DONEGAL
GROUP
2O16
ANNUAL
REPORT
A SOLID FOUNDATION FOR CONTINUED GROWTH
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A SOLID FOUNDATION FOR CONTINUED GROWTH
Donegal Group Inc. is an insurance holding company that offers property
and casualty insurance through its wholly owned insurance subsidiaries. Our
insurance subsidiaries and Donegal Mutual Insurance Company have interrelated
operations and conduct business together as the Donegal Insurance Group.
The Donegal Insurance Group, which is rated A (Excellent) by A.M. Best Company,
offers personal and commercial insurance products through a network of
independent insurance agencies in 21 states.
As an effective acquirer of small to medium-sized “main street” property and
casualty insurers, we have grown profi tably over the last three decades.
We employ a multi-faceted strategy that includes prudent organic and
acquisition growth, conservative underwriting, pricing discipline, state-of-the-art
technological capabilities, effi cient operations and conservative investing.
Our strategy is designed to allow us to achieve our longstanding goal to outperform
the property and casualty insurance industry in terms of service, profi tability and
book value growth. Achieving that goal provides value to the policyholders
of our insurance subsidiaries and to our stockholders.
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DONEGAL
GROUP
Financial
Highlights
YEAR ENDED DECEMBER 31,
Income Statement Data
Premiums earned
Investment income, net
Realized investment gains
Total revenues
Income before income taxes
Income taxes
Net income
Basic earnings per share - Class A
Diluted earnings per share - Class A
Cash dividends per share - Class A
Basic earnings per share - Class B
Diluted earnings per share - Class B
Cash dividends per share - Class B
2016
2015
2014
2013
2012
$ 656,204,797
$ 605,640,728
$ 556,497,535
$ 515,291,944
$ 475,002,222
22,632,730
20,949,698
18,344,382
18,795,239
20,168,919
2,525,575
1,934,424
3,134,081
2,423,442
6,859,439
688,423,020
636,387,263
586,547,742
547,110,065
514,982,585
41,328,407
27,592,268
16,282,817
32,710,265
27,858,260
10,527,270
6,602,235
1,743,799
6,388,273
4,765,640
30,801,137
20,990,033
14,539,018
26,321,992
23,092,620
1.19
1.16
0.55
1.06
1.06
0.48
0.78
0.77
0.54
0.69
0.69
0.47
0.56
0.55
0.53
0.49
0.49
0.46
1.04
1.02
0.51
0.94
0.94
0.46
0.92
0.91
0.49
0.83
0.83
0.44
Balance Sheet Da ta at Year End
Total investments
Total assets
Debt obligations
Stockholders’ equity
Book value per share
$ 945,519,655
$ 900,822,274
$ 832,941,077
$ 791,808,307
$ 806,429,032
1,623,131,037
1,537,834,415
1,458,654,644
1,385,410,502
1,336,889,187
74,000,000
86,000,000
58,500,000
63,000,000
72,465,000
438,615,320
408,388,568
416,134,643
396,877,111
400,034,094
16.21
15.66
15.40
15.02
15.63
$ 700
$ 650
$ 600
$ 550
$ 35
$ 25
$ 15
$ 450
$ 400
$ 350
$ 300
$ 500 12 13 14 15 16
$ 5 12 13 14 15 16
$ 250 12 13 14 15 16
Total Revenues
[ in millions ]
Net Income
[ in millions ]
Stockholders’ Equity
[ in millions ]
1
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DONEGAL
GROUP
To Our
Stockholders
Donegal Group had an exceptional year in 2016. We achieved the
highest level of annual net premiums written in our history, along
with solid underwriting results and book value appreciation.
We attribute our success to a culture that we have developed
over 127 years of service to the insurance-buying public. From a
small group of farmers in Lancaster County, Pennsylvania, seeking
protection for their property in the late 1800s, to consumers and
business owners facing the risks of today’s rapidly changing world,
our core customer focus has remained the same – to be there
when it matters most.
As we refl ect on the strong premium production and profi table
underwriting results our insurance subsidiaries achieved in 2016,
we believe Donegal Group has laid a solid foundation for
continued growth in 2017 and beyond.
Our foundation includes a number of key strategic elements,
such as conservative underwriting and investment philosophies,
an emphasis on quality service to our agents and policyholders,
the effective implementation of technology to achieve competitive
advantages and a history of successful acquisitions. We believe
the solid foundation we have established will provide signifi cant
opportunities for us in the years ahead as we keep in focus our
long-term goal to outperform the property and casualty insurance
industry in terms of service, profi tability and book value growth.
8.2
PERCENT
TOTAL
REVENUES
8.3
PERCENT
NET
PREMIUMS
EARNED
12.2
PERCENT
COMMERCIAL
PREMIUMS
WRITTEN
5.5
PERCENT
PERSONAL
PREMIUMS
WRITTEN
2
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A SOLID FOUNDATION FOR CONTINUED GROWTH
We continue to draw upon the heritage of Donegal
Mutual Insurance Company, which dates back to 1889
and formed us as a downstream insurance holding
company over three decades ago. Donegal Mutual and
our insurance subsidiaries share a combined regional
marketing strategy to achieve prudent growth through
organic expansion and acquisitions.
Our geographical footprint has expanded to encompass
21 states, and we expect to add to that total in 2017.
We offer a wide variety of insurance products covering
both personal and commercial lines, including home and
automobile, commercial property and liability and
workers’ compensation products.
Our longstanding commitment to distributing our products
exclusively through independent agents has provided
additional strength to our foundation for continued growth.
We have dedicated signifi cant energies over the past
several years to strengthening our relationships with quality
independent agents who recognize the value proposition
we bring to them as a regional insurance group focused
on meeting their needs and the needs of their clients.
We sincerely appreciate the loyalty of our agents who
have demonstrated their reciprocal commitment by
entrusting a larger share of their quality accounts to our
insurance subsidiaries.
During 2016, we continued the rollout of a new policy
billing system and a new personal lines rating system, both
of which are replacing legacy mainframe-based systems
and are helping our insurance subsidiaries enhance their
service to agents and policyholders.
Solid Financial Performance
Total net premiums written for 2016 increased 8.5
percent over the prior year. We have achieved steady
growth, with increases in net premiums written above
7 percent for each of the past seven years. We were
particularly pleased to achieve commercial lines growth
of 12.2 percent in 2016, primarily representing new
accounts our insurance subsidiaries have written as well
as a continuation of modest renewal premium increases.
Combining this solid commercial lines growth with
the ongoing benefi ts of personal lines premium rate
increases, our net premiums earned increased 8.3
percent and drove the 8.2 percent growth in our total
revenues for 2016 to $688.4 million, compared to
$636.4 million for 2015.
Our 2016 net income increased to $30.8 million, or
$1.16 per share of our Class A common stock on a
diluted basis, compared to $21.0 million, or 77 cents
per share of our Class A common stock on a diluted
basis, for 2015. Our statutory combined ratio for 2016
was 96.8 percent, which represented incremental
improvement from our 2015 statutory combined ratio
of 97.4 percent. We attribute this higher level of
underwriting profi tability in 2016 to increased premium
revenues, lower-than-average weather-related and
large fi re losses and excellent results in our workers’
compensation line of business.
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Philip H. Glatfelter, II
1930-2016
We were saddened by the passing
of Philip H. (“Phil”) Glatfelter, II on
October 1, 2016. Phil was elected
as a director of Donegal Mutual
Insurance Company in 1981 and a
director of Donegal Group Inc. in
1986. He served as chairman of
the board of Donegal Mutual from
2001 until the time of his death.
Phil was a dedicated director
whose leadership and support
contributed greatly to the growth
and prosperity of our companies
over the past 35 years.
Donegal Mutual’s
Pending Acquisition – Entering the Southwest
In December 2016, Donegal Mutual announced that it had entered into an agreement
whereby Mountain States Mutual Casualty Company would merge with and into Donegal
Mutual. Mountain States Mutual and its two insurance subsidiaries comprise the Mountain
States Insurance Group based in Albuquerque, New Mexico, and offer commercial
insurance products in New Mexico, Colorado, Texas and Utah. While Donegal Group will
have no fi nancial interest in or impact from the Mountain States Insurance Group for the
immediate future, Donegal Mutual’s entrance into the Southwestern region of the country
through this merger represents a future growth opportunity for Donegal Group.
Conclusion – Looking Ahead to 2017
We continue to evaluate our long-term performance in terms of achieving solid
underwriting results and book value appreciation over time while returning meaningful
dividends to our stockholders.
Our book value rose to $16.21 per share of our common stock at December 31, 2016,
compared to $15.66 at December 31, 2015. That growth primarily refl ected our net
income during 2016, partially offset by cash dividend payments to our stockholders and
a decrease in the market value of our available-for-sale fi xed-maturity investment
portfolio that resulted from increases in market interest rates at year-end.
We extend our sincere gratitude to all of our dedicated employees and the loyal members
of our agency network who have contributed to our success in 2016.
As we enter 2017 with optimism, we see clear opportunities for continued profi table
growth in the years ahead. We are grateful for the ongoing support and trust of our
stockholders as we strive to increase the value of your investment in Donegal Group.
Donald H. Nikolaus
CHAIRMAN OF THE BOARD
OF DIRECTORS
Kevin G. Burke
PRESIDENT AND CHIEF
EXECUTIVE OFFICER
4
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2016
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________________ to _________________
Commission file number 0-15341
DONEGAL GROUP INC.
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of
incorporation or organization)
1195 River Road, Marietta, Pennsylvania
(Address of principal executive offices)
23-2424711
(I.R.S. Employer
Identification No.)
17547
(Zip code)
Securities registered pursuant to Section 12(b) of the Act:
Registrant’s telephone number, including area code: (800) 877-0600
Title of Each Class
Name of Each Exchange on Which Registered
Class A Common Stock, $.01 par value
The NASDAQ Global Select Market
Class B Common Stock, $.01 par value
The NASDAQ Global Select Market
Securities registered pursuant to Section 12(g) of the Act: None.
Indicate by check mark whether the registrant is a well-known seasoned issuer as defined in Rule 405 of the Securities Act: Yes
. No
.
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Exchange Act. Yes
. No
.
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. Yes
. No
.
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File
required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files). Yes
. No
.
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrant’s knowledge, in definitive proxy or information statements we incorporate by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.
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 definition of “large accelerated filer,” “accelerated filer” or “smaller reporting company” in Rule 12b-2 of the Exchange Act (check one):
Large accelerated filer
Accelerated filer
Non-accelerated filer
(Do not check if a smaller reporting company)
Smaller reporting company
Indicate by check mark whether the registrant is a shell company. Yes
. No
.
State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the
common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently
completed second fiscal quarter. $181,795,992.
Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date: 21,545,628 shares of
Class A common stock and 5,576,775 shares of Class B common stock outstanding on March 3, 2017.
The registrant incorporates by reference portions of the registrant’s definitive proxy statement relating to registrant’s annual meeting of
stockholders to be held April 20, 2017 into Part III of this report.
Documents Incorporated by Reference
DONEGAL GROUP INC.
INDEX TO FORM 10-K REPORT
PART I
Item 1.
Business
Item 1A. Risk Factors
Item 1B. Unresolved Staff Comments
Item 2.
Item 3.
Properties
Legal Proceedings
Item 4. Mine Safety Disclosures
Executive Officers of the Registrant
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity
Securities
Item 6.
Selected Financial Data
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Item 8.
Item 9.
Financial Statements and Supplementary Data
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A. Controls and Procedures
Item 9B. Other Information
PART III
Item 10. Directors, Executive Officers and Corporate Governance
Item 11. Executive Compensation
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13. Certain Relationships and Related Transactions, and Director Independence
Item 14.
Principal Accounting Fees and Services
PART IV
Item 15. Exhibits, Financial Statement Schedules
Page
1
23
34
34
34
34
35
36
38
39
54
56
101
101
101
103
103
103
103
103
104
(i)
PART I
Item 1. Business.
Introduction
Donegal Group Inc., or DGI, is an insurance holding company whose insurance subsidiaries offer personal and commercial
lines of property and casualty insurance to businesses and individuals in 21 Mid-Atlantic, Midwestern, New England and
Southern states. As used in this Form 10-K Report, the terms “we,” “us” and “our” refer to Donegal Group Inc. and its
subsidiaries.
Donegal Mutual Insurance Company, or Donegal Mutual, organized us as an insurance holding company on August 26,
1986. At December 31, 2016, Donegal Mutual held approximately 46% of our outstanding Class A common stock and
approximately 83% of our outstanding Class B common stock. Donegal Mutual’s ownership provides Donegal Mutual with
approximately 73% of the combined voting power of our outstanding shares of Class A common stock and our outstanding
shares of Class B common stock. Our insurance subsidiaries and Donegal Mutual have interrelated operations due to an
intercompany pooling agreement and other intercompany agreements and transactions we describe in Note 3 of the Notes to
Consolidated Financial Statements. While maintaining the separate corporate existence of each company, our insurance
subsidiaries and Donegal Mutual conduct business together as the Donegal Insurance Group. As such, Donegal Mutual and our
insurance subsidiaries share the same business philosophy, the same management, the same employees and the same facilities
and offer the same types of insurance products.
We have been an effective consolidator of smaller “main street” property and casualty insurance companies, and we expect
to pursue opportunities to acquire other insurance companies to expand our business in a given region or to commence
operations in a new region. Since 1995, we have completed six acquisitions of property and casualty insurance companies or
began to participate in their business through Donegal Mutual’s entry into quota-share reinsurance agreements with them.
Our insurance subsidiaries and Donegal Mutual provide their policyholders with a selection of insurance products at
competitive rates, while pursuing profitability by adhering to a strict underwriting discipline. Our insurance subsidiaries derive
a substantial portion of their insurance business from smaller to mid-sized regional communities. We believe this focus
provides our insurance subsidiaries with competitive advantages in terms of local market knowledge, marketing, underwriting,
claims servicing and policyholder service. At the same time, we believe our insurance subsidiaries have cost advantages over
many smaller regional insurers that result from economies of scale our insurance subsidiaries realize through centralized
accounting, administrative, data processing, investment and other services.
We believe we have a substantial opportunity, as a well-capitalized regional insurance holding company with a solid
business strategy, to grow profitably and compete effectively with national property and casualty insurers. Our downstream
holding company structure, with Donegal Mutual holding approximately 73% of the combined voting power of our common
stock, has proven its effectiveness and success over the 30 years of our existence. Over that time period, we have grown
significantly in terms of revenue and financial strength, and the Donegal Insurance Group has developed an excellent reputation
as a regional group of property and casualty insurers.
We own 48.2% of Donegal Financial Services Corporation, or DFSC. DFSC is a grandfathered unitary savings and loan
holding company that owns all of the outstanding capital stock of Union Community Bank, a state savings bank, or UCB. UCB
has 15 banking offices, substantially all of which are located in Lancaster County, Pennsylvania. Donegal Mutual owns the
remaining 51.8% of DFSC. For further information regarding DFSC, we refer to "Business - Donegal Financial Services
Corporation" in this Form 10-K Report.
We have four segments: our investment function, our personal lines of insurance, our commercial lines of insurance and our
investment in DFSC. We set forth financial information about these segments in Note 19 of the Notes to Consolidated Financial
Statements. The personal lines products of our insurance subsidiaries consist primarily of homeowners and private passenger
automobile policies. The commercial lines products of our insurance subsidiaries consist primarily of commercial automobile,
commercial multi-peril and workers’ compensation policies.
-1-
Available Information
You may obtain our Annual Reports on Form 10-K, including this Form 10-K Report, our quarterly reports on Form 10-Q,
our current reports on Form 8-K, our proxy statement and our other filings pursuant to the Securities Exchange Act of 1934, or
the Exchange Act, without charge by viewing our website at www.donegalgroup.com. You may also view on our website our
Code of Business Conduct and Ethics and the charters of the executive committee, the audit committee, the compensation
committee and the nominating committee of our board of directors. Upon request to our corporate secretary, we will also
provide printed copies of any of these documents to you without charge. We have provided the address of our website solely for
the information of investors. We do not intend the reference to our website address to be an active link or to otherwise
incorporate the contents of our website into this Form 10-K Report.
History and Organizational Structure
In the mid-1980’s, Donegal Mutual, as a mutual insurance company, recognized the desirability of developing additional
sources of capital and surplus so it could remain competitive and have the surplus to expand its business and ensure its long-
term viability. Accordingly, Donegal Mutual determined to implement a downstream holding company structure as one of its
business strategies. Thus, in 1986, Donegal Mutual formed us as a downstream holding company. Initially, Donegal Mutual
owned all of our outstanding common stock. After Donegal Mutual formed us, we in turn formed Atlantic States as our wholly
owned property and casualty insurance company subsidiary.
In connection with the formation of Atlantic States and the establishment of our downstream insurance holding company
system, Donegal Mutual and DGI entered into a proportional reinsurance agreement, or pooling agreement, that became
effective October 1, 1986. Under the pooling agreement, Donegal Mutual and Atlantic States pool substantially all of their
respective premiums, losses and loss expenses to the reinsurance pool, and the reinsurance pool, acting through Donegal
Mutual, then cedes a portion of the pooled business, currently 80%, to Atlantic States. Donegal Mutual and Atlantic States share
the underwriting results in proportion to their respective participation in the underwriting pool.
Since we established Atlantic States in 1986, Donegal Mutual and our insurance subsidiaries have conducted business
together as the Donegal Insurance Group. As the Donegal Insurance Group, Donegal Mutual and our insurance subsidiaries
share a combined business plan to enhance market penetration and underwriting profitability objectives. We believe Donegal
Mutual’s majority interest in the combined voting power of our Class A common stock and of our Class B common stock
fosters our ability to implement our business philosophies, enjoy management continuity, maintain superior employee relations
and provide a stable environment within which we can grow our businesses.
The products Donegal Mutual and our insurance subsidiaries offer are generally complementary, which permits the
Donegal Insurance Group to offer a broad range of products in a given market and to expand the Donegal Insurance Group’s
ability to service an entire personal lines or commercial lines account. Distinctions within the products Donegal Mutual and
our insurance subsidiaries offer generally relate to specific risk profiles within similar classes of business, such as preferred tier
products versus standard tier products. Donegal Mutual and we do not allocate all of the standard risk gradients to one
company. As a result, the underwriting profitability of the business the individual companies write directly will vary. However,
the underwriting pool homogenizes the risk characteristics of all business Donegal Mutual and Atlantic States write directly.
We receive 80% of the results of the underwriting pool because Atlantic States has an 80% participation in the pool. The
business Atlantic States derives from the underwriting pool represents a significant percentage of our total consolidated
revenues. However, that percentage has gradually decreased over the past few years as we have acquired a number of other
property and casualty insurance companies that do not participate in the underwriting pool.
As the capital of Atlantic States and our other insurance subsidiaries has increased, the underwriting capacity of our
insurance subsidiaries has increased proportionately. The size of the underwriting pool has also increased substantially.
Therefore, as we originally planned in the mid-1980s, Atlantic States has successfully raised the capital necessary to support the
growth of its direct business as well as to accept increases in its allocation of business from the underwriting pool. The portion
of the underwriting pool allocated to Atlantic States has increased from an initial allocation of 35% in 1986 to an 80%
allocation since March 1, 2008. We do not anticipate any further change in the pooling agreement between Atlantic States and
Donegal Mutual, including any change in the percentage participation of Atlantic States in the underwriting pool.
In addition to Atlantic States, our insurance subsidiaries are Southern Insurance Company of Virginia, or Southern, Le
Mars Insurance Company, or Le Mars, The Peninsula Insurance Company and its wholly owned subsidiary, Peninsula
Indemnity Company, or collectively, Peninsula, Sheboygan Falls Insurance Company, or Sheboygan, and Michigan Insurance
Company, or MICO. We also benefit from Donegal Mutual’s 100% quota-share reinsurance agreement with Southern Mutual
-2-
Insurance Company, or Southern Mutual, and Donegal Mutual’s placement of its assumed business from Southern Mutual into
the underwriting pool.
The following chart depicts our organizational structure, including all of our property and casualty insurance subsidiaries,
Southern Mutual and our interest in DFSC:
Because of the different relative voting power of our Class A common stock and our Class B common stock, our public
(1)
stockholders hold approximately 27% of the combined voting power of our Class A common stock and our Class B common stock and
Donegal Mutual holds approximately 73% of the combined voting power of our Class A common stock and our Class B common stock.
Relationship with Donegal Mutual
Donegal Mutual provides facilities, personnel and other services to us and our insurance subsidiaries. Donegal Mutual
allocates certain related expenses to Atlantic States in relation to the relative participation of Donegal Mutual and Atlantic
States in the underwriting pool they maintain. Our insurance subsidiaries other than Atlantic States reimburse Donegal Mutual
for their respective personnel costs and bear their proportionate share of information services costs based on each subsidiaries’
respective percentage of the total net written premiums of the Donegal Insurance Group. Charges for these services to Atlantic
States and our other insurance subsidiaries totaled $122.4 million, $108.5 million and $98.6 million for 2016, 2015 and 2014,
respectively.
Our insurance subsidiaries have various reinsurance arrangements with Donegal Mutual. These agreements include:
•
•
•
excess of loss reinsurance agreements with Le Mars, MICO, Peninsula, Sheboygan and Southern;
catastrophe reinsurance agreements with Atlantic States, Le Mars and Southern; and
quota-share reinsurance agreements with MICO and Peninsula.
The purpose of the excess of loss and catastrophe reinsurance agreements is to lessen the effects of a single large loss, or an
accumulation of smaller losses arising from one event, to levels that are appropriate given each subsidiary’s size, underwriting
profile and amount of surplus.
The purpose of the quota-share reinsurance agreement with Peninsula is to transfer to Donegal Mutual 100% of the
premiums and losses related to the workers’ compensation product line of Peninsula in certain states, which provides the
availability of an additional workers’ compensation tier for Donegal Mutual’s commercial accounts. Donegal Mutual places its
assumed business from Peninsula into the underwriting pool.
The purpose of the quota-share reinsurance agreement with MICO is to transfer to Donegal Mutual 25% of the premiums
and losses related to MICO’s business. Donegal Mutual places its assumed business from MICO into the underwriting pool.
-3-
We and Donegal Mutual have maintained a coordinating committee since our formation in 1986. The coordinating
committee consists of two members of our board of directors, neither of whom is a member of Donegal Mutual’s board of
directors, and two members of Donegal Mutual’s board of directors, neither of whom is a member of our board of directors.
The purpose of the coordinating committee is to establish and maintain a process for an annual evaluation of the transactions
between Donegal Mutual, our insurance subsidiaries and us. The coordinating committee considers the fairness of each
intercompany transaction to Donegal Mutual and its policyholders and to us and our stockholders.
A new agreement or any change to a previously approved agreement must receive coordinating committee approval. The
approval process for a new agreement between Donegal Mutual and us or one of our insurance subsidiaries or a change in such
an agreement is as follows:
•
•
both of our members on the coordinating committee must determine that the new agreement or the change in an
existing agreement is fair and equitable to us and in the best interests of our stockholders;
both of Donegal Mutual’s members on the coordinating committee must determine that the new agreement or the
change in an existing agreement is fair and equitable to Donegal Mutual and in the best interests of its policyholders;
•
our board of directors must approve the new agreement or the change in an existing agreement; and
• Donegal Mutual’s board of directors must approve the new agreement or the change in an existing agreement.
The coordinating committee also meets annually to review each existing agreement between Donegal Mutual and us or our
insurance subsidiaries, including all reinsurance agreements between Donegal Mutual and our insurance subsidiaries. The
purpose of this annual review is to examine the results of the agreements over the past year and, in the case of reinsurance
agreements, over several years and to determine if the results of the existing agreements remain fair and equitable to us and our
stockholders and fair and equitable to Donegal Mutual and its policyholders or if Donegal Mutual and we should mutually
agree to certain adjustments to the terms of the agreements. In the case of these reinsurance agreements, the annual adjustments
typically relate to the reinsurance premiums, losses and reinstatement premiums. These agreements are ongoing in nature and
will continue in effect throughout 2017 in the ordinary course of our business.
Our members on the coordinating committee, as of the date of this Form 10-K Report, are Robert S. Bolinger and Richard
D. Wampler, II. Donegal Mutual’s members on the coordinating committee as of such date are Dennis J. Bixenman and John E.
Hiestand. We refer to our proxy statement for our annual meeting of stockholders to be held on April 20, 2017 for further
information about the members of the coordinating committee.
We believe our relationships with Donegal Mutual offer us and our insurance subsidiaries a number of competitive
advantages, including the following:
•
•
•
•
•
•
enabling our stable management, the consistent underwriting discipline of our insurance subsidiaries, external growth,
long-term profitability and financial strength;
creating operational and expense synergies from the combination of resources and integrated operations of Donegal
Mutual and our insurance subsidiaries;
enhancing our opportunities to expand by acquisition because of the ability of Donegal Mutual to affiliate with and
acquire control of other mutual insurance companies and, thereafter, demutualize them and allow us to acquire all of
their outstanding stock;
producing more stable and uniform underwriting results for our insurance subsidiaries over extended periods of time
than we could achieve without our relationship with Donegal Mutual;
providing opportunities for growth because of the ability of Donegal Mutual to enter into reinsurance agreements with
other mutual insurance companies and place the business it assumes into the pooling agreement; and
providing Atlantic States with a significantly larger underwriting capacity because of the underwriting pool Donegal
Mutual and Atlantic States have maintained since 1986.
-4-
In the first quarter of 2017, our board of directors and the board of directors of Donegal Mutual each undertook a review of
the relationships between Donegal Mutual and DGI and determined that continuing the current relationships and the current
corporate structure of Donegal Mutual and DGI is in the best interests of DGI and its various constituencies.
Business Strategy
Our strategy is designed to allow our insurance subsidiaries to achieve their longstanding goal of outperforming the United
States property and casualty insurance industry in terms of profitability and service, thereby providing value to the
policyholders of our insurance subsidiaries and, ultimately, providing value to our stockholders. The annual net premiums
earned of our insurance subsidiaries have increased from $301.5 million in 2006 to $656.2 million in 2016, a compound annual
growth rate of 8.1%.
The combined ratio of our insurance subsidiaries and that of the United States property and casualty insurance industry as
computed using United States generally accepted accounting principles, or GAAP, and statutory accounting principles, or SAP,
for the years 2012 through 2016 are shown in the following table:
Our GAAP combined ratio
Our SAP combined ratio
Industry SAP combined ratio (1)
(1) As reported (projected for 2016) by A.M. Best Company.
2016
2015
2014
2013
2012
98.1%
99.0%
101.7%
98.8%
101.6%
96.8
100.7
97.4
98.3
100.5
97.4
97.4
96.4
99.8
102.5
We and Donegal Mutual believe we can continue to expand our insurance operations over time through organic growth and
acquisitions of, or affiliations with, other insurance companies. We and Donegal Mutual have enhanced the performance of
companies we have acquired, while leveraging the acquired companies’ core strengths and local market knowledge to expand
their operations. Our insurance subsidiaries and Donegal Mutual also seek to increase their premium base by making quality
independent agency appointments, enhancing their competitive position within each agency, introducing new and enhanced
insurance products and developing and maintaining automated systems to improve service, communications and efficiency.
We translate these initiatives into our book value growth in a number of ways, including the following:
• maintaining a conservative underwriting culture and pricing discipline to sustain our record of underwriting
profitability;
•
continuing our investment in technology to achieve operating efficiencies that lower expenses, enhance the service we
provide to agencies and policyholders and increase the speed of our communications with agencies and policyholders;
and
• maintaining a conservative investment approach.
A detailed review of our business strategies follows:
• Achieving underwriting profitability.
Our insurance subsidiaries focus on achieving a combined ratio of less than 100%. We remain committed to achieving
consistent underwriting profitability. We believe that underwriting profitability is a fundamental component of our long-term
financial strength because it allows our insurance subsidiaries to generate profits without relying exclusively on their
investment income. Our insurance subsidiaries seek to enhance their underwriting results by:
•
•
carefully selecting the product lines they underwrite;
carefully selecting the individual risks they underwrite;
• minimizing their individual exposure to catastrophe-prone areas; and
•
evaluating their claims history on a regular basis to ensure the adequacy of their underwriting guidelines and
product pricing.
-5-
Our insurance subsidiaries have no material exposures to asbestos and environmental liabilities. Our insurance subsidiaries
seek to provide more than one policy to a given personal lines or commercial lines customer because this “account selling”
strategy diversifies their risk and has historically improved their underwriting results. Our insurance subsidiaries also use
reinsurance to manage their exposure and limit their maximum net loss from large single risks or risks in concentrated areas.
• Pursuing profitable growth by organic expansion within the traditional operating territories of our insurance
subsidiaries through developing and maintaining quality agency representation.
We believe that continued expansion of our insurance subsidiaries within their existing markets will be a key source of their
continued premium growth and that maintaining an effective and growing network of independent agencies is integral to their
expansion. Our insurance subsidiaries seek to be among the top three insurers within each of the independent agencies for the
lines of business our insurance subsidiaries write by providing a consistent, competitive and stable market for their products.
We believe that the consistency of the product offerings of our insurance subsidiaries enables our insurance subsidiaries to
compete effectively for independent agents with other insurers whose product offerings may fluctuate based on industry
conditions. Our insurance subsidiaries offer a competitive compensation program to their independent agents that rewards them
for producing profitable growth for our insurance subsidiaries. Our insurance subsidiaries provide their independent agents with
ongoing support to enable them to better attract and service customers, including:
•
fully automated underwriting and policy issuance systems for both personal, commercial and farm lines of
insurance;
•
training programs;
• marketing support;
•
•
availability of a service center that provides comprehensive service for our personal lines policyholders; and
field visitations by marketing and underwriting personnel and senior management of our insurance subsidiaries.
Our insurance subsidiaries appoint independent agencies with a strong underwriting and growth track record. We believe
that our insurance subsidiaries, by carefully selecting, motivating and supporting their independent agencies, will drive
continued long-term growth.
• Acquiring property and casualty insurance companies to augment the organic growth of our insurance subsidiaries
in existing markets and to expand into new geographic regions.
We have been an effective consolidator of smaller “main street” property and casualty insurance companies, and we expect
to continue to acquire other insurance companies to expand our business in a given region or to commence operations in a new
region.
Since 1995, we have completed six acquisitions of property and casualty insurance companies or participated in their
business through Donegal Mutual’s entry into quota-share reinsurance agreements with them. We intend to continue our growth
by pursuing affiliations and acquisitions that meet our criteria. Our primary criteria are:
•
•
•
•
location in regions where our insurance subsidiaries are currently conducting business or that offer an attractive
opportunity to conduct profitable business;
a mix of business similar to the mix of business of our insurance subsidiaries;
annual premium volume up to $100.0 million; and
fair and reasonable transaction terms.
We believe that our relationship with Donegal Mutual assists us in pursuing affiliations with, and subsequent acquisitions
of, mutual insurance companies because, through Donegal Mutual, we understand the concerns and issues that mutual
insurance companies face. In particular, Donegal Mutual has had success affiliating with underperforming mutual insurance
companies, and we have either acquired them following their conversion to a stock company or benefited from their
underwriting results as a result of Donegal Mutual’s entry into a 100% quota-share reinsurance agreement with them and
-6-
placement of its assumed business into the pooling agreement. We have utilized our strengths and financial position to improve
the operations of those underperforming insurance companies. We evaluate a number of areas for operational synergies when
considering acquisitions, including product underwriting, expenses, the cost of reinsurance and technology.
We and Donegal Mutual have the ability to employ a number of acquisition and affiliation methods. Our prior acquisitions
and affiliations have taken one of the following forms:
•
•
•
•
purchase of all of the outstanding stock of a stock insurance company;
purchase of a book of business;
quota-share reinsurance transaction; or
two-step acquisition of a mutual insurance company in which:
•
•
as the first step, Donegal Mutual purchases a surplus note from the mutual insurance company, Donegal
Mutual enters into a services agreement with the mutual insurance company and Donegal Mutual’s
designees become a majority of the members of the board of directors of the mutual insurance company;
and
as the second step, the mutual insurance company enters into a quota-share reinsurance agreement with
Donegal Mutual or demutualizes, or converts, into a stock insurance company. Upon the demutualization
or conversion, we purchase the surplus note from Donegal Mutual and exchange it for all of the stock of
the stock insurance company resulting from the demutualization or conversion.
We believe that our ability to make direct acquisitions of stock insurance companies and to make indirect acquisitions of
mutual insurance companies through a sponsored conversion or a quota-share reinsurance agreement provides us with
flexibility that is a competitive advantage in making acquisitions. We also believe our historic record clearly demonstrates our
ability to acquire control of an underperforming insurance company, re-underwrite its book of business, reduce its cost structure
and return it to sustained profitability.
While Donegal Mutual and we generally engage in preliminary discussions with potential direct or indirect acquisition
candidates on an almost continuous basis and are so engaged at the date of this Form 10-K Report, neither Donegal Mutual nor
we make any public disclosure regarding a proposed acquisition until Donegal Mutual or we have entered into a definitive
acquisition agreement.
On December 16, 2016, Donegal Mutual and Mountain States Mutual Casualty Company (“Mountain States”) announced
the execution of an agreement whereby, subject to applicable regulatory approvals and the approval of the policyholders of
Mountain States, Mountain States will merge with and into Donegal Mutual. We are not a party to the agreement. Donegal
Mutual will be the surviving company in the merger, and the insurance subsidiaries of Mountain States, Mountain States
Indemnity Company and Mountain States Commercial Insurance Company, will become insurance subsidiaries of Donegal
Mutual. Mountain States and its insurance subsidiaries currently conduct business together as the Mountain States Insurance
Group and offer commercial insurance products in the states of Colorado, New Mexico, Texas and Utah. Following the
completion of the merger, Donegal Mutual, Mountain States Indemnity Company and Mountain States Commercial Insurance
Company will market their products together as the Mountain States Insurance Group in the Southwestern region of the United
States as they seek profitable growth in the region. For an indefinite period of time following the completion of the merger,
Donegal Mutual will exclude the business of the Mountain States Insurance Group from the pooling agreement with Atlantic
States. As a result, Donegal Mutual’s merger with Mountain States will have no impact on our results of operations. At some
undetermined point in the future, we and Donegal Mutual may consider including the business of the Mountain States
Insurance Group in the pooling agreement between Donegal Mutual and Atlantic States. Donegal Mutual’s merger with
Mountain States therefore represents a future growth opportunity for us, consistent with the acquisition strategy we and
Donegal Mutual have shared since our inception.
-7-
The following table highlights our history of insurance company acquisitions and affiliations since 1988:
Company Name
Southern Mutual Insurance
Company and now Southern
Insurance Company of Virginia
Pioneer Mutual Insurance
Company and then Pioneer
Insurance Company (1)(2)
State of Domicile
Virginia
Year Control
Acquired
1984
Ohio
1992
Delaware Mutual Insurance
Delaware
1993
Company and then Delaware
Atlantic Insurance Company (1)(2)
New York
1995
Pioneer Mutual Insurance
Company and then Pioneer
Insurance Company (1)(2)
Southern Heritage Insurance
Company (2)
Method of Acquisition/Affiliation
Surplus note investment by Donegal Mutual in 1984;
demutualization in 1988; acquisition of stock by us in
1988.
Surplus note investment by Donegal Mutual in 1992;
demutualization in 1993; acquisition of stock by us in
1997.
Surplus note investment by Donegal Mutual in 1993;
demutualization in 1994; acquisition of stock by us in
1995.
Surplus note investment by Donegal Mutual in 1995;
demutualization in 1998; acquisition of stock by us in
2001.
Georgia
1998
Purchase of stock by us in 1998.
Le Mars Mutual Insurance
Company of Iowa and now Le
Mars Insurance Company (1)
Iowa
Peninsula Insurance Group
Sheboygan Falls Mutual Insurance
Company and now Sheboygan
Falls Insurance Company (1)
Maryland
Wisconsin
Southern Mutual Insurance
Company (3)
Georgia
Michigan Insurance Company
Michigan
2002
2004
2007
2009
2010
Surplus note investment by Donegal Mutual in 2002;
demutualization in 2004; acquisition of stock by us in
2004.
Purchase of stock by us in 2004.
Contribution note investment by Donegal Mutual in
2007; demutualization in 2008; acquisition of stock
by us in 2008.
Surplus note investment by Donegal Mutual and
quota-share reinsurance in 2009.
Purchase of stock by us and surplus note investment
by Donegal Mutual in 2010.
(1) Each of these acquisitions initially took the form of an affiliation with Donegal Mutual. Donegal Mutual provided surplus note
financing to the insurance company, and, in connection with that financing, sufficient designees of Donegal Mutual were appointed
so as to constitute a majority of the members of the board of directors of the insurance company. Donegal Mutual and the insurance
company simultaneously entered into a services agreement whereby Donegal Mutual provided services to improve the operations of
the insurance company. Once the insurance company’s results of operations improved to the satisfaction of Donegal Mutual,
Donegal Mutual sponsored the demutualization of the insurance company. Upon the consummation of the demutualization,
Donegal Mutual converted the surplus note to capital stock of the newly demutualized insurance company. We then purchased all of
the capital stock of the insurance company from Donegal Mutual and made an additional capital contribution in cash to provide
adequate surplus to support the insurance company’s planned premium growth.
(2) To reduce administrative and compliance costs and expenses, these subsidiaries subsequently merged into one of our existing
insurance subsidiaries.
(3) Control acquired by Donegal Mutual.
• Providing responsive and friendly customer and agent service to enable our insurance subsidiaries to attract new
policyholders and retain existing policyholders.
We believe that excellent policyholder service is important in attracting new policyholders and retaining existing
policyholders. Our insurance subsidiaries work closely with their independent agents to provide a consistently responsive level
of claims service, underwriting and customer support. Our insurance subsidiaries seek to respond expeditiously and effectively
to address customer and independent agent inquiries in a number of ways, including:
•
availability of a customer call center for claims reporting;
-8-
•
•
•
availability of a secure website for access to policy information and documents, payment processing and other
features;
timely replies to information requests and policy submissions; and
prompt responses to, and processing of, claims.
