our insurance subsidiaries’ estimated future liabilities,
because the historical conditions and events that serve as a basis for our insurance subsidiaries’ estimates of ultimate claim costs may change. As is the case for substantially all property and casualty insurance companies, our insurance
subsidiaries have found it necessary in the past to increase their estimated future liabilities for losses and loss expenses in certain periods and, in other periods, their estimated future liabilities for losses and loss expenses have exceeded
their actual liabilities for losses and loss expenses. Changes in our insurance subsidiaries’ estimates of their liability for losses and loss expenses generally reflect actual payments and their evaluation of information received subsequent to the
prior reporting period.
Our insurance subsidiaries recognized a decrease in their liability for losses and loss expenses of prior years of $31.2 million, $12.9 million and $12.9 million in 2021, 2020 and 2019, respectively. Our insurance
subsidiaries made no significant changes in their reserving philosophy or claims management personnel, and they have made no significant offsetting changes in estimates that increased or decreased their loss and loss expense reserves in those
years. The 2021 development represented 5.6% of the December 31, 2020 net carried reserves and resulted primarily from lower-than-expected loss emergence in the personal automobile, workers’ compensation and commercial automobile lines of business
for accident years prior to 2021. The majority of the 2021 development related to decreases in the liability for losses and loss expenses of prior years for Atlantic States and MICO. The 2020 development represented 2.6% of the December 31, 2019
net carried reserves and resulted primarily from lower-than-expected severity in the workers’ compensation and personal automobile lines of business, partially offset by higher-than-expected severity in the commercial automobile and commercial
multi-peril lines of business, for accident years prior to 2020. The majority of the 2020 development related to decreases in the liability for losses and loss expenses of prior years for Atlantic States and MICO. The 2019 development represented
2.7% of the December 31, 2018 net carried reserves and resulted primarily from lower-than-expected severity in the workers’ compensation line of business, partially offset by higher-than-expected severity in the commercial automobile and commercial
multi-peril lines of business, for accident years prior to 2019. The majority of the 2019 development related to decreases in the liability for losses and loss expenses of prior years for Atlantic States and MICO.
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Excluding the impact of severe weather events and the COVID-19 pandemic, our insurance subsidiaries have noted stable amounts in the number of claims incurred and the number of claims outstanding at period ends
relative to their premium base in recent years across most of their lines of business. However, the amount of the average claim outstanding has increased gradually over the past several years due to various factors such as rising medical loss costs
and increased litigation trends. We have also experienced a general slowing of settlement rates in litigated claims. Our insurance subsidiaries could have to make further adjustments to their estimates in the future. However, on the basis of our
insurance subsidiaries’ internal procedures, which analyze, among other things, their prior assumptions, their experience with similar cases and historical trends such as reserving patterns, loss payments, pending levels of unpaid claims and
product mix, as well as court decisions, economic conditions and public attitudes, we believe that our insurance subsidiaries have made adequate provision for their liability for losses and loss expenses.
Atlantic States’ participation in the pool with Donegal Mutual exposes Atlantic States to adverse loss development on the business of Donegal Mutual that the pool includes. However, pooled business represents the
predominant percentage of the net underwriting activity of both companies, and Donegal Mutual and Atlantic States share proportionately any adverse risk development relating to the pooled business. The business in the pool is homogeneous and each
company has a pro-rata share of the entire pool. Since the predominant percentage of the business of Atlantic States and Donegal Mutual is pooled and the results shared by each company according to its participation level under the terms of the
pooling agreement, the intent of the underwriting pool is to produce a more uniform and stable underwriting result from year to year for each company than either would experience individually and to spread the risk of loss between the companies.
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Our insurance subsidiaries’ liability for losses and loss expenses by major line of business at December 31, 2021 and 2020 consisted of the following:
| 2021 | 2020 | ||||||
|---|---|---|---|---|---|---|---|
| (in thousands) | |||||||
| Commercial lines: | |||||||
| Automobile | $ | 172,302 | $ | 151,813 | |||
| Workers’ compensation | 122,398 | 118,037 | |||||
| Commercial multi-peril | 168,445 | 126,299 | |||||
| Other | 18,530 | 13,212 | |||||
| Total commercial lines | 481,675 | 409,361 | |||||
| Personal lines: | |||||||
| Automobile | 109,915 | 120,861 | |||||
| Homeowners | 26,169 | 20,976 | |||||
| Other | 8,600 | 5,991 | |||||
| Total personal lines | 144,684 | 147,828 | |||||
| Total commercial and personal lines | 626,359 | 557,189 | |||||
| Plus reinsurance recoverable | 451,261 | 404,818 | |||||
| Total liability for losses and loss expenses | $ | 1,077,620 | $ | 962,007 |
We have evaluated the effect on our insurance subsidiaries’ loss and loss expense reserves and our stockholders’ equity in the event of reasonably likely changes in the variables we consider in establishing loss and
loss expense reserves. We established the range of reasonably likely changes based on a review of changes in accident year development by line of business and applied it to our insurance subsidiaries’ loss reserves as a whole. The selected range
does not necessarily indicate what could be the potential best or worst case or the most-likely scenario. The following table sets forth the effect on our insurance subsidiaries’ loss and loss expense reserves and our stockholders’ equity in the
event of reasonably likely changes in the variables considered in establishing loss and loss expense reserves:
| Change in Loss and Loss Expense Reserves Net of Reinsurance | Adjusted Loss and Loss Expense Reserves Net of Reinsurance at December 31, 2021 | Percentage Change in Equity at December 31, 2021(1) | Adjusted Loss and Loss Expense Reserves Net of Reinsurance at December 31, 2020 | Percentage Change in Equity at December 31, 2020(1) | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (dollars in thousands) | |||||||||||||||||
| -10.0 | % | $ | 563,723 | 9.3 | % | $ | 501,470 | 8.5 | % | ||||||||
| -7.5 | 579,382 | 7.0 | 515,400 | 6.4 | |||||||||||||
| -5.0 | 595,041 | 4.7 | 529,330 | 4.3 | |||||||||||||
| -2.5 | 610,700 | 2.3 | 543,259 | 2.1 | |||||||||||||
| Base | 626,359 | — | 557,189 | — | |||||||||||||
| 2.5 | 642,018 | -2.3 | 571,119 | -2.1 | |||||||||||||
| 5.0 | 657,677 | -4.7 | 585,048 | -4.3 | |||||||||||||
| 7.5 | 673,336 | -7.0 | 598,978 | -6.4 | |||||||||||||
| 10.0 | 688,995 | -9.3 | 612,908 | -8.5 |
(1) Net of income tax effect.
