ensure
“For a physician, it’s devastating to be sued, particularly
when you know you’ve done nothing wrong. ProAssurance is
sensitive to that. They make you feel the way you want your
patients to feel—like you are in good hands.“
Paul Elliott, M.D.
Anesthesiologist
Birmingham, Alabama
PROASSURANCE
2006 ANNUAL REPORT
PROASSURANCE SELECTED FINANCIAL DATA (in thousands)
2006
2005
2004
2003
2002
$578,983
737,598
126,984
$572,960
647,950
80,026
$573,592
607,557
43,043
$543,323
535,841
15,345
$461,715
402,101
(8,100)
Income Statement Highlights
Gross premiums written (4)
Total revenues (4)
Income (loss) from continuing
operations, net of tax, before cumu-
lative effect of accounting change
Net income (2)
236,425
113,457
72,811
38,703
12,207
Balance Sheet Highlights
Total investments (4)
Total assets, continuing operations
Total assets
Reserve for losses and loss
adjustment expenses (4)
Long-term debt (4)
$3,492,098
$4,342,853
$4,342,853
$2,607,148
$2,614,319
$3,341,600
$3,909,379
$2,224,436
$2,145,609
$2,743,295
$3,239,198
$1,818,636
$1,792,323
$2,448,088
$2,879,352
$1,634,749
$1,446,342
$2,214,564
$2,586,650
$1,492,140
Total liabilities, continuing operations
$179,177
$3,224,306
$167,240
$2,806,820
$151,480
$2,333,405
$104,789
$2,074,560
$72,500
$1,854,573
book value
per share(3)
stockholders’ equity
(in millions)
total assets
(in millions)
34
25
21
19
17
611
546
505
1,119
765
4,343
3,909
3,239
2,879
2,587
02
03
04
05
06
02
03
04
05
06
02
03
04
05
06
(1) Includes acquired entities since date of acquisition, only. PIC Wisconsin was acquired on August 1, 2006. NCRIC Corporation
was acquired on August 3, 2005.
(2) Net income for the year ended December 31, 2002 was increased by $1.7 million ($.0.07 per basic and diluted share) due to the
cumulative effect of adopting SFAS 141 and SFAS 142.
(3) Total capital per share of common stock outstanding.
(4) Excludes Discontinued Operations.
At ProAssurance, we do more than insure our customers against
professional liability. We ensure that our customers are able
to thrive, even in today’s complex health care environment.
There are three simple reasons why ProAssurance has grown
to become the fourth largest professional liability insurer in
the medical industry. We are financially strong; we manage our
business so that we’re able to fulfill our promises—now and in
insure to ensure
the future. We vigorously defend our customers against claims
without merit while seeking reasonable settlement in those
cases where there is negligence. And finally, we see superior
customer service as a business advantage for us and our
customers. It’s not about how we answer the phone. It’s about
how we help free our customers to care for their patients, instead
of worrying about their insurance company.
A SOUND APPROACH IN A COMPLEX BUSINESS
Our approach ensures that we are able to serve both
our customers and our shareholders effectively.
TO MY FELLOW SHAREHOLDERS
expansion and mergers & acquisitions. The challenge for us
is to maintain our focus with a proven, successful strategy as
these events unfold. And to be frank, the challenge for our
shareholders is to have patience and understand that we will
maintain an equal focus on creating stockholder value, as we
have throughout the market cycles in our industry.
This past year provides an excellent example of our
dedication to executing a sound fundamental strategy.
Net Income more than doubled from 2005 to 2006.
Even subtracting the one-time gain from the sale of
A. Derrill Crowe, M.D.
Chairman and C.E.O.
I am convinced that most insurance
MEEMIC Insurance, our Personal Lines business, Net
executives are lousy students of history.
Income from Continuing Operations was up 59%.
I base this on the axiom that those
Earnings per Fully Diluted Share were up 94%. Again,
who forget the past are doomed to
even subtracting the gain from the sale of MEEMIC, Earn-
repeat it. And even with the mistakes
ings per Fully Diluted Share were up 48%.
that led to the last soft market fresh
Gross Premiums were up one percent in a year when
in our collective minds, malpractice
others in our line of business were reporting premium
insurers seem to have already forgot-
decreases. This increase is directly attributable to our acqui-
ten many hard-learned lessons.
sitions of NCRIC and Physicians Insurance Company of
Given the long-term view that we
Wisconsin (PIC Wisconsin)—further validating our strategy
at ProAssurance take of our indus-
of growth through intelligent M & A.
try, we believe this sets the stage for
Book Value grew 37%, aided by increases from the
another round of opportunities in
sale of MEEMIC, the acquisition of PIC Wisconsin, and
the coming years, both for business
sustained organic growth from continuing operations.
2
insure to ensure
Our Combined Ratio improved to 94.2%, the result of
and enhance our bottom line. However,
years of attention to rate adequacy and stringent underwriting.
because acquisitions made simply for
Stockholders’ Equity topped one billion dollars during
the sake of completing a transaction
the year, and our market cap increased by $148 million.
have proven to be disastrous, it may be
In all, 2006 was a gratifying year in almost every
some time before the right candidate
way—the lack of an increase in our share price is perhaps
appears. It’s instructive to note that
the only negative for stockholders. We understand that there
we’ve passed up far more opportunities
are short-term solutions that can apply a cosmetic fi x and
than we’ve pursued since 2001.
artifi cially boost the stock price, but we have learned over the
As we see the resurrection of some
long term that those who apply a short-term mentality to our
disturbing business trends from less
“long tail” line of business rarely achieve lasting success. Our
disciplined competitors, I’m pleased
actions will be measured, and designed to enhance both bal-
to report that our combination of
ance sheet strength and stockholder value.
intensive customer service and unques-
Since the inception of our public company in 1991, our
tioned balance sheet safety continues
stockholders have enjoyed an annualized return of 18%, or
to resonate with our insureds and our
a total return of 1,112%. Since the creation of ProAssurance
agents, some of whom you’ll hear from
by the combination of Medical Assurance and Professionals
in this report.
Group in 2001, the returns have been equally rewarding:
The companies that are ProAssurance
189% total return, annualized to 21%.
today were at one time all policyholder-
The moral of the story is that our long-term stockholders
have prospered, and our customers have enjoyed the benefi ts
Since the inception of our public
of being insured by one of the largest, most stable insurers in a
company in 1991, our stockholders have
business fraught with peril for those who try to take shortcuts.
enjoyed an annualized return of 18%,
So we look ahead to 2007 and beyond, understanding
or a total return of 1,112%.
the need to deploy our capital prudently and ensure that the
business model upon which our success has been built is
founded and policyholder-controlled.
refi ned and advanced.
We understand the need for a con-
As to the issue of capital, we are constantly evaluating the
nection with our policyholders; we
best use of our capital. Rest assured we plan to be responsible
expanded our face-to-face outreach to
with the capital we have generated. Our preferred use contin-
our insureds in 2006, and will do more
ues to be intelligent growth through M & A, and our success
in 2007.
in integrating NCRIC and initiating the integration of PIC
Our Regional Advisory Boards and
Wisconsin in 2006 help show how selective acquisitions can
the Claims and Underwriting Commit-
broaden our business reach, deepen our management bench
tees in 16 key states bring more than
3
350 medical leaders into contact with
to defend them against non-meritorious claims, and our
our most senior executives throughout
ability to settle those cases in which there is true merit.
the year. We added four states to our
Our Risk Management programs are being refined and
meeting schedule in 2006 and will add
refocused as we bring new resources and vigor to our risk
more in 2007. We expect to surpass 150
management team. The scope of our in-person seminars is
meetings with leadership physicians in
expanding, and we are leveraging the power of the computer
2007. These leaders will share our story
and the internet to make more risk management offerings
and philosophy with their colleagues
available in ways that are responsive to time-stressed in-
sureds. We believe our risk management efforts will result in
...by focusing on how we deliver value
face-to-face interactions with more than half our insureds in
to our insureds and stockholders
the coming year, with thousands more utilizing our electronic
today, we are preparing ProAssurance
risk management offerings.
to succeed in the future.
We are updating and refining the winning strategies that
built ProAssurance. Our experienced management team is
and enhance the local knowledge of
leading a dedicated and enthusiastic group of employees
ProAssurance employees—both key
who understand that by focusing on how we deliver value
drivers in our overall success.
to our insureds and shareholders today, we are preparing
Understanding each locality in which
ProAssurance to succeed in the future. History tells us there
we operate is among the most important
will be opportunities, and experience tells us we will be well
facets of our operations. Our knowledge
prepared to take advantage of them when they occur.
of practice patterns and evolving trends
We thank you for the confidence you show in ProAssurance
throughout our 26-state footprint enables
by investing with us, and we invite you to stick with us as
us to be better underwriters. We believe
we map plans for a successful future.
better underwriting is among the reasons
why the number of claims has fallen for
the second year in a row.
Local knowledge is put to its
greatest use in our claims department.
A. Derrill Crowe, M.D.
Though the number of claims has
Chairman and C.E.O.
dropped in the past two years, almost
70% of those filed continue to lack
merit—those abandoned by plaintiffs
or dismissed somewhere in the legal
process. As you’ll read in this report,
our insureds value our corporate will
4
“I’ve been an agent for ProAssurance since the mid-1990s. The way they
treat people inspires loyalty—and in this business that’s quite unusual.
They work hard to make the process of insuring someone simple. They are
professional and personal in what they do, they make my job easier.”
Connie Calbeck
Agent
Aon Risk Services of Illinois
“I’ve represented physicians in court for ProAssurance
for many, many years. In every trial, they give me all the
support necessary to defend my clients. Their claims
consultants are top notch; the level of expertise within the
company is exceptional. I know my clients appreciate all
that ProAssurance brings to the table.”
Paul Manion
Partner
Rutledge, Manion, Rabaut, Terry & Thomas, P.C.
DEFENDING THE
PRACTICE OF MEDICINE
Insurance is a tough business; medical malpractice insurance is particularly so.
The nature of our business puts a premium on discipline, patience and perseverance.
While many businesses operate in a series of sprints, we are running a marathon.
Financial security is the only way we can fulfill our promises.
long-term value, add to our manage-
ProAssurance has grown to be the fourth largest provider in
ment expertise and intelligently add to
the medical malpractice industry. So what separates us from
our footprint.
our competition? First, we are students of our own
history. We’ve survived the never-ending cycles inherent in
We provide the strong defense our
our industry through carefully controlled underwriting,
customers demand.
assertive claims advocacy on behalf of our insureds, financial
ProAssurance is known for its strong
discipline and sound business combinations.
defense philosophy, willing to defend in-
Our prudent approach is designed to ensure that we have
sureds against claims without merit while
the financial strength to fulfill our obligations to our insureds
reaching reasonable settlements in those
years into the future. Too often, companies with a short-term
cases where there is true negligence.
mentality are crippled during the tougher years. The chaos
that follows often creates acquisition opportunities, which we
study with great care. Being prudent, we move only when the
conditions align in our favor, but we are constantly searching
the competitive landscape for ways to enhance our
Our prudent approach is designed to
ensure that we have the financial
strength to fulfill our obligations.
7
...the consistency of our service
remains one of the defining
characteristics of our company.
The expertise to help manage risk
To our insureds, time is a precious commodity. There is rarely
enough of it in which to manage a practice or a business,
much less to stay ahead of the ever-changing facets of risk
It’s a reputation we’ve earned in
inherent in health care.
courtrooms across the country, and a
That’s why service is such a critical component to our
reputation that our insureds depend
business. Our customers don’t define service as the way we
on everyday. In 2006, we tried 725
answer the phone. Instead, they turn to us because we provide
files to a jury outcome, a commit-
sound thinking and practical ideas for discovering and
ment to our insureds that we believe is
managing the risks that evolve as their practice changes.
unmatched in our industry. But with
At ProAssurance, service is not limited to a single depart-
68% of the claims we closed last year
ment or product—it’s a mindset that permeates our entire
being dropped or dismissed by the
organization. We’ve organized our business to put us closer to
plaintiff, it’s clear that frivolous litiga-
our customers, so that we can respond more quickly and more
tion is still a problem that requires a
appropriately to their specific needs. Our focused local pres-
tough defense.
ence fosters long-term customer relationships, while giving us
We hear it often, in the words of
greater knowledge crucial to understanding the medical/legal
our own customers—they value an
environments in which we operate. The consistency of our
insurer who will go to the mat for
service remains one of the defining characteristics of
them. ProAssurance is that company.
our company.
8
“ProAssurance, in my way of thinking, is an old friend. They’ve
insured my practice for 12 years and we’ve experienced the good
times and the lean years together. They listen to practitioners in
the trenches and they never fail to treat their customers as indi-
viduals, not as accounts. It’s a difference I appreciate.”
James Brown, M.D.
OB/GYN
Martinsburg, West Virginia
“ProAssurance does three things very well. Their people help
us avoid most claims in the first place through expert risk
management. When claims do occur, their analysis of all
aspects of the claim is thorough and professional. And should
a claim go to court, their attorneys are among the best in the
business. We’ve been very happy customers.”
Ron Owen
C.E.O., Southeast Medical Center
Dothan, Alabama
At ProAssurance, our approach to the business, our willingness
to fight for what our insureds believe in and our dedication to
delivering on our promises helps ensure that we meet and exceed
the expectations of our insureds and our shareholders.
United States
Securities and Exchange Commission
Washington, D.C. 20549
FORM 10-K
(Mark One)
X
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, 2006, 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)
63-1261433
(I.R.S. Employer Identification No.)
100 Brookwood Place, Birmingham, AL
(Address of principal executive offices)
35209
(Zip Code)
(205) 877-4400
(Registrant's Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, par value $0.01 per share
Title of Each Class
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 X
No
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
No X
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 X
No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not
contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ X ]
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 X Accelerated Filer
Non-Accelerated Filer
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act. Yes
No X
The aggregate market value of voting stock held by non-affiliates of the registrant at June 30, 2006 was
$1,503,008,007.
As of February 15, 2007, the registrant had outstanding approximately 33,281,390 shares of its common
stock.
Exhibit Index at page 114
Page 1 of 118 pages
Documents incorporated by reference in this Form 10-K
(i)
(ii)
(iii)
(iv)
(v)
(vi)
(vii)
(viii)
(ix)
(x)
(xi)
(xii)
(xiii)
(xiv)
(xv)
(xvi)
(xvii)
(xviii)
(xix)
The definitive proxy statement for the 2007 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.
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.
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 Corporation Definitive Proxy Statement filed on April 16, 2004 (File No. 001-
16533) is incorporated by reference into Part IV of this report.
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.
The Registration Statement of Form S-4 of ProAssurance Corporation (File No. 333-124156) is
incorporated by reference in Part IV of this report.
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.
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.
The ProAssurance Corporation Current Report on Form 8-K for event occurring on November 4,
2005 (File No. 001-16533) is incorporated by reference into Part IV of this report.
The Registration Statement of Form S-4 of ProAssurance Corporation (File No. 333-131874) is
incorporated by reference in Part IV of this report.
The ProAssurance Corporation Annual Report on Form 10-K for the year ended December 31,
2005 is incorporated by reference in Part IV of this report.
The ProAssurance Corporation Current Report on Form 8-K for event occurring on May 17, 2006
(File No. 001-16533) is incorporated by reference into Part IV of this report.
The ProAssurance Corporation Quarterly Report on Form 10-Q for the quarter ended September
30, 2006 (Commission File No. 001-16533) is incorporated by reference into Part IV of this report.
The ProAssurance Corporation Current Report on Form 8-K for event occurring on September 13,
2006 (File No. 001-16533) is incorporated by reference into Part IV of this report.
2
ITEM 1. BUSINESS.
General / Corporate Overview
PART I
We are a holding company for 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 Home Page on 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, on our website, we make available 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
and operations.
The Governance section of our website provides copies of the Charters for our Audit
Committee, Internal Audit department, Compensation Committee and Nominating/Corporate
Governance Committee. In addition you will find our Code of Ethics and Conduct, Corporate
Governance Principles, Policy Regarding Determination of Director Independence and Share
Ownership Guidelines for Management and Directors. We also provide the Pre-Approval Policy
and Procedures for our Audit Committee and our Policy Regarding Stockholder-Nominated
Director Candidates. Printed copies of these documents 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 meanings, we urge you to read the Glossary included in this section prior to reading this
report.
Caution Regarding Forward-Looking Statements
Any statements in this Form 10K that are not historical facts are specifically identified as
forward-looking statements. These statements are based upon our estimates and anticipation of
future events and are subject to certain risks and uncertainties that could cause actual results to
vary materially from the expected results described in the forward-looking statements. Forward-
looking statements are identified by words such as, but not limited to, "anticipate", "believe",
"estimate", "expect", "hope", "hopeful", "intend", "may", "optimistic", "preliminary", "project",
"should", "will" and other analogous expressions. There are numerous important factors that
could cause our actual results to differ materially from those in the forward-looking statements.
Thus, sentences and phrases that we use to convey our view of future events and trends are
expressly designated as forward-looking statements as are sections of this Form 10K that are
identified as giving our outlook on future business.
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, court judgment, legislative actions, payment or performance of
obligations under indebtedness, payment of dividends, and other matters.
These forward-looking statements are subject to significant risks, assumptions and
uncertainties, including, among other things, the following important factors that could affect the
actual outcome of future events:
3
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
general economic conditions, either nationally or in our market area, that are worse
than anticipated;
regulatory and legislative actions or decisions that adversely affect our business
plans or operations;
inflation and changes in the interest rate environment;
performance of financial markets and/or changes in the securities markets that
adversely affect the fair value of our investments or operations;
changes in laws or government regulations affecting medical professional liability
insurance;
changes to our ratings assigned by rating agencies;
the effects of health care changes, including managed care;
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;
bad faith litigation which may arise from our involvement in the settlement of
claims;
post-trial motions which may produce rulings adverse to us and/or appeals we
undertake that may be unsuccessful;
significantly increased competition among insurance providers and related pricing
weaknesses in some markets;
our ability to achieve continued growth through expansion into other states or
through acquisitions or business combinations;
the expected benefits from acquisitions may not be achieved or may be delayed
longer than expected due to, among other reasons, business disruption, loss of
customers and employees, increased operating costs or inability to achieve cost
savings, and assumption of greater than expected liabilities;
changes in accounting policies and practices that may be adopted by our
regulatory agencies and the Financial Accounting Standards Board; and
changes in our organization, compensation and benefit plans.
Our results may differ materially from those we expect and discuss in any forward-looking
statements. The principal risk factors that may cause these differences are described in various
documents we file with the Securities and Exchange Commission, including the Registration
Statement filed on February 15, 2006 and updated on June 2, 2006, as well as in our periodic
reports filed with the Securities and Exchange Commission, such as our current reports on Form
8-K, and our regular reports on Forms 10-Q and 10-K, particularly in "Item 1A, Risk Factors."
We caution readers not to place undue reliance on any such forward-looking statements,
which speak only as of the date made, and advise readers that the factors listed above could
affect our financial performance and could cause actual results for future periods to differ
materially from any opinions or statements expressed with respect to future periods in any current
statements. Except as required by law or regulations, we do not undertake and specifically
decline any obligation to publicly release the result of any revisions that may be made to any
forward-looking statements to reflect events or circumstances after the date of such statements or
to reflect the occurrence of anticipated or unanticipated events.
4
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 ..............................................................The accounting period in which an insured
event becomes a liability of the insurer.
Admitted company; admitted basis............................. 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
its
to
operations. (See: Non-admitted company)
regulations pertaining
Adverse selection ....................................................... 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.
for
Agent .......................................................................... An individual or firm that represents an
insurer under a contractual or employment
the purpose of selling
agreement
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
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:
Broker)
favor only one
Alternative markets..................................................... Mechanisms used to fund self-insurance.
This includes captives, which are insurers
owned by one or more insureds to provide
coverage. Risk-retention
owners with
groups,
formed by members of similar
professions or businesses to obtain liability
insurance, are also a form of self-insurance.
Assets; admitted; non-admitted .................................. Property owned,
including
company,
in this case by an
insurance
stocks,
bonds, and real estate. Because insurance
accounting is concerned with solvency and
the ability
insurance
to pay claims,
regulators require a conservative valuation
of assets, prohibiting insurance companies
from listing assets on their balance sheets
5
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
or borrowed against, and
liquidation
receivables
for which payment can be
reasonably anticipated.
Bodily injury ................................................................ Physical harm, sickness, disease or death
resulting from any of these.
Broker ......................................................................... 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,
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)
insurance.
Brokers
Bulk reserves ………………………………. ................ 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
(See: Case
Reserves)
already
paid.
Capacity......................................................................For an individual insurer, the maximum
amount of premium or risk it can underwrite
based on
financial condition. The
adequacy of an insurer’s capital relative to
its exposure to loss is an important measure
of solvency.
its
Capital......................................................................... Stockholders’ equity
(for publicly-traded
insurance companies) and policyholders’
surplus (for mutual insurance companies).
Capital adequacy is linked to the riskiness of
(See: Risk-Based
an insurer’s business.
Capital, Surplus, Solvency)
Case reserves …………………………….................... Reserves for future losses for reported
claims as established by an insurer’s claims
department.
Casualty insurance ..................................................... Insurance which is primarily concerned with
the
third
persons (in other words, persons other than
liability
the policyholder) and
imposed on the insured resulting therefrom.
(See: Professional
insurance,
Medical professional liability insurance)
losses caused by injuries
liability
legal
the
to
6
Cede, cedant; ceding company .................................. When a party reinsures its liability with
another, it ‘‘cedes’’ business and is referred
to as the ‘‘cedant’’ or ‘‘ceding company.’’
