FOCUS
PROASSURANCE 2005 ANNUAL REPORT
THE FOCUS OF PROASSURANCE CORPORATION
We are a specialty insurer focused on writing medical professional liability insurance and developing
insurance solutions which serve the dynamic needs of the evolving health care industry. We are the
fourth largest writer of medical liability insurance in the United States. Our principal insuring sub-
sidiaries are The Medical Assurance Company, Inc., ProNational Insurance Company, NCRIC, Inc.,
and Red Mountain Casualty Insurance Company, Inc. We also write professional liability coverage
through Woodbrook Casualty Insurance Company, Inc.
We believe our strong financial performance and the strength of our balance sheet rewards our
investors, and allows us to make—and keep—long-term promises to the more than 30,000 policy-
holders who place their trust in one of the ProAssurance companies.
SELECTED FINANCIAL DATA(1)
(in thousands)
Income Statement Highlights
Gross premiums written (4)
Total revenues (4)
Income (loss) from continuing operations,
net of tax, before cumulative effect
Net income(2)
Balance Sheet Highlights
Total investments(4)
Total assets, continuing operations
Total assets
Reserve for losses and loss adjustment expenses(4)
Long-term debt (4)
Total liabilities, continuing operations
2005
2004
2003
2002
2001
Fiscal Years Ended December 31
$
$
$
$
$
$
$
572,960
645,312
80,026
113,457
2,630,942
3,341,600
3,909,379
2,224,436
167,240
2,806,820
$
$
$
$
$
$
$
573,592
605,156
43,043
72,811
2,162,147
2,743,295
3,239,198
1,818,636
151,480
2,333,405
$
$
$
$
$
$
$
543,323
533,555
15,345
38,703
1,807,285
2,448,088
2,879,352
1,634,749
104,789
2,074,560
$
$
$
$
$
$
$
461,715
399,904
(8,100)
12,207
1,461,591
2,214,564
2,586,650
1,492,140
72,500
1,854,573
$
$
$
$
$
$
$
315,698
312,364
5,362
12,450
1,328,560
1,913,606
2,238,325
1,317,980
82,500
1,622,121
(1) Includes Professionals Group since June 27, 2001 and NCRIC since August 3, 2005.
(2) Net income for the year ended December 31, 2002 was increased by $1.7 million due to the adoption of SFAS 141 and 142. See Note 13 to our Consolidated Financial Statements in our 2004 Form 10K/A.
(3) Total capital per share of common stock outstanding.
(4) Exclusive of discontinued operations. ProAssurance sold its Personal Lines business effective January 1, 2006. Data reported in the table and graphs is attributable to continuing operations from our
Professional Liability business. Cash flow from continuing operations for 2002 and 2001 is unaudited.
24.59
20.92
18.77
17.49
16.02
01
02
03
04
05
Book value per share(3)
765
611
546
505
413
01
02
03
04
05
Stockholders’ Equity
(in millions)
336
324
242
142
49
01
02
03
04
05
Cash Flow from Continuing Operations (4)
(in millions)
TO OUR STOCKHOLDERS
To My Fellow Shareholders,
Whether you are a ProAssurance shareholder or policyholder, 2005 was
an important year.
For our shareholders, 2005 was significant in both our financial perform-
ance as well as the growth of the ProAssurance brand. Our policyholders
continued to benefit from our increasing financial strength, which further
assures them that we will be there when you need us. With the momentum
and achievements of 2005, I truly believe that the coming year will again
show that focus and execution will keep ProAssurance solidly in its
position of industry leadership.
First, let me review some of the Company’s significant accomplishments in
2005 – a year in which we made further moves to position ProAssurance
for long-term success.
We announced three transactions, each of which has a common thread.
Each focused our energy on the medical professional liability line of
business where our expertise and execution differentiates us from our
competitors.
• We announced and completed the merger of NCRIC into ProAssurance,
which allowed us to expand in Delaware and Virginia, key mid-Atlantic
markets we’d already targeted for growth, and brought us into the
District of Columbia with experienced employees who have a track
record of success in a demanding venue. The integration of NCRIC
into our operations is proceeding as planned.
• ProAssurance made the difficult, but we think prudent, choice to
divest our personal lines business and focus on professional liability.
We announced the sale of MEEMIC in the fourth quarter and closed
that sale effective January 1, 2006. MEEMIC made great contributions
to ProAssurance’s stability and profitability over the past five years,
but we were offered a compelling price that we believe will bring
long-term value to our shareholders, and allow us to concentrate our
efforts on the segment of the insurance industry that we know best.
• We announced the planned merger of Physicians Insurance Company
of Wisconsin into ProAssurance. When we close this all-stock transaction,
hopefully around mid-year, it will bring us the same type of important
business advantages as did NCRIC in 2005. We will be adding seasoned,
successful management, immediate growth in key markets (Wisconsin,
Iowa and Kansas) and opportunities to build on expansion opportunities
in other states in the upper Midwest.
As important as our M & A activities were in 2005, the financial outcomes
of our results oriented focus was even more encouraging.
• In 2005 our professional liability combined ratio was 97.1%, achieving
full-year underwriting profitability for the first time since 1999. We
believe this validates our continual focus on rate adequacy, disciplined
underwriting and superior claims defense.
• Net income rose 86% in 2005 as compared to 2004. Earnings per
share were higher by 75%. I’ve said in prior letters that it would take
some time before we saw the full results of our rate actions – but that
time is here.
• With rates at adequate levels, and with interest rates marginally higher,
we continue to generate significant positive cash flow. Since the start
of 2002 ProAssurance has seen cash flow from operations of over
$1 billion.
• That has helped us grow one of the most solid balance sheets in our
industry sector with total assets of over $3.4 billion and an investment
portfolio now above $2.6 billion.
• In turn, this has allowed us to build Book Value per share to $24.59 at
year-end 2005. We’ve grown book value in every year that we’ve been
a public company, and given the anticipated $3.50 we’ll add to book
value as a result of the sale of MEEMIC, I’m optimistic we’ll continue
that trend in 2006.
These are accomplishments that are especially meaningful to shareholders.
But at the start of this letter I said that this was an important time for
both shareholders and policyholders. Here’s why: given the quality of our
balance sheet and the adequacy of our rates, ProAssurance policyholders
can be secure in the knowledge that we will be here when they need us,
no matter when that need might arise.
A. Derrill Crowe, M.D.
CHAIRMAN AND CEO
But perhaps more important to our policyholders is the fact that we
have the resources to focus on our customers and deliver the range of
comprehensive services they value. We’re confident that this focus is a
key reason we retained 85% of our renewing policyholders last year.
harder to come by for those companies without a clear vision and focus on
the future. We are committed to weathering the vagaries of the insurance
cycle by continually emphasizing adherence to our operating philosophy:
we focus on building our bottom line and serving our customers.
As a policyholder-founded, policyholder-focused company we understand
that long-term success in our line of business will depend on our ability
to meet the high expectations of individual policyholders in a very
dynamic market.
We have never wavered from our commitment to the uncompromising
defense of non-meritorious claims, and we have successfully reinvigorated
the discipline in our underwriting process. Now we are, in a way, return-
ing to our roots to ensure that our customers understand their value to
us, and our value to them.
In 2006 we are making a significant investment in resources that allow
us to be closer to our customers and help us deliver a better level of
service. This will, for example, involve new, more focused risk manage-
ment programs and a significant increase in the number of advisory
meetings with leading policyholders in key states.
Our management team has been strengthened by the elevation of
Howard Friedman, our Chief Underwriting Officer, and Darryl Thomas,
our Chief Claims Officer, to the position of co-president of the professional
liability group. With the addition in late 2004 of Ned Rand, now our CFO,
we are building the long-term strength of ProAssurance by recognizing
the next generation of leaders in our company.
The years ahead may well present new and old challenges. In the climate
of rapidly rising rates of the past few years, many companies were able
to succeed. But as the hard market conditions subside, success will be
As part of that focus, we continue to evaluate opportunities to grow our
business. For now, we believe that profitable growth will come through
careful M&A activity. Our proposed transaction with Physicians Insurance
Company of Wisconsin is a prime example of growth for a reason. We will
add management expertise, open new markets and expand the services
available to our policyholders.
Given the choice of growth for growth’s sake or making the tough decisions
required to succeed, we will choose profitable business as our driver for
long-term success every time. Throughout our Company, our employees
understand that our success is the result of a laser-like focus on the disci-
plined execution of a strategy to identify, write and retain profitable business.
While we, as a management team, have developed a disciplined strategy
for success, we rely on our employees, agents and defense attorneys
to execute that strategy. I want to take this opportunity to publicly thank
them for helping make ProAssurance what it is today. I also want to
sincerely thank you, our shareholders, for the confidence you continue
to show by investing alongside us.
A. Derrill Crowe, M.D.
Chairman and CEO
March 31, 2006
FOCUS
PROASSURANCE FORM-10K
United States Securities and Exchange Commission
Washington, D.C. 20549
FORM 10−K
(Mark One)
(cid:254)
o
Annual report pursuant to section 13 or 15(d) of the Securities Exchange Act of
1934 [Fee Required] for the fiscal year ended December 31, 2005, or
Transition report pursuant to section 13 or 15(d) of the Securities Exchange Act of
1934 [No Fee Required] for the transition period from to .
Commission file number: 001−16533
ProAssurance Corporation
(Exact name of registrant as specified in its charter)
Delaware
(State of incorporation or organization)
100 Brookwood Place, Birmingham, AL
(Address of principal executive offices)
63−1261433
(I.R.S. Employer Identification No.)
35209
(Zip Code)
(205) 877−4400
(Registrant’s Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
Common Stock, par value $0.01 per share
Name of Each Exchange On Which Registered
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None.
Indicate by check mark if the registrant is a well−known seasoned issuer, as defined in Rule 405 of the Securities
Act. Yes o No (cid:254)
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes o No (cid:254)
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 (cid:254) No o
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 incorporated
by reference in Part III of this Form 10−K or any amendment to this Form 10−K. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non−accelerated filer.
See definition of “accelerated filer and large accelerated filer” in Rule 12b−2 of the Exchange Act. Large Accelerated
Filer (cid:254) Accelerated Filer o Non−Accelerated Filer o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b−2 of the Exchange Act.
Yes o No (cid:254)
The aggregate market value of voting stock held by non−affiliates of the registrant at June 30, 2005 was $1,227,971,676.
As of February 15, 2005, the registrant had outstanding approximately 31,144,642 shares of its common stock.
Documents incorporated by reference in this Form 10−K
(i)
(ii)
(iii)
(iv)
(v)
(vi)
The definitive proxy statement for the 2006 Annual Meeting of the Stockholders of ProAssurance Corporation (File
No. 001−16533) is incorporated by reference into Part III of this report.
Registration Statement on Form S−4 of MAIC Holdings, Inc. (File No. 33−91508) is incorporated by reference into
Part IV of this report.
The MAIC Holdings, Inc. Definitive Proxy Statement for the 1996 Annual Meeting (File No. 0−19439) is incorporated
by reference into Part IV of this report.
The Registration Statement on Form S−4 of Professionals Group, Inc. (File No. 333−3138) is incorporated by
reference into Part IV of this report.
The Registration Statement on Form S−4 of ProAssurance Corporation (File No. 333−49378) is incorporated by
reference into Part IV of this report.
The ProAssurance Corporation Quarterly Report on Form 10−Q for the quarter ended June 30, 2001 (Commission
File No. 001−16533) is incorporated by reference into Part IV of this report.
(vii) The ProAssurance Corporation Quarterly Report on Form 10−Q for the quarter ended September 30, 2001
(Commission File No. 001−16533) is incorporated by reference into Part IV of this report.
(viii) The ProAssurance Corporation Annual Report on Form 10−K for the year ended December 31, 2001 (Commission
File No. 001−16533) is incorporated by reference into Part IV of this report.
(ix)
(x)
(xi)
The ProAssurance Corporation Quarterly Report on Form 10−Q for the quarter ended June 30, 2002 (Commission
File No. 001−16533) is incorporated by reference into Part IV of this report.
The Registration Statement on Form S−3 of ProAssurance Corporation (Commission File No. 333−100526) is
incorporated by reference into Part IV of this report.
The ProAssurance Annual Report on Form 10−K for the year ended December 31, 2002 (File No. 001−16533) is
incorporated in Part IV of this report.
(xii) The ProAssurance Corporation Quarterly Report on Form 10−Q for the quarter ended June 30, 2003 (File
No. 001−16533) is incorporated in Part IV of this report.
(xiii) The Registration Statement on Form S−3 of ProAssurance Corporation (File No. 333−109972) is incorporated by
reference in Part IV of this report.
(xiv) The ProAssurance Corporation Definitive Proxy Statement filed on April 16, 2004 (File No. 001−16533) is
incorporated by reference into Part IV of this report.
(xv) The ProAssurance Corporation Annual Report on form 10−K for the year ended December 31, 2004 (File
No. 001−16533) is incorporated by reference into Part IV of this report.
(xvi) The Registration Statement of Form S−4 of ProAssurance Corporation (File No. 333−124156) is incorporated by
reference in Part IV of this report.
2
(xvii) The ProAssurance Corporation Current Report on Form 8−K for event occurring on March 31, 2005 (File
No. 001−16533) is incorporated by reference into Part IV of this report.
(xviii) The ProAssurance Corporation Current Report on Form 8−K for event occurring on May 18, 2005 (File
No. 001−16533) is incorporated by reference into Part IV of this report.
(xix) The ProAssurance Corporation Current Report on Form 8−K for event occurring on January 4, 2006 (File
No. 001−16533) is incorporated by reference into Part IV of this report.
(xx)
The Registration Statement of form S−4 of ProAssurance Corporation (File No. 333−131874) is incorporated by
reference in Parts I and IV of this report.
3
ITEM 1. BUSINESS.
General / Corporate Overview
PART I
We are a holding company for specialty property and casualty insurance companies focused on professional liability insurance. Our
executive offices are located at 100 Brookwood Place, Birmingham, Alabama 35209 and our telephone number is (205) 877−4400.
Our stock trades on the New York Stock Exchange under the symbol “PRA.” Our website is www.ProAssurance.com.
The Investor Relations section of our website provides many resources for investors seeking to learn more about us. Whenever we
file a document or report with the Securities and Exchange Commission (the SEC) on its EDGAR system, we make the document
available on our website as soon as reasonably practical. This includes our annual report on Form 10K, our quarterly reports on Form
10Q and our current reports on Form 8K. We show details about stock trading by corporate insiders by providing access to SEC
Forms 3, 4 and 5 when they are filed with the SEC. We maintain access to these reports for at least one year after their filing.
In addition to federal filings, we make available copies of the financial statements we file with state regulators, news releases that
we issue, and certain investor presentations. We believe these documents provide important additional information about our financial
condition.
The Corporate Governance section of our website provides copies of the Charters for our Audit Committee, Internal Audit
function, Compensation Committee and Nominating/Corporate Governance Committee. In addition you will find up−to−date copies
of documents detailing our Code of Ethics and Conduct, Corporate Governance Principles and Share Ownership Guidelines for
Management and Directors. We also provide copies of the Pre−Approval Policy and Procedures for our Audit Committee and our
Policy Regarding Stockholder−Nominated Director Candidates.
Printed copies of our committee charters, Corporate Governance Principles, Code of Ethics and Conduct, and our Policy Regarding
Determination of Director Independence (including categorical standards to assist in determining independence) may be obtained from
Frank O’Neil, Senior Vice President, ProAssurance Corporation, either by mail at P.O. Box 590009, Birmingham, Alabama
35259−0009, or by telephone at (205) 877−4400 or (800) 282−6242.
Because the insurance business uses certain terms and phrases that carry special and specific meaning, we urge you to read the
Glossary included at the end of Item I prior to reading this report.
General / Business Overview
We sell professional liability insurance primarily to physicians, dentists, other healthcare providers and healthcare facilities,
principally in the mid−Atlantic, Midwest and Southeast. We have a small book of legal professional liability business in the Midwest
as well.
Our top five states represented 68% of gross premiums written for the year ended December 31, 2005. The following table shows
our gross premiums written in these lines and key states for each of the periods indicated.
4
Ohio
Alabama
Florida
Michigan
Indiana (1)
All other states
Total
Gross Written Premiums–Years Ended December 31
($ in thousands)
2004(2)
2005
2003(2)
$131,102
111,462
61,341
46,741
41,129
181,185
23%
19%
11%
8%
7%
32%
$149,269
111,582
69,899
45,578
32,635
164,629
26%
19%
12%
8%
6%
29%
$123,205
106,437
80,549
54,727
32,837
145,568
23%
20%
15%
10%
6%
26%
$572,960
100%
$573,592
100%
$543,323
100%
(1) Not a top five state in 2004 and 2003.
(2) Missouri was included in the top five states in 2004 and 2003 (gross premiums written of $35,217 and $33,987,
respectively).
We maintain 16 local claims and/or underwriting offices to ensure that we have a local presence in the markets we
serve. This emphasis on local knowledge allows us to maintain active relationships with our customers and be more
responsive to their needs.
We believe this local knowledge allows us to be more effective in evaluating claims because we have a detailed
understanding of the medical and legal climates of each market. Our insureds value the attention we give to each claim
and our willingness and ability to defend non−meritorious claims is a key factor that differentiates us from our competitors.
We rigorously underwrite each application for coverage to ensure that we understand the risks we accept, and are
able to develop an adequate price for that risk. By ensuring that we charge an adequate rate, we seek to maintain the
strong financial position that allows us to protect our customers in the long−term.
We believe our financial strength, commitment to a local market presence and personal service have allowed us to
establish a leading position in our markets, thus enabling us to effectively compete on a basis other than just price.
General / Financial Overview
For the year ended December 31, 2005, we generated $573.0 million of gross premiums written, $543.2 million of
net premiums earned and $645.3 million of total revenues. As of December 31, 2005, we had cash and invested assets of
$2.665 billion, total assets of $3.909 billion and stockholders’ equity of $765.0 million.
For the year ended December 31, 2005, our combined ratio was 97.1%. A combined ratio below 100% indicates
profitable underwriting prior to the consideration of investment income. However, if investment income is considered,
companies writing professional liability insurance may be profitable with combined ratios above 100%. Thus, the
combined ratio may not always be indicative of our ultimate results because of the “long−tail” nature of the professional
liability business.
In order to measure the effect of investment income, we also measure our results by calculating our operating ratio.
We measure our overall results by calculating our Return on Equity.
5
Corporate Organization and History
We were incorporated in Delaware in June 2001 to serve as the holding company for Medical Assurance, Inc. (Medical
Assurance) in connection with its acquisition of Professionals Group, Inc. (Professionals Group). Our core operating
subsidiaries are The Medical Assurance Company, Inc., ProNational Insurance Company, NCRIC Insurance Company,
Inc., and Red Mountain Casualty Insurance Company, Inc. We also write a limited amount of medical professional liability
insurance through Woodbrook Casualty Insurance Company, Inc. (formerly Medical Assurance of West Virginia, Inc.),
which we consider to be a non−core operating subsidiary. We are the successor to twelve insurance organizations and
much of our growth has come through mergers and acquisitions. In each, we retained key personnel, allowing us to
maintain a local presence and preserve important institutional knowledge in claims management and underwriting. We
believe that this ability to utilize local knowledge in claims and underwriting is a critical factor in the operation of our
companies. Our successful integration of each organization demonstrates our ability to grow effectively through
acquisitions.
Our predecessor company, Medical Assurance, was founded by physicians as a mutual company in Alabama and
wrote its first policy in 1977. We demutualized and became a public company in 1991. Medical Assurance expanded
through internal growth and the acquisition of professional liability insurance companies with strong regional identities in
West Virginia, Indiana and Missouri, along with books of business in Ohio and Missouri.
Professionals Group traces its roots to the Brown−McNeeley Fund, which was founded by the State of Michigan in
1975 to provide medical professional liability insurance to physicians. Physicians Insurance Company of Michigan, which
ultimately became ProNational, was founded in 1980 to assume the business of the Fund. That company also expanded
through internal growth and the acquisition of a book of business in Illinois and the acquisition of professional liability
insurers in Florida and Indiana.
Recent Transactions
In 2005 ProAssurance acquired NCRIC Group (NCRIC), a Washington, D.C.−based medical professional liability
insurer in a stock−for−stock transaction. The acquisition of NCRIC solidified ProAssurance’s market position in the
mid−Atlantic states, and provided additional personnel and local expertise to drive growth in that region. We issued
approximately 1.7 million shares valued at $67.1 million for purposes of this transaction. See Note 2 of our Consolidated
Financial Statements included herein for more information regarding the transaction with NCRIC.
In 2005 ProAssurance announced the sale of its personal lines subsidiary MEEMIC Insurance Company and MEEMIC
Agency (the MEEMIC Companies), which provide automobile, homeowners and associated coverage to educators and
their families in Michigan. MEEMIC was sold to Motors Insurance Corporation, a subsidiary of GMAC Insurance Holdings,
Inc. (GMAC Insurance), effective on January 1, 2006. GMAC Insurance paid approximately $325 million in cash for the
MEEMIC Companies. In addition to receiving cash from GMAC Insurance, we retained approximately $75 million of
MEEMIC’s capital. The results of our former personal lines segment are presented as discontinued operations in this
report. See Note 3 of our Consolidated Financial Statements included herein for more information regarding the
transaction with Motors Insurance Corporation.
In April and May 2004, we received net proceeds of $44.9 million from the issuance of $46.4 million of trust preferred
securities. These trust preferred securities have a 30−year maturity and are callable at par in December 2009. The
interest rate on these securities adjusts quarterly to the 3−month London Interbank Offered Rate (LIBOR) plus 385 basis
points. In our acquisition of NCRIC, we assumed its obligations in connection with $15.0 million of trust preferred
securities issued in December 2002. These trust preferred securities have a 30−year maturity and are callable at par in
December 2007. The interest rate on these securities adjusts quarterly to the 3−month LIBOR plus 400 basis points. Both
sets of trust preferred securities were issued by specially−created business trusts created solely for the sole purpose of
issuing the securities.
6
In early July 2003 we received $104.6 million from the issuance of 3.9% Convertible Debentures, due June 2023,
having a face value of $107.6 million. We utilized a substantial portion of the net proceeds from the sale of the Convertible
Debentures to repay our outstanding term loan. We are using the balance of the net proceeds from the sale of the
Convertible Debentures and the trust preferred securities, for general corporate purposes, including contributions to the
capital of our insurance subsidiaries to support the growth in insurance operations. See Note 10 to our Consolidated
Financial Statements for more information regarding the Convertible Debentures and the trust preferred securities.
In the fourth quarter of 2002 ProAssurance sold 3,025,000 shares of common stock at a price of $16.55 per share in
an underwritten public offering. ProAssurance received net proceeds from the offering in the amount of approximately
$46.5 million. ProAssurance used the proceeds from the offering to support the growth of the professional liability
insurance business and for general corporate purposes.
Proposed Transaction
On December 8, 2005 ProAssurance Corporation announced that it had signed a definitive agreement that will merge
Physicians Insurance Company of Wisconsin, Inc. into a subsidiary of ProAssurance in an all stock transaction. We will
issue shares of our common stock having a total value of approximately $100 million. ProAssurance has filed a
Registration Statement on Form S−4 to register the shares to be issued in this transaction (SEC File Number
133−131874), which includes detailed information regarding this transaction.
Physicians Insurance Company of Wisconsin, Inc. is a Wisconsin−domiciled stock insurance company; its shares are
not registered under the Securities Exchange Act of 1934. The transaction must be approved by Physicians Insurance
Company of Wisconsin, Inc. shareholders, and is subject to required regulatory approvals.
Products and Services
We sell professional liability insurance primarily to physicians, dentists, other healthcare providers and healthcare
facilities, principally in the mid−Atlantic, Midwest and Southeast. We have a small book of legal professional liability
business in the Midwest as well. We are licensed to do business in every state but Connecticut, Maine, New Hampshire,
New York and Vermont.
Although we generate a majority of our premiums from individual and small group practices, we also insure major
physician groups as well as hospitals. While most of our business is written in the standard market, our subsidiary, Red
Mountain Casualty Insurance Company, Inc., offers medical professional liability insurance on an excess and surplus lines
basis. We also offer professional office package and workers’ compensation insurance products in connection with our
medical professional liability products.
Marketing
We believe our size, financial strength and flexibility of distribution differentiates us from our competitors.
We utilize direct marketing and independent agents to write our business. In Alabama, we rely solely on direct
marketing, and in Florida and Missouri, direct marketing accounts for a majority of our business. We use independent
agents to market our professional liability insurance products in other markets. For the year ended December 31, 2005,
we estimate that approximately 65% of our gross premiums written were produced through independent insurance
agencies. These local agencies usually have one to three producers who specialize in professional liability insurance and
who we believe are able to convey the factors that differentiate our professional liability insurance product. No single
agent or agency accounts for more than 10% of our total direct premiums written.
Our marketing is primarily directed to physicians. We generally do not target large physician groups or facilities
because of the difficulty in underwriting the individual risks and because their purchasing decision is more focused on
price. Our marketing emphasizes:
7
– excellent claims service and the other services and communications we provide to our customers,
– the sponsorship of risk management education seminars as an accredited provider of continuing medical education,
– risk management consultation, loss prevention seminars and other educational programs,
– legislative oversight and active support of proposed legislation we believe will have a positive effect on liability issues
affecting the healthcare industry,
– the dissemination of newsletters and other printed material with information of interest to the healthcare industry, and
– endorsements by, and attendance at meetings of medical societies and related organizations.
These communications and services have helped us gain exposure among potential insureds and demonstrate our
understanding of the insurance needs of the healthcare industry and promote a commonality of interest among us and our
insureds.
Underwriting
Our underwriting process is driven by individual risk selection rather than by the size or other attributes of an account.
Our pricing decisions are focused on achieving rate adequacy. We assess the quality and pricing of the risk, primarily
emphasizing loss history, practice specialty and location in making our underwriting decision. Our underwriters work
closely with our local claims departments. This includes consulting with staff about claims histories and patterns of
practice in a particular locale as well as monitoring claims activity.
Our underwriting focuses on knowledge of local market conditions and the legal environment. Through our six regional
underwriting offices located in Alabama, Florida, Indiana, Missouri, Michigan and Washington, D.C., we have established
a local presence within our targeted markets to obtain better information more quickly.
Our underwriters work with our field marketing force to identify business that meets these established underwriting
standards and to develop specific strategies to write the desired business. In performing this assessment, our
underwriters may also consult with internal actuaries regarding loss trends and pricing and utilize loss−rating models to
assess the projected underwriting results of certain insured risks.
These underwriters are also assisted by our local medical advisory committees that we have established in our key
states. These committees are comprised of local physicians, dentists and representatives of hospitals and healthcare
entities and help us maintain close ties to the medical communities in these states, provide information on the practice of
medicine in each state and provide guidance on critical underwriting and claims issues.
Claims Management
We have claims offices in Alabama (2), Delaware, Florida (2), Illinois, Indiana, Kentucky, Michigan, Missouri, Ohio (2),
Pennsylvania, Virginia, Washington, D.C., and West Virginia so that we can provide localized and timely attention to
claims. Our claims department investigates the circumstances surrounding a medical incident from which a covered claim
arises against an insured. As we investigate, our claims department establishes the appropriate case reserves for each
claim and monitors the level of each case reserve as circumstances require.
Upon investigation, and in consultation with the insured and appropriate experts, we evaluate the merit of the claim
and either seek reasonable settlement or aggressively defend the claim. If the claim is defended, our claims department
manages the case, including selecting defense attorneys who specialize in medical liability cases, planning the defense
and obtaining medical and/or other professional experts to assist in the analysis and defense of the claim. As part of this
evaluation and preparation process we meet regularly with medical advisory committees in our key states to examine
claims, attempt to identify potentially troubling practice patterns and make recommendations to our staff.
8
We aggressively defend claims against our insureds that we believe have no merit or those we believe cannot be
reasonably settled. As a result of this policy, many of our claims are litigated, and we engage experienced trial attorneys
in each venue to handle the litigation in defense of our policyholders.
Our aggressive claims management approach generally results in increased loss adjustment expenses compared to
those of other property and casualty lines or other companies specializing in professional liability insurance. However, we
believe that our approach contributes to lower overall loss costs and results in greater customer loyalty. The success of
this claims philosophy is based on our ability to develop relationships with attorneys who have significant experience in
the defense of professional liability claims and who are able to defend claims in an aggressive, cost−efficient manner.
Investments
Our assets are held mainly in the operating insurance companies, but are overseen by executives in our holding
company to ensure that we apply a consistent management strategy to the entire portfolio.
Our overall investment strategy is to focus on maximizing current income from our investment portfolio while
maintaining safety, liquidity, duration and portfolio diversification. The portfolio is generally managed by professional third
party asset managers whose results are evaluated periodically by management. The asset managers typically have the
authority to make investment decisions, subject to investment policies, within the asset class they are responsible for
managing. See Note 4 to our Consolidated Financial Statements for more detail on our investments.
Rating Agencies
Our claims−paying ability and financial strength are regularly evaluated and rated by three major rating agencies, A. M.
Best, Fitch and Standard & Poor’s. In developing their ratings, these agencies evaluate an insurer’s ability to meet its
obligations to policyholders. While these issues may be of concern to shareholders, these are not ratings of securities nor
a recommendation to buy, hold or sell any security.
The following table presents the ratings of our group and our active insurance companies as of March 1, 2006:
Rating Agency
A. M. Best
(www.ambest.com)
Fitch (www.fitchratings.com)
Standard & Poor’s
(www.sandp.com)
ProAssurance
Group
A−
(Excellent)
Not
Rated
A−
(Strong)
Medical
Assurance
A−
(Excellent)
A−
(Excellent)
A−
(Strong)
Company / Rating
NCRIC
B++
(Very Good)
ProNational
A−
(Excellent)
Red
Mountain
Casualty
A−
(Excellent)
Woodbrook
Casualty
B
(Fair)
Not
Rated
Not
Rated
A−
(Excellent)
A−
(Strong)
Not
Rated
Not
Rated
Not
Rated
Not
Rated
The rating process is dynamic and ratings can change. If you are seeking updated information about our ratings,
please visit the rating agency websites listed in the table.
Competition
Competition depends on several factors including pricing, size, name recognition, service quality, market commitment,
breadth and flexibility of coverage, method of sale, financial stability and ratings assigned by A.M. Best, Standard &
Poor’s, and Fitch. Many of these factors, such as market conditions, the ratings assigned by rating agencies, and
regulatory conditions are beyond our control. However, for those factors within our control, such as service quality, market
9
commitment, financial strength and stability, we believe we have competitive strengths that make us a viable competitor in
those states where we are currently writing insurance.
We compete with many insurance companies and alternative insurance mechanisms such as Risk Retention Groups
or self−insuring entities. Many of the competitors concentrate on a single state and have an extensive knowledge of the
local markets. We also compete with several large national insurers that may have greater financial strength and
resources than we do.
We believe that we have a competitive advantage in the current market due to our size, geographic scope and name
recognition, as well as our heritage as a policyholder−founded company with a long−term commitment to the professional
liability insurance industry. We have achieved these advantages through our balance sheet strength, claims defense
expertise, strong ratings and ability to deliver a high level of service to our insureds and agents. We believe that these
competitive strengths make us a viable competitor in the states where we are currently writing insurance.
Beginning in 1999, insurance companies focused on medical professional liability coverage experienced higher claim
costs on business written in prior years than they had reserved for initially. In many cases this resulted in significant
losses and reduced the capital available to support current and future business. This led many professional liability
carriers focused on medical professional liability coverages to withdraw from, or limit new business in, one or more
markets.
In 2002 several medical liability insurance companies were forced from the market due to financial difficulties. The St.
Paul Companies, then the leading writer of medical professional liability insurance, withdrew from the market. In 2003
Farmers Insurance Company exited medical professional liability insurance and The Reciprocal of America was placed
under regulatory supervision. We believe these events have heightened the sensitivity of our target market to financial
strength and stability.
From mid−2004 through 2005 several small competitors with limited capital have entered different states within our
business footprint. These smaller companies tend to focus on limited pools of risk or geographic areas, but generally try to
gain market share through lower premiums or less stringent underwriting. We have lost some of our business to the
competitors, but our market position has largely allowed us to attract new customers to offset their departure.
In the latter half of 2005 we did see signs that established companies were beginning to compete primarily on price, or
less stringent coverage terms. This has been isolated to more competitive markets where we maintain a strong market
position, and we have been able to renew the vast majority of our policies at premium levels we believe will allow us to
achieve our Return on Equity targets. However, should competitors become less disciplined in their pricing, or more
permissive in their coverage terms, we would expect to lose the business of policyholders who based their buying
decisions primarily on price. Our strategy is not to compete on price, but to demonstrate the value in the coverage we
provide.
Insurance Regulatory Matters
We are subject to regulation under the insurance and insurance holding company statutes, of various jurisdictions
including the domiciliary states of our insurance subsidiaries and other states in which our insurance subsidiaries do
business. Our operating insurance subsidiaries are domiciled in Michigan, Alabama and Washington, D.C.
Insurance companies are also affected by a variety of state and federal legislative and regulatory measures and
judicial decisions that define and qualify the risks and benefits for which insurance is sought and provided. These include
redefinitions of risk exposure in such areas as medical liability, product liability, environmental damage and workers’
compensation. In addition, individual state insurance departments may prevent premium rates for some classes of
insureds from reflecting the level of risk assumed by the insurer for those classes. Although there is limited federal
regulation of the insurance business, each state has a comprehensive system for regulating insurers operating in that
state. In addition, these insurance regulators periodically examine each insurer’s financial condition, adherence to
statutory accounting practices, and compliance with insurance department rules and regulations.
10
Our operating subsidiaries are required to file detailed annual reports with the state insurance regulators in each of the
states in which they do business. The laws of the various states establish supervisory agencies with broad authority to
regulate, among other things, licenses to transact business, premium rates for certain types of coverage, trade practices,
agent licensing, policy forms, underwriting and claims practices, reserve adequacy, transactions with affiliates, and insurer
solvency. Many states also regulate investment activities on the basis of quality, distribution and other quantitative criteria.
States have also enacted legislation regulating insurance holding company systems, including acquisitions, the payment
of dividends, the terms of affiliate transactions, and other related matters.
Applicable state insurance laws, rather than federal bankruptcy laws, apply to the liquidation or reorganization of
insurance companies.
Insurance Regulation Concerning Change or Acquisition of Control
The insurance regulatory codes in our operating subsidiaries’ respective domiciliary states each contain similar
provisions (subject to certain variations) to the effect that the acquisition of “control” of a domestic insurer or of any person
that directly or indirectly controls a domestic insurer cannot be consummated without the prior approval of the domiciliary
insurance regulator. In general, a presumption of “control” arises from the direct or indirect ownership, control or
possession with the power to vote or possession of proxies with respect to 10% (5% in Alabama) or more of the voting
securities of a domestic insurer or of a person that controls a domestic insurer. A person seeking to acquire control,
directly or indirectly, of a domestic insurance company or of any person controlling a domestic insurance company must
generally file an application for approval of the proposed change of control with the relevant insurance regulatory
authority.
In addition, certain state insurance laws contain provisions that require pre−acquisition notification to state agencies of
a change in control of a non−domestic insurance company admitted in that state. While such pre−acquisition notification
statutes do not authorize the state agency to disapprove the change of control, such statutes do authorize certain
remedies, including the issuance of a cease and desist order with respect to the non−domestic admitted insurers doing
business in the state if certain conditions exist, such as undue market concentration.
Statutory Accounting and Reporting
Insurance companies are required to file detailed annual reports with the state insurance regulators in each of the
states in which they do business, and their business and accounts are subject to examination by such regulators at any
time. The financial information in these reports is prepared in accordance with Statutory Accounting Practices (SAP).
Insurance regulators periodically examine each insurer’s financial condition, adherence to SAP, and compliance with
insurance department rules and regulations.
Regulation of Dividends and Other Payments from Our Operating Subsidiaries
We are a legal entity separate and distinct from our subsidiaries. As a holding company with no other business
operations, our primary sources of cash to meet our obligations, including principal and interest payments with respect to
indebtedness, are available dividends and other statutorily permitted payments, such as tax allocation payments from our
operating subsidiaries.
Our operating subsidiaries are subject to various state statutory and regulatory restrictions, applicable generally to any
insurance company in its state of domicile, which limit the amount of dividends or distributions an insurance company may
pay to its stockholders without prior regulatory approval. The restrictions are generally based on certain levels or
percentages of surplus, investment income and operating income, as determined in accordance with SAP. Generally,
dividends may be paid only out of earned surplus. In every case, surplus subsequent to the payment of any dividends
must be reasonable in relation to an insurance company’s outstanding liabilities and must be adequate to meet its
financial needs.
11
State insurance holding company acts generally require domestic insurers to obtain prior approval of extraordinary
dividends. Under the insurance holding company acts governing our principal operating subsidiaries, a dividend is
considered to be extraordinary if the combined dividends and distributions to the parent holding company in any 12 month
period are more than the greater of either the insurer’s net income for the prior fiscal year or 10% of its surplus at the end
of the prior fiscal year. If insurance regulators determine that payment of a dividend or any other payments to an affiliate
(such as payments under a tax−sharing agreement or payments for employee or other services) would, because of the
financial condition of the paying insurance company or otherwise, be a detriment to such insurance company’s
policyholders, the regulators may prohibit such payments that would otherwise be permitted without prior approval.
Risk−Based Capital
In order to enhance the regulation of insurer solvency, the National Association of Insurance Commissioners
(NAIC) specifies risk−based capital (RBC) requirements for property and casualty insurance companies. At December 31,
2005, all of ProAssurance’s insurance subsidiaries exceeded the minimum level and, as a result, no regulatory response
or action was required.
Investment Regulation
Our operating subsidiaries are subject to state laws and regulations that require diversification of investment portfolios
and that limit the amount of investments in certain investment categories. Failure to comply with these laws and
regulations may cause non−conforming investments to be treated as non−admitted assets for purposes of measuring
statutory surplus and, in some instances, would require divestiture. We believe that our operating subsidiaries are in
compliance with state investment regulations.
Guaranty Funds
Admitted insurance companies are required to be members of guaranty associations which administer state Guaranty
Funds. These associations levy assessments (up to prescribed limits) on all member insurers in a particular state on the
basis of the proportionate share of the premiums written by member insurers in the covered lines of business in that state.
Maximum assessments permitted by law in any one year generally vary between 1% and 2% of annual premiums written
by a member in that state. Some states permit member insurers to recover assessments paid through surcharges on
policyholders or through full or partial premium tax offsets, while other states permit recovery of assessments through the
rate filing process.
Shared Markets
State insurance regulations may force us to participate in mandatory property and casualty shared market mechanisms
or pooling arrangements that provide certain insurance coverage to individuals or other entities that are otherwise unable
to purchase such coverage in the commercial insurance marketplace. Our operating subsidiaries’ participation in such
shared markets or pooling mechanisms is not material to our business at this time.
Legislative and Regulatory Changes
In recent years, the insurance industry has been subject to increased scrutiny by regulators and legislators. The NAIC
and a number of state legislatures have considered or adopted legislative proposals that alter and, in many cases,
increase the authority of state agencies to regulate insurance companies and insurance holding company systems.
Several of the states in which we operate, notably Florida, Illinois, Missouri, Ohio and West Virginia, have passed Tort
Reform, but these laws have yet to materially affect our business. Recent court decisions in West Virginia have struck
down the Tort Reforms enacted in 1991 and we believe there will be court challenges in the remaining states in the
coming years. History tells us that many of these laws will be invalidated in the appeals process. Because we
12
cannot predict with any certainty how appellate courts will rule on these laws we do not take them into account in our
rate−making assumptions, except in Florida where such credit is required by law.