Our insurance subsidiaries base their reserves for unpaid losses and loss expenses on current trends in loss and loss expense development and reflect their best estimates for future amounts needed to pay losses and
loss expenses with respect to incurred events currently known to them plus incurred but not reported (“IBNR”) claims. Our insurance subsidiaries develop their reserve estimates based on an assessment of known facts and circumstances, review of
historical loss settlement patterns, estimates of trends in claims severity, frequency, legal and regulatory changes and other assumptions. Our insurance subsidiaries consistently apply actuarial loss reserving techniques and assumptions, which
rely on historical information as adjusted to reflect current conditions, including consideration of recent case reserve activity. Our insurance subsidiaries use the point estimate their actuaries select. For
the year ended December 31, 2021, the actuaries developed a range from a low of $575.7 million to a high of $681.5 million and selected a point estimate of $626.4 million. The actuaries’ range of estimates
for commercial lines in 2021 was $442.8 million to $524.0 million, and the actuaries selected a point estimate of $481.7 million. The actuaries’ range of estimates for personal lines in 2021 was $132.9 million to $157.5 million, and the actuaries
selected a point estimate of $144.7 million. For the year ended December 31, 2020, the actuaries developed a range from a low of $512.9 million to a high of $605.3 million and selected a point estimate of $557.2 million. The actuaries’ range of
estimates for commercial lines in 2020 was $376.9 million to $444.7 million, and the actuaries selected a point estimate of $409.4 million. The actuaries’ range of estimates for personal lines in 2020 was $136.0 million to $160.6 million, and the
actuaries selected a point estimate of $147.8 million.
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Our insurance subsidiaries seek to enhance their underwriting results by carefully selecting the product lines they underwrite. For personal lines products, our insurance subsidiaries insure standard and preferred
risks in private passenger automobile and homeowners lines. For commercial lines products, the commercial risks that our insurance subsidiaries primarily insure are business offices, wholesalers, service providers, contractors, artisans and light
manufacturing operations. Our insurance subsidiaries have limited exposure to asbestos and other environmental liabilities. Our insurance subsidiaries write no medical malpractice liability risks. Through the consistent application of this
disciplined underwriting philosophy, our insurance subsidiaries have avoided many of the “long-tail” issues other insurance companies have faced. We consider workers’ compensation to be a “long-tail” line of business, in that workers’ compensation
claims tend to be settled over a longer time frame than those in the other lines of business of our insurance subsidiaries.
The following table presents 2021 and 2020 claim count and payment amount information for workers’ compensation. Workers’ compensation losses primarily consist of indemnity and medical costs for injured workers.
| For the Year Ended December 31, | |||||||
|---|---|---|---|---|---|---|---|
| (dollars in thousands) | 2021 | 2020 | |||||
| Number of claims pending, beginning of period | 2,898 | 3,014 | |||||
| Number of claims reported | 6,883 | 5,935 | |||||
| Number of claims settled or dismissed | 6,445 | 6,051 | |||||
| Number of claims pending, end of period | 3,336 | 2,898 | |||||
| Losses paid | $ | 50,664 | $ | 38,204 | |||
| Loss expenses paid | 10,067 | 9,065 |
Management Evaluation of Operating Results
Despite challenging insurance market conditions, increasing casualty loss severity trends and unusually adverse weather conditions that affected our results in recent years, we believe that our focused business
strategy, including our insurance subsidiaries disciplined underwriting practices, have positioned us well for 2022 and beyond.
Because our insurance subsidiaries do not prepare GAAP financial statements, we evaluate the performance of our commercial lines and personal lines segments utilizing statutory accounting practices (“SAP”), which
include financial measures that reflect the growth trends and underwriting results of our insurance subsidiaries.