Our insurance subsidiaries periodically conduct policyholder surveys to evaluate the effectiveness of their service to
policyholders. The management of our insurance subsidiaries meets on a regular basis with the personnel of the independent
insurance agents our insurance subsidiaries appoint to seek service improvement recommendations, react to service issues and
better understand local market conditions.
• Maintaining premium rate adequacy to enhance the underwriting results of our insurance subsidiaries, while
maintaining their existing book of business and preserving their ability to write new business.
Our insurance subsidiaries maintain discipline in their pricing by effecting rate increases to sustain or improve their
underwriting profitability without unduly affecting their customer retention. In addition to appropriate pricing, our insurance
subsidiaries seek to ensure that their premium rates are adequate relative to the amount of risk they insure. Our insurance
subsidiaries review loss trends on a periodic basis to identify changes in the frequency and severity of their claims and to assess
the adequacy of their rates and underwriting standards. Our insurance subsidiaries also carefully monitor and audit the
information they use to price their policies for the purpose of enabling them to receive an adequate level of premiums for the
risk they assume. For example, our insurance subsidiaries inspect substantially all commercial lines risks and a substantial
number of personal lines property risks before they commit to insure them to determine the adequacy of the insured amount to
the value of the insured property, assess property conditions and identify any liability exposures. Our insurance subsidiaries
audit the payroll data of their workers’ compensation customers to verify that the assumptions used to price a particular policy
were accurate. By implementing appropriate rate increases and understanding the risks our insurance subsidiaries agree to
insure, our insurance subsidiaries are generally able to achieve consistent underwriting profitability.
• Focusing on expense controls and utilization of technology to increase the operating efficiency of our insurance
subsidiaries.
Our insurance subsidiaries maintain stringent expense controls under direct supervision of their senior management. We
centralize many processing and administrative activities of our insurance subsidiaries to realize operating synergies and better
expense control. Our insurance subsidiaries utilize technology to automate much of their underwriting and to facilitate agency
and policyholder communications on an efficient, timely and cost-effective basis. We operate on a paperless basis. Our
insurance subsidiaries have increased their annual premium per employee, a measure of efficiency that our insurance
subsidiaries use to evaluate their operations, from approximately $470,000 in 1999 to approximately $1.0 million in 2016.
Our insurance subsidiaries maintain technology comparable to that of the largest of their competitors. “Ease of doing
business” is an increasingly important component of an insurer’s value to an independent agency. Our insurance subsidiaries
provide a fully automated personal lines underwriting and policy issuance system called “WritePro®.” WritePro® is a web-based
user interface that substantially eases data entry and facilitates the quoting and issuance of policies for the independent agents
of our insurance subsidiaries. Our insurance subsidiaries also provide a similar commercial business system called “WriteBiz®.”
WriteBiz® is a web-based user interface that provides the independent agents of our insurance subsidiaries with an online
ability to quote and issue commercial automobile, workers’ compensation, business owners and tradesman policies
automatically. WriteFarm® is a web-based user interface that provides the independent agents of our insurance subsidiaries with
an online ability to quote and issue farm policies. As a result, applications of the independent agents for our insurance
subsidiaries can result in policy issuance without further re-entry of information. These systems also interface with the policy
management systems of the independent agents of our insurance subsidiaries.
• Maintaining a conservative investment approach.
Return on invested assets is an important element of the financial results of our insurance subsidiaries. The investment
strategy of our insurance subsidiaries is to generate an appropriate amount of after-tax income on invested assets while
minimizing credit risk through investments in high-quality securities. As a result, our insurance subsidiaries seek to invest a
high percentage of their assets in diversified, highly rated and marketable fixed-maturity instruments. The fixed-maturity
portfolios of our insurance subsidiaries consist of both taxable and tax-exempt securities. Our insurance subsidiaries maintain a
portion of their portfolios in short-term securities to provide liquidity for the payment of claims and operation of their
-9-
respective businesses. Our insurance subsidiaries maintain a small percentage (5.0% at December 31, 2016) of their portfolios
in equity securities.
Competition
The property and casualty insurance industry is highly competitive on the basis of both price and service. Numerous
companies compete for business in the geographic areas where our insurance subsidiaries operate. Many of these other
insurance companies are substantially larger and have greater financial resources than those of our insurance subsidiaries. In
addition, because our insurance subsidiaries and Donegal Mutual market their respective insurance products exclusively
through independent insurance agencies, most of which represent more than one insurance company, our insurance subsidiaries
face competition within agencies, as well as competition to retain qualified independent agents.
Products and Underwriting
We report the results of our insurance operations in two segments: personal lines of insurance and commercial lines of
insurance. The personal lines our insurance subsidiaries write consist primarily of private passenger automobile and
homeowners insurance. The commercial lines our insurance subsidiaries write consist primarily of commercial automobile,
commercial multi-peril and workers’ compensation insurance. We describe these lines of insurance in greater detail below:
Personal
•
Private passenger automobile — policies that provide protection against liability for bodily injury and property
damage arising from automobile accidents and protection against loss from damage to automobiles owned by the
insured.
• Homeowners — policies that provide coverage for damage to residences and their contents from a broad range of
perils, including fire, lightning, windstorm and theft. These policies also cover liability of the insured arising from
injury to other persons or their property while on the insured’s property and under other specified conditions.
Commercial
• Commercial automobile — policies that provide protection against liability for bodily injury and property damage
arising from automobile accidents and protection against loss from damage to automobiles owned by the insured.
• Commercial multi-peril — policies that provide protection to businesses against many perils, usually combining
liability and physical damage coverages.
• Workers’ compensation — policies employers purchase to provide benefits to employees for injuries sustained during
employment. The workers’ compensation laws of each state determine the extent of the coverage we provide.
-10-
The following table sets forth the net premiums written of our insurance subsidiaries by line of insurance for the periods
indicated:
(dollars in thousands)
Personal lines:
Automobile
Homeowners
Other
Total personal lines
Commercial lines:
Automobile
Commercial multi-peril
Workers’ compensation
Other
Total commercial lines
Total business
Year Ended December 31,
2016
2015
2014
Amount
%
Amount
%
Amount
%
$ 229,789
33.7% $ 214,610
34.1% $ 204,174
35.3%
122,811
19,057
371,657
87,849
104,728
108,349
9,451
310,377
18.0
2.8
54.5
12.9
15.4
15.9
1.3
45.5
119,541
18,176
352,327
76,729
94,219
98,079
7,483
276,510
19.0
2.9
56.0
12.2
15.0
15.6
1.2
44.0
113,576
16,989
334,739
65,552
83,413
88,739
6,758
244,462
19.6
2.9
57.8
11.3
14.4
15.3
1.2
42.2
$ 682,034
100.0% $ 628,837
100.0% $ 579,201
100.0%
The personal lines and commercial lines underwriting departments of our insurance subsidiaries evaluate and select those
risks that they believe will enable our insurance subsidiaries to achieve an underwriting profit. The underwriting departments
have significant interaction with the independent agents regarding the underwriting philosophy and the underwriting guidelines
of our insurance subsidiaries. Our underwriting personnel also assist the research and development department in the
development of quality products at competitive prices to promote growth and profitability.
In order to achieve underwriting profitability on a consistent basis, our insurance subsidiaries:
•
•
•
•
assess and select primarily standard and preferred risks;
adhere to disciplined underwriting guidelines;
inspect substantially all commercial lines risks and a substantial number of personal lines property risks; and
utilize various types of risk management and loss control services.
Our insurance subsidiaries also review their existing policies and accounts to determine whether those risks continue to
meet their underwriting guidelines. If a given policy or account no longer meets those underwriting guidelines, our insurance
subsidiaries will take appropriate action regarding that policy or account, including raising premium rates or non-renewing the
policy to the extent applicable law permits.
As part of the effort of our insurance subsidiaries to maintain acceptable underwriting results, they conduct annual reviews
of agencies that have failed to meet their underwriting profitability criteria. The review process includes an analysis of the
underwriting and re-underwriting practices of the agency, the completeness and accuracy of the applications the agency
submits, the adequacy of the training of the agency’s staff and the agency’s record of adherence to the underwriting guidelines
and service standards of our insurance subsidiaries. Based on the results of this review process, the marketing and underwriting
personnel of our insurance subsidiaries develop, together with the agency, a plan to improve its underwriting profitability. Our
insurance subsidiaries monitor the agency’s compliance with the plan and take other measures as required in the judgment of
our insurance subsidiaries, including the termination to the extent applicable law permits of agencies that are unable to achieve
acceptable underwriting profitability.
-11-
Distribution
Our insurance subsidiaries market their products primarily in the Mid-Atlantic, Midwestern, New England and Southern
regions through approximately 2,400 independent insurance agencies. At December 31, 2016, the Donegal Insurance Group
actively wrote business in 21 states (Alabama, Delaware, Georgia, Indiana, Iowa, Maine, Maryland, Michigan, Nebraska, New
Hampshire, New York, North Carolina, Ohio, Pennsylvania, South Carolina, South Dakota, Tennessee, Vermont, Virginia, West
Virginia and Wisconsin). We believe the relationships of our insurance subsidiaries with their independent agents are valuable
in identifying, obtaining and retaining profitable business. Our insurance subsidiaries maintain a stringent agency selection
procedure that emphasizes appointing agencies with proven marketing strategies for the development of profitable business,
and our insurance subsidiaries only appoint agencies with a strong underwriting history and potential growth capabilities. Our
insurance subsidiaries also regularly evaluate the independent agencies that represent them based on their profitability and
performance in relation to the objectives of our insurance subsidiaries. Our insurance subsidiaries seek to be among the top
three insurers within each of their agencies for the lines of business our insurance subsidiaries write.
The following table sets forth the percentage of direct premiums our insurance subsidiaries write, including 80% of the
direct premiums Donegal Mutual and Atlantic States write, in each of the states where they conducted a significant portion of
their business in 2016:
Pennsylvania
Michigan
Maryland
Virginia
Georgia
Delaware
Wisconsin
Ohio
Iowa
Tennessee
Nebraska
South Dakota
Other
Total
35.8%
15.4
8.8
8.4
6.7
5.6
3.7
3.4
2.5
2.4
2.3
1.1
3.9
100.0%
Our insurance subsidiaries employ a number of policies and procedures that we believe enable them to attract, retain and
motivate their independent agents. We believe that the consistency of the product offerings of our insurance subsidiaries
enables our insurance subsidiaries to compete effectively for independent agents with other insurers whose product offerings
may fluctuate based upon industry conditions. Our insurance subsidiaries have a competitive profit-sharing plan for their
independent agents, consistent with applicable state laws and regulations, under which the independent agents may earn
additional commissions based upon the volume of premiums produced and the profitability of the business our insurance
subsidiaries receive from that agency.
Our insurance subsidiaries encourage their independent agents to focus on “account selling,” or serving all of a particular
insured’s property and casualty insurance needs, which our insurance subsidiaries believe generally results in more favorable
loss experience than covering a single risk for an individual insured.
Technology
Donegal Mutual owns the majority of the technology systems our insurance subsidiaries use. The technology systems
consist primarily of an integrated central processing computer system, a series of server-based computer networks and various
communication systems that allow the home office of our insurance subsidiaries and their branch offices to utilize the same
systems for the processing of business. Donegal Mutual maintains backup facilities and systems at the office of one of our
insurance subsidiaries and tests these backup facilities and systems on a regular basis. Our insurance subsidiaries bear their
proportionate share of information services expenses based on their respective percentage of the total net written premiums of
the Donegal Insurance Group during the preceding calendar year.
-12-
The business strategy of our insurance subsidiaries depends on the use, development and implementation of integrated
technology systems. These systems enable our insurance subsidiaries to provide a high level of service to agents and
policyholders by processing business in a timely and efficient manner, communicating and sharing data with agents, providing
a variety of methods for the payment of premiums and allowing for the accumulation and analysis of information for the
management of our insurance subsidiaries.
We believe the availability and use of these technology systems has resulted in improved service to agents and
policyholders, increased efficiencies in processing the business of our insurance subsidiaries and lower operating costs. Key
components of these integrated technology systems are the agency interface system, the WritePro®, WriteBiz® and WriteFarm®
systems, a claims processing system and an imaging system. The agency interface system provides our insurance subsidiaries
with a high level of data sharing both to and from agents’ systems and also provides agents with an integrated means of
processing new business. The WritePro®, WriteBiz® and WriteFarm® systems are fully automated underwriting and policy
issuance systems that provide agents with the ability to generate underwritten quotes and automatically issue policies that meet
the underwriting guidelines of our insurance subsidiaries with limited or no intervention by their personnel. The claims
processing system allows our insurance subsidiaries to process claims efficiently and in an automated environment. The
imaging system eliminates the need to handle paper files, while providing greater access to the same information by a variety of
personnel. We believe our technology systems compare favorably to those of many national property and casualty insurance
carriers in terms of quality and service levels.
Claims
The management of claims is a critical component of the philosophy of our insurance subsidiaries to achieve underwriting
profitability on a consistent basis and is fundamental to the successful operations of our insurance subsidiaries and their
dedication to excellent service. Our senior claims management oversees the claims processing units of each of our insurance
subsidiaries to assure consistency in the claims settlement process. The field office staff of our insurance subsidiaries receives
support from home office technical, litigation, material damage, subrogation and medical audit personnel.
The claims departments of our insurance subsidiaries rigorously manage claims to assure that they settle legitimate claims
quickly and fairly and that they identify questionable claims for defense. In the majority of cases, the personnel of our
insurance subsidiaries, who have significant experience in the property and casualty insurance industry and know the service
philosophy of our insurance subsidiaries, adjust claims. Our insurance subsidiaries provide various means of claims reporting
on a 24-hours a day, seven-days a week basis, including toll-free numbers and electronic reporting through our website and
mobile applications. Our insurance subsidiaries strive to respond to notifications of claims promptly, generally within the day
reported. Our insurance subsidiaries believe that, by responding promptly to claims, they provide quality customer service and
minimize the ultimate cost of the claims. Our insurance subsidiaries engage independent adjusters as needed to handle claims in
areas in which the volume of claims is not sufficient to justify the hiring of internal claims adjusters by our insurance
subsidiaries. Our insurance subsidiaries also employ private adjusters and investigators, structural experts and various outside
legal counsel to supplement their internal staff and to assist in the investigation of claims. Our insurance subsidiaries have a
special investigative unit staffed by former law enforcement officers that attempts to identify and prevent fraud and abuse and
to investigate questionable claims.
The management of the claims departments of our insurance subsidiaries develops and implements policies and procedures
for the establishment of adequate claim reserves. Our insurance subsidiaries employ an actuarial staff that regularly reviews
their reserves for incurred but not reported claims. The management and staff of the claims departments resolve policy coverage
issues, manage and process reinsurance recoveries and handle salvage and subrogation matters. The litigation and personal
injury sections of our insurance subsidiaries manage all claims litigation. Branch office claims above certain thresholds require
home office review and settlement authorization. Our insurance subsidiaries provide their claims adjusters reserving and
settlement authority based upon their experience and demonstrated abilities. Larger or more complicated claims require
consultation and approval of senior claims department management.
Liabilities for Losses and Loss Expenses
Liabilities for losses and loss expenses are estimates at a given point in time of the amounts an insurer expects to pay with
respect to incurred policyholder claims based on facts and circumstances then known. At the time of establishing its estimates,
an insurer recognizes that its ultimate liability for losses and loss expenses will exceed or be less than such estimates. Our
insurance subsidiaries base their estimates of liabilities for losses and loss expenses on assumptions as to future loss trends and
expected claims severity, judicial theories of liability and other factors. However, during the loss adjustment period, our
insurance subsidiaries may learn additional facts regarding individual claims, and, consequently, it often becomes necessary for
our insurance subsidiaries to refine and adjust their estimates of liability. We reflect any adjustments to our insurance
-13-
subsidiaries’ liabilities for losses and loss expenses in our operating results in the period in which our insurance subsidiaries
record the changes in their estimates.
Our insurance subsidiaries maintain liabilities for the payment of losses and loss expenses with respect to both reported and
unreported claims. Our insurance subsidiaries establish these liabilities for the purpose of covering the ultimate costs of settling
all losses, including investigation and litigation costs. Our insurance subsidiaries base the amount of their liability for reported
losses primarily upon a case-by-case evaluation of the type of risk involved, knowledge of the circumstances surrounding each
claim and the insurance policy provisions relating to the type of loss their policyholder incurred. Our insurance subsidiaries
determine the amount of their liability for unreported claims and loss expenses on the basis of historical information by line of
insurance. Our insurance subsidiaries account for inflation in the reserving function through analysis of costs and trends and
reviews of historical reserving results. Our insurance subsidiaries 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 losses.
Reserve estimates can change over time because of unexpected changes in assumptions related to our insurance
subsidiaries’ external environment and, to a lesser extent, assumptions 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 workers’ compensation 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 legal decisions that
increase liability exposure, consistency in judicial interpretations of insurance coverage and policy provisions and the rate of
loss cost inflation. Internal assumptions include consistency in the recording of premium and loss statistics, consistency in the
recording of claims, payment and case reserving methodology, accurate measurement of the impact of rate changes and changes
in policy provisions, consistency in the quality and characteristics of business written within a given line of business and
consistency in reinsurance coverage and the collectability of reinsured losses, among other items. To the extent our insurance
subsidiaries determine that underlying factors impacting their assumptions have changed, our insurance subsidiaries attempt to
make appropriate adjustments for such changes in their reserves. Accordingly, our insurance subsidiaries’ ultimate liability for
unpaid losses and loss expenses will likely differ from the amount recorded at December 31, 2016. For every 1% change in our
insurance subsidiaries’ loss and loss expense reserves, net of reinsurance recoverable, the effect on our pre-tax results of
operations would be approximately $3.5 million.
The establishment of appropriate liabilities is an inherently uncertain process, and we can provide no assurance that our
insurance subsidiaries’ ultimate liability will not exceed our insurance subsidiaries’ loss and loss expense reserves and have an
adverse effect on our results of operations and financial condition. Furthermore, we cannot predict the timing, frequency and
extent of adjustments to our insurance subsidiaries’ estimated future liabilities, 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 losses and loss expenses in certain periods, and, in other periods, their estimates of future
liabilities have exceeded their actual liabilities. Changes in our insurance subsidiaries’ estimates of their liability for losses and
loss expenses generally reflect actual payments and the evaluation of information received since the prior reporting date. Our
insurance subsidiaries recognized an increase in their liability for losses and loss expenses of prior years of $3.0 million, $7.2
million and $14.5 million in 2016, 2015 and 2014, respectively. Our insurance subsidiaries made no significant changes in their
reserving philosophy, key reserving assumptions or claims management personnel, and they have made no significant offsetting
changes in estimates that increased or decreased their loss and loss expense reserves in these years. The 2016 development
represented 0.9% of the December 31, 2015 net carried reserves and resulted primarily from higher-than-expected severity in
the commercial multiple peril and commercial automobile liability lines of business, offset by lower-than-expected severity in
the workers’ compensation line of business, in accident years prior to 2016. The majority of the 2016 development related to
increases in the liability for losses and loss expenses of prior years for Atlantic States and Southern. The 2015 development
represented 2.5% of the December 31, 2014 net carried reserves and resulted primarily from higher-than-expected severity in
the private passenger automobile liability, commercial multiple peril and commercial automobile lines of business in accident
years prior to 2015. The majority of the 2015 development related to increases in the liability for losses and loss expenses of
prior years for Atlantic States and Southern. The 2014 development represented 5.4% of the December 31, 2013 net carried
reserves and resulted primarily from higher-than-expected severity in the private passenger automobile liability, commercial
multiple peril and commercial automobile lines of business in accident years prior to 2014. The majority of the 2014
development related to increases in the liability for losses and loss expenses of prior years for Atlantic States and Southern.
Excluding the impact of catastrophic weather events, our insurance subsidiaries have noted stable amounts in the number
of claims incurred and slight downward trends in the number of claims outstanding at period ends relative to their premium
-14-
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
and economic conditions that have extended the estimated length of disabilities and contributed to increased medical loss costs
and a general slowing of settlement rates in litigated claims. Our insurance subsidiaries could be required to make further
adjustments to their estimates in the future. However, on the basis of our insurance subsidiaries’ internal procedures which
analyze, among other things, their prior assumptions, their experience with similar cases and historical trends such as reserving
patterns, loss payments, pending levels of unpaid claims and product mix, as well as court decisions, economic conditions and
public attitudes, we believe that our insurance subsidiaries have made adequate provision for their liability for losses and loss
expenses at December 31, 2016.
Differences between liabilities reported in our financial statements prepared on a GAAP basis and our insurance
subsidiaries’ financial statements prepared on a SAP basis result from anticipating salvage and subrogation recoveries for
GAAP but not for SAP. These differences amounted to $16.8 million, $15.3 million and $14.2 million at December 31, 2016,
2015 and 2014, respectively.
The following table sets forth a reconciliation of the beginning and ending GAAP net liability of our insurance subsidiaries
for unpaid losses and loss expenses for the periods indicated:
(in thousands)
Year Ended December 31,
2016
2015
2014
Gross liability for unpaid losses and loss expenses at beginning of year
$
578,205
$
538,258
$
Less reinsurance recoverable
Net liability for unpaid losses and loss expenses at beginning of year
Provision for net losses and loss expenses for claims incurred in the
current year
Change in provision for estimated net losses and loss expenses for claims
incurred in prior years
Total incurred
Net losses and loss payments for claims incurred during:
The current year
Prior years
Total paid
Net liability for unpaid losses and loss expenses at end of year
Plus reinsurance recoverable
256,151
322,054
245,957
292,301
2,989
423,316
248,106
149,746
397,852
347,518
259,147
7,200
398,367
236,835
131,779
368,614
322,054
256,151
Gross liability for unpaid losses and loss expenses at end of year
$
606,665
$
578,205
$
420,327
391,167
373,932
495,619
230,014
265,605
14,469
388,401
229,939
131,766
361,705
292,301
245,957
538,258
The following table sets forth the development of the liability for net unpaid losses and loss expenses of our insurance
subsidiaries from 2006 to 2016. Loss data in the table includes business Atlantic States received from the underwriting pool.
“Net liability at end of year for unpaid losses and loss expenses” sets forth the estimated liability for net unpaid losses and
loss expenses recorded at the balance sheet date for each of the indicated years. This liability represents the estimated amount
of net losses and loss expenses for claims arising in the current and all prior years that are unpaid at the balance sheet date,
including losses incurred but not reported.
The “Net liability re-estimated as of” portion of the table shows the re-estimated amount of the previously recorded
liability based on experience for each succeeding year. The estimate increases or decreases as payments are made and more
information becomes known about the severity of the remaining unpaid claims. For example, the 2006 liability has developed a
redundancy after ten years because we expect the re-estimated net losses and loss expenses to be $12.5 million less than the
estimated liability we initially established in 2006 of $163.3 million.
The “Cumulative (excess) deficiency” shows the cumulative excess or deficiency at December 31, 2016 of the liability
estimate shown on the top line of the corresponding column. An excess in liability means that the liability established in prior
years exceeded the amount of actual payments and currently re-estimated unpaid liability remaining. A deficiency in liability
means that the liability established in prior years was less than the amount of actual payments and currently re-estimated
remaining unpaid liability.
-15-
The “Cumulative amount of liability paid through” portion of the table shows the cumulative net losses and loss expense
payments made in succeeding years for net losses incurred prior to the balance sheet date. For example, the 2006 column
indicates that at December 31, 2016 payments equal to $147.2 million of the currently re-estimated ultimate liability for net
losses and loss expenses of $150.8 million had been made.
Amounts shown in the 2008 column of the table include information for Sheboygan for all accident years prior to 2008.
Amounts shown in the 2010 column of the table include information for MICO for all accident years prior to 2010.
(in thousands)
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Year Ended December 31,
Net liability at end of
year for unpaid
losses and loss
expenses
Net liability re-
estimated as of:
$163,312
$150,152
$161,307
$180,262
$217,896
$243,015
$250,936
$265,605
$292,301
$322,054
$347,518
One year later
153,299
152,836
171,130
177,377
217,728
250,611
261,294
280,074
299,501
325,043
Two years later
150,934
154,435
167,446
177,741
217,355
255,612
268,877
281,782
299,919
Three years later
150,078
152,315
166,756
178,403
218,449
257,349
270,473
281,666
Four years later
148,745
151,120
166,852
179,909
218,514
256,460
270,794
Five years later
148,407
151,287
166,788
179,961
218,202
255,660
Six years later
149,031
151,739
166,964
179,858
217,430
Seven years later
149,487
151,790
167,425
179,996
Eight years later
149,700
152,240
167,732
Nine years later
150,241
152,760
Ten years later
150,839
Cumulative (excess)
deficiency
Cumulative amount
of liability paid
through:
(12,473)
2,608
6,425
(266)
(466)
12,645
19,858
16,061
7,618
2,989
One year later
$ 72,499
$ 71,950
$ 79,592
$ 84,565
$ 96,202
$119,074
$126,677
$131,766
$131,779
$149,746
Two years later
104,890
105,576
116,035
123,204
148,140
181,288
191,208
194,169
206,637
Three years later
121,711
124,659
136,837
147,165
178,073
217,138
225,956
233,371
Four years later
132,698
135,392
148,243
161,363
195,948
234,392
245,094
Five years later
138,878
140,280
155,331
169,452
203,633
241,538
Six years later
141,752
143,778
160,324
173,153
206,731
Seven years later
143,784
146,491
162,531
174,376
Eight years later
145,290
148,235
163,432
Nine years later
146,557
149,013
Ten years later
147,210
(in thousands)
2008
2009
2010
2011
2012
2013
2014
2015
2016
Year Ended December 31,
Gross liability at end
of year
Reinsurance
recoverable
Net liability at end of
year
Gross re-estimated
liability
Re-estimated
recoverable
Net re-estimated
liability
$239,809
$263,599
$383,317
$442,408
$458,827
$495,619
$538,258
$578,205
$606,665
78,502
83,337
165,421
199,393
207,891
230,014
245,957
256,151
259,147
161,307
180,262
217,896
243,015
250,936
265,605
292,301
322,054
347,518
254,034
270,076
365,195
459,823
484,317
509,123
544,593
567,406
86,302
90,080
147,765
204,163
213,523
227,457
244,674
242,363
167,732
179,996
217,430
255,660
270,794
281,666
299,919
325,043
Gross cumulative
deficiency
(excess)
14,225
6,477
(18,122)
17,415
25,490
13,504
6,335
(10,799)
-16-
Third-Party Reinsurance
Our insurance subsidiaries and Donegal Mutual purchase certain third-party reinsurance on a combined basis. Le Mars,
Peninsula, Sheboygan and MICO also have separate reinsurance programs that provide certain coverage that is commensurate
with their relative size and exposures. Our insurance subsidiaries use several different reinsurers, all of which, consistent with
the requirements of our insurance subsidiaries and Donegal Mutual, 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- (Excellent) rating from A.M. Best.
The external reinsurance our insurance subsidiaries and Donegal Mutual purchase includes:
•
•
excess of loss reinsurance, under which the losses of Donegal Mutual and our insurance subsidiaries are automatically
reinsured, through a series of contracts, over a set retention (generally $1.0 million); and
catastrophe reinsurance, under which Donegal Mutual and our insurance subsidiaries 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 (generally $5.0 million) and after exceeding an annual aggregate deductible ($975,000 in
2016 and $1.5 million in 2015 and 2014) up to aggregate losses of $170.0 million per occurrence.
The amount of coverage each of these types of reinsurance provides depends upon the amount, nature, size and location of
the risk being reinsured.
For property insurance, our insurance subsidiaries have excess of loss treaties that provide for coverage of $4.0 million per
loss over a set retention of $1.0 million. For liability insurance, our insurance subsidiaries have excess of loss treaties that
provide for coverage of $49.0 million per occurrence over a set retention of $1.0 million. For workers’ compensation insurance,
our insurance subsidiaries have excess of loss treaties that provide for coverage of $9.0 million on any one life over a set
retention of $1.0 million and after exceeding an annual aggregate deductible ($1.2 million in 2016 and $1.0 million in 2015 and
2014).
Our insurance subsidiaries and Donegal Mutual also purchase facultative reinsurance to cover exposures from property and
casualty losses that exceed the limits provided by their respective treaty reinsurance.
For policies effective through December 31, 2014, MICO maintained a quota-share reinsurance agreement with third-party
reinsurers to reduce its net exposures. Effective from December 1, 2010 to December 31, 2011, the quota-share reinsurance
percentage was 50%. Effective January 1, 2012, MICO reduced the quota-share reinsurance percentage to 40%. Effective
January 1, 2013, MICO reduced the quota-share reinsurance percentage to 30%. Effective January 1, 2014, MICO reduced the
quota-share reinsurance percentage to 20%. Effective January 1, 2015, MICO no longer maintains a quota-share reinsurance
agreement with third-party reinsurers.
Investments
At December 31, 2016, 99.8% of all debt securities our insurance subsidiaries held had an investment-grade rating. The
investment portfolios of our insurance subsidiaries did not contain any mortgage loans or any non-performing assets at
December 31, 2016.
-17-
The following table shows the composition of the debt securities (at carrying value) in the investment portfolios of our
insurance subsidiaries, excluding short-term investments, by rating at December 31, 2016:
(dollars in thousands)
(1)
Rating
U.S. Treasury and U.S. agency securities(2)
Aaa or AAA
Aa or AA
A
BBB
B
Total
December 31, 2016
Amount
Percent
$
363,289
42.7%
18,634
237,603
157,956
71,688
2,006
2.2
27.9
18.6
8.4
0.2
$
851,176
100.0%
(1) Ratings assigned by Moody’s Investors Services, Inc. or Standard & Poor’s Corporation.
(2) Includes mortgage-backed securities of $263.3 million.
Our insurance subsidiaries invest in both taxable and tax-exempt securities as part of their strategy to maximize after-tax
income. This strategy considers, among other factors, the alternative minimum tax. Tax-exempt securities made up
approximately 32.2%, 40.9% and 50.2% of the fixed-maturity securities in the combined investment portfolios of our insurance
subsidiaries at December 31, 2016, 2015 and 2014, respectively.
-18-
The following table shows the classification of our investments and the investments of our insurance subsidiaries at
December 31, 2016, 2015 and 2014 (at carrying value):
2016
December 31,
2015
2014
Percent of
Percent of
Percent of
Amount
Total
Amount
Total
Amount
Total
(dollars in thousands)
Fixed maturities(1):
Held to maturity:
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $
61,382
6.5% $
51,194
5.7% $
53,619
6.4%
Obligations of states and political subdivisions
122,793
Corporate securities
Mortgage-backed securities
Total held to maturity
Available for sale:
91,555
60,371
336,101
U.S. Treasury securities and obligations of
U.S. government corporations and agencies
38,588
Obligations of states and political subdivisions
186,083
Corporate securities
Mortgage-backed securities
Total available for sale
Total fixed maturities
Equity securities(2)
Investment in affiliate(3)
Short-term investments(4)
Total investments
13.0
9.6
6.4
35.5
4.1
19.7
9.2
21.5
54.5
90.0
5.0
4.0
1.0
119,115
65,307
74,643
310,259
37,189
236,556
72,812
154,836
501,393
811,652
37,261
38,477
13,432
13.2
7.2
8.3
34.4
4.1
26.3
8.1
17.2
55.7
90.1
4.1
4.3
1.5
110,999
52,226
90,548
307,392
21,259
266,242
53,945
93,704
435,150
742,542
30,822
39,284
20,293
13.3
6.3
10.9
36.9
2.5
32.0
6.5
11.2
52.2
89.1
3.7
4.7
2.5
87,456
202,948
515,075
851,176
47,088
37,885
9,371
$ 945,520
100.0% $ 900,822
100.0% $ 832,941
100.0%
(1) We refer to Notes 1 and 4 to our Consolidated Financial Statements. We value those fixed maturities we classify as held to maturity
at amortized cost; we value those fixed maturities we classify as available for sale at fair value. The total fair value of fixed
maturities we classified as held to maturity was $344.6 million at December 31, 2016, $322.8 million at December 31, 2015 and
$322.2 million at December 31, 2014. The amortized cost of fixed maturities we classified as available for sale was $511.6 million
at December 31, 2016, $489.0 million at December 31, 2015 and $414.2 million at December 31, 2014.
(2) We value equity securities at fair value. Total cost of equity securities was $42.4 million at December 31, 2016, $35.8 million at
December 31, 2015 and $30.0 million at December 31, 2014.
(3) We value our investment in our affiliate at cost, adjusted for our share of earnings and losses of our affiliate as well as changes in
equity of our affiliate due to unrealized gains and losses.
(4) We value short-term investments at cost, which approximates fair value.
-19-
The following table sets forth the maturities (at carrying value) in the fixed maturity portfolio of our insurance subsidiaries
at December 31, 2016, 2015 and 2014:
(dollars in thousands)
Due in(1):
One year or less
Over one year through three years
Over three years through five years
Over five years through ten years
Over ten years through fifteen years
Over fifteen years
Mortgage-backed securities
2016
Percent
of
Total
Amount
December 31,
2015
Percent
of
Total
Amount
2014
Percent
of
Total
Amount
$
44,120
5.2% $
20,990
2.6% $
32,886
4.4%
90,018
67,640
197,967
148,959
39,153
263,319
10.6
7.9
23.3
17.5
4.6
30.9
66,505
66,410
202,122
172,429
53,717
229,479
8.2
8.2
24.9
21.2
6.6
28.3
45,967
62,417
189,082
169,182
58,756
184,252
6.2
8.4
25.5
22.8
7.9
24.8
$ 851,176
100.0% $ 811,652
100.0% $ 742,542
100.0%
(1) Based on stated maturity dates with no prepayment assumptions. Actual maturities will differ because borrowers may have the right
to call or prepay obligations with or without call or prepayment penalties.
As shown above, our insurance subsidiaries held investments in mortgage-backed securities having a carrying value of
$263.3 million at December 31, 2016. The mortgage-backed securities consist primarily of investments in governmental agency
balloon pools with stated maturities between one and 34 years. The stated maturities of these investments limit the exposure of
our insurance subsidiaries to extension risk in the event that interest rates rise and prepayments decline. Our insurance
subsidiaries perform an analysis of the underlying loans when evaluating a mortgage-backed security for purchase, and they
select those securities that they believe will provide a return that properly reflects the prepayment risk associated with the
underlying loans.
The following table sets forth the investment results of our insurance subsidiaries for the years ended December 31, 2016,
2015 and 2014:
(dollars in thousands)
Invested assets(1)
Investment income(2)
Average yield
Average tax-equivalent yield
Year Ended December 31,
2016
2015
2014
$
923,171
$
866,882
$
812,375
22,633
20,950
18,344
2.5%
3.0
2.4%
3.1
2.3%
3.1
(1) Average of the aggregate invested amounts at the beginning and end of the period.
(2) Investment income is net of investment expenses and does not include realized investment gains or losses or provision for income
taxes.
A.M. Best Rating
Donegal Mutual and our insurance subsidiaries have an A.M. Best rating of A (Excellent), based upon the respective
current financial condition and historical statutory results of operations of Donegal Mutual and our insurance subsidiaries. We
believe that the A.M. Best rating of Donegal Mutual and our insurance subsidiaries is an important factor in their marketing of
their products to their agents and customers. A.M. Best’s ratings are industry ratings based on a comparative analysis of the
financial condition and operating performance of insurance companies. A.M. Best’s classifications are A++ and A+ (Superior),
A and A- (Excellent), B++ and B+ (Good), B and B- (Fair), C++ and C+ (Marginal), C and C- (Weak), D (Poor) and E (Under
Regulatory Supervision), F (Liquidation) and S (Suspended). A.M. Best bases its ratings upon factors relevant to the payment
of claims of policyholders and are not directed toward the protection of investors in insurance companies. According to A.M.
Best, the “Excellent” rating that the Donegal Insurance Group maintains is assigned to those companies that, in A.M. Best’s
opinion, have an excellent ability to meet their ongoing obligations to policyholders.
-20-
Regulation
The supervision and regulation of insurance companies consists primarily of the laws and regulations of the various states
in which the insurance companies transact business, with the primary regulatory authority being the insurance regulatory
authorities in the state of domicile of the insurance company. Such supervision and regulation relate to numerous aspects of an
insurance company’s business and financial condition. The primary purpose of such supervision and regulation is the protection
of policyholders. The authority of the state insurance departments includes the establishment of standards of solvency that
insurers must meet and maintain, the licensing of insurers and insurance agents to do business, the nature of, and limitations on,
investments, premium rates for property and casualty insurance, the provisions that insurers must make for current losses and
future liabilities, the deposit of securities for the benefit of policyholders, the approval of policy forms, notice requirements for
the cancellation of policies and the approval of certain changes in control. State insurance departments also conduct periodic
examinations of the affairs of insurance companies and require the filing of annual and other reports relating to the financial
condition of insurance companies.
In addition to state-imposed insurance laws and regulations, the National Association of Insurance Commissioners, or the
NAIC, maintains a risk-based capital system, or RBC, for assessing the adequacy of the statutory capital and surplus of
insurance companies that augments the states’ current fixed dollar minimum capital requirements for insurance companies. At
December 31, 2016, our insurance subsidiaries and Donegal Mutual each exceeded by a substantial margin the minimum levels
of statutory capital the RBC rules require.
Generally, every state has guaranty fund laws under which insurers licensed to do business in that state can be assessed on
the basis of premiums written by the insurer in that state in order to fund policyholder liabilities of insolvent insurance
companies. Under these laws in general, an insurer is subject to assessment, depending upon its market share of a given line of
business, to assist in the payment of policyholder claims against insolvent insurers. Our insurance subsidiaries and Donegal
Mutual have made accruals for their portion of assessments related to such insolvencies based upon the most current
information furnished by the guaranty associations.