Legislatures in other states in which we operate are currently considering, or being asked to consider Tort Reform, but
we cannot predict in which states those efforts will be successful. In certain states, Tort Reform may also place limits on
the ability of medical liability insurers to raise or maintain rates at adequate levels. We continue to monitor developments
on a state−by−state basis, and make business decisions accordingly.
The professional liability market in Florida is subject to three constitutional amendments that were approved by voters
in November 2004. The first amendment places limits on fees plaintiff attorneys may collect in medical liability cases, but
lawyers have been successful in evading these restrictions by having plaintiffs waive their constitutional rights to this
protection. This practice has been challenged, but initial court rulings seem likely to permit it to continue. Therefore, we do
not believe this law will result in fewer malpractice claims being filed.
The second amendment would take away the license of any physician who has three malpractice judgments or
adverse findings by a licensing review organization. We believe this could cause physicians to demand settlements in
malpractice cases which could generate more lawsuits and drive up costs. The Florida legislature has passed enabling
legislation that prohibits retroactive application of this law. Thus only incidents occurring on or after November 4, 2004 are
covered, and it’s likely to be at least five years in the future before the effects of this law could be felt.
The third amendment gives the public greater rights to see previously confidential state complaints filed against
doctors and institutions, incident reports filed after medical errors, and documents from error reviews done by hospitals.
Court challenges to this law are continuing, but if upheld, this could have a detrimental effect on peer review activities
There are also Tort Reform proposals being considered at the Federal level. This legislation has the backing of the
Bush administration and passed the House of Representatives again in 2005. The legislation has never been approved in
the Senate and while there are more Republicans now serving in the Senate, we do not believe there are enough votes to
enact these reforms. As in the states, passage of a federal Tort Reform package would likely be subject to judicial
challenge and we cannot be certain that it would be upheld by the courts.
In addition, prior to 2005 several committees of Congress made inquiries and conducted hearings as part of a broad
study on the regulation of insurance companies, and legislation has been introduced in several of the past sessions of
Congress which, if enacted, could result in the federal government assuming some role in the regulation of the insurance
industry. While we do not have any reason to believe this legislation is likely to pass in the coming year, we cannot rule
out that possibility.
Although the federal government does not regulate the business of insurance directly, federal initiatives often affect the
insurance business. Current and proposed federal measures that may significantly affect the insurance business include
changes in medical patient protection laws such as the “Patients Bill of Rights”, Tort Reform and environmental laws.
Employees
At December 31, 2005, we employed 517 persons in our continuing operations. None of our employees are
represented by a labor union. We consider our employee relations to be good.
ITEM 1A. RISK FACTORS.
There are a number of factors, many beyond our control, which may cause results to differ significantly from our
expectations. Some of these factors are described below under “Risk Factors,” while others having to do with operational,
liquidity, interest rate and other variables, are described elsewhere in this report (see, for example, Part II, Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations, “Liquidity and Capital
Resources and Financial Condition” and Part II, Item 7A. Quantitative and Qualitative Disclosures about
13
Market Risk). Any factor described in this report could by itself, or together with one or more factors, have a negative
effect on our business, results of operations and/or financial condition. There may be factors not described in this report
that could also cause results to differ from our expectations.
Our operating results may be affected if actual insured losses differ from our loss reserves.
Significant periods of time often elapse between the occurrence of an insured loss, the reporting of the loss by the
insured and payment of that loss. To recognize liabilities for unpaid losses, we establish reserves as balance sheet
liabilities representing estimates of amounts needed to pay reported and unreported losses and the related loss
adjustment expense. The process of estimating loss reserves is a difficult and complex exercise involving many variables
and subjective judgments. As part of the reserving process, we review historical data and consider the impact of various
factors such as:
– trends in claim frequency and severity;
– changes in operations;
– emerging economic and social trends;
– inflation; and
– changes in the regulatory and litigation environments.
This process assumes that past experience, adjusted for the effects of current developments and anticipated trends, is
an appropriate, but not necessarily accurate, basis for predicting future events. There is no precise method for evaluating
the impact of any specific factor on the adequacy of reserves, and actual results are likely to differ from original estimates.
Our loss reserves also may be affected by court decisions that expand liability on our policies after they have been
issued and priced. In addition, a significant jury award, or series of awards, against one or more of our insureds could
require us to pay large sums of money in excess of our reserved amounts. Our policy to aggressively litigate claims
against our insureds may increase the risk that we may be required to make such payments.
To the extent loss reserves prove to be inadequate in the future, we would need to increase our loss reserves and
incur a charge to earnings in the period the reserves are increased, which could have a material adverse impact on our
financial condition and results of operation and the price of our common stock.
If we are unable to maintain a favorable financial strength rating, it may be more difficult for us to write new business or
renew our existing business.
Independent rating agencies assess and rate the claims−paying ability of insurers based upon criteria established by
the agencies. Periodically the rating agencies evaluate us to confirm that we continue to meet the criteria of previously
assigned ratings. The financial strength ratings assigned by rating agencies to insurance companies represent
independent opinions of financial strength and ability to meet policyholder obligations and are not directed toward the
protection of investors. Ratings by rating agencies are not ratings of securities or recommendations to buy, hold or sell
any security.
Our principal operating subsidiaries hold favorable financial strength ratings with A.M. Best, Standard & Poor’s, Fitch
and other rating agencies. Financial strength ratings are used by agents and customers as an important means of
assessing the financial strength and quality of insurers. If our financial position deteriorates, we may not maintain our
favorable financial strength ratings from the rating agencies. A downgrade or withdrawal of any such rating could limit or
prevent us from writing desirable business.
14
We operate in a highly competitive environment.
The property and casualty insurance business is highly competitive. We compete with large national property and
casualty insurance companies, locally−based specialty companies, self−insured entities and alternative risk transfer
arrangements (such as captive insurers and risk retention groups) whose activities are directed to limited markets.
Competitors include companies that have substantially greater financial resources than we do, as well as mutual
companies and similar companies not owned by shareholders whose return on equity objectives may be lower than ours.
Competition in the property and casualty insurance business is based on many factors, including premiums charged
and other terms and conditions of coverage, services provided, financial ratings assigned by independent rating agencies,
claims services, reputation, perceived financial strength and the experience of the insurance company in the line of
insurance to be written. Increased competition could adversely affect our ability to attract and retain business at current
premium levels and reduce the profits that would otherwise arise from operations.
Our revenues may fluctuate with insurance market conditions.
We derive a significant portion of our insurance premium revenue from medical malpractice risks. Between 2000 and
2004, premium rates increased significantly which has improved our operating results. We believe competition has
increased in the medical malpractice industry with the recent increases in premium rates. Should our competitors become
less disciplined in their pricing, or more permissive in their terms, we may lose customers who base their purchasing
decisions primarily on price because our policy is to charge adequate premiums on risks that meet our underwriting
standards. We cannot predict whether, when or how market conditions will change, or the manner in which, or the extent
to which any such changes may adversely impact the results of our operations.
Our revenues may fluctuate with interest rates and investment results.
We generally rely on the positive performance of our investment portfolio to offset insurance losses and to contribute to
our profitability. As our investment portfolio is primarily comprised of interest−earning assets, prevailing economic
conditions, particularly changes in market interest rates, may significantly affect our operating results. Changes in interest
rates also can affect the value of our interest−earning assets, which are principally comprised of fixed and adjustable−rate
investment securities. Generally, the values of fixed−rate investment securities fluctuate inversely with changes in interest
rates. Interest rate fluctuations could adversely affect our stockholders’ equity, income and/or cash flows. Our total
investments at December 31, 2005 were $2.631 billion, of which $2.403 billion was invested in fixed maturities. Unrealized
pre−tax net investment losses on investments in fixed maturities were $15.2 million at December 31, 2005.
At December 31, 2005, we held equity investments having a fair value of $10.0 million in an available−for−sale
portfolio and held additional equity securities having a fair value of $5.2 million in a trading portfolio. The fair value of
these securities fluctuates depending upon company specific and general market conditions. Any decline in the fair value
of available−for−sale securities that we determine to be other−than−temporary will reduce our net income. Any changes in
the fair values of trading securities, whether gains or losses, will be included in net income in the period changed.
Changes in healthcare could have a material impact on our operations.
We derive substantially all of our medical professional liability insurance premiums from physicians and other individual
healthcare providers, physician groups and smaller healthcare facilities. Significant attention has been focused on
reforming the healthcare industry at both the federal and state levels which could result in changes to how health care
providers insure their medical malpractice risks. A broad range of healthcare reform measures has been suggested, and
public discussion of such measures will likely continue in the future. Proposals have included, among others, spending
limits, price controls, limiting increases in insurance premiums, limiting
15
the liability of doctors and hospitals for tort claims, imposing liability on institutions rather than physicians, and
restructuring the healthcare insurance system. We cannot predict which, if any, reform proposals will be adopted, when
they may be adopted or what impact they may have on us. The adoption of certain of these proposals could materially
adversely affect our financial condition or results of operations.
In addition to regulatory and legislative efforts, there have been significant market driven changes in the healthcare
environment. In recent years, a number of factors related to the emergence of managed care have negatively impacted or
threatened to impact the medical practice and economic independence of medical professionals. Medical professionals
have found it more difficult to conduct a traditional fee−for−service practice and many have been driven to join or
contractually affiliate with larger organizations. Such change and consolidation may result in the elimination of, or a
significant decrease in, the role of the physician in the medical malpractice insurance purchasing decision. It could also
result in greater emphasis on the role of professional managers, who may seek to purchase insurance on a price
competitive basis, and who may favor insurance companies that are larger and more highly rated than we are. In addition,
such change and consolidation could reduce our medical malpractice premiums as groups of insurance purchasers
generally retain more risk or self insure.
The movement from traditional fee−for−service practice to the managed care environment may also result in an
increase in the liability profile of our insureds. The majority of our insured physicians practice in primary care specialties
such as internal medicine, family practice, general practice and pediatrics. In the managed care environment, these
primary care physicians are being required to take on the role of “gatekeeper” and restrain the use of specialty care by
controlling access to specialists and by performing certain procedures that would customarily be performed by specialists
in a fee−for−service setting. These practice changes may result in an increase in the claims frequency and severity
experienced by primary care physicians and by us as their insurance carrier.
We are a holding company and are dependent on dividends and other payments from our operating subsidiaries, which
are subject to dividend restrictions.
We are a holding company whose principal source of funds is cash dividends and other permitted payments from
operating subsidiaries. If our subsidiaries are unable to make payments to us, or are able to pay only limited amounts, we
may be unable to make payments on our indebtedness. The payment of dividends by these operating subsidiaries is
subject to restrictions set forth in the insurance laws and regulations of their respective states of domicile, as discussed
under Item 1, “Insurance Regulatory Matters” on page 10.
16
Regulatory requirements could have a material impact on our operations.
Our insurance businesses are subject to extensive regulation by state insurance authorities in each state in which they
operate. Regulation is intended for the benefit of policyholders rather than shareholders. In addition to the amount of
dividends and other payments that can be made to a holding company by insurance subsidiaries, these regulatory
authorities have broad administrative and supervisory power relating to:
– licensing requirements;
– trade practices;
– capital and surplus requirements;
– investment practices; and
– rates charged to insurance customers.
These regulations may impede or impose burdensome conditions on rate increases or other actions that we may want
to take to enhance our operating results. In addition, we may incur significant costs in the course of complying with
regulatory requirements. Most states also regulate insurance holding companies like us in a variety of matters such as
acquisitions, changes of control and the terms of affiliated transactions.
Future legislative or regulatory changes may also adversely affect our business operations.
The unpredictability of court decisions could have a material impact on our operations.
The financial position of our insurance subsidiaries may also be affected by court decisions that expand insurance
coverage beyond the intention of the insurer at the time it originally issued an insurance policy. In addition, a significant
jury award, or series of awards, against one or more of our insureds could require us to pay large sums of money in
excess of our reserve amounts.
The passage of tort reform or other legislation, and the subsequent review of such laws by the courts could have a
material impact on our operations.
Tort reforms generally restrict the ability of a plaintiff to recover damages by, among other limitations, eliminating
certain claims that may be heard in a court, limiting the amount or types of damages, changing statutes of limitation or the
period of time to make a claim, and limiting venue or court selection. A number of states in which we do business have
enacted, or are considering, tort reform legislation. Proposed federal tort reform legislation has failed to win Congressional
approval to date.
While the effects of tort reform would appear to be beneficial to our business generally, there can be no assurance that
such reforms will be effective or ultimately upheld by the courts in the various states. Further, if tort reforms are effective,
the business of providing professional liability insurance may become more attractive, thereby causing an increase in
competition for us.
In addition, there can be no assurance that the benefits of tort reform will not be accompanied by legislation or
regulatory actions that may be detrimental to our business. For example, various states have established or are
evaluating their intention to establish state sponsored malpractice insurance for their resident physicians that may
eliminate targeted physicians from the private insurance market. Furthermore, insurance regulatory authorities may
require premium rate limitations and expanded coverage requirements as well as other requirements in anticipation of the
expected benefits of tort reform which may or may not be actually realized.
Our geographic concentration ties our performance to the economic, regulatory and demographic conditions of the
mid−Atlantic, Midwest and Southeast states.
Our revenues and profitability are subject to prevailing economic, regulatory, demographic and other conditions in the
states in which we write insurance. We currently write professional liability insurance in 22 states and the District of
Columbia, with approximately 68% of gross premiums written in Alabama, Florida, Indiana, Michigan and Ohio in 2005.
Because our business currently is concentrated in a limited number of markets, adverse developments that are
17
limited to a geographic area in which we do business may have a disproportionately greater affect on us than they would
have if we did business in markets outside that particular geographic area.
Our business could be adversely affected by the loss of independent agents.
We depend in part on the services of independent agents and brokers in the marketing of our insurance products. We
face competition from other insurance companies for the services and allegiance of independent agents and brokers.
These agents and brokers may choose to direct business to competing insurance companies or may direct less desirable
risks to us.
If market conditions cause reinsurance to be more costly or unavailable, we may be required to bear increased risks or
reduce the level of our underwriting commitments.
As part of our overall risk and capacity management strategy, we purchase reinsurance for significant amounts of risk
underwritten by our insurance company subsidiaries. Market conditions beyond our control determine the availability and
cost of the reinsurance, which may affect the level of our business and profitability. We may be unable to maintain current
reinsurance coverage or to obtain other reinsurance coverage in adequate amounts and at favorable rates. If we are
unable to renew our expiring coverage or to obtain new reinsurance coverage, either our net exposure to risk would
increase or, if we are unwilling to bear an increase in net risk exposures, we would have to reduce the amount of our
underwritten risk.
We cannot guarantee that our reinsurers will pay in a timely fashion, if at all, and, as a result, we could experience losses.
We transfer some of our risks to reinsurance companies in exchange for part of the premium we receive in connection
with the risk. Although reinsurance makes the reinsurer liable to us to the extent the risk is transferred, it does not relieve
us of our liability to our policyholders. If reinsurers fail to pay us or fail to pay on a timely basis, our financial results would
be adversely affected. At December 31, 2005, we had reinsurance recoverables on paid and unpaid losses and loss
adjustment expenses of approximately $327.7 million.
The guaranty fund assessments that we are required to pay to state guaranty associations may increase and results of
operations and financial condition could suffer as a result.
Each state in which we operate has separate insurance guaranty fund laws requiring admitted property and casualty
insurance companies doing business within their respective jurisdictions to be members of their guaranty associations.
These associations are organized to pay covered claims (as defined and limited by the various guaranty association
statutes) under insurance policies issued by insolvent insurance companies. Most guaranty association laws enable the
associations to make assessments against member insurers to obtain funds to pay covered claims after a member insurer
becomes insolvent. These associations levy assessments (up to prescribed limits) on all member insurers in a particular
state on the basis of the proportionate share of the premiums written by member insurers in the covered lines of business
in that state. Maximum assessments permitted by law in any one year generally vary between 1% and 2% of annual
premiums written by a member in that state. Some states permit member insurers to recover assessments paid through
surcharges on policyholders or through full or partial premium tax offsets, while other states permit recovery of
assessments through the rate filing process.
Property and casualty guaranty fund assessments incurred by us totaled $226,000 and $396,000 for 2005 and 2004,
respectively. Our policy is to accrue the insurance insolvencies when notified of assessments. We are not able to
reasonably estimate the liabilities of an insolvent insurer or develop a meaningful range of the insolvent insurer’s liabilities
because of inadequate financial data with respect to the estate of the insolvent company as supplied by the guaranty
funds.
18
Our business could be adversely affected by the loss of one or more key employees.
We are heavily dependent upon our senior management and the loss of services of our senior executives could
adversely affect our business. Our success has been, and will continue to be, dependent on our ability to retain the
services of existing key employees and to attract and retain additional qualified personnel in the future. The loss of the
services of key employees or senior managers, or the inability to identify, hire and retain other highly qualified personnel
in the future, could adversely affect the quality and profitability of our business operations.
Our board of directors is in the process of considering succession planning relating to our Chief Executive Officer.
Dr. Crowe, our current Chairman and Chief Executive Officer, has indicated to the board that he has no immediate plans
for retirement.
Provisions in our charter documents, Delaware law and state insurance law may impede attempts to replace or remove
management or impede a takeover, which could adversely affect the value of our common stock.
Our certificate of incorporation, bylaws and Delaware law contain provisions that may have the effect of inhibiting a
non−negotiated merger or other business combination. Additionally, the board of directors may issue preferred stock,
which could be used as an anti−takeover device, without a further vote of our stockholders. We currently have no
preferred stock outstanding, and no present intention to issue any shares of preferred stock. However, because the rights
and preferences of any series of preferred stock may be set by the board of directors in its sole discretion, the rights and
preferences of any such preferred stock may be superior to those of our common stock and thus may adversely affect the
rights of the holders of common stock.
The voting structure of common stock and other provisions of our certificate of incorporation are intended to encourage
a person interested in acquiring us to negotiate with, and to obtain the approval of, the board of directors in connection
with a transaction. However, certain of these provisions may discourage our future acquisition, including an acquisition in
which stockholders might otherwise receive a premium for their shares. As a result, stockholders who might desire to
participate in such a transaction may not have the opportunity to do so.
In addition, state insurance laws provide that no person or entity may directly or indirectly acquire control of an
insurance company unless that person or entity has received approval from the insurance regulator. An acquisition of
control of our insurance operating subsidiaries generally would be presumed if any person or entity acquires 10% (5% in
Alabama) or more of its outstanding common stock, unless the applicable insurance regulator determines otherwise.
These provisions apply even if the offer may be considered beneficial by stockholders.
If a change in management or a change of control is delayed or prevented, the market price of our common stock
could decline.
ITEM 1B. UNRESOLVED STAFF COMMENTS.
None.
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Forward−Looking Statements
Any written or oral statements made in this report may include forward−looking statements that reflect our current
views with respect to future events and financial performance. Forward−looking statements are identified by words such
as, but not limited to, “believe”, “expect”, “intend”, “anticipate”, “estimate”, “project”, “hopeful”, “may”, “optimistic”,
“preliminary”, “should”, “will” and other analogous expressions. Forward−looking statements relating to our business
include among other things, statements concerning: liquidity and capital requirements, return on equity, financial ratios,
net income, premiums, losses and loss reserves, premium rates and retention of current business, competition and
market conditions, the expansion of product lines, the development or acquisition of business in new geographical areas,
the availability of acceptable reinsurance, actions by regulators and rating agencies, payment or performance of
obligations under indebtedness, payment of dividends, and other matters.
Risks that could adversely affect our operations or cause actual results to differ materially from anticipated results
include, but are not limited to, the following:
– general economic conditions, either nationally or in our market area, that are worse than anticipated;
– regulatory and legislative actions or decisions that adversely affect business plans or operations;
– price competition;
– inflation and changes in the interest rate environment, the performance of financial markets and/or changes in the
securities markets that adversely affect the fair value of investments or operations;
– changes in laws or government regulations affecting medical professional liability insurance and practice management
and financial services;
– changes to ratings assigned by A.M. Best, S&P, Fitch or other rating agencies;
– the effect of managed healthcare;
– uncertainties inherent in the estimate of loss and loss adjustment expense reserves and reinsurance and changes in
the availability, cost, quality, or collectibility of reinsurance;
– significantly increased competition among insurance providers and related pricing weaknesses in some markets;
– changes in accounting policies and practices, as may be adopted by regulatory agencies and the Financial
Accounting Standards Board; and
– changes in our organization, compensation and benefit plans.
– our ability to achieve continued growth through expansion in other states or through acquisitions or business
combinations.
Risks that could adversely affect our proposed merger with PIC Wisconsin include but are not limited to the following:
– the business of ProAssurance and PIC Wisconsin may not be combined successfully, or such combination may take
longer to accomplish than expected;
– the cost savings from the merger may not be fully realized or may take longer to realize than expected;
– operating costs, customer loss and business disruption following the merger, including adverse effects on
relationships with employees, may be greater than expected;
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— governmental approvals of the merger may not be obtained or adverse regulatory conditions may be imposed in connection with
governmental approvals of the merger;
— there may be restrictions on our ability to achieve continued growth through expansion in to other states or through acquisitions
or business combinations; and
— the stockholders of PIC wisconsin may fail to approve the merger.
Because these forward−looking statements are subject to assumptions and uncertainties, actual results may differ materially from
those expressed or implied by these forward−looking statements, and the factors that will determine these results are beyond our
ability to control or predict.
For additional information about factors that could cause actual results to differ materially from those described in the
forward−looking statements, please see “Risk Factors” beginning on page 13.
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GLOSSARY OF SELECTED INSURANCE AND RELATED FINANCIAL TERMS
In an effort to help our investors and other interested parties better understand our report, we are providing a Glossary of Selected
Insurance Terms. These definitions are taken from recognized industry sources such as A. M. Best and The Insurance Information
Institute. This list is intended to be informative and explanatory, but we do not represent that it is a comprehensive glossary.
Accident year
Admitted company; admitted basis
Adverse selection
Agent
Alternative markets
Assets; admitted; non−admitted
The accounting period in which an insured event becomes a
liability of the insurer.
An insurance company licensed and authorized to do business in a
particular state. An admitted company doing business in a state is
said to operate on “an admitted basis” and is subject to all state
insurance laws and regulations pertaining to its operations. (See:
Non−admitted company)
The tendency of those exposed to a higher risk to seek more
insurance coverage than those at a lower risk. Insurers react either
by charging higher premiums or not insuring at all, as in the case
of floods. Adverse selection can be seen as concentrating risk
instead of spreading it.
An individual or firm that represents an insurer under a contractual
or employment agreement for the purpose of selling insurance.
There are two types of agents: independent agents, who represent
one or more insurance companies but are not employed by those
companies and are paid on commission, and exclusive or captive
agents, who by contract are required to represent or favor only one
insurance company and are either salaried or work on commission.
Insurance companies that use employee or captive agents are
called direct writers. Agents are compensated by the insurance
company whose products they sell. By definition, with respect to a
given insurer, an agent is not a broker (See: Brokers)
Mechanisms used to fund self−insurance. This includes captives,
which are insurers owned by one or more non−insurers to provide
owners with coverage. Risk−retention groups, formed by members
of similar professions or businesses to obtain liability insurance,
are also a form of self−insurance.
Property owned, in this case by an insurance company, including
stocks, bonds, and real estate. Because insurance accounting is
concerned with solvency and the ability to pay claims, insurance
regulators require a conservative valuation of assets, prohibiting
insurance companies from listing assets on their balance sheets
whose values are uncertain, such as furniture, fixtures, debit
balances, and accounts receivable that are more than 90 days past
due (these are non−admitted assets). Admitted assets are those
assets that can be easily sold in the event of liquidation or
borrowed against, and receivables for which payment can be
reasonably anticipated.
22
Broker
Bulk reserves
Capacity
Capital
Case reserves
Casualty insurance
Catastrophe
An intermediary between a customer and an insurance company.
Brokers typically search the market for coverage appropriate to
their clients and they usually sell commercial, not personal,
insurance. Brokers are compensated by the insureds on whose
behalf they are working. With respect to a given insurer, a broker
is not an agent. (See:
Agent)
Reserves for losses that have occurred but have not been reported
as well as anticipated changes to losses on reported claims. Bulk
reserves are the difference between (i) the sum of case reserves and
paid losses and (ii) an actuarially determined estimate of the total
losses necessary for the ultimate settlement of all reported and
incurred but not reported claims, including amounts already paid.
(See: Case Reserves)
For an individual insurer, the maximum amount of premium or risk
it can underwrite based on its financial condition. The adequacy of
an insurer’s capital relative to its exposure to loss is an important
measure of solvency.
Stockholder’s equity (for publicly−traded insurance companies)
and policyholders’ surplus (for mutual insurance companies).
Capital adequacy is linked to the riskiness of an insurer’s business.
(See:
Risk−Based Capital, Surplus, Solvency)
Reserves for future losses for reported claims as established by an
insurer’s claims department.
Insurance which is primarily concerned with the losses caused by
injuries to third persons (in other words, persons other than the
policyholder) and the legal liability imposed on the insured
resulting therefrom. (See: Professional liability insurance, Medical
professional liability insurance)
Term used for statistical recording purposes to refer to a single
incident or a series of closely related incidents causing severe
insured property losses totaling more than a given amount.
Catastrophe reinsurance
Reinsurance (insurance for insurers) for catastrophic losses.
Cede, cedant; ceding company
Claims−made policy; coverage
Combined ratio
When a party reinsures its liability with another, it “cedes”
business and is referred to as the “cedant” or “ceding company.”
A form of insurance that pays claims presented to the insurer
during the term of the policy or within a specific term after its
expiration. It limits liability insurers’ exposure to unknown future
liabilities. Under a claims−made policy, an insured event becomes
a liability when the event is first reported to the insurer.
The sum of the underwriting expense ratio and net loss ratio,
determined in accordance with either statutory accounting
principles (SAP) or GAAP.
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Commission
Direct premiums written
Direct writer(s)
Fee paid to an agent or insurance salesperson as a percentage of the
policy premium. The percentage varies widely depending on
coverage, the insurer, and the marketing methods.
Premiums charged by an insurer for the policies that it underwrites,
excluding any premiums that it receives as a reinsurer.
Insurance companies that sell directly to the public using exclusive
agents or their own employees.
Domestic insurance company
Term used by a state to refer to any company incorporated there.
Excess & Surplus Lines; Surplus lines
Excess coverage; excess limits
Extended Reporting Endorsement
Facultative reinsurance
Frequency
Front, fronting
Gross premiums written
Property/casualty insurance coverage that isn’t generally available
from insurers licensed in the state (See: Admitted companies) and
must be purchased from a “non−admitted company”. Examples
include risks of an unusual nature that require greater flexibility in
policy terms and conditions than exist in standard forms or where
the highest rates allowed by state regulators are considered
inadequate by admitted companies. Laws governing surplus lines
vary by state.
An insurance policy that provides coverage limits above another
policy with similar coverage terms, or above a self−insured
amount.
Also known as a “tail policy” or “tail premium.” Tail coverage
provides protection for future claims filed after a claims−made
policy has lapsed. Typically requires payment of an additional
premium, the “tail premium.” “Tail coverage” may also be granted
if the insured becomes disabled, dies or permanently retired from
the covered occupation (i.e., the practice of medicine in medical
liability policies.)
A generic term describing reinsurance where the reinsurer assumes
all or a portion of a single risk. Each risk is separately evaluated
and each contract is separately negotiated by the reinsurer.
Number of times a loss occurs per unit of risk or exposure. One of
the criteria used in calculating premium rates.
A procedure in which a primary insurer acts as the insurer of
record by issuing a policy, but then passes all or virtually all of the
risk to a reinsurer in exchange for a commission. Often, the
fronting insurer is licensed to do business in a state or country
where the risk is located, but the reinsurer is not. The reinsurer in
this scenario is often a captive or an independent insurance
company that cannot sell insurance directly in a particular country.
Total premiums for direct insurance written and assumed
reinsurance during a given period. The sum of direct and assumed
premiums written.
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Guaranty Fund; assessment(s)
Incurred but not reported (IBNR)
Incurred losses
Insolvent; insolvency
Investment income
Liability insurance
Limits
Long−tail; short−tail
Loss adjustment expenses (LAE)
Loss costs
The mechanism by which solvent insurers ensure that some of the
policyholder and third party claims against insurance companies
that fail are paid. Such funds are required in all 50 states, the
District of Columbia and Puerto Rico, but the type and amount of
claim covered by the fund varies from state to state.
Actuarially estimated reserves for estimated losses that have been
incurred by insureds and reinsureds but not yet reported to the
insurer or reinsurer including unknown future developments on
losses which are known to the insurer or reinsurer. Insurance
companies regularly adjust reserves for such losses as new
information becomes available.
Losses covered by the insurer within a fixed period, whether or not
adjusted or paid during the same period, plus changes in the
estimated value of losses from prior periods.
Insurer’s inability to pay debts. Typically the first sign of problems
is inability to pass the financial tests regulators administer as a
routine procedure. (See: Risk−based capital)
Income generated by the investment of assets. Insurers have two
sources of income, underwriting (premiums less claims and
expenses) and investment income.
A line of casualty insurance for amounts a policyholder is legally
obligated to pay because of bodily injury or property damage
caused to another person. (See: Casualty insurance, Professional
liability insurance, Medical professional liability insurance)
Maximum amount of insurance that can be paid for a covered loss.
The long period of time between collecting the premium for
insuring a risk and the ultimate payment of losses. This allows
insurance companies to invest the premiums until losses are paid,
thus producing a higher level of invested assets and investment
income as compared to other lines of property and casualty
business. Medical professional liability is considered a long tail
line of insurance. Personal lines is primarily considered a short tail
line of insurance due to shorter time periods between insuring the
risk and the ultimate payment of claims. As a result, there is less
time to invest premiums collected, which makes it necessary to
achieve an underwriting profit in order to generate a satisfactory
return on equity. (See: Medical professional liability, Professional
liability)
The expenses of settling claims, including legal and other fees and
the portion of general expenses allocated to claim settlement costs.
The portion of an insurance rate used to cover claims and the costs
of adjusting claims. Insurance
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Loss ratio
Loss reserves
Medical professional liability insurance
NAIC
Net loss ratio
Net premium earned
Net premiums written
Non−admitted company; basis
Occurrence policy; coverage
Operating ratio
companies typically determine their rates by estimating their future
loss costs and adding a provision for expenses, profit, and
contingencies.
Percentage of each premium dollar an insurer spends on claims.
Liabilities established by insurers and reinsurers to reflect the
estimated cost of claims payments and the related expenses that the
insurer or reinsurer will ultimately be required to pay in respect of
insurance or reinsurance it has written. They represent a liability
on the insurer’s balance sheet.
Insurance against the legal liability of an insured (and against loss,
damage or expense incidental to a claim of such liability) arising
out of death, injury or disablement of a person as the result of
negligent deviation from the standard of care or other misconduct
in rendering professional service.
The National Association of Insurance Commissioners is the
organization of insurance regulators from the 50 states, the District
of Columbia and the four U.S. territories. The NAIC provides a
forum for the development of uniform policy when uniformity is
appropriate.
The net loss ratio measures the ratio of net losses to earned
premiums determined in accordance with SAP or GAAP.
The portion of net premium written that is recognized for
accounting purposes as income during a particular period. Equal to
net premiums written plus the change in net unearned premiums
during the period.
Gross premiums written for a given period less premiums ceded to
reinsurers during such period.
Insurers licensed in some states, but not others. States where an
insurer is not licensed call that insurer “non−admitted.”
Non−admitted companies sell coverage that is unavailable from
licensed insurers within a state and are generally exempt from most
state laws and regulations related to rates and coverages.
Policyholders of such companies generally do not have the same
degree of consumer protection and financial recourse as
policyholders of admitted companies. Non−admitted companies
are said to operate on a “non−admitted” basis.
Insurance that pays claims arising out of incidents that occur
during the policy term, even if they are filed many years later.
Under an occurrence policy the insured event becomes a liability
when the event takes place.
The operating ratio is the combined ratio, less the ratio of
investment income (exclusive of realized gains and losses) to net
earned premiums, if determined in accordance with GAAP. While
the combined ratio
26
Policy
Premium
Premiums written
Premium tax
Primary Company
Professional liability insurance
Property/casualty insurance
Rate
Rating agencies
Reinsurance
Reinsured layer; retained layer
Reserves
strictly measures underwriting profitability, the operating ratio
incorporates the effect of investment income.
A written contract for insurance between an insurance company
and policyholder stating details of coverage.
The price of an insurance policy, typically charged annually or
semiannually.
The total premiums on all policies written by an insurer during a
specified period of time, regardless of what portions have been
earned.
A state tax on premiums for policies issued in the state, paid by
insurers.
In a reinsurance transaction, the insurance company that is
reinsured.
Covers professionals for negligence and errors or omissions that
cause injury or economic loss to their clients. (See: Casualty
insurance, Liability insurance, Medical professional liability
insurance)
Covers damage to or loss of policyholders’ property and legal
liability for damages caused to other people or their property.
The cost of insurance for a specific unit of exposure, such as for
one physician. Rates are based on historical loss experience for
similar risks and may be regulated by state insurance offices.
These agencies assess insurers’ financial strength and viability to
meet claims obligations. Some of the factors considered include
company earnings, capital adequacy, operating leverage, liquidity,
investment performance, reinsurance programs, and management
ability, integrity and experience. A high financial rating is not the
same as a high consumer satisfaction rating.
Insurance bought by insurance companies. In a reinsurance
contract the reinsurer agrees to indemnify another insurance or
reinsurance company, the ceding company, against all or a portion
of the insurance or reinsurance risks underwritten by the ceding
company under one or more policies. Reinsurers may have their
own reinsurers, called retrocessionaires. Reinsurers don’t pay
policyholder claims. Instead, they reimburse insurers for claims
paid.
The retained layer is the cumulative portion of each loss, on a
per−claim basis, which is less than an insurer’s reinsurance
retention for a given coverage year. Likewise, the reinsured layer is
the cumulative portion of each loss that exceeds the reinsurance
retention. (See:
Reinsurance, Retention)
A company’s best estimate of what it will pay, at some point in the
future, for claims for which it is currently responsible.
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Retention
Return on Equity
Risk−Based Capital (RBC)
Risk management
Self−insurance
Severity
Solvent, solvency
Statutory Accounting Principles; SAP
The amount or portion of risk that an insurer retains for its own
account. Losses in excess of the retention level up to the outer
limit, if any, are paid by the reinsurer. In proportional treaties, the
retention may be a percentage of the original policy’s limit. In
excess of loss business, the retention is a dollar amount of loss, a
loss ratio or a percentage.
Net Income (or if applicable, Income from Continuing Operations)
divided by the average of beginning and ending stockholders’
equity. This ratio measures a company’s overall after−tax
profitability from underwriting and investment activity and shows
how efficiently invested capital is being used.
A regulatory measure of the amount of capital required for an
insurance company, based upon the volume and inherent riskiness
of the insurance sold, the composition of its investment portfolio
and other financial risk factors. Higher−risk types of insurance,
liability as opposed to property business, generally necessitate
higher levels of capital. The NAIC’s RBC model law stipulates
four levels of regulatory action with the degree of regulatory
intervention increasing as the level of surplus falls below a
minimum amount as determined under the model law. (See: NAIC)
Management of the varied risks to which a business firm or
association might be subject. It includes analyzing all exposures to
gauge the likelihood of loss and choosing options to better manage
or minimize loss. These options typically include reducing and
eliminating the risk with safety measures, buying insurance, and
self−insurance.
The concept of assuming a financial risk oneself, instead of paying
an insurance company to take it on. Every policyholder is a
self−insurer in terms of paying a deductible and co−payments.
Larger policyholders often self−insure frequent or predictable
losses to avoid insurance overhead expenses.
The average claim cost, statistically determined by dividing dollars
of losses by the number of claims.
Insurance companies’ ability to pay the claims of policyholders.
Regulations to promote solvency include minimum capital and
surplus requirements, statutory accounting conventions, limits to
insurance company investment and corporate activities, financial
ratio tests, and financial data disclosure.
More conservative standards than under GAAP accounting rules,
they are imposed by state laws that emphasize the present solvency
of insurance companies. SAP helps ensure that the company will
have sufficient funds readily available to meet all anticipated
insurance obligations by recognizing liabilities earlier or at a
higher value than GAAP and assets later or at a lower value. For
example, SAP
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Surplus; statutory surplus
Tail
Third−party coverage
Treaty reinsurance
Underwriting
Underwriting expense ratio
Underwriting expenses
Underwriting income; loss
Underwriting profit
Unearned premium
requires that selling expenses be recorded immediately rather than
amortized over the life of the policy. (See: Generally Accepted
Accounting Principles, Admitted assets)
The excess of admitted assets over total liabilities (including loss
reserves) that protects policyholders in case of unexpectedly high
claims. “Statutory Surplus” is determined in accordance with
Statutory Accounting Principles.
The period of time that elapses between the occurrence of the loss
event and the payment in respect thereof.
Liability coverage purchased by the policyholder as a protection
against possible lawsuits filed by a third party. The insured and the
insurer are the first and second parties to the insurance contract.
The reinsurance of a specified type or category of risks defined in a
reinsurance agreement (a ''treaty’’) between a primary insurer or
other reinsured and a reinsurer. Typically, in treaty reinsurance, the
primary insurer or reinsured is obligated to offer and the reinsurer
is obligated to accept a specified portion of all such type or
category of risks originally written by the primary insurer or
reinsured.
The insurer’s or reinsurer’s process of reviewing applications
submitted for insurance coverage, deciding whether to accept all or
part of the coverage requested and determining the applicable
premiums.
The ratio of underwriting, acquisition and other insurance expenses
incurred to net premiums earned (for statutory purposes, the ratio
of underwriting expenses incurred to net premiums written.)
The aggregate of policy acquisition costs, including commissions,
and the portion of administrative, general and other expenses
attributable to underwriting operations.
The insurer’s profit on the insurance sale after all expenses and
losses have been paid, before investment income or income taxes.
When premiums aren’t sufficient to cover claims and expenses, the
result is an “underwriting loss.”
The amount by which net earned premiums exceed Underwriting
Income; the sum of losses, loss adjustment expenses and
underwriting expenses (See: Underwriting Income)
The portion of premium that represents the consideration for the
assumption of risk in the future. Such premium is not yet earned
since the risk has not yet been assumed. May also be defined as the
pro−rata portion of written premiums that would be returned to
policyholders if all policies were terminated by the insurer on a
given date.
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ITEM 2. PROPERTIES.
We own a 156,000 square foot office building located in Birmingham, Alabama where we currently occupy approximately 78,000
square feet. The remaining office space is leased to unaffiliated persons or is available to be leased. We also own a 53,000 square foot
office building in Okemos, Michigan that we fully occupy. Both buildings are currently unencumbered.
ITEM 3. LEGAL PROCEEDINGS.
Our insurance subsidiaries are involved in various legal actions, a substantial number of which arise from claims made under
insurance policies. While the outcome of all legal actions is not presently determinable, management and its legal counsel are of the
opinion that these actions will not have a material adverse effect on our financial position or results of operations. See Note 9 to our
Consolidated Financial Statements included herein.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
EXECUTIVE OFFICERS OF PROASSURANCE CORPORATION
The executive officers of ProAssurance serve at the pleasure of the Board of Directors.
Our senior management team is led by A. Derrill Crowe, M.D., our Chairman and Chief Executive Officer, and Victor T. Adamo,
Esq., our President and Chief Operating Officer. Dr. Crowe (Age 69) has acted as the Chief Executive Officer of Medical Assurance
since its founding in 1977. He has applied a hands−on management style in developing our underwriting and claims strategies and was
instrumental in establishing us as a leading professional liability specialist. Mr. Adamo (Age 58) has held various positions with
Professionals Group since 1985, becoming its CEO in 1987 and being named President in 1989. He is largely responsible for building
Professionals Group into a successful regional professional liability company.