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We use the following financial data to monitor and evaluate our operating results:
| Year Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in thousands) | 2021 | 2020 | 2019 | |||||||||
| Net premiums written: | ||||||||||||
| Commercial lines: | ||||||||||||
| Automobile | $ | 161,947 | $ | 135,294 | $ | 122,142 | ||||||
| Workers’ compensation | 113,256 | 109,960 | 113,684 | |||||||||
| Commercial multi-peril | 188,242 | 147,993 | 138,750 | |||||||||
| Other | 38,340 | 32,739 | 30,303 | |||||||||
| Total commercial lines | 501,785 | 425,986 | 404,879 | |||||||||
| Personal lines: | ||||||||||||
| Automobile | 170,578 | 184,602 | 210,507 | |||||||||
| Homeowners | 109,974 | 111,886 | 117,118 | |||||||||
| Other | 21,930 | 19,666 | 20,097 | |||||||||
| Total personal lines | 302,482 | 316,154 | 347,722 | |||||||||
| Total net premiums written | $ | 804,267 | $ | 742,140 | $ | 752,601 | ||||||
| Components of combined ratio: | ||||||||||||
| Loss ratio | 67.1 | % | 62.0 | % | 67.0 | % | ||||||
| Expense ratio | 33.3 | 33.0 | 31.3 | |||||||||
| Dividend ratio | 0.6 | 1.0 | 1.2 | |||||||||
| Combined ratio | 101.0 | % | 96.0 | % | 99.5 | % | ||||||
| Revenues: | ||||||||||||
| Net premiums earned: | ||||||||||||
| Commercial lines | $ | 468,433 | $ | 412,877 | $ | 385,465 | ||||||
| Personal lines | 307,582 | 329,163 | 370,613 | |||||||||
| Total net premiums earned | 776,015 | 742,040 | 756,078 | |||||||||
| Net investment income | 31,126 | 29,504 | 29,515 | |||||||||
| Investment gains | 6,477 | 2,778 | 21,985 | |||||||||
| Equity in earnings of DFSC | — | — | 295 | |||||||||
| Other | 2,848 | 3,497 | 4,578 | |||||||||
| Total revenues | $ | 816,466 | $ | 777,819 | $ | 812,451 |
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| Year Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in thousands) | 2021 | 2020 | 2019 | |||||||||
| Components of net income: | ||||||||||||
| Underwriting (loss) income: | ||||||||||||
| Commercial lines | $ | (35,174 | ) | $ | (858 | ) | $ | 8,404 | ||||
| Personal lines | 17,235 | 31,764 | (1,617 | ) | ||||||||
| SAP underwriting (loss) income | (17,939 | ) | 30,906 | 6,787 | ||||||||
| GAAP adjustments | 9,945 | (959 | ) | (3,079 | ) | |||||||
| GAAP underwriting (loss) income | (7,994 | ) | 29,947 | 3,708 | ||||||||
| Net investment income | 31,126 | 29,504 | 29,515 | |||||||||
| Investment gains | 6,477 | 2,778 | 21,985 | |||||||||
| Equity in earnings of DFSC | — | — | 295 | |||||||||
| Other | 730 | 1,043 | 1,578 | |||||||||
| Income before income tax expense | 30,339 | 63,272 | 57,081 | |||||||||
| Income tax expense | 5,085 | 10,457 | 9,929 | |||||||||
| Net income | $ | 25,254 | $ | 52,815 | $ | 47,152 |
Non-GAAP Information
We prepare our consolidated financial statements on the basis of GAAP. Our insurance subsidiaries also prepare financial statements based on SAP. SAP financial measures are considered non-GAAP financial measures
under applicable SEC rules because the SAP financial measures include or exclude certain items that the most comparable GAAP financial measures do not ordinarily include or exclude. Our calculation of non-GAAP financial measures may differ from
similar measures other companies use. As a result, investors should exercise caution when comparing our non-GAAP financial measures to the non-GAAP financial measures other companies use. The SAP financial measures we utilize are net premiums
written and statutory combined ratio.
Net Premiums Written
We define net premiums written as the amount of full-term premiums our insurance subsidiaries record for policies effective within a given period less premiums our insurance subsidiaries cede to reinsurers. Net
premiums earned is the most comparable GAAP financial measure to net premiums written. Net premiums earned represent the sum of the amount of net premiums written and the change in net unearned premiums during a given period. Our insurance
subsidiaries earn premiums and recognize them as revenue over the terms of their policies, which are one year or less in duration. Therefore, increases or decreases in net premiums earned generally reflect increases or decreases in net premiums
written in the preceding 12-month period compared to the comparable period one year earlier.
The following table provides a reconciliation of our net premiums earned to our net premiums written for 2021, 2020 and 2019:
| Year Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2020 | 2019 | ||||||||||
| Net premiums earned | $ | 776,015,201 | $ | 742,040,339 | $ | 756,078,400 | ||||||
| Change in net unearned premiums | 28,251,308 | 99,554 | (3,477,111 | ) | ||||||||
| Net premiums written | $ | 804,266,509 | $ | 742,139,893 | $ | 752,601,289 |
The increase in the change in net unearned premiums for 2021 compared to 2020 and 2019 primarily reflects the inclusion of the business of the Mountain States Insurance Group in the underwriting pool beginning with
policies effective in 2021.
