2010 ANNUAL REPORT
PROASSURANCE
PROMISES
KEPT
® FINANCIAL HIGHLIGHTS (IN THOUSANDS)
FISCAL YEARS ENDED DECEMBER 31
2006
2007
2008
2009
2010
Income Statement Highlights(1)
Gross premiums written(2)
Premiums earned (2)
Total revenues(2)
$578,983
$627,166
$737,598
Net losses and loss adjustment expenses(2)
$443,329
Income (loss) from continuing operations,
net of tax(2) (3) (4)
Operating income(2) (4)
Net income(3) (5)
$126,984
$129,459
$236,425
$549,074
$585,310
$706,068
$350,997
$168,186
$172,406
$168,186
$471,482
$553,922
$503,579
$567,162
$211,499
$177,725
$206,980
$177,725
$540,012
$672,683
$231,068
$222,026
$215,210
$222,026
$533,205
$548,955
$692,065
$221,115
$231,598
$219,457
$231,598
Balance Sheet Highlights
Total investments(2)
Total assets
Reserve for losses and loss
adjustment expenses(2)
Long-term debt(2)
Total liabilities
$3,492,098
$3,639,395
$3,575,942
$3,838,222
$3,990,431
$4,342,853
$4,440,808
$4,280,938
$4,647,414
$4,875,056
$2,607,148
$2,559,707
$2,379,468
$2,422,230
$2,414,100
$179,177
$164,158
$34,930
$50,203
$51,104
$3,224,306
$3,185,738
$2,857,353
$2,942,819
$3,019,193
(1) Includes acquired entities since date of acquisition only (American Physicians Service Group was acquired on November 30, 2010; PICA Group was acquired on
April 1, 2009; PRA Wisconsin was acquired on August 1, 2006)
(2) Excludes discontinued operations
(3) Includes a loss on extinguishment of debt of $2.8 million for the year ended December 31, 2009 and a gain on extinguishment of debt of $4.6 million for the year
ended December 31, 2008
(4) See Page 144 for Reconciliation of Operating Measures to GAAP
(5) Includes discontinued operations in 2006
$6.85
$3.79
$6.07
$5.22
$4.90 $4.78
$6.70 $6.82
$6.49
$7.20
$60.35
$52.59
$1,856
$1,705
$4,875
$4,647
$42.69
$38.69
$33.61
$1,424
$1,255
$1,119
$4,441
$4,343
$4,281
06
07
08
09
10
06
07
08
09
10
06
07
08
09
10
06
07
08
09
10
OPERATING INCOME PER DILUTED SHARE(1) (4)
NET INCOME PER DILUTED SHARE(2)
BOOK VALUE PER SHARE
(3)
SHAREHOLDERS’ EQUITY
($ IN MILLIONS)
ASSETS
($ IN MILLIONS)
FISCAL YEARS ENDED DECEMBER 31
(1) See Page 144 for Reconciliation of Operating Measures to GAAP
(2) 2006 includes income from discontinued operations of $3.13 per diluted share
(3) Total capital per share of common stock outstanding
(4) Excludes discontinued operations
®
Every policy, every share of stock
represents a promise.
Our business is a series of promises. And since 1975,
ProAssurance has delivered on those promises by
ensuring that our company remains financially strong,
by managing our business for the long-term, and by
treating fairly everyone with whom we come in
contact. For 36 years, we’ve kept our promises. And
we are managing our business today to keep our
promises long into the future.
2 0 1 0
t h e y e a r i n r e v i e w
Promises are made to be kept
I believe promises are made to be kept.
All too often, “I promise” is a simple statement, said without thought or written without intent.
This is not so at ProAssurance. My colleagues and I believe in the true value of a promise made—
and we do not make any of our promises without duly considering what it takes to keep them.
For our investors, the promise we honor is one to manage ProAssurance in a way that increases
the value of the investment we share. In 2010, we delivered on that promise and achieved excep-
tional results by virtually every measurement.
We again grew Book Value per Share by a double-digit percentage. We began the year with a
Book Value per Share of $52.59, and ended 2010 at $60.35, an increase of 15%. As long-time
For our investors, the promise we
honor is one to manage ProAssurance
in a way that increases the value of
the investment we share.
investors will know, we focus on Book Value per Share because
it is an easily computed and easily comparable result that allows
us to demonstrate to you the ultimate success of our efforts.
We increased the value of the Company by 9% in 2010,
growing Shareholders’ Equity by $151 million to almost $1.9
billion. We also achieved a Return on Equity of 13% in 2010.
We enhanced these key measurements through the prudent repurchase of 1.9 million shares
of our common stock at a cost of $106 million. As part of our ongoing commitment to effectively
manage our capital, we have purchased six million shares at a cost of $315 million since 2005.
During that five year period, efficient capital management has allowed us to enhance the value
of ProAssurance for shareholders while growing the Company through six transactions that solidify
2
TO MY FELLOW SHAREHOLDERS: our present business and lay the foundation for future
success. At the same time, our demonstrated commitment
to capital adequacy has led rating agencies to upgrade our
insurance subsidiaries to levels that clearly highlight the
financial stability underlying our insurance products.
The financial success that has rewarded our investors
with a compound annual growth rate of 16% since going
public in 1991 has allowed us to build a balance sheet that
permits us to keep our promise of insurance in a manner
unlike any of our competitors. No company that I am aware
of provides a product quite like the promise of service and
security we deliver to our insureds. Certainly every company
with which we compete provides its insureds with a policy,
but the services provided through those policies and by the
company behind the policies are vastly different.
Every day, we leverage the strength of our balance sheet
to provide our insureds with a range of effective services
that I believe are unmatched in our industry. I’m confident
that ProAssurance’s embrace of cutting edge risk manage-
ment programs and content delivery methods is enhancing
W. STANCIL STARNES
CHIEF EXECUTIVE OFFICER
P R O M I S E S K E P T
Managing for the long term
The only way to survive in our
specialty insurance market is through
strict commitment to underwriting
standards. Over the years, we’ve
seen countless companies suffer
the consequences of lax standards
in pursuit of top-line growth. At
ProAssurance, we manage for the
long term to ensure that we have the
financial strength to keep our promises
to every insured–no matter when
they might need us.
3
patient care and reducing the exposure of our insureds to frivolous litigation. I am equally certain
that our ability to apply rigorous underwriting standards to the risks we accept allows ProAssurance
to offer a superior product to the most qualified insureds.
But our ability to defend our insureds from a position of financial strength may be the most
defining characteristic of ProAssurance. Simply stated, we deliver every day on the promise to give
our insureds a defense of their claim that is unfettered by constraints unwisely imposed in the name
of short-term profit. This dedication to the needs of our insureds creates a virtuous circle that furthers
our continued ability to attract new customers who understand the true value and promise we pro-
vide, while retaining existing customers who understand the true value proposition of ProAssurance.
In 2010, we retained 90% of our premium base in one of the most competitive market environments
we’ve seen in the past decade. The fact that our superior product can rarely be sold at a price that
matches policies offering inferior security and service makes this achievement all the more remarkable.
The value that our insureds perceive in the ProAssurance product and our investors realize in the
increasing value of their stock is encapsulated in the brand promise of Treated Fairly. In each letter I’ve
written to you since 2008, I have underscored the value of Treated Fairly, the guiding principle that
governs every encounter with every constituent, internal and external, at ProAssurance. Treated Fairly
is the ultimate promise we can make as a company, and it’s one that I, and everyone at ProAssurance,
will do everything we can to keep.
Inherent in our commitment to both insureds and investors is the promise to adapt quickly and
effectively to deal with the new realities of medicine and the delivery of healthcare. Few environments
are evolving as rapidly—and as thoroughly—as the medical/legal environment in which the majority
of our policyholders practice and, here again, we are able to bring our financial strength, operational
expertise, and unmatched geographic reach to provide solutions to problems that our competitors
simply cannot solve.
The demographics of healthcare have undergone a seismic shift in the past generation, and
the consequences are becoming more evident every day. Fully 50% of the physicians practicing in
America today are employed or affiliated with hospitals or large,
multi-specialty groups. This migration to a more predictable
practice setting is driven by a host of factors: the prevalence of
physicians who seek more predictable working conditions, the
enhanced insurance/government reimbursement for procedures
performed by hospital-employed physicians, and the expense and
Our ability to defend our insureds
from a position of financial
strength may be the most defining
characteristic of ProAssurance.
hassle of coping with federally mandated electronic documentation.
Yet despite common goals of these integrated physician/hospital systems, each approaches its
professional liability risk with a different set of demands and expectations. ProAssurance has insured
physicians for 35 years and hospitals for 25 years and is uniquely qualified to deliver the specialized
insurance programs that allow both types of insured—entities and individuals—to address their own
4
requirements. As changes in healthcare push institutions
to seek ways to use their scarce financial resources more
effectively, ProAssurance is ready with effective solutions.
There are, however, and will always be, entrepreneurial
physicians who crave the independence and challenge of solo
and small group practice, and for them we are enhancing our
traditional products to deal with emerging risks few could
have imagined even five
years ago. For example, we
are embarking on a new
specialty-specific program
This promise of responsive,
innovative, and secure insurance is
a promise we do not make lightly.
targeting the unique liability demands in the practice of
obstetrics. We believe this will help us reach new insureds in
markets where we are already doing business and in attractive
new markets where our primary writings are currently con-
fined to our podiatric business.
This promise of responsive, innovative, and secure
insurance is a promise we do not make lightly. The manage-
ment team at ProAssurance is the most experienced in our
industry, and our past experience has prepared us to keep
these far-reaching promises. Our level of investment in the
Company ensures that we will take these promises—to
investors and insureds alike—seriously.
We have achieved impressive results by maintaining our
focus and discipline. The promise we make to you is that we
will continue to apply those principles in what is sure to be an
exciting future. We believe keeping that promise will allow us
to continue reporting future results that are as impressive as
those reported in 2010.
Sincerely,
W. Stancil Starnes
Chief Executive Officer
P R O M I S E S K E P T
Treated Fairly
At the core of our business philosophy
is the promise that we will treat
all people fairly. By fulfilling this
promise to everyone we encounter,
in particular our insureds, we affirm
that everyone has the right to be
carefully heard and thoughtfully
engaged in an open, transparent
fashion. And we reinforce the values
already present in our relationships
with our insureds. To be treated fairly,
of course, means different things to
different people, but meeting the
diverse expectations of everyone we
encounter ensures that we remain one
of the leading carriers in our industry.
5
B O A R D O F D I R E C T O R S
CO MM I T TE E S
DIRECTORS
POSITION
INDEPENDENCE
AUDIT
COMPENSATION
EXECUTIVE
W. Stancil Starnes, Esq.
Victor T. Adamo, Esq., C.P.C.U. President, ProAssurance
Lucian Bloodworth
Jerry D. Brant, D.P.M.
Robert E. Flowers, M.D.
William J. Listwan, M.D.
Chairman & Chief Executive Officer, ProAssurance
Chairman, Cain Manufacturing Company, Inc.
President & Chief Executive Officer, PICA Group
Retired Physician
Practicing Physician &
Assistant Professor of Internal Medicine
Chairman, Ligon Industries
Attorney
Vice-President, Munder Capital Management
Practicing Physician
Practicing Physician
John J. McMahon, Jr.
Drayton Nabers, Jr., Esq.
Ann F. Putallaz, Ph.D.
William H. Woodhams, M.D.
Wilfred W. Yeargan, M.D.
S E N I O R O F F I C E R S
M
M
I
M
I
I
I
I
I
I
I
M,C
M
M
M,C,E
M
M
M
M,C
M
NOMINATING &
CORPORATE
GOVERNANCE
M
M,C
M
Management, Non-Independent = M
Independent = I ,
Member = M Chairman = C Financial Expert = E
Victor T. Adamo, Esq., C.P.C.U.
Jeffrey L. Bowlby, A.R.M.
Howard H. Friedman, A.C.A.S., M.A.A.A. Co-President & Chief Underwriting Officer, Professional Liability Group
President, ProAssurance
Chief Marketing Officer & Senior Vice-President, Professional Liability Group
Jeffrey P. Lisenby, Esq., C.P.C.U.
Frank B. O’Neil
Edward L. Rand, Jr., C.P.A.
W. Stancil Starnes, Esq.
Darryl K. Thomas, Esq.
Senior Vice-President, ProAssurance
Corporate Secretary, General Counsel & Senior Vice-President, ProAssurance
Communications Officer & Senior Vice-President, ProAssurance
Chief Financial Officer & Senior Vice-President, ProAssurance
Chairman & Chief Executive Officer, ProAssurance
Co-President & Chief Claims Officer, Professional Liability Group
Senior Vice-President, ProAssurance
Hayes V. Whiteside, M.D.
Chief Medical Officer & Senior Vice-President, Professional Liability Group
S T O C K P R I C E P E R F O R M A N C E
You may use the following information to compare 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 shareholder return of our stock during the five years ended
December 31, 2010, as well as the cumulative total shareholder return of an overall stock market index (the Russell 2000) and a peer group
index (the SNL Property & Casualty Insurance Index) for the five years ended December 31, 2010. All cumulative return data assumes the
reinvestment of dividends.
T O TA L R E T U R N P E R F O R M A N C E
130
120
110
100
90
80
70
ProAssurance Corporation
Russell 2000
SNL Property & Casualty Insurance Index
12/31/05
12/31/06
12/31/07
12/31/08
12/31/09
12/31/10
INDEX
12/31/05
12/31/06
12/31/07
ProAssurance Corporation
Russell 2000
SNL Property & Casualty
Insurance Index
100.00
100.00
100.00
102.63
118.37
116.57
112.91
116.51
125.86
12/31/08
108.51
77.15
97.42
12/31/09
110.42
98.11
105.33
12/31/10
124.59
124.46
125.59
PERIOD ENDING
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, 2010, 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:
Title of Each Class
Common Stock, par value $0.01 per share
Name of Each Exchange On Which Registered
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities
Act.
Yes 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.
No X
Yes
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 whether the registrant has submitted electronically and posted on its corporate web site, if
any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T
(§232.405 of this chapter), during the preceding 12 months (or for such shorter period that the registrant was
required to submit and post such files). Yes X
No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405) 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. [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer,
or a smaller reporting company. See the definitions of “large accelerated filer," "accelerated filer” and "smaller
reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer X Accelerated filer
Non-accelerated filer
Smaller reporting company ___
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).
Yes
No X
The aggregate market value of voting stock held by non-affiliates of the registrant at June 30, 2010 was
$1,787,487,963.
As of February 15, 2011, the registrant had outstanding approximately 30,501,385 shares of its common stock.
Page 1 of 137 pages
Documents incorporated by reference in this Form 10-K
(i)
(ii)
(iii)
(iv)
(v)
(vi)
(vii)
The definitive proxy statement for the 2010 Annual Meeting of the Stockholders of
ProAssurance Corporation (File No. 001-16533) is incorporated by reference into Part III
of this report.
The MAIC Holdings, Inc. Registration Statement on Form S-4 (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 ProAssurance Corporation Registration Statement on Form S-4 (File No. 333-49378)
is incorporated by reference into Party 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 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 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.
(viii) The ProAssurance Corporation Registration Statement of Form S-4 (File No. 333-
131874) is incorporated by reference in Part IV of this report.
(ix)
(x)
(xi)
(xii)
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.
The ProAssurance Corporation Quarterly Report on Form 10-Q for the quarter ended
September 30, 2006 (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
12, 2007 (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, 2007 (File No. 001-16533) is incorporated by reference into Part IV of this
report.
(xiii) The ProAssurance Corporation Registration Statement on Form S-8 (File No. 333-
156645) is incorporated by reference into Part IV of this report.
(xiv) The ProAssurance Corporation Definitive Proxy Statement filed on April 11, 2008 (File
No. 001-16533) is incorporated by reference into Part IV of this report.
(xv)
The ProAssurance Corporation Annual Report on Form 10-K for year ended December
31, 2009 (File No. 001-16533) is incorporated by reference into Part IV of the report.
(xvi) The ProAssurance Corporation Current Report on Form 8-K for event occurring August
31, 2010 (File No. 001-16533) is incorporated by reference into Part IV of this report.
(xvii) The ProAssurance Corporation Current Report on Form 8-K for event occurring
December 1, 2010 (File No. 001-16533) is incorporated by reference into Part IV of this
report.
2
ITEM 1. BUSINESS.
General / Corporate Overview
PART I
ProAssurance Corporation is a holding company for property and casualty insurance companies
focused on professional liability insurance. Throughout this report, references to ProAssurance, “we”,
“us” and “our” refer to ProAssurance Corporation and its consolidated subsidiaries. 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. Because the insurance business uses certain terms and phrases that carry special
and specific meanings, we encourage you to read the Glossary that is posted on the investor relations
section of our website.
The Investor Relations Page (www.proassurance.com/investorrelations/) on our website provides
many resources for investors seeking to learn more about us. Our annual report on Form 10K, our
quarterly reports on Form 10Q, and our current reports on Form 8K are available on our website as soon
as reasonably practical after filing with the Securities and Exchange Commission (the SEC) on its
EDGAR system. 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 other documents that provide
important additional information about our financial condition and operations. Documents available on
our website include the financial statements we file with state regulators (compiled under Statutory
Accounting Principles as required by regulation), news releases that we issue, a listing of our investment
holdings, and certain investor presentations.
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.
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", "potential", "project", "should", "will" and other
analogous expressions. There are numerous 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, investment valuation and performance, 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
3
acquisition of business in new geographical areas, the availability of acceptable reinsurance, actions by
regulators and rating agencies, court actions, 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 factors that could affect the actual outcome of future events:
general economic conditions, either nationally or in our market areas, that are different
than anticipated;
regulatory, legislative and judicial actions or decisions that could affect our business
plans or operations;
the enactment or repeal of tort reforms;
formation or dissolution of state-sponsored malpractice insurance entities that could
remove or add sizable groups of physicians from the private insurance market;
the impact of deflation or inflation;
changes in the interest rate environment;
the effect that changes in laws or government regulations affecting the U.S. economy or
financial institutions, including the Emergency Economic Stabilization Act of 2008 and
the American Recovery and Reinvestment Act of 2009 and the Dodd-Frank Wall Street
Reform and Consumer Protection Act of 2010, may have on the U.S. economy and our
business;
performance of financial markets affecting the fair value of our investments or making it
difficult to determine the value of our investments;
changes in accounting policies and practices that may be adopted by our regulatory
agencies and the Financial Accounting Standards Board, the Securities and Exchange
Commission, or the Public Company Accounting Oversight Board;
changes in laws or government regulations affecting medical professional liability
insurance or the financial community;
the effects of changes in the health care delivery system, including but not limited to the
Patient Protection and Affordable Care Act;
uncertainties inherent in the estimate of loss and loss adjustment expense reserves and
reinsurance, and changes in the availability, cost, quality, or collectability of
insurance/reinsurance;
the results of litigation, including pre- or post-trial motions, trials and/or appeals we
undertake;
allegation of bad faith which may arise from our handling of any particular claim,
including failure to settle;
loss of independent agents;
changes in our organization, compensation and benefit plans;
our ability to retain and recruit senior management;
our ability to purchase reinsurance and collect recoveries from our reinsurers;
assessments from guaranty funds;
our ability to achieve continued growth through expansion into other states or through
acquisitions or business combinations;
changes to the ratings assigned by rating agencies to our insurance subsidiaries,
individually or as a group;
insurance market conditions may alter the effectiveness of our current business strategy
and impact our revenues;
the expected benefits from completed and proposed acquisitions may not be achieved or
may be delayed longer than expected due to business disruption, loss of customers and
4
employees, increased operating costs or inability to achieve cost savings, and assumption
of greater than expected liabilities, among other reasons.
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 "Item 1A, Risk
Factors" in this report and other documents we file 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.
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 these factors 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.
5
Business Overview
We are an insurance holding company that wholly owns eight operating insurance companies
which are primarily focused on providing professional liability insurance and operate as a single business
segment within the United States. The composition of our gross written premiums by coverage type and
by state for the past three years is as follows:
Gross Premiums Written–Years Ended December 31
($ in thousands)
2009
2008
2010
Physicians
Healthcare facilities
Other healthcare
professionals
Legal professionals
All other (1)
Total
$ 418,173
43,093
28,524
13,250
30,165
$ 533,205
78%
8%
5%
2%
7%
100%
$ 442,002
37,215
31,350
12,379
30,976
$ 553,922
80%
7%
6%
2%
5%
100%
$ 389,492
15,582
31,229
7,801
27,378
$ 471,482
83%
3%
7%
2%
5%
100%
(1) Includes tail premiums of $23.2 million in 2010, $20.4 million in 2009 and $23.5 million in 2008.
Gross Premiums Written–Years Ended December 31
($ in thousands)
2009
2008
2010
$ 74,967
63,143
39,909
30,772
30,767
293,647
$ 533,205
14%
12%
8%
6%
6%
54%
100%
$
96,307
69,300
35,428
33,304
32,842
286,741
$ 553,922
17%
13%
6%
6%
6%
52%
100%
$ 91,116
75,859
31,914
33,822
31,946
206,825
$ 471,482
19%
16%
7%
7%
7%
44%
100%
Alabama (1)
Ohio
Florida (2)
Indiana
Michigan
All other states
Total
(1) Includes premium related to policies with a two year term of $10.9 million in 2010 and $23.0 million in 2009.
(2) Not a top five state in 2008
American Physicians Service Group, Inc. (APS), which we acquired on November 30, 2010 (see
“Corporate Organization and History-Recent Developments”) reported total gross written premiums for
the year ended December 31, 2010 of $61.5 million. The table above includes $5.1 million of APS
premium that was written after the acquisition date, primarily physician premium written in Texas.
6
Corporate Organization and History
We were incorporated in Delaware as the successor to Medical Assurance, Inc. in connection
with its merger with Professionals Group, Inc. (Professionals Group) in June 2001.
Much of our growth has come through mergers and acquisitions; we are the successor to eighteen
insurance organizations and have further grown our business with four significant renewal rights
transactions. Key personnel have been retained in our acquisitions, allowing us to maintain market
knowledge and preserve important institutional knowledge in underwriting, claims, risk management and
marketing. Our ability to utilize this knowledge has allowed us to grow effectively through acquisitions.
Recent Developments
On November 30, 2010 we acquired 100% of the outstanding shares of American Physicians
Service Group, Inc. (APS), whose primary operating entity is American Physicians Insurance Company
(API), in a transaction valued at $237 million including cash paid of $233 million and deferred
compensation commitments of $4 million. APS provides medical professional liability insurance
primarily in Texas. See Note 2 to the Consolidated Financial Statements included herein for additional
information regarding the acquisition of APS.
In November 2010 the Board of Directors of ProAssurance authorized $200 million to be used for
the repurchase of our common stock or debt securities, which was in addition to previous authorizations
of $100 million in September 2009, $100 million in August 2008 and $150 million in April 2007. As of
February 15, 2011 approximately $194.0 million of the total amount authorized by the Board remains
available for use.
On April 1, 2009 we acquired 100% of Podiatry Insurance Company of America and subsidiaries
(PICA), and its wholly-owned subsidiary, PACO Assurance Company, Inc. (PACO), through a cash
sponsored demutualization valued at $134 million, including future premium credits to qualified insureds
of $15 million. PICA and PACO together provide professional liability insurance primarily to podiatric
physicians, chiropractors and other healthcare providers throughout the United States. See Note 2 to the
Consolidated Financial Statements included herein for additional information regarding the acquisition of
PICA.
In December 2008 we repurchased $23.0 million of our outstanding trust preferred securities for
approximately $18.4 million. We recognized a gain of approximately $4.6 million on the extinguishment
of debt which is discussed in more detail in Note 10 to the Consolidated Financial Statements included
herein. The repurchased securities had been issued in April and May, 2004 as a part of a larger transaction
wherein we issued $45.0 million of trust preferred securities, having a 30-year maturity and callable at par
beginning in May 2009. The proceeds from the sale of the trust preferred securities were used for general
corporate purposes, including contributions to the capital of our insurance subsidiaries to support growth
in our insurance operations.
In July 2008 we converted all our outstanding Convertible Debentures (aggregate principal of
$107.6 million), issued in 2003, into approximately 2,572,000 shares of ProAssurance common stock. No
gain or loss was recorded related to the conversion, which is discussed in more detail in Notes 10 and 11
to the Consolidated Financial Statements, included herein.
In December 2007 we redeemed, at face value, for cash, outstanding subordinated debentures of
$15.5 million that became our obligation in 2005 when we acquired NCRIC Corporation (NCRIC), now
ProAssurance Professional Liability Group.
Effective August 1, 2006 we acquired 100% of the outstanding shares of Physicians Insurance
Company of Wisconsin, Inc., now ProAssurance Wisconsin Insurance Company (PRA Wisconsin), in an
all stock merger valued at $104 million. PRA Wisconsin provides professional liability insurance
primarily to healthcare professionals and facilities in Midwestern and Western states.
Effective January 1, 2006 we sold the operating subsidiaries that comprised our personal lines
operations, MEEMIC Insurance Company and MEEMIC Insurance Services (collectively, the MEEMIC
7
companies), 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. We
used the sale proceeds to support the capital requirements of our professional liability insurance
subsidiaries and other general corporate purposes.
Products, Services and Marketing
Our insurance subsidiaries are primarily focused on providing professional liability insurance to
the healthcare and legal marketplaces. We target the full spectrum of the healthcare professional liability
market, with physicians as our core customer group. For our legal professional liability product, we target
smaller law practices. While most of our business is written in the standard market, we also offer
professional liability insurance on an excess and surplus lines basis. We are licensed to do business in
every state.
We utilize independent agents as well as an internal sales force to write our business. For the year
ended December 31, 2010, we estimate that approximately 64% of our gross premiums written were
produced through independent insurance agencies. We do not anticipate that inclusion of APS will have a
meaningful impact on our sales distribution. These local agencies usually have producers who specialize
in professional liability insurance and should be able to convey the factors that differentiate our
professional liability insurance products. No single agent or agency accounts for more than 10% of our
total direct premiums written.
Our marketing approach is closely tied to our promise of “Treated Fairly” which is our public
pledge that all of our actions will deliver fair treatment, informed by the core values that guide our
organization: integrity, respect, doctor involvement in our healthcare insurance activities, collaboration,
communication, and enthusiasm. We emphasize that we offer:
financial strength,
excellent claims and underwriting services,
opportunities to participate in accredited risk management education seminars,
risk management consultation, loss prevention seminars and other educational programs,
regular newsletters discussing matters of interest to healthcare providers, including updates on
legislative developments,
support of legislation that will have a positive effect on healthcare liability issues, and
involvement in and support for local medical societies and related organizations.
These communications and services demonstrate our understanding of the professional liability
insurance needs of the healthcare industry, promote a commonality of interest among us and our insureds,
and provide opportunities for targeted interactions with potential insureds.
Underwriting
Our underwriting process is driven by individual risk selection. Our underwriting decisions are
focused on achieving pricing adequacy. We assess the quality and pricing of the risk, emphasizing loss
history, areas of practice and location in making our underwriting decision. In performing their
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 underwriting concentrates on knowledge of local market conditions and legal environments
through market-focused underwriting offices located in Alabama, Georgia, Indiana, Michigan, Missouri,
Tennessee, Texas, Wisconsin, and the District of Columbia. Our underwriters work closely with our
claims departments, consulting with staff about claims histories and patterns of practice in a particular
locale as well as monitoring claims activity.
For our medical professional liability business underwriters are assisted by our medical advisory
committees that operate in our key markets. These committees are comprised of physicians, other
8
healthcare providers and representatives of hospitals and healthcare entities and help us maintain close
ties to the medical communities in these markets, provide information on the practice of medicine in each
market and provide guidance on critical underwriting issues.
Claims Management
We have local claims offices located in Alabama, Delaware, Florida, Georgia, Illinois, Indiana,
Kentucky, Michigan, Missouri, Ohio, Tennessee, Texas, Virginia, Wisconsin, and the District of
Columbia so that we can provide specialized and timely attention to claims. We offer our insureds a
strong defense of claims that we believe are non-meritorious or those we believe cannot be settled by
reasonable, good faith negotiations. Many of these claims are resolved by jury verdict, and we engage
experienced, independent trial attorneys in each venue to handle the litigation in defense of our
policyholders.
Our claims department promptly and thoroughly investigates the circumstances surrounding a
reported claim against an insured. As this investigation progresses, our claims department develops an
estimate of the case reserves for each claim. Thereafter, we monitor development of new information
about the claim and adjust the case reserve as loss cost estimates are revised.
Through our 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. Our claims department carefully manages the case, including selecting independent defense
attorneys who specialize in professional liability defense and obtaining medical, legal and/or other expert
professionals 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 markets to examine claims, attempt to identify potentially troubling practice patterns and make
recommendations to our staff.
We believe that our claims philosophy contributes to lower overall loss costs and results in
customer loyalty. Our success in claims management is greatly enhanced by our local presence in many
of the markets we serve. Our claims offices in those markets are staffed with experienced claims
professionals who possess specialized knowledge of the local medical and legal environments. We have
access to attorneys with significant experience in the defense of professional liability claims in those local
jurisdictions and who are able to defend claims in an aggressive, cost-efficient manner.
Investments
The majority of our assets are held in our individual operating insurance companies and 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 targets and portfolio diversification. The portfolio is
generally managed by professional third party asset managers whose results we monitor and evaluate. The
asset managers typically have the authority to make investment decisions within the asset class they are
responsible for managing, subject to our investment policy and oversight, including a requirement that
securities in a loss position cannot be sold without specific authorization from us. See Note 4 to the
Consolidated Financial Statements for more information 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 Moody’s. In developing their claims-paying ratings, these agencies
make an independent evaluation of an insurer’s ability to meet its obligations to policyholders. While
these ratings may be of interest to investors, these are not ratings of our securities nor a recommendation
to buy, hold or sell any of our securities.
9
The following table presents the claims paying ratings of our group and our core subsidiaries as
of February 15, 2011:
Rating Agency
A.M. Best
(www.ambest.com)
Fitch
(www.fitchratings.com)
Moody’s
(www.moodys.com)
ProAssurance Group
ProAssurance Indemnity Company, Inc.
ProAssurance Casualty Co.
ProAssurance Specialty Insurance Company, Inc.
American Physicians Insurance Company
Podiatry Insurance Company of America
ProAssurance Wisconsin Insurance Co.
PACO Assurance Company, Inc.
ProAssurance National Capital Insurance Co.
A (Excellent)
A (Excellent)
A (Excellent)
A (Excellent)
A (Excellent)
A (Excellent)
A- (Excellent)
A- (Excellent)
A- (Excellent)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A3
A3
A3
NR
NR
A3
A3
NR
NR
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
We compete in a fragmented market with many insurance companies and alternative insurance
mechanisms such as risk retention groups or self-insuring entities. Competition depends on a number of
factors including pricing, size, name recognition, service quality, market commitment, market conditions,
breadth and flexibility of coverage, method of sale, financial stability, ratings assigned by rating agencies
and regulatory conditions.
Our financial stability, local market presence and knowledge, leading position in a number of
markets, service quality, size, and geographic scope provide competitive advantages. We are widely
recognized in our markets for our heritage as a policyholder-founded company with a long-term focus on
the professional liability insurance industry as well as our demonstrated commitment to the defense of
non-meritorious claims and the prompt, reasonable settlement of those claims that involve a breach of the
applicable standard of professional care by our insured, causing damages covered by our insurance policy.
Our operating model of maintaining regional claims and underwriting offices staffed with
experienced underwriting and claims professionals also provides competitive advantages. We utilize our
local market knowledge to rigorously underwrite each application for coverage to ensure that we
understand the risks we accept, and develop an adequate price for that risk. Our local market knowledge
also allows us to effectively evaluate claims because we have a detailed understanding of local medical
and legal climates. We maintain active relationships with our customers and emphasize high
responsiveness to customer needs.
Additionally, we differentiate ProAssurance from our competitors through our “Treated Fairly”
brand. “Treated Fairly” is our public pledge that all of our actions will deliver fair treatment, informed by
the core values that guide our organization: integrity, respect, doctor involvement in our healthcare
insurance activities, collaboration, communication, and enthusiasm. Our competitors include smaller
insurance entities that concentrate on a single state and also 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. We consider our largest nationwide competitors to be The Medical Protective
Company (Berkshire Hathaway) and The Doctors Company.
10
Improvements in loss cost trends have allowed us to reduce rates in many markets and offer
targeted new business and renewal retention programs in selected markets. These steps improve
policyholder retention but decrease our average premiums. While we reflect loss cost trends in our
pricing, we do not aggressively compete on price alone, and we have not compromised our commitment
to strict underwriting.
We have lost some insureds due to aggressive, price-based competition which we face in virtually
all of our markets. This competition comes mostly from established insurers that are willing to write
coverage at rates that we believe do not meet our long-term profitability goals. We believe many
competitors are also employing less-stringent underwriting standards than they have in the past and they
appear to be offering more liberal coverage options.
We have also seen a trend towards hospitals purchasing physician practices in recent years. We
have also lost insureds as some physicians and hospitals have entered into alternative risk transfer
mechanisms such as self insurance and risk sharing pools. Historically, these alternatives have been less
attractive when prices soften in the traditional insurance markets although many of these alternative
arrangements have remained in place through previous soft markets.
If competitors continue to be less disciplined in their pricing, or become more permissive in their
coverage terms, we could lose business because our ongoing commitment to adequate rates and strong
underwriting standards affects our willingness to write new business and to renew existing business in the
face of this price-based competition.
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 insurance subsidiaries are domiciled in Alabama,
Illinois, Michigan, Texas, Wisconsin, and the District of Columbia.
Insurance companies are also affected by state and federal legislative and regulatory measures
and judicial decisions. 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 adequately reflecting the level of risk assumed by the insurer for those
classes.
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.
11
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. Because of these regulatory requirements, any
party seeking to acquire control of ProAssurance or any other domestic insurance company, whether
directly or indirectly, would usually be required to file an application for approval of the proposed change
of control with the relevant insurance regulatory authority.
In addition, certain state insurance laws contain provisions that require pre-acquisition
notification to state agencies of a change in control of a non-domestic insurance company admitted in that
state. While such pre-acquisition notification statutes do not authorize the state agency to disapprove the
change of control, such statutes do authorize certain remedies, including the issuance of a cease and desist
order with respect to the non-domestic admitted insurers doing business in the state if certain conditions
exist, such as undue market concentration.
Statutory Accounting and Reporting
Insurance companies are required to file detailed 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 Principles (SAP). Insurance regulators periodically
examine each insurer’s financial condition, adherence to SAP, and compliance with insurance department
rules and regulations.
In late 2010, the National Association of Insurance Commissioners (the NAIC) adopted the
Model Insurance and Holding Company System Regulatory Act and Regulation (“Model Law”). The
Model Law, as compared to currently existing NAIC guidance, increases regulatory oversight of and
reporting by insurance holding companies, including reporting related to non-insurance entities, and
requires reporting of risks affecting the holding company group. The Model Law will be binding only if
adopted by state legislatures and/or state insurance regulatory authorities and actual regulations adopted
by any state may differ from the Model Law.
Regulation of Dividends and Other Payments from Our Operating Subsidiaries
Our operating subsidiaries are subject to various state statutory and regulatory restrictions which
limit the amount of dividends or distributions an insurance company may pay to its shareholders 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 regulations generally require domestic insurers to obtain prior
approval of extraordinary dividends. Insurance holding company regulations that govern our principal
operating subsidiaries except as described below, deem a dividend as 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.
Our ProAssurance National Capital Insurance Company subsidiary is governed by District of
Columbia insurance regulations, under which a dividend is deemed 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% of surplus at the prior calendar year end.
12
Our ProAssurance Wisconsin Insurance Company subsidiary is governed by Wisconsin insurance
regulations, under which a dividend is deemed 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.
Additionally, we have made a written representation to the Texas Department of Insurance that
we would not pay any dividend from our API subsidiary before June 1, 2011. 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.
Risk-Based Capital
In order to enhance the regulation of insurer solvency, the National Association of Insurance
Commissioners specifies risk-based capital requirements for property and casualty insurance companies.
At December 31, 2010, all of ProAssurance’s insurance subsidiaries exceeded their minimum risk based
capital levels.
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 of investments. We monitor the practices used by our operating subsidiaries for compliance
with applicable state investment regulations and take corrective measures when deficiencies are
identified.
Guaranty Funds
Admitted insurance companies are required to be members of guaranty associations which
administer state guaranty funds. These associations levy assessments to fund the payment of claims
against insurance companies that fail (up to prescribed limits) on all member insurers in a particular state
on the basis of the proportionate share of the premiums written by member insurers in the covered lines of
business in that state. Maximum assessments permitted by law in any one year generally vary between
1% and 2% of annual premiums written by a member in that state. Some states permit member insurers to
recover assessments paid through surcharges on policyholders or through full or partial premium tax
offsets, while other states permit recovery of assessments through the rate filing process.
Shared Markets
State insurance regulations may force us to participate in mandatory property and casualty shared
market mechanisms or pooling arrangements that provide certain insurance coverage to individuals or
other entities that are otherwise unable to purchase such coverage in the commercial insurance
marketplace. Our operating subsidiaries’ participation in such shared markets or pooling mechanisms is
not material to our business at this time.
13
Changes in Legislation and Regulation
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.
Tort reforms generally restrict the ability of a plaintiff to recover damages by, among other
limitations, eliminating certain claims that may be heard in a court, limiting the amount or types of
damages, changing statutes of limitation or the period of time to make a claim, and limiting venue or
court selection. A number of states in which we do business, notably Florida, Georgia, Illinois, Missouri,
Ohio, Texas, and West Virginia, enacted tort reform legislation in the previous decade as a response to a
rapid deterioration in loss trends. These reforms are generally thought to have contributed to the
improvement in the overall loss trends in those states, although loss trends have also been favorable in
states that did not pass any type of tort reform. In states where these reforms are perceived to have
improved the medical professional liability climate, we have experienced an increase in competition.
The Illinois and Georgia tort reform statutes were overturned in 2010 and challenges to tort
reform are underway in most states where tort reforms have been enacted. The Illinois statute was
overturned in early 2010. Other state reforms may also be overturned, although we cannot predict with
any certainty how appellate courts will rule. We continue to monitor developments on a state-by-state
basis and make business decisions accordingly.
Tort reform proposals are considered from time-to-time at the Federal level. 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.
The Patient Protection and Affordable Care Act of 2010, otherwise known as the Healthcare
Reform Act, was passed and signed into law in March 2010. Although a few provisions of the Act have
already become effective, the most comprehensive provisions will become effective beginning in 2013. It
does not appear that the provisions enacted will have a significant direct effect on our business, but
specific regulations to implement the law are still being written. These regulations could have
unanticipated or indirect effects on our business or alter the risk and cost environments in which we and
our insureds operate. Additionally, the Healthcare Reform Act is a complex document that contains
numerous administrative provisions that deal with non-healthcare matters. Regulations to implement these
non-healthcare provisions are being developed and may impose additional administrative burdens that
increase our operating costs. Furthermore, there are ongoing legal challenges and potential legislative
changes that may be introduced during 2011 that may repeal or substantially alter the Healthcare Reform
Act. We are unable to predict with any certainty the effect that the Healthcare Reform Act or future
related legislation will have on our insureds or our business.