We are part of an insurance holding company system of which Donegal Mutual is the ultimate controlling person. All of
the states in which our insurance companies and Donegal Mutual maintain a domicile have legislation that regulates insurance
holding company systems. Each insurance company in the insurance holding company system must register with the insurance
supervisory agency of its state of domicile and furnish information concerning the operations of companies within the insurance
holding company system that may materially affect the operations, management or financial condition of the insurers within the
system. Pursuant to these laws, the respective insurance departments in which our subsidiaries and Donegal Mutual maintain a
domicile may examine our insurance subsidiaries or Donegal Mutual at any time, require disclosure of material transactions by
the holding company with another member of the insurance holding company system and require prior notice or prior approval
of certain transactions, such as “extraordinary dividends” from the insurance subsidiaries to the holding company. We have
insurance subsidiaries domiciled in Iowa, Maryland, Michigan, Pennsylvania, Virginia and Wisconsin.
The Pennsylvania Insurance Holding Companies Act, which generally applies to Donegal Mutual, us and our insurance
subsidiaries, requires that all transactions within an insurance holding company system to which an insurer is a party must be
fair and reasonable and that any charges or fees for services performed must be reasonable. Any management agreement,
service agreement, cost sharing arrangement and material reinsurance agreement must be filed with the Pennsylvania Insurance
Department, or the Department, and is subject to the Department’s review. We have filed with the Department the pooling
agreement between Donegal Mutual and Atlantic States that established the underwriting pool and all material agreements
between Donegal Mutual and our insurance subsidiaries.
Approval of the applicable insurance commissioner is also required prior to consummation of transactions affecting the
control of an insurer. In virtually all states, including the states where our insurance subsidiaries are domiciled, the acquisition
of 10% or more of the outstanding capital stock of an insurer or its holding company or the intent to acquire such an interest
creates a rebuttable presumption of a change in control. Pursuant to an order issued in April 2003, the Department approved
Donegal Mutual’s ownership of up to 70% of our outstanding Class A common stock and Donegal Mutual’s ownership of up to
100% of our outstanding Class B common stock.
Our insurance subsidiaries have the legal obligation under state insurance laws to participate in involuntary insurance
programs for automobile insurance, as well as other property and casualty insurance lines, in the states in which they conduct
business. These programs include joint underwriting associations, assigned risk plans, fair access to insurance requirements
plans, reinsurance facilities, windstorm plans and tornado plans. Legislation establishing these programs requires all companies
that write lines covered by these programs to provide coverage, either directly or through reinsurance, for insureds who are
unable to obtain insurance in the voluntary market. The legislation creating these programs usually allocates a pro rata portion
-21-
of risks attributable to such insureds to each company on the basis of the direct premiums it has written in that state or the
number of automobiles it insures in that state. Generally, state law requires participation in these programs as a condition to
obtaining a certificate of authority. Our loss ratio on insurance we write under these involuntary programs has traditionally been
significantly greater than our loss ratio on insurance we voluntarily write in those states.
Regulatory requirements, including RBC requirements, may impact our insurance subsidiaries’ ability to pay dividends.
The amount of statutory capital and surplus necessary for our insurance subsidiaries to satisfy regulatory requirements,
including RBC requirements, was not significant in relation to our insurance subsidiaries’ statutory capital and surplus at
December 31, 2016. Generally, the maximum amount that one of our insurance subsidiaries may pay to us as ordinary
dividends during any year after notice to, but without prior approval of, the insurance commissioner of its domiciliary state is
limited to a stated percentage of that subsidiary’s statutory capital and surplus at December 31 of the preceding fiscal year or
the net income of that subsidiary for its preceding fiscal year. Our insurance subsidiaries paid dividends to us of $13.0 million,
$3.9 million and $11.5 million in 2016, 2015 and 2014, respectively. At December 31, 2016, the amount of dividends our
insurance subsidiaries could pay to us during 2017, without the prior approval of their respective domiciliary insurance
commissioners, is shown in the following table.
Name of Insurance Subsidiary
Atlantic States
Le Mars
MICO
Peninsula
Sheboygan
Southern
Total
Ordinary
Dividend
Amount
$ 22,790,738
2,554,380
4,986,371
1,639,137
643,035
6,333,100
$ 38,946,761
Donegal Mutual Insurance Company
Donegal Mutual organized as a mutual fire insurance company in Pennsylvania in 1889. At December 31, 2016, Donegal
Mutual had admitted assets of $469.0 million and policyholders’ surplus of $235.2 million. At December 31, 2016, Donegal
Mutual had total liabilities of $233.9 million, including reserves for net losses and loss expenses of $61.8 million and unearned
premiums of $53.6 million. Donegal Mutual’s investment portfolio of $273.1 million at December 31, 2016 consisted primarily
of investment-grade bonds of $20.0 million, its investment in DFSC’s common stock and its investment in our Class A common
stock and our Class B common stock. At December 31, 2016, Donegal Mutual owned 9,851,025 shares, or approximately 46%,
of our Class A common stock, which Donegal Mutual carried on its books at $139.8 million, and 4,647,338 shares, or
approximately 83%, of our Class B common stock, which Donegal Mutual carried on its books at $65.9 million. We present
Donegal Mutual’s financial information in accordance with SAP as the NAIC Accounting Practices and Procedures Manual
requires. Donegal Mutual does not, nor is it required to, prepare financial statements in accordance with GAAP.
Donegal Financial Services Corporation
In 2000, we and Donegal Mutual formed DFSC as a unitary thrift holding company and its wholly owned subsidiary,
Province Bank FSB, as a federal savings bank. In May 2011, DFSC merged with Union National Financial Corporation, or
UNNF, with DFSC as the surviving company in the merger. Under the merger agreement, Province Bank FSB and Union
National Community Bank, which UNNF owned, also merged to form UCB. UCB is a state savings bank with 15 banking
offices, substantially all of which are located in Lancaster County, Pennsylvania, and approximately $536.2 million in assets at
December 31, 2016.
Because Donegal Mutual and we together own all of the outstanding capital stock of DFSC, the Board of Governors of the
Federal Reserve System, or the FRB, regulates Donegal Mutual, DFSC and us as grandfathered savings and loan holding
companies. As a result, Donegal Mutual, DFSC and we are subject to regulation by the FRB under the holding company
provisions of the federal Home Owners’ Loan Act. However, if any of Donegal Mutual, DFSC or we were to lose this
grandfathered status, they or we would become a bank holding company regulated by the FRB under the Bank Holding
Company Act. UCB, as a state-chartered stock savings bank, is subject to regulation and supervision by the Pennsylvania
Department of Banking and by the Federal Deposit Insurance Corporation. The primary purpose of the statutory and regulatory
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supervision of financial institutions is to protect depositors, the financial institutions and the financial system as a whole rather
than the stockholders of financial institutions or their holding companies.
Sections 23A and 23B of the Federal Reserve Act impose quantitative and qualitative restrictions on transactions between a
savings association and its “affiliates.” Affiliates of a savings association include, among other entities, the savings
association’s holding company and non-banking companies under common control with the savings association such as
Donegal Mutual and us and our respective subsidiaries. These restrictions on transactions with affiliates apply to transactions
between DFSC and UCB, on the one hand, and Donegal Mutual and us and our insurance subsidiaries, on the other hand. These
restrictions also apply to transactions among DFSC, UCB and Donegal Mutual. Because DFSC directly controls UCB and
Donegal Mutual and we indirectly control UCB, DFSC, Donegal Mutual and we are subject to the Change in Bank Control Act.
Cautionary Statement Regarding Forward-Looking Statements
This Form 10-K Report and the documents we incorporate by reference in this Form 10-K Report contain “forward-
looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking
statements include certain discussions relating to underwriting, premium and investment income volumes, business strategies,
reserves, profitability and business relationships and our other business activities during 2016 and beyond. In some cases, you
can identify forward-looking statements by terms such as “may,” “will,” “should,” “could,” “would,” “expect,” “plan,”
“intend,” “anticipate,” “believe,” “estimate,” “objective,” “project,” “predict,” “potential,” “goal” and similar expressions.
These forward-looking statements reflect our current views about future events and our current assumptions, and are subject to
known and unknown risks and uncertainties that may cause our results, performance or achievements to differ materially from
those we anticipate or imply by our forward-looking statements. We cannot control or predict many of the factors that could
determine our future financial condition or results of operations. Such factors may include those we describe under “Risk
Factors.” The forward-looking statements contained in this Form 10-K Report reflect our views and assumptions only as of the
date of this Form 10-K Report. Except as required by law, we do not intend to update, and we assume no responsibility for
updating, any forward-looking statements we have made. We qualify all of our forward-looking statements by these cautionary
statements.
Item 1A. Risk Factors.
Risk Factors
Risks Relating to Us and Our Business
Donegal Mutual is our controlling stockholder. Donegal Mutual and its directors and executive officers have potential
conflicts of interest between the best interests of our stockholders and the best interests of the policyholders of Donegal
Mutual.
Donegal Mutual controls the election of all of the members of our board of directors. Six of the eleven members of our
board of directors are also directors of Donegal Mutual. Donegal Mutual and we share the same executive officers. These
common directors and executive officers have a fiduciary duty to our stockholders and also have a fiduciary duty to the
policyholders of Donegal Mutual. Among the potential conflicts of interest that could arise from these separate fiduciary duties
are the following:
• We and Donegal Mutual periodically review the percentage participation of Atlantic States and Donegal Mutual in the
underwriting pool that Donegal Mutual and Atlantic States have maintained since 1986;
• Our insurance subsidiaries and Donegal Mutual annually review and then establish the terms of certain reinsurance
agreements between our insurance subsidiaries and Donegal Mutual. Our objective, over the long-term, is for these
agreements to have approximately an equal balance between payments and recoveries;
• We and Donegal Mutual periodically allocate certain shared expenses among ourselves and our insurance subsidiaries
in accordance with various inter-company expense-sharing agreements; and
• We and our insurance subsidiaries may enter into other transactions or contractual relationships with Donegal Mutual,
including, for example, our purchases from time to time from Donegal Mutual of the surplus note of a mutual
insurance company that will subsequently convert into a stock insurance company and ultimately become one of our
wholly owned subsidiaries.
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Donegal Mutual has sufficient voting power to determine the outcome of all matters submitted to our stockholders for
approval.
Each share of our Class A common stock has one-tenth of a vote per share and generally votes as a single class with our
Class B common stock. Each share of our Class B common stock has one vote per share and generally votes as a single class
with our Class A common stock. Donegal Mutual has the right to vote approximately 73% of the combined voting power of our
Class A common stock and our Class B common stock and has sufficient voting control to:
•
•
elect all of the members of our board of directors, who determine our management and policies; and
control the outcome of any corporate transaction or other matter submitted to a vote of our stockholders for approval,
including mergers or other acquisition proposals and the sale of all or substantially all of our assets, in each case
regardless of how all of our stockholders other than Donegal Mutual vote their shares.
The interests of Donegal Mutual in maintaining this greater-than-majority voting control of us may have an adverse effect
on the price of our Class A common stock and the price of our Class B common stock because of the absence of any potential
“takeover” premium and may, therefore, be inconsistent with the interests of our stockholders other than Donegal Mutual.
Donegal Mutual’s majority voting control of us, certain provisions of our certificate of incorporation and by-laws and
certain provisions of Delaware law make it remote that anyone could acquire actual control of us unless Donegal Mutual
were in favor of another person’s acquisition of control of us.
Donegal Mutual’s majority voting control of us, certain anti-takeover provisions in our certificate of incorporation and by-
laws and certain provisions of the Delaware General Corporation Law, or the DGCL, could delay or prevent the removal of
members of our board of directors and could make a merger, tender offer or proxy contest involving us more expensive as well
as unlikely to succeed, even if such events were in the best interests of our stockholders other than Donegal Mutual. These
factors could also discourage a third party from attempting to acquire control of us. In particular, our certificate of incorporation
and by-laws include the following anti-takeover provisions:
•
•
•
•
•
our board of directors is classified into three classes, so that our stockholders elect only one-third of the members of
our board of directors each year;
our stockholders may remove our directors only for cause;
our stockholders may not take stockholder action except at an annual or special meeting of our stockholders;
the request of stockholders holding at least 20% of the combined voting power of our Class A common stock and our
Class B common stock is required for a stockholder to call a special meeting of our stockholders;
our by-laws require that stockholders provide advance notice to us to nominate candidates for election to our board of
directors or to propose any other item of stockholder business at a stockholders’ meeting;
• we do not permit cumulative voting rights in the election of our directors;
•
•
our certificate of incorporation does not provide for preemptive rights in connection with any issuance of securities by
us; and
our board of directors may issue, without stockholder approval unless otherwise required by law, preferred stock with
such terms as our board of directors may determine.
We have authorized preferred stock that we could issue without stockholder approval to make it more difficult for a
third party to acquire us.
We have 2.0 million authorized shares of preferred stock that we could issue in one or more series without further
stockholder approval, unless the DGCL or the rules of the NASDAQ Global Select Market otherwise require, and upon such
terms and conditions, and having such rights, privileges and preferences, as our board of directors may determine. Our potential
issuance of preferred stock may make it more difficult for a third party to acquire control of us.
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Because we are an insurance holding company, no person can acquire or seek to acquire a 10% or greater interest in
us without first obtaining approval of the insurance commissioners of the states of domicile of each of our insurance
subsidiaries.
We own insurance subsidiaries domiciled in the states of Iowa, Maryland, Michigan, Pennsylvania, Virginia and
Wisconsin, and Donegal Mutual controls an insurance company domiciled in Georgia. The insurance laws of each of these
states provide that no person can acquire or seek to acquire a 10% or greater interest in us without first filing specified
information with the insurance commissioners of those states and obtaining the prior approval of the proposed acquisition of a
10% or greater interest in us by each of the state insurance commissioners based on statutory standards designed to protect the
safety and soundness of us and our insurance subsidiaries.
Because we are a grandfathered unitary savings and loan holding company, no person can acquire or seek to acquire
more than a 10% interest in either class of our common stock without first obtaining approval of, or an exemption from, the
FRB.
We own 48.2% of the outstanding stock of DFSC, which owns all of the outstanding stock of UCB. As a result of our
ownership interest in DFSC, we are a grandfathered unitary savings and loan holding company regulated by the FRB under
HOLA. No person may lawfully acquire more than 10% of any class of voting security of a unitary savings and loan holding
company registered under the Exchange Act, as we are, without first filing specified information with the FRB and obtaining
the FRB’s prior approval of the proposed acquisition or an exemption from the FRB for such acquisition.
Our insurance subsidiaries currently conduct business in a limited number of states, with a concentration of business in
Pennsylvania, Michigan, Maryland and Virginia. Any single catastrophe occurrence or other condition affecting losses in
these states could adversely affect the results of operations of our insurance subsidiaries.
Our insurance subsidiaries conduct business in 21 states located primarily in the Mid-Atlantic, Midwestern, New England
and Southern states. A substantial portion of their business consists of private passenger and commercial automobile,
homeowners and workers’ compensation insurance in Pennsylvania, Michigan, Maryland and Virginia. While our insurance
subsidiaries and Donegal Mutual actively manage their respective exposure to catastrophes through their underwriting
processes and the purchase of reinsurance, a single catastrophic occurrence, destructive weather pattern, general economic
trend, terrorist attack, regulatory development or other condition affecting one or more of the states in which our insurance
subsidiaries conduct substantial business could materially adversely affect their business, financial condition and results of
operations. Common catastrophic events include hurricanes, earthquakes, tornadoes, wind and hail storms, fires, explosions and
severe winter storms.
If the independent agents who market the products of our insurance subsidiaries do not maintain their current levels of
premium writing with us, fail to comply with established underwriting guidelines of our insurance subsidiaries or otherwise
inappropriately market the products of our insurance subsidiaries, the business, financial condition and results of
operations of our insurance subsidiaries could be adversely affected.
Our insurance subsidiaries market their insurance products solely through a network of approximately 2,400 independent
insurance agencies. This agency distribution system is one of the most important components of the competitive profile of our
insurance subsidiaries. As a result, our insurance subsidiaries depend to a material extent upon their independent agents, each of
whom has the authority to bind one or more of our insurance subsidiaries to insurance coverage. To the extent that such
independent agents’ marketing efforts fail to result in the maintenance of their current levels of volume and quality or they bind
our insurance subsidiaries to unacceptable insurance risks, fail to comply with the established underwriting guidelines of our
insurance subsidiaries or otherwise inappropriately market the products of our insurance subsidiaries, the business, financial
condition and results of operations of our insurance subsidiaries could suffer.
The business of our insurance subsidiaries may not continue to grow and may be materially adversely affected if our
insurance subsidiaries cannot retain existing, and attract new, independent agents or if insurance consumers increase their
use of insurance marketing systems other than independent agents.
Our insurance subsidiaries’ ability to retain existing, and to attract new, independent agents is essential to the continued
growth of the business of our insurance subsidiaries. If independent agents find it easier to do business with the competitors of
our insurance subsidiaries, our insurance subsidiaries could find it difficult to retain their existing business or to attract new
business. While our insurance subsidiaries believe they maintain good relationships with the independent agents they have
appointed, our insurance subsidiaries cannot be certain that these independent agents will continue to sell the products of our
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insurance subsidiaries to the consumers these independent agents represent. Some of the factors that could adversely affect the
ability of our insurance subsidiaries to retain existing, and attract new, independent agents include:
•
•
•
•
the significant competition among insurance companies to attract independent agents;
the labor-intensive and time-consuming process of selecting new independent agents;
the insistence of our insurance subsidiaries that independent agents adhere to consistent underwriting standards; and
the ability of our insurance subsidiaries to pay competitive and attractive commissions, bonuses and other incentives
to independent agents.
While our insurance subsidiaries sell insurance to policyholders solely through their network of independent agencies,
many competitors of our insurance subsidiaries sell insurance through a variety of delivery methods, including independent
agencies, captive agencies, the Internet and direct sales. To the extent that current and potential policyholders change their
marketing system preference, the business, financial condition and results of operations of our insurance subsidiaries may be
adversely affected.
We are dependent on dividends from our insurance subsidiaries for the payment of our operating expenses, our debt
service and dividends to our stockholders; however, there are regulatory restrictions and business considerations that may
limit the amount of dividends our insurance subsidiaries may pay to us.
As a holding company, we rely primarily on dividends from our insurance subsidiaries as a source of funds to meet our
corporate obligations and to pay dividends to our stockholders. The amount of dividends our insurance subsidiaries can pay to
us is subject to regulatory restrictions and depends on the amount of surplus our insurance subsidiaries maintain. From time to
time, the NAIC and various state insurance regulators consider modifying the method of determining the amount of dividends
that an insurance company may pay without prior regulatory approval. The maximum amount of ordinary dividends that our
insurance subsidiaries can pay to us in 2017 without prior regulatory approval is approximately $38.9 million. Other business
and regulatory considerations, such as the impact of dividends on surplus that could affect the ratings of our insurance
subsidiaries, competitive conditions, RBC requirements, the investment results of our insurance subsidiaries and the amount of
premiums that our insurance subsidiaries write could also adversely impact the ability of our insurance subsidiaries to pay
dividends to us.
If A.M. Best downgrades the rating it has assigned to Donegal Mutual or any of our insurance subsidiaries, it would
adversely affect their competitive position.
Industry ratings are a factor in establishing and maintaining the competitive position of insurance companies. A.M. Best,
an industry-accepted source of insurance company financial strength ratings, rates Donegal Mutual and our insurance
subsidiaries. A.M. Best ratings provide an independent opinion of an insurance company’s financial health and its ability to
meet its obligations to its policyholders. We believe that the financial strength rating of A.M. Best is material to the operations
of Donegal Mutual and our insurance subsidiaries. Currently, Donegal Mutual and our insurance subsidiaries each have an A
(Excellent) rating from A.M. Best. If A.M. Best were to downgrade the rating of Donegal Mutual or any of our insurance
subsidiaries, it would adversely affect the competitive position of Donegal Mutual or that insurance subsidiary and make it
more difficult for it to market its products and retain its existing policyholders.
Our strategy to grow in part through acquisitions of smaller insurance companies exposes us to risks that could
adversely affect our results of operations and financial condition.
The affiliation with, and acquisition of, smaller, and often undercapitalized, insurance companies involves risks that could
adversely affect our results of operations and financial condition. The risks associated with these affiliations and acquisitions
include:
•
•
•
the potential inadequacy of reserves for losses and loss expenses of the other insurer;
the need to supplement management of the other insurer with additional experienced personnel;
conditions imposed by regulatory agencies that make the realization of cost-savings through integration of the
operations of the other insurer with our operations more difficult;
-26-
•
•
the need of the other insurer for additional capital that we did not anticipate at the time of the acquisition or affiliation;
and
the use of more of our management’s time in improving the operations of the other insurer than we originally
anticipated.
If we cannot obtain sufficient capital to fund the organic growth of our insurance subsidiaries and to make
acquisitions, we may not be able to expand our business.
Our strategy is to expand our business through the organic growth of our insurance subsidiaries and through our strategic
acquisitions of regional insurance companies. Our insurance subsidiaries will require additional capital in the future to support
this strategy. If we cannot obtain sufficient capital on satisfactory terms and conditions, we may not be able to expand the
business of our insurance subsidiaries or to make future acquisitions. Our ability to obtain additional financing will depend on a
number of factors, many of which are beyond our control. For example, we may not be able to obtain additional debt or equity
financing because we or our insurance subsidiaries may already have substantial debt at the time, because we or our insurance
subsidiaries do not have sufficient cash flow to service or repay our existing or additional debt or because financial institutions
are not making financing available. In addition, any equity capital we obtain in the future could be dilutive to our existing
stockholders.
A number of the competitors of our insurance subsidiaries have greater financial strength than our insurance
subsidiaries, and these competitors may be able to offer their products at lower prices than our insurance subsidiaries can
afford to offer their products.
The property and casualty insurance industry is intensely competitive. Competition can be based on many factors,
including:
•
•
•
•
•
•
the perceived financial strength of the insurer;
premium rates;
policy terms and conditions;
policyholder service;
reputation; and
experience.
Our insurance subsidiaries compete with many regional and national property and casualty insurance companies, including
direct sellers of insurance products, insurers having their own agency organizations and other insurers represented by
independent agents. Many of these insurers have greater capital than our insurance subsidiaries, have substantially greater
financial, technical and operating resources and have equal or higher ratings from A.M. Best than our insurance subsidiaries. In
addition, our competitors may become increasingly better capitalized in the future as the property and casualty insurance
industry continues to consolidate.
The greater capitalization of many of the competitors of our insurance subsidiaries enables them to operate with lower
profit margins and, therefore, allows them to market their products more aggressively, to take advantage more quickly of new
marketing opportunities and to offer lower premium rates. Our insurance subsidiaries may not be able to maintain their current
competitive position in the markets in which they operate if their competitors offer prices for their products that are lower than
the prices our insurance subsidiaries are prepared to offer. Moreover, if these competitors lower the price of their products and
our insurance subsidiaries meet their pricing, the profit margins and revenues of our insurance subsidiaries may decrease and
their ratios of claims and expenses to premiums may increase. All of these factors could materially adversely affect the
financial condition and results of operations of our insurance subsidiaries and their A.M. Best ratings.
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Because the investment portfolios of our insurance subsidiaries consist primarily of fixed-income securities, their
investment income and the fair value of their investment portfolios could decrease as a result of a number of factors.
Our insurance subsidiaries invest the premiums they receive from their policyholders and maintain investment portfolios
that consist primarily of fixed-income securities. The management of these investment portfolios is an important component of
the profitability of our insurance subsidiaries. Our insurance subsidiaries derive a significant portion of their operating income
from the income they receive on their invested assets. A number of factors may affect the quality and/or yield of their
investment portfolios, including the general economic and business environment, government monetary policy, changes in the
credit quality of the issuers of the fixed-income securities our insurance subsidiaries own, changes in market conditions and
regulatory changes. The fixed-income securities our insurance subsidiaries own consist primarily of securities issued by
domestic entities that are backed either by the credit or collateral of the underlying issuer. Factors such as an economic
downturn, disruption in the credit market or the availability of credit, a regulatory change pertaining to a particular issuer’s
industry, a significant deterioration in the cash flows of the issuer or a change in the issuer’s marketplace may adversely affect
the ability of our insurance subsidiaries to collect principal and interest from the issuer in which they invest.
The investments of our insurance subsidiaries are also subject to risk resulting from interest rate fluctuations. Increasing
interest rates or a widening in the spread between interest rates available on U.S. Treasury securities and corporate debt or
asset-backed securities, for example, will typically have an adverse impact on the market values of fixed-rate securities. If
interest rates remain at historically low levels, our insurance subsidiaries will generally have a lower overall rate of return on
investments of cash their operations generate. In addition, in the event of the call or maturity of investments in a low interest
rate environment, our insurance subsidiaries may not be able to reinvest the proceeds in securities with comparable interest
rates. Changes in interest rates may reduce both the profitability and the return on the invested capital of our insurance
subsidiaries.
We and our insurance subsidiaries depend on key personnel. The loss of any member of our executive management or
the senior management of our insurance subsidiaries could negatively affect the continuation of our business strategies and
achievement of our growth objectives.
The loss of, or failure to attract, key personnel could significantly impede our financial plans, growth, marketing and other
objectives and those of our insurance subsidiaries. The continued success of our insurance subsidiaries depends to a substantial
extent on the ability and experience of their senior management. Our insurance subsidiaries and we believe that our future
success is dependent on our ability to attract and retain additional skilled and qualified personnel and to expand, train and
manage our employees. We and Donegal Mutual have two to five-year automatically-renewing employment agreements with
our senior officers, including all of our named executive officers.
The reinsurance agreements on which our insurance subsidiaries rely do not relieve our insurance subsidiaries from
their primary liability to their policyholders, and our insurance subsidiaries face a risk of non-payment from their
reinsurers as well as the non-availability of reinsurance in the future.
Our insurance subsidiaries rely on reinsurance agreements to limit their maximum net loss from large single catastrophic
risks or excess of loss risks in areas where our insurance subsidiaries may have a concentration of policyholders. Reinsurance
also enables our insurance subsidiaries to increase their capacity to write insurance because it has the effect of leveraging the
surplus of our insurance subsidiaries. Although the reinsurance our insurance subsidiaries maintain provides that the reinsurer is
liable to them for any reinsured losses, the reinsurance agreements do not generally relieve our insurance subsidiaries from
their primary liability to their policyholders if the reinsurer fails to pay the reinsurance claims of our insurance subsidiaries. To
the extent that a reinsurer is unable to pay losses for which it is liable to our insurance subsidiaries, our insurance subsidiaries
remain liable for such losses. At December 31, 2016, our insurance subsidiaries had approximately $107.2 million of
reinsurance receivables from third-party reinsurers relating to paid and unpaid losses. Any insolvency or inability of these
reinsurers to make timely payments to our insurance subsidiaries under the terms of their reinsurance agreements would
adversely affect the results of operations of our insurance subsidiaries.
Michigan law requires MICO to provide unlimited lifetime medical benefits under the personal injury protection, or PIP,
coverage of the personal automobile and commercial automobile policies it writes in the State of Michigan. Michigan law also
requires MICO to be a member of the Michigan Catastrophic Claims Association, or MCCA, in order to write automobile
insurance. The MCCA receives funding through assessments that its members collect from policyholders in the state and
provides reinsurance for PIP claims that exceed a set retention. At December 31, 2016, MICO had approximately $48.5 million
of reinsurance receivables from MCCA relating to paid and unpaid losses. The MCCA has generated significant operating
deficits in recent years. Although we currently consider the risk to be remote, should the MCCA be unable to fulfill its
payment obligations to MICO in the future, MICO’s financial condition and results of operations could be adversely affected.
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In addition, our insurance subsidiaries face a risk of the non-availability of reinsurance or an increase in reinsurance costs that
could adversely affect their ability to write business or their results of operations. Market conditions beyond the control of our
insurance subsidiaries, such as the amount of surplus in the reinsurance market and the frequency and severity of natural and
man-made catastrophes, affect both the availability and the cost of the reinsurance our insurance subsidiaries purchase. If our
insurance subsidiaries cannot maintain their current level of reinsurance or purchase new reinsurance protection in amounts that
our insurance subsidiaries consider sufficient, our insurance subsidiaries would either have to accept an increase in their net
risk retention or reduce their insurance writings, either of which could adversely affect them.
Our equity investment in DFSC subjects us to certain risks inherent to community banking organizations.
Our equity in the earnings of DFSC primarily reflects the underlying results of operations of UCB. UCB is subject to a
number of risks, which include, but are not limited to, the following:
•
•
•
•
•
•
variations in interest rates that may negatively affect UCB’s financial performance;
inherent risks associated with UCB’s lending activities;
a significant decline in general economic conditions in the specific markets in which UCB operates;
the potential adverse impact of extensive federal and state regulation and supervision of banking organizations;
potential declines in the value of UCB’s investments that are considered other than temporary;
competition for loans and deposits with numerous regional and national banks and other financial institutions; and
• UCB’s inability to attract and retain qualified key personnel.
The growth and profitability of our insurance subsidiaries depend, in part, on the effective maintenance and ongoing
development of Donegal Mutual’s information technology systems.
Our insurance subsidiaries utilize Donegal Mutual’s information technology systems to conduct their insurance business,
including policy quoting and issuance, claims processing, processing of incoming premium payments and other important
functions. As a result, the ability of our insurance subsidiaries to grow their business and conduct profitable operations depends
on Donegal Mutual’s ability to maintain its existing information technology systems and to develop new technology systems
that will support the business of Donegal Mutual and our insurance subsidiaries in a cost-efficient manner and provide
information technology capabilities equivalent to those of our competitors. The allocation among our insurance subsidiaries
and Donegal Mutual of the costs of developing and maintaining Donegal Mutual’s information technology systems may impact
adversely our insurance subsidiaries’ expense ratio and underwriting profitability, and such costs may exceed Donegal Mutual’s
and our expectations. In addition, while Donegal Mutual is committed to developing and maintaining information technology
systems that will allow Donegal Mutual and our insurance subsidiaries to compete effectively, Donegal Mutual’s information
technology systems may not deliver the benefits Donegal Mutual and we expect and may fail to keep pace with our
competitors’ information technology systems. As a result, Donegal Mutual and our insurance subsidiaries may not have the
ability to grow their business and meet their profitability objectives.
Our insurance subsidiaries rely on Donegal Mutual’s information technology systems, and the disruption or failure of
these systems or the compromise of the security of those systems that results in the theft or misuse of confidential
information could materially impact adversely the business of Donegal Mutual and our insurance subsidiaries.
Our insurance subsidiaries’ business operations depend significantly upon the availability and successful operation of
Donegal Mutual’s information technology systems in order to process new and renewal business, service their policies, process
and settle claims and facilitate processing of premium payments. In addition, in the normal course of their operations, Donegal
Mutual and our insurance subsidiaries collect, utilize and maintain confidential information regarding individuals and
businesses. While Donegal Mutual has established various security measures to protect its information technology systems and
confidential data, unanticipated computer viruses, malware, power outages, unauthorized access or other cyberattacks could
disrupt those systems or result in the misappropriation or loss of confidential data. Disruption in the availability of Donegal
Mutual’s information technology systems could impact the ability of Donegal Mutual and our insurance subsidiaries to
underwrite and process their policies timely, process and settle claims promptly and provide expected levels of customer
service to agents and policyholders.
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While Donegal Mutual has identified threats to the security of its information technology systems, Donegal Mutual and we
are unaware of any significant breach of the security measures Donegal Mutual maintains. A significant breach of the security
of Donegal Mutual’s information technology systems that results in the misappropriation or misuse of confidential information
could damage the business reputation of Donegal Mutual and our insurance subsidiaries and could expose Donegal Mutual and
our insurance subsidiaries to litigation. The financial impact to Donegal Mutual, us and our insurance subsidiaries of a
significant breach could be material.
Risks Relating to the Property and Casualty Insurance Industry
Industry trends, such as increased litigation against the insurance industry and individual insurers, the willingness of
courts to expand covered causes of loss, rising jury awards, escalating medical costs, increasing loss frequency due to
distracted driving and other factors and increasing loss severity may contribute to increased costs and result in the
deterioration of the reserves of our insurance subsidiaries.
Loss severity in the property and casualty insurance industry has increased in recent years, principally driven by larger
court judgments and increasing medical and automobile repair costs. The industry has also experienced increases in the
frequency of automobile losses due to distracted driving, increases in miles driven due to lower fuel costs and other factors. In
addition, many classes of complainants have brought legal actions and proceedings that tend to increase the size of judgments.
The propensity of policyholders and third-party claimants to litigate and the willingness of courts to expand causes of loss and
the size of awards to eliminate exclusions and to increase coverage limits may make the loss reserves of our insurance
subsidiaries inadequate for current and future losses.
Loss or significant restriction of the use of credit scoring in the pricing and underwriting of the personal lines
insurance products by our insurance subsidiaries could adversely affect their future profitability.
Our insurance subsidiaries use credit scoring as a factor in making risk selection and pricing decisions for personal lines
insurance products where allowed by state law. Recently, some consumer groups and regulators have questioned whether the
use of credit scoring unfairly discriminates against people with low incomes, minority groups and the elderly. These consumer
groups and regulators often call for the prohibition or restriction on the use of credit scoring in underwriting and pricing. Laws
or regulations enacted in a number of states that significantly curtail the use of credit scoring in the underwriting process could
reduce the future profitability of our insurance subsidiaries.
Changes in applicable insurance laws or regulations or changes in the way insurance regulators administer those laws
or regulations could adversely affect the operating environment of our insurance subsidiaries and increase their exposure to
loss or put them at a competitive disadvantage.
Property and casualty insurers are subject to extensive supervision in their domiciliary states and in the states in which they
do business. This regulatory oversight includes matters relating to:
•
•
licensing and examination;
approval of premium rates;
• market conduct;
•
•
•
policy forms;
limitations on the nature and amount of certain investments;
claims practices;
• mandated participation in involuntary markets and guaranty funds;
•
•
•
reserve adequacy;
insurer solvency;
transactions between affiliates;
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•
•
the amount of dividends that insurers may pay; and
restrictions on underwriting standards.
Such regulation and supervision are primarily for the benefit and protection of policyholders rather than stockholders. For
instance, our insurance subsidiaries are subject to involuntary participation in specified markets in various states in which they
operate and the premium rates our insurance subsidiaries may charge do not always correspond with the underlying costs of
providing that coverage.
The NAIC and state insurance regulators are re-examining existing laws and regulations, specifically focusing on:
•
•
•
•
•
•
•
insurance company investments;
issues relating to the solvency of insurance companies;
risk-based capital guidelines;
restrictions on the terms and conditions included in insurance policies;
certain methods of accounting;
reserves for unearned premiums, losses and other purposes;
the values at which insurance companies may carry investment securities and the definition of other-than-temporary
impairment of investment securities; and
•
interpretations of existing laws and the development of new laws.
Changes in state laws and regulations, as well as changes in the way state regulators view related-party transactions in
particular, could change the operating environment of our insurance subsidiaries and have an adverse effect on their business.
The state insurance regulatory framework has recently come under increased federal scrutiny. Congress is considering
proposals that it should create an optional federal charter for insurers. Federal chartering has the potential to create an uneven
playing field for insurers by subjecting federally-chartered and state-chartered insurers to different regulatory requirements.
Federal chartering also raises the possibility of duplicative or conflicting federal and state requirements. In addition, if federal
legislation repeals the partial exemption for the insurance industry from federal antitrust laws, our ability to collect and share
loss cost data with the industry could adversely affect the results of operations of our insurance subsidiaries.
Insurance companies are subject to assessments, based on their market share in a given line of business, to assist in the
payment of unpaid claims and related costs of insolvent insurance companies. Such assessments could adversely affect the
financial condition of our insurance subsidiaries.
Our insurance subsidiaries are subject to assessments pursuant to the guaranty fund laws of the various states in which they
conduct business. Generally, under these laws, our insurance subsidiaries can be assessed, depending upon the market share of
our insurance subsidiaries in a given line of insurance business, to assist in the payment of unpaid claims and related costs of
insolvent insurance companies in those states. We cannot predict the number and magnitude of future insurance company
failures in the states in which our insurance subsidiaries conduct business, but future assessments could adversely affect the
business, financial condition and results of operations of our insurance subsidiaries.
Our insurance subsidiaries must establish premium rates and loss and loss expense reserves from forecasts of the
ultimate costs they expect will arise from risks underwritten during the policy period, and the profitability of our insurance
subsidiaries could be adversely affected if their premium rates or reserves are insufficient to satisfy their ultimate costs.
One of the distinguishing features of the property and casualty insurance industry is that it prices its products before it
knows its costs, since insurers generally establish their premium rates before they know the amount of losses they will incur.
Accordingly, our insurance subsidiaries establish premium rates from forecasts of the ultimate costs they expect to arise from
risks they have underwritten during the policy period. These premium rates may not be sufficient to cover the ultimate losses
our insurance subsidiaries incur. Further, our insurance subsidiaries must establish reserves for losses and loss expenses as
balance sheet liabilities based upon estimates involving actuarial and statistical projections at a given time of what our
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insurance subsidiaries expect their ultimate liability to be. Significant periods of time often elapse between the occurrence of an
insured loss and the reporting of the loss and the payment of that loss. It is possible that our insurance subsidiaries’ ultimate
liability could exceed these estimates because of the future development of known losses, the existence of losses that have
occurred but are currently unreported and larger than historical settlements of pending and unreported claims. The process of
estimating reserves is inherently judgmental and can be influenced by a number of factors, including the following:
•
•
•
•
•
trends in claim frequency and severity;
changes in operations;
emerging economic and social trends;
inflation; and
changes in the regulatory and litigation environments.
If our insurance subsidiaries have insufficient premium rates or reserves, insurance regulatory authorities may require
increases to these reserves. An increase in reserves results in an increase in losses and a reduction in net income for the period
in which our insurance subsidiaries recognize a deficiency in reserves. Accordingly, an increase in reserves may adversely
impact the business, liquidity, financial condition and results of operations of our insurance subsidiaries.