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Statutory Combined Ratio
The combined ratio is a standard measurement of underwriting profitability for an insurance company. The combined ratio does not reflect investment income, net investment gains or losses, federal
income taxes or other non-operating income or expense. A combined ratio of less than 100% generally indicates underwriting profitability.
The statutory combined ratio is a non-GAAP financial measure that is based upon amounts determined under SAP. We calculate our statutory combined ratio as the sum of:
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| • | the statutory loss ratio, which is the ratio of calendar-year net incurred losses and loss expenses to net premiums earned; |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| • | the statutory expense ratio, which is the ratio of expenses incurred for net commissions, premium taxes and underwriting expenses to net premiums written; and |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| • | the statutory dividend ratio, which is the ratio of dividends to holders of workers’ compensation policies to net premiums earned. |
The calculation of our statutory combined ratio differs from the calculation of our GAAP combined ratio. In calculating our GAAP combined ratio, we do not deduct installment payment fees from
incurred expenses, and we base the expense ratio on net premiums earned instead of net premiums written. Differences between our GAAP loss ratio and our statutory loss ratio result from anticipating salvage and subrogation recoveries for our GAAP
loss ratio but not for our statutory loss ratio.
The following table presents comparative details with respect to our GAAP and statutory combined ratios for the years ended December 31, 2021, 2020 and 2019:
| Year Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2020 | 2019 | ||||||||||
| GAAP Combined Ratios (Total Lines) | ||||||||||||
| Loss ratio (non-weather) | 61.3 | % | 55.1 | % | 60.9 | % | ||||||
| Loss ratio (weather-related) | 5.8 | 6.9 | 6.1 | |||||||||
| Expense ratio | 33.3 | 33.0 | 31.3 | |||||||||
| Dividend ratio | 0.6 | 1.0 | 1.2 | |||||||||
| Combined ratio | 101.0 | % | 96.0 | % | 99.5 | % | ||||||
| Statutory Combined Ratios | ||||||||||||
| Commercial lines: | ||||||||||||
| Automobile | 108.6 | % | 112.7 | % | 117.4 | % | ||||||
| Workers’ compensation | 94.6 | 86.3 | 78.5 | |||||||||
| Commercial multi-peril | 114.1 | 98.4 | 93.7 | |||||||||
| Other | 77.5 | 74.0 | 72.6 | |||||||||
| Total commercial lines | 104.9 | 97.8 | 95.0 | |||||||||
| Personal lines: | ||||||||||||
| Automobile | 94.4 | 91.3 | 105.7 | |||||||||
| Homeowners | 102.9 | 97.2 | 101.2 | |||||||||
| Other | 49.3 | 74.9 | 73.2 | |||||||||
| Total personal lines | 94.4 | 92.4 | 102.6 | |||||||||
| Total commercial and personal lines | 100.8 | 95.4 | 98.7 |
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Results of Operations
YEAR ENDED DECEMBER 31, 2021 COMPARED TO YEAR ENDED DECEMBER 31, 2020
Net Premiums Earned
Our insurance subsidiaries’ net premiums earned increased to $776.0 million for 2021, an increase of $34.0 million, or 4.6%, compared to 2020, primarily reflecting the inclusion
of the business of the Mountain States Insurance Group in the underwriting pool beginning with policies effective in 2021, as well solid premium retention and renewal premium increases. Our insurance subsidiaries earn premiums and recognize them as
income over the terms of the policies they issue. Such terms are generally one year or less in duration. Therefore, increases or decreases in net premiums earned generally reflect increases or decreases in net premiums written in the preceding
twelve-month period compared to the same period one year earlier.
Net Premiums Written
Our insurance subsidiaries’ 2021 net premiums written increased 8.4% to $804.3 million, compared to $742.1 million for 2020. Commercial lines net premiums written increased $75.8 million, or 17.8%, for 2021 compared to
2020. We attribute the increase in commercial lines net premiums written primarily to the inclusion of the business of the Mountain States Insurance Group in the underwriting pool beginning with policies effective in 2021, as well as solid premium
retention and renewal premium increases. Personal lines net premiums written decreased $13.7 million, or 4.3%, for 2021 compared to 2020. We attribute the decrease in personal lines net premiums written primarily to net attrition as a result of
measures our insurance subsidiaries implemented to improve underwriting profitability, partially offset by the impact of premium rate increases.
Investment Income
For 2021, our net investment income increased to $31.1 million, compared to $29.5 million for 2020, due primarily to higher average invested assets for 2021 compared to 2020.
Net Investment Gains
Our net investment gains for 2021 and 2020 were $6.5 million and $2.8 million, respectively. The net investment gains for 2021 and 2020 were primarily related to increases in unrealized gains within our equity
securities portfolio. We did not recognize any impairment losses during 2021 or 2020.