Claim...........................................................................Written or oral demands, as well as civil and
administrative proceedings.
Claims-made policy; coverage ................................... 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.
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.
limits a
liability
It
Combined ratio ........................................................... The sum of the underwriting expense ratio
and net loss ratio, determined in accordance
with either Statutory Accounting Principles
(SAP) or Generally Accepted Accounting
Principles (GAAP).
Commission ................................................................ Fee paid
insurance
to an agent or
salesperson as a percentage of the policy
premium. The percentage varies widely
depending on coverage, the insurer, and the
marketing methods.
Consent to settle......................................................... Clause provided
in some professional
liability
the
insurer to receive authority from an insured
before settling a claim.
insurance policies
requiring
Damages; economic, non-economic and punitive...... Monies awarded to a plaintiff or claimant.
to
Economic
intended
damages are
compensate a plaintiff or claimant
for
quantifiable past and future losses, such as
lost wages and/or medical costs. Non-
those awarded
economic damages are
separately and apart
from economic
damages, that are intended to compensate
the claimant or plaintiff for non-quantifiable
losses such as pain and suffering or loss of
consortium. Punitive damages are non-
economic damages intended to punish the
defendant
outrageous
conduct.
perceived
for
Direct premiums written.............................................. Premiums charged by an insurer for the
policies that it underwrites, excluding any
premiums that it receives as a reinsurer.
Direct writer(s) ............................................................ 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.......................... Property/casualty insurance coverage that
insurers
(See: Admitted
isn’t generally available
licensed
the state
from
in
7
flexibility
company) and must be purchased from a
“non-admitted company”. Examples include
risks of an unusual nature that require
terms and
greater
conditions than exist in standard forms or
where the highest rates allowed by state
regulators are considered inadequate by
admitted
Laws governing
surplus lines vary by state.
companies.
in policy
Excess coverage; excess limits……………................ An insurance policy that provides coverage
limits above another policy with similar
coverage terms, or above a self-insured
amount.
Extended reporting endorsement ............................... Also known as a “tail policy,” or “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
liability
policies.)
in medical
Facultative reinsurance .............................................. A generic
reinsurance
term describing
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.
Frequency...................................................................Number of times a loss occurs per unit of
risk or exposure. One of the criteria used in
calculating premium rates.
Front, fronting ............................................................. 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.
Generally Accepted Accounting Principles; GAAP..... A set of widely accepted accounting
standards, set primarily by the Financial
Accounting Standards Board (FASB), and
used to standardize financial accounting of
public companies.
Gross premiums written.............................................. Total premiums for direct insurance written
and assumed reinsurance during a given
period. The sum of direct and assumed
premiums written.
8
Guaranty fund; assessment(s) ................................... The mechanism by which all 50 states, the
District of Columbia and Puerto Rico ensure
that solvent insurers fund the payment of
claims against insurance companies that
fail. The type and amount of claim covered
by the fund varies from state to state.
Incurred but not reported (IBNR) ................................ 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
Insurance
for
companies regularly adjust reserves
such losses as new information becomes
available.
reinsurer.
insurer
or
Incurred losses ........................................................... 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.
Insolvent; insolvency .................................................. 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)
Investment income ..................................................... Income generated by the investment of
assets.
two sources of
income, underwriting (premiums less claims
and expenses) and investment income.
Insurers have
Liability insurance ....................................................... A line of casualty insurance for amounts a
policyholder
to pay
because of bodily injury or property damage
caused to another person. (See: Bodily
insurance, Professional
Injury, Casualty
insurance, Medical professional
liability
liability insurance)
legally obligated
is
Limits .......................................................................... The maximum amount payable under an
insurance policy for a covered loss.
Long-tail ...................................................................... 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
thus producing a
until losses are paid,
higher
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. (See: Medical
professional liability, Professional liability)
level of
Loss adjustment expenses (LAE)............................... The expenses of settling claims, including
legal and other fees and the portion of
general expenses allocated
claim
settlement costs.
to
9
Loss costs...................................................................The portion of an insurance rate used to
cover claims and the costs of adjusting
claims.
typically
determine their rates by estimating their
future loss costs and adding a provision for
expenses, profit, and contingencies.
companies
Insurance
losses and
loss-
Loss ratio .................................................................... The ratio of incurred
to net premiums
adjustment expenses
earned. This
the
company's underlying profitability, or loss
experience, on its total book of business.
ratio helps measure
Loss reserves ............................................................. Liabilities established by insurers to reflect
the estimated cost of claims payments and
the related expenses that the insurer 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.
Medical malpractice.................................................... An act or omission by a health care provider
that falls below a recognized standard of
care. (See: Standard of Care)
Medical professional liability insurance ...................... Insurance for 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
the standard of care or other
from
misconduct
professional
rendering
service.
in
National Association of Insurance Commissioners .... Generally referred to as the “NAIC.” 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.
Net loss ratio............................................................... The net loss ratio measures the ratio of net
losses to net earned premiums determined
in accordance with SAP or GAAP.
Net premium earned ................................................... The portion of premium 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.
Net premiums written.................................................. Gross premiums written for a given period
less premiums ceded to reinsurers during
such period.
Non-admitted company; basis .................................... 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
10
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.
Nose coverage............................................................ See: Prior acts coverage.
Occurrence policy; coverage ...................................... 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.
Operating ratio ............................................................ The operating ratio is the combined ratio,
income
less
(exclusive of realized gains and losses) to
net earned premiums,
in
accordance with GAAP. While the combined
underwriting
ratio
profitability, the operating ratio incorporates
the effect of investment income.
strictly measures
if determined
investment
ratio of
the
Paid Loss Ratio........................................................... The ratio of paid losses and loss-adjustment
expenses to net premiums earned. (See
Loss ratio)
Paid to Incurred Ratio................................................. The ratio of paid losses to incurred losses,
which is computed by dividing paid losses
for the period by incurred losses.
Policy .......................................................................... A written contract for insurance between an
insurance company and policyholder stating
details of coverage.
Premium ..................................................................... The price of an insurance policy; typically
charged annually or semiannually.
Premiums written ........................................................ The total premiums on all policies written by
an insurer during a specified period of time,
regardless of what portions have been
earned.
Premium tax................................................................ A state tax on premiums for policies issued
in the state, paid by insurers.
Primary company........................................................ In a reinsurance transaction, the insurance
company that is reinsured.
Prior acts coverage..................................................... An additional coverage for claims-made
policies, optionally made available by an
insurer, that covers an insured for claims
that occurred, but were not reported prior to
the inception date, or retroactive date, of the
policy. Sometimes called “Nose Coverage.”
11
Professional liability insurance ................................... Covers professionals for negligence and
errors or omissions that cause injury or
(See:
economic
insurance,
Casualty
Medical professional liability insurance)
loss
insurance, Liability
their clients.
to
Property casualty insurance ....................................... Covers damage to or loss of policyholders’
property and legal liability for damages
caused to other people or their property.
Rate ............................................................................ The cost of insurance for a specific unit of
exposure, such as for one physician. Rates
are based primarily on historical
loss
experience for similar risks and may be
regulated by state insurance offices.
Rating agencies .......................................................... These agencies assess insurers’ financial
strength and viability
to meet claims
obligations. Some of the factors considered
capital
include
liquidity,
adequacy, operating
investment
reinsurance
performance,
programs, and management ability, integrity
and experience. A high financial rating is not
the same as a high consumer satisfaction
rating.
earnings,
leverage,
company
Reinsurance................................................................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 don’t pay policyholder claims.
Instead, they reimburse insurers for claims
paid.
Reinsured layer; retained layer................................... 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)
Reserves..................................................................... A company’s best estimate of what it will pay
at some point in the future, for claims for
which it is currently responsible.
Retention .................................................................... 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
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.
reinsurer.
the
12
Retroactive date.......................................................... Applicable only to claims-made policies.
Claims that have occurred and have not
been reported prior to this date are excluded
is
from coverage. The retroactive date
generally
first
afforded to an insured by a company under
a claims-made policy form, unless extended
into the past by Prior Acts Coverage. (See:
Prior Acts Coverage)
the date coverage was
Return on equity ......................................................... Net Income (or if applicable, Income from
the
Continuing Operations) divided by
average
ending
beginning
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.
and
of
the volume and
the
Risk-Based Capital (RBC) .......................................... A regulatory measure of the amount of
capital required for an insurance company,
inherent
based upon
the
riskiness of
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: National Association of
Insurance Commissioners)
insurance sold,
Risk management....................................................... Management of the varied risks to which a
firm or association might be
business
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.
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.
Severity....................................................................... The average claim cost,
statistically
determined by dividing dollars of losses by
the number of claims.
13
Solvent, solvency........................................................ Insurance companies’ ability to pay the
claims of policyholders. Regulations
to
promote solvency include minimum capital
statutory
and
accounting conventions, limits to insurance
company
corporate
activities, financial ratio tests, and financial
data disclosure.
requirements,
investment
surplus
and
Standard of care ......................................................... The standard by which negligence
is
determined. The degree of skill associated
with the activities and treatment from a
reasonable, prudent, ordinary practitioner
similar
acting under
circumstances.
same
the
or
Statutory Accounting Principles; SAP ........................ 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
by
anticipated
recognizing liabilities earlier or at a higher
value than GAAP and assets later or at a
lower value. For example, SAP requires that
selling expenses be recorded immediately
rather than amortized over the life of the
policy. (See: Generally Accepted Accounting
Principles, Admitted assets)
obligations
insurance
Surplus; statutory surplus ........................................... The excess of assets over total liabilities
(including
that protects
policyholders in case of unexpectedly high
claims. “Statutory Surplus” is determined in
accordance with Statutory Accounting
Principles.
reserves)
loss
Tail .............................................................................. The period of time that elapses between the
the
loss event and
the
occurrence of
payment in respect thereof.
Tail Coverage ............................................................. See: Extended Reporting Endorsement
Third-party coverage .................................................. 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.
Tort ............................................................................. A civil wrong which may result in damages.
Treaty reinsurance...................................................... The reinsurance of a specified type or
category of risks defined in a reinsurance
agreement (a ‘‘treaty’’) between a primary
insurer 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.
14
Underwriting................................................................The
applications
insurer’s or reinsurer’s process of
reviewing
for
insurance coverage, deciding whether to
accept all or part of the coverage requested
and determining the applicable premiums.
submitted
Underwriting expense ratio......................................... Under GAAP, the ratio of underwriting,
acquisition and other insurance expenses
incurred to net premiums earned (for SAP,
the ratio of underwriting expenses incurred
to net premiums written.)
Underwriting expenses ............................................... The aggregate of policy acquisition costs,
including commissions, and the portion of
administrative, general and other expenses
attributable to underwriting operations.
Underwriting income; loss .......................................... The insurer’s profit on the insurance sales
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.”
Underwriting profit ...................................................... The amount by which net earned premiums
exceed claims and expenses. (See:
Underwriting Income)
Unearned premium…………………………................. The portion of premium that represents the
consideration for the assumption of risk for a
future period. 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.
15
Business Overview
We operate in a single business segment principally in the mid-Atlantic, Midwest and
Southeast. We sell professional liability insurance primarily to physicians, dentists, other
healthcare providers and healthcare facilities. We also have a small book of legal professional
liability business in the Midwest.
Our top five states represented 60% of our gross premiums written for the year ended
December 31, 2006. The following table shows our gross premiums written in these key states for
each of the periods indicated.
Gross Written Premiums–Years Ended December 31
($ in thousands)
2006
2005
2004(2)
Ohio
Alabama
Florida
Michigan
Indiana (1)
All other states
$ 106,267
102,998
53,469
43,757
40,335
18%
18%
9%
8%
7%
$ 131,102
111,462
61,341
46,741
41,129
23%
19%
11%
8%
7%
$ 149,269
111,582
69,899
45,578
32,635
232,157
40%
181,185
32%
164,629
26%
19%
12%
8%
6%
29%
Total
$ 578,983
100%
$ 572,960
100%
$ 573,592
100%
(1) Not a top five state in 2004.
(2) Missouri was included in the top five states in 2004 (gross premiums written of $35,217).
We believe there are several areas in which we differentiate ourselves from our
competitors. 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.
We maintain 17 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.
Using our local knowledge and our experienced underwriting staff, 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 local knowledge also allows us to be more effective in evaluating claims
because we have a detailed understanding of the medical and legal climates of each market. We
also believe our insureds value our willingness and ability to defend non-meritorious claims.
Corporate Organization and History
We were incorporated in Delaware in June 2001. Our core operating subsidiaries are The
Medical Assurance Company,
Insurance
Company, Inc., Physicians Insurance Company of Wisconsin, Inc., and Red Mountain Casualty
Insurance Company, Inc. We also write a limited amount of medical professional liability
insurance through Woodbrook Casualty Insurance, Inc. (formerly Medical Assurance of West
Virginia, Inc.), which we consider to be a non-core operating subsidiary.
Insurance Company, NCRIC
Inc., ProNational
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 underwriting, claims,
risk management and marketing. We believe that our ability to utilize this local knowledge is a
critical factor in the operation of our companies. Our successful integration of each organization
demonstrates our ability to grow effectively through acquisitions.
16
Our predecessor company, Medical Assurance, Inc. (Medical Assurance) was founded
by physicians as a mutual company in Alabama and wrote its first policy in 1977. Medical
Assurance 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, which was combined with Medical Assurance
form
ProAssurance, 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.
to
Recent Transactions
Effective August 1, 2006 we completed our acquisition of Physicians Insurance Company
of Wisconsin, Inc. (PIC Wisconsin) in an all stock merger. PIC Wisconsin is a stock insurance
company that sells professional liability insurance to physicians, groups of physicians, dentists,
and hospitals principally in the state of Wisconsin as well as other Midwestern states.
On August 3, 2005 we acquired all of the outstanding common stock of NCRIC
Corporation and its subsidiaries (NCRIC) in an all stock merger. NCRIC's primary business is a
single insurance company that provided medical professional liability insurance in the District of
Columbia, Delaware, Maryland, Virginia and West Virginia.
These transactions strategically expanded our geographic footprint and are in keeping
with our desire to expand our professional liability operations through selective acquisitions. A
more detailed description of the merger transactions is included in Note 2 of the Notes to the
Consolidated Financial Statements included herein.
On January 4, 2006 we sold our personal lines operations (the MEEMIC companies),
effective January 1, 2006, for $400 million before taxes and transaction expenses. We recognized
a gain on the sale in the first quarter of 2006 of $109.4 million after consideration of sales
expenses and estimated taxes. Sale proceeds will support the capital requirements of our
professional liability insurance subsidiaries and other general corporate purposes. Additional
information regarding the sale of the MEEMIC companies is provided in Note 3 of the Notes to
the Consolidated Financial Statements.
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 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 then
outstanding term loan. We used 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 of
the Notes to the 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.
17
Products and Services
We sell professional liability insurance primarily to physicians, dentists, other healthcare
providers and healthcare facilities. We also have a small book of legal professional
liability
business in the Midwest. We generate the majority of our premiums from individual and small
group practices, but 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. We are licensed to do business in
every state but Connecticut, Maine, New Hampshire, New York and Vermont.
Marketing
We utilize both direct marketing and independent agents to write our business. In
Alabama and the District of Columbia, 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, 2006, 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 within
those groups and because their purchasing decision is more focused on price. Our marketing
emphasizes:
–
–
–
–
–
–
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.
We believe that a local presence in our markets enables us to effectively provide these
communications and services, all of which have helped us gain exposure among potential
insureds. This also demonstrates 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
legal
environments. Through our seven regional underwriting offices located in Alabama, Florida,
Indiana, Missouri, Michigan, Washington, D.C., and Wisconsin, we have established a local
presence within our targeted markets to obtain better information more quickly.
local market conditions and
focuses on knowledge of
18
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.
Our 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, Iowa,
Kentucky, Michigan, Missouri, Ohio (2), Virginia, Washington, D.C., West Virginia, and Wisconsin
so that we can provide localized and timely attention to claims. Our claims department
investigates the circumstances surrounding an 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 good faith settlement or aggressively
defend the claim. If the claim is defended, our claims department coordinates the case, including
selecting defense attorneys who specialize in professional liability cases and obtaining medical,
legal and/or other professional experts to assist in the analysis and defense of the claim. As part
of the evaluation and preparation process for medical professional liability claims, 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.
We aggressively defend claims against our insureds that we believe have no merit or
those we believe cannot be settled by reasonable good faith negotiations. Many of our claims are
litigated, and we engage experienced trial attorneys in each venue to handle the litigation in
defense of our policyholders.
We believe that our claims philosophy contributes to lower overall loss costs and results
in greater customer loyalty. The success of this claims philosophy is based on our access to
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
The majority of our assets are held in the operating insurance companies. Executives in
our holding company oversee our investments 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
monitored and evaluated by management. The asset managers typically have the authority to
make investment decisions, subject to our investment policy, 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 ratings
19
may be of interest 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 core subsidiaries as of
February 28, 2007:
Rating Agency
ProAssurance
Group
Medical
Assurance
NCRIC
PIC
Wisconsin
ProNational
Red
Mountain
Casualty
Company / Rating
A. M. Best
(www.ambest.com)
A-
(Excellent)
A-
(Excellent)
B++
(Very Good)
A-
(Excellent)
A-
(Excellent)
A-
(Excellent)
Fitch
(www.fitchratings.com)
A-
(Strong)
Standard & Poor’s
(www.sandp.com)
A-
(Strong)
A-
(Strong)
A-
(Strong)
Not
Rated
Not
Rated
Not
Rated
Not
Rated
A-
(Strong)
A-
(Strong)
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 rating agencies. Many of these factors, such as market conditions and
regulatory conditions are beyond our control. However, for those factors within our control, such
as service quality, market 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 our competitors concentrate on a
single state and have an extensive knowledge of the local markets. We also compete with several
large national insurers whose financial strength and resources may be greater than ours. The
following table shows the top five companies that we believe are our direct competitors, based on
2005 Direct Written Premiums (latest NAIC data available) in our business footprint.
Competitors
Medical Protective
The Doctors Company
American Physicians Assurance Corporation
Medical Mutual Liability Insurance Society of Maryland
First Professionals Insurance Company
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.
We are experiencing increasing competition after a period in which many medical
professional liability insurers withdrew from the market or limited the scope of their writing. For
approximately four years, beginning in 1999, medical professional liability insurers experienced
significant losses, which reduced the capital of some insurers to a level that could not support
current and future business. In response to these trends, many insurers remaining in the market
20
raised rates, tightened underwriting and limited the geographic market in which they were willing
to write. We believe these events heightened the sensitivity of our target market to financial
strength and stability.
As premiums increased, several small competitors with limited capital entered the market
within our geographic footprint. These smaller companies tend to focus on limited pools of risk
and/or specific geographic areas. They generally try to gain market share through lower
premiums or less stringent underwriting. Beginning in the latter half of 2005, some established
insurers began to compete with lower prices, less-stringent underwriting and more liberal
coverage options.
We have chosen not to aggressively compete on price and we have not liberalized our
underwriting criteria, nor have we offered more liberal coverage terms. However, due to our
strong market position 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 base their buying decisions primarily
on price.
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 Alabama, Michigan, The District of Columbia, and Wisconsin.
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 could include new or updated definitions of risk
exposure and limitations on business practices. 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.
There is currently limited federal regulation of the insurance business, but 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.
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 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 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
21
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 quarterly and 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. 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.
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 except NCRIC and PIC Wisconsin, 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.
The regulations governing Washington, D.C. insurers, which have jurisdiction over
NCRIC, deems a dividend to be extraordinary if the combined dividends and distributions made in
any 12 month period exceeds the lesser of:
• net income less capital gains; or
• 10% surplus at the past calendar year end.
The regulations governing Wisconsin insurers deems a dividend to be extraordinary if the
amount exceeds the lesser of:
• 10% of a company’s capital and surplus as of December 31 of the
preceding year;
Or the greater of:
• Statutory net income for the preceding calendar year, minus
realized capital gains for that calendar year, or
• The aggregate of statutory net income for the three previous
calendar years minus realized capital gains for those calendar
years, minus dividends paid or credited and distributions made
within the first two of the preceding three calendar years.
22
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, 2006, all of ProAssurance’s insurance
subsidiaries exceeded the minimum level of capital.
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. However, in 2006 the Florida Office of Insurance
Regulation levied two separate 2% assessments on property and casualty insurers to enable the
Florida Guaranty Association to pay claims against insurers that became insolvent due to
hurricanes. The combined assessments totaled $2.3 million for us.
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. We have elected to add a surcharge to the
premiums we will charge our Florida policyholders, in an effort to recoup the assessments in the
Florida example cited in the previous paragraph.
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 Georgia, Florida, Illinois, Missouri,
Ohio, Texas, and West Virginia, have passed Tort Reform, but these laws have yet to materially
affect our business. Wisconsin’s caps on non-economic damages were ruled unconstitutional in
2005, and in 2006 the legislature enacted a new law that re-established caps on non-economic
damages at $750,000. 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
23
the coming years. Historically many of these laws have been invalidated in the appeals process.
Because we 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 professional 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.
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
in 2006, as in prior legislative sessions, but has never been approved in the Senate. We do not
believe there will be Federal Tort Reform in the foreseeable future. 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 there have been prior attempts to involve the federal government in the
regulation of the insurance industry at some level. While we do not have any reason to believe
this will occur in the near future, we cannot rule out that possibility.
Although the federal government does not regulate the business of insurance directly,
federal initiatives, including changes in patient protection legislation and the various health care
reforms currently under discussion may affect our business.
Employees
At December 31, 2006, we had 589 employees, none of whom 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. 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
24
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 involuntary withdrawal of any such
rating could limit or prevent us from writing desirable business.