The financial results of our insurance subsidiaries depend primarily on their ability to underwrite risks effectively and
to charge adequate rates to policyholders.
The financial condition, cash flows and results of operations of our insurance subsidiaries depend on their ability to
underwrite and set rates accurately for a full spectrum of risks across a number of lines of insurance. Rate adequacy is
necessary to generate sufficient premium to pay losses, loss adjustment expenses and underwriting expenses and to realize a
profit.
The ability to underwrite and set rates effectively is subject to a number of risks and uncertainties, including:
•
•
•
•
•
•
•
•
•
•
•
•
•
the availability of sufficient, reliable data;
the ability to conduct a complete and accurate analysis of available data;
the ability to recognize in a timely manner changes in trends and to project both the severity and frequency of losses
with reasonable accuracy;
uncertainties generally inherent in estimates and assumptions;
the ability to project changes in certain operating expense levels with reasonable certainty;
the development, selection and application of appropriate rating formulae or other pricing methodologies;
the use of modeling tools to assist with correctly and consistently achieving the intended results in underwriting and
pricing;
the ability to innovate with new pricing strategies and the success of those innovations on implementation;
the ability to secure regulatory approval of premium rates on an adequate and timely basis;
the ability to predict policyholder retention accurately;
unanticipated court decisions, legislation or regulatory action;
unanticipated changes in our claim settlement practices;
changes in driving patterns for auto exposures;
-32-
•
•
•
•
•
•
changes in weather patterns for property exposures;
changes in the medical sector of the economy;
unanticipated changes in auto repair costs, auto parts prices and used car prices;
the impact of emerging technologies on pricing, insurance coverages and loss costs;
the impact of inflation and other factors on the cost of construction materials and labor;
the ability to monitor property concentration in catastrophe-prone areas, such as hurricane, earthquake and wind/hail
regions; and
•
the general state of the economy in the states in which our insurance subsidiaries operate.
Such risks may result in the premium rates of our insurance subsidiaries being based on inadequate or inaccurate data or
inappropriate assumptions or methodologies and may cause our estimates of future changes in the frequency or severity of
claims to be incorrect. As a result, our insurance subsidiaries could underprice risks, which would negatively affect our
margins, or our insurance subsidiaries could overprice risks, which could reduce their volume and competitiveness. In either
event, underpricing or overpricing risks could adversely impact our operating results, financial condition and cash flows.
The cyclical nature of the property and casualty insurance industry may reduce the revenues and profit margins of our
insurance subsidiaries.
The property and casualty insurance industry is highly cyclical with respect to both individual lines of business and the
overall insurance industry. Premium rate levels relate to the availability of insurance coverage, which varies according to the
level of surplus available in the insurance industry. The level of surplus in the industry varies with returns on invested capital
and regulatory barriers to withdrawal of surplus. Increases in surplus may result in increased price competition among property
and casualty insurers. If our insurance subsidiaries find it necessary to reduce premiums or limit premium increases due to
these competitive pressures on pricing, our insurance subsidiaries may experience a reduction in their profit margins and
revenues, an increase in their ratios of losses and expenses to premiums and, therefore, lower profitability.
Risks Relating to Our Common Stock
The price of our common stock may be adversely affected by its low trading volume.
Our Class A common stock and our Class B common stock have limited liquidity. Reported average daily trading volume
for our Class A common stock and our Class B common stock for the year ended December 31, 2016 was approximately
32,975 shares and approximately 556 shares, respectively. This limited liquidity could subject our shares of Class A common
stock and our shares of Class B common stock to greater price volatility.
Donegal Mutual’s majority voting control of our stock, anti-takeover provisions of our certificate of incorporation and
by-laws and certain state laws make it unlikely anyone could acquire control of us unless Donegal Mutual were in favor of
the acquisition of control.
Donegal Mutual’s ownership of our Class A common stock and Class B common stock, certain anti-takeover provisions of
our certificate of incorporation and by-laws, certain provisions of Delaware law and the insurance laws and regulations of
Iowa, Georgia, Maryland, Michigan, Pennsylvania, Virginia and Wisconsin could delay or prevent the removal of members of
our board of directors and could make it more difficult for a merger, tender offer or proxy contest involving us to succeed, even
if our stockholders other than Donegal Mutual believed any of such events would be beneficial to them. These factors could
also discourage a third party from attempting to acquire control of us. The classification of our board of directors could also
have the effect of delaying or preventing a change in our control.
In addition, we have 2,000,000 authorized shares of preferred stock that we could issue in one or more series without
stockholder approval, to the extent applicable law permits, and upon such terms and conditions, and having such rights,
privileges and preferences, as our board of directors may determine. Our ability to issue preferred stock could make it difficult
for a third party to acquire us. We have no current plans to issue any preferred stock.
-33-
Moreover, the DGCL contains provisions that prohibit certain business combination transactions under certain
circumstances. In addition, state insurance laws and regulations generally prohibit any person from acquiring, or seeking to
acquire, a 10% or greater interest in an insurance company without the prior approval of the state insurance commissioner of
the state of domicile of the insurer. Because of our indirect control of UCB, HOLA also prohibits the acquisition of a 10% or
greater interest in either our Class A common stock or our Class B common stock without the prior approval of the FRB or the
granting of an exemption by the FRB.
Item 1B. Unresolved Staff Comments.
We have no unresolved written comments from the Securities and Exchange Commission ("SEC") staff regarding our
filings under the Exchange Act.
Item 2. Properties.
We and our insurance subsidiaries share administrative headquarters with Donegal Mutual in a building in Marietta,
Pennsylvania that Donegal Mutual owns. Donegal Mutual charges us and our insurance subsidiaries for an appropriate portion
of the building expenses under an inter-company allocation agreement. The Marietta headquarters has approximately 235,000
square feet of office space. Southern owns a facility of approximately 10,000 square feet in Glen Allen, Virginia. Le Mars owns
a facility of approximately 25,500 square feet in Le Mars, Iowa, Peninsula owns a facility of approximately 14,600 square feet
in Salisbury, Maryland and Sheboygan owns a facility of approximately 8,800 square feet in Sheboygan Falls, Wisconsin.
Item 3. Legal Proceedings.
Our insurance subsidiaries are parties to routine litigation that arises in the ordinary course of their insurance business. We
believe that the resolution of these lawsuits will not have a material adverse effect on the financial condition or results of
operations of our insurance subsidiaries.
Item 4. Mine Safety Disclosures.
Not applicable.
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Executive Officers of the Registrant
The following table sets forth information regarding the executive officers of Donegal Mutual and the Registrant as of
December 31, 2016, each of whom has served with us for more than 10 years:
Name
Kevin G. Burke
Cyril J. Greenya
Jeffrey D. Miller
Donald H. Nikolaus
Sanjay Pandey
Age
Position
51 President and Chief Executive Officer of us since 2015; Executive Vice President
and Chief Operating Officer of Donegal Mutual since 2014; Senior Vice President
of Human Resources of Donegal Mutual and us from 2005 to 2014; Vice President
of Human Resources of Donegal Mutual and us from 2001 to 2005; other positions
from 2000 to 2001.
72 Senior Vice President and Chief Underwriting Officer of Donegal Mutual and us
since 2005; Senior Vice President, Underwriting, of Donegal Mutual from 1997 to
2005; other positions from 1986 to 1997.
52 Executive Vice President and Chief Financial Officer of Donegal Mutual and us
since 2014; Senior Vice President and Chief Financial Officer of Donegal Mutual
and us from 2005 to 2014; Vice President and Controller of Donegal Mutual and
us from 2000 to 2005; other positions from 1995 to 2000.
74 President and Chief Executive Officer of Donegal Mutual since 1981; President
and Chief Executive Officer of us from 1986 to 2015. Chairman of our board of
directors since April 2012.
50 Senior Vice President and Chief Information Officer of Donegal Mutual and us
since 2013; Vice President and Chief Information Officer of Donegal Mutual and
us from 2009 to 2013; other positions from 2000 to 2009.
Robert G. Shenk
63 Senior Vice President, Claims, of Donegal Mutual and us since 1997; other
positions from 1986 to 1997.
Daniel J. Wagner
56 Senior Vice President and Treasurer of Donegal Mutual and us since 2005; Vice
President and Treasurer of Donegal Mutual and us from 2000 to 2005; other
positions from 1993 to 2000.
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PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity
Securities.
Our Class A common stock and Class B common stock trade on the NASDAQ Global Select Market under the symbols
“DGICA” and “DGICB,” respectively. The following table shows the dividends declared per share and the stock price range for
both classes of stock for each quarter during 2016 and 2015:
Quarter
2016 - Class A
1st
2nd
3rd
4th
2016 - Class B
1st
2nd
3rd
4th
2015 - Class A
1st
2nd
3rd
4th
2015 - Class B
1st
2nd
3rd
4th
High
Low
Cash
Dividend
Declared
Per Share
$ 15.00
16.50
16.85
18.55
$ 12.69 $
—
13.30 0.1375
15.48 0.1375
14.49 0.2750
$ 16.15
15.99
22.88
20.55
$ 13.51 $
—
12.56 0.1200
14.88 0.1200
15.30 0.2400
$ 16.47
15.99
15.48
14.87
$ 14.53 $
—
14.29 0.1350
13.45 0.1350
13.05 0.2700
$ 27.00
20.95
21.60
18.72
$ 18.95 $
—
18.00 0.1175
18.54 0.1175
16.00 0.2350
At the close of business on March 3, 2017, we had approximately 1,887 holders of record of our Class A common stock
and approximately 301 holders of record of our Class B common stock.
We declared dividends of $0.55 per share on our Class A common stock and $0.48 per share on our Class B common stock
in 2016, compared to $0.54 per share on our Class A common stock and $0.47 per share on our Class B common stock in 2015.
-36-
Stock Performance Chart.
The following graph provides an indicator of cumulative total stockholder returns on our Class A common stock and our
Class B common stock for the period beginning on December 31, 2011 and ending on December 31, 2016, compared to the
Russell 2000 Index and a peer group comprised of seven property and casualty insurance companies over the same period. The
peer group consists of Cincinnati Financial Corp., EMC Insurance Group Inc., Hanover Insurance, Horace Mann Educators,
Selective Insurance Group Inc., State Auto Financial Corp. and United Fire and Casualty Co. The graph shows the change in
value of an initial $100 investment on December 31, 2011, assuming reinvestment of all dividends.
2011
2012
2013
2014
2015
2016
Donegal Group Inc. Class A
$100.00
$102.69
$120.43
$125.28
$114.36
$147.16
Donegal Group Inc. Class B
Russell 2000 Index
Peer Group
100.00
100.00
100.00
112.30
114.63
126.71
150.66
157.05
181.18
139.64
162.59
194.18
109.83
153.31
226.12
108.99
183.17
289.48
Value Line Publishing LLC prepared the foregoing performance graph and data. The performance graph and
accompanying data shall not be deemed "filed" as part of this Form 10-K Report for purposes of Section 18 of the Exchange
Act or otherwise subject to the liabilities of that section and should not be deemed incorporated by reference into any other
filing we make under the Securities Act of 1933 or the Securities Exchange Act of 1934, except to the extent we specifically
incorporate the performance graph and accompanying data by reference into such filing.
-37-
Item 6. Selected Financial Data.
Year Ended December 31,
2016
2015
2014
2013
2012
Income Statement Data
Premiums earned
$ 656,204,797 $ 605,640,728 $ 556,497,535 $ 515,291,944 $ 475,002,222
Investment income, net
22,632,730
20,949,698
18,344,382
18,795,239
20,168,919
Realized investment gains
2,525,575
1,934,424
3,134,081
2,423,442
6,859,439
Total revenues
688,423,020
636,387,263
586,547,742
547,110,065
514,982,585
Income before income taxes
41,328,407
27,592,268
16,282,817
32,710,265
27,858,260
Income taxes
Net income
10,527,270
6,602,235
1,743,799
6,388,273
4,765,640
30,801,137
20,990,033
14,539,018
26,321,992
23,092,620
Basic earnings per share - Class A
Diluted earnings per share -
Class A
Cash dividends per share - Class A
Basic earnings per share - Class B
Diluted earnings per share -
Class B
Cash dividends per share - Class B
Balance Sheet Data at Year End
1.19
1.16
0.55
1.06
1.06
0.48
0.78
0.77
0.54
0.69
0.69
0.47
0.56
0.55
0.53
0.49
0.49
0.46
1.04
1.02
0.51
0.94
0.94
0.46
0.92
0.91
0.49
0.83
0.83
0.44
Total investments
Total assets
Debt obligations
Stockholders’ equity
Book value per share
$ 945,519,655 $ 900,822,274 $ 832,941,077 $ 791,808,307 $ 806,429,032
1,623,131,037 1,537,834,415 1,458,654,644 1,385,410,502 1,336,889,187
74,000,000
86,000,000
58,500,000
63,000,000
72,465,000
438,615,320
408,388,568
416,134,643
396,877,111
400,034,094
16.21
15.66
15.40
15.02
15.63
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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
Donegal Mutual Insurance Company (“Donegal Mutual”) organized us as an insurance holding company on August 26,
1986. See “Business - History and Organizational Structure” for more information. Our insurance subsidiaries, Atlantic States
Insurance Company (“Atlantic States”), Southern Insurance Company of Virginia (“Southern”), Le Mars Insurance Company
(“Le Mars”), The Peninsula Insurance Company and Peninsula Indemnity Company (collectively, “Peninsula”), Sheboygan
Falls Insurance Company (“Sheboygan Falls”) and Michigan Insurance Company (“MICO”) write personal and commercial
lines of property and casualty coverages exclusively through a network of independent insurance agents in certain Mid-
Atlantic, Midwest, New England and Southern states. The personal lines products of our insurance subsidiaries consist
primarily of homeowners and private passenger automobile policies. The commercial lines products of our insurance
subsidiaries consist primarily of commercial automobile, commercial multi-peril and workers’ compensation policies. We also
own 48.2% of the outstanding stock of Donegal Financial Services Corporation (“DFSC”), a grandfathered unitary savings and
loan holding company. Donegal Mutual owns the remaining 51.8% of the outstanding stock of DFSC.
At December 31, 2016, Donegal Mutual held approximately 46% of our outstanding Class A common stock and
approximately 83% of our outstanding Class B common stock. This ownership provides Donegal Mutual with approximately
73% of the combined voting power of our outstanding shares of Class A common stock and our outstanding shares of Class B
common stock.
Donegal Mutual and Atlantic States entered into a proportional reinsurance agreement, or pooling agreement, effective
October 1, 1986. Under this pooling agreement, Donegal Mutual and Atlantic States pool and then share proportionately
substantially all of their respective premiums, losses and expenses. Atlantic States’ participation in the pool has been 80%
since March 1, 2008. The operations of our insurance subsidiaries and Donegal Mutual are interrelated due to the pooling
agreement and other factors. While maintaining the separate corporate existence of each company, our insurance subsidiaries
and Donegal Mutual conduct business together as the Donegal Insurance Group. As such, Donegal Mutual and our insurance
subsidiaries share the same business philosophy, the same management, the same employees and the same facilities and offer
the same types of insurance products. See “Business - History and Organizational Structure” for more information regarding
the pooling agreement and other transactions with our affiliates.
On July 18, 2013, our board of directors authorized a share repurchase program pursuant to which we have the authority to
purchase up to 500,000 additional shares of our Class A common stock at prices prevailing from time to time in the open
market subject to the provisions of the SEC Rule 10b-18 and in privately negotiated transactions. We did not purchase any
shares of our Class A common stock under this program during 2016. We purchased 57,658 shares of our Class A common
stock under this program during 2015. We have purchased a total of 57,658 shares of our Class A common stock under this
program from its inception through December 31, 2016.
On December 18, 2015, we and Donegal Mutual entered into a Stock Purchase and Standstill Agreement (the “Purchase
Agreement”) with Gregory M. Shepard (“Mr. Shepard”). Under the terms of the Purchase Agreement, we purchased 2,000,000
shares of our Class A common stock from Mr. Shepard on December 22, 2015 for a price of $33.0 million, or $16.50 per share,
representing a premium of approximately $5.8 million from the market price of our Class A common stock on the date of the
Purchase Agreement. We reported this premium in excess of the market price as an expense in our consolidated statements of
income and comprehensive income for 2015 that we include in this Form 10-K Report. We borrowed $33.0 million under our
existing line of credit with M&T Bank to fund the purchase. The Purchase Agreement contains a number of typical “standstill”
provisions pursuant to which Mr. Shepard and any affiliate of Mr. Shepard agree not to take a number of “control-seeking”
actions with respect to us for a period of 25 years from the date of the Purchase Agreement.
Critical Accounting Policies and Estimates
We combine our financial statements with those of our insurance subsidiaries and present them on a consolidated basis in
accordance with GAAP.
Our insurance subsidiaries make estimates and assumptions that can have a significant effect on amounts and disclosures
we report in our financial statements. The most significant estimates relate to the reserves of our insurance subsidiaries for
property and casualty insurance unpaid losses and loss expenses, valuation of investments and determination of other-than-
temporary investment impairments and the policy acquisition costs of our insurance subsidiaries. While we believe our
estimates and the estimates of our insurance subsidiaries are appropriate, the ultimate amounts may differ from the estimates
-39-
we provided. We regularly review our methods for making these estimates, and we reflect any adjustment we consider
necessary in our results of operations for the period in which we make an adjustment.
Liability for Losses and Loss Expenses
Liabilities for losses and loss expenses are estimates at a given point in time of the amounts an insurer expects to pay with
respect to policyholder claims based on facts and circumstances then known to the insurer. At the time of establishing its
estimates, an insurer recognizes that its ultimate liability for losses and loss expenses will exceed or be less than such estimates.
Our insurance subsidiaries base their estimates of liabilities for losses and loss expenses on assumptions as to future loss trends,
expected claims severity, judicial theories of liability and other factors. However, during the loss adjustment period, our
insurance subsidiaries may learn additional facts regarding individual claims, and, consequently, it often becomes necessary for
our insurance subsidiaries to refine and adjust their estimates of liability. We reflect any adjustments to our insurance
subsidiaries’ liabilities for losses and loss expenses in our consolidated results of operations in the period in which our
insurance subsidiaries make the changes in estimates.
Our insurance subsidiaries maintain liabilities for the payment of losses and loss expenses with respect to both reported
and unreported claims. Our insurance subsidiaries establish these liabilities for the purpose of covering the ultimate costs of
settling all losses, including investigation and litigation costs. Our insurance subsidiaries base the amount of their liability for
reported losses primarily upon a case-by-case evaluation of the type of risk involved, knowledge of the circumstances
surrounding each claim and the insurance policy provisions relating to the type of loss the policyholder incurred. Our insurance
subsidiaries determine the amount of their liability for unreported claims and loss expenses on the basis of historical
information by line of insurance. Our insurance subsidiaries account for inflation in the reserving function through analysis of
costs and trends and reviews of historical reserving results. Our insurance subsidiaries 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 losses.
Reserve estimates can change over time because of unexpected changes in assumptions related to our insurance
subsidiaries’ external environment and, to a lesser extent, assumptions related to our insurance subsidiaries’ internal operations.
For example, our insurance subsidiaries have experienced 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 workers’ compensation 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 consistency in the recording of premium and loss statistics,
consistency in the recording of claims, payment and case reserving methodology, accurate measurement of the impact of rate
changes and changes in policy provisions, consistency in the quality and characteristics of business written within a given line
of business and consistency in reinsurance coverage and collectability of reinsured losses, among other items. To the extent our
insurance subsidiaries determine that underlying factors impacting their assumptions have changed, our insurance subsidiaries
attempt to make appropriate adjustments for such changes in their reserves. Accordingly, our insurance subsidiaries’ ultimate
liability for unpaid losses and loss expenses will likely differ from the amount recorded at December 31, 2016. For every 1%
change in our insurance subsidiaries’ estimate for loss and loss expense reserves, net of reinsurance recoverable, the effect on
our pre-tax results of operations would be approximately $3.5 million.
The establishment of appropriate liabilities is an inherently uncertain process and we can provide no assurance that our
insurance subsidiaries’ ultimate liability will not exceed our insurance subsidiaries’ loss and loss expense reserves and have an
adverse effect on our results of operations and financial condition. Furthermore, we cannot predict the timing, frequency and
extent of adjustments to our insurance subsidiaries’ estimated future liabilities, 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 losses and loss expenses in certain periods and, in other periods, their estimates of future
liabilities have exceeded their actual liabilities. Changes in our insurance subsidiaries’ estimate of their liability for losses and
loss expenses generally reflect actual payments and their evaluation of information received since the prior reporting date. Our
insurance subsidiaries recognized an increase in their liability for losses and loss expenses of prior years of $3.0 million, $7.2
million and $14.5 million in 2016, 2015 and 2014, respectively. Our insurance subsidiaries made no significant changes in their
reserving philosophy, key reserving assumptions or claims management personnel, and have made no significant offsetting
changes in estimates that increased or decreased their loss and loss expense reserves in these years. The 2016 development
represented 0.9% of the December 31, 2015 net carried reserves and resulted primarily from higher-than-expected severity in
the commercial multiple peril and commercial automobile liability lines of business in accident years prior to 2016.
-40-
Excluding the impact of weather events, our insurance subsidiaries have noted stable amounts in the number of claims
incurred and a slight downward trend in 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 United States property and casualty insurance industry has experienced increased
litigation trends and economic conditions that have extended the estimated length of disabilities and contributed to increased
medical loss costs. We have also experienced a general slowing of settlement rates in litigated claims. Our insurance
subsidiaries could have to make further adjustments to their estimates in the future. However, on the basis of our insurance
subsidiaries’ internal procedures, which analyze, among other things, their prior assumptions, their experience with similar
cases and historical trends such as reserving patterns, loss payments, pending levels of unpaid claims and product mix, as well
as court decisions, economic conditions and public attitudes, we believe that our insurance subsidiaries have made adequate
provision for their liability for losses and loss expenses at December 31, 2016.
Atlantic States’ participation in the pool with Donegal Mutual exposes it to adverse loss development on the business of
Donegal Mutual that the pool includes. However, pooled business represents the predominant percentage of the net
underwriting activity of both companies, and Donegal Mutual and Atlantic States proportionately share any adverse risk
development of the pooled business. The business in the pool is homogeneous and each company has a pro-rata share of the
entire pool. Since substantially all of the business of Atlantic States and Donegal Mutual is pooled and the results shared by
each company according to its participation level under the terms of the pooling agreement, the intent of the underwriting pool
is to produce a more uniform and stable underwriting result from year to year for each company than either would experience
individually and to spread the risk of loss between the companies.
Our insurance subsidiaries’ liability for losses and loss expenses by major line of business at December 31, 2016 and 2015
consisted of the following:
Commercial lines:
Automobile
Workers’ compensation
Commercial multi-peril
Other
Total commercial lines
Personal lines:
Automobile
Homeowners
Other
Total personal lines
Total commercial and personal lines
Plus reinsurance recoverable
2016
2015
(in thousands)
$
58,615
$
53,938
104,446
60,887
3,868
227,816
100,498
17,286
1,918
119,702
347,518
259,147
99,212
54,395
3,119
210,664
93,923
15,816
1,651
111,390
322,054
256,151
Total liability for losses and loss expenses
$ 606,665
$ 578,205
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We have evaluated the effect on our insurance subsidiaries’ loss and loss expense reserves and our stockholders’ equity in
the event of reasonably likely changes in the variables we consider in establishing loss and loss expense reserves. We
established the range of reasonably likely changes based on a review of changes in accident year development by line of
business and applied it to our insurance subsidiaries’ loss reserves as a whole. The selected range does not necessarily indicate
what could be the potential best or worst case or the most-likely scenario. The following table sets forth the effect on our
insurance subsidiaries’ loss and loss expense reserves and our stockholders’ equity in the event of reasonably likely changes in
the variables considered in establishing loss and loss expense reserves:
Change in Loss and Loss
Expense Reserves Net of
Reinsurance
Adjusted Loss and Loss
Expense Reserves Net of
Reinsurance at
December 31, 2016
Percentage Change in
Equity at
December 31, 2016(1)
(dollars in thousands)
Adjusted Loss and Loss
Expense Reserves Net of
Reinsurance at
December 31, 2015
Percentage Change in
Equity at
December 31, 2015(1)
-10.0%
$312,766
5.1%
$289,849
5.1%
-7.5
-5.0
-2.5
Base
2.5
5.0
7.5
10.0
321,454
330,142
338,830
347,518
356,206
364,894
373,582
382,270
(1) Net of income tax effect.
3.9
2.6
1.3
—
-1.3
-2.6
3.9
-5.1
297,900
305,951
314,003
322,054
330,105
338,157
346,208
354,259
3.8
2.6
1.3
—
-1.3
-2.6
-3.8
-5.1
Our insurance subsidiaries base their reserves for unpaid losses and loss expenses on current trends in loss and loss
expense development and reflect their best estimates for future amounts needed to pay losses and loss expenses with respect to
incurred events currently known to them plus incurred but not reported (“IBNR”) claims. Our insurance subsidiaries develop
their reserve estimates based on an assessment of known facts and circumstances, review of historical loss settlement patterns,
estimates of trends in claims severity, frequency, legal and regulatory changes and other assumptions. Our insurance
subsidiaries consistently apply actuarial loss reserving techniques and assumptions, which rely on historical information as
adjusted to reflect current conditions, including consideration of recent case reserve activity. Our insurance subsidiaries use the
most-likely number their actuaries determine. For the year ended December 31, 2016, the actuaries developed a range from a
low of $318.6 million to a high of $379.0 million and with a most-likely number of $347.5 million. The actuaries’ range of
estimates for commercial lines in 2016 was $208.9 million to $248.4 million, and the actuaries selected the most-likely number
of $227.8 million. The actuaries’ range of estimates for personal lines in 2016 was $109.7 million to $130.6 million, and the
actuaries selected the most-likely number of $119.7 million. For the year ended December 31, 2015, the actuaries developed a
range from a low of $293.3 million to a high of $353.7 million and with a most-likely number of $322.1 million. The actuaries’
range of estimates for commercial lines in 2015 was $191.9 million to $231.3 million, and the actuaries selected the most-likely
number of $210.7 million. The actuaries’ range of estimates for personal lines in 2015 was $101.4 million to $122.4 million,
and the actuaries selected the most-likely number of $111.4 million.
Our insurance subsidiaries seek to enhance their underwriting results by carefully selecting the product lines they
underwrite. For personal lines products, our insurance subsidiaries insure standard and preferred risks in private passenger
automobile and homeowners lines. For commercial lines products, the commercial risks that our insurance subsidiaries
primarily insure are business offices, wholesalers, service providers, contractors, artisans and light manufacturing operations.
Our insurance subsidiaries have limited exposure to asbestos and other environmental liabilities. Our insurance subsidiaries
write no medical malpractice liability risks. Through the consistent application of this disciplined underwriting philosophy, our
insurance subsidiaries have avoided many of the “long-tail” issues other insurance companies have faced. We consider workers’
compensation to be a “long-tail” line of business, in that workers’ compensation claims tend to be settled over a longer time
frame than those in the other lines of business of our insurance subsidiaries.
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The following table presents 2016 and 2015 claim count and payment amount information for workers’ compensation.
Workers’ compensation losses primarily consist of indemnity and medical costs for injured workers.
Number of claims pending, beginning of period
(dollars in thousands)
Number of claims reported
Number of claims settled or dismissed
Number of claims pending, end of period
Losses paid
Loss expenses paid
Investments
For the Year Ended December 31,
2016
2015
2,694
6,343
6,327
2,710
2,682
6,136
6,124
2,694
$
39,718 $
9,326
35,262
8,782
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 a decline in the value of an individual investment to be other
than temporary, we write down the investment to its fair value and 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, we assume
there has been an other-than-temporary decline in value 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 held 13 equity securities
that were in an unrealized loss position at December 31, 2016. Based upon our analysis of general market conditions and
underlying factors impacting these equity securities, we considered 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 determine 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 we
determine 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 we determine 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. We determine whether a credit loss has
occurred by comparing 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 that a credit loss has occurred. If we determine that a credit loss has 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 when the fair value of an investment is significantly below its cost, when the financial condition of the
issuer of a security has deteriorated, the occurrence of industry, company or geographic events that have negatively impacted
the value of a security and rating agency downgrades. We held 247 debt securities that were in an unrealized loss position at
December 31, 2016. Based upon our analysis of general market conditions and underlying factors impacting these debt
securities, we considered these declines in value to be temporary. We did not recognize any impairment losses in 2016, 2015 or
2014.
We held fixed maturities and equity securities with unrealized losses representing declines that we considered temporary at
December 31, 2016 as follows:
Less than 12 months
12 months or longer
Fair Value
Unrealized
Losses
Fair Value
Unrealized
Losses
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
$ 37,729,947 $ 1,279,510 $
— $
Obligations of states and political subdivisions
40,739,099
802,311
710,280
—
8,936
Corporate securities
Mortgage-backed securities
Equity securities
Totals
80,181,238
2,127,451
4,706,945
472,044
168,771,543
2,727,720
416,828
5,420,875
132,071
—
2,602
—
$ 332,842,702 $ 7,069,063 $ 5,834,053 $
483,582
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We held fixed maturities and equity securities with unrealized losses representing declines that we considered temporary at
December 31, 2015 as follows:
Less than 12 months
12 months or longer
Fair Value
Unrealized
Losses
Fair Value
Unrealized
Losses
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
$ 10,168,014 $
50,819 $
Obligations of states and political subdivisions
19,437,469
483,022
— $
—
69,481,645
1,615,369 11,323,819
105,299,953
875,658
7,538,257
9,245,342
772,848
—
$ 213,632,423 $ 3,797,716 $18,862,076 $ 1,126,484
—
—
957,678
168,806
—
Corporate securities
Mortgage-backed securities
Equity securities
Totals
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 we could realize if we sold the security 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 or obtain market quotations for substantially all of our fixed
maturity and equity investments. We generally obtain two prices 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 based predominantly on observable
market inputs. The pricing services do not use broker quotes in determining the fair values of our investments. Our investment
personnel review the estimates of fair value the pricing services provide to determine if the estimates we obtain are
representative of fair values based upon their general knowledge of the market, their research findings related to unusual
fluctuations in value and their comparison of such values to execution prices for similar securities. Our investment personnel
monitor the market and are familiar with current trading ranges for similar securities and pricing of specific investments. Our
investment personnel review all pricing estimates that we receive from the pricing services against the expectations of our
investment personnel with respect to pricing based on fair market curves, security ratings, coupon rates, security type and
recent trading activity. Our investment personnel review documentation with respect to the pricing services’ pricing
methodology that they obtain periodically to determine if the primary pricing sources, market inputs and pricing frequency for
various security types are reasonable. At December 31, 2016, we received two estimates per security from the pricing services,
and we priced substantially all of our Level 1 and Level 2 investments using those prices. In our review of the estimates the
pricing services provided at December 31, 2016, we did not identify any material discrepancies, and we did not make any
adjustments to the estimates the pricing services provided.
We had no sales or transfers from the held to maturity portfolio in 2016, 2015 or 2014.
Policy Acquisition Costs
We defer our insurance subsidiaries’ policy acquisition costs, consisting primarily of commissions, premium taxes and
certain other underwriting costs, reduced by ceded commissions, that vary with and relate directly to the production of
business. We amortize these costs over the period in which our insurance subsidiaries earn the premiums on that business. The
method our insurance subsidiaries follow in computing deferred policy acquisition costs limits the amount of such deferred
costs to their estimated realizable value, which gives effect to the premium to be earned, related investment income, losses and
loss expenses and certain other costs we expect to incur as our insurance subsidiaries earn the premium.
Management Evaluation of Operating Results
Despite economic uncertainty, challenging insurance market conditions and unusually adverse weather conditions that
affected our results in recent years, we believe that our focused business strategy, including our insurance subsidiaries’
disciplined underwriting practices, have positioned us well for 2017 and beyond.
The property and casualty insurance industry is highly cyclical, and individual lines of business experience their own
cycles within the overall property and casualty insurance industry cycle. Premium rate levels relate to the availability of
insurance coverage, which varies according to the level of surplus in the insurance industry and other factors. The level of
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surplus in the industry varies with returns on capital and regulatory barriers to the withdrawal of surplus. Increases in surplus
have generally been accompanied by increased price competition among property and casualty insurers. If our insurance
subsidiaries were to find it necessary to reduce premiums or limit premium increases due to competitive pressures on pricing,
our insurance subsidiaries could experience a reduction in profit margins and revenues, an increase in ratios of losses and
expenses to premiums and, therefore, lower profitability. The cyclicality of the insurance market and its potential impact on our
results is difficult to predict with any significant reliability. We evaluate the performance of our commercial lines and personal
lines segments primarily based upon the underwriting results of our insurance subsidiaries as determined under statutory
accounting practices (“SAP”), which our management uses to measure performance for the total business of our insurance
subsidiaries.
We use the following financial data to monitor and evaluate our operating results:
(in thousands)
Net premiums written:
Personal lines:
Automobile
Homeowners
Other
Total personal lines
Commercial lines:
Automobile
Workers’ compensation
Commercial multi-peril
Other
Total commercial lines
Year Ended December 31,
2016
2015
2014
$ 229,789
$ 214,610
$ 204,174
122,811
19,057
371,657
87,849
108,349
104,728
9,451
310,377
119,541
18,176
352,327
76,729
98,079
94,219
7,483
113,576
16,989
334,739
65,552
88,739
83,413
6,758
276,510
244,462
Total net premiums written
$ 682,034
$ 628,837
$ 579,201
Components of GAAP combined ratio:
Loss ratio
Expense ratio
Dividend ratio
GAAP combined ratio
Revenues:
Premiums earned:
Personal lines
Commercial lines
GAAP premiums earned
Net investment income
Realized investment gains
Equity in earnings of DFSC
Other
Total revenues
64.5%
33.0
0.6
98.1%
65.8%
32.6
0.6
69.8%
31.4
0.5
99.0%
101.7%
$ 361,128
$ 344,355
$ 325,442
295,077
656,205
22,633
2,526
1,086
5,973
261,286
605,641
20,950
1,934
1,277
6,585
231,056
556,498
18,344
3,134
1,243
7,329
$ 688,423
$ 636,387
$ 586,548
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(in thousands)
Components of net income:
Underwriting income (loss):
Personal lines
Commercial lines
SAP underwriting income (loss)
GAAP adjustments
GAAP underwriting income (loss)
Net investment income
Realized investment gains
Equity in earnings of DFSC
Premium paid on purchase of treasury stock
Other
Income before income tax
Income tax
Net income
Year Ended December 31,
2016
2015
2014
$
(10,745) $
18,284
(6,414) $
9,259
7,539
4,642
12,181
22,633
2,526
1,086
—
2,902
41,328
(10,527)
30,801
$
$
2,845
3,344
6,189
20,950
1,934
1,277
(5,780)
3,022
27,592
(6,602)
20,990
$
(6,383)
(9,434)
(15,817)
6,312
(9,505)
18,344
3,134
1,243
—
3,067
16,283
(1,744)
14,539
Statutory Combined Ratios
We evaluate our insurance operations by monitoring certain key measures of growth and profitability. In addition to using
GAAP-based performance measurements, we also utilize certain non-GAAP financial measures that we believe are valuable in
managing our business and for comparison to our peers. These non-GAAP measures are underwriting income (loss), statutory
combined ratio and net premiums written. An insurance company’s statutory combined ratio is a standard measure of
underwriting profitability. This ratio is the sum of the ratio of calendar-year incurred losses and loss expenses to premiums
earned; the ratio of expenses incurred for commissions, premium taxes and underwriting expenses to premiums written and the
ratio of dividends to policyholders to premiums earned. The statutory combined ratio does not reflect investment income,
federal income taxes or other non-operating income or expense. A ratio of less than 100 percent generally indicates
underwriting profitability. The statutory combined ratio differs from the GAAP combined ratio. In calculating the GAAP
combined ratio, we do not deduct installment payment fees from incurred expenses, and we base the expense ratio on premiums
earned instead of premiums written. The following table sets forth our insurance subsidiaries’ statutory combined ratios by
major line of business for the years ended December 31, 2016, 2015 and 2014:
Commercial lines:
Automobile
Workers’ compensation
Commercial multi-peril
Total commercial lines
Personal lines:
Automobile
Homeowners
Total personal lines
Total commercial and personal lines
Year Ended December 31,
2016
2015
2014
110.8%
109.5%
115.0%
83.8
87.7
90.7
106.7
95.5
101.8
96.8
87.6
90.8
92.8
104.3
97.6
100.9
97.4
91.1
102.9
99.8
102.8
97.8
101.0
100.5
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Results of Operations
YEAR ENDED DECEMBER 31, 2016 COMPARED TO YEAR ENDED DECEMBER 31, 2015
Net Premiums Written
Our insurance subsidiaries’ 2016 net premiums written increased 8.5% to $682.0 million, compared to $628.8 million for
2015. We primarily attribute the increase to the impact of premium rate increases and an increase in the writing of commercial
lines of insurance. Commercial lines net premiums written increased $33.9 million, or 12.2%, for 2016 compared to 2015. The
increase was primarily attributable to premium rate increases and increased writings of new accounts in the commercial
automobile, commercial multi-peril and workers’ compensation lines of business. Personal lines net premiums written
increased $19.3 million, or 5.5%, for 2016 compared to 2015. The increase was primarily attributable to premium rate
increases.
Net Premiums Earned
Our insurance subsidiaries’ net premiums earned increased to $656.2 million for 2016, an increase of $50.6 million, or
8.3%, over 2015, reflecting increases in net premiums written during 2015 and 2016. Our insurance subsidiaries earn premiums
and recognize them as income over the terms of the policies they issue. Such terms are generally one year or less in duration.
Therefore, increases or decreases in net premiums earned generally reflect increases or decreases in net premiums written in the
preceding twelve-month period compared to the same period one year earlier.
