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DONEGAL GROUP 2018 Annual Report
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DONEGAL GROUP
COMPANY OVERVIEW
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 26 states.
We employ a multi-faceted strategy that includes prudent
organic and acquisition growth, conservative underwriting,
pricing discipline, technological proficiency, efficient opera-
tions 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, profitability and book value growth. Achieving that
goal provides value to the policyholders of our insurance
subsidiaries and to our stockholders.
Grew our commercial lines of business, achieving 6.3% growth in net premiums written in that segment. Escalated actions and implemented initiatives to address the underperformance of our automobile lines of business.Strengthened our loss reserve position for claims occurring in both current and prior years.Entered into an agreement to sell Donegal Financial Services Corporation and will utilize proceeds to support expansion of our property and casualty insurance operations.Consolidated the regional office operations of Peninsula Insurance Company into the home office operations.Donegal Mutual officially launched its legacy systems modernization project in October 2018.Donegal Mutual completed the integration of Mountain States Insurance Group operations, making excellent progress on rehabilitation and expansion initiatives in that region.Restructured our reinsurance program for 2019 to achieve economies of scale.Developed a three-year strategic plan to formalize strategies and tactics to achieve specific business goals over the next three years.2018 Annual Report
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YEAR ENDED DECEMBER 31, 2018
2017
2016
2015
2014
INCOME STATEMENT DATA
Premiums earned
Investment income, net
Investment (losses) gains
Total revenues
$ 741,290,873
$ 702,514,755
$ 656,204,797
$ 605,640,728
$ 556,497,535
26,907,656
23,527,304
22,632,730
20,949,698
18,344,382
(4,801,509)
5,705,255
2,525,575
1,934,424
3,134,081
771,828,320
739,026,537
688,423,020
636,387,263
586,547,742
(Loss) income before income tax (benefit)
(48,236,849)
12,114,462
41,328,407
27,592,268
16,282,817
Income tax (benefit) expense
(15,476,509)
4,998,362
10,527,270
6,602,235
1,743,799
Net (loss) income
(32,760,340)
7,116,100
30,801,137
20,990,033
14,539,018
Basic (loss) earnings per share - Class A
Diluted (loss) earnings per share - Class A
Cash dividends per share - Class A
Basic (loss) earnings per share - Class B
Diluted (loss) earnings per share - Class B
Cash dividends per share - Class B
(1.18)
(1.18)
0.57
(1.09)
(1.09)
0.50
0.27
0.26
0.56
0.22
0.22
0.49
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
BALANCE SHEET DA TA AT YEAR END
Total investments
Total assets
Debt obligations
Stockholders’ equity
Book value per share
$1,030,798,566
$1,005,869,705
$ 945,519,655
$ 900,822,274
$ 832,941,077
1,832,078,267
1,737,919,778
1,623,131,037
1,537,834,415
1,458,654,644
65,000,000
64,000,000
74,000,000
86,000,000
58,500,000
398,869,901
448,696,104
438,615,320
408,388,568
416,134,643
14.05
15.95
16.21
15.66
15.40
TOTAL REVENUES
[ in millions ]
TOTAL ASSETS
[ in billions ]
STOCKHOLDERS’ EQUITY
[ in millions ]
$ 800
$ 700
$ 600
$ 500
$2.00
$1.75
$1.50
$ 450
$ 400
$ 350
$ 300
$400
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$1.25
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$ 250
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DONEGAL GROUP
To put it succinctly, we are glad to have 2018 in the rearview
mirror. From a deep freeze that began on the very first day of
the year to hurricanes affecting inland locations in the fourth
quarter, we were confronted with severe weather conditions
throughout the year that led to losses that far surpassed
our historical experience. We also encountered continuing
challenges within our personal and commercial automobile
business lines that led to significant reserve strengthening
actions. Like many of our peers, we experienced the impact
of rising automobile loss trends over the past several years.
We attribute the increasing loss trends to factors such as
the higher cost of vehicle repairs, increased accident activity
due to distracted driving, more driving activity tied to lower
fuel costs and lower levels of unemployment, and changes
in weather patterns.
We recognized early in 2018 that our prior actuarial assump-
tions did not fully anticipate the changes in loss severity and
claim reporting trends, and noted worsening litigation trends
and a longer delay in the reporting to us of information
with respect to the severity of claims. As a result, our actuaries
increased their estimates of the ultimate severity of our
automobile losses for prior accident years, and they used those
revised metrics in developing their projections of our ultimate
liability for 2018 losses. We were proactive in addressing
these trends early in the year by increasing our premium rates,
implementing stricter underwriting guidelines and further
integrating predictive modeling technology in our under-
writing processes. While those actions had the desired effect
of limiting our new business writings in areas where we
identified our pricing to be inadequate, it is inherent to
the nature of our business that such corrective actions will
take some time to yield meaningful improvement in our
overall financial results.
22018 Annual ReportAlbert Einstein once said, While Donegal faced its fair share of difficulty in 2018, the adverse circumstances provided an opportunity to perform a comprehensive assessment of our strategy, address legacy issues head-on, and take bold steps to position our organization for future success. “in the middle of difficulty lies opportunity.”
Despite the actions taken to limit certain new business writings, our net premiums earned increased 5.5
percent in 2018. We continued to shift our business mix to a higher proportion of commercial business where
we see greater opportunity for profitable growth. Net premiums written within our commercial segment grew
6.3 percent in 2018, offset partially by a 1.5 percent decline in the net premiums written within our personal
segment. With the exception of ongoing commercial automobile challenges, we were generally pleased with
the underwriting performance in our commercial lines of business. Our commercial multi-peril and workers’
compensation lines generated profitable results, and we have many commercially focused independent agents
who have expressed a desire to grow their commercial business with us. While we are pursuing the writing of
additional commercial accounts as our primary growth driver in 2019, we have many agents who have
consistently produced profitable personal lines business for us, and we will expand our personal lines
in areas where we believe we can do so profitably.
Our total revenues increased 4.4 percent in 2018, reflecting growth in earned premiums and investment
income that was partially offset by net investment losses we primarily attribute to a decrease in the market value
of the equity securities we held at December 31, 2018.
Our combined ratio for 2018 was 110.1 percent, an increase from our 2017 combined ratio of 103.0 percent,
indicating a level of underwriting losses over the past two years that we view as simply unacceptable. The
difficulties we encountered during 2018 contributed to a net loss of $32.8 million, or $1.18 per Class A share,
compared to net income of $7.1 million, or 26 cents per diluted Class A share, for 2017.
We are pleased to highlight a number of noteworthy developments that we anticipate will have a positive
impact on our operations and financial results in 2019 and future years.
SALE OF DONEGAL FINANCIAL SERVICES CORPORATION
Proceeds Will Support Insurance Operations
We announced in June 2018 that Donegal Group Inc. and Donegal Mutual Insurance Company (“Donegal Mutual”)
entered into an agreement to sell Donegal Financial Services Corporation (“DFSC”) and its wholly owned subsidiary,
Union Community Bank, to Northwest Bancshares, Inc. This transaction represents the culmination of a banking
strategy that began with the formation of DFSC in 2000. Donegal Group Inc. and Donegal Mutual will utilize proceeds
from the sale of DFSC to support expansion of our combined property and casualty insurance operations.
PENINSULA REGIONAL OFFICE CONSOLIDATION
Yielded Annual Cost Savings of $4.0 Million
In July, we consolidated the Salisbury, Maryland branch office operations of Peninsula Insurance Company
(“Peninsula”) into the home office operations to achieve economies of scale and enhance service levels
for policyholders of Peninsula. We expect to expand the specialty garage business Peninsula has historically
underwritten throughout our regional markets. We further expect to achieve annual expense savings beginning
in 2019 of approximately $4.0 million as a result of implementing the Peninsula consolidation.
EXIT FROM UNPROFITABLE PERSONAL LINES MARKETS IN SEVEN STATES
Will Accelerate Recovery of Personal Lines Profitability
In early September, we announced that we decided to exit the personal lines markets in seven states and entered
into an agreement with Safeco Insurance to provide our independent agents in those states a compelling option for
transitioning their Donegal policyholders to Safeco. While personal lines premiums in those seven states represented
a very small percentage of our overall premium writings, that business contributed a disproportionately large
percentage of our underwriting losses over the past five years. We began sending non-renewal notices for policies
subject to the transfer effective February 1, 2019 and will complete the transfer in the first quarter of 2020.
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DONEGAL MUTUAL LAUNCHED SYSTEMS MODERNIZATION PROJECT
Will Replace Remaining Legacy Systems and Enhance Data Analytics and Reporting
Donegal Mutual officially launched a legacy systems modernization project in October 2018. The project
includes implementation of a new policy administration system and software platforms that will enable
enhanced data analytics and reporting capabilities. In addition to the operating efficiencies we will gain by
replacing our remaining legacy technology systems, our combined insurance operations will benefit from an
array of opportunities the new systems will create. Those opportunities include streamlining our processes
and workflows, enhancing our ability to quickly implement product changes and bring new products to
market, increasing digital interactions with our agents and policyholders, heightening data and analytics
capabilities and laying a strong foundation to support emerging technologies. Donegal Mutual has
employed leading industry consultants to assist in the design, configuration and implementation of
these new systems. We will be following a phased implementation approach and expect the first
line of business will go live on this platform in early 2020.
DONEGAL MUTUAL COMPLETED THE INTEGRATION
OF MOUNTAIN STATES INSURANCE GROUP
Will Provide Opportunity for Future Commercial Growth
We shared with you in the past that Donegal Mutual’s acquisition of the Mountain States Insurance
Group in May 2017 has provided an opportunity for additional future commercial growth, and we are
pleased with the progress in 2018 toward that goal. Donegal Mutual fully completed the integration of the
Mountain States operations into its systems environment and expanded its management team members to
build this regional operation. The re-underwriting of the Mountain States book of business was effective in
terms of exiting unprofitable accounts and reducing the flow of incoming claims. Mountain States is actively
writing new commercial business in the four Southwestern states it serves. As the results of this operation
continue to improve, we look forward to including the Mountain States premiums, losses and expenses
in the pooling agreement currently in place between Donegal Mutual and our Atlantic States
Insurance Company subsidiary.
CONCLUSION
Clearly, it was far from “business as usual” at Donegal Group in 2018. We accomplished much despite the
difficulties we encountered, and there is more work to do. As we look forward, we see clear opportunities for
growth, transformation and success. We are focused on several primary strategies, including improving our
financial performance, utilizing technology to improve our operational efficiency, strategically modernizing
our business in order to achieve operational excellence and enhancing our market position to
compete effectively.
We continue to view our team of talented professionals and support personnel as key to our ability to
differentiate our service from that of our many competitors. We value and appreciate the dedication and
support of our independent agents who recognize and reciprocate Donegal’s commitment to them and the
independent agency distribution system as a whole. Executing our business strategy will require thoughtful
diligence and a full team effort over the next few years. We are committed to giving our full effort and
energy to the tasks at hand. We thank you, our stockholders, for your support as we strive every
day to increase the value of your investment.
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Kevin G. Burke
PRESIDENT AND CHIEF EXECUTIVE OFFICER
4 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, 2018
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
Class B Common Stock, $.01 par value
The NASDAQ Global Select Market
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, a smaller reporting company or
an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth
company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
Emerging growth company
Accelerated filer
Non-accelerated filer
Smaller reporting company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any
new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
.
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. $173,621,480.
Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date: 22,850,087 shares of
Class A common stock and 5,576,775 shares of Class B common stock outstanding on March 1, 2019.
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 18, 2019 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
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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 22 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, 2018, Donegal Mutual held approximately 43% of our outstanding Class A common stock and
approximately 84% of our outstanding Class B common stock. Donegal Mutual’s ownership provides Donegal Mutual with
approximately 72% 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.
At December 31, 2018, we had four segments: our investment function, our personal lines of insurance, our commercial
lines of insurance and our investment in Donegal Financial Services Corporation, or 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.
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 larger national property and casualty insurers. Our
downstream holding company structure, with Donegal Mutual holding approximately 72% of the combined voting power of
our common stock, has proven its effectiveness and success over the 32 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 have been an effective consolidator of smaller “main street” property and casualty insurance companies, and we pursue
opportunities to acquire other insurance companies to expand our business in a given 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.
Donegal Mutual completed the merger of Mountain States Mutual Casualty Company (“Mountain States”) with and into
Donegal Mutual effective May 25, 2017. Donegal Mutual was the surviving company in the merger, and Mountain States’
insurance subsidiaries, Mountain States Indemnity Company and Mountain States Commercial Insurance Company, became
insurance subsidiaries of Donegal Mutual upon completion of the merger. Upon completion of the merger, Donegal Mutual
assumed all of the policy obligations of Mountain States and began to market its products together with those of its insurance
subsidiaries as the Mountain States Insurance Group in four Southwestern states. For an indefinite period of time, Donegal
Mutual will exclude the business of the Mountain States Insurance Group from the pooling agreement with Atlantic States. As
a result, our consolidated financial results exclude the results of Donegal Mutual’s operations in those Southwestern states.
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In July 2018, we consolidated the branch office operations of Peninsula into our home office operations to achieve
economies of scale and enhance service levels for policyholders of Peninsula. We recorded a restructuring charge for employee
termination costs associated with the Peninsula consolidation of approximately $1.9 million. We paid approximately $1.5
million of these costs in 2018 and had an accrual of approximately $390,000 remaining at December 31, 2018. We entered into
a definitive purchase agreement for the sale of Peninsula’s branch office in 2018. The sale was completed in January 2019, and
we received net proceeds of $1.2 million. We recorded an impairment charge of $1.1 million in other expenses in 2018 related
to this real estate transaction and included the $1.2 million fair value of the real estate we held for sale in other assets at
December 31, 2018.
In June 2018, we and Donegal Mutual Insurance Company entered into an agreement to sell DFSC and its wholly owned
subsidiary, Union Community Bank, to Northwest Bancshares, Inc. (“Northwest”). We consummated that transaction on March
8, 2019, resulting in proceeds valued at approximately $85.8 million in a combination of cash and Northwest common stock.
Immediately prior to the closing of the merger, DFSC paid a dividend of approximately $29.2 million to us and Donegal
Mutual. As the owner of 48.2% of DFSC’s common stock, we received a dividend payment from DFSC of approximately $14.1
million and consideration from Northwest valued at approximately $41.4 million. This transaction represented the culmination
of a banking strategy that began with the formation of DFSC in 2000. We and Donegal Mutual will utilize proceeds from the
sale of DFSC to support expansion of our combined property and casualty insurance operations.
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 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 on our website. 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. 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 Atlantic States 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.
-2-
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. In addition, Donegal Mutual has a 100% quota-share reinsurance agreement with Southern Mutual
Insurance Company, or Southern Mutual, and Donegal Mutual places 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
and Southern Mutual:
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 28% of the combined voting power of our Class A common stock and our Class B common stock and
Donegal Mutual holds approximately 72% of the combined voting power of our Class A common stock and our Class B common stock.
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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 premiums written of the Donegal Insurance Group. Charges for these services to Atlantic
States and our other insurance subsidiaries totaled $126.2 million, $125.0 million and $122.4 million for 2018, 2017 and 2016,
respectively.
Our insurance subsidiaries have various reinsurance arrangements with Donegal Mutual. These agreements include:
•
•
catastrophe reinsurance agreements with Atlantic States, Le Mars, MICO, Peninsula, Sheboygan and Southern; and
quota-share reinsurance agreements with MICO and Peninsula.
The purpose of the catastrophe reinsurance agreements is to lessen the effects of an accumulation of 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.
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 2019 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 Michael W. Brubaker and John
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E. Hiestand. We refer to our proxy statement for our annual meeting of stockholders to be held on April 18, 2019 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.
In the first quarter of 2019, 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 $741.3 million in 2018, a compound annual
growth rate of 7.8%.
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 2014 through 2018 are shown in the following table:
Our GAAP combined ratio
Our SAP combined ratio
Industry SAP combined ratio (1)
(1) As reported (projected for 2018) by A.M. Best Company.
2018
2017
2016
2015
2014
110.1%
103.0%
98.1%
99.0%
101.7%
109.4
101.5
101.7
105.1
96.8
100.9
97.4
98.3
100.5
97.4
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:
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• maintaining a conservative underwriting culture and pricing discipline to sustain our record of long-term 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 seek to achieve a combined ratio of less than 100%. We remain committed to achieving
consistent underwriting profitability. 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 for
profitability. 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.
Our insurance subsidiaries have no material exposures to asbestos or 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.
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 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.
-6-
• Acquiring property and casualty insurance companies to augment the organic growth of our insurance subsidiaries.
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 over time.
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 between $50.0 million 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
placement of that 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;
• merger of a mutual company into Donegal Mutual; 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 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 from time to time, 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.
-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.
Donegal Mutual completed the merger of Mountain States Mutual Casualty Company, or Mountain States, with and into
Donegal Mutual effective May 25, 2017. Donegal Mutual was the surviving company in the merger, and Mountain States’
insurance subsidiaries, Mountain States Indemnity Company and Mountain States Commercial Insurance Company, became
insurance subsidiaries of Donegal Mutual upon completion of the merger. Upon completion of the merger, Donegal Mutual
assumed all of the policy obligations of Mountain States and began to market its products together with its insurance
subsidiaries as the Mountain States Insurance Group in four Southwestern states. For an indefinite period of time, Donegal
Mutual will exclude the business of the Mountain States Insurance Group from the pooling agreement with Atlantic States. As a
result, our consolidated financial results will exclude the results of Donegal Mutual’s operations in those Southwestern states.
-8-
• 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;
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 results 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 seek 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 $1.1 million in 2018.
Donegal Mutual and our insurance subsidiaries strive to maintain technology comparable to that of their larger 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.
-9-
• 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
respective businesses. Our insurance subsidiaries maintain a small percentage (4.2% at December 31, 2018) 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,
2018
2017
2016
Amount
%
Amount
%
Amount
%
$ 249,275
33.5% $ 255,297
35.0% $ 229,789
33.7%
123,782
21,064
394,121
108,123
117,509
109,022
15,241
349,895
16.6
2.9
53.0
14.5
15.8
14.7
2.0
47.0
125,054
19,672
400,023
99,333
110,313
109,884
9,586
329,116
17.2
2.7
54.9
13.6
15.1
15.1
1.3
45.1
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
$ 744,016
100.0% $ 729,139
100.0% $ 682,034
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, 2018, the Donegal Insurance Group
actively wrote business in 22 states (Alabama, Delaware, Georgia, Illinois, 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). Donegal Mutual and its subsidiaries also write business in four Southwestern
states (Colorado, New Mexico, Texas and Utah). Donegal Mutual currently excludes the business written in these four states
from the pooling agreement between Donegal Mutual and Atlantic States. As a result, this business has no impact on our results
of operations. 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 2018:
Pennsylvania
Michigan
Maryland
Virginia
Georgia
Delaware
Wisconsin
Ohio
Iowa
Nebraska
Tennessee
South Dakota
Other
Total
34.3%
15.4
8.7
8.0
7.9
5.7
3.8
3.1
2.6
2.3
2.3
1.2
4.7
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
-12-
proportionate share of information services expenses based on their respective percentage of the total net premiums written of
the Donegal Insurance Group during the preceding calendar year.
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 quality 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 agency-facing technology systems compare favorably to those of many national property and
casualty insurance carriers in terms of quality and service levels. In 2018, Donegal Mutual initiated a multi-year systems
modernization project that will facilitate the replacement of its remaining legacy systems, streamline our business processes and
workflows and enhance our data analytics and modeling capabilities.
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 the insurer knows at that point in time. At the time of
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establishing its estimates, an insurer recognizes that its ultimate liability for losses and loss expenses will exceed or be less than
such estimates. Our insurance subsidiaries base their estimates of liabilities for losses and loss expenses on assumptions as to
future loss trends, expected claims severity, judicial theories of liability and other factors. However, during the loss adjustment
period, our insurance subsidiaries may learn additional facts regarding individual claims, and, consequently, it often becomes
necessary for our insurance subsidiaries to refine and adjust their estimates for these liabilities. We reflect any adjustments to
the liabilities for losses and loss expenses of our insurance subsidiaries in our consolidated results of operations in the period in
which our insurance subsidiaries make adjustments to their estimates.