The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) was passed
in July 2010. Although many provisions of the Act do not appear to directly affect our business, the Act
establishes new regulatory oversight of financial institutions. As detailed regulations are developed to
implement the provisions of the Act, there may be changes in the regulatory environment that affect the
way we conduct our operations or the cost of compliance, or both.
Other federal initiatives could be proposed, including additional patient protection legislation that
could ultimately affect our business. We are unable to predict the likelihood of any particular type of
legislation becoming effective or the ramifications to our business.
Employees
At December 31, 2010, we had 739 employees, none of whom are represented by a labor union.
We consider our employee relations to be good.
14
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. Any factor described in
this report could by itself, or together with one or more other 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.
Insurance market conditions may alter the effectiveness of our current business strategy and impact our
revenues.
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 mechanisms (such as captive insurers and risk retention groups)
whose activities are directed to limited markets in which they have extensive knowledge. Competitors
include companies that have substantially greater financial resources than we do, hospitals purchasing
physician practices, 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, geographic scope, local presence,
agent and client relationships, financial strength and the experience of the insurance company in the line
of insurance to be written. Increased competition could adversely affect our ability to attract and retain
business at current premium levels, impact our market share and reduce the profits that would otherwise
arise from operations.
Our operating results and financial condition may be affected if actual insured losses differ from our loss
reserves.
We establish reserves as balance sheet liabilities representing our estimates of amounts needed to
pay reported and unreported losses and the related loss adjustment expense. Our largest liability is our
reserve for loss and loss adjustment expenses. Due to the size of our reserve for loss and loss adjustment
expenses, even a small percentage adjustment to our reserve can have a material effect on our results of
operations for the period in which the change is made.
The process of estimating loss reserves is complex. 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. Ultimate loss costs, even for claims with similar characteristics, can vary significantly depending
upon many factors, including but not limited to, the nature of the claim and the personal situation of the
claimant or the claimant's family, the outcome of jury trials, the legislative and judicial climate where the
insured event occurred, general economic conditions and, for medical professional liability, the trend of
health care costs. Consequently, the loss cost estimation process requires actuarial skill and the
application of judgment, and such estimates require periodic revision. As part of the reserving process, we
review the known facts surrounding reported claims as well as historical claims data and consider the
impact of various factors such as:
–
for reported claims, the nature of the claim and the jurisdiction in which the claim occurred;
–
trends in paid and incurred loss development;
–
trends in claim frequency and severity;
– emerging economic and social trends;
–
–
– changes in the regulatory legal and political environment.
trend of health care costs for medical professional liability;
inflation; and
15
This process assumes that past experience, adjusted for the effects of current developments and
anticipated trends, is an appropriate, but not necessarily accurate, basis for predicting future events. There
is no precise method for evaluating the impact of any specific factor on the adequacy of reserves, and
actual results are likely to differ from original estimates. Our loss reserves also may be affected by court
decisions that expand liability on our policies after they have been issued and priced. In addition, a
significant jury award, or series of awards, against one or more of our insureds could require us to pay
large sums of money in excess of our reserved amounts. Due to uncertainties inherent in the jury system,
each case that is litigated to a jury verdict increases our risk of incurring a loss that has a material adverse
affect on reserves. To the extent loss reserves prove to be inadequate to meet future claim payments, we
would incur a charge to earnings in the period the reserves are increased.
We purchase reinsurance to mitigate the effect of large losses. 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 under our reinsurance programs. We base our estimate of funds recoverable upon
our expectation of ultimate losses and the portion of those losses that we estimate to be allocable to
reinsurers based upon the terms of our reinsurance agreements. Given the uncertainty of the ultimate
amounts of our losses, our estimates of losses and related amounts recoverable may vary significantly
from the eventual outcome. Also, we estimate premiums ceded under reinsurance agreements wherein the
premium due to the reinsurer, subject to certain maximums and minimums, is based in part on losses
reimbursed or to be reimbursed under the agreement. Due to the size of our reinsurance balances, an
adjustment to these estimates could have a material effect on our results of operations for the period in
which the adjustment is made. Any adjustments are reflected in then-current operations.
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. 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 or if at all, and, as a result, we could
experience losses.
We transfer part of our risks to reinsurance companies in exchange for part of the premium we
receive in connection with the risk. Although our reinsurance agreements make the reinsurer liable to us
to the extent the risk is transferred, the liability to our policyholders remains our responsibility. If
reinsurers fail to pay us or fail to pay on a timely basis, our financial results and/or cash flows would be
adversely affected. At December 31, 2010 our Receivable from Reinsurers on Unpaid Losses is $277.4
million and our Receivable from Reinsurers on Paid Losses is $4.6 million.
Our claims handling practices could result in a bad faith claim against us.
We have been, from time-to-time, 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
possible whenever a case is taken to trial. These actions have the potential to have a material adverse
effect on our financial condition and results of operations.
16
Changes in healthcare policy could have a material effect on our operations.
The Patient Protection and Affordable Care Act of 2010, otherwise known as the Healthcare
Reform Act, was passed and signed into law in March 2010. While the primary provisions of the
Healthcare Reform Act do not appear to directly affect our business, specific regulations to implement the
law are still being written. The effect of these regulations could have unanticipated or indirect effects on
our business or alter the risk and cost environments in which we and our insureds operate. Additionally,
the Healthcare Reform Act is a complex document that contains numerous administrative provisions that
deal with non-healthcare matters. Regulations to implement these provisions are being developed and
may impose additional administrative burdens that will increase our operating costs. Furthermore, there
are ongoing legal challenges and potential legislative changes that may be introduced during 2011 that
may repeal or substantially alter the Healthcare Reform Act. We are unable to predict with any certainty
the effect that the Healthcare Reform Act or future related legislation will have on our insureds or our
business.
Changes due to recent financial reform legislation could have a material effect on our operations.
The Dodd-Frank Act was passed and signed into law in July 2010. The provisions of the bill do
not appear to directly affect our operations; however, the bill establishes new regulatory oversight of
financial institutions. As detailed regulations are developed to implement the provisions of the bill, there
may be changes in the regulatory environment that affect the way we conduct our operations or the cost of
regulatory compliance, or both. We are unable to predict with any certainty the effect that the Dodd-Frank
Act or future related legislation will have on our insureds or our business.
The passage of tort reform or other legislation, and the subsequent review of such laws by the courts
could have a material impact on our operations.
Tort reforms generally restrict the ability of a plaintiff to recover damages by, among other
limitations, eliminating certain claims that may be heard in a court, limiting the amount or types of
damages, changing statutes of limitation or the period of time to make a claim, and limiting venue or
court selection. A number of states in which we do business, notably Florida, Georgia, Illinois, Missouri,
Ohio, Texas, and West Virginia, enacted tort reform legislation in the previous decade as a response to a
rapid deterioration in loss trends. The statutes in Georgia and Illinois were overturned in 2010. We cannot
predict with any certainty how other state appellate courts will rule on these laws. While the effects of tort
reform have been generally beneficial to our business in states where these laws have been enacted, there
can be no assurance that such reforms will be ultimately upheld by the courts. Further, if tort reforms are
effective, the business of providing professional liability insurance may become more attractive, thereby
causing an increase in competition. In addition, the enactment of tort reforms could be accompanied by
legislation or regulatory actions that may be detrimental to our business because of expected benefits
which may or may not be realized. These expectations could result in regulatory or legislative action
limiting the ability of professional liability insurers to maintain rates at adequate levels. Coverage
mandates or other expanded insurance requirements could also be imposed. States may also consider state
sponsored malpractice insurance entities that could remove some physicians from the private insurance
market.
We continue to monitor developments on a state-by-state basis, and make business decisions
accordingly.
17
A significant amount of our business is concentrated in certain states so that our performance is
dependent on the business, economic, regulatory and legislative conditions in those states.
Our top five states, Alabama, Ohio, Florida, Indiana and Michigan, represented 46% of our
gross premiums written for the year ended December 31, 2010. Moreover, on a combined basis,
Alabama and Ohio accounted for 26%, 30%, and 35%, of our gross premiums written for the years
ended December 31, 2010, 2009 and 2008, respectively. Texas would have represented approximately
11% of our total gross premiums written in 2010 had we included a full year of APS premium.
Because of these concentrations, unfavorable business, economic or regulatory conditions in any of
these states could have a disproportionately greater effect on us than they would if we were less
geographically concentrated.
We may be unable to identify future strategic acquisitions or expected benefits from completed and
proposed acquisitions may not be achieved or may be delayed longer than expected.
Our corporate strategy anticipates growth through the acquisition of other companies or books
of business. However, such expansion is opportunistic and there is no guarantee that we will be able to
identify strategic acquisition targets in the future. Additionally, if we are able to identify a strategic
target for acquisition, state insurance regulation concerning change or acquisition of control could
delay or prevent us from growing through acquisitions. Many states' insurance regulatory codes
provide 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. There is no assurance that we will receive such approval from the
respective insurance regulator.
When we are able to complete an acquisition, such as our recent acquisitions of PICA and
APS, there is no guarantee that the expected benefits will be achieved as planned. The process of
integrating an acquired company or business can be complex and costly, and may create unforeseen
operating difficulties and expenditures. Potential problems that may arise include, among other
reasons, business disruption, loss of customers and employees, the ineffective integration of
underwriting, claims handling and actuarial practices, the increase in the inherent uncertainty of
reserve estimates for a period of time until stable trends reestablish themselves within the combined
organization, diversion of management time and resources to acquisition integration challenges, the
cultural challenges associated with integrating employees, increased operating costs or inability to
achieve cost savings, and the assumption of greater than expected liabilities. There is no guarantee that
any businesses acquired in the future will be successfully integrated, and the ineffective integration of
our businesses and processes may result in substantial costs or delays and adversely affect our ability
to compete.
If we are unable to maintain favorable financial strength ratings, it may be more difficult for us to write
new business or renew our existing business.
Independent rating agencies assess and rate the financial strength (including 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,
Fitch and Moody’s. 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 or the rating
agencies significantly change the rating criteria that are used to determine ratings, we may not maintain
18
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 claims paying ratings of our group and our core subsidiaries as
of February 15, 2011:
Rating Agency
A.M. Best
(www.ambest.com)
Fitch
(www.fitchratings.com)
Moody’s
(www.moodys.com)
ProAssurance Group
ProAssurance Indemnity Company, Inc.
ProAssurance Casualty Co.
ProAssurance Specialty Insurance Company, Inc.
American Physicians Insurance Company
Podiatry Insurance Company of America
ProAssurance Wisconsin Insurance Co.
PACO Assurance Company, Inc.
ProAssurance National Capital Insurance Co.
A (Excellent)
A (Excellent)
A (Excellent)
A (Excellent)
A (Excellent)
A (Excellent)
A- (Excellent)
A- (Excellent)
A- (Excellent)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A (Strong)
A3
A3
A3
NR
NR
A3
A3
NR
NR
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.
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.
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. Mr. Starnes, our 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. We currently have no
preferred stock outstanding, and no present intention to issue any shares of preferred stock. In addition,
our Board of Directors has amended our Corporate Governance Principles to provide that the Board of
Directors, subject to its fiduciary duties, will not issue any series of preferred stock for any defense or
anti-takeover purpose, for the purpose of implementing any stockholders rights plan, or with features
intended to make any acquisition more difficult or costly without obtaining stockholder approval.
However, because the rights and preferences of any series of preferred stock may be set by the board of
19
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.
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 in Item 1 Insurance Regulatory Matters.
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 changes or other actions
that we may want to take to enhance our operating results. In addition, we may incur significant costs in
the course of complying with regulatory requirements. Most states also regulate insurance holding
companies like us in a variety of matters such as acquisitions, changes of control and the terms of
affiliated transactions.
Future legislative or regulatory changes may also adversely affect our business operations.
The 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
insurance companies that have become insolvent. Most guaranty association laws enable the associations
20
to make assessments against member insurers to obtain funds to pay covered claims after a member
insurer becomes insolvent. These associations levy assessments (up to prescribed limits) on all member
insurers in a particular state on the basis of the proportionate share of the premiums written by member
insurers in the covered lines of business in that state. Maximum assessments permitted by law in any one
year generally vary between 1% and 2% of annual premiums written by a member in that state, 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.
In 2010 and 2009, guaranty fund refunds/recoupments exceeded current year assessments by $1.3
million and $0.5 million, respectively, which reduced total acquisition expenses. Our policy is to accrue
for 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 the guaranty funds do not provide sufficient information for development of such ranges.
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. Significant movements in interest rates potentially expose us to lower yields or lower asset values.
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 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 investments are subject to credit and prepayment risk.
A significant portion of our assets ($4.0 billion or 82%) at December 31, 2010 are financial
instruments whose value can be significantly affected by economic and market factors beyond our control
including, among others, the unemployment rate, the strength of the domestic housing market, the price of
oil, changes in interest rates and spreads, consumer confidence, investor confidence regarding the
economic prospects of the entities in which we invest, corrective or remedial actions taken by the entities
in which we invest, including mergers, spin-offs and bankruptcy filings, the actions of the U.S.
government, and global perceptions regarding the stability of the U.S. economy. Adverse economic and
market conditions could cause investment losses or other-than-temporary impairments of our securities,
which could affect our financial condition, results of operations, or cash flows.
Our portfolio holds asset-backed securities which consist of securitizations of underlying loans
collateralized by homes, autos, credit card receivables, commercial properties, hotels, and multi-family
housing. In addition to interest rate fluctuations, asset-backed security values are affected by the existence
of U.S. Government or Government-Sponsored Enterprise guarantees, the value and cash flows of the
underlying collateral, and the security’s seniority in the securitization’s capital structure. Approximately
18% ($731.8 million fair value) of our investments are asset-backed securities, 97% of which are
investment grade (94% AAA, 1% AA, 1% A, 1% BBB) as determined by Nationally Recognized
Statistical Rating Organizations (NRSROs) (Moody’s, Standard & Poor’s and Fitch). Ratings published
by the NRSROs are among the tools used to evaluate the credit worthiness of our securities. The ratings
are subject to error by the agencies; therefore, we may be subject to additional credit exposure should the
rating be misstated.
21
We hold investments in non-agency mortgage-backed securities with a fair value of
approximately $23.8 million ($23.8 million recorded cost basis). We also hold agency mortgage-backed
securities which are guaranteed by Ginnie Mae, Fannie Mae, or Freddie Mac, having a combined fair
value of $524.8 million ($503.2 million recorded cost basis).
We have direct exposure with a fair value of $12.5 million in asset-backed securitizations that we
classify as subprime. We have no exposure to subprime loans through collateralized debt obligations
(CDOs).
Our investment portfolio contains $99.4 million fair value of Commercial Mortgage-Backed
Securities (CMBS) which are affected by the general health of the economy. As occupancy rates for
commercial buildings and hotels have declined in recent years, fair values for many CMBS securities
have declined. While we primarily hold high quality CMBS in our portfolio (average rating is AAA),
there is no guarantee that fair values will be maintained in the future if delinquencies continue or increase
or the economy does not maintain stability.
The economic downturn in preceding years lessened tax receipts and other revenues in many
states and their municipalities and the frequency of credit downgrades of these entities has increased. At
December 31, 2010 the fair value of our state/municipal portfolio is $1.24 billion (recorded cost basis of
$1.20 billion). While our state/municipal portfolio has a high credit rating (AA on average) which
indicates a strong ability to pay, there is no assurance that there will not be a credit related event in our
state and municipal bond portfolios which would cause fair values to decline.
Our asset-backed securities are also subject to prepayment risk. A prepayment is the unscheduled
return of principal. When rates decline, the propensity for refinancing may increase and the period of time
we hold our asset-backed securities may shorten due to prepayments. Prepayments may cause us to
reinvest cash flows at lower yields than currently recognized. Conversely, as rates increase, and
motivations for refinancing lessen, the period of time we hold our asset-backed securities may lengthen,
causing us to not reinvest cash flows at then higher available yields.
In a period of market illiquidity and instability, the fair values of our investments are more difficult to
assess and our assessments may prove to be greater or less than amounts received in actual transactions.
In accordance with applicable GAAP, we value 96% of our investments at fair value and the
remaining 4% at cost, equity, or cash surrender value. See Notes 1, 3 and 4 to the Consolidated Financial
Statements for additional information. Approximately 5% of investments are traded in active markets and
we use quoted market prices to value those investments. We estimate fair values for the remaining 91% of
our investments, based on broker dealer quotes and various other valuation methodologies, which may
require us to choose among various input assumptions and which requires us to utilize judgment. When
markets exhibit much volatility, there is more risk that we may utilize a quoted market price, broker
dealer quote, valuation technique or input assumption that results in a fair value estimate that is either
over or understated as compared to actual amounts received upon disposition or maturity of the security.
22
Resolution of uncertain income tax matters and changes in tax laws could adversely affect our results of
operations or cash flow.
Our provision for income taxes, our recorded tax liabilities and net deferred tax assets, including
any valuation allowances, are recorded based on estimates. These estimates require us to make significant
judgments regarding a number of factors, including, among others, the applicability of various federal and
state laws, the interpretations given to those tax laws by taxing authorities, courts and ProAssurance, the
timing of future income and deductions, and our expected levels and source of future taxable income. We
believe our tax positions are supportable under tax laws and that our estimates are prepared in accordance
with GAAP. Nevertheless, we are periodically under routine examination by various federal, state and
local authorities regarding income tax matters and our tax positions could be successfully challenged; the
costs of defending our tax position could be considerable. Additionally, from time to time there are
changes to tax laws and interpretations of tax laws which could change our estimates of the amount of tax
benefits or deductions expected to be available to us in future periods. In either case, changes to our prior
estimates would be reflected in the period changed and could have a material effect on our effective tax
rate, financial position, results of operations and cash flow.
ProAssurance is subject to U. S. federal and various state income taxes, and generally remains
open to income tax examinations by tax authorities for years beginning with 2006. From time to time, we
have tax positions being reviewed by the IRS or state taxing authorities. Our expectation regarding the
resolution of those reviews is reflected in our then-current period financial statements. We are currently
under audit by the IRS for years 2006 to 2008. We are unaware of any audit findings that would
significantly change our tax liabilities. As of December 31, 2010 our current tax liability is approximately
$26.1 million, and we have a net deferred tax asset of approximately $56.9 million.
New or changes in existing accounting standards, practices and/or policies, and also subjective
assumptions, estimates and judgments by management related to complex accounting matters could
significantly affect our financial results.
U.S. generally accepted accounting principles (GAAP) and related accounting pronouncements,
implementation guidelines and interpretations with regard to a wide range of matters that are relevant to
our business, such as revenue recognition, estimation of losses, determination of fair value, asset
impairment (particularly investment securities and goodwill) and tax matters, are highly complex and
involve many subjective assumptions, estimates and judgments. Changes in these rules or their
interpretation or changes in underlying assumptions, estimates, or judgments could significantly change
our reported or expected financial performance or financial condition. See Note 1 of the Consolidated
Financial Statements for the discussion on accounting policies.
ProAssurance is primarily a holding company of insurance subsidiaries which are required to
comply with statutory accounting principles (SAP). SAP and its components are subject to review by the
National Association of Insurance Commissioners (NAIC) and state insurance departments. The NAIC
Accounting Practices and Procedures manual provides that a state insurance department may allow
insurance companies that are domiciled in that state to depart from SAP by granting them permitted non-
SAP accounting practices. This permission may allow for more favorable treatment to competitors.
It is uncertain whether or how SAP might be revised or whether any revisions will have a positive
or negative effect. It is also uncertain whether any changes to SAP or its components or any permitted
non-SAP accounting practices granted to our competitors will negatively affect our financial results or
operations. See the Insurance Regulatory Matters section in Item 1 for the full discussion on regulatory
matters.
23
ITEM 1B. UNRESOLVED STAFF COMMENTS.
None.
ITEM 2. PROPERTIES.
We own five office buildings, all of which are unencumbered:
Building Location
Birmingham, AL (1)
Franklin, TN
Okemos, MI
Madison, WI
Brentwood, TN (2)
(1) Corporate Office
Occupied by
ProAssurance
82,000
52,000
53,000
38,000
–
Square Footage of Building
Leased or Available
for Lease
83,000
51,000
–
–
25,000
Total
165,000
103,000
53,000
38,000
25,000
(2) Currently being offered for sale.
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 the Consolidated
Financial Statements included herein.
24
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 25 years. Following is a brief description of each
executive officer of ProAssurance, including their principal occupation, and relevant background with
ProAssurance and former employers.
W. Stancil Starnes
Victor T. Adamo
Howard H. Friedman
Jeffrey P. Lisenby
Frank B. O’Neil
Mr. Starnes was appointed as Chief Executive Officer of ProAssurance
in July 2007 and has served as the Chairman of the Board since October
2008. Mr. Starnes previously served as President, Corporate Planning
and Administration, of Brasfield & Gorrie, LLC, a large commercial
construction firm. Prior to October 2006, Mr. Starnes served as the
Senior and Managing Partner of Starnes & Atchison, LLP, Attorneys at
Law, where he was extensively involved with ProAssurance and its
predecessor companies in the defense of its medical liability claims.
(Age 62)
Mr. Adamo has been the President of ProAssurance since its inception.
Mr. Adamo joined the predecessor to Professionals Group in 1985 as
general counsel and was elected as Professionals Group CEO in 1987.
From 1975 to 1985, Mr. Adamo was in private legal practice and
represented the predecessor to Professionals Group. Mr. Adamo is a
Chartered Property Casualty Underwriter. (Age 62)
Mr. Friedman was appointed as a Co-President of our Professional
Liability Group in October 2005, and is also our Chief Underwriting
Officer. Mr. Friedman has previously served as Chief Financial Officer,
Corporate Secretary, and as the Senior Vice President of Corporate
Development. Mr. Friedman joined our predecessor in 1996. Mr.
Friedman is an Associate of the Casualty Actuarial Society. (Age 52)
Mr. Lisenby was appointed as a Senior Vice President in December 2007
and has served as our Corporate Secretary since January 2006 and head
of the corporate Legal Department since 2001. Mr. Lisenby previously
practiced law privately 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 42)
Mr. O’Neil was appointed as our Senior Vice President of Corporate
Communications and Investor Relations in September 2001. Mr. O’Neil
joined our predecessor in 1987 and has been our Senior Vice President of
Corporate Communications since 1997. (Age 57)
25
Edward L. Rand, Jr.
Darryl K. Thomas
Mr. Rand was appointed Chief Financial Officer in April 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. Mr. Rand is a Certified Public
Accountant. (Age 44)
Mr. Thomas has been with ProAssurance since its inception and
currently serves as a Co-President of our Professional Liability Group, a
position he has held since October 2005, and as our Chief Claims
Officer. Previously, Mr. Thomas was Senior Vice President of Claims
for Professionals Group. Prior to joining the predecessor to Professionals
Group 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 53)
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.
26
PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER
MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.
At February 15, 2011, ProAssurance Corporation (PRA) had 3,578 stockholders of record and
30,501,385 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
2010
2009
High
$ 59.07
62.09
60.53
62.31
Low
$ 49.19
56.65
52.25
56.92
High
$ 51.34
51.35
53.62
54.95
Low
$ 40.66
43.17
44.80
49.84
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 12 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, 2010.
Plan Category
Equity compensation
plans approved
by security holders
Equity compensation
plans not approved
by security holders
Number of securities to be
issued 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)
922,387
$ 46.21*
1,621,600
–
–
–
*Exclusive of 233,000 performance shares and 57,000 restricted share units which have no exercise price.
Issuer Purchases of Equity Securities
The following table provides information regarding ProAssurance's shares purchased as part of
publicly announced plans or programs.
Period
October 1-31, 2010
November 1-30, 2010
December 1-31, 2010
Total
Total Number
of Shares
Purchased
146,622
46,914
12,239
205,775
Average
Price Paid
per Share
$ 57.35
$ 58.20
$ 60.11
$ 57.71
(1) Shown net of authorizations used for repurchase of debt.
Total Number of Shares
Purchased as Part of Publicly
Announced Plans or Programs
146,622
46,914
12,239
205,775
Approximate Dollar Value of Shares
that May Yet Be Purchased Under the
Plans or Programs (1)
12,483,764
$
$ 209,753,557
$ 209,017,931
27
ITEM 6. SELECTED FINANCIAL DATA.
Selected Financial Data (1)
Gross premiums written (2)
Net premiums written (2)
Premiums earned (2)
Premiums ceded (2)
Net premiums earned (2)
Net investment income (2)
Equity in earnings (loss) of unconsolidated
subsidiaries (2)
Net realized investment gains (losses) (2)
Other revenues
Total revenues (2)
Net losses and loss adjustment expenses (2)
Income (loss) from continuing operations(3)
Net income(3)
Income (loss) from continuing operations
per share:
Basic
Diluted
Net income per share:
Basic
Diluted
Weighted average shares outstanding:
Basic
Diluted
Balance Sheet Data (as of December 31)
Total investments (2)
Total assets from continuing operations
Total assets
Reserve for losses and loss
adjustment expenses (2)
Long-term debt (2)
Total liabilities from continuing operations
Total capital
Total capital per share of common
stock outstanding
Common stock outstanding at end of year
Year Ended December 31
2010
2009
2008
2007
2006
(In thousands except per share data)
$
533,205
$
553,922
$
471,482
$
549,074
$
578,983
505,407
514,043
429,007
506,397
543,376
548,955
(29,848)
519,107
146,380
1,245
17,342
7,991
692,065
221,115
231,598
540,012
(42,469)
497,543
150,945
1,438
12,792
9,965
672,683
231,068
222,026
503,579
(44,301)
459,278
158,384
(7,997)
(50,913)
8,410
567,162
211,499
177,725
585,310
(51,797)
533,513
171,308
1,630
(5,939)
5,556
706,068
350,997
168,186
627,166
(44,099)
583,067
147,450
2,339
(1,199)
5,941
737,598
443,329
126,984
231,598
$
222,026
$
177,725
$
168,186
$
236,425
7.29
7.20
7.29
7.20
$
$
$
$
6.76
6.70
6.76
6.70
$
$
$
$
5.43
5.22
5.43
5.22
$
$
$
$
5.10
4.78
5.10
4.78
$
$
$
$
3.96
3.72
7.38
6.85
31,788
32,176
32,848
33,150
32,750
34,362
32,960
35,823
32,044
34,925
$
$
$
$
$
$
3,990,431
$
3,838,222
$ 3,575,942
$ 3,639,395
$ 3,492,098
4,875,056
4,875,056
2,414,100
51,104
3,019,193
1,855,863
60.35
30,753
$
$
$
$
4,647,414
4,647,414
4,280,938
4,280,938
2,422,230
2,379,468
50,203
34,930
2,942,819
2,857,353
4,440,808
4,440,808
2,559,707
164,158
3,185,738
4,342,853
4,342,853
2,607,148
179,177
3,224,306
1,704,595
$ 1,423,585
$ 1,255,070
$ 1,118,547
52.59
$
42.69
$
38.69
$
33.61
32,412
33,346
32,443
33,276
(1) Includes acquired entities since date of acquisition, only. APS was acquired on November 30, 2010. PICA was acquired on April 1, 2009. PRA
Wisconsin was acquired on August 1, 2006.
(2) Excludes discontinued operations.
(3) Includes a loss on extinguishment of debt of $2.8 million for the year ended December 31, 2009 and a gain on extinguishment of debt of $4.6
million for the year ended December 31, 2008.
28
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
The following discussion should be read in conjunction with the Consolidated Financial
Statements and Notes to those statements which accompany this report. A glossary of insurance terms and
phrases is available on the investor section of our website. Throughout the discussion, references to
ProAssurance, “PRA,” “Company,” "we," "us" and "our" refer to ProAssurance Corporation and its
consolidated 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.
Critical Accounting Estimates
Our Consolidated Financial Statements are prepared in conformity with U.S. generally accepted
accounting principles (GAAP). Preparation of these financial statements requires us to make estimates
and assumptions that affect the amounts we report on those statements. We evaluate these estimates and
assumptions on an ongoing 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; reported results of
operations may 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. Incurred losses reported in any period reflect our estimate of
losses incurred related to the premiums earned in that period as well as any changes to our estimates of
the reserve established for losses of prior periods.
The estimation of professional liability losses is inherently difficult. Loss costs, even for claims
with similar characteristics, can vary significantly depending upon many factors, including but not limited
to: the nature of the claim and the personal situation of the claimant or the claimant's family, the outcome
of jury trials, the legislative and judicial climate where the insured event occurred, general economic
conditions and, for medical professional liability, the trend of health care costs. Professional 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. Our reserves are established by management after taking into consideration a variety of
factors including premium rates, claims frequency, historical paid and incurred loss development trends,
the effect of inflation, general economic trends, the legal and political environment, and the conclusions
reached by our internal actuaries.
We update and review the data underlying the estimation of our reserve for losses each reporting
period and make adjustments to loss estimation assumptions that we believe best reflect emerging data.
Our internal actuaries perform an in-depth review of our reserve for losses on at least a semi-annual basis
using the loss and exposure data of our insurance subsidiaries. We also engage consulting actuaries to
review our data semi-annually and provide us with their observations regarding our data and the adequacy
of our established reserve, believing that the consulting actuaries provide an independent view of our loss
data as well as a broader perspective on industry loss trends.
29
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 professional liability losses, we
establish the initial loss estimates at a level which is approximately 8% to 10% above our pricing assumptions.
This difference recognizes the volatility of the professional liability loss environment and the risk in determining
pricing parameters. As each accident year matures, we analyze reserves in a variety of ways and use multiple
actuarial methodologies in performing these analyses, including:
Bornhuetter-Ferguson (Paid and Reported) Method
Paid Development Method
Reported Development Method
Average Paid Value Method
Average Reported Value Method
Backward Recursive Method
A brief description of each method follows.
Bornhuetter-Ferguson Method. We use both the Paid and the Reported Bornhuetter-Ferguson methods.
The Paid method assigns partial weight to initial expected losses for each accident year (initial expected losses
being the first established case and IBNR reserves for a specific accident year) and partial weight to paid to-date
losses. The Reported method assigns partial weight to the initial expected losses and partial weight to current
reported losses. The weights assigned to the initial expected losses decrease as the accident year matures.
Paid Development and Reported Development Method. These methods use historical, cumulative losses
(paid losses for the Paid Development Method, reported losses for the Reported Development Method) by
accident year and develop those actual losses to estimated ultimate losses based upon the assumption that each
accident year will develop to estimated ultimate cost in a manner that is analogous to prior years, adjusted as
deemed appropriate for the expected effects of known changes in the claim payment environment (and case
reserving environment for the Reported Development Method), and, to the extent necessary, supplemented by
analyses of the development of broader industry data.
Average Paid Value and Average Reported Value Methods. In these methods, average claim cost data
(paid claim cost for the Average Paid Value Method and reported claim cost for the Reported Value Method) is
developed to an ultimate average cost level by report year based on historical data. Claim counts are similarly
developed to an ultimate count level. The average claim cost (after rounding and adjustment, if necessary, to
accommodate report year data that is not considered to be predictive) is then multiplied by the ultimate claim
counts by report year to derive ultimate loss and ALAE.
Backward Recursive Development Method. This method is an extrapolation on the movements in case
reserve adequacy in order to estimate unpaid loss costs. Historical data showing incremental changes to case
reserves over progressive time periods is used to derive factors that represent the ratio of case reserve values at
successive maturities. Historical claims payment data showing the additional payments in progressive time
periods is used to derive factors that represent the portion of a case reserve paid in the following period. Starting
from the most mature period, after which all the case reserve is paid and the case reserve is exhausted, the next
prior ultimate development factor for the prior case reserve can be calculated as the case factor times the
established ultimate development factor plus the paid factor. For each successive prior maturity, the ultimate
development factor is calculated similarly. The result of multiplying the ultimate development factor times the
case reserve is the total indicated unpaid amount.
Generally, methods such as the Bornhuetter-Ferguson method are used on more recent accident years
where we have less data on which to base our analysis. As time progresses 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 for our reserve review.
The various actuarial methods discussed above are applied in a consistent manner from period to period.
In addition, we perform statistical reviews of claims data such as claim counts, average settlement costs and
severity trends.
30
We segment our reserves by accident year, which is the year in which the claim becomes our liability.
As claims are incurred (reported) and claim payments are made, they are aggregated by accident year for
analysis purposes. We also segment our reserves by reserve type: case reserves and IBNR reserves. Case
reserves are established by our claims department based upon the particular circumstances of each reported
claim and represent our estimate of the future loss costs (often referred to as expected losses) that will be paid on
reported claims. Case reserves are decremented as claim payments are made and are periodically adjusted
upward or downward as estimates regarding the amount of future losses are revised; reported loss is the case
reserve at any point in time plus the claim payments that have been made to date. IBNR reserves represent our
estimate of losses that have been incurred but not reported to us and future developments on losses that have
been reported to us.
In performing these analyses we partition our business by 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 also utilize these selected point estimates of ultimate losses to develop estimates of ultimate losses
recoverable from reinsurers, based on the terms of our reinsurance agreements. An overall estimate of the
amount receivable from reinsurers is determined by combining the individual estimates. Our net reserve
estimate is the sum of the gross reserve point estimate and the estimated reinsurance recovery.
We have modeled implied reserve ranges around our single point net 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.
We have used this modeled statistical distribution to calculate an 80% and 60% confidence interval for
the potential outcome of our net reserve for losses. The high and low end points of the distributions are as
follows:
80% Confidence Level
60% Confidence Level
Low End Point
$1.622 billion
$1.767 billion
Carried Net Reserve High End Point
$2.137 billion
$2.137 billion
$2.718 billion
$2.474 billion
The claims environment in which we and others in our industry operate is inherently uncertain. The
development of a statistical distribution models the uncertainty as well as the limited predictive power of past
loss data. The distributions 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.
31
The following table presents additional information about net favorable loss development:
(In thousands)
2010
2009
2008
Net favorable loss development recognized
Loss development as % of beginning of year loss reserves
$ 233,990
9.7%
$ 207,300
8.7%
$ 185,251
7.2%
Any change in our estimate of losses is 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
We use insurance and reinsurance (collectively, "reinsurance") to provide capacity to write larger limits
of liability, to provide protection against losses in excess of policy limits, 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 for certain losses we pay.
We evaluate each of our ceded reinsurance contracts at inception to confirm that there is sufficient risk
transfer to allow the contract to be accounted for as reinsurance under current accounting guidance. At
December 31, 2010 all ceded contracts are accounted for as risk transferring contracts.
Our receivable from reinsurers on unpaid losses and loss adjustment represents our estimate of the
amount of our reserve for losses that will be recoverable under our reinsurance programs. We base our estimate
of funds recoverable upon our expectation of ultimate losses and the portion of those losses that we estimate to
be allocable to reinsurers based upon the terms of our reinsurance agreements. Our assessment of the
collectability of the recorded amounts receivable from reinsurers considers the payment history of the reinsurer,
publicly available financial and rating agency data, our interpretation of the underlying contracts and policies,
and responses by reinsurers. Appropriate reserves are established for any balances we believe may not be
collected.
Given the uncertainty of the ultimate amounts of our losses, our estimates of losses and related amounts
recoverable may vary significantly from the eventual outcome. Also, we estimate premiums ceded under
reinsurance agreements wherein the premium due to the reinsurer, subject to certain maximums and minimums,
is based in part on losses reimbursed or to be reimbursed under the agreement. Any adjustments are reflected in
then-current operations. Due to the size of our reinsurance balances, an adjustment to these estimates could have
a material effect on our results of operations for the period in which the adjustment is made.
Our risk retention level is dependent upon numerous factors including our risk tolerance and the capital
we have to support it, the price and availability of reinsurance, volume of business, level of experience with a
particular set of claims and our analysis of the potential underwriting results within each state. We purchase
reinsurance from a number of companies to mitigate concentrations of credit risk. We utilize a reinsurance
broker to assist 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 circumstances or events we cannot control or anticipate.
We have not experienced significant collection difficulties due to the financial condition of any
reinsurer; however, periodically, reinsurers may dispute our claim for reimbursement from them. We have
established appropriate reserves for any balances that we believe may not be ultimately collected. Should future
events lead us to believe that any reinsurer will not meet its obligations to us, adjustments to the amounts
recoverable would be reflected in the results of current operations. Such an adjustment has the potential to be
material to the results of operations in the period in which it is recorded; however, we would not expect such an
adjustment to have a material effect on our capital position or our liquidity.
32
Investment Valuations
We record a substantial portion of our investments at fair value as shown in the table below. The
distribution of our investments based on GAAP fair value hierarchies is as follows:
Fair Value
Cost or cash surrender value
Total Investments
Distribution by
GAAP Fair Value Hierarchy
Level 2
90%
Level 3
1%
Level 1
5%
December 31, 2010
Total Investments
96%
4%
100%
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in
an orderly transaction between market participants at the measurement date. All of our fixed maturity and equity
securities investments are carried at fair value. Our short-term securities are carried at amortized cost, which
approximates fair value.
Because of the number of securities we own and the complexity and cost of developing accurate fair
values internally, we utilize independent pricing services to assist us in establishing fair values. The pricing
services provide fair values based on exchange traded prices, if available. If an exchange traded price is not
available, the pricing services, if possible, provide a fair value that is based on multiple broker/dealer quotes or
that has been developed using pricing models. Pricing models vary by asset class and utilize currently available
market data for securities comparable to ours to estimate the fair value for our security. The pricing services
scrutinize market data for consistency with other relevant market information before including the data in the
pricing models. The pricing services disclose the types of pricing models used and the inputs used for each asset
class. Determining fair values using these pricing models requires the use of judgment to identify appropriate
comparable securities and to choose a valuation methodology that is appropriate for the asset class and available
data.
The pricing services provide a single value per instrument quoted. We review the values provided for
reasonableness each quarter by comparing market yields generated by the supplied price versus market yields
observed in the market place. If a supplied value is deemed unreasonable, we discuss the valuation in question
with the pricing service and will make adjustments if deemed necessary. To date, we have not adjusted any
values supplied by the pricing services.
The pricing services do not provide a fair value unless an exchange traded price or multiple observable
inputs are available. As a result, the pricing services may provide a fair value for a security in some periods but
not others, depending upon the level of recent market activity for the security or comparable securities.
As of December 31, 2010, fair values for our equity and a portion of our short-term securities have been
determined using an exchange traded price. There is little judgment involved when fair value is determined
using an exchange traded price. In accordance with GAAP, for disclosure purposes we classify securities valued
using an exchange traded price as Level 1 securities.