Investment Income
For 2016, our net investment income increased to $22.6 million, an increase of $1.7 million, or 8.0%, over 2015. We
attribute the increase primarily to an increase in average invested assets.
Installment Payment Fees
Our insurance subsidiaries’ installment fees decreased primarily as a result of their customers’ increased usage of payment
plans that have lower installment payment fees during 2016.
Net Realized Investment Gains
Our net realized investment gains in 2016 and 2015 were $2.5 million and $1.9 million, respectively. The net realized
investment gains in 2016 and 2015 resulted from normal turnover within our investment portfolio. We did not recognize any
impairment losses during 2016 or 2015.
Equity in Earnings of DFSC
Our equity in the earnings of DFSC in 2016 and 2015 was $1.1 million and $1.3 million, respectively.
Losses and Loss Expenses
Our insurance subsidiaries’ loss ratio, which is the ratio of incurred losses and loss expenses to premiums earned, was
64.5% in 2016, compared to 65.8% in 2015. Our insurance subsidiaries’ commercial lines loss ratio decreased to 59.6% in
2016, compared to 62.3% in 2015. This decrease resulted primarily from the workers’ compensation loss ratio decreasing to
52.1% in 2016, compared to 56.7% in 2015, and the commercial multi-peril loss ratio decreasing to 54.4% in 2016, compared
to 58.2% in 2015. The personal lines loss ratio was 68.5% in 2016 and 2015. Our insurance subsidiaries experienced
unfavorable loss reserve development of approximately $3.0 million during 2016 in their reserves for prior accident years,
improved from unfavorable loss reserve development of approximately $7.2 million during 2015. The change in loss reserve
development patterns occurred primarily within our insurance subsidiaries’ private passenger automobile liability, workers’
compensation and homeowners lines of business.
-47-
Underwriting Expenses
Our insurance subsidiaries’ expense ratio, which is the ratio of policy acquisition and other underwriting expenses to
premiums earned, was 33.0% in 2016, compared to 32.6% in 2015. We attribute the increase to higher underwriting-based
incentives in 2016.
Combined Ratio
Our insurance subsidiaries’ combined ratio was 98.1% and 99.0% in 2016 and 2015, respectively. The combined ratio
represents the sum of the loss ratio, the expense ratio and the dividend ratio, which is the ratio of workers’ compensation policy
dividends incurred to premiums earned. We attribute the decrease in our combined ratio primarily to the decrease in our loss
ratio.
Interest Expense
Our interest expense in 2016 increased to $1.7 million, compared to $1.1 million in 2015. We attribute the increase to
higher average borrowings during 2016 compared to 2015.
Income Taxes
Our income tax expense was $10.5 million in 2016, compared to $6.6 million in 2015. Our effective tax rate for 2016 was
25.5%, compared to 23.9% for 2015. The increase in our 2016 effective tax rate was primarily due to tax-exempt interest
income representing a smaller proportion of income before income tax expense in 2016 compared to 2015.
Net Income and Earnings Per Share
Our net income in 2016 was $30.8 million, or $1.16 per share of Class A common stock on a diluted basis and $1.06 per
share of Class B common stock, compared to $21.0 million, or $.77 per share of Class A common stock on a diluted basis and
$.69 per share of Class B common stock, in 2015. We had 21.5 million and 20.5 million Class A shares outstanding at
December 31, 2016 and 2015, respectively. We had 5.6 million Class B shares outstanding for both periods. There are no
outstanding securities that dilute our shares of Class B common stock.
Book Value Per Share and Return on Equity
Our stockholders’ equity increased by $30.2 million in 2016. Our book value per share increased to $16.21 at
December 31, 2016, compared to $15.66 a year earlier. Our return on average equity was 7.3% for 2016, compared to 5.1% for
2015.
YEAR ENDED DECEMBER 31, 2015 COMPARED TO YEAR ENDED DECEMBER 31, 2014
Net Premiums Written
Our insurance subsidiaries’ 2015 net premiums written increased 8.6% to $628.8 million, compared to $579.2 million for
2014. We primarily attribute the increase to a reduction in MICO’s quota-share reinsurance, the impact of premium rate
increases and an increase in the writing of commercial lines of insurance. Effective January 1, 2015, MICO terminated its
external quota-share reinsurance with third-party reinsurers. Commercial lines net premiums written increased $32.0 million, or
13.1%, for 2015 compared to 2014. The increase included $11.9 million related to the reduction in the amount of premium
MICO reinsured in 2015, with the remainder attributable to premium rate increases and increased writings of new accounts in
the commercial automobile, commercial multi-peril and workers’ compensation lines of business. Personal lines net premiums
written increased $17.6 million, or 5.3%, for 2015 compared to 2014. The increase included $7.7 million resulting from the
reduction in the amount of premium MICO reinsured in 2015, with the remainder primarily attributable to premium rate
increases.
Net Premiums Earned
Our insurance subsidiaries’ net premiums earned increased to $605.6 million for 2015, an increase of $49.1 million, or
8.8%, over 2014, reflecting increases in net premiums written during 2014 and 2015. Our insurance subsidiaries earn premiums
and recognize them as income over the terms of the policies they issue. Such terms are generally one year or less in duration.
-48-
Therefore, increases or decreases in net premiums earned generally reflect increases or decreases in net premiums written in the
preceding twelve-month period compared to the same period one year earlier.
Investment Income
For 2015, our net investment income increased to $20.9 million, an increase of $2.6 million, or 14.2%, over 2014. We
attribute the increase primarily to an increase in average invested assets and a decrease in our allocation of expenses to our
investment function.
Installment Payment Fees
Our insurance subsidiaries’ installment fees decreased primarily as a result of their customers’ increased usage of payment
plans that have lower installment payment fees during 2015.
Net Realized Investment Gains
Our net realized investment gains in 2015 and 2014 were $1.9 million and $3.1 million, respectively. The net realized
investment gains in 2015 and 2014 resulted from normal turnover within our investment portfolio. We did not recognize any
impairment losses during 2015 or 2014.
Equity in Earnings of DFSC
Our equity in the earnings of DFSC in 2015 and 2014 was $1.3 million and $1.2 million, respectively.
Losses and Loss Expenses
Our insurance subsidiaries’ loss ratio, which is the ratio of incurred losses and loss expenses to premiums earned, was
65.8% in 2015, compared to 69.8% in 2014. Our insurance subsidiaries’ commercial lines loss ratio decreased to 62.3% in
2015, compared to 72.0% in 2014. This decrease resulted primarily from the workers’ compensation loss ratio decreasing to
56.7% in 2015, compared to 64.7% in 2014, and the commercial multi-peril loss ratio decreasing to 58.2% in 2015, compared
to 73.5% in 2014. The personal lines loss ratio was 68.5% in 2015, virtually unchanged from 68.2% in 2014. Our insurance
subsidiaries experienced unfavorable loss reserve development of approximately $7.2 million during 2015 in their reserves for
prior accident years, improved from unfavorable loss reserve development of approximately $14.5 million during 2014. The
change in loss reserve development patterns occurred primarily within our insurance subsidiaries’ private passenger automobile
liability, workers’ compensation and commercial automobile lines of business.
Underwriting Expenses
Our insurance subsidiaries’ expense ratio, which is the ratio of policy acquisition and other underwriting expenses to
premiums earned, was 32.6% in 2015, compared to 31.4% in 2014. We attribute the increase to higher underwriting-based
incentives in 2015.
Combined Ratio
Our insurance subsidiaries’ combined ratio was 99.0% and 101.7% in 2015 and 2014, respectively. The combined ratio
represents the sum of the loss ratio, the expense ratio and the dividend ratio, which is the ratio of workers’ compensation policy
dividends incurred to premiums earned. We attribute the decrease in our combined ratio primarily to the decrease in our loss
ratio.
Interest Expense
Our interest expense in 2015 decreased to $1.1 million, compared to $1.5 million in 2014. The decrease was related to our
utilization in 2015 of borrowings under Atlantic States’ line of credit with the FHLB of Pittsburgh to repay borrowings under
our line of credit with M&T that carried a higher interest rate.
-49-
Income Taxes
Our income tax expense was $6.6 million in 2015, compared to $1.7 million in 2014. Our effective tax rate for 2015 was
23.9%, compared to 10.7% for 2014. The increase in our 2015 effective tax rate was primarily due to tax-exempt interest
income representing a smaller proportion of income before income tax expense and non-deductible expenses we incurred in
2015 compared to 2014.
Net Income and Earnings Per Share
Our net income in 2015 was $21.0 million, or $.77 per share of Class A common stock on a diluted basis and $.69 per
share of Class B common stock, compared to $14.5 million, or $.55 per share of Class A common stock on a diluted basis and
$.49 per share of Class B common stock, in 2014. We had 20.5 million and 21.4 million Class A shares outstanding at
December 31, 2015 and 2014, respectively. We had 5.6 million Class B shares outstanding for both periods. There are no
outstanding securities that dilute our shares of Class B common stock.
Book Value Per Share and Return on Equity
Our stockholders’ equity decreased by $7.7 million in 2015. We attribute the decrease primarily to our repurchase of 2.0
million shares of our Class A common stock in a private transaction in December 2015. Book value per share increased to
$15.66 at December 31, 2015, compared to $15.40 a year earlier. Our return on average equity was 5.1% for 2015, compared to
3.6% for 2014.
Financial Condition
Liquidity and Capital Resources
Liquidity is a measure of an entity’s ability to secure enough cash to meet its contractual obligations and operating needs as
they arise. Our major sources of funds from operations are the net cash flows generated from our insurance subsidiaries’
underwriting results, investment income and maturing investments.
We have historically generated sufficient net positive cash flow from our operations to fund our commitments and build
our investment portfolio, thereby increasing future investment returns. The pooling agreement with Donegal Mutual historically
has been cash flow positive because of the profitability of the underwriting pool. Because we settle the pool monthly, our cash
flows are substantially similar to the cash flows that would result from the underwriting of direct business. We maintain a high
degree of liquidity in our investment portfolio in the form of marketable fixed maturities, equity securities and short-term
investments. We structure our fixed-maturity investment portfolio following a “laddering” approach so that projected cash
flows from investment income and principal maturities are evenly distributed from a timing perspective. This laddering
approach provides an additional measure of liquidity to meet our obligations and the obligations of our insurance subsidiaries
should an unexpected variation occur in the future. Net cash flows provided by operating activities in 2016, 2015 and 2014
were $60.0 million, $68.2 million and $44.5 million, respectively.
In July 2016, we renewed our existing credit agreement with Manufacturers and Traders Trust Company (“M&T”) relating
to a $60.0 million unsecured, revolving line of credit. The line of credit now expires in July 2019. We have the right to request
a one-year extension of the credit agreement as of each anniversary date of the agreement. At December 31, 2016, we had
$34.0 million in outstanding borrowings and had the ability to borrow an additional $26.0 million at interest rates equal to
M&T’s current prime rate or the then-current LIBOR rate plus 2.25%. The interest rate on our outstanding borrowings is
adjustable quarterly. At December 31, 2016, the interest rate on our outstanding borrowings was 3.02%. We pay a fee of 0.2%
per annum on the loan commitment amount regardless of usage. The credit agreement requires our compliance with certain
covenants. These covenants include minimum levels of our net worth, leverage ratio, statutory surplus and the A.M. Best
ratings of our insurance subsidiaries. We complied with all requirements of the credit agreement during 2016.
MICO has an agreement with the FHLB of Indianapolis. Through its membership, MICO has the ability to issue debt to
the FHLB of Indianapolis in exchange for cash advances. There were no outstanding borrowings at December 31, 2016 or
2015.
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Atlantic States is a member of the FHLB of Pittsburgh. Through its membership, Atlantic States has the ability to issue
debt to the FHLB of Pittsburgh in exchange for cash advances. During 2013, Atlantic States issued secured debt in the principal
amount of $15.0 million to the FHLB of Pittsburgh in exchange for cash advances in the amount of $15.0 million. Atlantic
States then loaned $15.0 million to us. We used the proceeds of our loan from Atlantic States to fund our prepayment of
subordinated debentures. In July 2015, Atlantic States issued secured debt in the principal amount of $20.0 million to the FHLB
of Pittsburgh in exchange for cash advances in the amount of $20.0 million. Atlantic States then loaned $20.0 million to us. We
used the proceeds of our loan from Atlantic States to repay borrowings under our line of credit with M&T. The interest rate on
the advances was .63% at December 31, 2016.
The following table shows expected payments for our significant contractual obligations at December 31, 2016:
(in thousands)
Net liability for unpaid losses and loss expenses of our
insurance subsidiaries
Subordinated debentures
Borrowings under lines of credit
Total contractual obligations
Total
Less than 1
year
1-3 years
4-5 years
After 5
years
$ 347,518 $ 162,144 $ 159,096 $
12,540 $
13,738
5,000
—
—
69,000
35,000
34,000
—
—
5,000
—
$ 421,518 $ 197,144 $ 193,096 $
12,540 $
18,738
We estimated the timing of the amounts for the net liability for unpaid losses and loss expenses of our insurance
subsidiaries based on historical experience and expectations of future payment patterns. We have shown the liability net of
reinsurance recoverable on unpaid losses and loss expenses to reflect expected future cash flows related to such liability.
Assumed amounts from the underwriting pool with Donegal Mutual represent a substantial portion of our insurance
subsidiaries’ gross liability for unpaid losses and loss expenses, and ceded amounts to the underwriting pool represent a
substantial portion of our insurance subsidiaries’ reinsurance recoverable on unpaid losses and loss expenses. We include cash
settlements of Atlantic States’ assumed liability from the pool in our monthly settlements of pooled activity. In these monthly
settlements, we net amounts ceded to and assumed from the pool. Donegal Mutual and Atlantic States do not anticipate any
further changes in the pool participation levels in the foreseeable future. However, any such change would be prospective in
nature and therefore would not impact the timing of expected payments for Atlantic States’ proportionate liability for pooled
losses occurring in periods prior to the effective date of such change.
We estimated the timing of the amounts for the borrowings under our lines of credit based on their contractual maturities
that we discuss in Note 9 - Borrowings. Our borrowings under our lines of credit carry interest rates that vary as discussed in
Note 9 - Borrowings. Based upon the interest rates in effect at December 31, 2016, our annual interest cost associated with our
borrowings under our lines of credit is approximately $1.4 million. For every 1% change in the interest rate associated with our
borrowings under our lines of credit, the effect on our annual interest cost would be approximately $690,000.
The cash dividends we declared to our stockholders totaled $14.2 million, $14.5 million and $13.7 million in 2016, 2015
and 2014, respectively. There are no regulatory restrictions on our payment of dividends to our stockholders, although there are
restrictions under applicable state laws on the payment of dividends from our insurance subsidiaries to us. Our insurance
subsidiaries are required by law to maintain certain minimum surplus on a statutory basis and are subject to regulations under
which their payment of dividends from statutory surplus is restricted and may require prior approval of their domiciliary
insurance regulatory authorities. Our insurance subsidiaries are also subject to risk-based capital (“RBC”) requirements. The
amount of statutory capital and surplus necessary for our insurance subsidiaries to satisfy regulatory requirements, including
the RBC requirements, was not significant in relation to our insurance subsidiaries’ statutory capital and surplus at December
31, 2016. Amounts available for distribution to us as dividends from our insurance subsidiaries without prior approval of
insurance regulatory authorities in 2017 are $22.8 million from Atlantic States, $6.3 million from Southern, $2.6 million from
Le Mars, $1.6 million from Peninsula, $643,035 from Sheboygan and $5.0 million from MICO, or a total of approximately
$38.9 million.
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Investments
At December 31, 2016 and 2015, our investment portfolio of primarily investment-grade bonds, common stock, short-term
investments and cash totaled $970.1 million and $929.0 million, respectively, representing 59.8% and 60.4%, respectively, of
our total assets. See “Business - Investments” for more information.
December 31,
2016
2015
Percent of
Percent of
Amount
Total
Amount
Total
(dollars in thousands)
Fixed maturities:
Total held to maturity
$ 336,101
35.5% $ 310,259
34.4%
Total available for sale
Total fixed maturities
Equity securities
Investment in affiliate
Short-term investments
515,075
851,176
47,088
37,885
9,371
54.5
90.0
5.0
4.0
1.0
501,393
811,652
37,261
38,477
13,432
55.7
90.1
4.1
4.3
1.5
Total investments
$ 945,520
100.0% $ 900,822
100.0%
The carrying value of our fixed maturity investments represented 90.0% and 90.1% of our total invested assets at
December 31, 2016 and 2015, respectively.
Our fixed maturity investments consisted of high-quality marketable bonds, of which 99.8% were rated at investment-
grade levels at December 31, 2016 and 2015.
At December 31, 2016, the net unrealized gain on our available-for-sale fixed maturity investments, net of deferred taxes,
amounted to $2.2 million, compared to $8.0 million at December 31, 2015.
At December 31, 2016, the net unrealized gain on our equity securities, net of deferred taxes, amounted to $3.0 million,
compared to $972,264 at December 31, 2015.
Impact of Inflation
Our insurance subsidiaries establish their property and casualty insurance premium rates before they know the amount of
losses and loss settlement expenses or the extent to which inflation may impact such expenses. Consequently, our insurance
subsidiaries attempt, in establishing rates, to anticipate the potential future impact of inflation. Our insurance subsidiaries
account for inflation in the reserving function through analysis of costs and trends and reviews of historical reserving results.
Impact of New Accounting Standards
In May 2014, the Financial Accounting Standards Board (the “FASB”) issued guidance that requires an entity to recognize
the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. While the
guidance will replace most existing GAAP revenue recognition guidance, the scope of the guidance excludes insurance
contracts. The new standard is effective on January 1, 2018. The standard permits the use of either the retrospective or the
cumulative effect transition method. We do not expect the adoption of this new guidance to have a significant impact on our
financial position, results of operations or cash flows.
In August 2014, the FASB issued an ASU related to the disclosure of uncertainties about an entity's ability to continue as a
going concern. The intent of this standard is to help reduce the diversity in the timing and content of footnote disclosures as
those disclosures relate to an entity's ability to continue as a going concern. The standard was effective for annual periods
ending after December 15, 2016. If conditions or events raise substantial doubt that is not alleviated, an entity should disclose
that there is substantial doubt about the entity’s ability to continue as a going concern within one year after the date that the
financial statements are issued (or available to be issued), along with the principal conditions or events that raise substantial
doubt, management’s evaluation of the significance of those conditions or events in relation to the entity’s ability to meet its
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obligations and management’s plans that are intended to mitigate those conditions. The adoption of this new guidance had no
impact on our financial position, results of operations or cash flows.
In April 2015, the FASB issued updated guidance to clarify the required presentation of debt issuance costs. The updated
guidance requires that debt issuance costs be presented in the balance sheet as a direct reduction from the carrying amount of
the recognized debt liability, consistent with the treatment of debt discounts. Amortization of debt issuance costs is to be
reported as interest expense. The recognition and measurement guidance for debt issuance costs are not affected by the updated
guidance. The guidance was effective for reporting periods beginning after December 15, 2015. The adoption of this new
guidance had no impact on our financial position, results of operations or cash flows.
In May 2015, the FASB issued guidance that removes the requirement to categorize within the fair value hierarchy all
investments for which fair value is measured using the net asset value per share practical expedient. The guidance also removes
the requirement to make certain disclosures for all investments that are eligible to be measured at fair value using the net asset
value per share practical expedient. The guidance instead limits disclosure to investments for which the entity has elected to
measure fair value using that practical expedient. The guidance was effective for annual reporting periods beginning after
December 15, 2015, and interim reporting periods within those annual reporting periods. The adoption of this new guidance
had no impact on our financial position, results of operations or cash flows.
In May 2015, the FASB issued guidance that requires entities to provide additional disclosures about their liability for
unpaid claims and claim adjustment expenses to increase the transparency of significant estimates. The guidance also requires
entities to disclose information about significant changes in methodologies and assumptions used to calculate the liability for
unpaid claims and claim adjustment expenses, including the reasons for the changes and the effects on the entities’ financial
statements, and the timing, frequency and severity of claims. The guidance also requires entities to disclose a rollforward of the
liability for unpaid claims and claim adjustment expenses for annual and interim reporting periods. The guidance was effective
for annual reporting periods beginning after December 15, 2015, and interim reporting periods within annual reporting periods
beginning after December 15, 2016. We have included the disclosures this guidance requires in the notes to our consolidated
financial statements for the annual reporting period ended December 31, 2016. The adoption of this new guidance had no
impact on our financial position, results of operations or cash flows.
In January 2016, the FASB issued guidance that generally requires entities to measure equity investments at fair value and
recognize changes in fair value in their results of operations. The guidance also simplifies the impairment assessment of equity
investments without readily determinable fair values by requiring entities to perform a qualitative assessment to identify
impairment. The FASB issued other disclosure and presentation improvements related to financial instruments within the
guidance. The guidance is effective for annual and interim reporting periods beginning after December 15, 2017. As a result of
this guidance, we will reflect changes in the fair value of our equity investments in our results of operations beginning January
1, 2018.
In February 2016, the FASB issued guidance that requires lessees to recognize leases, including operating leases, on the
lessee’s balance sheet, unless a lease is considered a short-term lease. The guidance also requires entities to make new
judgments to identify leases. The guidance is effective for annual and interim reporting periods beginning after December 15,
2018 and permits early adoption. We do not expect the adoption of this new guidance to have a significant impact on our
financial position, results of operations or cash flows.
In March 2016, the FASB issued guidance that simplifies and improves several aspects of the accounting for share-based
payment transactions, including the income tax consequences, classification of awards as either equity or liabilities and
classification on the statement of cash flows. The guidance is effective for annual and interim reporting periods beginning after
December 15, 2016. We do not expect the adoption of this new guidance to have a significant impact on our financial position,
results of operations or cash flows.
In June 2016, the FASB issued guidance that amends previous guidance on the impairment of financial instruments by
adding an impairment model that requires an entity to recognize expected credit losses as an allowance rather than impairments
as credit losses are incurred. The intent of the new guidance is to reduce complexity and result in a more timely recognition of
expected credit losses. The guidance is effective for annual and interim reporting periods beginning after December 15, 2019.
We do not expect the adoption of this new guidance to have a significant impact on our financial position, results of operations
or cash flows.
In August 2016, the FASB issued guidance that clarifies the presentation and classification of certain cash receipts and cash
payments in the statement of cash flows. This guidance addresses eight specific cash flow matters with the objective of
reducing the existing diversity in practice. The guidance is effective for annual and interim reporting periods beginning after
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December 15, 2017 and permits early adoption. The adoption of this new guidance did not have a significant impact on our
financial position, results of operations or cash flows.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
We are exposed to the impact of interest rate changes, to changes in fair values of investments and to credit risk.
In the normal course of business, we employ established policies and procedures to manage our exposure to changes in
interest rates, fluctuations in the fair market value of our debt and equity securities and credit risk. We seek to mitigate these
risks by various actions we describe below.
Interest Rate Risk
Our exposure to market risk for a change in interest rates is concentrated in our investment portfolio. We monitor this
exposure through periodic reviews of our asset and liability positions. We regularly monitor estimates of cash flows and the
impact of interest rate fluctuations relating to our investment portfolio. Generally, we do not hedge our exposure to interest rate
risk because we have the capacity to, and do, hold fixed-maturity investments to maturity.
Principal cash flows and related weighted-average interest rates by stated maturity dates for the financial instruments we
held at December 31, 2016 that are sensitive to interest rates are as follows:
(in thousands)
Fixed-maturity and short-term investments:
2017
2018
2019
2020
2021
Thereafter
Total
Fair value
Debt:
2017
2018
Thereafter
Total
Fair value
Principal
Cash Flows
Weighted-
Average
Interest Rate
$
52,986
3.62%
4.75
3.23
2.51
3.50
3.35
0.63%
3.02
5.00
48,361
39,758
34,577
34,997
640,940
851,619
869,093
35,000
34,000
5,000
74,000
74,000
$
$
$
$
$
Actual cash flows from investments may differ from those depicted above as a result of calls and prepayments.
Equity Price Risk
Our portfolio of equity securities, which we carry on our consolidated balance sheets at estimated fair value, has exposure
to price risk, which is the risk of potential loss in estimated fair value resulting from an adverse change in prices. Our objective
is to mitigate this risk and to earn competitive relative returns by investing in a diverse portfolio of high-quality, liquid
securities.
Credit Risk
Our objective is to earn competitive returns by investing in a diversified portfolio of securities. Our portfolio of fixed
maturity securities and, to a lesser extent, short-term investments is subject to credit risk. We define this risk as the potential
loss in fair value resulting from adverse changes in the borrower’s ability to repay the debt. We manage this risk by performing
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an analysis of prospective investments and through regular reviews of our portfolio by our investment personnel. We also limit
the amount of our total investment portfolio that we invest in any one security.
Our insurance subsidiaries provide property and liability insurance coverages through independent insurance agencies
located throughout their operating areas. Our insurance subsidiaries bill the majority of this business directly to the insured,
although our insurance subsidiaries bill a portion of their commercial business through their agents, to whom they 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 the business Atlantic States cedes to Donegal Mutual. Our
insurance subsidiaries maintain reinsurance agreements with Donegal Mutual and with a number of other major unaffiliated
authorized reinsurers.
Through November 30, 2010, MICO and West Bend Mutual Insurance Company (“West Bend”) were parties to quota-
share reinsurance agreements whereby MICO ceded 75% of its business to West Bend. MICO and West Bend terminated the
reinsurance agreement in effect at November 30, 2010 on a run-off basis. West Bend’s obligations related to all past
reinsurance agreements with MICO remain in effect for all policies with effective dates prior to December 1, 2010. West Bend
and MICO entered into a trust agreement on December 1, 2010. Under the terms of the trust agreement, West Bend placed into
trust, for the sole benefit of MICO, assets with a fair value equal to the amount of unearned premiums and unpaid losses and
loss expenses, reduced by any net premium balances not yet paid by MICO, that West Bend had assumed pursuant to such
reinsurance agreements at November 30, 2010. The amount of assets required to be held in trust adjusts monthly based upon
the remaining net obligations of West Bend. West Bend may terminate the trust agreement on the earlier of December 1, 2020
or the date on which the obligations of West Bend are equal to or less than $5.0 million. As of December 31, 2016, West Bend’s
net obligations under the reinsurance agreements were approximately $6.9 million, and the fair value of assets held in trust was
approximately $8.9 million.
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Item 8. Financial Statements and Supplementary Data.
Consolidated Balance Sheets
Consolidated Statements of Income and Comprehensive Income
Consolidated Statements of Stockholders’ Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
57
58
59
60
61
100
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Donegal Group Inc.
Consolidated Balance Sheets
December 31,
2016
2015
Assets
Investments
Fixed maturities
Held to maturity, at amortized cost (fair value $344,647,138 and $322,799,167 ). . . . . $ 336,100,948
515,074,940
Available for sale, at fair value (amortized cost $511,629,644 and $489,010,066) . . . .
47,087,842
Equity securities, available for sale, at fair value (cost $42,431,695 and $35,765,030). . .
37,884,918
Investment in affiliate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
9,371,007
Short-term investments, at cost, which approximates fair value . . . . . . . . . . . . . . . . . . . .
945,519,655
Total investments. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
24,587,214
Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
6,295,513
Accrued investment income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
159,389,667
Premiums receivable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
263,028,008
Reinsurance receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
56,309,196
Deferred policy acquisition costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
19,043,413
Deferred tax asset, net. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
124,255,495
Prepaid reinsurance premiums . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
6,668,489
Property and equipment, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1,108,250
Federal income taxes recoverable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
9,204,910
Due from affiliate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
5,625,354
Goodwill . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Other intangible assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
958,010
1,137,863
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total assets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,623,131,037
$ 310,258,704
501,393,559
37,260,821
38,476,708
13,432,482
900,822,274
28,139,144
5,991,197
141,267,411
259,728,113
52,108,388
19,443,807
113,522,505
7,027,143
1,487,656
—
5,625,354
958,010
1,713,413
$ 1,537,834,415
Liabilities and Stockholders’ Equity
Liabilities
Losses and loss expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 606,664,590
466,055,228
Unearned premiums . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
28,246,691
Accrued expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
4,369,528
Reinsurance balances payable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
69,000,000
Borrowings under lines of credit. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
3,622,821
Cash dividends declared to stockholders . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
5,000,000
Subordinated debentures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
—
Accounts payable - securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
—
Due to affiliate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1,556,859
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1,184,515,717
Total liabilities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 578,205,109
429,493,203
22,460,475
3,480,406
81,000,000
3,511,881
5,000,000
582,560
3,557,177
2,155,036
1,129,445,847
Stockholders’ Equity
Preferred stock, $.01 par value, authorized 2,000,000 shares; none issued . . . . . . . . . . . .
Class A common stock, $.01 par value, authorized 40,000,000 shares, issued
24,483,377 and 23,501,805 shares and outstanding 21,480,789 and 20,499,217 shares
Class B common stock, $.01 par value, authorized 10,000,000 shares, issued 5,649,240
shares and outstanding 5,576,775 shares. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Additional paid-in capital . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accumulated other comprehensive (loss) income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Retained earnings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Treasury stock, at cost. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total stockholders’ equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
56,492
236,851,709
(2,254,271)
244,942,913
(41,226,357)
438,615,320
Total liabilities and stockholders’ equity. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,623,131,037
56,492
219,525,301
773,744
229,024,370
(41,226,357)
408,388,568
$ 1,537,834,415
—
—
244,834
235,018
See accompanying notes to consolidated financial statements.
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Donegal Group Inc.
Consolidated Statements of Income and Comprehensive Income
Years Ended December 31,
2015
2014
2016
Statements of Income
Revenues
Net premiums earned (includes affiliated reinsurance of $184,656,732,
$175,024,905 and $167,070,235 - see note 3). . . . . . . . . . . . . . . . . . . . . . $ 656,204,797
22,632,730
$ 605,640,728
$ 556,497,535
20,949,698
18,344,382
Investment income, net of investment expenses . . . . . . . . . . . . . . . . . . . . . .
Installment payment fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Lease income. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net realized investment gains (includes $2,525,575, $1,934,424 and
$3,134,081 accumulated other comprehensive income reclassification) . . .
Equity in earnings of DFSC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
5,302,896
5,834,897
6,473,288
670,865
750,287
855,546
2,525,575
1,086,157
1,934,424
1,277,229
3,134,081
1,242,910
688,423,020
636,387,263
586,547,742
Expenses
Net losses and loss expenses (includes affiliated reinsurance of
$102,124,332, $100,110,773 and $108,847,508 - see note 3). . . . . . . . . .
Amortization of deferred policy acquisition costs . . . . . . . . . . . . . . . . . . . .
Other underwriting expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Policyholder dividends . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Interest. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Premium paid on purchase of treasury stock . . . . . . . . . . . . . . . . . . . . . . . .
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Income before income tax expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Income tax expense (includes $883,951, $677,048 and $1,065,588 income
tax expense from reclassification items). . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
423,315,903
398,366,874
388,401,182
107,876,000
99,513,000
90,146,000
108,458,742
97,709,656
84,659,364
4,373,377
1,657,647
—
1,412,944
3,862,606
1,111,441
5,780,000
2,451,418
2,795,515
1,516,983
—
2,745,881
647,094,613
608,794,995
570,264,925
41,328,407
27,592,268
16,282,817
10,527,270
6,602,235
1,743,799
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 30,801,137
$ 20,990,033
$ 14,539,018
Basic earnings per common share:
Class A common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $
Class B common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $
Diluted earnings per common share:
Class A common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $
Class B common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $
1.19
1.06
1.16
1.06
$
$
$
$
0.78
0.69
0.77
0.69
$
$
$
$
0.56
0.49
0.55
0.49
Statements of Comprehensive Income
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 30,801,137
Other comprehensive (loss) income, net of tax
Unrealized (loss) gain on securities:
$ 20,990,033
$ 14,539,018
Unrealized holding (loss) gain arising during the period, net of income
tax (benefit) expense of ($746,518), ($1,788,852) and $5,193,522. . . .
(1,386,391)
(3,322,149)
9,734,652
Reclassification adjustment for gains included in net income, net of
(1,641,624)
income tax of $883,951, $677,048 and $1,065,588. . . . . . . . . . . . . . . .
(3,028,015)
Other comprehensive (loss) income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Comprehensive income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 27,773,122
(1,257,376)
(4,579,525)
$ 16,410,508
(2,068,493)
7,666,159
$ 22,205,177
See accompanying notes to consolidated financial statements.
-58-
Donegal Group Inc.
Consolidated Statements of Stockholders’ Equity
Common Stock
Class A
Shares
Class B
Shares
Class A
Amount
Class B
Amount
Additional
Paid-In
Capital
Accumulated
Other
Comprehensive
(Loss) Income
Retained
Earnings
Treasury
Stock
Total
Stockholders’
Equity
21,786,765
5,649,240
$217,868
$56,492
$189,116,410
$
(2,312,890) $ 222,888,887
$ (13,089,656) $396,877,111
127,711
474,893
1,277
4,749
1,839,394
8,963,020
429,959
14,539,018
(13,744,059)
(429,959)
1,840,671
8,967,769
14,539,018
(13,744,059)
—
(12,026)
(12,026)
7,666,159
7,666,159
22,389,369
5,649,240
$223,894
$56,492
$200,348,783
$
5,353,269
$ 223,253,887
$ (13,101,682) $416,134,643
129,066
983,370
1,290
9,834
1,836,067
16,620,676
20,990,033
(14,499,775)
(719,775)
719,775
1,837,357
16,630,510
20,990,033
(14,499,775)
—
(28,124,675)
(28,124,675)
(4,579,525)
(4,579,525)
23,501,805
5,649,240
$235,018
$56,492
$219,525,301
$
773,744
$ 229,024,370
$ (41,226,357) $408,388,568
149,105
832,467
1,491
8,325
2,118,471
14,522,217
30,801,137
(14,196,874)
(685,720)
685,720
(3,028,015)
2,119,962
14,530,542
30,801,137
(14,196,874)
—
(3,028,015)
24,483,377
5,649,240
$244,834
$56,492
$236,851,709
$
(2,254,271) $ 244,942,913
$ (41,226,357) $438,615,320
See accompanying notes to consolidated financial statements.
Balance, January 1,
2014 . . . . . . . . . .
Issuance of
common stock
(stock
compensation
plans) . . . . . . . . .
Stock-based
compensation . . .
Net income . . . . . . .
Cash dividends . . . .
Grant of stock
options. . . . . . . . . . .
Purchase of treasury
stock . . . . . . . . . .
Other
comprehensive
income . . . . . . . .
Balance,
December 31,
2014 . . . . . . . . . .
Issuance of
common stock
(stock
compensation
plans) . . . . . . . . .
Stock-based
compensation . . .
Net income . . . . . . .
Cash dividends . . . .
Grant of stock
options. . . . . . . . . . .
Purchase of treasury
stock . . . . . . . . . .
Other
comprehensive
loss . . . . . . . . . . .
Balance,
December 31,
2015 . . . . . . . . . .
Issuance of
common stock
(stock
compensation
plans) . . . . . . . . .
Stock-based
compensation . . .
Net income . . . . . . .
Cash dividends . . . .
Grant of stock
options. . . . . . . . . . .
Other
comprehensive
loss . . . . . . . . . . .
Balance,
December 31,
2016 . . . . . . . . . .
-59-
Donegal Group Inc.
Consolidated Statements of Cash Flows
Years Ended December 31,
2015
2014
2016
Cash Flows from Operating Activities:
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 30,801,137
Adjustments to reconcile net income to net cash provided by operating
$ 20,990,033
$ 14,539,018
activities:
Depreciation, amortization and other non-cash items . . . . . . . . . . . . . . . . .
Net realized investment gains . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Equity in earnings of DFSC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
6,587,282
(2,525,575)
(1,086,157)
6,740,346
(1,934,424)
(1,277,229)
3,523,692
(3,134,081)
(1,242,910)
Changes in Assets and Liabilities:
Losses and loss expenses. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Unearned premiums. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accrued expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Premiums receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Deferred policy acquisition costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Deferred income taxes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Reinsurance receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accrued investment income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Amounts due from affiliate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Reinsurance balances payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Prepaid reinsurance premiums . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Current income taxes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Other, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Dividends received from affiliate
Net adjustments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net cash provided by operating activities . . . . . . . . . . . . . . . . . . . . . . . . . .
28,459,481
36,562,025
5,786,216
(18,122,256)
(4,200,808)
2,030,865
(3,299,895)
(304,316)
(12,762,087)
889,122
(10,732,990)
379,406
(22,628)
1,591,300
29,228,985
60,030,122
39,946,703
20,846,840
3,030,848
(7,960,450)
(3,809,780)
168,395
(6,092,223)
(239,821)
1,147,830
(4,360,766)
2,349,278
(906,179)
(2,235,228)
1,783,700
47,197,840
68,187,873
42,639,137
25,911,721
164,530
(9,402,332)
(4,671,098)
(963,679)
(9,396,777)
(327,845)
239,122
(10,107,636)
(3,207,841)
(160,525)
111,941
—
29,975,419
44,514,437
Cash Flows from Investing Activities:
Purchases of fixed maturities:
Held to maturity. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Available for sale. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Purchases of equity securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Sales of fixed maturities:
(44,907,210)
(161,873,868)
(15,222,724)
(31,310,026)
(181,106,519)
(14,759,861)
(103,654,684)
(89,585,027)
(23,607,077)
Available for sale. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
55,731,299
40,321,838
26,816,642
Maturity of fixed maturities:
Held to maturity. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Available for sale. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Sales of equity securities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net purchases of property and equipment. . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net sales of short-term investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net cash used in investing activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
19,488,644
82,586,588
9,201,657
(384,207)
4,061,475
(51,318,346)
28,575,153
66,744,045
8,761,474
(151,536)
6,861,166
(76,064,266)
36,832,890
38,417,972
8,337,461
(2,127,311)
79,384,147
(29,184,987)
Cash Flows from Financing Activities:
Issuance of common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cash dividends paid . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Purchases of treasury stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Payments on lines of credit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Borrowings under lines of credit. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net cash (used in) provided by financing activities . . . . . . . . . . . . . . . . . .