The following table presents the ratings of our group and our core subsidiaries as of
February 28, 2007:
Rating Agency
ProAssurance
Group
Medical
Assurance
NCRIC
PIC
Wisconsin
ProNational
Red
Mountain
Casualty
Company / Rating
A. M. Best
(www.ambest.com)
A-
(Excellent)
A-
(Excellent)
B++
(Very Good)
A-
(Excellent)
A-
(Excellent)
A-
(Excellent)
Fitch
(www.fitchratings.com)
A-
(Strong)
Standard & Poor’s
(www.sandp.com)
A-
(Strong)
A-
(Strong)
A-
(Strong)
Not
Rated
Not
Rated
Not
Rated
Not
Rated
A-
(Strong)
A-
(Strong)
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.
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
25
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 improved
our operating results. Competition has increased in the medical malpractice industry since 2004,
and premiums may not remain at current levels in the next year. Should our competitors become
less disciplined in their pricing, or more permissive in their terms, we may see premiums decline.
We could also 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 investment results will fluctuate as interest rates change.
Our investment portfolio is primarily comprised of interest-earning assets. Thus,
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, 2006 were $3.5 billion, of which $3.2
billion was invested in fixed maturities. Unrealized pre-tax net investment losses on investments
in available-for-sale fixed maturities were approximately $2.4 million at December 31, 2006.
At December 31, 2006, we held equity investments having a fair value of $7.2 million in
an available-for-sale portfolio and held additional equity securities having a fair value of $7.6
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 current period net income.
Changes in healthcare could have a material affect 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 and/or
health savings accounts, limiting 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 such as the emergence of managed care, declining
reimbursement levels and increasing costs. These, and other factors, have negatively affected or
threatened to affect the practices and economic independence of our insureds. 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.
These changes may result in the elimination of, or a significant decrease in, the role of
the physician in the medical malpractice insurance purchasing decision. They could also result in
greater emphasis on the role of professional managers, who may seek to purchase insurance on
26
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.
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 21.
Regulatory requirements could have a material effect 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.
Our claims settlement practices could result in a bad faith claim against us.
We could be sued for allegedly acting in bad faith during our handling of a claim. The
damages in actions for bad faith may include amounts owed by the insured in excess of the policy
limits as well as consequential and punitive damages. Awards above policy limits are relatively
infrequent, but they are becoming more common. Historically, we have been successful in
resolving actions against us for bad faith on terms that have no material adverse effect on our
financial condition and results of operations. These actions have the potential to have a material
adverse effect on our financial condition and results of operations.
The unpredictability of court decisions could have a material affect 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
27
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 business could be adversely affected by the loss of independent agents.
We depend in part on the services of independent agents in the marketing of our
insurance products. We face competition from other insurance companies for the services and
allegiance of independent agents. These agents may choose to direct business to competing
insurance companies.
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, 2006, we had reinsurance recoverables on paid and unpaid losses
and loss adjustment expenses of approximately $370.8 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%
28
and 2% of annual premiums written by a member in that state, although one notable exception
occurred in Florida in 2006, when the state assessed all property casualty insurers a total of 4%
of their non-property premiums to offset bankruptcies caused by hurricane claims. 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 $2.6 million and
$226,000 for 2006 and 2005, 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.
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 regularly reviews succession planning relating to our Chief
Executive Officer as well as other senior officers. 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 would be presumed if any person or entity
acquires 10% (5% in Alabama) or more of our 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.
29
ITEM 1B. UNRESOLVED STAFF COMMENTS.
None.
ITEM 2. PROPERTIES.
We own three office buildings, all of which are unencumbered. In Birmingham, Alabama
we own a 156,000 square foot building in which we currently occupy approximately 82,000
square feet with the remaining office space leased to unaffiliated persons or available to be
leased. In Okemos, Michigan we own, and fully occupy a 53,000 square foot building and in
Madison, Wisconsin we own and fully occupy a 38,000 square foot building.
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.
30
EXECUTIVE OFFICERS OF PROASSURANCE CORPORATION
The executive officers of ProAssurance Corporation (ProAssurance) serve at the
pleasure of the Board of Directors. We 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 23 years.
Following is a brief description of each executive officer of ProAssurance, including their principal
occupation and employment during the last five years.
A. Derrill Crowe
Victor T. Adamo
Paul R. Butrus
Dr. Crowe has served as the Chairman of the Board and Chief
Executive Officer of ProAssurance since we began operations in
2001. Dr. Crowe helped found our predecessor company,
Medical Assurance in 1976. In addition to his work with our
Company, Dr. Crowe practiced Urology in Birmingham, Alabama
for more than 30 years. He is active on the COO committee of
the Physician Insurers Association of America and serves that
organization in a number of other capacities. Dr. Crowe was
named Alabama CEO of the Year by The Birmingham News in
April 2005. (Age 70)
Mr. Adamo has been the President, a Vice-Chairman, and Chief
Operating Officer of ProAssurance since its inception. Mr.
Adamo first joined the predecessor of Professionals Group
(PICOM Insurance Company) in 1985 as general counsel and
was elected CEO in 1987. From 1975 to 1985, Mr. Adamo was
in private legal practice and represented the company in
corporate legal matters. Mr. Adamo is a Chartered Property
Casualty Underwriter. (Age 59)
Mr. Butrus has served as a 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 66)
31
Howard H. Friedman
Jeffrey P. Lisenby
James J. Morello
Frank B. O’Neil
Mr. Friedman is a Co-President of our Professional Liability
Group, a position he has held since October 2005, 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 48)
Mr. Lisenby was appointed as Corporate Secretary of
ProAssurance 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 38)
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. Mr. Morello is a certified public
accountant. (Age 58)
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 53)
32
Edward L. Rand, Jr.
Darryl K. Thomas
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 40)
Mr. Thomas is a Co-President of the Professional Liability Group,
a position he has held since October 2005, 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 49)
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.
33
PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER
MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.
At February 15, 2007, ProAssurance Corporation (PRA) had 3,921 stockholders of record
and 33,281,390 shares of common stock outstanding. ProAssurance’s common stock currently
trades on The New York Stock Exchange (NYSE) under the symbol “PRA”.
Quarter
First
Second
Third
Fourth
2006
2005
High
Low
High
Low
$ 53.08
$ 48.95
$ 41.90
$ 37.00
51.22
51.69
52.11
45.96
46.18
47.84
41.76
46.90
51.88
36.60
41.86
44.45
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 22 of this 10-K.
Securities Authorized for Issuance Under Equity Compensation Plans
The following table provides information regarding ProAssurance's equity compensation
plans as of December 31, 2006.
Number of securities
to be exercised upon
exercise of outstanding
options, warrants
and rights
(a)
Weighted-average
exercise price of
outstanding options,
warrants and rights
(b)
Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected
in column (a)
(c)
982,303
$ 32.81
2,282,754
–
–
–
Plan Category
Equity compensation
plans approved
by security holders
Equity compensation
plans not approved
by security holders
34
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 (loss) from continuing operations
before cumulative effect of
accounting change
Net income (2)
Income (loss) 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
Year Ended December 31
2006
2005
2004
2003
2002
(In thousands except per share data)
$ 578,983
$ 572,960
$ 573,592
$ 543,323
$ 461,715
543,376
521,343
535,028
497,659
389,901
627,166
(44,099)
583,067
149,789
(1,199)
5,941
737,598
443,329
596,557
555,524
509,260
(53,316)
(35,627)
(49,389)
543,241
519,897
459,871
99,193
912
4,604
77,669
7,572
2,419
64,532
5,858
5,580
647,950
607,557
535,841
438,201
460,437
439,368
412,656
(78,460)
334,196
67,616
(6,099)
6,388
402,101
351,320
126,984
80,026
43,043
15,345
(8,100)
236,425
113,457
72,811
38,703
12,207
$
$
$
$
3.96
3.72
7.38
6.85
$
$
$
$
2.66
2.52
3.77
3.54
$
$
$
$
1.48
1.44
2.50
2.37
$
$
$
$
0.53
0.53
1.34
1.33
$
$
$
$
(0.31)
(0.31)
0.47
0.46
32,044
34,925
30,049
32,908
29,164
31,984
28,956
30,389
26,231
26,254
$3,492,098
$2,614,319
$2,145,609
$1,792,323
$1,446,342
4,342,853
4,342,853
2,607,148
179,177
3,224,306
1,118,547
3,341,600
3,909,379
2,224,436
167,240
2,806,820
765,046
2,743,295
3,239,198
1,818,636
151,480
2,333,405
611,019
2,448,088
2,879,352
1,634,749
104,789
2,074,560
546,305
2,214,564
2,586,650
1,492,140
72,500
1,854,573
505,194
$
33.61
$
24.59
$
20.92
$
18.77
$
17.49
Common stock outstanding at end of year
33,276
31,109
29,204
29,105
28,877
(1) Includes acquired entities since date of acquisition, only. PIC Wisconsin was acquired on August 1, 2006. NCRIC Corporation was acquired on
August 3, 2005.
(2) Net income for the year ended December 31, 2002 was increased by $1.7 million ($0.07 per basic and diluted share) due to the cumulative effect of
adopting of SFAS 141 and SFAS 142.
(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.
(4) Excludes discontinued operations.
35
ITEM 2. 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," our actual financial condition and operating results
could differ significantly from these forward-looking statements.
We sold our personal lines operations effective January 1, 2006. Accordingly, our Consolidated
Financial Statements report these operations (which were formerly reported as a separate operating
segment) as discontinued operations in all periods presented. Unless otherwise stated, financial
information provided in this discussion for both current and prior periods excludes amounts attributed to
discontinued operations.
Critical Accounting Estimates
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 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 current and 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 estimates 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)
The largest component of our liabilities is our reserve for losses and the largest component of
expense for our operations is incurred losses. Net losses in any period reflect our estimate of net losses
incurred 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 a 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 outcome of jury trials, 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. We perform an in-depth review of
our reserve for losses on a semi-annual basis. Additionally, we continually update and review the data
underlying the estimation of our reserve for losses and make adjustments that we believe the emerging
data indicate. Any adjustments necessary are reflected in the then-current operations.
36
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.
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. In establishing
our initial reserves for a given accident year we rely significantly on the loss assumptions embedded
within our pricing. Because of the historically volatile nature of medical liability losses the initial loss
estimates are established at a level which is approximately 10% above the pricing assumptions. This
difference recognizes the volatility of the medical malpractice loss environment and the risk in
determining pricing parameters. We can therefore remain competitive from a pricing standpoint while
relying on our capital base to support current operations. As each accident year matures we analyze
reserves in a variety of ways. 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. This series of selected point estimates is then combined to produce an overall
point estimate for ultimate losses.
We have modeled implied reserve ranges around our single point reserve estimates for our
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 our 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.
37
We have used this modeled statistical distribution to calculate an 80% and 60% confidence
interval for the potential outcome of our reserve for losses. The high and low end points of the ranges
are as follows:
Low End Point
Carried Reserve
High End Point
80% Confidence Level
$1.601 billion
60% Confidence Level
$1.752 billion
$2.236 billion
$2.236 billion
$2.745 billion
$2.483 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 us.
The ranges represent an estimate of the range of possible outcomes and should not be confused with a
range of best estimates. 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. Any change in our estimate of the reserve would be 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 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, 2006 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, 2006 we believe all of our recorded reinsurance receivables to be collectible.
Investments
We evaluate our available-for-sale 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. 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
industry and
into consideration
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.
the economic prospects of
issuer's
the
38
A decline in the fair value of an available-for-sale security below cost that we judge to be other
than temporary is recognized 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. Adjustments to the cost basis of fixed maturity
securities are accreted to par over the remaining life 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 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 2006, 2005 and 2004 and concluded that the value of
our goodwill assets related to continuing operations of approximately $72.2 million was not impaired.
We use 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 determination that goodwill has suffered impairment in value. Any
determined impairment would be reflected as an expense in the period identified.
ProAssurance Overview
We are an insurance holding company and our operating results are almost entirely derived
from the operations of our insurance subsidiaries, all of which principally write medical professional
liability insurance.
Corporate Strategy
Our goal is to maintain our position as a leading writer of medical professional liability insurance
while maintaining our commitment to disciplined underwriting and aggressive claims management.
According to A.M. Best, based on 2005 data, we are the fourth largest 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 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.
39
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 capital 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 use of our resources or a significant source of revenues or
profits.
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 have seen an increasingly competitive market during the past two years, driven by existing
medical professional liability insurers as well as new entrants. While overall we believe pricing remains
adequate, we are beginning to see more instances of price based competition and a focus on market
share rather than underwriting discipline. 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 forego business that does not meet those
objectives. We achieved average gross price increases of approximately 3%, 11% and 19%, on
renewal business (weighted by premium volume) in 2006, 2005 and 2004, respectively. 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. In 2007 we expect medical professional liability pricing in our
markets to remain flat or possibly decline. We expect our pricing to vary regionally, with increases in
some states and decreases in others, but to remain relatively flat on an overall basis.
Recent Significant Events
Effective August 1, 2006 we acquired Physicians Insurance Company of Wisconsin, Inc. (PIC
Wisconsin) in an all-stock merger. The acquisition of PIC Wisconsin allowed ProAssurance to expand
its medical professional liability business into the state of Wisconsin and adjacent states and into
Nevada. On August 3, 2005 we acquired all of the outstanding common stock of NCRIC Corporation
and its subsidiaries (NCRIC) in an all-stock merger. The acquisition of NCRIC allowed ProAssurance to
expand its medical professional liability business into the District of Columbia and surrounding states.
These transactions strategically expanded our geographic footprint and are in keeping with our desire
to expand our professional liability operations through selective acquisitions. A more detailed
description of the merger transactions is provided in Note 2 of the Notes to the Consolidated Financial
Statements.
Effective January 1, 2006, we sold our personal lines operations (the MEEMIC companies) for
$400 million before taxes and transaction expenses and recognized a gain on the sale of $109.4 million
after consideration of sales expenses and estimated taxes. Sale proceeds will support the capital
requirements of our professional liability insurance subsidiaries and other general corporate purposes.
Additional information regarding the sale of the MEEMIC companies is provided in Note 3,
"Discontinued Operations" of the Notes to the Consolidated Financial Statements.
40
During the third quarter of 2006 a jury in Tampa awarded a total of $217 million in a medical
malpractice case against insureds of ProNational Insurance Company, one of our subsidiaries. There
are many open legal issues still to be decided regarding both the merits of the case and the availability
of coverage to the defendant. As discussed in Note 9 of the Notes to the Consolidated Financial
Statements, we consider legal actions related to our handling of claims in establishing our reserve for
losses.
Reclassifications
Previously, rental income from real estate holdings and real estate related expenses were
considered as components of net investment income. Beginning in 2006, we included rental income
from real estate holdings in other income; real estate expenses are included in underwriting, acquisition
and insurance expenses. In this report, we have reclassified rental income of $1.1 million (both 2005
and 2004) and real estate related expenses of $2.6 million (2005) and $2.4 million (2004) to conform
prior year operating results to the 2006 presentation. The reclassification had no effect on income from
continuing operations or net income.
Liquidity and Capital Resources and Financial Condition
Overview
ProAssurance Corporation is a holding company and is a legal entity separate and distinct from
its subsidiaries. Because it 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 our
insurance subsidiaries to pay dividends is subject to limitation by state insurance regulations. See our
discussions under "Regulation of Dividends and Other Payments 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. During the year ended December 31, 2006 our insurance subsidiaries
paid ordinary cash dividends totaling $32.8 million and extraordinary dividends (related to the sale of
the MEEMIC companies) totaling $168.0 million. At December 31, 2006 we held cash and investments
of approximately $286 million outside of our insurance subsidiaries that is available for use without
regulatory approval.
Cash flows
The principal components of our cash flow have historically been the excess of net investment
income and premiums collected over net losses paid and operating costs, including income taxes.
Our operating activities provided positive cash flows during the years ended December 31,
2006 and 2005 of $183 million and $324 million, respectively. The variation between the two years is
principally due to the following:
•
In 2006 operating cash flows were reduced due to our purchase, on a net
basis, of approximately $52 million of trading portfolio securities whereas,
in 2005, such purchases were less than $1 million. Under GAAP,
purchases and sales of trading securities are classified as operating cash
flows, unlike purchases and sales of short-term investments or available-
for-sale securities which are classified as investment cash flows.
• Operating cash flows were also reduced by taxes of almost $55 million that
we paid in 2006 related to the gain on the sale of our personal lines
operations. There was no similar tax payment in 2005. Proceeds from this
sale are included in investment cash flows.
•
Excluding PIC Wisconsin, which contributed positive operating cash flows
in 2006 of approximately $19 million, operating cash flows were reduced
due to a decline in premium collections and an increase in payments for
loss payments and operating expenses. These decreases in
taxes,
operating cash flows were partially offset by growth in cash flows from
investment earnings.
41
Timing delays exist between the collection of premiums and the ultimate payment of losses.
Premiums are generally collected within the twelve-month period after the policy is written while our
claim payments are generally paid over a more extended period of time. A claim may be filed during the
same period in which we collect premiums; however, the claim resolution process can be lengthy and it
may be several years before payments of defense costs or indemnity are made.
Investments
We manage our investments to ensure that we 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 estimating the
timing of future claims payments. To the extent that we have an unanticipated shortfall in cash we may
either liquidate securities or borrow funds under previously established borrowing arrangements.
However, given the cash flows being generated by our operations and the relatively short duration of
our investments we do not foresee any such shortfall.
We invest most of the cash generated from operations into debt and equity securities. We held
cash and cash equivalents of approximately $29.1 million at December 31, 2006 and $34.5 million at
December 31, 2005.
We held investments in short-term securities at December 31, 2006 of $184.3 million as
compared to $93.1 million at December 31, 2005. We elected to hold more funds in short-term
securities during 2006 in order to increase our flexibility in managing our capital resources.
Available-for-sale fixed maturity securities comprised 90% of our total investments as compared
to 92% at December 31, 2005. The change in the mix of our investment portfolio is being driven by the
increase in short-term investments previously discussed. Substantially all of our fixed maturities are
either United States government and agency obligations or investment grade securities as determined
by national rating agencies. Our available for sale fixed maturities have a dollar weighted average rating
of "AA" at December 31, 2006. The weighted average effective duration of our available-for-sale fixed
maturity securities at December 31, 2006 is 3.9 years; the weighted average effective duration of our
available-for-sale fixed maturity securities and our short-term securities combined is 3.7 years.
Changes in market interest rate levels generally affect our net income to the extent that
reinvestment yields are different than the yields on maturing securities. Changes in market interest
rates also affect the fair value of our fixed maturity securities. On a pre-tax basis, at December 31, 2006
our available-for-sale fixed maturity securities had net unrealized losses of approximately $2.5 million,
with unrealized losses totaling $25.2 million and unrealized gains of $22.7 million. At December 31,
2005, on a pre-tax basis, our available-for-sale fixed maturity securities had net unrealized losses of
$15.2 million with unrealized losses totaling $30.3 million and unrealized gains totaling $15.1 million.
Almost all of the unrealized loss positions in our portfolio are interest-rate related. Due to the short
duration of our portfolio and our strong operating cash flows, we believe we have the ability and intent
to hold these bonds to recovery of book value or maturity and do not consider the declines in value to
be other than temporary. In general, bond interest rates are higher at December 31, 2006 than at
December 31, 2005, but have fluctuated during the intervening period. The overall decrease in the net
amount of unrealized losses during 2006 as compared to 2005, which may appear contrary to the
overall change in bond interest rates, is due to the timing of purchases and sales in 2006. For a
discussion of the potential effects that future changes in interest rates may have on our investment
portfolio see Item 7A, “Quantitative and Qualitative Disclosures about Market Risk.”
At December 31, 2006, the carrying value of our equity investments (including equities in our
available-for-sale and trading portfolios, and equity-type holdings included in other investments) totaled
$63.7 million, representing approximately 2% of our total investments, and approximately 6% of our
capital. There has been no significant change in equity holdings since December 31, 2005.
42
Debt
%):
Our long-term debt at December 31, 2006 is comprised of the following (in thousands, except
Rate
2006
Convertible Debentures
2034 Subordinated Debentures
3.9%, fixed
9.2%, Libor adjusted
2032 Subordinated Debentures
2034 Surplus Notes
9.4%, Libor adjusted
7.7%, fixed until May 2009
$ 105,677
46,395
15,464
11,641
$ 179,177
*Subject to approval by the Wisconsin Commissioner of Insurance
First
Redemption Date
July 2008
May 2009
December 2007
May 2009*
Our Convertible Debentures may be converted at the option of holders when the price of our
common stock exceeds a specified price during 20 of the last 30 days of any quarter (see Note 10 to
the Consolidated Financial Statements). Upon conversion, holders will receive 23.9037 shares of
common stock for each $1,000 principal amount of debentures surrendered for conversion. The
criterion allowing conversion was met during the quarter ended December 31, 2006 and holders may
convert through March 31, 2007. To date, no holders have requested conversion. If converted, we
have the right to deliver, in lieu of common stock, cash or a combination of cash and common stock.
A more detailed description of our debt is provided in Note 10 of the Notes to the Consolidated
Financial Statements.
Losses
The following table, known as the 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 also 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 and thereafter. PIC Wisconsin reserves are included only in the year
2006. The table does not include the 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 reserve for losses 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 reserve for losses; 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 is not appropriate to extrapolate future
redundancies or deficiencies based on this table.
The following may be helpful in understanding the Reserve Development Table:
–
–
The line entitled “Reserve for losses, undiscounted and net of reinsurance
recoverables” reflects our reserve for losses and loss adjustment expense, less the
receivables from reinsurers, each as showing in our 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
43
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.