With the exception of certain government bonds, most fixed income securities do not trade daily and
thus exchange traded prices are generally not available for these securities. However, market information (often
referred to as observable inputs or market data; including but not limited to, last reported trade, non-binding
broker quotes, bids, benchmark yield curves, issuer spreads, two sided markets, benchmark securities, offers,
and recent data regarding assumed prepayment speeds, cash flow and loan performance data) is available for
most of our fixed income securities. A large portion of our fixed income securities are valued at fair value using
available market information. In accordance with GAAP, for disclosure purposes we classify any securities that
have been valued based on multiple market observable inputs as Level 2 securities.
When a pricing service does not provide a value, management estimates fair value using either a single
non-binding broker quote or pricing models that utilize market based assumptions which have limited
observable inputs. The process involves significant judgment in selecting the appropriate data and modeling
techniques to use in the valuation process. In accordance with GAAP, for disclosure purposes we classify
securities that are valued using limited observable inputs as Level 3 securities.
33
We hold interests in private investment funds which hold debt and equity securities. We value these
investments, which at December 31, 2010 total $25.1 million or approximately 1% of total investments, based
on quarterly net asset values provided to us by fund managers, which approximate fair value. In accordance with
GAAP, for disclosure purposes we classify interests valued in this manner as Level 3 securities.
Our investments that are not valued at fair value include:
Interests in private investment funds having a carrying value of $31.2 million at December
31, 2010; valued at cost.
Business owned life insurance policies having a carrying value of $50.5 million at
December 31, 2010, valued at cash surrender value.
Interests in tax credit partnerships having a carrying value of approximately $60.2 million at
December 31, 2010; valued under the equity method.
Other business interests having a carrying value of $3.4 million at December 31, 2010;
valued under the equity method based on the latest financial statements of the entity.
Federal Home Loan Bank capital stock having a carrying value of $5.2 million at December
31, 2010; valued at cost.
Investment Impairments
We evaluate our investments on at least a quarterly basis for declines in fair value that represent other-
than-temporary impairments (OTTI). In all instances we consider an impairment to be an other-than-temporary
impairment if we intend to sell the security or if we believe we will be required to sell the security before we
fully recover the amortized cost basis of the security. Otherwise, we consider various factors in our evaluation,
depending upon the type of security, as discussed below.
For equity securities, we consider the following:
the length of time for which the fair value of the investment has been less than its recorded
basis;
the financial condition and near-term prospects of the issuer underlying the investment,
taking into consideration the economic prospects of the issuer's industry and geographical
region, to the extent that information is publicly available;
the historical and implied volatility of the fair value of the security; and
our ability and intent to hold the investment for a period of time sufficient to allow for any
anticipated recovery in fair value.
For debt securities, we consider whether we expect to fully recover the amortized cost basis of the
security, based upon consideration of some or all of the following:
third party research and credit rating reports;
the current credit standing of the issuer, including credit rating downgrades
extent to which the decline in fair value is attributable to credit risk specifically associated
with an investment or its issuer;
our internal assessments and those of our external portfolio managers regarding specific
circumstances surrounding an investment, which can cause us to believe the investment is
more or less likely to recover its value than other investments with a similar structure;
for asset-backed securities, the origination date of the underlying loans, the remaining
average life, the probability that credit performance of the underlying loans will deteriorate
in the future, and our assessment of the quality of the collateral underlying the loan;
failure of the issuer of the security to make scheduled interest or principal payments;
any changes to the rating of the security by a rating agency;
recoveries or additional declines in fair value subsequent to the balance sheet date; and
our ability and intent to hold the investment for a period of time sufficient to allow for any
anticipated recovery in fair value.
34
In assessing whether we expect to recover the cost basis of debt securities, particularly asset-backed
securities, we must make a number of assumptions regarding matters that will affect the cash flows that we
expect to receive from the security in future periods. These judgments are subjective in nature and may
subsequently be proved to be inaccurate.
We evaluate our investments in private investment funds for OTTI by considering whether there has
been a decline in fair value below the recorded value. We receive reports from the funds at least quarterly which
provide us a net asset value (NAV) for our interest in the fund. The NAV is based on the fair values of securities
held by the fund as determined by the fund manager. Determining whether there has been a decline in fair value
involves assumptions and estimates. We consider the most recent NAV provided, the performance of the fund
relative to the market, the stated objectives of the fund, and cash flows expected from the fund and audit results
in considering whether an OTTI exists.
Our investments in tax credit partnerships are evaluated for OTTI by comparing cash flow projections
of future operating results of the underlying projects generating the tax credits to our recorded basis, and
considering our ability to utilize the tax credits from the investments.
We also evaluate our holdings of Federal Home Loan Bank (FHLB) securities for impairment. We
consider the current capital status of the FHLB, whether the FHLB is in compliance with regulatory minimum
capital requirements, and the reported operating results of the current period.
Deferred Policy Acquisition Costs
Policy acquisition costs (primarily commissions, premium taxes and underwriting salaries) which are
directly related to the acquisition of new and renewal premiums are capitalized as deferred policy acquisition
costs and charged to expense as the related premium revenue is recognized. We evaluate the recoverability of
our deferred policy acquisition costs each reporting period, and any amounts estimated to be unrecoverable are
charged to expense in the current period.
Deferred Taxes
Deferred federal income taxes arise from the recognition of temporary differences between the basis of
assets and liabilities determined for financial reporting purposes and the basis determined for income tax
purposes. Our temporary differences principally relate to loss reserves, unearned premiums, deferred policy
acquisition costs, unrealized investment gains (losses) and investment impairments. Deferred tax assets and
liabilities are measured using the enacted tax rates expected to be in effect when such benefits are realized. We
review our deferred tax assets quarterly for impairment. If we determine that it is more likely than not that some
or all of a deferred tax asset will not be realized, a valuation allowance is recorded to reduce the carrying value
of the asset. In assessing the need for a valuation allowance, management is required to make certain judgments
and assumptions about our future operations based on historical experience and information as of the
measurement period regarding reversal of existing temporary differences, carryback capacity, future taxable
income (including its capital and operating characteristics) and tax planning strategies.
Goodwill
We make at least an annual assessment as to whether the value of our goodwill asset is impaired.
Management evaluates the carrying value of goodwill annually during the fourth quarter and before the annual
evaluation if events occur or circumstances change that would more likely than not reduce the fair value below
the carrying value. We evaluate goodwill as one reporting unit because we operate in a single operating segment
and our segment components are economically similar. We estimate the fair value of our reporting unit on the
evaluation date based on our market capitalization and an expected premium that would be paid to acquire
control of our Company (a control premium). We then perform a sensitivity analysis using a range of historical
stock prices and control premiums. We concluded in 2010, 2009, and 2008 that the fair value of our reporting
unit exceeded the carrying value and no adjustment to impair goodwill was necessary.
35
ProAssurance Overview
We are an insurance holding company and our operating results are primarily derived from the
operations of our insurance subsidiaries, which principally write medical and other professional liability
insurance.
Corporate Strategy
Our mission is to be the preferred source of professional liability protection by providing unparalleled
claims defense, highly responsive customer service and innovative risk management while maintaining our
commitment to long-term financial strength. According to A.M. Best’s analysis of 2009 data, we are the largest
independently publicly traded medical professional liability specialist insurance writer in the nation. Our
customer focus combined with our financial strength, strong reputation and proven ability to manage claims, has
enabled us to expand our operations while maintaining profitability. We have successfully acquired and
integrated companies and books of business in the past and expect to be able to continue to grow through
acquisitions, although we cannot predict the pace of those transactions with any certainty. We emphasize
disciplined underwriting and prudent pricing in order to achieve profitability as opposed to emphasizing
premium growth and achieving market share gain at any cost. In addition to prudent risk selection and pricing,
we seek to control our underwriting results through effective claims management, and have fostered a strong
culture of defending non-meritorious claims. We differentiate ProAssurance from many other national writers
by tailoring our claims handling to the legal climate of each state.
Through our market-based underwriting and claims office structure, we develop a deep understanding of
local market conditions, which enables us to respond to changes in the liability climate and adapt our
underwriting and claims strategies as needed. Our market-based focus allows us to maintain active relationships
with our customers, understand the importance of the professional identity and reputation of our insureds and
thus be more responsive to their needs. We use advisory boards and operational committees to help us better
understand the challenges facing our insureds and ways in which we can assist them. We employ medical and
legal professionals throughout our organization, especially on our senior management team, in order to add to
our understanding of the medical/legal environment. We emphasize our pledge that each insured professional
will be treated fairly in all of our conduct with them and that all of our business actions will be informed by the
core values that guide our organization: integrity, respect, doctor involvement in healthcare insurance activities,
collaboration, communication and enthusiasm. Our strategy allows us to compete on a basis other than price
alone.
We have sustained our financial stability during difficult market conditions through responsible pricing
and loss reserving practices and through conservative investment 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 financial strength of our principal insurance subsidiaries and we
manage our business to protect our financial security.
36
We consider a number of ratios in measuring our performance, including the following:
The net loss ratio is calculated as net losses incurred divided by net premiums earned and is an
indicator of underwriting profitability.
The underwriting expense ratio is calculated as underwriting, policy acquisition and operating
expenses incurred divided by net premiums earned and is an indicator of underwriting profitability.
The combined ratio is the sum of the underwriting expense ratio and the net loss ratio and measures
underwriting profitability.
The investment income ratio is calculated as net investment income divided by net premiums earned
and measures the contribution investment earnings provides to our overall profitability.
The operating ratio is the combined ratio, less the investment income ratio. This ratio incorporates
the effect of investment income and underwriting profitability.
Return on equity is calculated as net income for the period divided by the average of beginning and
ending shareholders’ equity. This ratio measures our overall after-tax profitability from
underwriting and investment activity and shows how efficiently invested capital is being used.
We 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%.
Our emphasis on rate adequacy, selective underwriting, effective claims management and prudent
investments is a key factor in our achievement of our ROE target. We closely monitor premium revenues, losses
and loss adjustment costs, and underwriting and policy acquisition expenses. Our overall investment strategy is
to focus on maximizing current income from our investment portfolio while maintaining safety, liquidity,
duration and portfolio diversification. While we engage in activities that generate other income, such activities,
principally fee and agency services, do not constitute a significant use of our resources or a significant source of
revenues or profits.
37
Growth Opportunities and Outlook
We expect our long-term growth to come through controlled expansion of our existing operations. We
also look to expand through the acquisition of other specialty insurance companies or books of business;
however, such expansion is often opportunistic and cannot be predicted.
We continue to face price-based competition in virtually all of our markets. Some competitors,
particularly when targeting new markets, offer coverage at rates we believe to be inadequate for the risk being
accepted. A continuing competitive trend is physicians and hospitals seeking to lower their costs using
alternative risk transfer approaches such as self insurance and risk sharing pools. In recent years we have also
seen a trend toward hospitals purchasing physician practices. In response to these trends, we offer products
designed to provide greater risk sharing options to hospitals and large physician groups.
As a result of our branding campaign, “Treated Fairly”, recent acquisitions, and improvements in loss
cost trends that have allowed us to reduce rates in certain markets, we were able to grow our physician count in
2010 by 10%. We believe our emphasis on fair treatment of our insureds and other important stakeholders has
enhanced our market position and differentiated us from other insurers. We will continue to use “Treated Fairly”
in all of our activities, and we believe that as we reach more customers with this message we will continue to
improve retention and add new insureds.
We have been a consistent acquirer of other physician insurers for a number of years, including APS. In
addition, in 2009 we expanded our insured base in new directions by acquiring a leading insurer of podiatric
physicians that operates on a national basis, an insurer focused on the legal professional liability market, and an
agency largely focused on the professional liability needs of allied health care providers. We continue to see
new opportunities from each of the acquisitions and believe each will provide organic growth through expansion
in their existing markets and relationships.
Accounting Changes
Investment Disclosures; Other-than-temporary Impairments
Effective for interim and annual reporting periods ending on or after June 15, 2009, the Financial
Accounting Standards Board revised GAAP to require expanded disclosures related to investments in debt and
equity securities. Guidance regarding other-than-temporary impairments was also revised. Previous investment
guidance required that an impairment of a debt security be considered as other-than-temporary unless
management could assert both the intent and the ability to hold the impaired security until recovery of value.
The revised impairment guidance specifies that an impairment be considered as other-than-temporary unless an
entity can assert that it has no intent to sell the security and that it is not more likely than not that the entity will
be required to sell the security before recovery of its anticipated amortized cost basis.
The guidance also establishes the concept of credit loss. Credit loss is defined as the difference between
the present value of the cash flows expected to be collected from a debt security and the amortized cost basis of
the security. The new guidance states that “…in instances in which a determination is made that a credit
loss exists but the entity does not intend to sell the debt security and it is not more likely than not that the entity
will be required to sell the debt security before the anticipated recovery of its remaining amortized cost basis” an
impairment is to be separated into (a) the amount of the total impairment related to the credit loss and (b) the
amount of total impairment related to all other factors. The credit loss component of the impairment is to be
recognized in income of the current period. The non-credit component is to be recognized as a part of other
comprehensive income (OCI). Transition provisions require a cumulative effect adjustment to reclassify the
non-credit component of a previously recognized other-than-temporary impairment from retained earnings to
accumulated other comprehensive income “…if an entity does not intend to sell and it is not more likely than
not that the entity will be required to sell the security before recovery of its amortized cost basis.” We adopted
the revised guidance on the date it became effective, which for PRA was April 1, 2009. On the date of adoption
our debt securities included non-credit impairment losses previously recognized in earnings of approximately
$5.4 million. In accordance with the transition provisions of the revised guidance, we reclassified these non-
credit losses, net of tax, from retained earnings to accumulated other comprehensive income as of April 1, 2009,
38
the date of adoption (a $3.5 million increase to retained earnings; a $3.5 million decrease to accumulated other
comprehensive 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. At December 31, 2010, we held cash and
investments of approximately $152.8 million outside of our insurance subsidiaries that are available for use
without regulatory approval. Our insurance subsidiaries, in aggregate, are permitted to pay dividends of
approximately $248 million during 2011 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.
In 2010 our insurance subsidiaries paid dividends of $231.0 million, $17.2 million of which was an approved
extraordinary dividend.
Acquisitions
On November 30, 2010, we acquired 100% of the outstanding shares of American Physicians Service
Group, Inc. (APS), whose primary operating entity is American Physicians Insurance Company (API), in a
transaction valued at $237 million including cash paid of $233 million and liabilities assumed of $4 million.
APS provides professional liability insurance primarily to physicians in Texas and reported gross written
premium of $61 million for the year ended December 31, 2010, $5 million of which is included in ProAssurance
consolidated premium for 2010.
On April 1, 2009 we acquired Podiatry Insurance Company of America and subsidiaries (PICA) through
a cash sponsored demutualization as a means of expanding our professional liability insurance operations. PICA
provides professional liability insurance primarily to podiatric physicians, chiropractors and other healthcare
providers throughout the United States. We purchased all of PICA’s outstanding stock created in the
demutualization for $135 million in cash, of which $15 million was a surplus contribution to be used to provide
renewal premium credits to eligible policyholders over a three year period beginning in 2010. PACO Assurance
Company, Inc. (PACO), formerly wholly owned by PICA, is now wholly owned by a ProAssurance holding
company. For simplicity of presentation, our discussions that follow combine PACO and PICA results for both
2010 and 2009. The combined results are referred to as PICA.
In the first quarter of 2009 we acquired 100% of the outstanding shares of Mid-Continent General
Agency, Inc., now ProAssurance Mid-Continent Underwriters, Inc., (Mid-Continent), and Georgia Lawyers
Insurance Company (Georgia Lawyers), since merged with our subsidiary ProAssurance Casualty Company, as
a means of expanding our professional liability business. These acquisitions were not material to ProAssurance
individually or in the aggregate.
See Note 2 of the Notes to the Consolidated Financial Statements for detailed information regarding the
2010 and 2009 acquisitions, including a summarized listing of the assets acquired and liabilities assumed.
Cash Flows
The principal components of our operating cash flows are the excess of net investment income and
premiums collected over losses paid and operating costs, including income taxes. Timing delays exist between
the collection of premiums and the payment of losses associated with the premiums. 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. Likewise, timing delays exist between the payment of claims and the
collection of any associated reinsurance recoveries.
39
Our operating activities provided positive cash flows of approximately $139.2 million and $75.4 million
for the years ended December 31, 2010 and 2009, respectively. Operating cash flows for 2010 and 2009
compare as follows:
Cash provided by operating activities year ended December 31, 2009
(In millions)
Increase (decrease) in operating cash flows during 2010:
Decrease in premium receipts (1)
Decrease in payments to reinsurers (2)
Decrease in losses paid (3)
Decrease in reinsurance recoveries (4)
Increase due to prior year CHW payment (5)
Increase in Federal and state income tax payments (6)
Other amounts not individually significant, net
Cash Flow
Increase
(Decrease)
75
$
(14)
22
51
(10)
21
(2)
(4)
139
Cash provided by operating activities year ended December 31, 2010
$
(1) The decrease in premium receipts reflects the decline in gross written premium, exclusive of the
premium decline that is attributable to policies written on a two-year term. The two-year term affects
premiums written but has no effect on the timing of premium receipts. Additionally, approximately $3
million of the decrease in premium receipts is due to premium credits granted to PICA policyholders as
part of the acquisition.
(2) Reinsurance contracts are generally for premiums written in a specific annual period, but can remain in
effect until all claims under the contract have been resolved. Some contracts require annual settlements
while others require settlement only after a number of years have elapsed, thus the amounts paid can
vary widely from period to period.
(3) The decrease in losses reflects lower paid losses at our subsidiaries other than PICA of approximately
$69 million offset by an increase in PICA losses paid of $18 million. The PICA increase is principally
due to an additional three months of PICA activity in 2010. The timing of our loss payments varies
from period to period because the process for resolving claims is complex and occurs at an uneven
pace depending upon the circumstances of the individual claim.
(4) The timing of reinsurance recoveries varies from period to period and can depend upon the terms of the
applicable reinsurance agreement, the nature of the underlying claim and the timing and amount of
underlying loss payments.
(5) In 2009 we paid a judgment in favor of Columbia Hospital for Women Medical Center, Inc. (CHW)
(the CHW Judgment) that was entered against our subsidiary, ProAssurance National Capital Insurance
Company (PRA National), prior to our acquisition of PRA National. We established a liability related
to the judgment and accrued post trial interest at the time PRA National was acquired in 2005.
(6) The increase in tax payments primarily reflects:
A final estimated payment for the 2009 tax year (paid in 2010) that was lower than the final
estimated tax payment for the 2008 tax year (paid in 2009). In 2008 a large portion of taxable
income for the year was earned in the fourth quarter; in 2009 taxable income was earned more
ratably throughout the year.
Estimated payments for the 2010 tax year that are higher than those paid for the 2009 tax year.
Our 2009 tax liability was significantly reduced by tax deductions, primarily the CHW Judgment
and losses on the sale of impaired securities, that did not reduce 2009 GAAP income. Our 2010
payments also include an estimated federal tax payment of $3.4 million that relates to the APS pre-
acquisition period.
40
Investment Exposures
The following table provides summarized information regarding our investments as of December 31, 2010:
(In thousands)
Carrying
Value
Unrealized Gains (Losses)
Included in Carrying Value
Average
Rating
% Total
Investments
Fixed Maturities
Government
U.S. Treasury
U.S. Agency
Total government
State and Municipal Bonds
Corporate Bonds
Financial institutions
FDIC insured
Communications
Utilities
Energy
Industrial
Transportation
Other
Total corporate bonds
Asset-backed Securities
Agency mortgage-backed securities
Non-agency mortgage-backed securities
Subprime (1)
Alt-A (2)
Commercial mortgage-backed securities
Credit card
Automobile
Other
Total asset-backed securities
$
$ 225,908
68,878
294,786
1,243,924
348,785
92,727
57,722
78,010
34,449
686,899
23,266
11,406
1,333,264
524,781
23,760
12,501
8,796
99,386
27,820
19,336
15,400
731,780
7,519
4,113
11,632
44,047
10,542
990
2,635
3,332
2,635
30,897
1,542
184
52,757
23,311
673
1,407
18
3,663
424
250
699
30,445
$
(1,242)
(39)
(1,281)
(4,450)
(2,900)
(20)
(55)
(615)
(96)
(3,604)
(17)
(28)
(7,335)
(1,767)
(699)
(1,781)
(867)
(35)
(66)
(14)
(51)
(5,280)
AAA
AAA
AAA
AA
A-
AAA
A-
A
BBB+
A-
BBB+
AA
A
AAA
BBB-
BBB-
BB
AAA
AAA
AAA
AA+
AA+
Total fixed maturities
3,603,754
138,881
(18,346)
AA-
Equities
Equity-common only
Financial
Energy
Consumer cyclical
Consumer non-cyclical
Technology
Industrial
Communications
All Other
Total equities
Short-Term
Business owned life insurance (BOLI)
Investment in Unconsolidated Subsidiaries
Investment in tax credit partnerships
Other business interests
Private fund–primarily invested in long/short equities
Private fund–primarily invested in non-public equities
Total investment in unconsolidated subsidiaries
Other Investments
Federal Home Loan Bank capital stock
Private fund–primarily invested in distressed debt
Private fund–primarily invested in long/short equities
Other
Private Equity Fund
4,709
7,406
2,120
5,190
4,168
3,140
2,623
11,567
40,923
168,438
50,484
60,235
3,407
18,801
6,311
88,754
5,153
19,700
11,010
1,704
511
38,078
130
127
176
222
169
364
–
24
1,212
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
(2)
–
(3)
–
–
(8)
(13)
–
–
–
–
–
–
–
–
–
–
–
–
–
AA-
6%
2%
8%
31%
9%
2%
1%
2%
1%
17%
1%
<1%
33%
13%
1%
<1%
<1%
2%
1%
<1%
<1%
18%
90%
<1%
<1%
<1%
<1%
<1%
<1%
<1%
<1%
1%
4%
1%
2%
<1%
<1%
<1%
3%
<1%
<1%
<1%
<1%
<1%
1%
Total Investments
$ 3,990,431
$ 140,093
$
(18,359)
100%
(1) $0.2 million are AAA, $2.9 million are AA, $2.0 million are A, $7.4 million are BBB or below
(2) $2.0 million are AAA, $0.1 million are AA, $0.6 million are A, $6.1 million are CCC or below
41
A detailed listing of our investment holdings as of December 31, 2010 is presented in an Investor
Supplement we make available in the Investor Relations section of our website, www.proassurance.com
or directly at www.proassurance.com/investorrelations/supplemental.aspx.
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, including interest
payments, dividends and principal payments, as well as the expected cash flows to be generated by our
operations. In addition to the interest and dividends we will receive we anticipate that between $50
million and $100 million of our investments will mature (or be paid down) each quarter of the next year
and become available, if needed, to meet our cash flow requirements. The primary outflow of cash at our
insurance subsidiaries is related to paid losses and operating costs, including income taxes. 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 may have an unanticipated
shortfall in cash we may either liquidate securities or borrow funds under existing borrowing
arrangements through the Federal Home Loan Banking system. However, given the relatively short
duration of our investments, we do not foresee any such shortfall.
Our investment portfolio continues to be primarily composed of high quality fixed income
securities with approximately 97% of our fixed maturities being investment grade securities as
determined by national rating agencies. The weighted average effective duration of our fixed maturity
securities at December 31, 2010 is 4.1 years; the weighted average effective duration of our fixed
maturity securities combined with our short-term securities is 4.0 years.
We decreased our state and municipal bond holdings by approximately $200 million in 2010 to
reduce our exposure to municipal bonds, particularly for those rated below AA-. Excluding the impact of
guarantees by insurers, our state and municipal bond holdings have a weighted average credit rating of
AA at December 31, 2010.
We reduced our BOLI investment in 2010 by redeeming approximately $16 million of its cash
surrender value. This redemption triggered an additional tax liability of approximately $1.3 million,
which we recognized during 2010.
We invested $60 million in tax credit limited partnerships during 2010 ($47 million of which is
committed but unfunded at December 31, 2010). These partnerships are designed to provide returns via
the transfer of tax operating losses and tax credits to their partners. All of the interests are accounted for
using the equity method. We plan to increase our investment in tax credit partnerships in 2011 by up to an
additional $40 million subject to identifying opportunities that meet our investment criteria.
Losses
The following table, known as the Analysis of Reserve Development, 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. As noted in the table, ProAssurance has completed various
acquisitions over the ten year period, which have affected original and re-estimated gross and net reserve
balances as well as loss payments.
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.
42
The following may be helpful in understanding the Analysis of Reserve Development:
– 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 reported 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 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.
43
Analysis of Reserve Development
(In thousands)
December 31,
2002
2003
2004
2000
(1)
2001
(2)
2005
(3)
2006
(4)
2007
2008
2009
(5)
2010
(6)
$
493,457
$
1,009,354
$
1,098,941
$
1,298,458
$
1,544,981
$
1,896,743
$
2,236,385
$
2,232,596
$
2,111,112
$
2,159,571
$
2,136,664
143,892
251,855
321,957
367,810
402,035
422,005
440,676
457,761
466,109
470,929
493,457
507,275
529,698
527,085
534,382
536,875
535,120
531,995
524,837
520,981
521,177
245,743
436,729
563,557
656,670
726,661
794,786
836,485
863,018
883,534
1,009,354
1,026,354
1,023,582
1,032,571
1,035,832
1,045,063
1,052,050
1,040,376
1,015,217
991,710
224,318
393,378
528,774
635,724
749,300
824,761
863,781
894,599
1,098,941
1,098,891
1,099,292
1,109,692
1,108,539
1,133,343
1,121,440
1,079,640
1,048,853
200,314
378,036
526,867
680,470
794,870
852,985
894,355
1,298,458
1,289,744
1,282,920
1,259,802
1,250,110
1,230,105
1,156,614
1,111,795
199,617
384,050
578,455
728,582
805,270
861,512
242,608
503,271
697,349
825,139
901,644
331,295
600,500
787,347
897,814
312,348
550,042
694,113
278,655
468,277
291,654
1,544,981
1,522,000
1,479,773
1,418,802
1,340,061
1,234,223
1,158,590
1,896,743
1,860,451
1,764,076
1,615,125
1,450,275
1,330,039
2,236,385
2,131,400
1,955,903
1,747,459
1,548,605
2,232,596
2,047,344
1,829,140
1,596,508
2,111,112
1,903,812
1,665,832
2,159,571
1,925,581
Reserve for losses, undiscounted and
net of reinsurance recoverables
Cumulative net paid, as of:
One Year Later
Two Years Later
Three Years Later
Four Years Later
Five Years Later
Six Years Later
Seven Years Later
Eight Years Later
Nine Years Later
Ten Years Later
Re-estimated net liability as of:
End of Year
One Year Later
Two Years Later
Three Years Later
Four Years Later
Five Years Later
Six Years Later
Seven Years Later
Eight Years Later
Nine Years Later
Ten Years Later
Net cumulative redundancy (deficiency)
$
(27,720)
$
17,644
$
50,088
$
186,663
$
386,391
$
566,704
$
687,780
$
636,088
$
445,280
$
233,990
Original gross liability - end of year
Less: reinsurance recoverables
Original net liability - end of year
Gross re-estimated liability - latest
Re-estimated reinsurance recoverables
Net re-estimated liability - latest
$
659,659
(166,202)
493,457
$
$
$
619,617
(98,440)
521,177
$
$
1,322,871
(313,517)
1,009,354
$
$
1,494,875
(395,934)
1,098,941
$
1,233,343
(241,633)
991,710
$
$
$
1,359,980
(311,127)
1,048,853
$
$
1,634,749
(336,291)
1,298,458
$
$
1,818,635
(273,654)
1,544,981
$
$
2,224,436
(327,693)
1,896,743
$
$
2,607,148
(370,763)
2,236,385
$
$
2,559,707
(327,111)
2,232,596
$
$
2,379,468
(268,356)
2,111,112
$
$
1,431,545
(319,750)
1,111,795
$
$
1,473,893
(315,303)
1,158,590
$
$
1,708,777
(378,738)
1,330,039
$
$
1,988,442
(439,837)
1,548,605
$
$
1,939,587
(343,079)
1,596,508
$
$
1,930,852
(265,020)
1,665,832
$
$
2,422,230
(262,659)
2,159,571
$
$
2,187,175
(261,594)
1,925,581
Gross cumulative redundancy (deficiency)
$
40,042
$
89,528
$
134,895
$
203,204
$
344,742
$
515,659
$
618,706
$
620,120
$
448,616
$
235,055
(1) Only reserves of PRA's predecessor, M edical Assurance, Inc.
(2) 2001 and thereafter, reserves reflect those of ProAssurance, formed in 2001 in order to merge M edical Assurance, Inc. and Professionals Group
(3) 2005 and thereafter, reserves include PRA National
(4) 2006 and thereafter, reserves include PRA Wisconsin
(5) 2009 and thereafter, reserves include PICA
(6) 2010 reserves include APS
44
In each year reflected in the table, we have estimated our reserve for losses utilizing the
management and actuarial processes discussed in critical accounting estimates. Factors that have
contributed to the variation in loss development are primarily related to the extended period of time
required to resolve professional liability claims and include the following:
– The medical professional liability legal environment deteriorated in the late 1990’s.
Beginning in 2000, we recognized adverse trends in claim severity causing increased
estimates of certain loss liabilities. As time has progressed, the reserves initially
established for those years have continued to develop unfavorably. We addressed the
adverse severity trends through increased rates, stricter underwriting and modifications to
claims handling procedures. The expectation of increased claim severity was also
considered in establishing our initial reserves for subsequent years.
– These adverse severity trends then began to moderate. As a result, we recognized
favorable development related to our previously established reserves primarily for
accident years 2002 through 2008 because we have reduced our estimates of claims
severity related to those years. Based on recent internal and industry claims data, we
believe claims severity (i.e., the average size of a claim) is increasing at a rate slower
than we estimated when our reserves for those years were established.
A general decline in claim frequency has also been a contributor to favorable loss
development. A significant portion of our policies through 2003 were issued on an
occurrence basis, and a smaller portion of our ongoing business results in occurrence-like
exposure due to the issuance of extended reporting endorsements. As claim frequency
declined, the number of reported claims related to these coverages were less than
originally expected.
Activity in our net reserve for losses during 2010, 2009 and 2008 is summarized below:
(In thousands)
Balance, beginning of year
Less receivable from reinsurers
Net balance, beginning of year
Year Ended December 31
2010
$ 2,422,230
262,659
2,159,571
2009
$ 2,379,468
268,356
2,111,112
2008
$ 2,559,707
327,111
2,232,596
Reserves acquired from acquisitions
82,225
163,946
–
Incurred related to:
Current year
Prior years
Total incurred
Paid related to:
Current year
Prior years
Total paid
455,105
(233,990)
221,115
(34,593)
(291,654)
(326,247)
438,368
(207,300)
231,068
(67,900)
(278,655)
(346,555)
396,750
(185,251)
211,499
(20,635)
(312,348)
(332,983)
Net balance, end of year
Plus receivable from reinsurers
Balance, end of year
2,136,664
277,436
$ 2,414,100
2,159,571
262,659
$ 2,422,230
2,111,112
268,356
$ 2,379,468
At December 31, 2010 our gross reserve for losses included case reserves of approximately $1.1
billion and IBNR reserves of approximately $1.3 billion. Our consolidated reserve for losses on a GAAP
basis exceeds the combined reserves of our insurance subsidiaries on a statutory basis by approximately
$78.9 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.
45
Reinsurance
We use reinsurance to provide capacity to write larger limits of liability, to provide protection
against losses in excess of policy limits, 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.
We generally reinsure professional liability risks under annual 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, the
professional liability per claim retention level has varied between 90% and 100% of the first $1 million
and between 0% and 5% of claims exceeding those levels depending on the coverage year and the state in
which business was written. We also insure some large professional liability risks that are above the limits
of our 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.
Our primary reinsurance agreement is negotiated annually at October 1. There was no significant
change in the cost or structure of the agreements renewed on October 1, 2010.
Our risk retention level is dependent upon numerous factors including our risk tolerance and the
capital we have to support it, the price and availability of reinsurance, volume of business, level of
experience with a particular set of claims and our analysis of the potential underwriting results within
each state. We purchase reinsurance from a number of companies to mitigate concentrations of credit risk.
We utilize a reinsurance broker to assist 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 significant collection difficulties due to the financial condition of any
reinsurer; however, periodically, reinsurers may dispute our claim for reimbursement from them. We have
established appropriate reserves for any balances that we believe may not be ultimately collected. Should
future events lead us to believe that any reinsurer will not meet its obligations to us, adjustments to the
amounts recoverable would be reflected in the results of current operations. Such an adjustment has the
potential to be significant to the results of operations in the period in which it is recorded; however, we
would not expect such an adjustment to have a material effect on our capital position or our liquidity.
The following table identifies our reinsurers from which our recoverables for both paid and
unpaid claims (net of amounts due to the reinsurer) and our prepaid balances are $10 million or more as
of December 31, 2010:
(In thousands)
Reinsurer
Hannover Rueckversicherung AG
Transatlantic Reinsurance Company
Aspen Insurance UK, Ltd.
General Reinsurance Corporation
A.M. Best
Company Rating
A
A
A
A++
Net Amounts Due
From Reinsurer
$ 32,717
$ 20,476
$ 20,591
$ 14,124
46
Debt
Our long-term debt as of December 31, 2010 is comprised of the following:
(In thousands, except %)
Contractual Rate
Outstanding Principal
2034 Trust Preferred Securities/Debentures
2034 Surplus Notes
2019 Notes Payable (2)
2012 Note Payable
4.1% (1)
4.1% (1)
6.6% (3)
3.3% (4)
$
22,992
12,000
17,436
517
(1) Adjusted quarterly based on LIBOR.
(2) The 2019 Note Payable is valued at fair value. See Note 10.
(3) A related interest rate swap fixes rate at 6.6%. Swap is settled monthly. See Note 10.
(4) Adjusted quarterly based on the U.S. prime rate.
Carrying Value
December 31, 2010
$
$
22,992
12,000
15,616
496
51,104
All of our long-term debt is currently repayable or redeemable, with proper notice, at a date no
later than the next quarterly or semi-annual interest payment date. Insurance department approval is
required for redemption of surplus notes. ProAssurance is currently in compliance with all covenants.
Additional information regarding our debt is provided in Note 10 to the Consolidated Financial
Statements.
Off Balance Sheet Arrangements/Guarantees
ProAssurance has no significant off-balance sheet arrangements or guarantees.
Contractual Obligations
A schedule of our non-cancelable contractual obligations at December 31, 2010 follows:
Payments due by period
Less than
(In thousands)
Loss and loss adjustment expenses
Interest on long-term debt*
Long-term debt obligations
Operating lease obligations
Tax credit partnership commitments
Total
Total
$ 2,414,100
42,037
52,925
15,365
46,800
$ 2,571,227
$
$
1 year
573,571
2,628
325
2,952
27,139
606,615
1-3 years
767,395
5,155
1,212
3,811
18,556
796,129
$
$
3-5 years
$ 508,614
5,051
822
3,088
613
518,188
$
*Includes projected payments due on interest rate swap associated with our long-term debt.
More than
5 years
$ 564,520
29,203
50,566
5,514
492
$ 650,295
We believe that our operating cash flow and funds maturing from our investment portfolio are
adequate to meet our contractual obligations.
47
For the purposes of this table, all long-term debt is assumed to be settled at its contractual
maturity and interest on variable rate long-term debt is calculated using interest rates in effect at
December 31, 2010. 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 and office
equipment.
Each of our debt instruments allows for repayment before maturity, at our option, on or after
certain dates. For more information on our debt see Note 10 to the Consolidated Financial Statements.
Treasury Stock
We repurchased approximately 1.9 million common shares having a total cost of $106.3 million
during the year ended December 31, 2010. Our Board of Directors authorized an additional $200.0
million in November 2010 for the repurchase of common shares or the retirement of outstanding debt. At
December 31, 2010 approximately $209.0 million in amounts authorized by the Board remains available
for use.
Litigation
We are involved in various legal actions related to our insurance activities which we consider in
our evaluation of our reserve for losses. We also have other direct actions against the company which we
evaluate and account for as a part of our other liabilities.
In accordance with GAAP for insurance entities, claim-related actions are considered as a part of
our loss reserving process. We evaluate the likely outcomes from these actions giving consideration to the
facts and laws applicable to each case, 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 considered in the overall evaluation of our reserve for losses.
There are risks, as outlined in our Risk Factors in Part 1, that any of these actions could cost us
more than our estimates. In particular, we or our insureds may receive adverse verdicts; post-trial motions
may result in unfavorable rulings; any appeals that may be undertaken may be unsuccessful; we may be
unsuccessful in our legal efforts to limit the scope of coverage available to insureds; and we may become
a party to bad faith litigation over the resolution of a claim.
For non-claim related actions, we evaluate each case separately and establish what we believe is
an appropriate reserve based on GAAP guidance related to contingent liabilities.
To the extent that the cost of resolving these actions exceeds our estimates, the legal actions could
have a material effect on our results of operations in the period in which any such action is resolved.
48
Overview of Results–Years Ended December 31, 2010 and 2009
Net income is $231.6 million for the year ended December 31, 2010, as compared to $222.0 million for
the year ended December 31, 2009. Net income per diluted share is $7.20 and $6.70 for the years ended
December 31, 2010 and 2009, respectively.
Results from the years ended December 31, 2010 and 2009 compare as follows:
Premiums
Net premiums earned increased during 2010 by approximately $21.6 million or 4.3%. Three additional
months of PICA earned premium and one month of APS earned premium generated approximately $28.2
million of additional net earned premium. Net earned premium was increased by an additional $7.2 million
related to the re-estimation of amounts due to reinsurers related to prior accident years. These increases were
partially offset by other declines in earned premium principally due to non-renewals and rate reductions.
Net Investment Income; Net Realized Investment Gains (Losses)
Our 2010 net investment result (which includes both net investment income and earnings from
unconsolidated subsidiaries) decreased by $4.8 million or 3.1% primarily due to a decrease in earnings from
fixed income securities and short term investments. The decrease primarily reflects lower yields in 2010.
Net realized investment gains increased by $4.6 million during 2010. As compared to 2009, increased
gains from sales more than offset a $7.9 million increase in impairment losses.
Expenses
Net losses decreased by $10.0 million or 4.3% during 2010 due to increased favorable loss development
of $26.7 million offset by a $16.7 million increase in current accident year losses. The increase in current
accident year losses is primarily attributable to three additional months of PICA activity in 2010 and one
additional month of APS activity.
Underwriting, policy acquisition and operating expenses increased in 2010 by $18.4 million or 15.8%.
Approximately $10.6 million of the increase is attributable to the acquisitions of PICA and APS and the
remainder relates to various operating factors.
Ratios
Our net loss ratio decreased in 2010 by 3.8 points. Higher favorable development decreased the ratio by
3.4 points.
Our underwriting expense ratio increased in 2010 by 2.7 points. The increase is attributable both to the
acquisitions of PICA and APS and increased policy acquisition and operating costs.
Our operating ratio increased in 2010 by 1.0 point reflecting a decline in the investment ratio of
approximately 2.1 points partially offset by the combined 1.1 point decrease in the net loss and expense ratios.