Dr. Crowe practiced medicine as his principal occupation for more than 25 years and Mr. Adamo was in the private practice of law
for 10 years, providing them with knowledge of medical and legal issues that are critical to our insurance operations. We also have a
knowledgeable and experienced management team with established track records in building and managing successful insurance
operations. In total, our senior management team has average experience in the insurance industry of 22 years.
Here are the other executive officers of ProAssurance and a brief description of their principal occupation and employment during
the last five years.
Paul R. Butrus
Howard H. Friedman
Mr. Butrus has served as our Vice Chairman and a director of
ProAssurance since we began operations in June 2001. Mr. Butrus
has been Executive Vice President and a director of Medical
Assurance since its incorporation in 1995. Mr. Butrus has been
employed by Medical Assurance Company and its subsidiaries
since 1977. (Age 65)
Mr. Friedman is the co−President of our Professional Liability
Group and is also our Chief Underwriting Officer. Mr. Friedman
has served in a number of positions for ProAssurance, most
recently as Chief Financial Officer and Corporate Secretary. He
was also the Senior Vice President, Corporate Development of
Medical Assurance. Mr. Friedman is an Associate of the Casualty
Actuarial Society. (Age 47)
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Jeffrey P. Lisenby
James J. Morello
Frank B. O’Neil
Edward L. Rand, Jr.
Darryl K. Thomas
Mr. Lisenby was appointed as Corporate Secretary of ProAssurance Corporation effective January 1,
2006. Mr. Lisenby joined Medical Assurance, the predecessor to ProAssurance, in 2001 and has
served as Vice−President and head of the corporate Legal Department since the creation of
ProAssurance. Prior to joining Medical Assurance, he was in private practice in Birmingham,
Alabama and served as a judicial clerk for the United States District Court for the Northern District of
Alabama. Mr. Lisenby is a member of the Alabama State Bar and the United States Supreme Court
Bar and is a Chartered Property Casualty Underwriter. (Age 37)
Mr. Morello was appointed as our Senior Vice President, Chief Accounting Officer and Treasurer in
June 2001. Mr. Morello has been Senior Vice President and Treasurer for Medical Assurance since its
formation in 1995. Mr. Morello has been employed as Treasurer and Chief Financial Officer of
Medical Assurance Company since 1984. He also serves as a director of Medical Assurance’s
insurance subsidiaries and as treasurer for ProNational. Mr. Morello is a certified public accountant.
(Age 57)
Mr. O’Neil was appointed as our Senior Vice President of Corporate Communications and Investor
Relations in September 2001. Mr. O’Neil has been Senior Vice President of Corporate
Communications for Medical Assurance since 1997 and employed by Medical Assurance Company
and its subsidiaries since 1987. (Age 52)
Mr. Rand was appointed Chief Financial Officer on April 1, 2005, having joined ProAssurance as our
Senior Vice President of Finance in November 2004. Prior to joining ProAssurance Mr. Rand was the
Chief Accounting Officer and Head of Corporate Finance for PartnerRe Ltd. Prior to that time
Mr. Rand served as the Chief Financial Officer of Atlantic American Corporation. (Age 39)
Mr. Thomas is the Co−President of the Professional Liability Group and serves as our Chief Claims
Officer. Prior to the formation of ProAssurance, Mr. Thomas was Senior Vice President of Claims for
ProNational Insurance Company, one of ProAssurance’s predecessor companies. Prior to joining
ProNational Insurance Company in 1995, Mr. Thomas was Executive Vice President of a national
third−party administrator of professional liability claims. Mr. Thomas was also Vice President and
Litigation Counsel for the Kentucky Hospital Association. (Age 48)
We have adopted a code of ethics that applies to our directors and executive officers, including our principal executive officers,
principal financial officer, and principal accounting officer. We also have share ownership guidelines in place to ensure that
management maintains a significant portion of their personal investments in the stock of ProAssurance. See Item 1 for information
regarding the availability of the Code of Ethics and the Share ownership Guidelines.
31
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER
PURCHASES OF EQUITY SECURITIES.
At February 15, 2006, ProAssurance Corporation (PRA) had 3,628 stockholders of record and 31,144,642 shares of common stock
outstanding. ProAssurance’s common stock currently trades on The New York Stock Exchange (NYSE) under the symbol “PRA”.
PART II
Quarter
First
Second
Third
Fourth
2005
2004
High
$ 41.90
41.76
46.90
51.88
Low
$ 37.00
36.60
41.86
44.45
High
$ 35.00
37.42
35.20
40.57
Low
$ 30.33
32.83
30.20
33.48
ProAssurance has not paid any cash dividends on its common stock and does not currently have a policy to pay regular dividends.
ProAssurance’s insurance subsidiaries are subject to restrictions on the payment of dividends to the parent. Information regarding
restrictions on the ability of the insurance subsidiaries to pay dividends is incorporated by reference from the paragraphs under the
caption “Insurance Regulatory Matters—Regulation of Dividends and Other Payments from Our Operating Subsidiaries” in Item 1 on
page 10 of this 10−K.
32
ITEM 6. SELECTED FINANCIAL DATA.
Selected Financial Data (1)
Gross premiums written (4)
Net premiums written (4)
Premiums earned (4)
Premiums ceded (4)
Net premiums earned (4)
Net investment income (4)
Net realized investment gains (losses) (4)
Other income (4)
Total revenues (4)
Net losses and loss adjustment expenses (4)
Income from continuing operations before
cumulative effect of accounting change
Net income (2)
Income from continuing operations per
share before cumulative effect of
accounting change: (3)
Basic
Diluted
Net income per share: (2) (3)
Basic
Diluted
Weighted average number of shares
outstanding: (3) Basic
Diluted
Balance Sheet Data (as of December 31)
Total investments (4)
Total assets from continuing operations
Total assets
Reserve for losses and loss adjustment
expenses (4)
Long−term debt (4)
Total liabilities from continuing operations
Total capital
Total capital per share of common stock
outstanding
Common stock outstanding at end of year
2005
2004
Year Ended December 31
2003
(In thousands except per share data)
2002
2001
$ 572,960
521,343
$ 573,592
535,028
$ 543,323
497,659
$ 461,715
389,901
$ 315,698
238,867
596,557
(53,316)
543,241
97,649
912
3,510
645,312
438,201
80,026
113,457
$
$
$
$
2.66
2.52
3.77
3.54
30,049
32,908
$2,630,942
3,341,600
3,909,379
2,224,436
167,240
2,806,820
765,046
555,524
(35,627)
519,897
76,346
7,572
1,341
605,156
460,437
43,043
72,811
$
$
$
$
1.48
1.44
2.50
2.37
29,164
31,984
$2,162,147
2,743,295
3,239,198
1,818,636
151,480
2,333,405
611,019
509,260
(49,389)
459,871
63,366
5,858
4,460
533,555
439,368
15,345
38,703
$
$
$
$
0.53
0.53
1.34
1.33
28,956
30,389
$1,807,285
2,448,088
2,879,352
1,634,749
104,789
2,074,560
546,305
412,656
(78,460)
334,196
66,847
(6,099)
4,960
399,904
351,320
(8,100)
12,207
$
$
$
$
(0.31)
(0.31)
0.47
0.46
26,231
26,254
$1,461,591
2,214,564
2,586,650
1,492,140
72,500
1,854,573
505,194
310,222
(61,208)
249,014
54,779
5,441
3,130
312,364
250,257
5,362
12,450
$
$
$
$
0.22
0.22
0.51
0.51
24,263
24,267
$1,328,560
1,913,606
2,238,325
1,317,980
82,500
1,622,121
413,231
$
24.59
31,109
$
20.92
29,204
$
18.77
29,105
$
17.49
28,877
$
16.02
25,789
(1)
Includes acquired entities since date of acquisition, only. Professionals Group was acquired on June 27, 2001. NCRIC
Corporation was acquired on August 1, 2005.
(2) Net income for the year ended December 31, 2002 was increased by $1.7 million due to the adoption of SFAS 141 and 142. See
Note 13 to our consolidated financial statements in the 2004 published 10K. In accordance with SFAS 142, we wrote off the
unamortized balance of deferred credits that related to business combinations completed prior to July 1, 2001. The cumulative
effect increased net income per share (basic and diluted) by $0.07 per share.
(3) Diluted net income per share for 2003 has been restated to reflect implementation of Emerging Issues Task Force 04−8, “The
Effect of Contingently Convertible Debt on Diluted Earnings per Share”. The restatement reduced previously reported diluted
net income per share by $0.01.
Excludes discontinued operations.
(4)
33
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS.
The following discussion should be read in conjunction with the Consolidated Financial Statements and Notes thereto
accompanying this report. Throughout the discussion, references to ProAssurance, “we,” “us” and “our” refers to ProAssurance
Corporation and its subsidiaries. The discussion contains certain forward−looking information that involves risks and uncertainties. As
discussed under “Forward−Looking Statements” and “Risk Factors,” our actual financial condition and operating results could differ
significantly from these forward−looking statements.
In late 2005 we reached an agreement to sell our personal lines operations. Accordingly, our Consolidated Financial Statements
report our personal lines operations, which were formerly reported as a separate operating segment, as a component of discontinued
operations in all periods presented.
Critical Accounting Policies
Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the
United States of America (GAAP). Preparation of these financial statements requires us to make estimates and assumptions in certain
circumstances that affect the amounts reported in our consolidated financial statements and related footnotes. We evaluate these
estimates and assumptions on an on−going basis based on historical developments, market conditions, industry trends and other
information that we believe to be reasonable under the circumstances. There can be no assurance that actual results will conform to
our estimates and assumptions, and that reported results of operations will not be materially affected by changes in these estimates and
assumptions.
Management considers the following accounting policies to be critical because they involve significant judgment by management
and the effect of those judgments could result in a material effect on our financial statements.
Reserve for Losses and Loss Adjustment Expenses (reserve for losses or reserve)
Our reserve for losses represents our estimate of the future amounts necessary to pay claims and expenses associated with the
settlement and investigation of claims. These estimates consist of case reserves and bulk reserves. The estimates take into
consideration our past loss experience, available industry data and projections as to future claims frequency, severity, inflationary
trends and settlement patterns. External actuaries review our reserve for losses each year. We consider the views of the external
actuaries as well as other factors, such as known, anticipated or estimated changes in frequency and severity of claims and loss
retention levels and premium rates, in establishing the amount of our reserve for losses. Estimating casualty insurance reserves, and
particularly liability reserves, is a complex process. These claims are typically resolved over an extended period of time, often five
years or more, and estimating loss costs for these claims requires multiple judgments involving many uncertainties. Our reserve
estimates may vary significantly from the eventual outcome. The assumptions used in establishing our reserve for losses are regularly
reviewed and updated by management as new data becomes available. Any adjustments necessary are reflected in then−current
operations. Due to the size of our reserve for losses, even a small percentage adjustment to these estimates could have a material effect
on our results of operations for the period in which the adjustment is made.
Reinsurance
Our receivable from reinsurers on unpaid losses and loss adjustment expenses represents our estimate of the amount of our reserve
for losses that will be recoverable from our reinsurers. Our estimate is based upon our estimates of the ultimate losses that we expect
to incur and the portion of those losses that we expect to be allocable to reinsurers based upon the terms of our reinsurance
agreements. We also estimate premiums ceded under reinsurance agreements wherein the premium due to the reinsurer, subject to
certain maximums and minimums, is based on losses reimbursed under the agreement. Our estimates of the amounts receivable from
and payable to reinsurers are regularly reviewed and updated by management as new data becomes available. Given the uncertainty of
the ultimate amounts of our losses, these estimates may vary significantly from the eventual outcome. Any adjustments necessary are
reflected in then−current operations. Due to the size of our reinsurance balances, even a small adjustment
34
to these estimates could have a material effect on our results of operations for the period in which the adjustment is made.
We evaluate each of our ceded reinsurance contracts at its inception to determine if there is sufficient risk transfer to allow the
contract to be accounted for as reinsurance under current accounting guidance. At December 31, 2005 all ceded contracts are
accounted for as risk transferring contracts.
Our assessment of the collectibility of the recorded amounts receivable from reinsurers considers both the payment history of the
reinsurer and publicly available financial and rating agency data. At December 31, 2005 we believe all of our recorded reinsurance
receivables to be collectible.
Investments
We consider our fixed maturity securities as available−for−sale and our equity securities as either available−for−sale or trading
portfolio securities. Both available−for−sale and trading portfolio securities are carried at fair value. Changes in the market value
(unrealized gains and losses) of available−for−sale securities, whether positive or negative, are included, net of the related tax effect,
in accumulated other comprehensive income, a component of stockholders’ equity, and are excluded from current period net income.
Positive and negative changes in the market value of trading portfolio securities are included in current period net income as a
component of net realized investment gains (losses).
We evaluate the securities in our available−for−sale investment portfolio on at least a quarterly basis for declines in market value
below cost for the purpose of determining whether these declines represent other than temporary declines. Some of the factors we
consider in the evaluation of our investments are:
–
–
–
–
the extent to which the market value of the security is less than its cost basis,
the length of time for which the market value of the security has been less than its cost basis,
the financial condition and near−term prospects of the security’s issuer, taking into consideration the economic prospects of
the issuer’s industry and geographical region, to the extent that information is publicly available, and
our ability and intent to hold the investment for a period of time sufficient to allow for any anticipated recovery in market
value.
A decline in the fair value of an available−for−sale security below cost that we judge to be other than temporary is realized as a
loss in the current period income statement and reduces the cost basis of the security. In subsequent periods, we base any measurement
of gain or loss or decline in value upon the adjusted cost basis of the security.
Deferred Policy Acquisition Costs
Policy acquisition costs, primarily commissions, premium taxes and underwriting salaries, vary directly with, and are primarily
related to, the acquisition of new and renewal premiums. Such costs are capitalized and charged to expense as the related premium
revenue is recognized. We evaluate the recoverability of our deferred policy acquisition costs based on our estimates of the
profitability of the underlying business and any amounts estimated to be unrecoverable are charged to expense in the current period.
Goodwill
In accordance with Statement of Financial Accounting Standards No. 142 “Goodwill and Other Intangible Assets” we make an
annual assessment as to whether the value of our goodwill assets is impaired. We completed such assessments in 2005 and 2004 and
concluded that the value of our goodwill assets related to continuing operations of approximately $29.5 million was not impaired. We
use both market−based valuation models and a capital asset pricing model to estimate the fair value. These models require the use of
numerous assumptions regarding market perceptions of value as related to our consolidated and reporting unit historical and projected
operating results and those of other economically similar entities. Changes to these assumptions could significantly lower our
estimates of fair value and result in a
35
determination that goodwill has suffered impairment in value. Any determined impairment would be reflected as an expense in the
period identified.
Overview
We are an insurance holding company and our operating results are almost entirely derived from the operations of our insurance
subsidiaries. Our core operating subsidiaries are The Medical Assurance Company, Inc., ProNational Insurance Company, NCRIC,
Inc. and Red Mountain Casualty Insurance Company, Inc.; all principally write professional liability insurance. We also write a
limited amount of medical professional liability insurance through Woodbrook Casualty Insurance, Inc. (formerly Medical Assurance
of West Virginia, Inc.).
Corporate Strategy
Our goal is to build upon our position as a leading writer of professional liability insurance and expand principally within the
mid−Atlantic, Midwest and Southeast, while maintaining our commitment to disciplined underwriting and aggressive claims
management. According to A.M. Best, based on 2004 data, we are the fourth largest active medical liability insurance writer in the
nation, and we believe we are the largest medical liability writer in our collective states of operation. We believe that our strong
reputation in our regional markets, combined with our financial strength, strong customer service and proven ability to manage claims,
should enable us to profitably expand our position in select states. We have successfully acquired and integrated companies and books
of business in the past and believe our financial size and strength make us an attractive acquirer. We continually evaluate these
opportunities to leverage our core underwriting and claims expertise.
We emphasize disciplined underwriting and do not manage our business to achieve a certain level of premium growth or market
share. We apply our local knowledge to individual risk selection and determine the appropriate price based on our assessment of the
specific characteristics of each risk. In addition to prudent risk selection, we seek to control our underwriting results through effective
claims management. We investigate each claim and have fostered a strong culture of aggressively defending claims that we believe
have no merit. We manage claims at the local level, tailoring claims handling to the legal climate of each state, which we believe
differentiates us from national writers.
Through our regional underwriting and claims office structure, we are able to gain a strong understanding of local market
conditions and efficiently adapt our underwriting and claims strategies to regional conditions. Our regional presence also allows us to
maintain active relationships with our customers and be more responsive to their needs. We believe these factors allow us to compete
on a basis other than just price. We also believe that our presence in local markets allows us to monitor and understand changes in the
liability climate and thus develop better business strategies in a more timely manner than our competitors.
We have sustained our financial stability during difficult market conditions through responsible pricing and loss reserving
practices. We are committed to maintaining prudent operating and financial leverage and conservatively investing our assets. We
recognize the importance that our customers and producers place on the strong ratings of our principal insurance subsidiaries and we
intend to manage our business to protect our financial security.
We measure performance in a number of ways, but particularly focus on our combined ratio and investment returns, both of which
directly affect our return on equity (ROE). We target a long−term average ROE of 12% to 14%.
We believe that a focus on rate adequacy, selective underwriting and effective claims management is required if we are to achieve
our ROE targets. We closely monitor premium revenues, losses and loss adjustment costs, and acquisition, underwriting and insurance
expenses. Our investment portfolio is managed in order to meet the liquidity and profitability needs of each insurance company as
well as to maximize after−tax investment returns on a consolidated basis. We engage in activities that generate other income;
however, such activities, principally fee generating and agency services, do not constitute a significant source of revenues or profits.
36
Growth Opportunities and Outlook
We expect our future growth will be supported by controlled expansion in states where we are already writing business and into
additional states within, or adjacent to, our existing business footprint. We also look to expand through the acquisition of other
companies or books of business; however, such expansion is opportunistic and cannot be predicted.
We believe we are viewed as a market leader because of our financial strength and stability, and our ability to deliver excellent
service at the local level. There have been several highly publicized insolvencies in our industry in recent years, and regulators have
taken action against former competitors because of financial concerns. Thus, we believe our balance sheet strength and financial
stability will continue to be a differentiating factor in the market.
We have seen an increase in competition during the year by both existing professional liability insurers as well as new entrants,
primarily in the form of risk retention groups and other risk pooling mechanisms. While most existing competitors appear to be
maintaining pricing and underwriting discipline, we are seeing an increase in competition, especially on price. The new entrants are
typically more aggressive in seeking new business and are generally more willing to compete on price. As a result of these market
forces, profitable growth in the coming year will be challenging. Nevertheless we will continue to price our products at levels that we
believe meet our return objectives and we will continue to disregard business that does not.
We achieved average gross price increases of approximately 11%, 19% and 28%, on renewal business (weighted by premium
volume) in 2005, 2004 and 2003, respectively. In 2006 we expect professional liability pricing to increase at a slower pace. The price
increases implemented over the last several years have brought our pricing to a level that we believe is adequate to meet our return
objectives. We plan to maintain this pricing level by using future rate increases to counteract loss cost inflation.
Recent Significant Events
On August 3, 2005 ProAssurance acquired all of the outstanding common stock of NCRIC Corporation (NCRIC) in a stock for
stock merger. NCRIC’s primary business is a single property and casualty insurance company that provides medical professional
liability insurance in the District of Columbia, Delaware, Maryland, Virginia and West Virginia. The primary purpose for the
transaction was to expand marketing opportunities for our professional liability insurance products.
As part of the NCRIC merger, we also acquired ConsiCare, a subsidiary which provides administrative and financial services to
physician practices. ConsiCare’s business focus is not consistent with our strategy as a specialty insurance company, and we therefore
sold ConsiCare for $1.7 million on December 28, 2005. The operating results of ConsiCare are presented in the accompanying
Consolidated Financial Statements as a component of discontinued operations. There was no gain or loss on the sale because our
carrying value for ConsiCare approximated the sale price less sale expenses, adjusted for the tax effects of the sale.
The following chart summarizes the NCRIC acquisition:
Fair value of 1.7 million ProAssurance common shares issued
Other acquisition costs
Aggregate purchase price
Fair value of net assets acquired
Excess of purchase price over fair value of net assets acquired, recognized as goodwill
In millions
67.1
$
4.1
71.2
46.2
25.0
$
On January 4, 2006 we sold our personal lines operations (the MEEMIC companies), effective January 1, 2006. The transaction is
worth $400 million to us before transaction expenses. Motors Insurance Corporation (Motors), a subsidiary of GMAC Insurance
Holdings, Inc., paid approximately $325 million in cash for MEEMIC Insurance Company and its internal agency, and we retained
approximately $75 million of the MEEMIC companies’ pre−sale capital. Sale proceeds will support the capital
37
requirements of our professional liability insurance subsidiaries and other general corporate purposes. Following the sale, our total
assets will decline by $167.8 million ($567.8 million assets sold less proceeds of $400 million) and our liabilities will decline by
$337.5 million. Our stockholders’ equity will increase by the gain recognized on the transaction, which we expect to be approximately
$110 million after consideration of sale expenses and the tax effects of the sale.
Because these operations have been sold, the assets, liabilities and operating results of the MEEMIC companies are reported as a
component of discontinued operations in our accompanying Consolidated Financial Statements for all periods presented. Previously,
we reported our personal lines operations and our professional liability operations as separate reportable segments; net investment
income of the parent holding company and interest expense on long−term debt (corporate income) were not allocated to either
segment. This reporting structure was reflected in prior filings. Our continuing operations now represent a single reportable segment
and combine corporate income with the results of the professional liability segment.
Additional information regarding the previously described transactions is provided in Note 2 “Acquisition of NCRIC” and Note 3,
“Discontinued Operations” of the Notes to the Consolidated Financial Statements included herein.
On December 8, 2005, we reached a definitive agreement with Physicians Insurance Company of Wisconsin, Inc. (PIC Wisconsin)
whereby we agreed to acquire PIC Wisconsin in an all−stock merger transaction having an estimated value of $100 million.
PIC Wisconsin is a Wisconsin−domiciled stock insurance company; its shares are not registered under the Securities Exchange Act
of 1934. There is no GAAP financial data available for PIC Wisconsin. Audited December 31, 2004 statutory reports for PIC
Wisconsin present cash and invested assets of $247.3 million, loss and loss adjustment expense reserves of $140.8 million, capital and
surplus of $89.3 million and 2004 earned premiums of $56.5 million. The transaction is subject to approval by PIC Wisconsin
shareholders and required regulatory approvals. We filed a registration statement and a proxy statement/prospectus with the Securities
and Exchange Commission (SEC) on February 15, 2006 which is not yet effective. For more information regarding the proposed
merger refer to the registration statement, SEC file number 333−131874.
Liquidity and Capital Resources and Financial Condition
The following discussions of changes in our financial condition and operating results exclude amounts that are classified as
discontinued operations in our consolidated financial statements, as discussed under the caption “Recent Significant Events” and in
Note 3 of our Consolidated Financial Statements.
ProAssurance Corporation is a legal entity separate and distinct from its subsidiaries. Because the parent holding company has no
other business operations, dividends from its operating subsidiaries represent a significant source of funds for its obligations, including
debt service. The ability of those insurance subsidiaries to pay dividends is subject to limitation by state insurance regulations. See our
discussions under “Regulation of Dividends from Our Operating Subsidiaries” in Part I, and in Note 15 of our Notes to the
Consolidated Financial Statements for additional information regarding dividend limitations.
Within our operating subsidiaries our primary need for liquidity is to pay losses and operating expenses in the ordinary course of
business. Our operating activities provided positive cash flow of $323.6 million for the year ended December 31, 2005, which is
comparable to cash provided by operations of $336.3 million for the year ended December 31, 2004. Our December 31, 2005
operating cash flow includes $16.3 million generated by NCRIC operating activities from the August 3 purchase date forward. The
primary sources of our operating cash flows are net investment income and the excess of premiums collected over net losses paid and
operating costs. Timing delays exist between the collection of premiums and the payment of losses. A general measure of this timing
delay is the ratio of paid to incurred losses, which is computed by dividing paid losses for the period by incurred losses. Our paid to
incurred loss ratios for the years ended December 31, 2005 and 2004 are 51.6% and 46.5%, respectively.
38
The cash flows of the personal lines segment have historically not been used to support our professional liability operations. It is
not expected that the sale of the personal lines segment will have a detrimental effect on the liquidity of our continuing operations.
We believe that rate adequacy is critical to our long−term liquidity. We continually review rates and submit requests for rate
increases to state insurance departments as we consider necessary to maintain rate adequacy. We are unable to predict whether we will
continue to receive approval for our rate filings. In most jurisdictions we are required to receive approval of these rate increases before
we can factor them into the pricing of our products.
We manage our investment portfolio to ensure that it will have sufficient liquidity to meet our obligations, taking into consideration
the timing of cash flows from our investments as well as the expected cash flows to be generated by our operations. At our insurance
subsidiaries the primary outflow of cash is related to the payment of claims and expenses. The payment of individual claims cannot be
predicted with certainty; therefore, we rely upon the history of paid claims in determining the expected future claims payments. To the
extent that we have an unanticipated shortfall in cash we may either liquidate securities held in our investment portfolio or borrow
funds under previously established borrowing arrangements. However, given the significant cash flows being generated by our
operations and the relatively short duration of our investment portfolio we do not foresee any such shortfall.
Cash and invested assets increased $482.6 million over the prior year. The increase is attributable to the aforementioned operating
cash flow as well as the addition of NCRIC, which held cash and investments of $237.1 million at December 31, 2005. The fair value
of our investment portfolio decreased $43.2 million as a result of the rising rate environment in 2005. We transfer most of the cash
generated from operations into our investment portfolio. We held cash and cash equivalents of approximately $34.5 million at
December 31, 2005 and $20.7 million at December 31, 2004.
At December 31, 2005 our investment in fixed maturity securities is $2.4 billion, representing 91.4% of our total investments.
Substantially all of our fixed maturities are either United States government agency obligations or investment grade securities as
determined by national rating agencies. The fixed maturity securities in our investment portfolio have a dollar weighted average rating
of “AA” at December 31, 2005. Our investment policy implements an asset allocation that uses length to maturity as one method of
managing our long−term rate of return. The weighted average effective duration of our fixed maturity securities at December 31, 2005
is 3.91 years. Changes in market interest rate levels generally affect our net income to the extent that reinvestment yields are different
than the original yields on maturing securities. Additionally, changes in market interest rates also affect the fair value of our fixed
maturity securities. Bond interest rates have increased since December 31, 2004 and as a result average bond market values have
decreased. On a pre−tax basis, net unrealized gains/losses related to our available−for−sale fixed maturity securities decreased from a
net unrealized gain of $27.3 million at December 31, 2004 to a net unrealized loss of $15.2 million at December 31, 2005.
At December 31, 2005, available−for−sale and trading portfolio equity investments total $15.2 million, representing approximately
0.6% of our total investments, and approximately 2.0% of our capital. These holdings decreased from $33.6 million at December 31,
2004.
Our investment in short−term securities at December 31, 2005 is $93.1 million as compared to $37.9 million at December 31,
2004. Approximately $17.0 million of this increase is attributable to NCRIC. We have elected to hold more funds in short−term
securities during 2005 in order to increase our investment flexibility in a rising rate environment. As our investment managers identify
investment opportunities that are consistent with our longer range investment strategy we plan to move funds from short−term
securities to longer term fixed maturity securities.
For a more detailed discussion of the effect of changes in interest rates on our investment portfolio see Item 7A, “Quantitative and
Qualitative Disclosures about Market Risk.”
39
Our long−term debt at December 31, 2005 is comprised of the following:
Convertible Debentures
2034 Subordinated Debentures
2032 Subordinated Debentures*
* Assumed in NCRIC transaction
Due
Rate
June 2023
April — May 2034
December 2032
3.90%, fixed
8.19%, Libor adjusted
8.44%, Libor adjusted
2005
In
thousands
$ 105,381
46,395
15,464
$ 167,240
We may redeem the Convertible Debentures on or after July 7, 2008 with notice. Holders may require us to repurchase their
debentures on June 30 of 2008, 2013, and 2018. Also, holders may convert their debentures if the market value of our common stock
exceeds the product of the conversion price (currently $41.83) multiplied by 120% for 20 of the 30 trading days ending on the last
trading day of the immediately preceding quarter. Upon conversion, holders will receive 23.9037 shares of common stock for each
$1,000 principal amount of debentures surrendered for conversion. We have the right to deliver, in lieu of common stock, cash or a
combination of cash and shares of common stock.
The 2032 and 2034 Subordinated Debentures may be redeemed at our option in December 2007 and April 2009, respectively.
See Note 10 of our Consolidated Financial Statements for additional information regarding our long−term debt.
As a result of the acquisition of NCRIC, we assumed the risk of loss for a judgment entered against NCRIC on February 20, 2004
by a District of Columbia Superior Court in favor of Columbia Hospital for Women Medical Center, Inc. (“CHW”) in the amount of
$18.2 million (the “CHW judgment”). By order of September 30, 2005, the trial court denied all post−trial relief sought by NCRIC
and NCRIC has appealed the judgment. NCRIC posted a $19.5 million appellate bond and associated letter of credit to secure payment
of the CHW judgment plus interest and costs, in the event the judgment is ultimately affirmed and paid. In accordance with SFAS 141,
we established a liability of $19.5 million for this judgment and included the liability as a component of the fair value of assets
acquired and liabilities assumed in the allocation of the NCRIC purchase price.
Losses
Losses are the largest component of expense for our operations. As discussed in critical accounting policies, net losses in any
period reflect our estimate of net losses related to the premiums earned in that period as well as any changes to our estimates of the
reserve established for net losses of prior periods.
The estimation of medical professional liability losses is inherently difficult. Injuries may not be discovered until years after an
incident, or the claimant may delay pursuing the recovery of damages. Ultimate loss costs, even for similar events, vary significantly
depending upon many factors, including but not limited to the nature of the injury and the personal situation of the claimant or the
claimants’ family, the judicial climate where the insured event occurred, general economic conditions and the trend of health care
costs. Medical liability claims are typically resolved over an extended period of time, often five years or more. The combination of
changing conditions and the extended time required for claim resolution results in a loss cost estimation process that requires actuarial
skill and the application of judgment, and such estimates require periodic revision.
In establishing our reserve for loss and loss adjustment expenses management considers a variety of factors including historical
paid and incurred loss development trends, the effect of inflation on medical care, general economic trends and the legal environment.
Given the number of factors considered it is neither practical nor meaningful to isolate a particular assumption or parameter of the
process and calculate the impact of changing that single item. We perform an in−depth review of our loss reserve on a semi−annual
basis. However, management is continually reviewing and updating the data
40
underlying the estimation of our loss reserve and we make adjustments that we believe the emerging data indicate. Any adjustments
necessary are reflected in the then−current operations.
As a result of the variety of factors that must be considered by management there is a significant risk that actual incurred losses will
develop differently from these estimates. We use a variety of actuarial methodologies in performing these analyses. Among the
methods that we have used are:
– Paid development method
– Reported development method
– Bornhuetter−Ferguson method
– Average paid value method
– Average reported value method
– Backward recursive method
Generally, methods such as the Bornheutter−Ferguson method are used on more recent accident years where we have less data on
which to base our analysis. As business seasons and we have an increased amount of data for a given accident year we begin to give
more confidence to the development and average methods as these methods typically rely more heavily on our own historical data.
Each of these methods treats our assumptions differently, and thus provides a different perspective on the particular business under
review.
The various actuarial methods discussed above are applied in a consistent manner from period to period. In addition, we perform
statistical reviews of claim data such as claim counts, average settlement costs and severity trends.
In performing these analyses we partition our business by type, coverage type, geography, layer of coverage and accident year.
This procedure is intended to balance the use of the most representative data for each partition, capturing its unique patterns of
development and trends. For each partition, the results of the various methods, along with the supplementary statistical data regarding
such factors as the current economic environment, are used to develop a point estimate based upon management’s judgment and past
experience. The process of selecting the point estimate from the set of possible outcomes produced by the various actuarial methods is
based upon the judgment of management and is not driven by formulaic determination. For each partition of our business we select a
point estimate with due regard for the age, characteristics and volatility of the partition of the business, the volume of data available
for review and past experience with respect to the accuracy of estimates for business of a similar type. This series of selected point
estimates is then combined to produce an overall point estimate for ultimate losses.
The Company has modeled implied reserve ranges around its single point reserve estimates for its professional liability business
assuming different confidence levels. The ranges have been developed by aggregating the expected volatility of losses across
partitions of our business to obtain a consolidated distribution of potential reserve outcomes. The aggregation of this data takes into
consideration the correlation among the Company’s geographic and specialty mix of business. The result of the correlation approach
to aggregation is that the ranges are narrower than the sum of the ranges determined for each partition.
The Company has used this modeled statistical distribution to calculate an 80% and 60% confidence interval for the potential
outcome of our reserves. The high and low end points of the ranges are as follows:
80% Confidence Level
60% Confidence Level
Low End
Point
$1.383
billion
$1.505
billion
Carried
Reserves
$1.897
billion
$1.897
billion
High End
Point
$2.355
billion
$2.128
billion
The development of a reserve range models the uncertainty of the claim environment as well as the limited predictive power of past
loss data. These uncertainties and limitations are not specific to the Company. The ranges represent an estimate of the range of
possible outcomes and should not be confused with a range of best estimates. Any change in our estimate of reserves would be
reflected in then−current operations. Due to the size of our reserve for losses, even a small percentage adjustment to
41
these estimates could have a material effect on our results of operations for the period in which the adjustment is made.
The following table, known as the Loss Reserve Development Table, presents information over the preceding ten years
regarding the payment of our losses as well as changes to (the development of) our estimates of losses during that time period. Years
prior to 2001 relate only to the reserves of Medical Assurance. In years 2001 and thereafter the table reflects the reserves of
ProAssurance, formed in 2001 in order to merge Medical Assurance and Professionals Group. NCRIC reserves are included only in
the year 2005 since NCRIC was acquired in that year. The table does not include the loss reserves of personal lines operations, which
are reflected in our financial statements as discontinued operations.
The table includes losses on both a direct and an assumed basis and is net of reinsurance recoverables. The gross liability for
losses before reinsurance, as shown on the balance sheet, and the reconciliation of that gross liability to amounts net of reinsurance are
reflected below the table. We do not discount our reserves to present value. Information presented in the table is cumulative and,
accordingly, each amount includes the effects of all changes in amounts for prior years. The table presents the development of our
balance sheet reserves; it does not present accident year or policy year development data. Conditions and trends that have affected the
development of liabilities in the past may not necessarily occur in the future. Accordingly, it may not be appropriate to extrapolate
future redundancies or deficiencies based on this table.
The following may be helpful in understanding the Loss Reserve Development Table:
–
–
–
–
The line entitled “Reserve for losses, undiscounted and net of reinsurance recoverables” reflects the Company’s reserve for
losses and loss adjustment expense, less the receivables from reinsurers, each as showing in the Company’s consolidated
financial statements at the end of each year (the Balance Sheet Reserves).
The section entitled “Cumulative net paid, as of” reflects the cumulative amounts paid as of the end of each succeeding
year with respect to the previously recorded Balance Sheet Reserves.
The section entitled “Re−estimated net liability as of” reflects the re−estimated amount of the liability previously recorded
as Balance Sheet Reserves that includes the cumulative amounts paid and an estimate of additional liability based upon
claims experience as of the end of each succeeding year (the Net Re−estimated Liability).
The line entitled “Net cumulative redundancy (deficiency)” reflects the difference between the previously recorded Balance
Sheet Reserve for each applicable year and the Net Re−estimated Liability relating thereto as of the end of the most recent
fiscal year.
42
Analysis of Losses and Loss Reserve Development
(In thousands)
December 31,
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
$ 352,521
$ 440,040
$ 464,122
$ 480,741
$ 486,279
$ 493,457
$ 1,009,354
$ 1,098,941
$ 1,298,458
$ 1,544,981
$ 1,896,743
27,532
58,769
80,061
107,005
120,592
129,043
135,620
138,534
140,712
142,552
352,521
325,212
280,518
237,280
190,110
173,148
168,828
160,784
161,717
158,743
158,601
48,390
98,864
136,992
173,352
191,974
204,013
212,282
218,919
225,722
440,040
393,363
347,258
294,675
264,714
259,195
248,698
250,927
251,584
250,397
67,383
128,758
194,139
227,597
252,015
266,056
276,052
284,442
464,122
416,814
364,196
333,530
323,202
320,888
321,232
321,959
319,822
89,864
192,716
257,913
308,531
331,796
346,623
357,148
480,741
427,095
398,308
400,333
414,008
415,381
412,130
409,501
133,832
239,872
313,993
358,677
387,040
408,079
486,279
463,779
469,934
488,416
487,366
485,719
489,187
143,892
251,855
321,957
367,810
402,035
493,457
507,275
529,698
527,085
534,382
536,875
245,743
436,729
563,557
656,670
224,318
393,378
528,774
200,314
378,036
199,617
1,009,354
1,026,354
1,023,582
1,032,571
1,035,832
1,098,941
1,098,891
1,099,292
1,109,692
1,298,458
1,289,744
1,282,920
1,544,981
1,522,000
$ 193,920
$ 189,643
$ 144,300
$
71,240
$
(2,908)
$ (43,418)
$
(26,478)
$
(10,751)
$
15,538
$
22,981
Reserve for losses,
undiscounted
and net of
reinsurance
recoverables
Cumulative net paid,
as of:
One Year Later
Two Years Later
Three Years Later
Four Years Later
Five Years Later
Six Years Later
Seven Years Later
Eight Years Later
Nine Years Later
Ten Years Later
Re−estimated Net
Liability as of:
End of Year
One Year Later
Two Years Later
Three Years Later
Four Years Later
Five Years Later
Six Years Later
Seven Years Later
Eight Years Later
Nine Years Later
Ten Years Later
Net cumulative
redundancy
(deficiency)
Original gross liability
— end of year
$ 432,937
$ 548,732
$ 614,720
$ 660,631
$ 665,786
$ 659,659
$ 1,322,871
$ 1,494,875
$ 1,634,749
$ 1,818,635
Less: reinsurance
recoverables
Original net liability
— end of year
Gross re−estimated
(80,416)
(108,692)
(150,598)
(179,890)
(179,507)
(166,202)
(313,517)
(395,934)
(336,291)
(273,654)
$ 352,521
$ 440,040
$ 464,122
$ 480,741
$ 486,279
$ 493,457
$ 1,009,354
$ 1,098,941
$ 1,298,458
$ 1,544,981
liability — latest
$ 182,719
$ 295,748
$ 416,432
$ 519,779
$ 600,769
$ 638,452
$ 1,281,424
$ 1,398,922
$ 1,573,377
$ 1,797,409
Re−estimated
reinsurance
recoverables
Net re−estimated
(24,118)
(45,351)
(96,610)
(110,278)
(111,582)
(101,577)
(245,592)
(289,230)
(290,457)
(275,409)
liability — latest
$ 158,601
$ 250,397
$ 319,822
$ 409,501
$ 489,187
$ 536,875
$ 1,035,832
$ 1,109,692
$ 1,282,920
$ 1,522,000
Gross cumulative
redundancy
(deficiency)
$ 250,218
$ 252,984
$ 198,288
$ 140,852
$
65,017
$
21,207
$
41,447
$
95,953
$
61,372
$
21,226
43
In each year reflected in the table, we have utilized the actuarial methodologies discussed previously to estimate reserves. These
techniques are applied to the data in a consistent manner and the resulting projections are evaluated by management to establish the
estimate of reserves.