Our insurance subsidiaries maintain liabilities for the payment of losses and loss expenses with respect to both reported
and unreported claims. Our insurance subsidiaries establish these liabilities for the purpose of covering the ultimate costs of
settling all losses, including investigation and litigation costs. Our insurance subsidiaries base the amount of their liability for
reported losses primarily upon a case-by-case evaluation of the type of risk involved, knowledge of the circumstances
surrounding each claim and the insurance policy provisions relating to the type of loss the policyholder incurred. Our insurance
subsidiaries determine the amount of their liability for unreported claims and loss expenses on the basis of historical
information by line of insurance. Our insurance subsidiaries account for inflation in the reserving function through analysis of
costs and trends and reviews of historical reserving results. Our insurance subsidiaries monitor their liabilities closely and
recompute them periodically using new information on reported claims and a variety of statistical techniques. Our insurance
subsidiaries do not discount their liabilities for losses and loss expenses.
Reserve estimates can change over time because of unexpected changes in assumptions related to our insurance
subsidiaries’ external environment and, to a lesser extent, assumptions related to our insurance subsidiaries’ internal operations.
For example, our insurance subsidiaries have experienced an increase in claims severity and a lengthening of the claim
settlement periods on bodily injury claims during the past several years. These trend changes give rise to greater uncertainty as
to the pattern of future loss settlements on bodily injury claims. Related uncertainties regarding future trends include the cost of
medical technologies and procedures and changes in the utilization of medical procedures. Assumptions related to our insurance
subsidiaries’ external environment include the absence of significant changes in tort law and the legal environment that increase
liability exposure, consistency in judicial interpretations of insurance coverage and policy provisions and the rate of loss cost
inflation. Internal assumptions include consistency in the recording of premium and loss statistics, consistency in the recording
of claims, payment and case reserving methodology, accurate measurement of the impact of rate changes and changes in policy
provisions, consistency in the quality and characteristics of business written within a given line of business and consistency in
reinsurance coverage and collectability of reinsured losses, among other items. To the extent our insurance subsidiaries
determine that underlying factors impacting their assumptions have changed, our insurance subsidiaries make adjustments in
their reserves that they consider appropriate for such changes. Accordingly, our insurance subsidiaries’ ultimate liability for
unpaid losses and loss expenses will likely differ from the amount recorded at December 31, 2018. 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 $4.8 million.
The establishment of appropriate liabilities is an inherently uncertain process and we can provide no assurance that our
insurance subsidiaries’ ultimate liability will not exceed our insurance subsidiaries’ loss and loss expense reserves and have an
adverse effect on our results of operations and financial condition. Furthermore, we cannot predict the timing, frequency and
extent of adjustments to our insurance subsidiaries’ estimated future liabilities, because the historical conditions and events that
serve as a basis for our insurance subsidiaries’ estimates of ultimate claim costs may change. As is the case for substantially all
property and casualty insurance companies, our insurance subsidiaries have found it necessary in the past to increase their
estimated future liabilities for losses and loss expenses in certain periods and, in other periods, their estimated future liabilities
for losses and loss expenses have exceeded their actual liabilities for losses and loss expenses. Changes in our insurance
subsidiaries’ estimates of their liability for losses and loss expenses generally reflect actual payments and their evaluation of
information received subsequent to the prior reporting period. Our insurance subsidiaries recognized an increase in their
liability for losses and loss expenses of prior years of $35.6 million, $6.6 million and $3.0 million in 2018, 2017 and 2016,
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 2018 development represented 9.3% of the December 31, 2017 net
carried reserves and resulted primarily from higher-than-expected severity in the commercial multiple peril, personal
automobile and commercial automobile lines of business, offset by lower-than-expected severity in the workers’ compensation
line of business, in accident years prior to 2018. The majority of the 2018 development related to increases in the liability for
losses and loss expenses of prior years for Atlantic States, Southern and Peninsula. During 2018, our insurance subsidiaries
received new information on previously-reported commercial automobile and personal automobile claims that led our insurance
subsidiaries to conclude that their prior actuarial assumptions did not fully anticipate recent changes in severity and reporting
trends. Our insurance subsidiaries have encountered increasing difficulties in projecting the ultimate severity of automobile
losses over recent accident years, which our insurance subsidiaries attribute to worsening litigation trends and an increased
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delay in the reporting to our insurance subsidiaries of information with respect to the severity of claims. As a result, our
insurance subsidiaries' actuaries increased their projections of the ultimate cost of our insurance subsidiaries' prior-year
personal automobile and commercial automobile losses, and our insurance subsidiaries added $17.7 million to their reserves for
personal automobile and $20.8 million to their reserves for commercial automobile for accident years prior to 2018. The 2017
development represented 1.9% of the December 31, 2016 net carried reserves and resulted primarily from higher-than-expected
severity in the commercial multiple peril, personal automobile and commercial automobile lines of business, offset by lower-
than-expected severity in the workers’ compensation line of business, in accident years prior to 2017. The majority of the 2017
development related to increases in the liability for losses and loss expenses of prior years for Atlantic States and Peninsula.
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.
Excluding the impact of severe weather events, our insurance subsidiaries have noted stable amounts in the number of
claims incurred and the number of claims outstanding at period ends relative to their premium base in recent years across most
of their lines of business. However, the amount of the average claim outstanding has increased gradually over the past several
years due to various factors such as rising medical loss costs and increased litigation trends. We have also experienced a general
slowing of settlement rates in litigated claims. Our insurance subsidiaries could have to make further adjustments to their
estimates in the future. However, on the basis of our insurance subsidiaries’ internal procedures, which analyze, among other
things, their prior assumptions, their experience with similar cases and historical trends such as reserving patterns, loss
payments, pending levels of unpaid claims and product mix, as well as court decisions, economic conditions and public
attitudes, we believe that our insurance subsidiaries have made adequate provision for their liability for losses and loss
expenses.
Atlantic States’ participation in the pool with Donegal Mutual exposes Atlantic States to adverse loss development on the
business of Donegal Mutual that the pool includes. However, pooled business represents the predominant percentage of the net
underwriting activity of both companies, and Donegal Mutual and Atlantic States share proportionately any adverse risk
development relating to the pooled business. The business in the pool is homogeneous and each company has a pro-rata share
of the entire pool. Since the predominant percentage of the business of Atlantic States and Donegal Mutual is pooled and the
results shared by each company according to its participation level under the terms of the pooling agreement, the intent of the
underwriting pool is to produce a more uniform and stable underwriting result from year to year for each company than either
would experience individually and to spread the risk of loss between the companies.
Donegal Mutual and our insurance subsidiaries operate together as the Donegal Insurance Group and share a combined
business plan designed to achieve market penetration and underwriting profitability objectives. The products our insurance
subsidiaries and Donegal Mutual offer are generally complementary, thereby allowing Donegal Insurance Group to offer a
broader range of products to a given market and to expand Donegal Insurance Group’s ability to service an entire personal lines
or commercial lines account. Distinctions within the products of Donegal Mutual and our insurance subsidiaries generally relate
to specific risk profiles targeted within similar classes of business, such as preferred tier products compared to standard tier
products, but we do not allocate all of the standard risk gradients to one company. Therefore, the underwriting profitability of
the business the individual companies write directly will vary. However, because the pool homogenizes the risk characteristics
of the predominant percentage of the business Donegal Mutual and Atlantic States write directly and each company shares the
underwriting results according to each company’s participation percentage, each company realizes its percentage share of the
underwriting results of the pool.
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 $20.0 million, $18.0 million and $16.8 million at December 31, 2018,
2017 and 2016, respectively.
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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,
2018
2017
2016
Gross liability for unpaid losses and loss expenses at beginning of year
$
676,672
$
606,665
$
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 expense 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
293,271
383,401
259,147
347,518
35,631
576,458
308,578
175,883
484,461
475,398
339,267
6,621
487,268
288,380
163,005
451,385
383,401
293,271
Gross liability for unpaid losses and loss expenses at end of year
$
814,665
$
676,672
$
540,827
480,647
420,327
578,205
256,151
322,054
2,989
423,316
248,106
149,746
397,852
347,518
259,147
606,665
The following table sets forth the development of the liability for net unpaid losses and loss expenses of our insurance
subsidiaries from 2008 to 2018. 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 2008 liability has developed a
deficiency after ten years because we expect the re-estimated net losses and loss expenses to be $6.5 million more than the
estimated liability we initially established in 2008 of $161.3 million.
The “Cumulative deficiency (excess)” shows the cumulative deficiency or excess at December 31, 2018 of the liability
estimate shown on the top line of the corresponding column. 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. 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.
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 2008 column
indicates that at December 31, 2018 payments equal to $164.4 million of the currently re-estimated ultimate liability for net
losses and loss expenses of $167.8 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.
-16-
(in thousands)
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Year Ended December 31,
Net liability at end of
year for unpaid
losses and loss
expenses
Net liability re-
estimated as of:
$161,307
$180,262
$217,896
$243,015
$250,936
$265,605
$292,301
$322,054
$347,518
$383,401
$475,398
One year later
171,130
177,377
217,728
250,611
261,294
280,074
299,501
325,043
354,139
419,032
Two years later
167,446
177,741
217,355
255,612
268,877
281,782
299,919
329,115
375,741
Three years later
166,756
178,403
218,449
257,349
270,473
281,666
304,855
338,118
Four years later
166,852
179,909
218,514
256,460
270,794
284,429
307,840
Five years later
166,788
179,961
218,202
255,660
271,954
285,130
Six years later
166,964
179,858
217,430
256,388
272,553
Seven years later
167,425
179,996
217,703
257,132
Eight years later
167,732
180,130
218,173
Nine years later
167,508
180,487
Ten years later
167,829
Cumulative
deficiency
(excess)
Cumulative amount
of liability paid
through:
6,522
225
277
14,117
21,617
19,525
15,539
16,064
28,223
35,631
One year later
$ 79,592
$ 84,565
$ 96,202
$119,074
$126,677
$131,766
$131,779
$149,746
$163,005
$175,883
Two years later
116,035
123,204
148,140
181,288
191,208
194,169
206,637
228,506
250,678
Three years later
136,837
147,165
178,073
217,138
225,956
233,371
251,654
274,235
Four years later
148,243
161,363
195,948
234,392
245,094
255,451
274,248
Five years later
155,331
169,452
203,633
241,538
254,502
265,841
Six years later
160,324
173,153
206,731
245,774
259,437
Seven years later
162,531
174,376
209,527
248,195
Eight years later
163,432
175,662
210,982
Nine years later
163,870
176,514
Ten years later
164,408
(in thousands)
2010
2011
2012
2013
2014
2015
2016
2017
2018
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
$383,317
$442,408
$458,827
$495,619
$538,258
$578,205
$606,665
$676,672
$814,665
165,421
199,393
207,891
230,014
245,957
256,151
259,147
293,271
339,266
217,896
243,015
250,936
265,605
292,301
322,054
347,518
383,401
475,398
402,154
469,752
498,566
526,790
567,339
606,362
650,679
726,080
183,981
212,620
226,013
241,660
259,499
268,244
274,938
307,048
218,173
257,132
272,553
285,130
307,840
338,118
375,741
419,032
Gross cumulative
deficiency
(excess)
18,837
27,344
39,738
31,171
29,081
28,157
44,014
49,408
Third-Party Reinsurance
Our insurance subsidiaries and Donegal Mutual purchase certain third-party reinsurance on a combined basis. Through
December 31, 2018, Le Mars, MICO, Peninsula and Sheboygan also had separate third-party reinsurance programs that
provided certain coverage that was 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.
-17-
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 of $1.0 million for property losses and a retention of $2.0
million for casualty losses (including workers’ compensation losses); 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 of $10.0 million and after exceeding an annual aggregate deductible $1.2 million up to
aggregate losses of $190.0 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 $34.0 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 $58.0 million per occurrence over a set retention of $2.0 million. For workers’ compensation insurance,
our insurance subsidiaries have excess of loss treaties that provide for coverage of $13.0 million on any one life over a set
retention of $2.0 million.
Our insurance subsidiaries and Donegal Mutual also purchase facultative reinsurance to cover certain exposures, including
property exposures that exceed the limits provided by their respective treaty reinsurance.
Investments
At December 31, 2018, 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, 2018.
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, 2018:
(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, 2018
Amount
Percent
$
430,005
46.3%
18,229
191,082
143,801
144,236
2,004
929,357
$
2.0
20.5
15.5
15.5
0.2
100.0%
(1) Ratings assigned by Moody’s Investors Services, Inc. or Standard & Poor’s Corporation.
(2) Includes mortgage-backed securities of $309.6 million.
Our insurance subsidiaries invest in both taxable and tax-exempt securities as part of their strategy to maximize after-tax
income. Tax-exempt securities made up approximately 19.7%, 24.3% and 32.2% of the fixed-maturity securities in the
combined investment portfolios of our insurance subsidiaries at December 31, 2018, 2017 and 2016, respectively.
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The following table shows the classification of our investments and the investments of our insurance subsidiaries at
December 31, 2018, 2017 and 2016 (at carrying value):
2018
December 31,
2017
2016
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 $
76,223
7.4% $
71,736
7.1% $
61,382
6.5%
Obligations of states and political subdivisions
Corporate securities
Mortgage-backed securities
Total held to maturity
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
Total available for sale
Total fixed maturities
Equity securities(2)
Investment in affiliate(3)
Short-term investments(4)
Total investments
159,292
127,010
40,274
402,799
44,210
75,216
137,833
269,299
526,558
929,357
43,667
41,026
16,749
15.5
12.3
3.9
39.1
4.3
7.3
13.4
26.1
51.1
90.2
4.2
4.0
1.6
137,581
108,025
49,313
366,655
44,049
132,117
105,740
257,040
538,946
905,601
50,445
38,774
11,050
13.7
10.7
4.9
36.4
4.4
13.1
10.5
25.6
53.6
90.0
5.0
3.9
1.1
122,793
91,555
60,371
336,101
38,588
186,083
87,456
202,948
515,075
851,176
47,088
37,885
9,371
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
$1,030,799
100.0% $1,005,870
100.0% $ 945,520
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 $405.0 million at December 31, 2018, $380.5 million at December 31, 2017 and
$344.6 million at December 31, 2016. The amortized cost of fixed maturities we classified as available for sale was $535.1 million
at December 31, 2018, $538.4 million at December 31, 2017 and $511.6 million at December 31, 2016.
(2) We value equity securities at fair value. Total cost of equity securities was $40.9 million at December 31, 2018, $44.2 million at
December 31, 2017 and $42.4 million at December 31, 2016.
(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.
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The following table sets forth the maturities (at carrying value) in the fixed maturity portfolio of our insurance subsidiaries
at December 31, 2018, 2017 and 2016:
(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
2018
Percent
of
Total
Amount
December 31,
2017
Percent
of
Total
Amount
2016
Percent
of
Total
Amount
$
39,282
4.2% $
53,826
6.0% $
44,120
5.2%
74,773
84,987
256,267
117,875
46,600
309,573
8.1
9.1
27.6
12.7
5.0
33.3
74,140
82,476
221,904
131,531
35,371
306,353
8.2
9.1
24.5
14.5
3.9
33.8
90,018
67,640
197,967
148,959
39,153
263,319
10.6
7.9
23.3
17.5
4.6
30.9
$ 929,357
100.0% $ 905,601
100.0% $ 851,176
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
$309.6 million at December 31, 2018. The mortgage-backed securities consist primarily of investments in governmental agency
balloon pools with stated maturities between one and 39 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, 2018,
2017 and 2016:
(dollars in thousands)
Invested assets(1)
Investment income(2)
Average yield
Average tax-equivalent yield
Year Ended December 31,
2018
2017
2016
$ 1,018,334
$
975,695
$
923,171
26,908
23,527
22,633
2.6%
2.8
2.4%
2.8
2.5%
3.0
(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 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.
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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, 2018, 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
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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, 2018. 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 $11.0 million,
$13.0 million and $13.0 million in 2018, 2017 and 2016, respectively. At December 31, 2018, the amount of ordinary dividends
our insurance subsidiaries could pay to us during 2019, 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
$ 19,438,647
1,959,394
5,570,844
1,722,132
1,675,590
4,535,579
$ 34,902,186
Donegal Mutual Insurance Company
Donegal Mutual organized as a mutual fire insurance company in Pennsylvania in 1889. At December 31, 2018, Donegal
Mutual had admitted assets of $602.5 million and policyholders’ surplus of $280.4 million. At December 31, 2018, Donegal
Mutual had total liabilities of $322.1 million, including reserves for net losses and loss expenses of $169.2 million and
unearned premiums of $72.6 million. Donegal Mutual’s investment portfolio of $358.0 million at December 31, 2018 consisted
primarily of investment-grade bonds of $120.3 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, 2018, Donegal Mutual owned 9,851,025 shares, or
approximately 43%, of our Class A common stock, which Donegal Mutual carried on its books at $117.5 million, and
4,654,339 shares, or approximately 84%, of our Class B common stock, which Donegal Mutual carried on its books at
$55.5 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.
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 2018 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
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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 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, increasing loss severity and adverse weather conditions 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, lower
unemployment rates 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.
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
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 determine that their reserves are insufficient to cover their ultimate liability, they will increase
their 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
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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;
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, including the advent of autonomous vehicles, 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.
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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.
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;
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.
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The NAIC and state insurance regulators are re-examining existing laws and regulations, specifically focusing on:
•
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•
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. For example, our insurance subsidiaries were assessed approximately $800,000
in 2018 pursuant to the guaranty fund laws of Pennsylvania to assist in the payment of unpaid claims and related costs of
insolvent insurance companies in that state. 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.
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;
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• 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.
Donegal Mutual has sufficient voting power to determine the outcome of substantially 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 72% of the combined voting power of our
Class A common stock and our Class B common stock and has sufficient voting control to and has acted 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:
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•
•
•
•
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.
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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.
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 owns or controls insurance companies domiciled in Georgia and New Mexico. 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.
Our insurance subsidiaries currently conduct business in a limited number of states, with a concentration of business in
Pennsylvania, Michigan, Maryland, Virginia and Georgia. 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 22 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, Virginia and Georgia. 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
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:
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•
•
•
•
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 2019 without prior regulatory approval is approximately $34.9 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;
the need of the other insurer for additional capital that we did not anticipate at the time of the acquisition or affiliation;
and
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•
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.
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
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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 three-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, 2018, our insurance subsidiaries had approximately $137.8 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, 2018, MICO had approximately $65.6 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.
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.
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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 may encounter
difficulties as it implements new systems to modernize certain key infrastructure systems over the next several years. 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. Donegal Mutual could experience
technology system failures or other outages that would impact the availability of its information technology systems.
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.
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 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, 2018 was approximately
24,587 shares and approximately 707 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, New Mexico, 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
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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.
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 270,000
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 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, 2018, each of whom has served with us for more than 10 years:
Name
Kevin G. Burke
Cyril J. Greenya
Richard G. Kelley
Jeffrey D. Miller
Sanjay Pandey
Robert G. Shenk
Daniel J. Wagner
Age
53
74
64
54
52
65
58
Position
President and Chief Executive Officer of Donegal Mutual since 2018; President
and Chief Executive Officer of us since 2015; Executive Vice President and Chief
Operating Officer of Donegal Mutual from 2014 to 2018; 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.
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.
Senior Vice President and Head of Field Operations of Donegal Mutual and us
since 2018; Senior Vice President of Donegal Mutual from 2007 to 2018; other
positions from 2000 to 2007.
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.
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.
Senior Vice President, Claims, of Donegal Mutual and us since 1997; other
positions from 1986 to 1997; retiring in March 2019.
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.
At the close of business on March 1, 2019, we had approximately 1,843 holders of record of our Class A common stock
and approximately 274 holders of record of our Class B common stock.
We declared dividends of $0.57 per share on our Class A common stock and $0.50 per share on our Class B common stock
in 2018, compared to $0.56 per share on our Class A common stock and $0.49 per share on our Class B common stock in 2017.
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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, 2013 and ending on December 31, 2018, 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, 2013, assuming reinvestment of all dividends.
2013
2014
Donegal Group Inc. Class A
$100.00
$104.03
Donegal Group Inc. Class B
Russell 2000 Index
Peer Group
100.00
100.00
100.00
92.69
103.53
107.17
2015
$94.96
72.90
97.62
124.80
2016
2017
2018
$122.20
$125.13
$102.59
72.34
116.63
159.77
71.49
131.96
174.21
57.53
115.89
186.53
Value Line, Inc. 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.
-36-
Item 6. Selected Financial Data.