44
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G
In each year reflected in the table, we have estimated our reserve for losses utilizing the
actuarial methodologies discussed in critical accounting estimates. These techniques are applied to the
data in a consistent manner and the resulting projections are evaluated by management to establish the
estimate of reserve.
Factors that have contributed to the variation in loss development are primarily related to the
extended period of time required to resolve medical malpractice claims and include the following:
– Reserves in the earlier years of the table include prior accident year amounts
dating back to the mid- and late-1980's. When these reserves were originally
established, our estimates were strongly influenced by dramatic increases to
frequency and severity trends that we, and the industry as a whole, experienced in
the mid-1980s. Some of these trends moderated, and in some cases, reversed, in
the late 1980s or early 1990s, but the extended time required for claims resolution
delayed our recognition of the improved environment
– Prior to the mid to late 1990's our business was largely based in Alabama. When
we began to expand geographically, we utilized industry based data as well as our
own data to support our actuarial projection process. Our own claims experience
proved to be better than the projected experience, but again, this was not known
for some time after the reserves were established. Ultimately, as actual results
proved better than that suggested by historical trends and industry claims data,
redundancies developed and were recognized.
–
The medical 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 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, 2005 and 2006 we have recognized favorable development related to
our previously established reserves for accident years 2001 through 2004, due to
reductions to our original estimates of claim severity.
46
As compared to our reserve for losses at December 31, 2005, our reserve for losses, net of
reinsurance recoverables, has increased by $340 million, which includes the reserve for losses
acquired in the PIC Wisconsin transaction of $171 million. The remaining growth is attributable to the
generally long-tailed nature of our medical professional liability lines of business. Several years can
pass between the initial recognition of a claim and the ultimate settlement of that claim. Activity in the
net reserve for losses during 2006, 2005 and 2004 is summarized below:
2006
Year Ended December 31
2005
In thousands
2004
Balance, beginning of year
Less receivable from reinsurers
Net balance, beginning of year
$ 2,224,436
327,693
1,896,743
$ 1,818,636
273,654
1,544,982
$ 1,634,749
336,291
1,298,458
Reserves acquired from acquisitions, net of
receivable from reinsurers of $57.2 million
in 2006 and $43.5 million in 2005
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
171,246
139,672
–
479,621
(36,292)
443,329
(32,325)
(242,608)
(274,933)
2,236,385
370,763
461,182
(22,981)
438,201
469,151
(8,714)
460,437
(26,495)
(199,617)
(226,112)
1,896,743
327,693
(13,599)
(200,314)
(213,913)
1,544,982
273,654
Balance, end of year
$ 2,607,148
$ 2,224,436
$ 1,818,636
At December 31, 2006 our gross reserve for losses included case reserves of approximately
$1.335 billion and IBNR reserves of approximately $1.272 billion. Our consolidated reserve for losses
on a GAAP basis exceeds the combined reserves of our insurance subsidiaries on a statutory basis by
approximately $34.9 million, which is principally due to the portion of the GAAP reserve for losses that
is 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 larger limits of liability, and to stabilize
underwriting results in years in which higher 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.
Excluding PIC Wisconsin, we generally 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. Currently, PIC
Wisconsin risks are reinsured under various pre-acquisition treaties pursuant to which the reinsurer
agrees to assume 10% of liability risks for limits up to $1 million ($500,000 prior to 2006) and 80% to
100% of limits greater than $1 million, up to $6 million ($11 million prior to 2003). 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.
47
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
experience and our analysis of the potential underwriting results within each state. Our 2006-2007
reinsurance treaties, excluding those related to PIC Wisconsin, renewed with the only notable change
being that we established a 2% to 5% retention related to risks that exceed $1,000,000.
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, 2006 our receivable from reinsurers approximated $370.8 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, 2006:
Reinsurer
Hannover Ruckversicherung AG
General Reinsurance Corp
PMA Re
AXA Re
Lloyd's Syndicate 2791
Lloyd's Syndicate 435
Transatlantic Reins Co
Lloyd's Syndicate 2001
Employers Re
A.M. Best
Net Amounts Due
Company Rating
From Reinsurer
In thousands
A
A++
B+
A
A
A
A+
A
A+
$ 55,880
$ 44,617
$ 18,247
$ 17,801
$ 16,258
$ 11,872
$ 11,814
$ 10,885
$ 10,472
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 guarantees.
48
Contractual Obligations
A schedule of our non-cancelable contractual obligations at December 31, 2006 follows:
Payments due by period
Total
Less than
1 year
1-3 years
In thousands
3-5 years
More than
5 years
Loss and loss adjustment expenses
Interest on long-term debt
Long-term debt obligations
Operating lease obligations
$ 2,607,148
230,341
181,459
5,106
$ 546,450
10,927
–
2,173
$ 937,568
21,392
12,000
2,395
$ 619,465
20,005
–
538
$ 503,665
178,017
169,459
–
Total
$ 3,024,054
$ 559,550
$ 973,355
$ 640,008
$ 851,141
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, 2006 for variable rate debt. For more
information on our debt 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, communications lines and equipment.
Litigation
We are involved in various legal actions arising primarily from claims against us related to
insurance policies and claims handling, including but not limited to claims asserted by our policyholders.
Legal actions are generally divided into two categories: Legal actions dealing with claims and claim-
related actions which we consider in our evaluation of our reserve for losses and legal actions falling
outside of these areas which we evaluate and reserve for separately as a part of our Other Liabilities.
The recent verdict (see Recent Significant Events) in Tampa is considered in our evaluation of our
reserve for losses.
Claim-related actions are considered as a part of our reserving process under the guidance
provided by SFAS 60 Accounting and Reporting by Insurance Enterprises. We evaluate the likely
outcomes from these actions giving consideration to appellate issues, coverage issues, potential
recoveries from our insurance and reinsurance programs, and settlement discussions as well as our
historical claims resolution practices. This data is then given consideration in the overall evaluation of
our reserve for losses.
For non-claim-related actions we evaluate each case separately and establish what we believe
is an appropriate reserve under the guidance provided by SFAS 5 Accounting for 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).
The CHW judgment is now on appeal to the District of Columbia Court of Appeals. ProAssurance has
established a liability for this judgment of $20.8 million, which includes the estimated costs associated
with pursuing the post-trial motions or appeal of a final judgment and projected post-trial interest, $19.5
million of which was established as a component of the fair value of assets acquired and liabilities
assumed in the allocation of the NCRIC purchase price.
There are risks, as outlined in our Risk Factors, that individual actions could be settled for more
than our estimates. In particular, we or our insureds may receive adverse verdicts, post-trial motions
may be denied, in whole or in part, any appeals that may be undertaken may be unsuccessful; we may
be unsuccessful in our legal efforts to limit the scope of coverage purchased by insureds; and we may
become a party to bad faith litigation over the settlement of a claim. To the extent that the cost of
resolving these actions exceeds our estimates, the legal actions could have a material effect on
ProAssurance's results of operations in the period in which any such action is resolved.
49
Acquisition
In August 2006 we issued approximately 2.0 million ProAssurance common shares in an all-
stock merger with PIC Wisconsin. The following chart summarizes the total cost of the acquisition and
the allocation of the purchase price:
Fair value of ProAssurance common shares issued
Other acquisition costs
Aggregate purchase price
Assets (liabilities) acquired, at fair value:
Fixed maturities available for sale
Equity securities, available for sale
Short-term investments
Premiums receivable
Receivable from reinsurers on unpaid losses and
loss adjustment expenses
Other assets
Reserve for losses and loss adjustment expenses
Unearned premiums
Long-term debt
Other liabilities
Fair value of net assets acquired
In millions
$
99.1
4.6
103.7
199.3
34.4
7.8
24.3
57.2
45.4
(228.4)
(37.6)
(11.6)
(29.8)
61.0
Excess of purchase price over fair value of net assets
acquired, recognized as goodwill
$
42.7
Actuarial reviews performed in connection with the finalization of our purchase accounting for
PIC Wisconsin indicated that initial estimates of the acquisition date fair value of PIC Wisconsin's
reserve for losses, reinsurance recoverables and ceded premiums payable were understated. In
accordance with SFAS 141, we adjusted the allocation of the PIC Wisconsin purchase price as of
December 31, 2006 to reflect the revised estimates for these balances and the related balances of
taxes recoverable and deferred tax assets. The above summary of assets (liabilities) acquired reflects
the revised estimates. The adjustments, in total, reduced our initial estimates of the fair value of net
assets acquired by $5.0 million and increased goodwill by the same amount.
Overview of Results–Years Ended December 31, 2006 and 2005
Earnings from continuing operations for the year ended December 31, 2006 increased by 59%
to $127.0 million or $3.72 per diluted share as compared to $80.0 million or $2.52 per diluted share for
the year ended December 31, 2005. Our return on equity also improved, progressing from 11.6% for
the year ended December 31, 2005 to 13.5% for the year ended December 31, 2006. The improvement
in profitability was principally due to favorable net loss development, improved rate adequacy, and
increased investment earnings.
Increased competition coupled with the continuation of our underwriting discipline affected our
retention rates and the amount of new business written, but increased the profitability of the business
that was written. Favorable loss development and more adequate rates allowed us to reduce our net
loss ratio from 80.7% in 2005 to 76.0% in 2006. Net premiums earned increased from $543.2 million in
2005 to $583.1 million in 2006. The acquisitions of NCRIC in August 2005 and PIC Wisconsin in August
2006 largely offset premium reductions experienced by our other insurance subsidiaries.
Net investment income also rose, increasing by 51% in 2006, principally because our
investment assets increased to $3.49 billion in 2006, due to the positive cash flows generated by our
operations, the NCRIC and PIC Wisconsin transactions, and the proceeds from the sale of our personal
lines segment.
In addition to the improved results from continued operations, we also reported a gain of $109
million in discontinued operations for the year ended December 31, 2006 related to the sale of its
personal lines operations.
50
Results of Operations – Year Ended December 31, 2006 Compared to Year Ended December 31,
2005
Selected consolidated financial data for each period is summarized in the table below.
Revenues:
Gross premiums written
Year Ended December 31
2006
2005
$ in thousands
Increase
(Decrease)
$ 578,983
$ 572,960
$ 6,023
Net premiums written
$ 543,376
$ 521,343
$ 22,033
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
$ 627,166
(44,099)
583,067
149,789
(1,199)
5,941
$ 596,557
(53,316)
543,241
99,193
912
4,604
$ 30,609
9,217
39,826
50,596
(2,111)
1,337
737,598
647,950
89,648
475,997
(32,668)
479,300
(41,099)
(3,303)
8,431
443,329
438,201
106,369
11,073
560,771
176,827
49,843
126,984
91,957
8,929
539,087
108,863
28,837
80,026
5,128
14,412
2,144
21,684
67,964
21,006
46,958
109,441
33,431
76,010
Net income
$ 236,425
$ 113,457
$122,968
Continuing Operations:
Net loss ratio
Underwriting expense ratio
Combined ratio
Operating ratio
Return on equity
76.0%
18.2%
94.2%
68.5%
13.5%
80.7%
16.9%
97.6%
79.3%
11.6%
(4.7)
1.3
(3.4)
(10.8)
1.9
51
Effect of Acquisitions (2006–2005)
Our discussions of 2006 operating results as compared to 2005 results include tables intended
to facilitate an understanding of the effect of the PIC Wisconsin acquisition. The caption "PIC Wisconsin
Acquisition" designates results attributable to PIC Wisconsin. The caption "PRA" designates all other
operating results.
We acquired PIC Wisconsin effective August 1, 2006 and our results for the year ended
December 31, 2006 include PIC Wisconsin results for the five-month period subsequent to the date of
acquisition. Our operating results for 2005 do not include PIC Wisconsin results. Due to the short period
since completion of the acquisition, the effect of the PIC Wisconsin acquisition on our 2006 results can
be readily segregated.
We acquired NCRIC effective August 3, 2005 and our results for the year ended December 31,
2006 include NCRIC results for the entire period. Our results for the year ended December 31, 2005
include NCRIC results only for the five-month period subsequent to the date of acquisition. During
2006, as a means of effectively utilizing capital, a number of policies previously written by NCRIC have
been renewed through our other insurance subsidiaries and NCRIC's administrative and operating
functions have, in many instances, been combined with those of our other insurance operations.
Consequently, the effect of the NCRIC acquisition cannot be readily segregated in 2006.
Premiums
Gross premiums written:
PRA
PIC Wisconsin Acquisition
Consolidated
Premiums earned:
PRA
PIC Wisconsin Acquisition
Consolidated
Premiums ceded:
PRA
PIC Wisconsin Acquisition
Consolidated
Net premiums earned:
PRA
PIC Wisconsin Acquisition
Consolidated
Year Ended December 31
2006
2005
$ in thousands
Increase
(Decrease)
$ 554,194
24,789
$ 578,983
$ 572,960
–
$ 572,960
$ (18,766)
24,789
6,023
$
(3.3%)
n/a
1.1%
$ 592,975
34,191
$ 627,166
$ 596,557
–
$ 596,557
$
(3,582)
34,191
$ 30,609
(0.6%)
n/a
5.2%
$ (36,772)
(7,327)
$ (44,099)
$ (53,316)
–
$ (53,316)
$ 16,544
(7,327)
9,217
$
(31.0%)
n/a
(17.3%)
$ 556,203
26,864
$ 583,067
$ 543,241
–
$ 543,241
$ 12,962
26,864
$ 39,826
2.4%
n/a
7.3%
Gross Premiums Written
Gross premiums written increased in 2006 due to the acquisition of PIC Wisconsin in August
2006 and NCRIC in August 2005; however, reductions in premium from a more competitive market
significantly mitigated overall premium growth. These results are consistent with our strategy to grow
through selective acquisitions and to maintain our underwriting and pricing discipline in periods of
market softening.
Our most significant premium source is physician premiums, totaling $490 million in 2006 and
$483 million in 2005, which comprised 85% of total premiums in 2006 and 84% of total premiums in
2005. The overall increase in physician premiums reflects additional premiums from the PIC Wisconsin
and NCRIC acquisitions offset by a decrease in premiums written in our organic book of business. The
decline in physician premiums in our organic book of business is attributable to several factors. In 2006,
our rate increases were not at a level that would offset the effects of lost business. Loss costs have
moderated somewhat and as a result, we have implemented smaller rate increases than in prior years
and have held rates constant or lowered rates in some markets. Our average rate increase on
52
physician renewals (exclusive of PIC Wisconsin) is approximately 3% for 2006 as compared to 11% for
2005. Premiums written for physician coverages have also declined due to an increasingly competitive
landscape. In a number of our markets established providers have become more aggressive and new
providers, including off-shore providers, self-insurance and risk retention groups, have begun to pursue
business. The additional competition, which is frequently focused on price, has reduced both our
retention rate and the amount of new business we have chosen to write. We are focused on marketing
our policies based on our stability, strength and policyholder defense. However, we remain committed
to an adequate rate structure and will continue our policy of foregoing business that cannot be written at
our profit goals. Our overall retention rate (exclusive of PIC Wisconsin) for the number of standard
physician risks that we insure is 84% for the year ended December 31, 2006 as compared to 85% for
the year ended December 31, 2005. The competitive pricing in the marketplace makes it more difficult
for us to attract new business.
Extended reporting endorsement or "tail" policies are offered to insureds that are discontinuing
their claims-made coverage with us. The amount of tail premium written in any annual period varies, but
represented approximately 5% of total premiums in both 2006 and 2005. As competition in the medical
professional liability industry has intensified, it is common for insurers to write prior acts coverage to
new insureds, which has reduced the amount of tail premium that we write. Our preference is to sell
less rather than more of this coverage since it represents a long-term liability with increased pricing risk.
Tail premiums, exclusive of PIC Wisconsin, declined by approximately $1.9 million in 2006 as
compared to 2005.
Premiums written for non-physician coverages totaled $60.5 million for the year ended
December 31, 2006 as compared to $60.9 million for the year ended December 31, 2005. Premiums for
hospital and facility coverages are the most significant component of non-physician coverages.
Excluding premiums of $4.1 million written by PIC Wisconsin, hospital and facility coverages declined
by $7.5 million in 2006 as compared to 2005 largely due to the nonrenewal of two large policies. This
segment of business is highly price sensitive and individual policies for these coverages can carry large
amounts of premiums. 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, premiums for these coverages
can fluctuate widely from period to period.
Premiums Earned
Because premiums are generally earned pro rata over the policy period, fluctuations in
premiums earned tend to lag those of premiums written. Our policies generally carry a term of one year.
In the twelve months that follow the acquisition of an insurance subsidiary, our premiums
earned include premiums earned related to the subsidiary's unexpired policies on the date of
acquisition (unearned premium). Such premiums are earned over the remaining term of the associated
policy.
Premiums earned for the year ended December 31, 2006 as compared to the same period in
2005 reflects the changes in written premiums that have occurred during 2006 and 2005, on a pro rata
basis, as well as the premiums earned related to the unexpired policies acquired in the PIC Wisconsin
and NCRIC transactions. Such additional earned premium approximated $38.3 million for the year
ended December 31, 2006 and approximated $28.4 million for the year ended December 31, 2005.
53
Premiums Ceded
Premiums ceded represent the portion of earned premiums that we pay to our reinsurers for
their assumption of a portion of our losses. The amount of premium that is due to our reinsurers is
determined, in part, by the loss experience of the business ceded to them. We reduced ceded
premiums by $10.5 million in 2006 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 2006 by $2.7 million related to the commutation of all of our outstanding reinsurance arrangements
with the Converium group of companies. After adjustment for these two items, and excluding PIC
Wisconsin, 2006 ceded premiums are 8.4% of 2006 earned premiums as compared to approximately
8.9% in 2005. The difference is largely due to improved loss experience relative to business we ceded
to reinsurers in 2006 which resulted in a lower amount of ceded premium.
Losses and Loss Adjustment Expenses
The determination of calendar year losses involves the actuarial evaluation of incurred losses
for the current accident year and the actuarial re-evaluation of incurred losses for prior accident years.
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 generally 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 the operating results for the current accident year and 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, 2006 and 2005 by separating losses between the current accident year and all prior accident years.
Net Losses
Year Ended December 31
2005
In millions
Change
2006
Net Loss Ratios*
Year Ended December 31
2005
2006
Change
Current accident year:
PRA
PIC Wisconsin Acquisition
Consolidated
$ 445.3
34.3
$ 479.6
$ 461.2
–
$ 461.2
$ (15.9)
34.3
$ 18.4
80.1%
127.5%
82.3%
84.9%
–
84.9%
Prior accident years, all PRA:
$ (36.3)
$ (23.0)
$ (13.3)
(6.6%)
(4.2%)
Calendar year:
PRA
PIC Wisconsin Acquisition
Consolidated
$ 409.0
34.3
$ 443.3
$ 438.2
–
$ 438.2
$ (29.2)
34.3
5.1
$
73.5%
127.5%
76.0%
80.7%
–
80.7%
(4.8)
n/a
(2.6)
(2.4)
(7.2)
n/a
(4.7)
*Net losses as specified divided by net premiums earned.
We focus on developing and maintaining adequate rates. Exclusive of PIC Wisconsin, as a
percentage of net earned premiums (the net loss ratio) current accident year net losses have declined
4.8 points during 2006. This decline in the PRA current accident year net loss ratio is attributable to the
improved rate adequacy of premiums earned in 2006. The decrease in the dollar amount of PRA
current accident year net losses for 2006 principally reflects decreases in the number of insured risks in
2006 as compared to 2005.
PIC Wisconsin's current accident year net loss ratio is higher than that of our other subsidiaries
for a number of reasons. PIC Wisconsin losses for prior accident years developed adversely during
2006, in the amount of $5.8 million. Because PIC Wisconsin was acquired by PRA during 2006, these
losses are considered to be current year losses for PRA. As a result of this loss development, PIC
Wisconsin incurred additional reinsurance expense under the retrospective premium provisions of its
reinsurance contracts. The combination of increased net losses and reduced net premium resulted in
54
an unusually high loss ratio. Rate increases have been implemented in an attempt to bring PIC
Wisconsin's loss ratio to more acceptable levels.
During calendar year 2006 we recognized favorable development of $36.3 million related to our
previously established (prior accident year) reserves, primarily to reflect reductions in our estimates of
claim severity, within our retained layer of risk, for the 2002, 2003 and 2004 accident years. Over the
past several years we have seen claims severity (i.e., the average size of a claim) increase at a rate
slower than initially expected. Given both the long tailed nature of our business and the past volatility of
claims, we are generally cautious in recognizing the impact of the underlying trends that lead to the
recognition of favorable development. As we conclude that sufficient data with respect to these trends
exists to credibly impact our actuarial analysis we take appropriate actions. In the case of the claims
severity trends for 2002-2004, we believe it is appropriate to recognize the favorable impact of trends
on prior period loss estimates while also remaining cautious about the past volatility of claims severity.
While we have begun to see an increase in the number of larger verdicts being rendered this has not
had a meaningful impact on the severity of claims within the first $1 million of risk.
During 2006, we have seen an increased number of verdicts in excess of the policy limits that
we offer to our insureds. As a part of our reserving process we evaluate the likely outcomes from these
verdicts giving consideration to appellate issues, coverage issues, potential recoveries from our
insurance and reinsurance programs, and settlement discussions as well as our historical claims
resolution practices. This information is then used in evaluating the overall adequacy of our reserve.
