e10vq
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 |
For the quarterly period ended June 30, 2009
OR
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o |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to .
Commission file number 0-15341
Donegal Group Inc.
(Exact name of registrant as specified in its charter)
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Delaware
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23-2424711 |
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(State or other jurisdiction of
incorporation or organization)
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(I.R.S. Employer
Identification No.) |
1195 River Road, P.O. Box 302, Marietta, PA 17547
(Address of principal executive offices) (Zip code)
(717) 426-1931
(Registrants telephone number, including area code)
Not applicable
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for
such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its
Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule
405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such
shorter period that the registrant was required to submit and post such files).
Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated
filer, a non-accelerated filer, or a smaller reporting company. See definitions of large
accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the
Exchange Act. (Check one):
Large accelerated filer o |
Accelerated filer þ | Non-accelerated filer o (Do not check if a smaller reporting company) | Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act). Yes o No þ
Indicate the number of shares outstanding of each of the issuers classes of common stock, as of
the latest practicable date: 19,905,297 shares of Class A Common Stock, par value $0.01 per share,
and 5,576,775 shares of Class B Common Stock, par value $0.01 per share, outstanding on July 31,
2009.
Part I. Financial Information
Item 1. Financial Statements.
Donegal Group Inc. and Subsidiaries
Consolidated Balance Sheets
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June 30, 2009 |
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December 31, 2008 |
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(Unaudited) |
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Assets |
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Investments |
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Fixed maturities |
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Held to maturity, at amortized cost |
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$ |
81,366,490 |
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$ |
99,878,156 |
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Available for sale, at fair value |
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494,304,991 |
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445,815,749 |
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Equity securities, available for sale, at fair value |
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5,895,355 |
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5,894,975 |
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Investments in affiliates |
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8,802,386 |
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8,594,177 |
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Short-term investments, at cost, which
approximates fair value |
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40,310,291 |
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71,952,469 |
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Total investments |
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630,679,513 |
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632,135,526 |
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Cash |
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7,481,493 |
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1,830,954 |
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Accrued investment income |
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|
6,648,988 |
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|
6,655,506 |
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Premiums receivable |
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60,389,857 |
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55,337,270 |
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Reinsurance receivable |
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85,000,160 |
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79,952,971 |
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Deferred policy acquisition costs |
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30,706,158 |
|
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29,541,281 |
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Deferred tax asset, net |
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|
7,974,408 |
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10,994,644 |
|
Prepaid reinsurance premiums |
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55,468,182 |
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51,436,487 |
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Property and equipment, net |
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6,832,144 |
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6,686,684 |
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Accounts receivable securities |
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447,689 |
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|
862,790 |
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Federal income taxes recoverable |
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|
139,229 |
|
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2,590,928 |
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Other |
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2,055,724 |
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2,083,995 |
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Total assets |
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$ |
893,823,545 |
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$ |
880,109,036 |
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Liabilities and Stockholders Equity |
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Liabilities |
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Unpaid losses and loss expenses |
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$ |
249,496,915 |
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$ |
239,809,276 |
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Unearned premiums |
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238,739,695 |
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229,013,929 |
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Accrued expenses |
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9,929,405 |
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|
14,149,754 |
|
Reinsurance balances payable |
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|
3,618,061 |
|
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|
1,566,816 |
|
Cash dividends declared to stockholders |
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2,602,104 |
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Subordinated debentures |
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15,465,000 |
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15,465,000 |
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Accounts payable securities |
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742,380 |
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1,820,574 |
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Due to affiliate |
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|
755,425 |
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3,148,057 |
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Drafts payable |
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1,206,556 |
|
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|
876,210 |
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Due to Sheboygan policyholders |
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1,286,804 |
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|
6,843,454 |
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Other |
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|
1,255,854 |
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1,229,997 |
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|
|
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Total liabilities |
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|
522,496,095 |
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|
516,525,171 |
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Stockholders Equity |
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Preferred stock, $1.00 par value, authorized
2,000,000 shares; none issued |
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Class A common stock, $.01 par value, authorized
30,000,000 shares, issued 20,533,692 and 20,494,764
shares and outstanding 19,893,993 and 19,869,065 shares |
|
|
205,337 |
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|
204,948 |
|
Class B common stock, $.01 par value, authorized
10,000,000 shares, issued 5,649,240 shares and
outstanding 5,576,775 shares |
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56,492 |
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56,492 |
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Additional paid-in capital |
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163,890,288 |
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163,136,938 |
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Accumulated other comprehensive income |
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7,176,669 |
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1,713,836 |
|
Retained earnings |
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208,908,145 |
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207,182,253 |
|
Treasury stock |
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(8,909,481 |
) |
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(8,710,602 |
) |
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Total stockholders equity |
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371,327,450 |
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363,583,865 |
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Total liabilities and stockholders equity |
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$ |
893,823,545 |
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$ |
880,109,036 |
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See accompanying notes to consolidated financial statements.
1
Donegal Group Inc. and Subsidiaries
Consolidated Statements of Income
(Unaudited)
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Three Months Ended June 30, |
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2009 |
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2008 |
|
Revenues: |
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|
Net premiums earned |
|
$ |
87,540,345 |
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|
$ |
87,329,195 |
|
Investment income, net of investment expenses |
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|
5,266,161 |
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|
5,793,985 |
|
Net realized investment gains (losses) |
|
|
445,140 |
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|
|
(673,627 |
) |
Lease income |
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|
234,713 |
|
|
|
230,182 |
|
Installment payment fees |
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|
1,308,620 |
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|
1,291,212 |
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Total revenues |
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94,794,979 |
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|
93,970,947 |
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Expenses: |
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Net losses and loss expenses |
|
|
61,903,131 |
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|
56,364,145 |
|
Amortization of deferred policy acquisition costs |
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|
14,634,000 |
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|
14,572,000 |
|
Other underwriting expenses |
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|
12,527,331 |
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|
14,067,850 |
|
Policyholder dividends |
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|
91,682 |
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|
|
216,629 |
|
Interest |
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|
198,467 |
|
|
|
534,240 |
|
Other expenses |
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|
306,840 |
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|
397,612 |
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Total expenses |
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89,661,451 |
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|
86,152,476 |
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Income before income tax expense |
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|
5,133,528 |
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|
|
7,818,471 |
|
Income tax expense |
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|
745,904 |
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|
1,500,294 |
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|
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|
|
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|
|
|
|
|
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Net income |
|
$ |
4,387,624 |
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|
$ |
6,318,177 |
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|
|
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|
|
|
|
|
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|