Year Ended December 31,
2018
2017
2016
2015
2014
Income Statement Data
Premiums earned
Investment income, net
Investment (losses) gains
Total revenues
(Loss) income before income tax
(benefit) expense
$ 741,290,873 $ 702,514,755 $ 656,204,797 $ 605,640,728 $ 556,497,535
26,907,656
23,527,304
22,632,730
20,949,698
18,344,382
(4,801,509)
5,705,255
2,525,575
1,934,424
3,134,081
771,828,320
739,026,537
688,423,020
636,387,263
586,547,742
(48,236,849)
12,114,462
41,328,407
27,592,268
16,282,817
Income tax (benefit) expense
(15,476,509)
4,998,362
10,527,270
6,602,235
1,743,799
Net (loss) income
(32,760,340)
7,116,100
30,801,137
20,990,033
14,539,018
Basic (loss) earnings per share -
Class A
Diluted (loss) earnings per share -
Class A
Cash dividends per share - Class A
Basic (loss) earnings per share -
Class B
Diluted (loss) earnings per share -
Class B
Cash dividends per share - Class B
Balance Sheet Data at Year End
(1.18)
(1.18)
0.57
(1.09)
(1.09)
0.50
0.27
0.26
0.56
0.22
0.22
0.49
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
Total investments
Total assets
Debt obligations
Stockholders’ equity
Book value per share
$1,030,798,566 $1,005,869,705 $ 945,519,655 $ 900,822,274 $ 832,941,077
1,832,078,267 1,737,919,778 1,623,131,037 1,537,834,415 1,458,654,644
65,000,000
64,000,000
74,000,000
86,000,000
58,500,000
398,869,901
448,696,104
438,615,320
408,388,568
416,134,643
14.05
15.95
16.21
15.66
15.40
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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.
During 2018, we and Donegal Mutual implemented a number of actions to improve our financial results and enhance our
operations in the future. Those actions included implementing premium rate increases in many of our operating states and
business lines, strengthening our loss reserves in response to changing loss reporting and litigation trends, entering into a
transfer agreement to facilitate an orderly exit from the personal lines markets in seven states where we projected continuing
underwriting losses, consolidating a regional branch office into our home office, consolidating our reinsurance program for
2019 and initiating a multi-year systems modernization project.
At December 31, 2018, we owned 48.2% of the outstanding stock of Donegal Financial Services Corporation (“DFSC”), a
grandfathered unitary savings and loan holding company, and Donegal Mutual owned the remaining 51.8% of the outstanding
stock of DFSC. We and Donegal Mutual Insurance Company sold DFSC to Northwest Bancshares, Inc. (“Northwest”) on
March 8, 2019, resulting in proceeds valued at approximately $85.8 million in a combination of cash and Northwest common
stock. Immediately prior to the closing of the merger, DFSC paid a dividend of approximately $29.2 million to us and Donegal
Mutual. As the owner of 48.2% of DFSC’s common stock, we received a dividend payment from DFSC of approximately $14.1
million and consideration from Northwest valued at approximately $41.4 million. We will record a gain from the sale of DFSC
in our results of operations for the first quarter of 2019. This transaction represented the culmination of a banking strategy that
began with the formation of DFSC in 2000. We and Donegal Mutual will utilize proceeds from the sale of DFSC to support
expansion of our combined property and casualty insurance operations.
At December 31, 2018, Donegal Mutual held approximately 43% of our outstanding Class A common stock and
approximately 84% of our outstanding Class B common stock. This ownership provides Donegal Mutual with approximately
72% 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.
In July 2013, our board of directors authorized a share repurchase program pursuant to which we have the authority to
purchase up to 500,000 additional shares of our Class A common stock at prices prevailing from time to time in the open
market subject to the provisions of the SEC Rule 10b-18 and in privately negotiated transactions. We did not purchase any
shares of our Class A common stock under this program during 2018 or 2017. We have purchased a total of 57,658 shares of
our Class A common stock under this program from its inception through December 31, 2018.
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.
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Our insurance subsidiaries make estimates and assumptions that can have a significant effect on amounts and disclosures
we report in our financial statements. The most significant estimates relate to the reserves of our insurance subsidiaries for
property and casualty insurance unpaid losses and loss expenses. While we believe our estimates and the estimates of our
insurance subsidiaries are appropriate, the ultimate amounts may differ from the estimates we provided. We regularly review
our methods for making these estimates, and we reflect any adjustment we consider necessary in our results of operations for
the period in which we make an adjustment.
Liability for Losses and Loss Expenses
Liabilities for losses and loss expenses are estimates at a given point in time of the amounts an insurer expects to pay
with respect to incurred policyholder claims based on facts and circumstances the insurer knows at that point in time. At the
time of establishing its estimates, an insurer recognizes that its ultimate liability for losses and loss expenses will exceed or be
less than such estimates. Our insurance subsidiaries base their estimates of liabilities for losses and loss expenses on
assumptions as to future loss trends, expected claims severity, judicial theories of liability and other factors. However, during
the loss adjustment period, our insurance subsidiaries may learn additional facts regarding individual claims, and, consequently,
it often becomes necessary for our insurance subsidiaries to refine and adjust their estimates for these liabilities. We reflect any
adjustments to the liabilities for losses and loss expenses of our insurance subsidiaries in our consolidated results of operations
in the period in which our insurance subsidiaries make adjustments to their estimates.
Our insurance subsidiaries maintain liabilities for the payment of losses and loss expenses with respect to both reported
and unreported claims. Our insurance subsidiaries establish these liabilities for the purpose of covering the ultimate costs of
settling all losses, including investigation and litigation costs. Our insurance subsidiaries base the amount of their liability for
reported losses primarily upon a case-by-case evaluation of the type of risk involved, knowledge of the circumstances
surrounding each claim and the insurance policy provisions relating to the type of loss the policyholder incurred. Our insurance
subsidiaries determine the amount of their liability for unreported claims and loss expenses on the basis of historical
information by line of insurance. Our insurance subsidiaries account for inflation in the reserving function through analysis of
costs and trends and reviews of historical reserving results. Our insurance subsidiaries monitor their liabilities closely and
recompute them periodically using new information on reported claims and a variety of statistical techniques. Our insurance
subsidiaries do not discount their liabilities for losses and loss expenses.
Reserve estimates can change over time because of unexpected changes in assumptions related to our insurance
subsidiaries’ external environment and, to a lesser extent, assumptions related to our insurance subsidiaries’ internal operations.
For example, our insurance subsidiaries have experienced an increase in claims severity and a lengthening of the claim
settlement periods on bodily injury claims during the past several years. These trend changes give rise to greater uncertainty as
to the pattern of future loss settlements on bodily injury claims. Related uncertainties regarding future trends include the cost of
medical technologies and procedures and changes in the utilization of medical procedures. Assumptions related to our
insurance subsidiaries’ external environment include the absence of significant changes in tort law and the legal environment
that increase liability exposure, consistency in judicial interpretations of insurance coverage and policy provisions and the rate
of loss cost inflation. Internal assumptions include consistency in the recording of premium and loss statistics, consistency in
the recording of claims, payment and case reserving methodology, accurate measurement of the impact of rate changes and
changes in policy provisions, consistency in the quality and characteristics of business written within a given line of business
and consistency in reinsurance coverage and collectability of reinsured losses, among other items. To the extent our insurance
subsidiaries determine that underlying factors impacting their assumptions have changed, our insurance subsidiaries make
adjustments in their reserves that they consider appropriate for such changes. Accordingly, our insurance subsidiaries’ ultimate
liability for unpaid losses and loss expenses will likely differ from the amount recorded at December 31, 2018. 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 $4.8 million.
The establishment of appropriate liabilities is an inherently uncertain process and we can provide no assurance that our
insurance subsidiaries’ ultimate liability will not exceed our insurance subsidiaries’ loss and loss expense reserves and have an
adverse effect on our results of operations and financial condition. Furthermore, we cannot predict the timing, frequency and
extent of adjustments to our insurance subsidiaries’ estimated future liabilities, because the historical conditions and events that
serve as a basis for our insurance subsidiaries’ estimates of ultimate claim costs may change. As is the case for substantially all
property and casualty insurance companies, our insurance subsidiaries have found it necessary in the past to increase their
estimated future liabilities for losses and loss expenses in certain periods and, in other periods, their estimated future liabilities
for losses and loss expenses have exceeded their actual liabilities for losses and loss expenses. Changes in our insurance
subsidiaries’ estimates of their liability for losses and loss expenses generally reflect actual payments and their evaluation of
information received subsequent to the prior reporting period. During 2018, our insurance subsidiaries received new
information on previously-reported commercial automobile and personal automobile claims that led our insurance subsidiaries
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to conclude that their prior actuarial assumptions did not fully anticipate recent changes in severity and reporting trends. Our
insurance subsidiaries have encountered increasing difficulties in projecting the ultimate severity of automobile losses over
recent accident years, which our insurance subsidiaries attribute to worsening litigation trends and an increased delay in the
reporting to our insurance subsidiaries of information with respect to the severity of claims. As a result, our insurance
subsidiaries' actuaries increased their projections of the ultimate cost of our insurance subsidiaries' prior-year personal
automobile and commercial automobile losses.
Our insurance subsidiaries recognized an increase in their liability for losses and loss expenses of prior years of $35.6
million, $6.6 million and $3.0 million in 2018, 2017 and 2016, respectively. Our insurance subsidiaries made no significant
changes in their reserving philosophy or claims management personnel, and they have made no significant offsetting changes in
estimates that increased or decreased their loss and loss expense reserves in these years. The 2018 development represented
9.3% of the December 31, 2017 net carried reserves and resulted primarily from higher-than-expected severity in the
commercial multiple peril, personal automobile and commercial automobile lines of business, offset by lower-than-expected
severity in the workers’ compensation line of business, in accident years prior to 2018. The majority of the 2018 development
related to increases in the liability for losses and loss expenses of prior years for Atlantic States, Southern and Peninsula. The
2017 development represented 1.9% of the December 31, 2016 net carried reserves and resulted primarily from higher-than-
expected severity in the commercial multiple peril, personal automobile and commercial automobile lines of business, offset by
lower-than-expected severity in the workers’ compensation line of business, in accident years prior to 2017. The majority of the
2017 development related to increases in the liability for losses and loss expenses of prior years for Atlantic States and
Peninsula. 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.
Excluding the impact of severe weather events, our insurance subsidiaries have noted stable amounts in the number of
claims incurred and the number of claims outstanding at period ends relative to their premium base in recent years across most
of their lines of business. However, the amount of the average claim outstanding has increased gradually over the past several
years due to various factors such as rising medical loss costs and increased litigation trends. We have also experienced a general
slowing of settlement rates in litigated claims. Our insurance subsidiaries could have to make further adjustments to their
estimates in the future. However, on the basis of our insurance subsidiaries’ internal procedures, which analyze, among other
things, their prior assumptions, their experience with similar cases and historical trends such as reserving patterns, loss
payments, pending levels of unpaid claims and product mix, as well as court decisions, economic conditions and public
attitudes, we believe that our insurance subsidiaries have made adequate provision for their liability for losses and loss
expenses.
Atlantic States’ participation in the pool with Donegal Mutual exposes Atlantic States to adverse loss development on the
business of Donegal Mutual that the pool includes. However, pooled business represents the predominant percentage of the net
underwriting activity of both companies, and Donegal Mutual and Atlantic States share proportionately any adverse risk
development relating to the pooled business. The business in the pool is homogeneous and each company has a pro-rata share
of the entire pool. Since the predominant percentage of the business of Atlantic States and Donegal Mutual is pooled and the
results shared by each company according to its participation level under the terms of the pooling agreement, the intent of the
underwriting pool is to produce a more uniform and stable underwriting result from year to year for each company than either
would experience individually and to spread the risk of loss between the companies.
Donegal Mutual and our insurance subsidiaries operate together as the Donegal Insurance Group and share a combined
business plan designed to achieve market penetration and underwriting profitability objectives. The products our insurance
subsidiaries and Donegal Mutual offer are generally complementary, thereby allowing Donegal Insurance Group to offer a
broader range of products to a given market and to expand Donegal Insurance Group’s ability to service an entire personal lines
or commercial lines account. Distinctions within the products of Donegal Mutual and our insurance subsidiaries generally
relate to specific risk profiles targeted within similar classes of business, such as preferred tier products compared to standard
tier products, but we do not allocate all of the standard risk gradients to one company. Therefore, the underwriting profitability
of the business the individual companies write directly will vary. However, because the pool homogenizes the risk
characteristics of the predominant percentage of the business Donegal Mutual and Atlantic States write directly and each
company shares the underwriting results according to each company’s participation percentage, each company realizes its
percentage share of the underwriting results of the pool.
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Our insurance subsidiaries’ liability for losses and loss expenses by major line of business at December 31, 2018 and 2017
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
2018
2017
(in thousands)
$ 106,734
$
74,299
109,512
85,937
5,207
307,390
144,788
18,374
4,846
168,008
475,398
339,267
103,318
71,011
4,119
252,747
110,512
18,508
1,634
130,654
383,401
293,271
Total liability for losses and loss expenses
$ 814,665
$ 676,672
The substantial increases in reserves in 2018 compared to 2017 reflected changes in actuarial assumptions that resulted in
higher projections of the ultimate cost of our insurance subsidiaries’ losses for claims that occurred in 2018 and prior years.
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, 2018
Percentage Change in
Equity at
December 31, 2018(1)
(dollars in thousands)
Adjusted Loss and Loss
Expense Reserves Net of
Reinsurance at
December 31, 2017
Percentage Change in
Equity at
December 31, 2017(1)
-10.0%
$427,858
9.4%
$345,061
6.8%
-7.5
-5.0
-2.5
Base
2.5
5.0
7.5
10.0
439,743
451,628
463,513
475,398
487,283
499,168
511,053
522,938
(1) Net of income tax effect.
7.1
4.7
2.4
—
-2.4
-4.7
-7.1
-9.4
354,646
364,231
373,816
383,401
392,986
402,571
412,156
421,741
5.1
3.4
1.7
—
-1.7
-3.4
-5.1
-6.8
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
-41-
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, 2018, the actuaries developed a range from a
low of $436.1 million to a high of $518.3 million and with a most-likely number of $475.4 million. The actuaries’ range of
estimates for commercial lines in 2018 was $282.0 million to $335.0 million, and the actuaries selected the most-likely number
of $307.4 million. The actuaries’ range of estimates for personal lines in 2018 was $154.0 million to $183.2 million, and the
actuaries selected the most-likely number of $168.0 million. For the year ended December 31, 2017, the actuaries developed a
range from a low of $353.0 million to a high of $416.5 million and with a most-likely number of $383.4 million. The actuaries’
range of estimates for commercial lines in 2017 was $232.8 million to $274.5 million, and the actuaries selected the most-likely
number of $252.7 million. The actuaries’ range of estimates for personal lines in 2017 was $120.2 million to $142.0 million,
and the actuaries selected the most-likely number of $130.7 million. The substantial increases in the actuaries' range of
estimates in 2018 compared to 2017 reflected changes in actuarial assumptions that resulted in higher projections of the
ultimate cost of our insurance subsidiaries’ losses for claims that occurred in 2018 and prior years.
Our insurance subsidiaries seek to enhance their underwriting results by carefully selecting the product lines they
underwrite. For personal lines products, our insurance subsidiaries insure standard and preferred risks in private passenger
automobile and homeowners lines. For commercial lines products, the commercial risks that our insurance subsidiaries
primarily insure are business offices, wholesalers, service providers, contractors, artisans and light manufacturing operations.
Our insurance subsidiaries have limited exposure to asbestos and other environmental liabilities. Our insurance subsidiaries
write no medical malpractice liability risks. Through the consistent application of this disciplined underwriting philosophy, our
insurance subsidiaries have avoided many of the “long-tail” issues other insurance companies have faced. We consider workers’
compensation to be a “long-tail” line of business, in that workers’ compensation claims tend to be settled over a longer time
frame than those in the other lines of business of our insurance subsidiaries.
The following table presents 2018 and 2017 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
Management Evaluation of Operating Results
For the Year Ended December 31,
2018
2017
2,906
6,475
6,479
2,902
2,710
6,348
6,152
2,906
$
43,129 $
9,226
41,970
9,474
Despite challenging insurance market conditions, increasing casualty loss severity trends and unusually adverse weather
conditions that affected our results in recent years, we believe that the corrective measures and strategic initiatives we
implemented in 2018 have positioned us well for 2019 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
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. Because our insurance subsidiaries do not prepare GAAP financial
statements, we evaluate the performance of our personal lines and commercial lines segments utilizing statutory accounting
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practices (“SAP”), which include financial measures that reflect the growth trends and underwriting results 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,
2018
2017
2016
$ 249,275
$ 255,297
$ 229,789
123,782
21,064
394,121
108,123
109,022
117,509
15,241
349,895
125,054
19,672
400,023
99,333
109,884
110,313
9,586
329,116
122,811
19,057
371,657
87,849
108,349
104,728
9,451
310,377
Total net premiums written
$ 744,016
$ 729,139
$ 682,034
Components of combined ratio:
Loss ratio
Expense ratio
Dividend ratio
Combined ratio
Revenues:
Premiums earned:
Personal lines
Commercial lines
Total premiums earned
Net investment income
Investment (losses) gains
Equity in earnings of DFSC
Other
Total revenues
77.8%
31.6
0.7
69.4%
32.9
0.7
110.1%
103.0%
64.5%
33.0
0.6
98.1%
$ 403,367
$ 384,124
$ 361,128
337,924
741,291
26,908
(4,802)
2,694
318,391
702,515
23,527
5,705
1,622
295,077
656,205
22,633
2,526
1,086
5,737
$ 771,828
5,658
$ 739,027
5,973
$ 688,423
The loss ratio and, consequently, the combined ratio for 2018 reflected the impact of weather-related losses that exceeded
our historical norms. In addition, losses incurred in 2018 reflected substantial increases in reserves related to changes in
actuarial assumptions that resulted in higher projections of the ultimate cost of our insurance subsidiaries’ losses for claims that
occurred in 2018 and prior years. We also primarily attribute our insurance subsidiaries’ underwriting losses and our net loss
for 2018 to those factors.
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(in thousands)
Components of net income:
Underwriting (loss) income:
Personal lines
Commercial lines
SAP underwriting (loss) income
GAAP adjustments
GAAP underwriting (loss) income
Net investment income
Investment (losses) gains
Equity in earnings of DFSC
Other
(Loss) income before income tax (benefit) expense
Income tax (benefit) expense
Net (loss) income
Non-GAAP Information
Year Ended December 31,
2018
2017
2016
$
$
(53,590) $
(22,059)
(75,649)
894
(74,755)
26,908
(4,802)
2,694
1,718
(48,237)
(15,477)
(32,760) $
(39,042) $
13,263
(25,779)
4,408
(21,371)
23,527
5,705
1,622
2,631
12,114
4,998
7,116
$
(10,745)
18,284
7,539
4,642
12,181
22,633
2,526
1,086
2,902
41,328
10,527
30,801
We prepare our consolidated financial statements on the basis of GAAP. Our insurance subsidiaries also prepare financial
statements based on SAP. SAP financial measures are considered non-GAAP financial measures under applicable SEC rules
because the SAP financial measures include or exclude certain items that the most comparable GAAP financial measures do not
ordinarily include or exclude. Our calculation of non-GAAP financial measures may differ from similar measures other
companies use. As a result, investors should exercise caution when comparing our non-GAAP financial measures to the non-
GAAP financial measures other companies use. The SAP financial measures we utilize are net premiums written and statutory
combined ratio.
Net Premiums Written
We define net premiums written as the amount of full-term premiums our insurance subsidiaries record for policies
effective within a given period less premiums our insurance subsidiaries cede to reinsurers. Net premiums earned is the most
comparable GAAP financial measure to net premiums written. Net premiums earned represent the sum of the amount of net
premiums written and the change in net unearned premiums during a given period. Our insurance subsidiaries earn premiums
and recognize them as revenue over the terms of their policies, which are one year or less in duration. Therefore, increases or
decreases in net premiums earned generally reflect increases or decreases in net premiums written in the preceding 12-month
period compared to the comparable period one year earlier.
The following table provides a reconciliation of our net premiums earned to our net premiums written for 2018, 2017 and
2016:
Year Ended December 31,
2018
2017
2016
Net premiums earned
Change in net unearned premiums
Net premiums written
$ 741,290,873
2,724,931
$ 744,015,804
$ 702,514,755
26,624,163
$ 729,138,918
$ 656,204,797
25,829,042
$ 682,033,839
The decrease in the change in net unearned premiums for 2018 compared to 2017 reflects lower growth in net premiums
written during 2018, which we attribute primarily to net attrition in our personal lines segment that resulted from increased
pricing on renewal policies and underwriting measures our insurance subsidiaries implemented to slow new policy growth.
