2014
State Auto Financial Corporation
Annual Report
2014 Annual Report
39803.indd 1
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Financial Highlights
($ in millions, except per share amounts)
2014
2013
2012
2011 2010
1,042.1
1,055.0
72.8 75.4
1,428.8 1,257.2
85.4 80.8
37.0
29.0 14.9
$1,074.1
Earned premiums
Net investment income 74.7
Net realized investment gain
Other income
Total revenue
$1,172.7
20.7
3.2
Net income (loss) $ 107.4
2.63
$
Basic earnings (loss) per share
2.60
Diluted earnings (loss) per share $
$
0.40
Dividends paid per share
$ 21.32
Book value per share
23.2
2.0
1,153.0
60.8
1.50
1.49
0.40
19.27
3.6
1,150.1
2.5 2.2
1,533.7 1,355.1
10.7
(160.7) 24.4
0.26
0.26
0.55
18.22
(4.00) 0.61
(4.00) 0.61
0.60 0.60
17.95 20.71
Total assets
Stockholders’ equity
Return on equity
Combined ratio
$2,766.9 2,496.4
$ 872.9 785.0
2,477.8
737.2
2,764.4 2,701.4
723.8 831.2
13.0%
105.5
8.0%
101.8
1.5% (20.7)% 2.9%
116.5 104.6
107.9
Investment Portfolio
Investment Portfolio
Municipal
Bonds
32.7%
U.S. Government
Agencies and MBS
23.0%
Net Premium Written (in billions)
Net Premium Written (in billions)
Corporate and
Other Invested
Securities
17.9%
Equity
Securities
13.2%
Notes
Receivable
3.0%
U.S.
Treasury
Securities
10.2%
Book Value (per share)
Book Value (per share)
Dividend Paid (per share)
Dividend Paid (per share)
39803.indd 2
3/20/15 10:23 AM
“2014 was a transformative year for State Auto Financial Corporation.
We have the people, earnings momentum, balance sheet strength, risk
management plans, and technology initiatives to make solid progress in
2015 and beyond.”
Dear
Shareholders,
2014 was a transformative year for State Auto Financial Cor-
poration. Our 2014 results demonstrated that we’ve addressed
a myriad of issues that masked underlying improvements in our
underwriting profi tability.
For the year, STFC produced net income of $107.4 million or
$2.60 per diluted share and a combined ratio of 105.5%. Setting
aside the fi nancial impact from the expired homeowners quota
share treaty and the reserve strengthening for the terminated Risk
Evaluation & Design LLC (RED) program business, our 2014 com-
bined ratio was a strong 95.4%(1). Similar to 2013, we benefi ted
from below average catastrophe losses, price increases in all lines
and segments, superior claim performance, and strong agency
relations.
With the announcement of year-end results, we reversed
the deferred tax assets valuation allowance, which has been in
place since the second quarter of 2011. This improved our
capital position and helped elevate our return on equity to 13%.
There were many moving pieces embedded in our 2014 results.
(cid:122) We replaced the expired homeowners quota share reinsur-
ance arrangement with a new one-year property aggregate
excess catastrophe reinsurance agreement, effective Jan. 1,
2015, covering property business underwritten in our
personal and business insurance segments, including auto-
mobile physical damage. Homeowners is becoming one of
our most profi table lines, and by retaining more of the risk
associated with our homeowners business and returning to
a more traditional reinsurance approach, we expect this
business to contribute substantially to improved results in
2015 and beyond. The new aggregate excess treaty is
intended to provide protection against excessive catastro-
phe losses, minimize earnings volatility and preserve capital.
(cid:122) In 2014 we strengthened RED reserves by $96.7 million and
entered into an adverse development cover (ADC) reinsur-
ance arrangement with Munich Reinsurance America Inc.
This reserve strengthening, supplemented by the ADC,
increased our confi dence that this business will not be a
drag on future earnings.
(cid:122) In reversing the deferred tax assets valuation allowance, as
mentioned above, we increased our return on equity,
improved our capital position and enhanced book value.
Going forward, we expect to grow book value the old
fashioned way – earnings resulting from underwriting
profi tability and stable investment income.
Robert P. Restrepo Jr.
President, Chairman of the Board and Chief Executive Offi cer
With these changes behind us, we can now focus on execut-
ing our strategy to produce underwriting profi ts on a consistent
basis and to grow investment income from our conservatively
managed portfolio.
Looking forward, we remain a company focused on the
property and casualty insurance business, committed to dis-
tributing our products through independent agents and brokers,
and positioned to enhance the security and fi nancial interests of
our policyholders and shareholders by growing book value and
surplus through top quartile underwriting performance.
We defi ne top quartile underwriting performance as above
average profi tability and growth for each segment and in each
line of business. Presently, we’re not achieving our top quar-
tile vision in all segments and lines. But we have the people,
earnings momentum, balance sheet strength, risk management
plans, and technology initiatives to make solid progress in 2015
and beyond.
State Auto Financial Corporation
39803.indd 3
Page 1
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“We’ve completed the transformation of our claim
operations by redesigning businesses processes,
restructuring the organization, reducing reliance
on third-party vendors, and implementing a new
technology platform.”
Personal Insurance
Specialty Insurance
Our homeowners remediation efforts targeted improved loss
ratios, higher prices, and fewer agency partners. All of this took its
toll on production. We have plans underway to stabilize produc-
tion and resume normal marketing to our “prime of life” target
market. Despite agency terminations, retention has held up well
and is a testimony to our strong agency relationships.
Our issue is new business. We have a number of marketing
initiatives underway to reposition us with our agency partners and
regain “shelf space” with the customer service representatives
who quote new business for prospective customers. We’re also
attempting to take advantage of some disruptions in the market-
place for book transfers from some of our competitors. Despite
these efforts, we don’t anticipate resuming normal growth until
2016. Once this happens, we expect to regain our position in per-
sonal lines as a top quartile market for our independent agency
partners.
In the meantime, we expect strong underwriting profi tability
driven by adequate prices and industry leading performance
in our claim organization. Our loss adjustment expense is com-
petitive with anyone. Our disciplined underwriting, responsive
pricing and claim indemnity management are also signifi cant
contributors to our excellent underwriting results in the personal
insurance segment.
Business Insurance
Specialty insurance has achieved top quartile status. Since
adding Rockhill’s business to the intercompany pooling arrange-
ment, we’ve seen a steady premium growth rate and, excluding
RED, excellent underwriting results. We expect to benefi t in the
future as we build out our specialty claim capability, handle more
claims in-house, and better manage relationships with third party
claim administrators and vendors.
Our specialty segment consists of E&S property, E&S casual-
ty, workers’ compensation and programs. E&S property’s results
have been exceptional, benefi tting from strong underwriting
performance and low catastrophe levels, particularly in Florida
where a signifi cant amount of this business is written.
E&S casualty has produced strong and consistent under-
writing profi ts with a focus on umbrella and casualty excess,
environmental liability, healthcare (both professional and general
liability), and non-admitted general liability lines such as that
written through Partners General, a managing general under-
writer acquired by our parent, State Auto Mutual, in 2014.
Our workers’ compensation niche strategy focuses on our
two-pronged “barbell” strategy. Approximately 50% of our
premium is in the specialty “debit mod” market, which targets
businesses with policies of at least $100,000 in annual premi-
ums, where we work to reduce a client’s workers’ compensation
costs through our superior nurse consulting claim capability and
rigorous return to work programs.
Commercial lines growth is above average, but profi tability is
The other half of our premium in this specialty unit is small
mixed. As with personal insurance, all lines benefi t from strong
claim performance. Automobile and liability lines have excellent
loss ratios. In the fi rst half of 2014 our Business Owners Policy
(BOP) results were impacted by harsh weather and an increased
frequency in large fi re losses. In the second half of 2014 large
losses returned to a more normal level. However, we identifi ed a
handful of classes and larger premium accounts that have dispro-
portionately hurt loss ratio performance. Specifi cally, some class-
es such as grocery and convenience stores have experienced
a higher frequency and severity of property and liability losses.
We’ve eliminated several classes from eligibility and reduced
marketing the BOP to accounts exceeding $25,000 in premium.
Our biggest constraint to improving our business insurance
combined ratio relates to our expense ratio. Service levels are
excellent, but we have a high touch/high cost service model. In
2015, we’ll begin making technology investments to improve
productivity, organizational changes to more effi ciently process
smaller accounts, and refi nements to our underwriting appetite to
focus on accounts over $10,000 that currently have acceptable
expense ratios. We anticipate that expense ratios will improve
over the next several years as we implement these steps.
workers’ compensation policies under $25,000 in premium,
although most of what we write is under $10,000. We market to
“four wall” classes such as manufacturing, healthcare, hospital-
ity, retail and wholesale. These types of risks generally do not
have catastrophic claims and benefi t from our return to work
claims programs. Our strategy continues to produce strong
profi ts, and we see opportunities for continued growth and profi t
as we expand to new states and broaden distribution.
In 2014, the program business, excluding the impact of RED,
came close to achieving targeted returns as we gained scale.
This is a business that should be consistently profi table given
our niche marketing orientation, strong underwriting and claim
controls, and rigorous pricing discipline. With RED behind us,
and a new management team in place, we expect programs to
be an important part of our specialty profi t and growth plans for
the future.
Claim
We remain very pleased with our claim performance, which is
critical to achieving superior loss ratios and maintaining high
levels of customer service. Our loss adjustment expense ratio
Page 2
39803.indd 4
State Auto Financial Corporation
3/20/15 10:23 AM
is better than industry averages and is among the best in the
business.
We’ve completed the transformation of our claim operations
by redesigning business processes, restructuring the organiza-
tion, reducing reliance on third-party vendors, and implementing
a new technology platform. We’re now positioned to capitalize
on these investments by using analytics to improve our fraud
detection, enhance fi rst notice of loss handling, and identify op-
portunities to improve customer service and speed.
I’m very proud of what we’ve been able to accomplish in
claim and how we continue to innovate. One example is a new
early intervention narcotics management program. This new
program closely monitors the use of narcotic pain medicine. Our
nurse case managers begin working immediately on any claims
where narcotics are prescribed and consult with the treating
physician and/or our internal medical directors with the goal of
weaning the claimant from the highly addictive narcotics and
assisting them in their recovery, return to work and resumption
of a normal life.
“Last year, we made solid progress and, on
average, improved our customer service perfor-
mance by almost 10%. We’ll continue to look for
ways to further improve our top quartile service
capability for all of our customers.”
Operations
We maintain detailed metrics on customer service and ex-
perience across the enterprise. We survey agents, policyholders
and claimants on a regular basis to assess our responsiveness
and reliability in meeting their expectations. Last year, we made
solid progress and, on average, improved our agent satisfaction
results by almost 10%. We’ll continue to look for ways to further
improve our top quartile service capability for all our customers.
At the end of 2014, we successfully completed a new sourc-
ing arrangement with a third party that assumed responsibility
for maintaining all legacy system applications. This sourc-
ing arrangement has already increased our speed to market,
enhanced resource capacity and fl exibility, and broadened and
deepened our skill set. Most importantly, our IT associates are
now focused on the high priority and strategic initiatives under-
way to replace all of our legacy policy administration and billing
systems. The initiative will take several years to complete, but
will begin this year with developing and deploying new agent
portals to further improve customer service, enhance productiv-
ity and, over time, reduce our expense ratio.
People
With all the change and transformation State Auto has expe-
rienced over the past several years, what has not changed is our
culture and the quality of our people.
We are not a low cost provider, a product innovator or world
class in operational excellence. We expect to be competitive in
each of these three areas and we’re making the investments in
people, technology and risk management capability to succeed.
What has always distinguished State Auto is customer inti-
macy. We have a genuine understanding of the people and com-
munities we serve and provide relevant information and expert
guidance that leads to better decisions.
We know that agents, brokers and policyholders want to
be treated as individuals and respected for who they are. We
know them, we know what they expect, and we deliver. All of
this comes from a culture built around a consistent set of values
that has been ingrained for many years. We recruit, develop and
retain smart, sincere and supportive associates who:
(cid:122) Do what’s necessary to grow surplus and preserve our
fi nancial strength, which is critical to preserving agency
and broker partnerships and policyholder trust;
(cid:122) Uphold and strengthen the company’s platinum plus
reputation in the market place;
(cid:122) Build and sustain strong relationships with agents and
brokers, policyholders and all of our constituencies;
(cid:122) Allow our company to provide reliable, stable and
predictable markets; and
(cid:122) Respond to needs and requests that are often
characterized by behaviors as simple as answering the
telephone, which is increasingly rare in our industry.
As a result, our agents, brokers and policyholders get the
service and support they need to be secure today and prepared
for tomorrow.
The quality of our people has sustained us through a diffi cult
period and now positions us for profi table growth and improved
shareholder returns.
Robert P. Restrepo Jr.
President, Chairman of the Board and Chief Executive Offi cer
1Reconciliation of HO Quota Share Arrangement Cession and RED Underwriting Results to
As Reported Results
Year ended December 31, 2014
As Reported
HO QS
Cession
Cat Loss and ALAE ratio
3.0%
10.8%
Non-cat loss and LAE ratio 68.8%
38.1%
Loss and LAE ratio 71.8%
48.9%
39.8%
Expense ratio 33.7%
Combined ratio 105.5% 88.7%
State Auto Financial Corporation
39803.indd 5
Pro Forma
without
HO QS
Cession and
RED
Pro Forma
without
HO QS
_________________
Cession
4.1%
64.5%
68.6%
34.6%
103.2%
4.1%
56.7%
60.8%
34.6%
95.4%
Page 3
3/20/15 10:23 AM
Robert P. Restrepo Jr.
President, Chairman and CEO -
State Auto Financial Corporation
Board of Directors
Robert E. Baker
Executive Vice President
DHR International
David J. D’Antoni
Retired Senior Vice President -
Ashland Inc.
Eileen A. Mallesch
CPA, Retired CFO
Thomas E. Markert
Executive Vice President
Research Now Group Inc.
David R. Meuse
Principal -
Stonehenge Partners Corp
S. Elaine Roberts
President and CEO -
Columbus Regional Airport Authority
Alexander B. Trevor
President and Director -
Nuvocom Inc.
Paul S. WIlliams
Partner-
Major, Lindsey & Africa
Senior Offi cers
Robert P. Restrepo Jr.
President, Chairman and
Chief Executive Offi cer
Steven E. English
Senior Vice President
Chief Financial Offi cer
James A. Yano
Senior Vice President
Secretary and General Counsel
Joel E. Brown
Senior Vice President, Standard Lines
Jessica E. Buss
Senior Vice President, Specialty Lines
Page 4
39803.indd 6
Clyde H. Fitch
Senior Vice President, Chief Sales Offi cer
Stephen P. Hunckler
Senior Vice President, Chief Claims Offi cer
Cynthia A. Powell
Senior Vice President, Chief Risk Offi cer
Lyle D. Rhodebeck
Senior Vice President, Director of Operations
Lorraine M. Siegworth
Senior Vice President,
Chief Strategy and Organization Effectiveness Offi cer
State Auto Financial Corporation
3/20/15 10:23 AM
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
Annual Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended December 31, 2014 or
Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from to
Commission File Number 000-19289
STATE AUTO FINANCIAL CORPORATION
(Exact name of Registrant as specified in its charter)
Ohio
(State or other jurisdiction of
incorporation or organization)
518 East Broad Street, Columbus, Ohio
(Address of principal executive offices)
31-1324304
(I.R.S. Employer Identification No.)
43215-3976
(Zip Code)
Registrant’s telephone number, including area code:
(614) 464-5000
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Shares, without par value
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities
Act. Yes
No
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the
Act. Yes
No
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to
file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes
No
Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every
Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months
(or for such shorter period that the Registrant was required to submit and post such files). Yes
No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and
will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements 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, or 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.
Large accelerated filer
Non-accelerated filer
(Do not check if a smaller reporting company)
Accelerated filer
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
803Fin.pdf
As of June 30, 2014, the last business day of the Registrant’s most recently completed second fiscal quarter, the aggregate
market value (based on the closing sales price on that date) of the voting stock held by non-affiliates of the Registrant was
$361,818,623.
On February 27, 2015, the Registrant had 41,050,931 Common Shares outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant’s Proxy Statement relating to the annual meeting of shareholders to be held May 8, 2015 (the “2015
Proxy Statement”), which will be filed within 120 days of December 31, 2014, are incorporated by reference into Part III of this
Form 10-K.
803Fin.pdf
Index to Annual Report on Form 10-K for the year ended December 31, 2014
Form 10-K
Part I
Item
1
Description
Business
1A
1B
2
3
4
5
6
7
7A
8
9
9A
9B
10
11
12
13
14
15
Part II
Part III
Part IV
Executive Officers of the Registrant
Risk Factors
Unresolved Staff Comments
Properties
Legal Proceedings
Mine Safety Disclosures
Market for the Registrant’s Common Equity, Related Shareholder Matters and Issuer
Purchases of Equity Securities
Selected Consolidated Financial Data
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Qualitative and Quantitative Disclosures about Market Risk
Financial Statements and Supplementary Data
Reports of Independent Registered Public Accounting Firm
Changes in and Disagreements with Accountants on Accounting and Financial Disclosures
Controls and Procedures
Other Information
Directors, Executive Officers and Corporate Governance
Executive Compensation
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters
Certain Relationships and Related Transactions, and Director Independence
Principal Accountant Fees and Services
Exhibits and Financial Statement Schedules
Signatures
Page
9
19
20
32
32
32
33
34
36
36
80
80
81
121
121
121
122
122
122
122
123
124
137
803Fin.pdf
3
IMPORTANT INFORMATION REGARDING FORWARD-LOOKING STATEMENTS
All statements, other than statements of historical facts, included in this Annual Report on Form 10-K (this “Form 10-K”)
of State Auto Financial Corporation (“State Auto Financial” or “STFC”) or incorporated herein by reference, including, without
limitation, statements regarding State Auto Financial’s future financial position, business strategy, budgets, projected costs, goals
and plans and objectives of management for future operations, are forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Forward-looking statements generally can be identified by the use of forward-looking
terminology such as “may,” “will,” “expect,” “intend,” “estimate,” “anticipate,” “project,” “believe” or “continue” or the negative
thereof or variations thereon or similar terminology. Forward-looking statements speak only as the date the statements were made.
Although State Auto Financial believes that the expectations reflected in forward-looking statements have a reasonable basis, it
can give no assurance that these expectations will prove to be correct. Forward-looking statements are subject to risks and
uncertainties that could cause actual events or results to differ materially from those expressed in or implied by the statements.
For a discussion of the most significant risks and uncertainties that could cause State Auto Financial’s actual results to differ
materially from those projected, see “Risk Factors” in Item 1A of this Form 10-K. Except to the limited extent required by
applicable law, State Auto Financial undertakes no obligation to update or revise any forward-looking statements, whether as a
result of new information, future events or otherwise.
803Fin.pdf
4
IMPORTANT DEFINED TERMS USED IN THIS FORM 10-K
Glossary of Terms for State Auto Financial Corporation and Its Subsidiaries and Affiliates
State Auto Financial or STFC
Refers to our holding company, State Auto Financial Corporation.
We, us, our or the Company
State Auto Mutual
Refers to STFC and its consolidated subsidiaries, namely State Auto
Property & Casualty Insurance Company (“State Auto P&C”), Milbank
Insurance Company (“Milbank”), State Auto Insurance Company of Ohio
(“SA Ohio”), Stateco Financial Services, Inc. (“Stateco”). STFC’s former
subsidiary Farmers Casualty Insurance Company (“Farmers”) was merged
into State Auto P&C as of the close of business on December 31, 2012.
Refers to State Automobile Mutual Insurance Company, which owns
approximately 62.5% of STFC’s outstanding common shares. State Auto
Mutual also owns Risk Evaluation & Design, LLC (“RED”), which previously
acted as a managing general underwriter exclusively for the benefit of our
Pooled Companies.
STFC Pooled Companies
Refers to State Auto P&C, Milbank, and SA Ohio.
Mutual Pooled Companies
Refers to State Auto Mutual, and certain subsidiaries and affiliates of State
Auto Mutual, namely State Auto Florida Insurance Company (“SA Florida”),
State Auto Insurance Company of Wisconsin (“SA Wisconsin”), Meridian
Citizens Mutual Insurance Company (“Meridian Citizens Mutual”), Meridian
Security Insurance Company (“Meridian Security”), Beacon National
Insurance Company (“Beacon National”), Patrons Mutual Insurance
Company of Connecticut (“Patrons Mutual”), Litchfield Mutual Fire
Insurance Company (“Litchfield”), Rockhill Insurance Company (“RIC”),
Plaza Insurance Company (“Plaza”), American Compensation Insurance
Company (“American Compensation”) and Bloomington Compensation
Insurance Company (“Bloomington Compensation”). At the close of business
on December 31, 2012, SA Florida and Beacon National were merged into
Meridian Security. At the close of business on March 31, 2013, Litchfield was
merged into Patrons Mutual. At the close of business on July 2, 2014, Meridian
Citizens Mutual was merged into State Auto Mutual.
Pooled Companies or our Pooled Companies Refers to the STFC Pooled Companies and the Mutual Pooled Companies.
Patrons Insurance Group or Patrons Group
Refers to Patrons Mutual and Litchfield.
Rockhill Insurance Group
Rockhill Insurers
State Auto Group
Refers to Rockhill Holding Company, its insurance subsidiaries, namely RIC,
Plaza, American Compensation and Bloomington Compensation, and its other
non-insurance subsidiaries, including RTW, Inc. (“RTW”), a holding company
that owns 100% of American Compensation and Bloomington Compensation.
Refers
Compensation.
to RIC, Plaza, American Compensation and Bloomington
Refers to the Pooled Companies and, through December 31, 2012, Beacon
Lloyds Insurance Company, which was dissolved as of the close of business
on December 31, 2012.
803Fin.pdf
5
Glossary of Selected Insurance and Accounting Terms
Accident year
Accounting standards codification or ASC
Admitted insurer
American Institute of Certified Public
Accountants or AICPA
Allocated loss adjustment expenses or ALAE
Book value per share
Catastrophe loss
Combined ratio
Debt to capital ratio
Deferred acquisition costs or DAC
Direct written premiums
The calendar year in which loss events occur, regardless of when the
losses are actually reported, booked or paid.
The Codification is the single source of authoritative nongovernmental
GAAP developed by the Financial Accounting Standards Board
(“FASB”).
An insurer licensed to transact insurance business within a state and
subject to comprehensive policy rate, form and market conduct
regulation by that state’s insurance regulatory authority.
The AICPA represents the certified public accounting profession
nationally regarding rule-making and standard-setting, and serves as an
advocate before legislative bodies, public interest groups and other
professional organizations. The AICPA also monitors and enforces
compliance with the profession's technical and ethical standards.
The costs that can be related to a specific claim, which may include
attorney fees, external claims adjusters and investigation costs, among
others.
Total common stockholders’ equity divided by the number of common
shares outstanding.
Loss and ALAE from catastrophes, where catastrophes are defined as a
severe loss caused by various natural events, including hurricanes,
hailstorms, tornadoes, windstorms, earthquakes, severe winter weather
and fires. Our catastrophe losses are those designated by the Insurance
Services Office (“ISO”) Property Claim Services (“PCS”). PCS defines a
catastrophe as an event that causes $25 million or more in industry
insured property losses and affects a significant number of property and
casualty policyholders and insurers.
The sum of the loss and LAE ratio and the expense ratio. A combined
ratio under 100% generally indicates an underwriting profit. A combined
ratio over 100% generally indicates an underwriting loss.
The ratio of notes payable to the sum of total stockholders’ equity and
notes payable.
Expenses that vary with, and are primarily related to, the production of
new and renewal insurance business, and are deferred and amortized to
achieve a matching of revenues and expenses when reported in financial
statements prepared in accordance with GAAP.
The amounts charged by an insurer to insureds in exchange for coverages
provided in accordance with the terms of an insurance contract. The
amounts exclude the impact of all reinsurance premiums, either assumed
or ceded.
Duration
A measure of the sensitivity of a financial asset’s price to interest rate
movements.
Earned premiums or premiums earned
Excess and surplus lines insurance
Expense ratio or underwriting expense ratio
The portion of written premiums that applies to the expired portion of the
policy term. Earned premiums are recognized as revenue under both SAP
and GAAP.
Specialized property and liability coverages written by non-admitted
insurers. These coverages include exposures that do not fit within normal
underwriting patterns, involve a degree of risk that is not commensurate
with standard rates and/or policy forms, or are not written by admitted
insurers because of general market conditions.
For SAP, it is the ratio of (i) the sum of statutory underwriting and
miscellaneous expenses incurred offset by miscellaneous income
(collectively, “underwriting expenses”) to (ii) written premiums. For
GAAP, it is the ratio of acquisition and operating expenses incurred to
earned premiums.
6
803Fin.pdf
Generally accepted accounting principles or
GAAP
Accounting practices used in the United States of America determined by
the FASB and American Institute of Certified Public Accountants
(“AICPA”).
Incurred but not reported reserves or IBNR
Loss adjustment expenses or LAE
Loss and LAE ratio or loss ratio
Loss reserves
Managing general underwriter or MGU
National Association of Insurance
Commissioners or NAIC
Net premiums written to surplus ratio or
leverage ratio
Estimated losses and LAE that have been incurred but not yet reported to
the insurer. This includes amounts for unreported claims, development
on known cases, and re-opened claims.
The expenses of settling claims, including legal and other fees, and the
portion of general expenses allocated to claim settlement. LAE is
comprised of ALAE and ULAE.
For both SAP and GAAP, it is the ratio of incurred losses and LAE to
earned premiums.
Liabilities established by insurers and reinsurers to reflect the estimated
cost of claims incurred that the insurer or reinsurer will ultimately be
required to pay in respect of insurance or reinsurance it has written.
Reserves are established for losses and for LAE, and consist of case
reserves and IBNR reserves.
An independent insurance professional firm that acts as an intermediary
between the insurer and retail agents, much like a wholesaler. MGUs
frequently have binding authority to issue insurance policies on behalf of
an insurer that fit into the underwriting guidelines provided by that
insurer. MGUs typically are compensated by an override commission on
the insurance coverages sold by their sub-agents.
An organization of the insurance commissioners or directors of all 50
states, the District of Columbia and the five U.S. territories organized to
promote consistency of regulatory practices and statutory accounting
standards throughout the United States.
A SAP calculation which measures statutory surplus available to absorb
losses. This ratio is calculated by dividing the net statutory premiums
written for a rolling twelve month period by the ending statutory surplus
for the period. For example, a ratio of 1.5 means that for every dollar of
surplus, the insurer wrote $1.50 in premiums.
Net written premiums
Direct written premiums plus assumed reinsurance premiums less ceded
reinsurance premiums.
Non-admitted insurer or surplus lines carrier
Retail agent or retail agency
Return on average equity
Risk-based capital or RBC
Standard insurance
An insurer that is not required to be licensed in a state but is allowed to
do business in that state subject to certain regulatory oversight by that
state’s insurance regulatory authority. Non-admitted insurers are not
subject to most of the rate and form regulations imposed on admitted
insurers because they write specialized property and liability coverages,
also known as excess and surplus lines insurance, which allows them the
flexibility to change coverages offered and rates charged without time
constraints and financial costs associated with the filing process. As
such, these insurers offer an opportunity for coverage for specialized
exposures that otherwise might not be insurable.
An independent insurance professional who represents, and acts as an
intermediary for, admitted insurers, generally recommending, marketing
and selling insurance products and services to insurance consumers.
The percent derived by dividing net income by average total
stockholders’ equity.
A measure adopted by the NAIC and state regulatory authorities for
determining the minimum statutory capital and surplus requirements of
insurers. Insurers having total adjusted capital less than that required by
the RBC calculation will be subject to varying degrees of regulatory
action depending on the level of capital inadequacy.
Insurance which is typically written by admitted insurers. Our personal
and business insurance segments are comprised of standard insurance.
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7
Statutory accounting practices or SAP
Statutory surplus
The practices and procedures prescribed or permitted by state insurance
regulatory authorities in the United States for recording transactions and
preparing financial statements.
Under SAP, the amount remaining after all liabilities, including loss
reserves, are subtracted from all admitted assets. Admitted assets are
assets of an insurer prescribed or permitted by a state to be recognized on
the balance sheet prepared in accordance with SAP.
Unallocated loss adjustment expenses or
ULAE
The costs incurred in settling claims, such as in-house processing costs,
which cannot be associated with a specific claim.
Underwriting gain or loss
Under SAP, earned premiums less loss and LAE and underwriting
expenses.
Unearned premiums
Wholesale broker
The portion of written premiums that applies to the unexpired portion of
the policy term. Unearned premiums are not recognized as revenues
under both SAP and GAAP.
An independent insurance professional who offers specialized insurance
products and serves as an intermediary between a retail agent and an
insurer, while typically having no contact with the insured. A wholesale
broker may represent both admitted and non-admitted insurers, and may
offer both standard and excess and surplus lines insurance.
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8
Item 1. Business
PART I
State Auto Financial is an Ohio domiciled property and casualty insurance holding company incorporated in 1990. We are
engaged in writing personal, business and specialty insurance. State Auto Financial’s principal subsidiaries are State Auto P&C,
Milbank and SA Ohio, each of which is a property and casualty insurance company, and Stateco, which provides investment
management services to affiliated insurance companies.
State Auto Mutual is an Ohio domiciled mutual property and casualty insurance company organized in 1921. It owns
approximately 62.5% of State Auto Financial’s outstanding common shares. State Auto Mutual’s other subsidiaries and affiliates
include SA Wisconsin, Meridian Security, Patrons Mutual and the Rockhill Insurers, each of which is a property and casualty
insurance company. State Auto Mutual and its insurance subsidiaries and affiliates, along with State Auto Financial’s insurance
subsidiaries, pool their respective insurance business under the Pooling Arrangement, as further described below.
The State Auto Group markets its insurance products throughout the United States primarily through independent agencies,
which include retail agencies and wholesale brokers. All of the property and casualty insurance companies in the State Auto Group
are admitted insurers, except for RIC, which is a non-admitted insurer. The operations of the State Auto Group are headquartered
in Columbus, Ohio.
Our Pooled Companies are rated A (Excellent) by the A.M. Best Company (“A.M. Best”).
FINANCIAL INFORMATION ABOUT SEGMENTS
Our reportable insurance segments are personal insurance, business insurance and specialty insurance (collectively the
“insurance segments”). These insurance segments are aligned consistent with the reporting lines to our principal operating decision
makers. Our Investment operations is also a reportable segment. See a detailed discussion regarding our segments at Item 7 of
this Form 10-K “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Overview” and Note
15 to our consolidated financial statements included in Item 8 of this Form 10-K.
PERSONAL AND BUSINESS INSURANCE
Products offered in our personal and business insurance segments are marketed exclusively through retail agents, but the
segments are managed separately from each other due to the differences in the types of customers they serve, products they provide
or services they offer.
Products
Personal Insurance
In our personal insurance segment, we write standard insurance covering personal exposures to individuals. The primary
coverages offered are personal auto and homeowners.
Business Insurance
In our business insurance segment, we write standard insurance covering small-to-medium sized commercial exposures.
We offer a broad range of coverages which include commercial auto, commercial multi-peril, business owners, fire & allied and
general liability.
Marketing
We market our personal and business insurance through approximately 2,600 retail agencies. We view our retail agents as
our primary customers, because they are in a position to recommend either our insurance products or those of a competitor to their
customers. We strongly support the independent agency system and believe its maintenance is essential to our present and future
success. We continually develop programs and procedures to enhance our agency relationships, including the following: regular
travel by senior management and regional office staff to meet with agents, in person, in their home states; training opportunities;
and incentives related to profit and growth. In addition, we share the cost of approved advertising with selected agencies.
We actively help our agencies develop the professional sales skills of their staffs. Our training programs include both products
and sales training conducted in our corporate headquarters. Further, our training programs include disciplined follow-up and
coaching for an extended time. Other targeted training sessions are held in our regional headquarters from time to time, as well
as in our agents’ offices.
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9
We provide our retail agents with defined travel and cash incentives if they achieve certain sales and underwriting profit
levels. Further, we recognize our very top agencies—measured by consistent profitability, achievement of written premium
thresholds and growth—as Inner Circle Agencies. Inner Circle Agencies are rewarded with additional incentives.
We have made continuing efforts to use technology to make it easier for our retail agents to do business with us. We offer
internet-based (i) rating, (ii) policy application submission, (iii) execution of changes to policies for certain products and (iv) claims
submission. In addition, we provide our agents with the opportunity to maintain policyholder records electronically, avoiding the
expense of preparing and storing paper records. We believe that, since agents and their customers realize better service and efficiency
through automation, they value their relationship with us. Automation can make it easier for an agent to do business with us, which
attracts prospective agents and enhances existing agencies’ relationships with us.
SPECIALTY INSURANCE
In contrast to standard insurance markets which are characterized by regulated products, uniform coverages and more
predictable exposures, specialty risks, due to the nature of the particular risk or activities of the insured, often do not lend themselves
to the strict, uniform underwriting criteria of standard insurers and require unique underwriting solutions. As a result, competition
in the specialty markets focuses on expertise, flexibility and customer service.
Because the specialty markets generally involve higher perceived insurance risks than those characteristic in the standard
markets, through our specialty insurance segment we offer commercial coverages that require specialized product underwriting,
claims handling and/or risk management services. We offer our specialty products through a distribution channel of retail agents
and wholesale brokers, including program administrators and other specialty sources. Our specialty insurance products are written
through our admitted and non-admitted insurers. Our units within the specialty insurance segment are Excess & Surplus ("E&S")
property, Excess & Surplus ("E&S") casualty, Programs and Workers’ Compensation.
Our E&S property unit markets and underwrites specialized property exposures, primarily in the Gulf, Southeast and West
regions of the United States with a focus on catastrophe exposed risks. Individual risk catastrophe modeling, specialized
underwriters, underwriting guidelines and specialized rating plans are leveraged. In addition, catastrophe portfolio exposure
management is utilized to produce the optimal portfolio of risk. Coverages offered by this unit are property and general liability.
Our E&S casualty unit markets and underwrites commercial exposures that have unique insurance requirements. This
includes difficult to place classes of commercial business, which may require customized rates and forms, along with customized
insurance programs for specialty niche and homogeneous groups of exposures. Coverages offered by this unit may include
commercial auto, healthcare, umbrella, property, and general liability.
Our Programs unit markets and distributes business through specialty program managers to whom we have outsourced
underwriting and policy administration. Program business typically consists of homogenous risks that require specialized
underwriting and claims expertise. Accordingly, our program managers have specialized underwriting expertise in the particular
risks covered by the program. Coverages offered through our Programs unit include commercial auto, general liability, and
property.
Our Workers’ Compensation unit serves the small-to-medium account and association business in select states with a focus
on risks contained within four walls with limited off-premise exposure. A specialized rating structure is used to price risks based
on size, class, complexity and loss experience. This unit has a dedicated internal claims team emphasizing managed care cost
containment strategies including focusing on the injured employee’s early return to work and cost-effective quality care.
INVESTMENT OPERATIONS
The primary objectives of our investment strategy are to maintain adequate liquidity and capital to meet our responsibilities
to policyholders; grow surplus long term to support the growth of our company; provide a consistent level of income; and manage
investment risk. Our investment portfolio is managed separately from that of State Auto Mutual and its subsidiaries and affiliates,
and investment results are not shared through the Pooling Arrangement, as described below. Stateco performs investment
management services for both us and State Auto Mutual and all subsidiaries and affiliates. Investment policies and guidelines are
set for each company through the Investment Committee of its respective Board of Directors.
For additional discussion regarding our investments, including the market risks related to our investment portfolio, see Item 7
of this Form 10-K, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Investment
Operations Segment.”
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10
CLAIMS
Our claims division supports our insurance segments through emphasis on timely investigation of claims, settlement of
meritorious claims for equitable amounts, maintenance of adequate case reserves for claims, and control of external claims
adjustment expenses. Achievement of these goals supports our marketing efforts by providing agents and policyholders with
prompt and effective service.
We employ a specialized claims model that is skills-based and focused on yielding a quality customer experience regardless
of the type and severity of the claim. We staff field adjusters in locations where we have size, scale and density of claims whenever
possible to control file quality and enhance customer service. We supplement our field staff with independent adjusters and
appraisers in areas in which there is not sufficient volume of claims to warrant staff adjusters.
Claim settlement authority levels are established for each adjuster, supervisor and manager based on their level of expertise.
Our claims division is responsible for reviewing the claim, obtaining necessary documentation and establishing loss and expense
reserves of certain claims. Generally, property or casualty claims estimated to reach $100,000 or above are sent to specialists for
direct handling.
We minimize claim adjusting costs by settling as many claims as possible through our claims staff and, if possible, by settling
disputes regarding automobile physical damage, bodily injury and property insurance claims through arbitration or mediation
when appropriate. In addition, selected agents have authority to settle small first party claims, which improves claims service.
In addition to our internal claims adjusters, we utilize third party claims administrators (“TPAs”) to investigate, process and
settle certain specialty insurance segment claims on our behalf. We primarily utilize TPAs for our program business as individual
programs typically have long-standing relationships with a TPA, although we also use TPAs for our non-program specialty insurance
segment business, primarily to supplement our internal capacity. As with our internal claims adjusters, claim settlement authority
is established for the adjusters, supervisors and managers within each TPA. Claims handling and reporting guidelines are established
and provided to each TPA. Members of our internal claims staff perform periodic reviews of individual claim files produced by
each TPA for compliance with such established claims handling and reporting guidelines.
We have in-house counsel offices to defend and resolve claims which are in litigation. These offices are strategically placed
where we have size, scale and density of legal cases to warrant their existence. We also have a list of highly skilled panel counsel
we retain for defending our insureds when appropriate.
Our Claims Express Centers allow us to improve claims efficiency and economy by concentrating the handling of smaller,
less complex claims in a centralized environment. We provide claim service 24 hours a day, seven days a week, either through
associates in our Claims Express Centers, which are located in Des Moines, Iowa and Columbus, Ohio, or for a few overnight
hours, through a third party service provider.
POOLING ARRANGEMENT
Our Pooled Companies pool their respective insurance business in accordance with a quota share reinsurance agreement
which we refer to as the “Pooling Arrangement.” In general, under the Pooling Arrangement, State Auto Mutual assumes premiums,
losses and expenses from each of the remaining Pooled Companies and in turn cedes to each a specified portion of premiums,
losses and expenses based on each of the Pooled Companies’ respective pooling percentages. The balance of the pooled premiums,
losses and expenses are retained by State Auto Mutual.
See the detailed discussion of our Pooling Arrangement at Item 7 of this Form 10-K, “Management’s Discussion and Analysis
of Financial Condition and Results of Operations—Pooling Arrangement.”
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11
GEOGRAPHIC DISTRIBUTION
The following table sets forth the geographic distribution of our direct written premiums for the year ended December 31,
2014:
State
Ohio
Texas
Kentucky
Florida
Indiana
Minnesota
Tennessee
Connecticut
Illinois
California
Pennsylvania
Maryland
Michigan
South Carolina
All others (1)
Total
% of Total
10.2%
9.2
6.1
5.3
4.3
4.2
4.0
3.8
3.5
3.4
3.4
3.3
3.2
3.0
33.1
100.0%
(1) No other single state accounted for 3.0% or more of the total direct
written premiums written in 2014.
MANAGEMENT AGREEMENT
Through various management and cost sharing agreements, State Auto P&C provides employees to perform all
organizational, operational and management functions for the State Auto Group, while State Auto Mutual provides certain operating
facilities, including our corporate headquarters.
Our primary management agreement, which we refer to as the 2005 Management Agreement, has a ten-year term and renews
for an additional ten-year period unless terminated sooner in accordance with its terms. Effective January 1, 2015, this agreement
was renewed for an additional ten years. If the 2005 Management Agreement was terminated for any reason, we would have to
relocate our facilities to continue our operations. See “Properties” included in Item 2 of this Form 10-K.
REINSURANCE
Members of the State Auto Group follow the customary industry practice of reinsuring a portion of their exposures and
paying to the reinsurers a portion of the premiums received. Insurance is ceded principally to reduce net liability on individual
risks or for individual loss occurrences, including catastrophic losses. Although reinsurance does not legally discharge the individual
members of the State Auto Group from primary liability for the full amount of limits applicable under their policies, it does make
the assuming reinsurer liable to the extent of the reinsurance ceded. See the detailed discussion of our reinsurance arrangements
at Item 7 of this Form 10-K, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity
and Capital Resources—Reinsurance Arrangements.”
See “Regulation” in this Item 1 for a discussion of the Terrorism Acts.
LOSS RESERVES
We maintain reserves for the eventual payment of losses and LAE for both reported claims and IBNR. Loss reserves are
management’s best estimate at a given point in time of what we expect to pay to settle all losses incurred as of the end of the
accounting period, based on facts, circumstances and historical trends then known. During the loss settlement period, additional
facts regarding individual claims may become known, and consequently, it often becomes necessary to revise our estimate of the
liability. The results of our operations and financial condition could be impacted, perhaps significantly, in the future if our estimate
of ultimate payments required to settle claims varies from the loss reserves currently recorded.
Loss reserves for reported losses are initially established on either a case-by-case or formula basis depending on the type
and circumstances of the loss. The case-by-case reserve amounts are determined based on our reserving practices, which take into
12
803Fin.pdf
account the type of risk, the circumstances surrounding each claim and applicable policy provisions. The formula reserves are
based on historical paid loss data for similar claims with provisions for changes caused by inflation. Loss reserves for IBNR claims
are estimated based on many variables including historical and statistical information, changes in exposure units, inflation, legal
developments, storm loss estimates and economic conditions. Case and formula basis loss reserves are reviewed on a regular basis.
As new data becomes available, estimates are updated resulting in adjustments to loss reserves. Generally, reported losses initially
reserved on a formula basis which have not settled after six months, are case reserved at that time. Although our management uses
many resources to calculate loss reserves, there is no precise method for determining the ultimate liability. We do not discount
loss reserves for financial statement purposes. For additional information regarding our loss reserves, see Item 7 of this Form 10-
K, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Loss and LAE.”
The following table sets forth our one-year development information on changes in the loss reserve for the years ended
December 31, 2014, 2013 and 2012:
($ millions)
Beginning of Year:
Loss and loss expenses payable
Less: Reinsurance recoverable on losses and loss expenses payable
Net losses and loss expenses payable(1)
Provision for losses and loss expenses occurring:
Current year
Prior years(2)
Total
Loss and loss expense payments for claims occurring during:
Current year
Prior years
Total
End of Year:
Net losses and loss expenses payable
Add: Reinsurance recoverable on losses and loss expenses payable
Losses and loss expenses payable(3)
Year Ended December 31
2013
2012
2014
$
$
959.9
9.1
950.8
726.2
45.1
771.3
373.2
375.3
748.5
973.6
9.6
983.2
$
$
942.2
13.5
928.7
741.0
(21.2)
719.8
355.0
342.7
697.7
950.8
9.1
959.9
$
$
907.1
25.5
881.6
795.2
(16.9)
778.3
397.2
334.0
731.2
928.7
13.5
942.2
(1)
Includes net amounts assumed from affiliates of $438.0 million, $435.1 million, and $376.8 million at beginning of year 2014, 2013, and
2012, respectively.
(2) This line item shows changes in the current calendar year in the provision for losses and loss expenses attributable to claims occurring in prior
years. See discussion regarding the calendar year developments at Item 7 of this Form 10-K Management’s Discussion and Analysis section at
“Results of Operations—Loss and LAE Development.”
(3)
Includes net amounts assumed from affiliates of $494.3 million, $438.0 million, and $435.1 million at end of year 2014, 2013, and 2012,
respectively.
The following table sets forth our development of loss reserves from 2004 through 2014. “Net liability for losses and loss
expenses payable” sets forth the estimated liability for unpaid losses and LAE recorded at the balance sheet date, net of reinsurance
recoverable, for each year shown. This liability represents the estimated amount of losses and LAE for claims incurred during the
current year or incurred during prior years that are unpaid at the balance sheet date, including IBNR.
The upper section of the table shows the cumulative amounts paid with respect to the previously reported loss reserve as of
the end of each succeeding year. For example, through December 31, 2014, we have paid 77.2% of the losses and LAE that had
been incurred but not paid, as estimated at December 31, 2004.
The lower portion of the table shows the current estimate of the previously reported loss reserve based on experience as of
the end of each succeeding year. The estimate is increased or decreased as more information becomes known about the claims
incurred.
The amounts on the “cumulative redundancy (deficiency)” line represent the aggregate change in the estimates over all prior
years. For example, the year end 2004 loss reserve has developed $104.9 million or 16.0% redundant through December 31, 2014.
This $104.9 million amount has been included in operating results over the ten years and did not have a significant effect on income
in any one year.
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13
In evaluating the information in the table, it should be noted that each amount includes the effects of all changes in amounts
for prior periods. For example, the amount of the redundancy or deficiency evaluated at December 31, 2006, on claims incurred
in 2006 includes the cumulative redundancy or deficiency for years 2004, 2005 and 2006. Conditions and trends that have affected
the development of the liability in the past may not necessarily occur in the future. Accordingly, it may not be appropriate to
extrapolate future redundancies or deficiencies based on this table. While we have historically experienced cumulative
redundancies, we experienced a cumulative deficiency of $45.1 million and $34.0 million for 2013 and 2012, respectively, primarily
due to RED reserve strengthening within our specialty insurance segment. During 2014 and 2013, we strengthened RED reserves
by $96.7 million, including the net cost of the ADC reinsurance agreement, and $21.3 million for 2013. The RED reserve
strengthening was primarily related to the two largest terminated RED programs, the restaurant and commercial trucking programs.