In the risk layers above $1 million, generally the business for which we purchase reinsurance,
we recognized approximately $12.4 million of favorable development of gross losses, offset by a
corresponding decrease in the recoverable from our reinsurers. Our analysis of the long-term data does
indicate an overall improvement in the severity trends at this level, despite the increased frequency of
verdicts in excess of policy limits, and we believe the amount of favorable development represents a
cautious recognition of this trend within the excess layers.
Assumptions used in establishing our reserve 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, 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.
Two measures often used to gauge insurance operations are the paid to incurred ratio and the
paid loss ratio. These ratios are affected by changes in the timing and volume of losses paid, which
generally relate to losses incurred in prior periods, and by changes in the level of incurred losses (paid
to incurred ratio) or the volume of premiums earned (the paid loss ratio) in the current calendar year.
Our paid to incurred loss ratios for the years ended December 31, 2006 and 2005 are 62.0% and
51.6%, respectively. Our paid loss ratio for the years ended December 31, 2006 and 2005 are 47.2%
and 41.6%, respectively.
Net Investment Income and Net Realized Investment Gains (Losses)
Year Ended December 31
Increase
(Decrease)
2005
$ in thousands
2006
Net investment income:
PRA
PIC Wisconsin Acquisition
Consolidated
$ 143,085
6,704
$ 149,789
$ 99,193
–
$ 99,193
$ 43,892
44.2%
6,704 n/a
$ 50,596
51.0%
Net investment income is primarily derived from the interest income earned by our fixed
maturity securities and includes interest income from short-term, trading portfolio and cash equivalent
investments, dividend income from equity securities, earnings from other investments and increases in
the cash surrender value of business owned executive life insurance contracts. Investment fees and
expenses are deducted from investment income.
55
The increase in net investment income for the year 2006 as compared to 2005 is due to several
factors, the most significant being higher average invested funds. The proceeds from the sale of the
MEEMIC companies received in early January, the PIC Wisconsin and NCRIC mergers, and positive
cash flow generated by our insurance operations significantly increased our average invested funds
during 2006.
Rising market interest rates of the past several years have further contributed to the
improvement in net investment income. We have been able to invest new and matured funds at higher
rates and this has steadily increased the average yield of our portfolio. Our average yields for the years
ended December 31, 2006 and 2005 are as follows:
Average income yield
Average tax equivalent income yield
Year Ended December 31
2006
4.5%
5.1%
2005
4.2%
4.8%
Net investment income by investment category is as follows:
Fixed maturities
Equities
Short-term investments
Other invested assets
Business owned life insurance
Investment expenses
Net investment income
2006
2005
In thousands
$ 130,386
414
15,567
5,309
2,285
153,961
(4,172)
$ 149,789
$ 90,496
773
3,608
5,045
2,298
102,220
(3,027)
$ 99,193
PIC Wisconsin investment income is almost entirely derived from fixed maturities. Other than
the effect of PIC Wisconsin, the variations in the categories between years largely reflect growth of our
investment portfolio and improved yields as already discussed. Income from short-term investments
increased during 2006 largely because proceeds from the sale of our personal
lines segment were
invested in short term investments during most of 2006 which increased average invested balances, but
also increased as a result of higher yields and additional income from PIC Wisconsin.
The components of net realized investment gains (losses) are shown in the following table.
Year Ended December 31
2006
2005
In thousands
Net gains (losses) from sales*
Other-than-temporary impairment losses
Trading portfolio gains (losses)
Net realized investment gains (losses)
$ 1,717
(3,037)
121
$ (1,199)
$ 1,567
(768)
113
$ 912
*Amounts for 2006 include PIC Wisconsin net gains (losses) of $761,000.
$2.6 million of the other-than-temporary impairment losses recognized during 2006 relate to our
high-yield asset backed bond portfolio. In the latter part of the year market assumptions regarding
default rates on asset backed securities increased leading to an indication of impairment for these
securities.
56
Underwriting, Acquisition and Insurance Expenses
The increase in underwriting, acquisition and insurance expenses for 2006 reflects additional
costs related to the addition of NCRIC and PIC Wisconsin operations, higher compensation costs,
principally from the recognition of stock-based compensation costs, and an increase in guaranty fund
assessments.
The increase in the underwriting expense ratio for 2006 is attributable to higher compensation
costs referred to above and additionally the increase in guaranty fund assessments. The additional
NCRIC and PIC Wisconsin expenses had little effect on the expense ratio due to the corresponding
increase in earned premium resulting from the acquisition.
Underwriting, Acquisition
and Insurance Expenses
Year Ended December 31
2006
2005
$ in thousands
Increase
(Decrease)
Underwriting Expense Ratio
Year Ended December 31
2006
2005
Increase
(Decrease)
PRA
PIC Wisconsin Acquisition
Consolidated
$ 100,867
5,502
$ 106,369
$ 91,957
–
$ 91,957
$ 8,910
5,502
$ 14,412
9.7%
n/a
15.7%
18.1% 16.9%
20.5%
–
18.2% 16.9%
1.2
n/a
1.3
On January 1, 2006 we adopted SFAS 123R which requires share-based compensation to be
recognized at its fair value over the period in which employee services are provided. We previously
valued stock option awards based on their intrinsic value which generally did not result in compensation
expense related to those awards. Stock-based compensation expense increased our expenses by
approximately $4.7 million (0.8% of net premiums earned) in 2006. Guaranty fund assessments were
approximately $2.6 million (0.4% of net premiums earned) for 2006 as compared to approximately
$226,000 for 2005. In 2006 we received assessments totaling $2.3 million from the Florida Insurance
Guaranty Association, Inc. related to catastrophic weather events during the year 2004. We will
endeavor to recoup this expense with a premium surcharge to our Florida insureds.
Interest Expense
Interest expense increased approximately $1.5 million during 2006 as compared to 2005 due to
debt we assumed in our acquisitions of NCRIC ($15.5 million in August 2005) and PIC Wisconsin
($11.6 million in August 2006). Interest expense also increased because our Subordinated Debentures
carry variable rates based on LIBOR and the average LIBOR rate increased approximately 2
percentage points in 2006 as compared to 2005.
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:
Year Ended December 31
2006
2005
Statutory rate
Tax-exempt income
Other
Effective tax rate
35%
(8%)
1%
28%
35%
(9%)
–
26%
The increase in our 2006 effective tax rate is primarily the result of our tax-exempt income
being a smaller percentage of total income than in prior periods.
57
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:
Year Ended December 31
2005
2004
$ in thousands
Increase
(Decrease)
$ 572,960
$ 573,592
$
(632)
$ 521,343
$ 535,028
$ (13,685)
$ 596,557
(53,316)
543,241
99,193
912
4,604
$ 555,524
(35,627)
519,897
77,669
7,572
2,419
$ 41,033
(17,689)
23,344
21,524
(6,660)
2,185
647,950
607,557
40,393
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
479,300
(41,099)
438,201
91,957
8,929
539,087
108,863
28,837
80,026
33,431
447,521
12,916
460,437
86,784
6,515
553,736
53,821
10,778
43,043
29,768
31,779
(54,015)
(22,236)
5,173
2,414
(14,649)
55,042
18,059
36,983
3,663
Net income
$ 113,457
$ 72,811
$ 40,646
Net loss ratio
Underwriting expense ratio
Combined ratio
Operating ratio
Return on equity
80.7%
16.9%
97.6%
79.3%
11.6%
88.6%
16.7%
105.3%
90.4%
7.4%
(7.9)
0.2
(7.7)
(11.1)
4.2
58
Effect of Acquisition of NCRIC (2005–2004)
Our discussions of 2005 operating results as compared to 2004 results include tables intended
to facilitate an understanding of the effect of the NCRIC acquisition. The caption “NCRIC acquisition”
designates results attributable to NCRIC. The caption “PRA” designates all other operating results.
We acquired NCRIC effective August 3, 2005 and our results for the year ended December 31,
2005 include NCRIC results for the five-month period subsequent to the date of acquisition. Operating
results for 2004 do not include NCRIC results. Due to the short period since completion of the
acquisition, the effect of the NCRIC acquisition on our 2005 results can be readily segregated.
Premiums
Gross premiums written:
PRA
NCRIC Acquisition
Continuing operations
Premiums earned:
PRA
NCRIC Acquisition
Continuing operations
Premiums ceded:
PRA
NCRIC Acquisition
Continuing operations
Net premiums earned:
PRA
NCRIC Acquisition
Continuing operations
Year Ended December 31
2005
2004
$ in thousands
Increase
(Decrease)
$ 548,078
24,882
$ 572,960
$ 573,592
–
$ 573,592
$ (25,514)
24,882
(632)
$
(4.4%)
n/a
(0.1%)
$ 562,339
34,218
$ 596,557
$ 555,524
–
$ 555,524
$
6,815
34,218
$ 41,033
1.2%
n/a
7.4%
$ (47,729)
(5,587)
$ (53,316)
$ (35,627)
–
$ (35,627)
$ (12,102)
(5,587)
$ (17,689)
34.0%
n/a
49.7%
$ 514,610
28,631
$ 543,241
$ 519,897
–
$ 519,897
$
(5,287)
28,631
$ 23,344
(1.0%)
n/a
4.5%
Gross Premiums Written
Gross premiums written in 2005 reflects reductions in premium written related to our organic
book of business, which were largely offset by the additional premiums related to the acquisition of
NCRIC.
Approximately $16.0 million of the 2005 decrease in premiums written is due to lower physician
premiums from our organic book of business. In 2005, rates on our renewed policies (excluding NCRIC
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 chose to write.
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.
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.
59
Premiums Earned
In the twelve months that follow the acquisition of an insurance subsidiary, our premiums
earned include premiums earned related to the subsidiary’s unexpired policies on the date of
acquisition (unearned premium). Such premiums are earned over the remaining term of the associated
policy.
Premiums earned for the year ended December 31, 2005 as compared to the same period in
2004 generally reflects on a pro rata basis the changes in written premiums that have occurred during
2005 and 2004. However, because tail premiums are fully earned in the period written, 2005 earned
premiums also reflects 100% of the 2005 decline in tail premiums written. Additionally, 2005 earned
premium includes earned premiums of approximately $28 million related to unexpired policies acquired
in the NCRIC transactions.
Premiums 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.
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 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
2004
In millions
2005
Change
Net Loss Ratios*
Year Ended December 31
2004
2005
Change
Current accident year:
PRA
NCRIC Acquisition
Continuing operations
$ 431.8
29.4
$ 461.2
$ 469.2
–
$ 469.2
$ (37.4)
29.4
(8.0)
$
83.9% 90.2%
102.8%
84.9% 90.2%
–
Prior accident years, all PRA:
$ (23.0)
$
(8.7)
$ (14.3)
(4.2%)
(1.6%)
Calendar year:
PRA
NCRIC Acquisition
Continuing operations
$ 408.8
29.4
$ 438.2
$ 460.4
–
$ 460.4
$ (51.6)
29.4
$ (22.2)
79.4% 88.6%
102.8%
80.7% 88.6%
–
(6.3)
n/a
(5.3)
(2.6)
(9.2)
n/a
(7.9)
*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 reserve, 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.
We decreased our estimate of prior year net losses by $8.7 million in 2004, a small adjustment
(0.7%) relative to our 2003 net reserve.
60
Gross Losses and Reinsurance Recoveries
The following table reflects our losses on both a gross and a net basis.
Gross and Net Losses
Year Ended December 31
2005
2004
In millions
Increase
(Decrease)
$ 448,630
30,670
479,300
$ 447,521
–
447,521
$
1,109
30,670
31,779
39,851
1,248
41,099
(12,916)
–
(12,916)
52,767
1,248
54,015
408,779
29,422
$ 438,201
460,437
–
$ 460,437
(51,658)
29,422
$ (22,236)
Gross Losses
PRA
NCRIC Acquisition
Consolidated
Reinsurance Recoveries
PRA
NCRIC Acquisition
Consolidated
Net Losses
PRA
NCRIC Acquisition
Consolidated
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.
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.
61
Net Investment Income and Net Realized Investment Gains (Losses)
Year Ended December 31
2005
2004
In thousands
Increase
(Decrease)
Net investment income:
PRA
NCRIC Acquisition
Continuing operations
$ 95,431
3,762
$ 99,193
$ 77,669
–
$ 77,669
$ 17,762
3,762
$ 21,524
22.9%
n/a
27.7%
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 as did the acquisition of NCRIC.
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.
We have been able to invest new and matured funds at higher rates and this has steadily increased the
average yield of our portfolio. Our average tax equivalent income yield on a consolidated basis for the
years ended December 31, 2005 and 2004 are as follows.
Average income yield
Average tax equivalent income yield
Year Ended December 31
2005
4.2%
4.8%
2004
4.0%
4.4%
Net investment income by investment category is as follows:
Fixed maturities
Equities
Short-term investments
Other invested assets
Business owned life insurance
Investment expenses
Net investment income
2005
2004
In thousands
$ 90,496
773
3,608
5,045
2,298
102,220
(3,027)
$ 99,193
$ 69,950
1,736
1,296
4,592
2,432
80,006
(2,337)
$ 77,669
The components of net realized investment gains (losses) are shown in the following table.
Year Ended December 31
2005
2004
In thousands
Net gains (losses) from sales
Other-than-temporary impairment losses
Trading portfolio gains (losses)
Net realized investment gains (losses)
$ 1,567
(768)
113
$ 912
$ 5,285
(611)
2,898
$ 7,572
62
Underwriting, Acquisition and Insurance 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
Increase
(Decrease)
2004
$ in thousands
Underwriting Expense Ratio
Year Ended December 31
2005
2004
Increase
(Decrease)
PRA
NCRIC Acquisition
Continuing operations
$ 87,405
4,552
$ 91,957
$ 86,784
–
$ 86,784
$
621
4,552
$ 5,173
0.7%
n/a
6.0%
17.0%
15.9%
16.9%
16.7%
–
16.7%
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
Year Ended December 31
2005
35%
(9%)
–
–
26%
2004
35%
(11%)
(3%)
(1%)
20%
63
Recent Accounting Pronouncements and Guidance
Effective January 1, 2006, we adopted 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). Previously, we valued employee stock-based payments using the intrinsic
value method of Accounting Principle Board Opinion (APB) No. 25, Accounting for Stock Issued to
Employees (APB 25). Accordingly, we did not generally recognize compensation cost related to such
payments but provided pro forma disclosure of the effect on net income and earnings per share of
applying the fair value provisions of SFAS 123.
The provisions of SFAS 123(R) require share-based payments to employees to be recognized
in the financial statements based on their fair values. We adopted SFAS 123(R) using the modified-
prospective-transition method permitted by the statement. Under this method compensation expense to
be recognized over the related service periods includes: (a) compensation cost for share-based
payments granted but not vested prior to adoption, based upon the grant-date fair values estimated in
accordance with the original provisions of SFAS 123, and (b) compensation cost for share-based
payments granted subsequent to adoption based on the grant-date fair value estimated in accordance
with the provisions of Statement 123(R). In accordance with the modified-prospective-transition method,
prior periods were not restated.
Under SFAS 123(R) we recognized approximately $4.7 million of compensation expense during
2006. See Note 12 to our Consolidated Financial Statements for additional information regarding stock-
based payments.
The Financial Accounting Standards Board (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 adopted SFAS 154 effective January
1, 2006; however, to date, the adoption has had no effect.
In June 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income
Taxes, an interpretation of FAS 109, Accounting for Income Taxes (FIN 48), to create a single model to
address accounting for uncertainty in tax positions. FIN 48 clarifies the accounting for income taxes, by
prescribing a minimum recognition threshold that a tax position is required to meet before being
recognized in the financial statements. FIN 48 also provides guidance on derecognition, measurement,
classification, interest and penalties, accounting for interim periods, disclosure and transition. FIN 48 is
effective for fiscal years beginning after December 15, 2006. We will adopt FIN 48 as of January 1,
2007, as required. We estimate that the cumulative effect of adopting FIN 48 will increase retained
earnings and reduce our tax liability by $2.7 million.
64
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.
As of December 31, 2006, the fair value of our investment in fixed maturity securities was $3.2
billion. These securities are subject primarily to interest rate risk and credit risk. To date, we have not
entered into transactions that require treatment as derivatives pursuant to SFAS 133 "Accounting for
Derivative Instruments and Hedging Activities" as amended and interpreted.
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 generally fall and vice versa. Certain of the securities are held in an unrealized loss
position; we have the current ability and intent to keep such securities until recovery of book value or
maturity.
The following table summarizes estimated changes in the fair value of our available-for-sale and
trading fixed maturity securities for specific hypothetical changes in interest rates as of December 31,
2006.
December 31, 2006
December 31, 2005
Portfolio
Change in
Effective
Portfolio
Interest Rates
Millions
Millions
Years
Value
Value
Duration
200 basis point rise
100 basis point rise
Current rate *
$ 2,911
$ 3,057
$ 3,185
100 basis point decline
$ 3,306
200 basis point decline
$ 3,422
$ (274)
$ (128)
$
–
$ 121
$ 237
4.31
4.20
3.89
3.55
3.51
Value
Millions
$ 2,218
$ 2,310
$ 2,403
$ 2,498
$ 2,595
Effective
Duration
Years
4.07
4.02
3.91
3.82
3.59
*Current rates are as of December 31, 2006 and 2005.
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, 2006 was on a cost
basis which approximates its fair value. This portfolio lacks significant interest rate sensitivity due to its
short duration.
65
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, 2006, 99.0% 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, 2006 the fair value of our investment in common stocks was $14.9 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 0.94. 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 9.4% to $16.3 million.
Conversely, a 10% decrease in the S&P 500 Index would imply a decrease of 9.4% in the fair value of
these securities to $13.5 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 74. 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,
2006. 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, 2006 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, 2006 and that there was no change in the Company's internal controls during the
66
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 PIC Wisconsin's systems and processes from the scope of our
assessment of internal control over financial reporting as of December 31, 2006 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 PIC Wisconsin
from that scope because we expect substantially all of its significant systems and processes to be
converted to those ProAssurance during 2007. At December 31, 2006 PIC Wisconsin represented $392.5
million or 9.0% of total assets from continuing operations, and $34.7 million or 4.7% 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, 2006 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.
67
Report of Independent Registered Public Accounting Firm
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, 2006, 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 Physicians Insurance Company of
Wisconsin, Inc. and subsidiaries ("PIC Wisconsin"), which is included in the 2006 consolidated financial
statements of ProAssurance Corporation and subsidiaries and constituted approximately 9.0% of total
assets as of December 31, 2006 and approximately 4.7% 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 financial reporting of PIC Wisconsin and subsidiaries.
In our opinion, management’s assessment that ProAssurance Corporation and subsidiaries
maintained effective internal control over financial reporting as of December 31, 2006, 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, 2006, 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, 2006 and 2005, 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, 2006, and
our report dated February 28, 2007 expressed an unqualified opinion thereon.
Birmingham, Alabama
February 28, 2007
Ernst & Young LLP
68
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 31, 32 and 33) 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 2007
Annual Meeting of its Stockholders to be filed with the Securities and Exchange Commission pursuant to
Regulation 14A on or before April 16, 2007.
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 2007 Annual Meeting of its
Stockholders to be filed with the Securities and Exchange Commission pursuant to Regulation 14A on or
before April 16, 2007.
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 2007 Annual Meeting of its
Stockholders to be filed with the Securities and Exchange Commission pursuant to Regulation 14A on or
before April 16, 2007.
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 2007 Annual Meeting of its
Stockholders to be filed with the Securities and Exchange Commission pursuant to Regulation 14A on or
before April 16, 2007.
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 2007 Annual Meeting of its
Stockholders to be filed with the Securities and Exchange Commission pursuant to Regulation 14A on or
before April 16, 2007.
69
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a)
Financial Statements. The following consolidated financial statements of ProAssurance
Corporation and subsidiaries are included herein in accordance with Item 8 of Part II of this
report.
Report of Independent Auditors
Consolidated Balance Sheets – December 31, 2006 and 2005
Consolidated Statements of Changes in Capital – years ended December 31,
2006, 2005 and 2004
Consolidated Statements of Income – years ended December 31, 2006, 2005
and 2004
Consolidated Statements of Cash Flows – years ended December 31, 2006,
2005 and 2004
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.
70
SIGNATURES
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 2007.
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/William J. Listwan, M.D.
William J. Listwan, 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, 2007
Chief Financial Officer
February 28, 2007
Chief Accounting Officer
February 28, 2007
Director
Director
Director
Director
Director
Director
Director
Director
Director
Director
71
February 28, 2007
February 28, 2007
February 28, 2007
February 28, 2007
February 28, 2007
February 28, 2007
February 28, 2007
February 28, 2007
February 28, 2007
February 28, 2007
ProAssurance Corporation and Subsidiaries
Consolidated Financial Statements
Years ended December 31, 2006, 2005 and 2004
Table of Contents
Report of Independent Registered Public Accounting Firm........................................................................ 73
Audited Consolidated Financial Statements
Consolidated Balance Sheets .....................................................................................................................74
Consolidated Statements of Changes in Capital ........................................................................................ 75
Consolidated Statements of Income ........................................................................................................... 76
Consolidated Statements of Cash Flow...................................................................................................... 77
Notes to Consolidated Financial Statements ..............................................................................................79
72
Report of Independent Registered Public Accounting Firm
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, 2006 and 2005, 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, 2006. 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, 2006
and 2005, and the consolidated results of their operations and their cash flows for each of the three years
in the period ended December 31, 2006, 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, 2006, 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 28, 2007 expressed an unqualified opinion thereon.
As discussed in Note 1 to the consolidated financial statements, in 2006 the Company changed
its method of accounting for stock compensation.