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Statutory Combined Ratio
The combined ratio is a standard measurement of underwriting profitability for an insurance company. The combined ratio
does not reflect investment income, net investment gains or losses, federal income taxes or other non-operating income or expense.
A combined ratio of less than 100% generally indicates underwriting profitability.
The statutory combined ratio is a non-GAAP financial measure that is based upon amounts determined under SAP. We
calculate our statutory combined ratio as the sum of:
•
•
•
the statutory loss ratio, which is the ratio of calendar-year net incurred losses and loss expenses to net premiums earned;
the statutory expense ratio, which is the ratio of expenses incurred for net commissions, premium taxes and underwriting
expenses to net premiums written; and
the statutory dividend ratio, which is the ratio of dividends to holders of workers’ compensation policies to net premiums
earned.
The calculation of our statutory combined ratio differs from the calculation of our GAAP combined ratio. In calculating our
GAAP combined ratio, we do not deduct installment payment fees from incurred expenses, and we base the expense ratio on net
premiums earned instead of net premiums written. Differences between our GAAP loss ratio and our statutory loss ratio result
from anticipating salvage and subrogation recoveries for our GAAP loss ratio but not for our statutory loss ratio.
The following table presents comparative details with respect to our GAAP and statutory combined ratios for the years
ended December 31, 2018, 2017 and 2016:
GAAP Combined Ratios (Total Lines)
Loss ratio (non-weather)
Loss ratio (weather-related)
Expense ratio
Dividend ratio
Combined ratio
Statutory Combined Ratios
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
Year Ended December 31,
2018
2017
2016
69.0%
8.8
31.6
0.7
110.1%
133.3%
86.6
98.1
54.6
103.8
117.4
110.5
96.4
114.1
109.4
61.1%
8.3
32.9
0.7
103.0%
115.0%
79.0
96.7
10.2
93.6
109.3
109.9
90.8
108.5
101.7
58.8%
5.7
33.0
0.6
98.1%
110.8%
83.8
87.7
18.3
90.7
106.7
95.5
86.3
101.8
96.8
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Results of Operations
YEAR ENDED DECEMBER 31, 2018 COMPARED TO YEAR ENDED DECEMBER 31, 2017
Net Premiums Earned
Our insurance subsidiaries’ net premiums earned increased to $741.3 million for 2018, an increase of $38.8 million, or
5.5%, over 2017, reflecting increases in net premiums written during 2017 and 2018. Our insurance subsidiaries earn premiums
and recognize them as income over the terms of the policies they issue. Such terms are generally one year or less in duration.
Therefore, increases or decreases in net premiums earned generally reflect increases or decreases in net premiums written in the
preceding twelve-month period compared to the same period one year earlier.
Net Premiums Written
Our insurance subsidiaries’ 2018 net premiums written increased 2.0% to $744.0 million, compared to $729.1 million for
2017. We attribute the increase primarily to the impact of premium rate increases and an increase in the writing of new
accounts in commercial lines of business. Commercial lines net premiums written increased $20.8 million, or 6.3%, for 2018
compared to 2017. The increase was primarily attributable to premium rate increases and increased writings of new accounts in
the commercial automobile and commercial multi-peril lines of business. Personal lines net premiums written decreased
$5.9 million, or 1.5%, for 2018 compared to 2017. We attribute the decrease in personal lines primarily to net attrition that
resulted from increased pricing on renewal policies and underwriting measures our insurance subsidiaries have implemented to
slow new policy growth.
Investment Income
For 2018, our net investment income increased to $26.9 million, an increase of $3.4 million, or 14.4%, over 2017. We
attribute the increase primarily to an increase in average invested assets.
Net Investment (Losses) Gains
Our net investment (losses) gains in 2018 and 2017 were ($4.8 million) and $5.7 million, respectively. The net investment
losses for 2018 were primarily related to a decrease in the market value of the equity securities we held at December 31, 2018.
We adopted new accounting guidance effective January 1, 2018 that requires us to measure equity investments at fair value and
recognize changes in fair value in our results of operations. The net investment gains for 2017 resulted primarily from strategic
sales of equity securities within our investment portfolio and unrealized gains within a limited partnership that invests in equity
securities. We did not recognize any impairment losses during 2018 or 2017.
Equity in Earnings of DFSC
Our equity in the earnings of DFSC in 2018 and 2017 was $2.7 million and $1.6 million, respectively. We attribute the
increase in DFSC’s earnings primarily to higher net interest income related to loan portfolio growth that DFSC achieved during
2018.
Losses and Loss Expenses
Our insurance subsidiaries’ loss ratio, which is the ratio of incurred losses and loss expenses to premiums earned, was
77.8% in 2018, compared to 69.4% in 2017. Our insurance subsidiaries’ commercial lines loss ratio increased to 72.9% in
2018, compared to 62.0% in 2017. This increase resulted primarily from the commercial automobile loss ratio increasing to
101.9% in 2018, compared to 80.3% in 2017, and the commercial multi-peril loss ratio increasing to 67.0% in 2018, compared
to 64.6% in 2017. The personal lines loss ratio was 81.8% in 2018 compared to 75.5% in 2017. Our insurance subsidiaries
experienced unfavorable loss reserve development of approximately $35.6 million during 2018 in their reserves for prior
accident years, compared to approximately $6.6 million during 2017. The unfavorable loss reserve development resulted
primarily from higher-than-expected severity in the commercial multiple peril, personal automobile and commercial
automobile lines of business, offset by lower-than-expected severity in the workers’ compensation line of business.
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Underwriting Expenses
Our insurance subsidiaries’ expense ratio, which is the ratio of policy acquisition and other underwriting expenses to
premiums earned, was 31.6% in 2018, compared to 32.9% in 2017. We attribute the decrease to lower underwriting-based
incentive compensation in 2018.
Combined Ratio
Our insurance subsidiaries’ combined ratio was 110.1% and 103.0% in 2018 and 2017, respectively. The combined ratio
represents the sum of the loss ratio, the expense ratio and the dividend ratio, which is the ratio of workers’ compensation policy
dividends incurred to premiums earned. We attribute the increase in our combined ratio primarily to the increase in our loss
ratio.
Interest Expense
Our interest expense in 2018 increased to $2.3 million, compared to $1.6 million in 2017. We attribute the increase to
higher interest rates in effect during 2018 compared to 2017.
Income Taxes
Our income tax benefit was $15.5 million in 2018, compared to income tax expense of $5.0 million in 2017. Our 2018
income tax benefit reflects our anticipation of an estimated carryback of our taxable loss in 2018 to prior tax years. Our 2017
income tax expense reflected additional tax expense of $4.8 million in 2017 related to the revaluation of our net deferred tax
assets pursuant to the Tax Cuts and Jobs Act (the “TCJA”).
Net (Loss) Income and (Loss) Earnings Per Share
Our net loss in 2018 was $32.8 million, or $1.18 per share of Class A common stock and $1.09 per share of Class B
common stock, compared to net income of $7.1 million, or $0.26 per share of Class A common stock on a diluted basis and
$0.22 per share of Class B common stock, in 2017. We had 22.8 million and 22.6 million Class A shares outstanding at
December 31, 2018 and 2017, respectively. We had 5.6 million Class B shares outstanding for both periods. There are no
outstanding securities that dilute our shares of Class B common stock.
Book Value Per Share
Our stockholders’ equity decreased by $49.8 million in 2018 as a result of our net loss, net unrealized losses within our
available-for-sale fixed maturity investments and dividends we declared to our stockholders during the year. Our book value
per share decreased to $14.05 at December 31, 2018, compared to $15.95 a year earlier.
YEAR ENDED DECEMBER 31, 2017 COMPARED TO YEAR ENDED DECEMBER 31, 2016
Net Premiums Earned
Our insurance subsidiaries’ net premiums earned increased to $702.5 million for 2017, an increase of $46.3 million, or
7.1%, over 2016, reflecting increases in net premiums written during 2016 and 2017. Our insurance subsidiaries earn premiums
and recognize them as income over the terms of the policies they issue. Such terms are generally one year or less in duration.
Therefore, increases or decreases in net premiums earned generally reflect increases or decreases in net premiums written in the
preceding twelve-month period compared to the same period one year earlier.
Net Premiums Written
Our insurance subsidiaries’ 2017 net premiums written increased 6.9% to $729.1 million, compared to $682.0 million for
2016. We attribute the increase primarily to the impact of premium rate increases and an increase in the writing of new
accounts in both personal and commercial lines of insurance. Commercial lines net premiums written increased $18.7 million,
or 6.0%, for 2017 compared to 2016. 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 $28.4 million, or 7.6%, for 2017 compared to 2016. We attribute the increase in personal
lines primarily to an increase in new business and premium rate increases our insurance subsidiaries implemented throughout
2016 and 2017.
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Investment Income
For 2017, our net investment income increased to $23.5 million, an increase of $894,574, or 4.0%, over 2016. 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 2017.
Net Investment Gains
Our net investment gains in 2017 and 2016 were $5.7 million and $2.5 million, respectively. The net investment gains for
2017 resulted primarily from strategic sales of equity securities within our investment portfolio and unrealized gains within a
limited partnership that invests in equity securities. The net investment gains in 2016 resulted from normal turnover within our
investment portfolio. We did not recognize any impairment losses during 2017 or 2016.
Equity in Earnings of DFSC
Our equity in the earnings of DFSC in 2017 and 2016 was $1.6 million and $1.1 million, respectively. We attribute the
increase in DFSC’s earnings primarily to higher net interest income related to loan portfolio growth that DFSC achieved during
2017.
Losses and Loss Expenses
Our insurance subsidiaries’ loss ratio, which is the ratio of incurred losses and loss expenses to premiums earned, was
69.4% in 2017, compared to 64.5% in 2016. Our insurance subsidiaries’ commercial lines loss ratio increased to 62.0% in
2017, compared to 59.6% in 2016. This increase resulted primarily from the commercial automobile loss ratio increasing to
80.3% in 2017, compared to 78.7% in 2016, and the commercial multi-peril loss ratio increasing to 64.6% in 2017, compared
to 54.4% in 2016. The personal lines loss ratio was 75.5% in 2017 compared to 68.5% in 2016. Our insurance subsidiaries
experienced unfavorable loss reserve development of approximately $6.6 million during 2017 in their reserves for prior
accident years, compared to approximately $3.0 million during 2016. The unfavorable loss reserve development resulted
primarily from higher-than-expected severity in the commercial multiple peril, personal automobile liability and commercial
automobile lines of business, offset by lower-than-expected severity in the workers’ compensation line of business.
Underwriting Expenses
Our insurance subsidiaries’ expense ratio, which is the ratio of policy acquisition and other underwriting expenses to
premiums earned, was 32.9% in 2017, compared to 33.0% in 2016. We attribute the decrease to lower underwriting-based
incentive compensation in 2017.
Combined Ratio
Our insurance subsidiaries’ combined ratio was 103.0% and 98.1% in 2017 and 2016, respectively. The combined ratio
represents the sum of the loss ratio, the expense ratio and the dividend ratio, which is the ratio of workers’ compensation policy
dividends incurred to premiums earned. We attribute the increase in our combined ratio primarily to the increase in our loss
ratio.
Interest Expense
Our interest expense in 2017 decreased to $1.6 million, compared to $1.7 million in 2016. We attribute the decrease to
lower average borrowings during 2017 compared to 2016.
Income Taxes
Our income tax expense was $5.0 million in 2017, compared to $10.5 million in 2016. Our effective tax rate for 2017 was
41.3%, compared to 25.5% for 2016. The increase in our 2017 effective tax rate was primarily due to additional tax expense of
$4.8 million related to the revaluation of our net deferred tax assets pursuant to the Tax Cuts and Jobs Act (the “TCJA”).
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Excluding the impact of the TCJA, our effective tax rate for 2017 was 2.0% due to tax-exempt interest income representing a
greater proportion of income before income tax expense in 2017 compared to 2016.
Net Income and Earnings Per Share
Our net income in 2017 was $7.1 million, or $.26 per share of Class A common stock on a diluted basis and $.22 per share
of Class B common stock, compared to $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, in 2016. We had 22.6 million and 21.5 million Class A shares outstanding at December 31,
2017 and 2016, 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 $10.1 million in 2017. Our book value per share decreased to $15.95 at
December 31, 2017, compared to $16.21 a year earlier. Our return on average equity was 1.6% for 2017, compared to 7.3% for
2016.
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 2018, 2017 and 2016
were $63.8 million, $81.0 million and $60.0 million, respectively.
In July 2018, 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. At December 31, 2018, we had $25.0 million in outstanding borrowings
and had the ability to borrow an additional $35.0 million at interest rates equal to M&T’s current prime rate or the then-current
LIBOR rate plus 2.25%. At December 31, 2018, the interest rate on our outstanding borrowings was 4.77%. The credit
agreement required our compliance with certain covenants. These covenants included minimum levels of our net worth,
leverage ratio, statutory surplus and the A.M. Best ratings of our insurance subsidiaries. We did not comply with the minimum
net worth and minimum interest coverage ratio covenants at December 31, 2018. We terminated this credit agreement and
entered into a new credit agreement with M&T in March 2019. The new credit agreement relates to a $30.0 million unsecured,
revolving line of credit. We transferred our $25.0 million outstanding borrowings to this new line of credit and have the ability
to borrow an additional $5.0 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. We pay a fee of 0.15% per annum on the loan
commitment amount regardless of usage. The new 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. In addition, Atlantic States has guaranteed our payment obligations under the new credit agreement. We complied
with all of the requirements of the new credit agreement as of the filing date of this Form 10-K Report.
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. Atlantic States had $35.0 million in outstanding advances at
December 31, 2018. The interest rate on the advances was 2.32% at December 31, 2018.
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The following table shows expected payments for our significant contractual obligations at December 31, 2018:
(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
$ 475,398 $ 221,400 $ 221,128 $
16,868
$
16,002
5,000
—
—
60,000
35,000
25,000
—
—
5,000
—
$ 540,398 $ 256,400 $ 246,128 $
16,868 $
21,002
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, 2018, our annual interest cost associated with our
borrowings under our lines of credit is approximately $2.2 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 $600,000.
The cash dividends we declared to our stockholders totaled $15.8 million, $15.0 million and $14.2 million in 2018, 2017
and 2016, 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, 2018. Amounts available for distribution to us as ordinary dividends from our insurance subsidiaries without prior approval
of insurance regulatory authorities in 2019 are $19.4 million from Atlantic States, $4.5 million from Southern, $2.0 million
from Le Mars, $1.7 million from Peninsula, $1.7 million from Sheboygan and $5.6 million from MICO, or a total of
approximately $34.9 million.
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Investments
At December 31, 2018 and 2017, our investment portfolio of primarily investment-grade bonds, common stock, short-term
investments and cash totaled $1.1 billion and $1.0 billion, respectively, representing 59.1% and 60.1%, respectively, of our total
assets. See “Business - Investments” for more information.
December 31,
2018
2017
Percent of
Percent of
Amount
Total
Amount
Total
(dollars in thousands)
Fixed maturities:
Total held to maturity
$
402,799
39.1% $ 366,655
36.4%
Total available for sale
Total fixed maturities
Equity securities
Investment in affiliate
Short-term investments
526,558
929,357
43,667
41,026
16,749
51.1
90.2
4.2
4.0
1.6
538,946
905,601
50,445
38,774
11,050
53.6
90.0
5.0
3.9
1.1
Total investments
$ 1,030,799
100.0% $1,005,870
100.0%
The carrying value of our fixed maturity investments represented 90.2% and 90.0% of our total invested assets at
December 31, 2018 and 2017, respectively.
Our fixed maturity investments consisted of high-quality marketable bonds, of which 99.8% were rated at investment-
grade levels at December 31, 2018 and 2017.
At December 31, 2018, the net unrealized loss on our available-for-sale fixed maturity investments, net of deferred taxes,
amounted to $6.8 million, compared to a net unrealized gain of $420,053 at December 31, 2017.
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 this
guidance replaced most existing GAAP revenue recognition guidance, the scope of the guidance excludes insurance contracts.
The new standard was effective on January 1, 2018. The standard permits the use of either the retrospective or the cumulative
effect transition method. Because the accounting for insurance contracts is outside of the scope of this standard, the adoption of
this guidance did not have a significant 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. This 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 was effective for annual and interim reporting periods beginning after December 15, 2017. As a result
of the adoption of this guidance on January 1, 2018, we transferred $4.9 million of net unrealized gains from accumulated other
comprehensive income (“AOCI”) to retained earnings. We recognized $1.2 million of gains and $4.4 million of losses on equity
securities held at December 31, 2018 in net investment losses for the year ended December 31, 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. This guidance also requires entities to make new
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judgments to identify leases. The guidance is effective for annual and interim reporting periods beginning after December 15,
2018 and permits early adoption. Our adoption of this guidance in 2019 will not 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 this 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 are in the process of evaluating the impact of the adoption of this guidance on our financial position, results of operations
and cash flows.
In January 2017, the FASB issued guidance that simplifies the measurement of goodwill by modifying the goodwill
impairment test previous guidance required. The guidance requires an entity to perform its annual or interim goodwill
impairment test by comparing the fair value of a reporting unit with its carrying amount and recognize impairment for the
amount by which the reporting unit’s carrying amount exceeds its fair value. The guidance is effective for annual and interim
reporting periods beginning after December 15, 2019 and permits early adoption. We do not expect the adoption of this
guidance to have a significant impact on our financial position, results of operations or cash flows.
In February 2018, the FASB issued updated guidance that allows entities to reclassify the stranded tax effects in AOCI
resulting from the Tax Cuts and Jobs Act of 2017 (the “TCJA”) from AOCI to retained earnings. Current guidance requires
entities to report the effect of a change in tax laws or tax rates on deferred tax balances in income from continuing operations in
the accounting period that includes the period of enactment, even if the entities originally charged or credited related income
tax effects directly to AOCI. If an entity elects to reclassify the stranded tax effects, the guidance requires the reclassification to
include the effect of the change in the U.S. federal corporate income tax rate on the gross deferred tax amounts and related
valuation allowances, if any, related to items in AOCI at the date of the enactment of TCJA. The guidance is effective for
annual and interim reporting periods beginning after December 15, 2018 and permits early adoption. We adopted this guidance
effective on the December 22, 2017 date of the enactment of the TCJA. The adoption of this guidance did not have a significant
impact on our financial position, results of operations or cash flows.
In August 2018, the FASB issued guidance that modifies disclosure requirements related to fair value measurements. The
guidance removes the requirements to disclose the amounts of, and reasons for, transfers between Level 1 and Level 2 of the
fair value hierarchy. The guidance is effective for annual and interim reporting periods beginning after December 15, 2019 and
permits early adoption. We do not expect the adoption of this guidance to 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.
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Principal cash flows and related weighted-average interest rates by stated maturity dates for the financial instruments we
held at December 31, 2018 that are sensitive to interest rates are as follows:
(in thousands)
Fixed-maturity and short-term investments:
2019
2020
2021
2022
2023
Thereafter
Total
Fair value
Debt:
2019
2020
Thereafter
Total
Fair value
Principal
Cash Flows
Weighted-
Average
Interest Rate
$
56,728
3.07%
2.63
3.37
2.99
2.93
3.49
2.32%
4.77
5.00
35,122
43,744
45,865
45,096
723,111
949,666
948,345
35,000
25,000
5,000
65,000
65,000
$
$
$
$
$
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
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
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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. West Bend terminated the trust agreement in 2018 as permitted under the terms
of the trust agreement when the obligations of West Bend under the trust agreement were equal to or less than $5.0 million.
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Item 8. Financial Statements and Supplementary Data.
Index to Consolidated Financial Statements and Schedule
Consolidated Balance Sheets
Consolidated Statements of (Loss) Income and Comprehensive (Loss) Income
Consolidated Statements of Stockholders’ Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
Schedule:
Schedule III — Supplementary Insurance Information
56
57
58
59
60
97
105
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Donegal Group Inc.
Consolidated Balance Sheets
December 31,
2018
2017
Assets
Investments
Fixed maturities
Held to maturity, at amortized cost (fair value $405,038,296 and $380,450,428) . . . . . $ 402,798,518
526,558,304
Available for sale, at fair value (amortized cost $535,112,451 and $538,414,337) . . . .