Factors that have contributed to the variation in loss development include the following:
– Our volume of business and the corresponding data in the late 1980’s and early 1990’s, while substantial, was not of a sufficient
size to fully support the actuarial projection process without the use of industry−based data. Substantially all of our business was
derived from medical professional liability insurance written in Alabama until we began to geographically expand our business in
the mid to late 1990s. We utilized a rigorous and disciplined approach to investigating, managing and defending claims. This
philosophy generally produced results in Alabama that were better than industry averages in terms of loss payments and the
proportion of claims closed without indemnity payment. Ultimately, actual results proved better than the industry data, creating
redundancies.
– Our reserves established in the late 1980’s and early 1990’s were strongly influenced by the dramatically increased frequency and
severity that we, and the industry as a whole, experienced during the mid−1980s. Some of these trends moderated, and in some
cases, reversed, by the late 1980s or early 1990s. However, the ability to recognize the improved environment was delayed due to
the extended time required for claims resolution. When these negative trends moderated, the reserves we established during those
periods proved to be redundant.
– The professional liability legal environment deteriorated once again in the late 1990’s. Beginning in 2000, we recognized adverse
trends in claim severity causing increased estimates of certain loss liabilities. As a result, favorable development of prior year loss
reserves slowed in 2000 and reversed in 2001 and 2002. We have addressed these trends through increased rates, stricter
underwriting and modifications to claims handling procedures.
– During 2004 and 2005 we recognized favorable development related to our previously established reserves, primarily to reflect
reductions in our estimates of claim severity.
44
At December 31, 2005 our reserve for losses, net of the receivable from reinsurers, is $1.9 billion, an increase of $351.8 million
over net reserves at December 31, 2004, which includes NCRIC net reserves acquired in August of $139.7 million. Our receivable
from reinsurers at December 31, 2005 is $327.7 million, of which $41.3 million is attributable to NCRIC. Our reserve for losses
continues to grow given the generally long−tailed nature of professional liability lines of business. Several years can pass between the
initial recognition of a claim and the ultimate settlement of that claim. This, coupled with the growth in the number of policies we
issue has resulted in an increase in loss reserve. Activity in the net reserve for losses during 2005, 2004 and 2003 is summarized
below:
Balance, beginning of year
Less receivable from reinsurers
Net balance, beginning of year
Reserves acquired from NCRIC, net of receivable from reinsurers of $43.5
million
Incurred related to:
Current year
Prior years
Total incurred
Paid related to:
Current year
Prior years
Total paid
Net balance, end of year
Plus receivable from reinsurers
Balance, end of year
2005
Year Ended December 31
2004
2003
$1,818,636
273,654
In thousands
$1,634,749
336,291
$1,494,875
395,934
1,544,982
1,298,458
1,098,941
139,672
—
—
461,182
(22,981)
438,201
(26,495)
(199,617)
(226,112)
1,896,743
327,693
469,151
(8,714)
460,437
(13,599)
(200,314)
(213,913)
1,544,982
273,654
439,418
(50)
439,368
(15,533)
(224,318)
(239,851)
1,298,458
336,291
$2,224,436
$1,818,636
$1,634,749
At December 31, 2005 our gross loss reserves included case reserves of approximately $1.240 billion and IBNR reserves of
approximately $984 million. Our insurance subsidiaries had consolidated reserves for losses on a GAAP basis that exceeded those on
a statutory basis by approximately $29.6 million, which is principally due to the portion of GAAP reserves that are reflected for
statutory accounting purposes as unearned premiums. These unearned premiums are applicable to extended reporting endorsements
(“tail” coverage) issued without a premium charge upon death, disability, or retirement of an insured.
Reinsurance
We use reinsurance to provide capacity to write large limits of liability, to reduce losses of a catastrophic nature and to stabilize
underwriting results in those years in which such losses occur. The purchase of reinsurance does not relieve us from the ultimate risk
on our policies, but it does provide reimbursement from the reinsurer for certain losses paid by us.
We reinsure professional liability risks under treaties pursuant to which the reinsurer agrees to assume all or a portion of all risks
that we insure above our individual risk retention of $1 million per claim, up to the maximum individual limit offered (currently
$16 million). Historically, per claim retention levels have varied between the first $200,000 and the first $2 million depending on the
coverage year and the state in which business was written. Periodically, we provide insurance to policyholders above the maximum
limits of our primary reinsurance treaties. In those situations, we reinsure the excess risk above the limits of our reinsurance treaties on
a facultative basis, whereby the reinsurer agrees to insure a particular risk up to a designated limit.
Our risk retention level is dependent upon numerous factors including our risk appetite and the capital we have to support it, the
price and availability of reinsurance, volume of business, level of
45
experience and our analysis of the potential underwriting results within each state. Our 2005−2006 reinsurance treaties renewed with
minimal change in terms or conditions from the prior year.
The effective transfer of risk is dependent on the credit−worthiness of the reinsurer. We purchase reinsurance from a number of
companies to mitigate concentrations of credit risk. Our reinsurance broker assists us in the analysis of the credit quality of our
reinsurers. We base our reinsurance buying decisions on an evaluation of the then−current financial strength, rating and stability of
prospective reinsurers. However, the financial strength of our reinsurers, and their corresponding ability to pay us, may change in the
future due to forces or events we cannot control or anticipate.
We have not experienced any significant difficulties in collecting amounts due from reinsurers due to the financial condition of the
reinsurer. Should future events lead us to believe that any reinsurer is unable to meet its obligations to us, adjustments to the amounts
recoverable would be reflected in the results of current operations.
At December 31, 2005 our receivable from reinsurers approximated $328 million. The following table identifies our reinsurers
from which our recoverables (net of amounts due to the reinsurer) are $10 million or more as of December 31, 2005:
Reinsurer
Hannover Ruckversicherung AG
General Reinsurance Corp
PMA Re
AXA Re
Lloyd’s Syndicate 2791
Lloyds Syndicate 435
Transatlantic Reins Co
A. M. Best
Company
Rating
Net Amounts
Due
From Reinsurer
In thousands
A
A++
B+
A
A
A
A+
$ 59,682
$ 28,700
$ 20,087
$ 18,872
$ 14,928
$ 12,192
$ 11,656
Off Balance Sheet Arrangements/Guarantees
As discussed in Note 10 to our Consolidated Financial Statements, our 2032 and 2034 Debentures are held by, and are the sole
assets of, related business trusts. The NCRIC Trust purchased the 2032 Debentures and the PRA Trusts purchased the 2034
Debentures with proceeds from related trust preferred stock (TPS) issued and sold by each trust. The terms and maturities of the 2032
and 2034 Subordinated Debentures mirror those of the related TPS. The NCRIC and PRA Trusts will use the debenture interest and
principal payments we pay into each trust to meet their TPS obligations. In accordance with the guidance given in Financial
Accounting Standards Board Interpretation No. 46R, “Variable Interest Entities,” (FIN 46R) the NCRIC and PRA Trusts are not
included in our consolidated financial statements because we are not the primary beneficiary of either trust.
NCRIC and ProAssurance have issued guarantees that amounts paid to the NCRIC and PRA Trusts related to the 2032 and 2034
Subordinated Debentures will subsequently be remitted to the holders of the related TPS. The amounts guaranteed are not expected to
at any time exceed our obligations under the 2032 and 2034 Subordinated Debentures, and we have not recorded any additional
liability related to the guarantee.
46
Contractual Obligations
A schedule of our non−cancelable contractual obligations at December 31, 2005 follows:
Total
1 year
Loss and loss adjustment expenses
Interest on long−term debt
Long−term debt obligations
Operating lease obligations
$2,224,436
220,371
169,459
6,594
$487,212
9,372
—
2,866
Payments due by period
1−3 years
In thousands
$833,759
18,744
—
3,063
Less than
3−5 years
More than
5 years
$520,711
18,744
—
662
$382,754
173,511
169,459
3
Total
$2,620,860
$499,450
$855,566
$540,117
$725,727
All long−term debt is assumed to be settled at its contractual maturity. Interest on long−term debt is calculated using interest rates
in effect at December 31, 2005 for variable rate debt. For more information see Note 10 to our Consolidated Financial Statements. The
anticipated payout of loss and loss adjustment expenses is based upon our historical payout patterns. Both the timing and amount of
these payments may vary from the payments indicated. Our operating lease obligations are primarily for the rental of office space,
office equipment, and communications lines and equipment.
47
Results of Operations — Year Ended December 31, 2005 Compared to Year Ended December 31, 2004
Selected consolidated financial data for each period is summarized in the table below.
Revenues:
Gross premiums written
Net premiums written
Premiums earned
Premiums ceded
Net premiums earned
Net investment income
Net realized investment gains (losses)
Other income
Total revenues
Expenses:
Losses and loss adjustment expenses
Reinsurance recoveries
Net losses and loss adjustment expenses
Underwriting, acquisition and insurance expenses
Interest expense
Total expenses
Income from continuing operations before income taxes
Income taxes
Income from continuing operations
Income from discontinued operations, net of tax
Net Income
Net loss ratio
Underwriting expense ratio
Combined ratio
Operating ratio
Return on equity
Year Ended December 31
2005
2004
$ in thousands
$572,960
$521,343
$596,557
(53,316)
543,241
97,649
912
3,510
$573,592
$535,028
$555,524
(35,627)
519,897
76,346
7,572
1,341
Increase
(Decrease)
$
(632)
$(13,685)
$ 41,033
(17,689)
23,344
21,303
(6,660)
2,169
645,312
605,156
40,156
479,300
(41,099)
438,201
89,319
8,929
536,449
108,863
28,837
80,026
33,431
447,521
12,916
460,437
84,383
6,515
551,335
53,821
10,778
43,043
29,768
31,779
(54,015)
(22,236)
4,936
2,414
(14,886)
55,042
18,059
36,983
3,663
$113,457
$ 72,811
$ 40,646
80.7%
16.4%
97.1%
79.1%
11.6%
88.6%
16.2%
104.8%
90.1%
7.4%
(7.9)
0.2
(7.7)
(11.0)
4.2
The 2005 increases in our annualized ROE and our operating results for the year are primarily attributable to our success in
reducing our net loss ratio. In addition, we held more invested assets while market interest rates were increasing, which generated
additional investment income.
48
Effect of Acquisition of NCRIC
We acquired NCRIC on August 3, 2005 and our results for the year ended December 31, 2005 include NCRIC results since the
date of acquisition only. In the following tables, in order to facilitate an understanding of the effect of NCRIC, we have segregated
results attributable to NCRIC in a separate line item titled “NCRIC”. The designation “PRA, prior” refers to ProAssurance’s results
excluding NCRIC. Unless otherwise indicated, our discussions of variances between operating periods are presented exclusive of the
amounts attributed to NCRIC operations.
Premiums
Premiums written changed in 2005 as a result of competition, selective underwriting, the reduced need for rate increases and the
acquisition of NCRIC. This acquisition is consistent with our stated strategy to grow premiums both organically and through selective
acquisitions.
Gross Premiums Written
Year Ended December 31
2005
2004
$ in thousands
Increase
(Decrease)
PRA, prior
NCRIC
Continuing operations
$548,078
24,882
$572,960
$573,592
—
$573,592
$(25,514)
24,882
(632)
$
(4.4%)
n/a
(0.1%)
Premiums written vary from period to period for a number of reasons. Some of the more common differences result from changes
to premium rates, changes in the coverages chosen by our insureds, the volume of new business written during the period, the loss of
business to competitors or due to our own underwriting decisions, and the percentage of our policies that renew, which may also affect
the level of tail premiums written. Changes in the markets in which we operate, such as the entry or exit of a competitor in a given
market and changes in the rate structures of our competitors, also affect written premiums from period to period. The effect of any of
these changes also varies by the proportion of policies written or renewed during each period in the various geographical regions and
classes of business in which we operate.
Approximately $16.0 million of the 2005 decrease in premiums written, excluding NCRIC, represents a decrease in physician
premiums for non−tail coverages, which is our principal insurance product, comprising 84% of our total 2005 written premiums. In
2005, rates on our renewed policies averaged 11% higher than the expiring premiums. However, the beneficial effect of the rate
increases and new business was offset by the effect of policies that did not renew. In addition, some insureds chose to take lower
limits of coverage, and in some cases we decided to move away from volatile jurisdictions where rates are higher toward stable states
where rates may be lower. Our retention rate averaged 85% in 2005, as compared to 83% in 2004, but increased price competition in
several states reduced the volume of new business that we were able to write. We remain committed to an adequate rate structure and
have forgone business that we believed could not be written at profitable rates.
Tail policies are offered to insureds that are discontinuing their claims−made coverage with us, and the amount of tail premium
written in any annual period can and does vary widely. Tail premiums represented approximately 5% of total written premiums in
2005 and approximately 6% of total written premiums in 2004. Tail premiums declined by approximately $7.7 million in 2005 as
compared to 2004. While we offer tail coverage to departing insureds as an obligation under our policy provisions, our preference is to
sell less rather than more of this coverage since it represents a long−term liability with increased pricing risk.
Hospital premiums, which comprise 7% of our premiums written in 2005 and 2004, declined by approximately $1.9 million as
compared to 2004. Such business is highly price sensitive. As in all our lines, we choose not to compete primarily on price because
our focus is on maintaining adequate margins on the policies we sell. Thus, our hospital premiums fluctuate based on competitive
forces largely beyond our control.
49
Premiums Earned
Year Ended December 31
2005
2004
$ in thousands
Increase
(Decrease)
PRA, prior
NCRIC
Continuing operations
$562,339
34,218
$596,557
$555,524
—
$555,524
$ 6,815
34,218
$41,033
1.2%
n/a
7.4%
Because premiums are generally earned pro rata over the entire policy period after the policy is written, fluctuations in premiums
earned tend to lag those of premiums written. Policies generally carry a term of one year. Professional liability tail policies are 100%
earned in the period written because the policies are non−cancelable and insure only incidents that occurred in prior periods.
The increase in 2005 earned premiums reflects on a pro rata basis the changes in written premiums that occurred during both 2005
and late 2004, reduced by lower tail premiums written in 2005 as discussed in the section on premiums written.
Premiums Ceded
Year Ended December 31
2005
2004
$ in thousands
Increase
(Decrease)
PRA, prior
NCRIC
Continuing operations
$47,729
5,587
$53,316
$35,627
—
$35,627
$12,102
5,587
$17,689
34.0%
n/a
49.7%
Premiums ceded represent the portion of earned premiums that we must ultimately pay to our reinsurers for their assumption of a
portion of our losses.
We reduced ceded premiums by $8.9 million in 2004 to reflect changes in our estimates of the amount of reinsurance premiums
due for certain prior accident years, based on the provisions of the reinsurance contracts and our estimates of the reinsured losses for
those prior accident years. We also reduced ceded premiums in 2004 by approximately $1.6 million due to the commutation of certain
reinsurance contracts. After consideration of the effect of these adjustments, there is little change in 2005 ceded premiums as
compared to 2004.
Losses and Loss Adjustment Expenses
The estimation of medical professional liability losses is inherently difficult. Injuries may not be discovered until years after an
incident, or the claimant may delay pursuing the recovery of damages. Ultimate loss costs, even for similar events, vary significantly
depending upon many factors, including but not limited to the nature of the injury and the personal situation of the claimant or the
claimant’s family, the judicial climate where the insured event occurred, general economic conditions and the trend of health care
costs. Medical liability claims are typically resolved over an extended period of time, often five years or more. The combination of
changing conditions and the extended time required for claim resolution results in a loss cost estimation process that requires actuarial
skill and the application of judgment, and such estimates require periodic revision.
Calendar year losses may be divided into three components: (i) actuarial evaluation of incurred losses for the current accident year;
(ii) actuarial re−evaluation of incurred losses for prior accident years; and (iii) actuarial re−evaluation of the reserve for the death,
disability and retirement provision (DDR) in our claims−made policies.
Accident year refers to the accounting period in which the insured event becomes a liability of the insurer. For occurrence policies
the insured event becomes a liability when the event takes place; for claims−made policies the insured event becomes a liability when
the event is first reported to the insurer. We believe that measuring losses on an accident year basis is the most indicative measure of
the underlying profitability of the premiums earned in that period since it associates policy premiums earned with our estimate of the
losses incurred related to those policy premiums. Calendar year results include
50
the operating results for the current accident year and, as discussed in critical accounting policies, any changes in estimates related to
prior accident years.
The following tables summarize net losses and net loss ratios for the years ended December 31, 2005 and 2004 by separating losses
between the current accident year and all prior accident years.
Net Losses
Year Ended December 31
Net Loss Ratios*
Year Ended December 31
2005
2004
In thousands
$408,779
29,422
438,201
431,760
29,422
461,182
$460,437
—
460,437
469,151
—
469,151
Increase
(Decrease)
2005
2004
Increase
(Decrease)
$(51,658)
29,422
(22,236)
(37,391)
29,422
(7,969)
79.4%
102.8%
80.7%
83.9%
102.8%
84.9%
88.6%
—
88.6%
90.2%
—
90.2%
(9.2)
n/a
(7.9)
(6.3)
n/a
(5.3)
$ (22,981)
$ (8,714)
$(14,267)
(4.5%)
(1.6%)
(2.9)
Calendar Year
PRA, prior
NCRIC
Continuing operations
Current Accident Year
PRA, prior
NCRIC
Continuing operations
Prior Accident Year
PRA, prior
* Net losses as specified divided by net premiums earned.
Current accident year net loss ratios are lower in 2005 as compared to 2004 due to several factors. We have focused for several
years on developing and maintaining adequate rates. As rate adequacy has improved, loss ratios have decreased. Also, our expected
loss ratios vary based upon geographic location, coverage type and coverage limits. In 2005 as compared to 2004, changes in the mix
of insured risks reduced overall expected loss ratios. During 2005 we recognized favorable development of $23.0 million related to
our previously established reserves, primarily to reflect reductions in our estimates of claim severity. The most significant reduction
was seen in the 2003 accident year; however, favorable development was also seen in accident years 2002 and prior.
Assumptions used in establishing our reserve are regularly reviewed and updated by management as new data becomes available.
Any adjustments necessary are reflected in current operations. Due to the size of our reserve, even a small percentage adjustment to
the assumptions can have a material effect on our results of operations for the period in which the change is made.
51
Gross Losses and Reinsurance Recoveries
The effect of adjustments made to reinsured losses is mitigated by the corresponding adjustment that is made to insurance
recoveries. Thus, in any given year, we may make significant adjustments to gross losses that have a less significant effect on our net
losses. The following table reflects our losses on both a gross and a net basis.
Gross Losses
PRA, prior
NCRIC
Consolidated
Reinsurance Recoveries
PRA, prior
NCRIC
Consolidated
Net Losses
PRA, prior
NCRIC
Consolidated
Gross and Net Losses
Year Ended December 31
2005
$448,630
30,670
479,300
39,851
1,248
41,099
408,779
29,422
$438,201
2004
In thousands
$447,521
—
447,521
(12,916)
—
(12,916)
460,437
—
$460,437
Increase
(Decrease)
$ 1,109
30,670
31,779
52,767
1,248
54,015
(51,658)
29,422
$(22,236)
When discussing losses that are reinsured and losses that are retained, it is common to refer to “layers” of loss. The retained layer is
the cumulative portion of each loss, on a per−claim basis, which is less than our reinsurance retention for a given coverage year.
Likewise, the reinsured layer is the cumulative portion of each loss that exceeds the reinsurance retention.
Our 2005 actuarial analysis of our reserve indicated that our claims severity had continued to increase as expected in our retained
layers, but not to the degree anticipated in our original reserve estimates. This was also true in our reinsured layers, but the variance
between our original estimates and the 2005 actuarial estimate was smaller. Accordingly, we reduced our estimates of prior accident
year gross losses by $24.6 million and reduced the prior accident year reinsurance recoveries by $1.6 million, for a net adjustment to
prior year losses of $23.0 million.
Our 2004 actuarial analysis of our reserve indicated that our claims severity had continued to increase as expected in risk retained
by ProAssurance. However, in risks ceded to our reinsurers actual loss experience proved to be lower than we originally anticipated
and for which we established our reserve. Accordingly, we reduced our estimates of prior accident year gross losses by approximately
$60.4 million and reduced the corresponding reinsurance recoveries by $51.7 million, for a net adjustment to prior year losses of
$8.7 million. The decrease to reinsurance recoveries for prior accident years more than offset reinsurance recoveries for current
accident years resulting in a non−traditional relationship between gross losses and recoveries for the year ended December 31, 2004.
52
Net Investment Income and Net Realized Investment Gains (Losses)
Net investment income is primarily derived from the interest income earned by our fixed maturity securities and includes interest
income from short−term and cash equivalent investments, dividend income from equity securities, earnings from limited partnerships,
increases in the cash surrender value of business owned executive life insurance contracts, and rental income earned by our
commercial real estate holdings. Investment fees and expenses and real estate expenses are deducted from investment income.
PRA, prior
NCRIC
Continuing operations
Net Investment Income
Year Ended December 31
2005
2004
$ in thousands
Increase
(Decrease)
$93,887
3,762
$97,649
$76,346
—
$76,346
$17,541
3,762
$21,303
23.0%
n/a
27.9%
The increase in net investment income is principally due to higher average invested funds during 2005. The positive cash flow
generated by our insurance operations significantly increased our average invested funds. Rising market interest rates also contributed
to the improvement in net investment income. Rates began to increase in mid−2004, allowing new and maturing funds to be invested
at higher rates. Our average income yield, on a consolidated basis, excluding NCRIC, was 4.2% for 2005 as compared to 4.0% for
2004. Our average tax equivalent income yield on a consolidated basis, excluding NCRIC, was 4.8% for the year ended December 31,
2005 as compared to 4.4% for the year ended December 31, 2004. We increased the proportion of the portfolio that is invested in
tax−exempt securities because of the higher after−tax yields available on these securities; therefore, our average after−tax equivalent
income yield improved more than our average income yield.
The components of net realized investment gains (losses) are shown in the following table.
Net gains (losses) from sales
Other−than−temporary impairment losses
Trading portfolio gains (losses)
Net realized investment gains (losses)
53
Year Ended December 31
2004
2005
In thousands
$1,567
$5,285
(768)
113
(611)
2,898
$ 912
$7,572
Underwriting, Acquisition and Insurance Expenses
Underwriting, acquisition and insurance expenses are comprised of variable costs, such as commissions and premium taxes that are
directly related to premiums earned, and fixed costs that have an indirect relationship to premium volume, such as salaries, benefits,
and facility expenses.
Our 2005 underwriting, acquisition and insurance expenses reflect higher compensation and benefit costs offset by a decrease in
variable costs due to lower premium volume. The slight upward shift of the expense ratio as compared to 2004 is principally due to the
increase in compensation costs.
Underwriting, Acquisition
and Insurance Expenses
Year Ended December 31
2005
2004
$ in thousands
Increase
(Decrease)
Expense Ratio
Year Ended December 31
2005
2004
Increase
(Decrease)
PRA, prior
NCRIC
Continuing
operations
$84,767
4,552
$84,383
—
$89,319
$84,383
$ 384
4,552
$4,936
0.5%
n/a
5.8%
16.5%
15.9%
16.4%
16.2%
—
16.2%
0.3
n/a
0.2
Guaranty fund assessments were approximately $226,000 for the year ended December 31, 2005 as compared to approximately
$396,000 for the year ended December 31, 2004.
Interest Expense
Interest expense increased in 2005 as compared to 2004 primarily because the average amount of debt outstanding was higher in
2005 and because interest rates increased in 2005. In the early part of 2004, our only outstanding debt was our Convertible
Debentures. In April and May of 2004 we issued our 2034 Subordinated Debentures of $46.4 million; we added the 2032 Debentures
of $15.5 million in August 2005 as a part of the NCRIC transaction. Our Convertible Debentures have a fixed interest rate; our
Subordinated Debentures have variable rates.
Taxes
Our effective tax rate for each period is significantly lower than the 35% statutory rate because a considerable portion of our net
investment income is tax−exempt. The effect of tax−exempt income on our effective tax rate is shown in the table below:
Statutory rate
Tax−exempt income
Resolution of tax contingencies
Other
Effective tax rate
54
Year Ended December 31
2004
2005
35%
35%
(11%)
(9%)
(3%)
—
(1%)
—
20%
26%
Recent Accounting Pronouncements and Guidance
On December 16, 2004 the Financial Accounting Standards Board (FASB) issued SFAS 123 (revised 2004), Share−Based
Payment, hereafter referred to as SFAS 123(R), which is a revision of SFAS 123, Accounting for Stock−Based Compensation (SFAS
123), which superseded APB 25, Accounting for Stock Issued to Employees and amends SFAS 95, Statement of Cash Flows. The
provisions of SFAS 123(R) require all share−based payments to employees, including grants of employee stock options, to be
recognized in the financial statements based on their fair values. SFAS 123(R) also requires that the benefits of tax deductions in
excess of recognized compensation cost to be reported as a financing cash flow, rather than as an operating cash flow as required
under current literature. We plan to adopt SFAS 123(R) on January 1, 2006, the required effective date, using the “modified
prospective” method permitted by the statement and will value future grants of stock options using the Black Scholes valuation
method.
Under the “modified prospective” method stock−based compensation is recognized under the requirements of SFAS 123(R) for all
share−based payments granted after the effective date of SFAS 123(R) and for the non−vested portion of share−based payments
granted prior to the adoption of SFAS 123(R). Under SFAS 123(R) compensation for non−vested share−based payments granted prior
to adoption shall continue to be calculated as disclosed under SFAS 123, except that the effect of forfeitures is required to be
estimated rather than considered as forfeitures occur.
As permitted by SFAS 123, we currently value employee stock−based payments using APB 25’s intrinsic value method.
Accordingly, we generally recognize no compensation cost related to such payments but do provide pro forma disclosure of the effect
on net income and earnings per share of applying the fair value provisions of SFAS 123 to such payments granted.
Had our SFAS 123 pro forma disclosures been prepared in accordance with the provisions of SFAS 123(R) the effect would have
been different; however, the effect that SFAS 123(R) would have had on prior periods is not readily determinable. SFAS 123(R)
provides more extensive guidance than does SFAS 123 with regard to factors that should be considered in valuing share−based
payments. Under SFAS 123, we utilized a single set of valuation assumptions for all employees. Under SFAS 123(R), entities are
required to “aggregate individual awards into relatively homogeneous groups with respect to exercise and post−vesting employment
termination behaviors.” In order to appropriately reflect differing exercise and post−vesting employee termination behaviors, we
anticipate aggregating prospective awards into groups consisting of senior executives, likely to exercise shortly after vesting, other
senior executives and other employees. Additionally, under SFAS 123(R), fully vested awards granted to directors and awards that
vest upon retirement granted to employees who are eligible for retirement will be expensed on the date of grant. Under SFAS 123, we
calculated compensation expense (for pro forma disclosure) without consideration of expected forfeitures. Unlike SFAS 123, which
permitted companies to reflect forfeitures as they occurred, SFAS 123(R) requires companies to estimate forfeitures in determining the
amount of compensation cost to recognize each period. As a result, we will develop estimates of forfeitures during the requisite
service periods and revise previous SFAS 123 calculations for known and expected forfeitures related to grants prior to the adoption of
SFAS 123(R). Our own history with regard to the expected terms of employee stock awards is not sufficient to allow such
assumptions to be developed statistically for most employee groups. Accordingly, for such groups, through December 31, 2007, we
will apply the “simplified” method consistent with the guidance of SEC Staff Accounting Bulletin 107, i.e., expected term = (vesting
term + original contractual term) / 2). We are in the process of finalizing these assumptions; however, the selection of all assumptions
is not complete.
Presently, we estimate that the recognition of compensation cost, net of tax effects, for the non−vested portion of share−based
payments granted prior to the adoption of SFAS 123(R) will approximate $1.3 million, net of related tax effects, during fiscal 2006.
The further effect of adoption of SFAS 123(R) on future operating results will depend on the levels of share−based payments granted
in the future, the groups of employees to whom the awards are granted, the number of awards granted to employees who are eligible
for retirement, the terms of any future awards, as well as the final methods and assumptions used to determine the fair value of those
share−based payments.
The FASB issued SFAS 154, Accounting Changes and Error Corrections, in May 2005 as a replacement of APB 20, Accounting
Changes, and SFAS 3, Reporting Accounting Changes in Interim Financial Statements. SFAS 154 applies to voluntary changes in
accounting principle and changes the
55
requirements for accounting for and reporting of a change in accounting principle and is effective for accounting changes and
corrections of errors made in fiscal years beginning after December 15, 2005. ProAssurance expects to adopt SFAS 154 on its
effective date.
56
Results of Operations — Year Ended December 31, 2004 Compared to Year Ended December 31, 2003
Selected consolidated financial data for each period is summarized in the table below.
Revenues:
Gross premiums written
Net premiums written
Premiums earned
Premiums ceded
Net premiums earned
Net investment income
Net realized investment gains (losses)
Other income
Total revenues
Expenses:
Losses and loss adjustment expenses
Reinsurance recoveries
Net losses and loss adjustment expenses
Underwriting, acquisition and insurance expenses
Loss on early extinguishment of debt
Interest expense
Total expenses
Income from continuing operations before income taxes
Income taxes
Income from continuing operations
Income from discontinued operations, net of tax
Net Income
Net loss ratio
Underwriting expense ratio
Combined ratio
Operating ratio
Return on equity
57
Year Ended December 31
2004
2003
$ in thousands
$573,592
$535,028
$555,524
(35,627)
519,897
76,346
7,572
1,341
$543,323
$497,659
$509,260
(49,389)
459,871
63,366
5,858
4,460
Increase
(Decrease)
$ 30,269
$ 37,369
$ 46,264
13,762
60,026
12,980
1,714
(3,119)
605,156
533,555
71,601
447,521
12,916
460,437
84,383
—
6,515
414,828
24,540
439,368
73,263
305
3,409
551,335
516,345
53,821
10,778
43,043
29,768
17,210
1,865
15,345
23,358
32,693
(11,624)
21,069
11,120
(305)
3,106
34,990
36,611
8,913
27,698
6,410
$ 72,811
$ 38,703
$ 34,108
88.6%
16.2%
104.8%
90.1%
7.4%
95.5%
15.9%
111.4%
97.6%
2.9%
(6.9)
0.3
(6.6)
(7.5)
4.5
Premiums
Written
Premiums exhibited strong growth in 2004; however, the growth was at a slower pace than in 2003 primarily because we
implemented smaller rate increases in 2004 as compared to 2003. Our rates are based on our expected losses for the coverages
provided; the cumulative effect of the rate increases we obtained in the past several years allowed us to pursue lower rate increases in
some states in 2004. On average, renewals during the year ended December 31, 2004 were at rates that are approximately 19% higher
than expiring rates. Rate increases on 2003 renewals, on average, were at rates that were 28% higher than expiring rates. New business
written in 2004 was largely offset by business that did not renew, including business that we selectively chose not to renew.
Virtually all of the growth that we experienced in 2004 was related to physician coverages. This growth included an increase of
approximately $5.0 million related to physician tail policies. Premiums written for this coverage can vary significantly from year to
year.
Earned
Premiums are earned pro rata over the entire policy period (generally one year) after the policy is written. Thus the increase in 2004
earned premiums reflects on a pro rata basis the changes in written premiums that occurred during both 2004 and 2003.
Ceded
Premiums ceded represent the portion of earned premiums that we must ultimately pay to our reinsurers for their assumption of a
portion of our losses.
In both 2004 and 2003, we reduced our estimates of prior year gross losses. As a result of the features of our reinsurance contracts,
we also reduced our estimates of ultimate ceded premiums. The reduction was $8.9 million in 2004 and $5.4 million in 2003.
Premiums ceded were also reduced by $1.6 million in 2004 due to the commutation of certain reinsurance contracts. Also, insureds
have purchased policies with coverage limits below our reinsurance attachment point. We do not cede these premiums, and as a result,
premiums ceded declined.
Losses and Loss Adjustment Expenses
The following table summarizes net losses and net loss ratios for the years ended December 31, 2004 and 2003 by separating losses
between the current accident year and all prior accident years. The net loss ratios shown are calculated by dividing the applicable net
losses by calendar year net premiums earned.
Calendar year
Current accident year
Prior accident year
Net Losses
Year Ended December 31
Net Loss Ratios*
Year Ended December 31
2004
$460,437
$469,151
$ (8,714)
2003
In thousands
$439,368
$439,418
(50)
$
Increase
(Decrease)
$ 21,069
$ 29,733
$ (8,664)
2004
2003
88.6%
90.2%
(1.6%)
95.5%
95.6%
(0.1%)
Increase
(Decrease)
(6.9)
(5.4)
(1.5)
*
Net losses as specified divided by net premiums earned.
During 2004, we continued to see an increase in loss severity, which increased loss costs. Current accident year net loss ratios are
lower in 2004 than in 2003 primarily because loss costs increased at a slower pace than premium rates. Loss ratios have also improved
because we converted our occurrence policies to claims−made coverage. Generally, loss ratios associated with claims−made coverage
are initially lower than those associated with occurrence coverage.
58
We decreased our estimate of prior year net losses by $8.7 million in 2004 and $50,000 in 2003. The 2004 amount represents 0.7%
of 2003 net reserves. These adjustments were in response to actuarial evaluations of loss reserves performed during the period. No
change was made to our estimates of the reserves required for death, disability and retirement during 2004 or 2003.
Gross Losses and Reinsurance Recoveries
The following table reflects our losses on both a gross and a net basis.
Gross losses
Reinsurance recoveries
Net losses
Gross and Net Losses
Year Ended December 31
2004
$447,521
$ (12,916)
$460,437
2003
In thousands
$414,828
$ (24,540)
$439,368
Increase
(Decrease)
$ 32,693
$ 11,624
$ 21,069
In 2004, as was also the case in 2003, our actuarial analysis of our reserves indicated that our claims severity had continued to
increase as expected in our retained layers. However, we did not experience the high level of losses in our reinsured layers that we
originally anticipated and for which we established reserves. Accordingly, we reduced our estimates of prior accident year gross losses
by approximately $60.4 million during the year ended December 31, 2004 and $74.2 million during the year ended December 31,
2003. These losses were heavily reinsured; therefore, we reduced expected reinsurance recoveries by $51.7 million in 2004 and
$74.1 million in 2003. As previously discussed, these changes to prior year estimates reduced net losses by $8.7 million in 2004 and
nominally reduced net losses in 2003. In both 2004 and 2003, the decrease to reinsurance recoveries for prior accident years more than
offset reinsurance recoveries for current accident years resulting in a non−traditional relationship between gross losses and recoveries.
Assumptions used in establishing our reserves are regularly reviewed and updated by management as new data becomes available.
Any adjustments necessary are reflected in current operations. Due to the size of our reserves, even a small percentage adjustment to
the assumptions can have a material effect on our results of operations for the period in which the change is made.
Net Investment Income and Net Realized Investment Gains (Losses)
The increase in our net investment income in 2004 as compared to 2003 is due to higher average invested funds in 2004, offset by a
slight decline in the yield of our fixed maturity securities. While prevailing market interest rates have remained historically low,
changes in the duration and asset mix of the portfolio have helped to stabilize the yield of the portfolio. We increased the weighted
average duration of the portfolio from 3.5 years at December 31, 2003 to 3.9 years at December 31, 2004 in order to take advantage of
improved yields on certain longer term securities. We have also increased the proportion of the portfolio that is invested in
tax−exempt securities because of the higher after−tax yields available on these securities. However, we continued to see some decline
in our income yields as older, higher yielding securities matured or were sold. Our average income yield, on a consolidated basis, was
4.0% for the year ended December 31, 2004 as compared to 4.5% for the year ended December 31, 2003. Our average tax equivalent
income yield on a consolidated basis was 4.4% for the year ended December 31, 2004 as compared to 4.9% for the year ended
December 31, 2003.
59
The components of net realized investment gains are shown in the following table.
Net gains (losses) from sales
Other−than−temporary impairment losses
Trading portfolio gains (losses)
Net realized investment gains (losses)
Underwriting, Acquisition and Insurance Expenses
Year Ended December 31
2003
2004
In thousands
$ 5,285
(611)
2,898
$ 5,857
(322)
323
$ 7,572
$ 5,858
Underwriting, acquisition and insurance expenses are comprised of variable costs, such as commissions and premium taxes that are
directly related to premiums earned, and fixed costs that have an indirect relationship to premium volume, such as salaries, benefits,
and facility costs assessments. Underwriting, acquisition and insurance expenses increased in 2004 principally due to additional
commission expense incurred as a result of premium growth. Changes in the mix of premiums by state and coverage type also
increased commission expense. We also experienced increases in costs for salaries, benefits and professional fees, most significantly
those fees related to Sarbanes−Oxley compliance.
The expense ratio (underwriting, acquisition and insurance expenses divided by net premiums earned) increased slightly in 2004 to
16.2% as compared to 15.9% in 2003. The increase is principally attributable to higher commission costs.
Guaranty fund assessments were approximately $396,000 for the year ended December 31, 2004 as compared to approximately
$100,000 for the year ended December 31, 2003.
Interest Expense
Interest expense increased in 2004 as compared to 2003 primarily because the average amount of debt outstanding was higher in
2004 but also because interest was paid at a higher rate in the first half of 2004 as compared to the first half of 2003. In the first half of
2003 our only debt was an outstanding bank term loan. In July 2003 we issued $107.6 million of Convertible Debentures at a fixed
rate of 3.9% and repaid a $67.5 million bank term loan which carried a variable rate. We increased our debt again in April and May of
2004, when we issued Subordinated Debentures of $46.5 million.
Taxes
Our effective tax rate for each period is significantly lower than the 35% statutory rate because a considerable portion of our net
investment income is from tax−exempt interest and dividends. The effect of tax−exempt income on our effective tax rate is shown in
the table below:
Statutory rate
Tax−exempt income
Resolution of tax contingencies
Other
Effective tax rate
60
Year Ended December 31
2003
2004
35%
(11%)
(3%)
(1%)
20%
35%
(24%)
—
—
11%
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
We believe that we are principally exposed to three types of market risk related to our investment operations. These risks are
interest rate risk, credit risk and equity price risk.
The term market risk refers to the risk of loss arising from adverse changes in market rates and prices, such as interest rates, equity
prices and foreign currency exchange rates.
As of December 31, 2005, our fair value investment in fixed maturity securities was $2.403 billion. These securities are subject
primarily to interest rate risk and credit risk. We have not and currently do not intend to enter into derivative transactions.
Interest Rate Risk
Our fixed maturities portfolio is exposed to interest rate risk. Fluctuations in interest rates have a direct impact on the market
valuation of these securities. As interest rates rise, market values of fixed income portfolios fall and vice versa. We believe we are in a
position to keep our fixed income investments until maturity as we do not invest in fixed maturity securities for trading purposes.
Interest Rates
200 basis point rise
100 basis point rise
Current rate *
100 basis point decline
200 basis point decline
Portfolio
Value
Millions
$ 2,218
$ 2,310
$ 2,403
$ 2,498
$ 2,595
2005
Change in
Value
Millions
$
$
$
$
$
(185)
(93)
—
95
192
Effective
Duration
Years
4.07
4.02
3.91
3.82
3.59
2004
Portfolio
Value
Millions
$ 1,819
$ 1,898
$ 1,977
$ 2,055
$ 2,137
Effective
Duration
Years
4.20
4.11
3.93
3.83
3.92
*
Current rates are as of December 31, 2005 and 2004
At December 31, 2005, the fair value of our investment in preferred stocks was $2.0 million, including net unrealized gains of $25
thousand. Preferred stocks are primarily subject to interest rate risk because they bear a fixed rate of return. The investments in the
above table do not include preferred stocks.