Earnings per common share: |
|
|
|
|
|
|
|
|
Class A common stock basic |
|
$ |
0.18 |
|
|
$ |
0.25 |
|
|
|
|
|
|
|
|
Class A common stock diluted |
|
$ |
0.18 |
|
|
$ |
0.25 |
|
|
|
|
|
|
|
|
Class B common stock basic and diluted |
|
$ |
0.16 |
|
|
$ |
0.23 |
|
|
|
|
|
|
|
|
Consolidated Statements of Comprehensive Income
(Unaudited)
|
|
|
|
|
|
|
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|
Three Months Ended June 30, |
|
|
|
2009 |
|
|
2008 |
|
|
Net income |
|
$ |
4,387,624 |
|
|
$ |
6,318,177 |
|
Other comprehensive income (loss), net of tax |
|
|
|
|
|
|
|
|
Unrealized income (loss) on securities: |
|
|
|
|
|
|
|
|
Unrealized holding income (loss) during the period,
net of income tax (benefit) |
|
|
1,413,555 |
|
|
|
(3,845,652 |
) |
Reclassification adjustment, net of income tax |
|
|
(289,341 |
) |
|
|
437,857 |
|
|
|
|
|
|
|
|
Other comprehensive income (loss) |
|
|
1,124,214 |
|
|
|
(3,407,795 |
) |
|
|
|
|
|
|
|
Comprehensive income |
|
$ |
5,511,838 |
|
|
$ |
2,910,382 |
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
2
Donegal Group Inc. and Subsidiaries
Consolidated Statements of Income
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, |
|
|
|
2009 |
|
|
2008 |
|
Revenues: |
|
|
|
|
|
|
|
|
Net premiums earned |
|
$ |
175,889,888 |
|
|
$ |
169,336,961 |
|
Investment income, net of investment expenses |
|
|
10,623,750 |
|
|
|
11,485,726 |
|
Net realized investment gains |
|
|
703,995 |
|
|
|
21,729 |
|
Lease income |
|
|
456,334 |
|
|
|
474,295 |
|
Installment payment fees |
|
|
2,608,376 |
|
|
|
2,444,339 |
|
|
|
|
|
|
|
|
Total revenues |
|
|
190,282,343 |
|
|
|
183,763,050 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenses: |
|
|
|
|
|
|
|
|
Net losses and loss expenses |
|
|
127,852,296 |
|
|
|
110,149,206 |
|
Amortization of deferred policy acquisition costs |
|
|
29,367,000 |
|
|
|
28,291,000 |
|
Other underwriting expenses |
|
|
25,203,963 |
|
|
|
26,471,002 |
|
Policyholder dividends |
|
|
335,211 |
|
|
|
487,067 |
|
Interest |
|
|
1,403,245 |
|
|
|
1,146,716 |
|
Other expenses |
|
|
774,845 |
|
|
|
896,838 |
|
|
|
|
|
|
|
|
Total expenses |
|
|
184,936,560 |
|
|
|
167,441,829 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income tax expense |
|
|
5,345,783 |
|
|
|
16,321,221 |
|
Income tax expense |
|
|
788,355 |
|
|
|
3,443,961 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
4,557,428 |
|
|
$ |
12,877,260 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per common share: |
|
|
|
|
|
|
|
|
Class A common stock basic |
|
$ |
0.18 |
|
|
$ |
0.52 |
|
|
|
|
|
|
|
|
Class A common stock diluted |
|
$ |
0.18 |
|
|
$ |
0.52 |
|
|
|
|
|
|
|
|
Class B common stock basic and diluted |
|
$ |
0.16 |
|
|
$ |
0.47 |
|
|
|
|
|
|
|
|
Consolidated Statements of Comprehensive Income
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, |
|
|
|
2009 |
|
|
2008 |
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
4,557,428 |
|
|
$ |
12,877,260 |
|
Other comprehensive income (loss), net of tax |
|
|
|
|
|
|
|
|
Unrealized income (loss) on securities: |
|
|
|
|
|
|
|
|
Unrealized holding income (loss) during the period, |
|
|
|
|
|
|
|
|
net of income tax (benefit) |
|
|
5,920,430 |
|
|
|
(6,893,242 |
) |
Reclassification adjustment, net of income tax |
|
|
(457,597 |
) |
|
|
(14,124 |
) |
|
|
|
|
|
|
|
Other comprehensive income (loss) |
|
|
5,462,833 |
|
|
|
(6,907,366 |
) |
|
|
|
|
|
|
|
Comprehensive income |
|
$ |
10,020,261 |
|
|
$ |
5,969,894 |
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
3
Donegal Group Inc. and Subsidiaries
Consolidated Statement of Stockholders Equity
(Unaudited)
Six Months Ended June 30, 2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional |
|
|
Other |
|
|
|
|
|
|
|
|
|
|
Total |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Paid-In |
|
|
Comprehensive |
|
|
Retained |
|
|
Treasury |
|
|
Stockholders |
|
|
|
Class A Shares |
|
|
Class B Shares |
|
|
Class A Amount |
|
|
Class B Amount |
|
|
Capital |
|
|
Income |
|
|
Earnings |
|
|
Stock |
|
|
Equity |
|
Balance, December 31, 2008 |
|
|
20,494,764 |
|
|
|
5,649,240 |
|
|
$ |
204,948 |
|
|
$ |
56,492 |
|
|
$ |
163,136,938 |
|
|
$ |
1,713,836 |
|
|
$ |
207,182,253 |
|
|
$ |
(8,710,602 |
) |
|
$ |
363,583,865 |
|
Issuance of common stock (stock
compensation plans) |
|
|
38,928 |
|
|
|
|
|
|
|
389 |
|
|
|
|
|
|
|
720,427 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
720,816 |
|
Net income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4,557,428 |
|
|
|
|
|
|
|
4,557,428 |
|
Cash dividends declared |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2,798,613 |
) |
|
|
|
|
|
|
(2,798,613 |
) |
Grant of stock options |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
32,923 |
|
|
|
|
|
|
|
(32,923 |
) |
|
|
|
|
|
|
|
|
Repurchase of treasury stock |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(198,879 |
) |
|
|
(198,879 |
) |
Other comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5,462,833 |
|
|
|
|
|
|
|
|
|
|
|
5,462,833 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, June 30, 2009 |
|
|
20,533,692 |
|
|
|
5,649,240 |
|
|
$ |
205,337 |
|
|
$ |
56,492 |
|
|
$ |
163,890,288 |
|
|
$ |
7,176,669 |
|
|
$ |
208,908,145 |
|
|
$ |
(8,909,481 |
) |
|
$ |
371,327,450 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
4
Donegal Group Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, |
|
|
|
2009 |
|
|
2008 |
|
Cash Flows from Operating Activities: |
|
|
|
|
|
|
|
|
Net income |
|
$ |
4,557,428 |
|
|
$ |
12,877,260 |
|
|
|
|
|
|
|
|
Adjustments to reconcile net income to net cash
provided by operating activities: |
|
|
|
|
|
|
|
|
Depreciation and amortization |
|
|
1,322,211 |
|
|
|
1,202,264 |
|
Net realized investment gains |
|
|
(703,995 |
) |
|
|
(21,729 |
) |
Changes in assets and liabilities: |
|
|
|
|
|
|
|
|
Losses and loss expenses |
|
|
9,687,639 |
|
|
|
9,386,328 |
|
Unearned premiums |
|
|
9,725,766 |
|
|
|
30,763,181 |
|
Premiums receivable |
|
|
(5,052,587 |
) |
|
|
(8,147,710 |
) |
Deferred acquisition costs |
|
|
(1,164,877 |
) |
|
|
(3,851,681 |
) |
Deferred income taxes |
|
|
78,709 |
|
|
|
(701,953 |
) |
Reinsurance receivable |
|
|
(5,047,189 |
) |
|
|
(586,129 |
) |
Prepaid reinsurance premiums |
|
|
(4,031,695 |
) |
|
|
(5,936,729 |
) |
Accrued investment income |
|
|
6,518 |
|
|
|
(493,151 |
) |
Due to affiliate |
|
|
(2,392,632 |
) |
|
|
(1,198,964 |
) |
Reinsurance balances payable |
|
|
2,051,245 |
|
|
|
(40,438 |
) |
Current income taxes |
|
|
2,451,699 |
|
|
|
(2,617,818 |
) |
Accrued expenses |
|
|
(4,220,349 |
) |
|
|
(1,574,972 |
) |
Other, net |
|
|
384,493 |
|
|
|
701,116 |
|
|
|
|
|
|
|
|
Net adjustments |
|
|
3,094,956 |
|
|
|
16,881,615 |
|
|
|
|
|
|
|
|
Net cash provided by operating activities |
|
|
7,652,384 |
|
|
|
29,758,875 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash Flows from Investing Activities: |
|
|
|
|
|
|
|
|
Purchases of fixed maturities: |
|
|
|
|
|
|
|
|
Available for sale |
|
|
(72,564,308 |
) |
|
|
(140,777,988 |
) |
Purchases of equity securities, available for sale |
|
|
(13,404,392 |
) |
|
|
(6,719,729 |
) |
Maturity of fixed maturities: |
|
|
|
|
|
|
|
|
Held to maturity |
|
|
18,252,970 |
|
|
|
41,489,000 |
|
Available for sale |
|
|
22,158,494 |
|
|
|
28,598,054 |
|
Sales of fixed maturities: |
|
|
|
|
|
|
|
|
Available for sale |
|
|
10,037,415 |
|
|
|
13,063,738 |
|
Sales of equity securities, available for sale |
|
|
13,070,887 |
|
|
|
7,568,765 |
|
Payments to Sheboygan policyholders |
|
|
(5,556,650 |
) |
|
|
|
|
Net increase in investment in affiliates |
|
|
(92,691 |
) |
|
|
(37,328 |
) |
Net purchases of property and equipment |
|
|
(666,968 |
) |
|
|
(724,741 |
) |
Net sale of short-term investments |
|
|
31,642,178 |
|
|
|
31,964,272 |
|
|
|
|
|
|
|
|
Net cash provided by (used in) investing activities |
|
|
2,876,935 |
|
|
|
(25,575,957 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash Flows from Financing Activities: |
|
|
|
|
|
|
|
|
Cash dividends paid |
|
|
(5,400,717 |
) |
|
|
(4,816,311 |
) |
Issuance of common stock |
|
|
720,816 |
|
|
|
2,257,420 |
|
Purchase of treasury stock |
|
|
(198,879 |
) |
|
|
(2,377,464 |
) |
Tax benefit on exercise of stock options |
|
|
|
|
|
|
631,757 |
|
|
|
|
|
|
|
|
Net cash used in financing activities |
|
|
(4,878,780 |
) |
|
|
(4,304,598 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase (decrease) in cash |
|
|
5,650,539 |
|
|
|
(121,680 |
) |
Cash at beginning of period |
|
|
1,830,954 |
|
|
|
4,289,365 |
|
|
|
|
|
|
|
|
Cash at end of period |
|
$ |
7,481,493 |
|
|
$ |
4,167,685 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash paid during period Interest |
|
$ |
481,430 |
|
|
$ |
1,247,307 |
|
Net cash (recovered) paid during period Taxes |
|
$ |
(1,751,090 |
) |
|
$ |
6,125,000 |
|
See accompanying notes to consolidated financial statements.
5
DONEGAL GROUP INC. AND SUBSIDIARIES
(Unaudited)
Notes to Consolidated Financial Statements
1 Organization
Donegal Mutual Insurance Company (Donegal Mutual) organized us as a downstream insurance
holding company on August 26, 1986. Our six insurance subsidiaries and Donegal Mutual conduct
business as the Donegal Insurance Group. The Donegal Insurance Group writes personal and commercial
lines of property and casualty insurance exclusively through a network of independent insurance
agents in 18 Mid-Atlantic, Midwest and Southern states. The personal lines products consist
primarily of homeowners and private passenger automobile policies. The commercial lines products
consist primarily of commercial automobile, commercial multi-peril and workers compensation
policies.
Our insurance subsidiaries are Atlantic States Insurance Company (Atlantic States), Southern
Insurance Company of Virginia (Southern), Le Mars Insurance Company (Le Mars), the Peninsula
Insurance Group (Peninsula) which consists of Peninsula Indemnity Company and The Peninsula
Insurance Company, and Sheboygan Falls Insurance Company (Sheboygan). We also own approximately
48% of the outstanding stock of Donegal Financial Services Corporation (DFSC), a thrift holding
company that owns Province Bank FSB. Donegal Mutual owns the remaining approximately 52% of the
outstanding stock of DFSC.
At June 30, 2009, Donegal Mutual held approximately 42% of our outstanding Class A common
stock and approximately 75% of our outstanding Class B common stock.
Atlantic States and Donegal Mutual are parties to a pooling agreement under which each company
places all of its direct written business in the pool and both companies proportionately share the
underwriting results of the pool, excluding certain reinsurance assumed by Donegal Mutual from our
five other insurance subsidiaries. From July 1, 2000 through February 29, 2008, Atlantic States
had a 70% share of the results of the pool, and Donegal Mutual had a 30% share of the results of
the pool. Effective March 1, 2008, Donegal Mutual and Atlantic States amended the pooling
agreement to increase Atlantic States share of the results of the pool to 80% and to decrease
Donegal Mutuals share of the pool to 20%. In connection with this amendment to the pooling
agreement, Donegal Mutual transferred approximately $11.9 million in cash and net liabilities to
Atlantic States. See Note 4 Reinsurance for more information regarding the pooling agreement.
On March 7, 2007, our board of directors authorized a share repurchase program, pursuant to
which we may purchase up to 500,000 shares of our Class A common stock at prices prevailing from
time to time in the open market subject to the provisions of Securities and Exchange Commission
(SEC) Rule 10b-18 and in privately negotiated transactions. We purchased 11,000 and 52,031 shares
of our Class A common stock under this program during the three months ended June 30, 2009 and
2008, respectively. We purchased 14,000 and 140,243 shares of our Class A common stock under this
program during the six months ended June 30, 2009 and 2008, respectively. We have purchased a total
of 494,769 shares of our Class A common stock under this program through June 30, 2009.
In June 2007, Donegal Mutual consummated an affiliation with Sheboygan. As part of the
affiliation, Donegal Mutual made a $3.5 million contribution note investment in Sheboygan.
During 2008, Sheboygans board of directors adopted a plan of conversion to convert to a stock
insurance company. Following policyholder and regulatory approval of the plan of conversion, we
acquired Sheboygan as of December 1, 2008 for approximately $12.0 million in cash, including
payment of the contribution note and accrued interest to Donegal Mutual. Sheboygans results of
operations have been included in our consolidated results since December 1, 2008.
On February 23, 2009, our board of directors authorized a share repurchase program, pursuant
to which we may purchase up to 300,000 shares of our Class A common stock at prices prevailing
from time to time in the open market subject to the provisions of 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 the six months ended June 30, 2009.
6
2 Basis of Presentation
Our financial information for the interim periods included in this Form 10-Q Report is
unaudited; however, such information reflects all adjustments, consisting only of normal recurring
adjustments that, in the opinion of our management, are necessary for a fair presentation of our
financial position, results of operations and cash flows for the interim periods included in this
Form 10-Q Report. Our results of operations for the six months ended June 30, 2009 are not
necessarily indicative of the results of operations we expect for the year ending December 31,
2009.
You should read these interim financial statements in conjunction with the financial
statements and notes thereto contained in our Annual Report on Form 10-K for the year ended
December 31, 2008. As indicated in Note 22 to our financial statements included in our Annual
Report on Form 10-K for the year ended December 31, 2008, we discovered an immaterial error in the
amount recorded for losses and loss expenses incurred for the second quarter of 2008. We adjusted
our 2008 financial information included in this Form 10-Q Report to correct this error.