Birmingham, Alabama
February 28, 2007
Ernst & Young LLP
ProAssurance Corporation and Subsidiaries
Consolidated Balance Sheets
(In thousands, except share data)
Assets
Investments
Fixed maturities available for sale, at fair value
Fixed maturities, trading, at fair value
Equity securities, available for sale, at fair value
Equity securities, trading, at fair value
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
Real estate, net
Other assets
Assets of discontinued operations
Liabilities and Stockholders' Equity
Liabilities
Policy liabilities and accruals:
December 31
December 31
2006
2005
$ 3,136,222
$ 2,403,450
49,218
7,220
7,638
184,280
58,721
48,799
–
10,018
5,181
93,066
56,436
46,168
3,492,098
2,614,319
29,146
113,023
370,763
18,954
112,201
23,135
183,533
–
34,506
106,549
327,693
20,379
103,935
16,623
117,596
567,779
$ 4,342,853
$ 3,909,379
Reserve for losses and loss adjustment expenses
$ 2,607,148
$ 2,224,436
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, 33,398,028 and
31,230,647 shares issued, respectively
Additional paid-in capital
Accumulated other comprehensive income (loss), net of deferred tax expense
(benefit) of $62 and ($4,755), respectively
Retained earnings
Less treasury stock, at cost, 121,765 shares
Total stockholders' equity
See accompanying notes.
74
253,773
106,176
264,258
83,314
2,967,097
2,572,008
78,032
179,177
–
67,572
167,240
337,513
3,224,306
3,144,333
–
–
334
495,848
111
622,310
1,118,603
(56)
1,118,547
312
387,739
(8,834)
385,885
765,102
(56)
765,046
$ 4,342,853
$ 3,909,379
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S
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:
Year Ended December 31
2005
2006
2004
$ 578,983
$ 572,960
$ 573,592
$ 543,376
$ 521,343
$ 535,028
$ 627,166
(44,099)
583,067
149,789
(1,199)
5,941
$ 596,557
(53,316)
543,241
99,193
912
4,604
$ 555,524
(35,627)
519,897
77,669
7,572
2,419
737,598
647,950
607,557
Losses and loss adjustment expenses
Reinsurance recoveries
Net losses and loss adjustment expenses
Underwriting, acquisition and insurance expenses
Interest expense
475,997
(32,668)
443,329
106,369
11,073
479,300
(41,099)
438,201
91,957
8,929
447,521
12,916
460,437
86,784
6,515
Total expenses
560,771
539,087
553,736
Income from continuing operations before income taxes
176,827
108,863
53,821
Provision for income taxes:
Current expense (benefit)
Deferred expense (benefit)
Income from continuing operations
Income from discontinued operations, net of tax
48,456
1,387
49,843
126,984
109,441
28,130
707
28,837
80,026
33,431
10,244
534
10,778
43,043
29,768
Net income
$ 236,425
$ 113,457
$ 72,811
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
$
$
$
$
3.96
3.42
7.38
3.72
3.13
6.85
$
$
$
$
2.66
1.11
3.77
2.52
1.02
3.54
$
$
$
$
1.48
1.02
2.50
1.44
0.93
2.37
32,044
34,925
30,049
32,908
29,164
31,984
See accompanying notes.
76
ProAssurance Corporation and Subsidiaries
Consolidated Statements of Cash Flow
(In thousands)
Continuing Operations:
Operating Activities
Net income
Income from discontinued operations, net of tax
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
Net (purchases) sales of trading portfolio securities
Stock-based compensation
Deferred income taxes
Policy acquisition costs deferred, net of related amortization
Taxes paid related to gain on sale of discontinued operations
Other
Changes in assets and liabilities:
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
Proceeds from sale or maturities of:
Fixed maturities available for sale
Equity securities available for sale
Other investments
Net (increase) decrease in short-term investments
Cash proceeds, net of sales expenses of $4,080, from sale of personal lines operations
Other
Net cash used by investing activities of continuing operations
Financing Activities
Net proceeds from long-term debt
Other
Net cash provided by financing activities of continuing operations
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning at period
Cash and cash equivalents at end of period
(continued)
Year Ended December 31
2005
2006
2004
$ 236,425
(109,441)
$ 113,457
(33,431)
$ 72,811
(29,768)
14,664
4,164
(2,285)
1,199
(51,585)
4,669
1,387
2,845
(54,565)
516
17,868
14,122
7,817
(19,017)
154,274
(48,130)
642
7,261
182,830
(2,384,986)
(407)
(25,364)
1,873,041
38,801
25,074
(83,415)
371,037
(3,426)
(189,645)
20,274
3,727
(2,298)
(912)
(917)
–
707
(1,002)
–
(701)
21,452
3,387
(2,432)
(7,572)
4,610
–
534
(3,352)
–
(622)
19,104
(10,553)
1,119
(1,272)
222,643
(23,514)
14,182
2,977
323,590
1,857
62,637
(1,237)
(1,237)
183,887
18,097
1,933
11,302
336,287
(900,481)
(777)
(2,386)
(1,133,391)
(856)
(4,205)
597,472
44,773
–
(51,903)
–
(124)
(313,426)
677,009
8,854
–
69,737
–
(9,144)
(391,996)
–
1,455
1,455
–
3,644
3,644
44,907
35
44,942
(5,360)
34,506
$ 29,146
13,808
20,698
$ 34,506
(10,767)
31,465
$ 20,698
See accompanying notes.
77
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
Year Ended December 31
2005
2006
2004
$
$
–
–
–
–
–
–
$ 40,920
2,415
–
43,335
9,386
$ 52,721
$ 37,252
(38,446)
–
(1,194)
10,580
$ 9,386
$ 95,748
–
$
$ 25,998
$ 15,528
$ 7,165
$ 15,916
$ 10,192
–
$
$ 8,034
–
$
$ 5,501
–
$
Significant non-cash transactions:
Fixed maturities securities received as proceeds from sale of discontinued operations
Common stock issued in acquisition
$ 24,819
$ 99,128
$
–
$ 67,066
$
$
–
–
See accompanying notes.
78
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
1. Accounting Policies
Organization and Nature of Business
ProAssurance Corporation (ProAssurance), a Delaware corporation, is an insurance holding
company for wholly-owned specialty property and casualty insurance companies that principally provide
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. ProAssurance’s operations are in a single reportable segment.
Segment Information / Discontinued Operations
In January 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 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
intercompany accounts and transactions between
Corporation and its subsidiaries. All significant
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
Currently, rental income from real estate holdings is included in other income; real estate
expenses are included in underwriting, acquisition and insurance expenses. Previously, rental income
from real estate holdings and real estate related expenses were considered as components of net
investment income. To conform to the 2006 financial statement presentation, rental income of $1.1 million
(both years) and real estate related expenses of $2.6 million and $2.4 million were reclassified for the
years ended December 31, 2005 and 2004, respectively. The reclassification had no effect on income
from continuing operations or net income.
Accounting Policies
The significant accounting policies followed by ProAssurance in making estimates that materially
affect financial reporting are summarized in these notes to the consolidated financial statements.
79
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
1. Accounting Policies (continued)
Investments
Fixed Maturities and Equity Securities
Fair Values
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.
Fixed maturities and equity securities are considered as either available-for-sale or trading
securities.
Available for Sale
Available-for-sale securities are carried at fair value, and unrealized gains and losses on such
related tax effects, in stockholders’ equity as a
available-for-sale securities are included, net of
component of “Accumulated other comprehensive income (loss).”
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.
Trading
Trading portfolio securities are carried at fair value with the holding gains and losses included in
realized investment gains and losses in the current period.
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 amortized 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.
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.
80
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
1. Accounting Policies (continued)
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.
Real Estate
Real estate balances are reported at cost or, for properties acquired in business combinations,
estimated fair value on the date of acquisition, less accumulated depreciation. Real estate consists of
properties primarily in use as corporate offices; at December 31, 2006 real estate also includes land held
for sale of $5.3 million acquired as a part of the PIC Wisconsin merger. Depreciation is computed over the
estimated useful lives of the related property using the straight-line method. Excess office capacity
(74,000 square feet at December 31, 2006) is leased or made available for lease; rental income is
included in other income and real estate expenses are included in underwriting, acquisition and insurance
expenses.
Accumulated depreciation is approximately $11.1 million and $9.9 million at December 31, 2006
and 2005, respectively. Real estate depreciation expense for the three years ended December 31, 2006,
2005 and 2004 is $1.3 million, $1.2 million and $1.1 million, respectively.
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 and to allow management to control exposure to potential
losses arising from large risks.
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.
81
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
1. Accounting Policies (continued)
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 determined to be uncollectible is written off in the period in which the
uncollectible amount is identified.
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 of $72.2 million 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
ProAssurance establishes its reserve for losses 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.
82
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
1. Accounting Policies (continued)
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, ProAssurance 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.
Stock-Based Compensation
ProAssurance accounts for stock options under the recognition and measurement principles of
Financial Accounting Standard 123(R), issued December 16, 2004. Prior to the adoption of FAS 123(R)
on January 1, 2006 ProAssurance accounted for stock options under SFAS 123 using 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).
Income Taxes
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.
Accounting Changes
On December 16, 2004 the Financial Accounting Standards Board (FASB) issued Statement of
Financial Accounting Standard (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 Accounting Principles Board (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 be reported as a financing cash
flow, rather than as an operating cash flow as required under previous literature. ProAssurance adopted
SFAS 123(R) on January 1, 2006, the required effective date, using the "modified prospective" method
permitted by the statement. The disclosures required by SFAS 123(R) are provided in Note 12.
The FASB issued SFAS 154, Accounting Changes and Error Corrections, in May 2005 as a
replacement for 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 adopted SFAS 154 effective January 1, 2006; however, to date, the adoption has had no
effect.
In June 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income
Taxes, an interpretation of FAS 109, Accounting for Income Taxes (FIN 48), to create a single model to
address accounting for uncertainty in tax positions. FIN 48 clarifies the accounting for income taxes, by
prescribing a minimum recognition threshold that a tax position is required to meet before being
recognized in the financial statements. FIN 48 also provides guidance on derecognition, measurement,
classification, interest and penalties, accounting for interim periods, disclosure and transition. FIN 48 is
effective for fiscal years beginning after December 15, 2006. ProAssurance will adopt FIN 48 as of
January 1, 2007 and estimates the cumulative effect of adopting FIN 48 will increase retained earnings
and reduce tax liabilities by $2.7 million.
83
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
2. Acquisitions
ProAssurance acquired 100% of the outstanding shares of Physicians Insurance Company of
Wisconsin, Inc. (PIC Wisconsin) on August 1, 2006 and acquired 100% of the outstanding shares of
NCRIC Corporation (NCRIC) on August 3, 2005, as a means of expanding its operations geographically.
PIC Wisconsin is an insurance company that focuses on medical professional insurance. PIC Wisconsin's
largest premium states are Wisconsin and Iowa. NCRIC is a holding company; its primary subsidiary is
NCRIC, Inc., an insurance company also focused on providing medical professional liability insurance.
NCRIC, Inc.'s premium revenues are concentrated in Washington, D.C. and adjacent states.
Both acquisitions were stock-for-stock transactions accounted for as purchase transactions in
accordance with SFAS 141. In the PIC Wisconsin transaction ProAssurance issued approximately 2.0
million common shares which were valued in the determination of the purchase price at $49.76 per share,
which is the average PRA stock price for three days before and after July 31, 2006, the date on which the
number of shares issued in the transaction was determined. In the NCRIC transaction, PRA issued
approximately 1.7 million common shares which were valued in the determination of the purchase price at
$40.54 per share, which is the average PRA stock price for three days before and after February 28,
2005 (the date the terms of the acquisition were agreed to and publicly announced). In both transactions,
the purchase price was allocated to the assets acquired and liabilities assumed based on estimates of
their respective fair values at the date of acquisition. Goodwill of $42.7 million (PIC Wisconsin) and $25.0
million (NCRIC) 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 following chart summarizes the total cost of the acquisition and the allocation of the purchase
price (in millions):
Aggregate Purchase Price:
Fair value of ProAssurance common shares issued
$
99.1
Other acquisition costs
Aggregate purchase price
4.6
$ 103.7
$
$
67.1
4.1
71.2
PIC Wisconsin
NCRIC
Assets (liabilities) acquired, at fair value:
Fixed maturities, available for sale
Equity securities, available for sale
Short-term investments
Premiums receivable
Receivable from reinsurers on unpaid losses and
loss adjustment expenses
Other assets
Reserve for losses and loss adjustment expenses
Unearned premiums
Long-term debt
Liability for judgment
Other liabilities
$ 199.3
$ 185.0
34.4
7.8
24.3
57.2
45.4
(228.4)
(37.6)
(11.6)
–
(29.8)
27.8
3.2
9.1
43.5
46.7
(183.2)
(39.2)
(15.5)
(19.5)
(11.7)
Fair value of net assets acquired
$
61.0
$
46.2
84
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
2. Acquisitions (continued)
The fair values of the reserves for losses and related reinsurance recoverables (the net loss
reserves) acquired in the PIC Wisconsin and NCRIC transactions were estimated as of the dates of
acquisition based on present value of the expected underlying net cash flows, and include a profit margin
and a risk premium. In determining each fair value estimate, management discounted the purchased
company's historical undiscounted loss reserves, both based on recent actuarial reviews, to present value
assuming discounting patterns actuarially developed from the historical loss data of each company. The
discount rates used, 4.86% for PIC Wisconsin and 4.31% for NCRIC, approximate the risk-free treasury
rate on the acquisition date for maturities similar to the estimated duration of the reserve being valued.
For each estimate 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 loss reserves, an
estimated risk premium of 5% was also applied to the discounted loss reserves. In both instances, the
calculation resulted in a fair value estimate which was not materially different than the historical loss
reserves and therefore did not result in an adjustment to the historical reserve amount.
for
Actuarial reviews performed in connection with the finalization of ProAssurance's purchase
accounting for PIC Wisconsin indicated that initial estimates of the acquisition date fair value of PIC
Wisconsin's reserve
losses, reinsurance recoverables and ceded premiums payable were
understated. In accordance with SFAS 141, at December 31, 2006 the allocation of the PIC Wisconsin
purchase price has been adjusted to reflect the revised estimates for these balances and the related
balances of taxes recoverable and deferred tax assets. The above summary of assets (liabilities)
acquired reflects the revised estimates. The combined effect of the revisions reduced the initial estimates
of the fair value of net assets acquired by $5.0 million and increased goodwill by the same amount.
85
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
3. Discontinued Operations
Effective January 1, 2006 ProAssurance sold its wholly owned subsidiaries, MEEMIC Insurance
Company and MEEMIC Insurance Services (collectively, the MEEMIC Companies) to Motors Insurance
Corporation, a subsidiary of GMAC Insurance Holdings, Inc., for total consideration of $400 million before
taxes and
the only active entities of
ProAssurance's personal lines operations.
transaction expenses. The MEEMIC Companies were
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's net assets approximated the sales price less sale expenses.
In accordance with SFAS 144, the assets, liabilities and operating results attributed to the
personal lines operations and the operating results of ConsiCare are reported as discontinued operations
in the Consolidated Financial Statements.
The following tables provide detailed information regarding the financial statement lines identified
as discontinued operations.
Personal Lines results:
Net premiums earned
Net investment income
Other revenues
Net losses and loss adjustment expenses
Underwriting, acquisition and insurance expenses
Gain from sale of discontinued operations
Provision for income taxes
Personal lines results, net of tax
ConsiCare results, net of tax
Income from discontinued operations, net of tax
2006
2005
In thousands
2004
$
–
–
–
–
–
164,006
(54,565)
109,441
–
$ 109,441
$ 187,903
12,817
2,871
(110,929)
(43,323)
–
(15,805)
33,534
(103)
$ 33,431
$ 183,365
10,879
2,395
(112,444)
(40,548)
–
(13,879)
29,768
–
$ 29,768
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, including goodwill of $16.2 million
Total
Liabilities of Discontinued Operations:
Reserve for losses and loss adjustment expenses
Unearned premiums
Other liabilities
Total
December 31
2005
In thousands
$ 261,896
52,721
15,063
171,820
66,279
$ 567,779
$ 252,294
65,429
19,790
$ 337,513
86
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
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. treasury securities
Government-sponsored enterprises
State and municipal bonds
Corporate bonds
Asset-backed securities
Equity securities
Fixed Maturities
U.S. treasury securities
Government-sponsored enterprises
State and municipal bonds
Corporate bonds
Asset-backed securities
Equity securities
Cost
or
Amortized
Cost
December 31, 2006
Gross
Unrealized
Gains
Gross
Unrealized
(Losses)
In thousands
Estimated
Fair
Value
$
$
57,400
232,193
1,190,651
629,809
1,028,595
3,138,648
4,618
$ 3,143,266
$
105
129
10,497
4,356
7,638
22,725
2,602
25,327
$
(528)
(1,373)
(2,921)
(9,162)
(11,167)
(25,151)
–
$
56,977
230,949
1,198,227
625,003
1,025,066
3,136,222
7,220
$
(25,151)
$ 3,143,442
Cost
or
Amortized
Cost
$
45,350
129,410
906,192
627,385
710,284
2,418,621
7,858
December 31, 2005
Gross
Unrealized
Gains
Gross
Unrealized
(Losses)
In thousands
Estimated
Fair
Value
$
3
–
7,185
6,422
1,518
15,128
2,295
$
(443)
(1,837)
(6,258)
(10,587)
(11,174)
(30,299)
(135)
$
44,910
127,573
907,119
623,220
700,628
2,403,450
10,018
$ 2,426,479
$ 17,423
$ (30,434)
$ 2,413,468
The following table provides summarized information with respect to available-for-sale securities
held in an unrealized loss position at December 31, 2006, including the length of time the securities have
been held in a continuous unrealized loss position.
Fixed maturities, available for sale
U.S. treasury securities
$
Government-sponsored enterprises
State and municipal bonds
Corporate bonds
Asset-backed securities
Available for sale securities held
with unrealized losses
Total
Fair
Value
Unrealized
Loss
December 31, 2006
Less than 12 months
Unrealized
Loss
Fair
Value
In thousands
More than 12 months
Fair
Value
Unrealized
Loss
37,578
172,288
394,288
429,692
585,030
$
(528)
(1,374)
(2,921)
(9,162)
(11,166)
$ 21,118
89,710
131,239
93,711
129,333
$
(116)
(116)
(528)
(727)
(1,456)
$
16,460 $
82,578
263,049
335,981
455,697
(412)
(1,258)
(2,393)
(8,435)
(9,710)
$ 1,618,876
$ (25,151)
$ 465,111 $
(2,943)
$ 1,153,765 $ (22,208)
87
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
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 98% 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 1,000 securities in an unrealized loss position.
Management considers the unrealized loss on 14 of those securities to be credit related; the unrealized
losses related to these securities total approximately $900,000. The single greatest credit-related
unrealized loss position approximates $162,000; the second greatest credit-related unrealized loss
position is an unrealized loss of approximately $146,000. 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 our available-for-sale fixed maturities at December
31, 2006, 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
$ 117,130
710,931
593,289
688,703
1,028,595
$ 116,567
706,900
594,706
692,983
1,025,066
$ 3,138,648
$ 3,136,222
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, 2006.
At December 31, 2006 ProAssurance has available-for-sale securities with a fair value of $12.7
million on deposit with various state insurance departments to meet regulatory requirements.
Business Owned Life Insurance
ProAssurance holds BOLI policies on management employees that were purchased 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.
88
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
4. Investments (continued)
Net Investment Income / Net Realized Investment Gains (Losses)
Net investment income by investment category is as follows:
Fixed maturities
Equities
Short-term investments
Other invested assets
Business owned life insurance
Investment expenses
Net investment income
2006
2005
In thousands
2004
$ 130,386
414
15,567
5,309
2,285
$ 90,496
773
3,608
5,045
2,298
$ 69,950
1,736
1,296
4,592
2,432
153,961
(4,172)
102,220
(3,027)
80,006
(2,337)
$ 149,789
$ 99,193
$ 77,669
Gross investment gains and losses are primarily from sales of investment securities. Net realized
investment gains (losses) are as follows:
2006
2005
In thousands
2004
Gross gains, available-for-sale and short-term securities
Gross losses, available-for-sale and short-term securities
Net realized gains (losses), trading securities
Change in unrealized holding gains (losses), trading securities
Other than temporary impairments
Net realized investment gains (losses)
$ 5,127
(3,410)
(138)
259
(3,037)
$ 3,488
(1,921)
51
62
(768)
$ 6,998
(1,713)
2,811
87
(611)
$ (1,199)
$ 912
$ 7,572
Net gains (losses) related to fixed maturities included in the above table are ($2.5) million,
$836,000 and $3.7 million during 2006, 2005 and 2004, respectively.
Proceeds from sales (excluding maturities and paydowns) of available-for-sale securities were
$1.6 billion, $441.0 million and $500.5 million during 2006, 2005 and 2004, respectively, including
proceeds from sales of adjustable rate, short-duration fixed maturities of approximately $1.2 billion and
$138.3 million, and $69.7 million, respectively. Purchases of adjustable rate, short-duration fixed
maturities approximated $1.4 billion, $120.9 million, and $85.4 million during the same respective periods.
89
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
5. Reinsurance
ProAssurance has various quota share, excess of loss, and cession reinsurance agreements.
Historically, professional liability per claim retention levels have varied between 90% and 100% of the first
$200,000 to $2 million and between 0% and 10% of claims exceeding those levels 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:
2006 Premiums
2005 Premiums
2004 Premiums
Written
Earned
Written
Earned
Written
Earned
In thousands
Direct
Assumed
Ceded
$ 578,963
$ 627,148
$ 572,692
$ 596,289
$ 573,496
$ 555,428
20
18
268
268
96
96
(35,607)
(44,099)
(51,617)
(53,316)
(38,564)
(35,627)
Net premiums
$ 543,376
$ 583,067
$ 521,343
$ 543,241
$ 535,028
$ 519,897
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, 2006, all reinsurance recoverables are considered collectible. Reinsurance
recoverables totaling approximately $38.4 million are collateralized by letters of credit or funds withheld.