Computations of prospective effects of hypothetical interest rate changes are based on numerous assumptions, including the
maintenance of the existing level and composition of fixed income security assets, and should not be relied on as indicative of future
results.
Certain shortcomings are inherent in the method of analysis presented in the computation of the fair value of fixed rate instruments.
Actual values may differ from those projections presented should market conditions vary from assumptions used in the calculation of
the fair value of individual securities, including non−parallel shifts in the term structure of interest rates and changing individual issuer
credit spreads.
ProAssurance’s cash and short−term investment portfolio at December 31, 2005 was on a cost basis which approximates its fair
value. This portfolio lacks significant interest rate sensitivity due to its short duration.
61
Credit Risk
We have exposure to credit risk primarily as a holder of fixed income securities. We control this exposure by emphasizing
investment grade credit quality in the fixed income securities we purchase.
As of December 31, 2005, 98.4% of our fixed income portfolio consisted of securities rated investment grade. We believe that this
concentration in investment grade securities reduces our exposure to credit risk on these fixed income investments to an acceptable
level. However, in the current environment even investment grade securities can rapidly deteriorate and result in significant losses.
Equity Price Risk
At December 31, 2005 the fair value of our investment in common stocks was $13.2 million. These securities are subject to equity
price risk, which is defined as the potential for loss in market value due to a decline in equity prices. The weighted average Beta of
this group of securities is 0.95. Beta measures the price sensitivity of an equity security or group of equity securities to a change in the
broader equity market, in this case the S&P 500 Index. If the value of the S&P 500 Index increased by 10%, the fair value of these
securities would be expected to increase by 9.5% to $14.4 million. Conversely, a 10% decrease in the S&P 500 Index would imply a
decrease of 9.5% in the fair value of these securities to $11.9 million. The selected hypothetical changes of plus or minus 10% do not
reflect what could be considered the best or worst case scenarios and are used for illustrative purposes only.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The Consolidated Financial Statements and Financial Statement Schedules of ProAssurance Corporation and subsidiaries listed in
Item 15(a) have been included herein beginning on page 70. The Supplementary Financial Information required by Item 302 of
Regulation S−K is included in Note 17 of the Notes to Consolidated Financial Statements of ProAssurance and its subsidiaries.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE.
Not Applicable.
ITEM 9A. CONTROLS AND PROCEDURES.
Disclosure Controls
Under the supervision and with the participation of management, including the Chief Executive Officer and Chief Financial
Officer, the Company has evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of the
end of the fiscal year ended December 31, 2005. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer
have concluded that these controls and procedures are effective.
Disclosure controls and procedures are defined in Exchange Act Rule 13a−15(e) and include the Company’s controls and other
procedures that are designed to ensure that information, required to be disclosed by the Company in the reports that it files or submits
under the Exchange Act, is accumulated and communicated to management, including the Chief Executive Officer and Chief
Financial Officer, as appropriate, 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 such term is
defined in Exchange Act Rules 13a−15(f) and 15d−15(f). Under the supervision and with the participation of our management,
including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal
control over financial reporting as of December 31, 2005 based on the framework in Internal Control–Integrated Framework issued by
the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on that evaluation, our management
concluded that our internal control over financial reporting was effective as of December 31, 2005 and that there was no change in the
Company’s internal controls during the
62
fiscal quarter then ended that has materially effected, or is reasonably likely to materially affect, the Company’s internal control over
financial reporting, other than as described below.
Our management excluded NCRIC’s systems and processes from the scope of our assessment of internal control over financial
reporting as of December 31, 2005 in reliance on the guidance set forth in Question 3 of a “Frequently Asked Questions” interpretive
release issued by the staff of the Securities and Exchange Commission’s Office of the Chief Accountant and the Division of
Corporation Finance in June 2004 (and revised on October 6, 2004). We are excluding NCRIC from that scope because we expect
substantially all of its significant systems and processes to be converted to those ProAssurance during 2006. At December 31, 2005
NCRIC represented $298 million or 8.9% of total assets from continuing operations, and $32.4 million or 5.0% of total revenues for
the year then ended.
Management’s assessment of the effectiveness of our internal control over financial reporting as of December 31, 2005 has been
audited by Ernst & Young LLP, an independent registered public accounting firm, as stated in their report which is included elsewhere
herein.
ITEM 9B. OTHER INFORMATION.
None.
63
Report of Independent Registered Public Accounting Firm on
Internal Control over Financial Reporting
The Board of Directors and Shareholders of ProAssurance Corporation
We have audited management’s assessment, included in the accompanying Management’s Annual Report on Internal Control over
Financial Reporting, that ProAssurance Corporation and subsidiaries maintained effective internal control over financial reporting as
of December 31, 2005, based on criteria established in Internal Control—Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission (the COSO criteria). ProAssurance Corporation’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. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the
company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control
over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over
financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal
control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a
reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally
accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that
(1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the
assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial
statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being
made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance
regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a
material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of
changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
As indicated in the accompanying Management’s Annual Report on Internal Control over Financial Reporting, management’s
assessment of and conclusion on the effectiveness of internal control over financial reporting did not include the internal controls of
NCRIC Corp. and subsidiaries (NCRIC). NCRIC was acquired August 3, 2005 and has been included in the consolidated financial
statements of ProAssurance Corporation since that date. NCRIC constituted approximately 8.9% of total assets from continuing
operations as of December 31, 2005 and approximately 5.0% of total revenues for the year then ended. Our audit of internal control
over financial reporting of ProAssurance Corporation also did not include an evaluation of the internal control over financing
reporting of NCRIC Corp. and subsidiaries.
In our opinion, management’s assessment that ProAssurance Corporation and subsidiaries maintained effective internal control
over financial reporting as of December 31, 2005, is fairly stated, in all material respects, based on the COSO criteria. Also, in our
opinion, ProAssurance Corporation and subsidiaries maintained, in all material respects, effective internal control over financial
reporting as of December 31, 2005, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the
consolidated balance sheets of ProAssurance Corporation and subsidiaries as of December 31, 2005 and 2004, and the related
consolidated statements of income, changes in capital and cash flow for each of the three years in the period ended December 31,
2005, and our report dated February 27, 2006 expressed an unqualified opinion thereon.
Birmingham, Alabama
February 27, 2006
Ernst & Young LLP
64
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by this Item regarding executive officers is included in Part I of the Form 10K (Pages 30 and 31) in
accordance with Instruction 3 of the Instructions to Paragraph (b) of Item 401 of Regulation S−K.
The information required by this Item regarding directors is incorporated by reference pursuant to General Instruction G (3) of
Form 10K from ProAssurance’s definitive proxy statement for the 2006 Annual Meeting of its Stockholders to be filed with the
Securities and Exchange Commission pursuant to Regulation 14A on or before April 18, 2006.
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this Item is incorporated by reference pursuant to General Instruction G (3) of Form 10K from
ProAssurance’s definitive proxy statement for the 2006 Annual Meeting of its Stockholders to be filed with the Securities and
Exchange Commission pursuant to Regulation 14A on or before April 18, 2006.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS.
The information required by this Item is incorporated by reference pursuant to General Instruction G (3) of Form 10K from
ProAssurance’s definitive proxy statement for the 2006 Annual Meeting of its Stockholders to be filed with the Securities and
Exchange Commission pursuant to Regulation 14A on or before April 18, 2006.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this Item is incorporated by reference pursuant to General Instruction G (3) of Form 10K from
ProAssurance’s definitive proxy statement for the 2006 Annual Meeting of its Stockholders to be filed with the Securities and
Exchange Commission pursuant to Regulation 14A on or before April 18, 2006.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
The information required by this Item is incorporated by reference pursuant to General Instruction G (3) of Form 10K from
ProAssurance’s definitive proxy statement for the 2006 Annual Meeting of its Stockholders to be filed with the Securities and
Exchange Commission pursuant to Regulation 14A on or before April 18, 2006.
65
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a) Financial Statements. The following consolidated financial statements of ProAssurance Corporation and subsidiaries are included
PART IV
herein in accordance with Item 8 of Part II of this report.
Report of Independent Auditors
Consolidated Balance Sheets – December 31, 2005 and 2004
Consolidated Statements of Changes in Capital – years ended December 31, 2005, 2004 and 2003
Consolidated Statements of Income – years ended December 31, 2005, 2004 and 2003
Consolidated Statements of Cash Flows – years ended December 31, 2005, 2004 and 2003
Notes to Consolidated Financial Statements
Financial Statement Schedules. The following consolidated financial statement schedules of ProAssurance Corporation and
subsidiaries are included herein in accordance with Item 14(d):
Schedule I – Summary of Investments – Other than Investments in Related Parties
Schedule II – Condensed Financial Information of ProAssurance Corporation (Registrant Only)
Schedule III – Supplementary Insurance Information
Schedule IV – Reinsurance
Schedule VI – Supplementary Property and Casualty Insurance Information
All other schedules to the consolidated financial statements required by Article 7 of Regulation S−X are not required under the
related instructions or are inapplicable and therefore have been omitted.
(b) The exhibits required to be filed by Item 15(b) are listed herein in the Exhibit Index.
66
Pursuant to the requirements of Section 13 of 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, on this the 28th day of
February 2006.
SIGNATURES
PROASSURANCE CORPORATION
By: /s/ A. Derrill Crowe, M.D.
A. Derrill Crowe, M.D.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following
persons on behalf of the Registrant and in the capacities and on the dates indicated.
Name
Title
Date
/s/A. Derrill Crowe, M.D.
A. Derrill Crowe, M.D.
/s/Edward L. Rand, Jr.
Edward L. Rand, Jr.
/s/James J. Morello
James J. Morello
/s/Victor T. Adamo, Esq.
Victor T. Adamo, Esq.
/s/Paul R. Butrus
Paul R. Butrus
/s/Lucian F. Bloodworth
Lucian F. Bloodworth
/s/Robert E. Flowers, M.D.
Robert E. Flowers, M.D.
/s/John J. McMahon, Jr., Esq.
John J. McMahon, Jr., Esq.
/s/John P. North, Jr.
John P. North, Jr.
/s/Ann F. Putallaz, Ph.D.
Ann F. Putallaz, Ph.D.
/s/William H. Woodhams, M.D.
William H. Woodhams, M.D.
/s/Wilfred W. Yeargan, Jr., M.D.
Wilfred W. Yeargan, Jr., M.D.
Chairman of the Board and Chief
Executive Officer (Principal
Executive Officer) and Director
February 28, 2006
Chief Financial Officer
February 28, 2006
Chief Accounting Officer
February 28, 2006
Director
Director
Director
Director
Director
Director
Director
Director
Director
67
February 28, 2006
February 28, 2006
February 28, 2006
February 28, 2006
February 28, 2006
February 28, 2006
February 28, 2006
February 28, 2006
February 28, 2006
ProAssurance Corporation and Subsidiaries
Consolidated Financial Statements
Years ended December 31, 2005, 2004 and 2003
Table of Contents
Report of Independent Registered Public Accounting Firm
Audited Consolidated Financial Statements
Consolidated Balance Sheets
Consolidated Statements of Changes in Capital
Consolidated Statements of Income
Consolidated Statements of Cash Flow
Notes to Consolidated Financial Statements
68
69
70
72
73
74
76
Report of Independent Registered Public Accounting Firm
on Consolidated Financial Statements
To the Board of Directors and Shareholders of
ProAssurance Corporation
We have audited the accompanying consolidated balance sheets of ProAssurance Corporation and subsidiaries as of
December 31, 2005 and 2004, and the related consolidated statements of changes in capital, income and cash flow for
each of the three years in the period ended December 31, 2005. Our audits also included the financial statement
schedules listed in the Index at Item 15(a). These financial statements and schedules are the responsibility of the
Company’s management. Our responsibility is to express an opinion on these financial statements and schedules based
on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United
States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated
financial position of ProAssurance Corporation and subsidiaries at December 31, 2005 and 2004, and the consolidated
results of their operations and their cash flows for each of the three years in the period ended December 31, 2005, in
conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement
schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material
respects the information set forth therein.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States), the effectiveness of ProAssurance Corporation’s internal control over financial reporting as of December 31,
2005, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission and our report dated February 27, 2006 expressed an unqualified opinion
thereon.
Birmingham, Alabama
February 27, 2006
Ernst & Young LLP
69
ProAssurance Corporation and Subsidiaries
Consolidated Balance Sheets
(In thousands, except share data)
Assets
Investments:
Fixed maturities available for sale, at fair value
Equity securities available for sale, at fair value
Equity securities, trading portfolio, at fair value
Real estate, net
Short−term investments
Business owned life insurance
Other
Total investments
Cash and cash equivalents
Premiums receivable
Receivable from reinsurers on unpaid losses and loss adjustment expenses
Prepaid reinsurance premiums
Deferred taxes
Other assets
Assets of discontinued operations
See accompanying notes.
70
December 31
2005
December 31
2004
$2,403,450
10,018
5,181
16,623
93,066
56,436
46,168
$1,977,093
29,404
4,150
16,538
37,941
54,138
42,883
2,630,942
2,162,147
34,506
106,549
327,693
20,379
103,935
117,596
567,779
20,698
117,259
273,654
18,888
69,630
81,019
495,903
$3,909,379
$3,239,198
ProAssurance Corporation and Subsidiaries
Consolidated Balance Sheets
(In thousands, except share data)
Liabilities and Stockholders’ Equity
Liabilities:
Policy liabilities and accruals:
Reserve for losses and loss adjustment expenses
Unearned premiums
Reinsurance premiums payable
Total policy liabilities
Other liabilities
Long−term debt
Liabilities of discontinued operations
Total liabilities
Commitments and contingencies
Stockholders’ Equity:
Common stock, par value $0.01 per share 100,000,000 shares authorized;
31,230,647 and 29,326,228 shares issued, respectively
Additional paid−in capital
Accumulated other comprehensive income (loss), net of deferred tax expense
(benefit) of $(4,755) and $13,139, respectively
Retained earnings
Less treasury stock, at cost, 121,765 shares
Total stockholders’ equity
See accompanying notes.
71
December 31
2005
December 31
2004
$2,224,436
264,258
83,314
$1,818,636
248,539
67,459
2,572,008
2,134,634
67,572
167,240
337,513
47,291
151,480
294,774
3,144,333
2,628,179
—
—
312
387,739
(8,834)
385,885
765,102
(56)
293
313,957
24,397
272,428
611,075
(56)
765,046
$3,909,379
611,019
$3,239,198
ProAssurance Corporation and Subsidiaries
Consolidated Statements of Changes in Capital
(In thousands)
Common
Stock
$ 290
—
2
—
—
—
—
—
—
—
292
1
—
—
—
—
—
—
—
293
—
Additional
Paid−in
Capital
$308,501
1,061
2,468
—
—
—
—
—
—
—
Accumulated
Other
Comprehensive
Income (Loss)
$
35,545
Retained
Earnings
$160,914
Treasury
Stock
$ (56)
Total
$505,194
—
—
886
(3,539)
1,530
—
—
—
—
—
—
—
—
—
15,345
23,358
—
—
—
—
—
—
—
—
—
1,061
2,470
886
—
—
—
—
—
11,806
—
24,888
312,030
34,422
199,617
(56)
546,305
1,710
217
—
—
—
—
—
—
—
—
(8,608)
(1,417)
—
—
—
—
—
—
—
—
43,043
29,768
—
—
—
—
—
—
—
—
1,711
217
—
—
—
—
—
34,435
—
28,351
313,957
2,270
24,397
272,428
(56)
611,019
—
—
—
2,270
Balance at January 1, 2003
Common stock issued for
compensation
Stock options exercised
Repurchase of minority
interest
Comprehensive income:
Other comprehensive
income (loss) (see
Note 11):
Continuing operations
Discontinued
operations
Income from continuing
operations
Income from discontinued
operations
Total
comprehensive
income,
continuing
operations
Total
comprehensive
income,
discontinued
operations
Balance at December 31,
2003
Common stock issued for
compensation
Stock options exercised
Comprehensive income:
Other comprehensive
income (loss) (see
Note 11):
Continuing operations
Discontinued
operations
Income from continuing
operations
Income from discontinued
operations
Total
comprehensive
income,
continuing
operations
Total
comprehensive
income,
discontinued
operations
Balance at December 31,
2004
Common stock issued for
compensation
Equity issued in purchase
transaction:
Common stock issued
Fair value of options
assumed
Stock options exercised
Comprehensive income:
Other comprehensive
income (loss) (see
Note 11):
Continuing operations
Discontinued
operations
Income from continuing
operations
Income from discontinued
operations
Total
comprehensive
income,
continuing
operations
Total
comprehensive
income,
discontinued
operations
Balance at December 31,
2005
See accompanying notes.
17
—
2
—
—
—
—
—
—
67,049
192
4,271
—
—
—
—
—
—
—
—
—
(28,063)
(5,168)
—
—
—
—
—
—
—
—
—
80,026
33,431
—
—
—
—
—
—
—
—
—
67,066
192
4,273
—
—
—
—
—
51,963
—
28,263
$ 312
$387,739
$
(8,834)
$385,885
$ (56)
$765,046
72
ProAssurance Corporation and Subsidiaries
Consolidated Statements of Income
(In thousands, except per share data)
Revenues:
Gross premiums written
Net premiums written
Premiums earned
Premiums ceded
Net premiums earned
Net investment income
Net realized investment gains (losses)
Other income
Total revenues
Expenses:
Losses and loss adjustment expenses
Reinsurance recoveries
Net losses and loss adjustment expenses
Underwriting, acquisition and insurance expenses
Loss on early extinguishment of debt
Interest expense
Total expenses
2005
Year Ended December 31
2004
2003
$572,960
$573,592
$543,323
$521,343
$535,028
$497,659
$596,557
(53,316)
543,241
97,649
912
3,510
$555,524
(35,627)
519,897
76,346
7,572
1,341
$509,260
(49,389)
459,871
63,366
5,858
4,460
645,312
605,156
533,555
479,300
(41,099)
438,201
89,319
—
8,929
447,521
12,916
460,437
84,383
—
6,515
414,828
24,540
439,368
73,263
305
3,409
536,449
551,335
516,345
Income from continuing operations before income taxes
108,863
53,821
17,210
Provision for income taxes:
Current expense (benefit)
Deferred expense (benefit)
Income from continuing operations
Income from discontinued operations, net of tax
28,130
707
28,837
80,026
33,431
10,244
534
10,778
43,043
29,768
2,840
(975)
1,865
15,345
23,358
Net income
$113,457
$ 72,811
$ 38,703
Basic earnings per share:
Income from continuing operations
Income from discontinued operations
Net income
Diluted earnings per share:
Income from continuing operations
Income from discontinued operations
Net income
Weighted average number of common shares outstanding
Basic
Diluted
See accompanying notes.
73
$
$
$
$
2.66
1.11
3.77
2.52
1.02
3.54
$
$
$
$
1.48
1.02
2.50
1.44
0.93
2.37
$
$
$
$
0.53
0.81
1.34
0.53
0.80
1.33
30,049
32,908
29,164
31,984
28,956
29,144
ProAssurance Corporation and Subsidiaries
Consolidated Statements of Cash Flow
(In thousands)
Continuing Operations:
Operating Activities
Income from continuing operations
Adjustments to reconcile income to net cash provided by operating
activities:
Amortization
Depreciation
Increase in cash surrender value of business owned life
insurance
Net realized investment (gains) losses
Deferred income taxes
Policy acquisition costs deferred, net of related amortization
Other
Changes in assets and liabilities:
Trading portfolio securities, excluding net holding gains
(losses)
Premiums receivable
Receivable from reinsurers
Prepaid reinsurance premiums
Other assets
Reserve for losses and loss adjustment expenses
Unearned premiums
Reinsurance premiums payable
Other liabilities
Net cash provided by operating activities of continuing operations
Investing Activities
Purchases of:
Fixed maturities available for sale
Equity securities available for sale
Other investments
Business owned life insurance
Proceeds from sale or maturities of:
Fixed maturities available for sale
Equity securities available for sale
Net (increase) decrease in short−term investments
Cash proceeds from sale of discontinued operations
Cash acquired in purchase transaction net of cash used in
transaction of $2,684
Other
Net cash used by investing activities of continuing operations
Financing Activities
Net proceeds from long−term debt
Repayment of debt
Other
Net cash provided by financing activities of continuing operations
Year Ended December 31
2005
2004
2003
$ 80,026
$
43,043
$
15,345
20,274
3,727
(2,298)
(912)
707
(1,002)
(701)
(917)
19,104
(10,553)
1,119
(1,272)
222,643
(23,514)
14,182
2,977
323,590
(900,481)
(777)
(2,386)
—
597,472
44,773
(51,903)
848
1,681
(2,653)
(313,426)
—
—
3,644
3,644
21,452
3,387
(2,432)
(7,572)
534
(3,352)
(622)
4,610
1,857
62,637
(1,237)
(1,237)
183,887
18,097
1,933
11,302
336,287
18,204
2,927
(1,706)
(5,858)
(975)
99
(598)
(5,540)
(18,952)
59,673
3,643
(5,823)
142,610
34,063
6,645
(1,861)
241,896
(1,133,391)
(856)
(4,205)
—
(1,008,007)
(3,019)
(19,110)
(50,000)
677,009
8,854
69,737
—
—
(9,144)
(391,996)
44,907
—
35
44,942
574,686
26,296
142,199
—
—
(6,615)
(343,570)
104,641
(72,500)
1,852
33,993
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning at period
Cash and cash equivalents at end of period
13,808
20,698
$ 34,506
(10,767)
31,465
20,698
$
(67,681)
99,146
31,465
$
See accompanying notes.
74
ProAssurance Corporation and Subsidiaries
Consolidated Statements of Cash Flow
(In thousands)
Discontinued Operations:
Net cash provided by (used in) operating activities of discontinued
operations
Net cash provided by (used in) investing activities of discontinued
operations
Net cash provided by (used in) financing activities of discontinued
operations
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
Supplemental Disclosure of Cash Flow Information:
Net cash paid (received) during the year for income taxes:
Continuing operations
Discontinued operations
Cash paid during the year for interest:
Continuing operations
Discontinued operations
Significant non−cash transactions:
2005
Year Ended December 31
2004
2003
$40,920
$ 37,252
$ 40,906
2,415
(38,446)
(41,174)
—
—
(33,312)
43,335
9,386
$52,721
(1,194)
10,580
$ 9,386
(33,580)
44,160
$ 10,580
$25,998
$15,528
$ 8,034
—
$
$ 7,165
$ 15,916
$ 5,501
—
$
$ 6,527
$ 7,785
$ 3,136
—
$
Common stock issued in acquisition
$67,066
$
—
$
—
See accompanying notes.
75
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
1. Accounting Policies
Organization and Nature of Business
ProAssurance Corporation (ProAssurance), a Delaware corporation, is an insurance holding company for specialty
property and casualty insurance companies that principally provides professional liability insurance for providers of health
care services, and to a lesser extent, providers of legal services. ProAssurance operates in the United States of America
(U.S.), principally in the mid−Atlantic, Midwest and Southeast. After giving consideration to the disposal of the personal
lines segment (see below), ProAssurance’s operations are in a single reportable segment, the professional liability
segment.
Segment Information / Discontinued Operations
In the first quarter of 2006 ProAssurance sold its Personal Lines Division consisting of its wholly owned subsidiaries,
MEEMIC Insurance Company, Inc. and MEEMIC Insurance Services (collectively, the MEEMIC Companies). The
MEEMIC Companies are the only active entities of ProAssurance’s personal lines operations, which were formerly
considered as a separate reportable industry segment. In accordance with Statement of Financial Accounting Standard
(SFAS) No. 144 Accounting for the Impairment or Disposal of Long−lived Assets, ProAssurance’s personal lines
operations have been classified in this report as discontinued operations in all periods presented. See Note 3 for further
discussion of discontinued operations.
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of ProAssurance Corporation and its
subsidiaries. All significant intercompany accounts and transactions between consolidated companies have been
eliminated.
Basis of Presentation
The preparation of financial statements in accordance with accounting principles generally accepted in the United
States (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Reclassifications
The benefit of ceding commission on certain reinsurance contracts has been reclassified in the prior year financial
statements to conform to the current year presentation. The reclassification decreased premiums ceded and increased
underwriting, acquisition and insurance expenses by $7.3 million for 2004 and $6.7 million for 2003, and had no impact on
income from continuing operations in either period.
Critical Accounting Policies
The significant accounting policies followed by ProAssurance that materially affect financial reporting are summarized
in these notes to the consolidated financial statements.
76
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
1. Accounting Policies (continued)
Investments
Fixed Maturities and Equity Securities Available for Sale
ProAssurance considers all fixed maturity securities as available−for−sale. Equity securities are considered as either
available−for−sale or trading portfolio securities. Available−for−sale securities are carried at fair value, and unrealized
gains and losses on such available−for−sale securities are excluded from earnings and included, net of related tax effects,
in stockholders’ equity as “Accumulated other comprehensive income (loss)” until realized.
Fair values for fixed maturity and equity securities are based on quoted market prices, where available. For fixed
maturity and equity securities not actively traded, fair values are estimated using values obtained from independent
pricing services.
Investment income includes amortization of premium and accretion of discount related to debt securities acquired at
other than par value. Debt securities and mandatorily redeemable preferred stock with maturities beyond one year when
purchased are classified as fixed maturities.
Equity Securities, Trading Portfolio
ProAssurance has designated certain equity security purchases as trading portfolio securities. A trading portfolio is
carried at fair value with the holding gains and losses included in realized investment gains and losses in the current
period. Fair values are based on quoted market prices.
Real Estate
Real estate properties are classified as investment real estate. All balances are reported at cost, less allowances for
depreciation. Depreciation is computed over the estimated useful lives of the related property using the straight−line
method. Rental income and expenses are included in net investment income.
Short−term Investments
Short−term investments, which have an original maturity of one year or less, are primarily comprised of investments in
U.S. Treasury obligations and commercial paper. All balances are reported at cost, which approximates fair value.
Other Investments
Other investments are primarily comprised of equity interests in non−public investment partnerships/limited liability
companies. Interests where ProAssurance has virtually no influence over the operating and financial policies of the entity
and for which there is no readily determinable fair value are accounted for using the cost method. Interests where
ProAssurance has a greater than minor interest in the entity are accounted for using the equity method.
Business Owned Life Insurance (BOLI)
ProAssurance owns life insurance contracts on certain key management employees. The life insurance contracts are
carried at their current cash surrender value. Changes in the cash surrender value are included in income in the current
period as investment income. Death proceeds from the contracts are recorded when the proceeds become payable under
the policy terms.
77
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
1. Accounting Policies (continued)
Cash and Cash Equivalents
For purposes of the consolidated balance sheets and statements of cash flow, ProAssurance considers all demand
deposits and overnight investments to be cash equivalents.
Realized Gains and Losses
Realized gains and losses on sales of investments are recognized on the specific identification basis.
Other−than−temporary Impairments
In accordance with SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities,” ProAssurance
evaluates its investment securities on at least a quarterly basis for declines in market value below cost for the purpose of
determining whether these declines represent other than temporary declines. A decline in the fair value of a security
below cost judged to be other than temporary is recognized as a loss in the then current period and reduces the cost
basis of the security. In subsequent periods, ProAssurance measures any gain or loss or decline in value against the
adjusted cost basis of the security. The following factors are considered in determining whether an investment’s decline is
other than temporary:
– the extent to which the market value of the security is less than its cost basis,
– the length of time for which the market value of the security has been less than its cost basis,
– the financial condition and near−term prospects of the security’s issuer, taking into consideration the economic
prospects of the issuer’s industry and geographical region, to the extent that information is publicly available, and
– ProAssurance’s ability and intent to hold the investment for a period of time sufficient to allow for any anticipated
recovery in market value.
Reinsurance
ProAssurance enters into reinsurance agreements whereby other insurance entities agree to assume a portion of the
risk associated with the policies issued by ProAssurance. In return, ProAssurance agrees to pay a premium to the
reinsurer. ProAssurance purchases (cedes) reinsurance to provide for greater diversification of business, allow
management to control exposure to potential losses arising from large risks, and provide additional capacity for growth.
Receivable from reinsurers is the estimated amount of future loss payments that will be recoverable from reinsurers.
Reinsurance recoveries are the portion of losses incurred during the period that are estimated to be allocable to
reinsurers. Premiums ceded are the estimated premiums that will be due to reinsurers with respect to premiums earned
and losses incurred during the period.
These estimates are based upon management’s estimates of ultimate losses and the portion of those losses that are
allocable to reinsurers under the terms of the related reinsurance agreements. Given the uncertainty of the ultimate
amounts of losses, these estimates may vary significantly from the eventual outcome. Management regularly reviews
these estimates and any adjustments necessary are reflected in the period in which the estimate is changed. Due to the
size of the receivable from reinsurers, even a small adjustment to the estimates could have a material effect on
ProAssurance’s results of operations for the period in which the change is made.
Reinsurance contracts do not relieve ProAssurance from its obligations to policyholders. ProAssurance continually
monitors its reinsurers to minimize its exposure to significant losses from reinsurer insolvencies. Any amount found to be
uncollectible is written off in the period in which the uncollectible amount is identified.
78
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
1. Accounting Policies (continued)
Goodwill
Intangible assets consist primarily of the excess of cost over the fair value of net assets acquired (i.e., goodwill). In
accordance with SFAS No. 142, “Goodwill and Other Intangible Assets”, goodwill is not amortized. Goodwill is tested
annually for impairment. ProAssurance regularly reviews its goodwill and other intangibles to determine if any adverse
conditions exist that could indicate impairment. Conditions that could trigger impairment include, but are not limited to, a
significant adverse change in legal factors or business climate that could affect the value of an asset or an adverse action
or assessment by a regulator. ProAssurance does not believe that any of its recorded goodwill or intangible assets has
suffered impairment. Goodwill is included in the Consolidated Balance Sheets as a component of other assets.
Deferred Policy Acquisition Costs
Costs that vary with and are directly related to the production of new and renewal premiums (primarily premium taxes,
commissions and underwriting salaries) are deferred to the extent they are recoverable against unearned premiums and
are amortized as related premiums are earned. Deferred Policy Acquisition Costs are included in the Consolidated
Balance Sheets as a component of other assets.
Reserve for Losses and Loss Adjustment Expenses (Reserve for Losses)
ProAssurance establishes its reserve for loss and loss adjustment expenses (reserve for losses) based on estimates of
the future amounts necessary to pay claims and expenses (losses) associated with the investigation and settlement of
claims. The reserve for losses is determined on the basis of individual claims and payments thereon as well as actuarially
determined estimates of future losses based on past loss experience, available industry data and projections as to future
claims frequency, severity, inflationary trends, judicial trends, legislative changes and settlement patterns.
ProAssurance believes that the methods it uses to establish the reserve for losses are reasonable and appropriate.
External actuaries review the reserve for losses of each insurance subsidiary at least semi−annually. ProAssurance
considers the views of the external actuaries as well as other factors, such as known, anticipated or estimated changes in
frequency and severity of claims, loss retention levels and premium rates in establishing its reserves. Estimating casualty
insurance reserves, and particularly liability reserves, is a complex process. Claims may be resolved over an extended
period of time, often five years or more, and may be subject to litigation. Estimating losses for liability claims requires
ProAssurance to make and revise judgments and assessments regarding multiple uncertainties over an extended period
of time. As a result, reserve estimates may vary significantly from the eventual outcome. Reserve estimates and the
assumptions on which these estimates are predicated are regularly reviewed and updated as new information becomes
available. Any adjustments necessary are reflected in then current operations. Due to the size of ProAssurance’s reserve
for losses, even a small percentage adjustment to these estimates could have a material effect on earnings in the period
in which the adjustment is made.
The effect of adjustments made to reinsured losses is mitigated by the corresponding adjustment that is made to
reinsurance recoveries. Thus, in any given year, the Company may make significant adjustments to gross losses that
have little effect on its net losses.
Recognition of Revenues
Insurance premiums are recognized as revenues pro rata over the terms of the policies.
79
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
1. Accounting Policies (continued)
Stock−Based Compensation
ProAssurance accounts for stock options under the recognition and measurement principles of Accounting Principles
Board Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations (collectively referred to as
APB 25). The following table illustrates the effect on net income and earnings per share as if ProAssurance had applied
the fair value recognition provisions of SFAS No. 123, Accounting for Stock−Based Compensation, to outstanding options.
See Note 12 for additional information regarding outstanding options.
Income from continuing operations
2005
Year Ended December 31
2004
In thousands except per share data
$43,043
$80,026
2003
$15,345
Add: Stock−based employee compensation expense recognized under APB
25 related to the exercise of options, net of related tax effects
84
218
130
Deduct: Total stock−based employee compensation expense determined
under fair value based method for all awards, net of related tax effects
(1,808)
(1,111)
(620)
Pro forma income from continuing operations
$78,302
$42,150
$14,855
Earnings per share, continuing operations:
Basic—as reported
Basic—pro forma
Diluted—as reported
Diluted—pro forma
Income Taxes
$
$
$
$
2.66
2.61
2.52
2.47
$
$
$
$
1.48
1.45
1.44
1.41
$
$
$
$
0.53
0.51
0.53
0.51
ProAssurance files a consolidated federal income tax return. Deferred income taxes are provided for temporary
differences between financial and income tax reporting relating primarily to unrealized gains on securities, discounting of
losses for income tax reporting, and the limitation of the unearned premiums deduction for income tax reporting.
80
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
1. Accounting Policies (continued)
Accounting Changes
On December 16, 2004 the Financial Accounting Standards Board (FASB) issued SFAS 123 (revised 2004),
Share−Based Payment, hereafter referred to as SFAS 123(R), which is a revision of SFAS 123, Accounting for
Stock−Based Compensation (SFAS 123), which superseded APB 25, Accounting for Stock Issued to Employees (APB
25), and amends SFAS 95, Statement of Cash Flows. The provisions of SFAS 123(R) require all share−based payments
to employees, including grants of employee stock options, to be recognized in the financial statements based on their fair
values. SFAS 123(R) also requires that the benefits of tax deductions in excess of recognized compensation cost to be
reported as a financing cash flow, rather than as an operating cash flow as required under current literature.
ProAssurance plans to adopt SFAS 123(R) on January 1, 2006, the required effective date, using the “modified
prospective” method permitted by the statement and will value future grants of stock options using the Black Scholes
valuation method.
Under the “modified prospective” method stock−based compensation is recognized under the requirements of SFAS
123(R) for all share−based payments granted after the effective date of SFAS 123(R) and for the non−vested portion of
share−based payments granted prior to the adoption of SFAS 123(R). Under SFAS 123(R) compensation for non−vested
share−based payments granted prior to adoption shall continue to be calculated as disclosed under SFAS 123, except
that the effect of forfeitures is required to be estimated rather than considered as forfeitures occur.
As permitted by SFAS 123, ProAssurance currently values employee stock−based payments using APB 25’s intrinsic
value method. Accordingly, ProAssurance generally recognizes no compensation cost related to such payments but does
provide pro forma disclosure of the effect on net income and earnings per share of applying the fair value provisions of
SFAS 123 to such payments granted.
Had ProAssurance’s SFAS 123 pro forma disclosures been prepared in accordance with the provisions of SFAS
123(R) the effect would have been different; however, the effect that SFAS 123(R) would have had on prior periods is not
readily determinable. SFAS 123(R) provides more extensive guidance than does SFAS 123 with regard to factors that
should be considered in valuing share−based payments. Under SFAS 123, ProAssurance utilized a single set of valuation
assumptions for all employees. Under SFAS 123(R), entities are required to “aggregate individual awards into relatively
homogeneous groups with respect to exercise and post−vesting employment termination behaviors.” Accordingly,
ProAssurance anticipates aggregating prospective awards into groups consisting of senior executives likely to exercise
shortly after vesting, other senior executives and other employees to appropriately reflect differing exercise and
post−vesting employee termination behaviors. Additionally, under SFAS 123(R), fully vested awards granted to directors
and awards that vest upon retirement granted to employees who are eligible for retirement will be expensed on the date of
grant. Under SFAS 123, ProAssurance calculated compensation expense (for pro forma disclosure) without consideration
of expected forfeitures. Unlike SFAS 123, which permitted companies to reflect forfeitures as they occurred, SFAS 123(R)
requires companies to estimate forfeitures in determining the amount of compensation cost to recognize each period. As a
result, ProAssurance will develop estimates of forfeitures during the requisite service periods and revise previous SFAS
123 calculations for known and expected forfeitures related to grants prior to the adoption of SFAS 123(R).
ProAssurance’s own history with regard to the expected terms of employee stock awards is not sufficient to allow such
assumptions to be developed statistically for most employee groups. Accordingly, through December 31, 2007,
ProAssurance will apply the “simplified” method consistent with the guidance of SEC Staff Accounting Bulletin 107, i.e.,
expected term = (vesting term + original contractual term) / 2) for such groups. ProAssurance is in the process of finalizing
these assumptions; however, the selection of all assumptions is not complete.
Presently, ProAssurance estimates that the recognition of compensation cost, net of related tax effects, for the
non−vested portion of share−based payments granted prior to the adoption of SFAS 123(R) will approximate $1.3 million
during fiscal 2006. The further effect of adoption of SFAS 123(R) on future operating results will depend on the levels of
share−based payments granted in the future, the groups of employees to whom the awards are granted, the number of
awards granted to employees who are eligible for retirement, the
81
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
1. Accounting Policies (continued)
terms of any future awards, as well as the final methods and assumptions used to determine the fair value of those
share−based payments.
The FASB issued SFAS 154, Accounting Changes and Error Corrections, in May 2005 as a replacement of APB 20,
Accounting Changes, and SFAS 3, Reporting Accounting Changes in Interim Financial Statements. SFAS 154 applies to
voluntary changes in accounting principle and changes the requirements for accounting for and reporting of a change in
accounting principle and is effective for accounting changes and corrections of errors made in fiscal years beginning after
December 15, 2005. ProAssurance expects to adopt SFAS 154 on its effective date.
82
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
2. Acquisition of NCRIC
ProAssurance acquired 100% of the outstanding shares of NCRIC Corporation (NCRIC) on August 3, 2005 primarily
for the purpose of expanding the distribution of its professional liability insurance products. NCRIC, formerly known as
NCRIC Group, Inc., is a holding company primarily focused on providing medical professional liability insurance in
Delaware, the District of Columbia, Maryland, Virginia, and West Virginia. A summary of the components of the aggregate
purchase price and a summary of the fair value of net assets acquired follows (in thousands):
Aggregate Purchase Price:
Fair value of 1.7 million ProAssurance common shares issued, based on a fair value of $40.54 per share
Fair value of NCRIC options exchanged, estimated using the Black Scholes valuation method
Cash paid for NCRIC options in lieu of exchange
Acquisition costs (primarily fees paid for legal, accounting and financial advisory services)
Estimated benefits payable under termination agreements provided to NCRIC employees
Aggregate purchase price
Fair Value of Net Assets:
Fixed maturities available for sale, at fair value
Equity securities available for sale, at fair value
Reinsurance recoverable
Other assets
Reserves for losses and loss adjustment expenses
Other policy liabilities
Long−term debt
Liability for judgment (Note 9)
Other liabilities
Net assets acquired, at fair value
$ 67,066
192
775
1,910
1,216
$ 71,159
$ 184,945
27,842
43,486
58,939
(183,158)
(40,906)
(15,464)
(19,500)
(10,019)
$ 46,165
The fair value per ProAssurance share is based on the average ProAssurance common stock price for three days
before and after February 28, 2005 (the date the terms of the acquisition were agreed to and publicly announced). The
acquisition has been accounted for as a purchase transaction in accordance with SFAS 141 and the purchase price has
been allocated to the assets acquired and liabilities assumed based on estimates of their respective fair values at the date
of acquisition. Goodwill of $25.0 million was recognized equal to the excess of the purchase price over the fair values of
the identifiable net assets acquired. The goodwill is not expected to be tax deductible.