3 Earnings Per Share
We have two classes of common stock, which we refer to as our Class A common stock and our
Class B common stock. Our certificate of incorporation provides that whenever our board of
directors declares a dividend on our Class B common stock, our board of directors must also declare
a dividend on our Class A common stock that is payable at the same time to holders as of the same
record date at a rate that is at least 10% greater than the rate at which our board of directors
declared the dividend on our Class B common stock. Accordingly, we use the two-class method to
compute our earnings per common share pursuant to Statement of Financial Accounting Standards
(SFAS) No. 128, Earnings Per Share. The two-class method is an earnings allocation formula that
determines earnings per share separately for each class of common stock based on dividends declared
and an allocation of the remaining undistributed earnings using a participation percentage that
reflects the dividend rights of each class. The table below presents a reconciliation of the
numerators and denominators we use to compute basic and diluted net income per share for each class
of stock:
For the Three Months Ended June 30:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands, except per share data) |
|
|
|
2009 |
|
|
2008 |
|
|
|
Class A |
|
|
Class B |
|
|
Class A |
|
|
Class B |
|
Basic net income per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allocation of net income |
|
$ |
3,507 |
|
|
$ |
881 |
|
|
$ |
5,048 |
|
|
$ |
1,270 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average shares outstanding |
|
|
19,898,680 |
|
|
|
5,576,775 |
|
|
|
19,879,304 |
|
|
|
5,576,775 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic net income per share |
|
$ |
0.18 |
|
|
$ |
0.16 |
|
|
$ |
0.25 |
|
|
$ |
0.23 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted net income per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allocation of net income |
|
$ |
3,507 |
|
|
$ |
881 |
|
|
$ |
5,048 |
|
|
$ |
1,270 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of shares used in basic computation |
|
|
19,898,680 |
|
|
|
5,576,775 |
|
|
|
19,879,304 |
|
|
|
5,576,775 |
|
Weighted-average effect of dilutive securities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Director and employee stock options |
|
|
|
|
|
|
|
|
|
|
77,297 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of shares used in per share
computations |
|
|
19,898,680 |
|
|
|
5,576,775 |
|
|
|
19,956,601 |
|
|
|
5,576,775 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted net income per share |
|
$ |
0.18 |
|
|
$ |
0.16 |
|
|
$ |
0.25 |
|
|
$ |
0.23 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
7
For the
Six Months Ended June 30:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands, except per share data) |
|
|
|
2009 |
|
|
2008 |
|
|
|
Class A |
|
|
Class B |
|
|
Class A |
|
|
Class B |
|
Basic net income per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allocation of net income |
|
$ |
3,642 |
|
|
$ |
915 |
|
|
$ |
10,270 |
|
|
$ |
2,607 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average shares outstanding |
|
|
19,891,096 |
|
|
|
5,576,775 |
|
|
|
19,833,576 |
|
|
|
5,576,775 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic net income per share |
|
$ |
0.18 |
|
|
$ |
0.16 |
|
|
$ |
0.52 |
|
|
$ |
0.47 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted net income per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allocation of net income |
|
$ |
3,642 |
|
|
$ |
915 |
|
|
$ |
10,270 |
|
|
$ |
2,607 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of shares used in basic computation |
|
|
19,891,096 |
|
|
|
5,576,775 |
|
|
|
19,833,576 |
|
|
|
5,576,775 |
|
Weighted-average effect of dilutive securities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Director and employee stock options |
|
|
|
|
|
|
|
|
|
|
110,064 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of shares used in per share
computations |
|
|
19,891,096 |
|
|
|
5,576,775 |
|
|
|
19,943,640 |
|
|
|
5,576,775 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted net income per share |
|
$ |
0.18 |
|
|
$ |
0.16 |
|
|
$ |
0.52 |
|
|
$ |
0.47 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We did not include options to purchase the following number of shares of Class A common stock
in our computation of diluted earnings per share because the exercise price of the options was
greater than the average market price during the relevant period:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Six Months Ended |
|
|
June 30, |
|
June 30, |
|
|
2009 |
|
2008 |
|
2009 |
|
2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of shares |
|
|
3,413,932 |
|
|
|
1,025,500 |
|
|
|
3,423,432 |
|
|
|
1,032,667 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4 Reinsurance
Atlantic States has participated in a pooling agreement with Donegal Mutual since 1986 under
which each company places all of its direct written business into the pool, and Atlantic States and
Donegal Mutual then share the underwriting results of the pool in accordance with the terms of the
pooling agreement. From July 1, 2000 through February 29, 2008, Atlantic States had a 70% share of
the results of the pool, and Donegal Mutual had a 30% share of the results of the pool. Effective
March 1, 2008, Donegal Mutual and Atlantic States amended the pooling agreement to increase
Atlantic States share of the results of the pool to 80%. Donegal Mutual transferred approximately
$11.9 million of cash and net liabilities to Atlantic States in connection with this amendment to
the pooling agreement as of March 1, 2008 as follows:
|
|
|
|
|
|
|
(in thousands) |
|
|
Unearned premiums (net of reinsurance) |
|
$ |
13,626 |
|
Less: Ceding commissions |
|
|
(1,709 |
) |
|
|
|
|
|
|
|
|
|
Net liabilities transferred |
|
$ |
11,917 |
|
|
|
|
|
Atlantic States, Southern and Donegal Mutual purchase third-party reinsurance on a combined
basis. Le Mars, Peninsula and Sheboygan have separate third-party reinsurance programs that
provide similar types of coverage and that are commensurate with their relative size and risk
exposures. Our insurance subsidiaries place reinsurance with various reinsurers, all of which,
consistent with Donegal Insurance Groups requirements, have an A.M. Best rating of A- (Excellent)
or better or, with respect to foreign reinsurers, have a financial condition that, in the opinion
of our management, is equivalent to a company with at least an A- rating. The following
information relates to the external reinsurance Atlantic States, Southern and Donegal Mutual have
in place during 2009 and 2008:
8
|
|
|
excess of loss reinsurance, under which losses are automatically reinsured,
through a series of reinsurance agreements, over a set retention ($750,000 and
$600,000 for 2009 and 2008, respectively), and |
|
|
|
|
catastrophe reinsurance, under which Donegal Mutual, Atlantic States and Southern
recover, through a series of reinsurance agreements, 100% of an accumulation of many
losses resulting from a single event, including natural disasters, over a set
retention ($3.0 million for 2009 and 2008). |
Our insurance subsidiaries and Donegal Mutual also purchase facultative reinsurance to cover
exposures from losses that exceed the limits provided by their reinsurance agreements with third
parties.
In addition to the pooling agreement and third-party reinsurance, our insurance subsidiaries
have various reinsurance agreements with Donegal Mutual.
We renewed our 2009 reinsurance program at rates comparable to 2008, largely attributable to
our decision to increase our excess of loss reinsurance retention from $600,000 to $750,000
effective January 1, 2009. We made no other significant changes to our third-party reinsurance or
other reinsurance agreements between our insurance subsidiaries and Donegal Mutual during the six
months ended June 30, 2009.
5 Investments
The amortized cost and estimated fair values of our fixed maturities and equity securities at
June 30, 2009 are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
Gross |
|
|
Estimated |
|
|
|
Amortized |
|
|
Unrealized |
|
|
Unrealized |
|
|
Fair |
|
|
|
Cost |
|
|
Gains |
|
|
Losses |
|
|
Value |
|
|
|
(in thousands) |
|
Held to Maturity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Treasury securities and obligations of
U.S. government corporations and agencies |
|
$ |
2,000 |
|
|
$ |
99 |
|
|
$ |
|
|
|
$ |
2,099 |
|
Obligations of states and political subdivisions |
|
|
66,063 |
|
|
|
2,116 |
|
|
|
149 |
|
|
|
68,030 |
|
Corporate securities |
|
|
8,342 |
|
|
|
40 |
|
|
|
98 |
|
|
|
8,284 |
|
Residential mortgage-backed securities |
|
|
4,962 |
|
|
|
88 |
|
|
|
|
|
|
|
5,050 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Totals |
|
$ |
81,367 |
|
|
$ |
2,343 |
|
|
$ |
247 |
|
|
$ |
83,463 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
Gross |
|
|
Estimated |
|
|
|
Amortized |
|
|
Unrealized |
|
|
Unrealized |
|
|
Fair |
|
|
|
Cost |
|
|
Gains |
|
|
Losses |
|
|
Value |
|
|
|
(in thousands) |
|
Available for Sale |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Treasury securities and obligations of
U.S. government corporations and agencies |
|
$ |
17,667 |
|
|
$ |
113 |
|
|
$ |
442 |
|
|
$ |
17,338 |
|
Obligations of states and political subdivisions |
|
|
363,867 |
|
|
|
8,113 |
|
|
|
4,782 |
|
|
|
367,198 |
|
Corporate securities |
|
|
28,625 |
|
|
|
578 |
|
|
|
260 |
|
|
|
28,943 |
|
Residential mortgage-backed securities |
|
|
78,593 |
|
|
|
2,304 |
|
|
|
71 |
|
|
|
80,826 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturities |
|
|
488,752 |
|
|
|
11,108 |
|
|
|
5,555 |
|
|
|
494,305 |
|
Equity securities |
|
|
3,398 |
|
|
|
2,976 |
|
|
|
479 |
|
|
|
5,895 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Totals |
|
$ |
492,150 |
|
|
$ |
14,084 |
|
|
$ |
6,034 |
|
|
$ |
500,200 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9
The amortized cost and estimated fair values of our fixed maturities and equity securities at
December 31, 2008 are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
Gross |
|
|
Estimated |
|
|
|
Amortized |
|
|
Unrealized |
|
|
Unrealized |
|
|
Fair |
|
|
|
Cost |
|
|
Gains |
|
|
Losses |
|
|
Value |
|
|
|
(in thousands) |
|
Held to Maturity |
|
|
|
U.S. Treasury securities and obligations of
U.S. government corporations and agencies |
|
$ |
8,517 |
|
|
$ |
176 |
|
|
$ |
|
|
|
$ |
8,693 |
|
Obligations of states and political subdivisions |
|
|
76,451 |
|
|
|
1,955 |
|
|
|
231 |
|
|
|
78,175 |
|
Corporate securities |
|
|
8,342 |
|
|
|
57 |
|
|
|
392 |
|
|
|
8,007 |
|
Residential mortgage-backed securities |
|
|
6,568 |
|
|
|
35 |
|
|
|
29 |
|
|
|
6,574 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Totals |
|
$ |
99,878 |
|
|
$ |
2,223 |
|
|
$ |
652 |
|
|
$ |
101,449 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
Gross |
|
|
Estimated |
|
|
|
Amortized |
|
|
Unrealized |
|
|
Unrealized |
|
|
Fair |
|
|
|
Cost |
|
|
Gains |
|
|
Losses |
|
|
Value |
|
|
|
(in thousands) |
|
Available for Sale |
|
|
|
U.S. Treasury securities and obligations of
U.S. government corporations and agencies |
|
$ |
6,526 |
|
|
$ |
105 |
|
|
$ |
|
|
|
$ |
6,631 |
|
Obligations of states and political subdivisions |
|
|
341,663 |
|
|
|
5,321 |
|
|
|
9,981 |
|
|
|
337,003 |
|
Corporate securities |
|
|
24,518 |
|
|
|
208 |
|
|
|
790 |
|
|
|
23,936 |
|
Residential mortgage-backed securities |
|
|
76,304 |
|
|
|
1,960 |
|
|
|
18 |
|
|
|
78,246 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturities |
|
|
449,011 |
|
|
|
7,594 |
|
|
|
10,789 |
|
|
|
445,816 |
|
Equity securities |
|
|
2,939 |
|
|
|
3,015 |
|
|
|
59 |
|
|
|
5,895 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Totals |
|
$ |
451,950 |
|
|
$ |
10,609 |
|
|
$ |
10,848 |
|
|
$ |
451,711 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The amortized cost and estimated fair value of our fixed maturities at June 30, 2009, by
contractual maturity, are shown below. Expected maturities may differ from contractual maturities
because borrowers may have the right to call or prepay obligations with or without call or
prepayment penalties.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Estimated |
|
|
|
Amortized |
|
|
Fair |
|
|
|
Cost |
|
|
Value |
|
|
|
(in thousands) |
|
Held to maturity |
|
|
|
|
|
|
|
|
Due in one year or less |
|
$ |
6,601 |
|
|
$ |
6,587 |
|
Due after one year through five years |
|
|
6,017 |
|
|
|
6,130 |
|
Due after five years through ten years |
|
|
60,427 |
|
|
|
62,350 |
|
Due after ten years |
|
|
3,360 |
|
|
|
3,346 |
|
Residential mortgage-backed securities |
|
|
4,962 |
|
|
|
5,050 |
|
|
|
|
|
|
|
|
Total held to maturity |
|
$ |
81,367 |
|
|
$ |
83,463 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Available for sale |
|
|
|
|
|
|
|
|
Due in one year or less |
|
$ |
14,389 |
|
|
$ |
14,604 |
|
Due after one year through five years |
|
|
77,294 |
|
|
|
79,578 |
|
Due after five years through ten years |
|
|
116,297 |
|
|
|
118,493 |
|
Due after ten years |
|
|
202,179 |
|
|
|
200,804 |
|
Residential mortgage-backed securities |
|
|
78,593 |
|
|
|
80,826 |
|
|
|
|
|
|
|
|
Total available for sale |
|
$ |
488,752 |
|
|
$ |
494,305 |
|
|
|
|
|
|
|
|
10
Gross realized gains and losses from investments before applicable income taxes are as follows:
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
|
|
June 30, |
|
|
|
2009 |
|
|
2008 |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
Gross realized gains: |
|
|
|
|
|
|
|
|
Fixed maturities |
|
$ |
133 |
|
|
$ |
651 |
|
Equity securities |
|
|
619 |
|
|
|
337 |
|
|
|
|
|
|
|
|
|
|
$ |
752 |
|
|
$ |
988 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross realized losses: |
|
|
|
|
|
|
|
|
Fixed maturities |
|
$ |
1 |
|
|
$ |
|
|
Equity securities |
|
|
47 |
|
|
|
966 |
|
|
|
|
|
|
|
|
|
|
|
48 |
|
|
|
966 |
|
|
|
|
|
|
|
|
Net realized gains (losses) |
|
$ |
704 |
|
|
$ |
22 |
|
|
|
|
|
|
|
|
We held fixed maturities and equity securities with unrealized losses representing declines
that we considered temporary at June 30, 2009 as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less than 12 months |
|
|
12 months or longer |
|
|
|
Fair |
|
|
Unrealized |
|
|
Fair |
|
|
Unrealized |
|
|
|
Value |
|
|
Losses |
|
|
Value |
|
|
Losses |
|
|
|
(in thousands) |
|
U.S. Treasury securities and obligations of
U.S. government
corporations and
agencies |
|
$ |
11,178 |
|
|
$ |
442 |
|
|
$ |
|
|
|
$ |
|
|
Obligations of states and political subdivisions |
|
|
88,902 |
|
|
|
3,070 |
|
|
|
52,930 |
|
|
|
1,862 |
|
Corporate securities |
|
|
6,175 |
|
|
|
169 |
|
|
|
2,074 |
|
|
|
188 |
|
Residential mortgage-backed securities |
|
|
5,173 |
|
|
|
65 |
|
|
|
537 |
|
|
|
6 |
|
Equity securities |
|
|
1,563 |
|
|
|
479 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
112,991 |
|
|
$ |
4,225 |
|
|
$ |
55,541 |
|
|
$ |
2,056 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We held fixed maturities and equity securities with unrealized losses representing declines
that we considered temporary at December 31, 2008 as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less than 12 months |
|
|
12 months or longer |
|
|
|
Fair |
|
|
Unrealized |
|
|
Fair |
|
|
Unrealized |
|
|
|
Value |
|
|
Losses |
|
|
Value |
|
|
Losses |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Obligations of states and political subdivisions |
|
$ |
117,360 |
|
|
$ |
6,881 |
|
|
$ |
65,627 |
|
|
$ |
3,331 |
|
Corporate securities |
|
|
16,781 |
|
|
|
449 |
|
|
|
2,536 |
|
|
|
733 |
|
Residential mortgage-backed securities |
|
|
2,925 |
|
|
|
24 |
|
|
|
2,929 |
|
|
|
23 |
|
Equity securities |
|
|
484 |
|
|
|
59 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
137,550 |
|
|
$ |
7,413 |
|
|
$ |
71,092 |
|
|
$ |
4,087 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Of our total fixed maturity securities with an unrealized loss at June 30, 2009, we classified
135 securities with a fair value of $154.0 million and an unrealized loss of $5.6 million as
available-for-sale and carried them at fair value on our balance sheet, while we classified 11
securities with a fair value of $12.9 million and an unrealized loss of $246,568 as
held-to-maturity on our balance sheet and carried them at amortized cost.