See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Loss and LAE Development”
and Note 4, “Losses and Loss Expenses Payable” to our consolidated financial statements included in Item 8 of this Form 10-K
for further information.
In 2005, the MIGI Insurers were added to the pool and our share of their net liabilities and assets were transferred to us from
them. In 2008, Beacon National, the Patrons Insurance Group, State Auto middle market business and voluntary assumed
reinsurance from parties affiliated with State Auto Mutual were added to the pool, and accordingly net assets equal to the increase
in net liabilities were transferred to us from them. In 2010, SA National and voluntary assumed reinsurance from third parties
unaffiliated with the Pooled Companies that was assumed on or after January 1, 2009 by State Auto Mutual were added to the
pool, and accordingly net assets equal to the increase in net liabilities were transferred to us from them. As of January 1, 2011,
the Rockhill Insurers were added to the pool, and accordingly net assets equal to the increase in net liabilities were transferred to
us from them. As of December 31, 2011, the overall participation percentage of the STFC Pooled Companies was reduced from
80% to 65%, and accordingly net assets equal to the decrease in net liabilities were transferred by us to the Mutual Pooled
Companies. The amount of the assets transferred along with the reserve liabilities assumed/ceded in, 2005, 2008, 2010 and 2011
has been netted against and has reduced/increased the cumulative amounts paid for years prior to, 2005, 2008, 2010 and 2011,
respectively.
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14
($ millions)
Years Ended December 31
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
Net liability for losses
and loss expenses
payable
Paid (cumulative) 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
Net liability re-estimate
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
Cumulative redundancy
(deficiency)
Cumulative redundancy
(deficiency)
Gross* liability—end of
year
$ 655.9
$ 711.3
$ 661.0
$ 647.1
$ 770.0
$ 819.4
$ 874.2
$ 881.6
$ 928.7
$ 950.8
$ 973.6
36.9 %
59.7 %
37.9%
57.3%
70.5%
39.5 %
—
35.5%
53.2%
63.5%
69.0%
72.0%
40.8%
58.2%
68.0%
74.2%
34.9%
53.2%
62.7%
68.5%
72.0%
74.0%
97.7 %
104.7 %
—
103.7 %
92.7%
89.5%
87.9%
87.1%
86.8%
86.3%
92.1%
89.1%
87.8%
86.9%
86.0%
98.1%
96.1%
98.2%
96.2%
94.0%
92.4%
92.0%
34.9%
51.1%
60.9%
66.0%
70.3%
72.7%
74.9%
76.0%
76.9%
89.9%
86.4%
85.6%
85.3%
84.7%
84.4%
84.2%
84.2%
84.0%
31.6%
48.4%
59.9%
66.1%
69.2%
72.3%
73.8%
75.6%
76.5%
77.2%
93.3%
87.6%
86.9%
86.2%
85.5%
85.2%
84.4%
84.2%
84.2%
84.0%
31.7%
49.4%
62.6%
69.1%
73.7%
76.1%
77.8%
95.8%
93.7%
91.9%
90.8%
90.2%
90.0%
89.5%
34.9%
50.5%
60.4%
67.8%
71.3%
74.3%
75.9%
77.2%
91.7%
90.5%
88.8%
87.4%
86.9%
86.7%
86.7%
86.3%
$ 104.9
$ 114.1
$
90.4
$
67.7
$ 105.7
$ 115.0
$
69.9
$
16.0
$ (34.0)
$ (45.1)
16.0%
16.0%
13.7%
10.5%
13.7%
14.0%
8.0%
1.8%
(3.7)%
(4.7)%
—
—
$1,006.4
$ 1,111.1
$ 1,032.7
$ 1,029.9
$1,198.6
$ 1,293.2
$ 1,391.4
$1,411.9
$1,435.8
$1,472.7
$ 1,462.5
Reinsurance recoverable $ 350.5
$ 399.8
$ 371.7
$ 382.8
$ 428.6
$ 473.8
$ 517.2
$ 530.3
$ 507.1
$ 521.9
$ 488.9
Net liability—end of
year
Gross liability re-
estimated— latest
Reinsurance recoverable
re-estimated—latest
Net liability re-estimated
— latest
$ 655.9
$ 711.3
$ 661.0
$ 647.1
$ 770.0
$ 819.4
$ 874.2
$ 881.6
$ 928.7
$ 950.8
$ 973.6
87.8%
87.5%
89.2%
93.0%
89.3%
88.3%
95.3%
94.5%
99.5 %
100.4 %
94.8%
93.7%
94.4%
98.8%
94.8%
92.2%
101.0%
88.4%
92.0 %
92.5 %
84.0%
84.0%
86.3%
89.5%
86.3%
86.0%
92.0%
98.2%
103.7 %
104.7 %
—
—
—
* Gross liability includes: Direct and assumed losses and loss expenses payable.
As the Pooling Arrangement provides for the right of offset, we have reported losses and loss expenses payable ceded to
State Auto Mutual as assets only in situations when net amounts ceded to State Auto Mutual exceed that assumed. The following
table provides a reconciliation of the reinsurance recoverable to the amount reported in our consolidated financial statements at
each balance sheet date:
($ millions)
December 31
Reinsurance recoverable $
Amount netted against
assumed from State
Auto Mutual
$
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
350.5 $
399.8 $
371.7 $
382.8 $
428.6 $
473.8 $
517.2 $
530.3 $
507.1 $
521.9 $
488.9
324.6 $
382.4 $
358.2 $
371.6 $
407.4 $
453.0 $
498.4 $
504.8 $
493.6 $
512.8 $
479.3
Net reinsurance
recoverable
803Fin.pdf
$
25.9 $
17.4 $
13.5 $
11.2 $
21.2 $
20.8 $
18.8 $
25.5 $
13.5 $
9.1 $
9.6
15
COMPETITION
The property and casualty insurance industry is highly competitive. We compete with numerous insurance companies, with
varying size and financial resources. We compete in the personal and business insurance markets based on the following factors:
price; product offerings and innovation; underwriting criteria; quality of service to insureds, relationships with our retail agents
and wholesale brokers; prompt and fair claims handling and settlement; financial stability; and technology, making us a preferred
business partner. In addition, because most of our retail agents and wholesale brokers represent more than one insurer, we face
competition within each agency and broker.
REGULATION
Most states, including all the domiciliary states of the State Auto Group, have enacted legislation that regulates insurance
holding company systems. Each insurance company in our holding company system is required to register with the insurance
supervisory agency of its state of domicile and furnish information concerning the operations of companies within our holding
company system that may materially affect the operations, management or financial condition of the insurers within the system.
Pursuant to these laws, the respective insurance departments may examine any members of the State Auto Group, at any time,
require disclosure of material transactions involving insurer members of our holding company system, and require prior notice
and an opportunity to disapprove of certain “extraordinary” transactions, including, but not limited to, extraordinary dividends to
shareholders. Pursuant to these laws, all transactions within our holding company system affecting any insurance subsidiary within
the State Auto Group must be fair and equitable. In addition, approval of the applicable state insurance commissioner is required
prior to the consummation of transactions affecting the control of an insurer. The insurance laws of all the domiciliary states of
the State Auto Group provide that no person may acquire direct or indirect control of a domestic insurer without obtaining the
prior written approval of the state insurance commissioner for such acquisition.
In addition to being regulated by the insurance department of its state of domicile, each of our insurance companies is subject
to supervision and regulation in the states in which we transact business. Such supervision and regulation relate to numerous
aspects of an insurance company’s business operations and financial condition. The primary purpose of such supervision and
regulation is to ensure financial stability of insurance companies for the protection of policyholders. The laws of the various states
establish insurance departments with broad regulatory powers relative to granting and revoking licenses to transact business,
regulating trade practices, licensing agents, approving policy forms, setting reserve requirements, determining the form and content
of required statutory financial statements, prescribing the types and amount of investments permitted and requiring minimum
levels of statutory capital and surplus. Although premium rate regulation varies among states and lines of insurance, such regulations
generally require approval of the regulatory authority prior to any changes in rates. In addition, all of the states in which the State
Auto Group transacts business have enacted laws which restrict these companies’ underwriting discretion. Examples of these laws
include restrictions on policy terminations, restrictions on agency terminations and laws requiring companies to accept any applicant
for automobile insurance. These laws may adversely affect the ability of the insurers in the State Auto Group to earn a profit on
their underwriting operations.
The Risk Management and Own Risk Solvency Assessment Model Act ("ORSA"), adopted by the NAIC in 2012, requires
insurers to incorporate a comprehensive enterprise risk management framework within company operations. Overall, ORSA is
an internal assessment of the risks associated with an insurer’s business and the sufficiency of capital resources to support those
risks. Each insurer’s ORSA process will be unique, reflecting its business, strategy and approach to enterprise risk management.
We will file an ORSA Summary Report, supported by internal risk management materials, with state regulators later in 2015 and
annually thereafter.
We are required to file detailed annual reports with the supervisory agencies in each of the states in which we do business,
and our business and accounts are subject to examination by such agencies at any time.
There can be no assurance that such regulatory requirements will not become more stringent in the future and have an adverse
effect on the operations of the State Auto Group.
Dividends. Our insurance subsidiaries generally are restricted by the insurance laws of our respective states of domicile as
to the amount of dividends we may pay without the prior approval of our respective state regulatory authorities. Generally, the
maximum dividend that may be paid by an insurance subsidiary during any year without prior regulatory approval is limited to
the greater of a stated percentage of that subsidiary’s statutory surplus as of a certain date, or adjusted net income of the subsidiary
for the preceding year. Under current law, $77.8 million is available in 2015 for payment as a dividend from our insurance
subsidiaries to STFC without prior approval from our respective domiciliary state insurance departments. STFC received dividends
of $20.0 million and $10.0 million in 2014 and 2013, respectively, from its insurance subsidiaries. Additional information regarding
dividend restrictions can be found in this Item 7 and in Note 11 to our consolidated financial statements included in Item 8 of this
Form 10-K.
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16
Rates and Related Regulation. Except as discussed below, we are not aware of the adoption of any material adverse legislation
or regulation in any state in which we conducted business during 2014 which would materially impact our business.
Many states in which we operate have passed or are considering legislation restricting or banning the use of credit scoring
in the rating and risk selection process. Some states are also becoming active in questioning the use of catastrophe modeling in
the pricing and underwriting areas. Regulation risk is realized when states do not approve or limit the amount of rate a company
can charge which may result in writing under-priced business. See "Risk Factors - Regulations" in item 1A of this form 10-K.
In an attempt to make capital and surplus requirements more accurately reflect the underwriting risk of different lines of
insurance, as well as investment risks that attend insurers’ operations, the NAIC annually tests insurers’ risk-based capital
requirements. As of December 31, 2014, each of the Pooled Companies had adequate levels of capital as defined by the NAIC
with its respective risk-based capital requirements.
The property and casualty insurance industry is also affected by court decisions. In general, premium rates are actuarially
determined to enable an insurance company to generate an underwriting profit. These rates contemplate a certain level of risk.
The courts may modify, in a number of ways, the level of risk which insurers had expected to assume, including eliminating
exclusions, expanding the terms of the contract, multiplying limits of coverage, creating rights for policyholders not intended to
be included in the contract and interpreting applicable statutes expansively to create obligations on insurers not originally considered
when the statute was passed. Courts have also undone legal reforms passed by legislatures, which reforms were intended to reduce
a litigant’s rights of action or amounts recoverable and so reduce the costs borne by the insurance mechanism. These court decisions
can adversely affect an insurer’s profitability. They also create pressure on rates charged for coverages adversely affected, and
this can cause a legislative response resulting in rate suppression that can unfavorably impact an insurer.
On January 12, 2015, the Terrorism Risk Insurance Act of 2002 and its successors, the Terrorism Risk Insurance Extension
Act of 2005 and the Terrorism Risk Insurance Program Reauthorization Act of 2007 (collectively, the “Terrorism Acts”), was
extended until 2020. Under the Terrorism Acts, commercial property and casualty insurers like State Auto Group, in exchange
for making terrorism insurance available, may be entitled to be reimbursed by the Federal Government for a portion of their
aggregate losses. As required by the Terrorism Acts, we offer policyholders in specific lines of commercial insurance the option
to elect terrorism coverage. In order for a loss to be covered under the Terrorism Acts, the loss must meet the aggregate industry
loss minimum and must be the result of an act of terrorism as certified by the Secretary of the Treasury. For 2015, the aggregate
industry loss minimum is $100.0 million and will increase by $20.0 million annually beginning in 2016 to $200.0 million in 2020.
The Terrorism Acts require insurance carriers to retain 15% of any claims from a certified terrorist event in excess of the federally
mandated deductible in 2015 subject to an annual industry-wide cap of $100.0 billion. This retention will increase, beginning on
January 1, 2016, by 1% each calendar year until it reaches 20% in 2020. The federally mandated deductible represents 20% of
direct earned premium for the covered lines of business of the prior year. Policyholders may choose to reject terrorism coverage
(terrorism coverage is mandatory for workers’ compensation). If the policyholder rejects coverage for certified acts of terrorism,
we will cover only such acts of terrorism that are not certified acts under the Terrorism Acts and continue to apply policy exclusions
that may limit any coverage from loss due to nuclear, biological or chemical agents. Our current commercial property reinsurance
excludes certified acts of foreign terrorism and loss due to nuclear, biological or chemical agents. Beginning in 2016, insurers
participating in the Terrorism Acts will be required to provide information regarding insurance coverage for terrorism losses,
including; (i) lines of business with exposure to such losses; (ii) premiums earned on such coverage; (iii) geographical location
of exposures; (iv) pricing of such coverage; (v) the take-up rate for such coverage; and (vi) the amount of private reinsurance for
acts of terrorism purchased. See “Risk Factors-Terrorism” in Item 1A of this Form 10-K.
The Federal Insurance Office ("FIO") was established in 2010 by the enactment of the Dodd-Frank Act. The FIO is a separate
office within the United States Department of Treasury. The primary objective of the FIO is to monitor all aspects of the insurance
industry, including identifying issues or gaps in the regulation of insurers that could contribute to a systemic crisis in the insurance
industry or the United States financial system. The FIO also coordinates and develops federal policy on prudential aspects of
international insurance matters, including representing the United States in the International Association of Insurance Supervisors,
assists in negotiating certain international agreements, monitors access to affordable insurance by traditionally underserved
communities and consumers, minorities, and low- and moderate-income persons, and assists in the administration of the terrorism
risk insurance program; however, the FIO has no authority as a regulator or supervisor of insurance companies.
EMPLOYEES
As of February 27, 2015, we had approximately 2,274 employees. Our employees are not covered by any collective bargaining
agreement. We consider the relationship with our employees to be good.
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AVAILABLE INFORMATION
Our website address is www.StateAuto.com. Through this website (found by clicking the “Investors” link, then the “All
SEC Filings” link), we make available, free of charge, our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current
Reports on Form 8-K, proxy and information statements and all amendments to those reports filed or furnished pursuant to
Section 13(a) or 15(d) of the Securities Exchange Act of 1934 (the “Exchange Act”), as soon as reasonably practicable after we
electronically file such material with the Securities and Exchange Commission (the “SEC”). Also available on our website is
information pertaining to our corporate governance, including the charters of each of our standing committees of our Board of
Directors, our corporate governance guidelines, our employees’ code of business conduct and our directors’ ethical principles.
Any of the materials we file with the SEC may also be read and copied at the SEC’s Public Reference Room at 100 F Street,
NE, Washington, DC 20549. Information on the operation of the SEC’s Public Reference Room may be obtained by calling the
SEC at 1-800-SEC-0330. The SEC maintains a website that contains reports, proxy and information statements, and other
information regarding issuers that file electronically with the SEC at www.sec.gov.
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18
Executive Officers of the Registrant
Name of Executive Officer and
Position(s) with Company
Robert P. Restrepo, Jr.,
Chairman, President and Chief
Executive Officer
Steven E. English,
Senior Vice President and Chief
Financial Officer
Joel E. Brown,
Senior Vice President, Standard
Lines
Jessica E. Buss,
Senior Vice President, Specialty
Lines
Clyde H. Fitch, Jr.,
Senior Vice President and Chief
Sales Officer
Stephen P. Hunckler,
Senior Vice President and Chief
Claims Officer
Cynthia A. Powell,
Senior Vice President and Chief
Risk Officer
Lyle D. Rhodebeck,
Senior Vice President, Director
of Operations
Lorraine M. Siegworth,
Senior Vice President and Chief
Strategy & Organization
Effectiveness Officer
James A. Yano,
Senior Vice President, Secretary
and General Counsel
Scott A. Jones,
Vice President and Chief
Investment Officer
Matthew R. Pollak,
Vice President, Chief Accounting
Officer and Treasurer
(1)
Age
64
Principal Occupation(s)
During the Past Five Years
Chairman of the Board and Chief Executive Officer of
STFC and State Auto Mutual, 2/06 to present; President
of STFC and State Auto Mutual, 3/06 to present.
An Executive Officer
of the Company Since
2006
(2)
54
57
43
64
56
54
57
47
63
50
49
Senior Vice President of STFC and State Auto Mutual,
8/13 to present; Vice President of STFC and State Auto
Mutual, 5/06 to 7/13; Chief Financial Officer of STFC
and State Auto Mutual, 12/06 to present.
Senior Vice President, Standard Lines, of STFC and
State Auto Mutual, 8/13 to present; Vice President,
Standard Lines of STFC and State Auto Mutual, 1/11 to
7/13; Vice President, Personal Lines, and Regional Vice
President of STFC and State Auto Mutual, 1/01 to 1/11.
Senior Vice President, Specialty Lines, of STFC and
State Auto Mutual, 8/13 to present; Vice President,
Specialty Lines of STFC and State Auto Mutual, 1/11
to 7/13; Chief Operating Officer of Rockhill Insurance
Company, 11/08 to 1/11.
Senior Vice President and Chief Sales Officer of STFC
and State Auto Mutual, 11/07 to present.
Senior Vice President of STFC and State Auto Mutual,
8/13 to present; Chief Claims Officer of STFC and
State Auto Mutual, 8/09 to present; Vice President of
STFC and State Auto Mutual, 8/09 to 7/13, Chief
Claims Officer of Balboa Insurance Group 8/06 to 8/09.
Senior Vice President of STFC and State Auto Mutual,
8/13 to present; Chief Risk Officer of STFC and State
Auto Mutual, 6/12 to present; Vice President of State
Auto Mutual, 3/00 to 7/13; Vice President of STFC,
5/00 to 7/13; Chief Accounting Officer and Treasurer of
STFC and State Auto Mutual, 6/06 to 6/12.
Senior Vice President of STFC and State Auto Mutual,
8/13 to present; Vice President, Director of Operational
Effectiveness, 01/08 to present.
Senior Vice President of STFC and State Auto Mutual,
8/13 to present; Chief Strategy & Organization
Effectiveness Officer of STFC and State Auto Mutual,
11/06 to present; Vice President of STFC and State
Auto Mutual, 11/06 to 7/13.
Senior Vice President of STFC and State Auto Mutual,
8/13 to present; Secretary and General Counsel of
STFC and State Auto Mutual, 4/07 to present; Vice
President of STFC and State Auto Mutual, 4/07 to 7/13
Vice President and Investment Officer of STFC and
State Auto Mutual, 3/12 to present; Assistant Vice
President of STFC and State Auto Mutual, 8/09 to 3/12;
Portfolio Manager of STFC and State Auto Mutual for
more than five years prior to 8/09.
Vice President, Chief Accounting Officer and Treasurer
of STFC and State Auto Mutual, 4/13 to present; Vice
President, Corporate Finance and Accounting of
American Safety Insurance Holdings, Ltd. 2/10 to 4/13;
Senior Vice President and E&S Segment Chief
Financial Officer of Argo Group International
Holdings, Ltd. 6/05 to 2/10.
2006
2011
2011
2007
2011
2000
2008
2006
2007
2012
2013
(1) Age as of March 3, 2015.
(2) Each of the foregoing officers has been designated by our Board of Directors as an executive officer for purposes of Section 16 of the Exchange Act.
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19
Item 1A. Risk Factors
Statements contained in this Form 10-K may be “forward-looking” within the meaning of Section 21E of the Exchange Act.
Such forward-looking statements are subject to certain risks and uncertainties that could cause our operating results to differ
materially from those projected. The following factors, among others, in some cases have affected, and in the future could affect,
our actual financial performance. If any risks or uncertainties discussed below develop into actual events, then such events could
have a material adverse effect on our business, reputation, liquidity, capital resources, financial position or results of operations.
In that case, the market price of our stock could decline materially.
In the discussion below, we have organized risks according to categories of risk factors; however, many of the risks may
have correlations and ramifications in more than one category. For example, the timely availability of sufficient, reliable data and
information is included in Underwriting and Pricing, yet may also affect a number of risk factor categories. The categories, therefore,
should be viewed as a starting point for understanding the significant risks we face, not as a limitation on the potential impact of
risks.
The risk factors might affect, alter, or change actions we take in developing or executing our strategies, including, but not
limited to capital management. We employ a number of risk management approaches to reduce our exposure to risk, all of which
have inherent limitations. The failure of our risk management actions could have material adverse effects on our business, reputation,
liquidity, capital resources, financial position or results of operations.
The following list of risk factors is not exhaustive and others may exist or develop. This information should be carefully
considered together with the other information included in this report and in other reports and materials we file with the SEC, as
well as news releases and other information we publicly disseminate from time to time.
RESERVES
If our estimated liability for losses and loss expenses is incorrect, our loss reserves may be inadequate to cover our ultimate
liability for losses and loss expenses and may have to be increased.
We establish loss reserves based on actuarial estimates of the amount to be paid in the future to settle all claims incurred as
of the end of the accounting period. We maintain loss reserves to cover our estimated ultimate unpaid liability for losses and loss
expenses with respect to reported and unreported claims incurred as of the end of each accounting period. Loss reserves do not
represent an exact calculation of the liability, but instead represent estimates, generally using actuarial projection techniques at a
given accounting date. Our loss reserve estimates are expectations of what the ultimate settlement and administration of claims
will cost based on our assessment of facts and circumstances then known, historical settlement patterns, estimates of trends in
claims severity and frequency, legal theories of liability and other factors. Variables in the loss reserve estimation process can be
affected by both internal and external events, such as changes in claims handling procedures, trends in loss costs, economic
inflation, legal developments and legislative changes. Many of these items are not directly quantifiable, particularly on a prospective
basis. Additionally, there may be a significant reporting lag, or changes in the report lag, between the occurrence of an insured
event and the time a claim is actually reported to us. We refine loss reserve estimates in a regular, ongoing process as historical
loss experience develops and additional claims are reported and settled. We record adjustments to loss reserves in the results of
operations for the periods in which the estimates are changed. In establishing loss reserves, we take into account estimated recoveries
for reinsurance, salvage and subrogation.
Because estimating loss reserves is an inherently uncertain process, currently established loss reserves may not be adequate.
If we conclude the estimates are incorrect and our loss reserves are inadequate, we are obligated to increase them. An increase in
loss reserves results in an increase in losses, reducing our net income for the period in which the deficiency is identified. Accordingly,
an increase in loss reserves could have a material adverse effect on our results of operations, liquidity and financial condition.
CATASTROPHE LOSSES AND GEOGRAPHIC CONCENTRATIONS
The occurrence of catastrophic events could cause volatility in our results of operations and could materially reduce our
level of profitability and adversely affect our liquidity and financial position.
Our insurance operations expose us to claims arising out of catastrophic events. We have experienced, and will in the future
experience, catastrophe losses that may cause substantial volatility in our financial results for any fiscal quarter or year and could
materially reduce our level of profitability or harm our financial condition, which in turn could adversely affect our ability to write
new business. Catastrophes can be caused by various natural events, including hurricanes, hailstorms, tornadoes, windstorms,
earthquakes, severe winter weather, fires and man-made events, none of which are within our control. Catastrophe losses can vary
widely and could significantly impact our results. The frequency and severity of catastrophes are inherently unpredictable.
Additionally, catastrophe losses incurred by residual markets or pooling mechanisms (such as wind pools) in certain states could
20
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trigger assessments to us. Such assessments could be material and may not be recoupable, depending on the applicable state
mechanism.
The magnitude of loss from a catastrophe is a function of the severity of the event and the total amount of insured exposure
in the affected area. Accordingly, we can sustain significant losses from less severe catastrophes, such as localized windstorms,
when they affect areas where our insured exposure is concentrated. Although catastrophes can cause losses in a variety of our
property and casualty lines, most of our catastrophe claims in the past have related to homeowners, allied lines, commercial
property and commercial multi-peril coverages. The geographic distribution of our business subjects us to catastrophe exposure
from severe thunderstorms, tornadoes and hail, as well as earthquakes and hurricanes affecting the United States. Our 2014 and
2013 results reflected decreases in weather-related catastrophe losses when compared to 2012; however, there can be no assurance
that a favorable trend will continue in future years. In 2012, the largest catastrophe or series of catastrophes affecting STFC's
results of operations were as follows: in 2012, losses related to wind and hail activity from a tornado in March, wind and hail
activity in Louisville, Kentucky, and St. Louis, Missouri, in April, and wind activity from a storm in the Midwest and Mid-Atlantic
states in June resulted in approximately $50.5 million in pre-tax losses.
Increases in the value and geographic concentration of insured properties and the effects of inflation could increase the
severity of claims from catastrophic events in the future. In addition, states have from time to time passed legislation that limits
the ability of insurers to manage catastrophe risk, such as legislation prohibiting insurers from withdrawing from catastrophe-
prone areas or refusing to enforce policy provisions such as hurricane deductibles. Although we attempt to reduce the impact of
catastrophes on our business by controlling concentrations of exposures in catastrophe prone areas and through the purchase of
reinsurance, such reinsurance may prove inadequate if a major catastrophic loss exceeds the reinsurance limit, or we incur a number
of smaller catastrophes that, individually, fall below the reinsurance retention level.
Along with others in the industry, we utilize catastrophe models developed by third party vendors to help assess and manage
our exposure to catastrophe losses. Such models assume various conditions and probability scenarios and use historical information
about catastrophic events, along with detailed information about our business. While we use modeling information in connection
with our pricing and risk management activities, there are limitations with respect to the models’ usefulness in predicting losses
in any reporting period. Such limitations are evidenced by the occurrence of significant variations in estimates between models
and modelers; material increases or decreases in model results due to changes and refinements of the underlying data elements
and assumptions; and differences observed between the results of actual event conditions and modeled expectations. Climate
change, to the extent it affects changes in weather patterns, could impact the frequency or severity of weather events. Some industry
commentators have expressed concerns that hydraulic fracturing or “fracking,” a process which involves drilling deep underground
wells and injecting water, chemicals and sand into the rock formations in order to extract oil and gas, may cause seismic activity
which, among other things, may affect the frequency of earthquakes. We view fracking as a potential emerging risk facing the
industry.
Our ongoing catastrophe management efforts could negatively impact growth to the extent constraints on property exposures
are deemed necessary in certain territories. In addition, due to the potential impact on cross-selling opportunities, new business
growth in auto or other lines of business could be negatively affected.
A severe catastrophic event, pandemic or terrorist attack somewhere in the world may not result in material insurance losses
to us. However, our investment portfolio, reinsurers or the general economy could be negatively affected, resulting in a material
adverse effect on our business, liquidity, capital resources, financial position or results of operations.
UNDERWRITING AND PRICING
Our financial results depend primarily on our ability to underwrite risks effectively and to charge adequate rates to
policyholders.
Our financial condition, cash flows and results of operations depend on our ability to underwrite and set rates adequately
for a full spectrum of risks, across a number of lines of insurance. Rate adequacy is necessary to generate sufficient premium to
pay losses, loss adjustment expenses and underwriting expenses and to earn a profit.
Our ability to underwrite and set rates effectively is subject to a number of risks and uncertainties, including, without
limitation:
•
•
•
803Fin.pdf
the timely availability of sufficient, reliable data;
our ability to conduct a complete and accurate analysis of available data;
our ability to timely recognize changes in trends and to project both the severity and frequency of losses with
reasonable accuracy;
21
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
uncertainties which are generally inherent in estimates and assumptions;
our ability to project changes in certain operating expense levels with reasonable accuracy;
the development, selection and application of appropriate rating formulae or other pricing methodologies;
our use of predictive modeling or other underwriting tools to assist with correctly and consistently achieving the
intended results in underwriting and pricing;
our ability to establish and consistently follow company underwriting guidelines;
our ability to innovate with new product and/or pricing strategies, and the success of those innovations on
implementation;
our ability to secure regulatory approval of premium rates on an adequate and timely basis and effectively implement
such rate changes;
our ability to accurately predict consumer behavior, such as policyholder retention;
unanticipated court decisions, legislation or regulatory action;
unanticipated changes or execution problems in our claim settlement practices, including our ability to recognize
and respond to fraudulent or inflated claims;
changing driving patterns for auto exposures; changing weather patterns (including those which may be related to
climate change) for property exposures;
technological innovations in automobiles, such as accident avoidance systems and advances leading to autonomous
cars;
changes in the medical sector of the economy; including healthcare reform cost shifting and other factors;
unanticipated changes in auto repair costs, auto parts prices and used car prices;
impact of inflation and other factors, such as demand surge on cost of construction materials, labor and other
expenditures;
our ability to monitor and manage property concentration in catastrophe prone areas, such as hurricane, earthquake
and wind/hail regions; and
the general state of the economy in the states in which we operate.
Such risks may result in our rates being based on inadequate or inaccurate data or inappropriate assumptions or methodologies,
and may cause our estimates of future changes in the frequency or severity of claims to be incorrect. As a result, we could underprice
risks, which would negatively affect our margins, or we could overprice risks, which could reduce our competitiveness. In either
event, our operating results, financial condition and cash flows could be materially adversely affected.
CREDIT AND FINANCIAL STRENGTH RATINGS
A downgrade in our financial strength ratings may negatively affect our business and reputation and a downgrade in
our credit rating could negatively affect the cost and availability of debt financing.
Insurance companies are subject to financial strength ratings produced by external rating agencies. Higher ratings generally
indicate financial stability and a strong ability to pay claims. Ratings are assigned by rating agencies to insurers based upon factors
that they believe are relevant to policyholders and creditors. Ratings are important to maintaining public confidence in our Company
and in our ability to market our products. A downgrade in our financial strength ratings could, among other things, negatively
affect our ability to sell certain insurance products, our relationships with agents and our ability to compete.
Although other agencies cover the property and casualty industry, we believe our ability to write business is most influenced
by our rating from A.M. Best. According to A.M. Best, its ratings are designed to assess an insurer’s financial strength and ability
to meet ongoing obligations to policyholders. The State Auto Group’s current financial strength rating from A.M. Best is A
(Excellent) with a negative outlook. The State Auto Group’s current financial strength rating from Moody’s is A3 with an under
review for downgrade outlook and from Standard & Poor’s is BBB+ with a negative outlook.
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Generally, credit ratings affect the cost, type and availability of debt financing. Higher rated securities receive more favorable
pricing and terms relative to lower rated securities at the time of issue. The State Auto Group’s current credit rating from A.M.
Best is bbb with a negative outlook. The State Auto Group’s current credit rating from Standard & Poor’s BB+ with a negative
outlook.
Depending on future results and developments, we may not be able to maintain our current ratings.
DIVIDENDS
There can be no assurance that we will continue to pay cash dividends consistent with current or past levels.
We have a history of consistently paying cash dividends to our shareholders. In the fourth quarter of 2012, the Board of
Directors of State Auto Financial reduced the amount of dividends paid on our common shares from $0.15 per share to $0.10 per
share; however, the future payment of cash dividends will depend upon a variety of factors, such as our results of operations,
financial condition and cash requirements, as well as the ability of our insurance subsidiaries to make distributions to STFC. State
insurance laws restrict the payment of dividends by insurance companies to their shareholders. In addition, competitive pressures
generally require insurance companies to maintain insurance financial strength ratings. Such restrictions and other requirements
and factors may affect the ability of our insurance subsidiaries to make dividend payments to STFC. Limits on the ability of our
insurance subsidiaries to pay dividends could adversely affect STFC's liquidity, including STFC's ability to pay cash dividends to
shareholders.
TECHNOLOGY AND TELECOMMUNICATION SYSTEMS
Our business success and profitability depend, in part, on effective information technology and telecommunication
systems. If we are unable to keep pace with the rapidly developing technological advancements in the insurance industry, our
ability to compete effectively could be impaired.
We depend in large part on our technology and telecommunication systems for conducting business and processing
claims. Our business success is dependent on maintaining the effectiveness of existing technology and telecommunication systems
and on their continued development and enhancement to support our business processes and strategic initiatives in a cost effective
manner. We implemented a new claims system for most lines of business during 2013. This initiative involved a significant
commitment of resources. This new system is intended to add functionality and increase our claims efficiency with improved file
quality. However, there can be no certainty that all such intended benefits will be fully realized.
An ongoing challenge during system development and enhancement is the effective and efficient utilization of our current
technology in view of a constantly changing technological landscape. There can be no assurance that the development of current
technology for future use will not result in our being competitively disadvantaged, especially with those carriers that have greater
resources. If we are unable to keep pace with the advancements being made in technology, our ability to compete with other
insurance companies who have advanced technological capabilities will be negatively affected. Further, if we are unable to
effectively execute and update or replace our key legacy technology and telecommunication systems as they become obsolete or
as emerging technology renders them competitively inefficient, our competitive position and/or cost structure could be adversely
affected.
If we are unable to effectively execute our top initiatives and projects, we may not meet organizational objectives due to
cost overruns, missed project milestones, defects and/or failing to deliver the desired business value.
System implementations are complex processes requiring extensive planning and coordination among multiple stakeholder
groups. During 2013, we began planning a multi-year business and technology transition to consolidate all of our policy
administration and billing systems. The transition is not expected to be complete for several years. For this initiative, we are
partnering with a third party which specializes in providing core system software to the insurance industry. The new technology
platform is intended to provide us with quicker speed to market, improve ease of doing business for our policyholders, agents and
brokers, lower our costs for maintenance and product introductions and provide greater operational efficiency. However, even
with our best planning and efforts and the involvement of third party expertise, there can be no assurance that the expected benefits
will be realized upon implementation or that the transition will be completed within the planned time frame or budget. Such risks
are also present in other key initiatives and projects planned for 2015 and beyond.
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If we experience difficulties with outsourcing, or other third party relationships, our ability to conduct business might
be negatively impacted.
During 2014, we transitioned the support and maintenance of information technology legacy systems to a third party vendor.
This decision was designed to advance our application and support capabilities, while delivering an improved customer experience.
However, there can be no assurance that these desired objectives will be achieved. If the third party provider fails to perform as
expected, we may experience operational difficulties, service problems or increased costs.
From time to time we may outsource certain other business, information technology or administrative functions, or otherwise
rely on certain third parties for the performance of such functions, for efficiency and cost saving purposes. If we fail to develop
and implement our sourcing strategies or our third party providers fail to perform as expected, we may experience operational
difficulties, increased costs, and a loss of business that may have a material adverse effect on our results of operations or financial
condition.
VENDOR MANAGEMENT
Loss of key vendor relationships or failure of a vendor to perform as anticipated or to protect personal information of
our customers, claimants or employees could negatively affect our operations.
We rely on services and products provided by various vendors. In the event that one or more of our vendors becomes unable
to continue to provide products or services as anticipated, we may suffer operational impairment and financial loss. If one or more
of our vendors fail to protect personal information of our customers, claimants or employees, we may incur operational impairments,
or could be exposed to litigation, compliance costs or reputation damage.
CYBER-SECURITY THREATS
Our highly automated and networked organization is subject to cyber-terrorism and a variety of other cyber-security
threats. These threats come in a variety of forms, such as viruses and malicious software. Such threats can be difficult to
prevent or detect, and if experienced, could interrupt or damage our operations, harm our reputation or have a material adverse
effect on our operations.
Our technology and telecommunications systems are highly integrated and connected with other networks. Cyber-attacks
involving these systems could be carried out remotely and from multiple sources and could interrupt, damage or otherwise adversely
affect the operations of these critical systems. Cyber-attacks could result in the modification or theft of data, the distribution of
false information or the denial of service to users. We obtain, utilize and maintain data concerning individuals and organizations
with which we have a business relationship. Threats to data security can emerge from a variety of sources and change in rapid
fashion, resulting in the ongoing need to expend resources to secure our data in accordance with customer expectations and statutory
and regulatory requirements.
We could be subject to liability if confidential customer information is misappropriated from our technology systems. Despite
the implementation of security measures, these systems may be vulnerable to physical break-ins, computer viruses, programming
errors, attacks by third parties or similar disruptive problems. Any well-publicized compromise of security could deter people
from entering into transactions that involve transmitting confidential information to our systems, which could have a material
adverse effect on our business and reputation.
We rely on services and products provided by many vendors. In the event that one or more of our vendors fails to protect
personal information of our customers, claimants or employees, we may incur operational impairments, or could be exposed to
litigation, compliance costs or reputational damage.
While we have not experienced material cyber-incidents to date, the occurrence and effects of cyber-incidents may remain
undetected for an extended period. We maintain cyber-liability insurance coverage to offset certain potential losses, subject to
policy limits, such as liability to others, costs of related crisis management, data extortion, applicable forensics and certain regulatory
defense costs, fines and penalties.
BUSINESS CONTINUITY
Our business depends on the uninterrupted operation of our facilities, systems and business functions, including our
information technology, telecommunications and other business systems. Our business continuity and disaster recovery plans
may not sufficiently address all contingencies.
Our business is highly dependent upon our ability to execute, in an efficient and uninterrupted fashion, necessary business
functions, such as Internet support and 24-hour claims contact centers, processing new and renewal business, receiving and
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processing payment receipts and processing and paying claims. A shut-down of or inability to access one or more of our facilities,
power outages, a major failure of the Internet, a pandemic, or a failure of one or more of our information technology,
telecommunications or other systems could significantly impair our ability to perform such functions on a timely basis. In addition,
because our information technology and telecommunications systems interface with and depend on third party systems, we could
experience service denials if demand for such service exceeds capacity, or if our system or a third party system fails or experiences
an interruption. If sustained or repeated, such a business interruption, systems failure or service denial could result in a deterioration
of our ability to write and process new and renewal business, provide customer service, receive premium payments, pay claims
in a timely manner or perform other necessary corporate functions. This could result in a materially adverse effect on our business
results and liquidity and may cause reputational damage.
We have established a business continuity plan that is designed to continue our core business operations in the event that
normal business operations cannot be performed due to a catastrophic event. While we continue to test and assess our business
continuity plan to meet the needs of our core business operations and address multiple business interruption events, there is no
assurance that we will be able to perform our core business operations upon the occurrence of such an event, which may result in
a material adverse effect on our reputation, financial position and results of operations.
REINSURANCE
Reinsurance may not be available, collectible or adequate to protect us against losses, or may cause us to constrain the
amount of business we underwrite in certain lines of business and locations.
We use reinsurance to help manage our exposure to insurance risks and to manage our capital. There can be no assurance
that our use of reinsurance effectively meets our strategic business objectives. The availability, policy conditions and cost of
reinsurance are subject to prevailing market conditions, which can affect our business volume and profitability. Although the
reinsurer is liable to us to the extent of the ceded reinsurance, we remain liable as the direct insurer on all risks reinsured. Ceded
reinsurance arrangements do not eliminate our obligation to pay claims. As a result, we are subject to counterparty risk with respect
to our ability to recover amounts due from reinsurers. Reinsurance may not be adequate to protect us against losses and may not
be available to us in the future at commercially reasonable rates. In addition, the magnitude of losses in the reinsurance industry
resulting from catastrophes may adversely affect the financial strength of certain reinsurers, which may result in our inability to
collect or recover reinsurance. Reinsurers also may reserve their right to dispute coverage with respect to specific claims. With
respect to catastrophic or other loss, if we experience difficulty collecting from reinsurers or obtaining additional reinsurance in
the future, we will bear a greater portion of the total financial responsibility for such loss, which could materially reduce our
profitability or harm our liquidity and financial condition.
As described in more detail elsewhere in this Form 10-K, the State Auto Group entered into a one-year property aggregate
excess catastrophe reinsurance agreement, effective January 1, 2015, with a syndicate of reinsurers covering property business
underwritten by our personal insurance and business insurance segments. This reinsurance agreement excludes property risks
underwritten by our specialty insurance segment. This reinsurance agreement replaces the homeowner quota share reinsurance
agreement that had been in place for the prior three years. Under that quota share reinsurance agreement, which expired in
accordance with its terms on December 31, 2014, we had ceded to reinsurers 75% of our homeowner business during the term of
the agreement.
The one-year property aggregate excess catastrophe reinsurance agreement provides reinsurance coverage to the State Auto
Group of $75.0 million during 2015 for the ISO's PCS numbered catastrophes and certain other weather-related events after the
State Auto Group's retention of $165.0 million. Individual occurrences are not subject to an occurrence deductible, but are subject
to a maximum amount of $55.0 million consistent with the Group's retention under the existing property catastrophe excess of
loss reinsurance agreement.
As described in more detail elsewhere in this Form 10-K, the State Auto Group entered into an ADC reinsurance agreement
to protect against adverse development of loss and ALAE reserves for the terminated RED restaurant program. The ADC
reinsurance agreement provides the State Auto Group with $40.0 million of adverse development cover in excess of the carried
reserves for the terminated RED restaurant program at December 31, 2014.
CYCLICAL NATURE OF THE INDUSTRY
The property and casualty insurance industry is cyclical, which may cause fluctuations in our operating results.
The property and casualty insurance industry, particularly business insurance, has been historically characterized by periods
of intense price competition due to excess underwriting capacity, as well as periods of shortages of underwriting capacity that
result in higher prices and more restrictive contract and/or coverage terms. The periods of intense price competition may adversely
affect our operating results, and the overall cyclicality of the industry may cause fluctuations in our operating results. While we
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may adjust prices during periods of intense competition, it remains our strategy to allow for acceptable profit levels and to decline
coverage in situations where pricing or risk would not result in acceptable expected returns. Accordingly, our commercial and
specialty lines of business tend to contract during periods of severe competition and price declines and expand when market pricing
allows an acceptable return. This can cause volatility in our premium revenues. Our specialty insurance segment markets and
underwrites commercial exposures through wholesale brokers, program administrators and other specialty sources. The reaction
of these distribution channels to price competition may result in the movement of business and volatility of premium revenues.
The personal lines businesses are characterized by an automated underwriting cycle of loss cost trends. Driving patterns,
inflation in the cost of auto repairs and medical care and increasing litigation of liability claims are some of the more important
factors that affect loss cost trends. Inflation in the cost of building materials and labor costs and demand caused by weather-related
catastrophic events affect personal lines homeowners loss cost trends. We may be unable to increase premiums at the same pace
as coverage costs increase. Accordingly, profit margins initially decline in periods of increasing loss costs.
ECONOMIC CONDITIONS
Economic conditions may adversely affect our business.
The current challenging national and global economy, as well as negative economic conditions in the future, may adversely
impact our business and results of operations. While the volatility of the economic climate makes it difficult for us to predict the
overall impact of economic conditions on our business and results of operations, our business may be impacted in a variety of
ways.
Economic conditions affect consumer behavior. For example, a decrease in gas prices may result in consumers driving more
miles, leading to a possible increase in auto claim frequency. Negative economic conditions may cause consumers and businesses
to decrease their spending, which may impact the demand for insurance products. For example, declining automotive sales and
weaknesses in the housing market generally impact the purchase of our personal auto and homeowners insurance products by
consumers and business insurance products by businesses involved in these industries. High levels of unemployment have a
tendency to cause the number of workers’ compensation claims to increase, as laid-off and unemployed workers may seek workers’
compensation benefits to replace their lost healthcare benefits. Similarly, uninsured and underinsured motorist claims may rise.
Vacated homes and business properties pose increased insurance industry risk.
Volatility and weakness in the financial and capital markets may negatively impact the value of our investment portfolio.
Economic strains on states and municipalities could result in downgrades or defaults of certain municipal obligations.
We may be adversely affected by business difficulties, bankruptcies and impairments of other parties with whom we do
business, such as independent agents, key vendors and suppliers, reinsurers or banks, which increases our credit risk and other
counterparty risks. Bankruptcies among our current business insurance customers can negatively affect our retention. Reductions
in new business start-ups may negatively affect the number of future potential business insurance customers.
In response to economic conditions, the United States federal government and other governmental and regulatory bodies
have taken action and may take additional actions to address such conditions. There can be no assurance as to what impact such
actions or future actions will have on the financial markets, economic conditions or our Company.
In addition, government spending and monetary policies or other factors may cause the rate of inflation to increase in the
future. Inflation can have a significant negative impact on property and casualty insurers because premium rates are established
before the amount of losses and loss expenses are known. When establishing rates, we attempt to anticipate increases from inflation
subject to the limitations of modeling economic variables. Premium rates may prove to be inadequate due to low trend assumptions
arising from the use of historical data. Even when general inflation is relatively modest, price inflation on the goods and services
purchased by insurance companies in settling claims can steadily increase. Reserves may develop adversely and become inadequate.