13,822,228
(14,085,934)
(12,000,000)
—
(12,263,706)
15,516,870
(14,455,167)
— (28,124,675)
(9,500,000)
37,000,000
437,028
10,700,637
(13,575,968)
(12,026)
(7,500,000)
3,000,000
(7,387,357)
(3,551,930)
Net (decrease) increase in cash. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cash at beginning of year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
28,139,144
Cash at end of year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 24,587,214
(7,439,365)
35,578,509
$ 28,139,144
7,942,093
27,636,416
$ 35,578,509
See accompanying notes to consolidated financial statements.
-60-
Donegal Group Inc.
Notes to Consolidated Financial Statements
1 - Summary of Significant Accounting Policies
Organization and Business
Donegal Mutual Insurance Company (”Donegal Mutual”) organized us as an insurance holding company on August 26, 1986.
Our insurance subsidiaries, 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, Sheboygan Falls Insurance Company (“Sheboygan”) and Michigan
Insurance Company (“MICO”), write personal and commercial lines of property and casualty coverages exclusively through a
network of independent insurance agents in certain Mid-Atlantic, Midwestern, New England and Southern states. We also own
48.2% of the outstanding stock of Donegal Financial Services Corporation (“DFSC”), a grandfathered unitary savings and loan
holding company that owns Union Community Bank (“UCB”), a state savings bank. UCB has 15 banking offices, substantially
all of which are located in Lancaster County, Pennsylvania. Donegal Mutual owns the remaining 51.8% of the outstanding stock
of DFSC.
We have four segments: our investment function, our personal lines of insurance, our commercial lines of insurance and our
investment in DFSC. The personal lines products of our insurance subsidiaries consist primarily of homeowners and private
passenger automobile policies. The commercial lines products of our insurance subsidiaries consist primarily of commercial
automobile, commercial multi-peril and workers’ compensation policies.
At December 31, 2016, Donegal Mutual held approximately 46% of our outstanding Class A common stock and
approximately 83% of our outstanding Class B common stock. This ownership provides Donegal Mutual with approximately
73% of the total voting power of our common stock. Our insurance subsidiaries and Donegal Mutual have interrelated
operations due to a pooling agreement and other intercompany agreements and transactions. While each company maintains its
separate corporate existence, our insurance subsidiaries and Donegal Mutual conduct business together as the Donegal
Insurance Group. As such, Donegal Mutual and our insurance subsidiaries share the same business philosophy, the same
management, the same employees and the same facilities and offer the same types of insurance products.
Atlantic States, our largest subsidiary, participates in a pooling agreement with Donegal Mutual. Under the pooling
agreement, the two companies pool their insurance business and each company receives an allocated percentage of the pooled
business. Atlantic States has an 80% share of the results of the pooled business, and Donegal Mutual has a 20% share of the
results of the pooled business.
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, as the Donegal
Insurance Group, Donegal Mutual and our insurance subsidiaries share a combined business plan to achieve market penetration
and underwriting profitability objectives. The products our insurance subsidiaries and Donegal Mutual market are generally
complementary, thereby allowing the Donegal Insurance Group to offer a broader range of products to a given market and to
expand the Donegal Insurance Group’s ability to service an entire personal lines or commercial lines account. Distinctions
within the products of Donegal Mutual and our insurance subsidiaries generally relate to specific risk profiles targeted within
similar classes of business, such as preferred tier versus standard tier products, but we do not allocate all of the standard risk
gradients to one company. Therefore, the underwriting profitability of the business the individual companies write directly will
vary. However, as the risk characteristics of all business Donegal Mutual and Atlantic States write directly are homogenized
within the underwriting pool, Donegal Mutual and Atlantic States share the underwriting results in proportion to their
respective participation in the pool. Pooled business represents the predominant percentage of the net underwriting activity of
both Donegal Mutual and Atlantic States. We refer to Note 3 - Transactions with Affiliates for more information regarding the
pooling agreement.
Basis of Consolidation
Our consolidated financial statements, which we have prepared in accordance with accounting principles generally
accepted in the United States of America (“GAAP”), include our accounts and those of our wholly owned subsidiaries. We have
eliminated all significant inter-company accounts and transactions in consolidation. The terms “we,” “us,” “our” or the
“Company” as we use them in the notes to our consolidated financial statements refer to the consolidated entity.
-61-
Use of Estimates
In preparing our consolidated financial statements, our management makes estimates and assumptions that affect the
reported amounts of assets and liabilities at the date of the balance sheet and revenues and expenses for the period then ended.
Actual results could differ significantly from those estimates.
We make estimates and assumptions that could have a significant effect on amounts and disclosures we report in our
consolidated 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 of investment securities and our insurance subsidiaries’ policy acquisition costs. While we believe our estimates
and the estimates of our insurance subsidiaries are appropriate, the ultimate amounts may differ from the estimates provided.
We regularly review our methods for making these estimates as well as the continuing appropriateness of the estimated
amounts, and we reflect any adjustment we consider necessary in our current results of operations.
Reclassification
We have made certain reclassifications in our prior period financial statements to conform to the current year presentation.
Investments
We classify our debt and equity securities into the following categories:
Held to Maturity - Debt securities that we have the positive intent and ability to hold to maturity; reported at amortized
cost.
Available for Sale - Debt and equity securities not classified as held to maturity; reported at fair value, with unrealized
gains and losses excluded from income and reported as a separate component of stockholders’ equity (net of tax
effects).
Short-term investments carried at amortized cost, which approximates fair value.
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, 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 when we consider the decline in value of an individual investment to
be other than temporary. We individually monitor all of our investments for other-than-temporary declines in value. Generally,
we assume there has been an other-than-temporary decline in value 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. 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 determine 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 debt security prior to recovery. If
we determine 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 we determine 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. We determine whether a credit loss has
occurred by comparing 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 that a credit loss has occurred. If we determine that a credit loss has 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 when the fair value of an investment is significantly below its cost, when the financial condition of the
issuer of a security has deteriorated, the occurrence of industry, company or geographic events that have negatively impacted
the value of a security and rating agency downgrades.
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.
-62-
We account for our investment in affiliate using the equity method of accounting. Under the equity method, we record our
investment at cost, with adjustments for our share of the affiliate’s earnings and losses as well as changes in the affiliate’s
equity due to unrealized gains and losses.
Fair Values of Financial Instruments
We use the following methods and assumptions in estimating our fair value disclosures:
Investments - 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 we could realize if we sold the security 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 two prices 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 based predominantly on observable market inputs. The pricing services
do not use broker quotes in determining the fair values of our investments. Our investment personnel review the estimates of
fair value the pricing services provide to determine if the estimates we obtain are representative of fair values based upon the
general knowledge of our investment personnel of the market, their research findings related to unusual fluctuations in value
and their comparison of such values to execution prices for similar securities. Our investment personnel monitor the market and
are familiar with current trading ranges for similar securities and the pricing of specific investments. Our investment personnel
review all pricing estimates that we receive from the pricing services against their expectations with respect to pricing based on
fair market curves, security ratings, coupon rates, security type and recent trading activity. Our investment personnel review
documentation with respect to the pricing services’ pricing methodology that they obtain periodically to determine if the
primary pricing sources, market inputs and pricing frequency for various security types are reasonable. We refer to Note 5 -
Fair Value Measurements for more information regarding our methods and assumptions in estimating fair values.
Cash and Short-Term Investments - The carrying amounts we report in the balance sheet for these instruments
approximate their fair values.
Premiums and Reinsurance Receivables and Payables - The carrying amounts we report in the balance sheet for these
instruments related to premiums and paid losses and loss expenses approximate their fair values.
Subordinated Debentures - The carrying amounts we report in the balance sheet for these instruments approximate
their fair values.
Revenue Recognition
Our insurance subsidiaries recognize insurance premiums as income over the terms of the policies they issue. Our
insurance subsidiaries calculate unearned premiums on a daily pro-rata basis.
Policy Acquisition Costs
We defer our insurance subsidiaries’ policy acquisition costs, consisting primarily of commissions, premium taxes and
certain other underwriting costs, reduced by ceding commissions, that vary with and relate directly to the production of
business. We amortize these deferred policy acquisition costs over the period in which our insurance subsidiaries earn the
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 premium to be earned, related investment income, losses and loss
expenses and certain other costs we expect to incur as our insurance subsidiaries earn the premium. Estimates in the calculation
of policy acquisition costs have not shown material variability because of uncertainties in applying accounting principles or as
a result of sensitivities to changes in key assumptions.
Property and Equipment
We report property and equipment at depreciated cost that we compute using the straight-line method based upon estimated
useful lives of the assets.
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Losses and Loss Expenses
Liabilities for losses and loss expenses are estimates at a given point in time of the amounts an insurer expects to pay with
respect to policyholder claims based on facts and circumstances then known to the insurer. At the time of establishing its
estimates, an insurer recognizes that its ultimate liability for losses and loss expenses will exceed or be less than such estimates.
Our insurance subsidiaries base their estimates of liabilities for losses and loss expenses on assumptions as to future loss trends
and expected claims severity, judicial theories of liability and other factors. However, during the loss adjustment period, our
insurance subsidiaries may learn additional facts regarding certain claims, and, consequently, it often becomes necessary for
our insurance subsidiaries to refine and adjust their estimates of liability. We reflect any adjustments to our insurance
subsidiaries’ liabilities for losses and loss expenses in our operating results in the period in which our insurance subsidiaries
record the changes in estimates.
Our insurance subsidiaries maintain liabilities for the payment of losses and loss expenses with respect to both reported
and unreported claims. Our insurance subsidiaries establish these liabilities for the purpose of covering the ultimate costs of
settling all losses, including investigation and litigation costs. Our insurance subsidiaries base the amount of their liability for
reported losses primarily upon a case-by-case evaluation of the type of risk involved, knowledge of the circumstances
surrounding each claim and the insurance policy provisions relating to the type of loss their policyholder incurred. Our
insurance subsidiaries determine the amount of their liability for unreported claims and loss expenses on the basis of historical
information by line of insurance. Our insurance subsidiaries account for inflation in the reserving function through analysis of
costs and trends and reviews of historical reserving results. Our insurance subsidiaries 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 losses.
Reserve estimates can change over time because of unexpected changes in assumptions related to our insurance
subsidiaries’ external environment and, to a lesser extent, assumptions 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 workers’ compensation 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 consistency in the recording of premium and loss statistics, consistency in
the recording of claims, payment and case reserving methodology, accurate measurement of the impact of rate changes and
changes in policy provisions, consistency in the quality and characteristics of business written within a given line of business
and consistency in reinsurance coverage and collectibility of reinsured losses, among other items. To the extent our insurance
subsidiaries determine that underlying factors impacting their assumptions have changed, our insurance subsidiaries attempt to
make appropriate adjustments for such changes in their reserves. Accordingly, our insurance subsidiaries’ ultimate liability for
unpaid losses and loss expenses will likely differ from the amount recorded.
Our insurance subsidiaries seek to enhance their underwriting results by carefully selecting the product lines they
underwrite. Our insurance subsidiaries’ personal lines products primarily include standard and preferred risks in private
passenger automobile and homeowners lines. Our insurance subsidiaries’ commercial lines products primarily include business
offices, wholesalers, service providers, contractors, artisans and light manufacturing operations. Our insurance subsidiaries
have limited exposure to asbestos and other environmental liabilities. Our insurance subsidiaries write no medical malpractice
liability risks.
Income Taxes
We currently file a consolidated federal income tax return.
We account for income taxes using the asset and liability method. The objective of the asset and liability method is to
establish deferred tax assets and liabilities for the temporary differences between the financial reporting basis and the tax basis
of our assets and liabilities at enacted tax rates we expect to be in effect when we realize or settle such amounts.
Credit Risk
Our objective is to earn competitive returns by investing in a diversified portfolio of securities. Our portfolio of fixed
maturity securities and, to a lesser extent, short-term investments is subject to credit risk. We define this risk as the potential
loss in fair value resulting from adverse changes in the borrower’s ability to repay its debt to us. We manage this risk by
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performing an analysis of prospective investments and through regular reviews of our portfolio by our investment personnel.
We also limit the amount of our total investment portfolio that we invest in any one security.
Our insurance subsidiaries provide property and liability insurance coverages through independent insurance agencies
located throughout their operating areas. Our insurance subsidiaries bill the majority of this business directly to their
policyholders, although our insurance subsidiaries bill a portion of their commercial business through their agents, to whom
they extend credit in the normal course of business.
Our insurance subsidiaries have reinsurance agreements with Donegal Mutual and with a number of major unaffiliated
reinsurers.
Reinsurance Accounting and Reporting
Our insurance subsidiaries rely upon reinsurance agreements to limit their maximum net loss from large single risks or
risks in concentrated areas and to increase their capacity to write insurance. Reinsurance does not relieve our insurance
subsidiaries from liability to their respective policyholders. To the extent that a reinsurer cannot pay losses for which it is liable
under the terms of a reinsurance agreement with one or more of our insurance subsidiaries, our insurance subsidiaries retain
continued liability for such losses. However, in an effort to reduce the risk of non-payment, our insurance subsidiaries require
all of their reinsurers to have an A.M. Best rating of A- or better or, with respect to foreign reinsurers, to have a financial
condition that, in the opinion of our management, is equivalent to a company with an A.M. Best rating of A- or better. We refer
to Note 10 - Reinsurance for more information regarding the reinsurance agreements of our insurance subsidiaries.
Stock-Based Compensation
We measure all share-based payments to our directors and the directors and employees of our subsidiaries and affiliates,
including grants of stock options, using a fair-value-based method and record such expense in our results of operations. In
determining the expense we record for stock options we grant to our directors and the directors and employees of our
subsidiaries and affiliates, we estimate the fair value of each option award on the date of grant using the Black-Scholes option
pricing model. The significant assumptions we utilize in applying the Black-Scholes option pricing model are the risk-free
interest rate, expected term, dividend yield and expected volatility.
In 2016, 2015 and 2014, we realized $788,700, $437,474 and $304,533, respectively, in tax benefits upon the exercise of
stock options.
Earnings per Share
We calculate basic earnings per share by dividing net income by the weighted-average number of common shares
outstanding for the period. Diluted earnings per share reflects the dilution that could occur if securities or other contracts to
issue common stock were exercised or converted into common stock.
We have two classes of common stock, which we refer to as Class A common stock and Class B common stock. Our
Class A common stock is entitled to the declaration and payment of cash dividends that are at least 10% higher than those we
declare and pay on our Class B common stock. Accordingly, we use the two-class method for the computation of earnings per
common 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 remaining undistributed earnings using a participation
percentage that reflects the dividend rights of each class.
Goodwill and Other Intangible Assets
Goodwill represents the excess of the purchase price over the underlying fair value of acquired entities. When completing
acquisitions, we seek also to identify separately identifiable intangible assets that we have acquired. We assess goodwill and
intangible assets with an indefinite useful life for impairment annually. We also assess goodwill and other intangible assets for
impairment upon the occurrence of certain events. In making our assessment, we consider a number of factors including
operating results, business plans, economic projections, anticipated future cash flows and current market data. Inherent
uncertainties exist with respect to these factors and to our judgment in applying them when we make our assessment.
Impairment of goodwill and other intangible assets could result from changes in economic and operating conditions in future
periods.
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2 - Impact of New Accounting Standards
In May 2014, the Financial Accounting Standards Board (the “FASB”) issued guidance that requires an entity to recognize
the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. While the
guidance will replace most existing GAAP revenue recognition guidance, the scope of the guidance excludes insurance
contracts. The new standard is effective on January 1, 2018. The standard permits the use of either the retrospective or the
cumulative effect transition method. We do not expect the adoption of this new guidance to have a significant impact on our
financial position, results of operations or cash flows.
In August 2014, the FASB issued an ASU related to the disclosure of uncertainties about an entity's ability to continue as a
going concern. The intent of this standard is to help reduce the diversity in the timing and content of footnote disclosures as
those disclosures relate to an entity's ability to continue as a going concern. The standard was effective for annual periods
ending after December 15, 2016. If conditions or events raise substantial doubt that is not alleviated, an entity should disclose
that there is substantial doubt about the entity’s ability to continue as a going concern within one year after the date that the
financial statements are issued (or available to be issued), along with the principal conditions or events that raise substantial
doubt, management’s evaluation of the significance of those conditions or events in relation to the entity’s ability to meet its
obligations and management’s plans that are intended to mitigate those conditions. The adoption of this new guidance had no
impact on our financial position, results of operations or cash flows.
In April 2015, the FASB issued updated guidance to clarify the required presentation of debt issuance costs. The updated
guidance requires entities to present debt issuance costs in the balance sheet as a direct reduction from the carrying amount of
the recognized debt liability, consistent with the treatment of debt discounts, and to report amortization of debt issuance costs as
interest expense. The updated guidance does not affect recognition and measurement guidance for debt issuance costs. The
guidance was effective for reporting periods beginning after December 15, 2015. The adoption of this new guidance had no
impact on our financial position, results of operations or cash flows.
In May 2015, the FASB issued guidance that removes the requirement to categorize within the fair value hierarchy all
investments for which fair value is measured using the net asset value per share practical expedient. The guidance also removes
the requirement to make certain disclosures for all investments that are eligible to be measured at fair value using the net asset
value per share practical expedient. The guidance instead limits disclosure to investments for which the entity has elected to
measure fair value using that practical expedient. The guidance was effective for annual reporting periods beginning after
December 15, 2015, and interim reporting periods within those annual reporting periods. The adoption of this new guidance
had no impact on our financial position, results of operations or cash flows.
In May 2015, the FASB issued guidance that requires entities to provide additional disclosures about their liability for
unpaid claims and claim adjustment expenses to increase the transparency of significant estimates. The guidance also requires
entities to disclose information about significant changes in methodologies and assumptions used to calculate the liability for
unpaid claims and claim adjustment expenses, including the reasons for the changes and the effects on the entities’ financial
statements, and the timing, frequency and severity of claims. The guidance also requires entities to disclose a rollforward of the
liability for unpaid claims and claim adjustment expenses for annual and interim reporting periods. The guidance was effective
for annual reporting periods beginning after December 15, 2015, and interim reporting periods within annual reporting periods
beginning after December 15, 2016. We have included the disclosures this guidance requires in the notes to our consolidated
financial statements for the annual reporting period ended December 31, 2016. The adoption of this new guidance had no
impact on our financial position, results of operations or cash flows.
In January 2016, the FASB issued guidance that generally requires entities to measure equity investments at fair value and
recognize changes in fair value in their results of operations. The guidance also simplifies the impairment assessment of equity
investments without readily determinable fair values by requiring entities to perform a qualitative assessment to identify
impairment. The FASB issued other disclosure and presentation improvements related to financial instruments within the
guidance. The guidance is effective for annual and interim reporting periods beginning after December 15, 2017. As a result of
this guidance, we will reflect changes in the fair value of our equity investments in our results of operations beginning January
1, 2018.
In February 2016, the FASB issued guidance that requires lessees to recognize leases, including operating leases, on the
lessee’s balance sheet, unless a lease is considered a short-term lease. The guidance also requires entities to make new
judgments to identify leases. The guidance is effective for annual and interim reporting periods beginning after December 15,
2018 and permits early adoption. We do not expect the adoption of this new guidance to have a significant impact on our
financial position, results of operations or cash flows.
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In March 2016, the FASB issued guidance that simplifies and improves several aspects of the accounting for share-based
payment transactions, including the income tax consequences, classification of awards as either equity or liabilities and
classification on the statement of cash flows. The guidance is effective for annual and interim reporting periods beginning after
December 15, 2016. We do not expect the adoption of this new guidance to have a significant impact on our financial position,
results of operations or cash flows.
In June 2016, the FASB issued guidance that amends previous guidance on the impairment of financial instruments by
adding an impairment model that requires an entity to recognize expected credit losses as an allowance rather than impairments
as credit losses are incurred. The intent of the new guidance is to reduce complexity and result in a more timely recognition of
expected credit losses. The guidance is effective for annual and interim reporting periods beginning after December 15, 2019.
We do not expect the adoption of this new guidance to have a significant impact on our financial position, results of operations
or cash flows.
In August 2016, the FASB issued guidance that clarifies the presentation and classification of certain cash receipts and cash
payments in the statement of cash flows. This guidance addresses eight specific cash flow matters with the objective of
reducing the existing diversity in practice. The guidance is effective for annual and interim reporting periods beginning after
December 15, 2017 and permits early adoption. The adoption of this new guidance did not have a significant impact on our
financial position, results of operations or cash flows.
3 - Transactions with Affiliates
Our insurance subsidiaries conduct business and have various agreements with Donegal Mutual that we describe in the
following subparagraphs:
a. Reinsurance Pooling and Other Reinsurance Arrangements
Atlantic States, our largest insurance subsidiary, and Donegal Mutual have a pooling agreement under which both
companies contribute all of their direct written business to the pool and receive an allocated percentage of the pooled
underwriting results, excluding certain reinsurance Donegal Mutual assumes from our insurance subsidiaries. Atlantic States
has an 80% share of the results of the pool, and Donegal Mutual has a 20% share of the results of the pool. The intent of the
pooling agreement is to produce more uniform and stable underwriting results from year to year for each pool participant than
they would experience individually and to spread the risk of loss between the participants based on each participant’s relative
amount of surplus and relative access to capital. Each participant in the pool has at its disposal the capacity of the entire pool,
rather than being limited to policy exposures of a size commensurate with its own capital and surplus.
The following amounts represent reinsurance Atlantic States ceded to the pool during 2016, 2015 and 2014:
Premiums earned
Losses and loss expenses
Prepaid reinsurance premiums
Liability for losses and loss expenses
2016
2015
2014
$ 185,444,009 $ 170,418,931 $ 158,221,567
115,371,839
95,469,329
115,029,244
87,780,338
116,193,967
82,144,290
120,434,535
108,672,769
98,873,924
The following amounts represent reinsurance Atlantic States assumed from the pool during 2016, 2015 and 2014:
Premiums earned
Losses and loss expenses
Unearned premiums
Liability for losses and loss expenses
2016
2015
$ 422,985,921 $ 396,098,036 $ 372,001,855
2014
240,394,302
240,197,659
257,682,215
214,372,048
199,966,888
190,470,447
230,543,393
216,194,945
196,781,007
Until February 1, 2016, Donegal Mutual and Le Mars had a quota-share reinsurance agreement under which Le Mars
assumed 100% of the premiums and losses related to certain products Donegal Mutual offered in certain Midwestern states,
which provided the availability of complementary products to Le Mars’ commercial accounts. Until October 31, 2012, Donegal
Mutual and Southern had a quota-share reinsurance agreement whereby Southern assumed 100% of the premiums and losses
related to personal lines products Donegal Mutual offered in Virginia through the use of its automated policy quoting and
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issuance system. The following amounts represent reinsurance Southern and Le Mars assumed from Donegal Mutual pursuant
to the quota-share reinsurance agreements during 2016, 2015 and 2014:
Premiums earned
Losses and loss expenses
Unearned premiums
Liability for losses and loss expenses
2016
2015
2014
$
(1,512) $
880,787 $
4,265,196
(378,199)
—
1,492,673
4,002,879
—
514,297
3,222,100
5,722,000
7,360,792
Donegal Mutual and MICO have a quota-share reinsurance agreement under which Donegal Mutual assumes 25% of the
premiums and losses related to the business of MICO. Donegal Mutual and Peninsula have a quota-share reinsurance
agreement under which Donegal Mutual assumes 100% of the premiums and losses related to the workers’ compensation
product line of Peninsula in certain states. The business Donegal Mutual assumes under the reinsurance agreements is subject
to the pooling agreement between Donegal Mutual and Atlantic States.
The following amounts represent reinsurance ceded to Donegal Mutual pursuant to these quota-share reinsurance
agreements during 2016, 2015 and 2014:
2016
2015
2014
Premiums earned
Losses and loss expenses
Prepaid reinsurance premiums
Liability for losses and loss expenses
$ 39,917,800 $ 37,299,760 $ 36,007,453
24,951,662
21,524,856
19,735,479
19,180,421
17,172,112
16,396,417
31,881,756
29,968,948
28,172,373
Atlantic States, Southern and Le Mars each have a catastrophe reinsurance agreement with Donegal Mutual that provides
coverage under any one catastrophic occurrence above a set retention ($2,000,000, $1,500,000 and $750,000 for Atlantic
States, Southern and Le Mars, respectively), with a combined retention of $4,000,000 for a catastrophe involving a
combination of these subsidiaries, up to the amount Donegal Mutual and our insurance subsidiaries retain under catastrophe
reinsurance agreements with unaffiliated reinsurers. The set retention for Le Mars was $500,000 in 2014. Donegal Mutual and
Southern have an excess of loss reinsurance agreement in which Donegal Mutual assumes up to $500,000 of Southern’s losses
in excess of $500,000.
The following amounts represent reinsurance that our insurance subsidiaries ceded to Donegal Mutual pursuant to these
reinsurance agreements during 2016, 2015 and 2014:
Premiums earned
Losses and loss expenses
Liability for losses and loss expenses
2016
2015
2014
$ 12,965,868 $ 14,235,227 $ 14,967,796
995,076
6,814,836
11,691,957
3,136,438
4,485,201
3,981,351
The following amounts represent the effect of affiliated reinsurance transactions on net premiums our insurance
subsidiaries earned during 2016, 2015 and 2014:
Assumed
Ceded
Net
2016
2015
2014
$ 422,984,409
(238,327,677)
$ 184,656,732
$ 396,978,823
(221,953,918)
$ 175,024,905
$ 376,267,051
(209,196,816)
$ 167,070,235
The following amounts represent the effect of affiliated reinsurance transactions on net losses and loss expenses our
insurance subsidiaries incurred during 2016, 2015 and 2014:
Assumed
Ceded
Net
2016
2015
2014
$ 240,016,103 $ 241,690,332 $ 261,685,094
(152,837,586)
(141,579,559)
$ 102,124,332 $ 100,110,773 $ 108,847,508
(137,891,771)
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b. Expense Sharing
Donegal Mutual provides facilities, management and other services to us and our insurance subsidiaries. Donegal Mutual
allocates certain related expenses to Atlantic States in relation to the relative participation of Atlantic States and Donegal
Mutual in the pooling agreement. Our insurance subsidiaries other than Atlantic States reimburse Donegal Mutual for their
personnel costs and bear their proportionate share of information services costs based on their percentage of the total written
premiums of the Donegal Insurance Group. Charges for these services totalled $122,428,117, $108,473,146 and $98,634,816
for 2016, 2015 and 2014, respectively.
c. Lease Agreement
We lease office equipment and automobiles with terms ranging from 3 to 10 years to Donegal Mutual under a 10-year lease
agreement dated January 1, 2011.
d. Legal Services
Donald H. Nikolaus, our Chairman of the Board and one of our directors, is a partner in the law firm of Nikolaus &
Hohenadel. Such firm has served as our general counsel since 1986, principally in connection with the defense of claims
litigation arising in Lancaster, Dauphin and York counties of Pennsylvania. We pay such firm its customary fees for such
services.
e. Union Community Bank
At December 31, 2016 and 2015, we had $16,981,744 and $24,030,780, respectively, in checking accounts with UCB, a
wholly owned subsidiary of DFSC. We earned $87,941, $3,317 and $2,757 in interest on these accounts during 2016, 2015 and
2014, respectively.
4 - Investments
The amortized cost and estimated fair values of our fixed maturities and equity securities at December 31, 2016 and 2015
are as follows:
Held to Maturity
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
2016
Amortized Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated Fair
Value
$ 61,381,605
$
1,255,480
$
674,371
$ 61,962,714
Obligations of states and political subdivisions
122,793,411
8,403,996
368,530
130,828,877
Corporate securities
Mortgage-backed securities
Totals
91,555,136
1,172,002
1,678,133
91,049,005
60,370,796
545,812
110,066
60,806,542
$ 336,100,948
$ 11,377,290
$
2,831,100
$ 344,647,138
Available for Sale
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
Obligations of states and political subdivisions
Corporate securities
Mortgage-backed securities
Fixed maturities
Equity securities
Totals
2016
Amortized Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated Fair
Value
$ 39,093,734 $
99,429 $
605,139 $ 38,588,024
179,889,661
87,715,049
6,635,941
662,132
442,717
921,362
186,082,885
87,455,819
204,931,200
637,268
2,620,256
202,948,212
511,629,644
8,034,770
4,589,474
515,074,940
42,431,695
4,788,218
132,071
47,087,842
$ 554,061,339 $ 12,822,988 $
4,721,545 $ 562,162,782
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Held to Maturity
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
2015
Amortized Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated Fair
Value
$ 51,193,849
$
1,544,520
$
— $ 52,738,369
Obligations of states and political subdivisions
119,115,002
10,827,728
119,350
129,823,380
Corporate securities
Mortgage-backed securities
Totals
65,306,517
816,408
1,560,891
64,562,034
74,643,336
1,180,745
148,697
75,675,384
$ 310,258,704
$ 14,369,401
$
1,828,938
$ 322,799,167
Available for Sale
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
Obligations of states and political subdivisions
Corporate securities
Mortgage-backed securities
Fixed maturities
Equity securities
Totals
2015
Amortized Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated Fair
Value
$ 37,080,117 $
159,510 $
50,819 $ 37,188,808
223,768,856
73,474,433
13,151,235
350,140
363,672
1,012,156
236,556,419
72,812,417
154,686,660
1,045,022
895,767
154,835,915
489,010,066
14,705,907
2,322,414
501,393,559
35,765,030
2,268,639
772,848
37,260,821
$ 524,775,096 $ 16,974,546 $
3,095,262 $ 538,654,380
At December 31, 2016, our holdings of obligations of states and political subdivisions included general obligation bonds
with an aggregate fair value of $220.1 million and an amortized cost of $211.0 million. Our holdings also included special
revenue bonds with an aggregate fair value of $96.8 million and an amortized cost of $91.7 million. With respect to both
categories of bonds, we held no securities of any issuer that comprised more than 10% of that category at December 31, 2016.
Education bonds and water and sewer utility bonds represented 62% and 23%, respectively, of our total investments in special
revenue bonds based on their carrying values at December 31, 2016. Many of the issuers of the special revenue bonds we held
at December 31, 2016 have the authority to impose ad valorem taxes. In that respect, many of the special revenue bonds we
held are similar to general obligation bonds.
At December 31, 2015, our holdings of obligations of states and political subdivisions included general obligation bonds
with an aggregate fair value of $256.9 million and an amortized cost of $241.1 million. Our holdings also included special
revenue bonds with an aggregate fair value of $109.5 million and an amortized cost of $101.8 million. With respect to both
categories of bonds, we held no securities of any issuer that comprised more than 10% of that category at December 31, 2015.
Education bonds and water and sewer utility bonds represented 57% and 26%, respectively, of our total investments in special
revenue bonds based on their carrying values at December 31, 2015. Many of the issuers of the special revenue bonds we held
at December 31, 2015 have the authority to impose ad valorem taxes. In that respect, many of the special revenue bonds we
held are similar to general obligation bonds.
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We made reclassifications from available for sale to held to maturity of fixed maturities at fair value on November 30,
2013. We present the impact of the transfers at November 30, 2013, summarized by type of securities, in the following table:
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
Obligations of states and political subdivisions
Corporate securities
Mortgage-backed securities
Totals
Amortized Cost
Estimated Fair
Value
$ 50,627,225 $ 47,914,311
88,456,842
79,866,801
15,745,976
14,879,294
72,465,250
69,567,883
$ 227,295,293 $ 212,228,289
We have segregated within accumulated other comprehensive loss the net unrealized losses of $15.1 million arising
prior to the November 30, 2013 reclassification date for fixed maturities reclassified from available for sale to held to maturity.
We will amortize this balance over the remaining life of the related securities as an adjustment of yield in a manner consistent
with the accretion of discount on the same fixed maturities. During 2016, we recorded amortization of $1.3 million in
accumulated other comprehensive income. At December 31, 2016 and 2015, net unrealized losses of $11.0 million and $12.3
million, respectively, remained within accumulated other comprehensive (loss) income.
We set forth below the amortized cost and estimated fair value of fixed maturities at December 31, 2016 by
contractual maturity. 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.
Held to maturity
Due in one year or less
Due after one year through five years
Due after five years through ten years
Due after ten years
Mortgage-backed securities
Total held to maturity
Available for sale
Due in one year or less
Due after one year through five years
Due after five years through ten years
Due after ten years
Mortgage-backed securities
Total available for sale
Amortized Cost
Estimated Fair
Value
$
7,586,580 $
7,591,796
42,966,785
43,368,519
88,920,549
90,854,599
136,256,238
142,025,682
60,370,796
60,806,542
$ 336,100,948 $ 344,647,138
$ 36,119,023 $ 36,533,033
111,729,669
114,691,263
108,499,192
109,046,513
50,350,560
204,931,200
51,855,919
202,948,212
$ 511,629,644 $ 515,074,940
The amortized cost of fixed maturities on deposit with various regulatory authorities at December 31, 2016 and 2015
amounted to $9,632,126 and $9,625,807, respectively.
Our investment in affiliate represented our 48.2% investment in DFSC in the amount of $37,884,918 and $38,476,708 at
December 31, 2016 and 2015, respectively. We account for our investment in DFSC using the equity method of accounting.
Under this method, we record our investment at cost, with adjustments for our share of DFSC’s earnings and losses as well as
changes in DFSC’s equity due to its unrealized gains and losses.
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We include our share of DFSC’s net income in our results of operations. We have compiled the following summary
financial information for DFSC at December 31, 2016 and 2015 from the financial statements of DFSC.
Balance sheets:
Total assets
Total liabilities
Stockholders’ equity
December 31,
2016
2015
$ 535,590,133
$ 507,138,740
$ 457,101,287
$ 427,422,661
78,488,846
79,716,079
Total liabilities and stockholders’ equity
$ 535,590,133
$ 507,138,740
Income statements:
Net income
Year Ended December 31,
2016
2015
2014
$ 2,252,456
$ 2,372,650
$ 2,853,576
Other comprehensive (loss) income in our statements of comprehensive income includes net unrealized (losses) gains of
($103,331), ($263,991) and $1.5 million for 2016, 2015 and 2014, respectively, representing our share of DFSC’s unrealized
investment gains or losses.
We received distributions from DFSC of $1.6 million and $1.8 million during 2016 and 2015, respectively. Based on the
nature of the activities that generated these distributions, we made an accounting policy election to classify these distributions
as a return on our investment in DFSC.
We derive net investment income, consisting primarily of interest and dividends, from the following sources:
Fixed maturities
Equity securities
Short-term investments
Other
Investment income
Investment expenses
Net investment income
2016
2015
2014
$ 25,066,582
$ 23,636,468
$ 22,910,621
1,187,814
115,763
108,003
707,703
181,154
33,450
528,453
139,243
34,675
26,478,162
(3,845,432)
$ 22,632,730
24,558,775
(3,609,077)
$ 20,949,698
23,612,992
(5,268,610)
$ 18,344,382
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We present below gross realized gains and losses from investments, including those we classified as held to maturity, and
the change in the difference between fair value and cost of investments:
Gross realized gains:
Fixed maturities
Equity securities
Gross realized losses:
Fixed maturities
Equity securities
Net realized gains
Change in difference between fair value and cost of
investments:
Fixed maturities
Equity securities
Totals
2016
2015
2014
$ 2,161,108
$ 2,259,045
$ 1,811,295
1,378,548
3,539,656
1,088,467
3,347,512
1,455,076
3,266,371
281,131
732,950
1,014,081
105,432
1,307,656
1,413,088
37,449
94,841
132,290
$ 2,525,575
$ 1,934,424
$ 3,134,081
$(12,932,470) $(10,787,772) $ 23,893,815
581,467
$ (9,772,114) $(10,128,175) $ 24,475,282
3,160,356
659,597
We held fixed maturities and equity securities with unrealized losses representing declines that we considered temporary at
December 31, 2016 as follows:
Less than 12 months
12 months or longer
Fair Value
Unrealized
Losses
Fair Value
Unrealized
Losses
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
$ 37,729,947 $ 1,279,510 $
— $
Obligations of states and political subdivisions
40,739,099
802,311
710,280
—
8,936
Corporate securities
Mortgage-backed securities
Equity securities
Totals
80,181,238
2,127,451
4,706,945
472,044
168,771,543
2,727,720
416,828
5,420,875
132,071
—
2,602
—
$332,842,702 $ 7,069,063 $ 5,834,053 $
483,582
We held fixed maturities and equity securities with unrealized losses representing declines that we considered temporary at
December 31, 2015 as follows:
Less than 12 months
12 months or longer
Fair Value
Unrealized
Losses
Fair Value
Unrealized
Losses
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
$ 10,168,014 $
50,819 $
Obligations of states and political subdivisions
19,437,469
483,022
— $
—
69,481,645
1,615,369
11,323,819
105,299,953
875,658
7,538,257
9,245,342
772,848
—
$213,632,423 $ 3,797,716 $ 18,862,076 $ 1,126,484
—
—
957,678
168,806
—
Corporate securities
Mortgage-backed securities
Equity securities
Totals
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, 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 when we consider the decline in value of an individual investment to
be other than temporary. We individually monitor all investments for other-than-temporary declines in value. Generally, we
assume there has been an other-than-temporary decline in value if an individual equity security has depreciated in value by
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more than 20% of original cost and has been in such an unrealized loss position for more than six months. We held 13 equity
securities that were in an unrealized loss position at December 31, 2016. Based upon our analysis of general market conditions
and underlying factors impacting these equity securities, we considered 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 determine 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 debt security prior to recovery. If
we determine 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 we determine 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. We determine whether a credit loss has
occurred by comparing 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 that a credit loss has occurred. If we determine that a credit loss has 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 when the fair value of an investment is significantly below its cost, when the financial condition of the
issuer of a security has deteriorated, the occurrence of industry, company or geographic events that have negatively impacted
the value of a security and rating agency downgrades. We held 247 debt securities that were in an unrealized loss position at
December 31, 2016. Based upon our analysis of general market conditions and underlying factors impacting these debt
securities, we considered these declines in value to be temporary.