Losses and Loss Expenses
Our insurance subsidiaries’ loss ratio, which is the ratio of incurred losses and loss expenses to premiums earned, was 67.1% for 2021, compared to 62.0% for 2020. Our insurance subsidiaries’ commercial lines loss
ratio increased to 68.6% for 2021, compared to 63.9% for 2020. This increase resulted primarily from the workers’ compensation loss ratio increasing to 57.7% for 2021, compared to 51.1% for 2020, and the commercial multi-peril loss ratio increasing
to 76.9% for 2021, compared to 65.9% for 2020. The personal lines loss ratio increased to 64.8% for 2021, compared to 59.5% for 2020. The personal automobile loss ratio increased to 65.6% for 2021, compared to 60.1% for 2020, primarily due to an
increase in automobile claim frequency as driving activity generally returned to pre-pandemic levels. The homeowners loss ratio increased to 69.6% for 2021, compared to 61.8% for 2020. Our insurance subsidiaries experienced favorable loss reserve
development of approximately $31.2 million, or 4.0 percentage points of the loss ratio, during 2021 in their reserves for prior accident years, compared to favorable loss reserve development of approximately
$12.9 million, or 1.7 percentage points of the loss ratio, during 2020. The favorable loss reserve development in 2021 resulted primarily from lower-than-expected loss emergence in the personal automobile, workers’ compensation and commercial
automobile lines of business for accident years prior to 2021. Weather-related losses of $45.3 million, or 5.8 percentage points of the loss ratio, for 2021 decreased from $51.4 million, or 6.9 percentage points of the loss ratio, for 2020, with
the decrease primarily impacting the commercial multi-peril line of business. Large fire losses, which we define as individual fire losses in excess of $50,000, were $45.6 million, or 5.9 percentage points of the loss ratio, for 2021, compared to
$22.8 million, or 3.1 percentage points of the loss ratio, for 2020. The significant increase was related to a higher incidence of both commercial property and home fires in 2021 compared to 2020.
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Underwriting Expenses
Our insurance subsidiaries’ expense ratio, which is the ratio of policy acquisition and other underwriting expenses to premiums earned, was 33.3% for 2021, compared to 33.0% for 2020. We attribute the modest increase
to higher technology system-related expenses for 2021 compared to 2020, offset somewhat by lower commercial growth incentive costs for our agents and decreased underwriting-based incentive costs for our agents and employees for 2021 compared to
2020. The increase in technology systems-related expenses for 2021 was primarily due to an increased allocation of costs from Donegal Mutual to our insurance subsidiaries following the successful implementation of the second phase of our ongoing
systems modernization project in August 2021.
Policyholder Dividends
Our insurance subsidiaries pay policyholder dividends primarily on workers' compensation policies on a sliding scale based on the profitability of a given policy. We attribute the decrease in dividends incurred for
2021 compared to 2020 to a modest decline in the profitability of the workers' compensation line of business over the respective periods to which the dividends applied.
Combined Ratio
Our insurance subsidiaries’ combined ratio was 101.0% and 96.0% for 2021 and 2020, respectively. The combined ratio represents the sum of the loss ratio, the expense ratio and the dividend ratio, which is the ratio of
workers’ compensation policy dividends incurred to premiums earned. We attribute the increase in our combined ratio primarily to the increase in the loss ratio.
Interest Expense
Our interest expense for 2021 decreased to $895,605, compared to $1.2 million for 2020. We attribute the decrease to lower average borrowings under our lines of credit during 2021 compared to 2020.
Income Taxes
Our income tax expense was $5.1 million for 2021, compared to $10.5 million for 2020. Our effective tax rate for 2021 was 16.8%, compared to 16.5% for 2020. Our income tax
expense for 2020 included a $1.6 million income tax benefit related to the carryback of 2018 net operating losses to past tax years with higher statutory income tax rates than are currently in effect, as allowed under the Coronavirus Aid, Relief
and Economic Security Act that was enacted in March 2020.
Net Income and Earnings Per Share
Our net income for 2021 was $25.3 million, or $0.83 per share of Class A common stock on a diluted basis and $0.74 per share of Class B common stock, compared to net income for 2020 of $52.8 million, or $1.83 per share
of Class A common stock on a diluted basis and $1.65 per share of Class B common stock. We had 25.8 million and 24.6 million Class A shares outstanding at December 31, 2021 and 2020, respectively. We had 5.6 million Class B shares outstanding for
both periods. There are no outstanding securities that dilute our shares of Class B common stock.
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Book Value Per Share
Our stockholders’ equity increased by $13.3 million during 2021 as a result of our net income, offset somewhat by a reduction of net unrealized gains within our available-for-sale fixed maturity investments. Our book
value per share decreased to $16.95 at December 31, 2021, compared to $17.13 a year earlier, primarily as a result of an increase in the number of Class A shares outstanding during the year.
YEAR ENDED DECEMBER 31, 2020 COMPARED TO YEAR ENDED DECEMBER 31, 2019
Net Premiums Earned
Our insurance subsidiaries’ net premiums earned decreased to $742.0 million for 2020, a decrease of $14.1 million, or 1.9%, compared to 2019, primarily reflecting decreases in personal lines premiums written during
2019 and 2020. Our insurance subsidiaries earn premiums and recognize them as income over the terms of the policies they issue. Such terms are generally one year or less in duration. Therefore, increases or decreases in net premiums earned
generally reflect increases or decreases in net premiums written in the preceding twelve-month period compared to the same period one year earlier.