Return on equity is 13.0% for 2010 and 14.2% for 2009.
Book Value per Share
Our book value per share at December 31, 2010 is $60.35 compared to $52.59 at December 31, 2009.
The change reflects our 2010 income, the increase in accumulated other comprehensive income and a benefit
from treasury share purchases. Due to the size of our Shareholders’ Equity (approximately $1.9 billion at
December 31, 2010), the growth rate of our book value per share may slow. The past growth rates of our book
value per share do not necessarily predict similar future results.
49
Non-GAAP Financial Measures
Operating income is a non-GAAP financial measure that is widely used to evaluate the performance of
insurance entities. Operating income excludes the after-tax effects of realized gains or losses, guaranty fund
assessments and debt retirement loss. We believe operating income presents a useful view of the performance of
our insurance operations, but should be considered in conjunction with net income computed in accordance with
GAAP.
The following table is a reconciliation of Net income to Operating income:
(In thousands, except per share data)
Net income
Items excluded in the calculation of operating income:
Loss on the extinguishment of debt
Net realized investment (gains) losses
Guaranty fund assessments (recoupments)
Pre-tax effect of exclusions
Tax effect, at 35%
Operating income
Per diluted common share:
Net income
Effect of exclusions
Operating income per diluted common share
Year Ended December 31
2009
2010
$
231,598
$
222,026
–
(17,342)
(1,336)
(18,678)
6,537
2,839
(12,792)
(533)
(10,486)
3,670
$
219,457
$
215,210
$
$
7.20
(0.38)
6.82
$
$
6.70
(0.21)
6.49
50
Results of Operations–Year Ended December 31, 2010 Compared to Year Ended December 31, 2009
Selected consolidated financial data for each period is summarized in the table below.
($ in thousands, except share data)
Revenues:
Gross premiums written
Net premiums written
Premiums earned
Premiums ceded
Net premiums earned
Net investment income
Equity in earnings (loss) of unconsolidated
subsidiaries
Net realized investment gains (losses)
Other income
Total revenues
Expenses:
Losses and loss adjustment expenses
Reinsurance recoveries
Net losses and loss adjustment expenses
Underwriting, policy acquisition and
operating expenses
Interest expense
Loss on extinguishment of debt
Total expenses
Year Ended December 31
2009
2010
Change
$
$
$
533,205
$ 553,922
505,407
$ 514,043
548,955
(29,848)
519,107
146,380
$ 540,012
(42,469)
497,543
150,945
$
$
$
1,245
17,342
7,991
692,065
252,615
(31,500)
221,115
134,980
3,293
–
359,388
1,438
12,792
9,965
672,683
265,983
(34,915)
231,068
116,537
3,477
2,839
353,921
(20,717)
(8,636)
8,943
12,621
21,564
(4,565)
(193)
4,550
(1,974)
19,382
(13,368)
3,415
(9,953)
18,443
(184)
(2,839)
5,467
Income before income taxes
332,677
318,762
13,915
Income taxes
Net income
Earnings per share:
Basic
Diluted
Net loss ratio
Underwriting expense ratio
Combined ratio
Operating ratio
Return on equity
101,079
96,736
4,343
$
231,598
$ 222,026
$
9,572
$
$
7.29
7.20
$
$
6.76
6.70
$
$
0.53
0.50
42.6%
25.4%
68.0%
39.8%
13.0%
46.4%
22.7%
69.1%
38.8%
14.2%
(3.8)
2.7
(1.1)
1.0
(1.2)
In all the tables that follow, the abbreviation “nm” indicates that the percentage change is not
meaningful.
As required by GAAP, our results include acquired entities only for the portion of the reporting period
that is after the acquisition date. Our 2010 operating results include twelve months of PICA activity and one
month of APS activity. Our 2009 operating results include nine months of PICA activity but do not include any
APS results. In many of the supporting tables that follow, the effect of the additional 2010 PICA/APS activity is
shown separately with the column header “Additional PICA/APS Activity”.
51
Premiums
Gross Premiums Written
Changes in our premium volume are driven by three primary factors: (1) our retention of existing
business, (2) the amount of new business we are able to generate, including business that comes to PRA as a
result of acquisitions, and (3) the premium charged for business that is renewed, which is affected both by rates
charged and by the amount and type of coverage an insured chooses to purchase. The professional liability
market remains competitive with some competitors choosing to compete primarily on price.
Gross premiums written by component are as follows:
($ in thousands)
2010
2009
Additional
PICA/APS
Activity
Change
Other
$
%
Total
$ 418,173
$ 442,002
$ 19,534
(2)
$
(43,363)
$
(23,829)
(5.4%)
Physician (1)
Non-physician (1):
Healthcare providers
Hospital and facility
Other
Non continuing
43,093
28,524
14,349
5,836
91,802
37,215
31,350
13,227
9,746
91,538
(3)
3,131
–
24
1,423
4,578
324
2,747
(2,826)
1,098
(5,333)
(4,314)
2,524
5,878
(2,826)
1,122
(3,910)
264
15.8%
(9.0%)
8.5%
(40.1%)
0.3%
2,848
14.0%
Tail Premiums
23,230
20,382
Gross Premiums Written, total
$ 533,205
$ 553,922
$ 24,436
$
(45,153)
$
(20,717)
(3.7%)
(1) Excludes tail premiums
(2) PICA - $14.7 million: APS - $4.8 million
(3) PICA - $3.1 million
Physician Premiums
Physician premiums continue to be our primary revenue source and comprise 78% and 80% of our gross
premiums written in 2010 and 2009, respectively.
Approximately $22.6 million of the overall decrease in physician premiums is due to changes in our
renewal patterns. We began offering policy renewals for a two-year term (as opposed to a one-year term) to our
physician insureds in one selected jurisdiction during late 2008. The premium associated with both policy terms
is included in written premium in the period the policy is written, which increases gross written premium in the
year the policy is written but reduces gross written premium in the following year. Approximately $16.1 million
of the gross written premium decline during 2010 is attributable to the policies written on a two-year term. Also,
during 2009, in order to more evenly distribute renewals throughout the year, we offered early renewal to a
number of insureds who otherwise would have had a first quarter 2010 renewal date. Approximately $6.5
million of the 2010 decrease in physician premiums is attributable to the shift in renewal dates.
Excluding APS, our retention rate for our physician business for 2010 is 90%, which is unchanged from
2009. Retention rates are affected by a number of factors. We may choose not to renew an insured as a result of
our underwriting evaluation. Insureds terminate coverage because they have retired or have otherwise ceased to
practice medicine. We may also lose insureds to competitors or to self-insurance mechanisms (often when
physicians join hospital-based practice groups) due to pricing or other issues.
In the aggregate, charged rates for our physician business renewed in 2010 showed no change. In 2009
charged rates showed an average 2% decrease. In general, charged rates at our PICA subsidiary increased in
2010 as compared to 2009, while rates at our other insurance subsidiaries decreased. Our charged rates include
the effects of filed rates, surcharges and discounts. Despite competitive pressures, we continue to base our rates
on expected losses, as indicated by our historical loss data and available industry loss data. We are committed to
52
a rate structure that will allow us to fulfill our obligations to our insureds, while generating competitive returns
for our shareholders.
We wrote approximately $16.0 million of new physician business during 2010.
Non-physician Premiums
Our non-physician healthcare providers are primarily dentists, chiropractors, optometrists, and allied
health professionals. The 2010 increase is primarily related to allied health coverages, but also includes
additional premium of $1.2 million generated by a targeted marketing campaign to optometrists.
Hospital and facility premiums decreased during 2010. The decline reflects many of the same
competitive pressures that are affecting our business overall.
Non-physician “other” premiums are primarily legal professional liability premiums, but also includes
other types of general liability premiums. The $1.1 million increase in premium volume for 2010 principally
relates to our legal professional liability premiums.
Non-continuing in the above table separately identifies premium generated by certain types of
miscellaneous liability coverages which we no longer provide. We do expect minimal premiums from these
coverages in future periods.
Tail Premiums
We separately report tail premiums because we offer extended reporting endorsement or "tail" policies
to insureds that are discontinuing their claims-made coverage with us. The amount of tail premium written and
earned can vary widely from period to period.
53
Premiums Earned / Ceded
($ in thousands)
2010
2009
Additional
PICA/APS
Activity
Change
Other
$
Total
Premiums earned
Premiums ceded
Net premiums earned
$ 548,955 $ 540,012
42,469
$ 519,107 $ 497,543
29,848
$ 28,796
566
$ 28,230
(1)
$
$
(19,853)
(13,187)
(6,666)
$
8,943
(12,621)
$ 21,564
%
1.7%
(29.7%)
4.3%
(1) Includes $5.1 million attributable to APS, substantially all of which relates to policies written prior to our acquisition of APS.
Premiums Earned
Because premiums are generally earned pro rata over the entire policy period, fluctuations in premiums
earned tend to lag those of premiums written. Generally, our policies carry a term of one year, but as discussed
above, we renew certain policies with a two-year term. Tail premiums are generally 100% earned in the period
written because the policies insure only incidents that occurred in prior periods and are not cancellable.
The acquisition of APS is expected to increase 2011 earned premium by $20.4 million related to APS
premiums written prior to the acquisition that were unearned at December 31, 2010. The premiums will be
earned in 2011 on a pro rata basis, and are expected to affect 2011 premiums earned as follows: Q1 - $10.7
million; Q2 - $6.8 million; Q3 - $2.6 million; Q4 - $0.3 million.
Premiums Ceded
Premiums ceded represent the portion of earned premiums that we pay our reinsurers for their
assumption of a portion of our losses. The premium that we cede to our reinsurers is determined, in part, by the
loss experience (subject to minimums and maximums) of the business ceded to them. It takes a number of years
before all losses are known, and in the intervening period, premiums due to the reinsurers are estimated.
Premiums ceded declined in both 2010 and 2009 ($13.4 million and $6.2 million, respectively) due to
reductions in the estimated amounts expected to be due to reinsurers related to prior year coverages. These
reductions had a significant effect on our reinsurance expense ratio as shown in the following table.
Reinsurance expense ratio before changes to prior accident years
Effect of estimate changes to prior accident years
Reinsurance expense ratio, calendar year
Year Ended December 31
2009
9.0%
(1.1%)
7.9%
2010
7.8%
(2.4%)
5.4%
Change
(1.2)
(1.3)
(2.5)
Excluding the effect of the changes to prior year estimates, the decrease in the reinsurance expense is
primarily due to shifts in the mix of our business during 2010 as compared to 2009. In 2010 we discontinued
offering certain non-physician liability policies (see discussion under Premiums), and reduced our reinsurance
coverage related to the policies. Also, premiums earned from our legal professional liability business acquired
from Georgia Lawyers were more heavily reinsured in 2009 than in 2010. Pre-acquisition reinsurance
agreements were in effect in 2009 but ProAssurance reinsurance agreements with higher retention limits were in
effect in 2010.
54
Net Investment Income, Equity in Earnings (Loss) of Unconsolidated Subsidiaries, Net Realized
Investment Gains (Losses)
Net Investment Income
Net investment income is primarily derived from the income earned on our fixed maturity securities and
also includes dividend income from equity securities, income from our short-term, cash equivalent investments,
earnings from other investments and increases in the cash surrender value of business owned life insurance
contracts. Investment fees and expenses are deducted from investment income.
Net investment income by investment category is as follows:
Year Ended December 31
(In thousands)
Fixed maturities
Equities
Short-term investments
Other invested assets
Business owned life insurance
Investment expenses
Net investment income
2010
$ 146,036
797
417
3,145
1,617
(5,632)
$ 146,380
2009
$ 150,122
1,036
1,209
2,802
1,563
(5,787)
$ 150,945
$ (4,086)
(239)
(792)
343
54
155
$ (4,565)
Change
(3%)
(23%)
(66%)
12%
3%
(3%)
(3%)
Fixed Maturities. The decrease in income in 2010 reflects lower yields, partially offset by higher
average investment balances.
The overall yield on our portfolio declined because we were not able to reinvest proceeds from
maturities, pay-downs and sales at rates comparable to expiring rates while maintaining our asset quality and the
duration of our portfolio. Average yields for our available-for-sale fixed maturity securities during 2010 and
2009 are as follows:
Average income yield
Average tax equivalent income yield
Year Ended December 31
2010
4.3%
5.0%
2009
4.6%
5.3%
The level of our investment in fixed maturity securities varies depending upon a number of factors,
including, among others, our operating cash needs, anticipated shifts in credit markets, the attractiveness of
other investment alternatives, and cash needed for acquisitions or other capital purposes. In 2010 as compared to
2009, our average investment in fixed maturities increased by approximately 3%.
Short-term Investments. The decrease in earnings for 2010 reflects a decline in short-term interest rates
and lower average invested balances.
55
Equity in Earnings (Loss) of Unconsolidated Subsidiaries
Equity in earnings (loss) of unconsolidated subsidiaries is derived from our investment interests
accounted for under the equity method, as follows:
(In thousands)
Private investment funds, currently held
Private investment fund, liquidated in 2010
Other business interests
Tax credit partnerships
Equity in earnings (loss) of unconsolidated
Year Ended December 31
2009
$ 1,049
389
–
–
2010
$ 1,539
3,097
(1,494)
(1,897)
Change
490
2,708
(1,494)
(1,897)
$
subsidiaries
$ 1,245
$ 1,438
$
(193)
We hold interests in certain private investment funds that derive earnings from trading portfolios. The
performance of these funds is affected by the volatility of equity and credit markets. One fund, shown separately
in the table, was liquidated in July 2010.
We have acquired an interest in a development stage limited liability company that will, in time, engage
in active business operations. While we expect this investment to provide a positive return over time, we
anticipate operating losses during the start up phase, expected to last another twelve months. Our potential for
loss is limited to the carrying amount of our investment, currently $3.4 million.
We began investing in tax credit limited partnerships in 2010. Our tax credit investments are designed to
generate investment returns by providing tax benefits to fund investors in the form of net operating losses and
tax credits. During 2010 our tax credit partnerships generated a tax benefit of approximately $1.0 million.
Tax Equivalent Investment Result
We believe that to fully understand our investment returns it is important to consider the tax benefits
associated with certain investments; therefore, we impute a tax-equivalent investment result in order to better
reflect the economies of our decision to invest in certain asset classes that are either taxed at lower rates and/or
result in reductions to our federal income tax expense.
Investment results, as reported:
Net investment income
Equity in earnings of unconsolidated subsidiaries
Taxable equivalent adjustments for: (1)
State and municipal bonds
BOLI
Tax credit partnerships (2)
Tax-equivalent investment results
Year ended December 31
2009
2010
$ 146,380
1,245
147,625
21,975
871
1,538
$ 172,009
$ 150,945
1,438
152,383
21,933
842
–
$ 175,158
(1) All adjustments were calculated using the 35% federal statutory tax rate.
(2) Tax credits provided approximated $1.0 million in 2010. No credits were provided in 2009.
56
Net Realized Investment Gains (Losses)
The following table provides detailed information regarding our net realized investment gains (losses).
(In thousands)
Total other-than-temporary impairment losses (1):
Residential mortgage-backed securities
Corporate bonds
Equities
Equity interest in a private investment fund
High yield asset-backed securities, see discussion below
Portion recognized in (reclassified from) Other
Comprehensive Income:
Residential mortgage-backed securities
Net impairment losses recognized in earnings
Net gains (losses) from sales
Trading portfolio gains
Fair value adjustments, net
Net realized investment gains (losses)
Year Ended December 31
2010
2009
(1,487)
–
–
(3,373)
(9,515)
$
(3,393)
(3,749)
(494)
–
(536)
(1,474)
(15,849)
30,005
5,088
(1,902)
17,342
199
(7,973)
12,066
9,335
(636)
$ 12,792
$
$
(1) In accordance with GAAP, all OTTI losses prior to April 1, 2009 were recognized in earnings.
We have recognized impairments of $9.5 million during 2010 related to certain high-yield asset-backed
securities. The securities were returned to our direct ownership in 2010 when our interest in a private investment
fund was liquidated. Based on our intent to sell the securities, we have recognized all declines in fair value
below our cost basis as other-than-temporary impairments.
We recognized an impairment of $3.4 million in 2010 related to an interest in a private investment fund
which we account for on a cost basis. The fund has reported realized losses on the sale of securities, and we
have reduced the carrying value of our interest in the fund in recognition of our pro rata share of those losses.
We recognized impairments in earnings of $3.0 million in 2010, including $1.5 million reclassified from
OCI, related to residential mortgage-backed securities. Expected future cash flows were less than our carrying
value for these securities; therefore, we reduced the carrying value of our interest in these securities and
recognized the loss in our 2010 net income.
Fair value adjustments are attributable to our election of fair value treatment for both the 2019 Note
Payable and related interest rate swap, as discussed in Notes 3 and 9 of the Notes to the Consolidated Financial
Statements.
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, including an
evaluation of the reserve amounts required for losses in excess of policy limits.
Accident year refers to the accounting period in which the insured event becomes a liability of the
insurer. For claims-made policies, which represent over 90% of the Company's business, the insured event
generally becomes a liability when the event is first reported to the insurer; for occurrence policies the insured
event becomes a liability when the event takes place. 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 the estimate of the losses incurred related to those policy premiums.
57
The following tables summarize calendar year net losses and net loss ratios for the years ended
December 31, 2010 and 2009 by separating losses between the current accident year and all prior accident years.
Net Losses
Year Ended December 31
(In millions)
2010
2009
Total Change
%
$
Net Loss Ratios*
Year Ended December 31
2009
2010
Change
Current accident year
Prior accident years
Calendar year
$ 455.1
(234.0)
$ 221.1
$
$
438.4
(207.3)
231.1
$ 16.7
(26.7)
$ (10.0)
3.8%
12.9%
(4.3%)
87.7%
(45.1%)
42.6%
88.1%
(41.7%)
46.4%
(0.4)
(3.4)
(3.8)
* Net losses as specified divided by net premiums earned.
The increase in current accident year losses for 2010 is primarily attributable to three additional months
of PICA activity and one month of APS activity.
During the years ended December 31, 2010 and 2009, we recognized favorable loss development of
$234.0 million and $207.3 million respectively, on a net basis, related to reserves established in prior years.
The principal components of development are as follows:
Reserve development by accident year, favorable (unfavorable):
(In millions)
2009 & 2008 accident years
2007 & 2006 accident years
2005 & 2004 accident years
Accident years prior to 2004
Net favorable development recognized
Year Ended December 31
2010
2009
$
$
3.0
104.3
80.5
46.2
234.0
$
(1.1)
94.0
73.6
40.8
$ 207.3
Substantially all of the favorable development recognized during 2010 and 2009 relates to medical
professional liability claims-made reserves. The favorable development for medical professional claims-made
policies in both years is based upon observation of actual claims data that indicates that claims severity (i.e., the
expected average cost of claims) is trending below our initial expectations. Given both the long tailed nature of
our business and the past volatility of final claim settlement values, we are generally cautious in giving credence
to the trends that lead to the recognition of favorable net loss development. As we conclude that sufficient
credible data with respect to these trends exists we take appropriate actions. In the case of the claims severity
trends, we believe it is appropriate to recognize the impact of these trends in our actuarial evaluation of prior
period loss estimates while also remaining attentive to the past volatility of claims severity.
Assumptions used in establishing our reserve are regularly reviewed and updated by management as
new data becomes available. Any adjustments necessary are reflected in the 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, as has been the case in 2010 and 2009.
58
Underwriting, Policy Acquisition and Operating Expenses
The table below provides a comparison of our 2010 and 2009 underwriting, policy acquisition and
operating expenses:
(In thousands)
2010
2009
Related to
PICA/APS
Transactions
Change
Total
Other
$
%
Insurance operation expenses, total
Agency- related expenses
$ 132,002
2,978
$ 134,980
$ 112,889
3,648
$ 116,537
$ 10,093
522
$ 10,615
$
$
9,020
(1,192)
7,828
$ 19,113
(670)
$ 18,443
16.9%
(18.4%)
15.8%
Expense Increase Related to PICA/APS (excluding agency related expenses)
Approximately $10.1 million of the 2010 increase in underwriting, policy acquisition and operating
expenses are attributable to the PICA and APS transactions, as detailed below:
(In thousands)
One month of APS activity in 2010
Three additional months of PICA activity in 2010
APS transaction and closing costs expensed in 2010
PICA transaction and closing costs expensed in 2009
Increased PICA policy acquisition costs in 2010
$
1,721
5,683
2,000
(2,500)
3,189
$ 10,093
In 2009 we incurred $2.5 million in transaction-related costs associated with the purchase of PICA,
principally for severance costs and investment banking fees. Similarly, we incurred $2.0 million in transaction-
related costs primarily in the third and fourth quarters of 2010 associated with the purchase of APS.
The increase in policy acquisition expenses reflects the application of GAAP purchase accounting rules
whereby the capitalized policy acquisition costs for policies written prior to the acquisition date are written off
rather than being expensed ratably over the term of the associated insurance policy. Application of this guidance
resulted in lower-than-normal PICA acquisition costs in 2009. Similarly, APS acquisition expenses (for the one
month included in our 2010 results) for 2010 are lower than what would be considered normal and will increase
gradually in 2011 as more APS earned premium is generated by policies written after the acquisition date.
59
Other Expense Increase
The remaining $9.0 million increase in insurance operation expenses is primarily due to the following:
Expense for policy acquisition costs was higher in 2010 primarily because premium earned
related to allied healthcare, legal and miscellaneous professional liability coverages increased in
2010. Commission and underwriting expenses associated with these premiums are higher than
those associated with physician premiums.
We recognized $2.6 million in ceding commission expense related to a captive insurance
arrangement that was terminated in 2010.
We allocate our operating costs between insurance operations expense and loss adjustment
expenses. The amount allocated to loss adjustment expense decreased by $3.5 million in 2010,
which had the effect of increasing operating expenses.
Guaranty fund assessments or recoupments are not controlled by us, but do affect our results. In
both 2010 and 2009 recoupments exceeded assessments, but the recoupment benefit was $0.8
million greater in 2010.
We terminated and replaced our Employee Stock Ownership Plan during the year, resulting in
an acceleration of vesting of participants’ accounts. This resulted in a charge of approximately
$0.8 million during the year. The new plan put in place provides for vesting of benefits over a
three year period and will result in lower operating expenses, as compared to the prior plan over
the next three years.
We entered into a deferred compensation agreement with one of our senior executives resulting
in the recognition of a $1.1 million expense during the fourth quarter.
Agency-related expenses
We operate several fee-based agencies and provide benefit management services on a limited basis.
Their business activities generate commission and service fee revenues which are reported as a part of other
income. We have excluded the direct expenses of these entities from our underwriting expense ratio
computations because their activities and business operations are not associated with the generation of premium
revenues. During the latter part of 2010 we discontinued certain agency activities which reduced 2010 expenses
as compared to 2009.
Underwriting Expense Ratio
Underwriting Expense Ratio *
Year Ended December 31
2010
2009
Change
Insurance operation expenses
25.4%
22.7%
2.7
* Our expense ratio computations exclude agency-related expenses as discussed above.
The 2010 increase in our underwriting expense ratio reflects the net increase to expenses of 17%,
discussed in the above paragraphs, mitigated by an increase to net earned premiums of 4%.
60
Interest Expense
The 2010 decrease in interest expense reflects a decline in average rates on our variable debt of
approximately 50 basis points against an increase in average outstanding debt principal of approximately $1.4
million during 2010 as compared to 2009.
Interest expense by debt obligation is provided in the following table:
(In thousands)
Trust Preferred Debentures due 2034
Surplus Notes due May 2034 (1)
Note Payable due February 2012
Note Payable due February 2019 (2)
Surplus Notes due May 2033 (3)
Other
(1) Converted from a fixed to a variable rate in May 2009
(2) Debt acquired in the PICA transaction
(3) Debt acquired in the PICA transaction; redeemed August 2009
Change
$
$
Year Ended December 31
2009
$ 1,160
768
28
900
147
474
$ 3,477
2010
978
508
42
1,178
–
587
$ 3,293
$
(182)
(260)
14
278
(147)
113
(184)
Taxes
Our effective tax rate for each period is lower than the 35% statutory rate because a considerable portion
of our net investment income is tax-exempt. Other factors affecting our effective tax rate include the following:
Statutory rate
Tax-exempt income
Tax credits (1)
Valuation Allowance (2)
BOLI Redemption (3)
Other
Effective tax rate
Year Ended December 31
2010
35.0%
(4.6)%
(0.3)%
(0.3)%
0.4%
0.2%
30.4 %
2009
35.0%
(5.2%)
–
–
–
0.5%
30.3%
(1) We have invested in tax credit partnerships during 2010 (see Capital and Liquidity -Investment
Exposures and Equity in Earnings (Loss) of Unconsolidated Subsidiaries). In 2010 we have recognized
an expected tax benefit of approximately $1.0 million related to the credits to be transferred to us by the
partnerships.
(2) During 2010 we reversed a valuation allowance previously established against deferred tax assets that
were capital in character. We determined that it has become more likely than not that sufficient sources
of taxable capital income will be available in future periods to allow us to fully utilize the deferred tax
assets.
(3) We recognized additional tax of $1.3 million on the redemption of a portion of our BOLI investment as
discussed in Capital and Liquidity -Investment Exposures. Increases in the cash surrender value on
BOLI policies are not taxable unless redeemed. Upon redemption, the difference in the proceeds from
redemption and premiums previously paid on the policies redeemed become taxable. In this instance,
the difference approximated $2.9 million.
61
Income tax expense is provided in the following table:
Provision for income taxes
Current expense (benefit)
Deferred expense (benefit)
Total income tax expense (benefit)
Year Ended December 31
2009
2010
Change
$
$
105,479
(4,400)
101,079
$ 70,122
26,614
$ 96,736
$ 35,357
(31,014)
$ 4,343
Although our effective tax rate is consistent between 2010 and 2009, current tax expense increased by
approximately $35.4 million in 2010. In 2009 we received a current tax benefit from the sale of impaired
securities that was $15.9 million greater than the benefit received in 2010. Additionally, in 2009 we received a
benefit of $7.8 million related to the settlement of the CHW Judgment.
Overview of Results–Years Ended December 31, 2009 and 2008
Net income totaled $222.0 million for the year ended December 31, 2009 as compared to $177.7 million
for the year ended December 31, 2008. Net income per diluted share was $6.70 and $5.22 for the years ended
December 31, 2009 and 2008, respectively. The increase in diluted earnings per share is primarily attributable to
an increase in net income, but also reflects a decrease in diluted weighted average shares outstanding.
Results from the years ended December 31, 2009 and 2008, respectively, compare as follows:
Premiums—Exclusive of PICA
Net premiums earned declined in 2009 by approximately $32.0 million (7.0%) for the year. The decline
reflects the effects of a competitive market place and rate reductions resulting from improved loss trends.
Premiums—PICA
PICA contributed net premiums earned of $70.3 million during 2009.
Net Investment Income; Net Realized Investment Gains (Losses)—Consolidated
Our 2009 net investment results (which include both net investment income and earnings from
unconsolidated subsidiaries) increased by $2.0 million (1.3%) and reflect improved results from our investments
in unconsolidated subsidiaries offset by the decline in net investment income primarily due to lower yields on
short-term securities.
Net realized gains were $12.8 million in 2009 as compared to net realized losses of $50.9 million for
2008. The improvement is principally the result of a $39.0 million reduction in impairment losses due to more
favorable market conditions during 2009.
Gain/Loss on Extinguishment of Debt—Consolidated
Our 2009 results reflect a $2.8 million ($1.8 million after tax) loss related to the extinguishment of debt,
while our 2008 results reflect a $4.6 million ($2.9 million after tax) gain from the extinguishment of debt.
During 2009 we redeemed at par surplus notes acquired in the PICA acquisition which were valued below par
on the date of acquisition. For additional information regarding the extinguishment of debt see Note 10 to the
Consolidated Financial Statements.
Expenses—Exclusive of PICA
Current accident year net losses decreased by $22.2 million (5.6%) in 2010, principally due to a decline
in insured risks. We recognized favorable development in 2009 of $207.3 million (a $22.0 million increase).
62
Underwriting, policy acquisition and operating expenses increased during 2009 by $1.5 million
(1.5%) as compared to 2008, primarily due to additional expenses associated with an increase in non-
physician premiums and higher commission costs for physician premiums.
Interest expense declined by $4.9 million in 2009 because we reduced the outstanding principal
balance of our long-term debt during the latter half of 2008 by $129 million.
Expenses—PICA
The following PICA expenses are included in our 2009 operating results:
(In thousands)
Net losses
Underwriting, policy acquisition and
operating expenses
Interest expense
Year Ended
December 31, 2009
$
63,757
$
$
15,343
1,521
Ratios
Our net loss ratio exclusive of PICA decreased to 39.2% in 2009 from 46.1% in 2008, primarily
because favorable prior year loss development had a more pronounced effect on the calendar year net loss
ratio in 2009 (because 2009 earned premium was less than 2008 earned premium, and because favorable
loss development was higher in 2009). Our 2009 calendar year net loss ratio when PICA subsidiaries are
included is 46.4%.
Our expense ratio exclusive of PICA increased to 23.2% in 2009 from 21.6% in 2008, primarily
because premiums earned decreased but expenses remained relatively flat. Our 2009 expense ratio is
22.7% when the PICA subsidiaries are included.
Our operating ratio exclusive of PICA decreased to 28.5% in 2009 from 33.3% in 2008, reflecting
the improvement in the net loss ratio, offset by a higher expense ratio and lower investment ratio. Our
operating ratio including PICA is 38.8% for 2009.
Return on equity, which is computed only on a consolidated basis, is 14.2% for 2009.
Non-GAAP Financial Measures
Operating income is a Non-GAAP financial measure that is widely used to evaluate the
performance of insurance entities. Operating income excludes the after-tax effects of realized gains or
losses, guaranty fund assessments and debt retirement gain or loss. We believe operating income presents
a useful view of the performance of our insurance operations, but should be considered in conjunction
with net income computed in accordance with GAAP.
The following table is a reconciliation of Net income to Operating income:
(In thousands, except per share data)
Net income
Items excluded in the calculation of operating income:
(Gain) loss on extinguishment of debt
Net realized investment (gains) losses
Guaranty fund (recoupments) assessments
Pre-tax effect of exclusions
Tax effect, at 35%
Operating income
Per diluted common share:
Net income
Effect of exclusions
Operating income per diluted common share
Year Ended December 31
2008
2009
$
222,026
$
177,725
2,839
(12,792)
(533)
(10,486)
3,670
(4,571)
50,913
(1,334)
45,008
(15,753)
$
215,210
$
206,980
$
$
6.70
(0.21)
6.49
$
$
5.22
0.85
6.07
63
Results of Operations–Year Ended December 31, 2009 Compared to Year Ended December 31,
2008
Selected consolidated financial data for each period is summarized in the table below.
($ in thousands, except share data)
2009
2008
Change
Year Ended December 31
Revenues:
Gross premiums written
Net premiums written
Premiums earned
Premiums ceded
Net premiums earned
Net investment income
Equity in earnings (loss) of unconsolidated
subsidiaries
Net realized investment gains (losses)
Gain on extinguishment of debt
Other income
Total revenues
Expenses:
Losses and loss adjustment expenses
Reinsurance recoveries
Net losses and loss adjustment expenses
Underwriting, policy acquisition and operating
expenses
Interest expense
Loss on extinguishment of debt
Total expenses
$ 553,922
$ 471,482
$ 514,043
$ 429,007
$ 540,012
(42,469)
497,543
150,945
$ 503,579
(44,301)
459,278
158,384
$
$
$
1,438
12,792
–
9,965
672,683
265,983
(34,915)
231,068
116,537
3,477
2,839
353,921
(7,997)
(50,913)
4,571
3,839
567,162
267,412
(55,913)
211,499
100,385
6,892
–
318,776
82,440
85,036
36,433
1,832
38,265
(7,439)
9,435
63,705
(4,571)
6,126
105,521
(1,429)
20,998
19,569
16,152
(3,415)
2,839
35,145
Income before income taxes
318,762
248,386
70,376
Income taxes
Net income
Earnings per share:
Basic
Diluted
Net loss ratio
Underwriting expense ratio
Combined ratio
Operating ratio
Return on equity
96,736
70,661
26,075
$ 222,026
$ 177,725
$
44,301
$
$
6.76
6.70
$
$
5.43
5.22
$
$
1.33
1.48
46.4%
22.7%
69.1%
38.8%
14.2%
46.1%
21.7%
67.8%
33.3%
13.3%
0.3
1.0
1.3
5.5
0.9
PLEASE NOTE: All variance discussions that follow exclude the effects of the PICA acquisition unless
specifically stated otherwise. In all tables the abbreviation “nm” indicates that the percentage change is
not meaningful, either because the prior year amount is zero or because the percent change exceeds 100%.
64
Premiums
($ in thousands)
Gross premiums written:
PRA all other
PICA Acquisition
Net premiums written:
PRA all other
PICA Acquisition
Premiums earned:
PRA all other
PICA Acquisition
Premiums ceded:
PRA all other
PICA Acquisition
Net premiums earned:
PRA all other
PICA Acquisition
$
$
$
$
$
$
$
$
$
$
Year Ended December 31
2008
Change
2009
477,022
76,900
553,922
439,354
74,689
514,043
$
$
471,482
–
471,482
$
$
429,007
–
429,007
467,269
72,743
540,012
$
$
503,579
–
503,579
39,986
2,483
42,469
$
$
44,301
–
44,301
427,283
70,260
497,543
$
$
459,278
–
459,278
$
$
$
$
$
$
$
$
$
$
5,540
76,900
82,440
10,347
74,689
85,036
(36,310)
72,743
36,433
(4,315)
2,483
(1,832)
(31,995)
70,260
38,265
1.2%
nm
17.5%
2.4%
nm
19.8%
(7.2%)
nm
7.2%
(9.7%)
nm
(4.1%)
(7.0%)
nm
8.3%
Gross Premiums Written
Gross premiums written by component are as follows:
($ in thousands)
2009
2008
Change
Year Ended December 31
Physician (1):
PRA all other
PICA Acquisition
Non-physician (1):
Healthcare providers
PRA all other
PICA Acquisition
Hospital and facility (1)
Other (1)
PRA all other
PICA Acquisition
Non-physician total
Tail premiums (2)
Total Gross Premiums
Written
$
379,348
62,512
441,860
$
389,492
–
389,492
$ (10,144)
62,512
52,368
(2.6%)
nm
13.4%
27,139
9,450
36,589
31,350
19,345
4,397
23,742
91,681
20,381
15,582
–
15,582
31,229
11,659
–
11,659
58,470
23,520
11,557
9,450
21,007
74.2%
nm
134.8%
121
0.4%
7,686
4,397
12,083
33,211
65.9%
nm
103.6%
56.8%
(3,139)
(13.3%)
$
553,922
$
471,482
$
82,440
17.5%
(1) Excludes tail premiums
(2) Includes PICA tail premiums of $0.5 million
65
PRA Exclusive of PICA
Changes in our premium volume are driven by three primary factors: our retention of existing
business, the amount of new business we are able to generate (including business that comes to PRA as a
result of acquisitions), and the premium charged for business that is renewed, which is affected both by
rates charged and by the amount and type of coverage an insured chooses to purchase. The professional
liability market continues to remain competitive with some competitors choosing to compete primarily on
price.
Physician premiums continue to be our primary revenue source and comprise 80% and 83% of
our gross premiums written in 2009 and 2008, respectively. Our physician retention rate is 89% and 88%
for the years ended December 31, 2009 and 2008, respectively. Retention rates are affected by a number
of factors. Insureds may terminate coverage because they are leaving the practice of medicine through
death, disability or retirement. Also, based on our underwriting evaluation, we may choose not to renew
an insured. We may lose business to competitors or to self-insurance mechanisms (often when physicians
join hospital based practice groups) due to pricing or other issues.
New business increased during 2009. We wrote approximately $22 million of new physician
business during the year that was not attributable to acquisitions, as compared to $12 million in 2008.
In the third and fourth quarters of 2008, we began renewing physician policies for a two-year
term in a selected jurisdiction. Written premium for the entire two-year policy term is recorded in the
period the policy is renewed, while earned premium is recorded on a pro rata basis over the two-year
policy term. The gross written premiums attributable to two-year policies for 2009 is $23.0 million as
compared to $2.7 million written in 2008. Also, in 2009, in order to more evenly distribute renewals
throughout the year, we offered early renewal to a number of insureds who would otherwise have had a
first quarter 2010 renewal date. As a result of the shift in renewal dates, in 2010 there will be
approximately $9 million less in business eligible to be renewed.
As favorable loss trends have emerged we have lowered our rates where indicated. For our
physician business, our charged rates on 2009 renewals decreased 4% on average, as compared to an
average decrease of 6% for 2008. Our charged rates include the effects of filed rates, surcharges and
discounts. Despite competitive pressures, we remain committed to a rate structure that will allow us to
fulfill our obligations to our insureds, while generating competitive returns for our stockholders.
Our non-physician healthcare providers are primarily dentists and allied health professionals. The
2009 increase in this business is primarily attributable to business contributed by Mid-Continent. Non-
physician “other” premiums are primarily legal professional liability premiums, but also includes other
types of general liability premiums. The acquisitions of Georgia Lawyers and Mid-Continent contributed
additional non-physician premiums of approximately $18 million in 2009.
We separately report tail premiums because we offer extended reporting endorsement or "tail"
policies to insureds that are discontinuing their claims-made coverage with us, but we do not market such
coverages separately. The amount of tail premium written and earned can vary widely from period to
period.
PICA
Gross premiums written contributed by PICA consist primarily of coverages provided to
podiatrists, who are categorized as physician premiums in the above table, and coverages provided to
chiropractors, who are categorized as non-physician health-care providers in the above table. Our 2009
retention rate for the core PICA business is approximately 93%.
66
Premiums Earned
($ in thousands)
2009
2008
Change
Year Ended December 31
Premiums earned:
PRA all other
PICA Acquisition
$ 467,269
72,743
$ 540,012
$ 503,579
–
$ 503,579
$
$
(36,310)
72,743
36,433
(7.2%)
nm
7.2%
Because premiums are generally earned pro rata over the entire policy period, fluctuations in
premiums earned tend to lag those of premiums written. Generally, our policies carry a term of one year,
but as discussed above, beginning in late 2008 we began to renew some policies with a two-year term.
Tail premiums are 100% earned in the period written because the policies insure only incidents that
occurred in prior periods and are not cancellable.
PRA Exclusive of PICA
Exclusive of the effect of tail premiums and acquisitions, the decline in premiums earned for the
year ended December 31, 2009 as compared to 2008 reflects declines in gross premiums written during
2008 and 2009.
PICA
PICA subsidiaries contributed earned premiums of approximately $73 million during 2009;
approximately $41.6 million of which relates to premiums written prior to the date of acquisition (and
thus never reported in our written premiums). At December 31, 2009 approximately $1.7 million of
premium written prior to the acquisition is yet to be earned and will be added to our earned premium on a
pro rata basis, principally during the first quarter of 2010.