Of our total fixed maturity securities with an unrealized loss at December 31, 2008, we
classified 179 securities with a fair value of $184.1 million and an unrealized loss of $10.8
million as available-for-sale and carried them at fair value on our balance sheet, while we
classified 23 securities with a fair value of $24.1 million and an unrealized loss of $652,450 as
held-to-maturity on our balance sheet and carried them at amortized cost.
We have no direct exposure to sub-prime residential mortgage-backed securities and hold no
collateralized debt obligations. Substantially all of the unrealized losses in our fixed maturity
investment
11
portfolio have resulted from general market conditions and the related impact on our
fixed maturity investment valuations. We make estimates concerning the valuation of our investments
and the recognition
of other-than-temporary declines in the value of our investments. For equity securities, when we
consider the decline in value of an individual investment to be other than temporary, we write the
investment down to its fair value, and we reflect the amount of the write-down as a realized loss
in our results of operations. We individually monitor all investments for other-than-temporary
declines in value. Generally, if an individual equity security has depreciated in value by more
than 20% of original cost, and has been in such an unrealized loss position for more than six
months, we assume there has been an other-than-temporary decline in value. We held three equity
securities that were in an unrealized loss position at June 30, 2009. Based upon our analysis of
general market conditions and underlying factors impacting these equity securities, we consider
these declines in value to be temporary. With respect to a debt security that is in an unrealized
loss position, we first assess if we intend to sell the debt security. If we intend to sell the
debt security, we recognize the impairment loss in our results of operations. If we do not intend
to sell the debt security, we determine whether it is more likely than not that we will be required
to sell the security prior to recovery. If it is more likely than not that we will be required to
sell the debt security prior to recovery, we recognize an impairment loss in our results of
operations. If it is more likely than not that we will not be required to sell the debt security
prior to recovery, we then evaluate whether a credit loss has occurred. To determine whether a
credit loss has occurred, we compare the amortized cost of the debt security to the present value
of the cash flows we expect to collect. If we expect a cash flow shortfall, we consider a credit
loss to have occurred. If we consider a credit loss to have occurred, we consider the impairment to
be other than temporary. We then recognize the amount of the impairment loss related to the credit
loss in our results of operations, and we recognize the remaining portion of the impairment loss in
our other comprehensive income, net of applicable taxes. In addition, we may write down securities
in an unrealized loss position based on a number of other factors, including the fair value of the
investment being significantly below its cost, whether the financial condition of the issuer of a
security is deteriorating, the occurrence of industry, company and geographic events that have
negatively impacted the value of a security and rating agency downgrades. We determined that no
investments trading below cost had declined on an other-than-temporary basis during the first six
months of 2009. We determined that certain investments trading below cost had declined on an
other-than-temporary basis and included losses of $851,085 in our results of operations for these
investments during the first six months of 2008.
We amortize premiums and discounts on debt securities over the life of the security as an
adjustment to yield using the effective interest method. We compute realized investment gains and
losses using the specific identification method.
We amortize premiums and discounts for mortgage-backed debt securities using anticipated
prepayments.
We account for investments in affiliates using the equity method of accounting in accordance
with Accounting Principles Board (APB) Opinion No. 18, The Equity Method of Accounting for
Investments in Common Stock. Under the equity method, we record our investment at cost, with
adjustments for our share of affiliate earnings and losses as well as changes in affiliate equity
due to unrealized gains and losses.
12
6 Segment Information
We evaluate the performance of our personal lines and commercial lines segments based upon the
underwriting results of our insurance subsidiaries as determined under statutory accounting
principles prescribed or permitted by various state insurance departments (SAP). Our management
uses SAP to
measure the performance of our insurance subsidiaries instead of United States generally accepted
accounting principles (GAAP). Financial data by segment is as follows:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
June 30, |
|
|
|
2009 |
|
|
2008 |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
Revenues: |
|
|
|
|
|
|
|
|
Premiums earned: |
|
|
|
|
|
|
|
|
Commercial lines |
|
$ |
28,065 |
|
|
$ |
30,988 |
|
Personal lines |
|
|
59,604 |
|
|
|
56,341 |
|
|
|
|
|
|
|
|
Net premiums earned |
|
|
87,669 |
|
|
|
87,329 |
|
GAAP adjustments |
|
|
(129 |
) |
|
|
|
|
|
|
|
|
|
|
|
GAAP premiums earned |
|
|
87,540 |
|
|
|
87,329 |
|
Net investment income |
|
|
5,266 |
|
|
|
5,794 |
|
Realized investment gains (losses) |
|
|
445 |
|
|
|
(674 |
) |
Other |
|
|
1,544 |
|
|
|
1,522 |
|
|
|
|
|
|
|
|
Total revenues |
|
$ |
94,795 |
|
|
$ |
93,971 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income taxes: |
|
|
|
|
|
|
|
|
Underwriting income (loss): |
|
|
|
|
|
|
|
|
Commercial lines |
|
$ |
1,603 |
|
|
$ |
3,343 |
|
Personal lines |
|
|
(4,362 |
) |
|
|
(2,633 |
) |
|
|
|
|
|
|
|
SAP underwriting income (loss) |
|
|
(2,759 |
) |
|
|
710 |
|
GAAP adjustments |
|
|
1,143 |
|
|
|
1,398 |
|
|
|
|
|
|
|
|
GAAP underwriting income (loss) |
|
|
(1,616 |
) |
|
|
2,108 |
|
Net investment income |
|
|
5,266 |
|
|
|
5,794 |
|
Realized investment gains (losses) |
|
|
445 |
|
|
|
(674 |
) |
Other |
|
|
1,039 |
|
|
|
590 |
|
|
|
|
|
|
|
|
Income before income taxes |
|
$ |
5,134 |
|
|
$ |
7,818 |
|
|
|
|
|
|
|
|
13
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
|
|
June 30, |
|
|
|
2009 |
|
|
2008 |
|
|
|
(in thousands) |
|
|
Revenues: |
|
|
|
|
|
|
|
|
Premiums earned: |
|
|
|
|
|
|
|
|
Commercial lines |
|
$ |
57,324 |
|
|
$ |
59,836 |
|
Personal lines |
|
|
119,011 |
|
|
|
109,501 |
|
|
|
|
|
|
|
|
Net premiums earned |
|
|
176,335 |
|
|
|
169,337 |
|
GAAP adjustments |
|
|
(445 |
) |
|
|
|
|
|
|
|
|
|
|
|
GAAP premiums earned |
|
|
175,890 |
|
|
|
169,337 |
|
Net investment income |
|
|
10,624 |
|
|
|
11,486 |
|
Realized investment gains |
|
|
704 |
|
|
|
22 |
|
Other |
|
|
3,064 |
|
|
|
2,918 |
|
|
|
|
|
|
|
|
Total revenues |
|
$ |
190,282 |
|
|
$ |
183,763 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income taxes: |
|
|
|
|
|
|
|
|
Underwriting income (loss): |
|
|
|
|
|
|
|
|
Commercial lines |
|
$ |
2,021 |
|
|
$ |
6,459 |
|
Personal lines |
|
|
(10,229 |
) |
|
|
(7,065 |
) |
|
|
|
|
|
|
|
SAP underwriting loss |
|
|
(8,208 |
) |
|
|
(606 |
) |
GAAP adjustments (1) |
|
|
1,339 |
|
|
|
4,544 |
|
|
|
|
|
|
|
|
GAAP underwriting income (loss) |
|
|
(6,869 |
) |
|
|
3,938 |
|
Net investment income |
|
|
10,624 |
|
|
|
11,486 |
|
Realized investment gains |
|
|
704 |
|
|
|
22 |
|
Other |
|
|
887 |
|
|
|
875 |
|
|
|
|
|
|
|
|
Income before income taxes |
|
$ |
5,346 |
|
|
$ |
16,321 |
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
GAAP adjustments for the six months ended June 30, 2008 included an increase in deferred
acquisition costs, which offset the ceding commissions that we included in the transfer of net
liabilities from Donegal Mutual discussed in Note 4 Reinsurance. |
7 Subordinated Debentures
On October 29, 2003, we received $10.0 million in net proceeds from the issuance of
subordinated debentures. The debentures mature on October 29, 2033 and are callable at our option,
at par, after October 29, 2008. The debentures carry an interest rate equal to the three-month
LIBOR rate plus 3.85%, which is adjustable quarterly. At June 30, 2009, the interest rate on the
debentures was 4.90%.
On May 24, 2004, we received $5.0 million in net proceeds from the issuance of subordinated
debentures. The debentures mature on May 24, 2034 and are callable at our option, at par, after
May 24, 2009. The debentures carry an interest rate equal to the three-month LIBOR rate plus
3.85%, which is adjustable quarterly. At June 30, 2009, the interest rate on the debentures was
4.51%.