Net Premiums Written
Our insurance subsidiaries’ 2020 net premiums written decreased 1.4% to $742.1 million, compared to $752.6 million for 2019. We attribute the decrease primarily to net attrition in our personal lines segment that
resulted from increased pricing on renewal policies and underwriting measures our insurance subsidiaries implemented to slow new policy growth and improve profitability, offset somewhat by the impact of premium rate increases and an increase in the
writing of new accounts in commercial lines of business. Commercial lines net premiums written increased $21.1 million, or 5.2%, for 2020 compared to 2019. Personal lines net premiums written decreased $31.6 million, or 9.1%, for 2020 compared to
2019.
Investment Income
For 2020, our net investment income was unchanged at $29.5 million, as an increase in average invested assets offset a modest decrease in the average investment yield.
Net Investment Gains
Our net investment gains for 2020 and 2019 were $2.8 million and $22.0 million, respectively. The net investment gains for 2020 were primarily related to an increase in unrealized gains within our equity securities
portfolio. The net investment gains for 2019 included $12.7 million from the sale of DFSC and $8.9 million related to unrealized gains within our equity securities portfolio. We did not recognize any impairment losses during 2020 or 2019.
Losses and Loss Expenses
Our insurance subsidiaries’ loss ratio, which is the ratio of incurred losses and loss expenses to premiums earned, was 62.0% for 2020, compared to 67.0% for 2019. Our insurance subsidiaries’ commercial lines loss
ratio increased to 63.9% for 2020, compared to 63.0% for 2019. This increase resulted primarily from the workers’ compensation loss ratio increasing to 51.1% for 2020, compared to 44.6% for 2019, and the commercial multi-peril loss ratio increasing
to 65.9% for 2020, compared to 63.1% for 2019. The personal lines loss ratio decreased to 59.5% for 2020, compared to 71.1% for 2019. The personal automobile loss ratio decreased to 60.1% for 2020, compared to 76.1% for 2019, primarily as a result
of lower claim frequency due to reduced driving activity and traffic density and various underwriting adjustments our insurance subsidiaries implemented in recent years. The homeowners loss ratio decreased to 61.8% for 2020, compared to 67.1% for
2019, primarily as a result of decreased weather-related losses that we attribute to our exit from several weather-prone markets in 2019. Our insurance subsidiaries experienced favorable loss reserve development of approximately $12.9 million, or
1.7 percentage points of the loss ratio, during 2020 in their reserves for prior accident years, compared to favorable loss reserve development of approximately $12.9 million, or 1.7 percentage points of the loss ratio, during 2019. The favorable
loss reserve development in 2020 resulted primarily from lower-than-expected severity in the workers’ compensation and personal automobile lines of business, partially offset by higher-than-expected severity in the commercial automobile and
commercial multi-peril lines of business, for accident years prior to 2020. Weather-related losses of $51.4 million, or 6.9 percentage points of the loss ratio, for 2020 increased from $46.1 million, or 6.1 percentage points of the loss ratio, for
2019, with the increase primarily impacting the commercial multi-peril line of business.
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Underwriting Expenses
Our insurance subsidiaries’ expense ratio, which is the ratio of policy acquisition and other underwriting expenses to premiums earned, was 33.0% for 2020, compared to 31.3% for 2019. We attribute the modest increase
to higher commercial growth incentive costs for our agents, higher underwriting-based incentive compensation for our agents and employees and higher technology-related expenses for 2020 compared to 2019. The increase in technology systems-related
expenses for 2020 was primarily due to an increased allocation of costs from Donegal Mutual to our insurance subsidiaries following the successful implementation of the first phase of our ongoing systems modernization project in February 2020.
Policyholder Dividends
Our insurance subsidiaries pay policyholder dividends primarily on workers' compensation policies on a sliding scale based on the profitability of a given policy. We attribute the decrease in dividends incurred for
2020 compared to 2019 to a modest decline in the profitability of the workers' compensation line of business over the respective periods to which the dividends applied.
Combined Ratio
Our insurance subsidiaries’ combined ratio was 96.0% and 99.5% for 2020 and 2019, respectively. The combined ratio represents the sum of the loss ratio, the expense ratio and the dividend ratio, which is the ratio of
workers’ compensation policy dividends incurred to premiums earned. We attribute the decrease in our combined ratio primarily to the decrease in our loss ratio.
Interest Expense
Our interest expense for 2020 decreased to $1.2 million, compared to $1.6 million for 2019. We attribute the decrease to lower interest rates on our borrowings under our lines of credit during 2020 compared to 2019.
Income Taxes
Our income tax expense was $10.5 million for 2020, compared to $9.9 million for 2019. Our effective tax rate for 2020 was 16.5%, compared to 17.4% for 2019. Our income tax expense for 2020 included a $1.6 million
income tax benefit related to the carryback of 2018 net operating losses to past tax years with higher statutory income tax rates than are currently in effect, as allowed under the Coronavirus Aid, Relief and Economic Security Act that was enacted
in March 2020. Our income tax expense for 2019 included Pennsylvania state income taxes of $825,000 that were related to the gain we realized on the sale of DFSC.