Retentions and deductibles may be exhausted more quickly. Interest rate increases in an inflationary environment could cause the
values of our fixed income investments to decline.
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Adverse capital and credit market conditions may negatively affect our ability to meet unexpected liquidity needs or to
obtain credit on acceptable terms.
In the event that we need access to additional capital to pay our operating expenses, make payments on our indebtedness,
pay for capital expenditures or fund acquisitions, our ability to obtain such capital may be constrained and the cost of any such
capital may be significant. Our ability to obtain additional financing will depend on numerous factors, such as market conditions,
the general availability of credit, the overall availability of credit to our industry, our credit ratings and credit capacity, as well as
lenders’ perception of our long- or short-term financial prospects. Our access to funds may also be constrained if regulatory
authorities or rating agencies take negative actions. If certain factors were to occur, our internal sources of liquidity may prove to
be insufficient and we may not be able to successfully obtain additional financing on satisfactory terms.
DISTRIBUTION SYSTEM
Our retail agents, who are part of the independent agency distribution channel, are our sole distribution method for our
personal and business insurance segments. Our exclusive use of such distribution may constrain our ability to grow at a
comparable pace to our competitors that utilize multiple distribution channels. In addition, consumers may prefer to purchase
insurance products through other means, such as the internet, rather than through agents.
We market our insurance products in our personal and business insurance segments exclusively through independent, non-
exclusive insurance agents and brokers, whereas some of our competitors sell their insurance products through direct marketing
techniques, the internet or “captive” insurance agents who sell products exclusively for one insurance company. Throughout its
history, the State Auto Group has supported the independent agency system as our distribution channel. However, we recognize
that although the number of distribution locations has expanded and the size of many agencies has grown, the number of individual
independent agencies in the industry has dramatically shrunk over the past decade due to agency purchases, consolidations,
bankruptcies and agent retirements. We also recognize that it will be progressively more difficult to expand the number of
independent agencies representing us. If we are unsuccessful in maintaining and increasing our agency representation, our sales
and results of operations could be adversely affected.
The retail agents that market and sell our products also sell products of our competitors. These agents may recommend our
competitors’ products over our products or may stop selling our products altogether. When price competition is intense, our
premium production may be negatively impacted by the fact our independent agent distribution force has products to sell from
other carriers that may be more willing to lower prices to grow top line sales. Consequently, we must remain focused on attracting
and partnering with agents to market and sell our products. We compete for productive agents primarily on the basis of our financial
position, support services, ease of doing business, compensation and product features. Although we make efforts to ensure we
have strong relationships with our retail agents, we may not be successful and our sales and results of operations could be adversely
affected.
In addition, consumers are increasingly using the internet and other alternative channels to purchase insurance products.
While our website provides a significant amount of information about our insurance products, consumers cannot purchase insurance
through our website. Instead, consumers must contact one of our independent agents to purchase our insurance products or make
changes to their policies. This single distribution system may place us at a disadvantage with consumers who prefer to purchase
insurance products online or through other alternative distribution channels.
Because our specialty insurance segment business is dependent upon wholesale brokers, managing general agents and
retail agents, we are exposed to certain risks arising out of these distribution channels that could cause our results to be adversely
affected.
We market and distribute our specialty insurance segment products through wholesale agents and managing general agents
to whom we have granted quoting and binding authority and who, in turn, sell our insurance products to insureds through retail
insurance brokers. While we have established and provided these wholesale agents and managing general agents with pre-
established underwriting guidelines, if they fail to comply with our underwriting guidelines and the terms of their appointment,
we could be bound on a particular risk or number of risks that were not anticipated when we developed the insurance products.
Such actions could adversely affect our results of operations.
Additionally, in any given period we may derive a significant portion of our business from a limited number of agents and
brokers and the loss of any of these relationships could have a significant impact on our ability to market our products and services.
Likewise, in certain jurisdictions, when the insured remits premium payments to our agent or broker in full, our premiums are
considered to have been paid in full, notwithstanding that we may or may not have actually received the premiums from the agent
or broker. Consequently, we assume a degree of credit risk associated with certain agents and brokers with whom we transact
business.
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REGULATION
Our business is heavily regulated, and changes in regulation may reduce our profitability and limit our growth.
We are subject to extensive regulation in the states in which we conduct business. This regulation is generally designed to
protect the interests of policyholders, as opposed to shareholders and other investors, and relates to authorization for lines of
business, capital and surplus requirements, investment limitations, underwriting limitations, transactions with affiliates, dividend
limitations (see “Regulation-Dividends” in Item 1), changes in control, premium rates and a variety of other financial and non-
financial components of an insurance company’s business. The NAIC and state insurance regulators are constantly examining
laws and regulations, generally focusing on modifications to holding company regulations, interpreting existing laws and
developing new laws.
From time to time, some states in which we conduct business have considered or enacted laws that may alter or increase
state authority to regulate insurance companies and insurance holding companies. In other situations, states in which we conduct
business have considered or enacted laws that impact the competitive environment and marketplace for property and casualty
insurance.
Nearly all states require licensed insurers to participate in guaranty funds through assessments covering a portion of insurance
claims against impaired or insolvent insurers. An increase in the magnitude of impaired companies could result in an increase in
our share of such assessments. Residual market or pooling arrangements exist in many states to provide certain types of insurance
coverage to those that are otherwise unable to find private insurers willing to insure them. Licensed insurers voluntarily writing
such coverage are required to participate in these residual markets or pooling mechanisms. Such participation exposes us to possible
assessments, some of which could be material to our results of operations. The potential availability of recoupments or premium
rate increases, if applicable, may not offset such assessments in the financial statements nor do so in the same fiscal periods.
From time to time, many of the states in which we operate consider legislation restricting or banning the use of credit scoring
in rating and/or risk selection in personal lines of business. Similarly, several states have considered restricting insurers’ rights to
use loss history information maintained in various databases by insurance support organizations. These tools help us price our
products more fairly and enhance our ability to compete for business that we believe will be profitable. Such regulations would
limit our ability, as well as the ability of all other insurance carriers operating in any affected jurisdiction, to take advantage of
these tools.
Currently the federal government does not directly regulate the insurance business. However, in recent years the state
insurance regulatory framework has come under increased federal scrutiny. Congress and some federal agencies from time to time
investigate the current condition of insurance regulation in the United States to determine whether to impose federal regulation
or to allow an optional federal charter, similar to banks. In addition, changes in federal legislation and administrative policies in
several areas, including changes in the Gramm-Leach-Bliley Act, financial services regulation and federal taxation, or repeal of
McCarran-Ferguson Act (which largely exempts the insurance industry from the federal antitrust laws), could significantly impact
the insurance industry and us. In February 2013, the Department of Housing and Urban Development finalized a federal regulation
introducing disparate impact criteria to the sale of homeowners insurance. Such regulation may have a negative effect on our
underwriting and pricing of homeowners insurance, as it puts in jeopardy the use of longstanding, sound actuarial factors. We are
continuing to monitor the impact of this legislation.
The Federal Insurance Office was established in 2010 by the enactment of the Dodd-Frank Act. The Federal Insurance Office
is a separate office within the United States Department of Treasury. The primary objective of the Federal Insurance Office is to
monitor all aspects of the insurance industry. The Federal Insurance Office also coordinates and develops federal policy on
international insurance matters, including representing the United States in the International Association of Insurance Supervisors,
assists in negotiating certain international agreements, monitors access to affordable insurance by traditionally underserved
communities and consumers, minorities, and low- and moderate-income persons, and assists in the administration of the terrorism
risk insurance program. However, the Federal Insurance Office lacks regulatory authority, and it is not clear how this federal office
will coordinate and interact with the NAIC or state insurance regulators. In December 2013, the Federal Insurance Office issued
a report on regulatory modernization. The report concluded that the regulatory debate at present is not whether insurance regulation
should be state-based or regulated by the federal government, but, whether there are areas in which the federal government's
involvement in regulation under the state-based approach would be beneficial. The report recommended 18 areas for short-term
insurance regulation improvement, centering around capital adequacy, reform of insurer resolution practices and marketplace
regulation, and nine areas of direct federal government involvement in regulation. Industry response to the report has been mixed.
It is uncertain what regulatory changes may ultimately result from the report and what impact such changes may have on the
industry and to us.
Although we do not write health insurance, rules affecting health care services can affect insurance we write, including
workers’ compensation, commercial and personal automobile and liability insurance. The enactment of the Patient Protection and
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Affordable Care Act of 2010 (the “Healthcare Act”) and additional health care reform legislation may have an impact on various
aspects of our business. In addition, we may be impacted as a business enterprise by potential tax issues and changes in employee
benefits. We will continue to monitor and assess the impact of health care legislation or regulations, or changing interpretations,
at the federal or state levels.
We cannot predict with certainty the effect any enacted, proposed or future state or federal regulation or NAIC initiatives
may have on the conduct of our business. Furthermore, there can be no assurance that the regulatory requirements applicable to
our business will not become more stringent in the future or result in materially higher costs than current requirements. For example,
concerns over climate change may prompt federal, state or local laws intended to protect the environment. Changes in the regulation
of our business may reduce our profitability, limit our growth or otherwise adversely affect our operations.
We could be adversely affected if our controls designed to assure compliance with guidelines, policies, and legal and
regulatory standards, including financial and regulatory reporting, are ineffective. Our business is dependent on our ability to
regularly engage in a large number of insurance underwriting, claim processing, personnel and human resources, and investment
activities, many of which are complex. These activities often are subject to internal guidelines and policies, as well as legal and
regulatory requirements. No matter how well designed and executed, control systems provide only reasonable assurance that the
system objectives will be met. If our controls are not effective, it could lead to financial loss, unexpected risk exposures or damage
to our reputation.
Tax legislation initiatives or challenges to our tax positions could adversely affect our results of operations and financial
condition.
We are subject to the tax laws and regulations of the United States federal, state and local governments. Tax legislative
initiatives by these governmental bodies, including actions by departments of insurance, taxing authorities and other state and
local agencies, to change the current tax structure or to increase taxes, assessments and other revenue-generating fees may increase
the cost of doing business in those jurisdictions.
From time to time, various legislative initiatives may be proposed that could adversely affect our tax positions. There can
be no assurance that our effective tax rate or tax payments will not be adversely affected by these initiatives. In addition, United
States federal, state and local tax laws and regulations are extremely complex and subject to varying interpretations. There can be
no assurance that our tax positions will not be challenged by relevant tax authorities or that we would be successful in any such
challenge.
CLAIM AND COVERAGE DEVELOPMENTS
Developing claim and coverage issues in our industry are uncertain and may adversely affect our insurance operations.
As industry practices and legislative, judicial and regulatory conditions change, unexpected and unintended issues related
to claims and coverage may develop. These issues could have an adverse effect on our business by either extending coverage
beyond our underwriting intent or by increasing the frequency or severity of claims. The premiums we charge for our insurance
products are based upon certain risk expectations. When legislative, judicial or regulatory authorities expand the burden of risk
beyond our expectations, the premiums we previously charged or collected may no longer be sufficient to cover the risk, and we
do not have the ability to retroactively modify premium amounts. Furthermore, our reserve estimates do not take into consideration
a major retroactive expansion of coverage through legislative or regulatory actions or judicial interpretations.
In particular, court decisions have had, and are expected to continue to have, significant impact on the property and casualty
insurance industry. Court decisions may increase the level of risk which insurers are expected to assume in a number of ways,
such as by eliminating exclusions, increasing limits of coverage, creating rights in claimants not intended by the insurer and
interpreting applicable statutes expansively to create obligations on insurers not originally considered when the statute was passed.
In some cases, court decisions have been applied retroactively. Court decisions have also negated legal reforms passed by state
legislatures.
We have seen instances of political pressure exerted to force or persuade insurers to provide extra-contractual coverage,
such as foregoing the use of deductibles. Such situations may, to some degree, threaten the sanctity of the insurance contract.
There is also a growing trend of plaintiffs targeting property and casualty insurers, including us, in putative class action
litigation relating to claim-handling and other practices, particularly with respect to the handling of personal lines auto and
homeowners claims.
There are concerns that the focus on climate change and global warming could affect court decisions or result in litigation,
including potential matters arising from federal, state or local laws intended to protect the environment. Other environmental
concerns could also create or affect potential liability exposures.
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Many of these issues are beyond our control. The effects of these and other unforeseen claims and coverage issues are
extremely hard to predict and could materially harm our business and results of operations.
LITIGATION
We may suffer losses from litigation, which could materially and adversely affect our operating results or cash flows and
financial condition.
As is typical in our industry, we face risks associated with litigation of various types, including disputes relating to insurance
claims under our policies, as well as other general commercial and corporate litigation. Litigation is subject to inherent uncertainties
and in the event of an unfavorable outcome in one or more litigation matters, the ultimate liability may be in excess of amounts
currently reserved and may be material to our operating results or cash flows for a particular quarter or annual period and to our
financial condition.
TERRORISM
Terrorist attacks, and the threat of terrorist attacks, and ensuing events could have an adverse effect on us.
Terrorism, both within the United States and abroad, and military and other actions and heightened security measures in
response to these types of threats, may cause loss of life, property damage, reduced economic activity, and additional disruptions
to commerce. Terrorist attacks could cause losses from insurance claims related to the property and casualty insurance operations
of the State Auto Group, as well as a decrease in our stockholders’ equity, net income and/or revenue.
The Terrorism Acts require the federal government and the insurance industry to share the risk of insured losses on future
acts of terrorism that are certified by the U.S. Secretary of the Treasury. We are required to participate in the Terrorism Acts as a
result of our commercial insurance business. In addition, under the Terrorism Acts, terrorism coverage is mandatory for all primary
workers' compensation policies. Insureds with non-workers' compensation commercial policies, however, have the option to accept
or decline our terrorism coverage. In 2014, over 90% of our commercial lines non-workers' compensation policyholders purchased
terrorism coverage. Although the Terrorism Acts mitigate our exposure to a large-scale terrorist attack, our deductible is substantial
and losses could have a material adverse effect on our results of operations, financial condition and liquidity.
In addition, some of the assets in our investment portfolio may be adversely affected by declines in the equity markets and
economic activity caused by the continued threat of terrorism, ongoing military and other actions and heightened security measures.
We cannot predict at this time the extent to which industry sectors in which we maintain investments may suffer losses as a result
of potentially decreased commercial and economic activity, or how any such decrease might impact the ability of companies within
the affected industry sectors to pay interest or principal on their securities, or how the value of any underlying collateral might be
affected.
Furthermore, our reinsurers could experience significant losses as a result of terrorist attacks, potentially jeopardizing their
ability to pay losses ceded to them and reducing the availability of reinsurance. Our current commercial property reinsurance
excludes certified acts of foreign terrorism and loss due to nuclear, biological or chemical agents.
INVESTMENTS
The performance of our investment portfolios is subject to various investment risks, such as market, credit, concentration,
liquidity, and interest rate risks. Such risks could result in material adverse effects to our results of operations, cash flows and
financial position.
Like other property and casualty insurance companies, we depend on income from our investment portfolio for a portion of
our revenues and earnings and are therefore subject to market risk, credit risk, concentration risk, liquidity risk and the risk that
we will incur losses due to adverse changes in equity, interest, commodity or foreign currency exchange rates and prices. Our
primary market risk exposures are to changes in interest rates and equity prices. Continuation of the current low interest rate
environment puts downward pressure on investment income. Future increases in interest rates could cause the values of our fixed
income portfolios to decline, with the magnitude of the decline depending on the duration of our portfolio. Individual securities
in our fixed income portfolio are subject to credit risk and default. Downgrades in the credit ratings of fixed maturities can have
a significant negative effect on the market valuation of such securities. For example, budget strains on certain states and local
governments could negatively affect the credit quality and ratings of their issued securities.
Our fixed income portfolio includes certain securities with call features permitting them to be redeemed by the issuers prior
to stated maturity. Reinvestment risk exists with such securities as it may not be possible to reinvest the proceeds from the called
securities at equivalent yields.
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If the fixed income or equity portfolios, or both, were to be impaired by market, sector or issuer-specific conditions to a
substantial degree, our liquidity, financial position and financial results could be materially adversely affected. Under these
circumstances, our income from these investments could be materially reduced, and declines in the value of certain securities
could further reduce our reported earnings and capital levels. A decrease in value of our investment portfolio could also put our
insurance subsidiaries at risk of failing to satisfy regulatory minimum capital requirements. If we were not at that time able to
supplement our subsidiaries’ capital from STFC or by issuing debt or equity securities on acceptable terms, our business could be
materially adversely affected. Also, a decline in market rates of fixed income securities or a decline in the fair value of equity
securities could cause the investments in our pension plans to decrease, resulting in additional expense and increasing required
contributions to the pension plan.
In addition, our investments are subject to risks inherent in the nation’s and world’s capital markets. The functioning of those
markets, the values of the investments held by us and our ability to liquidate investments on favorable terms or short notice may
be adversely affected if those markets are disrupted or otherwise affected by local, national or international events, such as power
outages, system failures, wars or terrorist attacks or by recessions or depressions, a significant change in inflation expectations, a
significant devaluation of governmental or private sector credit, currencies or financial markets and other factors or events.
Changes in tax laws impacting marginal tax rates and/or the preferred tax treatment of municipal obligations under current
law, could adversely affect the market value of municipal obligations. Since a significant portion of our investment portfolio is
invested in tax-exempt municipal obligations, any such changes in tax law could adversely affect the value of the investment
portfolio. Additionally, any such changes in tax law could reduce the difference between tax-exempt interest rates and taxable
rates.
EMPLOYEES
Our ability to attract, develop and retain talented employees, managers and executives, and to maintain appropriate
staffing levels, is critical to our success, as is our ability to effectively plan for the succession and transition of key executives
and subject matter experts.
Our success depends on our ability to attract, train, develop and retain talented, ethical, diverse employees, including
executives and other key managers in a specialized industry. The loss of certain key officers and employees or the failure to attract
and develop talented new executives and managers could have a materially adverse effect on our business. Effective succession
planning is important to assure the timely, competent replacement of retiring or transitioning senior executives and other departing
management talent and subject matter experts.
Talent management is a key consideration in our specialty insurance segment, which requires specialized product
underwriting, claims handling and risk management services and involves distribution through channels other than our retail
agents. Other business units also focus on specialized technical or analytical skills.
Our success also depends on our ability to maintain and improve the effectiveness of our staff. Our ability to do so may be
impaired as a result of a variety of internal and external factors which affect employees and the employment marketplace, as well
as our ability to recognize and respond to changing trends and other circumstances that affect our employees. In addition, we
must forecast the changing business environments (for multiple business units and in many geographic markets) with reasonable
accuracy and adjust hiring programs and/or employment levels accordingly. Our failure to recognize the need for such adjustments,
or the failure or inability to react appropriately on a timely basis, could lead either to over-staffing (which would adversely affect
our cost structure) or under-staffing (impairing our ability to execute and effectively service our business) in one or more business
units or locations. In either event, our financial results could be materially adversely affected.
CONTROL BY OUR PARENT COMPANY
State Auto Mutual owns a significant interest in us and may exercise its control in a manner detrimental to your interests.
As of December 31, 2014, State Auto Mutual owned approximately 62.5% of the voting power of our Company. Therefore,
State Auto Mutual has the power to direct our affairs and is able to determine the outcome of substantially all matters required to
be submitted to shareholders for approval, including the election of all our directors. State Auto Mutual could exercise its control
over us in a manner detrimental to the interests of other STFC shareholders.
COMPETITION
Our industry is highly competitive, which could adversely affect our sales and profitability.
The property and casualty insurance business is highly competitive, and we compete with a large number of other insurers.
Many of our competitors have well-established national reputations and brands supported by extensive media advertising. Many
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of our competitors have substantially greater financial, technical and operating resources and market share than us. We may not
be able to effectively compete, which could adversely affect our sales and profitability. We believe that competition in our lines
of business is based primarily on price, service, commission structure, product features, financial strength ratings, producer
relationships, reputation and name or brand recognition. Market developments such as usage-based auto insurance or new entrants
into the insurance marketplace could potentially result in reduced market share or adverse selection. The growth in mobile
communications and the prominence of social media as a source of information for consumers are recent examples of significant
developments in the marketplace which may adversely affect our competitive position. Social media, for example, could be
potentially utilized in a manner which negatively affects our reputation with current or prospective policyholders and agents.
Our competitors sell through various distribution channels, including independent agents, captive agents and directly to the
consumer. We compete not only for personal and business insurance customers, but also for independent agents and brokers to
market and sell our products. Our specialty insurance segment faces competitors attempting to sell their products through the
distribution system of wholesale brokers, program administrators and other specialty sources. Some of our competitors offer a
broader array of products, have more competitive pricing or have higher claims paying ability ratings. In addition, other financial
institutions are now able to offer services similar to our own as a result of the Gramm-Leach-Bliley Act.
The increased transparency that arises from information available from the use of tools such as comparative rater software,
could work to our disadvantage. The competitive environment for certain lines of business, such as personal auto insurance, puts
pressure on achieving sustainable profit margins. We may have difficulty differentiating our products or becoming among the
lowest cost providers. Expense efficiencies are important to maintaining and increasing our growth and profitability. If we are
unable to efficiently execute and realize future expense efficiencies, it could affect our ability to establish competitive pricing and
could have a negative effect on new business growth and retention of existing policyholders.
VOLATILITY OF OUR COMMON STOCK
The price of our common stock could be volatile.
The trading price of our common stock may fluctuate substantially due to a variety of factors, some of which may not be
related to our operating performance and are beyond our control. Such factors include, but are not limited to, the following:
volatility and variations in our actual or anticipated operating results or changes in the expectations of financial market analysts;
investor perceptions of our Company and/or the property and casualty industry; the number of shares outstanding, trading volume,
market conditions in the insurance industry and any significant volatility in the market; and major catastrophic events.
CHANGES IN ACCOUNTING STANDARDS
Changes in accounting standards issued by the FASB or other standard-setting bodies may adversely affect our results
of operations and financial condition.
Our financial statements are prepared in accordance with GAAP, FASB, AICPA and other accounting standard-setting bodies
may periodically issue changes to, interpretations of or guidance with respect to GAAP. The adoption of such guidance may have
an adverse effect on our results of operations and financial position. See Note 1 to our consolidated financial statements included
in Item 8 of this Form 10-K regarding adoption of recent accounting pronouncements.
Item 1B. Unresolved Staff Comments
None.
Item 2. Properties
We share our operating facilities with State Auto Mutual pursuant to the terms of the 2005 Management Agreement. Our
corporate headquarters are located in Columbus, Ohio, in buildings owned by State Auto Mutual that contain approximately
280,000 square feet of office space. Our Company and State Auto Mutual also own and lease other office facilities in numerous
locations throughout the State Auto Group’s geographical areas of operation.
Item 3. Legal Proceedings
The following describes a pending class action legal proceeding in which we are a party:
In April 2013, a putative class action lawsuit (Schumacher vs. State Automobile Mutual Insurance Company, et al.) was
filed against State Auto Mutual, State Auto Financial and State Auto P&C in Federal District Court in Ohio. Plaintiffs
claim that in connection with the homeowners policies of various State Auto companies, the coverage limits and premiums
were improperly increased as a result of an insurance to value (“ITV”) program and Plaintiffs allege that they purchased
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coverage in excess of that which was necessary to insure them in the event of loss. Plaintiffs’ claims include breach of
good faith and fair dealing, negligent misrepresentation and fraud, violation of the Ohio Deceptive Trade Practices Act,
and fraudulent inducement. Plaintiffs sought compensatory and punitive damages to be determined by the court, as well
as class certification. On February 2, 2015, the Court struck the class allegations, and on February 13, 2015, the Court
stayed the proceedings to allow the parties to engage in settlement discussions.
The Company is involved in other lawsuits in the ordinary course of its business arising out of or otherwise related to its
insurance policies. Additionally, from time to time the Company may be involved in lawsuits, including class actions, in the
ordinary course of business but not arising out of or otherwise related to its insurance policies. These lawsuits are in various stages
of development. The Company generally will contest these matters vigorously but may pursue settlement if appropriate. Based
on currently available information, the Company does not believe it is reasonably possible that any such lawsuit or related lawsuits
will be material to its results of operations or have a material adverse effect on its consolidated financial position or cash flows.
Item 4. Mine Safety Disclosures
Not applicable.
803Fin.pdf
33
PART II
Item 5. Market for the Registrant’s Common Equity, Related Shareholder Matters, and Issuer Purchases of Equity
Securities
Market Information; Holders of Record
Our common shares are traded on the NASDAQ Global Select Market under the symbol STFC. As of February 27, 2015,
there were 1,258 shareholders of record of our common shares.
Market Price Ranges and Dividends Declared on Common Shares
Initial Public Offering—June 28, 1991 – $2.25(1). The following table sets forth information with respect to the high and
low sale prices of our common shares for each quarterly period for the past two years as reported by NASDAQ, along with the
amount of cash dividends declared by us with respect to our common shares for each quarterly period for the past two years:
2014
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
2013
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
(1) Adjusted for stock splits.
High
Low
Dividend
$
$
$
$
22.85
23.62
25.43
24.00
High
17.99
19.77
23.10
22.61
$
18.35
20.01
20.30
19.36
0.10
0.10
0.10
0.10
Low
Dividend
$
14.10
15.48
17.56
18.65
0.10
0.10
0.10
0.10
See Item 7 of this Form 10-K, “Management’s Discussion and Analysis of Financial Condition and Results of Operations
—Liquidity and Capital Resources—Regulatory Considerations,” for information regarding regulatory restrictions on the payment
of dividends to State Auto Financial by its insurance subsidiaries.
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34
Performance Graph
The line graph below compares the total return on $100.00 invested on December 31, 2009, in STFC’s shares, the CRSP
Total Return Index for the NASDAQ Stock Market (“NASDAQ Index”), and the CRSP Total Return Index for NASDAQ insurance
stocks (“NASDAQ Ins. Index”), with dividends reinvested.
STFC
NASDAQ Index
NASDAQ Ins. Index
12/31/2009
12/31/2010
12/31/2011
12/31/2012
12/31/2013
12/31/2014
100.00
100.00
100.00
97.67
118.15
118.13
79.44
117.22
124.81
90.68
137.90
145.69
131.73
193.29
191.08
140.38
221.96
211.24
803Fin.pdf
35
Item 6. Selected Consolidated Financial Data
(dollars and shares in millions, except per share data)
Year ended December 31
2014
2013
2012
2011*
2010*
Statement of Income Data — GAAP Basis:
Earned premiums
Net investment income
Total revenues
Net income (loss)
Earned premium growth
Return on average invested assets(1)
Balance Sheet Data — GAAP Basis:
Total investments
Total assets
Total notes payable
Total stockholders’ equity
Common shares outstanding
Return on average equity
Debt to capital ratio
Per Common Share Data — GAAP Basis:
Basic EPS
Diluted EPS
Cash dividends per share
Book value per share
Common Share Price:
High
Low
Close at December 31
Close price to book value per share
GAAP Ratios:
Loss and LAE ratio
Expense ratio
Combined ratio
Statutory Ratios:
Loss and LAE ratio
Expense ratio
Combined ratio
Net premiums written to surplus
(1)
Invested assets include investments and cash equivalents.
$ 1,074.1
$
74.7
$ 1,172.7
107.4
$
1.8%
3.5%
$ 2,357.9
$ 2,766.9
100.8
$
872.9
$
40.9
13.0%
10.4%
$
$
$
$
$
$
$
2.63
2.60
0.40
21.32
25.43
18.35
22.22
1.04
71.8%
33.7%
105.5%
71.6%
34.4%
106.0%
1.5
1,055.0
72.8
1,153.0
60.8
1.2
3.4
2,251.3
2,496.4
100.8
785.0
40.7
8.0
11.4
1.50
1.49
0.40
19.27
23.10
14.10
21.24
1.10
68.2
33.6
101.8
68.5
34.5
103.0
1.4
1,042.1
75.4
1,150.1
10.7
(27.1)
3.5
2,268.4
2,477.8
115.9
737.2
40.5
1.5
13.6
0.26
0.26
0.55
18.22
16.91
12.21
14.94
0.82
74.7
33.2
107.9
74.8
33.6
108.4
1.7
1,428.8
85.4
1,553.7
(160.7)
13.6
3.6
2,229.9
2,764.4
116.4
723.8
40.3
(20.7)
13.9
(4.00)
(4.00)
0.60
17.95
18.35
10.09
13.59
0.76
82.6
33.9
116.5
82.4
33.9
116.3
2.1
1,257.2
80.8
1,355.1
24.4
6.9
3.6
2,307.1
2,701.4
116.8
831.2
40.1
2.9
12.3
0.61
0.61
0.60
20.71
20.38
13.40
17.42
0.84
70.8
33.8
104.6
70.3
32.9
103.2
1.7
*
Reflects changes in Pooling Arrangement, effective December 31, 2011, January 1, 2011 and 2010.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Capitalized terms used in this Item 7 and not otherwise defined have the meanings ascribed to such terms under the caption
“Important Defined Terms Used in this Form 10-K” which immediately precedes Part I of this Form 10-K. This discussion should
be read in conjunction with the consolidated financial statements and notes thereto included in Item 8 of this Form 10-K and the
narrative description of our business contained in Item 1 of this Form 10-K.
OVERVIEW
State Auto Financial is a property and casualty insurance holding company. Our insurance subsidiaries are part of the State
Auto Group and Pooling Arrangement described below. The State Auto Group markets its insurance products throughout the
United States primarily through independent agencies, which include retail agencies and brokers. Our Pooled Companies are rated
A (Excellent) by A.M. Best.
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36
State Auto Financial’s principal subsidiaries are State Auto P&C, Milbank and SA Ohio, each of which is a property and
casualty insurance company, and Stateco, which provides investment management services to affiliated insurance companies.
Our reportable insurance segments are personal insurance, business insurance and specialty insurance. These insurance
segments are aligned with the reporting lines to our principal operating decision makers. Investment operations is also a reportable
segment. See “Personal and Business Insurance” and “Specialty Insurance” in Item 1 of this Form 10-K for more information
about our insurance segments.
We evaluate the performance of our insurance segments using industry financial measurements determined under SAP and
certain measures determined under GAAP. We evaluate our investment operations segment based on investment returns of assets
managed. Financial information about our segments for 2014 is set forth in this Item 7 and in Note 15 to our consolidated financial
statements included in Item 8 of this Form 10-K.
EXECUTIVE SUMMARY
Our 2014 results reflect a number of the actions we took in the fourth quarter of 2014 to address certain issues that impacted
our financial performance in recent years and overshadowed improvement in our overall underwriting performance. We replaced
the HO QS Arrangement (defined and described below) with a one year property aggregate excess catastrophe reinsurance
agreement and entered into an adverse development cover ("ADC") reinsurance agreement to provide protection against adverse
development related to the terminated RED restaurant program business in run-off. We believe the ADC reinsurance agreement,
combined with the actions taken to strengthen our RED reserves during 2014, reduces the likelihood of RED underwriting results
materially impacting our future results. In addition, our cumulative profitability since 2011, among other factors, led management
to conclude that the valuation allowance against our net deferred tax assets was no longer necessary. As a result, the valuation
allowance was reversed, resulting in increases to both GAAP equity and statutory surplus. Finally, our 2014 results benefited
from below average catastrophe losses and price increases across all lines and segments.
Replacement of HO QS Arrangement
The HO QS Arrangement, which was put in place in 2011, provided capital support and additional catastrophe protection
over the past three years, over which time we undertook a number of actions aimed at improving the financial performance of our
homeowners line. See the “Personal Insurance Segment” discussion included in this Item 7 for further information. Since 2011,
the financial performance of our homeowners line improved due to the actions we undertook as well as improved weather. We
evaluated various reinsurance structures to replace the expired HO QS Arrangement, ultimately entering into a one-year property
aggregate excess catastrophe reinsurance agreement effective January 1, 2015. Because we believe our homeowners line is
positioned to generate adequate margins to absorb weather volatility, we are not willing to cede those margins to reinsurers as we
would under a quota share arrangement. The one-year property aggregate excess catastrophe reinsurance agreement provides
protection against significant downside earnings risk resulting from the occurrence of multiple catastrophe events such as those
that materially impacted our 2011 results.
RED Reserve Strengthening and ADC
For 2014, we strengthened loss and ALAE reserves related to the terminated RED program business in run-off by a total of
$96.7 million, which included the net cost of the ADC reinsurance agreement. The majority of the reserve strengthening related
to the two largest terminated RED programs, the restaurant and commercial trucking programs. In addition, the State Auto Group
entered into the ADC reinsurance agreement to protect against adverse development of loss and ALAE reserves for the restaurant
program. The ADC reinsurance agreement provides the State Auto Group with $40.0 million of adverse development cover in
excess of the restaurant program’s carried reserves at December 31, 2014.
Net Deferred Tax Assets Valuation Allowance
Since the second quarter of 2011, STFC has carried a valuation allowance against its net deferred tax assets. At December
31, 2013, the was $82.6 million. Management periodically evaluates STFC's deferred tax assets to determine if they are realizable
based upon available evidence, both positive and negative. When evaluating the ability to realize STFC's deferred tax assets at
December 31, 2014, we focused on STFC’s recent profitability, including (i) three-year cumulative pre-tax income of $98.7 million;
(ii) three consecutive years of pre-tax income; and (iii) expected future profitability. We also considered the following factors,
all of which were determined to have contributed to STFC’s profitability since 2011 and which we believe will contribute to future
profitability: (i) the improved financial performance of our homeowners line since 2011, (ii) the expiration of the HO QS
Arrangement under which we ceded a certain portion of our homeowners underwriting profits to the participating reinsurers, (iii)
the actions we took (including reserve strengthening and entering into an ADC reinsurance agreement protecting against the risk
of further adverse development for one of the programs) with respect to the terminated RED program business, which significantly
reduced our reported financial results since 2011, (iv) increased pricing, which has contributed to improved underwriting margins,
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and (v) profitable growth within our specialty insurance segment, excluding the terminated RED program business. As a result
of our evaluation of all of the above factors, we determined positive evidence outweighed negative evidence and concluded that
the valuation allowance was no longer necessary. Accordingly, the valuation allowance as of the beginning of 2014 was reversed,
resulting in an income tax benefit of $82.6 million. Management’s assessment of expected future profitability was based on
management's opinion that 2014 and 2013 pre-tax operating profitability is a strong indicator of future profitability, along with
the anticipated benefits from the expiration of the HO QS Arrangement and from the actions taken with respect to RED.
Personal Insurance
Remediation efforts in our homeowners line of business have resulted in improved loss and LAE ratios, higher policy
premiums and fewer retail agency relationships. While these efforts resulted in declines in new business for both our homeowners
and personal auto lines, renewal retention for those lines has remained stable. We are working to stabilize production and promote
new business growth in these lines through the introduction of new marketing initiatives targeting our “prime of life” consumer
base, but we do not anticipate these efforts to result in meaningful direct written premium growth until 2016.
Although our results were favorably impacted by fewer and less severe catastrophe events during the year, our goal is to
achieve strong underwriting profitability through disciplined underwriting, responsive and adequate pricing and superior
performance levels in our claim organization.
Business Insurance
Our 2014 business insurance net written premiums increased 3.8% when compared to 2013 as a result of focusing our
underwriting efforts on larger risks with higher average premiums. This segment’s 2014 net loss and ALAE and expense ratios
remained the same when compared to 2013. Business insurance underwriting results for the first half of 2014 were impacted by
a combination of harsh weather and an increased frequency in large fire losses, primarily related to our Business Owner’s Policy
("BOP") product. In response, we identified several classes of business and larger premium accounts that disproportionately
impacted our underwriting performance, stopped writing certain classes of business, and reduced the marketing of our BOP product
to accounts with premium greater than $25,000.
Specialty Insurance
We have experienced steady premium growth and solid underwriting performance in our specialty insurance segment,
excluding the impact of the terminated RED program business. Our E&S property and E&S casualty units have both produced
strong and consistent underwriting performance. Our E&S property unit has benefited from disciplined underwriting and fewer
than normal catastrophe events, particularly in Florida where the majority of this business is written. Our E&S casualty unit
benefited from organic growth as a result of the additions of underwriters in more geographic locations and the 2014 acquisition
of Partners General Insurance Agency, a managing general underwriter, by our parent State Auto Mutual. This acquisition should
continue to provide growth opportunities in 2015.
In our workers’ compensation unit, we focus on a two-pronged “barbell” strategy, with approximately one-half of the our
underwriting efforts focused on the “debit mod” market, targeting accounts with premiums in excess of $100,000, and the other
half focused on “four wall” classes of business with premiums less than $25,000. This strategy continues to produce strong
underwriting performance and we continue to see opportunities to expand into new states and to broaden our distribution network.
Going forward, we believe that our Program business should generate improved underwriting results given our small-to-
medium account and association business focus in select states, strong underwriting and claim controls, and rigorous pricing
discipline.
Claims
We have completed the transformation of our claim operations by redesigning business processes, restructuring the
organization, reducing reliance on third-party vendors, and implementing a new technology platform. We believe that we are now
positioned to capitalize on these investments by using analytics to improve our fraud detection, improve our first notice of loss
handling, and identify opportunities to improve customer service and speed.
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38
Operations
At the end of 2014, we completed a new sourcing arrangement with a third party that assumed responsibility for maintaining
all legacy system applications. This arrangement will allow our IT associates to focus on higher priority strategic initiatives to
replace all of our legacy policy administration and billing systems with a new Guidewire platform. The initiatives will take several
years to complete and will begin in 2015 with the development and installation of new agent portals designed to improve customer
service, enhance productivity and should improve the efficiency with which we quote, bind, issue and service our policies.
Moving forward
We remain a company focused on the property and casualty insurance business, committed to distributing our products
through independent agents and brokers, and positioned to enhance the security and financial interests of our policyholders and
shareholders by growing book value and surplus through our strong underwriting performance.
POOLING ARRANGEMENT
The STFC Pooled Companies and the Mutual Pooled Companies participate in a quota share reinsurance pooling arrangement
referred to as the “Pooling Arrangement.” Under the Pooling Arrangement, State Auto Mutual assumes premiums, losses and
expenses from each of the Pooled Companies and in turn cedes to each of the Pooled Companies a specified portion of premiums,
losses and expenses based on each of the Pooled Companies’ respective pooling percentages. State Auto Mutual then retains the
balance of the pooled business.
The following table sets forth the participants and their participation percentages in the Pooling Arrangement. Except as
otherwise noted, there were no changes to the participants or to their participation percentages during 2014.
STFC Pooled Companies:
State Auto P&C
Milbank
SA Ohio
Total STFC Pooled Companies
State Auto Mutual Pooled Companies:
51.0%
14.0
0.0
65.0
State Auto Mutual(1)
SA Wisconsin
Meridian Security
Patrons Mutual
RIC
Plaza
American Compensation
Bloomington Compensation
34.5
0.0
0.0
0.5
0.0
0.0
0.0
0.0
35.0%
Includes the pooling participation percentage of Meridian Citizens Mutual which was
merged into State Auto Mutual as of the close of business on July 2, 2014. Meridian
Citizen Mutual's pooling participation percentage was 0.5% from January 1, 2011 to
July 2, 2014.
Total State Auto Mutual Pooled Companies
(1)
We anticipate that the STFC Pooled Companies will maintain a 65% participation percentage in the Pooling Arrangement
for the foreseeable future. However, under applicable governance procedures, if the Pooling Arrangement were to be amended,
management would make recommendations to the Independent Committees of the Board of Directors of both State Auto Mutual
and STFC. The Independent Committees review and evaluate such factors as they deem relevant and recommend any appropriate
pooling change to the Board of Directors of both State Auto Mutual and STFC subject to regulatory approval by each participant’s
respective domiciliary insurance department. The Pooling Arrangement is terminable by any of our Pooled Companies at any time
by any party by giving twelve months’ notice to the other parties and their respective domiciliary insurance departments. None of
our Pooled Companies currently intends to terminate the Pooling Arrangement.
Under the terms of the Pooling Arrangement, all subject premiums, incurred losses, loss expenses and other underwriting
expenses are prorated among our Pooled Companies on the basis of their participation in the pool. By spreading the underwriting
risk, the Pooling Arrangement is designed to produce more uniform and stable underwriting results for each of our Pooled Companies
than any one company would experience individually. This has the effect of providing each of our Pooled Companies with a similar
mix of pooled property and casualty insurance business on a net basis.
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39
RESULTS OF OPERATIONS
Summary
The following table sets forth certain key performance indicators we use to monitor our operations for the years ended
December 31, 2014, 2013 and 2012:
($ millions, except per share data)
2014
2013
2012
GAAP Basis:
Total revenues
Net income
Stockholders’ equity
Book value per share
Return on average equity
Debt to capital ratio
Cat loss and ALAE ratio
Non-cat loss and LAE ratio
Loss and LAE ratio
Expense ratio
Combined ratio
Premiums written growth
Investment yield
SAP Basis:
Cat loss and ALAE points
Non-cat loss and ALAE
ULAE
Loss and LAE ratio
Expense ratio
Combined ratio
Net premiums written to surplus
$
$
$
$
1,172.7
107.4
872.9
21.32
$
$
$
$
1,153.0
60.8
785.0
19.27
$
$
$
$
1,150.1
10.7
737.2
18.22
13.0%
10.4%
3.0%
68.8%
71.8%
33.7%
105.5%
12.4%
3.5%
3.0%
62.1%
6.5%
71.6%
34.4%
8.0%
11.4%
3.4%
64.8%
68.2%
33.6%
101.8%
0.6%
3.4%
3.4%
58.6%
6.5%
68.5%
34.5%
1.5 %
13.6 %
6.4 %
68.3 %
74.7 %
33.2 %
107.9 %
(17.8)%
3.5 %
6.4 %
61.7 %
6.7 %
74.8 %
33.6 %
106.0%
103.0%
108.4 %
1.5
1.4
1.7
Our 2014 net income was $107.4 million compared to 2013 and 2012 net income of $60.8 million and $10.7 million,
respectively. Our 2014 net income included a non-cash income tax benefit of $82.6 million related to the reversal of a valuation
allowance against our net deferred tax assets.
The following highlights significant factors that impacted 2014 results as compared to 2013 and 2012:
•
•
•
•
Earned premiums in 2014 were $1,074.1 million compared to $1,055.0 million and $1,042.1 million in 2013 and
2012, respectively. Earned premium growth in 2014 was driven by higher average new business premium, increased
renewal pricing, and the addition of new distribution relationships.
The 2014 catastrophe loss ratio was 3.0% compared to 3.4% and 6.4% for 2013 and 2012, respectively. The
improvement was primarily the result of fewer and less severe catastrophe events during 2014.
The SAP non-catastrophe loss and ALAE ratio for 2014 was 62.1% compared to 58.6% and 61.7% for 2013 and
2012, respectively. The ratios were impacted by strengthening RED reserves within the specialty insurance segment
by $96.7 million, which included the net cost of the ADC reinsurance agreement, in 2014, $21.3 million in 2013 and
$30.5 million in 2012. In addition, the HO QS Arrangement increased our SAP non-catastrophe loss and ALAE
ratio 3.4 points in 2014, 2.8 points in 2013 and 2.3 points in 2012.
Our 2014 net income was favorably impacted by the recognition of $19.0 million of profit commission from the HO
QS Arrangement. The HO QS Arrangement reduced our GAAP expense ratio by 0.9 points in 2014 and increased
our GAAP expense ratios by 0.6 points in 2013 and 2012, respectively.
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803Fin.pdf
Insurance Segments
We measure our top-line growth for our insurance segments based on net written premiums, which provide us with an
indication of how well we are doing in terms of revenue growth before it is actually earned. Our policies provide a fixed amount
of coverage for a stated period of time, often referred to as the “policy term.” As such, our written premiums are recognized as
earned ratably over the policy term. The unearned portion of written premiums, called unearned premiums, is reflected on our
balance sheet as a liability and represents our obligation to provide coverage for the unexpired term of the policies.
Insurance industry regulators require our insurance subsidiaries to report their financial condition and results of operations
using SAP. We use SAP financial results, along with industry standard financial measures determined on a SAP basis and certain
measures determined on a GAAP basis, to internally monitor the performance of our insurance segments and reward our employees.
One of the more significant differences between GAAP and SAP is that SAP requires all underwriting expenses to be expensed
immediately and not deferred over the same period that the premium is earned. In converting SAP underwriting results to GAAP
underwriting results, acquisition costs are deferred and amortized over the periods the related written premiums are earned. For
a discussion of deferred acquisition costs, see “Critical Accounting Policies—Deferred Acquisition Costs” section included in this
Item 7.
The accounting for pension benefits also contributes to the difference between our GAAP loss and expense ratios and our
SAP loss and expense ratios. At January 1, 2013, we adopted new SAP pension guidance, which required the recognition of service
costs for non-vested participants. In accordance with GAAP, service costs related to non-vested participants were recognized over
a two year vesting period ending December 31, 2014. See “Critical Accounting Policies – Pension and Postretirement Benefit
Obligations section included in this Item 7.
All references to financial measures or components thereof in this discussion are calculated on a GAAP basis, unless otherwise
noted.