At December 31, 2006 no amounts due from individual reinsurers exceed 5% of stockholders’ equity.
During 2006, ProAssurance commuted (terminated) its outstanding reinsurance arrangements
with the Converium group of companies for approximately $4.2 million in cash. The transaction reduced
its receivable from reinsurers by approximately $250,000 (net of cash received) and reduced its
reinsurance liabilities by approximately $2.7 million, resulting in a gain on the commutation of
approximately $2.4 million.
During 2004, ProAssurance commuted its various reinsurance 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.
90
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
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 and other contingencies (see Note 9)
Loss and credit carryovers
Basis differences–investments
Compensation related
Unrealized losses on investments, net
Other
2006
2005
In thousands
$ 88,988
$ 77,049
18,939
19,026
7,636
3,366
5,350
5,286
–
2,199
6,825
4,006
1,477
2,835
4,554
1,566
Total deferred tax assets
131,764
117,338
Deferred tax liabilities
Deferred acquisition costs
Basis difference on Convertible Debentures
Unrealized gains on investments, net
Other
8,453
6,528
62
4,520
7,790
–
–
5,613
Total deferred tax liabilities
19,563
13,403
Net deferred tax assets
$ 112,201
$ 103,935
In December 2006 ProAssurance received approval from the Internal Revenue Service to change
its income tax method of accounting for interest on its Convertible Debentures which were issued in 2003.
The new method, the "comparable yield" method, accelerates recognition of interest expense for tax
purposes. The change in method, recorded in 2006, decreased current tax expense and increased
deferred tax expense by $6.5 million, of which $4.4 million related to pre-2006 interest periods.
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, 2006, has
available net operating loss (NOL) carryforwards of $7.8 million and Alternative Minimum Tax (AMT)
credit carryforwards of $639,000. The NOL carryforwards will expire in 2019; the AMT credit
carryforwards have no expiration date.
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
2006
2005
2004
In thousands
$ 61,890
(13,217)
–
1,170
$ 38,102
(9,548)
–
283
$ 18,837
(5,947)
(1,667)
(445)
$ 49,843
$ 28,837
$ 10,778
91
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
7. Deferred Policy Acquisition Costs
Underwriting and other costs, primarily commissions and premium taxes, that are 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, included in continuing operations, amounted to
approximately $56.9 million, $54.0 million, and $52.8 million for the years ended December 31, 2006,
2005 and 2004, respectively. Unamortized deferred acquisition costs are included in other assets on the
Consolidated Balance Sheets and amounted to approximately $23.8 million and $22.3 million at
December 31, 2006 and 2005, 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).
92
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
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
2006
2005
2004
In thousands
$ 2,224,436
327,693
1,896,743
$ 1,818,636
273,654
1,544,982
$ 1,634,749
336,291
1,298,458
Net reserves acquired in PIC Wisconsin transaction
171,246
–
Net reserves acquired in NCRIC transaction
–
139,672
–
–
Net losses:
Current year
Favorable development of reserves
established in prior years
Total
Paid related to:
Current year
Prior years
Total paid
479,621
461,182
469,151
(36,292)
443,329
(22,981)
438,201
(8,714)
460,437
(32,325)
(242,608)
(274,933)
(26,495)
(199,617)
(226,112)
(13,599)
(200,314)
(213,913)
Net balance, end of year
2,236,385
1,896,743
1,544,982
Plus reinsurance recoverables
370,763
327,693
273,654
Balance, end of year
$ 2,607,148
$ 2,224,436
$ 1,818,636
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 precise estimation, ProAssurance increases or decreases the reserve estimates established in prior
periods. The favorable development recognized in 2006 was primarily due to reductions in estimates of
claims severity for the 2002, 2003 and 2004 accident years. The favorable development recognized in
2005 was primarily due to reductions in estimates of claims severity for 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.
93
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
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”). The judgment is now on appeal to the District of Columbia Court of Appeals. ProAssurance
has established a liability related to the judgment of $20.8 million, which includes the estimated costs
associated with pursuing the post-trial motions or appeal of a final judgment and projected post-trial
interest, $19.5 million of which was established as a component of the fair value of assets acquired and
liabilities assumed in the allocation of the NCRIC purchase price. ProAssurance has posted a $20.5
million appellate bond to secure payment of the CHW judgment plus interest and court costs, in the event
the judgment is ultimately affirmed and paid.
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. Such legal actions have been considered by ProAssurance in establishing its reserves.
The outcome of all legal actions is not presently determinable for a number of reasons. For example, in
the event that ProAssurance or its insureds receive adverse verdicts, post-trial motions may be denied, in
whole or in part; any appeals that may be undertaken may be unsuccessful; ProAssurance may be
unsuccessful in legal efforts to limit the scope of coverage available to its insureds; and ProAssurance
may become a party to bad faith litigation over the amount of the judgment above an insured's policy
limits. However, 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, 2006.
Operating Leases
In thousands
2007
2008
2009
2010
Thereafter
$ 2,255
1,767
673
410
128
Total minimum lease payments
$ 5,233
ProAssurance incurred rent expense of $2.8 million, $2.4 million and $1.9 million in the years
ended December 31, 2006, 2005 and 2004, respectively.
94
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
10. Long-term Debt
Outstanding long-term debt, as of December 31, 2006 and December 31, 2005, consists of the
following:
Convertible Debentures due June 2023 (the Convertible Debentures), unsecured,
principal of $107.6 million bearing a fixed interest rate of 3.9%, net of discounts of
$1.9 million at December 31, 2006 and $2.2 million at December 31, 2005,
respectively.
Trust Preferred Subordinated Debentures (the 2034 Subordinated Debentures; the
2032 Subordinated Debentures), unsecured, bearing interest at a floating rate,
adjustable quarterly.
Due
December 2032
April 2034
May 2034
12/31/2006
Rate
9.37%
9.22%
9.22%
Surplus Notes due May 2034 (the Surplus Notes), unsecured, net of discount of $0.4
million, principal of $12.0 million bearing a fixed interest rate of 7.7%, until May,
2009.
2006
2005
In thousands
$ 105,677
$ 105,381
15,464
13,403
32,992
15,464
13,403
32,992
11,641
–
$ 179,177
$ 167,240
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. 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, 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.
95
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
10. Long-term Debt (continued)
Conversion Rights. 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.
The stock price criterion allowing conversion was met during the quarter ended
December 31, 2006 and holders may convert through March 31, 2007. To date, no
holders have requested conversion.
At December 31, 2006 conversion would be at a rate of 23.9037 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.
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.
96
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
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 is 102% until
June 30, 2008 when it becomes 100%.
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.
The Convertible Debentures do not
require ProAssurance to maintain minimum financial
covenants.
Trust Preferred Subordinated Debentures (the 2034 Subordinated Debentures; the 2032 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.
97
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
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 (May, 2009 for the 2034 debentures; December, 2007 for the 2032 debentures). None of the
securities require either PRA or NCRIC to maintain minimum financial covenants.
Surplus Notes
The Surplus Notes were assumed in ProAssurance's acquisition of PIC Wisconsin and are
unsecured obligations of PIC Wisconsin, subordinated and junior in the right of payment to the prior
payment in full of all Senior Claims and Senior Indebtedness of PIC Wisconsin. The Surplus Notes are
not guaranteed by ProAssurance and are effectively subordinated to the indebtedness and other liabilities
of ProAssurance Corp. and its subsidiaries, including insurance policy-related liabilities. PIC Wisconsin
may redeem some or all of the Surplus Notes for cash beginning in May 2009.
Interest is payable quarterly at a fixed annual rate of 7.7% until May 2009. Thereafter the Surplus
Notes bear interest at a floating rate of London Interbank Offered Rates (LIBOR) + 3.85%. Each payment
of interest and principal may be made only with the prior approval of the Office of the Commissioner of
Insurance of the State of Wisconsin and only to the extent PIC Wisconsin has sufficient surplus to make
such payment.
The Surplus Notes were recorded at fair value on the acquisition date estimated in accordance
with the purchase accounting requirement of SFAS 141. The discount recorded at the acquisition date
totaled $420,000 and is being amortized over the remaining expected life of the debt (until May 2009, the
first
redemption date) using the effective interest method. Such amortization is included in the
accompanying financial statements as an addition to interest expense.
Debt Guarantees
ProAssurance and NCRIC have guaranteed that amounts paid to the PRA and NCRIC Trusts
under 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, 2006, the fair value of the Convertible Debentures is approximately 126% of
face value of $107.6 million based on available independent market quotes. At December 31, 2006, the
fair value of the Surplus Notes approximates their carrying value and the fair value of the 2034 and 2032
Subordinated Debentures approximates the face value of the debentures.
98
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
11. Stockholders’ Equity
At December 31, 2006 ProAssurance had 100 million shares of authorized common stock and 50
million shares of authorized preferred stock. The Board of Directors has the authority 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, 2006, the Board of Directors had not authorized the issuance of any preferred
stock nor determined any provisions for the preferred stock.
At December 31, 2006 approximately 2.3 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 1.0 million common
shares are reserved for the exercise of outstanding options and 2.6 million shares are reserved for
issuance related to the Convertible Debentures.
Accumulated other comprehensive income is comprised entirely of unrealized gains and losses
from available-for sale securities, net of tax. For all periods presented, other comprehensive income is
comprised of unrealized gains and losses (net of tax) arising during the period related to available-for-sale
securities less reclassification adjustments. Reclassification adjustments are gains (losses) from
available-for-sale securities recognized in the current period net income that were previously included in
other comprehensive income.
Reclassification adjustments related to continuing operations for the years ended December 31,
2006, 2005 and 2004 are as follows (in thousands):
Gains (losses) included in the calculation of income from
continuing operations
Tax effect
Net amount reclassified from other comprehensive income
2006
2005
2004
$ (1,320)
462
(858)
$
$ 806
(282)
$ 524
$ 5,297
(1,854)
$ 3,443
Reclassification adjustments related to discontinued operations for the years ended December
31, 2006, 2005 and 2004 are as follows (in thousands):
Gains (losses) included in the calculation of income from
discontinued operations
Tax effect
Net amount reclassified from other comprehensive income
2006
2005
2004
$
$
(574)
201
(373)
$ 498
(174)
$ 324
$
$
18
(6)
12
All tax effects considered in the calculation of other comprehensive income and accumulated
other comprehensive income have been computed using a rate of 35%. ProAssurance follows the
practice of recognizing all gains and losses on available-for-sale securities in other comprehensive
income before recognizing them in net income as realized gains and losses.
12. Stock Options and Share-Based Payments
Effective January 1, 2006 ProAssurance adopted SFAS 123(R), "Share-Based Payment", which
revises SFAS 123 "Accounting for Stock Based Compensation" and supersedes APB 25 "Accounting for
Stock Issued to Employees". SFAS 123(R) requires recognition of the cost of employee services received
in exchange for an award of equity instruments in the financial statements based on the grant-date fair
value of the award, recognized over the period the employee is required to perform services in exchange
for the award (presumptively the vesting period). SFAS 123(R) also amends SFAS No. 95 "Statement of
Cash Flows," to require that "excess tax benefits" be reported as financing cash inflows, instead of as
reductions of taxes paid within operating cash flows as previously presented. "Excess tax benefit" is
defined as the actual tax benefit received related to an option exercise that is in excess of the deferred
tax benefit recognized under SFAS 123(R) related to the options.
99
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
12. Stock Options and Share-Based Payments (continued)
ProAssurance adopted SFAS 123(R) using the modified-prospective method. Under the modified-
prospective method, prior periods are not restated. However, for awards granted prior to the date of
adoption that are unvested on the adoption date, compensation cost is recognized prospectively. In
periods after adoption compensation cost is recognized over the remaining service period related to the
award, based on amounts previously reported in the pro forma disclosures required under SFAS 123.
Compensation cost is also recognized for awards granted after the effective adoption date based on the
grant-date fair value of the award, calculated and recognized under the measurement provisions of SFAS
123(R).
ProAssurance recognized,
in continuing operations, share-based compensation cost of
approximately $4.7 million and a related tax benefit of approximately $1.5 million during the year ended
December 31, 2006. ProAssurance also recognized, as a component of the gain on the sale of the
MEEMIC companies, share-based compensation expense of approximately $642,000 and a related tax
benefit of approximately $225,000 related to the accelerated vesting of options held by MEEMIC
employees.
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 Compensation Committee of the Board of Directors is responsible for the
administration of the Plans.
Options granted under the Plans since 2002 generally 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. Options
are generally granted with an exercise price equal to the market price of ProAssurance's common stock
on the date of grant, and have an original term of ten years. ProAssurance issues new shares for options
exercised.
The weighted average fair values of options granted during 2006, 2005 and 2004 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.
2006
2005
2004
Weighted average fair value
$ 18.37
$ 16.52
$ 13.10
Assumptions:
Risk-free interest rate
Expected volatility
Dividend yield
Expected average term (in years)
4.7%
0.25
0%
6
4.3%
0.33
0%
6
3.4%
0.34
0%
6
Because ProAssurance has limited historical data regarding exercise behavior of its employees,
the expected term of 2006 option grants was estimated using the methodology provided for in the U.S.
Securities and Exchange Commission's Staff Accounting Bulletin 107, which is the mid-point between the
vesting date and the end of the contractual term of the option. The risk-free interest rate assumption for
2006 awards was based upon a U.S. Treasury instrument with a term that is similar to the expected term
of the option grant. The volatility assumption for 2006 awards was based on the historical volatility of
ProAssurance's stock price for the most recent period (as of the grant date) equal to the shorter of either
the expected term of the option or the period since June 27, 2001, when ProAssurance was formed.
Dividend yield was assumed to be zero since ProAssurance has historically not paid dividends.
100
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
12. Stock Options and Share-Based Payments (continued)
The following table provides information regarding ProAssurance's outstanding options:
Weighted
Average
Exercise
Price
Aggregate
Intrinsic
Value
(in thousands) (1)
Weighted
Average Remaining
Contractual Term
Outstanding at December 31, 2005
Granted under incentive plans
Exercised
Forfeited
Outstanding at December 31, 2006
Exercisable at December 31, 2006
Outstanding, vested or expected to vest
Options
1,162,863
116,584
(294,408)
(2,736)
982,303
584,369
$ 28.73
$ 51.33
$ 24.36
$ 22.13
$ 32.81
$ 28.03
– (2)
$ 7,859
$ 76
$ 16,807
$ 12,792
at December 31, 2006
943,630
$ 32.50
$ 16,438
6.6 years
5.3 years
6.5 years
Intrinsic value is the difference in the market value of the stock at a given point in time and the option exercise price
(1)
(2) As of the date of grant: all options were granted with an exercise price equal to the market value of the stock
At December 31, 2006, unrecognized compensation cost related to non-vested options granted
under ProAssurance's stock compensation plans approximated $3.8 million. That cost is expected to be
recognized over a weighted average period of 2.5 years.
The fair value of options vested during the years ended December 31, 2006, 2005 and 2004 is
$15.3 million, $11.1 million and $6.0 million, respectively. The intrinsic value of options exercised during
2005 and 2004 is $5.0 million and $2.2 million, respectively.
During 2006 ProAssurance also granted Performance Shares awards to employees under the
ProAssurance 2004 Equity Incentive Plan. The awards were issued to two groups of employees: key
executives and management. The Performance Shares vest at 100% on December 31, 2008 based upon
continued service and attainment of one of
two Performance Measures. For both groups one
Performance Measure is achievement of a specified financial goal; the other Performance Measure
requires achievement of a specified peer group ranking. The number of Performance Shares that will be
awarded if vesting criteria are met can vary between 46,000 shares and 76,000 shares, depending upon
the degree to which Performance Measures are attained. No Performance Shares were forfeited during
2006.
The fair value of each Performance Share was estimated on the date of grant as $51.38 per
share, based on the market value of ProAssurance common stock on that date. At December 31, 2006,
based on current achievement of the Performance Measures, it is estimated that approximately 64,000
Performance Shares, having an estimated fair value of approximately $3.3 million will ultimately vest. At
December 31, 2006 the unrecognized compensation cost related to Performance Shares is estimated as
$2.2 million and is expected to be recognized over 2.0 years.
101
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
12. Stock Options and Share-Based Payments (continued)
Prior to the adoption of SFAS 123(R) ProAssurance applied the intrinsic-value provisions set forth
in APB No. 25 and related Interpretations as permitted by SFAS 123. Accordingly, no compensation
expense was recognized for option grants in prior periods since the exercise price of options granted
equaled the fair market value of ProAssurance’s common stock on the date of grant. Stock-based
compensation expense recorded in accordance with SFAS 123(R) decreased earnings for the year ended
December 31, 2006 as follows (in thousands, except per share data):
Income from continuing operations, before tax
Income from continuing operations, after tax
Income from discontinued operations
Net income
Income per share from continuing operations:
Basic
Diluted
Net Income:
Basic
Diluted
$ 4,669
$ 3,184
$
417
$ 3,601
$ 0.10
$ 0.09
$ 0.11
$ 0.10
SFAS 123(R) increased cash flow from financing activities by $1.2 million and decreased cash
flow from operations by the same amount.
No restatement of prior periods is required when SFAS 123(R) is adopted using the modified
prospective transition method. SFAS 123(R) does, however, require disclosure of the effect that applying
the fair value recognition provisions of SFAS 123 would have had on prior periods. The following table
provides the required disclosure.
2005
2004
In thousands, except per share data
Income from continuing operations, as reported
$ 80,026
$ 43,043
Add: Share-based employee compensation
expense included in reported net income,
net of related income taxes
Less: Share-based employee compensation
expense determined under fair value
based method of all awards, net
of related income taxes
84
218
(1,808)
(1,111)
Pro forma income from continuing operations
$ 78,302
$ 42,150
Earnings per share, continuing operations:
Basic–as reported
Basic–pro forma
Diluted–as reported
Diluted–pro forma
$
$
$
$
2.66
2.61
2.52
2.47
$
$
$
$
1.48
1.45
1.44
1.41
102
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
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
Denominator:
2006
2004
2005
In thousands except per share data
$ 126,984
109,441
$ 236,425
$ 80,026
33,431
$ 113,457
$ 43,043
29,768
$ 72,811
Weighted average number of common shares outstanding
32,044
30,049
29,164
Basic earnings per share:
Income from continuing operations
Income from discontinued operations
Net income
$
$
3.96
3.42
7.38
$
$
2.66
1.11
3.77
$
$
1.48
1.02
2.50
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(cid:326)diluted computation
Income from discontinued operations, net of tax
Net income–diluted computation
$ 126,984
$ 80,026
$ 43,043
2,967
129,951
109,441
$ 239,392
2,967
82,993
33,431
$ 116,424
2,967
46,010
29,768
$ 75,778
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
32,044
309
2,572
34,925
30,049
287
2,572
32,908
29,164
248
2,572
31,984
Diluted earnings per share:
Income from continuing operations
Income from discontinued operations
Net income
$
$
3.72
3.13
6.85
$
$
2.52
1.02
3.54
$
$
1.44
0.93
2.37
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. The average number of ProAssurance’s outstanding options that were not considered to be
dilutive approximated 180,000 during 2006, 158,000 during 2005 and 126,000 during 2004.
103
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
14. Benefit Plans
ProAssurance currently maintains a defined contribution savings and retirement plan that is
intended to provide retirement income to eligible employees. ProAssurance also maintains a non-qualified
deferred compensation plan which allows participating management employees to defer a portion of their
current salary. ProAssurance’s contribution to the savings and retirement plan was $3.2 million, $2.3
million and $2.2 million during the years ended December 31, 2006, 2005 and 2004, respectively.
ProAssurance's contribution to the deferred compensation plan was approximately $125,000 for the year
ended December 31, 2006; there was no contribution in 2005 or 2004. ProAssurance's liability related to
the deferred compensation plan consists primarily of employee salary deferrals and approximated $1.8
million at December 31, 2006 and $700,000 at December 31, 2005.
When acquired, both PIC Wisconsin and NCRIC maintained defined contribution retirement
benefit plans which were assumed by ProAssurance. On January 1, 2006 NCRIC plans were merged
into ProAssurance’s existing plan. The PIC Wisconsin plan was similarly transitioned on January 1, 2007.
ProAssurance incurred expense of approximately $205,000 in 2006 related to the PIC Wisconsin plan
and expense of approximately $72,000 in 2005 related to the NCRIC plans.
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 (b) certain deferred income taxes which are
recorded under GAAP but not for statutory purposes and (c) for 2006, the recognition of statutory income
from the sale of the MEEMIC companies which exceeded the gain recorded for GAAP purposes.
The NAIC specifies risk-based capital requirements for property and casualty insurance
providers. At December 31, 2006 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. The table excludes MEEMIC Insurance Company sold in
early 2006 (see Note 3); however, the table does include statutory income of approximately $282 million
related to the sale of the MEEMIC companies. The table includes the statutory earnings of PIC Wisconsin
and NCRIC in the year of acquisition and thereafter (see Note 2). The net earnings so included are the
earnings for the statutory annual period. Consolidated net income, on a GAAP basis, includes the
earnings of PIC Wisconsin and NCRIC only for the periods following acquisition: August 2006 for PIC
Wisconsin and August 2005 for NCRIC.