8 ShareBased Compensation
Effective January 1, 2006, we adopted SFAS No. 123(R), Share-Based Payment which requires
the measurement of all share-based payments to employees, including grants of stock options, using
a fair-value-based method and the recording of such expense in our consolidated statements of
income. In determining the expense we recorded for stock options granted to directors and employees
of our subsidiaries and affiliates other than Donegal Mutual, the fair value of each option award
is estimated on the date of grant using the Black-Scholes option pricing model. The significant
assumptions we utilized in applying the Black-Scholes option pricing model are the risk-free
interest rate, expected term, dividend yield and expected volatility.
14
Under SFAS No. 123(R), the compensation expense for our stock compensation plans that we
charged against income before income taxes was $48,691 and $43,070 for the three months ended June
30, 2009 and 2008, respectively, with a corresponding income tax benefit of $17,042 and $15,075,
respectively. The compensation expense for our stock compensation plans that we charged against
income before income taxes was $110,391 and $86,696 for the six months ended June 30, 2009 and
2008, respectively, with a corresponding income tax benefit of $38,637 and $30,344, respectively.
As of June 30, 2009, our total unrecognized compensation cost related to nonvested share-based
compensation granted under our stock compensation plans was $133,521. We expect to recognize this
cost over a weighted average period of 2.6 years.
SFAS No. 123(R) does not establish accounting requirements for share-based compensation to
nonemployees. We continue to account for share-based compensation to employees and directors of
Donegal Mutual under the provisions of FIN No. 44 and EITF 00-23, which state that when we grant
share-based compensation to employees of a controlling entity, we should measure the fair value of
the award at the grant date and recognize the fair value as a dividend to the controlling entity.
These provisions apply to options we granted to employees and directors of Donegal Mutual, the
employer of a majority of the employees that provide services to us. We recorded implied dividends
of $5,298 and $0 for the three months ended June 30, 2009 and 2008, respectively. We recorded
implied dividends of $32,923 and $39,964 for the six months ended June 30, 2009 and 2008,
respectively.
We received cash from option exercises under all stock compensation plans for the three months
ended June 30, 2009 and 2008 of $0 and $104,845, respectively. We realized tax benefits for the tax
deductions from option exercises of share-based compensation of $0 and $6,824 for the three months
ended June 30, 2009 and 2008, respectively. We received cash from option exercises under all stock
compensation plans for the six months ended June 30, 2009 and 2008 of $0 and $1,449,643,
respectively. We realized tax benefits for the tax deductions from option exercises of share-based
compensation of $0 and $631,757 for the six months ended June 30, 2009 and 2008, respectively.
9 Fair Value Measurements
As of January 1, 2008, we adopted SFAS No. 157, Fair Value Measurements, which defines fair
value, establishes a framework for measuring fair value under GAAP and requires expanded
disclosures about fair value measurements. SFAS No. 157 establishes a hierarchy that ranks the
quality and reliability of inputs, or assumptions, used in the determination of fair value and
requires financial assets and liabilities carried at fair value to be classified and disclosed in
one of the following three categories:
Level 1 quoted prices in active markets for identical assets and liabilities;
Level 2 directly or indirectly observable inputs other than Level 1 quoted prices; and
Level 3 unobservable inputs not corroborated by market data.
For investments that have quoted market prices in active markets, we use the quoted market
price as fair value and include these investments in Level 1 of the fair value hierarchy. We
classify publicly traded equity securities as Level 1. When quoted market prices in active markets
are not available, we base fair values on quoted market prices of comparable instruments or broker
quotes we obtain from independent pricing services through a bank trustee. We classify our fixed
maturity investments as Level 2. Our fixed maturity investments consist of U.S. Treasury securities
and obligations of U.S, government corporations and agencies, obligations of states and political
subdivisions, corporate securities and residential mortgage-backed securities. We had no
investments classified as Level 3 at June 30, 2009.
We present our investments in available-for-sale fixed maturity and equity securities at
estimated fair value. The estimated fair value of a security may differ from the amount that could
be realized if the security was sold in a forced transaction. In addition, the valuation of fixed
maturity investments is more subjective when markets are less liquid, increasing the potential that
the estimated fair value does not reflect the price at which an actual transaction would occur. We
utilize nationally recognized independent pricing services to estimate fair values for our fixed
maturity and equity investments. We generally obtain one price per security. The pricing services
utilize market quotations for fixed maturity and equity securities that have quoted prices in
active markets. For fixed maturity securities that generally do not trade on a daily basis, the
pricing services prepare estimates of fair value measurements using proprietary pricing
applications, which include available relevant market information, benchmark yields, sector curves
and matrix pricing. The pricing services do not use broker quotes in determining the fair values
of our investments. We review the
15
estimates of fair value provided by the pricing services to
determine if the estimates obtained are representative of market prices based upon our general
knowledge of the market, our research findings related to unusual fluctuations in value and our
comparison of such values to execution prices for similar securities. As of June 30, 2009 and
2008, we received one estimate per security from one of the pricing services and we priced all but
an insignificant amount of our fixed maturity and equity investments using those prices. In our
review of the estimates provided by the pricing services as of June 30, 2009 and December 31, 2008,
we did not identify any discrepancies and we did not make any adjustments to the estimates the
pricing services provided.
We present our cash and short-term investments at estimated fair value. The carrying value in
the balance sheet for premium and reinsurance receivables and payables approximate their fair
values. The
carrying amounts reported in the balance sheet for our subordinated debentures approximate their
fair values due to their variable rate nature.
We evaluate assets and liabilities on a recurring basis to determine the appropriate level at
which to classify them for each reporting period. The following table presents our fair value
measurements for our investments in available-for-sale fixed maturity and equity securities as of
June 30, 2009:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements Using |
|
|
|
|
|
|
|
Quoted Prices in |
|
|
|
|
|
|
|
|
|
|
|
|
|
Active Markets for |
|
|
Significant Other |
|
|
Significant |
|
|
|
|
|
|
|
Identical Assets |
|
|
Observable Inputs |
|
|
Unobservable Inputs |
|
|
|
Fair Value |
|
|
(Level 1) |
|
|
(Level 2) |
|
|
(Level 3) |
|
|
|
(in thousands) |
|
U.S. Treasury securities and obligations of U.S.
government corporations and agencies |
|
$ |
17,338 |
|
|
$ |
|
|
|
$ |
17,338 |
|
|
$ |
|
|
Obligations of states and political subdivisions |
|
|
367,198 |
|
|
|
|
|
|
|
367,198 |
|
|
|
|
|
Corporate securities |
|
|
28,942 |
|
|
|
|
|
|
|
28,942 |
|
|
|
|
|
Residential mortgage-backed securities |
|
|
80,827 |
|
|
|
|
|
|
|
80,827 |
|
|
|
|
|
Equity securities |
|
|
5,895 |
|
|
|
4,852 |
|
|
|
1,043 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
500,200 |
|
|
$ |
4,852 |
|
|
$ |
495,348 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table presents our fair value measurements for our investments in
available-for-sale fixed maturity and equity securities as of December 31, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements Using |
|
|
|
|
|
|
|
Quoted Prices in |
|
|
|
|
|
|
|
|
|
|
|
|
|
Active Markets for |
|
|
Significant Other |
|
|
Significant |
|
|
|
|
|
|
|
Identical Assets |
|
|
Observable Inputs |
|
|
Unobservable Inputs |
|
|
|
Fair Value |
|
|
(Level 1) |
|
|
(Level 2) |
|
|
(Level 3) |
|
|
|
(in thousands) |
|
U.S. Treasury securities and obligations of U.S.
government corporations and agencies |
|
$ |
6,630 |
|
|
$ |
|
|
|
$ |
6,630 |
|
|
$ |
|
|
Obligations of states and political subdivisions |
|
|
337,003 |
|
|
|
|
|
|
|
337,003 |
|
|
|
|
|
Corporate securities |
|
|
23,936 |
|
|
|
|
|
|
|
23,936 |
|
|
|
|
|
Residential mortgage-backed securities |
|
|
78,247 |
|
|
|
|
|
|
|
78,247 |
|
|
|
|
|
Equity securities |
|
|
5,895 |
|
|
|
4,971 |
|
|
|
924 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
451,711 |
|
|
$ |
4,971 |
|
|
$ |
446,740 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10 Income Taxes
Effective January 1, 2007, we adopted Financial Accounting Standards Board (FASB)
Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB
Statement No. 109. As of June 30, 2009 and June 30, 2008, respectively, we had no material
unrecognized tax benefits or accrued interest and penalties. Our 2006 federal tax return is under
audit, and tax years 2005, 2007 and 2008 remained open for examination as of June 30, 2009.
16
11 Impact of New Accounting Standards
In April 2009, the FASB issued FASB Staff Position (FSP) FAS 115-2 and Financial Accounting
Standard (FAS) 124-2, Recognition and Presentation of Other-Than-Temporary Impairments. FSP FAS
115-2 and FAS 124-2 provide guidance designed to create greater clarity and consistency in
accounting for and presenting impairment losses on debt and equity securities. FSP FAS 115-2 and
FAS 124-2 are effective for interim and annual periods ending after June 15, 2009, with early
adoption permitted for interim and annual periods ending after March 15, 2009. Effective April 1,
2009, we adopted FSP FAS 115-2 and FAS 124-2. For the interim period ended June 30, 2009, there was
no cumulative effect adjustment as all securities determined to be other-than-temporary-impaired in
previous periods have been sold. Beginning on April 1, 2009, we analyzed our debt securities for
other-than-temporary-impairment adjustments using guidance in FSP FAS 115-2 and FAS 124-2.
In April 2009, the FASB issued FSP FAS 157-4, Determining Fair Value When the Volume and
Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying
Transactions That Are Not Orderly. FSP FAS 157-4 provides guidelines for making fair value
measurements that are more consistent with the principles presented in SFAS No. 157, Fair Value
Measurements. FSP FAS 157-4 is effective for interim and annual periods ending after June 15,
2009, with early adoption permitted for interim and annual periods ending after March 15, 2009.
Effective April 1, 2009, we adopted FSP FAS 157-4. The adoption of FSP FAS 157-4 expanded certain
fair value disclosures but had no effect on our results of operations, financial condition or
liquidity.
In April 2009, the FASB issued FSP FAS 107-1 and Accounting Principles Board (APB) 28-1,
Interim Disclosures about Fair Value of Financial Instruments. FSP FAS 107-1 and APB 28-1 amend
FASB Statement No. 107, Disclosures about Fair Value of Financial Instruments, to require
disclosures about fair value of financial instruments for interim periods as well as in annual
financial statements. FSP FAS 107-1 and APB 28-1 are effective for interim and annual periods
ending after June 30, 2009, with early adoption permitted for interim and annual periods ending
after March 15, 2009. Effective June 30, 2009, we adopted FSP FAS 107-1 and APB 28-1. Footnote 9
includes the disclosures required by FSP FAS 107-1 and APB 28-1.
In May 2009, the FASB issued FAS 165, Subsequent Events. FAS 165 establishes general
standards of accounting for and disclosure of events that occur after the balance sheet date but
before financial statements are issued or are available to be issued. FAS165 is effective for
interim and annual periods ending after June 15, 2009. Effective June 30, 2009, we adopted FAS
165. We have evaluated subsequent events for potential recognition or disclosure through August 7,
2009, the date we issued the consolidated financial statements included in this Quarterly Report on
Form 10-Q.
Item 2. Managements Discussion and Analysis of Financial Condition and Results of
Operations.
You should read the following information in conjunction with the historical financial
information and the notes thereto included in this Quarterly Report on Form 10-Q and Managements
Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual
Report on Form 10-K for the year ended December 31, 2008.
Critical Accounting Policies and Estimates
Our financial statements are combined with those of our insurance subsidiaries and are
presented 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 that we report in our financial statements. The most significant
estimates relate to our insurance subsidiaries reserves for property and casualty insurance unpaid
losses and loss expenses, valuation of investments and determination of other-than-temporary
impairment in the value of investments and policy acquisition costs. While we believe our estimates
and the estimates of our insurance subsidiaries are appropriate, the ultimate amounts may differ
from the amounts estimated. We regularly review these estimates and reflect any adjustment
considered necessary in our current results of operations.