Use of Non-GAAP Financial Measures
In the following discussion of the results of our insurance segments, we sometimes refer to GAAP financial measures in the
context of “as reported” and to non-GAAP financial measures in the context of “pro forma.” These pro forma, or non-GAAP
financial measures, may (i) exclude the impact of the HO QS Arrangement cession for the years ended December 31, 2014, 2013
and 2012, (ii) exclude the one-time impact of the unearned premium transfer associated with the termination of the HO QS
Arrangement at December 31, 2014, (iii) exclude the impact of the unearned premium transfer associated with the termination of
the umbrella quota share reinsurance agreement for the year ended December 31, 2012, and (iv) exclude the impact of the terminated
RED program business, which is in run-off. We believe the use of these non-GAAP financial measures will enable investors to
(a) better understand the impact of the reinsurance arrangement cession on our reported results for the years ended December 31,
2014, 2013 and 2012, and (b) perform a meaningful comparison of our results of operations for the years ended December 31,
2014, 2013 and 2012. We have also included Reconciliation Tables 1-9 and Tables 1-6 for readers to better understand the use and
calculation of these non-GAAP financial measures.
Homeowners Quota Share Arrangement
To reduce risk and volatility, while at the same time providing us with additional catastrophe reinsurance protection, the
State Auto Group entered into a quota share reinsurance agreement on December 31, 2011 with a syndicate of unaffiliated reinsurers
covering its homeowners line of business (the “HO QS Arrangement”). Under the HO QS Arrangement, the State Auto Group
ceded to the reinsurers 75% of its homeowners business under policies in force at December 31, 2011 and new and renewal policies
thereafter issued during the term of the agreement. The HO QS Arrangement expired on December 31, 2014. Upon expiration,
the Company recognized $89.5 million of unearned premium returned from the reinsurers. In accordance with the terms of the
HO QS Arrangement, the participating reinsurers’ margin was capped at 9.0%, with any excess returned to the State Auto Group
in the form of a profit commission. For the year ended December 31, 2014, the Company recognized $19.0 million of profit
commission, which is reflected as a reduction in acquisition and operating expenses on our consolidated statements of income.
See “Liquidity and Capital Resources – Reinsurance Arrangements” included in this Item 7 for a more detailed discussion
of the HO QS Arrangement.
The following tables set forth, on a GAAP and pro forma basis, certain of our key performance indicators before and after
the impact of the HO QS Arrangement cession for the years ended December 31, 2014, 2013 and 2012.
803Fin.pdf
41
GAAP HO QS Arrangement Cession -
Overall Results
As Reported
1,194.2
$
HO QS Cession
$
83.3
Pro Forma
without HO QS
Cession
$
1,277.5
1,074.1
175.6
1,249.7
$
32.3
739.0
771.3
361.9
(59.1)
3.0%
68.8%
71.8%
33.7%
105.5%
$
19.0
66.8
85.8
70.0
19.8
10.8%
38.1%
48.9%
39.8%
88.7%
51.3
805.8
857.1
431.9
(39.3)
4.1%
64.5%
68.6%
34.6%
103.2%
GAAP HO QS Arrangement Cession -
Overall Results
As Reported
1,062.1
$
HO QS Cession
176.9
$
Pro Forma
without HO QS
Cession
$
1,239.0
1,055.0
177.0
1,232.0
$
36.3
683.5
719.8
354.8
(19.6)
3.4%
64.8%
68.2%
33.6%
101.8%
$
22.7
70.0
92.7
51.4
32.9
12.9%
39.5%
52.4%
29.0%
81.4%
59.0
753.5
812.5
406.2
13.3
4.8%
61.2%
66.0%
33.0%
99.0%
Reconciliation Table 1
($ millions)
December 31, 2014
Net written premiums
Earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and LAE
Total Loss and LAE incurred
Acquisition and operating expenses
Net underwriting (loss) income
$
Cat loss and ALAE ratio
Non-cat loss and LAE ratio
Total Loss and LAE ratio
Expense ratio
Combined ratio
Reconciliation Table 2
($ millions)
December 31, 2013
Net written premiums
Earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and LAE
Total Loss and LAE incurred
Acquisition and operating expenses
Net underwriting (loss) income
$
Cat loss and ALAE ratio
Non-cat loss and LAE ratio
Total Loss and LAE ratio
Expense ratio
Combined ratio
803Fin.pdf
42
Reconciliation Table 3
($ millions)
December 31, 2012
Net written premiums
Earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and LAE
Total Loss and LAE incurred
Acquisition and operating expenses
Net underwriting loss
$
Cat loss and ALAE ratio
Non-cat loss and LAE ratio
Total Loss and LAE ratio
Expense ratio
Combined ratio
GAAP HO QS Arrangement Cession -
Overall Results
As Reported
1,055.3
$
HO QS Cession
172.3
$
Pro Forma
without HO QS
Cession
$
1,227.6
1,042.1
166.2
1,208.3
$
67.1
711.2
778.3
345.9
(82.1)
6.4%
68.3%
74.7%
33.2%
107.9%
$
49.5
74.5
124.0
48.2
(6.0)
29.8%
44.8%
74.6%
29.0%
103.6%
116.6
785.7
902.3
394.1
(88.1)
9.6%
65.0%
74.6%
32.6%
107.2%
The following tables set forth, on a SAP and pro forma basis, certain of our key performance indicators before and after
the impact of the HO QS Arrangement cession for the years ended December 31, 2014 and 2013 and 2012.
SAP HO QS Arrangement Cession—
Overall Results
As Reported
1,194.2
$
HO QS Cession
$
83.3
Pro Forma
without HO QS
Cession
$
1,277.5
1,074.1
175.6
1,249.7
$
32.3
666.9
699.2
69.4
768.6
411.3
(105.8)
3.0%
62.1%
65.1%
6.5%
71.6%
34.4%
106.0%
$
19.0
66.8
85.8
—
85.8
43.2
46.6
10.8%
38.1%
48.9%
—%
48.9%
51.9%
100.8%
51.3
733.7
785.0
69.4
854.4
454.5
(59.2)
4.1%
58.7%
62.8%
5.6%
68.4%
35.6%
104.0%
Reconciliation Table 4
($ millions)
December 31, 2014
Net written premiums
Earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE incurred
Underwriting expenses
Net underwriting (loss) income
$
Cat loss and ALAE ratio
Non-cat loss and ALAE ratio
Total loss and ALAE ratio
ULAE ratio
Total loss and LAE ratio
Expense ratio
Combined ratio
803Fin.pdf
43
Reconciliation Table 5
($ millions)
December 31, 2013
Net written premiums
Earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE incurred
Underwriting expenses
Net underwriting (loss) income
$
Cat loss and ALAE ratio
Non-cat loss and ALAE ratio
Total loss and ALAE ratio
ULAE ratio
Total loss and LAE ratio
Expense ratio
Combined ratio
Reconciliation Table 6
($ millions)
December 31, 2012
Net written premiums
Earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE incurred
Underwriting expenses
Net underwriting loss
$
Cat loss and ALAE ratio
Non-cat loss and ALAE ratio
Total loss and ALAE ratio
ULAE ratio
Total loss and LAE ratio
Expense ratio
Combined ratio
SAP HO QS Arrangement Cession—
Overall Results
As Reported
1,062.1
$
HO QS Cession
176.9
$
Pro Forma
without HO QS
Cession
$
1,239.0
1,055.0
177.0
1,232.0
$
36.3
617.7
654.0
68.7
722.7
366.3
(34.0)
3.4%
58.6%
62.0%
6.5%
68.5%
34.5%
103.0%
$
22.7
70.0
92.7
—
92.7
51.3
33.0
12.9%
39.5%
52.4%
—%
52.4%
29.0%
81.4%
59.0
687.7
746.7
68.7
815.4
417.6
(1.0)
4.8%
55.8%
60.6%
5.6%
66.2%
33.7%
99.9%
SAP HO QS Arrangement Cession—
Overall Results
As Reported
1,055.3
$
HO QS Cession
172.3
$
Pro Forma
without HO QS
Cession
$
1,227.6
1,042.1
166.2
1,208.3
$
67.1
643.0
710.1
68.9
779.0
355.1
(92.0)
6.4%
61.7%
68.1%
6.7%
74.8%
33.6%
108.4%
$
49.5
74.5
124.0
—
124.0
50.0
(7.8)
29.8%
44.8%
74.6%
—%
74.6%
29.0%
103.6%
116.6
717.5
834.1
68.9
903.0
405.1
(99.8)
9.6%
59.4%
69.0%
5.7%
74.7%
33.0%
107.7%
See additional pro forma reconciliation tables for the HO QS Arrangement cession on our homeowners line of business
at Reconciliation Tables 7-9.
803Fin.pdf
44
Summary of Key Indicators of Insurance Segment Results
The following table sets forth certain key performance indicators for our insurance segments for the years ended December 31,
2014, 2013 and 2012:
($ millions)
Written premiums(1)
Earned premiums
Cat loss and ALAE
Non-cat loss and ALAE
ULAE
Underwriting expenses(2)
SAP underwriting loss and SAP
combined ratio
($ millions)
Written premiums
Earned premiums
Cat loss and ALAE
Non-cat loss and ALAE
ULAE
Underwriting expenses
SAP underwriting loss and SAP
combined ratio
($ millions)
Written premiums
Earned premiums
Cat loss and ALAE
Non-cat loss and ALAE
ULAE
Underwriting expenses
SAP underwriting loss and SAP
combined ratio
2014
Personal
%
Ratio
Business
%
Ratio
$
532.1
451.4
13.9
260.9
43.5
144.8
$
3.1
57.8
9.6
27.2
389.2
381.8
16.5
196.7
18.1
159.0
4.3
51.5
4.7
40.9
$
Specialty
272.9
240.9
1.9
209.3
7.8
107.5
%
Ratio
Total(3)
%
Ratio
$
1,194.2
1,074.1
32.3
666.9
69.4
411.3
0.8
86.9
3.3
39.4
3.0
62.1
6.5
34.4
$
(11.7)
97.7
$
(8.5)
101.4
$
(85.6)
130.4
$
(105.8)
106.0
Personal
%
Ratio
Business
$
465.4
464.0
14.0
285.8
42.4
134.4
$
3.0
61.6
9.1
28.9
374.8
364.2
20.9
181.9
19.0
152.6
%
Ratio
2013
$
5.7
50.0
5.2
40.7
Specialty
%
Ratio
Total(3)
%
Ratio
221.9
226.8
1.4
150.0
7.3
79.3
$
1,062.1
1,055.0
36.3
617.7
68.7
366.3
0.6
66.2
3.2
35.7
3.4
58.6
6.5
34.5
$
(12.6)
102.6
$
(10.2)
101.6
$
(11.2)
105.7
$
(34.0)
103.0
Personal
%
Ratio
Business
$
469.5
469.8
26.9
276.7
41.2
126.6
$
5.7
58.9
8.8
27.0
349.4
327.2
37.8
165.7
19.0
147.0
%
Ratio
2012
$
11.5
50.7
5.8
42.1
Specialty
%
Ratio
Total(3)
%
Ratio
236.4
245.1
2.4
200.6
8.7
81.5
$
1,055.3
1,042.1
67.1
643.0
68.9
355.1
1.0
81.8
3.5
34.4
6.4
61.7
6.7
33.6
$
(1.6)
100.4
$
(42.3)
110.1
$
(48.1)
120.7
$
(92.0)
108.4
(1)
(2)
Includes $89.5 million of unearned premiums received by the STFC Pooled Companies on December 31, 2014 related to the expiration of the HO QS
Arrangement.
Includes ceding commissions returned to reinsurers upon expiration of the HO QS Arrangement of $26.0 million and recognition of $19.0 of profit
commission.
(3) See Reconciliation Tables 4, 5 and 6 for the impact of the HO QS Arrangement cession on our SAP underwriting results.
803Fin.pdf
45
Personal Insurance Segment
The following table sets forth the net written premiums by major product line of business for our personal insurance segment
for the years ended December 31, 2014, 2013 and 2012.
Table 1
($ millions)
Net Written Premiums
Personal auto
Homeowners(1)
Other personal
Total personal
2014
2013
2012
$
$
354.4
146.4
31.3
532.1
$
$
377.2
58.8
29.4
465.4
$
$
383.6
56.5
29.4
469.5
(1) December 31, 2014 net written premiums include $89.5 million of unearned premiums received by the STFC
Pooled Companies on December 31, 2014 related to the expiration of the HO QS Arrangement.
The following table sets forth the SAP loss and ALAE ratios by major product line of business for our personal insurance
segment with the catastrophe and non-catastrophe impact shown separately for the years ended December 31, 2014, 2013 and
2012:
Table 2
($ millions)
Statutory Loss and LAE Ratios
2014
Personal auto
Homeowners
Other personal
Total personal
ULAE
Total Loss and LAE
2013
Personal auto
Homeowners
Other personal
Total personal
ULAE
Total Loss and LAE
2012
Personal auto
Homeowners
Other personal
Total personal
ULAE
Total Loss and LAE
Earned
Premium
Cat Loss
& ALAE
Non-Cat
Loss &
ALAE
Statutory
Loss &
LAE
Cat
loss
Ratio
Non-Cat
Loss &
ALAE Ratio
Total Loss
and LAE
Ratio
$
$
$
$
$
$
$
$
$
362.6
58.8
30.0
451.4
—
451.4
378.4
56.1
29.5
464.0
—
464.0
382.0
59.7
28.1
469.8
—
469.8
$
$
$
$
$
$
$
$
$
7.0
5.5
1.4
13.9
—
13.9
4.6
6.8
2.6
14.0
—
14.0
10.7
8.5
7.7
26.9
—
26.9
$
$
$
$
$
$
$
$
$
228.6
21.3
11.0
260.9
—
260.9
253.0
20.9
11.9
285.8
—
285.8
242.5
23.2
11.0
276.7
—
276.7
$
$
$
$
$
$
$
$
$
235.6
26.8
12.4
274.8
43.5
318.3
257.6
27.7
14.5
299.8
42.4
342.2
253.2
31.7
18.7
303.6
41.2
344.8
1.9
9.4
4.5
3.1
—
3.1
1.2
12.2
8.6
3.0
—
3.0
2.8
14.3
27.4
5.7
—
5.7
63.1
36.1
36.9
57.8
—
57.8
66.9
37.4
40.5
61.6
—
61.6
63.4
38.9
39.3
58.9
—
58.9
65.0
45.5
41.4
60.9
9.6
70.5
68.1
49.6
49.1
64.6
9.1
73.7
66.2
53.2
66.7
64.6
8.8
73.4
803Fin.pdf
46
The personal insurance segment's net written premiums increased 14.3% compared to the same 2013 period (Table 1). Net
written premiums for the year ended December 31, 2014 reflect the expiration of the HO QS Arrangement, effective December
31, 2014, which resulted in a return of $89.5 million of unearned premium previously ceded under the agreement. Excluding the
impact of the homeowners cession and the expiration of the HO QS Arrangement, pro forma net written premiums decreased
4.2%(1) , primarily due to a decline in the personal auto net written premiums of 6.0% compared to the same 2013 period (Table
1). The decline in personal auto net written premiums was primarily the result of continued efforts to improve personal auto
profitability, as well as the continued remediation of our homeowners line of business that included, among other things, pricing
and agency management actions.
(1)
For the years ended December 31, 2014 and 2013, respectively, the following table sets forth the reconciliation of as reported net written
premiums to pro forma net written premiums that exclude the impact of the return of unearned premium associated with the termination of the
HO QS Arrangement:
($ millions)
Net written premiums:
2014
2013
%
Change
Personal insurance segment
$
532.1
$
Homeowners cession
Return of ceded premium
172.8
(89.5)
465.4
176.9
—
Pro forma net written premiums
$
615.4
$
642.3
14.3
(2.3)
—
(4.2)
We continue to utilize the following additional strategies to improve our homeowners results:
• CustomFitSM homeowners: Since 2011, we have rolled out CustomFit, our by-peril rating approach, in all states
except North Carolina (which has regulatory restrictions).
•
Insurance to value: We continue to focus on insurance to value so that our insureds maintain an amount of coverage
sufficient to replace their home and contents in the case of a total loss. Proper insurance to value ensures that our
premiums are commensurate with our loss exposure. During 2013, we integrated our insurance to value review with
our underwriting workflow. We deployed a model that allows us to identify homeowner risks that have a high
probability of having insurance to value gaps. This model allows us to optimize our insurance to value reports, which
has led to additional cost savings.
• Wind and hail deductibles: We continue to analyze each state's wind and hail deductible, and all peril deductibles,
at each annual rate review, making adjustments where necessary. We have implemented mandatory wind and hail
deductibles in all targeted catastrophe prone states.
These actions have led to a reduction in companion automobile policies as a high percentage of our auto and homeowners
policies are cross-sold. In an effort to attract new personal auto business, we introduced a new "Start-up Discount" in 2014 that
recognizes longevity with the insured's previous carrier. The Start-up Discount was introduced in 18 states as of December 31,
2014, and we plan to introduce it in the remaining states by the end of 2015.
The personal insurance segment's SAP catastrophe loss ratio for the year ended December 31, 2014 was 3.1%, compared
to 3.0% and 5.7% for the same 2013 and 2012 periods, respectively. The personal auto SAP catastrophe loss ratio increased
slightly compared to the same 2013 period (Table 2), primarily due to catastrophe events in Colorado and Texas during 2014.
Partially offsetting the personal auto increase were improvements in both the as reported homeowners and other personal SAP
catastrophe loss ratios of 2.8 points and 4.1 points, respectively, when compared to the same 2013 period (Table 2). The
improvements were attributable to a combination of successful remediation efforts in our homeowners line of business, where we
have reduced our exposure in previously identified unprofitable states, and fewer and less severe catastrophe events during the
year as compared to the same 2013 and 2012 periods, respectively. The 2013 SAP catastrophe loss ratio improved as a result of
underwriting actions, rate increases and a return to better weather patterns when compared to 2012, when catastrophe losses were
primarily related to a tornado, wind and hail activity in Louisville, Kentucky, and St. Louis, Missouri and wind activity from a
storm in the Midwest and Mid-Atlantic states.
The personal insurance segment’s SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2014 was
57.8%, compared to 61.6% and 58.9% for the same 2013 and 2012 periods (Table 2). The 2014 improvement was primarily
driven by the personal auto SAP non-catastrophe loss & ALAE ratio decline of 3.8 points compared to the same 2013 period (Table
2), as a result of improved personal injury protection and physical damage results, as well as the impact of prior year rate increases.
In addition, our pricing and agency management actions in Arizona, Colorado, Georgia, Illinois and Michigan have reversed the
unfavorable loss ratio trends in those states. Our remediation efforts in these five states will continue in 2015.
47
803Fin.pdf
The following tables set forth, on a SAP and pro forma basis, certain of our key performance indicators for the homeowners
line of business before and after the impact of the HO QS Arrangement cession for the year ended December 31, 2014 and 2013
and 2012:
SAP HO QS Arrangement Cession
– Homeowners
As
Reported
HO QS
Cession
Pro-Forma
without
HO QS
Cession
$
146.4
$
83.3
$
229.7
58.8
5.5
21.3
26.8
9.4%
36.1%
45.5%
$
175.6
19.0
66.8
85.8
10.8%
38.1%
48.9%
$
234.4
24.5
88.1
112.6
10.5%
37.6%
48.1%
SAP HO QS Arrangement Cession
– Homeowners
As
Reported
HO QS
Cession
$
58.8
$
176.9
$
56.1
6.8
20.9
27.7
12.2%
37.4%
49.6%
$
177.0
22.7
70.0
92.7
12.9%
39.5%
52.4%
$
Pro-Forma
without
HO QS
Cession
235.7
233.1
29.5
90.9
120.4
12.7%
39.0%
51.7%
Reconciliation Table 7
($ millions)
December 31, 2014
Net written premiums
Earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE incurred
$
Cat loss and ALAE ratio
Non-cat loss and ALAE ratio
Total Loss and ALAE ratio
Reconciliation Table 8
($ millions)
December 31, 2013
Net written premiums
Earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE incurred
$
Cat loss and ALAE ratio
Non-cat loss and ALAE ratio
Total Loss and ALAE ratio
803Fin.pdf
48
Reconciliation Table 9
($ millions)
December 31, 2012
Net written premiums
Earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE incurred
$
Cat loss and ALAE ratio
Non-cat loss and ALAE ratio
Total Loss and ALAE ratio
Business Insurance Segment
SAP HO QS Arrangement Cession
– Homeowners
As
Reported
HO QS
Cession
$
56.5
$
172.3
$
Pro-Forma
without
HO QS
Cession
228.8
225.9
58.0
97.7
155.7
25.7%
43.2%
68.9%
59.7
8.5
23.2
31.7
14.3%
38.9%
53.2%
$
166.2
49.5
74.5
124.0
29.8%
44.8%
74.6%
$
The following table sets forth the net written premiums by major product line of business for our business insurance segment
for the years ended December 31, 2014, 2013 and 2012.
Table 3
($ millions)
Net Written Premiums
Commercial auto
Commercial multi-peril
Fire & allied lines
Other & product liability
Other commercial
Total business
2014
2013
2012
$
$
101.8
121.4
76.9
71.4
17.7
389.2
$
$
96.2
113.5
77.8
69.5
17.8
374.8
$
$
88.4
101.1
75.6
66.5
17.8
349.4
803Fin.pdf
49
The following table sets forth the SAP loss and ALAE ratios by major product line of business for our business insurance
segment with the catastrophe and non-catastrophe impact shown separately for the years ended December 31, 2014, 2013 and
2012:
Table 4
($ millions)
Statutory Loss and LAE Ratios
2014
Commercial auto
Commercial multi-peril
Fire & allied lines
Other & product liability
Other commercial
Total business
ULAE
Total Loss and LAE
2013
Commercial auto
Commercial multi-peril
Fire & allied lines
Other & product liability
Other commercial
Total business
ULAE
Total Loss and LAE
2012
Commercial auto
Commercial multi-peril
Fire & allied lines
Other & product liability
Other commercial
Total business
ULAE
Total Loss and LAE
Earned
Premium
Cat Loss
& ALAE
Non-Cat
Loss &
ALAE
Statutory
Loss &
LAE
Cat
loss
Ratio
Non-Cat
loss
Ratio
Total Loss
and LAE
Ratio
$
$
$
$
$
$
$
$
$
98.5
118.0
77.4
70.2
17.7
381.8
—
381.8
93.0
108.1
77.0
68.0
18.1
364.2
—
364.2
81.4
94.3
74.5
59.3
17.7
327.2
—
327.2
$
$
$
$
$
$
$
$
$
0.8
7.0
8.7
—
—
16.5
—
16.5
0.8
11.2
8.6
—
0.3
20.9
—
20.9
0.7
13.0
23.8
—
0.3
37.8
—
37.8
$
$
$
$
$
$
$
$
$
56.6
68.1
34.1
32.6
5.3
196.7
—
196.7
53.2
57.1
28.6
35.6
7.4
181.9
—
181.9
51.6
52.8
22.9
33.6
4.8
165.7
—
165.7
$
$
$
$
$
$
$
$
$
57.4
75.1
42.8
32.6
5.3
213.2
18.1
231.3
54.0
68.3
37.2
35.6
7.7
202.8
19.0
221.8
52.3
65.8
46.7
33.6
5.1
203.5
19.0
222.5
0.8
6.0
11.3
—
(0.3)
4.3
—
4.3
0.9
10.3
11.1
—
2.0
5.7
—
5.7
0.9
13.8
31.9
—
1.3
11.5
—
11.5
57.5
57.6
44.0
46.5
30.3
51.5
—
51.5
57.1
52.9
37.3
52.3
40.4
50.0
—
50.0
63.3
55.9
30.8
56.8
27.3
50.7
—
50.7
58.3
63.6
55.3
46.5
30.0
55.8
4.7
60.5
58.0
63.2
48.4
52.3
42.4
55.7
5.2
60.9
64.2
69.7
62.7
56.8
28.6
62.2
5.8
68.0
Net written premiums for the business insurance segment for the years ended December 31, 2014 and 2013 increased 3.8%
and 7.3%, respectively, compared to the same 2013 and 2012 periods. The 2014 increase in premiums was primarily due to growth
in commercial auto and commercial multi-peril, resulting from (i) writing policies with larger average premiums for new business
accounts, (ii) achieving price increases in the low-single digits, and (iii) higher retention. The 2013 increase in premiums was
primarily due to (i) writing larger average premium new business accounts, (ii) achieving price increases in the high single digits,
and (iii) experiencing more growth on existing polices due to improved economic conditions. Net written premiums for the year
ended December 31, 2012 reflected the impact of the termination of an umbrella quota share reinsurance agreement, effective July
1, 2012, and included $7.2 million related to the transfer of unearned premium remaining under the agreement.
We are in the process of implementing several strategies to capitalize on opportunities to grow our business insurance segment.
With the implementation of Business Insurance Evolution ("BIE") in 2013, our ongoing initiative to automate our small commercial
accounts with premiums less than $25,000, we have been able to shift our underwriting focus from smaller to larger commercial
accounts. Through our practice group initiative, we provide expertise for all lines of insurance solutions for niche or target markets,
with a focus on writing premiums in excess of $25,000. For example, in 2013, we launched our food industry practice group,
which focuses on food manufacturing and processing risks. We continue to identify industries and areas of focus where we believe
we have underwriting expertise and look to expand into those markets through 2015.
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50
BIE has proven successful as we continue to increase the number of small commercial accounts processed without human
intervention. As we move forward, we are also looking to automate the processing of new business, provide more consistent
pricing and underwriting service to our agents and insureds, and improving our overall efficiency.
The business insurance segment’s SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2014 was
51.5% compared to 50.0% and 50.7%, respectively for the same 2013 and 2012 periods (Table 4). The increase was primarily
driven by commercial multi-peril and fire & allied lines SAP non-catastrophe loss and ALAE ratio increases of 4.7 points and 6.7
points, respectively, when compared to the same 2013 period (Table 4). The commercial multi-peril increase was driven by an
increase in large loss activity during the third quarter of 2014 in addition to wind events, large fire losses and the extreme cold
weather during the first quarter of 2014. The fire & allied lines increase was driven by large fire losses during the first half of
2014 and the extreme cold weather during the first quarter of 2014. Partially offsetting these increases were improvements in
other & product liability and other commercial compared to the same 2013 period (Table 4). These improvements were primarily
the result of prior period rate actions emerging in earned premiums and greater favorable development of prior accident year losses
in 2014 compared to 2013.
The business insurance segment’s 2013 SAP non-catastrophe loss and ALAE ratio improved by 0.7 points when compared
to the same 2012 period (Table 4). This improvement was primarily driven by prior period rate increases taken on all lines of
business in this segment. The commercial auto and other & product liability SAP non-catastrophe loss and ALAE ratios improved
6.2 points and 4.5 points, respectively, when compared to the same 2012 period (Table 4), primarily as the result of an increase
in earned premiums and greater favorable development of prior accident year losses. The improvement was partially offset by an
increase in the fire & allied SAP non-catastrophe loss and ALAE ratio of 6.5 points, compared to the same 2012 period (Table 4)
primarily driven by an increase in the severity of losses.
The business insurance segment’s SAP catastrophe loss and ALAE ratio for 2014 was 4.3% compared to 5.7% and 11.5%,
respectively, for the same 2013 and 2012 periods (Table 4). The improvements in 2014 and 2013 were primarily due to fewer and
less severe catastrophe events during the years ended 2014 and 2013 when compared to the same 2013 and 2012 periods.
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51
Specialty Insurance Segment
In our specialty insurance segment, we offer commercial coverages that require specialized product underwriting, claims
handling or risk management services through a distribution channel of retail agents and wholesale brokers, which may include
program administrators and other specialty sources.
Effective January 1, 2013, the units within the specialty insurance segment changed from the three units of RED, Rockhill
and Workers’ compensation to the four units of E&S property, E&S casualty, Programs (which includes the former RED unit) and
Workers’ compensation. Previously reported financial information has been revised to reflect the effect of the change in units.
The following table sets forth the net written premiums by unit for our specialty insurance segment for the years ended
December 31, 2014, 2013 and 2012.
Table 5
($ millions)
Net Written Premiums
E&S property
E&S casualty
Programs
Workers’ compensation
Total specialty
2014
2013
2012
$
$
40.5
60.9
87.6
83.9
272.9
$
34.7
42.0
73.2
72.0
221.9
$
25.4
36.1
106.1
68.8
236.4
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52
The following table sets forth the SAP loss and LAE ratios for our specialty insurance segment with the catastrophe and
non-catastrophe impact shown separately for the years ended December 31, 2014, 2013 and 2012:
Table 6
($ millions)
Statutory Loss and LAE Ratios
2014
E&S property
E&S casualty
Programs
Workers' compensation
Total specialty
ULAE
Total Loss and LAE
2013
E&S property
E&S casualty
Programs
Workers' compensation
Total specialty
ULAE
Total Loss and LAE
2012
E&S property
E&S casualty
Programs
Workers' compensation
Total specialty
ULAE
Total Loss and LAE
Earned
Premium
Cat Loss
& ALAE
Non-Cat
Loss &
ALAE
Statutory
Loss &
LAE
Cat
loss
Ratio
Non-Cat
loss
Ratio
Total Loss
and LAE
Ratio
$
$
$
$
$
$
$
$
$
38.1
48.6
76.1
78.1
240.9
—
240.9
31.1
39.3
87.1
69.3
226.8
—
226.8
20.4
33.7
124.2
66.8
245.1
—
245.1
$
$
$
$
$
$
$
$
$
1.9
—
—
—
1.9
—
1.9
1.3
—
0.1
—
1.4
—
1.4
0.3
—
2.1
—
2.4
—
2.4
$
$
$
$
$
$
$
$
$
1.9
20.0
141.5
45.9
209.3
—
209.3
3.9
20.3
87.4
38.4
150.0
—
150.0
1.0
13.3
136.3
50.0
200.6
—
200.6
$
$
$
$
$
$
$
$
$
3.8
20.0
141.5
45.9
211.2
7.8
219.0
5.2
20.3
87.5
38.4
151.4
7.3
158.7
1.3
13.3
138.4
50.0
203.0
8.7
211.7
4.8
—
—
—
0.8
—
0.8
4.2
—
0.2
—
0.6
—
0.6
1.6
—
1.6
—
1.0
—
1.0
5.2
41.3
185.7
58.8
86.9
—
86.9
12.5
51.7
100.2
55.5
66.2
—
66.2
4.8
39.5
109.9
74.8
81.8
—
81.8
10.0
41.3
185.7
58.8
87.7
3.3
91.0
16.7
51.7
100.4
55.5
66.8
3.2
70.0
6.4
39.5
111.5
74.8
82.8
3.5
86.3
Net written premiums for the specialty insurance segment for the year ended December 31, 2014 increased 23.0% when
compared to the same 2013 period (Table 5). The increase in premiums was primarily due to (i) new business growth in our E&S
property unit, (ii) growth in our E&S casualty unit due to the addition of underwriters in more geographic locations and new
distribution relationships, including Partners General Insurance Agency which was acquired by our parent State Auto Mutual in
the second quarter 2014, (iii) rate increases and new programs in the Programs unit, and (iv) rate increases and new business
growth in our Workers' compensation unit.
The specialty insurance segment’s SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2014 was
86.9%, compared to 66.2% and 81.8%, respectively, for the same 2013 and 2012 periods (Table 6). The SAP non-catastrophe
loss and ALAE ratio increase was primarily driven by reserve strengthening for terminated RED program business which is in
run-off. Beginning in the third quarter 2013, we increased our involvement in managing litigated and higher severity RED program
claim files. During the third quarter 2014, we assumed full file management of claim files for certain terminated RED programs
from the third party administrators that had been managing the claims and performed a detailed, ground up analysis of those files,
which we completed in the fourth quarter 2014. For the year ended December 31, 2014, RED reserves were strengthened by $96.7
million, which included the net cost of the ADC reinsurance agreement, compared to reserve strengthening in 2013 and 2012 of
$21.3 million and $30.5 million, respectively.
In addition to the 2014 reserve strengthening, the State Auto Group entered into an ADC reinsurance agreement as of
December 31, 2014, that provides $40.0 million of coverage for adverse development in excess of carried reserves for the terminated
RED restaurant program, which represented approximately 59.0% of carried RED reserves at December 31, 2014. Partially
offsetting the impact of the RED reserve strengthening were improvements in the SAP non-catastrophe loss and ALAE ratios for
the E&S property and E&S casualty units for the year ended December 31, 2014.
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803Fin.pdf
The E&S property unit's 2014 SAP non-catastrophe loss and ALAE ratio improved 7.3 points when compared to the same
2013 period (Table 6), primarily due to prior year rate actions emerging in earned premiums and favorable prior accident year
development. The E&S property unit's 2013 SAP non-catastrophe loss and ALAE ratio increased 7.7 points, when compared to
the same 2012 period (Table 6), primarily due to favorable prior accident year development in 2012 that affected year- over- year
comparisons.
The E&S casualty unit's 2014 SAP non-catastrophe loss and ALAE ratio improved 10.4 points, when compared to the same
2013 period (Table 6), primarily due to prior year rate actions emerging in earned premiums. The E&S casualty unit's 2013 SAP
non-catastrophe loss and ALAE ratio increased 12.2 points when compared to the same 2012 period (Table 6), primarily due to
greater prior year favorable development in 2012 compared to prior accident year favorable development in 2013.
The strategy of the Workers’ compensation unit focuses on accounts under $25,000 and debit mod accounts over $100,000
with higher average losses driven mostly by injuries that impact soft tissue. The Workers' compensation unit's 2014 SAP non-
catastrophe loss and ALAE ratio was 58.8% compared to 55.5% and 74.8% for 2013 and 2012, respectively (Table 6). The 3.3
point increase in the Workers' compensation unit's 2014 SAP non-catastrophe loss and ALAE ratio compared to the same 2013
period (Table 6), was primarily driven by greater prior year favorable development in 2013 compared to 2014. The improvement
from 2012 to 2013 was primarily due to favorable reserve development of prior accident years in 2013 as compared to 2012. The
favorable development in 2013 was primarily attributable to better than anticipated severity emerging across all accident years,
with approximately one third coming from accident year 2012.
Acquisition and Operating Expenses
Our GAAP expense ratio was 33.7% in 2014 compared to 33.6% and 33.2% in 2013 and 2012, respectively.
Our acquisition and operating expenses were $361.9 million in 2014 compared to $354.8 million and $345.9 million in 2013
and 2012, respectively. The change from 2013 to 2014 was primarily a result of (i) $4.6 million of employee severance expenses
recognized as a result of the reorganization of our IT department and (ii) increased contingent commissions and incentive
compensation expenses. Partially offsetting these increases was the recognition of $19.0 million of profit commission in accordance
with the terms of the HO QS Arrangement. The change from 2012 to 2013 was primarily driven by increases in agent and employee
incentive compensation.
Loss and LAE Development
Losses and loss expenses for a calendar year represent the combined estimated ultimate liability for claims occurring in the
current calendar year along with any change in estimated ultimate liability for claims occurring in prior years. The following table
sets forth the provision for losses and loss expenses for those claims occurring in the current and prior years, along with the GAAP
loss and LAE ratio for the years ended December 31, 2014, 2013 and 2012:
($ millions)
Provision for losses and loss expenses
occurring:
%
GAAP Loss
and LAE
Ratio
%
GAAP Loss
and LAE
Ratio
2013
2012
%
GAAP Loss
and LAE
Ratio
2014
Current year
Prior years
Total losses and loss expenses
$
$
726.2
45.1
771.3
67.6
4.2
71.8
$
$
741.0
(21.2)
719.8
70.2
(2.0)
68.2
$
$
795.2
(16.9)
778.3
76.3
(1.6)
74.7
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54
As shown above, the 2014 loss and loss expenses attributable to prior years was $45.1 million, or an unfavorable development,
in the estimated ultimate liability for prior years’ claims. The following table sets forth a tabular presentation of the adverse
development by accident year for the year ended December 31, 2014:
($ millions)
Accident Year
2004 and prior
2005
2006
2007
2008
2009
2010
2011
2012
2013
Total
Current Year
Development
of Ultimate Liability
Redundancy /(Deficiency)
1.4
$
0.3
0.5
0.5
1.3
3.9
(4.5)
(21.4)
(37.2)
10.1
(45.1)
$
While emergence by accident year includes normal fluctuations due to the uncertainty associated with loss reserve
development and claim settlement, the adverse development in 2014 resulted primarily from accident years 2012 and 2011. The
more notable items contributing to the 2014 development were as follows:
•
•
•
•
ULAE was $12.5 million lower than anticipated in the reserves at December 31, 2013.
We experienced favorable catastrophe loss development of $5.2 million in 2014 related to catastrophe losses
primarily from accident year 2013.
In the personal and business insurance segments, the non-catastrophe loss and ALAE reserves contributed $23.1
million of favorable development. The business insurance segment contributed $16.7 million of this favorable
development, driven by other & product liability and commercial auto, which developed favorably by $11.9
million and $5.3 million, respectively. The favorable development in these lines was driven by lower than
anticipated severity from accident years 2012 and prior. The personal insurance segment contributed $6.4 million
of this favorable development, primarily from accident year 2013.
In the specialty insurance segment, the non-catastrophe loss and ALAE reserves accounted for $85.9 million of
adverse development related primarily to accident years 2011 and 2012, which was driven by RED reserve
strengthening. Adverse development of prior accident year RED reserves was $96.7 million. Somewhat offsetting
the unfavorable development of RED reserves was favorable development of $5.7 million in the Workers'
compensation unit, $3.9 million in the E&S property unit and $2.1 million in the E&S casualty unit. Favorable
development in these lines was driven by better than anticipated severity emerging primarily from the 2012 and
2013 accident years.
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55
The following table sets forth a tabular presentation of the favorable development by accident year for the year ended
December 31, 2013:
($ millions)
Accident Year
2003 and prior
2004
2005
2006
2007
2008
2009
2010
2011
2012
Total
Current Year
Development
of Ultimate Liability
Redundancy /(Deficiency)
(0.9)
$
0.9
(0.1)
0.4
1.3
0.8
4.8
7.1
2.8
4.1
21.2
$
The favorable development in 2013 resulted primarily from accident years 2012, 2011, 2010 and 2009. The more notable
items contributing to the 2013 favorable development were:
•
•
•
•
ULAE was $8.0 million lower than anticipated in the reserves at December 31, 2012.
We experienced favorable catastrophe loss development of $5.4 million in 2013 related to catastrophe losses
primarily from accident year 2012.
In the personal and business insurance segments, the non-catastrophe loss and ALAE reserves contributed $18.3
million of favorable development related to the prior four accident years, primarily in the other & product
liability, commercial auto and homeowners with $8.3 million, $8.0 million and $2.9 million of the favorable
development, respectively. The favorable development in these lines was driven by lower than anticipated
severity in the casualty lines.
In the specialty insurance segment, the non-catastrophe loss and ALAE reserves contributed $10.5 million of
adverse development related to the prior three accident years, which was driven by RED reserve strengthening.
Somewhat offsetting the unfavorable development was favorable development of prior accident year non-
catastrophe loss and ALAE reserves of $10.9 million in 2013, of which $12.3 million related to the Workers'
compensation unit. The favorable Workers' compensation unit development was primarily attributable to better
than anticipated severity emerging across all accident years, with approximately one third coming from accident
year 2012. Adverse development of prior accident year RED reserves was $21.3 million, more than offsetting
the favorable development reported by non-RED specialty insurance segment units.
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56
The following table sets forth a tabular presentation of the favorable development by accident year for the year ended
December 31, 2012:
($ millions)
Accident Year
2002 and prior
2003
2004
2005
2006
2007
2008
2009
2010
2011
Total
Current Year
Development
of Ultimate Liability
Redundancy /(Deficiency)
0.9
$
0.2
0.3
—
(0.1)
2.4
2.3
4.9
8.0
(2.0)
16.9
$
The favorable development in 2012 resulted primarily from accident years 2011 and 2010. The more notable items
contributing to the 2012 favorable development were:
•
•
•
•
ULAE was $6.3 million lower than anticipated in the reserves at December 31, 2011.
We experienced favorable catastrophe loss development of $10.4 million in 2012 related to the higher level of
catastrophe losses we experienced in accident year 2011.
In the personal and business insurance segments, the non-catastrophe loss and ALAE reserves contributed $28.0
million of favorable development related to the prior three accident years, primarily in the personal auto liability,
other & product liability, and fire & allied lines with $10.5 million, $9.4 million and $5.1 million of the favorable
development, respectively. The favorable development in these lines was driven by emergence of lower than
anticipated claim severity.
In the specialty insurance segment, the non-catastrophe loss and ALAE reserves contributed $27.8 million of
adverse development related to the prior two accident years, which was driven by RED reserve strengthening.
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57
The following table sets forth loss and loss expenses payable by major line of business at December 31, 2014 and 2013:
($ millions)
Personal insurance segment:
Personal auto
Homeowners
Other personal
Total personal
Business insurance segment:
Commercial auto
Commercial multi-peril
Fire & allied lines
Other & product liability
Other business
Total business
Specialty insurance segment:
Excess & Surplus property
Excess & Surplus casualty
Programs
Workers' compensation
Total specialty
2014
2013
$
Change
$
$
176.0
18.2
7.7
201.9
79.0
94.2
19.9
154.2
2.5
349.8
8.3
69.9
190.1
153.6
421.9
$
188.8
24.3
10.6
223.7
83.4
91.5
22.1
159.8
2.8
359.6
7.4
61.1
150.7
148.3
367.5
(12.8)
(6.1)
(2.9)
(21.8)
(4.4)
2.7
(2.2)
(5.6)
(0.3)
(9.8)
0.9
8.8
39.4
5.3
54.4
22.8
Total losses and loss expenses payable net of reinsurance
recoverable on losses and loss expenses payable
$
973.6
$
950.8
$
The loss and loss expenses payable at December 31, 2014 increased $22.8 million from the loss and loss expenses payable
at December 31, 2013. This change reflected an increase of $39.4 million in the Programs unit driven primarily by revised loss
and loss expense reserve estimates for the two largest RED programs, both of which are in run-off. Loss and loss expenses payable
in our personal auto line of business declined $12.8 million primarily due to a decline in exposure. We conduct quarterly reviews
of loss development reports and make judgments in determining the reserves for ultimate losses and loss expenses payable. Several
factors are considered by us when estimating ultimate liabilities including consistency in relative case reserve adequacy, consistency
in claims settlement practices, recent legal developments, historical data, actuarial projections, exposure changes, anticipated
inflation, current business conditions, catastrophe developments, late reported claims, and other analytical reviews.
The risks and uncertainties inherent in our estimates include, but are not limited to, actual settlement experience different
from historical data trends, changes in business and economic conditions, court decisions creating unanticipated liabilities, ongoing
interpretation of policy provisions by the courts, inconsistent decisions in lawsuits regarding coverage and additional information
discovered before settlement of claims. Our results of operations and financial condition could be impacted, perhaps significantly,
in the future if the ultimate payments required to settle claims vary from the liability currently recorded.
Investment Operations Segment
Our investment portfolio and the investment portfolios of other members of the State Auto Group are managed by our
subsidiary, Stateco. Stateco utilizes its own personnel to invest in fixed maturities, large-cap equities and small-cap equity funds,
and outside investment managers to invest in small-cap equities and international funds. The Investment Committee (the
“Committee”) of our Board of Directors establishes the investment policies to be followed by Stateco. Our primary investment
objectives are to maintain adequate liquidity and capital to meet our responsibilities to policyholders, grow long term economic
surplus to increase our capital position, maintain a consistent level of income to support operations and manage investment risk.
Our current investment strategy does not rely on the use of derivative financial instruments.
Our decision to make a specific investment is influenced primarily by the following factors: (a) investment risks; (b) general
market conditions; (c) relative valuations of investment vehicles; (d) general market interest rates; (e) our liquidity requirements
at any given time; and (f) our current federal income tax position and relative spread between after tax yields on tax exempt and
taxable fixed maturity investments.
We have investment policy guidelines with respect to purchasing fixed maturity investments for our insurance subsidiaries
which preclude investments in bonds that are rated below investment grade by a recognized rating service. For the insurance
subsidiaries, the maximum investment in any single note or bond is limited to 5.0% or less of the investment portfolio, other than
58
803Fin.pdf
obligations of the U.S. government or government agencies, for which there is no limit. Our fixed maturity portfolio is composed
of high quality, investment grade issues, comprised mostly of debt issues rated A or higher. We obtain investment ratings from
Moody’s, Standard & Poor’s and Fitch. If there is a split rating, we assign the lowest rating obtained. At December 31, 2014,
there were no fixed maturity investments rated below investment grade in our available-for-sale investment portfolio.
Our internally managed equity portfolio invests in U.S. large-cap, dividend-paying companies across many different
industries selected based upon their potential for appreciation as well as ability to continue paying dividends. This diversification
across companies and industries reduces volatility in the value of the large-cap equity portfolio. Our investment policy guidelines
limit the purchase of a specific stock to no more than 5.0% of the market value of the stock at the time of purchase, and no single
equity holding should exceed 5.0% of the total equity portfolio. In addition, we also invest in U.S. large-cap, dividend-paying
exchange traded funds which adds to the diversification of the portfolio by allowing us to invest in a large number of companies
via one security.