43,667,009
Equity securities, at fair value. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
41,025,975
Investment in Donegal Financial Services Corporation . . . . . . . . . . . . . . . . . . . . . . . . . . .
16,748,760
Short-term investments, at cost, which approximates fair value . . . . . . . . . . . . . . . . . . . .
1,030,798,566
Total investments. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
52,594,461
Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
6,561,199
Accrued investment income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
156,702,250
Premiums receivable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
343,369,065
Reinsurance receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
60,615,127
Deferred policy acquisition costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
13,069,755
Deferred tax asset, net. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
135,379,777
Prepaid reinsurance premiums . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
4,690,704
Property and equipment, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accounts receivable - securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
261,829
19,032,604
Federal income taxes recoverable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
5,625,354
Goodwill . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Other intangible assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
958,010
2,419,566
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total assets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,832,078,267
$ 366,655,077
538,946,050
50,445,243
38,773,420
11,049,915
1,005,869,705
37,833,435
6,553,121
160,406,432
298,342,563
60,289,860
7,128,843
135,032,641
7,280,415
180,525
10,935,105
5,625,354
958,010
1,483,769
$ 1,737,919,778
Liabilities and Stockholders’ Equity
Liabilities
Losses and loss expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 814,665,224
506,528,606
Unearned premiums . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
25,442,146
Accrued expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
3,882,193
Reinsurance balances payable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
60,000,000
Borrowings under lines of credit. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
3,948,484
Cash dividends declared to stockholders . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
5,000,000
Subordinated debentures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1,003,810
Accounts payable - securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
10,874,540
Due to affiliate. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1,863,363
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1,433,208,366
Total liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 676,671,727
503,456,541
28,033,776
4,116,159
59,000,000
3,841,820
5,000,000
—
7,314,368
1,789,283
1,289,223,674
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
25,819,341 and 25,564,481 shares and outstanding 22,816,753 and 22,561,893 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 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Retained earnings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Treasury stock, at cost. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total stockholders’ equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
56,492
261,258,423
(14,228,059)
192,751,208
(41,226,357)
398,869,901
Total liabilities and stockholders’ equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,832,078,267
56,492
255,401,558
(2,684,275)
236,893,041
(41,226,357)
448,696,104
$ 1,737,919,778
—
—
258,194
255,645
See accompanying notes to consolidated financial statements.
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Donegal Group Inc.
Consolidated Statements of (Loss) Income and Comprehensive (Loss) Income
Years Ended December 31,
2017
2016
2018
Statements of (Loss) Income
Revenues
Net premiums earned (includes affiliated reinsurance of $198,580,547,
$190,924,704 and $184,656,732 - see note 3). . . . . . . . . . . . . . . . . . . . . . $ 741,290,873
26,907,656
Investment income, net of investment expenses . . . . . . . . . . . . . . . . . . . . . .
Installment payment fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Lease income. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 702,514,755
$ 656,204,797
23,527,304
22,632,730
5,256,721
5,157,163
5,302,896
480,617
500,455
670,865
Net investment (losses) gains (includes ($499,244), $5,705,255 and
$2,525,575 accumulated other comprehensive income reclassification) .
Equity in earnings of Donegal Financial Services Corporation . . . . . . . . . .
Total revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
(4,801,509)
2,693,962
5,705,255
1,621,605
2,525,575
1,086,157
771,828,320
739,026,537
688,423,020
Expenses
Net losses and loss expenses (includes affiliated reinsurance of
$140,113,591, $114,865,113 and $102,124,332 - see note 3) . . . . . . . . . .
Amortization of deferred policy acquisition costs . . . . . . . . . . . . . . . . . . . .
Other underwriting expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Policyholder dividends . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Interest. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Other, net. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
(Loss) income before income tax (benefit) expense . . . . . . . . . . . . . . . . . . . . .
Income tax (benefit) expense (includes ($104,841), $1,939,787 and
$883,951 income tax (benefit) expense from reclassification items) . . . . . .
576,458,420
487,268,054
423,315,903
120,964,000
115,065,000
107,876,000
113,270,131
116,538,431
108,458,742
5,353,023
2,302,082
1,717,513
5,014,624
1,593,437
1,432,529
4,373,377
1,657,647
1,412,944
820,065,169
726,912,075
647,094,613
(48,236,849)
12,114,462
41,328,407
(15,476,509)
4,998,362
10,527,270
Net (loss) income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ (32,760,340) $
7,116,100
$ 30,801,137
Basic (loss) earnings per common share:
Class A common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $
Class B common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $
(1.18) $
(1.09) $
Diluted (loss) earnings per common share:
Class A common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $
Class B common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $
(1.18) $
(1.09) $
0.27
0.22
0.26
0.22
$
$
$
$
1.19
1.06
1.16
1.06
Statements of Comprehensive (Loss) Income
Net (loss) income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ (32,760,340) $
Other comprehensive (loss) income, net of tax
7,116,100
$ 30,801,137
Unrealized (loss) gain on securities:
Unrealized holding (loss) gain arising during the period, net of income
tax (benefit) expense of ($1,865,948), $1,964,385 and ($746,518) . . .
(7,019,532)
3,811,151
(1,386,391)
Reclassification adjustment for losses (gains) included in net (loss)
income, net of income tax (benefit) expense of ($104,841),
$1,939,787 and $883,951. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Other comprehensive (loss) income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Comprehensive (loss) income. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ (39,385,469) $
394,403
(6,625,129)
(3,765,468)
45,683
7,161,783
(1,641,624)
(3,028,015)
$ 27,773,122
See accompanying notes to consolidated financial statements.
-57-
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
Income (Loss)
Retained
Earnings
Treasury
Stock
Total
Stockholders’
Equity
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
685,720
30,801,137
(14,196,874)
(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
157,085
924,019
1,571
9,240
2,486,762
15,462,479
600,608
7,116,100
(15,041,051)
(600,608)
(475,687)
475,687
45,683
2,488,333
15,471,719
7,116,100
(15,041,051)
—
—
45,683
25,564,481
5,649,240
$255,645
$56,492
$255,401,558
$
(2,684,275) $ 236,893,041
$ (41,226,357) $448,696,104
174,899
79,961
1,749
800
2,469,220
2,853,111
534,534
(32,760,340)
(15,765,614)
(534,534)
(4,918,655)
4,918,655
2,470,969
2,853,911
(32,760,340)
(15,765,614)
—
—
(6,625,129)
(6,625,129)
25,819,341
5,649,240
$258,194
$56,492
$261,258,423
$ (14,228,059) $ 192,751,208
$ (41,226,357) $398,869,901
See accompanying notes to consolidated financial statements.
Balance, January 1,
2016 . . . . . . . . . .
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 . . . . . . . . . .
Issuance of
common stock
(stock
compensation
plans) . . . . . . . . .
Stock-based
compensation . . .
Net income . . . . . . .
Cash dividends . . . .
Grant of stock
options . . . . . . . .
Reclassification of
tax effects . . . . . .
Other
comprehensive
income . . . . . . . .
Balance,
December 31,
2017 . . . . . . . . . .
Issuance of
common stock
(stock
compensation
plans) . . . . . . . . .
Stock-based
compensation . . .
Net loss . . . . . . . . . .
Cash dividends . . . .
Grant of stock
options . . . . . . . .
Reclassification of
equity unrealized
gains . . . . . . . . . .
Other
comprehensive
loss . . . . . . . . . . .
Balance,
December 31,
2018 . . . . . . . . . .
-58-
Donegal Group Inc.
Consolidated Statements of Cash Flows
Years Ended December 31,
2017
2016
2018
Cash Flows from Operating Activities:
Net (loss) income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ (32,760,340) $
Adjustments to reconcile net (loss) income to net cash provided by
7,116,100
$ 30,801,137
operating activities:
Depreciation, amortization and other non-cash items . . . . . . . . . . . . . . . . .
Net investment losses (gains) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Equity in earnings of Donegal Financial Services Corporation . . . . . . . . .
6,609,632
4,801,509
(2,693,962)
6,109,869
(5,705,255)
(1,621,605)
6,587,282
(2,525,575)
(1,086,157)
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 to affiliate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Reinsurance balances payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Prepaid reinsurance premiums . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Current income taxes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Other, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Dividends received from Donegal Financial Services Corporation
Net adjustments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net cash provided by operating activities . . . . . . . . . . . . . . . . . . . . . . . . . .
137,993,497
3,072,065
(2,591,630)
3,704,182
(325,267)
(4,179,805)
(45,026,502)
(8,078)
3,560,172
(233,966)
(347,136)
(8,097,499)
299,262
—
96,536,474
63,776,134
70,007,137
37,401,313
(212,915)
(1,016,765)
(3,980,664)
11,889,970
(35,314,555)
(257,608)
16,519,278
(253,369)
(10,777,146)
(9,826,855)
(113,482)
1,036,750
73,884,098
81,000,198
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
Cash Flows from Investing Activities:
Purchases of fixed maturities:
Held to maturity. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Available for sale. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Purchases of equity securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Sales of fixed maturities:
(48,969,776)
(116,961,667)
(11,303,361)
(51,049,152)
(138,675,907)
(17,033,093)
(44,907,210)
(161,873,868)
(15,222,724)
Available for sale. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
13,202,367
10,081,785
55,731,299
Maturity of fixed maturities:
Held to maturity. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Available for sale. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Sales of equity securities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net purchases of property and equipment. . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net (purchases) sales of short-term investments. . . . . . . . . . . . . . . . . . . . . . .
Net cash used in investing activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
13,184,665
105,266,805
13,779,330
(105,525)
(5,698,845)
(37,606,007)
20,577,326
99,544,479
20,880,814
(1,090,726)
(1,678,908)
(58,443,382)
19,488,644
82,586,588
9,201,657
(384,207)
4,061,475
(51,318,346)
Cash Flows from Financing Activities:
Issuance of common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cash dividends paid . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Payments on lines of credit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Borrowings under lines of credit. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net cash used in financing activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
3,249,849
(15,658,950)
1,000,000
(11,409,101)
15,511,457
(14,822,052)
— (10,000,000)
—
(9,310,595)
13,822,228
(14,085,934)
(12,000,000)
—
(12,263,706)
14,761,026
Net increase (decrease) in cash. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cash at beginning of year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
37,833,435
Cash at end of year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 52,594,461
13,246,221
24,587,214
$ 37,833,435
(3,551,930)
28,139,144
$ 24,587,214
See accompanying notes to consolidated financial statements.
-59-
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. At December
31, 2018, we also owned 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 13 banking
offices, substantially all of which are located in Lancaster County, Pennsylvania. Donegal Mutual owned the remaining 51.8% of
the outstanding stock of DFSC. In June 2018, we and Donegal Mutual entered into an agreement to sell DFSC to Northwest
Bancshares, Inc. (“Northwest”). We refer you to Note 22 - Subsequent Event for information regarding the consummation of the
sale of DFSC in March 2019.
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, 2018, Donegal Mutual held approximately 43% of our outstanding Class A common stock and
approximately 84% of our outstanding Class B common stock. This ownership provides Donegal Mutual with approximately
72% 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.
In July 2018, we consolidated the branch office operations of Peninsula into our home office operations to achieve
economies of scale and enhance service levels for policyholders of Peninsula. We recorded a restructuring charge for employee
termination costs associated with the Peninsula consolidation of approximately $1.9 million. We paid approximately $1.5
million of these costs in 2018 and had an accrual of approximately $390,000 remaining at December 31, 2018. We entered into
a definitive purchase agreement for the sale of Peninsula’s branch office in 2018. The sale was completed in January 2019, and
-60-
we received net proceeds of $1.2 million. We recorded an impairment charge of $1.1 million in other expenses in 2018 related
to this real estate transaction and included the $1.2 million fair value of the real estate we held for sale in other assets at
December 31, 2018.
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.
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. 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 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 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 are 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 measure investments at fair value and, beginning January 1, 2018, we
recognize changes in fair value in our results of operations. 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.
-61-
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 investment gains and losses using the specific identification method.
We amortize premiums and discounts for mortgage-backed debt securities using anticipated prepayments.
We account for 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.
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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.
Losses and Loss Expenses
Liabilities for losses and loss expenses are estimates at a given point in time of the amounts an insurer expects to pay
with respect to incurred policyholder claims based on facts and circumstances the insurer knows at that point in time. At the
time of establishing its estimates, an insurer recognizes that its ultimate liability for losses and loss expenses will exceed or be
less than such estimates. Our insurance subsidiaries base their estimates of liabilities for losses and loss expenses on
assumptions as to future loss trends, expected claims severity, judicial theories of liability and other factors. However, during
the loss adjustment period, our insurance subsidiaries may learn additional facts regarding individual claims, and, consequently,
it often becomes necessary for our insurance subsidiaries to refine and adjust their estimates for these liabilities. We reflect any
adjustments to the liabilities for losses and loss expenses of our insurance subsidiaries in our consolidated results of operations
in the period in which our insurance subsidiaries make adjustments to their estimates.
Our insurance subsidiaries maintain liabilities for the payment of losses and loss expenses with respect to both reported
and unreported claims. Our insurance subsidiaries establish these liabilities for the purpose of covering the ultimate costs of
settling all losses, including investigation and litigation costs. Our insurance subsidiaries base the amount of their liability for
reported losses primarily upon a case-by-case evaluation of the type of risk involved, knowledge of the circumstances
surrounding each claim and the insurance policy provisions relating to the type of loss the policyholder incurred. Our insurance
subsidiaries determine the amount of their liability for unreported claims and loss expenses on the basis of historical
information by line of insurance. Our insurance subsidiaries account for inflation in the reserving function through analysis of
costs and trends and reviews of historical reserving results. Our insurance subsidiaries monitor their liabilities closely and
recompute them periodically using new information on reported claims and a variety of statistical techniques. Our insurance
subsidiaries do not discount their liabilities for losses and loss expenses.
Reserve estimates can change over time because of unexpected changes in assumptions related to our insurance
subsidiaries’ external environment and, to a lesser extent, assumptions related to our insurance subsidiaries’ internal operations.
For example, our insurance subsidiaries have experienced an increase in claims severity and a lengthening of the claim
settlement periods on bodily injury claims during the past several years. These trend changes give rise to greater uncertainty as
to the pattern of future loss settlements on bodily injury claims. Related uncertainties regarding future trends include the cost of
medical technologies and procedures and changes in the utilization of medical procedures. Assumptions related to our
insurance subsidiaries’ external environment include the absence of significant changes in tort law and the legal environment
that increase liability exposure, consistency in judicial interpretations of insurance coverage and policy provisions and the rate
of loss cost inflation. Internal assumptions include consistency in the recording of premium and loss statistics, consistency in
the recording of claims, payment and case reserving methodology, accurate measurement of the impact of rate changes and
changes in policy provisions, consistency in the quality and characteristics of business written within a given line of business
and consistency in reinsurance coverage and collectability of reinsured losses, among other items. To the extent our insurance
subsidiaries determine that underlying factors impacting their assumptions have changed, our insurance subsidiaries make
adjustments in their reserves that they consider appropriate for such changes. Accordingly, our insurance subsidiaries’ ultimate
liability for unpaid losses and loss expenses will likely differ from the amount recorded.
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 that includes us and our insurance subsidiaries.
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.
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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
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 2018, 2017 and 2016, we realized $25,938, $873,515 and $788,700, 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
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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.
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 this
guidance replaced most existing GAAP revenue recognition guidance, the scope of the guidance excludes insurance contracts.
The new standard was effective on January 1, 2018. The standard permits the use of either the retrospective or the cumulative
effect transition method. Because the accounting for insurance contracts is outside of the scope of this standard, the adoption of
this guidance did not have a significant 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. This 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 was effective for annual and interim reporting periods beginning after December 15, 2017. As a result
of the adoption of this guidance on January 1, 2018, we transferred $4.9 million of net unrealized gains from accumulated other
comprehensive income (“AOCI”) to retained earnings. We recognized $1.2 million of gains and $4.4 million of losses on equity
securities held at December 31, 2018 in net investment losses for the year ended December 31, 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. This 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. Our adoption of this guidance in 2019 will not 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 this 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 are in the process of evaluating the impact of the adoption of this guidance on our financial position, results of operations
and cash flows.
In January 2017, the FASB issued guidance that simplifies the measurement of goodwill by modifying the goodwill
impairment test previous guidance required. The guidance requires an entity to perform its annual or interim goodwill
impairment test by comparing the fair value of a reporting unit with its carrying amount and recognize impairment for the
amount by which the reporting unit’s carrying amount exceeds its fair value. The guidance is effective for annual and interim
reporting periods beginning after December 15, 2019 and permits early adoption. We do not expect the adoption of this
guidance to have a significant impact on our financial position, results of operations or cash flows.
In February 2018, the FASB issued updated guidance that allows entities to reclassify the stranded tax effects in AOCI
resulting from the Tax Cuts and Jobs Act of 2017 (the “TCJA”) from AOCI to retained earnings. Current guidance requires
entities to report the effect of a change in tax laws or tax rates on deferred tax balances in income from continuing operations in
the accounting period that includes the period of enactment, even if the entities originally charged or credited related income
tax effects directly to AOCI. If an entity elects to reclassify the stranded tax effects, the guidance requires the reclassification to
include the effect of the change in the U.S. federal corporate income tax rate on the gross deferred tax amounts and related
valuation allowances, if any, related to items in AOCI at the date of the enactment of TCJA. The guidance is effective for
annual and interim reporting periods beginning after December 15, 2018 and permits early adoption. We adopted this guidance
effective on the December 22, 2017 date of the enactment of the TCJA. The adoption of this guidance did not have a significant
impact on our financial position, results of operations or cash flows.
In August 2018, the FASB issued guidance that modifies disclosure requirements related to fair value measurements. The
guidance removes the requirements to disclose the amounts of, and reasons for, transfers between Level 1 and Level 2 of the
fair value hierarchy. The guidance is effective for annual and interim reporting periods beginning after December 15, 2019 and
permits early adoption. We do not expect the adoption of this guidance to have a significant impact on our financial position,
results of operations or cash flows.
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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 substantially 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 2018, 2017 and 2016:
Premiums earned
Losses and loss expenses
Prepaid reinsurance premiums
Liability for losses and loss expenses
2018
2017
2016
$ 212,928,238 $ 200,752,599 $ 185,444,009
159,495,489
140,015,950
115,371,839
106,224,424
103,991,861
95,469,329
158,081,925
136,786,070
120,434,535
The following amounts represent reinsurance Atlantic States assumed from the pool during 2018, 2017 and 2016:
Premiums earned
Losses and loss expenses
Unearned premiums
Liability for losses and loss expenses
2018
2017
$ 473,512,781 $ 451,470,894 $ 422,985,921
2016
335,789,280
289,503,373
240,394,302
231,958,181
228,988,598
214,372,048
303,546,744
252,263,547
230,543,393
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
issuance system. The following amounts represent reinsurance Southern and Le Mars assumed from Donegal Mutual pursuant
to the quota-share reinsurance agreements during 2018, 2017 and 2016:
Premiums earned
Losses and loss expenses
Liability for losses and loss expenses
2018
2017
2016
$
— $
(271) $
(104,817)
719,573
(690,268)
827,193
(1,512)
(378,199)
3,222,100
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.