17
Liability for Unpaid Losses and Loss Expenses
Liabilities for unpaid losses and loss expenses are estimates at a given point in time of the
amounts an insurer expects to pay with respect to policyholder claims based on facts and
circumstances then known. An insurer recognizes at the time of establishing its estimates that its
ultimate liability for unpaid losses and loss expenses will exceed or be less than those estimates.
Our insurance subsidiaries base their estimates of liabilities for unpaid losses and loss expenses
on assumptions as to future loss trends and expected claims severity, judicial theories of
liability and other factors, including prevailing economic conditions. 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 adjust
their estimates of liability. Our insurance subsidiaries reflect any adjustments to their
liabilities for unpaid losses and loss expenses in their results of operations for the period in
which we change our estimates.
Our insurance subsidiaries maintain liabilities for the payment of unpaid losses and loss
expenses with respect to both reported and unreported claims. It is the intent of our insurance
subsidiaries that their liabilities for loss expenses will cover the ultimate costs of settling all
losses, including investigation and litigation costs from those losses. Our insurance subsidiaries
base the amount of their liabilities 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
provisions of our insurance policies relating to the type of loss. Our insurance subsidiaries
determine the amount of their liabilities 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 closely monitor their liabilities 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 unpaid losses and loss expenses.
Our liability estimates can change over time because of unexpected changes in assumptions
related to our insurance subsidiaries external environment and, to a lesser extent, assumptions as
to our insurance subsidiaries internal operations. For example, our insurance subsidiaries have
experienced a decrease in claims frequency on workers compensation claims during the past several
years while claims severity has gradually increased. These trend changes give rise to greater
uncertainty as to the pattern of future loss settlements on bodily injury claims. Related
uncertainties regarding future trends include the cost of medical technologies and procedures and
changes in the utilization of medical 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 accurate measurement of the impact of rate changes and changes in policy provisions and
consistency in the quality and characteristics of business written within a given line of business
among other items. To the extent our insurance subsidiaries determine that underlying factors
impacting their assumptions have changed, our insurance subsidiaries make adjustments they consider
appropriate for those changes in their liabilities. Accordingly, our insurance subsidiaries
ultimate liability for unpaid losses and loss expenses will likely differ from the amount recorded
at June 30, 2009. For every 1% change in our estimate of our insurance subsidiaries liability for
unpaid losses and loss expenses, net of reinsurance recoverable, the effect on our pre-tax results
of operations would be approximately $1.7 million.
The establishment of appropriate liabilities is an inherently uncertain process. There can be
no assurance that the ultimate liability of our insurance subsidiaries will not exceed our
insurance subsidiaries unpaid 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,
since 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 unpaid losses and loss expenses in certain periods,
and in other periods their estimates have exceeded their actual liabilities. Changes in our
insurance subsidiaries estimate of their liability for unpaid losses and loss expenses generally
reflect actual payments and the evaluation of information received since the prior reporting date.
Excluding the impact of severe weather events, our insurance subsidiaries have noted slight
downward trends 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 as the property and casualty insurance industry has experienced increased litigation trends,
periods in which economic
18
conditions extended the estimated length of disabilities, increased
medical loss cost trends and a general slowing of settlement rates in litigated claims. We may
make adjustments in the future to reflect subsequent developments. 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 unpaid losses and loss expenses as of June 30,
2009.
Atlantic States participation in the pool with Donegal Mutual exposes it to adverse loss
development on the business of Donegal Mutual that is included in the pool. However, pooled
business represents the predominant percentage of the net underwriting activity of both companies,
and Donegal Mutual and Atlantic States share any adverse risk development of the pooled business
according to their respective participation in the pool. The business in the pool is homogeneous
and each company has a percentage share of the entire pool as provided in the pooling agreement.
Since substantially all of the business of Atlantic States and Donegal Mutual is pooled and the
results shared by each company according to its respective 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 they would experience individually and
to spread the risk of loss between Atlantic States and Donegal Mutual.
The risk profiles of the business Atlantic States and Donegal Mutual write have historically
been, and continue to be, substantially similar. The same executive management and underwriting
personnel administer products, classes of business underwritten, pricing practices and underwriting
standards of Donegal Mutual and our insurance subsidiaries.
In addition, Donegal Mutual and our insurance subsidiaries, operating together as the Donegal
Insurance Group share a combined business plan 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 Groups 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 directly written by the individual companies will vary. However, as
the risk characteristics of all business written directly by Donegal Mutual and Atlantic States are
homogenized within the pool and each company shares the results according to each companys
participation level, each company realizes its pro rata share of the underwriting results of the
pool.
19
Our insurance subsidiaries unpaid liability for losses and loss expenses by major line of
business as of June 30, 2009 and December 31, 2008 consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
December 31, |
|
|
|
2009 |
|
|
2008 |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
Commercial lines: |
|
|
|
|
|
|
|
|
Automobile |
|
$ |
21,535 |
|
|
$ |
19,758 |
|
Workers compensation |
|
|
38,349 |
|
|
|
36,667 |
|
Commercial multi-peril |
|
|
27,820 |
|
|
|
27,808 |
|
Other |
|
|
1,627 |
|
|
|
1,893 |
|
|
|
|
|
|
|
|
Total commercial lines |
|
|
89,331 |
|
|
|
86,126 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Personal lines: |
|
|
|
|
|
|
|
|
Automobile |
|
|
63,619 |
|
|
|
60,939 |
|
Homeowners |
|
|
11,159 |
|
|
|
11,796 |
|
Other |
|
|
1,986 |
|
|
|
2,445 |
|
|
|
|
|
|
|
|
Total personal lines |
|
|
76,764 |
|
|
|
75,180 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total commercial and personal lines |
|
|
166,095 |
|
|
|
161,306 |
|
Plus reinsurance recoverable |
|
|
83,402 |
|
|
|
78,503 |
|
|
|
|
|
|
|
|
Total liability for unpaid losses and loss expenses |
|
$ |
249,497 |
|
|
$ |
239,809 |
|
|
|
|
|
|
|
|
We have evaluated the effect on our insurance subsidiaries unpaid loss and loss expense
reserves and our stockholders equity in the event of reasonably likely changes in the variables we
considered in establishing the loss and loss expense reserves of our insurance subsidiaries. We
established the range of reasonably likely changes based on a review of changes in accident year
development by line of business and applied those changes 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 estimated
effect on our insurance subsidiaries unpaid 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:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Adjusted Loss and |
|
|
|
|
|
|
|
|
|
|
Loss Expense |
|
Percentage |
|
Adjusted Loss and |
|
Percentage |
Change in Loss |
|
Reserves Net of |
|
Change |
|
Loss Expense |
|
Change |
and Loss Expense |
|
Reinsurance as of |
|
in Equity as of |
|
Reserves Net of |
|
in Equity as of |
Reserves Net of |
|
June 30, |
|
June 30, |
|
Reinsurance as of |
|
December 31, |
Reinsurance |
|
2009 |
|
2009(1) |
|
December 31, 2008 |
|
2008(1) |
(dollars in thousands) |
|
(10.0 |
)% |
|
$ |
149,486 |
|
|
|
2.9 |
% |
|
$ |
145,175 |
|
|
|
2.9 |
% |
|
(7.5 |
) |
|
|
153,638 |
|
|
|
2.2 |
|
|
|
149,208 |
|
|
|
2.2 |
|
|
(5.0 |
) |
|
|
157,790 |
|
|
|
1.5 |
|
|
|
153,241 |
|
|
|
1.4 |
|
|
(2.5 |
) |
|
|
161,943 |
|
|
|
0.7 |
|
|
|
157,273 |
|
|
|
0.7 |
|
Base |
|
|
166,095 |
|
|
|
|
|
|
|
161,306 |
|
|
|
|
|
|
2.5 |
|
|
|
170,247 |
|
|
|
-0.7 |
|
|
|
165,339 |
|
|
|
-0.7 |
|
|
5.0 |
|
|
|
174,400 |
|
|
|
-1.5 |
|
|
|
169,371 |
|
|
|
-1.4 |
|
|
7.5 |
|
|
|
178,552 |
|
|
|
-2.2 |
|
|
|
173,404 |
|
|
|
-2.2 |
|
|
10.0 |
|
|
|
182,705 |
|
|
|
-2.9 |
|
|
|
177,437 |
|
|
|
-2.9 |
|
|
|
|
(1) |
|
Net of income tax effect. |
20
Investments
We make estimates concerning the valuation of our investments and the recognition of
other-than-temporary declines in the value of our investments. For equity securities, when we
consider the decline in value of an individual investment to be other than temporary, we write down
the investment to its fair value, and we reflect the amount of the write-down as a realized loss in
our results of operations. We individually monitor all investments for other-than-temporary
declines in value. Generally, if an individual equity security has depreciated in value by more
than 20% of original cost, and has been in such an unrealized loss position for more than six
months, we assume there has been an other-than-temporary decline in value. We held three equity
securities that were in an unrealized loss position at June 30, 2009. Based upon our analysis of
general market conditions and underlying factors impacting these equity securities, we consider
these declines in value to be temporary. With respect to a debt security that is in an unrealized
loss position, we first assess if we intend to sell the debt security. If we intend to sell the
debt security, we recognize the impairment loss in our results of operations. If we do not intend
to sell the debt security, we determine whether it is more likely than not that we will be required
to sell the security prior to recovery. If it is more likely than not that we will be required to
sell the debt security prior to recovery, we recognize an impairment loss in our results of
operations. If it is more likely than not that we will not be required to sell the debt security
prior to recovery, we then evaluate whether a credit loss has occurred. To determine whether a
credit loss has occurred, we compare the amortized cost of the debt security to the present value
of the cash flows we expect to collect. If we expect a cash flow shortfall, we consider a credit
loss to have occurred. If we consider a credit loss to have occurred, we consider the impairment to
be other than temporary. We then recognize the amount of the impairment loss related to the credit
loss in our results of operations, and we recognize the remaining portion of the impairment loss in
our other comprehensive income, net of applicable taxes. In addition, we may write down securities
in an unrealized loss position based on a number of other factors, including the fair value of the
investment being significantly below its cost, whether the financial condition of the issuer of a
security is deteriorating, the occurrence of industry, company and geographic events that have
negatively impacted the value of a security and rating agency downgrades. We determined that no
investments trading below cost had declined on an other-than-temporary basis during the first six
months of 2009. We determined that certain investments trading below cost had declined on an
other-than-temporary basis and included losses of $851,085 in our results of operations for these
investments during the first six months of 2008.
We present our investments in available-for-sale fixed maturity and equity securities at
estimated fair value. The estimated fair value of a security may differ from the amount that could
be realized if the security was sold in a forced transaction. In addition, the valuation of fixed
maturity investments is more subjective when markets are less liquid, increasing the potential that
the estimated fair value does not reflect the price at which an actual transaction would occur. We
utilize nationally recognized independent pricing services to estimate fair values for our fixed
maturity and equity investments. We generally obtain one price per security. The pricing services
utilize market quotations for fixed maturity and equity securities that have quoted prices in
active markets. For fixed maturity securities that generally do not trade on a daily basis, the
pricing services prepare estimates of fair value measurements using proprietary pricing
applications, which include available relevant market information, benchmark yields, sector curves
and matrix pricing. The pricing services do not use broker quotes in determining the fair values
of our investments. We review the estimates of fair value provided by the pricing services to
determine if the estimates obtained are representative of market prices based upon our general
knowledge of the market, our research findings related to unusual fluctuations in value and our
comparison of such values to execution prices for similar securities. As of June 30, 2009 and
December 31,2008, we received one estimate per security from one of the pricing services and we
priced all but an insignificant amount of our fixed maturity and equity investments using those
prices. In our review of the estimates provided by the pricing services as of June 30, 2009 and
December 31, 2008, we did not identify any discrepancies and we did not make any adjustments to the
estimates the pricing services provided.