Our externally managed equity portfolios invest in U.S. small-cap equities and international funds. These managers are
permitted to manage the portfolios according to their own respective portfolio objectives. In selecting our outside investment
managers we confirm that their portfolio objectives, including risk tolerance, are acceptable to us; however, there may be slight
differences in their objectives with respect to dividend payments and other constraints that we apply to our large-cap equity
holdings.
At December 31, 2014, our investments in fixed maturities, equity securities and certain other invested assets were held as
available-for-sale and carried at fair value. The unrealized holding gains or losses, net of applicable deferred taxes, are included
as a separate component of stockholders’ equity as accumulated other comprehensive income (loss) and as such are not included
in the determination of net income.
Composition of Investment Portfolio
The following table sets forth the composition of our investment portfolio at carrying value at December 31, 2014 and 2013:
% of
Total
2013
% of
Total
($ millions)
Cash and cash equivalents
Fixed maturities, at fair value:
Fixed maturities
Treasury inflation-protected securities
Total fixed maturities
Notes receivable from affiliate (1)
Equity securities, at fair value:
Large-cap securities
Small-cap securities
Total equity securities
Other invested assets, at fair value:
International instruments
Other invested assets
Total other invested assets, at fair value
Other invested assets, at cost
Total portfolio
2014
$
86.3
1,680.0
211.9
1,891.9
70.0
242.2
68.2
310.4
3.5
$
80.3
68.7
8.7
77.4
2.9
9.9
2.8
12.7
1,630.6
199.5
1,830.1
70.0
194.4
70.9
265.3
72.9
7.4
80.3
5.3
$ 2,444.2
3.0
0.3
3.3
0.2
100.0
74.2
6.7
80.9
5.0
$ 2,331.6
3.4
69.9
8.6
78.5
3.0
8.4
3.0
11.4
3.2
0.3
3.5
0.2
100.0
(1)
In May 2009, we entered into two separate Credit Agreements with State Auto Mutual. Under these Credit Agreements, State
Auto Mutual borrowed a total of $70.0 million from us on an unsecured basis. Interest is payable semi-annually at a fixed
annual interest rate of 7.00%. Principal is payable May 2019.
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The following table sets forth the amortized cost and fair value of available-for-sale fixed maturities by contractual maturity
at December 31, 2014:
($ millions)
Due in 1 year or less
Due after 1 year through 5 years
Due after 5 years through 10 years
Due after 10 years
U.S. government agencies residential mortgage-backed securities
Total
Amortized
Cost
Fair
Value
$
55.7
$
369.8
299.9
647.2
458.7
56.5
382.4
312.4
668.1
472.5
$
1,831.3
$
1,891.9
Expected maturities may differ from contractual maturities as issuers may have the right to call or prepay the obligations
with or without call or prepayment penalties.
At December 31, 2014, our equity portfolio consisted of approximately 32 different large-cap stocks and 72 small-cap stocks.
The largest single fund holding was 16.3% of the equity portfolio based on fair value and the top ten positions accounted for 50.1%
of the equity portfolio. At December 31, 2013, our equity portfolio consisted of approximately 40 different large-cap stocks and
76 small-cap stocks. The largest single fund holding was 9.2% of the equity portfolio based on fair value, and the top ten positions
accounted for 33.7% of the equity portfolio. Since our equity portfolio consists primarily of large-cap value-oriented stocks, with
a smaller allocation to small-cap equities, when large-cap stocks and/or value-oriented stocks perform well our equity portfolio
typically performs well compared to benchmarks. Conversely, when growth stocks outperform value and/or small- to mid-cap
stocks outperform large-cap stocks, our equity portfolio does not perform as well compared to benchmarks.
Market Risk
Our primary market risk exposures are to changes in market prices for equity securities and changes in interest rates and
credit ratings for fixed maturity securities. Our fixed maturity securities are subject to interest rate risk whereby the value of the
securities varies as market interest rates change. We manage this risk by closely monitoring the duration of the fixed maturity
portfolio. The duration of the fixed maturity portfolio was approximately 4.32 and 4.83 as of December 31, 2014 and 2013,
respectively. The following table sets forth our interest rate risk and the effects of a parallel change in interest rates on the fair
value of the available-for-sale fixed maturity portfolio at December 31, 2014:
($ millions)
Fixed maturities:
-200 bps
Change
-100 bps
Change
Fair Value
Actual
+100 bps
Change
+200 bps
Change
U.S. treasury securities and obligations of U.S.
government agencies
Obligations of states and political subdivisions
Corporate securities
U.S. government agencies residential mortgage-
backed securities
Balance as of December 31, 2014
$
$
342.4
831.5
372.2
488.6
2,034.7
$
$
325.2
800.6
359.5
484.4
1,969.7
$
$
309.3
769.5
340.6
472.5
1,891.9
$
$
291.9
735.5
331.7
454.8
1,813.9
$
$
275.7
698.7
317.9
434.3
1,726.6
This table summarizes only the effects that a parallel change in interest rates could have on the fixed maturity portfolio.
Changes in rates would also change the value of our liabilities and possibly other financial assets. We caution the reader that this
analysis does not take into account nonparallel changes in interest rates. It is likely that some rates would increase or decrease
more than others depending upon market conditions at the time of the change. This nonparallel change would alter the value of
the fixed maturity portfolio. The analysis is also limited in that it does not take into account any actions that might be taken by us
in response to these changes. As a result, the actual impact of a change in interest rates and the resulting fixed maturity values
may differ significantly from what is shown in the table.
We believe that the fixed maturity portfolio’s exposure to credit risk is minimal as approximately 77.4% of the bonds we
own are rated AA or better. We do not intend to change our investment policy or the quality of our fixed maturity investments.
The fixed maturity portfolio is managed in a laddered-maturity style and considers business mix and liability payout patterns to
60
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ensure adequate cash flow to meet claims as they are presented. We also manage liquidity risk by maintaining sufficient cash
balances, owning some agency and U.S. Treasury securities at all times, purchasing bonds of major issuers, and purchasing bonds
that are part of a medium or large issue. The fixed maturity portfolio does not have any direct exposure to either exchange rate
risk or commodity risk. We do not rely on the use of derivative financial instruments. We categorize our fixed maturities as
available-for-sale in order to provide us greater flexibility in managing our portfolio. We do not maintain a trading portfolio.
There are no mortgage backed securities in our fixed maturity portfolio which may be labeled sub-prime mortgage backed
securities. We invest only in conventional mortgage backed securities issued by a federal agency or that are U.S. Government
guaranteed. Specifically, at December 31, 2014, approximately $472.5 million, or 25.0%, of our fixed maturity available-for-sale
investment portfolio was in either GNMA pools, which are guaranteed by the full faith and credit of the U.S. Government, or
FNMA or Freddie Mac pools.
At December 31, 2014, our fixed maturity investment portfolio included obligations of states and political subdivisions with
a total carrying value of $769.5 million, with $181.4 million of these securities, or 23.6% of our municipal securities portfolio
(“Muni Portfolio”), enhanced by third party monoline insurers (a “Credit Enhancement”) for the payment of principal and interest
in the event of an issuer default. A Credit Enhancement is not a primary consideration to us when purchasing a municipal security,
as we consider the underlying credit quality of the security as the primary rating factor in our evaluation process. At December 31,
2014, 79.4% of the total $769.5 million of municipal securities in our investment portfolio were rated AA or better, without the
benefit of a Credit Enhancement. We do not believe that a loss of a Credit Enhancement would have a material adverse impact on
our results of operations, financial position or liquidity, due to the underlying strength of the issuers of the securities, as well as
our ability and intent to hold the securities. In addition, at December 31, 2014, we had no direct investment in any guarantor
including any bond insurer.
The following table sets forth the credit ratings of our municipal securities, excluding Credit Enhancements, based on ratings
by nationally recognized rating agencies at December 31, 2014:
($ millions)
Rating
AAA
AA*
A*
Other
Total
Total fair
value
$
$
71.2
539.6
117.8
40.9
769.5
%
9.3
70.1
15.3
5.3
100.0
* Our AA and A rating categories include securities which have been either
pre-funded or escrowed to maturity.
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The following table sets forth the composition of the insurers providing Credit Enhancements, along with the corresponding
underlying credit rating of the issuer of the security, at December 31, 2014:
($ millions)
Monoline Insurer / Underlying Rating
Assured Guaranty Municipal Corp.:
AA
A
AMBAC:
AA
A
National Public Finance Guarantee:
AA
A
XLCA:
A
Total fair
value
$
91.5
17.1
108.6
29.4
3.7
33.1
27.7
9.7
37.4
2.3
Total municipal securities enhanced by third
party monoline insurers
$
181.4
We believe our Muni Portfolio is well diversified by issuer and state. We have 20.8% invested in securities which have been
either pre-refunded or escrowed to maturity bonds. No single issuer comprises more than 5.0% of our Muni Portfolio. For the
bonds that are not in the pre-refunded category, no more than 10.0% is concentrated in any one state. We believe our Muni Portfolio
is invested within the strongest sectors of the municipal bond market. Revenue bonds represent 38.0% of our Muni Portfolio and
state and local government general obligation bonds make up 18.8% of our Muni Portfolio. Our credit research is an important
part of our investment management process, and we continually monitor all holdings for any signs of deterioration. We believe
that our municipal holdings will maintain their high credit quality and that the issuers will be able to make all principal and interest
payments as they come due.
Generally, we reinvest the proceeds from the call, maturity, or sale of securities within our Muni Portfolio, into both tax
exempt and taxable fixed income securities with lower rates of return.
At December 31, 2014, our small-cap and large-cap equity portfolios had a beta of 0.38 and 0.97, respectively, using the
Russell 2000 and the S&P 500 Index as benchmarks, respectively. Beta estimates the degree the portfolio’s price will fluctuate
based on a given movement in the market index. The following tables set forth what changes might occur in the value of the small-
cap and large-cap equity portfolios given a change in the S&P 500 Index at December 31, 2014:
Small-cap equity portfolio:
Fair value ($ millions)
Change in S&P 500 Index
Value as % of original value
Large-cap equity portfolio:
Fair value ($ millions)
Change in S&P 500 Index
Value as % of original value
$
$
$
$
73.4
+20%
108%
289.3
+20%
119%
$
$
70.8
+10%
104%
265.7
+10%
110%
$
68.2
—
100%
$
65.6
-10%
96%
63.0
-20%
92%
242.2
—
100%
$
218.6
$
195.0
-10%
90%
-20%
81%
The above analysis is limited in that it does not take into account any actions that might be taken by us in response to these
changes. As a result, the actual impact of a change in equity market prices and the resulting equity values may differ significantly
from what is shown in the table. By investing in mostly large-cap issues we hope to limit liquidity risk in the equity portfolio. The
small-cap and large-cap equity portfolios do not have any direct exposure to exchange rate risk since we do not directly hold any
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62
foreign stocks. We constantly monitor the equity portfolio holdings for any credit risk issues that may arise. We do not invest in
any commodity futures or commodity oriented mutual funds.
At December 31, 2014, we have two international funds, Fund 1 and Fund 2, which are included in other invested assets
available-for-sale. Fund 1 and Fund 2 had betas of 0.69 and 0.84 respectively, using the MSCI EAFE Index as a benchmark. The
following tables set forth what changes might occur in the values of Funds 1 and 2 given a change in the MSCI EAFE Index at
December 31, 2014:
Fund 1:
Fair value ($ millions)
Change in MSCI EAFE Index
Value as % of original value
Fund 2:
Fair value ($ millions)
Change in MSCI EAFE Index
Value as % of original value
$
$
$
$
37.5
+20%
114%
46.7
+20%
117%
$
$
35.2
+10%
107%
43.3
+10%
108%
$
$
32.9
—
100%
40.0
—
100%
$
$
30.7
-10%
93%
36.6
-10%
92%
28.4
-20%
86%
33.2
-20%
83%
The above analysis does not take into account any actions that might be taken by the portfolio managers in response to these
changes. As a result, the actual impact of a change in international equity market prices and the resulting international equity
values may differ significantly from what is shown in the tables above.
Investment Operations Revenue
The following table sets forth the components of net investment income for the years ended December 31, 2014, 2013 and
2012:
($ millions)
Gross investment income:
Fixed maturities
Equity securities
Other
Total gross investment income
Less: Investment expenses
Net investment income
Average invested assets (at cost)
Annualized investment yield
Annualized investment yield, after tax
Net investment income, after tax
Effective tax rate
Year Ended December 31
2013
2012
2014
$
$
64.3
6.2
6.2
76.7
2.0
74.7
$
$
63.2
6.0
5.7
74.9
2.1
72.8
$
$
66.9
4.9
5.6
77.4
2.0
75.4
$ 2,153.7
$ 2,134.3
$ 2,173.4
3.5%
2.6%
57.0
23.7%
$
3.4%
2.7%
56.7
22.1%
$
3.5%
2.7%
58.0
23.0%
$
Our investment operations revenue for the year ended December 31, 2014 was primarily impacted by the following factors.
•
•
Interest earned on our fixed maturity securities in 2014 increased slightly compared to 2013, primarily due to
an increase of $0.9 million in Treasury Inflation-Protected Securities ("TIPS") interest income. Because TIPS
are dependent on changes in the Consumer Price Index, they are directly impacted by the change in the rate of
inflation (as inflation declines TIPS income decreases and vice versa). Income earned on our TIPS securities in
2013 decreased by $2.7 million when compared to 2012.
Interest rates generally declined in 2014 compared to 2013. As a result, the proceeds from bonds that matured,
or were called by the issuers, were reinvested at lower rates.
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The following table sets forth realized gains (losses) and the proceeds received on sale for our investment portfolio for the
years ended December 31, 2014, 2013 and 2012:
($ millions)
2014
2013
2012
Realized gains:
Fixed maturities
Equity securities
Other invested assets
Total realized gains
Realized losses:
Equity securities:
Sales
OTTI
Fixed maturities:
Sales
OTTI
Total realized losses
Net realized gains on investments
Realized
gains
(losses)
Proceeds
received
on sale
Realized
gains
(losses)
Proceeds
received
on sale
Realized
gains
(losses)
Proceeds
received
on sale
$
$
$
$
$
3.1
21.3
0.1
24.5
$
$
(1.3) $
(2.5)
—
—
(3.8) $
$
20.7
159.9
89.2
0.1
249.2
10.4
—
—
—
10.4
259.6
$
$
$
$
$
2.5
26.1
0.1
28.7
$
$
(1.2) $
(4.0)
(0.3)
—
(5.5) $
$
23.2
108.1
98.9
0.2
207.2
7.4
—
5.2
—
12.6
219.8
$
$
$
$
$
15.7
19.0
0.1
34.8
$
$
(2.6) $
(3.2)
—
(0.2)
(6.0) $
$
28.8
327.8
97.2
0.2
425.2
7.3
—
—
—
7.3
432.5
When a fixed maturity security has been determined to have an other-than-temporary decline in fair value, the impairment
charge is separated into an amount representing the credit loss, which is recognized in earnings, and the amount related to non-
credit factors, which is recognized in accumulated other comprehensive income. See “Critical Accounting Policies – Investments”
included in this Item 7 for OTTI impairment indicators. Future increases or decreases in fair value, if not other-than-temporary,
are included in accumulated other comprehensive income (loss). We did not recognize any impairments on our fixed maturity
portfolio during 2014 or 2013, but we recognized OTTI on our fixed maturity portfolio during 2012 of $0.2 million.
When an equity security or other invested asset has been determined to have a decline in fair value that is other-than-
temporary, we adjust the cost basis of the security to fair value. See “Critical Accounting Policies – Investments” included in this
Item 7 for OTTI impairment indicators. This results in a charge to earnings as a realized loss, which is not reversed for subsequent
recoveries in fair value. Future increases or decreases in fair value, if not other-than-temporary, are included in accumulated other
comprehensive income (loss).
The following table sets forth the realized losses related to OTTI on our investment portfolio recognized for the years ended
December 31, 2014, 2013 and 2012:
($ millions)
2014
2013
2012
Number
of
positions
Total
impairment
Number
of
positions
Total
impairment
Number
of
positions
Total
impairment
Equity securities:
Large-cap securities
Small-cap securities
Fixed maturities:
Bonds
Total OTTI
1
33
—
34
$
$
(0.3)
(2.2)
—
(2.5)
2
26
—
28
$
$
(1.8)
(2.2)
—
(4.0)
— $
38
1
39
$
—
(3.2)
(0.2)
(3.4)
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64
Gross Unrealized Investment Gains and Losses
Based upon our review of our investment portfolio at December 31, 2014, we determined that there were no individual
investments with an unrealized holding loss that had a fair value significantly below cost continually for more than one year. The
following table sets forth detailed information on our available-for-sale investment portfolio by lot at fair value for our gross
unrealized holding gains (losses) at December 31, 2014:
($ millions, except number of positions)
Fixed Maturities:
U.S. treasury securities and obligations
of U.S. government agencies
Obligations of states and political
subdivisions
Corporate securities
U.S. government agencies residential
mortgage-backed securities
Total fixed maturities
Equity Securities:
Large-cap securities
Small-cap securities
Total equity securities
Other invested assets
Total available-for-sale investments
Cost or
amortized
cost
Gross
unrealized
holding
gains
Number of
gain
positions
Gross
unrealized
holding
losses
Number of
loss
positions
Fair
value
$
296.7
$
14.1
28
$
(1.5)
21
$
309.3
742.5
333.4
458.7
1,831.3
185.5
50.0
235.5
50.5
$ 2,117.3
$
27.4
10.2
15.6
67.3
57.3
18.2
75.5
29.8
172.6
266
66
95
455
30
72
102
3
560
$
(0.4)
(3.0)
(1.8)
(6.7)
(0.6)
—
(0.6)
—
(7.3)
14
19
21
75
2
—
2
—
77
769.5
340.6
472.5
1,891.9
242.2
68.2
310.4
80.3
$ 2,282.6
The following table sets forth our unrealized holding gains by investment type, net of deferred tax that was included as a
component of accumulated comprehensive income at December 31, 2014 and 2013, and the change in unrealized holding gains,
net of deferred tax, for the year ended December 31, 2014:
($ millions)
Available-for-sale investments
Unrealized gains:
Fixed maturities
Equity securities
Other invested assets
Unrealized gains
Deferred federal income tax liability
Unrealized gains, net of tax
Fair Value Measurements
2014
2013
$
Change
$
$
60.6
74.9
29.8
165.3
(55.3)
110.0
$
$
26.1
68.7
31.4
126.2
(41.6)
84.6
$
$
34.5
6.2
(1.6)
39.1
(13.7)
25.4
We primarily use one independent nationally recognized pricing service in developing fair value estimates. We obtain one
price per security, and our processes and control procedures are designed to ensure the value is accurately recorded on an unadjusted
basis. Through discussions with the pricing service, we gain an understanding of the methodologies used to price the different
types of securities, that the data and the valuation methods utilized are appropriate and consistently applied, and that the assumptions
are reasonable and representative of fair value. To validate the reasonableness of the valuations obtained from the pricing service,
we compare to other fair value pricing information gathered from other independent pricing sources. See Note 3, “Fair Value of
Financial Instruments” to our consolidated financial statements included in Item 8 of this Form 10-K for a presentation of our
available-for-sale investments within the fair value hierarchy at December 31, 2014.
As of December 31, 2014, Level 3 assets as a percentage of total assets were 0.3%, which we have determined to be
insignificant.
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65
Other Items
Income Taxes
For the year ended December 31, 2014, the federal income tax benefit was $80.6 million compared to federal income tax
expense of $0.5 million for 2013 and a federal income tax benefit of $0.1 million for 2012. The income tax benefit was primarily
due to $82.6 million of deferred tax benefit resulting from the reversal of the valuation allowance against net deferred tax assets
at December 31, 2014.
See “Critical Accounting Policies — Income Taxes” included in this Item 7. See Note 8, “Federal Income Taxes” to our
consolidated financial statements included in Item 8 of this Form 10-K for a reconciliation between our actual federal income tax
(benefit) expense and the amount computed at the indicated statutory rate for the years ended December 31, 2014, 2013 and 2012.
LIQUIDITY AND CAPITAL RESOURCES
General
Liquidity refers to our ability to generate adequate amounts of cash to meet our short and long-term needs. Our primary
sources of cash are premiums, investment income, investment sales and the maturity of fixed income security investments. The
significant outflows of cash are payments of claims, commissions, premium taxes, operating expenses, income taxes, dividends,
interest and principal payments on debt and investment purchases. The cash outflows may vary due to uncertainties regarding
settlement of large losses or catastrophe events. As a result, we continually monitor our investment and reinsurance programs to
ensure they are appropriately structured to enable the insurance subsidiaries to meet anticipated short and long-term cash
requirements without the need to sell investments to meet fluctuations in claim payments.
Liquidity
Our insurance subsidiaries must have adequate liquidity to ensure that their cash obligations are met. However, as discussed
below, the STFC Pooled Companies do not have the day-to-day liquidity concerns normally associated with an insurance company
due to their participation in, and the terms of, the Pooling Arrangement. In addition, State Auto P&C’s $100.0 million credit facility
is available for general corporate purposes such as funding liquidity needs. See “Borrowing Arrangements - Credit Facility”
included in this Item 7.
Under the terms of the Pooling Arrangement, State Auto Mutual receives all premiums and pays all losses and expenses
associated with the insurance business produced by the STFC Pooled Companies and the other pool participants, and then it settles
the intercompany balances generated by these transactions with the pool participants within 60 days following each quarter end.
We believe this provides State Auto Mutual with sufficient liquidity to pay losses and expenses of our insurance operations on a
timely basis. When settling the intercompany balances, State Auto Mutual provides the pool participants with full credit for the
premiums written net of losses paid during the quarter, retaining all receivable amounts from insureds and agents and reinsurance
recoverable on paid losses from unaffiliated reinsurers. Any receivable amounts that are ultimately deemed to be uncollectible are
charged-off by State Auto Mutual and allocated to the pool participant on the basis of its pooling percentage.
As a result of the Pooling Arrangement, we have an off-balance sheet credit risk related to the balances due to State Auto
Mutual from insureds, agents and reinsurers, which are offset by the unearned premiums from the respective policies. While the
total amount due to State Auto Mutual from policyholders and agents is significant, the individual amounts due are relatively small
at the policyholder and agency level. Based on historical data, this credit risk exposure is not considered to be material to our
financial position, though the impact to income on a quarterly basis may be material. The State Auto Group mitigates its exposure
to this credit risk through its in-house collections unit for both personal and commercial accounts which is supplemented by third
party collection service providers. The amounts deemed uncollectible by State Auto Mutual and allocated to the STFC Pooled
Companies are included in the other expenses line item in the accompanying consolidated statements of income.
We generally manage our cash flows through current operational activity and maturing investments, without a need to
liquidate any of our other investments. However, should our written premiums decline or paid losses increase significantly, or a
combination thereof, our cash flows from operations could be impacted requiring us to liquidate investments. This action was not
necessary in 2014, 2013 or 2012.
We maintain a portion of our investment portfolio in relatively short-term and highly liquid investments to ensure the
immediate availability of funds to pay claims and expenses. At December 31, 2014 and 2013, we had $86.3 million and $80.3
million, respectively, in cash and cash equivalents, and $2,282.6 million and $2,176.3 million, respectively, of total available-for-
sale investments. Included in our fixed maturities available-for-sale were $8.8 million and $8.7 million of securities on deposit
with insurance regulators, as required by law, at December 31, 2014 and 2013, respectively. In addition, substantially all of our
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66
fixed maturity and equity securities are traded on public markets. For a further discussion regarding investments, see “Investments
Operations Segment” included in this Item 7.
Net cash provided by operating activities was $75.6 million and $72.1 million in 2014 and 2013, respectively, compared to
net cash used in operating activities of $285.6 million in 2012. Net cash from operations will vary from period to period if there
are significant changes in underwriting results, primarily a combination of the level of premiums written and loss and loss expenses
paid, changes in cash flows from investment income or federal income tax activity. The change from 2014 and 2013 compared
to 2012 was primarily due to our settlement payment of $261.4 million related to the December 31, 2011 change to the Pooling
Arrangement in which, among other things, the overall participation percentage of the STFC Pooled Companies was reduced from
80% to 65% (the "12.31.11 pool change") and our payment of $75.5 million related to our share of the State Auto Group’s initial
net unearned premium transfer under the HO QS Arrangement, both of which occurred in 2012.
Net cash used in investing was $56.5 million and $23.0 million in 2014 and 2013, respectively, compared to net cash provided
by investing activities of $9.3 million for 2012. The following factors significantly contributed to the fluctuations between those
years:
•
•
•
The change in 2014 was primarily attributable to the level of purchases, sales and maturities in our investment
portfolio in 2014 when compared to the same 2013 period.
The change in 2013 was primarily attributable to less sales proceeds of available for sale securities when compared
to 2012, as well as, a lower level of call activity in 2013 compared to the same 2012 period.
In 2012, we continued to raise funds to complete the settlement of amounts owed in connection with the 12.31.11
pool change and the HO QS Arrangement.
Borrowing Arrangements
Credit Facility
On July 26, 2013, State Auto P&C entered into a credit facility (the “SPC Credit Facility”) with a syndicate of lenders. The
SPC Credit Facility provides State Auto P&C with a $100.0 million five-year revolving credit facility maturing in July 2018.
During the term of the SPC Credit Facility, State Auto P&C has the right to increase the total facility to a maximum amount of
$150.0 million, provided that no event of default has occurred. The SPC Credit Facility is available for general corporate purposes
and provides for interest-only payments during its term, with principal and interest due in full at maturity. Interest is based on
LIBOR or a base rate plus a calculated margin amount. All advances under the SPC Credit Facility are to be fully secured by a
pledge of specific investment securities of State Auto P&C. The SPC Credit Facility includes certain covenants and requirements,
including financial requirements that State Auto Financial maintain a minimum net worth and a certain debt to capitalization ratio.
As of December 31, 2014, State Auto P&C had not made any borrowings under the SPC Credit Facility and State Auto P&C and
State Auto Financial were in compliance with all covenants and requirements of the SPC Credit Facility.
FHLB Loan
On July 11, 2013, State Auto P&C obtained a loan (the “FHLB Loan”) from the Federal Home Loan Bank of Cincinnati
(the “FHLB”). State Auto P&C became a member of the FHLB during the first quarter of 2013. The FHLB Loan is a 20-year term
loan, callable after three years with no prepayment penalty thereafter, in the principal amount of $85.0 million. The FHLB Loan
provides for interest-only payments during its term, with principal due in full at maturity. The interest rate is fixed over the term
of the loan at 5.03%. The FHLB Loan is fully secured by a pledge of specific investment securities of State Auto P&C. Proceeds
from the FHLB Loan, along with cash on hand, were used by State Auto Financial to redeem all of its outstanding Senior Notes.
Subordinated Debentures
State Auto Financial’s Delaware business trust subsidiary (the “Capital Trust”) has outstanding $15.0 million liquidation
amount of capital securities, due 2033. In connection with the Capital Trust’s issuance of the capital securities and the related
purchase by State Auto Financial of all of the Capital Trust’s common securities (liquidation amount of $0.5 million), State Auto
Financial has issued to the Capital Trust $15.5 million aggregate principal amount of unsecured Floating Rate Junior Subordinated
Debt Securities due 2033 (the “Subordinated Debentures”). The sole assets of the Capital Trust are the Subordinated Debentures
and any interest accrued thereon. Interest on the Capital Trust’s capital and common securities is payable quarterly at a rate equal
to the three-month LIBOR rate plus 4.20%, adjusted quarterly. The applicable interest rates for December 31, 2014 and 2013 were
4.44%, respectively.
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Notes Payable Summary
The following table sets forth our notes payable at December 31, 2014:
($ millions)
Subordinated Debentures due 2033: issued $15.5 million, May 2003 with
variable interest adjusting quarterly
FHLB loan due 2033; issued $85.0 million, July 2013 with fixed interest
Total notes payable
Carrying
Value
Fair
Value
Interest
Rate
15.5
85.3
100.8
$
15.5
86.4
101.9
$
4.44%
5.03%
Related to our notes payable, our primary market risk exposure is to the change in interest rates and our credit rating. For a
discussion regarding our credit ratings see “Credit and Financial Strength Ratings” included in this Item 7. Based upon the notes
payable carrying value at December 31, 2014, we had $15.5 million notes payable with variable interest and $85.3 million notes
payable with interest fixed at 5.03%, which equated to approximately 15.2% variable interest debt and 84.8% fixed interest debt.
Our decision to obtain fixed versus variable interest rate debt is influenced primarily by the following factors: (a) current market
interest rates; (b) anticipated future market interest rates; (c) availability of fixed versus variable interest instruments; and (d) our
currently existing notes payable fixed and variable interest rate position. See our contractual obligations table included in
“Contractual Obligations” included in this Item 7.
Reinsurance Arrangements
Members of the State Auto Group follow the customary industry practice of reinsuring a portion of their exposures and
paying to the reinsurers a portion of the premiums received. Insurance is ceded principally to reduce net liability on individual
risks or for individual loss occurrences, including catastrophic losses. Although reinsurance does not legally discharge the individual
members of the State Auto Group from primary liability for the full amount of limits applicable under their policies, it does make
the assuming reinsurer liable to the extent of the reinsurance ceded.
To minimize the risk of reinsurer default, the State Auto Group cedes only to third-party reinsurers who are rated A- or better
by A.M. Best or Standard & Poor’s and also utilizes both domestic and international markets to diversify its credit risk. We utilize
reinsurance to limit our loss exposure and contribute to our liquidity and capital resources.
Expired Homeowners Quota Share Reinsurance Arrangement
On December 31, 2011, the State Auto Group entered into the HO QS Arrangement, which was a three-year quota share
reinsurance agreement covering our homeowners line of business. Under the HO QS Arrangement, the State Auto Group ceded
to reinsurers 75% of its homeowners business under policies in force at the effective date and new and renewal policies thereafter
issued during the term of the agreement. The HO QS Arrangement expired December 31, 2014 and was replaced with a one-year
property aggregate excess catastrophe reinsurance agreement, effective January 1, 2015. See the "Property Catastrophe" discussion
below for further information.
Other Reinsurance Arrangements
Each member of the State Auto Group is party to working reinsurance treaties for casualty, workers’ compensation and
property lines with several reinsurers arranged through reinsurance intermediaries. These agreements are described in more detail
below. We have also secured other reinsurance to limit the net cost of large loss events for certain types of coverage. The State
Auto Group also makes use of facultative reinsurance for unique risk situations. The State Auto Group also participates in state
insurance pools and associations. In general, these pools and associations are state sponsored and/or operated, impose mandatory
participation by insurers doing business in that state, and offer coverage for hard-to-place risks at premium rates established by
the state sponsor or operator, thereby transferring risk of loss to the participating insurers in exchange for premiums which may
not be commensurate with the risk assumed.
As of December 31, 2014, the State Auto Group entered into an ADC reinsurance agreement that provides $40.0 million of
coverage for adverse development in excess of carried reserves for the terminated RED restaurant program.
Property Catastrophe
Members of the State Auto Group maintain a property catastrophe excess of loss reinsurance agreement, covering property
catastrophe related events affecting at least two risks. As of June 1, 2014, this property catastrophe reinsurance agreement was
revised to increase the treaty limit. Under this agreement, the State Auto Group retains the first $55.0 million of catastrophe loss,
each occurrence, with a 5.0% co-participation on the next $285.0 million (previously $265.0 million) of covered loss, each
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occurrence. The reinsurers are responsible for 95% of the excess over $55.0 million up to $340.0 million (previously $320.0
million) of covered losses, each occurrence. Under this agreement, our companies are responsible for losses above $340.0 million
(previously $320.0 million).
The State Auto Group also maintains a separate property catastrophe excess of loss reinsurance agreement covering E&S
property and Programs catastrophe related events affecting at least two risks. Under this agreement, the State Auto Group retains
the first $15.0 million of catastrophe loss, each occurrence, and the reinsurers are responsible for 100.0% of the excess over $15.0
million up to $55.0 million of covered loss, each occurrence.
As of January 1, 2015, the State Auto Group entered into a one-year property aggregate excess catastrophe reinsurance
agreement with a syndicate of reinsurers covering property business underwritten by its personal insurance and business insurance
segments, including automobile physical damage. This agreement provides reinsurance coverage of $75.0 million during 2015
for ISO PCS numbered catastrophes and certain other weather-related events after the retention of $165.0 million of losses by the
State Auto Group. Individual occurrences are not subject to an occurrence deductible, but are subject to a maximum amount of
$55.0 million consistent with the State Auto Group’s retention under its existing property catastrophe excess of loss reinsurance
agreement. The agreement excludes property risks underwritten by the specialty insurance segment.
Property Per Risk
At June 1, 2014, the State Auto Group renewed the property per risk excess of loss reinsurance agreement. This reinsurance
agreement provides that the State Auto Group is responsible for the first $1.0 million of each covered loss for E&S property and
Programs units, and the first $3.0 million of each covered loss for other property business. The State Auto Group is also responsible
for an additional $2.0 million in aggregate retention per treaty year for losses exceeding $3.0 million. The reinsurers are responsible
for 75% of the loss in excess of $1.0 million for the E&S property and Programs units and 100.0% of the loss excess of $3.0
million for other property business up to $20.0 million of covered loss. The rates for this reinsurance are negotiated annually.
Casualty and Workers’ Compensation
As of July 1, 2014, the State Auto Group renewed the casualty excess of loss reinsurance agreement. Under this agreement,
the State Auto Group is responsible for the first $1.0 million of workers' compensation losses, each loss occurrence, subject to an
additional $1.0 million in annual aggregate retention, and $2.0 million of losses that involve auto liability, other liability and
umbrella liability policies, subject to an additional $2.0 million in annual aggregate retention. The reinsurance agreement provides
coverage up to $10.0 million, except for umbrella policies which are covered for limits up to $15.0 million. E&S casualty and
Programs units risks are not subject to this casualty excess of loss reinsurance agreement.
Also, certain unusual claim situations involving bodily injury liability, property damage, uninsured motorist and personal
injury protection are covered by an arrangement that provides for $30.0 million of coverage in excess of $10.0 million retention
for each loss occurrence. This reinsurance sits above the $8.0 million excess of $2.0 million arrangement. The rates for this
reinsurance are negotiated annually. Policies underwritten by the E&S casualty and Programs units are not subject to this casualty
excess of loss reinsurance agreement.
In addition to the workers’ compensation reinsurance described above, each company in the State Auto Group is party to a
workers’ compensation catastrophe reinsurance agreement that provides additional reinsurance coverage for workers’
compensation losses involving multiple workers. Subject to $10.0 million of retention, reinsurers are responsible for 100.0% of
the excess over $10.0 million up to $30.0 million of covered loss. For loss amounts over $30.0 million, the casualty excess of loss
reinsurance agreement provides $20.0 million coverage in excess of $30.0 million. Workers’ compensation catastrophe coverage
is subject to a “Maximum Any One Life” limitation of $10.0 million. This limitation means that losses associated with each worker
may contribute no more than $10.0 million to covered loss under these agreements. The rates for the workers’ compensation
catastrophe reinsurance agreement are negotiated annually.
For E&S casualty and Programs units risks, the State Auto Group has a combined casualty treaty whereby under Section A,
we retain the first $1.0 million of covered loss and the reinsurers are responsible for 90.0% (previously 87.0%) of loss in excess
of $1.0 million up to $10.0 million for all primary business and excess business written directly above a primary policy, at policy
limits above $1.0 million. Under Section B, as respects excess policies over another carrier's primary policy, we have a $10.0
million proportional agreement where we retain $1.0 million of each risk and the reinsurers are responsible for 90.0% (previously
87.0%) of loss for each risk based on the percentage the $1.0 million we retain bears to the total policy limit. Under Section C,
as respects policies at $1.0 million or less, we retain the first $1.25 million of Extra Contractual Obligations/Excess of Policy
Limits ("ECO/XPL") and LAE coverage for policies with limits of $1.0 million or less, and the reinsurers are responsible for
100.0% of ECO/XPL and LAE coverage in excess of $1.3 million up to $4.0 million.
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Contractual Obligations
The following table sets forth our significant contractual obligations at December 31, 2014:
($ millions)
Direct loss and ALAE reserves(1)
Notes payable(2):
Subordinated Debentures due 2033:
issued $15.5, May 2003 with variable interest(3) adjusting
quarterly
FHLB loan due 2033; issued $85.0 million, July 2013 with
fixed interest
Total notes payable
Interest payable (2):
Subordinated Debentures due 2033:
issued $15.5, May 2003 with variable interest(3) adjusting
quarterly
FHLB loan due 2033; issued $85.0 million, July 2013 with
fixed interest
Total interest payable
Postretirement benefits
Pension funding(4)
Total
Total
Due
1 year
or less
Due
1-3
years
Due
3-5
years
Due
after 5
years
$
973.6
396.0
335.2
126.1
116.3
15.5
85.0
100.5
—
—
—
—
—
—
—
—
—
15.5
85.0
100.5
12.7
0.7
1.4
1.4
9.2
79.1
91.8
15.5
56.9
$ 1,238.3
$
4.3
5.0
1.7
5.5
408.2
$
8.6
10.0
3.3
10.9
359.4
$
8.6
10.0
3.2
11.7
151.0
$
57.6
66.8
7.3
28.8
319.7
(1)
(2)
(3)
(4)
We derived expected payment patterns separately for the direct loss and ALAE reserves. Amounts included the STFC Pooled Companies net
additional share of transactions assumed from State Auto Mutual through the Pooling Arrangement. For a reconciliation of management’s best
estimate, see “Critical Accounting Policies – Losses and Loss Expenses Payable” included in this Item 7. These patterns were applied to the
December 31, 2013, loss and ALAE payable to generate estimated annual incremental loss and ALAE payments for each subsequent calendar year.
These amounts are based on historical payment patterns and do not represent actual contractual obligations. The actual payment amounts and the
related timing of those payments could differ significantly from these estimates.
For a discussion of these debt instruments, see “Liquidity and Capital Resources—Borrowing Arrangements” included in this Item 7.
Interest on the subordinated debentures was calculated using an interest rate equal to the three-month LIBOR rate at December 31, 2014 of 0.2356%
plus 4.20%, or 4.4356%.
These amounts are estimates of ERISA minimum funding levels based on adjustments to prior year assumptions for our defined benefit pension plan
and do not represent an estimate of our expected contributions. Funding levels generally are not determined until later in the year with respect to the
contribution year. See Note 9, “Pension and Postretirement Benefits Plans” to our consolidated financial statements included in Item 8 of this Form
10-K for a tabular presentation of STFC’s share of expected benefit payments from the State Auto Group’s defined benefit pension plan.
Leases and other purchase obligations of State Auto Mutual are allocated to us through the Pooling Arrangement.
Regulatory Considerations
At December 31, 2014, 2013 and 2012, each of our insurance subsidiaries was in compliance with statutory requirements
relating to capital adequacy.
The NAIC utilizes a collection of analytical tools designed to assist state insurance departments with an integrated approach
to screening and analyzing the financial condition of insurance companies operating in their respective states. One such set of
analytical tools is 12 key financial ratios that are known in the insurance industry as the “IRIS” ratios. A “defined range” of results
for each ratio has been established by the NAIC for solvency monitoring. While management utilizes each of these IRIS ratios in
monitoring our insurance companies’ operating performance on a statutory accounting basis (each of our insurance subsidiaries
operates within the defined range for the other measures), the net premiums written to surplus or leverage ratio is monitored to
ensure that each of our insurance subsidiaries continue to operate within the “defined range” of 3.0 to 1.0. The higher the leverage
ratio, the more risk a company bears in relation to statutory surplus available to absorb losses. In considering this range, management
also considers the distribution of net premiums between property and liability lines of business. A company with a larger portion
of net premiums from liability lines should generally maintain a lower leverage ratio.
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The following table sets forth the statutory leverage ratios for our insurance subsidiaries at December 31, 2014, 2013 and
2012:
Statutory Leverage Ratios
State Auto P&C
Milbank
Weighted Average
2014
2013
2012
1.5
1.9
1.5
1.4
1.7
1.4
1.6
2.2
1.7
State Auto P&C, Milbank and SA Ohio are subject to regulations and restrictions under which payment of dividends from
statutory surplus can be made to State Auto Financial during the year without prior approval of regulatory authorities. Under the
insurance regulations of Iowa and Ohio (the states of domicile), the maximum amount of dividends that the Company may pay
out of earned surplus to shareholders within a twelve month period without prior approval of the Department is limited to the
greater of 10% of the most recent year-end policyholders' surplus or net income for the twelve month period ending the 31st day
of December of the previous year-end. Pursuant to these rules, $77.8 million is available for payment to State Auto Financial from
its insurance subsidiaries in 2015 without prior approval. State Auto Financial received dividends from its insurance subsidiaries
in the amount of $20.0 million, $10.0 million and $20.0 million in 2014, 2013 and 2012, respectively.
The Company's insurance subsidiaries are subject to risk-based capital ("RBC") requirements that have been adopted by
individual states. These requirements subject insurers having statutory capital less than that required by the RBC calculation to
varying degrees of regulatory action, depending on the level of capital inadequacy. The RBC formulas specify various weighting
factors to be applied to financial balances or various levels of activity based on the perceived degree of risk. Regulatory compliance
is determined by a ratio of total adjusted capital to authorized control level RBC. Generally no remedial action is required by an
insurance company if its adjusted statutory surplus exceeds 200% of the authorized level RBC. At December 31, 2014, the ratio
of total adjusted statutory capital to authorized control level of State Auto Financial’s insurance subsidiaries ranged from 462.8%
to 5,824.1%.
Credit and Financial Strength Ratings
The following table sets forth our credit and insurance company financial strength ratings as of February 27, 2015:
State Auto Financial (credit rating)
bbb
A.M. Best
State Auto Group (financial strength)
negative
outlook
A
negative
outlook
Moody’s
N/A
A3
under review
for downgrade
Standard &
Poor’s
BB+
negative
outlook
BBB+
negative
outlook
We are reviewed regularly by the independent rating agencies, including those rating agencies listed in the table above. We
believe that these ratings provide a meaningful way for policyholders, agents, creditors, shareholders and others to compare us to
our competitors. Our ratings are influenced by many factors, including operating and financial performance, asset quality, liquidity,
financial leverage, exposure to catastrophe risks and operating leverage.
Generally, credit ratings affect the cost, type and availability of debt financing. Higher rated securities receive more favorable
pricing and terms relative to lower rated securities at the time of issue.
Our management considers how its overall strategy and decisions may influence the rating agencies’ evaluation of our credit
strength and capital position, which may in turn directly impact the credit and financial strength ratings assigned by those agencies.
In its decision-making process with respect to significant transactions, such as reinsurance, financing and investing activities, and
acquisitions, management takes into consideration the potential impact these decisions will have on our earnings volatility and
capital position.
The financial strength ratings set forth above relate to the State Auto Group and express the opinion of the rating agency as
to the ability of the State Auto Group to meet its ongoing obligations to policyholders. The A.M. Best financial strength rating
influences our ability to write insurance business as agents and policyholders generally prefer higher rated companies. Lower
rated companies may be required to compete for agents and policyholders by offering higher commissions or lower premiums
and expanded coverage, or a combination thereof.
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OTHER
Impact of Inflation
Inflation can have a significant impact on property and casualty insurers because premium rates are established before the
amount of losses and loss expenses are known. When establishing rates, we attempt to anticipate increases from inflation subject
to the limitations of modeling economic variables. Even when general inflation, as measured by the Consumer Price Index, has
been relatively modest, as has been the case over the last several years, price inflation on the goods and services purchased by
insurance companies in settling claims can steadily increase. For example, historically medical care costs have risen at a higher
rate than general inflation over the last few years. Costs for building materials typically rise significantly following widespread
natural catastrophes, such as what the industry experienced in areas affected by Superstorm Sandy in 2012. We continue to adjust
our pricing projections to reflect current and anticipated changes in costs in all lines of business.
We consider inflation when estimating liabilities for losses and loss expenses, particularly for claims having a long period
between occurrence and final settlement. The liabilities for losses and loss expenses are management’s best estimates of the ultimate
net cost of underlying claims and expenses and are not discounted for the time value of money. In times of high inflation, the
normally higher yields on investment income may partially offset potentially higher claims and expenses.
CRITICAL ACCOUNTING POLICIES
Our significant accounting policies are more fully described in Note 1 of the notes to our consolidated financial statements
included in Item 8 of this Form 10-K. In preparing the consolidated financial statements, management is required to make estimates
and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet, revenues and expenses
for the period then ended and the financial entries in the accompanying notes to the financial statements. Such estimates and
assumptions could change in the future, as more information becomes known which could impact the amounts reported and
disclosed in this Item 7. We have identified the policies and estimates described below as critical to our business operations and
the understanding of the results of our operations.
Investments
Our fixed maturity, equity security and certain other invested asset investments are classified as available-for-sale and carried
at fair value. The unrealized holding gains or losses, net of applicable deferred taxes, are shown as a separate component of
stockholders’ equity in accumulated other comprehensive income (loss), and as such are not included in the determination of net
income. Investment income is recognized when earned, and capital gains and losses are recognized when investments are sold.