2006
Net Earnings
2005
2004
In millions
Surplus
2006
2005
$ 400
$ 69
$ 49
$ 839
$ 726
ProAssurance’s insurance subsidiaries are permitted to pay dividends of approximately $186
million during the next year 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.
104
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
16. Variable Interest Entities
in various
investments
limited partnerships/limited
ProAssurance holds passive
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, 2006, are included in Other Investments and total $44.5 million
at December 31, 2006 and $42.1 million at December 31, 2005. 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 $9.3 million (a 10.6%
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.
105
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2006
17. Quarterly Results of Operations (unaudited)
The following is a summary of unaudited quarterly results of operations for 2006 and 2005:
Net premiums earned(1)
Net losses and loss adjustment expenses(1)
Income from continuing operations(2)
Income from discontinued operations(2)
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
Net premiums earned(1)
Net losses and loss adjustment expenses(1)
Income from continuing operations(2)
Income from discontinued operations(2)
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
2006
1st
2nd
3rd
4th
In thousands except per share data
$ 142,430
111,132
27,835
109,441
137,276
$ 137,420
103,110
29,991
–
29,991
$ 149,444
114,037
33,368
–
33,368
$ 153,772
115,050
35,790
–
35,790
0.89
3.51
4.40
0.84
3.21
4.05
0.96
–
0.96
0.90
–
0.90
1.03
–
1.03
0.96
–
0.96
1.08
–
1.08
1.01
–
1.01
2005
1st
2nd
3rd
4th
In thousands except per share data
$ 128,728
110,450
14,596
7,341
21,937
$ 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
0.50
0.25
0.75
0.48
0.23
0.71
0.62
0.31
0.93
0.59
0.29
0.88
0.66
0.30
0.96
0.63
0.27
0.90
0.87
0.25
1.12
0.81
0.23
1.04
The difference in the sum of the quarterly per share amounts for discontinued operations and net income is different than the annual
computation of these amounts due to the issuance of shares in the acquisition of PIC Wisconsin in the third quarter of 2006.
(1) From continuing operations
(2) Net of tax
106
ProAssurance Corporation and Subsidiaries
Schedule I – Summary of Investments – Other Than Investments in Related Parties
December 31, 2006
Type of Investment
Fixed Maturities:
Cost
or
Amortized
Cost
U.S. Treasury securities
Government-sponsored enterprises
State and municipal bonds
Corporate bonds
Asset-backed securities
Trading
$
57,400
232,193
1,190,651
629,809
1,028,595
49,486
Amount
Which is
Presented
in the
Balance Sheet
$
56,977
230,949
1,198,227
625,003
1,025,066
49,218
Fair
Value
In thousands
$
56,977
230,949
1,198,227
625,003
1,025,066
49,218
Total fixed maturities
3,188,134
$ 3,185,440
3,185,440
Equity securities:
Available for sale
Trading
Total equity securities
Short-term investments
Other invested assets
Business owned life insurance
7,220
7,638
$
14,858
4,618
6,637
11,255
184,280
48,799
58,721
7,220
7,638
14,858
184,280
48,799
58,721
Total investments
$ 3,491,189
$ 3,492,098
107
ProAssurance Corporation and Subsidiaries
Schedule II – Condensed Financial Information of Registrant
ProAssurance Corporation – Registrant Only
Condensed Balance Sheets
Assets
Investment in subsidiaries, at equity
Fixed maturities available for sale, at fair value
Fixed maturities, trading, at fair value
Short-term investments
Cash and cash equivalents
Due from subsidiaries
Other assets
Liabilities and Stockholders’ Equity
Liabilities:
Payable to subsidiaries
Other liabilities
Long-term debt
Stockholders’ Equity:
Common stock
Other stockholders’ equity, including unrealized
gains (losses) on securities of subsidiaries
Total stockholders’ equity
December 31
2006
2005
In thousands
$ 1,041,230
204,562
–
25,953
366
–
10,603
$ 853,801
41,288
–
10,735
1,434
1,645
9,585
$ 1,282,714
$ 918,488
$
4,369
7,726
152,072
164,167
$
–
1,666
151,776
153,442
334
312
1,118,213
1,118,547
764,734
765,046
$ 1,282,714
$ 918,488
ProAssurance Corporation – Registrant Only
Condensed Statements of Income
Revenues:
Investment income including net realized
investment gains (losses) of $(1,450),
$63 and $2,740, respectively
Other Income
Expenses:
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
2006
Year Ended December 31
2005
In thousands
2004
$
6,407
174
6,581
9,063
3,538
12,601
(6,020)
(2,632)
(3,338)
239,813
$ 2,407
62
2,469
8,416
3,923
12,339
(9,870)
(3,491)
(6,379)
119,836
$ 4,057
39
4,096
6,515
3,882
10,397
(6,301)
(2,319)
(3,982)
76,793
Net income
$ 236,425
$ 113,457
$ 72,811
108
ProAssurance Corporation and Subsidiaries
Schedule II – Condensed Financial Information of Registrant (continued)
ProAssurance Corporation – Registrant Only
Condensed Statements of Cash Flow
2006
Year Ended December 31
2005
In thousands
2004
Cash provided (used) by operating activities
$ 10,231
$
(2,868)
$ (11,896)
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
Other
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents, beginning of period
(416,691)
(45,734)
(101,172)
252,360
–
(15,217)
200,000
(30,410)
(2,794)
(12,752)
–
1,453
1,453
(1,068)
1,434
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
Cash and cash equivalents, end of period
$
366
$ 1,434
$
743
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, 2006 and 2005 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.
Reclassifications
Certain reclassifications have been made to the 2005 and 2004 condensed financial statements to conform to the 2006
presentation.
Acquisitions/Dispositions
In August 2006 PRA Holding purchased Physicians Insurance Company of Wisconsin, Inc. PRA Holding purchased
NCRIC Corporation in August 2005. Both acquisitions are described in Note 2 to the Consolidated Financial Statements.
In January 2006 PRA Holding sold its indirect subsidiaries, MEEMIC Insurance Company and MEEMIC Insurance
Services, as described in Note 3 to the Consolidated Financial Statements. The proceeds from the sale of $400 million
were paid to an indirect subsidiary of PRA Holding.
109
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, 2006 and December 31, 2005, consisted of the following:
Convertible Debentures due June 2023 (the Convertible Debentures),
unsecured, principal of $107.6 million bearing a fixed interest
rate of 3.9%, net of discounts of $1.9 million at December 31,
2006 and $2.2 million at December 31, 2005, respectively.
Trust Preferred Subordinated Debentures (the 2034 Subordinated
Debentures; the 2032 Subordinated Debentures), unsecured,
bearing interest at a floating rate, adjustable quarterly.
Due
April 2034
May 2034
12/31/2006
Rate
9.22%
9.22%
2006
2005
$ In thousands
$ 105,677
$ 105,381
13,403
32,992
13,403
32,992
$ 152,072
$ 151,776
See Note 10 of the Notes to the Consolidated Financial Statements of PRA Holding and its subsidiaries included herein
for a detailed description of the terms of the long-term debt.
3. Related Party Transactions
PRA Holding received dividends of $200 million, $3.0 million and $28.4 million during the years ended December 31,
2006, 2005 and 2004 from its subsidiaries. PRA Holding contributed capital of $30.4 million, $5.9 million and $38.0 million
during the years ended December 31, 2006, 2005 and 2004.
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.
110
ProAssurance Corporation and Subsidiaries
Schedule III–Supplementary Insurance Information
Years Ended December 31, 2006, 2005, and 2004
Continuing Operations
2006
2005
2004
In thousands
Deferred policy acquisition costs ................................................
$
23,763
$
22,256
$
21,254
Reserve for losses and loss adjustment expenses ……………...
2,607,148
2,224,436
1,818,636
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 ..................................................................
253,773
583,067
18
149,789
443,329
56,944
49,425
543,376
264,258
543,241
268
99,193
438,201
53,967
37,990
521,343
248,539
519,897
96
77,669
460,437
52,808
33,976
535,028
111
ProAssurance Corporation and Subsidiaries
Schedule IV–Reinsurance
Years Ended December 31, 2006, 2005, and 2004
Property and Casualty
Premiums earned
Premiums ceded
Premiums assumed
2006
Continuing Operations
2005
In thousands
2004
$ 627,148
(44,099)
18
$ 596,289
$ 555,428
(53,316)
268
(35,627)
282
Net premiums earned
$ 583,067
$ 543,241
$ 520,083
Percentage of amount assumed to net
0.00%
0.05%
0.05%
Accident and Health
Premiums earned
Premiums ceded
Premiums assumed
Net premiums earned
Percentage of amount assumed to net
$
$
–
–
–
–
–
$
$
–
–
–
–
–
$
$
–
–
(186)
(186)
100%
Total net premiums earned
$ 583,067
$ 543,241
$ 519,897
112
ProAssurance Corporation and Subsidiaries
Schedule VI – Supplementary Property and Casualty Insurance Information
Years Ended December 31, 2006, 2005, and 2004
2006
Continuing Operations
2005
In thousands
2004
Deferred policy acquisition costs ……………………………....
$
23,763
$
22,256
$
21,254
Reserve for losses and loss adjustment expenses ………….
2,607,148
2,224,436
1,818,636
Unearned premiums …………………………………………….
Net premiums earned……………………………………………
Net investment income …………………….…………..……….
253,773
583,067
149,789
264,258
543,241
99,193
248,539
519,897
77,669
Losses and loss adjustment expenses incurred
related to current year, net of reinsurance………………….
479,621
461,182
469,151
Losses and loss adjustment expenses incurred
related to prior year, net of reinsurance………………........
Amortization of deferred policy acquisition costs ……………
(36,292)
56,944
(22,981)
53,967
(8,714)
52,808
Paid losses and loss adjustment expenses related to
current year losses, net of reinsurance…………………..…
(32,325)
(26,495)
(13,599)
Paid losses and loss adjustment expenses related to
prior year losses, net of reinsurance……………………...
(242,608)
(199,617)
(200,314)
113
EXHIBIT INDEX
Exhibit
Number
Description
2
2.1
2.2
2.3
2.4
Schedules to the following documents are omitted; the contents of
the schedules are generally described in the documents; and
ProAssurance will upon
the Commission
supplementally a copy of any omitted schedule.
request
furnish
to
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 among ProAssurance, NCRIC
Group, Inc. and NCP Merger Corporation, dated February 28, 2005,
as amended (2)
Stock Purchase Agreement dated November 7, 2005, among Motors
Insurance Corporation, MEEMIC Insurance Company, MEEMIC
Insurance Services Corporation, MEEMIC Holdings,
Inc. and
ProAssurance Corporation (3)
Agreement and Plan of Merger, dated as of December 8, 2005,
between ProAssurance and PIC Wisconsin, as amended February
14, 2006 (4)
3.1(a)
Certificate of Incorporation of ProAssurance (1)
3.1(b)
Certificate of Amendment
ProAssurance (5)
to Certificate of
Incorporation of
3.2
4
10.1(a)
10.1(b)
10.1(c)
10.2
First Restatement of the Bylaws of ProAssurance (6)
ProAssurance will file with the Commission upon request pursuant to
the requirements of Item 601 (b)(4) of Regulation S-K documents
defining rights of holders of ProAssurance’s long-term indebtedness.
Incentive Compensation Stock Plan
Medical Assurance,
(formerly known as the Mutual Assurance, Inc. 1995 Stock Award
Plan) (7)
Inc.
Amendment and Assumption Agreement by and between
ProAssurance and Medical Assurance, Inc. (5)
Amendment and Assumption Agreement by and between Mutual
Assurance, Inc. and MAIC Holdings, Inc. dated April 8, 1996 (8)
Professionals Insurance Company Management Group 1996 Long
Term Incentive Plan (9)
10.3(a)
ProAssurance Corporation 2004 Equity Incentive Plan (10)
114
10.3(b)
First amendment to 2004 Equity Incentive Plan (18)
10.4(a)
10.4(b)
10.4(c)
10.4(d)
10.4(e)
10.4(f)
10.4(g)
10.5
10.6
Release and Severance Agreement between Victor T. Adamo and
ProAssurance (11)
Amendment to Release and Severance Compensation Agreement of
Victor T. Adamo (12)
Release and Severance Agreement between Howard H. Friedman
and ProAssurance (12)
Release and Severance Agreement between James J. Morello and
ProAssurance (12)
Release and Severance Agreement between Frank B. O'Neil and
ProAssurance (13)
Release and Severance Agreement between Edward L. Rand, Jr.
and ProAssurance (14)
Release and Severance Agreement between Darryl K. Thomas and
ProAssurance (16)
Employment Agreement of A. Derrill Crowe, as amended (12)
Form of Indemnification Agreement between ProAssurance and
each of the following named executive officers and directors of
ProAssurance: (13)
Victor T. Adamo
Lucian F. Bloodworth
Paul R. Butrus
A. Derrill Crowe
Robert E. Flowers
Howard H. Friedman
Jeffrey P. Lisenby
William J. Listwan
John J. McMahon
James J. Morello
John P. North, Jr.
Frank B. O'Neil
Ann F. Putallaz
Edward L. Rand, Jr.
Darryl K. Thomas
William H. Woodhams
Wilfred W. Yeargan, Jr.
10.7
10.8
ProAssurance Group Employee Benefit Plan which includes the
Executive Supplemental Life Insurance Program (Article VIII) (6)
Executive Non-Qualified Excess Plan and Trust adopted May 17,
2006 (17)
115
10.9
10.10
21.1
23.1
31.1
31.2
32.1
32.2
ProAssurance Director Deferred Compensation Plan adopted on
May 18, 2005 (15)
Consulting Agreement between ProAssurance and William J.
Listwan (19)
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
116
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
the Securities and Exchange
Commission (SEC).
to Rule 12b-32 of
Filed as an Appendix 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 (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. 333-131874) 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 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.
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.
117
(14)
(15)
(16)
(17)
(18)
(19)
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 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.
Filed as an Exhibit to ProAssurance's Annual Report on Form 10K
for the year ended December 31, 2005 (File No 001-16533) 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 17, 2006 (File Number 001-16533) and
incorporated herein by reference pursuant to SEC Rule 12b-32.
Filed as an Exhibit to ProAssurance's Form 10Q for the quarter
ended September 30, 2006 (File No. 001-16533) 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 September 13, 2006 (File No. 001-16533) and
incorporated herein by reference pursuant to SEC Rule 12b-32.
118
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, 2007
/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, 2007
/s/ Edward L. Rand, Jr.
Edward L. Rand, Jr.
Chief Financial Officer
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.
Exhibit 32.1
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, 2006 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. § 1350, as adopted pursuant to § 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.
February 28, 2007
/s/ A. Derrill Crowe, M.D
A. Derrill Crowe, M.D.
Chief Executive Officer
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.
Exhibit 32.2
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, 2006 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. § 1350, as adopted pursuant to § 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.
February 28, 2007
/s/ Edward L. Rand, Jr.
Edward L. Rand, Jr.
Chief Financial Officer
Board of Directors
Directors
A. Derrill Crowe, M.D.
Victor T. Adamo, Esq., C.P.C.U.
Paul R. Butrus
Lucian Bloodworth
Robert E. Flowers, M.D.
William J. Listwan, M.D.
John J. McMahon, Jr.
John P. North, Jr., C.P.A.
Ann F. Putallaz, Ph.D.
William H. Woodhams, M.D.
Wilfred W. Yeargan, M.D.
Independence Committee(s)
Position
Chairman & Chief Executive Offi cer, ProAssurance
M
Vice-Chairman & Chief Operating Offi cer, ProAssurance M
M
Vice-Chairman, ProAssurance
I
Chairman, Cain Manufacturing Company, Inc.
NM
Retired Physician
I
Practicing Physician & Professor of Internal Medicine
I
Chairman, Ligon Industries
I
Retired Accounting Firm Partner
I
Vice-President, Munder Capital Management
I
Practicing Physician
I
Practicing Physician
3, 4C
2C
2
4
3C
1C
1
1
2
M = Management, Non-Independent
NM = Non-Management, Non-Independent
I = Independent
1 = Executive Committee
2 = Audit Committee
3 = Compensation Committee
4 = Nominating and Corporate Governance Committee
C = Chairman
Senior Offi cers
Jeffrey L. Bowlby, A.R.M.
Howard H. Friedman, A.C.A.S., M.A.A.A. Co-President & Chief Underwriting Offi cer, Professional Liability Group
Chief Marketing Offi cer & Senior Vice-President, Professional Liability Group
Jeffrey P. Lisenby, Esq.
James J. Morello, C.P.A.
Frank B. O’Neil
Edward L. Rand, Jr., C.P.A.
Darryl K. Thomas, Esq.
Hayes V. Whiteside, M.D.
Senior Vice-President, ProAssurance
Corporate Secretary, General Counsel & Vice President, ProAssurance
Chief Accounting Offi cer & Treasurer
Senior Vice-President, ProAssurance
Communications Offi cer & Senior Vice-President, ProAssurance
Chief Financial Offi cer & Senior Vice-President, ProAssurance
Co-President & Chief Claims Offi cer, Professional Liability Group
Senior Vice-President, ProAssurance
Chief Medical Offi cer & Senior Vice-President, Professional Liability Group
Stock Price Performance
The following information may be used to comparing the market value of our Common Stock with other public companies and
public companies in the insurance industry. The graph sets forth the cumulative total stockholder return (assuming reinvestment
of dividends) to our stockholders during the fi ve years ended December 31, 2006, as well as an overall stock market index (Russell
2000) and a peer group index (SNL Property & Casualty) for the fi ve years ended December 31, 2006.
TOTAL RETURN PERFORMANCE
ProAssurance Corporation
Russell 2000
SNL Property & Casualty Insurance Index
300
250
200
150
100
50
12/31/01
12/31/02
12/31/03
12/31/04
12/31/05
12/31/06
INDEX
ProAssurance Corporation
Russell 2000
SNL Property & Casualty
Insurance Index
P E R I O D E N D I N G
12/31/01
12/31/02
12/31/03
12/31/04
12/31/05
12/31/06
100.00
100.00
100.00
119.45
79.52
93.80
182.88
117.09
116.05
222.47
138.55
127.20
276.68
144.86
139.05
283.96
171.47
162.09
Market and Shareholder Information
There were 33,281,390 shares of ProAssurance Corporation
Our Board of Directors has adopted charters for our Audit,
common stock outstanding at February 28, 2007. On that
Compensation, and Nominating/Corporate Governance
date, we had 3,892 shareholders of record. Our common stock
Committees. In addition the Board has established and adopted
trades on The New York Stock Exchange under the symbol
Corporate Governance Principles and a Code of Ethics and Con-
PRA. Our stock is listed as ProAsr in the stock section of USA
duct. We make these documents, and other information such as
Today and many major newspapers, and as ProAssurance in
committee composition and leadership, director independence,
The Wall Street Journal. We also post the price of our stock on
and stock ownership guidelines available in the Governance
our website, www.ProAssurance.com.
section of our website.
Your shares
Our Chairman and Chief Executive Officer, A. Derrill Crowe,
M.D., submitted the required Section 12(a) CEO Certification
If you hold your shares through a brokerage account, your
to the New York Stock Exchange in a timely manner on May 30,
broker or a customer service representative at that firm should
2006. Additionally, we have been timely in the filing of CEO/
be able to answer questions about your holdings.
CFO certifications as required in Section 302 of the Sarbanes-
If you hold your shares in certificate form, or have shares
Oxley Act. These certifications are published as exhibits in our
held in direct registration (DRS), you may contact our transfer
Form 10K filed with the SEC on March 1, 2007.
agent, Mellon Investor Services, for address changes, transfer
of certificates, and replacement of share certificates that have
Investor Relations
been lost or stolen.
The Investor Relations section of our website also contains
You may reach Mellon Investor Services in a variety of ways:
detailed financial information, SEC filings, the latest news re-
By Phone
By Internet
leases about the Company and our latest presentation materials.
(800) 851-4218
www.melloninvestor.com/isd/
We also maintain an archive of this material, although you
(800) 231-5469
Specific information about your account
should realize that archived information, by its very nature, may
(Hearing Impaired) www.melloninvestor.com
no longer be accurate.
General information about Mellon
Obtaining Information Directly from ProAssurance
By Mail
Any of the documents mentioned above may be obtained
Mellon Investor Services, LLC Mellon Investor Services, LLC
from our Communications and Investor Relations Department
P.O. Box 3315
480 Washington Boulevard
using one of the contact methods below:
South Hackensack, NJ 07606 Jersey City, NJ 07310-1900
By e-mail:
By Mail
Corporate Governance and Compliance with Regulatory
Investor Relations
and New York Stock Exchange Requirements
By phone or fax:
P.O. Box 590009
We post detailed information in the Corporate Governance and
Phone: (205) 877-4400
Birmingham, AL 35259-0009
Investor@ProAssurance.com ProAssurance Corporation
Investor Relations sections of our website, www.ProAssurance.com.
(800) 282-6242
Our Board of Directors has adopted a policy regarding
Fax: (205) 802-4799
determination of director independence, including categorical
standards to assist in determining independence. These are pub-
Annual Meeting
lished in our proxy statement which is mailed to stockholders
The 2007 Annual Meeting is scheduled for 10:00 AM CDT on
and filed with the Securities and Exchange Commission (the
Wednesday, May 16, 2007 at the headquarters of ProAssurance,
“SEC”). Our filings with the SEC are available in the Investor
100 Brookwood Place, Birmingham, Alabama 35209.
Relations section of our website, and from the EDGAR section
of the SEC’s website, www.sec.gov/edgar.shtml.
100 Brookwood Place
Birmingham, Alabama 35209
(205) 877-4400
(800) 282-6242
www.ProAssurance.com