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Net Income and Earnings Per Share
Our net income for 2020 was $52.8 million, or $1.83 per share of Class A common stock on a diluted basis and $1.65 per share of Class B common stock, compared to net income for 2019 of $47.2 million, or $1.67 per share
of Class A common stock on a diluted basis and $1.51 per share of Class B common stock. We had 24.6 million and 23.2 million Class A shares outstanding at December 31, 2020 and 2019, respectively. We had 5.6 million Class B shares outstanding for
both periods. There are no outstanding securities that dilute our shares of Class B common stock.
Book Value Per Share
Our stockholders’ equity increased by $66.8 million during 2020 as a result of our net income and net unrealized gains within our available-for-sale fixed maturity investments. Our book value per share increased to
$17.13 at December 31, 2020, compared to $15.67 a year earlier.
Financial Condition
Liquidity and Capital Resources
Liquidity is a measure of an entity’s ability to secure enough cash to meet its contractual obligations and operating needs as they arise. Our major sources of funds from operations are the net cash flows generated
from our insurance subsidiaries’ underwriting results, investment income and maturing investments.
We have historically generated sufficient net positive cash flow from our operations to fund our commitments and build our investment portfolio, thereby increasing future investment returns. The pooling agreement with
Donegal Mutual historically has been cash flow positive because of the profitability of the underwriting pool. Because we settle the pool monthly, our cash flows are substantially similar to the cash flows that would result from the underwriting of
direct business. We maintain a high degree of liquidity in our investment portfolio in the form of marketable fixed maturities, equity securities and short-term investments. We structure our fixed-maturity investment portfolio following a
“laddering” approach so that projected cash flows from investment income and principal maturities are evenly distributed from a timing perspective. This laddering approach provides an additional measure of liquidity to meet our obligations and the
obligations of our insurance subsidiaries should an unexpected variation occur in the future. Net cash flows provided by operating activities in 2021, 2020 and 2019 were $76.7 million, $101.1 million and
$76.4 million, respectively.
At December 31, 2021, we had no outstanding borrowings under our line of credit with M&T and had the ability to borrow up to $20.0 million at interest rates equal to the then-current LIBOR rate plus 2.00%. At
December 31, 2021, Atlantic States had $35.0 million in outstanding advances with the FHLB of Pittsburgh that carry a fixed interest rate of 1.74%. In March 2020, Atlantic States issued $50.0 million of debt to the FHLB of Pittsburgh in exchange
for a cash advance in the same amount for contingent liquidity funding in light of uncertainty surrounding the economic impact of the COVID-19 pandemic. Atlantic States repaid this advance when it became due in March 2021. In September 2021, upon
receipt of approval from the Michigan Department of Insurance and Financial Services, MICO repaid in full the $5.0 million surplus note held previously by Donegal Mutual, along with accrued interest of $178,082. We discuss in Note 9 – Borrowings
our estimate of the timing of the amounts payable for the borrowings under our lines of credit based on their contractual maturities.
We estimate the timing of claim payments associated with the liabilities for losses and loss expenses of our insurance subsidiaries based on historical experience and expectations of future payment patterns. Amounts
Atlantic States assumes pursuant to the pooling agreement with Donegal Mutual represent a substantial portion of our insurance subsidiaries’ gross liabilities for losses and loss expenses, and amounts Atlantic States cedes pursuant to the pooling
agreement represent a substantial portion of our insurance subsidiaries’ reinsurance recoverable on unpaid losses and loss expenses. We include cash settlement of Atlantic States’ assumed liabilities from the pool in monthly settlements of pooled
activity, as we net amounts ceded to and assumed from the pool. Although Donegal Mutual and we do not anticipate any changes in the pool participation levels in the foreseeable future, any such change would be prospective in nature and therefore
would not impact the timing of expected payments by Atlantic States for its percentage share of pooled losses occurring in periods prior to the effective date of such change.
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The cash dividends we declared to our stockholders totaled $19.6 million, $17.3 million and $16.2 million in 2021, 2020 and 2019, respectively. There are no regulatory
restrictions on our payment of dividends to our stockholders, although there are restrictions under applicable state laws on the payment of dividends from our insurance subsidiaries to us. Our insurance subsidiaries are required by law to maintain
certain minimum surplus on a statutory basis and are subject to regulations under which their payment of dividends from statutory surplus is restricted and may require prior approval of their domiciliary insurance regulatory authorities. Our
insurance subsidiaries are also subject to risk-based capital (“RBC”) requirements. The amount of statutory capital and surplus necessary for our insurance subsidiaries to satisfy regulatory requirements, including the RBC requirements, was not
significant in relation to our insurance subsidiaries’ statutory capital and surplus at December 31, 2021. Amounts available for distribution to us as dividends from our insurance subsidiaries without prior approval of insurance regulatory
authorities in 2022 are approximately $27.9 million from Atlantic States, $6.9 million from Southern, $4.8 million from Peninsula and $7.7 million from MICO, or a total of approximately $47.3 million.