We regularly monitor our investment portfolio for declines in value that are other-than-temporarily impaired (“OTTI”), an
assessment that requires significant management judgment regarding the evidence known. Such judgments could change in the
future as more information becomes known which could negatively impact the amounts reported herein. We consider the following
factors when assessing our equity securities and other invested assets for OTTI: (i) the length of time and/or the significance of
decline below cost; (ii) our ability and intent to hold these securities through their recovery periods; (iii) the current financial
condition of the issuer and its future business prospects; and (iv) the ability of the market value to recover to cost in the near term.
We recognize OTTI charges on our externally managed small-cap equity portfolio and a segment of our large-cap portfolio, as we
are unable to make the assertion regarding our intent to hold these securities that are currently valued below cost until recovery
in the near term. When an equity security or other invested asset has been determined to have a decline in fair value that is other-
than-temporary, we adjust the cost basis of the security to fair value. This results in a charge to earnings as a realized loss, which
is not reversed for subsequent recoveries in fair value. Future increases or decreases in fair value, if not other-than-temporary, are
included in other comprehensive income (loss).
We also consider the following factors when assessing our fixed maturity investments for OTTI: (i) the financial condition
of the issuer including receipt of scheduled principal and interest cash flows; (ii) our intent to sell; and (iii) if it is more likely than
not that we will be required to sell the investments before recovery. When a fixed maturity has been determined to have an other-
than-temporary impairment, the impairment charge is separated into an amount representing the credit loss, which is recognized
in earnings as a realized loss, and the amount related to non-credit factors, which is recognized in other comprehensive (loss)
income. Future increases or decreases in fair value, if not other-than-temporary, are included in other comprehensive (loss) income.
Deferred Acquisition Costs
Acquisition costs, consisting of net commissions (including ceding commissions), premium taxes and certain underwriting
expenses related to the successful acquisition or renewal of property and casualty business, are deferred and amortized over the
same period in which the related premiums are earned. Ceding commissions relating to reinsurance agreements reimburse us for
both deferrable and non-deferrable acquisition costs. To the extent these ceding commissions exceed the deferrable amount of
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acquisition costs, the excess is reported as a deferred liability and is included in other liabilities in our consolidated balance sheet.
Excess ceding commissions are amortized in proportion to net revenue recognized on the underlying policies resulting in excess
ceding commissions being recognized as a reduction of acquisition and operating expenses.
The method followed for computing the acquisition costs limits the amount of such deferred costs to their estimated realizable
value. In determining estimated realizable value, the computation gives effect to the premium to be earned, losses and loss expenses
expected to be incurred, and certain other costs expected to be incurred as premium is earned. Future changes in estimates, the
most significant of which is expected losses and loss adjustment expenses, that indicate a reduction in expected future profitability
may result in unrecoverable deferred acquisition costs. Anticipated investment income is considered in determining whether a
premium deficiency exists.
Losses and Loss Expenses Payable
Our loss reserves reflect all unpaid amounts for claims that have been reported, as well as for IBNR claims. Our loss reserves
are not discounted to present value.
Loss reserves are management’s best estimates (“MBE”) at a given point in time of what we expect to pay to settle all claims
incurred as of that date based on known facts, circumstances and historical trends. Loss reserves at the individual claim level are
established on either a case reserve basis or formula reserve basis depending on the type and circumstances of the loss. The case
reserve amounts are determined by claims adjusters based on our reserving practices, which take into account the type of risk, the
circumstances surrounding each claim and applicable policy provisions. The formula reserves are based on historical data for
similar claims with provision for changes caused by inflation. Case reserves and formula reserves are reviewed on a regular basis,
and as new data becomes available, estimates are updated resulting in adjustments to loss reserves. Generally, reported losses
initially reserved on a formula basis and not settled after six months are case reserved at that time. The process for calculating the
IBNR component of the loss reserve is to develop an estimate of the ultimate losses and allocated loss expenses incurred, and
subtract all amounts already paid or held as case or formula reserves.
The determination of ultimate losses integrates information and analysis provided by several disciplines within our Company,
including claims, actuarial and accounting. This assessment requires considerable judgment in understanding how claims mature,
which lines of business are the most volatile, and how trends change over time. Loss reserves represent an estimate at a given
point in time based on many variables including historical and statistical information, inflation, legal developments, storm loss
estimates and economic conditions. Although we consider many different sources of information, as well as a number of actuarial
methodologies to estimate our loss reserves, there is no single method for determining the exact ultimate liability.
Our internal actuarial staff conducts quarterly reviews of projected loss development information to assist management in
making estimates of ultimate losses and loss expenses. Several factors are considered in estimating ultimate liabilities including
consistency in relative case reserve adequacy, consistency in claims settlement practices, recent legal developments, historical
data, actuarial projections, accounting projections, exposure growth, current business conditions, catastrophe developments and
late reported claims. In addition, reasonableness tests are performed on many of the assumptions underlying each reserving
methodology, such as claim frequency, claim severity and loss ratios. Nonetheless, changes which are not contemplated do occur
over time, and those changes are incorporated in subsequent valuations of our loss reserves.
We use a number of different methodologies to estimate the IBNR component of our loss reserves. Our loss reserves include
amounts related to short tail and long tail lines of business. “Tail” refers to the time period between the occurrence of a loss and
the settlement of the claim. In general, the longer the time span between the incidence of a loss and the settlement of the claim,
the more the ultimate settlement amount can vary. The reserving methods and strengths and weaknesses of each are described
below.
Short-Tail Business: For short-tail business, claims are typically settled within five years, and the most common actuarial
estimates are based on techniques using link ratio projections of incurred losses, paid losses, claim counts and claim severities.
Each of these methods is described below in detail. Separate projections are made for catastrophes that are in the very early stages
of development based on specific information known through the reporting date.
Incurred Loss Development Method: The Incurred Loss Development Method is probably the most common actuarial
method used in projecting indicated IBNR reserves. This method uses paid loss experience as well as the outstanding estimates
(formula and case reserves) for claims that have been reported and are still open. The underlying assumption of the Incurred Loss
Development Method is that case reserve adequacy remains consistent over time. This method’s advantage is its responsiveness
to changes in reported losses, which is particularly valuable in the less mature accident years. The disadvantage of the Incurred
Loss Development Method is that case reserve adequacy changes will distort the IBNR projections.
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Paid Loss Development Method: The Paid Loss Development Method uses calculations that are very similar to the Incurred
Loss Development Method. The key difference is that the data used in the paid method exclude case reserve estimates, so only
paid losses are utilized. With this method, a payment pattern is estimated to project ultimate settlement values for each accident
year, with the underlying assumption that claims are settled at a consistent rate over time. Neither case reserves nor the rate at
which claims are reported (except to the extent that the reporting pattern influences the payment pattern) is relevant to the results
of this method. This method’s advantage is that the estimates of ultimate loss are independent of case reserve adequacy and are
unaffected by company changes in case reserving philosophy. The disadvantages are that the paid method does not use all of the
available information, and in some cases the liability payment patterns require the application of very large development factors
to relatively small payments in less mature accident years.
Claim Counts and Severities Method: The Counts and Severities Method calculations are very similar to the other methods.
The incurred claim counts reported to date are projected to an ultimate number. Similarly, the incurred loss severities are projected
to an ultimate value. The ultimate incurred count is multiplied by the ultimate incurred severity, for each accident year, to arrive
at the ultimate incurred loss. Finally, as with the other loss development methods, an estimate of the IBNR reserve is calculated
by subtracting the reported losses from the estimated ultimate losses.
Long-Tail Business: For long-tail business, a material portion of claims may not be settled within five years. Reserve
estimates for long-tail business use the same methods listed above along with several other methods as determined by the actuary.
For example, premium-based methods may be used in developing ultimate loss estimates, including the Expected Loss Ratio,
Bornhuetter-Ferguson, and Least-Squares techniques as described below. We may also use statistical models when the historical
patterns can be reasonably approximated.
Expected Loss Ratio Method: The Expected Loss Ratio Method generates indicated IBNR by multiplying an expected loss
ratio by earned premiums, then subtracting incurred-to-date losses. For slower reporting lines of business, new products, or data
that is very immature, the actual claim data is often too limited or too volatile for other projection methods. With this method the
premiums are used as a measure of loss exposure, and the loss ratios can be derived from pricing expectations.
Bornhuetter-Ferguson Method: The Bornhuetter-Ferguson Method is a weighted average of the Expected Loss Ratio
Method and the Incurred Loss Development Method, using the percentage of losses reported as the weight. This method is
particularly useful where there is a low volume of data in the current accident period, or where the experience is volatile. In general,
this method produces estimates that are similar to the Incurred Loss Development Method.
Least Square Loss Development Method: In the Least Squares Loss Development Method, the statistical technique of least
squares regression is applied to a triangle of reported loss ratios to project the ultimate loss ratio in each accident year. Using
historical loss ratios puts the data for each time period on a more consistent exposure basis, because premium levels are generally
correlated with insured exposures. A by-product of the regression function is an estimate of credibility for each stage of development.
In cases where the regression parameters fall outside of a reasonable range, the projection defaults to the incurred loss method.
Selection Process: In determining which reserving method to use for a particular line of business or accident year, diagnostic
tests of loss ratios and severity trends are considered, as well as the historic case reserve adequacy and claim settlement rate. In
general, the Incurred Loss Development Method is used if the projections are stable, the data is credible, historic case reserve
adequacy is consistent, and the loss ratios and loss severities are reasonable. Other reserving methods are considered as well for
particular lines of business or accident years, along with supplemental information such as open claim counts and prior period
development. For example, if more than one method provides a reasonable projection, the actuary may select an average of those
methods. There is considerable judgment applied in the analysis of the historical patterns and in applying business knowledge of
our underwriting and claims functions.
Reserve ranges provide a quantification of the variability in the loss reserve projections. The primary determinant in estimating
the loss reserve range boundaries are the variances measured within the historical reserving data for the various lines of business.
MBE of loss reserves considers the expected variation to establish an appropriate position within a range. At December 31, 2014,
MBE loss and ALAE reserves for the STFC Pooled Companies’ share of the Pooled Companies’ reserves were $950.5 million,
within an estimated range of $817.0 million to $984.1 million (dollar amounts presented are on a direct basis, gross of salvage
and subrogation recoverable, and before reinsurance, except for the STFC Pooled Companies’ participation in the inter-company
Pooling Arrangement; therefore, these values cannot be compared to other loss and loss expenses payable tables included elsewhere
within this Form 10-K).
The potential impact of the loss reserve variability on net income can be illustrated using the range end points and carried
reserve amounts listed above. For example, if ultimate losses reach a level corresponding to the high point of the range, $984.1
million, the reserve increase of $33.6 million corresponds to an after-tax decrease of $21.8 million in net income, assuming a tax
rate of 35%. Likewise, should ultimate losses decline to a level corresponding to the low point of the range, $817.0 million, the
$133.5 million reserve decrease would add $86.8 million of after-tax net income. The loss reserve range noted above represents
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a range of reasonably likely reserves, not a range of all possible reserves. Therefore, the ultimate losses could reach levels
corresponding to reserve amounts outside the range provided.
An important assumption underlying the loss reserve estimation methods for casualty lines is that the loss cost trends
implicitly built into the loss and ALAE patterns will continue into the future. To estimate the sensitivity of reserves to an unexpected
change in inflation, projected calendar year payment patterns were applied to the December 31, 2014, other & product liability
loss and ALAE reserve to generate estimated annual incremental loss and ALAE payments for each subsequent calendar year.
Then, for purposes of sensitivity testing, an additional annual loss cost trend of 10% was added to the trend implicitly embedded
in the estimated payment pattern, and revised incremental loss and ALAE payments were calculated. This type of inflationary
increase could arise from a variety of sources including tort law changes, development of new medical procedures, social inflation,
and other inflationary changes in costs beyond assumed levels.
The estimated cumulative impact that this additional, unexpected 10% increase in the loss cost trend would have on our
results of operations over the lifetime of the underlying claims in other & product liability is an increase of $71.8 million on
reserves, or a $46.7 million reduction to net income, assuming a tax rate of 35%. Inflation changes have much more impact on
the longer tail commercial lines like other & product liability and workers’ compensation, and much less impact on the shorter
tail personal lines’ reserves.
In addition to establishing loss reserves, as described above, we establish reserves for ULAE. Historical patterns of paid
ULAE relative to paid loss are analyzed along with historical claim counts including claims opened, claims closed, and claims
remaining open. The product of this analysis is an estimate of the relationship, or ratio, between ULAE and loss underlying the
current loss reserves. This ratio is applied to the current outstanding loss reserves to estimate the required ULAE reserve.
Consequently, this component of the loss expense reserve has a proportional relationship to the overall claim inventory and held
loss reserves. The method assumes that the underlying claims process and mix of business do not change materially from period
to period.
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The following table sets forth a reconciliation of MBE of our direct loss and ALAE reserve to our net loss and loss expenses
payable at December 31, 2014 and 2013. The STFC Pooled Companies net additional share of transactions assumed from State
Auto Mutual through the Pooling Arrangement for the years ended December 31, 2014 and 2013, respectively, has been reflected
in the table below as assumed by STFC Pooled Companies.
($ millions)
Direct loss and ALAE reserve:
STFC Pooled Companies
Assumed by STFC Pooled Companies
Total direct loss and ALAE reserve
Direct ULAE reserve:
STFC Pooled Companies
Assumed by STFC Pooled Companies
Total direct ULAE reserve
Direct salvage and subrogation recoverable:
STFC Pooled Companies
Assumed by STFC Pooled Companies
Total direct salvage and subrogation recoverable
Reinsurance recoverable
Assumed reinsurance
Reinsurance assumed by STFC Pooled Companies
2014
2013
$
477.8
472.7
950.5
27.0
22.9
49.9
(20.4)
(3.4)
(23.8)
(9.6)
4.5
2.1
509.1
451.0
960.1
29.2
21.8
51.0
(21.4)
(3.3)
(24.7)
(9.1)
5.0
(31.5)
Total losses and loss expenses payable, net of reinsurance recoverable on losses and
loss expenses payable of $9.6 million and $9.1 million in 2014 and 2013, respectively
$
973.6
950.8
The following tables set forth the loss and loss expenses payable by major line of business at December 31, 2014 and
2013:
($ millions)
December 31, 2014
Personal insurance segment:
Personal auto
Homeowners
Other personal
Total personal
Business insurance segment:
Commercial auto
Commercial multi-peril
Fire & allied lines
Other & product liability
Other commercial
Total business
Specialty insurance segment:
Excess & Surplus property
Excess & Surplus casualty
Programs
Workers' compensation
Total specialty
Total losses and loss expenses payable net of reinsurance
recoverable on losses and loss expenses payable
803Fin.pdf
Ending
Loss &
ALAE
Case &
Formula
Ending
Loss &
ALAE
IBNR
Ending
ULAE
Bulk
Total
Reserves
52.7
4.2
1.7
58.6
31.7
45.3
2.1
94.0
1.0
174.1
6.2
54.2
87.1
88.8
236.3
469.0
9.2
1.9
0.2
11.3
3.4
5.2
0.6
14.0
0.1
23.3
1.2
4.5
1.9
8.2
15.8
50.4
176.0
18.2
7.7
201.9
79.0
94.2
19.9
154.2
2.5
349.8
8.3
69.9
190.1
153.6
421.9
973.6
$
114.1
12.1
5.8
132.0
43.9
43.7
17.2
46.2
1.4
152.4
0.9
11.2
101.1
56.6
169.8
$
454.2
76
($ millions)
December 31, 2013
Personal insurance segment:
Personal auto
Homeowners
Other personal
Total personal
Business insurance segment:
Commercial auto
Commercial multi-peril
Fire & allied lines
Other & product liability
Other commercial
Total business
Specialty insurance segment:
Excess & Surplus property
Excess & Surplus casualty
Programs
Workers' compensation
Total specialty
Total losses and loss expenses payable net of reinsurance
recoverable on losses and loss expenses payable
Ending
Loss &
ALAE
Case &
Formula
Ending
Loss &
ALAE
IBNR
Ending
ULAE
Bulk
Total
Reserves
$
127.7
14.1
7.4
149.2
44.3
45.6
18.7
52.8
1.7
163.1
0.6
11.3
87.5
60.7
160.1
$
472.4
51.5
8.0
3.0
62.5
35.2
40.7
2.8
91.5
1.0
171.2
6.0
46.2
62.0
78.9
193.1
426.8
9.6
2.2
0.2
12.0
3.9
5.2
0.6
15.5
0.1
25.3
0.8
3.6
1.2
8.7
14.3
51.6
188.8
24.3
10.6
223.7
83.4
91.5
22.1
159.8
2.8
359.6
7.4
61.1
150.7
148.3
367.5
950.8
See discussion in “Results of Operations—Loss and LAE” section included in this Item 7.
The property and casualty industry has experienced significant loss from claims related to asbestos, environmental
remediation, product liability, mold and other mass torts. Because we have insured primarily product retailers and distributors,
we do not expect to incur the same level of liability, particularly related to asbestos, as companies that have insured manufacturing
risks.
Asbestos reserves are $1.4 million, and environmental reserves are $10.5 million, for a total of $11.9 million, or 1.2% of
net losses and loss expenses payable. Asbestos reserves remained the same and environmental reserves increased $0.8 million
from 2013.
Pension and Postretirement Benefit Obligations
Pension and postretirement benefit obligations are long-term in nature and require management’s judgment in estimating
the factors used to determine these amounts. We review these factors annually, including the discount rate and expected long-term
rate of return on plan assets. Because these obligations are based on estimates which could change, the ultimate benefit obligation
could be different from the amount estimated.
The State Auto Group has a defined benefit pension plan covering substantially all employees hired prior to January 1, 2010
and a postretirement healthcare plan covering certain associates and retirees (collectively “the benefit plans”). Several factors,
which attempt to anticipate future events, are used in calculating the expense and liability related to the benefit plans. Key factors
include assumptions about the expected rates of return on plan assets, discount rates, and health care cost trend rates. We consider
market conditions, including changes in investment returns and interest rates, in making these assumptions. The actuarial
assumptions used by us in determining benefit obligations may differ materially from actual results due to changing market and
economic conditions, higher or lower turnover and retirement rates, or longer or shorter life spans of participants. While we believe
that the assumptions used are appropriate, differences in actual experience or changes in assumptions may materially affect our
financial position or results of operations.
In October 2014, the Retirement Plans Experience Committee of the Society of Actuaries released reports summarizing
updated statistics and analysis for actuaries to consider in the selection of the mortality assumptions used in the valuation of benefit
plans, including new mortality tables that reflect updated mortality rates observed during 2004 through 2008. Previously, the
pension plan valuation utilized a mortality table required to be used for purposes of minimum funding requirements under ERISA.
For the December 31, 2014 valuation, the RP-2014 mortality table was used as a baseline for the mortality assumption and the
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MP-2014 improvement scale with indefinite improvement was used to project future mortality rates. The January 1, 2015 actuarial
reports of the benefit plans included these revised mortality assumptions.
To calculate the State Auto Group’s December 31, 2014 benefit obligation for each of the benefit plans, we used a discount
rate of 3.85% based on an evaluation of the expected future benefit cash flows of our benefit plans used in conjunction with the
Citigroup Pension Discount Curve at the measurement date. A lower discount rate results in, all else being equal, a higher present
value of the benefit obligation. To calculate our benefit obligation at December 31, 2014 and net periodic benefit cost for the year
ended December 31, 2015, a discount rate of 3.85% and an expected long-term rate of return on plan assets of 7.00% were used.
We selected an expected long-term rate of return on our plan assets by considering the mix of investments and stability of investment
portfolio along with actual investment experience during the lifetime of the plans. Our assumptions regarding the discount rate
and expected return on plan assets could have a significant effect on the amounts related to our benefit obligations and net periodic
benefit cost depending on the degree of change between reporting periods.
As a result of adopting the revised mortality assumptions and the change in the discount rate, the benefit plan's liabilities
increased by $52.6 million for the year ended December 31, 2014.
The following table sets forth an illustration of variability with respect to the discount rate on our share of the State Auto
Group’s December 31, 2014 benefit obligation and expected net periodic benefit cost for the year ending December 31, 2015,
along with the variability of the expected return on plan assets to our expected net periodic benefit cost for the year ending
December 31, 2015. Holding all other assumptions constant, sensitivity to changes in any one of our key assumptions are as
follows:
($ millions)
Benefit obligation
Net periodic benefit cost (benefit)
Net periodic benefit cost
$
$
$
Pension
Discount rate
Postretirement
Discount rate
(0.25)%
3.85%
0.25%
304.5
17.2
292.5
16.0
281.2
14.8
(0.25)%
24.5
(4.0)
$
$
3.85%
0.25%
23.9
(4.1)
23.3
(4.1)
Expected return on plan assets
(0.25)%
7.00%
0.25%
16.5
16.0
15.5
The accumulated benefit obligation (“ABO”) of a defined benefit pension plan represents the actuarial present value of
benefits attributed by the pension benefit formula to employee service rendered prior to the measurement date and based on current
and past compensation levels, while the projected benefit obligation (“PBO”) is the ABO plus a factor for future compensation
levels. The ABO, which considers current compensation levels only, provides information about the obligation an employer would
have if the plan were discontinued at the measurement date. At December 31, 2014, our share of the State Auto Group’s ABO and
PBO was $260.1 million and $292.5 million, respectively. At December 31, 2014, STFC’s share of the defined benefit pension
plan’s fair value of the assets was $205.1 million, which resulted in an underfunded status within our balance sheet of $87.4 million.
On a cash flow basis, we target an annual contribution level that meets at least the targeted normal cost plus any shortfall
amortizations of the plan, as defined by ERISA. Currently, we expect to make a cash contribution to the pension plan up to $13.0
million in 2014.
The unfunded status on the pension plan and supplemental executive retirement plan increased from $50.6 million at
December 31, 2013, to $93.7 million at December 31, 2014. Primarily influencing this increase are actuarial gains and losses
arising from factors that include a decrease in the discount rate and expected to actual demographic changes, such as retirement
age, mortality, turnover, rate of compensation changes. In addition, we experienced greater returns on our plan assets.
See Note 9, “Pension and Postretirement Benefit Plans,” to our consolidated financial statements included in Item 8 of this
Form 10-K for further disclosures regarding our benefit plans.
Income Taxes
For 2014, we recognized a federal income tax benefit of $80.6 million compared to federal income tax expense of $0.5
million for 2013 and a federal income tax benefit of $0.1 million for 2012. The income tax benefit in 2014 was primarily due to
the reversal of our deferred tax asset valuation allowance, which resulted in an income tax benefit of $82.6 million.
Deferred income tax assets and liabilities represent the tax effect of the differences between the financial statement carrying
value of existing assets and liabilities and their respective tax bases. During 2011, we experienced a net loss driven by the magnitude
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of record level catastrophe storm losses in the second quarter that significantly exceeded our projections. We considered both
positive and negative evidence and concluded that a valuation allowance should be established.
In accordance with the Financial Accounting Standards Board’s Accounting Standards Codification 740, Income Taxes (ASC
740), we periodically evaluate our deferred tax assets, which requires significant judgment, to determine if they are realizable
based upon weighing all available evidence, both positive and negative, including our historical and anticipated future taxable
income. In making such judgments, significant weight is given to evidence that can be objectively verified.
At December 31, 2014, consistent with the above process, we evaluated the need for a valuation allowance against our net
deferred tax assets and determined that it was more likely than not that our deferred tax asset would be realized. As a result, in
accordance with the guidance in ASC 740, we reversed our deferred tax asset valuation allowance and recognized an $82.6 million
federal income tax benefit in the fourth quarter of 2014.
The principal positive evidence that led us to determine at December 31, 2014 that the valuation allowance against our net
deferred tax assets was no longer necessary included (i) three consecutive years of pre-tax income; (ii) cumulative three-year pre-
tax income of $98.7 million through December 31, 2014; and (iii) expected future pre-tax income. Since the establishment of the
valuation allowance in the second quarter of 2011, our homeowners line underwriting results, a key contributor to the initial
establishment of the valuation allowance, have significantly improved. The improvement in our homeowners underwriting results
is attributable to actions undertaken by management, including rate increases, deductible expansion, and changes in the geographic
mix, among others. See the "Personal Insurance Segment” discussion included in this Item 7 for further information. Since 2011,
underwriting results have also been impacted by our RED underwriting results, which have included reserve strengthening in
2012, 2013 and 2014. Due to the actions taken in 2014, including the reserve strengthening and the placement of the ADC
reinsurance agreement, which provides $40.0 million of adverse development cover over carried Loss and LAE reserves for the
RED restaurant program, along with the fact that the RED program business has been terminated and is in run-off, future
underwriting results are not expected to be materially impacted by RED underwriting results. See the "Specialty Insurance
Segment” discussion included in this Item 7 for further information.
Management anticipates generating taxable income over the next three years that will allow for the realization of all of our
net operating loss ("NOL") carryforwards prior to the end of 2017. The NOL carryforwards do not begin to expire until 2030 and
will not fully expire until 2032.
The following table sets forth the components of our federal income tax expense for the years ended December 31, 2014
and 2013:
($ millions)
Income before federal income taxes
Current tax expense
Deferred tax expense
Valuation allowance
Total federal income tax (benefit) expense
Net income
2014
2013
$
26.8
$
61.3
0.1
1.9
2.0
(82.6)
(80.6)
107.4 $
0.5
11.8
12.3
(11.8)
0.5
60.8
$
During the year ended December 31, 2013, we recorded current tax expense in the income statement of $0.5 million related
to the Alternative Minimum Tax (AMT). AMT is an alternative tax system whereby we calculate our tax and if it is greater than
regular tax, we provide for the AMT. In our case, while we had both regular tax and AMT tax net operating loss carryforwards,
the Internal Revenue Code only allows for a 90% offset of the AMT obligation; whereas, the Internal Revenue Code allows for
an 100% offset of the regular tax obligation. This resulted in recording a current tax provision. The deferred tax benefit for the
AMT was offset by the tax valuation allowance, which resulted in a net tax provision for the year ended December 31, 2013.
Based on ASC 740 intraperiod tax allocation guidelines, the following sets forth the change in valuation allowance attributable
to continuing operations and other comprehensive income for the years ended December 31, 2014 and 2013:
($ millions)
Continuing operations
Other comprehensive income
Change in valuation allowance
2014
2013
$
$
(82.6) $
—
(82.6) $
(11.8)
(6.1)
(17.9)
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See Note 8, “Federal Income Taxes,” to our consolidated financial statements included in Item 8 of this Form 10-K for
further disclosures regarding our income tax matters.
Other
Other items that could have a significant impact on the financial statements include the risks and uncertainties listed in
Item 1A of this Form 10-K under “Risk Factors.” Actual results could differ materially using different estimates and assumptions,
or if conditions are significantly different in the future.
Item 7A. Qualitative and Quantitative Disclosures about Market Risk
Qualitative and Quantitative Disclosures about Market Risk are included in Item 7 of this Form 10-K under “Results of
Operations—Investment Operations Segment—Market Risk.”
Item 8. Financial Statements and Supplementary Data
Our consolidated financial statements, including the notes thereto, and the reports of Ernst & Young LLP on our consolidated
financial statements and our internal controls over financial reporting are as follows:
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80
Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders of
State Auto Financial Corporation
We have audited the accompanying consolidated balance sheets of State Auto Financial Corporation and subsidiaries as of
December 31, 2014 and 2013, and the related consolidated statements of income, comprehensive income, stockholders' equity,
and cash flows for each of the three years in the period ended December 31, 2014. Our audits also included the financial statement
schedules listed in the Index at Item 15(a)(2). 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 State Auto Financial Corporation and subsidiaries at December 31, 2014 and 2013, and the consolidated results of their
operations and their cash flows for each of the three years in the period ended December 31, 2014, 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),
State Auto Financial Corporation and subsidiaries’ internal control over financial reporting as of December 31, 2014, based on
criteria established in Internal Control-Integrated Framework (2013 framework) issued by the Committee of Sponsoring
Organizations of the Treadway Commission and our report dated March 3, 2015 expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP
Columbus, Ohio
March 3, 2015
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81
Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting
The Board of Directors and Stockholders of
State Auto Financial Corporation
We have audited State Auto Financial Corporation and subsidiaries’ internal control over financial reporting as of
December 31, 2014, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (2013 framework) (the COSO criteria). State Auto Financial Corporation’s
management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the
effectiveness of internal control over financial reporting included in the accompanying Management’s Annual 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.
In our opinion, State Auto Financial Corporation and subsidiaries maintained, in all material respects, effective internal
control over financial reporting as of December 31, 2014, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States),
the consolidated balance sheets of State Auto Financial Corporation and subsidiaries as of December 31, 2014 and 2013, and the
related consolidated statements of income, comprehensive income, stockholders’ equity, and cash flows for each of the three years
in the period ended December 31, 2014, and our report dated March 3, 2015, expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP
Columbus, Ohio
March 3, 2015
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82
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Consolidated Balance Sheets
($ and shares in millions, except per share amounts)
Assets
Fixed maturities, available-for-sale, at fair value (amortized cost $1,831.3 and $1,804.0,
respectively)
Equity securities, available-for-sale, at fair value (cost $235.5 and $196.6, respectively)
Other invested assets, available-for-sale, at fair value (cost $50.5 and $49.5,
respectively)
Other invested assets
Notes receivable from affiliate
Total investments
Cash and cash equivalents
Accrued investment income and other assets
Deferred policy acquisition costs (affiliated net assumed $46.8 and $19.2, respectively)
Reinsurance recoverable on losses and loss expenses payable
Prepaid reinsurance premiums
Due from affiliate
Current federal income taxes
Net deferred federal income taxes
Property and equipment, at cost (net of accumulated depreciation of $6.1 and $5.8,
respectively)
Total assets
Liabilities and Stockholders’ Equity
Losses and loss expenses payable (affiliated net assumed $494.3 and $438.0,
respectively)
Unearned premiums (affiliated net assumed $201.7 and $78.4, respectively)
Notes payable (affiliates $15.5 and $15.5, respectively)
Postretirement and pension benefits (affiliated net ceded $63.2 and $37.3, respectively)
Due to affiliate
Other liabilities (affiliated net ceded $5.1 and affiliated net assumed $20.0, respectively)
$
$
Total liabilities
Stockholders’ equity:
Class A Preferred stock (nonvoting), without par value. Authorized 2.5 shares; none
issued
Class B Preferred stock, without par value. Authorized 2.5 shares; none issued
Common stock, without par value. Authorized 100.0 shares; 47.7 and 47.5 shares
issued, respectively, at stated value of $2.50 per share
Treasury stock, 6.8 and 6.8 shares, respectively, at cost
Additional paid-in capital
Accumulated other comprehensive income (affiliated net ceded $65.1 and $41.0,
respectively)
Retained earnings
Total stockholders’ equity
Total liabilities and stockholders’ equity
See accompanying notes to consolidated financial statements.
803Fin.pdf
83
December 31
2014
2013
$
$
1,891.9
310.4
1,830.1
265.3
80.9
5.0
70.0
2,251.3
80.3
33.6
96.8
9.1
4.7
—
0.3
11.9
8.4
2,496.4
959.9
491.0
100.8
71.6
1.3
86.8
1,711.4
—
—
118.8
(115.9)
137.5
80.8
563.8
785.0
2,496.4
80.3
5.3
70.0
2,357.9
86.3
33.8
126.5
9.6
6.1
40.1
1.1
97.4
8.1
2,766.9
$
983.2
612.4
100.8
117.3
—
80.3
1,894.0
—
—
119.3
(116.0)
143.2
71.7
654.7
872.9
2,766.9
$
$
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Consolidated Statements of Income
($ millions, except per share amounts)
Year ended December 31
2013
2012
2014
Earned premiums (affiliated net assumed $212.4, $200.0 and $232.9, respectively)
Net investment income (affiliates $4.9, $4.9 and $4.9, respectively)
Net realized gain on investments:
$
1,074.1
74.7
$
1,055.0
72.8
$
1,042.1
75.4
Total other-than-temporary impairment losses
Portion of loss recognized in other comprehensive income
Other net realized investment gains
Total net realized gain on investments
Other income (affiliates $1.9, $2.0 and $3.6, respectively)
Total revenues
Losses and loss expenses (affiliated net assumed $250.8, $162.5 and $203.7,
respectively)
Acquisition and operating expenses (affiliated net assumed $156.9, $172.7 and
$190.8, respectively)
Interest expense (affiliates $0.7, $0.7 and $0.7, respectively)
Other expenses
Total expenses
Income before federal income taxes
Federal income tax (benefit) expense:
Current
Deferred
Total federal income tax (benefit) expense
Net income
Earnings per common share:
Basic
Diluted
Dividends paid per common share
See accompanying notes to consolidated financial statements.
(2.5)
—
23.2
20.7
3.2
1,172.7
(4.0)
—
27.2
23.2
2.0
1,153.0
(3.4)
—
32.4
29.0
3.6
1,150.1
771.3
719.8
778.3
361.9
5.4
7.3
1,145.9
26.8
354.8
8.5
8.6
1,091.7
61.3
345.9
7.0
8.3
1,139.5
10.6
0.1
(80.7)
(80.6)
107.4
2.63
2.60
0.40
$
$
$
$
$
$
$
$
0.5
—
0.5
60.8
1.50
1.49
0.40
$
$
$
$
(0.1)
—
(0.1)
10.7
0.26
0.26
0.55
803Fin.pdf
84
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Consolidated Statements of Comprehensive Income
($ millions)
Net income
Other comprehensive income, net of tax:
Year ended December 31
2013
2012
2014
$
107.4
$
60.8
$
10.7
Net unrealized holding gains (losses) on investments:
Unrealized holding gains (losses) arising during year
Reclassification adjustments for gains realized in net income
Income tax (expense) benefit
Total net unrealized holding gains (losses) on investments
Amortization of gain on derivative used in cash flow hedge
Net unrecognized benefit plan obligations:
Net actuarial (loss) gain arising during period
Reclassification adjustments for amortization to statements of income:
Negative prior service cost
Net actuarial loss
Income tax benefit
Total net unrecognized benefit plan obligations
Other comprehensive (loss) income
Comprehensive income
$
See accompanying notes to consolidated financial statements.
59.8
(20.7)
(13.7)
25.4
—
(54.4)
(5.5)
6.9
18.5
(34.5)
(9.1)
98.3
$
(27.1)
(23.2)
10.9
(39.4)
(0.1)
32.5
(5.5)
9.1
—
36.1
(3.4)
57.4
$
53.5
(28.8)
0.6
25.3
(0.1)
(7.4)
(5.2)
7.8
—
(4.8)
20.4
31.1
803Fin.pdf
85
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Consolidated Statements of Stockholders’ Equity
Year ended December 31
2013
2012
2014
47.5
0.2
47.7
(6.8)
(6.8)
47.3
0.2
47.5
(6.8)
(6.8)
47.1
0.2
47.3
(6.8)
(6.8)
118.8
0.5
119.3
$
$
118.1
0.7
118.8
$
$
117.8
0.3
118.1
(115.9)
(0.1)
(116.0) $
(115.8)
(0.1)
(115.9) $
(115.8)
—
(115.8)
137.5
2.9
2.8
143.2
80.8
25.4
—
(34.5)
71.7
563.8
107.4
(16.5)
654.7
872.9
$
$
$
$
$
$
131.6
3.4
2.5
137.5
84.2
(39.4)
(0.1)
36.1
80.8
519.1
60.8
(16.1)
563.8
785.0
$
$
$
$
$
$
127.3
1.3
3.0
131.6
63.8
25.3
(0.1)
(4.8)
84.2
530.7
10.7
(22.3)
519.1
737.2
$
$
$
$
$
$
$
$
$
$
$
(in millions)
Common shares:
Balance at beginning of year
Issuance of shares
Balance at end of year
Treasury shares:
Balance at beginning of year
Balance at end of year
Common stock:
Balance at beginning of year
Issuance of shares
Balance at end of year
Treasury stock:
Balance at beginning of year
Shares acquired on stock option exercises and vested restricted shares
Balance at end of year
Additional paid-in capital:
Balance at beginning of year
Issuance of common stock
Stock options granted
Balance at end of year
Accumulated other comprehensive income:
Balance at beginning of year
Change in unrealized holding gains (losses) on investments, net of tax
Amortization of gain on derivative used in cash flow hedge
Change in unrecognized benefit plan obligations, net of tax and
reclassification adjustments
Balance at end of year
Retained earnings:
Balance at beginning of year
Net income
Cash dividends paid (affiliates $10.2, $10.1 and $13.9, respectively)
Balance at end of year
Total stockholders’ equity at end of year
See accompanying notes to consolidated financial statements.
803Fin.pdf
86
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Consolidated Statements of Cash Flows
($ millions)
Cash flows from operating activities:
Net income
Year ended December 31
2013
2012
2014
$
107.4
$
60.8
$
10.7
Adjustments to reconcile net income to net cash provided by (used in)
operating activities:
Depreciation and amortization, net
Share-based compensation
Net realized gain on investments
Changes in operating assets and liabilities:
Deferred policy acquisition (benefits) costs
Accrued investment income and other assets
Postretirement and pension benefits
Reinsurance recoverable on losses and loss expenses payable and
prepaid reinsurance premiums
Other liabilities and due to/from affiliates, net
Losses and loss expenses payable
Unearned premiums
Excess tax benefits on share-based awards
Federal income taxes
Cash used in December 31, 2011 unearned premium transfer related to the
homeowners quota-share reinsurance arrangement
Cash used in pooling changes, December 31, 2011 and January 1, 2011
Net cash provided by (used in) operating activities
Cash flows from investing activities:
Purchases of fixed maturities available-for-sale
Purchases of equity securities available-for-sale
Purchases of other invested assets
Maturities, calls and pay downs of fixed maturities available-for-sale
Sales of fixed maturities available-for-sale
Sales of equity securities available-for-sale
Sales of other invested assets available-for-sale
Net additions of property and equipment
Net cash (used in) provided by investing activities
Cash flows from financing activities:
Proceeds from issuance of common stock
Payments to acquire treasury stock
Payments of dividends (affiliates $10.2, $10.1 and $13.9, respectively)
Payment of credit facility issue costs
Excess tax benefits on share-based awards
Proceeds from long-term debt
Redemption of long-term debt
Net cash used in financing activities
Net increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of year
Supplemental disclosures:
Interest paid (affiliates $0.7, $0.7 and $0.7, respectively)
Federal income taxes paid (received)
$
$
$
$
$
$
$
$
See accompanying notes to consolidated financial statements.
87
803Fin.pdf
11.7
3.6
(20.7)
(29.7)
0.2
(7.3)
(1.9)
(50.8)
23.3
121.4
—
(81.6)
—
—
75.6
$
(431.4) $
(119.0)
(1.8)
232.4
163.5
99.2
0.6
—
(56.5) $
13.5
4.1
(23.2)
(5.1)
(2.3)
(5.3)
3.6
(0.9)
17.7
9.4
0.1
(0.3)
—
—
72.1
$
(326.7) $
(86.0)
(5.5)
174.6
113.3
106.4
0.7
0.2
(23.0) $
$
3.5
(0.1)
(16.5)
—
—
—
—
(13.1) $
6.0
80.3
86.3
$
$
4.0
(0.1)
(16.1)
(0.5)
(0.1)
85.0
(100.0)
(27.8) $
21.3
59.0
80.3
$
7.1
3.5
(29.0)
—
(1.4)
(4.6)
16.0
(9.8)
35.1
11.4
—
12.3
(75.5)
(261.4)
(285.6)
(540.4)
(143.0)
(1.1)
257.0
332.8
101.8
0.7
1.5
9.3
1.6
—
(22.3)
—
—
—
—
(20.7)
(297.0)
356.0
59.0
5.2
1.0
$
$
8.5
0.8
$
$
7.0
(12.4)
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)
Notes to Consolidated Financial Statements
1. Summary of Significant Accounting Policies
a. Principles of Consolidation
The consolidated financial statements include State Auto Financial Corporation (“State Auto Financial”), an Ohio corporation,
and the following wholly owned subsidiaries of State Auto Financial:
•
State Auto Property and Casualty Insurance Company (“State Auto P&C”), an Iowa corporation
• Milbank Insurance Company (“Milbank”), an Iowa corporation
•
•
State Auto Insurance Company of Ohio (“SA Ohio”), an Ohio corporation
Stateco Financial Services, Inc. (“Stateco”), an Ohio corporation
The consolidated financial statements also include the operations and financial position of 518 Property Management and
Leasing, LLC (“518 PML”), an Ohio limited liability company whose only members are State Auto P&C and Stateco. Farmers
Casualty Insurance Company ("Farmers"), a former wholly owned subsidiary of State Auto Financial, was merged with State Auto
P&C at the close of business on December 31, 2012.
State Auto Financial is a majority-owned subsidiary of State Automobile Mutual Insurance Company (“State Auto Mutual”),
an Ohio corporation. State Auto Financial and its subsidiaries are referred to herein as the “Company.” All intercompany balances
and transactions have been eliminated in consolidation.
b. Description of Business
The Company markets its insurance products throughout the United States primarily through independent agencies, which
include retail agencies and wholesale brokers. The Company’s principal lines of insurance include personal and commercial
automobile, homeowners, commercial multi-peril, workers’ compensation, general liability and fire insurance. State Auto P&C,
Milbank and SA Ohio are chartered and licensed property and casualty insurers. As such, they are subject to the regulations of the
applicable Departments of Insurance of their respective states of domicile (the “Departments”) and the regulations of each state
in which they operate. These property and casualty insurance companies undergo periodic financial examination by the Departments
and insurance regulatory agencies of the states that choose to participate. A large portion of the Company’s revenues are derived
from a reinsurance pooling agreement with State Auto Mutual and its affiliates. The underwriting activity and geographic
distribution of State Auto Mutual and its affiliates is generally the same as the underwriting activity and geographic distribution
of the Company.
Through the employees of State Auto P&C, the Company provides management and operation services under management
agreements for all of its insurance and non-insurance affiliates.
Through Stateco, the Company provides investment management services to affiliated companies.
518 PML owns and leases property to the Company’s affiliates.
c. Basis of Presentation
The consolidated financial statements have been prepared in conformity with U.S. generally accepted accounting principles
(“GAAP”), which vary in certain respects from statutory accounting practices (“SAP”) followed by State Auto P&C, Milbank and
SA Ohio that are prescribed or permitted by the Departments.
The Company's insurance subsidiaries, domiciled in Ohio and Iowa, are required to prepare statutory financial statements
in accordance with the accounting practices prescribed or permitted by the insurance departments of the states of domicile.
Prescribed statutory accounting practices are those practices that are incorporated directly or by reference in state laws, regulations,
and general administrative rules applicable to all insurance enterprises domiciled in a particular state. The Ohio and Iowa
Departments of Insurance require insurers domiciled in their respective states to prepare statutory financial statements in accordance
with National Association of Insurance Commissioners' ("NAIC") statutory accounting practices. Permitted statutory accounting
practices are those practices that differ either from state-prescribed statutory accounting practices or NAIC statutory accounting
803Fin.pdf
88
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
practices. The Company's insurance subsidiaries do not apply any statutory accounting practices that would be considered a
prescribed statutory accounting practice that differs from NAIC statutory accounting practices.
In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect
the reported amounts of assets and liabilities as of the date of the balance sheet, revenues and expenses for the periods then ended,
and the accompanying notes to the financial statements. Such estimates and assumptions could change in the future as more
information becomes known which could impact the amounts reported and disclosed herein.
Material estimates that are particularly susceptible to significant change in the near term relate to the determination of losses
and loss expenses payable and the realization of deferred tax assets. In connection with the determination of losses and loss expenses
payable, management uses historical data, current business conditions and assumptions about future conditions to formulate
estimates of the ultimate cost to settle claims. Deferred tax assets are evaluated periodically by management to determine if they
are realizable, requiring management to make certain judgments and assumptions. In evaluating the ability to recover deferred tax
assets, management considers all available evidence, including loss carryback potential, past operating results, existence of
cumulative losses in the most recent years, projected performance of the business, future taxable income, including the ability to
generate capital gains, and prudent and feasible tax planning strategies. If, based on available information, it is more likely than
not that the deferred income tax assets will not be realized, then a valuation allowance must be established with a corresponding
charge to net income and/or other comprehensive income (loss). These estimates by their nature are subject to uncertainties for
various reasons.
d. Investments
Investments in fixed maturities, equity securities and certain other invested assets are classified as available-for-sale and are
carried at fair value. The unrealized holding gains and losses, net of applicable deferred income taxes, are shown as a separate
component of stockholders’ equity as a part of accumulated other comprehensive income (loss) and, as such, are not included in
the determination of net income. Realized gains and losses on the sales of investments are computed using the first-in, first-out
method.
The Company views gross unrealized losses on fixed maturities and equity securities as being temporary since it is its
assessment that these securities will recover in the near term, allowing the Company to realize the anticipated long-term economic
value. The Company regularly monitors its investments that have fair values less than cost or amortized cost for signs of other-
than-temporary impairment, an assessment that requires significant management judgment regarding the evidence known. Such
judgments could change in the future as more information becomes known, which could negatively impact the amounts reported.
Among the factors that management considers for fixed maturity securities are the financial condition of the issuer, including
receipt of scheduled principal and interest cash flows, and intent to sell, including if it is more likely than not that the Company
will be required to sell the investments before recovery. When a fixed maturity security has been determined to have an other-
than-temporary impairment, the impairment charge is separated into an amount representing the credit loss, which is recognized
in earnings as a realized loss and the amount related to non-credit factors, which is recognized in other comprehensive income.