The fair value of NCRIC’s reserve for losses and loss adjustment expenses and related reinsurance recoverables were
estimated based on the present value of the expected underlying cash flows of the loss reserves and reinsurance
recoverables, and include a risk premium and a profit margin. In determining the fair value estimate, management
discounted NCRIC’s historical undiscounted net loss reserves to present value assuming a discount rate of 4.3%, which
approximates the ten year treasury rate. The discounting pattern was actuarially developed from NCRIC’s historical loss
data. An expected profit margin of 5% was applied to the discounted loss reserves, which is consistent with
management’s understanding of the returns anticipated by the reinsurance market (the reinsurance market representing a
willing partner in the purchase of loss reserves). Additionally, in consideration of the long−tail nature and the related high
degree of uncertainty of such reserves, an estimated risk premium of 5% was applied to the discounted reserves. The
above calculations resulted in a fair value which was not materially different
83
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
2. Acquisition of NCRIC (continued)
than NCRIC’s historical reserves and therefore did not result in an adjustment to NCRIC’s carried reserve for loss and
loss adjustment expense.
ProAssurance’s Consolidated Statement of Income for the year ended December 31, 2005 includes NCRIC activity
commencing upon August 3, 2005, the effective date of the acquisition. The unaudited pro forma information below
presents combined results of operations as if the acquisition had occurred at the beginning of the respective periods, and
includes the effect of adjusting NCRIC’s assets and liabilities to fair value on the date of acquisition. The pro forma results
for the year ended December 31, 2005 include non−recurring and transaction related expenses of $4.3 million, related to
compensation costs and professional fees, $8.7 million of unfavorable prior year loss development and $19.5 million
related to a loss contingency (see also Note 9).
The following unaudited pro forma information is not necessarily indicative of the results of operations of the combined
company had the acquisition occurred at the beginning of the periods presented, nor is it necessarily indicative of future
results.
Revenues
Income from continuing operations
Net Income
Net income per share from continuing operations
Basic
Diluted
3. Discontinued Operations
Pro Forma Results
Year Ended December 31
2004
2005
In thousands except per share
data
$ 691,048
$ 59,936
$ 93,120
$ 680,463
$ 36,521
$ 65,883
$
$
1.93
1.86
$
$
1.18
1.17
Income from discontinued operations, net of tax, is comprised as follows:
ConsiCare results
Personal lines results
Income from discontinued operations, net of tax
2005
$
(103)
33,534
$33,431
$
2004
In thousands
—
29,768
$29,768
2003
$
—
23,358
$23,358
On December 28, 2005, ProAssurance sold ConsiCare, a non−insurance subsidiary acquired August 3, 2005 in the
NCRIC transaction, for approximately $1.7 million (cash of $0.8 million and note receivable of $0.9 million). No gain or
loss was recognized related to the sale because the carrying value for ConsiCare net assets approximated the sales price
less sale expenses. In accordance with SFAS 144 “Accounting for the Impairment or Disposal of Long−Lived Assets”
(SFAS 144), ConsiCare’s results of operations since acquisition are reported as a component of discontinued operations,
as follows:
Revenues
Expenses
Loss before taxes
Income tax benefit
Loss from discontinued operations, net of tax
84
2005
In thousands
1,557
$
(1,670)
(113)
10
(103)
$
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
3. Discontinued Operations (continued)
On November 4, 2005 ProAssurance entered into a definitive agreement to sell its wholly owned subsidiaries,
MEEMIC Insurance Company, Inc. and MEEMIC Insurance Services (collectively, the MEEMIC Companies) to Motors
Insurance Corporation (Motors), a subsidiary of GMAC Insurance Holdings, Inc., for total consideration of $400 million
($325 million from Motors and $75 million in dividends from the MEEMIC Companies), before transaction expenses. The
sale, which was approved by the Michigan Insurance Department, was completed on January 4, 2006, with an effective
date of January 1, 2006. ProAssurance expects to recognize a gain on the sale in 2006 of approximately $110 million
after consideration of sale expenses and tax effects.
The MEEMIC Companies are the only active entities of ProAssurance’s personal lines operations. In accordance with
SFAS 144, the Consolidated Financial statements reflect the assets, liabilities and operating results attributed to
ProAssurance’s personal lines operations as discontinued operations. The following tables provide detail information
regarding the personal lines amounts included in the financial statement lines identified as discontinued operations.
Operating results:
Net premiums earned
Net investment income
Other revenues
Total revenues
Net losses and loss adjustment expenses
Underwriting, acquisition and insurance expenses
Total expenses
Income before income taxes
Provision for income taxes
Minority interest
Income from discontinued operations, net of tax
2005
2004
In thousands
2003
$187,903
12,817
2,871
203,591
110,929
43,323
154,252
49,339
15,805
—
$ 33,534
$183,365
10,879
2,395
196,639
112,444
40,548
152,992
43,647
13,879
—
$ 29,768
$170,268
10,253
2,189
182,710
112,008
37,578
149,586
33,124
9,585
(181)
$ 23,358
2005
2004
In thousands
Assets of Discontinued Operations:
Fixed maturities available for sale, at fair value
Cash and cash equivalents
Premiums receivable
Receivable from reinsurers on unpaid losses and loss adjustment expenses
Other assets
Total
Liabilities of Discontinued Operations:
Reserve for losses and loss adjustment expenses
Unearned premiums
Other liabilities
Total
85
$261,896
52,721
15,063
171,820
66,279
$567,779
$252,294
65,429
19,790
$337,513
$280,892
9,386
14,477
135,685
55,463
$495,903
$210,956
65,640
18,178
$294,774
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
4. Investments
The amortized cost and estimated fair value of available−for−sale fixed maturities and equity securities are as follows:
Fixed Maturities
U.S. government and agency
State and municipal bonds
Corporate bonds
Asset−backed securities
Equity securities
Fixed Maturities
U.S. government and agency
State and municipal bonds
Corporate bonds
Asset−backed securities
Equity securities
Amortized
Cost
$ 174,760
906,192
627,385
710,284
2,418,621
7,858
$2,426,479
Amortized
Cost
$ 134,262
688,207
602,109
525,233
1,949,811
26,523
$1,976,334
December 31, 2005
Gross
Unrealized
Gains
Gross
Unrealized
(Losses)
In thousands
$
3
7,185
6,422
1,518
15,128
2,295
$17,423
$ (2,280)
(6,258)
(10,587)
(11,174)
(30,299)
(135)
$ (30,434)
December 31, 2004
Gross
Unrealized
Gains
Gross
Unrealized
(Losses)
In thousands
$
423
12,475
17,195
4,442
34,535
3,077
$37,612
$
(944)
(1,469)
(3,146)
(1,694)
(7,253)
(196)
$ (7,449)
Estimated
Fair
Value
$ 172,483
907,119
623,220
700,628
2,403,450
10,018
$2,413,468
Estimated
Fair
Value
$ 133,741
699,213
616,158
527,981
1,977,093
29,404
$2,006,497
The following table provides summarized information with respect to available−for−sale securities held in an unrealized
loss position at December 31, 2005, including the length of time the securities have been held in a continuous unrealized
loss position.
Total
Fair
Value
Unrealized
Loss
December 31, 2005
Less than 12 months
Fair
Value
Unrealized
Loss
In thousands
More than 12 months
Fair
Value
Unrealized
Loss
Fixed maturities, available
for sale
U.S. government and
agency
State and municipal
bonds
Corporate bonds
Asset−backed securities
Equity securities available
for sale
Available for sale securities
held with unrealized
losses
$ 170,884
$ (2,280)
$ 107,694
$ (1,069)
$ 63,190
$ (1,211)
520,696
443,358
626,826
1,761,764
(6,258)
(10,587)
(11,174)
(30,299)
461,290
263,170
475,685
1,307,839
(4,914)
(4,495)
(8,003)
(18,481)
59,406
180,188
151,141
453,925
(1,344)
(6,092)
(3,171)
(11,818)
3,439
(135)
2,857
(50)
582
(85)
$1,765,203
$ (30,434)
$1,310,696
$ (18,531)
$454,507
$ (11,903)
86
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
4. Investments (continued)
After an evaluation of each security, Management concluded that these securities have not suffered an other than
temporary impairment in value. Of the unrealized losses aggregated in the above table, over 95% are considered to be
interest rate related. Each fixed maturity security has paid all scheduled contractual payments. Management believes that
each issuer has the capacity to meet the remaining contractual obligations of the security, including payment at maturity,
and that ProAssurance has the current ability and intent to hold the security until either the scheduled maturity date or the
security recovers in value. In total, there are approximately 1,100 securities in a loss position. Management considers the
loss on 7 of those securities to be credit related; the total losses related to these securities total $1.3 million. The single
greatest credit−related loss position approximates $750,000; the second greatest credit−related loss position is a loss of
approximately $180,000. Management also believes each of the equity securities, given the characteristics of the
underlying company, industry, and price volatility of the security, has a reasonable probability of being valued at or above
book value in the near term.
The amortized cost and estimated fair value of fixed maturities at December 31, 2005, by contractual maturity, are
shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or
prepay obligations with or without call or prepayment penalties. ProAssurance uses the call date as the contractual
maturity for prerefunded state and municipal bonds which are 100% backed by U.S. Treasury obligations.
Due in one year or less
Due after one year through five years
Due after five years through ten years
Due after ten years
Asset−backed securities
Amortized
Cost
Estimated
Fair
Value
In thousands
$ 155,592
570,460
559,840
422,445
710,284
$ 154,370
565,709
560,381
422,362
700,628
$2,418,621
$2,403,450
Excluding investments in bonds and notes of the U.S. Government, a U.S. Government agency, or prerefunded state
and municipal bonds which are 100% backed by U.S. Treasury obligations, no investment in any person or its affiliates
exceeded 10% of stockholders’ equity at December 31, 2005.
At December 31, 2005 ProAssurance had available−for−sale securities with a carrying value of $11.9 million on
deposit with various state insurance departments to meet regulatory requirements.
Business Owned Life Insurance
During 2003 ProAssurance purchased BOLI policies on executive employees at a cost of approximately $50 million.
The primary purpose of the program is to offset future employee benefit expenses through earnings on the cash value of
the policies. ProAssurance is the owner and principal beneficiary of these policies; however, $50,000 of each death
benefit is payable to beneficiaries designated by the insured employee.
Real Estate
Real estate consists of two properties currently in use as corporate offices. One property includes 78,000 square feet
of office space which is leased or available for lease. Balances are net of accumulated depreciation of approximately
$9.9 million and $9.8 million at December 31, 2005 and 2004, respectively. Real estate depreciation expense for the three
years ended December 31, 2005, 2004 and 2003 is $1.2 million, $1.1 million and $1.0 million, respectively.
87
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
4. Investments (continued)
Net Investment Income / Net Realized Investment Gains (Losses)
Net investment income by investment category is as follows:
Fixed maturities
Equities
Real estate
Short−term investments
Other invested assets
Business owned life insurance
Investment expenses
Net investment income
2005
$ 90,496
773
1,103
3,608
5,045
2,298
103,323
(5,674)
$ 97,649
2004
In thousands
$69,950
1,736
1,082
1,296
4,592
2,432
81,088
(4,742)
$76,346
2003
$58,306
2,438
1,120
2,229
1,664
1,706
67,463
(4,097)
$63,366
Gross investment gains and losses are primarily from sales of investment securities. Net realized investment gains
(losses) are as follows:
Gross gains
Gross losses
Other than temporary impairments
Trading portfolio gains
Net realized investment gains (losses)
2005
$ 3,488
(1,921)
(768)
113
912
$
2004
In thousands
6,998
$
(1,713)
(611)
2,898
7,572
$
2003
$ 9,156
(3,299)
(322)
323
$ 5,858
Net gains related to fixed maturities included in the above table are $836,000, $3.7 million and $2.4 million during
2005, 2004 and 2003, respectively.
Proceeds from sales (excluding maturities and paydowns) of available−for−sale securities were $441.0 million,
$500.5 million and $358.5 million during 2005, 2004 and 2003, respectively.
88
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
5. Reinsurance
ProAssurance has various quota share, excess of loss, and cession reinsurance agreements. Historically, professional
liability per claim retention levels have varied between the first $200,000 and the first $2 million depending on the
coverage year and the state in which business was written. ProAssurance also insures some large professional liability
risks that are above the limits of its basic reinsurance treaties. These risks are reinsured on a facultative basis, whereby
the reinsurer agrees to insure a particular risk up to a designated limit.
The effect of reinsurance on premiums written and earned is as follows:
Direct
Assumed
Ceded
2005 Premiums
2004 Premiums
2003 Premiums
Written
Earned
Written
Earned
Written
Earned
$572,692
268
(51,617)
$596,289
268
(53,316)
$573,496
96
(38,564)
$555,428
96
(35,627)
$540,815
2,508
(45,664)
$506,752
2,508
(49,389)
In thousands
Net premiums
$521,343
$543,241
$535,028
$519,897
$497,659
$459,871
Reinsurance contracts do not relieve ProAssurance from its obligations to policyholders. A contingent liability exists
with respect to reinsurance ceded to the extent that any reinsurer does not meet the obligations assumed under the
reinsurance agreements. ProAssurance continually monitors its reinsurers to minimize its exposure to significant losses
from reinsurer insolvencies.
At December 31, 2005, all reinsurance recoverables are considered collectible. Reinsurance recoverables totaling
approximately $36.4 million are collateralized by letters of credit or funds withheld.
At December 31, 2005 amounts due from individual reinsurers that exceed 5% of stockholders’ equity are as follows:
Reinsurer
Hannover Ruckversicherung AG
Amount Due
From Reinsurer
In millions
$
59.7
During 2004, ProAssurance commuted (terminated) its various agreements with one of its reinsurers, Gerling Global
Reinsurance Corporation of America. As a result of that commutation, ProAssurance reduced its receivable from
reinsurers by approximately $5.5 million (net of $11.9 million cash received) and reduced its reinsurance liabilities by
approximately $1.6 million, resulting in a net loss on the commutation of approximately $3.9 million.
89
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
6. Income Taxes
Deferred income taxes reflect the net tax effects of temporary differences between the amount of assets and liabilities
for financial reporting purposes and the amounts used for income tax purposes. Significant components of
ProAssurance’s deferred tax liabilities and assets are as follows:
Deferred tax assets
Unpaid loss discount
Unearned premium adjustment
CHW litigation (see Note 9)
Loss and credit carryovers
Unrealized losses on investments, net
Other
Total deferred tax assets
Deferred tax liabilities
Deferred acquisition costs
Unrealized gains on investments, net
Other
Total deferred tax liabilities
Net deferred tax assets
2005
2004
In thousands
$ 77,049
19,026
6,825
4,006
4,554
5,878
$70,025
17,402
—
—
—
6,533
117,338
93,960
7,790
—
5,613
7,439
10,557
6,334
13,403
24,330
$103,935
$69,630
In management’s opinion, it is more likely than not that ProAssurance will realize the benefit of the deferred tax assets,
and therefore, no valuation allowance has been established.
ProAssurance, after adjustment for its tax liability for the year ended December 31, 2005, has available net operating
loss (NOL) carryforwards of $9.6 million and Alternative Minimum Tax (AMT) credit carryforwards of $634,000. The NOL
carryforwards will expire in 2019; the AMT credit carryforwards have no expiration date. The AMT carryforwards can be
applied against any future regular tax payable.
A reconciliation of “expected” income tax expense (35% of income before income taxes) to actual income tax expense
in the accompanying financial statements follows:
Computed “expected” tax expense
Tax−exempt income
Resolution of tax contingencies
Other
Total
90
2005
$38,102
(9,548)
—
283
2004
In thousands
$18,837
(5,947)
(1,667)
(445)
2003
$ 6,024
(4,128)
—
(31)
$28,837
$10,778
$ 1,865
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
7. Deferred Policy Acquisition Costs
Underwriting and insurance costs directly related to the production of new and renewal premiums are considered as
acquisition costs and are capitalized and amortized to expense over the period in which the related premiums are earned.
Reinsurance ceding commissions due ProAssurance are considered as a reduction of acquisition costs, and therefore
reduce the total amount capitalized.
Amortization of deferred acquisition costs amounted to approximately $54.0 million, $52.8 million, and $45.2 million for
the years ended December 31, 2005, 2004 and 2003, respectively. Unamortized deferred acquisition costs are included in
other assets on the Consolidated Balance Sheets and amounted to approximately $22.3 million and $21.3 million at
December 31, 2005 and 2004, respectively.
8. Reserve for Losses and Loss Adjustment Expenses
ProAssurance establishes its reserve for losses based on estimates of the future amounts necessary to pay claims and
expenses associated with the investigation and settlement of claims. These estimates consist of case reserves and bulk
reserves. Case reserves are estimates of future losses for reported claims and are established by ProAssurance’s claims
department. Bulk reserves, which include a provision for losses that have occurred but have not been reported to
ProAssurance and reserves for the potential aggregate development of known claims, are the difference between (i) the
sum of case reserves and paid losses and (ii) an actuarially determined estimate of the total losses necessary for the
ultimate settlement of all reported and incurred but not reported claims, including amounts already paid.
The reserve for losses is established based on estimates of individual claims and actuarially determined estimates of
future losses based on ProAssurance’s past loss experience, available industry data and projections as to future claims
frequency, severity, inflationary trends and settlement patterns. Estimating reserves, and particularly liability reserves, is a
complex process. Claims may be resolved over an extended period of time, often five years or more, and may be subject
to litigation. Estimating losses for liability claims requires ProAssurance to make and revise judgments and assessments
regarding multiple uncertainties over an extended period of time. As a result, reserve estimates may vary significantly
from the eventual outcome. The assumptions used in establishing ProAssurance’s reserves are regularly reviewed and
updated by management as new data becomes available. Changes to estimates of previously established reserves are
included in earnings in the period in which the estimate is changed.
ProAssurance believes that the methods it uses to establish reserves are reasonable and appropriate. Each year,
ProAssurance uses external actuaries to review the reserve for losses of each insurance subsidiary. ProAssurance
considers the views of the external actuaries as well as other factors, such as known, anticipated or estimated changes in
frequency and severity of claims and loss retention levels and premium rates, in establishing the amount of its reserve for
losses. The statutory filings of each insurance company with the insurance regulators must be accompanied by an
actuary’s certification as to their respective reserves in accordance with the requirements of the National Association of
Insurance Commissioners (NAIC).
91
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
8. Reserve for Losses and Loss Adjustment Expenses (continued)
Activity in the reserve for losses and loss adjustment expenses is summarized as follows:
Balance, beginning of year
Less reinsurance recoverables
Net balance, beginning of year
2005
$1,818,636
273,654
2004
In thousands
$1,634,749
336,291
2003
$1,494,875
395,934
1,544,982
1,298,458
1,098,941
Net reserves acquired in NCRIC transaction
139,672
—
—
Net losses:
Current year
Unfavorable (favorable) development of reserves established in
prior years
Total
Paid related to:
Current year
Prior years
Total paid
Net balance, end of year
Plus reinsurance recoverables
Balance, end of year
461,182
469,151
439,418
(22,981)
(8,714)
(50)
438,201
460,437
439,368
(26,495)
(199,617)
(13,599)
(200,314)
(15,533)
(224,318)
(226,112)
(213,913)
(239,851)
1,896,743
327,693
1,544,982
273,654
1,298,458
336,291
$2,224,436
$1,818,636
$1,634,749
As discussed in Note 1, estimating liability reserves is complex and requires the use of many assumptions. As time
passes and ultimate losses for prior years are either known or become subject to a more definite estimation,
ProAssurance increases or decreases the reserve estimates established in prior periods. The favorable development of
$23.0 million recognized in 2005 was due to reductions in our estimates of claim severity. The most significant reduction
was recognized related to the 2003 accident year, however favorable development was also seen in accident years 2002
and prior. The favorable development recognized in 2004 primarily reflected small improvements in claims severity for
accident years 2002 and prior.
92
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
9. Commitments and Contingencies
As a result of the acquisition of NCRIC, ProAssurance assumed the risk of loss for a judgment entered against NCRIC
on February 20, 2004 by a District of Columbia Superior Court in favor of Columbia Hospital for Women Medical Center,
Inc. (“CHW”) in the amount of $18.2 million (the “CHW Judgment”). By order of September 30, 2005, the trial court denied
all post−trial relief sought by NCRIC and NCRIC has appealed the judgment. NCRIC posted a $19.5 million appellate
bond and associated letter of credit to secure payment of the CHW judgment plus interest and costs, in the event the
judgment is ultimately affirmed and paid. In accordance with SFAS 141, ProAssurance established a liability of
$19.5 million for this judgment and included the liability as a component of the fair value of assets acquired and liabilities
assumed in the allocation of the NCRIC purchase price.
ProAssurance is involved in various other legal actions arising primarily from claims against itself related to insurance
policies and claims handling, including but not limited to claims asserted by policyholders. The legal actions arising from
these claims have been considered by ProAssurance in establishing its reserves. While the outcome of all legal actions is
not presently determinable, ProAssurance’s management is of the opinion, based on consultation with legal counsel, that
the resolution of these actions will not have a material adverse effect on ProAssurance’s financial position. However, to
the extent that the cost of resolving these actions exceeds the corresponding reserves, the legal actions could have a
material effect on ProAssurance’s results of operations for the period in which any such action is resolved.
ProAssurance is involved in a number of operating leases primarily for office space, office equipment, and
communication lines. The following is a schedule of future minimum lease payments for operating leases that had initial or
remaining noncancelable lease terms in excess of one year as of December 31, 2005.
Operating Leases
In thousands
2006
2007
2008
2009
Thereafter
Total minimum lease payments
$ 2,866
1,955
1,108
409
256
$ 6,594
ProAssurance incurred rent expense of $2.4 million, $1.9 million and $2.0 million in the years ended December 31,
2005, 2004 and 2003, respectively.
On December 8, 2005 ProAssurance and Physicians Insurance Company of Wisconsin, Inc. (“PIC Wisconsin”)
reached a definitive agreement whereby ProAssurance has agreed to acquire PIC Wisconsin in an all stock merger
transaction, having an estimated value of $100 million. Under terms of the agreement, each share of PIC Wisconsin stock
will be converted into shares of ProAssurance stock having a value of $5,000. The exchange ratio is based on the
average closing price of a share of ProAssurance stock on the ten trading days preceding the effective date of the merger.
This ratio is subject to a 20% range around $49.76, which is the average closing price in the ten days preceding the date
of the definitive agreement. Thus, PIC Wisconsin shareholders may receive more than $5,000 for each share of stock if
the average closing price of ProAssurance stock is more than $59.71; conversely, PIC Wisconsin shareholders may
receive less than $5,000 per share if the average closing price of ProAssurance stock is less than $39.80. The transaction
is subject to required regulatory approvals and a vote of PIC Wisconsin stockholders and is expected to close in the latter
half of 2006.
93
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
10. Long−term Debt
Outstanding long−term debt, as of December 31, 2005 and December 31, 2004, consisted of the following:
Convertible Debentures due June 30, 2023 (the Convertible Debentures),
unsecured and bearing a fixed interest rate of 3.9%, net of unamortized original
issuer’s discounts of $2,219 and $2,515 at December 31, 2005 and December
31, 2004, respectively
Trust Preferred Subordinated Debentures, unsecured, bearing interest at a floating
rate, adjustable quarterly
2005
2004
In thousands
$105,381
$105,085
Due
April 29, 2034
May 12, 2034
May 12, 2034
December 4, 2032
December 31, 2005
Rate
8.19%
8.19%
8.19%
8.44%
13,403
10,310
22,682
15,464
$167,240
13,403
10,310
22,682
—
$151,480
Convertible Debentures Due June 30, 2023 (the Convertible Debentures)
The Convertible Debentures were issued by ProAssurance in July 2003 in a Private Offering transaction, net of an
initial purchaser’s discount of $3.0 million. ProAssurance used the net proceeds to pay off its existing term loan having an
outstanding principal balance of $67.5 million.
Summarized information regarding the structure and terms of the Convertible Debentures follows:
Issue Price. The Convertible Debentures were issued at 100.0% of their principal amount and each Convertible
Debenture has a principal amount at maturity of $1,000.
Maturity Date. June 30, 2023.
Ranking. The Convertible Debentures are unsecured obligations and rank equally in right of payment with all other
existing and future unsecured and unsubordinated obligations. The Convertible Debentures are not guaranteed by any
of ProAssurance’s subsidiaries and, accordingly, the Convertible Debentures are effectively subordinated to the
indebtedness and other liabilities of ProAssurance’s subsidiaries, including insurance policy−related liabilities.
Interest. Interest is payable on June 30 and December 30 of each year, beginning December 30, 2003, at an annual
rate of 3.90%. In addition, ProAssurance may be required to pay contingent interest, as set forth below under
Contingent Interest.
Contingent Interest. Contingent interest is due to the holders of the Convertible Debentures during any six−month
period from June 30 to December 29 and from December 30 to June 29 commencing with the six−month period
beginning June 30, 2008, if the average market price of a Convertible Debenture for the five trading days ending on
the second trading day immediately preceding the relevant six−month period equals 120% or more of the principal
amount of the Convertible Debentures. The amount of contingent interest payable in respect of any six−month period
will equal 0.1875% of the average market price of a Convertible Debenture for the five trading day period referred to
above.
94
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
10. Long−term Debt (continued)
Conversion Rights. At December 31, 2005 the Convertible Debentures are not eligible for conversion; however,
holders may convert the Convertible Debentures at any time prior to stated maturity from and after the date of the
following events:
–
–
–
if the sale price of ProAssurance’s common stock for at least 20 trading days in the 30 trading−day period
ending on the last trading day of the immediately preceding fiscal quarter exceeds 120% of the conversion
price on that 30th trading day,
if ProAssurance calls the Convertible Debentures for redemption, or
upon the occurrence of certain corporate transactions.
At December 31, 2005 conversion would be at a rate of 23.9037 of shares of common stock for each $1,000 principal
amount of Convertible Debentures; this represents a conversion price of approximately $41.83 per share of common
stock. The conversion rate is subject to future adjustment should certain corporate events occur, as defined by the
related indenture agreement. Upon conversion, holders will generally not receive any cash payment representing
accrued interest or contingent interest, if any. Instead, accrued interest and contingent interest will be deemed paid by
the common stock received by the holders on conversion. Convertible Debentures called for redemption may be
surrendered for conversion until the close of business two business days prior to the redemption date.
Upon conversion, ProAssurance has the right to deliver, in lieu of common stock, cash or a combination of cash and
shares of common stock.
Payment at Maturity. Each holder of $1,000 Convertible Debentures will be entitled to receive $1,000 at maturity, plus
accrued interest, including contingent interest, if any.
Sinking Fund. None.
Optional Redemption. ProAssurance may not redeem the Convertible Debentures prior to July 7, 2008. ProAssurance
may redeem some or all of the Convertible Debentures for cash on or after July 7, 2008, upon at least 30 days but not
more than 60 days notice by mail to holders at par.
Repurchase Right of Holders. Each holder of the Convertible Debentures may require ProAssurance to repurchase all
or a portion of the holder’s Convertible Debentures on June 30, 2008, June 30, 2013 and June 30, 2018 at a purchase
price equal to the principal amount of the Convertible Debentures plus accrued and unpaid interest, including
contingent interest, if any, to the date of repurchase. ProAssurance may choose to pay the purchase price in cash,
shares of common stock, or a combination of cash and shares of common stock. If ProAssurance elects to pay all or a
portion of the repurchase price in common stock, the shares of common stock will be valued at 97.5% of the average
sale price for the 20 trading days immediately preceding and including the third day prior to the repurchase date.
95
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
10. Long−term Debt (continued)
Change of Control. Upon a change of control of ProAssurance, holders may require ProAssurance, subject to
conditions, to repurchase all or a portion of the Convertible Debentures. Depending upon the date at which the change
of control occurs, ProAssurance will pay a purchase price equal to a varying percentage of the applicable principal
amount of such Convertible Debentures plus accrued and unpaid interest, including contingent interest and additional
amounts, if any. The percentage ranges from 104% for dates before June 29, 2006 to 100% for dates after June 30,
2008.
ProAssurance may choose to pay the repurchase price in cash, shares of common stock, shares of common stock of
the surviving corporation or a combination of cash and shares of the applicable common stock. If ProAssurance elects
to pay all or a portion of the repurchase price in shares of common stock, the shares of the applicable common stock
will be valued at 97.5% of the average sale price of the applicable common stock for 20 trading days commencing
after the third trading day following notice of the occurrence of a change of control.
Events of Default. If there is an event of default under the Convertible Debentures, the principal amount of the
Convertible Debentures, plus accrued interest, including contingent interest, if any, may be declared immediately due
and payable. These amounts automatically become due and payable if an event of default relating to certain events of
bankruptcy, insolvency or reorganization occurs.
Registration Rights. On December 15, 2003 ProAssurance filed a shelf registration statement with the SEC with
respect to the resale of the Convertible Debentures and for the issuance of approximately 2.6 million shares of
common stock issuable upon conversion of the Convertible Debentures pursuant to a registration rights agreement.
The Convertible Debentures do not require ProAssurance to maintain minimum financial covenants.
2034 and 2032 Trust Preferred Subordinated Debentures
In April and May 2004, ProAssurance formed two business trusts, (the PRA Trusts) for the sole purpose of issuing, in
private placement transactions, $45.0 million of trust preferred securities (PRA TPS) and using the proceeds thereof,
together with the equity proceeds received from ProAssurance in the initial formation of the PRA Trusts, to purchase
$46.4 million of variable rate subordinated debentures (the 2034 Subordinated Debentures) issued by ProAssurance.
ProAssurance owns all voting securities of the PRA Trusts and the 2034 Subordinated Debentures are the sole assets of
the PRA Trusts. The PRA Trusts will meet the obligations of the PRA TPS with the interest and principal paid on the 2034
Subordinated Debentures. ProAssurance received net proceeds from the PRA TPS transactions, after commissions and
other costs of issuance, of $44.9 million.
In December 2002, NCRIC formed a business trust (the NCRIC Trust), for the sole purpose of issuing, in private
placement transactions, $15.0 million of trust preferred securities (NCRIC TPS) and using the proceeds thereof, together
with the equity proceeds received from NCRIC in the initial formation of the NCRIC Trust, to purchase $15.5 million of
variable rate subordinated debentures (the 2032 Subordinated Debentures) issued by NCRIC. NCRIC owns all voting
securities of the NCRIC Trust and the 2032 Subordinated Debentures are the sole assets of the NCRIC Trust. The NCRIC
Trust will meet the obligations of the NCRIC TPS with the interest and principal paid on the 2032 Subordinated
Debentures.
96
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
10. Long−term Debt (continued)
The 2034 and 2032 Subordinated Debentures have the same maturities and other applicable terms and features as
the associated trust preferred securities. The 2034 and 2032 Subordinated Debentures are uncollateralized and bear a
floating interest rate adjusted quarterly based upon the three−month LIBOR rate, with a maximum rate for the first five
years following issuance of 12.5%. Payment of interest may be deferred for up to 20 consecutive quarters; however,
stockholder dividends cannot be paid during any extended interest payment period or at any time the debentures are in
default. All have stated maturities of thirty years but may be redeemed at any time following the fifth anniversary of
issuance. None of the securities require either PRA or NCRIC to maintain minimum financial covenants.
Guarantees
ProAssurance and NCRIC have guaranteed that amounts paid to the PRA and NCRIC Trusts under the associated
subordinated debentures (the 2034 and 2032 Subordinated Debentures, respectively) will be remitted to the holders of the
associated trust preferred securities. These guarantees, when taken together with the obligations of ProAssurance and
NCRIC under their respective debentures, the Indentures pursuant to which those debentures were issued, and the
related trust agreements (including obligations to pay related trust cost, fees, expenses, debt and other obligations for the
PRA and NCRIC Trusts other than with respect to the common and trust preferred securities of the PRA and NCRIC
Trusts), provides a full and unconditional guarantee of amounts due on the PRA and NCRIC TPS. The amounts
guaranteed are not expected to at any time exceed the obligations of the 2034 and 2032 Subordinated Debentures, and
no additional liability has been recorded related to the PRA and NCRIC TPS or the guarantees.
Fair Value
At December 31, 2005, the fair value of the Convertible Debentures is approximately 125% of face value of
$107.6 million based on available independent market quotes. The fair value of the 2034 and 2032 Subordinated
Debentures approximates the face value of the debentures.
97
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
11. Stockholders’ Equity
At December 31, 2005 ProAssurance had 100 million shares of authorized common stock and 50 million shares of
authorized preferred stock. The Board of Directors has the authorization to determine the provisions for the issuance of
shares of the preferred stock, including the number of shares to be issued, the designations, powers, preferences and
rights, and the qualifications, limitations or restrictions of such shares. At December 31, 2005, the Board of Directors had
not authorized the issuance of any preferred stock nor determined any provisions for the preferred stock.
At December 31, 2005 approximately 2.5 million of ProAssurance’s authorized shares of common stock are reserved
by the Board of Directors of ProAssurance for the award or issuance of shares under incentive compensation plans as
described in Note 12. Additionally, approximately 1.2 million common shares are reserved for the exercise of outstanding
options, also discussed in Note 12. Also, see “Registration Rights” in Note 10 (Long−Term Debt) concerning the
2.6 million shares reserved for issuance relative to the Convertible Debentures.
“Accumulated other comprehensive income (loss)” shown in the Consolidated Statements of Changes in Capital is
solely comprised of net unrealized gains (losses) on securities available for sale, net of taxes.
The components of “Other comprehensive income (loss)” are as follows (in thousands):
Other comprehensive income (loss), continuing operations:
Unrealized holding gains (losses), net of tax benefit of
$(15,393), $(6,489) and $(3,837), respectively
Reclassification adjustments for gains (losses) included in the
calculation of net income, net of tax of $282, $1,854 and
$1,931, respectively
Other comprehensive income (loss), discontinued operations:
Unrealized holding gains (losses), net of tax (tax benefit) of
$(2,957), $(769) and $845, respectively
Reclassification adjustments for gains (losses) included in the
calculation of net income, net of tax (tax benefit) of $175,
$6 and $(21), respectively
2005
2004
2003
$(28,587)
$(12,051)
$(7,126)
524
$(28,063)
3,443
$ (8,608)
3,587
$(3,539)
(5,492)
(1,429)
1,569
324
$ (5,168)
12
$ (1,417)
(39)
$ 1,530
On February 15, 2006 ProAssurance filed a registration statement on Form S−4 with the Securities and Exchange
Commission for the issuance of 2.5 million shares related to the proposed merger with PIC Wisconsin, described in more
detail in Note 9. This registration statement is not yet effective.
12. Stock Options
ProAssurance provides performance−based stock compensation to employees under the ProAssurance 2004 Equity
Incentive Plan and the ProAssurance Corporation Incentive Compensation Stock Plan (the Plans). The terms and
conditions of all grants under the Plans are at the discretion of the compensation committee. Options granted under the
Plans since 2002 vest at a rate of 20% annually, beginning six months after the grant date. Options granted prior to 2002
were fully vested at the grant date. The exercise price of each option granted is equal to the market price of the stock on
the date of grant, and all have an original term of ten years. At December 31, 2005 there were approximately 1.1 million
options outstanding under the Plans.
ProAssurance also has approximately 60,000 outstanding options that were issued in conjunction with merger
transactions, 12,000 of which resulted from the NCRIC acquisition.
98
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
12. Stock Options (continued)
The following table provides information regarding ProAssurance’s outstanding options for the years ending
December 31, 2005, 2004, and 2003:
Number
Of
Options
Weighted
Average
Exercise
Price
Number
of
Options
Weighted
Average
Exercise
Price
Number
Of
Options
Weighted
Average
Exercise
Price
2005
2004
2003
Outstanding at
beginning of year
1,105,373
$ 24.03
993,576
$ 20.72
1,103,037
$ 19.46
Granted in NCRIC
purchase
transaction
Granted under incentive
plans
Exercised
Forfeited
Outstanding at end of
year
Options exercisable at
end of year
12,168
$ 31.66
–
–
–
–
318,356
(269,434)
(3,600)
$ 41.25
$ 24.08
$ 32.33
291,329
(141,832)
(37,700)
$ 33.28
$ 19.50
$ 26.58
303,000
(348,815)
(63,646)
$ 22.00
$ 18.23
$ 18.72
1,162,863
$ 28.73
1,105,373
$ 24.03
993,576
$ 20.72
571,257
$ 24.46
585,994
$ 22.74
552,176
$ 21.75
Outstanding ProAssurance options as of December 31, 2005 consisted of the following:
Range of
$
$
$
$
$
Exercise Prices
9.57 – $17.38
21.01 – $22.00
24.68 – $26.03
33.28 – $36.46
41.15 – $50.87
All
Options Outstanding
Options Exercisable
Number
of
Options
267,624
187,625
151,448
240,250
315,916
1,162,863
Weighted
Average
Remaining
Contractual
Life
5.2 years
7.1 years
2.2 years
8.7 years
9.5 years
7.0 years
Weighted
Average
Exercise
Price
$ 16.62
$ 21.84
$ 25.00
$ 33.41
$ 41.30
$ 28.73
Number
of
Options
194,624
88,425
151,448
76,300
60,460
571,257
Weighted
Average
Exercise
Price
$
$
$
$
$
$
16.56
21.67
25.00
33.36
41.37
24.46
Of the outstanding and exercisable options in the above table, 68,750 outstanding options and 4,400 exercisable
options were held by MEEMIC employees. Upon completion of the MEEMIC sale on January 4, 2006 all options held by
MEEMIC employees became exercisable.
The weighted average fair values of options granted during 2005, 2004 and 2003 and the assumptions (on a
weighted−average basis) used to estimate those fair values as of the date of grant using the Black−Scholes option pricing
model are shown in the following table.
Weighted average fair value
Assumptions:
Risk−free interest rate
Expected volatility
Dividend yield
Expected average term (in years)
2005
$16.52
2004
$13.10
4.3%
0.33
0%
6
3.4%
0.34
0%
6
2003
$8.46
3.1%
0.34
0%
6
99
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
13. Earnings Per Share
The following table provides detailed information regarding the calculation of basic and diluted earnings per share for
each period presented:
Basic earnings per share calculation:
Numerator:
Income from continuing operations, net of tax
Income from discontinued operations, net of tax
Net income
2005
2004
In thousands except per share data
2003
$ 80,026
33,431
$113,457
$43,043
29,768
$72,811
$15,345
23,358
$38,703
Denominator:
Weighted average number of common shares outstanding
30,049
29,164
28,956
Basic earnings per share:
Income from continuing operations
Income from discontinued operations
Net income
Diluted earnings per share calculation:
Numerator:
Income from continuing operations, net of tax
Effect of assumed conversion of contingently convertible debt
instruments
Income from continuing operations — diluted computation
Income from discontinued operations, net of tax
Net income—diluted computation
Denominator:
Weighted average number of common shares outstanding
Assumed conversion of dilutive stock options
Assumed conversion of contingently convertible debt
instruments
Diluted weighted average equivalent shares
Diluted earnings per share:
Income from continuing operations
Income from discontinued operations
Net income
$
$
2.66
1.11
3.77
$ 80,026
2,967
82,993
33,431
$116,424
30,049
287
2,572
32,908
$
$
2.52
1.02
3.54
$
$
1.48
1.02
2.50
$43,043
2,967
46,010
29,768
$75,778
29,164
248
2,572
31,984
$
$
1.44
0.93
2.37
$
$
0.53
0.81
1.34
$15,345
—
15,345
23,358
$38,703
28,956
188
—
29,144
$
$
0.53
0.80
1.33
In accordance with SFAS 128 “Earnings per Share”, the diluted weighted average number of shares outstanding
includes an incremental adjustment for the assumed exercise of dilutive stock options. The adjustment is computed
quarterly; the annual incremental adjustment is the average of the quarterly adjustments. Stock options are considered
dilutive stock options if the assumed conversion of the options, using the treasury stock method as specified by SFAS
128, produces an increased number of shares. Options are not dilutive when the exercise price of the option is near to or
below the average share price during the quarter. During years ended December 31, 2005, 2004 and 2003 certain of
ProAssurance’s outstanding options were not considered to be dilutive because the strike price of the options was below
the average ProAssurance share price during the quarter. The average number of options not considered to be dilutive
during the years ended December 31, 2005, 2004, and 2003 is approximately 158,000, 126,000 and 84,000, respectively.