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The following amounts represent reinsurance ceded to Donegal Mutual pursuant to these quota-share reinsurance
agreements during 2018, 2017 and 2016:
Premiums earned
Losses and loss expenses
Prepaid reinsurance premiums
Liability for losses and loss expenses
2018
2017
2016
$ 42,813,929 $ 42,578,047 $ 39,917,800
23,175,456
24,978,631
21,524,856
19,047,084
19,827,115
19,180,421
38,434,078
36,396,109
31,881,756
Through December 31, 2018, Atlantic States, Southern and Le Mars each had a catastrophe reinsurance agreement with
Donegal Mutual that provided coverage under any one catastrophic occurrence above a set retention ($2,500,000, $2,000,000
and $1,000,000 for Atlantic States, Southern and Le Mars, respectively, for 2018), with a combined retention of $5,000,000 for
a catastrophe involving a combination of these subsidiaries, up to the amount Donegal Mutual and our insurance subsidiaries
retained under catastrophe reinsurance agreements with unaffiliated reinsurers. The set retention was $2,000,000, $1,500,000
and $750,000 for Atlantic States, Southern and Le Mars, respectively, for 2017 and 2016. Through December 31, 2018,
Donegal Mutual and Southern had an excess of loss reinsurance agreement in which Donegal Mutual assumed 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 2018, 2017 and 2016:
Premiums earned
Losses and loss expenses
Liability for losses and loss expenses
2018
2017
2016
$ 19,190,067 $ 17,215,273 $ 12,965,868
12,899,927
8,953,411
995,076
4,847,176
3,399,207
3,136,438
The following amounts represent the effect of affiliated reinsurance transactions on net premiums our insurance
subsidiaries earned during 2018, 2017 and 2016:
Assumed
Ceded
Net
2018
2017
2016
$ 473,512,781
(274,932,234)
$ 198,580,547
$ 451,470,623
(260,545,919)
$ 190,924,704
$ 422,984,409
(238,327,677)
$ 184,656,732
The following amounts represent the effect of affiliated reinsurance transactions on net losses and loss expenses our
insurance subsidiaries incurred during 2018, 2017 and 2016:
Assumed
Ceded
Net
b. Expense Sharing
2018
2017
2016
$ 335,684,463 $ 288,813,105 $ 240,016,103
(137,891,771)
(173,947,992)
$ 140,113,591 $ 114,865,113 $ 102,124,332
(195,570,872)
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 $126,153,511, $124,999,770 and $122,428,117
for 2018, 2017 and 2016, 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.
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d. Union Community Bank
At December 31, 2018 and 2017, we had $50,252,479 and $32,373,544, respectively, in checking accounts with UCB, a
wholly owned subsidiary of DFSC. We earned $538,311, $286,410 and $87,941 in interest on these accounts during 2018, 2017
and 2016, respectively. We refer you to Note 22 - Subsequent Event for information regarding the sale of DFSC in March 2019.
4 - Investments
The amortized cost and estimated fair values of our fixed maturities at December 31, 2018 and 2017 are as follows:
Held to Maturity
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
2018
Amortized Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated Fair
Value
$ 76,222,306
$
174,904
$
1,086,613
$ 75,310,597
Obligations of states and political subdivisions
159,292,158
8,236,804
704,104
166,824,858
Corporate securities
Mortgage-backed securities
Totals
127,010,071
396,197
4,391,451
123,014,817
40,273,983
64,318
450,277
39,888,024
$ 402,798,518
$
8,872,223
$
6,632,445
$ 405,038,296
Available for Sale
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
2018
Amortized Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated Fair
Value
$ 45,188,053 $
25,241 $
1,003,365 $ 44,209,929
Obligations of states and political subdivisions
73,760,836
1,762,127
306,994
75,215,969
Corporate securities
Mortgage-backed securities
Totals
140,688,937
203,393
3,059,185
137,833,145
275,474,625
148,967
6,324,331
269,299,261
$ 535,112,451 $
2,139,728 $ 10,693,875 $ 526,558,304
Held to Maturity
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
2017
Amortized Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated Fair
Value
$ 71,736,445
$
804,012
$
546,868
$ 71,993,589
Obligations of states and political subdivisions
137,581,155
11,161,650
112,193
148,630,612
Corporate securities
Mortgage-backed securities
Totals
108,024,776
2,860,255
730,843
110,154,188
49,312,701
515,976
156,638
49,672,039
$ 366,655,077
$ 15,341,893
$
1,546,542
$ 380,450,428
Available for Sale
U.S. Treasury securities and obligations of U.S.
government corporations and agencies
2017
Amortized Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated Fair
Value
$ 44,759,456 $
20,377 $
730,409 $ 44,049,424
Obligations of states and political subdivisions
128,478,000
3,941,610
302,440
132,117,170
Corporate securities
Mortgage-backed securities
Totals
105,254,120
1,010,744
525,445
105,739,419
259,922,761
444,603
3,327,327
257,040,037
$ 538,414,337 $
5,417,334 $
4,885,621 $ 538,946,050
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At December 31, 2018, our holdings of obligations of states and political subdivisions included general obligation bonds
with an aggregate fair value of $157.7 million and an amortized cost of $152.2 million. Our holdings also included special
revenue bonds with an aggregate fair value of $84.3 million and an amortized cost of $80.9 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, 2018.
Education bonds and water and sewer utility bonds represented 49% and 29%, respectively, of our total investments in special
revenue bonds based on their carrying values at December 31, 2018. Many of the issuers of the special revenue bonds we held
at December 31, 2018 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, 2017, our holdings of obligations of states and political subdivisions included general obligation bonds
with an aggregate fair value of $190.7 million and an amortized cost of $181.4 million. Our holdings also included special
revenue bonds with an aggregate fair value of $90.0 million and an amortized cost of $84.7 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, 2017.
Education bonds and water and sewer utility bonds represented 53% and 26%, respectively, of our total investments in special
revenue bonds based on their carrying values at December 31, 2017. Many of the issuers of the special revenue bonds we held
at December 31, 2017 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.
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 2018, we recorded amortization of $1.2 million in other
comprehensive loss. At December 31, 2018 and 2017, net unrealized losses of $8.6 million and $9.8 million, respectively,
remained within accumulated other comprehensive loss.
We set forth below the amortized cost and estimated fair value of fixed maturities at December 31, 2018 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
$
7,058,908 $
7,050,979
71,760,946
72,293,032
138,736,485
137,974,815
144,968,196
147,831,446
40,273,983
39,888,024
$ 402,798,518 $ 405,038,296
$ 32,119,775 $ 32,223,407
88,814,531
87,999,196
119,447,672
117,530,095
19,255,848
19,506,345
275,474,625
269,299,261
$ 535,112,451 $ 526,558,304
The cost and estimated fair values of our equity securities at December 31, 2018 were as follows:
Equity securities
$
40,942,716
$
4,817,917
$
2,093,624
$
43,667,009
Cost
Gross Gains
Gross Losses
Estimated Fair
Value
(in thousands)
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The cost and estimated fair values of our equity securities at December 31, 2017 were as follows:
Cost
Gross Gains
Gross Losses
Estimated Fair
Value
(in thousands)
Equity securities
$
44,219,097
$
6,505,287
$
279,141
$
50,445,243
The amortized cost of fixed maturities on deposit with various regulatory authorities at December 31, 2018 and 2017
amounted to $8,795,334 and $9,646,390, respectively.
Our investment in DFSC represented our 48.2% investment in the amount of $41,025,975 and $38,773,420 at
December 31, 2018 and 2017, respectively. We accounted for our investment in DFSC using the equity method of accounting.
Under this method, we recorded 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. We and Donegal Mutual sold DFSC in March 2019. We refer
you to Note 22 - Subsequent Event for information regarding the sale of DFSC.
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, 2018 and 2017 from the financial statements of DFSC.
Balance sheets:
Total assets
Total liabilities
Stockholders’ equity
December 31,
2018
2017
$ 553,190,379
$ 567,935,408
$ 468,187,592
$ 487,603,999
85,002,787
80,331,409
Total liabilities and stockholders’ equity
$ 553,190,379
$ 567,935,408
Income statements:
Net income
Year Ended December 31,
2018
2017
2016
$ 5,457,636
$ 3,362,861
$ 2,252,456
Other comprehensive (loss) income in our statements of comprehensive (loss) income includes net unrealized (losses)
gains of ($387,037), $112,053 and ($103,331) for 2018, 2017 and 2016, respectively, representing our share of DFSC’s
unrealized investment gains or losses.
We received a distribution from DFSC of $1.0 million during 2017. Based on the nature of the activities that generated the
distribution, we made an accounting policy election to classify the distribution 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
2018
2017
2016
$ 27,733,555
$ 26,143,924
$ 25,066,582
1,264,120
795,522
29,450
999,335
407,580
33,316
1,187,814
115,763
108,003
29,822,647
(2,914,991)
$ 26,907,656
27,584,155
(4,056,851)
$ 23,527,304
26,478,162
(3,845,432)
$ 22,632,730
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We present below gross 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 gains:
Fixed maturities
Equity securities
Gross losses:
Fixed maturities
Equity securities
Net (losses) gains
Change in difference between fair value and cost of
investments:
Fixed maturities
Equity securities
Totals
2018
2017
2016
$
131,660
$
168,855
$ 2,161,108
1,890,762
2,022,422
6,197,253
6,366,108
1,378,548
3,539,656
630,904
6,193,027
98,723
562,130
6,823,931
660,853
$ (4,801,509) $ 5,705,255
281,131
732,950
1,014,081
$ 2,525,575
$(20,641,433) $ 2,335,578
1,569,999
$(24,143,286) $ 3,905,577
(3,501,853)
$(12,932,470)
3,160,356
$ (9,772,114)
We recognized $1.2 million of gains and $4.4 million of losses on equity securities held at December 31, 2018 in net
investment losses for 2018.
We held fixed maturities with unrealized losses representing declines that we considered temporary at December 31, 2018
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
$ 26,342,398 $
165,774 $ 54,900,027 $ 1,924,204
Obligations of states and political subdivisions
28,321,962
477,357
21,559,520
533,741
Corporate securities
Mortgage-backed securities
Totals
149,269,854
4,482,870
59,396,885
2,967,766
82,593,454
912,616 181,379,875
5,861,992
$286,527,668 $ 6,038,617 $ 317,236,307 $ 11,287,703
We held fixed maturities and equity securities with unrealized losses representing declines that we considered temporary at
December 31, 2017 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
$ 24,024,445 $
286,518 $ 33,987,229 $
990,759
Obligations of states and political subdivisions
10,223,383
120,076
14,127,415
294,557
Corporate securities
Mortgage-backed securities
Equity securities
Totals
35,203,959
253,241
31,560,591
1,003,047
100,533,516
817,315 124,061,502
2,666,650
4,291,875
279,141
—
—
$174,277,178 $ 1,756,291 $203,736,737 $ 4,955,013
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 measure investments at fair value and, beginning January 1, 2018, we
recognize changes in fair value in our results of operations. With respect to a debt security that is in an unrealized loss position,
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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 509 debt securities that were in an unrealized loss position at December 31, 2018. 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 2018, 2017 or 2016. We had no sales or transfers from our held to maturity
portfolio in 2018, 2017 or 2016. We had no derivative instruments or hedging activities during 2018, 2017 or 2016.
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
types are reasonable. At December 31, 2018, 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
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provided at December 31, 2018, 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, 2018 and 2017.
The following table presents our fair value measurements for our investments in available-for-sale fixed maturity and
equity securities at December 31, 2018:
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
$ 44,209,929 $
75,215,969
137,833,145
269,299,261
— $ 44,209,929 $
—
75,215,969
— 137,833,145
—
269,299,261
30,674,835
28,351,110
2,323,725
Total investments in the fair value hierarchy
557,233,139
28,351,110
528,882,029
Investment measured at net asset value
12,992,174
—
—
Totals
$ 570,225,313 $ 28,351,110 $ 528,882,029 $
—
—
—
—
—
—
—
—
The following table presents our fair value measurements for our investments in available-for-sale fixed maturity and
equity securities at December 31, 2017:
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
$ 44,049,424 $
— $ 44,049,424 $
132,117,170
105,739,419
257,040,037
132,117,170
—
— 105,739,419
—
257,040,037
36,736,121
36,736,121
—
Total investments in the fair value hierarchy
575,682,171
36,736,121
538,946,050
Investment measured at net asset value
13,709,122
—
—
Totals
$ 589,391,293 $ 36,736,121 $ 538,946,050 $
—
—
—
—
—
—
—
—
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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
2018
2017
2016
$ 60,289,860
$ 56,309,196
$ 52,108,388
121,289,267
(120,964,000)
$ 60,615,127
119,045,664
(115,065,000)
$ 60,289,860
112,076,808
(107,876,000)
$ 56,309,196
Property and equipment at December 31, 2018 and 2017 consisted of the following:
Office equipment
Automobiles
Real estate
Software
Accumulated depreciation
2018
2017
Estimated Useful
Life
$ 10,049,884 $
9,918,045
3-15 years
448,015
779,357
5 years
4,977,813
7,971,590
5-50 years
2,843,782
2,794,864
5 years
18,319,494
(13,628,790)
21,463,856
(14,183,441)
$
4,690,704 $
7,280,415
Depreciation expense for 2018, 2017 and 2016 amounted to $479,550, $478,800 and $742,861, 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
2018
2017
2016
$ 676,671,727
(293,271,257)
383,400,470
$ 606,664,590
(259,147,147)
347,517,443
$ 578,205,109
(256,150,860)
322,054,249
540,826,810
480,646,641
420,327,164
35,631,610
6,621,413
2,988,739
576,458,420
487,268,054
423,315,903
308,578,285
288,379,600
248,106,788
175,882,906
163,005,427
149,745,921
484,461,191
451,385,027
397,852,709
475,397,699
383,400,470
347,517,443
339,267,525
293,271,257
259,147,147
$ 814,665,224
$ 676,671,727
$ 606,664,590
Our insurance subsidiaries recognized an increase in their liability for losses and loss expenses of prior years of $35.6
million, $6.6 million and $3.0 million in 2018, 2017 and 2016, respectively. Our insurance subsidiaries made no significant
changes in their reserving philosophy or claims management personnel, and they have made no significant offsetting changes in
estimates that increased or decreased their loss and loss expense reserves in those years. The 2018 development represented
9.3% of the December 31, 2017 net carried reserves and resulted primarily from higher-than-expected severity in the commercial
multiple peril, personal automobile and commercial automobile lines of business, offset by lower-than-expected severity in the
workers’ compensation line of business, in accident years prior to 2018. The majority of the 2018 development related to
increases in the liability for losses and loss expenses of prior years for Atlantic States, Southern and Peninsula. During 2018, our
insurance subsidiaries received new information on previously-reported commercial automobile and personal automobile claims
that led our insurance subsidiaries to conclude that their prior actuarial assumptions did not fully anticipate recent changes in
severity and reporting trends. Our insurance subsidiaries have encountered increasing difficulties in projecting the ultimate
severity of automobile losses over recent accident years, which our insurance subsidiaries attribute to worsening litigation trends
and an increased delay in the reporting to our insurance subsidiaries of information with respect to the severity of claims. As a
result, our insurance subsidiaries' actuaries increased their projections of the ultimate cost of our insurance subsidiaries' prior-
year personal automobile and commercial automobile losses, and our insurance subsidiaries added $17.7 million to their reserves
for personal automobile and $20.8 million to their reserves for commercial automobile for accident years prior to 2018. The
2017 development represented 1.9% of the December 31, 2016 net carried reserves and resulted primarily from higher-than-
expected severity in the commercial multiple peril, personal automobile and commercial automobile lines of business, offset by
lower-than-expected severity in the workers’ compensation line of business, in accident years prior to 2017. The majority of the
2017 development related to increases in the liability for losses and loss expenses of prior years for Atlantic States and
Peninsula. 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.
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
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estimating IBNR reserves has been in place for many years, and their actuaries made no significant changes to that methodology
during 2018.
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.