Future increases or decreases in fair value, if not other-than-temporary, are included in other comprehensive income.
Among the factors that management considers for equity securities and other invested assets are the length of time and/or
the significance of decline below cost, the Company’s ability and intent to hold these securities through their recovery periods,
the current financial condition of the issuer and its future business prospects, and the ability of the market value to recover to cost
in the near term. When an equity security or other invested asset has been determined to have a decline in fair value that is other-
than-temporary, the cost basis of the security is adjusted to fair value. This results in a charge to earnings as a realized loss, which
is not reversed for subsequent recoveries in fair value. Future increases or decreases in fair value, if not other-than-temporary, are
included in other comprehensive income.
e. Cash Equivalents
The Company considers all liquid debt instruments with a maturity of three months or less to be cash equivalents. The
carrying amounts reported approximate their fair value.
f. Deferred Acquisition Costs
Acquisition costs, consisting of net commissions (including ceding commissions), premium taxes and certain underwriting
expenses related to the successful acquisition or renewal of property and casualty business, are deferred and amortized over the
same period in which the related premiums are earned. Ceding commissions relating to reinsurance agreements reimburse us for
both deferrable and non-deferrable acquisition costs. To the extent these ceding commissions exceed the deferrable amount of
89
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
acquisition costs, the excess is reported as a deferred liability and is included in other liabilities in our consolidated balance sheet.
Excess ceding commissions are amortized in proportion to net revenue recognized on the underlying policies resulting in excess
ceding commissions being recognized as a reduction of acquisition and operating expenses.
The method followed for computing the acquisition costs limits the amount of such deferred costs to their estimated realizable
value. In determining estimated realizable value, the computation gives effect to the premium to be earned, losses and loss expenses
expected to be incurred, and certain other costs expected to be incurred as premium is earned. Future changes in estimates, the
most significant of which is expected losses and loss adjustment expenses, that indicate a reduction in expected future profitability
may result in unrecoverable deferred acquisition costs. Anticipated investment income is considered in determining whether a
premium deficiency exists.
The following table sets forth net deferred acquisition costs for the years ended December 31, 2014, 2013 and 2012:
($ millions)
Balance, beginning of year
Acquisition costs deferred
Acquisition costs amortized to expense
Balance, end of year
2014
2013
2012
$
$
96.8
251.5
(221.8)
126.5
$
$
91.7
214.6
(209.5)
96.8
$
$
91.7
213.1
(213.1)
91.7
g. Federal Income Taxes
The Company files a consolidated federal income tax return. Pursuant to a written tax sharing agreement, each entity within
the consolidated group pays or receives its share of federal income taxes based on separate return calculations.
The Company recognizes deferred income tax assets and liabilities for the expected future tax effects attributable to temporary
differences between the financial statement and tax return bases of assets and liabilities, based on enacted tax rates and other
provisions of the tax law. The effect of a change in tax laws or rates on deferred tax assets and liabilities is recognized in income
in the period in which such change is enacted. Deferred tax assets and liabilities include provisions for unrealized investment gains
and losses as well as the net funded status of pension and other postretirement benefit obligations with the changes for each period
included in the respective components of other comprehensive income. Deferred tax assets are reduced by a valuation allowance
if it is more likely than not that all or some portion of the deferred tax assets will not be realized.
Interest and penalties related to uncertain tax positions are recorded in the balance sheet as other liabilities, and recognized
in the income statement as other expenses.
h. Losses and Loss Expenses Payable
Losses and loss expenses payable are based on formula and case-basis estimates for reported claims and on estimates, based
on experience and perceived trends, for unreported claims and loss expenses. The liability for unpaid losses and loss expenses,
net of estimated salvage and subrogation recoverable of $23.8 million and $24.7 million at December 31, 2014 and 2013,
respectively, has been established to cover the estimated ultimate cost to settle insured losses. The amounts are based on estimates
of future rates of inflation and other factors, and accordingly, there can be no assurance that the ultimate liability will not vary
materially from such estimates. The estimates are continually reviewed and adjusted as necessary; such adjustments are included
in current operations (see Note 4). Anticipated salvage and subrogation is estimated using historical experience. As such, losses
and loss expenses payable represent management’s best estimate of the ultimate liability related to reported and unreported claims.
i. Premiums
Premiums are recognized as earned prorata over the policy period. Unearned premiums represent the portion of premiums
written relative to the unexpired terms of coverage.
j. Comprehensive Income
Comprehensive income is defined as all changes in an enterprise’s equity during a period other than those resulting from
investments by owners and distributions to owners. Comprehensive income includes net income and other comprehensive income.
Other comprehensive income includes all other non-owner related changes to equity and includes net unrealized gains and losses
on available-for-sale investments, derivative instruments and unrecognized benefit plan obligations, adjusted for deferred federal
income taxes.
90
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
2. Investments
The following tables set forth the cost or amortized cost and fair value of available-for-sale securities by lot at December 31,
2014 and 2013:
December 31, 2014
Fixed maturities:
U.S. treasury securities and obligations of U.S.
government agencies
Obligations of states and political subdivisions
Corporate securities
U.S. government agencies residential mortgage-backed
securities
Total fixed maturities
Equity securities:
Large-cap securities
Small-cap securities
Total equity securities
Other invested assets
Total available-for-sale securities
December 31, 2013
Fixed maturities:
U.S. treasury securities and obligations of U.S.
government agencies
Obligations of states and political subdivisions
Corporate securities
U.S. government agencies residential mortgage-backed
securities
Total fixed maturities
Equity securities:
Large-cap securities
Small-cap securities
Total equity securities
Other invested assets
Total available-for-sale securities
Cost or
amortized
cost
Gross
unrealized
holding
gains
Gross
unrealized
holding
losses
Fair
value
$
$
$
$
$
296.7
742.5
333.4
458.7
1,831.3
185.5
50.0
235.5
50.5
2,117.3
Cost or
amortized
cost
345.5
765.3
345.0
348.2
1,804.0
148.2
48.4
196.6
49.5
2,050.1
$
$
$
14.1
27.4
10.2
15.6
67.3
57.3
18.2
75.5
29.8
172.6
Gross
unrealized
holding
gains
13.4
25.8
11.4
9.7
60.3
46.5
22.5
69.0
31.4
160.7
$
$
$
$
(1.5) $
(0.4)
(3.0)
(1.8)
(6.7)
(0.6)
—
(0.6)
—
(7.3) $
309.3
769.5
340.6
472.5
1,891.9
242.2
68.2
310.4
80.3
2,282.6
Gross
unrealized
holding
losses
Fair
value
(6.5) $
(16.9)
(6.7)
(4.1)
(34.2)
(0.3)
—
(0.3)
—
(34.5) $
352.4
774.2
349.7
353.8
1,830.1
194.4
70.9
265.3
80.9
2,176.3
803Fin.pdf
91
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following tables set forth the Company’s gross unrealized losses and fair value on its investments by lot, aggregated by
investment category and length of time for individual securities that have been in a continuous unrealized loss position at
December 31, 2014 and 2013:
Total temporarily impaired securities
$ 120.7
$
December 31, 2014
Fixed maturities:
U.S. treasury securities and
obligations of U.S.
government agencies
Obligations of states and
political subdivisions
Corporate securities
U.S. government agencies
residential mortgage-backed
securities
Total fixed maturities
Large-cap equity securities
December 31, 2013
Fixed maturities:
U.S. treasury securities and
obligations of U.S.
government agencies
Obligations of states and
political subdivisions
Corporate securities
U.S. government agencies
residential mortgage-backed
securities
Total fixed maturities
Large-cap equity securities
Less than 12 months
12 months or more
Total
Fair
value
Unrealized
losses
Number
of
positions
Fair
value
Unrealized
losses
Number
of
positions
Fair
value
Unrealized
losses
Number
of
positions
$
19.9
$
(0.3)
6.1
43.5
44.0
113.5
7.2
—
(0.9)
(0.3)
(1.5)
(0.6)
(2.1)
4
5
8
8
25
2
27
$
52.0
$
(1.2)
17
$
71.9
$
(1.5)
30.9
56.1
37.5
176.5
—
$ 176.5
$
(0.4)
(2.1)
(1.5)
(5.2)
—
(5.2)
9
11
13
50
—
50
37.0
99.6
81.5
290.0
7.2
$ 297.2
$
(0.4)
(3.0)
(1.8)
(6.7)
(0.6)
(7.3)
21
14
19
21
75
2
77
Less than 12 months
12 months or more
Total
Fair
value
Unrealized
losses
Number
of
positions
Fair
value
Unrealized
losses
Number
of
positions
Fair
value
Unrealized
losses
Number
of
positions
$ 109.6
$
(6.5)
29
$
— $
—
— $ 109.6
$
(6.5)
206.4
105.6
103.6
525.2
5.3
(14.7)
(3.2)
(3.3)
(27.7)
(0.3)
76
22
25
152
2
25.6
40.9
19.3
85.8
—
(2.2)
(3.5)
(0.8)
(6.5)
—
(6.5)
7
8
10
25
—
25
232.0
146.5
122.9
611.0
5.3
(16.9)
(6.7)
(4.1)
(34.2)
(0.3)
$ 616.3
$
(34.5)
29
83
30
35
177
2
179
Total temporarily impaired securities
$ 530.5
$
(28.0)
154
$
85.8
$
The following table sets forth the realized losses related to other-than-temporary impairments on the Company’s investment
portfolio recognized for the years ended December 31, 2014, 2013 and 2012:
($ millions)
Equity securities:
Large-cap securities
Small-cap securities
Fixed maturities
Total other-than-temporary impairments
2014
2013
2012
$
$
(0.3) $
(2.2)
—
(2.5) $
(1.8) $
(2.2)
—
(4.0) $
—
(3.2)
(0.2)
(3.4)
The Company reviewed its investments at December 31, 2014, and determined no additional other-than-temporary
impairment exists in the gross unrealized holding losses.
803Fin.pdf
92
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth the amortized cost and fair value of available-for-sale fixed maturities by contractual maturity
at December 31, 2014:
($ millions)
Due in 1 year or less
Due after 1 year through 5 years
Due after 5 years through 10 years
Due after 10 years
U.S. government agencies residential mortgage-backed securities
Total
Amortized
cost
Fair
value
$
$
55.7
369.8
299.9
647.2
458.7
1,831.3
$
$
56.5
382.4
312.4
668.1
472.5
1,891.9
Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay the obligations
with or without call or prepayment penalties.
At December 31, 2014, State Auto P&C had fixed maturity securities, with a carrying value of approximately $85.0 million,
that were pledged as collateral for the FHLB Loan (as defined in Note 7). In accordance with the terms of the FHLB Loan, State
Auto P&C retains all rights regarding these securities, which are included in the "U.S. government agencies residential mortgage-
backed securities" classification of the Company's fixed maturity securities portfolio.
Fixed maturities with fair values of approximately $8.8 million and $8.7 million were on deposit with insurance regulators
as required by law at December 31, 2014 and 2013, respectively.
The following table sets forth the components of net investment income for the years ended December 31, 2014, 2013 and
2012:
($ millions)
Fixed maturities
Equity securities
Cash and cash equivalents, and other
Investment income
Investment expenses
Net investment income
2014
2013
2012
$
$
64.3
6.2
6.2
76.7
2.0
74.7
$
$
63.2
6.0
5.7
74.9
2.1
72.8
$
$
66.9
4.9
5.6
77.4
2.0
75.4
The Company’s current investment strategy does not rely on the use of derivative financial instruments.
Proceeds on sales of available-for-sale securities in 2014, 2013 and 2012 were $263.3 million, $220.4 million and $435.3
million, respectively.
803Fin.pdf
93
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth the realized and unrealized holding gains (losses) on the Company’s investment portfolio for
the years ended December 31, 2014, 2013 and 2012:
($ millions)
Realized gains:
Fixed maturities
Equity securities
Other invested assets
Total realized gains
Realized losses:
Equity securities:
Sales
OTTI
Fixed maturities:
Sales
OTTI
Total realized losses
Net realized gains on investments
Change in unrealized holding gains (losses), net of tax:
Fixed maturities
Equity securities
Other invested assets
Deferred federal income tax
Valuation allowance
Change in unrealized holding gains (losses), net of tax
2014
2013
2012
$
$
$
$
$
3.1
21.3
0.1
24.5
(1.3)
(2.5)
—
—
(3.8)
20.7
34.5
6.2
(1.6)
(13.7)
—
25.4
$
$
$
$
2.5
26.1
0.1
28.7
(1.2)
(4.0)
(0.3)
—
(5.5)
23.2
$
(102.8) $
36.5
16.0
17.6
(6.7)
(39.4) $
15.7
19.0
0.1
34.8
(2.6)
(3.2)
—
(0.2)
(6.0)
28.8
11.3
6.6
6.8
(8.6)
9.2
25.3
There was a deferred federal income tax liability on the net unrealized holding gains at December 31, 2014 of $55.3 million
and a deferred federal income tax liability, net of a valuation allowance, on the net unrealized holding gains at December 31, 2013
of $41.6 million.
3. Fair Value of Financial Instruments
Below is the fair value hierarchy that categorizes into three levels the inputs to valuation techniques that are used to measure
fair value.
• Level 1 includes observable inputs which reflect quoted prices for identical assets or liabilities in active markets at the
measurement date.
• Level 2 includes observable inputs for assets or liabilities other than quoted prices included in Level 1, and it includes
valuation techniques which use prices for similar assets and liabilities.
• Level 3 includes unobservable inputs which reflect the reporting entity’s estimates of the assumptions that market
participants would use in pricing the asset or liability (including assumptions about risk).
The Company utilizes one nationally recognized pricing service to estimate the majority of its available-for-sale investment
portfolio’s fair value. The Company obtains one price per security. The Company’s processes and control procedures are designed
to ensure the price is accurately recorded on an unadjusted basis. Through discussions with the pricing service, the Company
obtains an understanding of the methodologies used to price the different types of securities, that the data and the valuation methods
utilized are appropriate and consistently applied, and that the assumptions are reasonable and representative of fair value. To
validate the reasonableness of the valuations obtained from the pricing service, the Company compares the valuations received to
other fair value pricing from other independent pricing sources. At December 31, 2014 and 2013, the Company did not adjust any
of the prices received from the pricing service.
803Fin.pdf
94
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Transfers between levels may occur due to changes in the availability of market observable inputs. Transfers in and out of
levels are reported as having occurred at the beginning of the quarter in which the transfer occurred. There were no transfers
between levels during the years ended December 31, 2014 and 2013.
The following sections describe the valuation methods used by the Company for each type of financial instrument carried
at fair value.
Fixed Maturities
The fair value estimate of the Company’s fixed maturity investments are determined by evaluations that are based on
observable market information rather than market quotes. Inputs to the evaluations include, but are not limited to, market prices
from recently completed transactions and transactions of comparable securities, interest rate yield curves, credit spreads, and other
market-observable information. The fixed maturity portfolio pricing obtained from the pricing service is reviewed for
reasonableness. Regularly, samples of security prices are referred back to the pricing service for more detailed explanation as to
how the pricing service arrived at that particular price. The explanations are reviewed for reasonableness by the portfolio manager
or investment officer. Additionally, the prices and assumptions are verified against an alternative pricing source for reasonableness
and accuracy. Any discrepancies with the pricing are returned to the pricing service for further explanation and if necessary,
adjustments are made. To date, the Company has not identified any significant discrepancies in the pricing provided by its third
party pricing service. Investments valued using these inputs include U.S. treasury securities and obligations of U.S. government
agencies, obligations of states and political subdivisions, corporate securities (except for two securities discussed below), and U.S.
government agencies residential mortgage-backed securities. All unadjusted estimates of fair value for fixed maturities priced by
the pricing service are included in the amounts disclosed in Level 2 of the hierarchy. If market inputs are unavailable, then no fair
value is provided by the pricing service. For these securities, fair value is determined either by requesting brokers who are
knowledgeable about these securities to provide a quote; or the Company internally determines the fair values by employing widely
accepted pricing valuation models, and depending on the level of observable market inputs, renders the fair value estimate as Level
2 or Level 3. The Company holds two fixed maturity corporate securities included in Level 3. The Company estimates the fair
value of one security using the present value of the future cash flows and the Company obtains a broker quote of the other security’s
fair value. Due to the limited amount of observable market information for both of these securities, the Company includes the fair
value estimates in Level 3.
Equities
The fair value of each equity security is based on an observable market price for an identical asset in an active market and
is priced by the same pricing service discussed above. All equity securities are recorded using unadjusted market prices and have
been disclosed in Level 1.
Other Invested Assets
Included in other invested assets are two international funds (“the funds”) that invest in equity securities of foreign issuers
and are managed by third party investment managers. The funds had a fair value of $72.9 million and $74.2 million at December 31,
2014 and 2013, respectively, which was determined using each fund’s net asset value. The Company employs procedures to assess
the reasonableness of the fair value of the funds including obtaining and reviewing each fund’s audited financial statements. There
are no unfunded commitments related to the funds. The Company may not sell its investment in the funds; however, the Company
may redeem all or a portion of its investment in the funds at net asset value per share with the appropriate prior written notice.
The funds are disclosed in Level 2 within the hierarchy due to the Company’s ability to redeem its investment in the funds at net
asset value per share at the measurement date.
The remainder of the Company’s other invested assets consist of holdings in publicly-traded mutual funds. The Company
believes that its prices for these publicly-traded mutual funds, based on an observable market price for an identical asset in an
active market, reflect their fair values and consequently these securities have been disclosed in Level 1.
803Fin.pdf
95
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following tables set forth the Company’s available-for-sale investments within the fair value hierarchy at December 31,
2014 and 2013:
($ millions)
December 31, 2014
Fixed maturities:
U.S. treasury securities and obligations of U.S.
government agencies
Obligations of states and political subdivisions
Corporate securities
U.S. government agencies residential mortgage-backed
securities
Total fixed maturities
Equity securities:
Large-cap securities
Small-cap securities
Total equity securities
Other invested assets
Total available-for-sale investments
($ millions)
December 31, 2013
Fixed maturities:
U.S. treasury securities and obligations of U.S.
government agencies
Obligations of states and political subdivisions
Corporate securities
U.S. government agencies residential mortgage-backed
securities
Total fixed maturities
Equity securities:
Large-cap securities
Small-cap securities
Total equity securities
Other invested assets
Total available-for-sale investments
Quoted prices
in active
markets for
identical
assets
(Level 1)
Significant
other
observable
inputs
(Level 2)
Significant
unobservable
inputs
(Level 3)
Total
$
309.3
769.5
340.6
— $
—
—
$
309.3
769.5
331.2
472.5
1,891.9
242.2
68.2
310.4
80.3
2,282.6
$
—
—
242.2
68.2
310.4
7.4
317.8
$
472.5
1,882.5
—
—
—
72.9
1,955.4
$
—
—
9.4
—
9.4
—
—
—
—
9.4
Quoted prices
in active
markets for
identical
assets
(Level 1)
Significant
other
observable
inputs
(Level 2)
Significant
unobservable
inputs
(Level 3)
Total
$
352.4
774.2
349.7
— $
—
—
$
352.4
774.2
340.8
353.8
1,830.1
194.4
70.9
265.3
80.9
2,176.3
$
—
—
194.4
70.9
265.3
6.7
272.0
$
353.8
1,821.2
—
—
—
74.2
1,895.4
$
—
—
8.9
—
8.9
—
—
—
—
8.9
$
$
$
$
96
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
For assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3), the following tables
set forth a reconciliation of the beginning and ending balances for 2014 and 2013, separately for each major category of assets:
($ millions)
Balance at January 1, 2014
Total realized gains (losses)—included in earnings
Total unrealized gains (losses)—included in other comprehensive income
Purchases
Sales
Transfers into Level 3
Transfers out of Level 3
Balance at December 31, 2014
($ millions)
Balance at January 1, 2013
Total realized gains (losses)—included in earnings
Total unrealized gains (losses)—included in other comprehensive income
Purchases
Sales
Transfers into Level 3
Transfers out of Level 3
Balance at December 31, 2013
Fixed
maturities
8.9
—
0.2
0.3
—
—
—
9.4
Fixed
maturities
8.5
—
0.2
0.2
—
—
—
8.9
$
$
$
$
803Fin.pdf
97
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Financial Instruments Disclosed, But Not Carried, At Fair Value
Other Invested Assets
Included in other invested assets are the FHLB membership common stock ("FHLB common stock"), purchased when
State Auto P&C joined the FHLB in 2013, and the Trust Securities (as defined in Note 6b). The Trust Securities and FHLB
common stock are carried at cost, which approximates fair value. The fair value of the FHLB common stock at December 31,
2014 was $4.8 million and the fair value of the Trust Securities were $0.5 million. Both investments have been placed in Level
3 of the fair value hierarchy.
Notes Receivable from Affiliates
In May 2009, the Company entered into two separate credit agreements with State Auto Mutual pursuant to which it loaned
State Auto Mutual a total of $70.0 million. The Company estimates the fair value of the notes receivable from affiliates using
market quotations for U.S. treasury securities with similar maturity dates and applies an appropriate credit spread. This has been
placed in Level 2 of the fair value hierarchy.
($ millions, except interest rates)
December 31, 2014
Fair
value
Carrying
value
Interest
rate
Carrying
value
December 31, 2013
Fair
value
Interest
rate
Notes receivable from affiliate
$
70.0
$
74.6
7.00% $
70.0
$
74.6
7.00%
Notes Payable
Included in notes payable are the FHLB Loan and Subordinated Debentures. The Company estimates the fair value of the
FHLB Loan by discounting cash flows using a borrowing rate currently available to the Company for a loan with similar terms.
This has been placed in Level 3 of the fair value hierarchy. The carrying amount of the Subordinated Debentures approximates its
fair value as the interest rate adjusts quarterly and has been disclosed in Level 3.
($ millions, except interest rates)
December 31, 2014
Fair
Value
Carrying
value
Interest
rate
Carrying
value
December 31, 2013
Fair
value
Interest
rate
FHLB Loan due 2033:, issued $85.0,
July 2013 with fixed interest
Affiliate Subordinated Debentures due
2033: issued $15.5, May 2003 with
variable interest
Total notes payable
$
$
85.3
$
86.4
5.03% $
85.3
$
85.7
5.03%
15.5
100.8
$
15.5
101.9
4.44%
15.5
100.8
$
15.5
101.2
$
4.44%
803Fin.pdf
98
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
4. Losses and Loss Expenses Payable
The following table sets forth the activity in the liability for losses and loss expenses for the years ended December 31:
($ millions)
Losses and loss expenses payable, at beginning of year
Less: reinsurance recoverable on losses and loss expenses payable
Net balance at beginning of year
$
Incurred related to:
Current year
Prior years
Total incurred
Paid related to:
Current year
Prior years
Total paid
Net balance at end of year
Plus: reinsurance recoverable on losses and loss expenses payable
Losses and loss expenses payable, at end of year (affiliates $494.3, $438.0 and
$435.1, respectively)
2014
2013
2012
959.9
9.1
950.8
726.2
45.1
771.3
373.2
375.3
748.5
973.6
9.6
$
$
942.2
13.5
928.7
741.0
(21.2)
719.8
355.0
342.7
697.7
950.8
9.1
907.1
25.5
881.6
795.2
(16.9)
778.3
397.2
334.0
731.2
928.7
13.5
$
983.2
$
959.9
$
942.2
The Company recorded adverse development related to prior years' loss and loss expense reserves in 2014 of $45.1 million,
compared to favorable development for 2013 and 2012 of $21.2 million and $16.9 million, respectively. Favorable development
of unallocated loss adjustment expenses contributed approximately $12.5 million of the 2014 development, while favorable
development of catastrophe reserves was approximately $5.2 million, which was slightly lower than 2013. The personal and
business insurance segments non-catastrophe loss and ALAE reserves accounted for $23.1 million of favorable development. The
business insurance segment contributed $16.7 million of favorable development, driven by the other & product liability and
commercial auto lines with $11.9 million and $5.3 million of favorable development, respectively. The favorable development
in these lines was driven by the emergence of lower than anticipated claim severity from accident years 2012 and prior. The
personal insurance segment contributed $6.4 million of favorable development, primarily from accident year 2013. Somewhat
offsetting the favorable development was adverse development of $2.1 million in the commercial multi-peril line, driven by third
party liability coverage. The specialty insurance segment non-catastrophe loss and ALAE reserves accounted for $85.9 million
of adverse development, driven by RED reserve strengthening of $96.7 million related to a large restaurant program and a
commercial auto trucking program. Somewhat offsetting the unfavorable development was favorable development of $5.7 million
in the Workers' compensation unit, $3.9 million in the E&S property unit and $2.1 million in the E&S casualty unit. These results
were driven by better than anticipated severity emerging from the 2012 and 2013 accident years.
Favorable development of unallocated loss adjustment expenses contributed approximately $8.0 million of the 2013
development, while $5.4 million was attributable to favorable development on catastrophe reserves, which is lower than 2012,
but, in line with the Company's historical favorable development. The personal and business insurance segments non-catastrophe
loss and ALAE reserves accounted for $18.3 million of favorable development driven by the other & product liability, commercial
auto and homeowners lines with $8.3 million, $8.0 million and $2.9 million of favorable development, respectively. The favorable
development in these lines was driven by the emergence of lower than anticipated claim severity. Somewhat offsetting the favorable
development was adverse development in the personal auto line, specifically the no-fault coverage. The specialty insurance
segment non-catastrophe loss and ALAE reserves accounted for $10.5 million of adverse development, driven by RED reserve
strengthening of $21.3 million related to a large restaurant program and a commercial auto trucking program. Somewhat offsetting
the unfavorable development was favorable development of workers' compensation reserves of $12.3 million driven by better than
anticipated severity emerging across all accident years, with approximately one third coming from accident year 2012.
Favorable development on prior years loss adjustment expense reserves contributed approximately $6.3 million of the 2012
development, while $10.4 million was attributable to favorable development on catastrophe reserves from accident year 2011. The
personal and business insurance segments' non-catastrophe loss and ALAE reserves accounted for $28.0 million of favorable
development related to the latest three accident years, primarily in the personal auto liability, other & product liability, and fire &
allied lines with $10.5 million, $9.4 million and $5.1 million of favorable development, respectively. The favorable development
in these lines was driven by emergence of lower than anticipated claim severity. The specialty insurance segment non-catastrophe
99
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
loss and ALAE reserves accounted for $27.8 million of adverse development related to the latest two accident years, which was
driven by RED reserve strengthening.
5. Reinsurance
In the ordinary course of business, the Company assumes and cedes reinsurance with other insurers and reinsurers and is a
member in various pools and associations. See Note 6a for discussion of reinsurance with affiliates. The voluntary arrangements
provide greater diversification of business and limit the maximum net loss potential arising from large risks and catastrophes. Most
of the ceded reinsurance is effected under reinsurance contracts known as treaties; the remainder is by negotiation on individual
risks. Although the ceding of reinsurance does not discharge the original insurer from its primary liability to its policyholder, the
insurance company that assumes the coverage assumes the related liability.
Amounts recoverable from reinsurers are estimated in a manner consistent with the claim liability associated with the reinsured
business. The recoverability of these assets depends on the reinsurers’ ability to perform under the reinsurance agreements. The
Company evaluates and monitors the financial condition and concentrations of credit risk associated with its reinsurers under
voluntary reinsurance arrangements to minimize its exposure to significant losses from reinsurer insolvencies. The Company has
reported ceded losses and loss expenses payable and prepaid reinsurance premiums with other insurers and reinsurers as assets.
All reinsurance contracts provide for indemnification against loss or liability relating to insurance risk and have been accounted
for as reinsurance.
On December 31, 2011, the State Auto Group entered into the Homeowners Quota Share Arrangement, which was a three-
year quota share agreement covering its homeowners line of business. Under the arrangement, the State Auto Group ceded to
reinsurers 75% of its homeowners business under policies in force at the effective date and new and renewal policies thereafter
issued during the term of the agreement. The arrangement expired on December 31, 2014. The Company received $89.5 million
of unearned premiums related to the expiration of this arrangement. Subject to the terms and conditions of the arrangement, the
participating reinsurers’ margin was capped at 9.0%, with any excess returned to the Company in the form of profit commission.
For the year ended December 31, 2014, the Company recognized $19.0 million of profit commission, reflected as a reduction in
acquisition and operating expenses on the consolidated statements of income. The amount of ceding commission earned was
limited to the amount of deferred acquisition costs that would have been deferred if not for entering in the arrangement. As a result
of the expiration of the HO QS Arrangement, the Company recognized $8.1 million of excess ceding commission that had previously
been deferred, reflected as a reduction in acquisition and operating expenses on the consolidated statements of income for the year
ended December 31, 2014. For the years ended December 31, 2013 and 2012, the Company recognized $8.6 million and $8.4
million, respectively, of excess ceding commission as a deferred liability on the consolidated balance sheet.
The following table sets forth the effect of the Company’s external reinsurance on its balance sheets at December 31, 2014
and 2013, prior to the reinsurance transaction with State Auto Mutual under the Pooling Arrangement, as discussed in Note 6a:
($ millions)
Losses and loss expenses payable:
Direct
Assumed
Ceded
Net losses and loss expenses payable
Unearned premiums:
Direct
Assumed
Ceded
Net unearned premiums
2014
2013
$
$
$
$
484.4
4.5
(9.6)
479.3
409.7
1.0
(6.1)
404.6
$
$
$
$
516.9
5.0
(9.1)
512.8
411.6
1.0
(4.7)
407.9
803Fin.pdf
100
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth the effect of the Company’s external reinsurance on its income statements for the years ended
December 31, 2014, 2013 and 2012, prior to the reinsurance transaction with State Auto Mutual under the Pooling Arrangement,
as discussed in Note 6a:
($ millions)
Written premiums:
Direct
Assumed
Ceded
Net written premiums
Earned premiums:
Direct
Assumed
Ceded
Net earned premiums
Losses and loss expenses incurred:
Direct
Assumed
Ceded
Net losses and loss expenses incurred
6. Transactions with Affiliates
a. Reinsurance
2014
2013
2012
$
$
$
$
$
$
880.6
4.4
(26.8)
858.2
882.6
4.4
(25.3)
861.7
525.6
2.9
(8.0)
520.5
$
$
$
$
$
$
886.7
3.9
(24.3)
866.3
874.7
3.8
(23.5)
855.0
559.1
3.0
(4.8)
557.3
$
$
$
$
$
$
860.1
4.0
(24.3)
839.8
833.3
4.1
(28.2)
809.2
577.4
3.6
(6.4)
574.6
The insurance subsidiaries of State Auto Financial, including State Auto Property & Casualty Insurance Company (“State
Auto P&C”), Milbank Insurance Company and State Auto Insurance Company of Ohio (collectively referred to as the “STFC
Pooled Companies”) participate in a quota share reinsurance pooling arrangement (“the Pooling Arrangement”) with State Auto
Mutual which includes Meridian Citizens Mutual Insurance Company (merged with State Auto Mutual at the close of business on
July 2, 2014), and its subsidiaries and affiliates, State Auto Insurance Company of Wisconsin, Meridian Security Insurance
Company, Patrons Mutual Insurance Company of Connecticut, Rockhill Insurance Company, Plaza Insurance Company, American
Compensation Insurance Company and Bloomington Compensation Insurance Company, (collectively referred to as the “Mutual
Pooled Companies”). State Auto P&C, Milbank and SA Ohio are referred to as the “STFC Pooled Companies,” State Auto Mutual,
SA Wisconsin, Meridian Security and Patrons Mutual are referred to as the “Mutual Pooled Companies,” and RIC, Plaza, American
Compensation and Bloomington Compensation are referred to as the "Rockhill Insurers." The STFC Pooled Companies, the
Mutual Pooled Companies and the Rockhill Insurers are collectively referred to as the “State Auto Group.”
In general, under the Pooling Arrangement, the STFC Pooled Companies and the Mutual Pooled Companies other than State
Auto Mutual cede to State Auto Mutual all of their insurance business and assume from State Auto Mutual an amount equal to
their respective participation percentages in the Pooling Arrangement. All premiums, losses and loss expenses and underwriting
expenses are allocated among the participants on the basis of each Company’s participation percentage in the Pooling Arrangement.
The Pooling Arrangement provides indemnification against loss or liability relating to insurance risk and has been accounted for
as reinsurance.
The Pooling Arrangement does not relieve each individual pooled subsidiary of its primary liability as the originating insurer;
consequently, there is a concentration of credit risk arising from business ceded to State Auto Mutual. As the Pooling Arrangement
provides for the right of offset, the Company has reported losses and loss expenses payable and prepaid reinsurance premiums to
State Auto Mutual as assets only in situations when net amounts ceded to State Auto Mutual exceed net amounts assumed. All
parties that participate in the Pooling Arrangement have an A.M. Best rating of A (Excellent).
803Fin.pdf
101
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth the reinsurance transactions on the Company’s balance sheets for the Pooling Arrangement
between the STFC Pooled Companies and State Auto Mutual at December 31, 2014 and 2013:
($ millions)
Assets
Deferred policy acquisition costs:
Ceded
Assumed
Net assumed
Liabilities and Stockholders' Equity
Losses and loss expenses payable:
Ceded
Assumed
Net assumed
Unearned premiums:
Ceded
Assumed
Net assumed
Pension and postretirement benefits:
Ceded
Assumed
Net ceded
Other liabilities:
Ceded
Assumed
Net ceded
Stockholders' Equity
Accumulated other comprehensive income:
Ceded
Assumed
Net ceded
2014
2013
(79.7) $
126.5
46.8
$
(77.6)
96.8
19.2
(479.3) $
973.6
494.3
$
(404.6) $
606.3
201.7
$
(180.5) $
117.3
(63.2) $
(70.7) $
65.6
(5.1) $
(512.8)
950.8
438.0
(407.9)
486.3
78.4
(106.5)
69.2
(37.3)
(47.2)
67.2
20.0
(186.0) $
120.9
(65.1) $
(117.1)
76.1
(41.0)
$
$
$
$
$
$
$
$
$
$
$
$
803Fin.pdf
102
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth the reinsurance transactions on the Company’s income statements for the Pooling Arrangement
between the STFC Pooled Companies and State Auto Mutual for the years ended December 31, 2014, 2013 and 2012:
($ millions)
Written premiums:
Ceded
Assumed
Net assumed
Earned premiums:
Ceded
Assumed
Net assumed
Losses and loss expenses incurred:
Ceded
Assumed
Net assumed
Acquisition and operating expenses:
Ceded
Assumed
Net assumed
2014
2013
2012
$
$
$
$
$
$
$
(858.2) $
1,194.2
336.0
$
(866.3) $
1,062.1
195.8
$
(861.7) $
1,074.1
212.4
$
(855.0) $
1,055.0
200.0
$
(523.6) $
774.4
250.8
$
(215.4)
372.3
156.9
$
(560.2) $
722.7
162.5
$
(192.6)
365.3
172.7
$
(839.9)
1,055.3
215.4
(809.2)
1,042.1
232.9
(575.7)
779.4
203.7
(161.8)
352.6
190.8
Intercompany Balances
Pursuant to the Pooling Arrangement, State Auto Mutual receives all premiums and pays all losses and expenses associated
with the insurance business produced by the pool participants and then settles the intercompany balances generated by these
transactions with the participating companies on a quarterly basis within 60 days following each quarter end. No interest is paid
on this balance. When settling the intercompany balances, State Auto Mutual provides the pool participants with full credit for the
premiums written and net losses paid during the quarter and retains all receivable amounts from insureds and agents and reinsurance
recoverable on paid losses from unaffiliated reinsurers. Any receivable amounts that are ultimately deemed to be uncollectible are
charged-off by State Auto Mutual and allocated to the pool members on the basis of pool participation. As a result, the Company
has an off-balance sheet credit risk related to the balances due to State Auto Mutual from insurers, agents and reinsurers, which
are offset by the unearned premium from the respective policies. The Company’s share of the premium balances due to State Auto
Mutual from agents and insureds at December 31, 2014 and 2013 is approximately $297.0 million and $295.5 million, respectively.
b. Notes Payable
In May 2003, State Auto Financial formed a Delaware business trust (the “Capital Trust”) to issue $15.0 million of mandatorily
redeemable preferred capital securities to a third party and $0.5 million of common securities to State Auto Financial (the capital
and common securities are collectively referred to as the “Trust Securities”). The Capital Trust loaned $15.5 million, the proceeds
from the issuance of its Trust Securities, to State Auto Financial in the form of Floating Rate Junior Subordinated Debt Securities
due in 2033 (the “Subordinated Debentures”). The Subordinated Debentures and interest accrued thereon are the Capital Trust’s
only assets. Interest on the Trust Securities is payable quarterly at a rate equal to the three-month LIBOR rate plus 4.20% adjusted
quarterly (total 4.44% at December 31, 2014). Because the interest rate and interest payment dates on the Subordinated Debentures
are the same as the interest rate and interest payment dates on the Trust Securities, payments from the Subordinated Debentures
finance the distributions paid on the Trust Securities. State Auto Financial has the right to redeem the Subordinated Debentures,
in whole or in part, on or after May 2008. State Auto Financial has unconditionally and irrevocably guaranteed payment of any
required distributions on the capital securities, the redemption price when the capital securities are to be redeemed, and any amounts
due if the Capital Trust is liquidated or terminated. State Auto Financial’s equity interest in the Capital Trust is included in other
invested assets. In accordance with the Consolidation Topic of the FASB ASC 810, State Auto Financial determined that the
business trust is a variable interest entity for which it is not the primary beneficiary and therefore, does not consolidate the Capital
Trust with the Company.
803Fin.pdf
103
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
c. Notes Receivable
In May 2009, the Company entered into two separate credit agreements with State Auto Mutual pursuant to which it loaned
State Auto Mutual a total of $70.0 million. Interest is payable semi-annually at a fixed annual interest rate of 7.00%, with the
principal payable in May 2019. There is no prepayment penalty, and no collateral was given as security for the payment of this
loan.
Under these agreements, the Company earned interest of $4.9 million for each of the three years ended December 31, 2014,
2013 and 2012, respectively. See Note 3 for the notes receivable fair value discussion.
d. Management Services
Stateco provides State Auto Mutual and its affiliates investment management services. Investment management income is
recognized quarterly based on a percentage of the average fair value of investable assets and the equity portfolio performance of
each company managed. Revenue related to these services amounted to $1.5 million, $1.6 million and $2.9 million in 2014, 2013
and 2012, respectively, and is included in other income (affiliates) on the consolidated statements of income.
7. Notes Payable and Credit Facility
FHLB Loan
On July 11, 2013, State Auto Financial's subsidiary, State Auto P&C, borrowed $85.0 million (the "FHLB Loan") from the
FHLB. The FHLB Loan is a 20-year term loan and is callable after three years with no prepayment penalty thereafter. The FHLB
Loan provides for interest-only payments during its term, with principal due in full at maturity. The interest rate is fixed over the
term of the loan at 5.03%. The FHLB Loan is fully secured by a pledge of specific investment securities of State Auto P&C.
Senior Note Redemption
On July 15, 2013, State Auto Financial redeemed all $100.0 million of its outstanding Senior Notes. The redemption price
of $103.0 million was calculated in accordance with the terms of the Senior Notes and included principal plus a make-whole
amount. The redemption price was funded by proceeds from the FHLB Loan and cash on hand.
Credit Facility
On July 26, 2013, State Auto Financial terminated its then-current credit agreement with a syndicate of lenders, as further
described below. Concurrent with the termination of this credit agreement, State Auto P&C entered into a new credit facility (the
“SPC Credit Facility”) with a syndicate of lenders. The SPC Credit Facility provides State Auto P&C with a $100.0 million five-
year revolving credit facility maturing in July 2018. During the term of the SPC Credit Facility, State Auto P&C has the right to
increase the total facility to a maximum amount of $150.0 million, provided that no event of default has occurred and is continuing.
The SPC Credit Facility is available for general corporate purposes and provides for interest-only payments during its term, with
principal and interest due in full at maturity. Interest is based on the London Interbank Offered Rate ("LIBOR") or a base rate
plus a calculated margin amount. All advances under the SPC Credit Facility are to be fully secured by a pledge of specific
investment securities of State Auto P&C. The SPC Credit Facility includes certain requirements, including financial requirements
that State Auto Financial maintain a minimum net worth and a certain debt to capitalization ratio.
As of December 31, 2014, State Auto P&C had not made any borrowings and both State Auto P&C and State Auto Financial
were in compliance with all covenants and requirements of the SPC Credit Facility.
803Fin.pdf
104
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
8. Federal Income Taxes
The following table sets forth the reconciliation between actual federal income tax (benefit) expense and the amount computed
at the indicated statutory rate for the years ended December 31, 2014, 2013 and 2012:
($ millions)
Amount at statutory rate
Tax-exempt interest and dividends received deduction
Other, net
Valuation allowance
$
2014
2013
2012
9.4
(8.5)
1.1
(82.6)
35.0 % $
(32.0)
4.0
(308.0)
21.5
(9.4)
0.2
(11.8)
35.0% $
(15.0)
—
(19.0)
3.7
(9.1)
0.5
4.8
35.0 %
(85.0)
4.0
45.0
Federal income tax (benefit) expense and
effective rate
$
(80.6)
(301.0)% $
0.5
1.0% $
(0.1)
(1.0)%
The following table sets forth the tax effects of temporary differences that give rise to significant portions of deferred tax
assets and deferred tax liabilities at December 31, 2014 and 2013:
($ millions)
Deferred tax assets:
Unearned premiums not currently deductible
Losses and loss expenses payable discounting
Postretirement and pension benefits
Realized loss on other-than-temporary impairment
Other liabilities
Net operating loss carryforward
Tax credit carryforward
Other
Total deferred tax assets
Deferred tax liabilities:
Deferral of policy acquisition costs
Net unrealized holding gains on investments
Total deferred tax liabilities
Total net deferred tax assets before valuation allowance
Less valuation allowance
Net deferred federal income taxes
2014
2013
$
$
42.2
21.0
41.1
8.4
22.2
58.0
1.9
4.7
199.5
44.3
57.8
102.1
97.4
—
97.4
$
$
33.8
21.6
24.9
7.5
17.3
56.5
1.7
9.2
172.5
33.9
44.1
78.0
94.5
82.6
11.9
Deferred income tax assets and liabilities represent the tax effect of the differences between the financial statement carrying
value of existing assets and liabilities and their respective tax bases. The Company periodically evaluates its deferred tax assets,
which requires significant judgment, to determine if they are realizable based upon weighing all available evidence, both positive
and negative, including loss carryback potential, past operating results, existence of cumulative losses in the most recent years,
projected performance of the business, future taxable income, including the ability to generate capital gains, and prudent and
feasible tax planning strategies. In making such judgments, significant weight is given to evidence that can be objectively verified.
During 2011, the Company determined that a valuation allowance should be established due to the magnitude of the
catastrophe losses from unprecedented storms experienced industry wide. As part of its assessment of the appropriateness of the
deferred tax asset valuation allowance at December 31, 2014, management considered the following positive evidence: (i) three-
year cumulative pre-tax income of $98.7 million, (ii) three consecutive years of pre-tax income, (iii) the expiration of the HO QS
Arrangement under which we ceded 75% of our homeowners line underwriting results to the participating reinsurers, (iv) the
actions the Company took (including reserve strengthening and entering into an ADC reinsurance agreement protecting against
the risk of further adverse development for one of the programs) with respect to the terminated RED program business, which
significantly reduced the Company's reported financial results since 2011, (v) more adequate pricing, which has contributed to
improved underwriting margins, and (vi) profitable growth within the specialty insurance segment, excluding the terminated RED
program business. Management concluded that this positive evidence outweighed available negative evidence and further
concluded that a valuation allowance against the Company's net deferred tax assets was no longer appropriate. As a result, the
105
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
valuation allowance was reversed at December 31, 2014. With the reversal of the valuation allowance at December 31, 2014, the
Company recorded an income tax benefit of $82.6 million. At December 31, 2013, the valuation allowance was $82.6 million,
with $11.8 million recorded as a reduction of income tax expense in the income statement.
At December 31, 2014, the tax benefit of the net operating loss carryforward was $58.0 million; if not used, it will expire
in 2032.
At December 31, 2014, the Company carried no balance for uncertain tax positions. The Company had no accrual for the
payment of interest and penalties at December 31, 2014 or 2013.
State Auto Financial and its subsidiaries file a consolidated U.S. federal income tax return. State Auto Financial and its
subsidiaries also file in various state jurisdictions. The Company is no longer subject to U.S. federal or state and local income tax
examinations by tax authorities for years before 2012. The Company has no current U.S. federal or state and local income tax
examinations on-going at this time.
9. Pension and Postretirement Benefit Plans
The Company, through the employees of State Auto P&C, provides management and operation services under management
agreements for all insurance and non-insurance affiliates. The annual periodic costs related to the Company’s benefit plans are
allocated to affiliated companies based on allocations pursuant to intercompany management agreements including the Pooling
Arrangement for insurance subsidiaries and affiliates party to this agreement.
The Company provides a defined benefit pension plan for its eligible employees. Substantially all Company employees hired
prior to January 1, 2010 become eligible to participate the year after becoming 20 years of age and vest with 5 years of credited
service or attaining age 65. The Company’s policy is to fund pension costs in accordance with the requirements of the Employee
Retirement Income Security Act of 1974. Benefits are determined by applying factors specified in the plan to a participant’s defined
average annual compensation.