We did not recognize any impairment losses in 2016, 2015 or 2014. We had no sales or transfers from our held to maturity
portfolio in 2016, 2015 or 2014. We had no derivative instruments or hedging activities during 2016, 2015 or 2014.
5 - Fair Value Measurements
We account for financial assets using a framework that establishes a hierarchy that ranks the quality and reliability of
inputs, or assumptions, used in the determination of fair value, and we classify financial assets and liabilities carried at fair
value 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
price estimates we obtain from independent pricing services. 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 mortgage-backed securities.
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 we could realize if we sold the security 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 or obtain market quotations for substantially all of our fixed
maturity and equity investments. We generally obtain two prices 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 based predominantly on observable
market inputs. The pricing services do not use broker quotes in determining the fair values of our investments. Our investment
personnel review the estimates of fair value the pricing services provide to determine if the estimates we obtain are
representative of fair values based upon the general knowledge of the market of our investment personnel, their research
findings related to unusual fluctuations in value and their comparison of such values to execution prices for similar securities.
Our investment personnel monitor the market and are familiar with current trading ranges for similar securities and pricing of
specific investments. Our investment personnel review all pricing estimates that we receive from the pricing services against
their expectations with respect to pricing based on fair market curves, security ratings, coupon rates, security type and recent
trading activity. Our investment personnel review documentation with respect to the pricing services’ pricing methodology that
they obtain periodically to determine if the primary pricing sources, market inputs and pricing frequency for various security
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types are reasonable. At December 31, 2016, we received two estimates per security from the pricing services, and we priced
substantially all of our Level 1 and Level 2 investments using those prices. In our review of the estimates the pricing services
provided at December 31, 2016, we did not identify any material 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 values in our balance sheet for
premium receivables and reinsurance receivables and payables for premiums and paid losses and loss expenses approximate
their fair values. The carrying amounts reported in the balance sheet for our subordinated debentures and borrowings under
lines of credit approximate their fair values. We classify these items as Level 3.
We evaluate our assets and liabilities on a regular basis to determine the appropriate level at which to classify them for
each reporting period. Based on our review of the methodology and summary of inputs the pricing services use, we have
concluded that our Level 1 and Level 2 investments were classified properly at December 31, 2016 and 2015.
The following table presents our fair value measurements for our investments in available-for-sale fixed maturity and
equity securities at December 31, 2016:
Fair Value Measurements Using
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
Significant
Other
Observable
Inputs (Level 2)
Significant
Unobservable
Inputs (Level 3)
Fair Value
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
Obligations of states and political subdivisions
Corporate securities
Mortgage-backed securities
Equity securities
$ 38,588,024 $
— $ 38,588,024 $
186,082,885
87,455,819
202,948,212
—
186,082,885
—
87,455,819
—
202,948,212
35,922,337
35,922,337
—
Total investments in the fair value hierarchy
550,997,277
35,922,337
515,074,940
Investment measured at net asset value
11,165,505
—
—
Totals
$ 562,162,782 $ 35,922,337 $ 515,074,940 $
—
—
—
—
—
—
—
—
The following table presents our fair value measurements for our investments in available-for-sale fixed maturity and
equity securities at December 31, 2015:
Fair Value Measurements Using
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
Significant
Other
Observable
Inputs (Level 2)
Significant
Unobservable
Inputs (Level 3)
Fair Value
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
Obligations of states and political subdivisions
Corporate securities
Mortgage-backed securities
Equity securities
$ 37,188,808 $
— $ 37,188,808 $
236,556,419
72,812,417
154,835,915
—
236,556,419
—
72,812,417
—
154,835,915
26,726,924
26,726,924
—
Total investments in the fair value hierarchy
528,120,483
26,726,924
501,393,559
Investment measured at net asset value
10,533,897
—
—
Totals
$ 538,654,380 $ 26,726,924 $ 501,393,559 $
—
—
—
—
—
—
—
—
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6 - Deferred Policy Acquisition Costs
Changes in our insurance subsidiaries’ deferred policy acquisition costs are as follows:
Balance, January 1
Acquisition costs deferred
Amortization charged to earnings
Balance, December 31
7 - Property and Equipment
2016
2015
2014
$ 52,108,388
$ 48,298,608
$ 43,627,510
112,076,808
(107,876,000)
$ 56,309,196
103,322,780
(99,513,000)
$ 52,108,388
94,817,098
(90,146,000)
$ 48,298,608
Property and equipment at December 31, 2016 and 2015 consisted of the following:
Office equipment
Automobiles
Real estate
Software
Accumulated depreciation
2016
2015
Estimated Useful
Life
$
9,129,318 $
9,118,021
3-15 years
1,334,385
1,685,483
5 years
7,685,228
7,323,868
5-50 years
2,794,864
2,794,864
5 years
20,943,795
(14,275,306)
20,922,236
(13,895,093)
$
6,668,489 $
7,027,143
Depreciation expense for 2016, 2015 and 2014 amounted to $742,861, $792,733 and $883,674, respectively.
8 - Liability for Losses and Loss Expenses
The establishment of an appropriate liability for losses and loss expenses is an inherently uncertain process, and we can
provide no assurance that our insurance subsidiaries’ ultimate liability will not exceed their loss and loss expense reserves and
have an adverse effect on our results of operations and financial condition. Furthermore, we cannot predict the timing,
frequency and extent of adjustments to our insurance subsidiaries’ estimated future liabilities, because the historical conditions
and events that serve as a basis for our insurance subsidiaries’ estimates of ultimate claim costs may change. As is the case for
substantially all property and casualty insurance companies, our insurance subsidiaries have found it necessary in the past to
increase their estimated future liabilities for losses and loss expenses in certain periods, and, in other periods, their estimates
have exceeded their actual liabilities. Changes in our insurance subsidiaries’ estimate of their liability for losses and loss
expenses generally reflect actual payments and their evaluation of information received since the prior reporting date.
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We summarize activity in our insurance subsidiaries’ liability for losses and loss expenses as follows:
Balance at January 1
Less reinsurance recoverable
Net balance at January 1
Incurred related to:
Current year
Prior years
Total incurred
Paid related to:
Current year
Prior years
Total paid
Net balance at December 31
Plus reinsurance recoverable
Balance at December 31
2016
2015
2014
$ 578,205,109
(256,150,860)
322,054,249
$ 538,258,406
(245,957,364)
292,301,042
$ 495,619,269
(230,014,037)
265,605,232
420,327,164
391,166,740
373,932,058
2,988,739
7,200,134
14,469,124
423,315,903
398,366,874
388,401,182
248,106,788
236,834,666
229,939,627
149,745,921
131,779,001
131,765,745
397,852,709
368,613,667
361,705,372
347,517,443
322,054,249
292,301,042
259,147,147
256,150,860
245,957,364
$ 606,664,590
$ 578,205,109
$ 538,258,406
Our insurance subsidiaries recognized an increase in their liability for losses and loss expenses of prior years of $3.0
million, $7.2 million and $14.5 million in 2016, 2015 and 2014, respectively. Our insurance subsidiaries made no significant
changes in their reserving philosophy, key reserving assumptions or claims management personnel, and they have made no
significant offsetting changes in estimates that increased or decreased their loss and loss expense reserves in those years. The
2016 development represented 0.9% of the December 31, 2015 net carried reserves and resulted primarily from higher-than-
expected severity in the commercial multiple peril and commercial automobile liability lines of business, offset by lower-than-
expected severity in the workers’ compensation line of business, in accident years prior to 2016. The majority of the 2016
development related to increases in the liability for losses and loss expenses of prior years for Atlantic States and Southern. The
2015 development represented 2.5% of the December 31, 2014 net carried reserves and resulted primarily from higher-than-
expected severity in the private passenger automobile liability, commercial multiple peril and commercial automobile lines of
business in accident years prior to 2015. The majority of the 2015 development related to increases in the liability for losses
and loss expenses of prior years for Atlantic States and Southern. The 2014 development represented 5.4% of the December 31,
2013 net carried reserves and resulted primarily from higher-than-expected severity in the private passenger automobile
liability, commercial multiple peril and commercial automobile lines of business in accident years prior to 2014. The majority
of the 2014 development related to increases in the liability for losses and loss expenses of prior years for Atlantic States and
Southern.
Short-duration contracts are contracts for which our insurance subsidiaries receive premiums that they recognize as
revenue over the period of the contract in proportion to the amount of insurance protection our insurance subsidiaries provide.
Our insurance subsidiaries consider the policies they issue to be short-duration contracts. We consider our insurance
subsidiaries’ material lines of business to be personal automobile, homeowners, commercial automobile, commercial multi-
peril and workers’ compensation.
Our insurance subsidiaries determine incurred but not reported (“IBNR”) reserves by subtracting the cumulative loss and
loss expense amounts our insurance subsidiaries have paid and the case reserves our insurance subsidiaries have established at
the balance sheet date from their actuaries’ estimate of the ultimate cost of losses and loss expenses. Accordingly, our insurance
subsidiaries’ IBNR reserves include their actuaries’ projections of the cost of unreported claims as well as their actuaries’
projected development of case reserves on known claims and reopened claims. Our insurance subsidiaries’ methodology for
estimating IBNR reserves has been in place for many years, and their actuaries made no significant changes to that
methodology during 2016.
The actuaries for our insurance subsidiaries generally prepare an initial estimate for ultimate losses and loss expenses for
the current accident year by multiplying earned premium by an expected loss ratio for each line of business our insurance
subsidiaries write. Expected loss ratios represent the actuaries’ expectation of losses at the time our insurance subsidiaries price
and write their policies, before the emergence of any actual claims experience. The actuaries determine an expected loss ratio
by analyzing historical experience and adjusting for loss cost trends, loss frequency and severity trends, premium rate level
changes, reported and paid loss emergence patterns and other known or observed factors.
-77-
The actuaries use a variety of actuarial methods to estimate the ultimate cost of losses and loss expenses. These methods
include paid loss development, incurred loss development and the Bornhuetter-Ferguson method. The actuaries base their
selection of a point estimate on a judgmental weighting of estimates each of these methods produce.
The actuaries consider loss frequency and severity trends when they develop expected loss ratios and point estimates. Loss
frequency is a measure of the number of claims per unit of insured exposure, and loss severity is a measure of the average size
of claims. Factors that affect loss frequency include changes in weather patterns or economic activity. Factors that affect loss
severity include changes in policy limits, reinsurance retentions, inflation rates and judicial interpretations.
Our insurance subsidiaries create a claim file when they receive notice of an actual demand for payment, an event that may
lead to a demand for payment or when they otherwise determine that a demand for payment could potentially lead to a future
demand for payment on another coverage under the same policy or another policy they have issued. In recent years, our
insurance subsidiaries have noted an increase in the period of time between the occurrence of a casualty loss event and the date
on which they receive notice of a liability claim. Changes in the length of time between the loss occurrence date and the claim
reporting date affect the actuaries’ ability to accurately predict loss frequency and the amount of IBNR reserves our insurance
subsidiaries require.
Our insurance subsidiaries generally create a claim file for a policy at the claimant level by type of coverage and generally
recognize one count for each claim event. In certain lines of business where it is common for multiple parties to claim damages
arising from a single claim event, our insurance subsidiaries recognize one count for each claimant involved in the event.
Atlantic States recognizes one count for each claim event, or claimant involved in a multiple-party claim event, related to losses
Atlantic States assumes through its participation in its pooling agreement with Donegal Mutual. Our insurance subsidiaries
accumulate the claim counts and report them by line of business. For purposes of the claim development tables we present
below, our insurance subsidiaries count claims on policies they issue even if they eventually close such claims without making
a loss payment. Claims our insurance subsidiaries close without making a loss payment typically generate loss expenses. The
methods our insurance subsidiaries have used to summarize claim counts have not changed significantly over the time periods
we report in the tables below.
The following tables present information about incurred and paid claims development as of December 31, 2016, net of
reinsurance, as well as cumulative claim frequency and the total of IBNR reserves plus expected development on reported
claims that our insurance subsidiaries included within their net incurred claims amounts. The tables include unaudited
information about incurred and paid claims development for the years ended December 31, 2007 through 2015, which we
present as supplementary information. We present amounts retrospectively for MICO, which we acquired in December 2010,
for all accident years prior to 2010.
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Personal
Automobile
Accident
Year
(in thousands)
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Personal
Automobile
Accident
Year
(in thousands)
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Incurred Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Unaudited
At December 31, 2016
Total IBNR
Plus
Expected
Development
on Reported
Claims
Cumulative
Number of
Reported
Claims
$82,123
$87,561
$ 88,070
$ 87,608
$ 87,624
$ 87,634
$ 87,395
$ 87,350
$ 87,343
$ 87,315
$
98,139
101,937
100,782
101,388
101,119
100,819
100,984
100,923
105,707
106,313
106,841
107,589
107,190
106,705
106,549
117,967
117,552
118,562
118,876
118,916
118,587
127,929
131,678
132,987
133,229
133,617
130,415
133,201
135,592
136,493
124,965
130,737
131,594
124,426
124,806
137,569
100,918
106,499
118,385
133,218
136,552
132,643
124,210
139,334
150,215
Total
1,229,289
6
16
45
92
158
379
906
2,234
5,907
21,120
56
61
65
70
74
69
66
71
73
71
Cumulative Paid Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Unaudited
$55,240
$74,047
$ 80,710
$ 83,930
$ 85,615
$ 86,253
$ 86,593
$ 87,101
$ 87,179
$ 87,196
66,648
85,262
69,585
93,325
89,089
75,889
97,134
99,110
100,153
100,642
100,712
97,349
102,332
104,779
105,577
105,922
96,749
107,662
113,243
116,748
117,812
87,191
110,249
121,621
127,545
131,319
87,517
111,941
124,652
130,862
84,241
109,051
120,118
85,377
104,736
93,611
100,778
106,017
117,978
132,479
133,428
125,946
114,893
116,303
102,433
All outstanding liabilities before 2007, net of reinsurance
Liabilities for claims and claims adjustment expenses, net of reinsurance
508
92,346
Total
1,137,451
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Homeowners
Accident
Year
(in thousands)
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Homeowners
Accident
Year
(in thousands)
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Incurred Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Unaudited
At December 31, 2016
Total IBNR
Plus
Expected
Development
on Reported
Claims
Cumulative
Number of
Reported
Claims
$34,278
$33,893
$34,109
$33,998
$33,932
$33,833
$33,839
$33,862
$33,887
$ 33,884
$
40,989
42,790
51,054
42,944
50,621
60,315
42,700
50,333
60,729
71,256
42,839
49,998
60,248
70,461
53,962
42,897
50,137
59,972
70,436
54,794
50,887
42,862
50,405
60,355
70,381
54,468
51,121
56,916
42,852
50,419
60,440
70,297
54,351
51,122
58,378
63,359
42,844
50,433
60,443
70,351
54,281
50,874
57,680
63,925
62,443
Total
547,158
—
—
—
—
(12)
66
74
53
668
3,575
13
18
18
25
27
19
13
18
14
13
Cumulative Paid Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Unaudited
$26,507
$32,663
$33,284
$33,400
$33,600
$33,785
$33,840
$33,862
$33,887
$ 33,884
32,548
40,037
39,961
41,582
49,180
47,419
42,095
49,827
57,334
57,588
42,511
50,021
59,283
69,345
46,566
42,699
50,301
59,875
70,125
53,619
40,949
42,797
50,430
60,239
70,351
54,028
49,410
45,823
42,817
50,429
60,486
70,541
54,298
50,210
56,255
51,885
42,812
50,433
60,501
70,626
54,317
50,478
56,990
61,542
50,125
All outstanding liabilities before 2007, net of reinsurance
14
Total
531,708
Liabilities for claims and claims adjustment expenses, net of reinsurance
15,464
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Commercial
Automobile
Accident
Year
(in thousands)
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Commercial
Automobile
Accident
Year
(in thousands)
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Incurred Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Unaudited
At December 31, 2016
Total IBNR
Plus
Expected
Development
on Reported
Claims
Cumulative
Number of
Reported
Claims
$16,674
$16,524
$16,498
$16,753
$16,501
$16,668
$16,635
$16,553
$16,556
$ 16,552
$
18,164
17,889
18,735
17,719
18,549
19,315
17,941
17,960
18,158
18,063
18,054
18,998
19,015
19,346
19,569
19,430
19,913
20,695
21,477
21,490
21,756
26,642
27,157
28,570
28,893
29,112
26,557
27,720
30,606
31,435
32,902
33,749
34,751
42,760
44,544
46,526
18,051
19,461
21,746
29,107
31,278
35,240
47,326
48,323
54,302
Total
321,386
—
—
6
15
39
95
607
1,607
4,181
12,636
6
6
6
7
9
8
9
11
12
12
Cumulative Paid Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Unaudited
$ 8,831
$11,804
$14,029
$15,431
$15,872
$15,947
$16,336
$16,549
$16,549
$ 16,552
9,204
12,330
9,309
14,115
12,872
10,778
16,077
17,110
17,548
18,052
18,051
15,479
17,160
18,696
19,389
19,386
14,180
16,426
19,030
20,804
21,014
13,876
19,106
24,267
26,973
28,014
13,642
20,240
23,718
27,417
16,306
23,557
26,879
22,707
31,089
23,875
18,051
19,408
21,482
28,758
29,873
31,053
39,436
35,342
27,033
All outstanding liabilities before 2007, net of reinsurance
39
Total
266,988
Liabilities for claims and claims adjustment expenses, net of reinsurance
54,437
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Commercial
Multi-Peril
Accident
Year
(in thousands)
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Commercial
Multi-Peril
Accident
Year
(in thousands)
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Incurred Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Unaudited
At December 31, 2016
Total IBNR
Plus
Expected
Development
on Reported
Claims
Cumulative
Number of
Reported
Claims
$ 21,474
$21,918
$22,999
$22,663
$22,830
$22,567
$22,738
$22,740
$22,699
$ 22,659
$
26,868
27,693
26,712
26,796
26,454
28,745
26,906
27,286
27,023
27,182
27,258
27,357
27,357
27,739
27,959
27,625
29,656
29,390
29,169
29,373
29,453
33,054
35,411
35,942
37,576
37,385
29,789
30,716
32,449
34,117
35,683
35,679
37,292
48,204
50,135
42,070
27,184
27,484
29,463
38,270
35,755
37,205
51,843
43,874
43,005
Total
356,742
—
10
2
1
2
36
851
2,082
4,283
9,652
5
5
6
6
7
6
6
7
6
5
Cumulative Paid Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Unaudited
$ 13,187
$16,396
$18,828
$20,148
$21,137
$21,669
$22,111
$22,374
$22,583
$ 22,659
16,128
21,645
13,675
22,991
19,356
17,007
24,161
25,154
25,983
26,760
26,956
21,560
24,977
26,212
26,780
27,287
22,017
24,749
26,832
27,768
28,681
18,773
24,767
30,286
33,526
36,722
16,666
23,384
26,634
29,370
19,875
26,216
29,159
27,920
35,520
21,837
27,017
27,357
28,906
37,759
33,327
33,614
40,936
29,419
19,660
All outstanding liabilities before 2007, net of reinsurance
340
Total
300,654
Liabilities for claims and claims adjustment expenses, net of reinsurance
56,428
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Workers’
Compensation
Incurred Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
Accident Year
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Unaudited
At December 31, 2016
Total IBNR
Plus
Expected
Development
on Reported
Claims
Cumulative
Number of
Reported
Claims
(in thousands)
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Workers’
Compensation
$ 21,350
$21,892
$ 21,831
$21,837
$21,463
$21,102
$21,266
$21,119
$21,037
$
20,921
$
24,034
26,361
21,571
27,037
26,791
26,471
26,226
25,941
25,963
22,497
21,894
21,826
22,848
22,278
22,172
27,304
27,859
27,010
26,637
26,944
27,121
32,490
35,757
36,614
36,369
35,670
39,142
39,516
38,827
37,926
46,325
47,027
44,289
51,508
51,553
53,332
25,713
22,114
27,037
35,039
37,163
42,828
49,288
49,615
58,814
Total
368,532
45
86
110
156
207
323
1,074
2,714
7,441
22,953
6
5
4
5
6
6
6
6
6
6
Cumulative Paid Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
Accident Year
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Unaudited
(in thousands)
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
$ 5,233
$11,823
$ 16,379
$18,404
$19,636
$20,116
$20,315
$20,464
$20,621
$
20,663
6,562
14,776
19,199
21,933
23,782
24,551
24,880
25,017
6,490
12,627
16,516
18,329
19,665
20,476
20,939
8,066
15,937
21,176
23,137
24,539
25,337
9,157
21,450
27,517
31,905
32,394
11,097
22,963
28,812
31,244
13,052
26,043
32,783
13,932
28,513
13,071
Total
All outstanding liabilities before 2007, net of reinsurance
25,112
21,117
25,804
33,067
33,196
36,351
36,284
27,531
14,709
273,834
3,326
Liabilities for claims and claims adjustment expenses, net of reinsurance
98,024
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The following table presents a reconciliation of the net incurred and paid claims development tables to the liability for
claims and claims adjustment expenses in our consolidated balance sheet:
(in thousands)
Net outstanding liabilities:
Personal automobile
Homeowners
Commercial automobile
Commercial multi-peril
Workers’ compensation
Other
Reinsurance recoverable:
Personal automobile
Homeowners
Commercial automobile
Commercial multi-peril
Workers’ compensation
Other
Unallocated loss adjustment expenses
Gross liability for unpaid losses and loss expenses
At December 31,
2016
$
$
$
$
92,346
15,464
54,437
56,428
98,024
5,420
322,119
87,248
7,640
32,787
36,068
81,152
4,031
248,926
35,620
606,665
The following table presents supplementary information about average historical claims duration as of December 31, 2016:
Average Annual Percentage Payout of Incurred Claims by Age, Net of Reinsurance
Years
Personal automobile
Homeowners
Commercial automobile
Commercial multi-peril
Workers’ compensation
1
65.6%
80.1%
48.6%
52.3%
27.6%
2
18.0%
16.7%
18.9%
17.3%
30.7%
3
8.4%
1.8%
4
4.3%
0.6%
12.9%
10.4%
9.4%
17.6%
8.2%
9.0%
5
2.3%
0.5%
6.0%
5.9%
5.2%
6
0.9%
0.4%
2.0%
2.7%
2.8%
7
0.3%
0.1%
1.8%
1.9%
1.5%
8
0.2%
—%
0.5%
0.7%
0.7%
9
0.1%
—%
—%
0.6%
0.6%
10
—%
—%
—%
0.3%
0.2%
9 - Borrowings
Lines of Credit
In July 2016, we renewed our existing credit agreement with Manufacturers and Traders Trust Company (“M&T”) relating
to a $60.0 million unsecured, revolving line of credit. The line of credit now expires in July 2019. We have the right to request
a one-year extension of the credit agreement as of each anniversary date of the agreement. At December 31, 2016, we had
$34.0 million in outstanding borrowings and had the ability to borrow an additional $26.0 million at interest rates equal to
M&T’s current prime rate or the then-current LIBOR rate plus 2.25%. The interest rate on our outstanding borrowings is
adjustable quarterly. At December 31, 2016, the interest rate on our outstanding borrowings was 3.02%. We pay a fee of 0.2%
per annum on the loan commitment amount regardless of usage. The credit agreement requires our compliance with certain
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covenants. These covenants include minimum levels of our net worth, leverage ratio, statutory surplus and the A.M. Best
ratings of our insurance subsidiaries. We complied with all requirements of the credit agreement during 2016.
MICO has an agreement with the Federal Home Loan Bank (“FHLB”) of Indianapolis. Through its membership, MICO
has the ability to issue debt to the FHLB of Indianapolis in exchange for cash advances. There were no outstanding borrowings
at December 31, 2016 or 2015. The table below presents the amount of FHLB of Indianapolis stock MICO purchased,
collateral pledged and assets related to MICO’s agreement at December 31, 2016.
FHLB stock purchased and owned as part of the agreement
$
236,700
Collateral pledged, at par (carrying value $2,732,990)
Borrowing capacity currently available
2,850,000
2,572,247
Atlantic States is a member of the FHLB of Pittsburgh. Through its membership, Atlantic States has the ability to issue
debt to the FHLB of Pittsburgh in exchange for cash advances. During 2013, Atlantic States issued secured debt in the principal
amount of $15.0 million to the FHLB of Pittsburgh in exchange for cash advances in the amount of $15.0 million. Atlantic
States then loaned $15.0 million to us. We used the proceeds of our loan from Atlantic States to fund our prepayment of
subordinated debentures. In July 2015, Atlantic States issued secured debt in the principal amount of $20.0 million to the FHLB
of Pittsburgh in exchange for cash advances in the amount of $20.0 million. Atlantic States then loaned $20.0 million to us. We
used the proceeds of our loan from Atlantic States to repay borrowings under our line of credit with M&T. The interest rate on
the advances was .63% at December 31, 2016. The table below presents the amount of FHLB of Pittsburgh stock Atlantic
States purchased, collateral pledged and assets related to Atlantic States’ membership in the FHLB of Pittsburgh at December
31, 2016.
FHLB stock purchased and owned as part of the agreement
$
1,574,700
Collateral pledged, at par (carrying value $36,564,278)
Borrowing capacity currently available
37,003,861
291,398
Subordinated Debentures
In January 2002, West Bend purchased a surplus note from MICO for $5.0 million to increase MICO’s statutory surplus.
On December 1, 2010, Donegal Mutual purchased the surplus note from West Bend at face value. The surplus note carries an
interest rate of 5.00%, and any repayment of principal or interest requires prior insurance regulatory approval. Upon receipt of
regulatory approval, MICO paid $250,000 in interest to Donegal Mutual during each of 2016, 2015 and 2014.
10 - Reinsurance
Unaffiliated Reinsurers
Our insurance subsidiaries and Donegal Mutual purchase certain third-party reinsurance on a combined basis. Le Mars,
MICO, Peninsula and Sheboygan also have separate third-party reinsurance programs that provide certain coverage that is
commensurate with their relative size and exposures. Our insurance subsidiaries use several different reinsurers, all of which,
consistent with the requirements of our insurance subsidiaries and Donegal Mutual, 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 from A.M. Best. The external reinsurance our insurance subsidiaries and Donegal
Mutual purchase includes “excess of loss reinsurance,” under which their losses are automatically reinsured, through a series of
contracts, over a set retention (generally $1.0 million), and “catastrophic reinsurance,” under which they recover, through a
series of contracts, 100% of an accumulation of many losses resulting from a single event, including natural disasters, over a set
retention (generally $5.0 million) and after exceeding an annual aggregate deductible ($975,000 in 2016 and $1.5 million in
2015 and 2014). For property insurance, our insurance subsidiaries have excess of loss treaties that provide for coverage up to
$5.0 million per loss. For liability insurance, our insurance subsidiaries have excess of loss treaties that provide for coverage up
to $50.0 million per occurrence. For workers’ compensation insurance, our insurance subsidiaries have excess of loss treaties
that provide for coverage up to $10.0 million on any one life. Our insurance subsidiaries and Donegal Mutual have property
catastrophe coverage through a series of layered treaties up to aggregate losses of $175.0 million for any single event. As many
as 28 reinsurers provided coverage for 2016 on any one treaty with no reinsurer taking more than 30% of any one treaty. The
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amount of coverage provided under each of these types of reinsurance depends upon the amount, nature, size and location of
the risks being reinsured. Donegal Mutual and our insurance subsidiaries also purchased facultative reinsurance to cover
exposures from losses that exceeded the limits provided by the treaty reinsurance Donegal Mutual and our insurance
subsidiaries purchased. In order to write automobile insurance in the State of Michigan, MICO is required to be a member of
the Michigan Catastrophic Claims Association (“MCCA”). The MCCA provides reinsurance to MICO for personal automobile
and commercial automobile personal injury claims in the State of Michigan over a set retention.
Through December 1, 2010, MICO and West Bend were parties to quota-share reinsurance agreements whereby MICO
ceded 75% of its business to West Bend. MICO and West Bend agreed to terminate the reinsurance agreement in effect at
November 30, 2010 on a run-off basis. West Bend’s obligations related to all past reinsurance agreements with MICO remain in
effect for all policies effective prior to December 1, 2010.
For policies effective through December 31, 2014, MICO maintained a quota-share reinsurance agreement with third-party
reinsurers to reduce its net exposures. Effective from December 1, 2010 to December 31, 2011, the quota-share reinsurance
percentage was 50%. Effective January 1, 2012, MICO reduced the quota-share reinsurance percentage to 40%. Effective
January 1, 2013, MICO reduced the quota-share reinsurance percentage to 30%. Effective January 1, 2014, MICO reduced the
quota-share reinsurance percentage to 20%. Effective January 1, 2015, MICO no longer maintains a quota-share reinsurance
agreement with third-party reinsurers.
The following amounts represent ceded reinsurance transactions with unaffiliated reinsurers during 2016, 2015 and 2014:
Premiums written
Premiums earned
Losses and loss expenses
Prepaid reinsurance premiums
Liability for losses and loss expenses
Total Reinsurance
2016
2015
2014
$ 45,354,233 $ 40,997,351 $ 62,351,702
44,318,542
49,758,371
66,418,933
18,588,114
30,722,807
78,912,356
9,605,746
8,570,055
17,331,076
103,694,418
113,023,942
114,929,716
The following amounts represent total ceded reinsurance transactions with both affiliated and unaffiliated reinsurers during
2016, 2015 and 2014:
Premiums earned
Losses and loss expenses
Prepaid reinsurance premiums
Liability for losses and loss expenses
2016
2015
2014
$ 282,646,219 $ 271,712,289 $ 275,615,749
156,479,885
172,302,366
231,749,942
124,255,495
113,522,505
115,871,783
259,147,147
256,150,860
245,957,364
The following amounts represent the effect of reinsurance on premiums written for 2016, 2015 and 2014:
Direct
Assumed
Ceded
Net premiums written
2016
2015
2014
$ 537,880,237 $ 492,073,587 $ 469,274,692
437,532,812
(293,379,217)
388,750,312
406,126,275
(278,823,589)
(269,363,012)
$ 682,033,832 $ 628,836,850 $ 579,201,415
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The following amounts represent the effect of reinsurance on premiums earned for 2016, 2015 and 2014:
Direct
Assumed
Ceded
Net premiums earned
11 - Income Taxes
2016
2015
2014
$ 515,721,745 $ 480,210,534 $ 455,689,137
423,129,271
(282,646,219)
376,424,147
397,142,483
(275,615,749)
(271,712,289)
$ 656,204,797 $ 605,640,728 $ 556,497,535
Our provision for income tax for 2016, 2015 and 2014 consisted of the following:
Current
Deferred
Federal income tax provision
2016
8,496,405 $
2015
5,621,367 $
$
2,030,865
980,868
$ 10,527,270
$
6,602,235
$
2014
2,707,478
(963,679)
1,743,799
Our effective tax rate is different from the amount computed at the statutory federal rate of 35% for 2016, 2015 and 2014.
The reasons for such difference and the related tax effects are as follows:
Income before income taxes
Computed “expected” taxes
Tax-exempt interest
Proration
Other, net
Federal income tax provision
2016
2015
2014
$ 41,328,407 $ 27,592,268 $ 16,282,817
14,464,942
(3,951,926)
629,697
(615,443)
$ 10,527,270
9,657,294
(4,806,855)
737,644
5,698,986
(5,063,140)
766,334
1,014,152
341,619
$
6,602,235
$
1,743,799
The tax effects of temporary differences that give rise to significant portions of our deferred tax assets and deferred tax
liabilities at December 31, 2016 and 2015 are as follows:
Deferred tax assets:
Unearned premium
Loss reserves
Net operating loss carryforward - Le Mars
Alternative minimum tax credit carryforward
Net unrealized losses
Other
Total gross deferred tax assets
Less valuation allowance
Net deferred tax assets
Deferred tax liabilities:
Deferred policy acquisition costs
Net unrealized gains
Other
Total gross deferred tax liabilities
Net deferred tax asset
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2016
2015
$ 23,964,558 $ 22,174,971
6,460,683
6,615,751
1,271,411
7,357,733
1,213,836
1,402,857
10,336,593
—
3,307,286
2,565,340
43,575,507
(440,778)
43,134,729
43,095,512
(440,778)
42,654,734
19,708,220
18,237,936
—
416,635
4,383,096
4,556,356
24,091,316
23,210,927
$ 19,043,413 $ 19,443,807
We provide a valuation allowance when we believe it is more likely than not that we will not realize some portion of a
deferred tax asset. At December 31, 2016 and 2015, we established a valuation allowance of $440,778 related to a portion of
the net operating loss carryforward of Le Mars that we acquired on January 1, 2004. We determined that we were not required
to establish a valuation allowance for the other net deferred tax assets of $43.1 million and $42.7 million at December 31, 2016
and 2015, respectively, since it is more likely than not that we will realize these deferred tax assets through reversals of existing
temporary differences, future taxable income and our implementation of tax-planning strategies.
Tax years 2013 through 2016 remained open for examination at December 31, 2016. The net operating loss carryforward
of $3.6 million of Le Mars will begin to expire in 2020 if not utilized and is subject to an annual limitation of approximately
$376,000. We also had an alternative minimum tax credit carryforward of $7.4 million at December 31, 2016 with an indefinite
life.
12 - Stockholders’ Equity
Each share of our Class A common stock outstanding at the time of the declaration of any dividend or other distribution
payable in cash upon the shares of our Class B common stock is entitled to a dividend or distribution payable at the same time
and to stockholders of record on the same date in an amount at least 10% greater than any dividend declared upon each share of
our Class B common stock. In the event of our merger or consolidation with or into another entity, the holders of our Class A
common stock and the holders of our Class B common stock are entitled to receive the same per share consideration in such
merger or consolidation. In the event of our liquidation, dissolution or winding-up, any assets available to common
stockholders will be distributed pro-rata to the holders of our Class A common stock and our Class B common stock after
payment of all of our obligations.
On July 18, 2013, our board of directors authorized a share repurchase program pursuant to which we have the authority to
purchase up to 500,000 additional shares of our Class A common stock at prices prevailing from time to time in the open
market subject to the provisions of the SEC Rule 10b-18 and in privately negotiated transactions. We did not purchase any
shares of our Class A common stock under this program during 2016. We purchased 57,658 shares of our Class A common
stock under this program during 2015. We did not purchase any shares of our Class A common stock under this program during
2014. We have purchased a total of 57,658 shares of our Class A common stock under this program from its inception through
December 31, 2016.
On December 18, 2015, we and Donegal Mutual entered into a Stock Purchase and Standstill Agreement (the “Purchase
Agreement”) with Gregory M. Shepard (“Mr. Shepard”). Under the terms of the Purchase Agreement, we purchased 2,000,000
shares of our Class A common stock from Mr. Shepard on December 22, 2015 for a price of $33.0 million, or $16.50 per share,
representing a premium of approximately $5.8 million from the market price of our Class A common stock on the date of the
Purchase Agreement. We reported this premium in excess of the market price as an expense in our consolidated statements of
income and comprehensive income for 2015 that we include in this Form 10-K Report. We borrowed $33.0 million under our
existing line of credit with M&T Bank to fund the purchase. The Purchase Agreement contains a number of typical “standstill”
provisions pursuant to which Mr. Shepard and any affiliate of Mr. Shepard agree not to take a number of “control-seeking”
actions with respect to us for a period of 25 years from the date of the Purchase Agreement.
At December 31, 2016 and 2015, our treasury stock consisted of 3,002,588 and 72,465 shares of Class A common stock
and Class B common stock, respectively.
13 - Stock Compensation Plans
Equity Incentive Plans
Since 1996, we have maintained an Equity Incentive Plan for Employees. During 2015, we adopted a plan that made a total
of 4,500,000 shares of Class A common stock available for issuance to employees of our subsidiaries and affiliates. The plan
provides for the granting of awards by our board of directors in the form of stock options, stock appreciation rights, restricted
stock or any combination of the above. The plan provides that stock options may become exercisable up to five years from their
date of grant, with an option price not less than fair market value on the date preceding the date of grant. We have not granted
any stock appreciation rights.
Since 1996, we have maintained an Equity Incentive Plan for Directors. During 2015, we adopted a plan that made 500,000
shares of Class A common stock available for issuance to our directors and the directors of our subsidiaries and affiliates.We
may make awards in the form of stock options. The plan also provides for the issuance of 500 shares of restricted stock on the
first business day of January in each year to each of our directors and each director of Donegal Mutual who does not serve as
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one of our directors. We issued 8,500 shares of restricted stock on January 4, 2016 under our director plan. We issued 7,200 and
6,800 shares of restricted stock on January 2, 2015 and 2014 under our director plan.
We measure all share-based payments to employees, including grants of employee stock options, using a fair-value-based
method and record such expense in our results of operations. In determining the expense we record for stock options granted to
directors and employees of our subsidiaries and affiliates, we estimate the fair value of each option award on the date of grant
using the Black-Scholes option pricing model. The significant assumptions we utilize in applying the Black-Scholes option
pricing model are the risk-free interest rate, expected term, dividend yield and expected volatility. The risk-free interest rate is
the implied yield currently available on U.S. Treasury zero coupon issues with a remaining term equal to the expected term
used as the assumption in the model. We base the expected term of an option award on our historical experience for similar
awards. We determine the dividend yield by dividing the per share dividend by the grant date stock price. We base the expected
volatility on the volatility of our stock price over a historical period comparable to the expected term.
The weighted-average grant date fair value of options we granted during 2016 was $1.94. We calculated this fair value
based upon a risk-free interest rate of 2.23%, an expected life of three years, an expected volatility of 20% and an expected
dividend yield of 3%.