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, 2018, 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, 2009 through 2017, 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
Incurred Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
At December 31, 2018
Total IBNR
Plus
Expected
Development
on Reported
Claims
Cumulative
Number of
Reported
Claims
(dollars and reported claims in thousands)
Unaudited
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Personal
Automobile
Accident
Year
(in thousands)
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
$105,707
$ 106,313
$ 106,841
$ 107,589
$ 107,190
$106,705
$ 106,549
$ 106,499
$ 106,713
$
106,685
$
117,967
117,552
118,562
118,876
118,916
118,587
118,385
118,289
127,929
131,678
132,987
133,229
133,617
133,218
133,145
130,415
133,201
135,592
136,493
136,552
136,463
124,965
130,737
131,594
132,643
132,604
124,426
124,806
124,210
126,200
137,596
139,333
139,181
150,216
153,937
166,690
118,314
133,142
136,141
132,934
126,779
142,493
157,516
176,728
186,580
Total
$ 1,417,312
10
35
76
159
254
539
1,719
4,833
9,368
31,914
65
70
74
69
66
71
70
73
79
78
Cumulative Paid Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Unaudited
$ 69,585
$ 89,089
$ 97,349
$ 102,332
$ 104,779
$105,577
$ 105,922
$ 106,017
$ 106,477
$
106,497
75,889
96,749
87,191
107,662
113,243
116,748
117,812
117,978
118,054
110,249
121,621
127,545
131,319
132,479
132,714
87,517
111,941
124,652
130,862
133,428
134,581
84,241
109,051
120,118
125,946
130,026
85,377
104,736
114,893
120,491
93,611
116,303
128,395
102,433
129,507
111,964
118,093
132,777
135,132
131,326
123,815
135,027
143,321
142,372
115,585
All outstanding liabilities before 2009, net of reinsurance
Total
1,283,945
590
Liabilities for claims and claims adjustment expenses, net of reinsurance
$
133,957
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Homeowners
Accident
Year
Incurred Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
At December 31, 2018
Total IBNR
Plus
Expected
Development
on Reported
Claims
Cumulative
Number of
Reported
Claims
(dollars and reported claims in thousands)
Unaudited
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Homeowners
Accident
Year
(in thousands)
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
$ 51,054
$ 50,621
$ 50,333
$ 49,998
$ 50,137
$ 50,405
$ 50,419
$ 50,433
$ 50,435
$
50,435
$
60,315
60,729
71,256
60,248
70,461
53,962
59,972
70,436
54,794
50,887
60,355
70,381
54,468
51,121
56,916
60,440
70,297
54,351
51,122
58,378
63,359
60,443
70,351
54,281
50,874
57,680
63,925
62,443
60,542
70,479
54,381
50,988
57,332
63,053
64,064
79,283
60,624
70,642
54,523
50,971
57,288
63,071
63,735
79,911
81,965
Total
$
633,165
—
—
—
(2)
8
11
112
365
1,211
4,886
18
25
27
19
13
18
14
13
18
19
Cumulative Paid Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Unaudited
$ 39,961
$ 49,180
$ 49,827
$ 50,021
$ 50,301
$ 50,430
$ 50,429
$ 50,433
$ 50,435
$
50,435
47,419
57,334
57,588
59,283
69,345
46,566
59,875
70,125
53,619
40,949
60,239
70,351
54,028
49,410
45,823
60,486
70,541
54,298
50,210
56,255
51,885
All outstanding liabilities before 2009, net of reinsurance
60,501
70,626
54,317
50,478
56,990
61,542
50,125
60,525
70,648
54,356
51,043
57,195
62,204
61,145
67,077
Total
60,540
70,692
54,557
50,902
56,995
62,590
62,760
77,663
70,385
617,519
15
Liabilities for claims and claims adjustment expenses, net of reinsurance
$
15,661
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Commercial
Automobile
Accident
Year
Incurred Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
At December 31, 2018
Total IBNR
Plus
Expected
Development
on Reported
Claims
Cumulative
Number of
Reported
Claims
(dollars and reported claims in thousands)
Unaudited
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Commercial
Automobile
Accident
Year
(in thousands)
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
$ 18,735
$ 18,549
$ 18,998
$ 19,015
$ 19,346
$ 19,569
$ 19,430
$ 19,461
$ 19,449
$
19,475
$
19,315
19,913
26,642
20,695
27,157
26,557
21,477
21,490
21,756
21,746
21,713
28,570
28,893
29,112
29,107
29,487
27,720
30,606
31,435
31,278
31,648
32,902
33,749
34,751
35,240
36,404
42,760
44,544
47,326
48,213
46,526
48,323
51,412
54,302
57,353
61,484
21,726
29,751
31,803
36,435
49,284
54,259
65,905
67,927
79,307
Total
$
455,872
2
9
1
2
76
380
1,440
3,985
10,847
24,366
6
7
9
8
9
11
12
13
14
15
Cumulative Paid Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Unaudited
$
9,309
$ 12,872
$ 15,479
$ 17,160
$ 18,696
$ 19,389
$ 19,386
$ 19,408
$ 19,413
$
19,426
10,778
14,180
13,876
16,426
19,106
13,642
19,030
20,804
21,014
21,482
21,549
24,267
26,973
28,014
28,758
28,836
20,240
23,718
27,417
29,873
30,402
16,306
23,557
26,879
31,053
34,083
22,707
31,089
39,436
44,374
23,875
35,342
41,678
27,033
38,237
28,707
21,558
29,102
31,104
36,004
47,290
48,261
48,837
40,213
33,862
All outstanding liabilities before 2009, net of reinsurance
1
Total
355,657
Liabilities for claims and claims adjustment expenses, net of reinsurance
$
100,216
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Commercial
Multi-Peril
Accident
Year
Incurred Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
At December 31, 2018
Total IBNR
Plus
Expected
Development
on Reported
Claims
Cumulative
Number of
Reported
Claims
(dollars and reported claims in thousands)
Unaudited
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Commercial
Multi-Peril
Accident
Year
(in thousands)
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
$ 26,712
$ 26,454
$ 27,357
$ 27,357
$ 27,739
$ 27,959
$ 27,625
$ 27,484
$ 27,508
$
27,590
$
28,745
29,656
33,054
29,390
35,411
29,789
29,169
29,373
29,453
29,463
29,779
35,942
37,576
37,385
38,270
38,105
30,716
32,449
34,117
35,755
36,214
35,683
35,679
37,292
37,205
37,981
48,204
50,135
51,843
52,336
42,070
43,874
44,728
43,005
46,988
56,185
29,925
38,160
36,525
37,365
53,294
45,104
48,267
56,043
66,265
Total
$
438,538
—
—
—
4
2
204
1,540
3,652
8,127
17,175
6
6
7
6
6
7
6
6
6
6
Cumulative Paid Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Unaudited
$ 13,675
$ 19,356
$ 21,560
$ 24,977
$ 26,612
$ 26,780
$ 27,287
$ 27,357
$ 27,409
$
27,577
17,007
22,017
18,773
24,749
24,767
16,666
26,832
27,768
28,681
28,906
29,632
30,286
33,526
36,722
37,759
38,240
23,384
26,634
29,370
33,327
35,331
19,875
26,216
29,159
33,614
35,104
27,920
35,520
40,936
47,021
21,837
29,419
34,323
19,660
29,402
27,399
Total
All outstanding liabilities before 2009, net of reinsurance
29,721
38,366
35,909
36,321
50,017
39,162
34,612
36,926
30,597
359,208
484
Liabilities for claims and claims adjustment expenses, net of reinsurance
$
79,814
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Workers’
Compensation
Incurred Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
Accident Year
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
(dollars and reported claims in thousands)
Unaudited
At December 31, 2018
Total IBNR
Plus
Expected
Development
on Reported
Claims
Cumulative
Number of
Reported
Claims
$ 21,571
$ 22,497
$ 21,894
$ 21,826
$ 22,848
$ 22,278
$ 22,172
$ 22,114
$ 22,079
$
22,053
$
27,304
27,859
32,490
27,010
26,637
26,944
27,121
27,037
26,984
35,757
36,614
36,369
35,670
35,039
35,194
39,142
39,516
38,827
37,926
37,163
36,468
46,325
47,027
44,289
42,828
42,327
51,508
51,553
49,288
48,537
53,332
49,615
45,991
58,814
49,802
60,450
26,801
34,926
35,954
42,555
47,540
44,986
47,883
56,351
62,197
Total
$
421,246
32
63
82
132
307
431
1,613
2,869
7,290
19,729
4
5
6
6
6
6
6
6
6
6
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Workers’
Compensation
Cumulative Paid Claims and Allocated Claim Adjustment Expenses, Net of Reinsurance
For the Year Ended December 31,
Accident Year
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
Unaudited
(in thousands)
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
$
6,490
$ 12,627
$ 16,516
$ 18,329
$ 19,665
$ 20,476
$ 20,939
$ 21,117
$ 21,400
$
21,511
8,066
15,937
21,176
23,137
24,539
25,337
25,804
26,050
9,157
21,450
27,517
31,905
32,394
33,067
33,577
11,097
22,963
28,812
31,244
33,196
34,177
13,052
26,043
32,783
36,351
38,877
13,932
28,513
36,284
40,393
13,071
27,531
34,192
14,709
30,344
15,581
Total
All outstanding liabilities before 2009, net of reinsurance
26,295
33,963
34,460
39,617
42,465
36,929
37,178
31,990
17,644
322,052
3,482
Liabilities for claims and claims adjustment expenses, net of reinsurance
$
102,676
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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
At December 31,
2018
$
133,957
15,661
100,216
79,814
102,676
9,390
441,714
$
111,660
10,272
61,588
48,907
82,660
10,634
325,721
47,230
814,665
Unallocated loss adjustment expenses
Gross liability for unpaid losses and loss expenses
$
$
The following table presents supplementary information about average historical claims duration as of December 31, 2018:
Average Annual Percentage Payout of Incurred Claims by Age, Net of Reinsurance
Years
1
2
3
4
5
6
7
8
9
10
Personal automobile
64.6%
17.3%
8.6%
4.6%
2.6%
0.9%
0.3%
0.1%
0.2%
—%
Homeowners
Commercial automobile
Commercial multi-peril
Workers’ compensation
81.5
44.8
49.1
29.2
16.1
18.3
17.4
31.2
1.6
13.2
10.0
16.5
0.5
10.7
9.9
8.3
0.3
6.9
6.1
4.7
—
2.8
3.3
2.6
—
1.2
1.4
1.5
—
0.4
1.0
0.9
—
—
0.2
1.1
—
0.1
0.6
0.5
9 - Borrowings
Lines of Credit
In July 2018, 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. At December 31, 2018, we had $25.0 million in outstanding borrowings
and had the ability to borrow an additional $35.0 million at interest rates equal to M&T’s current prime rate or the then-current
LIBOR rate plus 2.25%. At December 31, 2018, the interest rate on our outstanding borrowings was 4.77%. The credit
agreement required our compliance with certain covenants. These covenants included minimum levels of our net worth,
leverage ratio, statutory surplus and the A.M. Best ratings of our insurance subsidiaries. We did not comply with the minimum
net worth and minimum interest coverage ratio covenants at December 31, 2018. We terminated this credit agreement and
entered into a new credit agreement with M&T in March 2019. The new credit agreement relates to a $30.0 million unsecured,
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revolving line of credit. We transferred our $25.0 million outstanding borrowings to this new line of credit and have the ability
to borrow an additional $5.0 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. We pay a fee of 0.15% per annum on the loan
commitment amount regardless of usage. The new 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. In addition, Atlantic States has guaranteed our payment obligations under the new credit agreement. We complied
with all of the requirements of the new credit agreement as of the filing date of this Form 10-K Report.
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. Atlantic States had $35.0 million in outstanding advances at
December 31, 2018. The interest rate on the advances was 2.32% at December 31, 2018. 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, 2018.
FHLB stock purchased and owned as part of the agreement
$
1,631,800
Collateral pledged, at par (carrying value $40,248,211)
Borrowing capacity currently available
40,900,431
3,463,689
MICO is a member of the Federal Home Loan Bank (“FHLB”) of Indianapolis. During the second quarter of 2018, MICO
terminated its line of credit with the FHLB of Indianapolis.
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 2018, 2017 and 2016.
10 - Reinsurance
Unaffiliated Reinsurers
Our insurance subsidiaries and Donegal Mutual purchase certain third-party reinsurance on a combined basis. Through
December 31, 2018, Le Mars, MICO, Peninsula and Sheboygan also had separate third-party reinsurance programs that
provided certain coverage that was commensurate with their relative size and exposures. Our insurance subsidiaries used
several different reinsurers, all of which, consistent with the requirements of our insurance subsidiaries and Donegal Mutual,
had an A.M. Best rating of A- (Excellent) or better, or, with respect to foreign reinsurers, had a financial condition that, in the
opinion of our management, was equivalent to a company with at least an A- rating from A.M. Best. The external reinsurance
our insurance subsidiaries and Donegal Mutual purchased in 2018, 2017 and 2016 included “excess of loss reinsurance,” under
which their losses were automatically reinsured, through a series of contracts, over a set retention (generally $1.0 million), and
“catastrophic reinsurance,” under which they recovered, 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 ($5.0 million in 2018, $1.0 million in 2017 and $975,000 in 2016 ). For property insurance, our
insurance subsidiaries had excess of loss treaties that provide for coverage up to $5.0 million per loss. For liability insurance,
our insurance subsidiaries had excess of loss treaties that provide for coverage up to $50.0 million per occurrence. For workers’
compensation insurance, our insurance subsidiaries had excess of loss treaties that provide for coverage up to $10.0 million on
any one life. Our insurance subsidiaries and Donegal Mutual had 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 2018 on
any one treaty with no reinsurer taking more than 20% of any one treaty. The amount of coverage provided under each of these
types of reinsurance depended 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.
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The following amounts represent ceded reinsurance transactions with unaffiliated reinsurers during 2018, 2017 and 2016:
Premiums written
Premiums earned
Losses and loss expenses
Prepaid reinsurance premiums
Liability for losses and loss expenses
Total Reinsurance
2018
2017
2016
$ 50,160,604 $ 51,241,267 $ 45,354,233
51,266,000
49,633,348
44,318,542
50,652,202
44,575,268
18,588,114
10,108,269
11,213,665
9,605,746
137,904,346
116,689,871
103,694,418
The following amounts represent total ceded reinsurance transactions with both affiliated and unaffiliated reinsurers during
2018, 2017 and 2016:
Premiums earned
Losses and loss expenses
Prepaid reinsurance premiums
Liability for losses and loss expenses
2018
2017
2016
$ 326,198,234 $ 310,179,267 $ 282,646,219
246,223,074
218,523,260
156,479,885
135,379,777
135,032,641
124,255,495
339,267,525
293,271,257
259,147,147
The following amounts represent the effect of reinsurance on premiums written for 2018, 2017 and 2016:
Direct
Assumed
Ceded
Net premiums written
2018
2017
2016
$ 594,078,723 $ 584,007,351 $ 537,880,237
476,482,451
(326,545,370)
437,532,812
466,087,983
(293,379,217)
(320,956,412)
$ 744,015,804 $ 729,138,922 $ 682,033,832
The following amounts represent the effect of reinsurance on premiums earned for 2018, 2017 and 2016:
Direct
Assumed
Ceded
Net premiums earned
2018
2017
2016
$ 593,976,241
$ 561,178,447
$ 515,721,745
473,512,866
(326,198,234)
$ 741,290,873
451,515,575
(310,179,267)
$ 702,514,755
423,129,271
(282,646,219)
$ 656,204,797
Percentage of assumed premiums earned to net premiums earned
63.9%
64.3%
64.5%
11 - Income Taxes
On December 22, 2017, TCJA was signed into law. The TCJA contains significant changes to corporate taxation,
including the reduction of the corporate income tax rate to 21%, the acceleration of expensing for certain business assets, the
one-time transition tax related to the transition of U.S. international tax from a worldwide tax system to a territorial tax system,
the repeal of the domestic production deduction, additional limitations on the deductibility of interest expense, the repeal of the
corporate alternative minimum tax and expanded limitations on the deductibility of executive compensation.
The key impacts of the TCJA on our financial statements for 2017 were the revaluation of our deferred tax balances to the
new corporate tax rate that resulted in additional tax expense of $4.8 million and the reclassification of an alternative minimum
tax credit carryforward of $8.5 million from net deferred tax assets to federal income taxes recoverable. We will recover the
alternative minimum tax credit carryforward over the next three years.
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Our provision for income tax (benefit) expense for 2018, 2017 and 2016 consisted of the following:
Current
Deferred
Federal income tax (benefit) expense
2018
2017
$ (11,296,704) $ (2,139,061) $
(4,179,805)
$ (15,476,509) $
7,137,423
4,998,362
$ 10,527,270
2016
8,496,405
2,030,865
Our effective tax rate is different from the amount computed at the statutory federal rate of 21% for 2018 and 35% for
2017 and 2016. The reasons for such difference and the related tax effects are as follows:
(Loss) income before income taxes
Computed “expected” taxes
Tax-exempt interest
Proration
Effect of tax reform
Dividends received deduction
Net operating loss carryback
Tax benefit on exercise of options
Other, net
2018
2016
2017
$ (48,236,849) $ 12,114,462 $ 41,328,407
14,464,942
(3,951,926)
629,697
(10,129,738)
(1,521,090)
405,204
4,240,062
(3,241,530)
518,948
—
(99,726)
(4,210,523)
(25,938)
105,302
4,752,547
(508,409)
—
(873,515)
110,259
—
(691,616)
—
—
76,173
Federal income tax (benefit) expense
$ (15,476,509) $
4,998,362
$ 10,527,270
The net operating loss carryback of $4.2 million for 2018 relates to our carryback of our 2018 net operating loss to tax
years 2016 and 2017 when the statutory federal tax rate was 35%. This carryback is permitted under a special rule within the
TCJA that retained for property and casualty insurance companies the availability to carry back net operating losses to two
prior tax years and to carry forward net operating losses to 20 future tax years.
The tax effects of temporary differences that give rise to significant portions of our deferred tax assets and deferred tax
liabilities at December 31, 2018 and 2017 are as follows:
Deferred tax assets:
Unearned premium
Loss reserves
Net operating loss carryforward
Net state operating loss carryforward - DGI Parent
Net unrealized losses
Other
Total gross deferred tax assets
Less valuation allowance
Net deferred tax assets
Deferred tax liabilities:
Deferred policy acquisition costs
Loss reserve transition adjustment
Other
Total gross deferred tax liabilities
Net deferred tax asset
2018
2017
$ 15,634,433 $ 15,511,854
7,644,415
4,164,246
3,090,010
8,070,196
3,782,145
2,517,791
40,738,990
(8,334,663)
32,404,327
683,979
7,713,201
713,549
2,300,595
31,087,424
(7,977,668)
23,109,756
12,729,176
12,660,871
2,339,068
—
4,266,328
3,320,042
19,334,572
15,980,913
$ 13,069,755 $
7,128,843
We recorded a net operating loss carryforward for the portion of our taxable loss for 2018 exceeded our taxable income in
2016 and 2017. That net operating loss carryforward will generally begin to expire in 2038 if we do not utilize the
carryforward prior to that date. We also recorded a loss reserve transition adjustment in 2018 related to changes the TCJA
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required with respect to the calculation of loss reserve discounting. Pursuant to the provisions of the TCJA, we will include the
loss reserve transition adjustment in our taxable income over eight years beginning in 2018.
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, 2018 and 2017, we established a valuation allowance of $264,467 related to a portion of
the net operating loss carryforward of Le Mars that we acquired on January 1, 2004 and a valuation allowance of $8.1 million
and $7.7 million, respectively, for the net state operating loss carryforward of DGI. We determined that we were not required to
establish a valuation allowance for the other net deferred tax assets of $32.4 million and $23.1 million at December 31, 2018
and 2017, 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 2015 through 2018 remained open for examination by tax authorities at December 31, 2018. 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.
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 2018, 2017 or 2016. We have purchased a total of 57,658 shares
of our Class A common stock under this program from its inception through December 31, 2018.
At December 31, 2018 and 2017, 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
one of our directors. We issued 8,500 shares of restricted stock on January 2, 2018 under our director plan. We issued 9,000
shares of restricted stock on January 3, 2017 under our director plan. We issued 8,500 shares of restricted stock on January 4,
2016 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
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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 2018 was $1.66. We calculated this fair value
based upon a risk-free interest rate of 2.68%, an expected life of three years, an expected volatility of 22% and an expected
dividend yield of 4%.
The weighted-average grant date fair value of options we granted during 2017 was $1.81. We calculated this fair value
based upon a risk-free interest rate of 2.01%, an expected life of three years, an expected volatility of 19% and an expected
dividend yield of 3%.
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%.
We charged compensation expense for our stock compensation plans against income before income taxes of $1.7 million,
$2.0 million and $2.5 million for the years ended December 31, 2018, 2017 and 2016, respectively, with a corresponding
income tax benefit of $354,412, $692,164 and $864,210. At December 31, 2018 and 2017, our total unrecognized
compensation cost related to non-vested share-based compensation granted under our stock compensation plans was $2.5
million and $2.9 million, respectively. We expect to recognize this cost over a weighted average period of 1.9 years.
During 2018, we received cash from option exercises under all stock compensation plans of $1.1 million. We realized actual
tax benefits for the tax deductions from option exercises of share-based compensation of $25,938 for 2018. During 2017, we
received cash from option exercises under all stock compensation plans of $13.4 million. We realized actual tax benefits for the
tax deductions from option exercises of share-based compensation of $873,515 for 2017. 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. No further shares are available for future option
grants for plans in effect prior to 2015.
Information regarding activity in our stock option plans follows:
Outstanding at December 31, 2015
Granted - 2016
Exercised - 2016
Forfeited - 2016
Outstanding at December 31, 2016
Granted - 2017
Exercised - 2017
Forfeited - 2017
Outstanding at December 31, 2017
Granted - 2018
Exercised - 2018
Forfeited - 2018
Outstanding at December 31, 2018
Exercisable at:
December 31, 2016
December 31, 2017
December 31, 2018
-87-
Number of
Options
Weighted-
Average
Exercise Price
Per Share
8,794,952
$14.57
1,417,500
(832,467)
(41,337)
9,338,648
943,000
(924,019)
(93,167)
9,264,462
1,063,000
(79,961)
(222,639)
10,024,862
6,347,470
6,946,677
7,936,659
16.44
13.44
14.97
14.95
17.58
14.45
15.43
15.26
13.69
13.74
16.00
$15.09
$14.77
$14.90
$15.02
Shares available for future option grants at December 31, 2018 totaled 42,639 shares under all plans.
The following table summarizes information about stock options outstanding at December 31, 2018:
Number of
Options
Outstanding
Weighted-Average
Remaining
Contractual Life
Number of
Options
Exercisable
Grant Date
Exercise Price
July 27, 2011
$12.50
December 20, 2012
December 19, 2013
December 18, 2014
December 17, 2015
December 15, 2016
December 21, 2017
December 20, 2018
14.50
15.90
15.80
13.64
16.48
17.60
13.69
991,105
1,044,319
2,056,804
1,330,581
1,349,877
1,302,110
887,966
1,062,100
3.0 years
4.0 years
5.0 years
6.0 years
2.0 years
3.0 years
4.0 years
5.0 years
Total
10,024,862
991,105
1,044,319
2,056,804
1,330,581
1,349,877
867,987
295,986
—
7,936,659
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).
A summary of plan activity follows:
January 1, 2016
July 1, 2016
January 1, 2017
July 1, 2017
January 1, 2018
July 1, 2018
Shares Issued
Price
$11.97
11.83
13.76
13.52
13.34
11.57
Shares
18,387
22,418
18,512
25,155
20,662
27,802
On January 1, 2019, we issued 24,834 shares at a price of $11.60 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 2018, 2017 and 2016, we issued 117,935,
104,418 and 99,800 shares, respectively, under this plan. The expense we recognized under the plan was not material.
-88-
14 - Statutory Net Income, Capital and Surplus and Dividend Restrictions
The following table presents selected information, as filed with state 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 (loss) income
Southern:
Statutory capital and surplus
Statutory unassigned (deficit) surplus
Statutory net (loss) income
Le Mars:
Statutory capital and surplus
Statutory unassigned surplus
Statutory net (loss) income
Peninsula:
Statutory capital and surplus
Statutory unassigned surplus
Statutory net (loss) income
Sheboygan:
Statutory capital and surplus
Statutory unassigned surplus
Statutory net income (loss)
MICO:
Statutory capital and surplus
Statutory unassigned surplus
Statutory net income
2018
2017
2016
$ 194,386,473 $ 223,170,835 $ 227,907,377
131,803,666
(22,039,704)
161,760,924
(312,221)
167,872,138
15,750,876
45,355,785
(6,346,270)
(9,822,457)
54,503,581
63,331,001
2,914,532
(3,375,434)
11,881,309
1,774,299
19,593,938
6,462,783
(3,281,643)
23,434,801
10,394,533
(1,679,335)
25,543,803
12,614,756
603,226
32,717,996
39,396,818
41,977,034
14,415,949
(6,316,130)
21,148,253
(841,119)
23,826,681
966,391
16,755,902
13,823,118
13,129,143
2,446,669
1,862,831
554,498
(46,116)
914,773
644,344
55,708,442
52,796,379
49,863,705
28,949,919
26,162,540
23,380,942
6,350,686
7,931,774
7,187,213
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, 2018 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 2019 are $19.4 million from
Atlantic States, $4.5 million from Southern, $2.0 million from Le Mars, $1.7 million from Peninsula, $1.7 million from
Sheboygan and $5.6 million from MICO, or a total of approximately $34.9 million.
15 - Reconciliation of Statutory Filings to Amounts Reported in the Consolidated Financial Statements
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.