Premiums Ceded
($ in thousands)
2009
2008
Change
Year Ended December 31
Premiums ceded:
PRA all other
PICA Acquisition
$ 39,986
2,483
$ 42,469
$
$
44,301
–
44,301
$
$
(4,315)
2,483
(1,832)
(9.7%)
nm
(4.1%)
Reinsurance expense ratio:*
PRA all other
PICA Acquisition
Consolidated
8.6%
3.4%
7.9%
8.8%
–
8.8%
(points)
(0.2)
nm
(0.9)
*Calculated as premiums ceded as a percentage of premiums earned
Premiums ceded represent the portion of earned premiums that we pay our reinsurers for their
assumption of a portion of our losses. The premium that we cede to our reinsurers is determined, in part,
by the loss experience (subject to minimums and maximums) of the business ceded to them. It takes a
number of years before all losses are known, and in the intervening period, premiums due to the
reinsurers are estimated.
67
PRA Exclusive of PICA
Premiums ceded in both 2009 and 2008 include amounts related to changes to our estimates of
reinsurance premiums incurred for prior accident years, as follows.
(In thousands)
Premiums ceded, before estimate changes
Estimate changes, prior accident years
Premiums ceded
Premiums Ceded
Year Ended December 31
2009
$ 45,977
(5,991)
$ 39,986
2008
$ 45,509
(1,208)
$ 44,301
Reinsurance Expense Ratio
Year Ended December 31
2009
9.8%
(1.2%)
8.6%
2008
9.0%
(0.2%)
8.8%
The increase in our reinsurance expense ratio for 2009 is due to an increase in premiums ceded,
along with a decrease in premiums earned, which reflects shifts in the mix of our premiums. The increase
in premiums ceded is principally related to legal professional liability premiums, which are generally
more heavily reinsured than our physician premiums. The decline in premiums earned is principally
attributable to physician policies with lower coverage limits for which we retain all of the risk of loss;
consequently, there is no corresponding decrease to premiums ceded.
The amount of reinsurance premiums incurred for prior accident years is largely determined
based on the losses expected to be recovered, subject to certain minimums and maximums specific to the
reinsurance agreement being adjusted. In both 2009 and 2008, we reduced our estimates of prior accident
year gross losses within our reinsured layers of coverage, as well as the related reinsurance recoveries and
premiums ceded. However, the reductions were more pronounced in 2009.
PICA
The PICA subsidiaries cede only a small portion of the risk on the policies they issue.
Accordingly, the reinsurance expense ratio for these entities is minimal.
Net Investment Income, Equity in Earnings (Loss) of Unconsolidated Subsidiaries, Net Realized
Investment Gains (Losses)
Net Investment Income-Consolidated
($ in thousands)
Net investment income
2009
$ 150,945
2008
$ 158,384
Change
$
(7,439)
(4.7%)
Year Ended December 31
Net investment income is primarily derived from the income earned by our fixed maturity
securities and also includes income from our short-term, 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.
Net investment income by investment category is as follows:
Year Ended December 31
(In thousands)
Fixed maturities
Equities
Short-term investments
Other invested assets
Business owned life insurance
Investment expenses
Net investment income
$
2009
150,122
1,036
1,209
2,802
1,563
(5,787)
2008
$ 150,085
1,231
6,891
2,801
1,932
(4,556)
158,384
$
$
150,945
68
Fixed Maturities. The increase in income in 2009 reflects higher average invested balances, the benefit of
which was offset almost entirely by lower yields. The increase in average invested balances is principally
attributable to the PICA acquisition. Yields declined in 2009 as a result of proceeds from maturities and
sales being reinvested at lower rates. Lower returns from TIPS (Treasury Inflation Protected Securities)
also reduced yields in 2009. We expect average yields to continue to decrease in 2010, unless market
rates improve. Average yields for our available-for-sale fixed maturity securities during 2009 and 2008
are as follows:
Average income yield
Average tax equivalent income yield
Year Ended December 31
2009
4.6%
5.3%
2008
4.8%
5.6%
Short-term Investments. The decrease in earnings from short-term investments during 2009 reflects a
decline in market interest rates (an average of 200 basis points for the year) on lower average balances in
2009 as compared to 2008. In the latter portion of 2008, we increased our short-term holdings because of
the instability in the longer term market and to also provide funds needed for the PICA acquisition. As
markets stabilized in 2009, we reduced our short-term holdings.
Equity in Earnings (Loss) of Unconsolidated Subsidiaries-Consolidated
(In thousands)
Equity in earnings (loss) of
Year Ended December 31
2008
Change
2009
unconsolidated subsidiaries
$
1,438 $
(7,997)
$
9,435
Equity in earnings (loss) of unconsolidated subsidiaries is derived from our investment interests
in three private funds accounted for under the equity method. The funds primarily hold trading portfolios,
and changes in the fair value of securities held by the fund are included in current earnings of the fund.
The performance of all three funds is affected by the volatility of equity and credit markets. No
unconsolidated subsidiaries were acquired in the PICA acquisition.
Net Realized Investment Gains (Losses)-Consolidated
The following table provides detailed information regarding our net realized investment gains
(losses).
(In thousands)
Total other-than-temporary impairment losses:
Residential mortgage-backed securities (1)
Corporate bonds (2)
Equities (3)
Other (4)
Portion recognized in Other Comprehensive Income (5):
Residential mortgage-backed securities
Net impairment losses recognized in earnings
Net gains (losses) from sales
Trading portfolio gains (losses)
Fair value adjustments, net
Net realized investment gains (losses)
Year Ended December 31
2009
2008
$
$
(3,393)
(3,749)
(494)
(536)
199
(7,973)
12,066
9,335
(636)
12,792
$
(9,140)
(25,347)
(10,564)
(1,969)
–
(47,020)
1,533
(5,426)
–
$ (50,913)
(1) Includes unrealized impairment losses of approximately $61,000 that were recognized in earnings in the
first quarter of 2009 but reclassified from retained earnings to other comprehensive income on April 1, 2009
(2) Includes $19.5 million related to Lehman for 2008
(3) Includes $9.5 million related to Fannie Mae and Freddie Mac preferred stock for 2008
(4) 2008 includes $1.0 million related to the Reserve Primary Fund
(5) In accordance with GAAP all OTTI losses prior to April 1, 2009 were recognized in earnings
69
Trading portfolio gains are primarily attributable to improved market prices for equity securities
during 2009. Fair value adjustments are attributable to our election of fair value treatment for both the
2019 Note Payable and related interest rate swap, as discussed in Note 10 to the Consolidated Financial
Statements.
Losses and Loss Adjustment Expenses
The determination of calendar year losses involves the actuarial evaluation of incurred losses for
the current accident year and the actuarial re-evaluation of incurred losses for prior accident years,
including an evaluation of the reserve amounts required for losses in excess of policy limits.
Accident year refers to the accounting period in which the insured event becomes a liability of the
insurer. For occurrence policies the insured event becomes a liability when the event takes place; for
claims-made policies, which represent the majority of the Company's business, the insured event
generally becomes a liability when the event is first reported to the insurer. We believe that measuring
losses on an accident year basis is the most indicative measure of the underlying profitability of the
premiums earned in that period since it associates policy premiums earned with the estimate of the losses
incurred related to those policy premiums. All losses associated with the subsidiaries we acquired from
PICA are considered current accident year losses because the insured event became a ProAssurance
liability in 2009.
The following table summarizes calendar year net losses and net loss ratios for the years ended
December 31, 2009 and 2008, respectively, by separating losses between the current accident year and all
prior accident years.
($ in millions)
Current accident year:
PRA all other
PICA Acquisition
Consolidated
Prior accident years:
PRA all other
PICA Acquisition
Consolidated
Calendar year:
PRA all other
PICA Acquisition
Consolidated
$
$
$
$
$
$
Net Losses
Year Ended December 31
2008
2009
Change
Net Loss Ratios*
Year Ended December 31
2008
Change
2009
374.6
63.8
438.4
$ 396.8
–
$ 396.8
$ (22.2)
63.8
$ 41.6
87.7%
90.7%
88.1%
86.4%
–
86.4%
(207.3)
–
(207.3)
$ (185.3)
–
$ (185.3)
$ (22.0)
–
$ (22.0)
(48.5%)
–
(40.3%)
–
(41.7%)
(40.3%)
167.3
63.8
231.1
$ 211.5
–
$ 211.5
$ (44.2)
63.8
$ 19.6
39.2%
90.7%
46.4%
46.1%
–
46.1%
1.3
90.7
1.7
(8.2)
–
(1.4)
(6.9)
90.7
0.3
*Net losses as specified divided by net premiums earned.
PRA Exclusive of PICA
The current accident year loss ratio increased 1.3 points when compared to the prior year,
approximately 60% of this increase is attributable to an increase to our reserve for the death, disability
and retirement (DDR) provision in our claims-made polices. After a number of coverage years, most of
our insureds qualify for this extended coverage when the insured retires or should the insured die or
become disabled during the policy term. Our strong retention rate has resulted in an increase in the
number of insureds expected to become eligible to receive this extended coverage and we have recorded a
corresponding increase to the related reserve.
70
During the years ended December 31, 2009 and 2008, we recognized favorable loss development
of $207.3 million and $185.3 million, on a net basis, related to reserves established in prior years.
The principal components of development are as follows:
Reserve development by accident year, favorable (unfavorable):
(In millions)
2008 & 2007 accident years
2006 & 2005 accident years
2004 & 2003 accident years
Accident years prior to 2003
Net favorable development recognized
Year Ended December 31
2009
2008
$
(1.1)
94.0
73.6
40.8
$ 207.3
$
9.8
110.5
58.2
6.8
$ 185.3
Substantially all of the development recognized during 2009 and 2008 relates to medical
professional liability claims-made reserves. The favorable development for medical professional claims
made policies in both 2009 and 2008 is based upon observation of actual claims data which indicates that
claims severity (i.e., the expected average cost of claims) is trending below our initial expectations. Given
both the long tailed nature of our business and the past volatility of final claim settlement values, we are
generally cautious in giving credence to the trends that lead to the recognition of favorable net loss
development. As we conclude that sufficient credible data with respect to these trends exists we take
appropriate actions. In the case of the claims severity trends, we believe it is appropriate to recognize the
impact of these trends in our actuarial evaluation of prior period loss estimates while also remaining
attentive to the past volatility of claims severity.
In establishing the rates for our insurance products we consider loss and loss trends over a multi-
year period. To the extent that we experience improvements in claims frequency and claims severity these
improvements are considered in our rate making process and reflected in our established rates. We have
reflected decreased estimates of severity in our rate making process as well as in our loss estimates for
several years.
Assumptions used in establishing our reserve are regularly reviewed and updated by management
as new data becomes available. Any adjustments necessary are reflected in the 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.
PICA
The current accident year loss ratio was adversely affected by an increase to reserves for the DDR
provision associated with PICA claims-made policies and by unfavorable development of losses
associated with certain other liability coverages. When the effect of these two items is excluded, PICA
2009 net loss ratio is approximately 80%. In 2010, we plan to discontinue offering the other liability
coverage that generated the 2009 unfavorable development.
71
Underwriting, Policy Acquisition and Operating Expenses
($ in thousands)
Insurance operation
expenses:
PRA all other
PICA acquisition (2)
Agency-related expenses:
PRA all other
PICA acquisition
Underwriting, Policy Acquisition and Operating Expenses
Year Ended December 31
2009
2008
Change
$
$
99,233
13,656
112,889
1,961
1,687
3,648
116,537
$
$
99,182
710
99,892
$
51
12,946
12,997
493
–
493
100,385
1,468
1,687
3,155
$ 16,152
0.1%
nm
13.0%
nm
nm
nm
16.1%
(1) Our expense ratio computations exclude non unrelated expenses.
(2) PICA transaction expenses of $710,000 were paid by ProAssurance during 2008.
Underwriting Expense Ratio (1) (2)
Year Ended December 31
2008
Change
2009
23.2%
19.4%
22.7%
21.6%
0.1%
21.7%
1.6
nm
1.0
Insurance Operation Expenses-Exclusive of PICA
Expenses during 2009 reflect a number of cost variations, but changed little on a net basis.
Expenses for commissions, brokerage fees, and underwriting and sales salaries and benefits were higher
in 2009, both because we earned more non-physician premiums which carry higher expenses than
physician premiums and because more of our physician premium was generated by external
(commissioned) agents. Also, guaranty fund recoupments are lower in 2009 than in 2008. Partially
offsetting these higher costs is a $1.5 million reduction in share based compensation costs, due to a
different type of award made in 2009. Costs were also reduced in 2009 by a $1.8 million benefit related to
final settlement of the CHW Judgment (actual costs incurred were less than amounts previously
estimated).
Other Expense Information
Agency-related expenses. We operate several insurance agencies and provide benefit management
services on a limited basis through a separate PICA subsidiary. These activities generate commission and
service fee revenues, which are reported as a part of other income. The acquisition of Mid-Continent and
PICA increased these expenses in 2009. We have excluded the direct expenses of these activities from our
underwriting expense ratio computations because the activities are not associated with the generation of
premium revenues.
Guaranty fund assessments. Insurance operation expenses in the table above are reduced by net
recoupments from guaranty fund assessments of approximately $0.5 million and $1.3 million during 2009
and 2008, respectively.
Underwriting Expense Ratio-Exclusive of PICA
The 1.6 point increase in our underwriting expense ratio is primarily a result of a 7% decline in
net premiums earned in 2009 as compared to 2008, while expenses remained relatively flat. A non-
recurring expense reduction related to final settlement of the CHW litigation, as discussed above, reduced
our 2009 expenses; excluding this non-recurring item increases the 2009 ratio to 23.6%.
Underwriting Expense Ratio-PICA
PICA 2009 expenses include non-recurring transaction related expenses of approximately $2.5
million recorded during 2009. Excluding this non-recurring item decreases the PICA expense ratio to
72
15.9%. Almost 60% of PICA 2009 earned premium relates to policies written prior to the acquisition. In
accordance with the GAAP guidance for business combinations, we did not recognize any acquisition
expense for these policies. However, in 2010, almost all of our PICA earned premium will relate to
policies written after the acquisition. On average, in 2010 we would expect the PICA expense ratio to
approximate 22%.
Interest Expense
Consolidated
Interest expense decreased in 2009 as compared to 2008 primarily because we reduced
outstanding debt in the latter half of 2008. We converted all our Convertible Debentures in July of 2008
(aggregate principal of $107.6 million) and extinguished approximately $23 million of our 2034 Trust
Preferred Securities/Debentures (TPS/Debentures) in mid-December 2008. Also, rates on our variable
rate debt decreased by approximately 200 basis points in 2009 as compared to 2008. These reductions in
interest expense were partially offset by additional interest expense incurred in the latter half of 2009
related to debt and other liabilities assumed in the PICA acquisition (see Notes 3 and 10).
Interest expense by debt obligation is provided in the following table:
(In thousands)
Debt obligations held prior to PICA acquisition:
Convertible Debentures
Trust Preferred Securities/Debentures due 2034
Surplus Notes due May 2034
Surplus Note due February 2012
Debt assumed in the PICA acquisition:
2033 Surplus Notes
Note Payable due February 2019
Other (including PICA)
Year Ended December 31
2008
2009
Change
$
–
1,160
768
28
$ 2,283
3,463
1,138
–
$
(2,283)
(2,303)
(370)
28
147
900
–
–
147
900
474
$ 3,477
8
$ 6,892
466
(3,415)
$
Taxes
Consolidated
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
Other
Effective tax rate
Year Ended December 31
2008
35.0%
(7.0%)
0.4%
28.4%
2009
35.0%
(5.2%)
0.5%
30.3%
Tax exempt income had a less significant effect on our 2009 effective tax rate primarily because
2009 taxable income increased at a greater rate than tax-exempt income. Our 2009 taxable income
reflected impairment losses of $8.0 million, whereas 2008 taxable income reflected impairment losses of
$47.0 million. Also, we recognized more (a $22.0 million increase) favorable loss development in 2009
than in 2008 which also increased 2009 taxable income.
We expect to be able to realize the full benefit of deferred tax assets associated with impairment
losses because capital gains recognized during the statutory carryback period are sufficient to absorb the
impairment losses. A deferred tax asset valuation allowance of approximately $0.9 million has been
established related to PICA capital loss carry-forwards.
73
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.
Interest Rate Risk
Our fixed maturities portfolio is exposed to interest rate risk. Fluctuations in interest rates have a
direct impact on the market valuation of these securities. As interest rates rise, market values of fixed
income portfolios fall and vice versa. Certain of the securities are held in an unrealized loss position; we
do not intend to sell and believe we will not be required to sell any of the debt securities held in an
unrealized loss position before its anticipated recovery.
The following table summarizes estimated changes in the fair value of our available-for-sale fixed
maturity securities for specific hypothetical changes in interest rates by asset class at December 31, 2010.
There are principally two factors that determine interest rates on a given security: market interest rates
and credit spreads. As different asset classes can be affected in different ways by movements in those two
factors, we have broken out our portfolio by asset class in the following table.
December 31, 2010
Interest Rate Shift in Basis Points
(200)
(100)
Current
100
200
Fair Value (in millions):
U.S. Treasury obligations
U.S. Agency obligations
State and municipal bonds
Corporate bonds
Asset-backed securities
All fixed maturity securities
Duration:
U.S. Treasury obligations
U.S. Agency obligations
State and municipal bonds
Corporate bonds
Asset-backed securities
All fixed maturity securities
Fair Value (in millions):
U.S. Treasury obligations
U.S. Agency obligations
State and municipal bonds
Corporate bonds
Asset-backed securities
All fixed maturity securities
Duration:
U.S. Treasury obligations
U.S. Agency obligations
State and municipal bonds
Corporate bonds
Asset-backed securities
All fixed maturity securities
232
71
1,308
1,383
750
3,744
3.64
3.66
4.91
3.83
2.25
3.88
156
69
1,528
1,114
717
3,584
3.27
3.10
5.20
3.69
1.64
3.84
$
$
226
69
1,244
1,333
732
3,604
$
$
220
66
1,181
1,281
708
3,456
$
$
3.78
3.82
5.02
4.01
3.02
4.14
3.70
3.82
5.08
3.92
3.56
4.23
December 31, 2009
$
$
154
67
1,449
1,074
699
3,443
$
$
150
66
1,373
1,035
673
3,297
$
$
3.29
3.10
5.29
3.71
3.03
4.15
3.23
3.04
5.31
3.62
3.91
4.30
215
64
1,122
1,232
680
3,313
3.62
3.77
5.09
3.82
3.81
4.24
147
64
1,301
999
645
3,156
3.14
3.04
5.27
3.54
4.21
4.31
$
$
$
$
$
$
$
$
237
74
1,367
1,428
757
3,863
3.53
3.47
3.88
3.35
1.84
3.24
160
70
1,601
1,152
725
3,708
3.22
2.70
4.38
3.45
1.65
3.44
74
Interest Rate Risk (continued)
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, 2010 is on a cost basis
which approximates its fair value. This portfolio lacks significant interest rate sensitivity due to its short
duration.
Credit Risk
We have exposure to credit risk primarily as a holder of fixed income securities and due to the
amounts due from our reinsurers. We control this exposure by emphasizing investment grade credit
quality in the fixed income securities we purchase and by monitoring the credit standing of our reinsurers.
As of December 31, 2010, 97% of our fixed maturity securities are rated investment grade as
determined by Nationally Recognized Statistical Rating Organizations (NRSROs), such as A.M. Best,
Fitch, Moody's, and Standard & Poor's. We believe that this concentration in investment grade securities
reduces our exposure to credit risk on our fixed income investments to an acceptable level. However,
investment grade securities, in spite of their rating, can rapidly deteriorate and result in significant losses.
Ratings published by the NRSROs are one of the tools used to evaluate the credit worthiness of our
securities. The ratings reflect the subjective opinion of the rating agencies as to the credit worthiness of
the securities, and therefore, we may be subject to additional credit exposure should the rating prove to be
unreliable.
We hold $1.2 billion of municipal bonds. These bonds may have enhanced credit ratings as a
result of guarantees by an insurer, but we require the bonds that we purchase to meet our credit criteria on
a stand-alone basis. As of December 31, 2010, on a stand-alone basis, our municipal bonds have a
weighted average rating of AA.
Our receivable from reinsurers on paid and unpaid losses at December 31, 2010 is $282 million.
A detail listing of individual reinsurance balances of greater than $10 million and the current credit rating
of that reinsurer is provided in capital and liquidity under the sub-header “Reinsurance.”
Equity Price Risk
At December 31, 2010 the fair value of our investment in common stocks was $40.8 million.
These securities are subject to equity price risk, which is defined as the potential for loss in fair value due
to a decline in equity prices. The weighted average beta of this group of securities is 1.00. 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 10% to $44.9 million. Conversely, a 10%
decrease in the S&P 500 Index would imply a decrease of 10% in the fair value of these securities to
$36.7 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.
75
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 81. The
Supplementary Financial Information required by Item 302 of Regulation S-K is included in Note 17 to
the 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,
2010. 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, 2010 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, 2010 and that there was no change in the Company's internal controls
during the fiscal year then ended that has materially affected, or is reasonably likely to materially affect,
the Company's internal control over financial reporting, other than as described below.
Our management excluded APS’s systems and processes from the scope of our assessment of
internal control over financial reporting as of December 31, 2010 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 APS from that scope because we expect
substantially all of its significant systems and processes to be converted to those of ProAssurance during
2011. At December 31, 2010 APS represented $324.2 million or 6.6% of total assets, and $6.2 million or
0.9% of total revenues for the year then ended.
Ernst & Young LLP, an independent registered public accounting firm, has audited the
effectiveness of our internal controls over financial reporting as of December 31, 2010 as stated in their
report which is included elsewhere herein.
ITEM 9B. OTHER INFORMATION.
None
76
The Board of Directors and Stockholders of ProAssurance Corporation
Report of Independent Registered Public Accounting Firm
We have audited ProAssurance Corporation and subsidiaries’ internal control over financial reporting as
of December 31, 2010, 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 and subsidiaries’ management is responsible for maintaining effective internal control over
financial reporting, and for its assessment of the effectiveness of internal control over financial reporting
included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our
responsibility is to express an opinion on the company’s internal control over financial reporting based on our
audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether effective internal control over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing
the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal
control based on the assessed risk, 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 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 American Physicians Services Group, which is included in the 2010
consolidated financial statements of ProAssurance Corporation and subsidiaries and constituted 6.7% and 10.4%
of total and net assets, respectively, as of December 31, 2010, and .9% and .4% of revenues and net income,
respectively, for the year then ended. Our audit of internal control over financial reporting of ProAssurance
Corporation and subsidiaries also did not include an evaluation of the internal control over financial reporting of
American Physicians Services Group.
In our opinion, ProAssurance Corporation and subsidiaries maintained, in all material respects, effective
internal control over financial reporting as of December 31, 2010, 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 as of December 31, 2010 and 2009, 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, 2010, of ProAssurance Corporation and subsidiaries and our report dated February 23,
2011 expressed an unqualified opinion thereon.
Birmingham, Alabama
February 23, 2011
/s/ Ernst & Young, LLP
77
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 25 and 26) 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 2011
Annual Meeting of its Stockholders to be filed with the Securities and Exchange Commission pursuant to
Regulation 14A on or before April 8, 2011.
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 2011 Annual
Meeting of its Stockholders to be filed with the Securities and Exchange Commission pursuant to
Regulation 14A on or before April 8, 2011.
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 2011 Annual
Meeting of its Stockholders to be filed with the Securities and Exchange Commission pursuant to
Regulation 14A on or before April 8, 2011.
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 2011 Annual
Meeting of its Stockholders to be filed with the Securities and Exchange Commission pursuant to
Regulation 14A on or before April 8, 2011.
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 2011 Annual
Meeting of its Stockholders to be filed with the Securities and Exchange Commission pursuant to
Regulation 14A on or before April 8, 2011.
78
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 Registered Public Accounting Firm
Consolidated Balance Sheets – December 31, 2010 and 2009
Consolidated Statements of Changes in Capital – years ended December 31,
2010, 2009 and 2008
Consolidated Statements of Income – years ended December 31, 2010, 2009 and
2008
Consolidated Statements of Cash Flow – years ended December 31, 2010, 2009
and 2008
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
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.
79
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 23rd day of February 2011.
PROASSURANCE CORPORATION
By: /s/W. Stancil Starnes
W. Stancil Starnes
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/W. Stancil Starnes
W. Stancil Starnes
/s/Edward L. Rand, Jr.
Edward L. Rand, Jr.
/s/Victor T. Adamo
Victor T. Adamo
/s/Lucian F. Bloodworth
Lucian F. Bloodworth
/s/Jerry D. Brant
Jerry D. Brant
/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.
John J. McMahon, Jr.
/s/Drayton Nabers, Jr.
Drayton Nabers, 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 23, 2011
Chief Financial Officer
February 23, 2011
President
February 23, 2011
February 23, 2011
February 23, 2011
February 23, 2011
February 23, 2011
February 23, 2011
February 23, 2011
February 23, 2011
February 23, 2011
February 23, 2011
Director
Director
Director
Director
Director
Director
Director
Director
Director
80
ProAssurance Corporation and Subsidiaries
Consolidated Financial Statements
Years Ended December 31, 2010, 2009 and 2008
Table of Contents
Report of Independent Registered Public Accounting Firm ....................................................................... 82
Audited Consolidated Financial Statements
Consolidated Balance Sheets ...................................................................................................................... 83
Consolidated Statements of Changes in Capital ......................................................................................... 84
Consolidated Statements of Income ............................................................................................................ 85
Consolidated Statements of Cash Flow ...................................................................................................... 86
Notes to Consolidated Financial Statements ............................................................................................... 88
81
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders of ProAssurance Corporation
We have audited the accompanying consolidated balance sheets of ProAssurance Corporation
and subsidiaries as of December 31, 2010 and 2009, 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, 2010. 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, 2010
and 2009, and the consolidated results of their operations and their cash flow for each of the three years in
the period ended December 31, 2010, 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), ProAssurance Corporation’s internal control over financial reporting as
of December 31, 2010, 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 23, 2011 expressed an unqualified opinion thereon.
/s/ Ernst & Young, LLP
Birmingham, Alabama
February 23, 2011
82
ProAssurance Corporation and Subsidiaries
Consolidated Balance Sheets
(In thousands, except share data)
Assets
Investments
Fixed maturities available for sale, at fair value
Equity securities, available for sale, at fair value
Equity securities, trading, at fair value
Short-term investments
Business owned life insurance
Investment in unconsolidated subsidiaries
Other investments
Total Investments
Cash and cash equivalents
Premiums receivable
Receivable from reinsurers on paid losses and loss adjustment expenses
Receivable from reinsurers on unpaid losses and loss adjustment expenses
Prepaid reinsurance premiums
Deferred policy acquisition costs
Deferred taxes
Real estate, net
Amortizable intangible assets
Goodwill
Other assets
Total Assets
Liabilities and Shareholders' Equity
Liabilities
Policy liabilities and accruals
December 31
December 31
2010
2009
$ 3,603,754
$ 3,442,995
3,637
37,286
168,438
50,484
88,754
38,078
3,579
43,826
187,059
65,003
48,502
47,258
3,990,431
3,838,222
50,851
120,950
4,582
277,436
11,023
27,281
56,862
43,951
45,781
161,453
84,455
40,642
116,403
16,778
262,659
11,836
25,493
68,806
44,496
9,973
122,317
89,789
$ 4,875,056
$ 4,647,414
Reserve for losses and loss adjustment expenses
$ 2,414,100
$ 2,422,230
Unearned premiums
Reinsurance premiums payable
Total Policy Liabilities
Other liabilities
Long-term debt, $35,488 and $35,463, at amortized cost, respectively; $15,616 and
$14,740 at fair value, respectively
Total Liabilities
Shareholders' Equity
Common shares, par value $0.01 per share, 100,000,000 shares authorized, 34,419,383
and 34,223,346 shares issued, respectively
Additional paid-in capital
Accumulated other comprehensive income (loss), net of deferred tax expense (benefit) of
$42,607 and $31,908, respectively
Retained earnings
Treasury shares, at cost, 3,666,149 shares and 1,811,356 shares, respectively
Total Shareholders' Equity
256,050
111,680
2,781,830
186,259
51,104
3,019,193
344
532,213
79,124
1,428,026
2,039,707
(183,844)
1,855,863
244,212
113,994
2,780,436
112,180
50,203
2,942,819
342
526,068
59,254
1,196,428
1,782,092
(77,497)
1,704,595
Total Liabilities and Shareholders' Equity
$ 4,875,056
$ 4,647,414
See accompanying notes.
83
ProAssurance Corporation and Subsidiaries
Consolidated Statements of Changes in Capital
(In thousands)
Balance at January 1, 2008
Purchase of treasury shares
Conversion of convertible debentures
Common shares issued for compensation
Share-based compensation
Net effect of stock options exercised
Comprehensive income:
Other comprehensive income (loss) (see Note 11)
Net income
Total comprehensive income
Balance at December 31, 2008
Cumulative effect of accounting change (see Note 1)
Purchase of treasury shares
Treasury shares issued in acquisition (see Note 2)
Common shares issued for compensation
Share-based compensation
Net effect of stock options exercised
Comprehensive income:
Other comprehensive income (loss) (see Note 11)
Net income
Total comprehensive income
Balance at December 31, 2009
Purchase of treasury shares
Common shares issued for compensation
Share-based compensation
Net effect of stock options exercised
Comprehensive income:
Other comprehensive income (loss) (see Note 11)
Net income
Total comprehensive income
Balance at December 31, 2010
Common
Stock
$
$
336
–
4
1
–
–
–
–
–
341
–
–
–
1
–
–
–
–
–
342
–
1
–
1
–
–
–
344
Additional
Paid-in
Capital
$ 505,923
–
1,092
3,810
7,763
99
Accumulated Other
Comprehensive
Income (Loss)
9,902
$
–
–
–
–
–
Retained
Earnings
$ 793,166
–
–
–
–
–
$
Treasury
Stock
(54,257)
(87,561)
111,382
–
–
–
Total
$ 1,255,070
(87,561)
112,478
3,811
7,763
99
–
–
–
518,687
–
–
177
1,218
6,210
(224)
–
–
–
526,068
–
2,958
6,138
(2,951)
–
–
–
$ 532,213
$
(45,800)
–
–
(35,898)
(3,511)
–
–
–
–
–
98,663
–
–
59,254
–
–
–
–
19,870
–
–
79,124
–
177,725
–
970,891
3,511
–
–
–
–
–
–
222,026
–
1,196,428
–
–
–
–
–
231,598
–
$ 1,428,026
–
–
–
(30,436)
–
(52,045)
4,984
–
–
–
–
–
–
(77,497)
(106,347)
–
–
–
131,925
1,423,585
–
(52,045)
5,161
1,219
6,210
(224)
320,689
1,704,595
(106,347)
2,959
6,138
(2,950)
–
–
–
$ (183,844)
251,468
$ 1,855,863
See accompanying notes.
84
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
Equity in earnings (loss) of unconsolidated subsidiaries
Net realized investment gains (losses):
Other-than-temporary impairment losses (OTTI)
Portion of OTTI losses recognized in (reclassified from) other
comprehensive income (before taxes)
Net impairment losses recognized in earnings
Other net realized investment gains (losses)
Total net realized investment gains (losses)
Gain on extinguishment of debt
Other income
Total revenues
Expenses
Losses and loss adjustment expenses
Reinsurance recoveries
Net losses and loss adjustment expenses
Underwriting, policy acquisition and operating expenses
Interest expense
Loss on extinguishment of debt
Total expenses
Income before income taxes
Provision for income taxes
Current expense (benefit)
Deferred expense (benefit)
Total income tax expense (benefit)
Net income
Earnings per share:
Basic
Diluted
Year Ended December 31
2009
2008
2010
$ 533,205
$ 553,922
$ 471,482
$ 505,407
$ 514,043
$ 429,007
$ 548,955
(29,848)
519,107
146,380
1,245
(14,375)
(1,474)
(15,849)
33,191
17,342
–
7,991
692,065
252,615
(31,500)
221,115
134,980
3,293
–
359,388
$ 540,012
(42,469)
497,543
150,945
1,438
(8,172)
199
(7,973)
20,765
12,792
$ 503,579
(44,301)
459,278
158,384
(7,997)
(47,020)
–
(47,020)
(3,893)
(50,913)
–
9,965
672,683
4,571
3,839
567,162
265,983
(34,915)
231,068
116,537
3,477
2,839
353,921
267,412
(55,913)
211,499
100,385
6,892
–
318,776
332,677
318,762
248,386
105,479
(4,400)
101,079
70,122
26,614
96,736
70,894
(233)
70,661
$ 231,598
$ 222,026
$ 177,725
$
$
7.29
7.20
$
$
6.76
6.70
$
$
5.43
5.22
Weighted average number of common shares outstanding
Basic
Diluted
31,788
32,176
32,848
33,150
32,750
34,362
See accompanying notes.
85
ProAssurance Corporation and Subsidiaries
Consolidated Statements of Cash Flow
(In thousands)
Year Ended December 31
2009
2008
2010
$ 231,598
$ 222,026
$
177,725
22,071
4,600
–
(1,617)
(17,342)
6,138
(4,400)
(1,788)
(6,562)
8,216
12,196
(8,794)
813
7,253
(96,232)
(14,275)
(4,402)
1,718
139,191
(840,366)
(9,675)
(14,312)
(5,383)
(35,608)
961,334
9,882
36,740
1,279
27,676
(215,726)
16,136
48,599
(2,923)
(22,347)
(303)
(106,346)
–
1,847
(1,833)
(106,635)
10,209
40,642
$ 50,851
$
15,434
4,221
2,839
(1,563)
(12,792)
6,210
26,614
(5,988)
(535)
(11,042)
1,088
11,171
2,374
2,758
(126,657)
14,021
(15,153)
(59,617)
75,409
(930,168)
(720)
(33,156)
(292)
(2,542)
808,145
6,362
26,072
2,180
271,043
(124,509)
–
5,345
(6,917)
20,843
(7,000)
(52,045)
–
237
(261)
(59,069)
37,183
3,459
40,642
13,424
3,147
(4,571)
(1,931)
50,913
7,763
(233)
2,615
6,511
12,556
21,741
58,755
1,826
13,685
(180,239)
(32,272)
(705)
17,173
167,883
(737,851)
(2,701)
(3,976)
(278)
(25,752)
903,575
956
872
4,238
(212,179)
–
–
(18,111)
(3,470)
(94,677)
(18,366)
(87,561)
5,807
189
(90)
(100,021)
(26,815)
30,274
3,459
$
Operating Activities
Net income
Adjustments to reconcile income to net cash provided by operating activities
Amortization, net of accretion
Depreciation
Loss (gain) on extinguishment of debt
Increase in cash surrender value of business owned life insurance
Net realized investment (gains) losses
Share-based compensation
Deferred income taxes
Policy acquisition costs deferred, net of related amortization
Other
Changes in assets and liabilities, excluding effect of business combinations:
Premiums receivable
Receivable from reinsurers on paid losses and loss adjustment expense
Receivable from reinsurers on unpaid losses and loss adjustment expenses
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
Investing Activities
Purchases of:
Fixed maturities available for sale
Equity securities available for sale
Equity securities trading
Other investments
Cash investment in unconsolidated subsidiaries
Proceeds from sale or maturities of:
Fixed maturities available for sale
Equity securities available for sale
Equity securities trading
Other investments
Net sales or maturities of short-term investments, excluding unsettled redemptions
Cash paid for acquisitions, net of cash received
Redemption of business owned life insurance
Unsettled security transactions, net
Other
Net cash provided by (used by) investing activities
Financing Activities
Repayment of long-term debt
Repurchase of common stock
Book overdraft
Excess tax benefit from share-based payment arrangements
Other
Net cash provided by (used by) financing activities
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
(continued)
See accompanying notes.
86
ProAssurance Corporation and Subsidiaries
Consolidated Statements of Cash Flow
(In thousands)
Supplemental Disclosure of Cash Flow Information
Net cash paid during the year for income taxes
Cash paid during the year for interest
Significant non-cash transactions
Other investments transferred, at fair value, to fixed maturities
Common shares issued in acquisition
Unsettled redemption of short-term money market investment
Equity increase due to conversion of debt–see Notes 10 and 11
Year Ended December 31
2009
2008
2010
$ 91,287
3,270
$
$ 89,915
4,277
$
$ 48,479
6,439
$
$
$
$
$
9,923
–
–
–
$
$
$
$
–
5,161
3,090
–
–
$
–
$
$
9,427
$ 112,478
See accompanying notes.
87
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
1. Accounting Policies
Organization and Nature of Business
ProAssurance Corporation (ProAssurance or PRA), 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 and other professional services. ProAssurance operates in the United States of
America (U.S.) in a single reportable segment.
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of ProAssurance
Corporation and its wholly-owned subsidiaries. Investments in entities where ProAssurance holds a
greater than minor interest but does not hold a controlling interest are accounted for using the equity
method. All significant intercompany accounts and transactions are eliminated in consolidation.
Basis of Presentation
The preparation of financial statements in conformity with GAAP requires management to make
estimates and assumptions that affect the reported amounts of assets and liabilities, revenues and
expenses, and disclosures related to these amounts at the date of the financial statements. Actual results
could differ from those estimates.
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.
Recognition of Revenues
Insurance premiums are recognized as revenues pro rata over the terms of the policies, which are
generally one year in duration.
At December 31, 2010 ProAssurance has established allowances for credit losses related to
premium and agency receivables as follows:
(in thousands)
Allowance for credit losses, December 31, 2009
Year ended December 31, 2010:
Estimated credit losses
Account write offs, net of recoveries
Allowance for credit losses, December 31, 2010
*Classified as a part of Other Assets
Premium
Receivables
$ 1,030
147
(147)
$ 1,030
Agency
Receivables*
$
442
300
(413)
328
$
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 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.
Management establishes the reserve for losses after taking into consideration a variety of factors
including the conclusions reached by internal actuaries, premium rates, claims frequency, historical paid
88
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
1. Accounting Policies (continued)
and incurred loss development trends, the effect of inflation, general economic trends, the legal and
political environment, and the reports received from external actuaries. Internal actuaries perform an in-
depth review of the reserve for losses at least semi-annually using the loss and exposure data of
ProAssurance subsidiaries. Management engages external actuaries to review subsidiary loss and
exposure data and provide reports to Management regarding the adequacy of 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, as is the case in 2010, 2009 and
2008.
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.
Reinsurance Receivables
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 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 on Paid Losses is the estimated amount of losses already paid that
will be recoverable from reinsurers. Receivable from Reinsurers on Unpaid Losses is the estimated
amount of future loss payments that will be recoverable from reinsurers. Reinsurance Recoveries are the
portion of losses incurred during the period that are estimated to be allocable to reinsurers. Premiums
ceded are the estimated premiums that will be due to reinsurers with respect to premiums earned and
losses incurred during the period.