Investments
At December 31, 2021 and 2020, our investment portfolio of primarily investment-grade bonds, common stock, short-term investments and cash totaled $1.3 billion, representing 59.2% and 61.3%, respectively, of our total
assets. See “Business - Investments” for more information.
| December 31, | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2020 | |||||||||||||||
| (dollars in thousands) | Amount | Percent of Total | Amount | Percent of Total | ||||||||||||
| Fixed maturities: | ||||||||||||||||
| Total held to maturity | $ | 668,105 | 52.3 | % | $ | 586,609 | 48.0 | % | ||||||||
| Total available for sale | 532,629 | 41.7 | 555,136 | 45.5 | ||||||||||||
| Total fixed maturities | 1,200,734 | 94.0 | 1,141,745 | 93.5 | ||||||||||||
| Equity securities | 63,420 | 5.0 | 58,556 | 4.8 | ||||||||||||
| Short-term investments | 12,692 | 1.0 | 20,901 | 1.7 | ||||||||||||
| Total investments | $ | 1,276,846 | 100.0 | % | $ | 1,221,202 | 100.0 | % |
The carrying value of our fixed maturity investments represented 94.0% and 93.5% of our total invested assets at December 31, 2021 and 2020, respectively.
Our fixed maturity investments consisted of high-quality marketable bonds, of which 100.0% and 99.8% were rated at investment-grade levels at December 31, 2021 and 2020, respectively.
At December 31, 2021, the net unrealized gain on our available-for-sale fixed maturity investments, net of deferred taxes, amounted to $7.4 million, compared to a net unrealized gain of $15.9 million at December 31,
2020.
Impact of Inflation
Our insurance subsidiaries establish their property and casualty insurance premium rates before they know the amount of losses and loss settlement expenses or the extent to which inflation may impact such expenses.
Consequently, our insurance subsidiaries attempt, in establishing rates, to anticipate the potential future impact of inflation. Our insurance subsidiaries account for inflation in the reserving function through analysis of costs and trends and
reviews of historical reserving results.
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Impact of Changing Climate Conditions
Insured losses from severe weather events could significantly impact the underwriting results of our insurance subsidiaries. Losses from catastrophic events are a function of both the extent of our insurance
subsidiaries’ exposures, the frequency and severity of the events themselves and the level of reinsurance coverage our insurance subsidiaries purchase. The increased frequency and severity of weather-related catastrophes and other losses, such as
from wildfires and flooding, incurred by the industry in recent years may be indicative of changing weather patterns due to climate change. Should those patterns continue to emerge, increased weather-related catastrophes in the states in which our
insurance subsidiaries operate would lead to higher overall losses that they may be unable to offset through pricing actions.
Our insurance subsidiaries seek to reduce their exposure to catastrophe losses through their underwriting strategies and their purchase of catastrophe reinsurance. While the emerging science regarding climate change
and its connection to extreme weather events continues to be studied, climate change, to the extent it produces rising temperatures and changes in weather patterns, could affect the frequency and severity of weather events and other losses and thus
impact the affordability and availability of catastrophe reinsurance coverage for our insurance subsidiaries. Our insurance subsidiaries’ ability to appropriately manage catastrophe risk depends partially on catastrophe models, which rely on
historical data that might not be representative of the frequency and severity of future events. Such models might also be unable to anticipate the uncertain impact of changing climate conditions that tend to occur gradually over time. Because the
policies of our insurance subsidiaries renew not less frequently than annually, our insurance subsidiaries have the ability to respond to the impact of changing climate conditions through adjustments to their underwriting standards, pricing, and
policy terms and conditions, subject to applicable regulatory approvals.
Changing climate conditions could lead to new or revised regulations with which our insurance subsidiaries would have to comply. Such regulations could impact the ability of our insurance subsidiaries to manage their
exposures in areas impacted by increased weather activity, require our insurance companies to alter the terms and conditions of their policies or impact the ability of our insurance subsidiaries to obtain sufficient pricing increases to offset
higher loss activity.
Impact of New Accounting Standards
In September 2016, the FASB issued guidance that amends previous guidance on the impairment of financial instruments by adding an impairment model that requires an entity to recognize expected credit losses as an
allowance rather than impairments as credit losses are incurred. The intent of this guidance is to reduce complexity and result in a more timely recognition of expected credit losses. In November 2019, the FASB issued guidance that delays the
effective date for “smaller reporting companies,” as defined in Item 10(f)(1) of Regulation S-K, to annual and interim reporting periods beginning after December 15, 2022 from December 15, 2019. We are a smaller reporting company and are in the
process of evaluating the impact of the adoption of this guidance on our financial position, results of operations and cash flows.
In December 2019, the FASB issued guidance that simplifies accounting for income taxes. The guidance eliminates certain exceptions related to the approach for intra-period tax allocation, the methodology for
calculating income taxes in an interim period and the recognition of deferred tax liabilities for outside basis differences. The guidance was effective January 1, 2021, using the retrospective method or modified retrospective method for certain
changes and the prospective method for all other changes, and permits early adoption. Our adoption of this guidance on January 1, 2021 did not have a significant impact on our financial position, results of operations or cash flows.
Off-Balance Sheet Arrangements
As of December 31, 2021 and 2020, we did not have any off-balance sheet arrangements as defined in Item 303(a)(4)(ii) of Regulation S-K.
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