The conversion of the convertible debentures was not assumed in the 2003 diluted earnings per share computation since
the effect of doing so was anti−dilutive.
100
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
14. Benefit Plans
ProAssurance currently maintains several defined contribution employee benefit plans that are intended to provide
additional income to eligible employees upon retirement. ProAssurance’s expense under these benefit plans was
$2.3 million during the year ended December 31, 2005, which includes approximately $72 thousand relating to NCRIC
employee benefit plans since the date of acquisition, and $2.2 million and $2.2 million during the years ended
December 31, 2004 and 2003, respectively.
15. Statutory Accounting and Dividend Restrictions
ProAssurance’s insurance subsidiaries are required to file statutory financial statements with state insurance regulatory
authorities. GAAP differs from statutory accounting practices prescribed or permitted by regulatory authorities. Differences
between financial statement net income and statutory net income are principally due to: (a) policy acquisition and certain
software and equipment costs which are deferred under GAAP but expensed for statutory purposes; and (b) certain
deferred income taxes which are recorded under GAAP but not for statutory purposes.
The NAIC specifies risk−based capital requirements for property and casualty insurance providers. At December 31,
2005, statutory capital for each insurance subsidiary was sufficient to satisfy regulatory requirements. Net earnings and
surplus of ProAssurance’s insurance subsidiaries, on a statutory basis, are shown in the following table. Amounts shown
exclude MEEMIC Insurance Company which has been sold (see Note 3), and includes the net earnings and surplus of
NCRIC Corporation for the twelve months ended December 31, 2005. Consolidated net income, on a GAAP basis,
includes the earnings of NCRIC Corporation only since the date of acquisition.
2005
$69
Net Earnings
2004
$49
2003
In millions
$4
2005
$726
Surplus
2004
$544
Excluding MEEMIC Insurance Company, ProAssurance’s insurance subsidiaries are permitted to pay dividends of
approximately $87 million during the next year to ProAssurance or its directly owned non−insurance subsidiaries without
prior approval. However, the payment of any dividend requires prior notice to the insurance regulator in the state of
domicile and the regulator may prevent the dividend if, in its judgment, payment of the dividend would have an adverse
effect on the surplus of the insurance subsidiary.
101
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
16. Variable Interest Entities
ProAssurance holds passive investments in various limited partnerships/limited liability companies that are considered
to be VIE’s under FIN 46(R) guidance. ProAssurance is not the primary beneficiary relative to these entities and is not
required to consolidate the entities under FIN 46(R). These investments, five in total at December 31, 2005, are included
in Other Investments and total $42.1 million at December 31, 2005 and $39.3 million at December 31, 2004. The entities
are all non−public investment pools formed for the purpose of achieving diversified equity and debt returns.
ProAssurance’s maximum loss exposure relative to these investments is limited to the carrying value of ProAssurance’s
investment in the entity. ProAssurance’s investment in one of the entities approximates $7.0 million (a 12.9% interest) and
is accounted for using the equity method of accounting; this investment was acquired in 2002. ProAssurance’s investment
in each of the four remaining entities represents an interest of less than 10% and ProAssurance uses the cost method of
accounting for these investments. All were acquired after January 1, 2001.
ProAssurance also holds all the voting securities issued by certain trusts (the PRA and NCRIC Trusts; the Trusts) as
discussed in Note 10 and such trusts are considered to be VIE’s. The Trusts are not consolidated because ProAssurance
is not the primary beneficiary of these trusts. The 2032 and 2034 Subordinated Debentures are reported in the
accompanying Consolidated Balance Sheet as a component of long−term debt. ProAssurance’s equity investments in the
Trusts total $1.9 million and are included in Other Assets.
102
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2005
17. Quarterly Results of Operations (unaudited)
The following is a summary of unaudited quarterly results of operations for 2005 and 2004:
Net premiums earned(1)(2)
Net losses and loss adjustment expenses(2)
Income from continuing operations(3)
Income from discontinued operations(3)
Net income
$128,728
110,450
14,596
7,341
21,937
In thousands except per share data
$126,203
103,124
18,311
9,154
27,465
$144,963
117,898
20,217
9,120
29,337
$143,347
106,728
26,902
7,816
34,718
1st
2nd
3rd
4th
2005
Basic earnings per share:
Income from continuing operations
Income from discontinued operations
Net income
Diluted earnings per share:
Income from continuing operations
Income from discontinued operations
Net income
Net premiums earned(1)(2)
Net losses and loss adjustment expenses(2)
Income from continuing operations(3)
Income from discontinued operations(3)
Net income
Basic earnings per share:
Income from continuing operations
Income from discontinued operations
Net income
Diluted earnings per share:
Income from continuing operations
Income from discontinued operations
Net income
0.50
0.25
0.75
0.48
0.23
0.71
1st
$125,723
115,206
8,597
7,384
15,981
0.30
0.25
0.55
0.29
0.23
0.52
0.62
0.31
0.93
0.59
0.29
0.88
0.66
0.30
0.96
0.63
0.27
0.90
2004
2nd
3rd
In thousands except per share data
$130,933
$122,213
116,682
107,813
12,591
9,102
6,927
6,702
19,518
15,804
0.31
0.23
0.54
0.31
0.21
0.52
0.43
0.24
0.67
0.42
0.21
0.63
0.87
0.25
1.12
0.81
0.23
1.04
4th
$141,027
120,736
12,754
8,755
21,509
0.44
0.30
0.74
0.42
0.27
0.69
Quarterly and year−to−date computations of per share amounts are made independently; therefore, the sum of per share
amounts for the quarters may not equal per share amounts for the year.
(1) Net premiums earned as shown above reflect the reclassification of ceding commissions on certain reinsurance
contracts as discussed in Note 1 to the Consolidated Financial Statements under the caption “Reclassifications”.
Previously filed reports did not reflect the reclassification. The effect of the reclassification was to increase these
amounts by the following (in millions).
2005
2004
(2) From continuing operations
(3) Net of tax
1st
$1.5
$2.2
2nd
$1.5
$1.6
3rd
$1.4
$1.8
4th
–
$1.7
103
This page is intentionally blank.
104
ProAssurance Corporation and Subsidiaries
Schedule I — Summary of Investments — Other Than Investments in Related Parties
December 31, 2005
Type of Investment
Fixed Maturities:
U.S. Treasury securities
State and municipal bonds
Corporate bonds
Asset−backed securities
Total fixed maturities
Equity securities:
Available for sale
Trading
Total equity securities
Real Estate, net
Short−term investments
Other invested assets
Business owned life insurance
Cost
or
Amortized
Cost
$
174,760
906,192
627,385
710,284
Continuing Operations
Fair
Value
In thousands
$
172,483
907,119
623,220
700,628
Amount
Which is
Presented
in the
Balance Sheet
$
172,483
907,119
623,220
700,628
2,418,621
$ 2,403,450
2,403,450
7,858
4,708
10,018
5,181
12,566
$
15,199
16,623
93,066
46,168
56,436
10,018
5,181
15,199
16,623
93,066
46,168
56,436
Total investments
$ 2,643,480
$ 2,630,942
Type of Investment
Fixed Maturities:
U.S. Treasury securities
State and municipal bonds
Corporate bonds
Asset−backed securities
Total fixed maturities
Equity securities:
Available for sale
Trading
Total equity securities
Real Estate, net
Short−term investments
Other invested assets
Business owned life insurance
Discontinued Operations
Cost
or
Amortized
Cost
$
35,441
47,860
46,991
133,362
Fair
Value
In thousands
$
35,367
46,683
45,281
134,565
Amount
Which is
Presented
in the
Balance
Sheet
$
35,367
46,683
45,281
134,565
263,654
$ 261,896
$
261,896
6,238
—
$
6,238
5,025
—
5,025
12,694
—
1
—
6,238
—
6,238
12,694
—
1
—
Total investments
$ 281,374
$
280,829
105
ProAssurance Corporation and Subsidiaries
Schedule II — Condensed Financial Information of Registrant (continued)
ProAssurance Corporation — Registrant Only
Condensed Balance Sheet
Assets
Investment in subsidiaries, at equity
Fixed maturities available for sale, at fair value
Short−term investments
Cash and cash equivalents
Due from subsidiaries
Other assets
Liabilities and Stockholders’ Equity
Liabilities:
Other liabilities
Long−term debt
Stockholders’ Equity:
Common stock
Other stockholders’ equity, including unrealized gains (losses) on securities of
subsidiaries
Total stockholders’ equity
ProAssurance Corporation — Registrant Only
Condensed Statements of Income
2005
December 31
In thousands
2004
$853,801
41,288
10,735
1,434
1,645
9,585
$918,488
$684,732
56,889
2,676
743
11,956
6,670
$763,666
$
1,666
151,776
153,442
$
1,167
151,480
152,647
312
293
764,734
610,726
765,046
$918,488
611,019
$763,666
Revenues:
Investment income
Other Income
Expenses:
Loss on early extinguishment of debt
Interest expense
Other expenses
Loss before income tax (benefit) and equity in net income of
subsidiaries
Income tax (benefit)
Loss before equity in net income of subsidiaries
Equity in net income of subsidiaries
2005
Year Ended December 31
2004
In thousands
$
2,344
125
2,469
—
8,416
3,923
$ 1,317
2,779
4,096
—
6,515
3,882
12,339
10,397
(9,870)
(3,491)
(6,379)
119,836
(6,301)
(2,319)
(3,982)
76,793
2003
$
267
308
575
305
3,409
1,702
5,416
(4,841)
(967)
(3,874)
42,577
Net income
$113,457
$72,811
$38,703
106
ProAssurance Corporation and Subsidiaries
Schedule II — Condensed Financial Information of Registrant (continued)
ProAssurance Corporation — Registrant Only
Condensed Statements of Cash Flow
Cash used by operating activities
Investing activities
Purchases of fixed maturities
Proceeds from sale or maturities of :
Fixed maturities available for sale
Equity securities available for sale
Net decrease/increase in short−term investments
Dividends from subsidiaries
Contribution of capital to subsidiaries
Other
Financing activities
Proceeds from long−term debt
Repayment of debt
Other
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents, beginning of period
2005
$ (2,868)
Year Ended December 31
2004
In thousands
$ (11,896)
2003
$
(9,733)
(45,734)
(101,172)
(134,661)
60,162
—
(8,059)
3,000
(5,937)
(3,517)
(85)
—
—
3,644
3,644
691
743
50,480
7,791
20,764
28,350
(38,000)
(1,395)
(33,182)
44,907
—
36
44,943
(135)
878
129,160
—
(23,440)
—
(25,483)
—
(54,424)
104,641
(72,500)
2,881
35,022
(29,135)
30,013
Cash and cash equivalents, end of period
$ 1,434
$
743
$
878
Notes to Condensed Financial Statements of Registrant
1. Basis of Presentation
The registrant−only financial statements should be read in conjunction with ProAssurance Corporation’s (PRA Holding)
consolidated financial statements. At December 31, 2005 and 2004 PRA Holding’s investment in subsidiaries is stated at
the initial consolidation value plus equity in the undistributed earnings of subsidiaries since the date of acquisition less
dividends received from the subsidiaries.
Acquisitions/Dispositions
In August 2005 PRA Holding purchased NCRIC Corporation as described in Note 2 to the Consolidated Financial
Statements. PRA Holding reached an agreement to sell its indirect subsidiaries, MEEMIC Insurance Company and
MEEMIC Insurance Services, as described in Note 3 to the Consolidated Financial Statements. The sale was completed
in 2006; the proceeds from the sale of $400 million were paid to an indirect subsidiary of ProAssurance.
107
ProAssurance Corporation and Subsidiaries
Schedule II — Condensed Financial Information of Registrant (continued)
Notes to Condensed Financial Statements of Registrant (continued)
2. Long−term Debt
Outstanding long−term debt, as of December 31, 2005 and December 31, 2004, consisted of the following:
Convertible Debentures due June 30, 2023 (Convertible Debentures), unsecured and
bearing a fixed interest rate of 3.9%, net of unamortized original issuer’s discounts of
$2,219 and $2,515 at December 31, 2005 and December 31, 2004, respectively.
Trust Preferred Subordinated Debentures (Subordinated Debentures), unsecured, and
bearing floating interest rate, adjustable quarterly, at three−month LIBOR plus
3.85%.
December 31
2005
2004
$ In thousands
$105,381
$105,085
Due
April 29, 2034
May 12, 2034
May 12, 2034
December 31, 2005
Rate
8.19%
8.19%
8.19%
13,403
10,310
22,682
13,403
10,310
22,682
$151,776
$151,480
PRA Holding issued $107.6 million of 3.9% Convertible Debentures in a Private Offering transaction, net of an initial
purchaser’s discount of $3.0 million, in July 2003. The Convertible Debentures are due June 30, 2023 but may be repaid
or called prior to that date. PRA Holding used the net proceeds of the Convertible Debentures to pay off its existing term
loan having an outstanding principal balance of $67.5 million.
In April and May 2004, PRA Holding formed two business trusts (the Trusts), as the holder of all voting securities issued
by the Trusts, for the sole purpose of issuing, in private placement transactions, $45.0 million of trust preferred securities
(TPS) and using the proceeds thereof, together with the equity proceeds received from ProAssurance in the initial
formation of the Trusts, to purchase Subordinated Debentures issued by ProAssurance. The Subordinated Debentures
and the TPS have the same maturities and other applicable terms and features. They are uncollateralized and bear a
floating interest rate equal to the three−month LIBOR plus 3.85%, adjustable and payable quarterly, with a maximum rate
within the first five years of 12.5%.
See Note 10 of the Notes to the consolidated financial statements of ProAssurance and its subsidiaries included herein for
a detailed description of the terms of the Convertible Debentures and the Subordinated Debentures.
3. Related Party Transactions
PRA Holding received dividends of $3 million from its subsidiaries in 2005 and $28 million dividends were received in
2004. PRA Holding contributed capital of $5.9 million in 2005 to its subsidiaries. In 2004 PRA Holding contributed
$18 million to its subsidiaries.
All of PRA Holding’s treasury shares are owned by its subsidiaries. In the registrant−only financial statements,
stockholders’ equity has been reduced by the cost of these treasury shares and PRA Holding’s investment in subsidiaries
has been reduced by the cost of the treasury shares owned by the subsidiaries.
4. Income Taxes
Under terms of PRA Holding’s tax sharing agreement with its subsidiaries, income tax provisions for individual companies
are allocated on a separate company basis.
108
ProAssurance Corporation and Subsidiaries
Schedule III — Supplementary Insurance Information
Years Ended December 31, 2005, 2004, and 2003
Deferred policy acquisition costs
Reserve for losses and loss adjustment expenses
Unearned premiums
Net premiums earned
Premiums assumed from other companies
Net investment income
Net losses and loss adjustment expenses
Underwriting, acquisition and insurance expenses:
Amortization of deferred policy acquisition costs
Other underwriting, acquisition and insurance expenses
Net premiums written
Deferred policy acquisition costs
Reserve for losses and loss adjustment expenses
Unearned premiums
Net premiums earned
Premiums assumed from other companies
Net investment income
Net losses and loss adjustment expenses
Underwriting, acquisition and insurance expenses:
Amortization of deferred policy acquisition costs
Other underwriting, acquisition and insurance expenses
Net premiums written
109
2005
$
22,256
2,224,436
264,258
543,241
268
97,649
438,201
53,967
35,352
521,343
$
Continuing Operations
2004
In thousands
21,254
1,818,636
248,539
519,897
96
76,346
460,437
52,808
31,575
535,028
2005
$
7,108
252,294
65,429
187,903
—
12,817
110,929
19,727
23,595
187,676
Discontinued Operations
2004
In thousands
6,408
$
210,956
65,640
183,365
—
10,879
112,444
17,804
22,744
189,306
2003
$
17,902
1,634,749
230,442
459,871
2,508
63,366
439,368
45,216
28,047
497,659
2003
$
5,701
179,835
59,692
170,268
—
10,253
112,008
16,272
21,306
177,957
ProAssurance Corporation and Subsidiaries
Schedule IV—Reinsurance
Years Ended December 31, 2005, 2004, and 2003
Property and Casualty
Premiums earned
Premiums ceded
Premiums assumed
Net premiums earned
2005
$596,289
(53,316)
268
$543,241
Continuing Operations
2004
In thousands
$555,428
(35,627)
282
$520,083
2003
$506,752
(49,389)
2,494
$459,857
Percentage of amount assumed to net
0.05%
0.05%
0.54%
Accident and Health
Premiums earned
Premiums ceded
Premiums assumed
Net premiums earned
Percentage of amount assumed to net
$
$
—
—
—
—
—
$
$
—
—
(186)
(186)
100%
$
$
—
—
14
14
100%
Total net premiums earned
$543,241
$519,897
$459,871
Property and Casualty
Premiums earned
Premiums ceded
Premiums assumed
Net premiums earned
Percentage of amount assumed to net
Total net premiums earned
2005
Discontinued Operations
2004
In thousands
2003
$219,526
(31,623)
—
$187,903
—
$187,903
$210,119
(26,754)
—
$183,365
—
$183,365
$189,087
(18,819)
—
$170,268
—
$170,268
110
ProAssurance Corporation and Subsidiaries
Schedule VI — Supplementary Property and Casualty Insurance Information
Years Ended December 31, 2005, 2004, and 2003
Deferred policy acquisition costs
Reserve for losses and loss adjustment expenses
Unearned premiums
Net premiums earned
Net investment income
Losses and loss adjustment expenses incurred related to current
year, net of reinsurance
Losses and loss adjustment expenses incurred related to prior
year, net of reinsurance
Amortization of deferred policy acquisition costs
Paid losses and loss adjustment expenses related to current year
losses, net of reinsurance
Paid losses and loss adjustment expenses related to prior year
2005
$
22,256
2,224,436
264,258
543,241
97,649
$
Continuing Operations
2004
In thousands
21,254
1,818,636
248,539
519,897
76,346
2003
$
17,902
1,634,749
230,442
459,871
63,366
461,182
469,151
439,418
(22,981)
53,967
(8,714)
52,808
(50)
45,216
(26,495)
(13,599)
(15,534)
losses, net of reinsurance
(199,617)
(200,314)
(224,317)
Deferred policy acquisition costs
Reserve for losses and loss adjustment expenses
Unearned premiums
Net premiums earned
Net investment income
Losses and loss adjustment expenses incurred related to current year,
net of reinsurance
Losses and loss adjustment expenses incurred related to prior year,
net of reinsurance
Amortization of deferred policy acquisition costs
Paid losses and loss adjustment expenses related to current year
losses, net of reinsurance
Paid losses and loss adjustment expenses related to prior year losses,
net of reinsurance
111
2005
$
7,108
252,294
65,429
187,903
12,817
$
Discontinued Operations
2004
In thousands
6,408
210,956
65,640
183,365
10,879
2003
$
5,701
179,836
59,692
170,268
10,253
119,129
120,346
122,838
(8,200)
19,727
(7,902)
17,804
(10,830)
16,272
(76,679)
(78,762)
(79,290)
(29,048)
(29,725)
(22,918)
EXHIBIT INDEX
Exhibit
Number
2.1
2.2
2.3
2.4
2.5
2.6
Description
Agreement to Consolidate by and between Medical Assurance, Inc. and Professionals Group, Inc. dated
June 22, 2000 as amended as of November 1, 2000. (1)
Agreement and Plan of Merger dated as of July 9, 2002 among ProNational Insurance Company,
MEEMIC Merger Corp. and MEEMIC Holdings (2)
Amendment No. 1 to Agreement and Plan of Merger dated as of July 9, 2002 among ProNational
Insurance Company, MEEMIC Merger Corp. and MEEMIC Holdings, Inc. made on September 18, 2002
(3)
Agreement and Plan of Merger among ProAssurance, NCRIC Group, Inc. and NCP Merger Corporation,
dated February 28, 2005 (4)
Stock Purchase Agreement dated November 7, 2005, among Motors Insurance Corporation, MEEMIC
Insurance Company, MEEMIC Insurance Services Corporation, MEEMIC Holdings, Inc. and
ProAssurance Corporation (5)
Agreement and Plan of Merger, dated as of December 8, 2005, between ProAssurance and PIC
Wisconsin, as amended February 14, 2006 (6)
3.1(a)
Certificate of Incorporation of ProAssurance (1)
3.1(b)
Certificate of Amendment to Certificate of Incorporation of ProAssurance (7)
3.2
4
4.1
4.2
4.3
10.1(a)
10.1(b)
First Restatement of the Bylaws of ProAssurance (8)
The following documents defining rights of holders of ProAssurance’s long−term debt represent
indebtedness in an amount in excess of ten percent of ProAssurance’s consolidated assets; instruments
representing long term indebtedness that is less than ten percent of ProAssurance’s consolidated assets
either have been previously filed or will be filed with the Commission upon request pursuant to the
requirements of Item 601(b)(4) of Regulation S−K:
Purchase Agreement, dated July 1, 2003, between Registrant and the representatives of the initial
purchasers of the Debentures (without exhibits) (9)
Indenture dated July 7, 2003, between and among Registrant and the initial purchasers of the
Debentures (10)
Registration Rights Agreement, dated July 7, 2003, between and among Registrant and the initial
purchasers of the Debentures (10)
Medical Assurance, Inc. Incentive Compensation Stock Plan (formerly known as the Mutual Assurance,
Inc. 1995 Stock Award Plan) (11)
Amendment and Assumption Agreement by and between ProAssurance and Medical Assurance, Inc.
(7)
112
Exhibit
Number
10.1(c)
10.2
10.3
Description
Amendment and Assumption Agreement by and between Mutual Assurance, Inc. and MAIC Holdings,
Inc. dated April 8, 1996 (12)
Professionals Insurance Company Management Group 1996 Long Term Incentive Plan (13)
ProAssurance Corporation 2004 Equity Incentive Plan (14)
10.4(a)
Release and Severance Agreement between Victor T. Adamo and ProAssurance (15)
10.4(b)
Amendment to Release and Severance Compensation Agreement of Victor T. Adamo (16)
10.4(c)
Release and Severance Agreement between Howard H. Friedman and ProAssurance (16)
10.4(d)
Release and Severance Agreement between James J. Morello and ProAssurance (16)
10.4(e)
Release and Severance Agreement between Frank B. O’Neil and ProAssurance (17)
10.4(f)
Release and Severance Agreement between Edward L. Rand and ProAssurance (18)
10.4(g)
Release and Severance Agreement between Lynn M. Kalinowski and ProAssurance (19)
10.4(h)
Letter Agreement between Lynn M. Kalinowski and ProAssurance dated November 4, 2005 (5)
10.4(i)
Cross Receipt and Release between Lynn M. Kalinowski and ProAssurance and MEEMIC Holdings, Inc.
(2)
10.4(j)
Release and Severance Agreement between Darryl K. Thomas and ProAssurance
10.5
10.6
Employment Agreement of A. Derrill Crowe, as amended (16)
Form of Indemnification Agreement between ProAssurance and each of the following named executive
officers and directors of ProAssurance: (17)
Victor T. Adamo
Lucian F. Bloodworth
Paul R. Butrus
A. Derrill Crowe
Robert E. Flowers
Howard H. Friedman
Jeffrey P. Lisenby
John J. McMahon
James J. Morello
John P. North
Frank B. O’Neil
113
Exhibit
Number
10.7
10.8
10.9
10.10
21.1
23.1
31.1
31.2
32.1
32.2
Description
Ann F. Putallaz
Edward L. Rand, Jr.
Darryl K. Thomas
William H. Woodhams
Wilfred W. Yeargan, Jr.
ProAssurance Group Employee Benefit Plan which includes the Executive Supplemental Life Insurance
Program (Article VIII) (8)
ProAssurance Group 2004 Deferred Compensation Plan dated October 11, 2004, of which A. Derrill
Crowe is the sole participant (8)
Executive Non−Qualified Excess Plan and Trust dated December 1, 2004 (4)
ProAssurance Director Deferred Compensation Plan adopted on May 18, 2005 (21)
Subsidiaries of ProAssurance Corporation
Consent of Ernst & Young LLP
Certification of Principal Executive Officer of ProAssurance as required under SEC Rule 13a−14(a)
Certification of Principal Financial Officer of ProAssurance as required under SEC Rule 13a−14(a)
Certification of Principal Executive Officer of ProAssurance as required under SEC Rule 13a−14(b) and
Section 1350 of Chapter 63 of Title 18 of the United States Code, as amended (18 U.S.C. 1350)
Certification of Principal Financial Officer of ProAssurance as required under SEC Rule 13a−14(b) and
18 U.S.C. 1350
114
Footnotes
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(8)
(9)
(10)
(11)
(12)
(13)
Filed as an Exhibit to ProAssurance’s Registration Statement on Form S−4 (File No. 333−49378) and
incorporated herein by reference pursuant to Rule 12b−32 of the Securities and Exchange Commission
(SEC).
Filed as an Exhibit to ProAssurance’s Quarterly Report on Form 10−Q for the period ended June 30,
2002 (File No. 001−16533) and incorporated herein by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Annual Report on Form 10−K for the year ended December 31,
2002 (Commission File No. 001−16533) and incorporated herein by reference pursuant to SEC
Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Registration Statement on Form S−4 (File No. 333−124156) and
incorporated herein by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Current Report on Form 8−K for event occurring November 4, 2005
and incorporated by reference pursuant to SC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Registration Statement on Form S−4 (File No. 333−131874) and
incorporated by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Annual Report on Form 10−K for the year ended December 31,
2001 (File No. 001−16533) and incorporated herein by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Annual Report on Form 10−K for the year ended December 31,
2004 (File No. 001−16533) and incorporated herein by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Registration Statement on Form S−3 (File No. 333−109972) and
incorporated by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Quarterly Report on Form 10−Q for the period ended June 30,
2003 (File No. 333−16533) and incorporated by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to MAIC Holding’s Registration Statement on Form S−4 (File No. 33−91508) and
incorporated herein by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to MAIC Holding’s Proxy Statement for the 1996 Annual Meeting (File No. 0−19439) is
incorporated herein by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to Professionals Group’s Registration Statement on Form S−4 (File No. 333−3138)
and incorporated herein by reference pursuant to SEC Rule 12b−32.
115
Footnotes
(14)
(15)
(16)
(17)
(18)
(19)
(20)
(21)
Filed as an Exhibit to ProAssurance’s Definitive Proxy Statement (File No. 001−165333) on April 16, 2004
and incorporated herein by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Form 10−Q for the quarter ended June 30, 2001 (File
No. 001−16533) and incorporated herein by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Registration Statement on Form S−3 (File No. 333−100526) and
incorporated herein by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Annual Report on Form 10−K for the year ended December 31,
2002 (File No. 001−16533) and incorporated herein by this reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Current Report on Form 8−K for event occurring March 31, 2005
(File No. 001−16533) and incorporated herein by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Quarterly Report on Form 10−Q for the quarter ended
September 30, 2001 (File No. 000−16533) and incorporated herein by reference pursuant to SEC
Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Current Report on Form 8−K for event occurring on January 4,
2006 (File No. 000−16533) and incorporated herein by reference pursuant to SEC Rule 12b−32.
Filed as an Exhibit to ProAssurance’s Current Report on Form 8−K for event occurring on May 18, 2005
(File No. 001−16533) and incorporated herein by reference pursuant to SEC Rule 12b−32.
116
Exhibit 10.4(J)
RETENTION PLAN
RELEASE AND SEVERANCE COMPENSATION AGREEMENT
THIS RELEASE AND SEVERANCE COMPENSATION AGREEMENT (the "Agreement") is
between ProAssurance Corporation, a Delaware corporation ("ProAssurance"),
ProNational Insurance Company, a Michigan insurance company ("ProNational"),
Professionals Group, Inc., a Michigan corporation ("Professionals Group") and
Darryl K. Thomas, an individual (the "Executive"). ProAssurance, ProNational,
and Professionals Group and their respective majority−owned subsidiaries are
hereinafter collectively referred to as the "Companies."
RECITALS:
The Executive is currently rendering valuable services to Professionals
Group and/or its wholly−owned subsidiary of ProNational. ProAssurance has
acquired, or will acquire, control of Professionals Group and ProNational in a
transaction (the "Consolidation") that will result in a "change of control" (the
"Change of Control") under the terms and conditions of the 1996 Key Employee
Retention Plan of ProNational as assumed by Professionals Group (the "Change of
Control Agreement"). The Companies have offered to employ the Executive in an at
will employment relationship after the Consolidation and to expand protection to
the Executive in the form of severance benefits payable on termination of
employment under certain circumstances after the Consolidation on the condition
that the Executive releases the Companies from any past or future liability
under the Change of Control Agreement. The Executive desires to continue
employment with the Companies under such terms and conditions, and with the
protection afforded to the Executive by this Agreement.
AGREEMENT
NOW, THEREFORE, These Premises Considered, and in consideration of the
mutual covenants and promises in this Agreement, the sufficiency of which is
hereby acknowledged, the parties agree as follows:
1. Term of Agreement. This Agreement is subject to, and conditioned upon,
the closing (the "Closing") of the transactions (the "Consolidation")
contemplated by the Agreement to Consolidate by and between Medical Assurance,
Inc. and Professionals Group, Inc. dated June 22, 2000, as amended November 1,
2000. This Agreement is effective on the date of Closing which is scheduled to
occur on June 27, 2001, and shall continue in effect for a period of two years
from the date of Closing (the "Initial Term"). Thereafter, this Agreement shall
automatically be extended for successive terms of one year (a "Renewal Term"),
except this Agreement may be terminated after the first Renewal Term upon
delivery of written notice of the termination of this Agreement by any of the
Companies at least six months prior to the expiration of any Renewal Term. If
the Executive's employment is terminated during the term of the Agreement, the
date on which the Executive's employment terminates shall be referred to as the
"Date of Termination."
2. Severance Benefits. If during the term of this Agreement the Executive
leaves the employment of the Companies for Good Reason, as explained in Section
4 of this Agreement, and the Executive signs the release (the "Release") that is
attached to and incorporated in this Agreement, the Executive shall receive the
following benefits (the "Severance Benefits"):
(a) An amount equal to either of whichever the following is
applicable: (i) if the Date of Termination occurs during the Initial Term,
two (2) times the Executive's annual base salary; or (ii) if the Date of
Termination occurs during a
2
Renewal Term, one (1) times the Executive's annual base salary. The "annual
base salary" of the Executive shall be defined as the Executive's base rate
of compensation in effect as of the Date of Termination, but in no event
less than the Executive's base rate of compensation in effect as of the end
of the last calendar quarter preceding the Date of Termination;
(b) An amount equal to either of whichever of the following is
applicable: (i) if the Date of Termination occurs during the Initial Term,
two (2) times the average total annual incentive award(s) or bonus(es); or
(ii) if the Date of Termination occurs during a Renewal Term, one (1) times
the average total annual incentive award(s) or bonus(es). The "average
total annual incentive award(s) or bonus(es)" shall mean the average of the
sum of (i) cash awards or bonuses earned with the Companies by the
Executive, plus (ii) the value of stock awarded to the Executive by the
Companies for each complete fiscal year during the last three years
(whether or not deferred) or, if shorter, over the Executive's entire
period of employment with the Companies. The value of stock awarded to the
Executive shall be calculated based on the value of the stock as of the
date the stock was awarded to the Executive as annual incentive
compensation. Notwithstanding the foregoing, the Executive's actual total
annual incentive awards or bonuses shall be calculated excluding the value
of options to purchase stock which may have been awarded to the Executive;
(c) Payment of the Executive's monthly COBRA premiums for continued
health and dental insurance coverage for the shorter of the following: (i)
18 months if the Date of Termination occurs in the Initial Term; (ii) 12
months if the Date of Termination occurs in the Renewal Term; (iii) until
the Executive no longer has coverage
3
under COBRA; or (iv) until the Executive becomes eligible for substantially
similar coverage under a subsequent employer's group health plan; and
(d) Outplacement services that are customary to Executive's position.
The cash severance benefits described in subparagraphs (a) and (b) above
shall be paid in equal monthly installments during the period that the covenants
set forth in Section 7 shall be in effect commencing upon the Date of
Termination; provided that the obligation of the Companies to pay such cash
severance benefits to the Executive shall be subject to termination under the
provisions of Section 7 hereof in the event the Executive should violate the
covenants set forth therein; and provided further that the payment of such cash
severance benefits shall be accelerated and payable in lump sum by the Companies
upon a breach of this Agreement as a result of the failure of a successor
(herein defined) to assume this Agreement as required in Section 10 of this
Agreement. The Companies shall withhold from any amounts payable under this
Agreement all federal, state, city or other income and employment taxes that
shall be required.
The Companies shall fund the obligation to pay cash Severance Benefits by
depositing in escrow an amount equal to the sum of the amounts payable to the
Executive under subparagraphs (a) and (b) hereof (the "Escrow Funds") with
SouthTrust Bank (or another financial institution with total assets of more than
$1,000,000,000) as escrow agent (the "Escrow Agent"). The Escrow Funds shall be
the property of the Companies and shall be held, invested and distributed by
Escrow Agent in accordance with the following provisions. At the time of
delivery of the Escrow Funds, the Escrow Agent shall acknowledge receipt of the
Escrow Funds and agree to be bound by the provisions of this Agreement in a
separate written document. The Escrow Agent shall invest the Escrow Funds in a
money market account for the benefit of the Companies and
4
shall distribute the earnings not more frequently than monthly. Unless and until
the Escrow Agent receives notice from ProAssurance that the Executive has
breached this Agreement, the Escrow Agent shall distribute the Escrow Funds to
the Executive in the same number of equal monthly installments as the number of
whole calendar months in the Restricted Period (as defined in Section 7 hereof).
The monthly installments shall be distributed to the Executive on the first day
of each calendar month in the Restricted Period together with accrued and
undistributed earnings on the Escrow Funds. If the Company delivers written
notice to the Escrow Agent and Executive that the cash Severance Benefits
payable to Executive are subject to termination under Section 7 of this
Agreement, the Escrow Agent shall distribute the balance of the Escrow Funds and
accrued and undistributed earnings thereon to ProAssurance unless the Escrow
Agent receives a written notice of objection from the Executive within 15 days
after delivery of ProAssurance's notice. If Executive provides a timely notice
of objection, the Escrow Agent shall hold the Escrow Funds until it receives a
written notice of distribution from the arbitrator appointed pursuant to Section
13 hereof or a joint written notice of distribution from the Executive and
ProAssurance. The failure of the Executive or the Company to deliver notice to
the Escrow Agent as herein provided shall not be a waiver of any of their
respective rights under this Agreement.
The Executive shall be entitled to the following in addition to and not in
limitation of the Severance Benefits: (i) accrued and unpaid base salary as of
the Date of Termination; (ii) accrued vacation and sick leave, if any, on Date
of Termination in accordance with the then current policy of the Companies with
respect to terminated employees generally; and (iii) vested benefits under the
Companies' employee benefit plans in which the Executive was a participant on
Date of Termination, which vested benefits shall be paid or provided for in
accordance with
5
the terms of said employee benefit plans. If the Executive has regular use of a
vehicle provided by the Companies for business and personal use on Date of
Termination, the Companies shall offer for sale to the Executive the vehicle at
a purchase price equal to either of the following: (x) if owned by any of the
Companies, the then current book value of the vehicle (cost less accumulated
depreciation), or (y) if leased by any of the Companies, the purchase price upon
the exercise of the purchase option, if any, under the lease.
The Executive shall not be entitled to receive Severance Benefits if
employment with the Companies is terminated by reason of death of Executive,
retirement of Executive pursuant to the Company's retirement plan as then in
effect, the Executive having reached the age of mandatory retirement (if such
requirement then exists for bona fide executives); or Disability of Executive
(herein defined); or by reason of termination of employment by the Executive
without Good Reason (herein defined); or by reason of termination of employment
by the Companies with Cause (herein defined).
The Executive shall be under no duty or obligation to seek or accept other
employment and shall not be required to mitigate the amount of the Severance
Benefits provided under the Agreement by seeking employment or otherwise;
provided, however, that the Executive shall be required to notify the Companies
if the Executive becomes covered by a health or dental care program providing
substantially similar coverage, at which time health or dental care continuation
coverage provided under this Agreement shall cease.
3. Parachute Payments. Subject to Section 280G of the Internal Revenue Code
of 1986, as amended ("Code"), if the board of directors of ProAssurance
determines that an excise tax under Section 4999 ("Excise Tax") would be due,
the Executive's Severance Benefits under this Agreement shall be limited to the
amount necessary to avoid the Excise Tax only if applying
6
such a limit results in a greater net benefit to the Executive than would have
resulted had the benefits not been limited and an Excise Tax paid. For purposes
of making such computation:
(a) Any other payments or benefits received or to be received by the
Executive in connection with the Change of Control or the Executive's
termination of employment (whether pursuant to the terms of this Agreement or
any other plan, arrangement, or agreement with the Companies, or with any person
whose actions result in the Change of Control) shall be treated as "parachute
payments" within the meaning of Section 280G(b)(2) of the Code, and all "excess
parachute payments" within the meaning of Section 280G(b)(1) of the Code shall
be treated as subject to the Excise Tax, unless, in the opinion of tax counsel
selected by ProAssurance's independent auditors, such other payments or benefits
(in whole or in part) do not constitute parachute payments, or such other
payments or benefits (in whole or in part) represent reasonable compensation for
services actually rendered within the meaning of Section 280G(b)(4) of the Code
in excess of the base amount within the meaning of Section 280G(b)(3) of the
Code, or such other payments or benefits (in whole or in part) are otherwise not
subject to the Excise Tax. In the event an Excise Tax is due, because of
payments made under this Agreement, the Executive shall be responsible for
paying said Excise Tax.
(b) The amount of the Severance Benefits that will be treated as
subject to the Excise Tax shall be equal to the lesser of: (i) the total amount
of the Severance Benefits; or (ii) the amount of excess parachute payments
within the meaning of Section 280G(b)(l) (after applying subparagraph (a)
above).
(c) The value of any noncash benefits or any deferred payment or
benefit shall be determined by ProAssurance's independent auditors in accordance
with the principles of Sections 280G(d)(3) and (4) of the Code.
7
(d) The Executive shall be deemed to pay federal income taxes at the
highest marginal rate of federal income taxation in a calendar year in which the
Severance Benefits are to be paid, and state and local income taxes at the
highest marginal rate of taxation in the state and locality of the Executive's
residence on the Date of Termination, net of the maximum reduction in federal
income taxes that could be obtained from deduction of such state and local
taxes.
In the event the Internal Revenue Service adjusts the computation in
subparagraphs (a) through (d) above, so that the Executive did not receive the
greatest net benefit, the Companies shall reimburse the Executive for the amount
necessary to make the payment of Severance Benefits to the Executive to the
extent permitted hereunder, plus a market rate of interest as determined by the
Board of Directors of ProAssurance.