These estimates are based upon management’s estimates of ultimate losses and the portion of
those losses that are allocable to reinsurers under the terms of the related reinsurance agreements. Given
the uncertainty of the ultimate amounts of losses, these estimates may vary significantly from the eventual
outcome. Management regularly reviews these estimates and any adjustments necessary are reflected in
the period in which the estimate is changed. Due to the size of the receivable from reinsurers, even a
small adjustment to the estimates could have a material effect on ProAssurance’s results of operations for
the period in which the change is made.
Reinsurance contracts do not relieve ProAssurance from its obligations to policyholders.
ProAssurance continually monitors its reinsurers to minimize its exposure to significant losses from
reinsurer insolvencies. Any amount determined to be uncollectible is written off in the period in which the
uncollectible amount is identified.
Investments
Fair Values
Fair value is determined using an exchange traded price, if available, or market information as
provided by independent pricing services. Fair values for securities not actively traded are estimated using
89
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
1. Accounting Policies (continued)
exchange traded prices for similar assets, when available, or other multiple observable inputs.
Management reviews valuations of securities obtained from the pricing services for accuracy based upon
the specifics of the security, including class, maturity, credit rating, durations, collateral, and comparable
markets for similar securities.
Multiple observable inputs are not available for certain of our investments, including municipal
bonds and corporate debt not actively traded, a private annuity and interests in private investment funds.
Management values municipal bonds and corporate debt either using a single non-binding broker quote or
pricing models that utilize market based assumptions that have limited observable inputs. Annuities are
valued using a discounted cash flow model. Management values interests in private investment funds
based on the net asset value of the interest held, as provided by the fund.
Fixed Maturities and Equity Securities
Fixed maturities and equity securities are considered as either available-for-sale or trading
securities.
Available-for-sale securities are carried at fair value, as described above, and unrealized gains
and losses on such available-for-sale securities are included, net of related tax effects, in Stockholders’
Equity as a 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 portfolio securities are carried at fair value, as described above, 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 a maturity at purchase 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
Investments in limited partnerships/liability companies where ProAssurance has virtually no
influence over the operating and financial policies of an investee are accounted for using the cost method.
Under the cost method, investments are valued at cost, with investment income recognized when
received.
Investment in Unconsolidated Subsidiaries
Investments in limited partnerships/liability companies where ProAssurance is deemed to have
influence because it holds a greater than minor interest are accounted for using the equity method. Under
the equity method, the recorded basis of the investment is adjusted each period for the investor’s pro rata
share of the investee’s income or loss. Investments in unconsolidated subsidiaries include tax credit
partnerships accounted for using the equity method, whereby ProAssurance’s proportionate share of
income or loss is included in investment income. Tax credits received from the partnerships are
recognized in the period received as a reduction to current tax expenses.
Business Owned Life Insurance (BOLI)
ProAssurance owns life insurance contracts on certain management employees. The life insurance
contracts are carried at their current cash surrender value. Changes in the cash surrender value are
90
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
1. Accounting Policies (continued)
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.
Realized Gains and Losses
Realized investment gains and losses are recognized on the specific identification basis.
Other-than-temporary Impairments
ProAssurance evaluates its investment securities on at least a quarterly basis for declines in fair
value below recorded cost basis for the purpose of determining whether these declines represent other-
than-temporary declines. The assessment of whether the amortized cost basis of debt securities,
particularly asset-backed debt securities, is expected to be recovered requires management to make
assumptions regarding various matters affecting cash flows to be received in the future. The choice of
assumptions is subjective and requires the use of judgments; actual credit losses experienced in future
periods may differ from management’s estimates of those credit losses.
If there is intent to sell the security or if it is more likely than not that the security will be required
to be sold before full recovery of its amortized cost basis, ProAssurance considers a decline in fair value
to be an other-than-temporary impairment. Otherwise, ProAssurance considers the following factors in
determining whether an investment’s decline is other-than-temporary:
For equity securities:
the length of time for which the fair value of the investment has been less than its
recorded basis;
the financial condition and near-term prospects of the issuer underlying the
investment, taking into consideration the economic prospects of the issuer's industry
and geographical region, to the extent that information is publicly available;
the historical and implied volatility of the fair value of the security;
For debt securities, an evaluation is made as to whether the decline in fair value is due to
credit loss, which is defined as the excess of the current amortized cost basis of the security over
the present value of expected future cash flows. Methodologies used to estimate the present value
of expected cash flows to determine if a decline is due to a credit loss are:
For non-structured fixed maturities (U.S. Treasury securities, obligations of U.S.
Government and government agencies and authorities, obligations of states,
municipalities and political subdivisions, and corporate debt) the estimate of expected
cash flows is determined by projecting a recovery value and a recovery time frame
and assessing whether further principal and interest will be received. ProAssurance
considers the following in projecting recovery values and recover time frames:
third party research and credit rating reports;
the current credit standing of the issuer, including credit rating downgrades,
whether before or after the balance sheet date;
internal assessments and the assessments of external portfolio managers regarding
specific circumstances surrounding an investment, which indicate the investment is
more or less likely to recover its amortized cost than other investments with a
similar structure;
failure of the issuer of the security to make scheduled interest or principal
payments;
For structured securities (primarily asset-backed securities), ProAssurance estimates
the present value of the security’s cash flows using the effective yield of the security at
91
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
1. Accounting Policies (continued)
the date of acquisition (or the most recent implied rate used to accrete the security if the
implied rate has changed as a result of a previous impairment or changes in expected
cash flows). ProAssurance incorporates six month averages of the levels of
delinquencies, defaults, severities, and prepayments in the securitization, for the
parameters applied to the assets underlying the securitization in determining the net
present value of the cash flows.
Investments in private investment funds are evaluated for impairment by comparing
ProAssurance’s carrying value to net asset value (NAV) of ProAssurance’s interest in the fund as reported
by the fund manager. Additionally, Management considers the performance of the fund relative to the
market, the stated objectives of the fund, and cash flows expected from the fund and fund audit reports, if
available.
Tax credit partnership investments are evaluated for OTTI by comparing cash flow projections of
future operating results of the underlying projects generating the tax credits to the recorded value of the
investment, taking into consideration ProAssurance’s ability to utilize the tax credits from the
investments.
ProAssurance recognizes other than temporary impairments, including impairments of debt
securities due to credit loss, in earnings as a part of net realized investment gains (losses). In subsequent
periods, any measurement of gain or loss or impairment is based on the revised amortized basis of the
security. Declines in fair value, including impairments of debt securities that are not evaluated as being
due to credit loss, not considered to be other-than-temporary are recognized in other comprehensive
income.
Asset-backed securities that have been impaired due to credit or are below investment grade
quality are accounted for under the effective yield method. Under the effective yield method estimates of
cash flows expected over the life of asset-backed securities are then used to recognize income on the
investment balance for subsequent accounting periods.
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.
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.
Income Taxes/Deferred Taxes
ProAssurance files a consolidated federal income tax return. Tax-related interest and penalties are
recognized as components of tax expense.
Deferred federal income taxes arise from the recognition of temporary differences between the
basis of assets and liabilities determined for financial reporting purposes and the basis determined for
income tax purposes. ProAssurance’s temporary differences principally relate to loss reserves, unearned
premium, deferred policy acquisition costs, unrealized investment gains (losses), investment impairments
and intangibles. Deferred tax assets and liabilities are measured using the enacted tax rates expected to be
in effect when such benefits are realized. ProAssurance reviews its deferred tax assets quarterly for
impairment. If management determines that it is more likely than not that some or all of a deferred tax
92
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
1. Accounting Policies (continued)
asset will not be realized, a valuation allowance is recorded to reduce the carrying value of the asset. In
assessing the need for a valuation allowance, management is required to make certain judgments and
assumptions about the future operations of ProAssurance based on historical experience and information
as of the measurement period regarding reversal of existing temporary differences, carryback capacity,
future taxable income, including its capital and operating characteristics, and tax planning strategies.
Changes in tax laws and rates could also affect recorded deferred tax assets and liabilities in the
future. Management is not aware of any such changes that would have a material effect on the Company’s
results of operations, cash flows or financial position.
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, but also includes land and a building held for sale.
Properties held for sale have a combined carrying value of approximately $4.2 million. Depreciation is
computed over the estimated useful lives of the related property using the straight-line method. Excess
office capacity is leased or made available for lease; rental income is included in other income and real
estate expenses are included in underwriting, policy acquisition and operating expenses.
Real estate accumulated depreciation is approximately $17.2 million and $15.9 million at
December 31, 2010 and 2009, respectively. Real estate depreciation expense for the three years ended
December 31, 2010, 2009 and 2008 is $1.4 million, $1.2 million and $1.0 million, respectively.
Amortizable Intangible Assets
Intangible assets with definite lives are amortized over the estimated useful life of the asset.
Intangible assets with an indefinite life are not amortized. Intangible assets are evaluated for impairment
on an annual basis. Accumulated amortization of intangible assets is $11.2 million and $10.9 million at
December 31, 2010 and 2009.
Goodwill
ProAssurance makes at least an annual assessment as to whether the value of its goodwill assets
are impaired. Management evaluates the carrying value of goodwill annually during the fourth quarter
and before the annual evaluation if events occur or circumstances change that would more likely than not
reduce the fair value below the carrying value. Because ProAssurance operates in a single operating
segment and all components within the segment are economically similar, ProAssurance is considered a
single reporting unit for the purposes of the impairment evaluation. In assessing goodwill, Management
estimates the fair value of the reporting unit on the evaluation date based on the Company’s market
capitalization and an expected premium that would be paid to acquire control of the Company (a control
premium) and performs a sensitivity analysis using a range of historical stock prices and control
premiums. Management concluded in 2010, 2009, and 2008 that the fair value of the Company’s
reporting unit exceeded the carrying value and no adjustment to impair goodwill was necessary.
Goodwill approximated $161.5 million at December 31, 2010 and $122.3 million at December
31, 2009. The increase during 2010 is entirely attributable to acquisitions as described in Note 2.
93
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
1. Accounting Policies (continued)
Treasury Stock
Treasury shares are reported at cost, and are reflected on the balance sheets as an unallocated
reduction of total equity.
Share-Based Payments
ProAssurance recognizes compensation cost for share-based payments (including stock options,
performance shares and restricted share units) using the modified prospective method whereby the
methodology for recognizing compensation expense differs depending upon the grant date of each share-
based payment award. Compensation cost for awards granted after January 1, 2006 is recognized based
on the grant-date fair value of the award over the relevant service period of the award; for awards that
vest in increments (graded vesting), compensation cost is recognized over the relevant service period for
each separately vested portion of the award. Compensation cost for awards granted prior to January 1,
2006 but not vested on January 1, 2006 is recognized over the remaining service period related to those
awards, using the same calculation methodologies, including grant-date fair values, as was used to
prepare pro forma disclosures prior to January 1, 2006. Excess tax benefits (tax deductions realized in
excess of the compensation costs recognized for the exercise of the awards, multiplied by the incremental
tax rate) are reported as financing cash inflows.
Subsequent Events
In connection with its preparation of the Consolidated Financial Statements, ProAssurance has
evaluated events that occurred subsequent to December 31, 2010, for recognition or disclosure in its
financial statements and notes to the financial statements.
Accounting Changes Adopted
Subsequent Events
In February 2010 the FASB issued amended guidance on disclosure of subsequent events that
was effective immediately. The guidance eliminates the requirement for an SEC filer to disclose the date
through which it has evaluated subsequent events. Adoption had no effect on ProAssurance’s results of
operations or financial position.
Fair Value Measurements
Effective for interim and annual reporting periods beginning after December 15, 2009 or
December 15, 2010, as specified, the FASB revised GAAP guidance related to fair value measurement to
require additional disclosures and to clarify certain existing disclosure requirements. The guidance is
intended to improve the disclosures and increase transparency in financial reporting. ProAssurance
adopted the revised guidance on January 1, 2010 except for disclosures about purchases, sales, issuances,
and settlements in the roll forward of activity in Level 3 fair value measurements which are effective for
interim and annual reporting periods beginning on or after December 15, 2010; adoption had no effect on
ProAssurance’s results of operations or financial position.
Own-Share Lending Arrangements in Contemplation of Convertible Debt Issuance
Effective for interim and annual reporting periods beginning on or after December 15, 2009 for
outstanding arrangements and effective otherwise for reporting periods beginning on or after June 15,
2009, the FASB issued guidance related to share-lending arrangements for an entity’s own shares
executed in contemplation of a convertible debt offering or other financing. ProAssurance adopted the
guidance on January 1, 2010; adoption had no effect on ProAssurance’s results of operations or financial
position.
94
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
1. Accounting Policies (continued)
Consolidation of Variable Interest Entities
Effective at the start of a reporting entity’s first fiscal year beginning after November 15, 2009,
the FASB revised guidance which changes how a reporting entity determines whether or not to
consolidate its interest in an entity that is insufficiently capitalized or is not controlled through voting (or
similar) rights. The determination of whether a reporting entity is required to consolidate another entity is
now based on, among other things, the other entity’s purpose and design and the reporting entity’s ability
to direct the activities of the other entity that most significantly impact the other entity’s economic
performance. The revised guidance also requires the reporting entity to provide additional disclosures
about its involvement with variable interest entities and any significant changes in risk exposure due to
that involvement. A reporting entity will be required to disclose how its involvement with a variable
interest entity affects the reporting entity’s financial statements. ProAssurance adopted the revised
guidance on January 1, 2010; adoption had no material effect on ProAssurance’s results of operations or
financial position.
Transfers and Servicing-Accounting for Transfers of Financial Assets
Effective at the start of a reporting entity’s first fiscal year beginning after November 15, 2009,
the FASB revised guidance that requires additional disclosure regarding transfers of financial assets,
including securitization transactions, where entities have continuing exposure to risks related to the
transferred financial assets. ProAssurance adopted the revised guidance on January 1, 2010; adoption had
no effect on ProAssurance’s results of operations or financial position.
Investments—Disclosure Requirements; Other-than-temporary Impairments
Effective for interim and annual reporting periods ending on or after June 15, 2009, the FASB
revised GAAP to require expanded disclosures related to investments in debt and equity securities.
Guidance regarding other-than-temporary impairments was also revised. Previous investment guidance
required that an impairment of a debt security be considered as other-than-temporary unless management
could assert both the intent and the ability to hold the impaired security until recovery of value. The
revised impairment guidance specifies that an impairment be considered as other-than-temporary unless
an entity can assert that it has no intent to sell the security and that it is not more likely than not that the
entity will be required to sell the security before recovery of its anticipated amortized cost basis.
The guidance establishes the concept of credit loss. Credit loss is defined as the difference
between the present value of the cash flows expected to be collected from a debt security and the
amortized cost basis of the security. The new guidance states that “…in instances in which a
determination is made that a credit loss exists but the entity does not intend to sell the debt security and it
is not more likely than not that the entity will be required to sell the debt security before the anticipated
recovery of its remaining amortized cost basis” an impairment is to be separated into (a) the amount of the
total impairment related to the credit loss and (b) the amount of total impairment related to all other
factors. The credit loss component of the impairment is to be recognized in income of the current period.
The non-credit component is to be recognized as a part of other comprehensive income (OCI). Transition
provisions require a cumulative effect adjustment to reclassify the noncredit component of a previously
recognized other-than-temporary impairment from retained earnings to accumulated other comprehensive
income “…if an entity does not intend to sell and it is not more likely than not that the entity will be
required to sell the security before recovery of its amortized cost basis.” We adopted the revised guidance
on the date it became effective, which for ProAssurance was April 1, 2009. On the date of adoption our
debt securities included non-credit impairment losses previously recognized in earnings of approximately
$5.4 million. In accordance with the transition provisions of the revised guidance, we reclassified these
95
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
1. Accounting Policies (continued)
non-credit losses, net of tax, from retained earnings to accumulated other comprehensive income as of
April 1, 2009, the date of adoption (a $3.5 million increase to retained earnings; a $3.5 million decrease to
accumulated other comprehensive income).
Business Combinations
Effective prospectively for business combinations for which the acquisition date is on or after the
beginning of the first annual reporting period beginning on or after December 15, 2010, the FASB issued
guidance related to pro forma disclosure information for business combinations. The guidance clarifies
that the required pro forma revenue and earnings disclosures should be prepared as if the business
combination had occurred at the beginning of the prior annual reporting period. The guidance also
expands supplemental pro forma disclosures to include a description of the nature and amount of material,
nonrecurring pro forma adjustments included in the reported pro forma revenue and earnings. Early
adoption is permitted and ProAssurance has adopted the guidance as of December 31, 2010 and has
prepared its pro forma business combination disclosures in accordance with the guidance.
Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses
During 2010 the FASB issued new guidance, effective for interim or annual reporting periods
beginning on or after December 15, 2010, that requires entities to disclose detailed information regarding
the credit quality of financing receivables, including credit risk exposures and the allowance for credit
losses. ProAssurance has adopted the guidance effective for the annual reporting period ended December
31, 2010.
Accounting Changes Not Yet Adopted
Intangibles-Goodwill and Other
Effective for interim and annual reporting periods beginning after December 15, 2010, the FASB
revised guidance related to goodwill impairment testing. The revised guidance clarifies that when
evaluating goodwill associated with a reporting unit that has a zero or negative carrying value, an initial
determination should be made as to whether it is more likely than not that the goodwill is impaired. When
impairment is more likely than not, the goodwill is required to be tested for impairment. Adoption of this
guidance is not expected to have a material effect on our results of operations or financial position.
Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts
Effective for fiscal years beginning after December 15, 2011, the FASB revised guidance
regarding the interpretation of which costs relating to the acquisition of new or renewal insurance
contracts qualify for deferral. The guidance permits deferral of qualifying costs associated only with
successful contract acquisitions. The portion of internal selling agent and underwriter salary and benefit
costs allocated to unsuccessful contracts, as well as advertising costs, are excluded. The guidance should
be applied prospectively, but may be applied retrospectively for all prior periods. Adoption of this
guidance is not expected to have a material effect on our results of operations or financial position.
2. Acquisitions
All entities acquired in 2010 and 2009 have been accounted for in accordance with GAAP
relating to business combinations and are considered to be a part of ProAssurance’s sole reporting
segment, the professional liability segment. No entities were acquired in 2008.
96
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
2. Acquisitions (continued)
On November 30, 2010 ProAssurance acquired 100% of the outstanding shares of American
Physicians Service Group, Inc. (APS) as a means of expanding its professional liability business. Total
purchase consideration transferred had a fair value of $237 million on the acquisition date, November 30,
2010 and included cash of $233 million and deferred compensation commitments of $4 million.
ProAssurance incurred expenses related to the purchase of approximately $2 million during 2010,
primarily in the third and fourth quarters. These expenses have been included as a part of operating
expenses in the periods incurred.
On April 1, 2009 ProAssurance acquired Podiatry Insurance Company of America and
subsidiaries (PICA) through a cash sponsored demutualization as a means of expanding its
professional liability insurance operations. One PICA subsidiary, PACO Assurance Company, Inc.
(PACO), is now wholly owned by a ProAssurance intermediate holding company rather than by
PICA. ProAssurance purchased all of PICA’s outstanding stock created in the demutualization for
$120 million in cash and $15 million in premium credits to eligible policyholders to be redeemed
over a three year period beginning in 2010. Total purchase consideration transferred had a fair value
of $133.8 million on the acquisition date, April 1, 2009. ProAssurance incurred expenses related to
the purchase of approximately $2.5 million during 2009, primarily in the second quarter, and $0.7
million during 2008, primarily in the fourth quarter. These expenses have been included as a part of
operating expenses in the periods incurred.
The purchase consideration for each acquisition was allocated to the assets acquired and
liabilities assumed based on their estimated fair values on the acquisition dates, as detailed in the
schedule below. Goodwill of $39.1 million for the APS acquisition and $36.7 million for the PICA
acquisition was recognized equal to the excess of the purchase price over the net fair value of the
identifiable assets acquired and liabilities assumed. None of the goodwill is expected to be tax
deductible.
Fixed maturities, available for sale
Equity securities, available for sale
Equity securities, trading
Cash and short-term investments
Other investments
Premiums receivable
Receivable from reinsurers on unpaid losses and LAE
Intangible assets
Goodwill
Real estate
Deferred tax assets
Other assets
Reserve for losses and loss adjustment expenses
Unearned premiums
Long-term debt
Deferred tax liabilities
Other liabilities
Fair value of net assets acquired
APS
PICA
(In thousands)
240,948
-
10,786
26,351
1,698
12,764
5,876
38,034
39,135
-
6,690
7,799
(88,101)
(26,115)
-
(12,033)
(26,714)
237,118
$
$
218,766
1,193
15,628
14,114
-
19,426
3,987
23,200
36,673
20,178
14,235
15,646
(163,616)
(41,851)
(16,803)
(4,489)
(22,487)
133,800
$
$
ProAssurance believes that all contractual cash flows related to acquired receivables will be
collected. The fair value of net assets acquired includes fair value adjustments to record real estate
assets at appraised market values. The fair value of long-term debt and a related interest rate swap
were estimated based on the present value of expected future cash flows using average rates for
financial instruments with similar credit ratings and payment structures and a litigation reserve valued
97
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
2. Acquisitions (continued)
based on Management’s assessment of the expected outcomes of pending litigation and a reasonable
estimate of losses expected to be incurred. The fair value of reserves for losses and loss adjustment
expenses and related reinsurance recoverables were estimated based on the present value of the
expected underlying net cash flows, including a profit margin and a risk premium, and were
determined to be materially the same as the recorded cost basis acquired.
Intangible assets acquired include the following:
(In millions)
Date of Acquisition
Trade names
Renewal rights
Agency relationships
Non-compete agreements
Internally developed software
State license agreements
Estimated Fair Value on Acquisition Date
APS
November 30, 2010
PICA
April 1, 2009
Estimated
Useful Life
$
$
$
$
$
$
–
11.0
21.0
5.4
–
0.6
$
$
$
$
$
$
2.0
5.2
–
0.7
1.7
13.6
7 years
15 years
15 years
2-4 years
5 years
Indefinite
The final purchase price allocation of APS is subject to the completion of the valuation of certain
assets and liabilities and will be finalized within one year of the transaction date or sooner. Specifically,
Management’s review of APS reserves for losses and loss adjustment expenses and related reinsurance
recoverables and deferred tax assets is on-going and is subject to adjustments within the one year
measurement period.
The following table discloses the amount of APS revenues and earnings, from the acquisition on
November 30, 2010, that are included in ProAssurance consolidated results for the year ended December
31, 2010. The table also includes supplemental pro forma information reflecting the combined results of
ProAssurance and APS as if the acquisition had occurred as of January 1, 2009.
(In thousands)
Revenue
Earnings
Actual APS Results
Included in ProAssurance
Consolidated Results
2010
$
$
6,152
979
Supplemental Pro forma
Combined Results
2010
758,670
249,196
$
$
2009
756,052
242,757
$
$
The following table discloses the amount of PICA revenues and earnings from the acquisition
on April 1, 2009 that are included in ProAssurance consolidated results for the year ended December
31, 2009. The table also includes supplemental pro forma information reflecting the combined results
of ProAssurance and PICA as if the acquisition had occurred as of January 1, 2008.
(In thousands)
Revenue
Earnings
Actual PICA Results
Included in ProAssurance
Consolidated Results
2009
$ 88,152
5,396
$
Supplemental Pro forma
Combined Results
2009
697,997
227,022
$
$
2008
674,125
185,662
$
$
Pro forma combined results shown above have been adjusted, net of related tax effects, to reflect
the following: 1) for APS, workforce reductions as if the reductions had occurred January 1, 2009, 2) the
exclusion of transaction costs, 3) the reversal of the effect of writing off policy acquisition costs as of the
acquisition date, 4) the amortization of intangibles recorded as a result of the purchase price allocation
and 5) the amortization of the investment purchase adjustments.
During 2009, ProAssurance also completed acquisitions of a general agency and an insurance
company focused on legal professional liability coverages. Neither acquisition was material, individually
or in the aggregate. Assets acquired and liabilities assumed were recorded based on estimated fair values
98
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
2. Acquisitions (continued)
as of the dates of the acquisitions. The excess of the purchase price over the fair values of the identifiable
net assets acquired was recognized as goodwill totaling $13.4 million for the two acquisitions,
approximately $12.3 million of which is expected to be tax deductible. Consideration for these
acquisitions included 100,533 ProAssurance common shares, which were reissued from treasury stock.
The shares, which had a cost basis of approximately $5.0 million, were valued at $5.2 million, based on
the market value of ProAssurance common shares on the date of closing.
3. Fair Value Measurement
Fair value is defined as the price that would be received to sell an asset or paid to transfer a
liability in an orderly transaction between market participants at the measurement date. A three level
hierarchy has been established for valuing assets and liabilities based on how transparent (observable) the
inputs are that are used to determine fair value, with the inputs considered most observable categorized as
Level 1 and those that are the least observable categorized as Level 3. Hierarchy levels are defined as
follows:
Level 1: quoted (unadjusted) market prices in active markets for identical assets and
liabilities. For ProAssurance, Level 1 inputs are generally quotes for debt or
equity securities actively traded in exchange or over-the-counter markets.
Level 2: market data obtained from sources independent of the reporting entity
(observable inputs). For ProAssurance, Level 2 inputs generally include quoted
prices in markets that are not active, quoted prices for similar assets/liabilities,
and results from pricing models that use observable inputs such as interest rates
and yield curves that are generally available at commonly quoted intervals.
Level 3: the reporting entity's own assumptions about market participant assumptions
based on the best information available in the circumstances (non-observable
inputs). For ProAssurance, Level 3 inputs are used in situations where little or
no Level 1 or 2 inputs are available or are inappropriate given the particular
circumstances. Level 3 inputs include results from pricing models for which
some or all of the inputs are not observable, discounted cash flow
methodologies, single non-binding broker quotes and adjustments to externally
quoted prices that are based on management judgment or estimation.
The following tables present information about ProAssurance's assets and liabilities that are
measured at fair value on a recurring basis as of December 31, 2010 and December 31, 2009 and indicate
the fair value hierarchy of the valuation techniques utilized to determine such value. For some assets, the
inputs used to measure fair value may fall into different levels of the fair value hierarchy. When this is the
case, the asset is categorized based on the level of the most significant input to the fair value
measurement. ProAssurance's assessment of the significance of a particular input to the fair value
measurement requires judgment and considers factors specific to the assets being valued.
99
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
3. Fair Value Measurement (continued)
Assets and liabilities measured at fair value on a recurring basis as of December 31, 2010 and
December 31, 2009, including financial instruments for which ProAssurance has elected fair value
accounting, are as follows:
December 31, 2010
Fair Value Measurements Using
Level 2
Level 3
Level 1
Total
Fair Value
(In thousands)
Assets:
Fixed maturities, available for sale
U.S. Treasury obligations
U.S. Agency obligations
State and municipal bonds
Corporate bonds
Residential mortgage-backed securities
Commercial mortgage-backed securities
Other asset-backed securities
Equity securities, available for sale
Financial
Energy
Consumer cyclical
Consumer non-cyclical
Technology
Industrial
Communications
All Other
Equity securities, trading
Financial
Energy
Consumer cyclical
Consumer non-cyclical
Technology
Industrial
Communications
All Other
Short-term investments (1)
Investment in unconsolidated subsidiaries (2)
Other investments (4)
Total assets
Liabilities:
2019 Note Payable
Interest rate swap agreement
Total liabilities
$
$
$
$
225,908
68,878
1,236,374
1,312,035
567,640
99,386
62,534
$
–
–
7,550
21,229
2,198
–
22
$ 225,908
68,878
1,243,924
1,333,264
569,838
99,386
62,556
–
–
–
–
–
–
–
392
257
521
656
768
737
–
306
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
–
392
257
521
656
768
737
–
306
–
–
–
–
–
–
–
–
–
25,112
1,704
57,815
4,317
7,149
1,599
4,534
3,400
2,403
2,623
11,261
168,438
25,112
1,704
$ 3,839,931
15,616
3,658
19,274
15,616
3,658
19,274
$
4,317
7,149
1,599
4,534
3,400
2,403
2,623
11,261
150,344
–
–
191,267
–
–
–
–
–
–
–
–
–
–
–
18,094
–
–
3,590,849
–
–
–
$
$
$
$
100
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
3. Fair Value Measurement (continued)
December 31, 2009
(In thousands)
Assets:
Fixed maturities, available for sale
U.S. Treasury obligations
U.S. Agency obligations
State and municipal bonds
Corporate bonds
Residential mortgage-backed securities
Commercial mortgage-backed securities
Other asset-backed securities
Equity securities, available for sale
Financial
Energy
Consumer cyclical
Consumer non-cyclical
Technology
Industrial
Communications
All Other
Equity securities, trading
Financial
Energy
Consumer cyclical
Consumer non-cyclical
Technology
Industrial
Communications
All Other
Short-term investments (1)
Investment in unconsolidated subsidiaries (2)
Other investments (3)
Total assets
Liabilities:
2019 Note Payable
Interest rate swap agreement
Total liabilities
$
$
$
$
–
–
–
–
–
–
–
488
182
425
638
780
598
134
334
Fair Value Measurements Using
Level 2
Level 1
Level 3
Total
Fair Value
$
$
153,544
67,026
1,439,154
1,049,677
556,863
91,627
50,334
–
–
9,495
24,335
–
940
–
$
153,544
67,026
1,448,649
1,074,012
556,863
92,567
50,334
–
–
–
–
–
–
–
–
8,831
7,781
3,222
8,889
4,085
3,560
4,063
3,395
168,060
–
–
215,465
–
–
–
–
–
–
–
–
–
–
–
18,999
–
–
3,427,224
–
–
–
$
$
$
$
$
$
–
–
–
–
–
–
–
–
488
182
425
638
780
598
134
334
–
–
–
–
–
–
–
–
–
48,502
10,932
94,204
8,831
7,781
3,222
8,889
4,085
3,560
4,063
3,395
187,059
48,502
10,932
$ 3,736,893
14,740
2,937
17,677
$
$
14,740
2,937
17,677
(1) Short-term investments are reported at amortized cost, which approximates fair value.
(2) Includes interests in private investment funds that are valued at the net asset value provided by the fund, which approximates fair value.
Other equity interests for which the carrying value of the interest does not approximate fair value are excluded.
(3) Includes beneficially owned asset-backed securities held in a separate interest of a private investment fund, carried at fair value. Investments
carried at cost are excluded.
(4) Includes an annuity valued at fair value. Other investments carried at cost are excluded.
The fair values for securities included in the Level 2 category, with the few exceptions described
below, have been developed by third party, nationally recognized pricing services. These services use
complex methodologies to determine values for securities and subject the values they develop to quality
control reviews. The services collect and utilize multiple inputs, although not all inputs are used for every
security type or given the same priority in every evaluation. Inputs used include: benchmark yields,
reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, and
offers. The services also consider credit ratings, where appropriate, including ratings updates and
information available in appropriate market research publications. Management reviews service-provided
101
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
3. Fair Value Measurement (continued)
values for reasonableness by comparing market yields indicated by the supplied value to yields observed
in the market place. If a value does not appear reasonable, the valuation is discussed with the service that
provided the value and would be adjusted, if necessary. No such adjustments have been necessary in 2010
or 2009.
Below is a summary description of the valuation methodologies primarily used by the pricing
services for securities in the Level 2 category, by security type:
U.S. Treasury obligations are valued based on quoted prices for identical assets, or, in markets
that are not active, quotes for similar assets, taking into consideration adjustments for variations in
contractual cash flows and yields to maturity.
U. S. government and agency obligations, and corporate bonds (exclusive of privately placed
debt) are valued using pricing models that consider current and historical market data, normal trading
conventions, credit ratings, and the particular structure and characteristics of the security being valued,
such as yield to maturity, redemption options, and contractual cash flows. Adjustments to model inputs or
model results are included in the valuation process when necessary to reflect recent events, such as
regulatory, government or corporate actions or significant economic, industry or geographic events that
would affect the security’s fair value.
Municipal securities are valued using a series of matrices that consider credit ratings, the
structure of the security, the sector in which the security falls, yields, and contractual cash flows.
Valuations are further adjusted, when necessary, to reflect recent events such as significant economic or
geographic events or ratings changes that would affect the security’s fair value.
Mortgage backed securities. Agency pass through securities are valued by a matrix, considering
the issuer type, coupon rate and longest cash flows outstanding. The matrix is developed daily based on
available market information. Agency and non-agency collateralized mortgage obligations are both
valued using models that consider the structure of the security, current and historical information
regarding prepayment speeds, ratings and ratings updates, and current and historical interest rate and
interest rate spread data. Evaluations of Alt-A and subprime mortgages include a review of collateral
performance data, which is generally updated monthly.
Asset-backed securities are valued using models that consider the structure of the security,
monthly payment information, current and historical information regarding prepayment speeds, ratings
and ratings updates, and current and historical interest rate and interest rate spread data. Spreads and
prepayment speeds consider collateral type.
Privately placed corporate debt is valued by an outside vendor rather than a third party pricing
service. The valuation is prepared based on a widely available matrix that is produced daily by a leading
seller of secondary private placements. The matrix considers the market sector, issuer credit ratings and
the remaining loan term and is developed from market data such as interest rate yield curves, credit
spreads, quoted market prices for comparable securities and other applicable market data.
Bank loans are also valued by an outside vendor. The valuation is based upon a widely
distributed, loan-specific listing of average bid and ask prices published daily by an investment industry
group. The publisher of the listing derives the averages from data received from multiple market-makers
for bank loans.
Short term securities, primarily U. S. Treasury securities and commercial paper maturing within
one year, are carried at cost which approximates the fair value of the security due to the short term to
maturity.
102
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
3. Fair Value Measurement (continued)
Below is a summary description of the valuation methodologies used to value securities in the
Level 3 category by security type.
Auction rate municipal bonds are valued internally using a model based on discounted cash flows
using yields currently available on fixed rate securities with a similar term and collateral, adjusted to
consider the effect of a floating rate and a premium for illiquidity. All are rated A or better.
Corporate debt instruments are valued internally using dealer quotes for similar securities or
discounted cash flows models using yields currently available for similar securities. Similar securities are
defined as securities having like terms and payment features that are of comparable credit quality.
Assessments of credit quality are based on NRSRO ratings, if available, or are subjectively determined by
management if not available. Corporate debt instruments include private placement senior notes valued at
approximately $9.3 million and $12.0 million at December 31, 2010 and 2009, respectively. The notes are
all rated A+ or better and are unconditionally guaranteed by large regional banks. The remaining Level 3
corporate securities are not guaranteed or fully collateralized. Approximately $10.4 million and $10.5
million at December 31, 2010 and 2009, respectively, have an average NRSRO rating of A-.
Approximately $1.5 million and $1.8 million at December 31, 2010 and 2009, respectively, do not have
an NRSRO rating.
Asset-backed securities are valued using multiple inputs including multiple broker dealer quotes.
Annuities are valued internally using a model based on discounted cash flows using yields
currently available for similar investments.
Interests in private investment funds are valued using the net asset value provided by the fund.
The following table provides additional information regarding investments in private investment
funds valued using the net asset value provided by the fund at December 31, 2010:
(In thousands)
Private fund primarily invested in long/short equities (1)
Private fund primarily invested in non-public equities, including other
private funds (2)
Private fund primarily invested in high yield asset-backed securities (3)
Fair Value
December 31
2010
$
18,801
2009
$ 12,943
6,311
–
25,112
$
5,629
29,930
$ 48,502
Unfunded
Commitments
December 31
2010
None
$ 3,500
None
(1) The fund holds both long and short U.S. and North American equities, and targets absolute
returns using a strategy designed to take advantage of event-driven market opportunities.
Redemptions are allowed with a notice requirement of up to 45 days and are paid within
30 days of the redemption date, unless the redemption request is for 90% or more of the
requestor’s capital balance. Redemptions at the 90% and above level will be paid at 90%,
with the remainder paid after the fund’s annual audit.
(2) The fund is structured to provide capital appreciation through diversified investments in
private equity, including investments in buyout, venture capital, mezzanine, distressed
debt and other private equity-oriented funds. Redemptions are not allowed, except by
special permission of the fund. Fund proceeds are to be periodically distributed at the
discretion of the fund over an anticipated time frame that spans 3 to 5 years.
(3) As discussed in Note 4, the fund was liquidated during 2010. Prior to liquidation, the fund
consisted primarily of high-yield asset-backed securities.
103
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
3. Fair Value Measurement (continued)
There were no transfers between Level 1 and Level 2 categories during 2010.
The following tables present summary information regarding changes in the fair value of assets
and liabilities measured at fair value using Level 3 inputs, including financial instruments for which
ProAssurance has elected fair value accounting. Transfers are as of the end of the period, unless otherwise
specified.
(In thousands)
Assets
Balance December 31, 2009
Total gains (losses) realized and unrealized:
Included in earnings, as a part of:
Equity in earnings of unconsolidated
subsidiaries
Realized investment gains (losses)
Included in other comprehensive income
Purchases, sales or settlements
Transfers in
Transfers out
Balance December 31, 2010
Change in unrealized gains (losses) included
in earnings for the above period for
Level 3 assets held at period-end
December 31, 2010
Level 3 Fair Value Measurements – Assets
State and
Municipal
Bonds
Corporate
Bonds
Asset-
backed
Securities
Equity
Securities
Investment in
Unconsolidated
Subsidiaries
Other
Investments
Total
$ 9,495
$ 24,335
$
940
$
–
$
48,502 $ 10,932
$ 94,204
–
–
147
(2,092)
–
–
$ 7,550
–
59
(314)
827
1,925
(5,603)
$ 21,229
–
–
60
1,216
1,004
(1,000)
$ 2,220
$
–
–
–
–
–
–
–
$
4,650
–
–
(28,040)
–
–
25,112 $
–
(10,698)
11,953
1,193
–
(11,676)
1,704
4,650
(10,639)
11,846
(26,896)
2,929
(18,279)
$ 57,815
$
–
$
–
$
–
$
–
$
4,650 $ (10,698)
$
(6,048)
Transfers between Level 3 categories during 2010 include:
At December 31, 2009 Other Investments total included asset-backed securities valued at $1
million that were held in a private investment fund. During 2010 these securities were
returned to direct ownership and were reclassified as Asset-backed securities (see Note 4 of
the Notes to the Consolidated Financial Statements). Multiple observable inputs were not
available for use in valuing the securities at either December 31, 2009 or 2010.
Transfers from Level 2 to Level 3 during 2010 include:
Four corporate bonds having a combined value of $1.9 million. Multiple observable inputs
were not available for use in valuing the bonds at December 31, 2010.
Transfers from Level 3 to Level 2 during 2010 include:
Four corporate bonds having a combined value of $5.6 million. Multiple observable inputs
were available for use in valuing the securities at December 31, 2010. Such information was
not available for valuing the bonds at December 31, 2009.
A commercial mortgage-backed security valued at $1 million. Multiple observable inputs
were available for use in valuing the security at December 31, 2010.