Policy Acquisition Costs
Our insurance subsidiaries defer their policy acquisition costs, consisting primarily of
commissions, premium taxes and certain other underwriting costs that vary with and are primarily
related to the production of business. We amortize these costs over the period in which our
insurance subsidiaries earn the related premiums. The method we follow in computing deferred policy
acquisition costs limits the amount of such deferred costs to their estimated realizable value,
which gives effect to the premiums to be earned, related
investment income, losses and loss expenses and certain other costs we expect to incur as our
insurance subsidiaries earn the premiums.
21
Results of Operations Three Months Ended June 30, 2009 Compared to Three Months Ended June 30,
2008
Net Premiums Written. Net premiums written for the three months ended June 30, 2009 were
$93.6 million, a decrease of $907,727, or 1.0%, from the $94.5 million of net premiums written for
the comparable period in 2008. Personal lines net premiums written increased $3.2 million, or
5.2%, in the second quarter of 2009 compared to the comparable period in 2008. Commercial lines net
premiums written decreased $4.1 million, or 12.4%, in the second quarter of 2009 compared to the
comparable period in 2008 primarily because of competitive conditions in this market during an
uncertain economy.
Net Premiums Earned. Net premiums earned increased to $87.5 million for the second quarter of
2009, an increase of $211,150, or .2%, over the second quarter of 2008. 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 twelve-month period compared to the
comparable period one year earlier.
Investment Income. For the three months ended June 30, 2009, our net investment income
decreased to $5.3 million, compared to $5.8 million for the comparable period one year ago. An
increase in our average invested assets from $624.3 million in the second quarter of 2008 to $635.1
million in the second quarter of 2009 was offset by a decrease in our annualized average return to
3.3% in 2009, compared to 3.7% in 2008. The decrease in our annualized average rate of return on
investments was primarily due to increased holdings of lower-yielding tax-exempt municipal bonds
and short-term U.S. Treasury securities during the second quarter of 2009.
Net Realized Investment Gains (Losses). Net realized investment gains in the second quarter
of 2009 were $445,140, compared to net realized investment losses of $673,627 for the comparable
period in 2008. We did not recognize any impairment losses during the second quarter of 2009.
During the second quarter of 2008, we included impairment losses of $779,585 in net realized
investment gains (losses).
Losses and Loss Expenses. Our loss ratio, which is the ratio of incurred losses and loss
expenses to premiums earned, for the second quarter of 2009 was 70.7%, an increase from our 64.5%
loss ratio for the second quarter of 2008. We experienced weather-related losses of $8 million
after reinsurance, adverse prior-accident-year loss reserve development of approximately $3.2
million and the impact of two large workers compensation claims that totaled $1.2 million after
reinsurance in the second quarter of 2009. Our commercial lines loss ratio increased to 64.0% for
the second quarter of 2009, compared to 56.4% for the second quarter of 2008, primarily due to
increases in our commercial automobile and workers compensation loss ratios. Our personal lines
loss ratio increased to 74.0% for the second quarter of 2009, compared to 69.5% for the second
quarter of 2008, primarily due to increases in our homeowners and private passenger automobile loss
ratios.
Underwriting Expenses. Our expense ratio, which is the ratio of policy acquisition costs and
other underwriting expenses to premiums earned, for the second quarters of 2009 and 2008 were 31.0%
and 32.8%, respectively. Our expense ratio for the second quarter of 2009 reflected decreased
expenses incurred for underwriting-based incentive compensation costs as a result of our higher
loss ratio compared to the comparable period in 2008 and the cost reduction initiatives we began in
2008.
Combined Ratio. Our combined ratio was 101.8% and 97.6% for the three months ended June 30,
2009 and 2008, respectively. Our combined ratio represents the sum of our loss ratio, expense ratio
and dividend ratio, which is the ratio of workers compensation policy dividends incurred to
premiums earned.
Interest Expense. Interest expense for the second quarter of 2009 was $198,467 compared to
$534,240 for the second quarter of 2008. The lower interest expense in the 2009 period reflected
the decrease in average interest rates on our subordinated debentures in the second quarter of 2009
compared to the comparable period in 2008 and the redemption of $15 million of subordinated
debentures in August 2008.
Income Taxes. Income tax expense was $745,904 for the second quarter of 2009, representing an
effective tax rate of 14.5%, compared to $1.5 million for the second quarter of 2008, representing
an effective tax rate of 19.2%. The change in effective tax rates is primarily due to tax-exempt
interest income
representing a greater proportion of net income before taxes in the second quarter of 2009
compared to the comparable period in 2008.
22
Net Income and Earnings Per Share. Our net income for the second quarter of 2009 was $4.4
million, or $.18 per share of Class A common stock on a diluted basis and $.16 per share of Class B
common stock, compared to net income of $6.3 million, or $.25 per share of Class A common stock on
a diluted basis and $.23 per share of Class B common stock, reported for the second quarter of
2008. Our fully diluted Class A shares outstanding for the second quarter of 2008 decreased
slightly to 19.9 million, compared to 20.0 million for the second quarter of 2008, as a result of
our repurchase of treasury stock. We had 5.6 million Class B shares outstanding for both periods.
Results of Operations Six Months Ended June 30, 2009 Compared to Six Months Ended June 30, 2008
Net Premiums Written. Net premiums written for the six months ended June 30, 2009 were $181.6
million, a decrease of $12.6 million, or 6.5%, over the comparable period in 2008. Net premiums
written for the first half of 2008 included a $13.6 million transfer of unearned premiums related
to the change in the pooling agreement between Atlantic States and Donegal Mutual effective March
1, 2008. Commercial lines net premiums written decreased $12.3 million, or 17.0%, in the first
half of 2009 compared to the comparable period in 2008 primarily because of competitive conditions
in this market during an uncertain economy. Personal lines net premiums written in 2009 were
unchanged compared to the comparable period in 2008.
Net Premiums Earned. Net premiums earned increased to $175.9 million for the first half of
2009, an increase of $6.6 million, or 3.9%, over the first half of 2008. Premiums are earned, or
recognized as revenue, over the terms of our 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 twelve-month period compared to the comparable period one
year earlier.
Investment Income. For the six months ended June 30, 2009, our net investment income
decreased to $10.6 million, compared to $11.5 million for the comparable period one year ago. An
increase in average invested assets from $612.0 million in the first half of 2008 to $631.4 million
in the first half of 2009 was offset by a decrease in the annualized average rate of return on
investments from 3.8% for the first half of 2008 to 3.4% for the first half of 2009. The decrease
in our annualized average rate of return on investments was primarily due to increased holdings of
lower-yielding tax-exempt municipal bonds and short-term U.S. Treasury securities during the first
six months of 2009.
Net Realized Investment Gains. Net realized investment gains in the first half of 2009 were
$703,995, compared to $21,729 for the comparable period in 2008. We recognized no impairment
charges in the first half of 2009, compared to impairment charges of $851,085 recognized in the
first half of 2008. The impairment charges for 2008 were the result of declines in the market
value of equity securities that we deemed to be other than temporary. The remaining net realized
investment gains in both periods resulted from normal turnover of our investment portfolio.
Losses and Loss Expenses. Our loss ratio in the first half of 2009 was 72.7%, compared to
65.0% in the first half of 2008. Losses and loss expenses increased for the first half of 2009, as
we experienced significant weather-related claim activity and unfavorable prior-accident-year loss
reserve development largely attributable to weather-related property claims compared to the first
half of 2008. The commercial lines loss ratio increased to 65.8% in the first half of 2009,
compared to 54.7% in the first half of 2008, primarily due to increases in the commercial
automobile, workers compensation and commercial multi-peril loss ratios. The personal lines loss
ratio increased from 71.1% in the first half of 2008 to 76.1% in the first half of 2009, primarily
due to increases in our homeowners loss ratio.
Underwriting Expenses. Our expense ratio for the first half of 2009 was 31.0%, compared to
32.3% in the first half of 2008. The expense ratio reflected decreased expenses incurred for
underwriting-based incentive compensation costs as a result of higher loss ratios compared to the
comparable period in 2008 and the cost reduction initiatives we began in 2008.
Combined Ratio. Our combined ratio was 103.9% and 97.7% for the six months ended June 30,
2009 and 2008, respectively. The combined ratio represents the sum of the loss ratio, expense ratio
and dividend ratio. The increase in the combined ratio was largely attributable to the increase in
the loss ratio for the 2009 period compared to the 2008 period.
Interest Expense. Interest expense for the first half of 2009 was $1.4 million, compared to
$1.1 million for the first half of 2008. The higher interest expense in the 2009 period reflected
approximately $974,000 related to interest and penalties on contested premium tax litigation, which
was offset by a decrease in average interest rates on our subordinated debentures in the first six
months of 2009 compared
23
to the comparable period in 2008 and the redemption of $15 million of
subordinated debentures in August 2008.
Income Taxes. Income tax expense was $788,355 for the first half of 2009, representing an
effective tax rate of 14.7%, compared to $3.4 million for the first half of 2008, representing an
effective tax rate of 21.1%. The change in effective tax rates is primarily due to tax-exempt
interest income representing a greater proportion of net income before taxes in the 2009 period
compared to the 2008 period.
Net Income and Earnings Per Share. Our net income for the first half of 2009 was $4.6
million, or $.18 per share of Class A common stock on a diluted basis and $.16 per share of Class B
common stock, compared to our net income of $12.9 million, or $.52 per share of Class A common
stock on a diluted basis and $.47 per share of Class B common stock, for the first half of 2008.
We had 19.9 million diluted Class A shares and 5.6 million Class B shares outstanding for both
periods.
Liquidity and Capital Resources
Liquidity is a measure of an entitys 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 impact of the pooling agreement between Donegal Mutual and Atlantic States has historically
been cash flow positive because of the consistent underwriting profitability of the pool. The pool
is settled monthly, thereby resulting in cash flows substantially similar to cash flows that would
result from the underwriting of direct business. We have not experienced any unusual variations in
the timing of claim payments associated with the loss reserves of our insurance subsidiaries. We
maintain significant liquidity in our investment portfolio in the form of readily marketable fixed
maturities, equity securities and short-term investments. Our fixed-maturity investment portfolio
is structured following a laddering approach, so that projected cash flows from investment income
and principal maturities are evenly distributed from a timing perspective, thereby providing an
additional measure of liquidity to meet our obligations should an unexpected variation occur in the
future. Net cash flows provided by operating activities in the first six months of 2009 and 2008
were $7.7 million and $29.8 million, respectively. The net cash flows provided by operating
activities in the first six months of 2008 included an $11.9 million transfer of cash from Donegal
Mutual discussed in Note 4 Reinsurance.
We maintain a credit agreement with Manufacturers and Traders Trust Company (M&T) relating
to a $35.0 million unsecured, revolving line of credit that will expire in July 2010. As of June
30, 2009, we have the ability to borrow $35.0 million at interest rates equal to M&Ts current
prime rate or the then current LIBOR rate plus between 1.50% and 1.75%, depending on our leverage
ratio. In addition, we pay a fee of 0.15% per annum on the loan commitment amount regardless of
usage. The credit agreement requires our compliance with certain covenants, which include minimum
levels of our net worth, leverage ratio and statutory surplus and the A.M. Best ratings of our
insurance subsidiaries. During the six months ended June 30, 2009, we had no borrowings
outstanding under the credit agreement, and we were in compliance with all requirements of the
credit agreement.
The following table shows our expected payments for significant contractual obligations as of
June 30, 2009.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
than 1 |
|
|
1-3 |
|
|
4-5 |
|
|
After 5 |
|
|
|
Total |
|
|
year |
|
|
years |
|
|
years |
|
|
years |
|
|
|
(in thousands) |
|
Net liability for unpaid losses and
loss expenses of our insurance
subsidiaries |
|
$ |
166,095 |
|
|
$ |
77,422 |
|
|
$ |
73,323 |
|
|
$ |
7,125 |
|
|
$ |
8,225 |
|
Due to Sheboygan policyholders |
|
|
1,287 |
|
|
|
1,287 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Subordinated debentures |
|
|
15,465 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
15,465 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total contractual obligations |
|
$ |
182,847 |
|
|
$ |
78,709 |
|
|
$ |
73,323 |
|
|
$ |
7,125 |
|
|
$ |
23,690 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
24
We estimate the date of payment for the net liability for unpaid losses and loss expenses of
our insurance subsidiaries based on historical experience and expectations of future payment
patterns. The liability is shown net of reinsurance recoverable on unpaid losses and loss expenses
to reflect expected future cash flows related to such liability. Amounts Atlantic States assumes
from the pooling agreement with Donegal Mutual represent a substantial portion of our insurance
subsidiaries gross liability for unpaid losses and loss expenses, and amounts Atlantic States
cedes to the pooling agreement represent a substantial portion of our insurance subsidiaries
reinsurance recoverable on unpaid losses and loss expenses. Cash settlement of Atlantic States
assumed liability from the pool is included 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.