-89-
Reconciliations of statutory net (loss) income and capital and surplus, as determined using SAP, to the net (loss) income
and stockholders’ equity amounts included in the accompanying consolidated financial statements are as follows:
Statutory net (loss) income of insurance subsidiaries
$ (33,246,417) $
1,677,549
$ 26,926,349
Year Ended December 31,
2018
2017
2016
Increases (decreases):
Deferred policy acquisition costs
Deferred federal income taxes
Salvage and subrogation recoverable
Consolidating eliminations and adjustments
Parent-only net income
Net (loss) income
325,267
4,179,807
2,061,600
(16,013,971)
9,933,374
$ (32,760,340) $
3,980,664
1,334,410
1,199,200
(13,534,428)
12,458,705
4,200,808
(2,030,865)
1,502,600
(12,327,517)
12,529,762
7,116,100
$ 30,801,137
December 31,
2018
2017
2016
Statutory capital and surplus of insurance subsidiaries
$ 364,518,536
$ 407,125,532
$ 421,752,063
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
16 - Supplementary Cash Flow Information
60,615,127
(20,094,374)
20,038,200
60,289,860
(14,422,511)
17,976,600
56,309,196
(20,843,506)
16,777,400
1,904,083
(16,528,367)
(11,583,304)
$ 398,869,901
1,960,089
(8,748,140)
(15,485,326)
$ 448,696,104
1,689,814
(7,271,932)
(29,797,715)
$ 438,615,320
The following table reflects net income taxes we (recovered) paid and interest we paid during 2018, 2017 and 2016:
Income taxes
Interest
2018
2017
2016
$
(3,290,247) $
3,050,000 $
7,305,000
1,280,352
1,341,706
1,377,247
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.
-90-
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, except per share amounts)
Basic (loss) earnings per share:
Numerator:
Allocation of net (loss) income
Denominator:
Weighted-average shares outstanding
Basic (loss) earnings per share
Diluted (loss) earnings per share:
Numerator:
Allocation of net (loss) 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,
2018
2017
2016
$
$
$
(26,691) $
5,879 $
24,885
22,705
21,799
(1.18) $
0.27 $
20,917
1.19
(26,691) $
5,879 $
24,885
22,705
21,799
20,917
—
22,705
843
22,642
613
21,530
1.16
Diluted (loss) earnings per share
$
(1.18) $
0.26 $
We used the following information in the basic and diluted per share computations for our Class B common stock:
(in thousands, except per share amounts)
Basic and diluted (loss) earnings per share:
Numerator:
Allocation of net (loss) income
Denominator:
Weighted-average shares outstanding
Basic and diluted (loss) earnings per share
Year Ended December 31,
2018
2017
2016
$
$
(6,069) $
1,237 $
5,916
5,577
(1.09) $
5,577
0.22 $
5,577
1.06
During 2018, we did not include any effect of dilutive securities in the computation of diluted earnings per share
due to our net loss during the period.
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18 - Condensed Financial Information of Parent Company
December 31,
Assets
Condensed Balance Sheets
(in thousands)
2018
2017
Investment in subsidiaries/affiliates (equity method)
$
465,030 $
509,011
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
29
1,542
928
—
29
3,237
994
1,479
$
467,529 $
514,750
$
3,948 $
60,000
4,711
68,659
3,842
59,000
3,212
66,054
398,870
448,696
$
467,529 $
514,750
-92-
Condensed Statements of (Loss) Income and Comprehensive (Loss) Income
(in thousands)
Year Ended December 31,
Statements of (Loss) Income
Revenues
Dividends from subsidiaries
Other
Total revenues
Expenses
Operating expenses
Interest
Total expenses
Income (loss) before income tax expense (benefit) and equity in
undistributed net (loss) income of subsidiaries
Income tax expense (benefit)
Income before equity in undistributed net (loss) income of
subsidiaries
Equity in undistributed net (loss) income of subsidiaries
Net (loss) income
Statements of Comprehensive (Loss) Income
Net (loss) income
Other comprehensive (loss) income, net of tax
Unrealized (loss) gain - subsidiaries
Other comprehensive (loss) income, net of tax
Comprehensive (loss) income
2018
2017
2016
$
11,000
$
13,000
$
13,000
3,196
14,196
1,628
2,224
3,852
10,344
411
9,933
(42,693)
(32,760) $
2,131
15,131
1,433
1,929
3,362
11,769
(690)
12,459
(5,343)
7,116
$
1,759
14,759
1,413
1,747
3,160
11,599
(931)
12,530
18,271
30,801
(32,760) $
7,116
$
30,801
(6,625)
(6,625)
(39,385) $
46
46
7,162
$
(3,028)
(3,028)
27,773
$
$
$
-93-
Condensed Statements of Cash Flows
(in thousands)
Year Ended December 31,
Cash flows from operating activities:
Net (loss) income
Adjustments:
Equity in undistributed net loss (income) of subsidiaries
Other
Net adjustments
Net cash provided
Cash flows from investing activities:
Net sale 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 lines of credit
Borrowings under lines of credit
Net cash used
Net change in cash
Cash at beginning of year
Cash at end of year
2018
2017
2016
$
(32,760) $
7,116
$
30,801
42,694
2,531
45,225
12,465
—
(106)
(2,644)
(1)
(2,751)
(15,659)
3,250
—
1,000
(11,409)
(1,695)
3,237
5,343
2,048
7,391
14,507
1
(788)
(2,992)
(1)
(3,780)
(14,821)
15,511
(10,000)
—
(9,310)
1,417
1,820
$
1,542
$
3,237
$
(18,271)
2,802
(15,469)
15,332
2
(11)
(2,393)
—
(2,402)
(14,085)
13,822
(12,000)
—
(12,263)
667
1,153
1,820
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.
-94-
Financial data by segment is as follows:
Revenues:
Premiums earned:
Commercial lines
Personal lines
GAAP premiums earned
Net investment income
Investment (losses) gains
Equity in earnings of DFSC
Other
Total revenues
(Loss) income before income taxes:
Underwriting (loss) income:
Commercial lines
Personal lines
SAP underwriting (loss) income
GAAP adjustments
GAAP underwriting (loss) income
Net investment income
Investment (losses) gains
Equity in earnings of DFSC
Other
(Loss) income before income taxes
2018
2017
2016
(in thousands)
$
337,924
$
318,391
$
295,077
403,367
741,291
26,908
(4,802)
2,694
5,737
384,124
702,515
23,527
5,705
1,622
5,658
361,128
656,205
22,633
2,526
1,086
5,973
$
771,828
$
739,027
$
688,423
2018
2017
2016
(in thousands)
$
$
(22,059) $
(53,590)
(75,649)
894
(74,755)
26,908
(4,802)
2,694
1,718
(48,237) $
13,263
(39,042)
(25,779)
4,408
(21,371)
23,527
5,705
1,622
2,631
$
18,284
(10,745)
7,539
4,642
12,181
22,633
2,526
1,086
2,902
12,114
$
41,328
20 - Guaranty Fund and Other Insurance-Related Assessments
Our insurance subsidiaries’ liabilities for guaranty fund and other insurance-related assessments were $1.9 million and $1.6
million at December 31, 2018 and 2017, respectively. These liabilities included $583,361 and $562,799 related to surcharges
collected by our insurance subsidiaries on behalf of regulatory authorities for 2018 and 2017, respectively.
-95-
21 - Interim Financial Data (unaudited)
Net premiums earned
Total revenues
Net losses and loss expenses
Net (loss) income
Net (loss) 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 (loss)
Net earnings (loss) per common share:
Class A common stock - basic
Class A common stock - diluted
Class B common stock - basic and diluted
22 - Subsequent Event
2018
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
$ 181,764,580 $ 185,714,110 $ 187,661,705 $ 186,150,478
189,328,278
195,790,028
199,904,180
186,805,834
156,583,268
(18,178,078)
135,753,645
(789,855)
140,726,106
1,206,356
143,395,401
(14,998,763)
(0.66)
(0.66)
(0.60)
(0.03)
(0.03)
(0.03)
2017
0.04
0.04
0.04
(0.53)
(0.53)
(0.50)
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
$ 169,156,147 $ 175,014,872 $ 177,283,816 $ 181,059,920
178,970,963
183,580,716
185,716,027
190,758,831
114,433,458
5,104,818
128,005,914
(2,318,648)
114,386,379
7,108,574
130,442,303
(2,778,644)
0.19
0.18
0.17
(0.09)
(0.08)
(0.08)
0.27
0.26
0.24
(0.10)
(0.10)
(0.11)
We and Donegal Mutual sold DFSC to Northwest on March 8, 2019, resulting in proceeds valued at approximately $85.8
million in a combination of cash and Northwest common stock. Immediately prior to the closing of the merger, DFSC paid a
dividend of approximately $29.2 million to us and Donegal Mutual. As the owner of 48.2% of DFSC’s common stock, we
received a dividend payment from DFSC of approximately $14.1 million and consideration from Northwest valued at
approximately $41.4 million. We will record a gain from the sale of DFSC in our results of operations for the first quarter of
2019. This transaction represented the culmination of a banking strategy that began with the formation of DFSC in 2000.
-96-
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors of Donegal Group Inc.:
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of Donegal Group, Inc. and subsidiaries (the Company) as
of December 31, 2018 and 2017, the related consolidated statements of (loss) income and comprehensive (loss) income,
stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2018, and the related
notes and financial statement schedule (collectively, the consolidated financial statements). In our opinion, based on our audits
and the report of the other auditors, the consolidated financial statements present fairly, in all material respects, the financial
position of the Company as of December 31, 2018 and 2017, and the results of its operations and its cash flows for each of the
years in the three-year period ended December 31, 2018, 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) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2018, based on criteria
established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the
Treadway Commission, and our report dated March 14, 2019 expressed an unqualified opinion on the effectiveness of the
Company’s internal control over financial reporting.
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 was $41,025,975 and $38,773,420 as of
December 31, 2018 and 2017, respectively, and its equity in earnings of Donegal Financial Services Corporation was
$2,693,962, $1,621,605, and $1,086,157 for the years ended December 31, 2018, 2017, and 2016, 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.
Change in Accounting Principle
As discussed in Note 2 to the consolidated financial statements, the Company has changed its method of accounting for
changes in fair value of equity securities in 2018 due to the adoption of Accounting Standards Update 2016-01, Recognition
and Measurement of Financial Assets and Liabilities.
Basis for Opinion
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 are a public accounting firm registered
with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities
laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material
misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material
misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to
those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the
consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates
made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that
our audits and the report of the other auditors provide a reasonable basis for our opinion.
We or our predecessor firms have served as the Company’s auditor since 1986.
Philadelphia, Pennsylvania
March 14, 2019
-97-
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, 2018 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, 2018, 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, 2018.
The effectiveness of our internal control over financial reporting at December 31, 2018 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 2018 that have materially affected, or are
reasonably likely to materially affect, our internal control over financial reporting.
Item 9B. Other Information.
None.
-98-
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors of Donegal Group Inc.:
Opinion on Internal Control Over Financial Reporting
We have audited Donegal Group, Inc.and subsidiaries’ (the Company) internal control over financial reporting as of
December 31, 2018, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee
of Sponsoring Organizations of the Treadway Commission. In our opinion, the Company maintained, in all material respects,
effective internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control -
Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States) (PCAOB), the consolidated balance sheets of the Company as of December 31, 2018 and 2017, the related consolidated
statements of (loss) income and comprehensive (loss) income, stockholders’ equity, and cash flows for each of the years in the
three-year period ended December 31, 2018, and the related notes and financial statement schedule (collectively, the
consolidated financial statements), and our report dated March 14, 2019 expressed an unqualified opinion on those
consolidated financial statements.
Basis for Opinion
The Company’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. Our responsibility is to express an opinion on the Company’s internal
control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are
required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable
rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. 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 of internal control over financial reporting 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.
Definition and Limitations of Internal Control Over Financial Reporting
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.
Philadelphia, Pennsylvania
March 14, 2019
-99-
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 15, 2019 relating to our annual meeting of stockholders that we will hold on April 18, 2019, 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.
-100-
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, 2018 and 2017
Consolidated Statements of (Loss) Income and Comprehensive (Loss) Income for each of the years in the
three-year period ended December 31, 2018, 2017 and 2016
Consolidated Statements of Stockholders’ Equity for each of the years in the three-year period ended
December 31, 2018, 2017 and 2016
Consolidated Statements of Cash Flows for each of the years in the three-year period ended December 31,
2018, 2017 and 2016
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
97
56
57
58
59
60
105
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. 2011 Equity Incentive Plan for Employees.
Donegal Group Inc. 2011 Equity Incentive Plan for Directors.
Donegal Group Inc. 2011 Employee Stock Purchase Plan.
Donegal Group Inc. 2013 Equity Incentive Plan for Employees.
Donegal Group Inc. 2013 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.
-101-
(a)
(i)
(c)
(c)
(c)
(d)
(d)
(e)
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
10.20
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.
(e)
(e)
(e)
Employment Agreement dated as of July 29, 2011 among Donegal Mutual Insurance Company,
Donegal Group Inc. and Richard G. Kelley.
Filed
herewith
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.
10.21
Amendment No. 6 effective July 1, 2002 to Donegal Mutual Insurance Company 401(k) Plan.
10.22
Donegal Group Inc. Cash Incentive Bonus Plan.
10.23
10.24
Donegal Group Inc. 2015 Equity Incentive Plan for Employees.
Donegal Group Inc. 2015 Equity Incentive Plan for Directors.
Other Material Contracts
10.25
10.26
10.27
10.28
10.29
10.30
10.31
Amended and Restated Proportional Reinsurance Agreement dated March 1, 2010 between
Donegal Mutual Insurance Company and Atlantic States Insurance Company.
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.
-102-
(e)
(p)
(e)
(e)
(f)
(f)
(b)
(b)
(b)
(b)
(g)
(t)
(q)
(q)
(j)
(k)
(k)
(k)
(l)
(m)
(n)
10.32
10.33
10.34
10.35
10.36
10.37
10.38
10.39
10.40
14
21
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.
Eighth Amendment to Credit Agreement between Donegal Group Inc. and Manufacturers and
Traders Trust Company dated July 1, 2016.
Ninth Amendment to Credit Agreement between Donegal Group Inc. and Manufacturers and
Traders Trust Company dated July 1, 2017.
Tenth Amendment to Credit Agreement between Donegal Group Inc. and Manufacturers and
Traders Trust Company dated July 1, 2018.
Stock Purchase and Standstill Agreement dated as of December 18, 2015 among Donegal Mutual
Insurance Company, Donegal Group Inc. and Gregory M. Shepard.
Eleventh Amendment to Credit Agreement between Donegal Group Inc. and Manufacturers and
Traders Trust Company dated March 5, 2019.
Credit Agreement between Donegal Group Inc. and Manufacturers and Traders Trust Company
dated March 5, 2019.
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
Exhibit 10
1.LAB
Exhibit 10
1.DEF
XBRL Instance Document
XBRL Taxonomy Extension Schema Document
XBRL Taxonomy Presentation Linkbase Document
XBRL Taxonomy Calculation Linkbase Document
XBRL Taxonomy Label Linkbase Document
XBRL Taxonomy Extension Definition Linkbase Document
(o)
(p)
(s)
(u)
(v)
Filed
herewith
(r)
Filed
herewith
Filed
herewith
(h)
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
Filed
herewith
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.
-103-
(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 April 22, 2013.
(e) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 8-K Report dated August 3, 2011.
(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, 1999.
(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, 2002.
(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, 2003.
(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 like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2009.
(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, 2010.
(l) 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.
(m) 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.
(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, 2012.
(o) 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.
(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, 2014.
(q) 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.
(r) We incorporate such exhibit by reference to the like-described exhibit in Registrant's Form 8-K Report dated December 22, 2015.
(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, 2015.
(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 20, 2017 filed on March 16, 2017.
(u) We incorporate such exhibit by reference to the like-described exhibit in Registrant’s Form 10-K Report for the year ended
December 31, 2016.
(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, 2017.
-104-
DONEGAL GROUP INC. AND SUBSIDIARIES
SCHEDULE III — SUPPLEMENTARY INSURANCE INFORMATION
Years Ended December 31, 2018, 2017 and 2016
($ in thousands)
Segment
Year Ended December 31, 2018
Personal lines
Commercial lines
Investments
Year Ended December 31, 2017
Personal lines
Commercial lines
Investments
Year Ended December 31, 2016
Personal lines
Commercial lines
Investments
Net
Premiums
Earned
Net
Investment
Income
Net Losses
and Loss
Expenses
Amortization
of Deferred
Policy
Acquisition
Costs
Other
Underwriting
Expenses
Net
Premiums
Written
$ 403,367
$
— $ 330,410
$
65,821
$
61,635
$ 394,121
337,924
—
246,048
55,143
51,635
349,895
—
26,908
—
—
—
—
$ 741,291
$ 384,124
318,391
—
$ 702,515
$ 361,128
295,077
$
$
$
$
26,908
$ 576,458
$ 120,964
$ 113,270
$ 744,016
— $ 289,924
$
62,916
$
63,721
$ 400,023
—
197,344
52,149
52,817
329,116
23,527
—
—
—
—
23,527
$ 487,268
$ 115,065
$ 116,538
$ 729,139
— $ 247,323
$
59,367
$
59,688
$ 371,657
—
175,993
48,509
48,771
310,377
—
22,633
—
—
—
—
$ 656,205
$
22,633
$ 423,316
$ 107,876
$ 108,459
$ 682,034
-105-
DONEGAL GROUP INC. AND SUBSIDIARIES
SCHEDULE III — SUPPLEMENTARY INSURANCE INFORMATION, CONTINUED
($ in thousands)
Segment
2018
Personal lines
Commercial lines
Investments
2017
Personal lines
Commercial lines
Investments
At December 31,
Deferred
Policy
Acquisition
Costs
Liability
For Losses
and Loss
Expenses
Unearned
Premiums
Other Policy
Claims and
Benefits
Payable
$
32,853
$ 296,538
$ 274,539
$
$
$
27,762
518,127
231,990
—
—
—
60,615
$ 814,665
$ 506,529
33,823
$ 239,542
$ 282,439
26,467
437,130
221,018
—
—
—
$
$
$
60,290
$ 676,672
$ 503,457
$
—
—
—
—
—
—
—
—
See accompanying Report and Consent of Independent Registered Public Accounting Firm.
-106-
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 14, 2019
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/ Dennis J. Bixenman
Dennis J. Bixenman
/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
Director
/s/ S. Trezevant Moore, Jr.
Director
S. Trezevant Moore, Jr.
/s/ Richard D. Wampler, II
Director
Richard D. Wampler, II
-107-
Date
March 14, 2019
March 14, 2019
March 14, 2019
March 14, 2019
March 14, 2019
March 14, 2019
March 14, 2019
March 14, 2019
March 14, 2019
March 14, 2019
March 14, 2019
March 14, 2019
ANNUAL MEETING
April 18, 2019 at 10:00 a.m. at the:
Heritage Hotel Lancaster
500 Centerville Road
Lancaster, Pennsylvania 17601
CORPORATE OFFICES
1195 River Road
P.O. Box 302
Marietta, Pennsylvania 17547-0302
(800) 877-0600
E-mail Address: investors@donegalgroup.com
Donegal Web Site: www.donegalgroup.com
TRANSFER AGENT
Computershare Trust Company, N.A.
P.O. Box 505000
Louisville, Kentucky 40233
(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 505000
Louisville, Kentucky 40233
STOCKHOLDERS
The following represent the number
of our common stockholders of record
as of December 31, 2018:
Class A common stock
Class B common stock
1,846
275
BOARD OF DIRECTORS
Kevin G. Burke
Chairman of the Board
and a Director
Director
Scott A. Berlucchi
Director
Dennis J. Bixenman
Director
Robert S. Bolinger
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
OFFICERS
Kevin G. Burke
Jeffrey D. Miller
Cyril J. Greenya
Christina M. Hoffman
Richard G. Kelley
Sanjay Pandey
Robert G. Shenk
V. Anthony Viozzi
Daniel J. Wagner
David B. Bawel
Jason M. Crumbling
Karen L. Groff
Sheri O. Smith
Michelle M. Post
President and Chief
Executive Officer
Executive Vice President
and Chief Financial Officer
Senior Vice President
Senior Vice President
Senior Vice President
Senior Vice President and
Chief Information Officer
Senior Vice President
Senior Vice President and
Chief Investment Officer
Senior Vice President
and Treasurer
Vice President
Vice President and
Controller
Vice President and
and Assistant Treasurer
Vice President and
Secretary
Assistant Secretary
N
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➜
1195 River Road, P.O. Box 302Marietta, PA 17547-0302(800) 877-0600www.donegalgroup.com