4. Good Reason for Termination. In the event that the Executive's
employment relationship with the Companies is terminated for any of the reasons
described in this Section 4, the Executive shall be entitled to Severance
Benefits, subject to and described in Section 2 of this Agreement. "Good Reason"
shall constitute any of the following circumstances if they occur without the
Executive's express written consent during the term of this Agreement:
(a) The Executive no longer holds an executive level position with
executive level responsibilities with the Companies consistent with the
Executive's training and experience (Executive and Company acknowledge that the
initial position and responsibilities of Executive will be as set forth in the
terms of employment ("Terms of Employment") attached to, and incorporated in,
this Agreement);
(b) The Companies require that the Executive's primary location of
employment be more than 50 miles from the location of the Executive's primary
location of
8
employment on June 27, 2001; provided, however, that it is agreed that the
relocation of Executive's principal office to Birmingham, Alabama will not
violate this subparagraph and that after the relocation to Birmingham, the fifty
(50) mile radius will apply with respect to the Birmingham location;
(c) The failure of the Companies to provide the Executive, at a level
in 2001 as set forth in the Terms of Employment and thereafter at a level
commensurate with the Executive's position, the incentive compensation
opportunities and employee benefits that are provided to other executives of
comparable rank with the Companies;
(d) A breach by the Companies of any provision of this Agreement,
including without limitation, the failure of a successor to assume this
Agreement as required in Section 10 hereof;
(e) The termination of the Executive's employment by the Companies for
a reason other than: (i) death; (ii) retirement pursuant to the Companies'
retirement plan as then in effect; (iii) Disability as explained in Section 5 of
this Agreement; (iv) the Executive has reached the age of mandatory retirement
(if such requirement then exists for bona fide executives); (v) for Cause, as
explained in Section 7 of this Agreement;
(f) A reduction by the Companies in the Executive's base salary as set
forth in the Terms of Employment; or
(g) The termination or non−renewal of this Agreement by the Companies.
The Executive must provide the Companies with written notice no later than
45 calendar days after the Executive knows or should have known that Good Reason
has occurred. Following the Executive's Notice, the Companies shall have 45
calendar days to rectify the
9
circumstances causing the Good Reason. If the Company fails to rectify the
event(s) causing the Good Reason within the 45 day period after the Executive's
Notice, or if any of the Companies delivers to the Executive written notice
stating that the circumstances cannot or shall not be rectified, the Executive
shall be entitled to assert Good Reason and terminate employment on or before 90
days after the delivery of the Executive's Notice. Should Executive fail to
provide the required Notice in a timely manner, Good Reason shall not be deemed
to have occurred as a result of that event. The Initial Term or a Renewal Term
shall not be deemed to have expired during the Notice period, however, as long
as the Executive has provided Notice within the Term.
5. Disability. For purposes of this Agreement, Disability means a serious
injury or illness that requires the Executive to be under the regular care of a
licensed medical physician and renders the Executive incapable of performing the
essential functions of the Executive's position for 12 months as determined by
the Board of Directors of the Companies in good faith and upon receipt of and in
reliance on competent medical advice from one or more individuals selected by
the Board of Directors, who are qualified to give professional medical advice.
6. Cause. If the Executive's employment relationship with the Companies is
terminated for Cause by the Companies, as described below in this Section, the
Executive shall not be eligible for Severance Benefits and all rights of the
Executive and obligations of the Companies under this Agreement shall expire.
Cause means:
(a) The Executive has been convicted in a federal or state court of a
crime classified as a felony;
(b) Action or inaction by the Executive (i) that constitutes
embezzlement, theft, misappropriation or conversion of assets of the Companies
which alone or together with related
10
actions or inactions involve assets of more than a de minimis amount, or that
constitutes fraud, gross malfeasance of duty, or conduct grossly inappropriate
to Executive's office; and (ii) such action or inaction has adversely affected
or is likely to adversely affect the business of the Companies or has resulted
or is intended to result in direct or indirect gain or personal enrichment of
the Executive to the detriment of the Companies;
(c) The Executive has been grossly inattentive to, or in a grossly
negligent manner failed to competently perform, Executive's job duties and the
failure was not cured within 45 days after written notice from the Companies.
Any termination of the Executive's employment by the Companies for Cause
shall be communicated by a notice of termination (the "Notice of Termination")
to the Executive. The Notice of Termination shall be a written notice indicating
the specific termination provision of this Agreement relied upon and shall set
forth in reasonable detail the facts and circumstances claimed to provide a
basis for termination of the Executive's employment under this provision.
7. Non−Competition.
(a) In the event the Date of Termination occurs during the Initial
Term, the Executive (i) will be bound by and subject to any covenant not to
compete or noncompetition agreement with the Companies (or any of them) to which
the Executive was subject as of the Date of Termination (other than the
noncompetition agreement set forth in Section 7(b) hereof), or (ii) in the
alternative if the Executive is not subject to a covenant not to compete or
noncompetition agreement with the Companies (or any of them) as of the Date of
Termination (other than a covenant not to compete or noncompetition agreement
contained in an employee handbook or otherwise applicable to employees
generally) the Executive will be bound by and subject to the noncompetition
agreement set forth in subparagraph 7(b) of this Agreement. Upon
11
the expiration of the Initial Term, any and all covenants not to compete or
noncompetition agreements between the Executive and the Companies (or any of
them) then in effect shall be superseded by the noncompetition agreement set
forth in Section 7(b) hereof and the Executive and the Companies shall not be
bound by the provisions of any covenant not to compete or noncompetition
agreement other than the provisions of Section 7(b) hereof unless specifically
agreed to in a written document executed by the Executive and the Companies (or
any of them) after the Closing.
(b) In the event that either (i) the Date of Termination occurs during
the Initial Term and the provisions of Section 7(a)(ii) hereof are binding on
the Executive, or (ii) the Date of Termination occurs during a Renewal Term, the
Executive will not during the Restricted Period (herein defined):
(i) become employed by a competitor company at any location and
directly solicit or sell medical professional liability insurance to any
person or entity that was insured by any of the Companies within one year
prior to the Date or Termination, or directly provide services related to
medical professional liability insurance to any such person or entity; or
(ii) receive or earn compensation of any type directly arising
out of the purchase of medical professional liability insurance by any
person or entity that was insured by the Companies at any time within one
year prior to the Date of Termination;
or
(iii) solicit or induce any other employees of the Companies to
leave such employment or accept employment with any other person or entity,
or solicit or
12
induce any insurance agent of the Companies to offer, sell or market
medical professional liability insurance for a competitor company in the
primary market of the Companies.
"Competitor company" means an insurance company, insurance
agency, business, for profit or not for profit organization (other
than the Companies) that provides, or offers to provide medical
professional liability insurance to health care providers.
"Health care providers" means physicians, dentists, podiatrists,
physician assistants, nurse practitioners, other individual health
care providers and hospital and other institutional health care
providers.
"Medical professional liability insurance" means medical
malpractice insurance and reinsurance, and equivalent self−insured
services such as administration of self−insured trusts, claims
management services and risk management services for health care
providers. "Medical professional liability insurance" does not include
services provided as an employee of a health care provider if such
services are rendered solely for the purpose of servicing medical
professional liability risk of the employer or that of its employees.
"Primary market area" means any state in which the Companies
derived more than $5 million in direct written premiums from the sale
of medical professional liability insurance to health care providers
in the most recent complete fiscal year prior to the Date of
Termination.
"Restricted Period" means as applicable either (i) if the Date of
Termination occurs within the Initial Term, a period of 24 months from
such Date
13
of Termination; or (ii) if the Date of Termination occurs within a
Renewal Term, a period of 12 months from such Date of Termination.
"Employed" includes activities as an owner, proprietor, employee,
agent, solicitor, partner, member, manager, principal, shareholder
(owning more than 1% of the outstanding stock), consultant, officer,
director or independent contractor.
"Companies" means any company that is a subsidiary of
ProAssurance, now or in the future, and any other company that has
succeeded to the business of any of the Companies.
If the Executive is deemed to have materially breached the non−competition
covenants set forth in Section 7 of this Agreement, the Companies may, in
addition to seeking an injunction or any other remedy they may have, withhold or
cancel any remaining payments or benefits due to the Executive pursuant to
Section 2 of this Agreement. The Companies shall give prior or contemporaneous
written notice of such withholding or cancellation of payments in accordance
with Section 2 hereof. If the Executive violates any of these restrictions, the
Companies shall be further entitled to an immediate preliminary and permanent
injunctive relief, without bond, in addition to any other remedy which may be
available to the Companies.
Both parties agree that the restrictions in this Agreement are fair and
reasonable in all respects, including the geographic and temporal restrictions,
and that the benefits described in this Agreement, to the extent any separate or
special consideration is necessary, are fully sufficient consideration for the
Executive's obligations under this Agreement.
8. Confidentiality. Executive will remain obligated under any
confidentiality or nondisclosure agreement with the Companies (or any of them)
that is currently in effect or to
14
which the Executive may in the future be bound. In the event that the Executive
is at any time not the subject of a separate confidentiality or nondisclosure
agreement with the Companies (or any of them), Executive expressly agrees that
Executive shall not use for the Executive's personal benefit, or disclose,
communicate or divulge to, or use for the direct or indirect benefit of any
person, firm, association or company any confidential or competitive material or
information of the Companies or their subsidiaries, including without
limitation, any information regarding insureds or other customers, actual or
prospective, and the contents of their files; marketing, underwriting or
financial plans or analyses which is not a matter of public record; claims
practices or analyses which are not matters of public record; pending or past
litigation in which the Companies have been involved and which is not a matter
of public record; and all other strategic plans, analyses of operations,
computer programs, personnel information and other proprietary information with
respect to the Companies which are not matters of public record. Executive shall
return to the Companies promptly, and in no event later than the Date of
Termination, all items, documents, lists and other materials belonging to the
Companies or their subsidiaries, including but not limited to, credit, debit or
service cards, all documents, computer tapes, or other business records or
information, keys and all other items in the Executive's possession or control.
9. Release of Change of Control Agreement. In consideration of the
continued employment of the Executive by the Companies after the Change of
Control and the obligation of the Companies to pay the Executive Severance
Benefits as herein provided, the Executive hereby waives, releases and forever
discharges the Companies and each of their direct or indirect parents,
subsidiaries, affiliates and related entities, and all present or former
employees, officers, agents, directors or representatives of any of them, from
any and all claims, charges, suits, causes
15
of action, demands, expenses and compensation whatsoever, known or unknown,
direct or indirect, on account of or growing out of the Executive's Change of
Control Agreement, including, without limitation, the payment of severance
benefits as provided thereunder. Executive hereby further agrees that he will
not institute any suit or action at law, in equity or otherwise against the
Companies or any of their direct or indirect parents, subsidiaries, affiliates
and related entities, or the present or former employees, officers, agents,
directors, or representatives of any of them and their respective successors and
assigns, nor will the Executive ever institute, prosecute, or in any way aid in
the institutional prosecution of any claim, demand, action or cause of action
for damages, costs, expenses, penalties, fines, compensation or equitable
relief, for or on account of any damage, loss or injury to either person or
property or both, whether developed or undeveloped, resulting or to result,
known or unknown, which Executive ever had, now has, or which Executive or his
successors and assigns may in the future have against any of said persons in
connection with the Change of Control Agreement of the Executive.
The Executive acknowledges and agrees that Executive has been advised in
writing by this Agreement, and otherwise, to CONSULT WITH AN ATTORNEY before
Executive enters into this Agreement. The Executive agrees that the Executive
received and read a copy of this Agreement prior to executing the same.
10. Successors of ProAssurance. ProAssurance will require any successor
(herein defined) to assume expressly and agree to perform this Agreement in the
same manner and to the same extent that the Companies would be required to
perform this Agreement if no such succession had taken place. Failure of
ProAssurance to obtain such agreement prior to the effectiveness of any such
succession shall be a breach of this Agreement and shall entitle the
16
Executive to terminate employment for Good Reason and receive Severance Benefits
as provided in Section 2 hereof. Reference to the Companies in this Agreement
shall include any successor which assumes and agrees to perform this Agreement
by operation of law or otherwise.
The term "successor" means any Person, as defined by Section 3(a)(9) of the
Securities Exchange Act of 1934, as amended (the "Exchange Act") other than a
Person in control of the Companies immediately after completion of the Change of
Control, that either (i) becomes the Beneficial Owner, as defined by Rule 13d−3
of the General Rules and Regulations under the Exchange Act, directly or
indirectly, of the securities of ProAssurance representing more than 50.1% of
the combined voting power of the then outstanding securities of ProAssurance;
(ii) purchases or otherwise acquires substantially all of the assets of the
Companies such that the Companies cease to function on a going forward basis as
an insurance holding company system that provides medical professional liability
insurance; or (iii) survives a merger, consolidation or reorganization that
results in less than 50.1% of the combined voting power of ProAssurance or such
surviving entity being owned by stockholders of ProAssurance immediately
preceding such merger, consolidation or reorganization.
11. Notice. For purposes of this Agreement, notices and all other
communications provided for in this Agreement shall be in writing and shall be
deemed to have been duly given when delivered by hand or commercial courier or
mailed by certified or registered mail, return receipt requested, postage
prepaid, addressed to the respective addresses as set forth below or to such
other address as one party may have furnished to the other in writing in
accordance herewith.
17
Notice to the Executive:
Darryl K. Thomas or such more recent address as
ProNational Insurance Company may appear in the Companies'
2600 Professionals Drive employment records
Box 150
Okemos, MI 48805−0150
Notice to the Companies:
ProAssurance Corporation
Mailing Address:
P.O. Box 590009
Birmingham, Alabama 35259−0009
Street Address:
100 Brookwood Place
Birmingham, Alabama 35209
Attention: Chairman of the Board
12. Claims Procedure.
(a) The administrator for purposes of this Agreement shall be
ProAssurance ("Administrator"), whose address is 100 Brookwood Place,
Birmingham, Alabama 35209; Telephone: (205) 877−4400. The "Named Fiduciary" as
defined in Section 402(a)(2) or ERISA, also shall be ProAssurance. ProAssurance
shall have the right to designate one or more employees of the Companies as the
Administrator and the Named Fiduciary at any time, and to change the address and
telephone number of the same. ProAssurance shall give the Executive written
notice of any change in the Administrator and Named Fiduciary, or in the address
or telephone number of the same.
(b) The Administrator shall make all determinations as to the right of
any person to receive benefits under the Agreement. Any denial by the
Administrator of a claim for benefits by the Executive ("the claimant") shall be
stated in writing by the Administrator and delivered or mailed to the claimant
within ten (10) days after receipt of the claim, unless special circumstances
require an extension of time for processing the claim. If such an extension is
18
required, written notice of the extension shall be furnished to the claimant
prior to the termination of the initial 10−day period. In no event shall such
extension exceed a period of ten (10) days from the end of the initial period.
Any notice of denial shall set forth the specific reasons for the denial,
specific reference to pertinent provisions of this Agreement upon which the
denial is based, a description of any additional material or information
necessary for the claimant to perfect the claim, with an explanation of why such
material or information is necessary, and any explanation of claim review
procedures, written to the best of the Administrator's ability in a manner that
may be understood without legal or actuarial counsel.
(c) A claimant whose claim for benefits has been wholly or partially
denied by the Administrator may request, within ten (10) days following the
receipt of such denial, in a writing addressed to the Administrator, a review of
such denial. The claimant shall be entitled to submit such issues or comments in
writing or otherwise, as the claimant shall consider relevant to a determination
of the claim, and the claimant may include a request for a hearing in person
before the Administrator. Prior to submitting the request, the claimant shall be
entitled to review such documents as the Administrator shall agree are pertinent
to the claim. The claimant may, at all stages of review, be represented by
counsel, legal or otherwise, of the claimant's choice. All requests for review
shall be promptly resolved. The Administrator's decision with respect to any
such review shall be set forth in writing and shall be mailed to the claimant
not later than ten (10) days following receipt by the Administrator of the
claimant's request unless special circumstances, such as the need to hold a
hearing, require an extension of time for processing, in which case the
Administrator's decision shall be so mailed not later than twenty (20) days
after receipt of such request.
19
13. Arbitration. The parties to this Agreement agree that final and binding
arbitration shall be the sole recourse to settle any claim or controversy
arising out of or relating to a breach or the interpretation of this Agreement,
except as either party may be seeking injunctive relief. Either party may file
for arbitration. A claimant seeking relief on a claim for benefits, however,
must first follow the procedure in Section 12 hereof and may file for
arbitration within sixty (60) days following claimant's receipt of the
Administrator's written decision on review under Section 12(c) hereof, or if the
Administrator fails to provide any written decision under Section 12 hereof,
within 60 days of the date on which such written decision was required to be
delivered to the claimant as therein provided. The arbitration shall be held at
a mutually agreeable location, and shall be subject to and in accordance with
the arbitration rules then in effect of the American Arbitration Association;
provided that if the location cannot be agreed upon the arbitration shall be
held in either Atlanta, Georgia, or Chicago, Illinois, whichever location is
closer to the principal office where the Executive was employed on the Date of
Termination. The arbitrator may award any and all remedies allowable by the
cause of action subject to the arbitration, but the arbitrator's sole authority
shall be to interpret and apply the provisions of this Agreement. In reaching
its decision the arbitrator shall have no authority to change or modify any
provision of this Agreement or other written agreement between the parties. The
arbitrator shall have the power to compel the attendance of witnesses at the
hearing. Any court having jurisdiction may enter a judgment based upon such
arbitration. All decisions of the arbitrator shall be final and binding on the
parties without appeal to any court. Upon execution of this Agreement, the
Executive shall be deemed to have waived any right to commence litigation
proceedings regarding this Agreement outside of arbitration or injunctive relief
without the express consent of ProAssurance. The Companies shall pay all
arbitration fees and the
20
arbitrator's compensation. If the Executive prevails in the arbitration
proceeding, the Companies shall reimburse to the Executive the reasonable fees
and expenses of Executive's personal counsel for his or her professional
services rendered to the Executive in connection with the enforcement of this
Agreement.
14. Miscellaneous.
(a) Except insofar as this provision may be contrary to applicable
law, no sale, transfer, alienation, assignment, pledge, collateralization or
attachment of any benefits under this Agreement shall be valid or recognized by
the Companies.
(b) This Agreement is an unfunded deferred compensation arrangement
for a member of a select group of the Companies' management and any exemptions
under ERISA, as applicable to such arrangement, shall be applicable to this
Agreement. Nothing in this Agreement shall require or be deemed to require the
Companies or any of them to segregate, earmark or otherwise set aside any funds
or other assets to provide for any payments made or required to be made
hereunder.
(c) Nothing in this Agreement shall be deemed to create an employment
agreement between the Executive and the Companies or any of them providing for
Executive's employment for any fixed duration, nor shall it be deemed to modify
or undercut the Executive's at will employment status with the Companies.
(d) Neither the provisions of this Agreement nor the severance
benefits provided hereunder shall reduce any amounts otherwise payable, or in
any way diminish the Executive's rights as an employee of the Companies, whether
existing now or hereafter, under
21
any benefit, incentive, retirement, stock option, stock bonus or stock purchase
plan, or any employment agreement or other plan or arrangement.
(e) This Agreement sets forth the entire agreement between the parties
with respect to the matters set forth herein. This Agreement may not be modified
or amended except by written agreement intended as such and signed by all
parties.
(f) This Agreement shall benefit and be binding upon the parties and
their respective directors, officers, employees, representatives, agents, heirs,
successors, assigns, devisees, and legal or personal representatives.
(g) The Companies, from time to time, shall provide government
agencies with such reports concerning this Agreement as may be required by law,
and shall provide Executive with such disclosure concerning this Agreement as
may be required by law or as the Companies may deem appropriate.
(h) Executive and the Companies respectively acknowledge that each of
them has read and understand this Agreement, that they have each had adequate
time to consider this Agreement and discuss it with each of their attorneys and
advisors, that each of them understands the consequences of entering into this
Agreement, that each of them is knowingly and voluntarily entering into this
Agreement, and that they are each competent to enter into this Agreement.
(i) If any provision of this Agreement is determined to be
unenforceable, at the discretion of ProAssurance the remainder of this Agreement
shall not be affected but each remaining provision shall continue to be valid
and effective and shall be modified so that it is enforceable to the fullest
extent permitted by law. Moreover, in the event this Agreement is
22
determined to be unenforceable against any of the Companies, it shall continue
to be valid and enforceable against the other Companies.
(j) This Agreement will be interpreted as a whole according to its
fair terms. It will not be construed strictly for or against either party.
(k) Except to the extent that federal law controls, this Agreement is
to be construed according to Michigan law.
IN WITNESS WHEREOF, the parties have duly executed this Agreement as
of this 27TH day of JUNE, 2001.
EXECUTIVE:
/s/ Darryl K. Thomas
−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
Darryl K. Thomas
PROASSURANCE CORPORATION
By: /s/ A Derrill Crowe
−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
Its: Chairman
PRONATIONAL INSURANCE COMPANY
By: /s/ Victor T Adamo
−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
Its: President
PROFESSIONALS GROUP, INC.
By: /s/ Victor T Adamo
−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
Its: President
23
RELEASE IN CONJUNCTION WITH SEVERANCE COMPENSATION
This Release of Claims ("Release") is between ProAssurance Corporation
("ProAssurance"), ProNational Insurance Company, Professionals Group, Inc., and
any successor company that has assumed the Agreement to which this Release was
an attachment (all such organizations being referred to in this Release as the
"Companies") and Darryl K. Thomas ("Executive").
The Companies and Executive have agreed to terminate their employment
relationship. To effect an orderly termination, the Executive, and the Companies
are entering into this Release.
1. For the purposes of this Release, "Date of Termination" is the effective
date of Executive's termination of employment from Companies. Executive hereby
waives any and all rights Executive may otherwise have to continued employment
with or re−employment by the Companies or any parent, subsidiary or affiliate of
Companies.
2. Effective with the Date of Termination, Executive is relieved of all
duties and obligations to the Companies, except as provided in this Release or
any applicable provisions of the Change of Control Agreement between Companies
and Executive, effective as of June 27, 2001 ("Agreement"), which survive
termination of the employment relationship.
3. Executive agrees that this Release and its terms are confidential and
shall not be disclosed or published directly or indirectly to third persons,
except as necessary to enforce its terms, by Executive or to Executive's
immediate family upon their agreement not to disclose the fact or terms of this
Release, or to Executive's attorney, financial consultant or accountant, except
that Executive may disclose, as necessary, the fact that Executive has
terminated Executive's employment with the Companies.
4. Any fringe benefits that Executive has received or currently is
receiving from the Companies or its affiliates shall cease effective with the
Date of Termination, except as otherwise provided for in this Release, in the
Agreement or by law.
5. The parties agree that the terms contained and payments provided for in
the Agreement are compensation for and in full consideration of Employee's
release of claims under this Release, and Executive's confidentiality,
non−compete, non−solicitation and non−disclosure agreements contained in the
Agreement.
6. The Executive shall be under no duty or obligation to seek or accept
other employment and shall not be required to mitigate the amount of the
Severance Benefits (as defined and provided under the Agreement) by seeking
employment or otherwise, provided, however, that the Executive shall be required
to notify the Companies if the Executive becomes covered by a health or dental
care program providing substantially similar coverage, at which time health or
dental care continuation coverage provided under the Agreement shall cease.
24
7. Executive waives, releases, and forever discharges the Companies and
each of their direct or indirect parents, subsidiaries, affiliates, and any
partnerships, joint ventures or other entities involving or related to any of
the Companies, their parents, subsidiaries or affiliates, and all present or
former employees, officers, agents, directors, successors, assigns and attorneys
of any of these corporations, persons or entities (all collectively referred to
in this Release as the "Released") from any and all claims, charges, suits,
causes of action, demands, expenses and compensation whatsoever, known or
unknown, direct or indirect, on account of or growing out of Executive's
employment with and termination from the Companies, or relationship or
termination of such relationship with any of the Released, or arising out of
related events occurring through the date on which this Release is executed.
This includes, but is not limited to, claims for breach of any employment
contract; handbook or manual; any express or implied contract; any tort;
continued employment; loss of wages or benefits; attorney fees; employment
discrimination arising under any federal, state, or local civil rights or
anti−discrimination statute, including specifically any claims Executive may
have under the federal Age Discrimination in Employment Act, as amended, 29 USC
Sections 621, et seq.; emotional distress; harassment; defamation; slander; and
all other types of claims or causes of action whatsoever arising under any other
state or federal statute or common law of the United States.
8. The Executive does not waive or release any rights or claims that may
arise under the federal Age Discrimination in Employment Act, as amended, after
the date on which this Release is executed by the Executive.
9. The Executive acknowledges and agrees that Executive has been advised in
writing by this Release, and otherwise, to CONSULT WITH AN ATTORNEY before
Executive executes this Release.
10. The Executive agrees that Executive received a copy of this Release
prior to executing the Agreement, that this Release incorporates the Companies'
FINAL OFFER; that Executive has been given a period of at least twenty−two (22)
calendar days within which to consider this Release and its terms and to consult
with an attorney should Executive so elect.
11. The Executive shall have seven (7) calendar days following Executive's
execution of this Release to revoke this Release. Any revocation of this Release
shall be made in writing by the Executive and shall be received on or before the
time of close of business on the seventh calendar day following the date of the
Employee's execution of this Release at ProAssurance's address at 100 Brookwood
Place, P. O. Box 590009, Birmingham, Alabama 35259−0009, Attention: Chairman, or
such other place as the Companies may notify Executive in writing. This Release
shall not become effective or enforceable until the eighth (8th) calendar day
following the Executive's execution of this Release.
12. Executive and the Companies acknowledge that they have read and
understand this Release, that they have had adequate time to consider this
Release and discuss it with their attorneys and advisors, that they understand
the consequences of entering into this Release, that they are knowingly and
voluntarily entering into this Release, and that they are competent to enter
into this Release.
25
13. This Release shall benefit and be binding upon the parties and their
respective directors, officers, employees, agents, heirs, successors, assigns,
devisees and legal or personal representatives.
14. This Release, along with the attached Agreement, sets forth the entire
agreement between the parties at the time and date these documents are executed,
and fully supersedes any and all prior agreements or understandings between them
pertaining to the subject matter in this Release. This Release may not be
modified or amended except by a written agreement intended as such, and signed
by all parties.
15. Except to the extent that federal law controls, this Release is to be
construed according to the law of the state of Michigan.
16. If any provision of this Release is determined to be unenforceable, at
the discretion of ProAssurance the remainder of this Release shall not be
affected but each remaining provision or portion shall continue to be valid and
effective and shall be modified so that it is enforceable to the fullest extent
permitted by law.
17. To signify their agreement to the terms of this Release, the parties
have executed it on the date set forth opposite their signatures, or those of
their authorized agents, which follow.
EXECUTIVE
Dated:
−−−−−−−−−−−−−−−−−−− −−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
Darryl K. Thomas
PROASSURANCE CORPORATION
Dated: By:
−−−−−−−−−−−−−−−−−−− −−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
Its:
−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
PROFESSIONALS GROUP, INC.
Dated: By:
−−−−−−−−−−−−−−−−−−− −−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
Its:
−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
PRONATIONAL INSURANCE COMPANY
Dated: By:
−−−−−−−−−−−−−−−−−−− −−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
Its:
−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
26
EXHIBIT 21.1
SUBSIDIARIES OF PROASSURANCE CORPORATION
Medical Assurance, Inc. (Delaware)
The Medical Assurance Company, Inc. (Alabama)
IAO, Inc. (Alabama)
Woodbrook Casualty Insurance Company, Inc. (Alabama)
Medical Insurance of Indiana Agency, Inc. (Indiana)
Mutual Assurance Agency of Ohio, Inc. (Ohio)
NCRIC Corporation (Delaware)
NCRIC Physicians Organization, Inc. (District of Columbia)
NCRIC, Inc. (District of Columbia)
American Captive Corporation (District of Columbia)
National Capital Insurance Brokerage Ltd. (District of Columbia)
National Capital Risk Services LLC (Nevada)
NCRIC Insurance Agency, Inc. (District of Columbia)
Healthcare Compliance Purchasing Group, LLC (District of Columbia)
E−Health Solutions Group, Inc. (Delaware)
ProAssurance Group Services Corporation (Alabama)
Professionals Group Inc. (Michigan)
American Insurance Management Corporation (Indiana)
ProNational Insurance Agency, Inc. (Michigan)
Professionals Group Services Corporation (Michigan)
Professionals National Insurance Company, Ltd. (Bermuda)
PRA Services Corporation (Michigan)
Physicians Protective Plan, Inc. (Florida)
ProNational Insurance Company (Michigan)
Red Mountain Casualty Insurance Company (Alabama)
MEMH Holdings, Inc. (Michigan)
MEEMIC Insurance Company (Michigan)
MEEMIC Insurance Services Corporation (Michigan)
EXHIBIT 23.1
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We consent to the incorporation by reference in the following Registration
Statements of our reports dated February 27, 2006, with respect to the
consolidated financial statements and schedules of ProAssurance Corporation,
ProAssurance Corporation management's assessment of the effectiveness of
internal control over financial reporting, and the effectiveness of internal
control over financial reporting of ProAssurance Corporation, included in this
Annual Report (Form 10−K) for the year ended December 31, 2005:
Form S−3 No. 333−109972 pertaining to the registration of $107,600,000
convertible senior debentures and ProAssurance Corporation shares of
common stock under this shelf registration;
Form S−8 No. 333−111136 pertaining to the Amended and Restated
ProAssurance Corporation Stock Ownership Plan;
Form S−8 No. 333−81444 pertaining to the ProAssurance Corporation
Incentive Compensation Stock Plan;
Form S−8 No. 333−119917 pertaining to the ProAssurance Corporation 2004
Equity Incentive Plan;
Post−Effective Amendment No. 1 to Form S−4 on Form S−8 File No. 333−49378
pertaining to the Medical Assurance, Inc. Incentive Compensation Stock
Plan and Professionals Group, Inc. 1996 Long Term Stock Incentive Plan
assumed by ProAssurance Corporation;
Form S−4 No. 333−124156 pertaining to the registration of 2,000,000 common
shares in connection with the NCRIC Group, Inc. purchase transaction;
Form S−4 No. 333−131874 relating to the registration of 2,480,050 common
shares in connection with the proposed Physicians Insurance Company of
Wisconsin, Inc. transaction.
/s/ Ernst & Young
Birmingham, Alabama
February 27, 2006
Exhibit 31.1
CERTIFICATION
I, A. Derrill Crowe, certify that:
1. I have reviewed this report on Form 10−K of ProAssurance Corporation;
2. Based on my knowledge, this report does not contain any untrue statement of a
material fact or omit to state a material fact necessary to make the statements
made, in light of the circumstances under which such statements were made, not
misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a−15(e) and 15d−15 (e)) and internal control over financial
reporting (as defined in Exchange Act Rules 13a−15(f) and 15d−15(f)) for the
registrant and have:
a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
b) Designed such internal control over financial reporting, or caused
such internal control over financial reporting to be designed under our
supervision, 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;
c) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
d) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on our
most recent evaluation of internal control over financial reporting, to the
registrant's auditors and the audit committee of registrant's board of directors
(or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: February 28, 2005
/s/ A. Derrill Crowe, M.D.
−−−−−−−−−−−−−−−−−−−−−−−−−−
A. Derrill Crowe, M.D.
Chief Executive Officer
Exhibit 31.2
CERTIFICATIONS
I, Edward L. Rand, Jr., certify that:
1. I have reviewed this report on Form 10−K of ProAssurance Corporation;
2. Based on my knowledge, this report does not contain any untrue statement of a
material fact or omit to state a material fact necessary to make the statements
made, in light of the circumstances under which such statements were made, not
misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a−15(e) and 15d−15 (e)) and internal control over financial
reporting (as defined in Exchange Act Rules 13a−15(f) and 15d−15(f)) for the
registrant and have:
a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
b) Designed such internal control over financial reporting, or caused
such internal control over financial reporting to be designed under our
supervision, 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;
c) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
d) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on our
most recent evaluation of internal control over financial reporting, to the
registrant's auditors and the audit committee of registrant's board of directors
(or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: February 28, 2005
/s/ Edward L. Rand, Jr.
−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−−
Edward L. Rand, Jr.
Chief Financial Officer
Exhibit 32.1
A signed original of this written statement required by Section 906 has been
provided to ProAssurance Corporation and will be retained by ProAssurance
Corporation and furnished to the Securities and Exchange Commission or its staff
upon request.
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES−OXLEY ACT OF 2002
In connection with the Annual Report of ProAssurance Corporation (the "Company")
on Form 10−K for the year ending December 31, 2005 as filed with the Securities
and Exchange Commission on the date hereof (the "Report"), I, A. Derrill Crowe,
M.D., Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes−Oxley Act of
2002, that:
(1) The Report fully complies with the requirements of Section 13(a) of
the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all
material respects, the financial condition and result of operations of the
Company.
/s/ A. Derrill Crowe, M.D.
−−−−−−−−−−−−−−−−−−−−−−−−−−
A. Derrill Crowe, M.D.
Chief Executive Officer
February 28, 2005
Exhibit 32.2
A signed original of this written statement required by Section 906 has been
provided to ProAssurance Corporation and will be retained by ProAssurance
Corporation and furnished to the Securities and Exchange Commission or its staff
upon request.
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES−OXLEY ACT OF 2002
In connection with the Annual Report of ProAssurance Corporation (the "Company")
on Form 10−K for the year ending December 31, 2005 as filed with the Securities
and Exchange Commission on the date hereof (the "Report"), I, Edward L. Rand,
Jr., Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes−Oxley Act of
2002, that:
(1) The Report fully complies with the requirements of Section 13(a) of
the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all
material respects, the financial condition and result of operations of the
Company.
/s/ Edward L. Rand, Jr.
−−−−−−−−−−−−−−−−−−−−−−−
Edward L. Rand, Jr.
Chief Financial Officer
February 28, 2005
_______________________________________________
Created by 10KWizard www.10KWizard.com
DIRECTORS
MANAGEMENT DIRECTORS
A. Derrill Crowe, M.D.
POSITION
Chairman & Chief Executive Officer, ProAssurance
COMMITTEES
Executive (Chairman)
Victor T. Adamo, Esq., C.P.C.U.
Vice-Chairman & Chief Operating Officer, ProAssurance
Executive
Paul R. Butrus
Vice-Chairman, ProAssurance
Executive
INDEPENDENT DIRECTORS
Lucian Bloodworth
POSITION
Chairman, Cain Manufacturing Company, Inc.
COMMITTEES
Audit
Robert E. Flowers, M.D.
Retired Physician
John J. McMahon, Jr.
Chairman, Ligon Industries
Compensation (Chairman), Executive,
Nominating & Corporate Governance
Compensation, Nominating &
Corporate Governance (Chairman)
John P. North, Jr., C.P.A.
Retired Accounting Firm Partner
Audit (Chairman)
Ann F. Putallaz, Ph.D.
Vice-President, Munder Capital Management
Audit
William H. Woodhams, M.D.
Practicing Physician
Nominating & Corporate Governance
Wilfred W. Yeargan, M.D.
Practicing Physician
Compensation
SENIOR OFFICERS
Jeffrey L. Bowlby, A.R.M.
Chief Marketing Officer, Professional Liability Group
Senior Vice-President, ProAssurance
Howard H. Friedman, A.C.A.S., M.A.A.A.
Co-President and Chief Underwriting Officer, Professional Liability Group
Senior Vice-President, ProAssurance
Jeffrey P. Lisenby, Esq.
James J. Morello, C.P.A.
Frank B. O’Neil
Edward L. Rand, Jr., CPA
Darryl K. Thomas, Esq.
Corporate Secretary and General Counsel
Vice President, ProAssurance
Chief Accounting Officer and Treasurer
Senior Vice-President, ProAssurance
Communications Officer
Senior Vice-President, ProAssurance
Chief Financial Officer
Senior Vice-President, ProAssurance
Co-President and Chief Claims Officer, Professional Liability Group
Senior Vice-President, ProAssurance
INVESTOR INFORMATION
There were 31,193,819 shares of ProAssurance Corporation common
stock outstanding at March 31, 2006. On that date, we had 3,573
shareholders of record. Our common stock trades on The New York
Stock Exchange under the symbol PRA. Our stock is listed as ProAsr
in the stock section of USA Today and many major newspapers, and
as ProAssurance in the Wall Street Journal. We also post the price of
our stock on our website, www.ProAssurance.com.
If you hold your shares through a brokerage account, your broker or a
customer service representative at that firm should be able to answer
questions about your holdings.
If you hold your shares in certificate form, or have shares held in direct
registration (DRS) you will need to know that our transfer agent is Mellon
Investor Services, LLC. The transfer agent handles shareholder address
changes, the transfer of certificates, and the replacement of share
certificates that have been lost or stolen.
You may reach Mellon Investor Services in a variety of ways:
BY PHONE
800.851.4218
800.231.5469 (Hearing Impaired)
BY INTERNET
www.melloninvestor.com/isd/
Specific information about your account
BY MAIL
www.melloninvestor.com
General information about Mellon
Mellon Investor Services, LLC
P.O. Box 3315
South Hackensack, NJ 07606
Mellon Investor Services, LLC
480 Washington Boulevard
Jersey City, NJ 07310-1900
CORPORATE GOVERNANCE AND COMPLIANCE WITH REGULATORY
AND NEW YORK STOCK EXCHANGE REQUIREMENTS
We post detailed information in the Corporate Governance and Investor
Relations sections of our website, which you may access from our home
page, www.ProAssurance.com.
Our Board of Directors has adopted a policy regarding determination
of director independence, including categorical standards to assist in
determining independence. These are published in our proxy statement
which is mailed to stockholders and filed with the Securities and
Exchange Commission (the “SEC”). Our filings with the SEC are
available in the Investor Relations section of our website,
www.ProAssurance.com/ir_home.aspx, and from the EDGAR
section of the SEC’s website, www.sec.gov/edgar.shtml.
Our Board of Directors has adopted charters for our Audit, Compensation,
and Nominating/Corporate Governance Committees. In addition the
Board has established and adopted Corporate Governance Principles
and a Code of Ethics and Conduct. We make these documents, and
other information such as committee composition and leadership,
director independence, and stock ownership guidelines available in the
Governance section of our website, www.ProAssurance.com/ir_home.aspx.
Our Chairman and Chief Executive Officer, A. Derrill Crowe, M.D., submitted
the required Section 12(a) CEO Certification to the New York Stock
Exchange in a timely manner on June 14, 2005. Additionally, we have
been timely in the filing of CEO/CFO certifications as required in Section
302 of the Sarbanes-Oxley Act. These certifications are published as
exhibits in our Form 10K filed with the SEC on March 2, 2006.
INVESTOR RELATIONS
The Investor Relations section of our website also contains detailed
financial information, SEC filings, the latest news releases about the
Company, and our latest presentation materials. We also maintain
an archive of this material, although you should realize that archived
information, by its very nature, may no longer be accurate.
OBTAINING INFORMATION DIRECTLY FROM PROASSURANCE
Any of the documents mentioned above may be obtained from the
Company’s Communications and Investor Relations Department using
one of the contact methods below:
BY E-MAIL:
Investor@ProAssurance.com
BY U. S. POSTAL SERVICE:
ProAssurance Corporation
Investor Relations & Communications
P. O. Box 590009
Birmingham, AL 35259-0009
BY PHONE OR FAX:
Phone:
Fax:
205.877.4400
800.282.6242
205.802.4799
ANNUAL MEETING
The Annual meeting of Stockholders of ProAssurance Corporation will be
held at 10:00 am CDT on Wednesday, May 17, 2006, at the headquarters
of ProAssurance Corporation, located at 100 Brookwood Place,
Birmingham, AL 35209.
100 BROOKWOOD PLACE
BIRMINGHAM, ALABAMA 35209
205.877.4400
800.282.6242
WWW.PROASSURANCE.COM