We estimate the date of payment for the subordinated debentures based on their contractual
maturities. The debentures are redeemable at our option, at par, after five years from their
issuance dates as discussed in Note 7 Subordinated Debentures. The subordinated debentures carry
interest rates that vary based upon the three-month LIBOR rate and adjust quarterly. Based upon the
interest rates in effect as of June 30, 2009, our annual interest cost associated with the
subordinated debentures is approximately $716,000. For every 1% change in the three-month LIBOR
rate, the effect on our annual interest cost would be approximately $150,000.
On March 7, 2007, our board of directors authorized a share repurchase program pursuant to
which we may purchase up to 500,000 shares of our Class A common stock at market prices prevailing
from time to time in the open market subject to the provisions of SEC Rule 10b-18 and in privately
negotiated transactions. We purchased 11,000 and 52,031 shares of our Class A common stock under
this program during the three months ended June 30, 2009 and 2008, respectively. We purchased
14,000 and 140,243 shares of our Class A common stock under this program during the six months
ended June 30, 2009 and 2008, respectively. We have purchased a total of 494,769 shares of our
Class A common stock under this program through June 30, 2009.
On February 23, 2009, our board of directors authorized a share repurchase program, pursuant
to which we may purchase up to 300,000 shares of our Class A common stock at prices prevailing from
time to time in the open market subject to the provisions of SEC Rule 10b-18 and in privately
negotiated transactions. We did not purchase any shares of our Class A common stock under this
program through June 30, 2009.
On July 16, 2009, our board of directors declared quarterly cash dividends of 11.25 cents per
share for our Class A common stock and 10.0 cents per share for our Class B common stock, payable
August 17, 2009 to stockholders of record as of the close of business on August 3, 2009. There are
no regulatory restrictions on the payment of dividends to our stockholders, although there are
state law restrictions on the payment of annual dividends greater than 10% of statutory surplus by
our insurance subsidiaries to us. Our insurance subsidiaries are required by law to maintain
certain minimum surplus on a statutory basis and require prior approval of the applicable
domiciliary insurance regulatory authorities for dividends in excess of 10% of statutory surplus.
Our insurance subsidiaries are subject to risk-based capital (RBC) requirements. At December 31,
2008, our insurance subsidiaries capital levels were each substantially above the applicable RBC
requirements. At January 1, 2009, amounts available for distribution as dividends to us from our
insurance subsidiaries without prior approval of their domiciliary insurance regulatory authorities
were $18.4 million from Atlantic States, $1.6 million from Southern, $2.8 million from Le Mars,
$3.9 million from Peninsula, and $0 from Sheboygan, all of which remained available at June 30,
2009.
As of June 30, 2009, we had no material commitments for capital expenditures.
Equity Price Risk
Our portfolio of marketable equity securities, which is carried on our consolidated balance
sheets at estimated fair value, has exposure to the risk of loss resulting from an adverse change
in prices. We manage this risk by performing an analysis of prospective investments and through
regular reviews of our portfolio by our investment staff.
25
Credit Risk
Our portfolio of fixed-maturity securities and, to a lesser extent, our portfolio of
short-term investments is subject to credit risk, which we define as the potential loss in market
value resulting from adverse changes in the borrowers ability to repay the debt. We manage this
risk by performing an analysis of prospective investments and through regular reviews of our
portfolio by our investment staff. We also limit the percentage and amount of our total investment
portfolio that we invest in the securities of any one issuer.
Our insurance subsidiaries provide property and casualty insurance coverages through
independent insurance agencies. We bill the majority of this business directly to the insured,
although a portion of the commercial business is billed through agents to whom our insurance
subsidiaries extend credit in the normal course of business.
Because the pooling agreement does not relieve Atlantic States of primary liability as the
originating insurer, Atlantic States is subject to a concentration of credit risk arising from
business ceded to Donegal Mutual. Our insurance subsidiaries maintain reinsurance agreements with
Donegal Mutual and with a number of other major unaffiliated authorized reinsurers.
Impact of Inflation
We establish property and casualty insurance premium rates before we know the amount of unpaid
losses and loss expenses or the extent to which inflation may impact such expenses. Consequently,
our insurance subsidiaries attempt, in establishing rates, to anticipate the potential impact of
inflation.
26
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Item 3. |
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Quantitative and Qualitative Disclosures About Market Risk. |
Our market risk generally represents the risk of gain or loss that may result from the
potential change in the fair value of our investment portfolio as a result of fluctuations in
prices and interest rates and, to a lesser extent, our debt obligations. We attempt to manage our
interest rate risk by maintaining an appropriate relationship between the average duration of our
investment portfolio and the approximate duration of our liabilities, i.e., policy claims of our
insurance subsidiaries and debt obligations.
Our investment mix has shifted slightly due to our continuing shift from taxable to tax-exempt
fixed maturity investments during 2009. We have maintained approximately the same duration of our
investment portfolio to our liabilities from December 31, 2008 to June 30, 2009.
There have been no material changes to our quantitative or qualitative market risk exposure
from December 31, 2008 through June 30, 2009.
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Item 4. |
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Controls and Procedures. |
Evaluation of Disclosure Controls and Procedures
We conducted an evaluation, under the supervision and with the participation of our
management, including our Chief Executive Officer and our Chief Financial Officer, of the
effectiveness of the design and operation of our disclosure controls and procedures pursuant to SEC
Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended, as of the end of the period
covered by this report. Based upon that evaluation, our Chief Executive Officer and our Chief
Financial Officer concluded that our disclosure controls and procedures are effective to ensure
that information we, including our consolidated subsidiaries, are required to disclose in our
periodic filings with the SEC is recorded, processed, summarized and reported within the time
periods specified in the SECs rules and forms.
Changes in Internal Control Over Financial Reporting
There has been no change in our internal control over financial reporting during the quarter
covered by this report that has materially affected, or is reasonably likely to affect materially,
our internal control over financial reporting.
Safe Harbor Statement Under the Private Securities Litigation Reform Act of 1995
All statements contained in this report that are not historic facts are based on current
expectations. Such statements are forward-looking in nature (as defined in the Private Securities
Litigation Reform Act of 1995) and necessarily involve risks and uncertainties. Actual results
could vary materially. The factors that could cause actual results to vary materially include, but
are not limited to, our ability to maintain profitable operations, the adequacy of our reserves for
unpaid losses and loss adjustment expenses, business and economic conditions in the areas in which
we operate, conditions resulting from the ongoing recession in the United States, severe weather
events, competition from various insurance and non-insurance businesses, terrorism, the
availability and cost of reinsurance, legal and judicial developments, changes in regulatory
requirements and other risks that we describe from time to time in our filings with the Securities
and Exchange Commission. We disclaim any obligation to update such statements or to announce
publicly the results of any revisions that may be made to any forward-looking statements to reflect
the occurrence of anticipated or unanticipated events or circumstances after the date of such
statements.
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Item 4T. |
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Controls and Procedures. |
Not applicable.
27
Part II. Other Information
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Item 1. |
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Legal Proceedings. |
None.
Our business, results of operations and financial condition, and, therefore, the value of
our Class A common stock and Class B common stock, are subject to a number of risks. For a
description of certain risks, we refer to Risk Factors in our 2008 Annual Report on Form 10-K
filed with the SEC on March 12, 2009. There have been no material changes during the six months
ended June 30, 2009 in the risk factors disclosed in that Form 10-K Report.
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Item 2. |
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Unregistered Sales of Equity Securities and Use of Proceeds. |
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(d) Maximum |
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Number (or |
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(c) Total Number of |
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Approximate Dollar |
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Shares (or Units) |
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Value) of Shares (or |
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Purchased as Part |
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Units) that May Yet |
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(a) Total Number of |
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(b) Average |
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of Publicly |
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Be Purchased Under |
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Shares (or Units) |
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Price Paid per |
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Announced Plans or |
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the Plans or |
Period |
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Purchased |
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Share (or Unit) |
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Programs |
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Programs |
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Month #1
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Class A None
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Class A None
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Class A None |
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April 1-30, 2009
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Class B None
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Class B None
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Class B None |
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Month #2
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Class A 11,000
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Class A $14.64
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Class A 11,000
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(1 |
) |
May 1-31, 2009
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Class B None
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Class B None
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Class B None |
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Month #3
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Class A None
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Class A None
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Class A None |
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June 1-30, 2009
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Class B None
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Class B None
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Class B None |
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Class A 11,000
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Class A $14.64
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Class A 11,000 |
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Total
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Class B None
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Class B None
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Class B None |
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(1) |
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We purchased these shares pursuant to our announcement on March 7, 2007
that we will purchase up to 500,000 shares of our Class A common stock at market
prices prevailing from time to time in the open market subject to the provisions of
SEC Rule 10b-18 and in privately negotiated transactions. We may purchase up to
5,231 additional shares of our Class A common stock under this stock repurchase
program. We announced on February 23, 2009 that we will purchase up to 300,000
shares of our Class A common stock at market prices prevailing from time to time in
the open market subject to the provisions of SEC Rule 10b-18 and in privately
negotiated transactions. We have not purchased any shares under this stock
repurchase program during the period. |
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Item 3. |
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Defaults upon Senior Securities. |
None.
28
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Item 4. |
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Submission of Matters to a Vote of Security Holders. |
We held our annual meeting of stockholders on April 16, 2009 (the Meeting), with the
following results:
The total number of votes represented at the Meeting in person or by proxy was 7,466,068 of
the 7,563,682 votes for holders of common stock outstanding and entitled to vote at the Meeting.
On the resolution to elect Jon M. Mahan, Donald H. Nikolaus and Richard D. Wampler, II as
Class B Directors to serve until the expiration of their respective terms and until their
successors are duly elected, the nominees for director received the number of votes set forth
opposite their respective names below:
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Number of Votes |
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For |
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Withheld |
Jon M. Mahan |
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7,372,503 |
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93,565 |
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Donald H. Nikolaus |
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7,368,104 |
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97,964 |
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Richard D. Wampler, II |
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7,372,388 |
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93,680 |
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There were no abstentions or broker non-votes. On the basis of the above vote, Jon M. Mahan,
Donald H. Nikolaus and Richard D. Wampler, II were elected as Class B Directors to serve until the
expiration of their respective terms and until their successors are duly elected.
On the resolution to ratify our Audit Committees selection of KPMG, LLP as our independent
registered public accounting firm for 2009, the resolution received 7,419,430 votes for the
resolution, and 46,638 votes were withheld. On the basis of this vote, our stockholders ratified
the Audit Committees selection of KPMG, LLP.
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Item 5. |
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Other Information. |
None.
29
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Exhibit No. |
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Description |
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Exhibit 31.1
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Certification of Chief Executive Officer |
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Exhibit 31.2
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Certification of Chief Financial Officer |
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Exhibit 32.1
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Statement of Chief Executive Officer pursuant to 18 U.S.C. Section 1350 of
Title 18 of the United States Code |
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Exhibit 32.2
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Statement of Chief Financial Officer pursuant to 18 U.S.C. Section 1350 of
Title 18 of the United States Code |
30
Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly
caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
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DONEGAL GROUP INC.
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August 7, 2009 |
By: |
/s/ Donald H. Nikolaus
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Donald H. Nikolaus, President |
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and Chief Executive Officer |
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August 7, 2009 |
By: |
/s/ Jeffrey D. Miller
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Jeffrey D. Miller, Senior Vice President |
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and Chief Financial Officer |
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31