The weighted-average grant date fair value of options we granted during 2015 was $1.55. We calculated this fair value
based upon a risk-free interest rate of 1.86%, an expected life of three years, an expected volatility of 23% and an expected
dividend yield of 4%.
The weighted-average grant date fair value of options we granted during 2014 was $1.69. We calculated this fair value
based upon a risk-free interest rate of 1.76%, an expected life of five years, an expected volatility of 18% and an expected
dividend yield of 3%.
We charged compensation expense for our stock compensation plans against income before income taxes of $2.5 million,
$2.6 million and $2.1 million for the years ended December 31, 2016, 2015 and 2014, respectively, with a corresponding
income tax benefit of $864,210, $896,753 and $700,487. At December 31, 2016 and 2015, our total unrecognized
compensation cost related to non-vested share-based compensation granted under our stock compensation plans was $3.7
million and $4.0 million, respectively. We expect to recognize this cost over a weighted average period of 1.5 years.
During 2016, we received cash from option exercises under all stock compensation plans of $11.2 million. We realized
actual tax benefits for the tax deductions from option exercises of share-based compensation of $788,700 for 2016. During
2015, we received cash from option exercises under all stock compensation plans of $13.7 million. We realized actual tax
benefits for the tax deductions from option exercises of share-based compensation of $437,474 for 2015. During 2014, we
received cash from option exercises under all stock compensation plans of $6.5 million. We realized actual tax benefits for the
tax deductions from option exercises of share-based compensation of $304,533 for 2014. No further shares are available for
future option grants for plans in effect prior to 2015.
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Information regarding activity in our stock option plans follows:
Outstanding at December 31, 2013
Granted - 2014
Exercised - 2014
Forfeited - 2014
Expired - 2014
Outstanding at December 31, 2014
Granted - 2015
Exercised - 2015
Forfeited - 2015
Expired - 2015
Outstanding at December 31, 2015
Granted - 2016
Exercised - 2016
Forfeited - 2016
Outstanding at December 31, 2016
Exercisable at:
December 31, 2014
December 31, 2015
December 31, 2016
Number of
Options
Weighted-
Average
Exercise Price
Per Share
7,201,334
$14.39
1,574,500
(474,893)
(112,511)
(5,000)
8,183,430
1,710,500
(983,370)
(114,967)
(641)
8,794,952
1,417,500
(832,467)
(41,337)
9,338,648
4,477,240
5,250,338
6,347,470
15.80
13.64
15.23
17.50
14.69
13.64
13.91
15.30
14.00
14.57
16.44
13.44
14.97
$14.95
$13.88
$14.42
$14.77
Shares available for future option grants at December 31, 2016 totaled 1,880,001 shares under all plans.
The following table summarizes information about stock options outstanding at December 31, 2016:
Exercise Price
Number of
Options
Outstanding
Weighted-Average
Remaining
Contractual Life
Number of
Options
Exercisable
12.50
14.50
15.90
15.80
13.64
16.48
1,188,274
1,275,012
2,344,036
1,489,119
1,642,207
1,400,000
5.0 years
6.0 years
7.0 years
8.0 years
4.0 years
5.0 years
Total
9,338,648
1,188,274
1,275,012
2,344,036
992,746
547,402
—
6,347,470
Employee Stock Purchase Plan
Since 1996, we have maintained an Employee Stock Purchase Plan. During 2011, we adopted a plan that made 300,000
shares of our Class A common stock available for issuance. The plan extends over a 10-year period and provides for shares to
be offered to all eligible employees at a purchase price equal to the lesser of 85% of the fair market value of our Class A
common stock on the last day before the first day of each enrollment period (June 1 and December 1 of each year) under the
plan or 85% of the fair market value of our Class A common stock on the last day of each subscription period (June 30 and
December 31 of each year).
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A summary of plan activity follows:
January 1, 2014
July 1, 2014
January 1, 2015
July 1, 2015
January 1, 2016
July 1, 2016
Shares Issued
Price
12.58
13.01
12.40
12.95
11.97
11.83
Shares
16,964
19,627
17,662
20,006
18,387
22,418
On January 1, 2017, we issued 18,512 shares at a price of $13.76 per share under this plan.
Agency Stock Purchase Plan
Since 1996, we have maintained an Agency Stock Purchase Plan. During 2015, we adopted a plan that made 350,000
shares of our Class A common stock available for issuance to agents of our insurance subsidiaries and Donegal Mutual. The
plan permits an agent to invest up to $12,000 per subscription period (April 1 to September 30 and October 1 to March 31 of
each year) under various methods. We issue stock at the end of each subscription period at a price equal to 90% of the average
market price during the last ten trading days of each subscription period. During 2016, 2015 and 2014, we issued 99,800,
84,198 and 84,320 shares, respectively, under this plan. The expense we recognized under the plan was not material.
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14 - Statutory Net Income, Capital and Surplus and Dividend Restrictions
The following table presents selected information, as filed with insurance regulatory authorities, for our insurance
subsidiaries as determined in accordance with accounting practices prescribed or permitted by such insurance regulatory
authorities:
Atlantic States:
Statutory capital and surplus
Statutory unassigned surplus
Statutory net income
Southern:
Statutory capital and surplus
Statutory unassigned surplus
Statutory net income
Le Mars:
Statutory capital and surplus
Statutory unassigned surplus
Statutory net income (loss)
Peninsula:
Statutory capital and surplus
Statutory unassigned surplus
Statutory net income
Sheboygan:
Statutory capital and surplus
Statutory unassigned surplus (deficit)
Statutory net income (loss)
MICO:
Statutory capital and surplus
Statutory unassigned surplus
Statutory net income (loss)
2016
2015
2014
$ 227,907,377 $ 207,636,824 $ 191,195,309
167,872,138
149,257,062
134,473,661
15,750,876
13,352,784
6,054,186
63,331,001
61,742,861
60,061,445
11,881,309
10,459,840
8,946,329
1,774,299
2,301,009
987,335
25,543,803
26,168,865
27,251,245
12,614,756
603,226
13,367,321
(600,608)
14,571,069
(591,242)
41,977,034
41,838,137
42,065,153
23,826,681
23,813,003
24,170,534
966,391
1,976,093
3,240,015
13,129,143
13,254,117
914,773
644,344
1,107,421
1,719,703
11,553,018
(525,782)
(707,321)
49,863,705
46,199,534
41,989,986
23,380,942
19,894,850
7,187,213
3,562,536
15,860,855
(276,023)
Our principal source of cash for payment of dividends is dividends from our insurance subsidiaries. State insurance laws
require our insurance subsidiaries to maintain certain minimum capital and surplus amounts on a statutory basis. Our insurance
subsidiaries are subject to regulations that restrict the payment of dividends from statutory surplus and may require prior
approval of their domiciliary insurance regulatory authorities. Our insurance subsidiaries are also subject to risk-based capital
("RBC") requirements that may further impact their ability to pay dividends. Our insurance subsidiaries’ statutory capital and
surplus at December 31, 2016 exceeded the amount of statutory capital and surplus necessary to satisfy regulatory
requirements, including the RBC requirements, by a significant margin. Amounts available for distribution to us as dividends
from our insurance subsidiaries without prior approval of insurance regulatory authorities in 2017 are $22.8 million from
Atlantic States, $6.3 million from Southern, $2.6 million from Le Mars, $1.6 million from Peninsula, $643,035 from
Sheboygan and $5.0 million from MICO, or a total of approximately $38.9 million.
15 - Reconciliation of Statutory Filings to Amounts Reported Herein
Our insurance subsidiaries must file financial statements with state insurance regulatory authorities using accounting
principles and practices prescribed or permitted by those authorities. We refer to these accounting principles and practices as
statutory accounting principles (“SAP”). Accounting principles used to prepare these SAP financial statements differ from
those used to prepare financial statements on the basis of GAAP.
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Reconciliations of statutory net income and capital and surplus, as determined using SAP, to the amounts included in the
accompanying GAAP financial statements are as follows:
Statutory net income of insurance subsidiaries
$ 26,926,349
$ 22,311,517
$
8,706,950
Year Ended December 31,
2016
2015
2014
Increases (decreases):
Deferred policy acquisition costs
Deferred federal income taxes
Salvage and subrogation recoverable
Consolidating eliminations and adjustments
Parent-only net income (loss)
Net income as reported herein
4,200,808
(2,030,865)
1,502,600
(12,327,517)
12,529,762
$ 30,801,137
3,809,780
(168,395)
1,082,800
(3,679,277)
(2,366,392)
$ 20,990,033
4,671,098
963,679
1,132,000
(11,075,829)
10,141,120
$ 14,539,018
December 31,
2016
2015
2014
Statutory capital and surplus of insurance subsidiaries
$ 421,752,063
$ 396,840,338
$ 374,116,156
Increases (decreases):
Deferred policy acquisition costs
Deferred federal income taxes
Salvage and subrogation recoverable
Non-admitted assets and other adjustments, net
Fixed maturities
Parent-only equity and other adjustments
Stockholders’ equity as reported herein
16 - Supplementary Cash Flow Information
56,309,196
(20,843,506)
16,777,400
52,108,388
(16,930,202)
15,274,800
48,298,608
(17,639,443)
14,192,000
1,689,814
(7,271,932)
(29,797,715)
$ 438,615,320
2,441,591
2,236,021
957,401
(42,303,748)
$ 408,388,568
7,637,828
(12,706,527)
$ 416,134,643
The following table reflects net income taxes and interest we paid during 2016, 2015 and 2014:
Income taxes
Interest
2016
2015
2014
$
7,305,000 $
7,100,000 $
2,550,000
1,377,247
870,675
1,252,194
17 - Earnings Per Share
We have two classes of common stock, which we refer to as Class A common stock and Class B common stock. Our
Class A common stock is entitled to be paid cash dividends that are at least 10% higher than the cash dividends we pay on our
Class B common stock. Accordingly, we use the two-class method for the computation of earnings per common 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 remaining undistributed earnings using a participation percentage reflecting
the dividend rights of each class.
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We present below a reconciliation of the numerators and denominators we used in the basic and diluted per share
computations for our Class A common stock:
(in thousands)
Basic earnings per share:
Numerator:
Allocation of net income
Denominator:
Weighted-average shares outstanding
Basic earnings per share
Diluted earnings per share:
Numerator:
Allocation of net income
Denominator:
Number of shares used in basic computation
Weighted-average effect of dilutive securities
Add: Director and employee stock options
Number of shares used in per share computations
Year Ended December 31,
2016
2015
2014
$
$
$
24,885 $
17,155 $
11,797
20,917
22,046
1.19 $
0.78 $
21,100
0.56
24,885 $
17,155 $
11,797
20,917
22,046
21,100
613
21,530
348
22,394
465
21,565
0.55
Diluted earnings per share
$
1.16 $
0.77 $
We used the following information in the basic and diluted per share computations for our Class B common stock:
(in thousands)
Basic and diluted earnings per share:
Numerator:
Allocation of net income
Denominator:
Weighted-average shares outstanding
Basic and diluted earnings per share
Year Ended December 31,
2016
2015
2014
$
$
5,916 $
3,835 $
2,742
5,577
1.06 $
5,577
0.69 $
5,577
0.49
During 2014, we did not include options to purchase 4,030,500 shares of our Class A common stock in the computation of
diluted earnings per share because the exercise price of the options was greater than the average market price of our Class A
common stock.
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18 - Condensed Financial Information of Parent Company
December 31,
Assets
Condensed Balance Sheets
(in thousands)
2016
2015
Investment in subsidiaries/affiliates (equity method)
$
510,731 $
493,600
Short-term investments
Cash
Property and equipment
Other
Total assets
Liabilities and Stockholders’ Equity
Liabilities
Cash dividends declared to stockholders
Borrowings under lines of credit
Other
Total liabilities
Stockholders’ equity
Total liabilities and stockholders’ equity
30
1,820
342
1,010
32
1,153
619
649
$
513,933 $
496,053
$
3,623 $
69,000
2,695
75,318
3,512
81,000
3,152
87,664
438,615
408,389
$
513,933 $
496,053
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Condensed Statements of Income and Comprehensive Income
(in thousands)
Year Ended December 31,
Statements of Income
Revenues
Dividends from subsidiaries
Other
Total revenues
Expenses
Operating expenses
Premium paid on purchase of treasury stock
Interest
Total expenses
Income (loss) before income tax benefit and equity in
undistributed net income of subsidiaries
Income tax benefit
Income (loss) before equity in undistributed net income of
subsidiaries
Equity in undistributed net income of subsidiaries
Net income
Statements of Comprehensive Income
Net income
Other comprehensive (loss) income, net of tax
Unrealized (loss) gain - subsidiaries
Other comprehensive (loss) income, net of tax
Comprehensive income
2016
2015
2014
$
13,000
$
3,875
$
11,500
1,759
14,759
1,413
—
1,747
3,160
11,599
931
12,530
18,271
2,028
5,903
2,451
5,780
1,066
9,297
(3,394)
1,028
(2,366)
23,356
2,099
13,599
2,746
—
1,367
4,113
9,486
655
10,141
4,398
$
$
$
30,801
$
20,990
$
14,539
30,801
$
20,990
$
14,539
(3,028)
(3,028)
27,773
$
(4,579)
(4,579)
16,411
7,666
7,666
$
22,205
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Condensed Statements of Cash Flows
(in thousands)
Year Ended December 31,
Cash flows from operating activities:
Net income
Adjustments:
Equity in undistributed net income of subsidiaries
Other
Net adjustments
Net cash provided (used)
Cash flows from investing activities:
Net sale (purchase) of short-term investments
Net purchase of property and equipment
Investment in subsidiaries
Other
Net cash used
Cash flows from financing activities:
Cash dividends paid
Issuance of common stock
Payments on line of credit
Borrowings under lines of credit
Purchase of treasury stock
Net cash (used) provided
Net change in cash
Cash at beginning of year
Cash at end of year
2016
2015
2014
$
30,801
$
20,990
$
14,539
(18,271)
(27)
(18,298)
12,503
2
(11)
(2,393)
—
(2,402)
(14,085)
16,651
(12,000)
—
—
(9,434)
667
1,153
(23,356)
539
(22,817)
(1,827)
498
(23)
(2,427)
—
(1,952)
(14,454)
18,468
(9,500)
37,000
(28,125)
3,389
(390)
1,543
(4,398)
(432)
(4,830)
9,709
(381)
(426)
(1,710)
26
(2,491)
(13,575)
10,808
(7,500)
3,000
(12)
(7,279)
(61)
1,604
$
1,820
$
1,153
$
1,543
19 - Segment Information
We have four reportable segments, which consist of our investment function, our personal lines of insurance, our
commercial lines of insurance and our investment in DFSC. Using independent agents, our insurance subsidiaries market
personal lines of insurance to individuals and commercial lines of insurance to small and medium-sized businesses.
We evaluate the performance of the personal lines and commercial lines primarily based upon our insurance subsidiaries’
underwriting results as determined under SAP for our total business.
We do not allocate assets to the personal and commercial lines and review the two segments in total for purposes of
decision-making. We operate only in the United States, and no single customer or agent provides 10 percent or more of our
revenues.
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Financial data by segment is as follows:
Revenues:
Premiums earned:
Commercial lines
Personal lines
GAAP premiums earned
Net investment income
Realized investment gains
Equity in earnings of DFSC
Other
Total revenues
Income before income taxes:
Underwriting income (loss):
Commercial lines
Personal lines
SAP underwriting income (loss)
GAAP adjustments
GAAP underwriting income (loss)
Net investment income
Realized investment gains
Equity in earnings of DFSC
Premium paid on purchase of treasury stock
Other
Income before income taxes
2016
2015
2014
(in thousands)
$
295,077
$
261,286
$
231,056
361,128
656,205
22,633
2,526
1,086
5,973
344,355
605,641
20,950
1,934
1,277
6,585
325,442
556,498
18,344
3,134
1,243
7,329
$
688,423
$
636,387
$
586,548
2016
2015
2014
(in thousands)
$
$
18,284
(10,745)
7,539
4,642
12,181
22,633
2,526
1,086
—
2,902
$
9,259
(6,414)
2,845
3,344
6,189
20,950
1,934
1,277
(5,780)
3,022
(9,434)
(6,383)
(15,817)
6,312
(9,505)
18,344
3,134
1,243
—
3,067
$
41,328
$
27,592
$
16,283
20 - Guaranty Fund and Other Insurance-Related Assessments
Our insurance subsidiaries’ liabilities for guaranty fund and other insurance-related assessments were $1,490,376 and
$1,348,427 at December 31, 2016 and 2015, respectively. These liabilities included $447,620 and $400,690 related to
surcharges collected by our insurance subsidiaries on behalf of regulatory authorities for 2016 and 2015, respectively.
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21 - Interim Financial Data (unaudited)
Net premiums earned
Total revenues
Net losses and loss expenses
Net income
Net earnings per common share:
Class A common stock - basic
Class A common stock - diluted
Class B common stock - basic and diluted
Net premiums earned
Total revenues
Net losses and loss expenses
Net income
Net earnings per common share:
Class A common stock - basic
Class A common stock - diluted
Class B common stock - basic and diluted
2016
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
$ 158,475,279 $ 161,942,637 $ 166,809,851 $ 168,977,030
166,068,776
169,846,867
175,311,263
177,196,114
95,578,065
103,193,915
111,174,963
113,368,960
11,848,913
8,584,654
4,813,404
5,554,166
0.46
0.46
0.42
0.33
0.32
0.30
2015
0.19
0.18
0.16
0.21
0.20
0.18
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
$ 146,529,816 $ 150,457,785 $ 153,096,075 $ 155,557,052
154,772,448
158,016,954
159,801,784
163,796,077
95,939,312
97,839,291
102,233,708
102,354,563
6,854,336
6,465,027
5,686,831
1,983,839
0.26
0.25
0.23
0.24
0.24
0.21
0.21
0.21
0.18
0.07
0.07
0.07
-99-
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors of Donegal Group Inc.:
We have audited the accompanying consolidated balance sheets of Donegal Group Inc. and subsidiaries (the Company) as
of December 31, 2016 and 2015, and the related consolidated statements of income and comprehensive income, stockholders’
equity, and cash flows for each of the years in the three-year period ended December 31, 2016. These consolidated financial
statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits. We did not audit the financial statements of Donegal Financial Services
Corporation (a 48.2 percent owned investee company). The Company’s investment in Donegal Financial Services Corporation
at December 31, 2016 and 2015 was $37,884,918 and $38,476,708, respectively, and its equity in earnings of Donegal
Financial Services Corporation was $1,086,157, $1,277,229 and $1,242,910 for the years ended December 31, 2016, 2015 and
2014, respectively. The financial statements of Donegal Financial Services Corporation were audited by other auditors whose
report has been furnished to us, and our opinion, insofar as it relates to the amounts included for Donegal Financial Services
Corporation, is based solely on the report of the other auditors.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United
States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit also includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation. We believe that our audits and the reports of the
other auditors provide a reasonable basis for our opinion.
In our opinion, based on our audits and the reports of the other auditors, the consolidated financial statements referred to
above present fairly, in all material respects, the financial position of Donegal Group Inc. and subsidiaries as of December 31,
2016 and 2015, and the results of their operations and their cash flows for each of the years in the three-year period ended
December 31, 2016, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States), Donegal Group Inc.’s internal control over financial reporting as of December 31, 2016, based on criteria established in
Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO), and our report dated March 10, 2017 expressed an unqualified opinion on the effectiveness of the
Company’s internal control over financial reporting.
Philadelphia, Pennsylvania
March 10, 2017
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Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
None.
Item 9A. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, has evaluated the
effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the
Exchange Act) at December 31, 2016 covered by this Form 10-K Report. Based on such evaluation, our Chief Executive
Officer and our Chief Financial Officer have concluded that, at December 31, 2016, our disclosure controls and procedures are
effective in recording, processing, summarizing and reporting, on a timely basis, information we are required to disclose in the
reports that we file or submit under the Exchange Act and our disclosure controls and procedures are also effective to ensure
that information we disclose in the reports we file or submit under the Exchange Act is accumulated and communicated to our
management, including our Chief Executive Officer and our Chief Financial Officer, to allow timely decisions regarding
required disclosure.
Management’s Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as that
term is defined in Rule 13a-15(f) under the Exchange Act. Under the supervision and with the participation of our Chief
Executive Officer and our Chief Financial Officer, our management has conducted an evaluation of the effectiveness of our
internal control over financial reporting based on the framework and criteria established in Internal Control - Integrated
Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (the “COSO
Framework”). Based on our evaluation under the COSO Framework, our management has concluded that our internal control
over financial reporting was effective at December 31, 2016.
The effectiveness of our internal control over financial reporting at December 31, 2016 has been audited by KPMG LLP,
an independent registered public accounting firm, as stated in its report, which is included in this Form 10-K Report.
Changes in Internal Control over Financial Reporting
There were no changes to our internal control over financial reporting (as such term is defined in Rules 13a-15(f) and
15d-15(f) under the Exchange Act) that occurred during the fourth quarter of 2016 that have materially affected, or are
reasonably likely to materially affect, our internal control over financial reporting.
Item 9B. Other Information.
None.
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Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors of Donegal Group Inc.:
We have audited Donegal Group Inc.’s (the Company) internal control over financial reporting as of December 31, 2016,
based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO). Donegal Group Inc.’s management is responsible for maintaining
effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial
reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting in Item 9A. Our
responsibility is to express an opinion on the Company's internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United
States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding
of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the
design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other
procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our
opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally
accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures
that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and
dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit
preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and
expenditures of the company are being made only in accordance with authorizations of management and directors of the
company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or
disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate
because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, Donegal Group Inc. maintained, in all material respects, effective internal control over financial reporting
as of December 31, 2016, based on criteria established in Internal Control - Integrated Framework (2013) issued by the
Committee of Sponsoring Organizations of the Treadway Commission (COSO).
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States), the consolidated balance sheets of Donegal Group Inc. and subsidiaries as of December 31, 2016 and 2015, and the
related consolidated statements of income and comprehensive income, stockholders’ equity, and cash flows for each of the
years in the three-year period ended December 31, 2016, and our report dated March 10, 2017, expressed an unqualified
opinion on those consolidated financial statements.
Philadelphia, Pennsylvania
March 10, 2017
-102-
Item 10. Directors, Executive Officers and Corporate Governance.
PART III
We incorporate the response to this Item 10 by reference to our proxy statement we will file with the SEC on or about
March 16, 2017 relating to our annual meeting of stockholders that we will hold on April 20, 2017, or our Proxy Statement. We
respond to this Item with respect to our executive officers by reference to Part I of this Form 10-K Report.
We incorporate the full text of our Code of Business Conduct and Ethics by reference to Exhibit 14 to this Form 10-K
Report.
Item 11. Executive Compensation.
We incorporate the response to this Item 11 by reference to our Proxy Statement. Neither the Report of our Compensation
Committee nor the Report of our Audit Committee included in our Proxy Statement shall constitute or be deemed to constitute
a filing with the SEC under the Securities Act or the Exchange Act or be deemed to have been incorporated by reference into
any filing we make under the Securities Act or the Exchange Act, except to the extent we specifically incorporate the Report of
Our Compensation Committee or the Report of Our Audit Committee by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.
We incorporate the response to this Item 12 by reference to our Proxy Statement.
Item 13. Certain Relationships and Related Transactions, and Director Independence.
We incorporate the response to this Item 13 by reference to our Proxy Statement.
Item 14. Principal Accounting Fees and Services.
We incorporate the response to this Item 14 by reference to our Proxy Statement.
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PART IV
Item 15. Exhibits, Financial Statement Schedules.
(a) Financial statements, financial statement schedule and exhibits filed:
(a) Consolidated Financial Statements
Reports of Independent Registered Public Accounting Firm
Donegal Group Inc. and Subsidiaries:
Consolidated Balance Sheets at December 31, 2016 and 2015
Consolidated Statements of Income and Comprehensive Income for each of the years in the three-year period
ended December 31, 2016, 2015 and 2014
Consolidated Statements of Stockholders’ Equity for each of the years in the three-year period ended
December 31, 2016, 2015 and 2014
Consolidated Statements of Cash Flows for each of the years in the three-year period ended December 31,
2016, 2015 and 2014
Notes to Consolidated Financial Statements
Report and Consent of Independent Registered Public Accounting Firm
(Filed as Exhibit 23.1)
Consent of Independent Registered Public Accounting Firm
(Filed as Exhibit 23.2)
(b) Financial Statement Schedule
Schedule III — Supplementary Insurance Information
Consolidated Financial Statements of Donegal Financial Services Corporation
Page
100
57
58
59
60
61
Filed
herewith
Filed
herewith
We have omitted all other schedules since they are not required, not applicable or the information is included in the
financial statements or notes to the financial statements.
(c) Exhibits
Description of Exhibits
Reference
Exhibit No.
3.1
3.2
Certificate of Incorporation of Donegal Group Inc., as amended.
Amended and Restated By-laws of Donegal Group Inc.
Management Contracts and Compensatory Plans or Arrangements
10.1
10.2
10.3
10.4
10.5
10.6
Donegal Group Inc. 2013 Equity Incentive Plan for Employees.
Donegal Group Inc. 2013 Equity Incentive Plan for Directors.
Donegal Group Inc. 2011 Employee Stock Purchase Plan.
Donegal Group Inc. 2011 Equity Incentive Plan for Employees.
Donegal Group Inc. 2011 Equity Incentive Plan for Directors.
Employment Agreement dated as of July 29, 2011 among Donegal Mutual Insurance Company,
Donegal Group Inc. and Donald H. Nikolaus.
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(a)
(i)
(c)
(c)
(c)
(c)
(c)
(d)
10.7
10.8
10.9
10.10
10.11
10.12
10.13
10.14
10.15
10.16
10.17
10.18
10.19
Consulting Agreement dated as of July 29, 2011 among Donegal Mutual Insurance Company,
Donegal Group Inc. and Donald H. Nikolaus.
Employment Agreement dated as of July 29, 2011 among Donegal Mutual Insurance Company,
Donegal Group Inc. and Kevin G. Burke.
Employment Agreement dated as of July 29, 2011 among Donegal Mutual Insurance Company,
Donegal Group Inc. and Cyril J. Greenya.
Employment Agreement dated as of July 29, 2011 among Donegal Mutual Insurance Company,
Donegal Group Inc. and Jeffrey D. Miller.
Employment Agreement dated as of July 18, 2013 among Donegal Mutual Insurance Company,
Donegal Group Inc. and Sanjay Pandey.
Employment Agreement dated as of July 29, 2011 among Donegal Mutual Insurance Company,
Donegal Group Inc. and Robert G. Shenk.
Employment Agreement dated as of July 29, 2011 among Donegal Mutual Insurance Company,
Donegal Group Inc. and Daniel J. Wagner.
Donegal Mutual Insurance Company 401(k) Plan.
Amendment No. 1 effective January 1, 2000 to Donegal Mutual Insurance Company 401(k) Plan.
Amendment No. 2 effective January 6, 2000 to Donegal Mutual Insurance Company 401(k) Plan.
Amendment No. 3 effective July 23, 2001 to Donegal Mutual Insurance Company 401(k) Plan.
Amendment No. 4 effective January 1, 2002 to Donegal Mutual Insurance Company 401(k) Plan.
Amendment No. 5 effective December 31, 2001 to Donegal Mutual Insurance Company 401(k)
Plan.
10.20
Amendment No. 6 effective July 1, 2002 to Donegal Mutual Insurance Company 401(k) Plan.
10.21
Donegal Group Inc. Cash Incentive Bonus Plan.
10.22
10.23
Donegal Group Inc. 2015 Equity Incentive Plan for Employees.
Donegal Group Inc. 2015 Equity Incentive Plan for Directors.
Other Material Contracts
Reinsurance and Retrocession Agreement dated May 21, 1996 between Donegal Mutual Insurance
Company and Southern Insurance Company of Virginia.
Surplus Note Purchase Agreement dated September 8, 2009 between Donegal Mutual Insurance
Company and Southern Mutual Insurance Company.
Quota-share Reinsurance Agreement dated October 30, 2009 but effective 11:59 p.m. on
October 31, 2009 between Donegal Mutual Insurance Company and Southern Mutual Insurance
Company.
Services and Affiliation Agreement dated October 30, 2009 between Donegal Mutual Insurance
Company and Southern Mutual Insurance Company.
Technology License Agreement dated October 30, 2009 between Donegal Mutual Insurance
Company and Southern Mutual Insurance Company.
Amended and Restated Proportional Reinsurance Agreement dated March 1, 2010 between
Donegal Mutual Insurance Company and Atlantic States Insurance Company.
Agreement and Plan of Merger dated April 19, 2010, and as amended May 20, 2010, among
Donegal Acquisition Inc., Donegal Financial Services Corporation, Donegal Group Inc. and Union
National Financial Corporation; amended dated September 1, 2010; amended dated December 8,
2010.
10.24
10.25
10.26
10.27
10.28
10.29
10.30
10.31
(d)
(d)
(d)
(d)
(s)
(d)
(d)
(e)
(e)
(b)
(b)
(b)
(b)
(h)
(j)
(t)
(t)
(f)
(k)
(k)
(k)
(k)
(k)
(l)
Amended and Restated Agreement and Plan of Merger dated December 6, 2010 among Michigan
Insurance Company, West Bend Mutual Insurance Company, Donegal Group Inc. and DGI
Acquisition Corp.
(m)
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10.32
10.33
10.34
10.35
10.36
10.37
10.38
10.39
10.40
10.41
10.42
14
21
Amended and Restated Tax Sharing Agreement dated December 1, 2010 among Donegal Group
Inc., Atlantic States Insurance Company, Southern Insurance Company of Virginia, Le Mars
Insurance Company, The Peninsula Insurance Company, Peninsula Indemnity Company and
Michigan Insurance Company.
Amended and Restated Services Allocation Agreement dated December 1, 2010 among Donegal
Group Inc., Atlantic States Insurance Company, Southern Insurance Company of Virginia, Le Mars
Insurance Company, The Peninsula Insurance Company, Peninsula Indemnity Company and
Michigan Insurance Company.
Quota-share Reinsurance Agreement dated December 1, 2010 between Donegal Mutual Insurance
Company and Michigan Insurance Company.
Donegal Group Inc. 2015 Agency Stock Purchase Plan.
Credit Agreement dated June 21, 2010 between Donegal Group Inc. and Manufacturers and
Traders Trust Company, First Amendment to Credit Agreement dated October 12, 2010 and
Second Amendment to Credit Agreement dated June 1, 2011.
Third Amendment to Credit Agreement between Donegal Group Inc. and Manufacturers and
Traders Trust Company dated June 1, 2012 and Fourth Amendment to Credit Agreement dated
December 5, 2012.
Fifth Amendment to Credit Agreement between Donegal Group Inc. and Manufacturers and
Traders Trust Company dated June 1, 2013.
Sixth Amendment to Credit Agreement between Donegal Group Inc. and Manufacturers and
Traders Trust Company dated June 1, 2014.
Seventh Amendment to Credit Agreement between Donegal Group Inc. and Manufacturers and
Traders Trust Company dated June 1, 2015.
Stock Purchase and Standstill Agreement dated as of December 18, 2015 among Donegal Mutual
Insurance Company, Donegal Group Inc. and Gregory M. Shepard.
Eighth Amendment to Credit Agreement between Donegal Group Inc. and Manufacturers and
Traders Trust Company dated July 1, 2016.
Code of Business Conduct and Ethics.
Subsidiaries of Registrant.
23.1
Report and Consent of Independent Registered Public Accounting Firm.
23.2
Consent of Independent Registered Public Accounting Firm.
31.1
Rule 13a-14(a)/15(d)-14(a) Certification of Chief Executive Officer.
31.2
Rule 13a-14(a)/15(d)-14(a) Certification of Chief Financial Officer.
32.1
Section 1350 Certification of Chief Executive Officer.
32.2
Section 1350 Certification of Chief Financial Officer.
Exhibit 10
1.INS
Exhibit 10
1.SCH
Exhibit 10
1.PRE
Exhibit 10
1.CAL
XBRL Instance Document
XBRL Taxonomy Extension Schema Document
XBRL Taxonomy Presentation Linkbase Document
XBRL Taxonomy Calculation Linkbase Document
-106-
(n)
(n)
(n)
(o)
(p)
(q)
(r)
(s)
(v)
(u)
Filed
herewith
(g)
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Exhibit 10
1.LAB
Exhibit 10
1.DEF
XBRL Taxonomy Label Linkbase Document
XBRL Taxonomy Extension Definition Linkbase Document
Filed
herewith
Filed
herewith
(a) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-Q for the quarterly period ended
March 31, 2013.
(b) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2001.
(c) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 8-K Report dated April 22, 2011.
(d) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 8-K Report dated August 3, 2011.
(e) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 1999.
(f) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 1996.
(g) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2003.
(h) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2002.
(i) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 8-K Report dated July 18, 2008.
(j) We incorporate such exhibit by reference to the description of such plan in Registrant’s definitive proxy statement for its Annual
Meeting of Stockholders held on April 17, 2014 filed on March 17, 2014.
(k) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2009.
(l) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form S-4 registration statement filed June 25,
2010, Registrant’s Form 8-K Report dated September 1, 2010 and Registrant’s Form 8-K Report dated December 8, 2010.
(m) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 8-K Report dated December 8, 2010.
(n) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2010.
(o) We incorporate such exhibit by reference to the like-described exhibit filed in Registrant’s Form S-3 registration statement filed on
April 28, 2015.
(p) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2011.
(q) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2012.
(r) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2013.
(s) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2014.
(t) We incorporate such exhibit by reference to the description of such plan in Registrant’s definitive proxy statement for its Annual
Meeting of Stockholders held on April 16, 2015 filed on March 16, 2015.
(u) We incorporate such exhibit by reference to the like-described exhibit in Registrant's Form 8-K Report dated December 22, 2015.
(v) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2015.
-107-
Pursuant to the requirements of Section 13 or 15(d) 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.
SIGNATURES
DONEGAL GROUP INC.
By: /s/ Kevin G. Burke
Kevin G. Burke, President and Chief Executive
Officer
Date: March 10, 2017
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons
on behalf of the Registrant in the capacities and on the dates indicated.
Signature
/s/ Kevin G. Burke
Kevin G. Burke
/s/ Jeffrey D. Miller
Jeffrey D. Miller
/s/ Scott A. Berlucchi
Scott A. Berlucchi
/s/ Robert S. Bolinger
Robert S. Bolinger
/s/ Patricia A. Gilmartin
Patricia A. Gilmartin
/s/ Jack L. Hess
Jack L. Hess
/s/ Barry C. Huber
Barry C. Huber
/s/ Kevin M. Kraft, Sr.
Kevin M. Kraft, Sr.
/s/ Jon M. Mahan
Jon M. Mahan
Title
President, Chief Executive Officer and a Director
(principal executive officer)
Executive Vice President and Chief Financial Officer
(principal financial and accounting officer)
Director
Director
Director
Director
Director
Director
Director
/s/ S. Trezevant Moore, Jr.
Director
S. Trezevant Moore, Jr.
/s/ Donald H. Nikolaus
Donald H. Nikolaus
Director
/s/ Richard D. Wampler, II
Director
Richard D. Wampler, II
Date
March 10, 2017
March 10, 2017
March 10, 2017
March 10, 2017
March 10, 2017
March 10, 2017
March 10, 2017
March 10, 2017
March 10, 2017
March 10, 2017
March 10, 2017
March 10, 2017
-108-
DONEGAL
GROUP
Corporate
Information
Annual Meeting
April 20, 2017 at 10:00 a.m. at the:
Heritage Hotel Lancaster
500 Centerville Road
Lancaster, Pennsylvania 17601
Corporate Offi ces
1195 River Road
P.O. Box 302
Marietta, Pennsylvania 17547-0302
(800) 877-0600
E-mail Address: info@donegalgroup.com
Donegal Web Site: www.donegalgroup.com
Transfer Agent
Computershare Trust Company, N.A.
P.O. Box 30170
College Station, Texas 77842-3170
(800) 317-4445
Web Site: www.computershare.com
Hearing Impaired: TDD: 800-952-9245
Dividend Reinvestment
and Stock Purchase Plan
We offer a dividend reinvestment and stock
purchase plan through our transfer agent.
For information contact:
Donegal Group Inc.
Dividend Reinvestment and
Stock Purchase Plan
Computershare Trust Company, N.A.
P.O. Box 30170
College Station, Texas 77842-3170
Stockholders
The following represent the number
of our common stockholders of record
as of December 31, 2016:
Class A common stock
Class B common stock
1,870
299
Board of Directors
Donald H. Nikolaus
Scott A. Berlucchi
Robert S. Bolinger
Kevin G. Burke
Chairman of the Board
and a Director
Director
Director
President and Chief
Executive Offi cer
and a Director
Director
Patricia A. Gilmartin
Director
Barry C. Huber
Director
Jack L. Hess
Director
Kevin M. Kraft, Sr.
Jon M. Mahan
Director
S. Trezevant Moore, Jr. Director
Richard D. Wampler, II Director
Offi cers
Kevin G. Burke
Jeffrey D. Miller
Cyril J. Greenya
Sanjay Pandey
Robert G. Shenk
Christina M. Hoffman
V. Anthony Viozzi
Daniel J. Wagner
Jason M. Crumbling
Jerry W. Demastus
Sheri O. Smith
Michelle M. Post
President and Chief
Executive Offi cer
Executive Vice President
and Chief Financial Offi cer
Senior Vice President
Senior Vice President and
Chief Information Offi cer
Senior Vice President
Senior Vice President
Senior Vice President and
Chief Investment Offi cer
Senior Vice President
and Treasurer
Vice President and
Controller
Vice President and
Assistant Treasurer
Vice President and
Secretary
Assistant Secretary
54666.indd 7
3/13/17 1:02 PM
1195 River Road, P.O. Box 302
Marietta, PA 17547-0302
(717) 426-1931
www.donegalgroup.com
54666.indd 8
3/13/17 1:02 PM