Beneficially owned asset-backed securities held in a private investment fund were 100%
categorized as Level 3 at December 31, 2009 because valuations were determined by the fund
manager using various methodologies, not all of which were based on multiple observable
inputs. During 2010 the fund manager provided additional information regarding the
valuation methodologies followed, and securities, having a combined fair value of $10.7
million valued using multiple observable inputs were transferred to the Level 2 category.
104
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
3. Fair Value Measurement (continued)
(In thousands)
Assets
Balance December 31, 2008
Total gains (losses), realized and unrealized:
Included in earnings, as a part of:
Equity in earnings of unconsolidated
subsidiaries
Realized investment gains (losses)
Included in other comprehensive income
Purchases, sales or settlements
Transfers in
Transfers out
Balance December 31, 2009
Change in unrealized gains (losses) included
in earnings for the above period for Level
3 assets held at period-end
December 31, 2009
Level 3 Fair Value Measurements - Assets
State and
Municipal
Bonds
Corporate
Bonds
Asset-
backed
Securities
Equity
Securities
Investment in
Unconsolidated
Subsidiaries
Other
Investments
Total
$
–
$ 36,472 $
1,327 $ 357
$
–
$ 14,576
$ 52,732
–
–
(330)
(200)
10,025
–
$ 9,495
–
(7)
371
(11,337)
5,092
(6,256)
$ 24,335 $
–
–
149
(21)
–
(515)
940 $
–
(357)
–
–
–
–
–
–
–
–
–
48,502
–
$ 48,502
–
–
(900)
(536)
2,706
2,516
(434) (11,992)
63,619
(5,190) (11,961)
$ 94,204
–
$ 10,932
$
–
$
(7) $
– $ (357)
$
–
$
(536) $
(900)
Transfers from Level 2 into Level 3 during 2009 include:
Corporate bonds having a combined value of $5 million that were valued using multiple
observable inputs at December 31, 2008. During 2009 such information was not available,
and the bonds were valued using a single broker dealer quote.
Municipal bonds totaling $10 million. The bonds were valued using multiple observable
inputs at December 31, 2008. Such inputs were unavailable in 2009 and the bonds were
valued using a pricing model.
Interests in private investment funds accounted for under the equity method valued using the
net asset value provided by fund management. The interests were not included in the fair
value table at December 31, 2008, but were included effective January 1, 2009 in compliance
with GAAP guidance issued in 2009 specifying that such valuation constitutes valuation at
fair value.
Transfers from Level 3 into Level 2 during 2009 include:
A private placement bond valued at $4 million that was a new issue during 2008. There was
no active market for the security or nearly identical security during the latter portion of 2008.
Market activity increased in 2009, which provided multiple observable inputs that could be
used to value the security.
Two corporate bonds, having a combined value of $2.2 million. The bonds were valued using
a pricing model prior to December 31, 2009 due to the unavailability of multiple observable
inputs. Multiple observable inputs were available at December 31, 2009 for use in valuing the
bonds.
Asset-backed securities having a value of $0.5 million. There was no active market for the
securities during the latter portion of 2008. Market activity increased in 2009, which provided
multiple observable inputs that could be used to value the securities.
FHLB investments of $5.2 million are valued at cost, and, as such have been excluded from
the table at December 31, 2009.
105
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
3. Fair Value Measurement (continued)
December 31, 2010
Level 3 Fair Value Measurements - Liabilities
(In thousands)
2019 Note Payable
Interest
rate swap
agreement
Total
Liabilities
Balance December 31, 2009
Total (gains) losses realized and unrealized:
Included in earnings as a part of net realized
investment (gains) losses
Included in other comprehensive income
Purchases, sales or settlements
Transfers in
Transfers out
Balance December 31, 2010
Change in unrealized (gains) losses included in
earnings for the above period for Level 3
liabilities outstanding at period-end
$
14,740
$
2,937
$
17,677
1,181
–
(305)
–
–
15,616
721
–
–
–
–
3,658
$
1,902
–
(305)
–
–
19,274
$
$
$
1,181
$
721
$
1,902
December 31, 2009
Level 3 Fair Value Measurements - Liabilities
(In thousands)
2019 Note Payable
Interest rate
swap
agreement
Total
Liabilities
Balance December 31, 2008
Total (gains) losses realized and unrealized:
Included in earnings as a part of net realized
investment (gains) losses
Included in other comprehensive income
Purchases, sales or settlements
Transfers in
Transfers out
Balance December 31, 2009
Change in unrealized (gains) losses included in
earnings for the above period for Level 3
liabilities outstanding at period-end
$
–
$
–
$
–
2,389
–
12,351
–
–
14,740
(1,753)
–
4,690
–
–
2,937
$
$
636
–
17,041
–
–
17,677
$
$
2,389
$
(1,753)
$
636
Fair Value Option Elections
The 2019 Note Payable and a related interest rate swap agreement (the Swap) are measured at fair
value on a recurring basis, with changes in the fair value of each liability recorded in net realized gains
(losses). ProAssurance assumed both liabilities as part of the PICA acquisition. The fair value option was
elected for the 2019 Note Payable because valuation at fair value better reflects the economics of the
related liabilities and eliminates the inconsistency that would otherwise result from carrying the 2019
Note Payable on an amortized cost basis and the Swap at fair value.
The 2019 Note Payable had an outstanding principal balance of $17.4 million at December 31,
2010 and $17.7 million at December 31, 2009.
106
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
4. Investments
The amortized cost and estimated fair value of available-for-sale fixed maturities and equity
securities are as follows:
(In thousands)
Fixed maturities
U.S. Treasury obligations
U.S. Agency obligations
State and municipal bonds
Corporate bonds
Residential mortgage-backed securities
Commercial mortgage-backed securities
Other asset-backed securities
Equity securities
(In thousands)
Fixed maturities
U.S. Treasury obligations
U.S. Agency obligations
State and municipal bonds
Corporate bonds
Residential mortgage-backed securities
Commercial mortgage-backed securities
Other asset-backed securities
Equity securities
Amortized
Cost
$
219,631
64,804
1,204,327
1,287,842
549,543
95,758
61,314
3,483,219
2,438
$ 3,485,657
Amortized
Cost
$
149,937
64,837
1,400,293
1,040,896
545,687
93,941
48,761
3,344,352
2,572
$ 3,346,924
December 31, 2010
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated
Fair
Value
$
7,519
4,113
44,047
52,757
25,409
3,663
1,373
138,881
1,212
$ 140,093
$
$
(1,242)
(39)
(4,450)
(7,335)
(5,114)*
(35)
(131)
(18,346)
(13)
(18,359)
$
225,908
68,878
1,243,924
1,333,264
569,838
99,386
62,556
3,603,754
3,637
$ 3,607,391
December 31, 2009
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated
Fair
Value
$
4,874
2,371
51,977
38,871
22,183
1,074
1,749
123,099
1,028
$ 124,127
$
$
(1,267)
(182)
(3,621)
(5,755)
(11,007)*
(2,448)
(176)
(24,456)
(21)
(24,477)
$
153,544
67,026
1,448,649
1,074,012
556,863
92,567
50,334
3,442,995
3,579
$ 3,446,574
*Includes other-than-temporary impairments recognized in accumulated other comprehensive income of $4.1 million and $5.6 million at
December 31, 2010 and December 31, 2009, respectively.
The recorded cost basis and estimated fair value of available-for-sale fixed maturities at
December 31, 2010, 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 pre-refunded
state and municipal bonds which are 100% backed by U.S. Treasury obligations.
(In thousands)
Fixed maturities, available for sale
U.S. Treasury obligations
U.S. Agency obligations
State and municipal bonds
Corporate bonds
Residential mortgage-backed securities
Commercial mortgage-backed securities
Other asset-backed securities
Amortized
Cost
Due in one
year or less
Due after
one year
through
five years
Due after
five years
through ten
years
Due after
ten years
Total Fair
Value
8,462
4,620
35,033
126,061
$ 120,599
44,871
298,935
707,711
$
93,193
18,431
607,309
477,781
$
$
$
219,631 $
64,804
1,204,327
1,287,842
549,543
95,758
61,314
3,483,219
3,654 $
956
302,647
21,711
225,908
68,878
1,243,924
1,333,264
569,838
99,386
62,556
$ 3,603,754
107
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
4. Investments (continued)
Excluding investments in bonds and notes of the U.S. Government, a U.S. Government agency,
or pre-refunded state and municipal bonds which are 100% backed by U.S. Treasury obligations, no
investment in any entity or its affiliates exceeded 10% of shareholders’ equity at December 31, 2010.
At December 31, 2010, ProAssurance has available-for-sale securities with a fair value of $28.7
million on deposit with various state insurance departments to meet regulatory requirements.
ProAssurance also has available-for-sale securities with a fair value of $27.2 million that are pledged as
collateral security for the 2019 Note Payable (see Note 10.)
Business Owned Life Insurance (BOLI)
ProAssurance holds BOLI policies on management employees that are carried at the current cash
surrender value of the policies (original cost $35 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. ProAssurance reduced its BOLI investment in 2010 by
redeeming approximately $16 million of its cash surrender value. This redemption created taxable income
triggering an additional tax liability of approximately $1.3 million, which was recognized during 2010.
Other Investments
ProAssurance has Other Investments comprised of the following:
(In millions)
2010
2009
Equity interests in private investment funds, at cost; estimated fair value of $37.2 and
$27.0, respectively
Federal Home Loan Bank (FHLB) capital stock, at cost
High yield asset-backed securities, at fair value (amortized cost of $19.4 at December 31,
2009) see below
Other, principally an annuity valued at fair value
$
$
30.7
5.2
–
2.2
38.1
$
$
29.1
5.2
10.9
2.1
47.3
FHLB capital stock is not marketable, but may be liquidated by terminating membership in the
FHLB. The liquidation process can take up to five years.
At December 31, 2009 ProAssurance, through its ownership of a separate interest in a private
investment fund, held a direct beneficial interest in certain high yield asset-backed securities. The
investment fund liquidated in July 2010 and distributed the securities to ProAssurance. The distributed
securities were classified as available for sale fixed maturities. No gain or loss was recorded related to the
distribution; however, Management determined at the time of distribution that the securities would be
sold, and recognized impairment losses of $9.5 million related to the securities in 2010.
Unconsolidated Subsidiaries
ProAssurance holds investments in unconsolidated subsidiaries, accounted for under the equity
method. The investments include the following:
Investment in Unconsolidated Subsidiaries
Investment in tax credit partnerships
Other business interests
Private investment fund-primarily invested in long/short equities
Private investment fund-primarily invested in non-public equities
Private investment fund-primarily invested in high yield asset-
backed securities
Carrying Value
December 31,
2010
2009
60.3
3.4
18.8
6.3
–
88.8
$
$
–
–
12.9
5.6
30.0
48.5
$
$
Percentage
Ownership
December 31, 2010
<20%
<50%
<20%
<20%
n/a
108
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
4. Investments (continued)
Investments in tax credit partnerships are comprised of multiple separate limited partner interests
designed to generate investment returns by providing tax benefits to fund investors in the form of net
operating losses and tax credits. The related properties are principally low income housing properties. The
investment balance reflects the entire commitment to the partnership; commitments of approximately $47
million have not been funded as of December 31, 2010.
Other business interest consists of a non-controlling interest in a development stage limited
liability company. The start-up phase is expected to continue for another twelve months.
The long/short equity fund targets absolute returns using a strategy designed to take advantage of
event-driven market opportunities.
The non-public equity fund holds diversified private equities and is structured to provide capital
appreciation.
Investments Held in a Loss Position
The following tables provide summarized information with respect to investments held in an
unrealized loss position at December 31, 2010 and December 31, 2009, including the length of time the
investment has been held in a continuous unrealized loss position.
(In thousands)
Fixed maturities, available for sale
U.S. Treasury obligations
U.S. Agency obligations
State and municipal bonds
Corporate bonds
Residential mortgage-backed securities
Commercial mortgage-backed securities
Other asset-backed securities
Equity securities, available for sale
Other investments
Equity interests in private investment funds
Total
Fair
Value
Unrealized
Loss
December 31, 2010
Less than 12 months
Fair
Value
Unrealized
Loss
More than 12 months
Fair
Value
Unrealized
Loss
$
61,127
6,340
199,079
287,418
121,956
7,507
11,692
$ 695,119
499
$
$
$
$
(1,242)
(39)
(4,450)
(7,335)
(5,114)
(35)
(131)
(18,346)
(13)
$
61,127
6,340
191,157
275,808
105,193
6,537
11,246
$ 657,408
335
$
$
$
$
(1,242)
(39)
(3,893)
(5,695)
(1,927)
(5)
(103)
(12,904)
(3)
$
$
$
–
–
7,922
11,610
16,763
970
446
37,711
164
$
$
$
–
–
(557)
(1,640)
(3,187)
(30)
(28)
(5,442)
(10)
carried at cost of $19.7 million
$
19,298
$
(401)
$
–
$
–
$
19,298
$
(401)
(In thousands)
Fixed maturities, available for sale
U.S. Treasury obligations
U.S. Agency obligations
State and municipal bonds
Corporate bonds
Residential mortgage-backed securities
Commercial mortgage-backed securities
Other asset-backed securities
Equity securities, available for sale
Other investments
Equity interests in private investment funds
carried at cost of $23.1 million
Total
Fair
Value
Unrealized
Loss
December 31, 2009
Less than 12 months
Fair
Value
Unrealized
Loss
More than 12 months
Fair
Value
Unrealized
Loss
$
40,042
15,514
177,643
183,995
64,882
53,155
4,823
$ 540,054
230
$
$
$
$
(1,267) $
(182)
(3,621)
(5,755)
(11,007)
(2,448)
(176)
40,042
15,514
152,783
140,344
44,086
24,940
1,903
(24,456) $ 419,612
121
(21) $
$
$
$
(1,267) $
(182)
(2,399)
(2,284)
(4,262)
(92)
(12)
(10,498) $
(2) $
–
–
24,860
43,651
20,796
28,215
2,920
120,442
109
$
$
$
–
–
(1,222)
(3,471)
(6,745)
(2,356)
(164)
(13,958)
(19)
$
15,764
$
(7,308)
$
–
$
–
$
15,764
$
(7,308)
109
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
4. Investments (continued)
As of December 31, 2010, there were 510 debt securities (19% of all available-for-sale fixed
maturity securities held) in an unrealized loss position representing 309 issuers. The single greatest
unrealized loss position is approximately $0.8 million; the second greatest unrealized loss position is
approximately $0.6 million. The securities were evaluated for impairment as of December 31, 2010.
As of December 31, 2009, there were 344 debt securities (14% of all available-for-sale fixed
maturity securities held) in an unrealized loss position representing 287 issuers.
Each quarter, ProAssurance performs a detailed analysis for the purpose of assessing whether any
of the securities it holds in an unrealized loss position have suffered an other-than-temporary impairment
in value. A detailed discussion of the factors considered in the assessment is included in Note 1 of the
Notes to the Consolidated Financial Statements.
At December 31, 2010 fixed maturity securities held in an unrealized loss position, excluding asset-
backed securities, have paid all scheduled contractual payments and are expected to continue doing so.
Expected future cash flows of asset-backed securities were estimated using the most recently available
six-month historical performance data for the collateral (loans) underlying the security or, if historical
data was not available, sector based assumptions. Expected future cash flows from the equity interest
carried in a loss position were also evaluated and are expected to equal or exceed the carrying value of the
equity interest.
Net Investment Income
Net investment income by investment category is as follows:
(In thousands)
Fixed maturities
Equities
Short-term investment
Other invested assets
Business owned life insurance
Investment expenses
Net investment income
2010
$ 146,036
797
417
3,145
1,617
152,012
(5,632)
$ 146,380
2009
150,122
1,036
1,209
2,802
1,563
156,732
(5,787)
150,945
$
$
2008
$ 150,085
1,231
6,891
2,801
1,932
162,940
(4,556)
$ 158,384
Net Realized Investment Gains (Losses)
Net realized investment gains (losses) are comprised of the following:
(In thousands)
2010
2009 (1)
2008
Total other-than-temporary impairment losses:
Residential mortgage-backed securities
Corporate bonds (2)
Equities (3)
Equity interest in a private investment fund
High yield asset-backed securities, see discussion below
Portion recognized in (reclassified from) Other Comprehensive Income:
Residential mortgage-backed securities
Net impairment losses recognized in earnings
Gross realized gains, available-for-sale securities
Gross realized (losses), available-for-sale securities
Net realized gains (losses), short-term
Net realized gains (losses), trading securities
Change in unrealized holding gains (losses), trading securities
Increase in the fair value of liabilities carried at fair value
Net realized investment gains (losses)
$
(1,487)
–
–
(3,373)
(9,515)
(1,474)
(15,849)
30,433
(628)
200
6,630
(1,542)
(1,902)
$ 17,342
$
$
(3,393)
(3,749)
(494)
–
(536)
199
(7,973)
17,217
(5,151)
–
(956)
10,291
(636)
12,792
$
(9,140)
(25,347)
(10,564)
(1,969)
–
–
(47,020)
8,038
(5,495)
(1,010)
(890)
(4,536)
–
$ (50,913)
(1) In accordance with GAAP, all OTTI losses prior to April 1, 2009 were recognized in earnings.
(2) 2008 includes $19.5 million related to Lehman.
(3) 2008 includes $9.5 million related to Fannie Mae and Freddie Mac preferred stock.
110
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
4. Investments (continued)
ProAssurance recognized an impairment loss of $9.5 million in 2010 related to certain high-yield
securities that Management intended to sell, as previously discussed under the sub-header Other
Investments.
ProAssurance recognized an impairment of $3.4 million in 2010 related to an interest in a private
investment fund, accounted for on a cost basis. The fund has reported realized losses on the sale of
securities, and ProAssurance has reduced the carrying value of its interest in the fund in recognition of its
pro rata share of those losses.
ProAssurance recognized credit-related impairments in earnings of $3.0 million in 2010,
including $1.5 million reclassified from OCI, related to residential mortgage-backed securities. Expected
future cash flows were less than ProAssurance’s carrying value for these securities; therefore,
ProAssurance reduced the carrying value of its interest in these securities and recognized the loss in its
2010 net income.
Net gains (losses) related to fixed maturities in the above table are $24.1 million, $4.5 million, and
($32.0) million during 2010, 2009 and 2008, respectively.
The following table presents a roll forward of cumulative credit losses recorded in earnings related
to impaired debt securities for which a portion of the other-than-temporary impairment has been recorded
in Other Comprehensive Income.
(In thousands)
Balance January 1, 2010
Additional credit losses recognized during the period, related to securities for which:
No OTTI has been previously recognized
OTTI has been previously recognized
Reductions due to:
Securities sold during the period (realized)
Securities which will be sold in coming periods
Securities for which it is more likely than not that the security will be required to be sold
prior to anticipated recovery of amortized cost basis
Accretion recognized during the period related to cash flows that are expected to exceed
the amortized cost basis of the security
Balance December 31, 2010
$
2,068
69
5,720
–
(3,411)
–
–
4,446
$
Other information regarding sales and purchases of available-for-sale securities:
(In millions)
2010
2009
2008
Proceeds from sales (exclusive of maturities and paydowns):
Adjustable rate, short duration fixed maturity securities
Other available-for-sale securities
Total
Purchases of:
Adjustable rate, short duration fixed maturity securities
Other available-for-sale securities
Total
$
$
$
$
–
718.3
718.3
–
848.3
848.3
$
$
$
$
7.0
485.6
492.6
–
930.9
930.9
$
$
$
$
148.1
400.3
548.4
106.7
633.9
740.6
5. Reinsurance
ProAssurance has various excess of loss, quota share, and cession reinsurance agreements in
place. Historically, the professional liability per claim retention level has varied between 90% and 100%
of the first $1 million and between 0% and 5% 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.
111
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
5. Reinsurance (continued)
The effect of reinsurance on premiums written and earned is as follows (in thousands):
2010 Premiums
2009 Premiums
2008 Premiums
Written
Earned
Written
Earned
Written
Earned
Direct
Assumed
Ceded
Net premiums
$ 533,112
93
(27,798)
$ 505,407
$ 548,897
58
(29,848)
$ 519,107
$ 553,777
145
(39,879)
$ 514,043
$ 539,922
90
(42,469)
$ 497,543
$ 471,510
(28)
(42,475)
$ 429,007
$ 503,607
(28)
(44,301)
$ 459,278
The receivable from reinsurers on unpaid losses and loss adjustment expenses represents
Management’s estimate of amounts that will be recoverable under ProAssurance reinsurance agreements.
These estimates are based upon Management’s expectation of ultimate losses and the portion of those
losses that are allocable to reinsurers according to the terms of the agreements. Given the uncertainty of
the ultimate amounts of losses, Management’s estimates of losses and related amounts recoverable may
vary significantly from the eventual outcome. Also, premiums ceded under reinsurance agreements
wherein the premium due to the reinsurer, subject to certain maximums and minimums, is based in part
on losses reimbursed or to be reimbursed under the agreement, and will thus vary when loss estimates are
revised. During the year ended December 31, 2010 and December 31, 2009 ProAssurance reduced
premiums ceded by $13.4 million and $6.2 million, respectively, due to changes in Management’s
estimates of amount due to reinsurers related to prior accident year loss recoveries.
Reinsurance contracts do not relieve ProAssurance from its obligations to policyholders and
ProAssurance remains liable to its policyholders whether or not reinsurers honor their contractual
obligations to ProAssurance. ProAssurance continually monitors its reinsurers to minimize its exposure to
significant losses from reinsurer insolvencies.
At December 31, $87.9 million of the total amounts due from reinsurers of $181.4 million
(including receivables related to paid and unpaid losses and LAE and prepaid reinsurance premiums) is
due from four reinsurers which have an individual balance which exceeds $10 million. Each of these
reinsurers has an A.M. Best credit rating of AA or above.
As of December 31, 2010 ProAssurance has not established an allowance for credit losses related
to its reinsurance receivables. During the year ended December 31, 2010 no reinsurance balances were
written off for credit reasons.
At December 31, 2010, all reinsurance recoverables are considered collectible. Reinsurance
recoverables totaling approximately $17.0 million are collateralized by letters of credit or funds withheld.
At December 31, 2010 no amounts due from individual reinsurers exceed 5% of shareholders’ equity.
There were no significant reinsurance commutations in 2010 or 2009.
During 2008, ProAssurance commuted (terminated) various outstanding reinsurance
arrangements for approximately $42.7 million in cash. The commutations reduced Receivable from
Reinsurers on Paid Losses and Receivable from Reinsurers on Unpaid Losses, combined, by
approximately $3.9 million (net of cash received) and reduced Reinsurance Premiums Payable by
approximately $0.1 million.
112
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
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 assets and liabilities are as follows:
(In thousands)
2010
2009
Deferred tax assets
Unpaid loss discount
Unearned premium adjustment
Loss and credit carryovers
Compensation related
Basis differences–investments
Intangibles
Other
Total deferred tax assets
Deferred tax liabilities
Deferred acquisition costs
Unrealized gains on investments, net
Fixed assets
Intangibles
Other
Total deferred tax liabilities
Net deferred tax assets
$ 66,485
21,363
479
17,757
19,072
3,348
–
128,504
9,548
44,533
3,128
13,899
534
71,642
$ 56,862
$
$
71,562
19,971
360
12,512
7,311
3,550
619
115,885
8,922
34,282
1,046
2,829
–
47,079
68,806
In evaluating the need for a valuation allowance on deferred tax assets, management determined
that assets related to capital losses on investments would be realized through a tax planning strategy of
selling investments with built in gains.
A valuation allowance of $0.9 million that was established in 2009 related to deferred tax assets
acquired in the PICA acquisition was released in 2010. Management believes that sufficient sources of
taxable income are available to realize the benefit of these deferred tax assets.
At December 31, 2010 ProAssurance has no available net operating loss (NOL) carryforwards or
Alternative Minimum Tax (AMT) credit carryforwards. ProAssurance has an available capital loss
carryforward of $1.4 million that is subject to limitation under Internal Revenue Code Section 382. The
capital loss carryforward will begin to expire in 2012.
ProAssurance files income tax returns in the U.S. federal jurisdiction and various states.
ProAssurance federal tax returns for the 2005 through 2008 tax years are currently under examination by
the Internal Revenue Service. The Company’s Illinois state tax returns for the years 2006 through 2008
are also under examination by the Illinois Department of Revenue. Management is not aware of any
findings from these audits that would significantly alter ProAssurance current or deferred tax balances.
A reconciliation of the beginning and ending amounts of unrecognized tax benefits for 2010 is, as
follows:
(In thousands)
Balance at January 1
Increases/(decreases) for tax positions taken during the current year
Increases/(decreases) for tax positions taken during the prior years
Interest
Balance at December 31
2010
$ 7,156
–
1,593
335
$ 9,084
2009
$ 3,755
3,056
–
345
$ 7,156
Unrecognized tax benefits at December 31, 2010, if recognized, would not affect the effective tax
rate but would accelerate the payment of tax. ProAssurance’s uncertain tax positions are primarily timing
differences related to the recognition of gains (losses) on certain marketable securities and the
113
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
6. Income Taxes (continued)
deductibility of certain bonus compensation. Management believes that uncertain tax positions are likely
to decrease by $6.8 million in the next twelve months.
A reconciliation of “expected” income tax expense (35% of income before income taxes) to
actual income tax expense in the accompanying financial statements follows:
(In thousands)
Computed “expected” tax expense
Tax-exempt income
Tax credits
Other
Total
2010
$ 116,437
(15,048)
(1,000)
690
$ 101,079
2009
$ 111,567
(16,548)
–
1,717
$ 96,736
2008
$ 86,935
(17,270)
–
996
$ 70,661
Interest and penalties accrued or paid approximated $0.4 million during each of the years ended
December 31, 2010 and 2009. The accrued liability for interest and penalties approximated $0.7 million
and $0.4 million at December 31, 2010 and 2009, respectively.
7. Deferred Policy Acquisition Costs
Policy acquisition costs, most significantly commissions, premium taxes, and underwriting
salaries, that are primarily and directly related to the production of new and renewal premiums are
capitalized as policy acquisition costs and amortized to expense as the related premium revenues are
earned.
Amortization of deferred policy acquisition costs is $58.9 million, $49.7 million, and $47.3
million for the years ended December 31, 2010, 2009, and 2008, respectively.
8. Reserve for Losses and Loss Adjustment Expenses
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 internal actuaries to review the reserve for losses of each
insurance subsidiary. ProAssurance also engages external actuaries to review ProAssurance claims data
and provide observations regarding cost trends, rate adequacy and ultimate loss costs. ProAssurance
considers the views of the 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 external actuary’s certification as to their respective reserves in
accordance with the requirements of the National Association of Insurance Commissioners (NAIC).
114
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
8. Reserve for Losses and Loss Adjustment Expenses (continued)
Activity in the reserve for losses and loss adjustment expenses is summarized as follows:
(In thousands)
Balance, beginning of year
Less reinsurance recoverables
Net balance, beginning of year
$
2010
2,422,230
262,659
2,159,571
$
2009
2,379,468
268,356
2,111,112
2008
$ 2,559,707
327,111
2,232,596
Net reserves acquired from acquisitions
82,225
163,946
–
Net losses:
Current year
Favorable development of reserves
established in prior years, net
Total
Paid related to:
Current year
Prior years
Total paid
Net balance, end of year
Plus reinsurance recoverables
Balance, end of year
455,105
438,368
396,750
(233,990)
221,115
(207,300)
231,068
(185,251)
211,499
(34,593)
(291,654)
(326,247)
(67,900)
(278,655)
(346,555)
(20,635)
(312,348)
(332,983)
2,136,664
277,436
2,414,100
$
2,159,571
262,659
2,422,230
2,111,112
268,356
$ 2,379,468
$
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 2010 and 2009 primarily reflects reductions
in the Company’s estimates of claim severity for the 2003 through 2007 accident years. The favorable
development recognized in 2008 was primarily due to reductions in estimates of claims severity for
the 2004, 2005, and 2006 accident years. Actuarial evaluations of both internal and industry actual
claims data in 2010, 2009 and 2008 all indicated that claims severity (i.e., the average size of a claim)
is increasing more slowly than was anticipated when the reserves for 2003 through 2007 were initially
established.
9. Commitments and Contingencies
ProAssurance is involved in various legal actions related to insurance policies and claims
handling including, but not limited to, claims asserted by policyholders. ProAssurance has considered
such legal actions in establishing its loss and loss adjustment expense reserves. The outcome of any
individual legal action 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 result in
unfavorable rulings; 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 payment of any judgment above an insured's
policy limits. 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, the ultimate cost of resolving these legal actions may differ from the reserves
established, and the resulting difference could have a material effect on ProAssurance's results of
operations for the period in which any such action is resolved.
In 2009 a ProAssurance subsidiary, ProAssurance National Capital Insurance Company (PRA
National), after an unsuccessful appeal, paid approximately $20.8 million to settle a judgment entered
against PRA National in 2004 in favor of Columbia Hospital for Women Medical Center, Inc. (the
CHW Judgment or the Judgment). ProAssurance recognized a liability of $19.5 million related to the
Judgment in 2005 as a component of the fair value of assets acquired and liabilities assumed in the
115
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
9. Commitments and Contingencies (continued)
acquisition of PRA National and accrued post-trial interest thereafter. The payment was a full
settlement of the Judgment except with regard to a pending settlement setoff of less than $0.3 million.
As a result of its acquisition of APS, ProAssurance assumed risk of loss related to some non-
claims related legal actions previously asserted against APS subsidiaries. ProAssurance included a
liability of $5.6 million related to these actions as a component of the fair value of assets acquired and
liabilities assumed in the purchase price allocation. The value of the reserve was based on
Management’s assessment of the expected outcome of the actions and a reasonable estimate of losses
expected to be incurred.
ProAssurance has commitments to fund an additional $47 million to tax credit partnerships,
primarily in 2011 and 2012.
ProAssurance is involved in a number of operating leases primarily for office space and
office equipment. 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,
2010.
Operating Leases
(In thousands)
2011
2012
2013
2014
Thereafter
Total minimum lease payments
$ 2,952
1,968
1,843
1,648
6,954
$ 15,365
ProAssurance incurred rent expense of $3.3 million, $3.5 million and $2.8 million in the
years ended December 31, 2010, 2009 and 2008, respectively.
10. Long-term Debt
ProAssurance’s outstanding long-term debt consists of the following:
Trust Preferred Securities due 2034, unsecured. Bears interest at a variable rate of LIBOR plus
3.85%, adjusted quarterly (4.1% at December 31, 2010). Estimated fair value at December
31, 2010 is $23.0 million.
$
22,992
$ 22,992
Surplus Notes due May 2034, unsecured. Bears interest at a variable rate of LIBOR plus
3.85%, adjusted quarterly (4.1% at December 31, 2010). Estimated fair value at December
31, 2010 is $12.0 million.
12,000
12,000
(In thousands)
2010
2009
Note Payable due February 2019, carried at fair value, principal of $17.4 million and $17.7
million, respectively. Secured by available-for-sale securities having a fair value at
December 31, 2010 of approximately $27.2 million. Bears interest at a variable rate of
LIBOR plus 0.7%. See information below regarding the associated interest rate swap.
Note Payable due February 2012, unsecured, principal of $517,000 net of an unamortized
discount of $21,000 at December 31, 2010 and $46,000 at December 31, 2009. Bears
interest at the U.S. prime rate, paid and adjusted quarterly (3.3% at December 31, 2010).
Estimated fair value at December 31, 2010 is $521,000.
15,616
14,740
496
51,104
$
471
$ 50,203
Trust Preferred Securities due 2034 (TPS)
The TPS are uncollateralized and do not require maintenance of minimum financial
covenants. The TPS mature in 2034, but have been redeemable with notice since May 2009. 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.
The TPS were issued in 2004 by a trust (the Trust) formed by ProAssurance for the purpose
of issuing the TPS and using the proceeds thereof, together with the equity proceeds received from
116
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
10. Long-term Debt (continued)
ProAssurance in the initial formation of the Trusts, to purchase variable rate subordinated debentures
(the TPS Debentures) issued by ProAssurance. ProAssurance owns all voting securities of the Trust.
The Trust uses the interest and principal from the TPS Debentures to meet the obligations of the TPS.
ProAssurance has guaranteed that amounts paid to the Trust pursuant to its TPS Debentures
will be remitted to the holders of the TPS. These guarantees, when taken together with the obligations
of ProAssurance under the TPS Debentures (including obligations to pay related trust costs, fees,
expenses, debt and obligations of the Trust other than with respect to the TPS), the Indentures
pursuant to which the TPS debentures were issued, and the related trust agreement provide a full and
unconditional guarantee of amounts due on the TPS.
Surplus Notes Due 2034 (the Surplus Notes)
The Surplus Notes are the unsecured obligations of ProAssurance Wisconsin Insurance
Company (PRA Wisconsin), a ProAssurance subsidiary, and are subordinated and junior in the right
of payment to all senior claims and senior indebtedness of PRA Wisconsin. The Surplus Notes, with
proper notice, may be fully or partially redeemed prior to maturity.
The Surplus Notes converted from a fixed rate of 7.7% to a variable rate based on LIBOR in
May 2009. Each payment of interest and principal, including redemption, 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 PRA Wisconsin has sufficient surplus to make such payment.
2019 Note Payable and related Interest Rate Swap
The 2019 Note Payable was assumed in ProAssurance’s acquisition of PICA and is a secured
obligation of PICA. Principal and interest payable are paid monthly with the principal amortizing
over the life of the loan. PICA is required to maintain collateral security for the loan in an amount at
least equal to the outstanding principal balance. In accordance with GAAP, the 2019 Note Payable
was recorded at its fair value on the PICA acquisition date, April 1, 2009. Additionally, ProAssurance
elected to account for the 2019 Note Payable at fair value on a recurring basis and, accordingly, no
accretion of the fair value purchase adjustment is being recorded.
Future maturities of the 2019 Note Payable as of December 31, 2010 are as follows:
2011
$324,600
2012
$344,000
2013
$370,900
2014
$397,400
2015
$424,900
Thereafter
$15,574,400
The terms of the 2019 Note Payable specify covenants that must be met by PICA. The
covenants, which have been met for 2010 and 2009, are of the nature routinely associated with loans
of this type and include:
a requirement that PICA maintain a debt service coverage ratio of 1:1, measured annually.
The ratio is computed as net income (as defined by GAAP) plus depreciation, interest,
amortization and income taxes divided by aggregate principal and interest payments on all of
PICA’s debt.
a requirement that PICA maintain an A.M. Best insurance rating of B++ “Good” or better.
a restriction on the sale, lease or transfer of a substantial, material portion of PICA’s assets
without the approval of the bank
PICA is party to an interest rate swap agreement (the Swap) with the 2019 Note Payable
issuing bank, the purpose of which is to reduce the market risk from changes in future interest rates
relative to the 2019 Note Payable. The Swap fixes the interest rate related to the Note Payable at 6.6%
until
117
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
10. Long-term Debt (continued)
February 1, 2019. The notional amount of the swap corresponds directly to the unamortized portion of
the debt being hedged each month. Under the swap agreement, PICA agrees to exchange, at monthly
intervals, the difference between the fixed-rate and the LIBOR variable rate by reference to the
notional principal amount. The liability associated with the Swap measured at fair value on a
recurring basis which approximates $3.7 million at December 31, 2010 and $2.9 million at December
31, 2009. The Swap liability is classified as a part of other liabilities.
Note Payable due February 2012 (the 2012 Note)
The 2012 Note was issued by ProAssurance Casualty Company, a subsidiary of
ProAssurance, in connection with the acquisition of Georgia Lawyers. The 2012 Note may be repaid,
plus interest, before maturity without penalty or fee.
Subordination
As previously discussed, the Surplus Notes, the 2019 Note Payable and the 2012 Note are
each individually obligations of a single ProAssurance subsidiary. The notes have not been
guaranteed by ProAssurance or its other subsidiaries, and each note is effectively subordinated to the
indebtedness and other liabilities, including insurance policy-related liabilities, of ProAssurance and
its other subsidiaries.
Credit Facility
ProAssurance’s PICA subsidiary had a revolving credit facility with a bank in the amount of
$3.0 million which expired on August 1, 2010, and was not renewed.
Debt Extinguished
As a part of the PICA acquisition, ProAssurance assumed liability for PICA’s Surplus Notes
due May 2033 (the 2033 Surplus Notes) which had an outstanding principal balance of $7.0 million.
ProAssurance redeemed the 2033 Surplus Notes at par, for cash, in August 2009. Because the 2033
Surplus Notes were valued at fair value on the date of acquisition but were redeemed at par,
ProAssurance incurred a pre-tax loss of approximately $2.8 million ($1.8 million, net of tax) related
to the redemption.
In December 2008, ProAssurance reacquired TPS having a face value of $23 million for cash
of approximately $18.4 million and recognized a $4.6 million gain on the extinguishment of the debt.
ProAssurance completed the conversion of all of its outstanding Convertible Debentures
(aggregate principal of $107.6 million) in July 2008. Approximately 2,572,000 shares of
ProAssurance common stock were issued in the transaction (conversion rate was 23.9037 per $1,000
debenture). Of the common shares issued, approximately 2.12 million were reissued Treasury Shares
and 450,000 were newly issued shares. No gain or loss was recorded related to the conversion.
11. Shareholders’ Equity
At December 31, 2010 and December 31, 2009, ProAssurance had 100 million shares of
authorized common stock and 50 million shares of authorized preferred stock. The Board of Directors
of ProAssurance Corporation (the Board) has the authority to determine provisions for the issuance of
preferred shares, including the number of shares to be issued, the designations, powers, preferences
and rights, and the qualifications, limitations or restrictions of such shares. To date, the Board has not
approved the issuance of preferred stock.
118
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
11. Shareholders’ Equity (continued)
At December 31, 2010 approximately 1.6 million of ProAssurance’s authorized common
shares are reserved by the Board of Directors of ProAssurance for award or issuance under incentive
compensation plans as described in Note 12. Additionally, at December 31, 2010 approximately 0.9
million of ProAssurance’s authorized common shares are reserved by the Board of Directors of
ProAssurance for the issuance of outstanding restricted share and performance share units and for the
exercise of outstanding stock options.
In November 2010, the Board increased its prior authorizations for the repurchase of common
shares or the retirement of outstanding debt by $200 million. As of December 31, 2010,
authorizations totaling $209.0 million remain available for use. The timing and quantity of purchases
depends upon market conditions and changes in ProAssurance’s capital requirements and is subject to
limitations that may be imposed on such purchases by applicable securities laws and regulations, and
the rules of the New York Stock Exchange.
ProAssurance used approximately $7.0 million and $18.4 million of the authorization to
redeem debt during the years ended December 31, 2009 and 2008, respectively (see Note 10).
ProAssurance repurchased approximately 1.9 million, 1.1 million, and 1.8 million common
shares, having a total cost of $106.3 million, $52.0 million, and $87.6 million during the years ended
December 31, 2010, 2009, and 2008, respectively. In July 2008 approximately 2.12 million treasury
shares and 450,000 newly issued common shares were used to complete the conversion of
ProAssurance's Convertible Debentures. The conversion of the debt increased Stockholders’ Equity
by $112.5 million, consisting of the carrying amount of the Convertible Debentures (principal of
$107.6 million, less the unamortized portion of related loan discounts and costs of $1.8 million) and a
$6.7 million tax benefit from the reversal of interest-related deferred tax liabilities. No gain or loss
was recognized on the conversion.
For all periods presented, other comprehensive income is comprised of unrealized gains and
losses, including non-credit impairment losses, (net of tax) arising during the period related to
available-for-sale securities less reclassification adjustments for gains (losses) from available-for-sale
securities recognized in current period net income. Accumulated other comprehensive income is
comprised entirely of unrealized gains and losses from available for sale securities, net of tax.
Reclassification adjustments related to available-for-sale securities for the years ended
December 31, 2010, 2009 and 2008 are as follows:
(In thousands)
Net realized investment gains (losses) included in the calculation
of net income
Tax effect (at 35%)
Net realized investment gains (losses) reclassified from other
2010
2009
2008
$
11,815
(4,135)
$
3,704
(1,296)
$
(44,485)
15,570
comprehensive income
$
7,680
$
2,408
$
(28,915)
As of April 1, 2009, in conjunction with adoption of new GAAP guidance regarding
impairment of debt securities, ProAssurance reclassified previously recognized non-credit impairment
losses, net of tax, from retained earnings to accumulated comprehensive income (a $3.5 million
increase to retained earnings; a $3.5 million decrease to accumulated other comprehensive income).
12. Stock Options and Share-Based Payments
Share-based compensation costs are primarily classified as underwriting, policy acquisition
and operating expenses.
Since the beginning of 2009, ProAssurance has provided share-based compensation to
employees under the ProAssurance Corporation 2008 Equity Incentive Plan. Previously,
compensation was provided under the ProAssurance Corporation 2004 Equity Incentive Plan (2005 to
2008) and the ProAssurance Corporation Incentive Compensation Stock Plan (prior to 2005). The
119
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
12. Stock Options and Share-Based Payments (continued)
Compensation Committee of the Board of Directors is responsible for the administration of all three
plans.
ProAssurance has provided share-based compensation to employees through a combination
of restricted share units, performance share units and stock option awards. The following table
provides a summary by award type of compensation expense and related tax benefit recognized
during each period, and compensation cost that will be charged to expense in future periods.
Share-Based
Compensation Expense
Year Ended December 31
2010
$ 0.7
5.0
0.4
$ 6.1
$ 2.1
2009
(in millions)
$ 0.6
4.4
1.2
$ 6.2
$ 2.2
2008
$
–
4.7
3.1
$ 7.8
$ 2.6
Unrecognized Compensation Cost
December 31, 2010
Remaining
Recognition Period
(weighted average years)
1.9
1.7
1.5
Amount
(in millions)
$ 1.5
5.1
0.2
$ 6.8
Restricted shares
Performance shares
Stock options
Tax benefit recognized
All awards are charged to expense as an increase to equity over the service period (generally
the vesting period) associated with the award.
Stock Options
ProAssurance’s stock options generally vest in five equal installments, the first installment
occurring six months after the grant date and the other installments occurring annually thereafter. All
options are granted with an exercise price equal to the market price of ProAssurance’s common
shares on the date of grant, and an original term of ten years. ProAssurance option agreements permit
a cashless exercise whereby the exercise price and any required tax withholdings are allowed to be
satisfied by the retention of shares that would otherwise be deliverable to the option holder.
ProAssurance issues new shares for options exercised.
Activity for stock options during 2010, 2009 and 2008 is summarized below.
2010
2009
2008
Weighted
Average
Exercise
Price
$ 42.66
–
34.21
–
$ 46.21
$ 45.25
Options
960,750
–
(284,500)
–
676,250
595,100
Weighted
Average
Exercise
Price
$ 42.49
–
32.23
53.48
$ 42.66
$ 40.66
Options
1,013,658
–
(34,131)
(18,777)
960,750
803,750
Weighted
Average
Exercise
Price
$
$
$
40.55
54.28
34.33
52.76
42.48
39.32
Options
973,155
132,500
(68,470)
(23,527)
1,013,658
725,458
674,924
$ 46.20
957,060
$ 42.62
999,044
$
42.36
Outstanding, beginning of year
Granted
Exercised
Forfeited or expired
Outstanding at end of year
Exercisable at end of year
Outstanding at end of year,
vested or expected to vest
The aggregate grant date fair value of options vested during the years ended December 31,
2010, 2009 and 2008 is $1.3 million, $2.2 million and $11.8 million, respectively. The aggregate
intrinsic value of options exercised during 2010, 2009 and 2008 is $7.7 million, $0.7 million and $1.4
million, respectively.
120
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
12. Stock Options and Share-Based Payments (continued)
Additional information regarding ProAssurance options as of December 31, 2010:
Options outstanding
Options outstanding, vested or expected to vest
Options exercisable
Aggregate Intrinsic
Value
(In millions)
$ 10.4
10.4
9.7
Weighted Average
Remaining Contractual Term
(In years)
5.3
5.2
5.0
There were no cash proceeds from options exercised during the years ended December 31,
2010, 2009 or 2008.
No stock options were granted during 2010 or 2009. In 2008 ProAssurance granted 132,500
options having a weighted average grant date fair value of $16.49 per share, measured using the
Black-Scholes option pricing model. Assumptions used in the model included a risk-free interest rate
of 3.1%, expected volatility of 0.23, a dividend yield of 0.0%, and an expected average term of 6
years. The risk-free interest rate was based on the rates for a U.S. Treasury instrument with a term
similar to that of the option grant. Volatility was based on the historical volatility of ProAssurance’s
common shares for the six-year period prior to the grant date. The dividend yield was assumed to be
zero since ProAssurance has historically not paid dividends. Due to ProAssurance’s limited history of
employee exercise behavior, the expected average term was estimated as the mid-point between the
vesting date and the end of the contractual term of the option, as provided for by the U.S. Securities
and Exchange Commission’s Staff Accounting Bulletin 107.
Restricted Share Units
ProAssurance first awarded restricted share units in 2009. In general, restricted share units
vest at the end of a three year vesting period based upon a continued service requirement. Upon
vesting, a portion of each award sufficient to satisfy the employee’s required tax withholdings will be
paid to the employee in cash and the remainder of the award will be paid in shares.
Activity for restricted share units during 2010 and 2009 is summarized below. Grant date fair
values are based on the market value of a ProAssurance common share on the date of grant.
Beginning non-vested restricted stock
Granted
Forfeited
Vested and released
Ending non-vested restricted stock
2010
2009
Weighted
Average
Grant Date
Fair Value
$ 47.70
53.32
47.70
–
50.50
Restricted
Stock
28,815
28,355
(200)
–
56,970
$
Weighted
Average Grant
Date Fair
Value
–
47.70
–
–
47.70
Restricted
Stock
–
28,815
–
–
28,815
The aggregate grant date fair value of restricted share units awarded totaled $1.5 million in
2010 and $1.4 million in 2009.
Performance Shares
Performance share awards have been issued to two groups of employees: PRA executive
officers and other managers. The awards 100% vest at the end of a three year period if the service
requirements are met and minimum performance goals are achieved. If minimum performance goals
are achieved, the payment of awards can vary from 75% to 125% of set targets depending upon the
degree to which the performance goals are achieved. Upon vesting, a portion of each award sufficient
121
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
12. Stock Options and Share-Based Payments (continued)
to satisfy the employee’s required tax withholdings will be paid to the employee in cash and the
remainder of the award will be paid in shares.
Performance share activity for 2010, 2009 and 2008 is summarized below. The table reflects
target awards and does not include potential increases or decreases that may ultimately be due to
award recipients based on the actual achievement of performance objectives. Grant date fair values
are based on the market value of a ProAssurance common share on the date of grant.
Beginning non-vested performance shares
Granted – target
Forfeited
Vested and released
Ending non-vested performance shares
2010
2009
2008
Performance
Shares
212,291
95,415
(2,600)
(71,670)
233,436
Weighted
Average
Grant Date
Fair Value
$ 51.17
53.32
53.76
51.41
51.94
Weighted
Average
Grant Date
Fair Value
$ 52.46
47.70
52.88
51.37
51.17
Performance
Shares
201,950
71,135
(1,600)
(59,194)
212,291
Weighted
Average
Grant Date
Fair Value
$ 51.44
54.28
52.60
–
52.46
Performance
Shares
130,464
73,486
(2,000)
–
201,950
The aggregate grant date fair value of target performance share units granted in 2010, 2009
and 2008 totaled $5.1 million, $3.4 million and $4.0 million, respectively. ProAssurance issued
approximately 52,000 shares to employees in 2010 related to performance share units granted in
2007. ProAssurance issued approximately 44,000 shares to employees in 2009 related to performance
share units granted in 2006. The aggregate intrinsic value of vested performance share units paid to
employees in 2010 and 2009 (including cash tax withholdings) totaled $4.9 million and $3.5 million,
respectively. The awards were issued at the maximum level (125% of the target) based on
performance levels achieved. No performance share units were eligible for vesting in 2008.
Bonus Compensation
ProAssurance, with the approval of the Compensation Committee of the Board, issued
common shares to employees as bonus compensation as follows: 2010 – 40,000; 2009 – 37,000; 2008
– 60,000. The shares issued were valued at fair value on the award date, which is considered to be the
market price of a ProAssurance common share.
13. Variable Interest Entities
ProAssurance holds passive interests in a number of limited partnerships/limited liability
companies that are considered to be Variable Interest Entities (VIEs) under GAAP guidance.
ProAssurance has not consolidated these entities because it has either very limited or no power to
control the activities that most significantly affect the economic performance of these entities and is
thus not the primary beneficiary of any of the entities. ProAssurance’s involvement with each entity is
limited to its direct ownership interest in the entity. ProAssurance has no arrangements or agreements
with any of the entities to provide other financial support to or on behalf of the entity. ProAssurance's
maximum loss exposure relative to these investments is limited to the carrying value of
ProAssurance's investment in the entity.
The entities consist of 1) private investment funds formed for the purpose of achieving
diversified equity and debt returns, 2) private investment funds formed to provide investment returns
through the transfer of tax credits (principally federal or state tax credits related to federal low-income
housing) and 3) a limited liability interest in a development stage business operation. In those
instances where ProAssurance holds a minor interest in the entity, ProAssurance accounts for its
122
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
13. Variable Interest Entities (continued)
interest on a cost basis. Cost basis investments are included in Other Investments and have a carrying
value of $31.2 million and $31.1 million at December 31, 2010 and December 31, 2009, respectively.
In those instances where ProAssurance holds a greater than minor interest, ProAssurance accounts for
its interest using the equity method. Equity method investments are included in Investment in
Unconsolidated Subsidiaries and have a carrying value of $88.8 million at December 31, 2010 and
$48.5 million at December 31, 2009.
At December 31, 2009 ProAssurance held a direct and beneficial interest in certain high yield
asset-backed bonds contributed to an investment fund created for the purpose of managing such
investments. Under GAAP, this interest was considered to represent an interest in a separate VIE
(commonly referred to as a silo), of which ProAssurance was the primary beneficiary. ProAssurance
therefore consolidated its interest in these securities. The securities were included in Other
Investments at fair value ($10.9 million at December 31, 2009). The fund liquidated in 2010, see Note
4 of the Notes to the Consolidated Financial Statements for additional information.
14. Earnings Per Share
The following table provides detailed information regarding the calculation of basic and
diluted earnings per share for each period presented:
(In thousands, except per share data)
2010
2009
2008
Basic earnings per share calculation:
Numerator:
Net income
$ 231,598
$ 222,026
$ 177,725
Denominator:
Weighted average number of common shares outstanding
31,788
32,848
32,750
Basic earnings per share
$
7.29
$
6.76
$
5.43
Diluted earnings per share calculation:
Numerator:
Net income
Effect of assumed conversion of contingently convertible
debt instruments
Net income–diluted computation
Denominator:
Weighted average number of common shares outstanding
Assumed exercise of dilutive stock options and issuance of
performance shares and restricted stock units
Assumed conversion of contingently convertible debt
Instruments
Diluted weighted average equivalent shares
$ 231,598
$ 222,026
$ 177,725
–
$ 231,598
–
$ 222,026
1,484
$ 179,209
31,788
32,848
32,750
388
–
32,176
302
319
–
33,150
1,293
34,362
Diluted earnings per share
$
7.20
$
6.70
$
5.22
Stock options are not dilutive when the option exercise price exceeds the average price of a
common share during the period or when the result from assuming an option is exercised is a net
decrease to outstanding shares. During the years ended December 31, 2010, 2009, and 2008, the
average number of options not considered to be dilutive approximated 58,000 in 2010, 423,000 in
2009, and 389,000 in 2008.
123
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
15. Benefit Plans
ProAssurance currently maintains a defined contribution savings and retirement plan that is
intended to provide retirement income to eligible employees. The plan provides for employer
contributions to the plan of between 5% and 10% of salary for qualified employees. APS and PICA
maintained similar plans which were assumed by ProAssurance as a part of the acquisitions of APS
and PICA. The PICA plan was merged into the ProAssurance plan in 2010 and the APS plan will be
merged into the ProAssurance plan in 2011. ProAssurance incurred expense related to the savings and
retirement plans of $6.1 million, $4.5 million and $3.5 million during the years ended December 31,
2010, 2009 and 2008, respectively.
ProAssurance also maintains a non-qualified deferred compensation plan (the ProAssurance
Plan) that allows participating management employees to defer a portion of their current salary.
ProAssurance incurred expense related to the ProAssurance Plan of $0.2 million, $0.3 million and
$0.3 million for the years ended December 31, 2010, 2009 and 2008, respectively.
ProAssurance has deferred compensation liabilities totaling $13.5 million at December 31,
2010 and $6.6 million at December 31, 2009. The liabilities include amounts due under the
ProAssurance Plan, amounts due under individual agreements with current employees or former
employees of acquired entities, and amounts due under a currently inactive non-qualified plan.
16. Statutory Accounting and Dividend Restrictions
ProAssurance's insurance subsidiaries are required to file statutory financial statements with
state insurance regulatory authorities, prepared based upon statutory accounting practices prescribed
or permitted by regulatory authorities. Differences between net income prepared in accordance with
GAAP and statutory net income are principally due to: (a) policy acquisition and certain software and
equipment costs which are deferred under GAAP but expensed for statutory purposes and (b) certain
deferred income taxes which are recognized under GAAP but are not recognized for statutory
purposes.
The NAIC specifies risk-based capital requirements for property and casualty insurance
providers. At December 31, 2010 statutory capital for each of ProAssurance’s insurance subsidiaries
was sufficient to satisfy regulatory requirements. The table includes the statutory earnings of APS and
PICA for the statutory annual period of the year of acquisition and thereafter (see Note 2).
Consolidated net income, on a GAAP basis, includes the earnings of APS and PICA only for the
periods following acquisition (November 2010 and April 2009, respectively).
(In millions)
Statutory Net Earnings
2008
2009
2010
Statutory Surplus
2010
2009
$261
$ 239
$191
$1,392
$ 1,265
ProAssurance’s insurance subsidiaries, in aggregate, are permitted to pay dividends of
approximately $248 million during 2011 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.
124
ProAssurance Corporation and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010
17. Quarterly Results of Operations (unaudited)
The following is a summary of unaudited quarterly results of operations for 2010 and 2009:
(In thousands, except per share data)
1st
2nd
3rd
4th
2010
Net premiums earned
Net losses and loss adjustment expenses:
Current year
Prior year
Net income
Basic earnings per share
Diluted earnings per share
$ 123,427
$ 125,398
$ 130,300
$ 139,982
103,701
(25,000)
38,112
1.17
1.16
106,024
(37,500)
40,381
1.25
1.23
113,220
(33,409)
51,052
1.61
1.59
132,160
(138,081)
102,053
3.32
3.28
(In thousands, except per share data)
1st
2nd
3rd
4th
2009
Net premiums earned
Net losses and loss adjustment expenses:
Current year
Prior year
Net income
Basic earnings per share
Diluted earnings per share
$ 103,891
$ 127,744
$ 131,956
$ 133,952
87,617
(18,500)
28,366
0.85
0.84
104,025
(37,000)
53,881
1.64
1.62
112,066
(42,500)
55,201
1.69
1.67
134,659
(109,300)
84,577
2.61
2.58
Quarterly and year-to-date computations of per share amounts are made independently;
therefore, the sum of per share amounts for the quarters may not equal per share.
125
ProAssurance Corporation and Subsidiaries
Schedule I – Summary of Investments – Other than Investments in Related Parties
December 31, 2010
Type of Investment
Fixed Maturities
Bonds:
(In thousands)
U.S. Government or government agencies and authorities
States, municipalities and political subdivisions
Foreign Governments
Public utilities
All other corporate bonds
Certificates of deposit
Mortgage-backed securities
Total Fixed Maturities
Equity Securities, available-for-sale
Common Stocks:
Public utilities
Banks, trusts and insurance companies
Industrial, miscellaneous and all other
Non Redeemable Preferred Stock
Total Equity Securities, available-for-sale
Equity Securities, trading
Common Stocks:
Public utilities
Banks, trusts and insurance companies
Industrial, miscellaneous and all other
Total Equity Securities, trading
Other long-term investments
Short-term investments
Total Investments
Recorded
Cost
Basis
$
$
284,436
1,043,850
2,418
235,770
1,271,143
300
645,301
3,483,218
107
130
2,070
132
2,439
5,642
3,872
22,528
32,042
Amount
Which is
Presented
in the
Balance Sheet
$
294,786
1,078,446
2,447
243,488
1,315,063
300
669,224
3,603,754
125
260
3,120
132
3,637
5,778
4,317
27,191
37,286
Fair
Value
294,786
1,078,446
2,447
243,488
1,315,063
300
669,224
3,603,754
125
260
3,120
132
3,637
5,778
4,317
27,191
37,286
177,316
168,438
3,863,453
$
183,625
168,438
3,996,740
177,316
168,438
3,990,431
$
$
126
ProAssurance Corporation and Subsidiaries
Schedule II – Condensed Financial Information of Registrant
ProAssurance Corporation – Registrant Only
Condensed Balance Sheets
(In thousands)
Assets
Investment in subsidiaries, at equity
Fixed maturities available for sale, at fair value
Equity securities, trading, at fair value
Short-term investments
Investment in unconsolidated subsidiaries
Cash and cash equivalents
Due from subsidiaries
Other assets
Total Assets
Liabilities and Stockholders’ Equity
Liabilities:
Other liabilities
Long-term debt
Total Liabilities
Shareholders’ Equity:
Common stock
Other shareholders’ equity, including unrealized gains (losses) on
securities of subsidiaries
Total Shareholders’ Equity
December 31
2010
2009
$
1,823,761
$
1,558,390
1,189
10,793
24,239
3,407
4,284
26,869
10,767
82,501
11,751
34,269
17,372
11,780
19,979
13,784
$
1,905,309
$
1,749,826
$
$
26,454
22,992
49,446
22,239
22,992
45,231
344
342
1,855,519
1,855,863
1,704,253
1,704,595
Total Liabilities and Shareholders’ Equity
$
1,905,309
$
1,749,826
127
ProAssurance Corporation and Subsidiaries
Schedule II – Condensed Financial Information of Registrant
ProAssurance Corporation – Registrant Only
Condensed Statements of Income
(In thousands)
2010
2009
2008
Year Ended December 31
Revenues:
Investment income including net realized investment gains (losses)
of $3,474, $1,487 and ($3,379), respectively
$
5,745
$
6,047
$
Gain on extinguishment of debt
Other income (loss)
Expenses:
Interest expense
Other expenses
Income (loss) before income tax expense (benefit) and equity in net
income of subsidiaries
Income tax expense (benefit)
Income (loss) before equity in net income of subsidiaries
Equity in net income of subsidiaries
–
357
6,102
1,404
7,911
9,315
(3,213)
(747)
(2,466)
234,064
–
389
6,436
2,235
8,801
11,036
(4,600)
(840)
(3,760)
225,786
(34)
4,571
(2,734)
1,803
5,815
5,157
10,972
(9,169)
(3,325)
(5,844)
183,569
Net income
$ 231,598
$ 222,026
$ 177,725
128
ProAssurance Corporation and Subsidiaries
Schedule II – Condensed Financial Information of Registrant
ProAssurance Corporation – Registrant Only
Condensed Statements of Cash Flow
(In thousands)
2010
Year Ended December 31
2009
2008
Cash provided (used) by operating activities
$
(6,191)
$
(5,755)
$
11,915
Investing activities
Purchases of:
Fixed maturities, available for sale
Equity securities, available for sale
Equity securities trading
Cash investment in unconsolidated subsidiaries
Proceeds from sale or maturities of:
Fixed maturities, available for sale
Equity securities, available for sale
Equity securities trading
Net decrease (increase) in short-term investments
Dividends from subsidiaries
Contribution of capital to subsidiaries
Cash paid for acquisitions, net of cash received
Unsettled security transactions, net
Other
Financing activities
Repurchase of treasury stock
Subsidiary payments for common shares and share-based
compensation awarded to subsidiary employees
Excess of tax benefit from share-based payment arrangements
Book overdraft
Principal repayment of debt
Other
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents, beginning of period
Cash and cash equivalents, end of period
Significant non-cash transactions:
Extinguishment of debt as a result of Trust Preferred
Securities reacquired by wholly owned subsidiaries–See Note 3
Equity increase due to conversion of debt–see Notes 10 and 11 of the
ProAssurance Consolidated Financial Statements
Securities transferred at fair value as dividends from
subsidiaries
Common shares issued in acquisition
$
$
$
$
$
(1,711)
–
(5,960)
(5,000)
79,941
–
29,458
10,251
232,800
(10,000)
(233,022)
–
1,699
98,456
(106,346)
6,568
1,847
–
–
(1,830)
(99,761)
(7,496)
11,780
4,284
–
–
–
–
(1,299)
–
(13,657)
–
34,822
410
9,122
126,011
65,712
(35,000)
(128,582)
(401)
(344)
56,794
(32,866)
6,770
237
–
(13,403)
–
(39,262)
11,777
3
11,780
(28,881)
(354)
(3,338)
(20,000)
78,961
–
1,026
(64,717)
104,800
(450)
–
(3,600)
(8)
63,439
(87,561)
8,023
189
315
–
3
(79,031)
(3,677)
3,680
3
$
–
–
$
23,403
$ 112,478
$
$
$
$ 155,818
5,161
$
$
$
–
–
129
ProAssurance Corporation and Subsidiaries
Schedule II – Condensed Financial Information of Registrant
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 Parent) consolidated financial statements. At December 31, 2010 and 2009, PRA
Parent’s investment in subsidiaries is stated at the initial consolidation value plus equity in the
undistributed earnings of subsidiaries since the date of acquisition.
2. Acquisitions/Dispositions
On November 30, 2010 ProAssurance acquired 100% of the outstanding shares of American
Physicians Service Group, Inc. (APS) for approximately $237.1 million. The acquisition is described
in Note 2 to the Consolidated Financial Statements.
On April 1, 2009 ProAssurance acquired Podiatry Insurance Company of America and
subsidiaries (PICA) through a cash sponsored demutualization. ProAssurance purchased all of
PICA’s outstanding stock created in the demutualization for $120 million in cash and $15 million in
premium credits. The acquisition is described in Note 2 to the Consolidated Financial Statements.
3. Long-term Debt
Outstanding long-term debt, as of December 31, 2010 and December 31, 2009, consisted of
the following:
Trust Preferred Securities/Trust Preferred Subordinated Debentures due 2034, unsecured,
bearing interest at a variable rate of LIBOR plus 3.85%, adjusted quarterly (4.1% at
December 31, 2010) (see below)
$ 22,992
$ 22,992
(In thousands)
2010
2009
In 2008, wholly owned subsidiaries of ProAssurance reacquired outstanding Trust Preferred
Securities having a face value of $23 million, which effectively extinguished the related Trust
Preferred Debentures issued by PRA Parent. Trust Preferred amounts shown in the above table are
shown net of the reacquired Trust Preferred Securities held by PRA Parent’s subsidiaries. A gain of
$4.6 million was recognized on the extinguishment of the debt.
In 2009, PRA Parent retired $13.4 million of the Trust Preferred Securities held by its
subsidiaries.
See Note 10 of the Notes to the Consolidated Financial Statements included herein for a
detailed description of the terms of the long-term debt.
4. Related Party Transactions
PRA Parent received dividends from its subsidiaries of $232.8 million, $221.5 million and
$104.8 million during the years ended December 31, 2010, 2009 and 2008. PRA Parent contributed
capital to its subsidiaries of $10.0 million, $35.0 million and $0.5 million during the years ended
December 31, 2010, 2009 and 2008.
5. Income Taxes
Under terms of PRA Parent’s tax sharing agreement with its subsidiaries, income tax
provisions for individual companies are allocated on a separate company basis.
130
ProAssurance Corporation and Subsidiaries
Schedule III – Supplementary Insurance Information
(In thousands)
2010
2009
2008
Deferred policy acquisition costs
Reserve for losses and loss adjustment expenses
Unearned premiums
Net premiums earned
Net investment income
Losses and loss adjustment expenses incurred related to current year,
net of reinsurance
Losses and loss adjustment expenses incurred related to prior year,
net of reinsurance
Paid losses and loss adjustment expenses, net of reinsurance
Underwriting, policy acquisition and operating expenses:
Amortization of deferred policy acquisition costs
Other underwriting, policy acquisition and operating expenses
Net premiums written
$
27,281
2,414,100
256,050
519,107
146,380
$
25,493
2,422,230
244,212
497,543
150,945
$
19,505
2,379,468
185,756
459,278
158,384
455,105
438,368
396,750
(233,990)
326,247
58,939
76,041
505,407
(207,300)
(346,555)
49,694
66,843
514,043
(185,251)
(332,983)
47,339
53,046
429,007
Note: all amounts above are derived entirely from consolidated property and casualty entities.
131
ProAssurance Corporation and Subsidiaries
Schedule IV – Reinsurance
(In thousands)
2010
2009
2008
Property and Liability (1)
Premiums earned
Premiums ceded
Premiums assumed
Net premiums earned
Percentage of amount assumed to net
$
$
548,897
(29,848)
58
519,107
0.01%
$
$
539,922
(42,469)
90
497,543
0.02%
$
$
503,607
(44,301)
(28)
459,278
(0.01%)
(1) All of ProAssurance's premiums are related to property and liability coverages.
132
EXHIBIT INDEX
Exhibit
Number
Description
2
2.1
2.2
2.3
2.4
2.5
3.1(a)
3.1(b)
3.2
4
10.1(a)
10.1(b)
10.1(c)
Schedules to the following documents are omitted; the contents of the schedules are
generally described in the documents; and ProAssurance will upon request furnish to
the Commission supplementally a copy of any omitted schedule.
Stock Purchase Agreement dated November 7, 2005, among Motors Insurance
Corporation, MEEMIC Insurance Company, MEEMIC Insurance Services
Corporation, MEEMIC Holdings, Inc. and ProAssurance Corporation (1)
Agreement and Plan of Merger, dated as of December 8, 2005, between
ProAssurance and PIC Wisconsin, as amended February 14, 2006 (2)
Plan of Conversion of PICA as filed with the Illinois Director of Insurance on
November 13, 2008 (3)
Stock Purchase Agreement executed by ProAssurance Corporation and PICA dated
October 28, 2008 (3)
Agreement and Plan of Merger by and among ProAssurance Corporation, CA Bridge
Corporation and American Physicians Service Group, Inc. dated August 31, 2010 (4)
Certificate of Incorporation of ProAssurance (5)
Certificate of Amendment to Certificate of Incorporation of ProAssurance (6)
Third Restatement of the Bylaws of ProAssurance (7)
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.
Medical Assurance, Inc. Incentive Compensation Stock Plan (formerly known as the
Mutual Assurance, Inc. 1995 Stock Award Plan) (8) *
Amendment and Assumption Agreement by and between ProAssurance and Medical
Assurance, Inc. (6) *
Amendment and Assumption Agreement by and between Mutual Assurance, Inc. and
MAIC Holdings, Inc. dated April 8, 1996 (9) *
10.3(a)
ProAssurance Corporation 2004 Equity Incentive Plan (10) *
10.3(b)
First amendment to 2004 Equity Incentive Plan (11) *
133
10.4
Form of Release and Severance Compensation Agreement dated as of January 1,
2008 between ProAssurance and each of the following named executive
officers (12): *
Edward L. Rand, Jr.
Howard H. Friedman
Jeffrey P. Lisenby
Darryl K. Thomas
Frank B. O'Neil
10.5
10.6(a)
10.6(b)
10.7
10.8
10.9
Deferred Compensation Plan and Agreement effective as of December 31, 2010,
between ProAssurance and Victor T. Adamo *
Employment Agreement between ProAssurance and W. Stancil Starnes dated as of
May 1, 2007 (13) *
Amendment to Employment Agreement with W. Stancil Starnes (May 1, 2007),
effective as of January 1, 2008 (12) *
Consulting Agreement between ProAssurance and William J. Listwan (14) *
Employment Agreement between ProAssurance and Jerry D. Brant dated as of April
2, 2009 (15) *
Form of Indemnification Agreement between ProAssurance and each of the
following named executive officers and directors of ProAssurance *
Victor T. Adamo
Lucian F. Bloodworth
Jerry D. Brant
Robert E. Flowers
Howard H. Friedman
Jeffrey P. Lisenby
William J. Listwan
John J. McMahon
Drayton Nabers
Frank B. O'Neil
Ann F. Putallaz
Edward L. Rand, Jr.
W. Stancil Starnes
Darryl K. Thomas
William H. Woodhams
Wilfred W. Yeargan, Jr.
134
10.10
10.11
10.12
10.13
10.14
10.15
21.1
23.1
31.1
31.2
32.1
32.2
*
ProAssurance Group Employee Benefit Plan which includes the Executive
Supplemental Life Insurance Program (Article VIII) (8) *
Amendment and Restatement of the Executive Non-Qualified Excess Plan and Trust
effective January 1, 2008 (12) *
Amendment and Restatement of Director Deferred Compensation Plan effective
January 1, 2008 (12) *
ProAssurance Corporation 2008 Equity Incentive Plan (16) *
ProAssurance Corporation 2008 Annual Incentive Compensation Plan (17) *
ProAssurance Corporation 2011 Employee Stock Ownership Plan *
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
Denotes a management contract or compensatory plan, contract or arrangement
required to be filed as an exhibit to this report
135
Footnotes
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(8)
(9)
(10)
(11)
(12)
(13)
(14)
(15)
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 Current Report on Form 8-K for event occurring
November 13, 2008 (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
August 31, 2010 (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-
49378) and incorporated herein by reference pursuant to Rule 12b-32 of the Securities
and Exchange Commission (SEC)
Filed as an Exhibit to ProAssurance’s 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 Current Report on Form 8-K for the event
occurring December 1, 2010 (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 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 Quarterly Report on Form 10-Q for the quarter
ended September 30, 2006 (File No. 001-16533) and incorporated herein by this
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, 2007 (File No. 001-16533) and incorporated herein by this reference
pursuant to SEC Rule 12b-32
Filed as an Exhibit to ProAssurance’s Current Report on Form 8-K for the event
occurring May 13, 2007 (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
Filed as an Exhibit to ProAssurance's Annual Report on Form 10-K for the year ended
December 31, 2009 (File No. 001-16533) and incorporated herein by this reference
pursuant to SEC Rule 12b-32
136
(16)
(17)
Filed as an Exhibit to ProAssurance’s Registration Statement on Form S-8 (File No. 333-
156645) and incorporated by reference pursuant to SEC Rule 12b-32
Filed as an Exhibit to ProAssurance’s Definitive Proxy Statement (File No. 001-165333)
on April 11, 2008 and incorporated herein by reference pursuant to SEC Rule 12b-32
137
Exhibit 31.1
CERTIFICATIONS
I, W. Stancil Starnes, 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 23, 2011
/s/ W. Stancil Starnes
W. Stancil Starnes
Chief Executive Officer
138
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 23, 2011
/s/ Edward L. Rand, Jr.
Edward L. Rand, Jr.
Chief Financial Officer
139
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, 2010 as filed with the Securities and Exchange Commission on the date
hereof (the “Report”), I, W. Stancil Starnes, 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 23, 2011
s/ W. Stancil Starnes
W. Stancil Starnes
Chief Executive Officer
140
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, 2010 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 23, 2011
/s/ Edward L. Rand, Jr.
Edward L. Rand, Jr.
Chief Financial Officer
141
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Annual Report Appendix A
Non-GAAP Financial Measures
Operating Income is a “Non-GAAP” financial measure that is widely used in our industry to evaluate
the performance of underwriting operations. Operating Income excludes the after-tax effects of net realized
gains or losses and guaranty fund assessments or recoupments and debt retirement loss. We believe it
presents a useful view of the performance of our insurance operations. While we believe disclosure of certain
Non-GAAP information is appropriate, you should not consider this information without also considering the
information we present in accordance with GAAP, which includes the effect of net realized gains or losses
and guaranty fund assessments or recoupments incurred during the periods presented below. The following
table reconciles Income from Continuing Operations to Operating Income.
Reconciliation of Income from Continuing Operations to Operating Income:
(in thousands, except per share amounts)
2010
Year Ended December 31,
2008
2009
2007
2006
Income from Continuing Operations(1)
$
231,598
$
222,026
$
177,725
$
168,186
$
126,984
Items excluded in the calculation
of operating income:
(Gain) loss on the extinguishment of debt
–
2,839
(4,571)
Net realized investment (gains) losses
Guaranty Fund (recoupments) assessments
Pre-tax effect of exclusions
Tax effect at 35%
Operating Income
Per diluted common share:
(17,342)
(1,336)
(18,678)
6,537
(12,792)
50,913
(533)
(1,334)
(10,486)
45,008
–
5,939
553
6,492
–
1,199
2,609
3,808
3,670
(15,753)
(2,272)
(1,333)
$
219,457
$
215,210
$
206,980
$
172,406
129,459
Income from Continuing Operations(1)
$
7.20
6.70
$
5.22
$
4.78
$
Effect of adjustments
(0.38)
(0.21)
0.85
0.12
Operating Income per diluted common share
$
6.82
$
6.49
$
6.07
$
4.90
$
(1) For years 2007 to 2010 there was no difference between Income from Continuing Operations and Net Income.
3.72
0.07
3.79
This page is not a part of ProAssurance’s Annual Report on Form 10K, and was not filed with the
Securities & Exchange Commission.
ProAssurance®, Treated Fairly®, ProControl®, Certitude®, LawyerCare® and the “Curl” device
are registered trademarks of ProAssurance Corporation. All Rights Reserved
144
I N V E S T O R I N F O R M AT I O N
There were 30,581,379 shares of ProAssurance Corporation
common stock outstanding at March 15, 2011. On that date, we
had 3,554 shareholders of record. Our common stock trades on
the New York Stock Exchange under the symbol PRA. The price
of our stock is available from any website that provides stock
quotes, including the website of the New York Stock Exchange,
www.nyse.com; we also post the price of our stock on our website,
www.ProAssurance.com.
YOUR SHARES
If you hold your shares through a brokerage account, your
broker or a customer service representative at that firm should
be able to answer questions about your holdings.
If you hold your shares in certificate form, or have shares
held in direct registration (DRS), you may contact our transfer
agent, BNY Mellon Shareowner Services, for address changes,
transfer of certificates, and replacement of share certificates
that have been lost or stolen.
You may reach BNY Mellon Shareowner Services in a
variety of ways:
PHONE
INTERNET
(800) 851-9677
(201) 680-6578
Internet information about your account
www.bnymellon.com/shareowner/isd
General information about Mellon
www.bnymellon.com
Hearing Impaired
(800) 231-5469
(201) 680-6610
MAIL
also provides copies of the Board-adopted charters for our
Audit, Compensation, and Nominating/Corporate Governance
Committees, along with information such as stock ownership
guidelines, committee composition and leadership, and director
independence, including categorical standards to assist in
determining independence.
Our filings with the Securities and Exchange Commission (SEC)
are available in the Investor Relations section of our website
(www.proassurance.com/investorrelations/sec_ filings.aspx).
Our SEC filings are also available in the EDGAR section of the
SEC’s website (www.sec.gov/edgar.shtml).
W. Stancil Starnes, our Chief Executive Officer, submitted the
required Section 12(a) CEO Certification to the New York Stock
Exchange in a timely manner on June 21, 2010. Additionally,
we have been timely in the filing of CEO/CFO certifications as
required in Section 302 of the Sarbanes-Oxley Act. These certifi-
cations are published as exhibits in our Form 10-K filed with the
SEC on February 24, 2011.
INVESTOR RELATIONS
The Investor Relations section of our website also contains
detailed financial information, SEC filings, the latest news
releases about the Company and our latest presentation mate-
rials. We also maintain an archive of this material, although you
should realize that archived information, by its very nature, may
no longer be accurate.
OBTAINING INFORMATION DIRECTLY FROM PROASSURANCE
Any of the documents mentioned above may be obtained from
our Communications and Investor Relations Department using
one of the contact methods below:
BNY Mellon Shareowner Services
P.O. Box 358015
Pittsburgh, PA 15252-8015
480 Washington Boulevard
Jersey City, NJ 07310-1900
E-MAIL
Investor@ProAssurance.com
MAIL
ProAssurance Corporation
Investor Relations & Communications
P. O. Box 590009
Birmingham, AL 35259-0009
Phone: (205) 877-4400 / (800) 282-6242
Fax: (205) 802-4799
ANNUAL MEETING
The 2011 Annual Meeting is scheduled for 9:00 AM CDT on
Wednesday, May 18, 2011 at the headquarters of
ProAssurance Corporation, 100 Brookwood Place,
Birmingham, Alabama 35209.
IF YOU STILL HOLD SHARES OF PHYSICIANS INSURANCE
COMPANY OF WISCONSIN (PIC Wisconsin) stock, you should
act quickly to convert your PIC Wisconsin shares into shares of
ProAssurance. State laws require that we turn over unconverted
shares to the unclaimed property office in each state on a
regular basis in a process known as escheatment. We escheated
many PIC Wisconsin shares in 2010, and most remaining,
unconverted shares will be turned over in 2011. For assistance,
please phone our Investor Relations department at
(800) 282-6242.
CORPORATE GOVERNANCE AND COMPLIANCE WITH REGULA-
TORY AND NEW YORK STOCK EXCHANGE REQUIREMENTS
We invite you to visit the Investor Relations and Corporate
Governance sections of our website, www.ProAssurance.com.
There you will find important information about our Company,
including our Corporate Governance Principles and Code of
Ethics and Conduct, which were developed and adopted by
our Board of Directors. The Governance section of our website
(www.proassurance.com/investorrelations/governance.aspx)
®
100 Brookwood Place
Birmingham, Alabama 35209
(205) 877-4400
(800) 282-6242
www.ProAssurance.com