The defined benefit pension and postretirement benefit plans are referred to herein as “the benefit plans.”
The following table sets forth information regarding the pension and postretirement benefit plans’ change in benefit obligation,
plan assets and funded status at December 31, 2014 and 2013:
($ millions)
Change in benefit obligation:
Benefit obligation at beginning of year
Service cost
Interest cost
Actuarial loss (gain)
Benefits paid
The Company’s portion of benefit obligation at end of year
Change in plan assets available for plan benefits:
Fair value of plan assets available for plan benefits at beginning of year
Employer contribution
Actual return on plan assets
Benefits paid
$
$
$
The Company’s portion of fair value of plan assets at end of year $
Supplemental executive retirement plan
Funded status at end of year
Accumulated benefit obligation end of year
$
$
Pension
Postretirement
2014
2013
2014
2013
230.5
4.6
10.8
57.3
(10.7)
292.5
$
$
246.1
6.1
9.6
(19.6)
(11.7)
230.5
$
$
22.3
—
1.1
1.7
(1.2)
23.9
$
$
$
185.9
13.0
16.9
(10.7)
205.1
(6.3)
(93.7) $
260.1
$
$
$
162.2
13.0
22.4
(11.7)
185.9
(6.0)
(50.6) $
211.2
$
$
1.3
—
—
(1.0)
0.3
—
(23.6) $
$
25.1
—
1.0
(2.6)
(1.2)
22.3
1.8
—
0.3
(0.8)
1.3
—
(21.0)
No assets are expected to be returned during the fiscal year ending December 31, 2014.
803Fin.pdf
106
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth the Company’s share of the amounts included in accumulated other comprehensive income
(loss) that have not been recognized in net periodic cost at December 31, 2014 and 2013:
($ millions)
Prior service benefit
Net actuarial loss
Total
2014
2013
$
$
(64.9) $
141.9
77.0
$
(70.3)
94.3
24.0
The following table sets forth the Company’s share of amortization expected to be recognized for the year ending
December 31, 2015:
($ millions)
Prior service benefit
Net actuarial loss
Total
2015
(5.4)
11.5
6.1
$
$
The following table sets forth information regarding the Company’s share of pension and postretirement benefit plans’
components of net periodic cost for the years ended December 31, 2014, 2013 and 2012:
($ millions)
Components of net periodic cost:
Service cost
Interest cost
Expected return on plan assets
Amortization of:
Prior service cost (benefit)
Net actuarial loss
Net periodic cost (benefit)
2014
Pension
2013
2012
2014
Postretirement
2013
2012
$
$
5.2
11.1
(12.6)
—
6.3
10.0
$
$
6.1
9.6
(12.2)
—
8.1
11.6
$
$
7.8
9.9
(11.7)
0.3
6.7
13.0
$
$
— $
1.1
—
(5.5)
0.6
(3.8) $
$
0.4
1.2
(0.2)
(5.5)
1.0
(3.1) $
—
1.1
(0.1)
(5.5)
1.1
(3.4)
The following table sets forth the Company’s share of the benefit payments, which reflect expected future service, expected
to be paid:
($ millions)
2015
2016
2017
2018
2019
2020-2024
$
Pension
9.6
10.0
10.5
11.2
11.8
72.0
Postretirement
1.7
$
1.7
1.7
1.6
1.6
7.3
The postretirement plan’s gross benefit payments for 2014 were $1.2 million, including the prescription drug benefits. The
postretirement plan’s subsidy related to Medicare Prescription Drug Improvement and Modernization Act of 2003 was $0.3 million
for 2014 and estimates future annual subsidies to be approximately $0.2 million.
803Fin.pdf
107
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth the weighted average assumptions used to determine the benefit plans’ obligations at
December 31, 2014 and 2013:
Benefit obligations weighted-average assumptions:
Discount rate
Rates of increase in compensation levels
Pension
Postretirement
2014
2013
2014
2013
3.85%
3.50
4.85%
3.50
3.85%
—
4.85%
—
The following table sets forth the weighted average assumptions used to determine the benefit plans’ net periodic cost for
the years ended December 31, 2014, 2013 and 2012:
Weighted-average assumptions:
Discount rate
Expected long-term rate of return on assets
Rates of increase in compensation levels
2014
Pension
2013
2012
2014
Postretirement
2013
2012
4.85% 4.05%
7.00
3.50
7.50
4.00
4.40%
7.50
4.00
4.85%
—
—
4.05%
7.50
—
4.40%
7.50
—
The benefit plans’ obligations are long-term in nature and consequently the investment strategies have a long-term time
horizon. In establishing the long-term rate of return assumption on plan assets, management, along with its pension consulting
actuary, reviews the historical performance of the plan assets and the stability in the mix of the investment portfolio. The expected
inflation rate and expected real rates of return of applicable asset classes are then determined to assist in setting appropriate
assumptions.
The following table sets forth the assumed health care cost trend rates used for the years ended December 31, 2014, 2013
and 2012:
Assumed health care cost trend rates:
Health care cost trend rate assumed for the next year
Rate to which the cost trend rate is assumed to decline (the ultimate trend rate)
Year that the rate reaches the ultimate trend rate
2014
Postretirement
2013
2012
6.00%
3.80%
2075
10.00%
5.00%
2018
10.00%
5.00%
2017
The assumed health care cost trend rates have a significant effect on the amounts reported for the postretirement plan. The
following table sets forth the effects of a one percentage point change in assumed health care cost trend rates for the year ended
December 31, 2014:
($ millions)
Postretirement
Increase
(Decrease)
One percentage point change:
Effect on total service and interest cost
Effect on accumulated postretirement benefit obligation
$
$
0.1
3.8
0.1
3.3
The pension plan's investment policy objective is to preserve the investment principal while generating income and
appreciation in fair value to meet the pension plan's obligations. The pension plan's investment strategy and risk tolerance is
balanced between meeting cash obligation requirements and a long-term relatively high risk tolerance takes into account the
predictable cash requirements, nature of the plan’s liabilities and the plan’s long term time horizon. Since the nature and timing
of the benefit plans’ liabilities and cash requirements are predictable, the liquidity requirements are somewhat moderate. One of
the goals of diversifying the benefit plans’ portfolio among different asset classes is the elimination of concentration of risk in one
asset class. Management also has investment policy guidelines with respect to limiting the ownership in any single debt or equity
issuer. The international fund investments are also composed of numerous securities to reduce our exposure to a single issuer.
108
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth the asset allocation targets, as a percentage of total fair value, which are used as a guide by management
when allocating funds as they become available.
Asset Category:
Fixed maturity
U.S. large-cap equity
U.S. small-cap equity
International equity
Emerging market equity
Total
Asset
allocation
target
(0 to 100%)
49%
26
11
10
4
100%
Effective January 1, 2014, the Investment Committee approved a change to a liability driven investment (LDI) for the
pension plan assets. The primary goal of the LDI strategy is to shift the asset allocation to more closely align with the plan liability,
thereby reducing the volatility of the funded status. The implementation of the LDI strategy will occur over a period of time and
the actual asset allocation at any point in time is dependent upon the funded status and the level of interest rates. This glide path
helps to balance interest rate risk, curve steepness risk, and credit spread risk, as incremental changes are made to the allocation
over time. The new allocation strategy reduces exposure to equity holdings and increases exposure to long duration fixed income.
This change will result in lower volatility for the plan assets. By moving more of the plan's assets to long duration fixed income,
the duration of the assets will increase to more closely match the duration of the plan's liabilities. While the LDI approach is new
for the pension plan, the investment policy objective is unchanged.
See Note 3 for the valuation methods used by the Company for each type of financial instrument the plans hold that are
carried at fair value. There were no transfers between level categorizations during the years ended December 31, 2014 and 2013.
The following tables set forth the Company’s share of pension plan’s available-for-sale securities within the fair value
hierarchy at December 31, 2014 and 2013:
($ millions)
December 31, 2014
Fixed maturities:
U.S. treasury securities and obligations of U.S.
government agencies
Corporate securities
U.S. government agencies mortgage-backed
securities
Total fixed maturities
Equity securities:
Large-cap securities
Small-cap securities
Total equity securities
International instruments
Total pension plan investments
Quoted prices
in active
markets for
identical
assets
(Level 1)
Significant
other
observable
inputs
(Level 2)
Significant
unobservable
inputs
(Level 3)
Total
$
56.4
39.7
— $
—
$
56.4
39.7
9.4
105.5
53.7
21.8
75.5
18.7
199.7
$
—
—
53.7
21.8
75.5
—
75.5
$
9.4
105.5
—
—
—
18.7
124.2
$
—
—
—
—
—
—
—
—
—
$
$
109
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
($ millions)
December 31, 2013
Fixed maturities:
U.S. treasury securities and obligations of U.S.
government agencies
Corporate securities
U.S. government agencies mortgage-backed
securities
Total fixed maturities
Equity securities:
Large-cap securities
Small-cap securities
Total equity securities
International instruments
Total pension plan investments
Quoted prices
in active
markets for
identical
assets
(Level 1)
Significant
other
observable
inputs
(Level 2)
Significant
unobservable
inputs
(Level 3)
Total
$
$
30.0
24.6
11.3
65.9
58.0
26.3
84.3
25.4
175.6
$
$
— $
—
—
—
58.0
26.3
84.3
—
84.3
$
30.0
24.6
11.3
65.9
—
—
—
25.4
91.3
$
$
—
—
—
—
—
—
—
—
—
The following tables set forth the Company’s share of the postretirement plan’s available-for-sale securities within the fair
value hierarchy at December 31, 2014 and 2013:
($ millions)
December 31, 2014
Fixed maturities:
Corporate securities
Total fixed maturities
Short-term money market funds
Total postretirement plan investments
December 31, 2013
Fixed maturities:
Corporate securities
Total fixed maturities
Equity securities:
Large-cap securities
Total equity securities
Total postretirement plan investments
Quoted prices
in active
markets for
identical
assets
(Level 1)
Significant
other
observable
inputs
(Level 2)
Significant
unobservable
inputs
(Level 3)
— $
—
0.2
0.2
$
0.1
0.1
—
0.1
Quoted prices
in active
markets for
identical
assets
(Level 1)
Significant
other
observable
inputs
(Level 2)
— $
—
0.8
0.8
0.8
$
0.2
0.2
—
—
0.2
$
$
$
$
—
—
—
—
Significant
unobservable
inputs
(Level 3)
—
—
—
—
—
Total
Total
0.1
0.1
0.2
0.3
0.2
0.2
0.8
0.8
1.0
$
$
$
$
$
$
$
$
The actuarially prepared funding amount to the pension plan ranges from the minimum amount the Company would be
required to contribute to the maximum amount that would be deductible for tax purposes. Contributed amounts in excess of the
minimum amounts are deemed voluntary. Amounts in excess of the maximum amount would be subject to an excise tax and may
not be deductible for tax purposes. The Company’s share of expected contributions during 2015 is approximately $13.0 million.
The Company maintains a defined contribution plan that covers substantially all employees of the Company. The Company
matches the first 1% of contributions of participants’ salary at the rate of one dollar for each dollar contributed. Participant
110
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
contributions of 2% to 6% are matched at a rate of 50 cents for each dollar contributed. In addition, the Company contributes a
percentage of the employee’s annual income for those employees hired on or after January 1, 2010, and for those employees hired
prior to January 1, 2010 who chose to freeze their existing accrued pension benefit effective June 30, 2010. The Company’s share
of the expense under the plan totaled $5.1 million, $4.6 million and $4.5 million for 2014, 2013 and 2012, respectively.
10. Other Comprehensive Income and Accumulated Other Comprehensive Income
The following tables set forth the changes in the Company’s accumulated other comprehensive income component (AOCI),
net of tax, for the years ended December 31, 2014, 2013 and 2012:
($ millions)
Beginning balance at January 1, 2014
Other comprehensive income before reclassifications
Amounts reclassified from AOCI (a)
Net current period other comprehensive income
Ending balance at December 31, 2014
Beginning balance at January 1, 2013
Other comprehensive income before reclassifications
Amounts reclassified from AOCI (a)
Net current period other comprehensive income
Ending balance at December 31, 2013
Beginning balance at January 1, 2012
Other comprehensive income before reclassifications
Amounts reclassified from AOCI (a)
Net current period other comprehensive income
Ending balance at December 31, 2012
(a) See separate table below for details about these reclassifications
Unrealized Gains
and Losses on
Available-for-Sale
Securities
Gains and
Losses on
Cash Flow
Hedges
Benefit Plan
Items
Total
$
$
$
$
$
$
84.6
38.9
(13.5)
25.4
110.0
124.0
(16.1)
(23.3)
(39.4)
84.6
98.7
54.1
(28.8)
25.3
124.0
$
$
$
$
$
$
— $
—
—
—
— $
$
0.1
—
(0.1)
(0.1)
— $
0.2
—
(0.1)
(0.1)
0.1
$
$
(3.8) $
(54.4)
19.9
(34.5)
(38.3) $
(39.9) $
32.5
3.6
36.1
(3.8) $
(35.1) $
(7.4)
2.6
(4.8)
(39.9) $
80.8
(15.5)
6.4
(9.1)
71.7
84.2
16.4
(19.8)
(3.4)
80.8
63.8
46.7
(26.3)
20.4
84.2
803Fin.pdf
111
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following tables set forth the reclassifications out of accumulated other comprehensive income, by component, to the
Company’s consolidated statement of income for the years ended December 31, 2014, 2013 and 2012:
($ millions)
Details about Accumulated Other
Comprehensive Income Components
December 31
2013
2014
2012
Affected line item in the Condensed
Consolidated Statements of Income
Unrealized gains on available for sale
securities
Amortization of gain on derivative used in
cash flow hedge
Amortization of benefit plan items:
Negative prior service costs
Net loss
Total reclassifications for the period
$ 20.7
20.7
(7.2)
13.5
$ 23.2
23.2
0.1
23.3
$ 28.8 Realized gain on sale of securities
28.8 Total before tax
— Tax (expense) benefit
28.8 Net of tax
—
—
—
—
0.1
0.1
—
0.1
0.1 Realized gain on sale of securities
0.1 Total before tax
— Tax benefit (expense)
0.1 Net of tax
5.5
(6.9)
(1.4)
(18.5)
(19.9)
5.5
(9.1)
(3.6)
—
(3.6)
$ (6.4) $ 19.8
(a)
(a)
5.2
(7.8)
(2.6) Total before tax
— Tax expense
(2.6) Net of tax
$ 26.3
(a) These accumulated other comprehensive income components are included in the computation of net periodic pension cost (see pension
and postretirement benefit plans footnote for additional details).
11. Stockholders’ Equity
a. Dividend Restrictions and Statutory Financial Information
State Auto P&C, Milbank and SA Ohio are subject to regulations and restrictions under which payment of dividends from
statutory surplus can be made to State Auto Financial during the year without prior approval of regulatory authorities. Under the
insurance regulations of Iowa and Ohio (the states of domicile), the maximum amount of dividends that the Company may pay
out of earned surplus to shareholders within a twelve month period without prior approval of the Department is limited to the
greater of 10% of the most recent year-end policyholders' surplus or net income for the twelve month period ending the 31st day
of December of the previous year-end. Pursuant to these rules, approximately $77.8 million is available for payment to State Auto
Financial from its insurance subsidiaries in 2015 without prior approval. State Auto Financial received dividends from its insurance
subsidiaries in the amount of $20.0 million, $10.0 million and $20.0 million in 2014, 2013 and 2012, respectively.
The Company's insurance subsidiaries are subject to risk-based capital ("RBC") requirements that have been adopted by
individual states. These requirements subject insurers having statutory capital less than that required by the RBC calculation to
varying degrees of regulatory action, depending on the level of capital inadequacy. The RBC formulas specify various weighting
factors to be applied to financial balances or various levels of activity based on the perceived degree of risk. Regulatory compliance
is determined by a ratio of total adjusted capital to authorized control level RBC. Generally no remedial action is required by an
insurance company if its adjusted statutory surplus exceeds 200% of the authorized level RBC. As of December 31, 2014, each
of the Company's insurance subsidiaries maintained adjusted statutory surplus in excess of 450% of the authorized control level
RBC.
803Fin.pdf
112
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following tables set forth reconciliations of statutory capital and surplus and net income, as determined using SAP, to
the amounts included in the accompanying consolidated financial statements:
($ millions)
Statutory capital and surplus of insurance subsidiaries
Net liabilities of non-insurance parent and affiliates
$
Increases (decreases):
Deferred acquisition costs
Postretirement and pension benefits
Deferred federal income taxes
Fixed maturities, at fair value
Other, net
Stockholders’ equity per accompanying consolidated financial statements
$
2014
2013
$
778.4
(80.8)
697.6
126.5
27.2
(49.7)
60.6
10.7
872.9
$
753.2
(82.4)
670.8
96.8
6.3
(15.8)
26.1
0.8
785.0
($ millions)
Statutory net (loss) income of insurance subsidiaries
Net (loss) income of non-insurance parent and affiliates
$
Increases (decreases):
Deferred acquisition costs
Postretirement and pension benefits
Deferred federal income taxes
Share-based compensation expense
Other, net
Net income per accompanying consolidated financial statements
$
12. Preferred Stock
Year ended December 31
2013
2012
2014
(17.5) $
(5.3)
(22.8)
29.7
10.6
79.3
(0.5)
11.1
107.4
$
51.1
(5.1)
46.0
5.1
10.3
(1.0)
(1.3)
1.7
60.8
$
$
5.5
0.2
5.7
—
5.3
(3.3)
(2.7)
5.7
10.7
State Auto Financial has two authorized classes of preferred stock. For both classes, upon issuance, the Board of Directors
has authority to fix and determine the significant features of the shares issued, including, among other things, the dividend rate,
redemption price, redemption rights, conversion features and liquidation price payable in the event of any liquidation, dissolution,
or winding up of the affairs of State Auto Financial.
The Class A preferred stock is not entitled to voting rights until, for any period, dividends are in arrears in the amount of six
or more quarterly dividends.
13. Share-Based Compensation
The Company maintains share-based compensation plans for key employees and outside, or non-employee, directors. The
share-based compensation plan for key employees is the State Auto Financial Corporation 2009 Equity Compensation Plan (the
“Equity Plan”). The stock-based compensation plan for outside directors is the Outside Directors Restricted Share Unit Plan (the
“RSU Plan”).
The Company’s share-based compensation plans authorize the granting of various equity-based incentives including stock
options, restricted stock and restricted share units to employees and non-employee directors and agents. The expense for these
equity-based incentives is based on their fair value at the date of grant and amortized over their vesting period. The fair value of
each stock option is estimated on the date of grant using the Black-Scholes closed-form pricing model. The pricing model requires
assumptions such as the expected life of the option and expected volatility of the Company’s stock over the expected life of the
option, which significantly impacts the assumed fair value. The Company uses historical data to determine these assumptions and
if these assumptions change significantly for future grants, share-based compensation expense will fluctuate in future periods.
803Fin.pdf
113
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Equity Plan
The Equity Plan provides for the award of qualified and nonqualified stock options, restricted shares, performance shares,
performance units and other stock-based awards. The Company has reserved 3.0 million common shares under the Equity Plan.
As of December 31, 2014, a total of 0.8 million common shares are available for issuance under the Equity Plan. The Equity Plan
provides that (i) no more than 33% of the common shares authorized for issuance under the Equity Plan may be granted in the
form of awards other than stock options, (ii) the maximum number of common shares subject to awards of stock options, restricted
shares and performance shares that may be granted in any calendar year is equal to 1.5% of the total number of common shares
of the Company outstanding as of December 31 of the prior year, and (iii) the maximum number of common shares subject to
awards of stock options, restricted shares and performance shares that may be granted in any calendar year to any one individual
is 250,000 shares. The Equity Plan automatically terminates on May 8, 2019.
The Equity Plan provides that qualified stock options may be granted at an option price not less than the fair market value
of the common shares at the date of grant and that nonqualified stock options may be granted at any price determined by the
Compensation Committee of the Board of Directors. Options granted generally vest over a three-year period, with one-third of
the options vesting on each anniversary of the grant date, and must be exercised no later than ten years from the date of grant.
Stock options granted under the Equity Plan for 2014, 2013 and 2012 were 0.2 million, 0.5 million and 0.3 million, respectively.
The Equity Plan provides for the granting of restricted shares subject to a vesting schedule based on the employee’s continued
employment (“Restriction Period”), for which vesting is generally on the third anniversary after the date of grant. The Company
recognizes compensation expense based on the number of restricted shares granted at the then grant date fair value over the
Restriction Period.
The following table sets forth the status of the Company’s non-vested and vested restricted shares and changes for the years
ended December 31, 2014, 2013 and 2012:
2014
2013
2012
Weighted
Average
Grant
Date Fair
Value
15.06
21.23
17.08
21.23
19.06
Shares
38,233
56,178
(16,892)
(1,047)
76,472
$
$
Weighted
Average
Grant
Date Fair
Value
16.21
—
18.78
—
15.06
Shares
55,413
—
(17,180)
—
38,233
$
$
Weighted
Average
Grant
Date Fair
Value
17.92
13.53
—
—
16.21
Shares
33,887
21,526
—
—
55,413
$
$
Outstanding, beginning of year
Granted
Vested
Canceled
Outstanding, end of year
As of December 31, 2014, there was $0.8 million of total unrecognized compensation cost related to non-vested restricted
share compensation arrangements. The remaining cost is expected to be recognized over a period of 2.25 years.
Employee Stock Purchase Plan
The Company also has a broad-based employee stock purchase plan under which employees of the Company may choose
at two different specified time intervals each year to have up to 6% of their annual base earnings withheld to purchase the Company’s
common shares. The purchase price of the common shares is 85% of the lower of its beginning-of-interval or end-of-interval
market price. The Company has reserved 3.4 million common shares under this plan. As of December 31, 2014, a total of 3.2
million common shares have been purchased under this plan. This plan remains in effect until terminated by the Board of Directors.
Outside Directors Plan
The RSU Plan is an unfunded deferred compensation plan which currently provides each outside director with an award of
1,400 restricted share units (the “RSU award”) following each annual meeting of shareholders. The amount of the award may
change from year to year, based on the provision described below. The RSU awards are fully vested six months after the date of
grant. RSU awards are not common shares of the Company and, as such, no participant has any rights as a holder of common
shares under the RSU Plan. RSU awards represent the right to receive an amount, payable in cash or common shares of the Company,
as previously elected by the outside director, equal to the value of a specified number of common shares of the Company at the
end of the restricted period. Such election may be changed within the constraints set forth in the RSU Plan. The restricted period
114
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
for the RSU awards begins on the date of grant and expires on the date the outside director retires from or otherwise terminates
service as a director of the Company. During the restricted period, outside directors are credited with dividends, equivalent in value
to those declared and paid on the Company’s common shares, on all RSU awards granted to them. At the end of the restricted
period, outside directors receive distributions of their RSU awards either (i) in a single lump sum payment, or (ii) in annual
installment payments over a five- or ten-year period, as previously elected by the outside director. The administrative committee
for the RSU Plan (currently the Company’s Compensation Committee) retains the right to increase the annual number of RSU
awards granted to each outside director to as many as 5,000 or to decrease such annual number to not less than 500, without seeking
shareholder approval, if such increase or decrease is deemed appropriate by the administrative committee to maintain director
compensation at appropriate levels. The RSU Plan automatically terminates on May 31, 2015. The Company accounts for the RSU
Plan as a liability plan. There were 25,960 RSUs, 33,712 RSUs, and 26,480 RSUs granted in 2014, 2013 and 2012, respectively.
During 2014 and 2013, common shares valued at approximately $51,000 and $51,000, respectively, were distributed by the
Company under the RSU Plan.
Stock Options
The fair value of each stock option granted is estimated on the date of grant using the Black-Scholes closed-form pricing
model. The following tables present the weighted-average assumptions used in the option pricing model for options granted to
employees during 2014, 2013 and 2012. The expected life of the options for employees represents the period of time the options
are expected to be outstanding and is based on historical trends. For non-employees the expected life of the option approximates
the remaining contractual term of the option. The expected stock price volatility is based on the historical volatility of the Company’s
stock for a period approximating the expected life and the expected dividend yield is based on the Company’s most recent period’s
dividend payout. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant and has a term
approximating the expected life of the option.
The fair value of share-based awards granted to employees was estimated at the date of grant using the Black-Scholes option-
pricing model. The following table sets forth the weighted average fair values and related assumptions for options granted for the
years ended December 31, 2014, 2013 and 2012:
Fair value per share
Expected dividend yield
Risk free interest rate
Expected volatility factor
Expected life in years
$
2014
2013
2012
$
7.28
1.86%
1.65%
39.23%
5.7
$
5.15
2.40%
1.26%
37.59%
6.3
3.46
4.41%
1.10%
41.50%
5.4
The following table sets forth the Company’s total stock option activity and related information for these plans for the years
ended December 31, 2014, 2013 and 2012:
(millions, except per share amounts)
2014
2013
2012
Outstanding, beginning of year
Granted
Exercised
Canceled
Outstanding, end of year
Weighted-
Average
Exercise
Price
Options
Weighted-
Average
Exercise
Price
Options
Weighted-
Average
Exercise
Price
Options
3.9
0.3
(0.1)
(0.4)
3.7
$
$
22.01
21.20
16.43
30.21
21.29
3.9
0.5
(0.2)
(0.3)
3.9
$
$
22.25
16.82
16.82
19.52
22.01
3.8
0.4
—
(0.3)
3.9
$
$
22.79
13.54
14.49
17.95
22.25
Intrinsic value for stock options is defined as the difference between the current market value and the grant price. For the
years ended December 31, 2014, 2013 and 2012, the total intrinsic value of stock options exercised was $0.5 million, $0.5 million
and $0 million, respectively. The tax benefit for tax deductions from share-based awards totaled $0 for the years ended December 31,
2014, 2013 and 2012, respectively.
803Fin.pdf
115
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth information pertaining to the total options outstanding and exercisable at December 31, 2014:
(Options in millions)
Options Outstanding
Options Exercisable
Range of Exercise Prices:
$10.01 – $20.00
$20.01 – $30.00
Greater than $30.00
Weighted-
Average
Remaining
Contractual Life
Weighted-
Average
Exercise
Price
Number
Number
Weighted-
Average
Exercise
Price
2.1
1.3
0.3
3.7
5.8 $
3.1
1.4
4.5 $
16.47
25.84
33.45
21.29
1.5
1.0
0.3
2.8
$
$
16.65
27.32
33.45
22.30
Aggregate intrinsic value for total options outstanding at December 31, 2014 was $17.2 million. Aggregate intrinsic value
for total options exercisable at December 31, 2014 was $8.4 million.
Compensation expense recognized during 2014, 2013 and 2012 was $3.6 million, $4.1 million and $3.5 million, respectively.
Share-based compensation is recognized as a component of loss and loss adjustment expense and acquisition and operating expense
in a manner consistent with other employee compensation. As of December 31, 2014, there was $3.2 million of total unrecognized
compensation cost related to option-based compensation arrangements granted under the plans. The remaining cost is expected to
be recognized over a period of three years.
14. Net Earnings Per Common Share
The following table sets forth the compilation of basic and diluted net earnings per common share for the years ended
December 31, 2014, 2013 and 2012:
(millions, except per share amounts)
Numerator:
Net earnings for basic net earnings per common share
Adjusted net earnings for dilutive net earnings per common share
Denominator:
Weighted average shares for basic net earnings per common share
Effect of dilutive share-based awards
Adjusted weighted average shares for diluted net earnings per
common share
Basic net earnings per common share
Diluted net earnings per common share
2014
2013
2012
$
$
$
$
107.4
107.4
$
$
60.8
60.8
$
$
40.8
0.4
41.2
2.63
2.60
$
$
40.6
0.1
40.7
1.50
1.49
$
$
10.7
10.7
40.4
0.1
40.5
0.26
0.26
The following table sets forth the options to purchase shares of common stock and the restricted share units ("RSU award")
provided to each outside director of the Company, that were not included in the computation of diluted earnings per common share
because the exercise price of the options, or awards, was greater than the average market price or their inclusion would have been
antidilutive for the years ended December 31, 2014, 2013 and 2012:
(millions)
Total number of antidilutive options and awards
2014
2013
2012
1.8
2.6
3.7
803Fin.pdf
116
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
15. Reportable Segments
The Company has four reportable segments: personal insurance, business insurance, specialty insurance (the “insurance
segments”) and investment operations. The insurance segments are business units managed separately because of the differences
in the type of customers they serve or products they provide or services they offer. The personal insurance segment provides
primarily personal automobile and homeowners to the personal insurance market. The business insurance segment provides
primarily commercial automobile, commercial multi-peril, fire & allied and general liability insurance covering small-to-medium
sized commercial exposures in the business insurance market. The specialty insurance segment provides commercial coverages
that require specialized product underwriting, claims handling or risk management services through a distribution channel of retail
agents and wholesale brokers, which may include program administrators and other specialty sources. The investment operations
segment, managed by Stateco, provides investment services.
The Company evaluates the performance of its insurance segments using industry financial measurements based on SAP,
which include loss and loss adjustment expense ratios, underwriting expense ratios, combined ratios, statutory underwriting gain
(loss), net premiums earned and net written premiums. One of the most significant differences between SAP and GAAP is that
SAP requires all underwriting expenses to be expensed immediately and not deferred and amortized over the same period the
premium is earned.
The accounting for pension benefits also contributes to the difference between our GAAP loss and expense ratios and our
SAP loss and expense ratios. At January 1, 2013, we adopted new SAP pension guidance, which required the recognition of service
costs for non-vested participants. In accordance with GAAP, service costs related to non-vested participants was recognized over
the two year vesting period ended December 31, 2014.
The investment operations segment is evaluated based on investment returns of assets managed by Stateco. Asset information
by segment is not reported for the insurance segments because the Company does not produce such information internally.
As of January 1, 2013 our units within the specialty insurance segment changed from RED, Rockhill and Workers’
Compensation to E&S property, E&S casualty, Programs and Workers’ compensation. This change did not have any impact on
segment reporting.
803Fin.pdf
117
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth financial information regarding the Company’s reportable segments for the years ended
December 31, 2014, 2013 and 2012:
$
$
$
($ millions)
Revenues from external sources:
Insurance segments
Personal insurance
Business insurance
Specialty insurance
Total insurance segments
Investment operations segment
Net investment income
Net realized capital gains
Total investment operations segment
Total revenue from reportable segments
All other
Total revenues from external sources
Intersegment revenues
Total revenues
Reconciling items:
Eliminate intersegment revenues
Total consolidated revenue
Segment loss before federal income tax:
Insurance segments:
Personal insurance SAP underwriting loss
Business insurance SAP underwriting loss
Specialty insurance SAP underwriting loss
Total insurance segments
Investment operations segment:
Net investment income
Net realized capital gains
Total investment operations segment
All other segments income
Reconciling items:
GAAP adjustments
Interest expense on corporate debt
Corporate expenses
Total reconciling items
Total consolidated income before federal income taxes
$
$
2014
2013
2012
$
451.4
381.8
240.9
1,074.1
74.7
20.7
95.4
1,169.5
3.2
1,172.7
5.1
1,177.8
$
464.0
364.2
226.8
1,055.0
72.8
23.2
96.0
1,151.0
2.0
1,153.0
5.1
1,158.1
469.8
327.2
245.1
1,042.1
75.4
28.8
104.2
1,146.3
3.8
1,150.1
9.5
1,159.6
(5.1)
1,172.7
$
(5.1)
1,153.0
$
(9.5)
1,150.1
(11.7) $
(8.5)
(85.6)
(105.8)
74.7
20.7
95.4
—
45.8
(5.4)
(3.2)
37.2
26.8
$
$
(12.6) $
(10.2)
(11.2)
(34.0)
72.8
23.2
96.0
0.9
11.8
(8.5)
(4.9)
(1.6) $
$
61.3
(1.6)
(42.3)
(48.1)
(92.0)
75.4
28.8
104.2
2.0
7.2
(7.0)
(3.8)
(3.6)
10.6
The following table sets forth financial information regarding the Company’s reportable segments at December 31, 2014
and 2013:
($ millions)
Segment assets:
Investment operations segment
Total segment assets
Reconciling items:
Corporate assets
Total consolidated assets
2014
2013
$
$
2,444.2
2,444.2
322.7
2,766.9
$
$
2,331.6
2,331.6
164.8
2,496.4
118
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Assets attributed to the investment operations segment include the total investments and cash and cash equivalent categories
from the balance sheet. All other assets are corporate assets and are not assigned to a segment.
16. Quarterly Financial Data (unaudited)
The following tables set forth quarterly financial data for 2014 and 2013:
2014
For three months ended
June 30
September 30
291.3
$
13.1
11.9
December 31
295.7
$
(17.1)
65.4
294.4
3.1
3.0
0.07
0.07
$
$
0.29
0.28
$
$
1.60
1.58
2013
For three months ended
June 30
285.3
6.3
6.2
September 30
292.7
$
18.7
18.5
$
December 31
289.7
16.3
16.4
0.15
0.15
$
$
0.46
0.45
$
$
0.40
0.40
($ millions, except per share amounts)
Total revenues
Income (loss) before federal income taxes
Net income
Earnings per common share:
Basic
Diluted
Total revenues
Income before federal income taxes
Net income
Earnings per common share:
Basic
Diluted
March 31
291.3
27.7
27.1
0.67
0.66
March 31
285.3
20.0
19.7
0.49
0.49
$
$
$
$
$
$
$
$
$
$
$
$
803Fin.pdf
119
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
17. Contingencies
In accordance with the Contingencies Topic of the Financial Accounting Standards Board's Accounting Standards
Codification, the Company accrues for a litigation-related liability when it is probable that such a liability has been incurred and
the amount can be reasonably estimated. The Company reviews all litigation on an ongoing basis when making accrual and
disclosure decisions. For certain legal proceedings, the Company cannot reasonably estimate losses or a range of loss, if any,
particularly for proceedings that are in their early stages of development or where the plaintiffs seek indeterminate damages. Various
factors, including, but not limited to, the outcome of potentially lengthy discovery and the resolution of important factual questions,
may need to be determined before probability can be established or before a loss or range of loss can be reasonably estimated. If
the loss contingency in question is not both probable and reasonably estimable, the Company does not establish an accrual and
the matter will continue to be monitored for any developments that would make the loss contingency both probable and reasonably
estimable. Based on currently available information known to the Company, it believes that its reserves for litigation-related
liabilities are reasonable. However, in the event that a legal proceeding results in a substantial judgment against, or settlement by,
the Company, there can be no assurance that any resulting liability or financial commitment would not have a material adverse
effect on the financial condition, results of operations or cash flows of the consolidated financial statements of the Company.
The following describes a pending legal proceeding in which the Company is a party:
In April 2013, a putative class action lawsuit (Schumacher vs. State Automobile Mutual Insurance Company, et al.) was
filed against State Auto Mutual, State Auto Financial and State Auto P&C in Federal District Court in Ohio. Plaintiffs
claim that in connection with the homeowners policies of various State Auto companies, the coverage limits and premiums
were improperly increased as a result of an insurance to value (“ITV”) program and Plaintiffs allege that they purchased
coverage in excess of that which was necessary to insure them in the event of loss. Plaintiffs’ claims include breach of
good faith and fair dealing, negligent misrepresentation and fraud, violation of the Ohio Deceptive Trade Practices Act,
and fraudulent inducement. Plaintiffs sought compensatory and punitive damages to be determined by the court, as well
as class certification. On February 2, 2015, the Court struck the class allegations, and on February 13, 2015, the Court
stayed the proceedings to allow the parties to engage in settlement discussions.
The Company is involved in other lawsuits in the ordinary course of its business arising out of or otherwise related to its
insurance policies. Additionally, from time to time the Company may be involved in lawsuits, including class actions, in the
ordinary course of business but not arising out of or otherwise related to its insurance policies. These lawsuits are in various stages
of development. The Company generally will contest these matters vigorously but may pursue settlement if appropriate. Based on
currently available information, the Company does not believe it is reasonably possible that any such lawsuit or related lawsuits
will be material to its results of operations or have a material adverse effect on its consolidated financial position or cash flows.
Additionally, the Company may be impacted by adverse regulatory actions and adverse court decisions where insurance
coverages are expanded beyond the scope originally contemplated in its insurance policies. The Company believes that the effects,
if any, of such regulatory actions and published court decisions are not likely to have a material adverse effect on its financial or
cash flow position.
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STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures
Not applicable.
Item 9A. Controls and Procedures
Management’s Annual Report on Internal Control Over Financial Reporting
Our management’s annual report on internal control over financial reporting required by Item 308(a) of Regulation S-K
follows. The attestation report of our independent registered public accounting firm required by Item 308(b) of Regulation S-K
is found under the caption “Report of the Independent Registered Public Accounting Firm on Internal Control over Financial
Reporting” in Item 8 of this Form 10-K.
The following report is provided by our management on the Company’s internal control over financial reporting (as defined
in Rule 13a-15(f) of the Exchange Act):
1. Our management is responsible for establishing and maintaining adequate internal control over financial reporting for
the Company.
2. Our management has used the Committee of Sponsoring Organizations of the Treadway Commission (COSO) 2013
framework to evaluate the effectiveness of our internal control over financial reporting. Our management believes that
the COSO 2013 framework is a suitable framework for its evaluation of our internal control over financial reporting
because it is free from bias, permits reasonably qualitative and quantitative measurements of our internal controls, is
sufficiently complete so that those relevant factors that would alter a conclusion about the effectiveness of our internal
controls are not omitted and is relevant to an evaluation of internal control over financial reporting.
3. All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems
determined to be effective can only provide reasonable assurance with respect to financial reporting.
4. Our management has assessed the effectiveness of our internal control over financial reporting as of December 31,
2014, and has concluded that such internal control over financial reporting was effective.
5. Ernst & Young LLP, the independent registered public accounting firm that audited the consolidated financial statements
included in this Form 10-K, has issued their attestation on the Company’s internal control over financial reporting,
which is included herein.
Disclosure Controls and Procedures
We carried out an evaluation, under the supervision and with the participation of our management, including our Chief
Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and
procedures (as defined in Exchange Act Rule 13a-15(e)). Based upon that evaluation, our Chief Executive Officer and Chief
Financial Officer concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were
effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required
to be included in the Company’s periodic filings with the Securities and Exchange Commission.
Changes in Internal Control over Financial Reporting
There have been no changes in our internal control over financial reporting that occurred during our most recent fiscal quarter
that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Item 9B. Other Information
Not applicable.
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121
Item 10. Directors, Executive Officers and Corporate Governance
PART III
Information regarding our directors required by Items 401(a) and (d)-(f) of Regulation S-K will be found under the caption
“Proposal One: Election of Directors” in the 2015 Proxy Statement, which information is incorporated herein by reference.
Information regarding our executive officers required by Items 401(b) and (d)-(f) of Regulation S-K is found under the caption
“Executive Officers of the Registrant” at the end of Item 1 of this Form 10-K, which information is also incorporated by reference
into this Item 10.
We have a separately-designated standing Audit Committee established in accordance with Section 3(a)(58)(A) of the
Exchange Act. As of March 3, 2015, the members of our Audit Committee were Eileen A. Mallesch, Robert E. Baker, David R.
Meuse and Paul S. Williams. Ms. Mallesch is Chairperson of our Audit Committee. Our Board of Directors has determined that
Ms. Mallesch is an “audit committee financial expert,” as that term is defined in Item 407(d)(5) of Regulation S-K, and
“independent,” as that term is defined in Rule 10A-3 of the Exchange Act.
Information regarding the filing of reports of ownership under Section 16(a) of the Exchange Act by our officers and directors
and persons owning more than 10% of a registered class of our equity securities required by Item 405 of Regulation S-K will be
found under the caption “Section 16(a) Beneficial Ownership Reporting Compliance” in the 2015 Proxy Statement, which
information is incorporated herein by reference.
Information concerning the procedures by which shareholders may recommend nominees to our Board of Directors will be
found under the caption “Corporate Governance—Nomination of Directors” in the 2015 Proxy Statement. There has been no
material change to the nomination procedures previously disclosed in the proxy statement for our 2015 annual meeting of
shareholders.
Our Board of Directors has adopted a code of ethics that applies to our principal executive officer, principal financial officer,
principal accounting officer, controller, and persons performing similar functions. This code of ethics has been posted on our
website at www.StateAuto.com under “Investor Relations” then “Corporate Governance.” Any amendment (other than any
technical, administrative or other non-substantive amendment) to, or waiver from, a provision of this code will be posted on our
website described above within four business days following its occurrence.
Item 11. Executive Compensation
The 2015 Proxy Statement will contain information regarding the following matters: information regarding executive
compensation required by Item 402 of Regulation S-K will be found under the captions “Board of Directors and Board Committees
—Compensation of Outside Directors and Outside Director Compensation Table” and “Compensation Discussion and Analysis”;
information required by Item 407(e)(4) of Regulation S-K will be found under the caption “Compensation Committee Interlocks
and Insider Participation”; information required by Item 407(e)(5) of Regulation S-K will be found under the caption
“Compensation Committee Report.” This information is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Information regarding security ownership of certain beneficial owners and management required by Item 403 of Regulation
S-K will be found under the caption “Proposal One: Election of Directors” and “Principal Holders of Voting Securities” in the
2015 Proxy Statement, which information is incorporated herein by reference.
Information regarding equity compensation plan information required by Item 201(d) of Regulation S-K will be found under
the caption “Equity Compensation Plan Information” in the 2015 Proxy Statement, which information is incorporated herein by
reference.
Item 13. Certain Relationships and Related Transactions, and Director Independence
Information regarding certain relationships and related transactions required by Item 404 of Regulation S-K will be found
under the caption “Related Party Transactions” in the 2015 Proxy Statement, which information is incorporated herein by reference.
Information regarding the independence of our directors required by Item 407(a) of Regulation S-K will be found under the
caption “Corporate Governance—Director Independence” in the 2015 Proxy Statement, which is incorporated herein by reference.
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Item 14. Principal Accountant Fees and Services
Information regarding principal accountant fees and services required by Item 9(e) of Schedule 14A will be found under the
caption “Independent Registered Public Accounting Firm” in our 2015 Proxy Statement, which information is incorporated herein
by reference.
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123
Item 15. Exhibits and Financial Statement Schedules
(a)(1) LISTING OF FINANCIAL STATEMENTS
PART IV
The following consolidated financial statements of the Company are filed as part of this Form 10-K and are included in
Item 8:
Reports of Independent Registered Public Accounting Firm
Consolidated Balance Sheets as of December 31, 2014 and 2013
Consolidated Statements of Income for each of the three years in the period ended December 31, 2014
Consolidated Statements of Comprehensive Income for each of the three years in the period ended December 31, 2014
Consolidated Statements of Stockholders’ Equity for each of the three years in the period ended December 31, 2014
Consolidated Statements of Cash Flows for each of the three years in the period ended December 31, 2014
Notes to Consolidated Financial Statements
(a)(2) LISTING OF FINANCIAL STATEMENT SCHEDULES
The following financial statement schedules of the Company for the years 2014, 2013 and 2012 are included in Item 14(d)
following the signatures and should be read in conjunction with our consolidated financial statements contained in our Form 10-
K.
Schedule
Number
I.
II.
III.
IV.
V.
Summary of Investments—Other Than Investments in Related Parties
Schedule
Condensed Financial Information of Registrant
Supplementary Insurance Information
Reinsurance
Valuation and Qualifying Accounts
All other schedules and footnotes are omitted because they are not applicable or the required information is included
in the consolidated financial statements or notes thereto.
(a)(3) LISTING OF EXHIBITS
Exhibit
No.
Description of Exhibit
If incorporated by reference document with which Exhibit was
previously filed with SEC
3.01
3.02
3.03
3.04
3.05
State Auto Financial Corporation’s Amended and
Restated Articles of Incorporation
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 3.01 therein)
State Auto Financial Corporation’s Amendment to the
Amended and Restated Articles of Incorporation
1933 Act Registration Statement No. 33-89400 on
Form S-8 (see Exhibit 4(b) therein)
State Auto Financial Corporation Certificate of
Amendment to the Amended and Restated Articles of
Incorporation as of June 2, 1998
Form 10-K Annual Report for the year ended
December 31, 1998 (see Exhibit 3(A)(3) therein)
State Auto Financial Corporation’s Amended and
Restated Code of Regulations
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 3.04 therein)
First Amendment
to State Auto Financial
Corporation’s Amended and Restated Code of
Regulations as of May 7, 2010
Form 10-Q Quarterly Report for the period ended
September 30, 2010 (see Exhibit 3.05 therein)
803Fin.pdf
124
Exhibit
No.
10.01*
10.02*
10.03*
10.04*
10.05*
10.06*
10.07*
10.08
10.09
10.10
10.11
10.12
10.13
10.14
10.15
10.16
Description of Exhibit
2000 Directors Stock Option Plan of State Auto
Financial Corporation
If incorporated by reference document with which Exhibit was
previously filed with SEC
Definitive Proxy Statement on Form DEF 14A, File
No. 000-19289, for Annual Meeting of Shareholders
held on May 26, 2000 (see Appendix B therein)
First Amendment to 2000 Directors Stock Option
Plan of State Auto Financial Corporation
Form 10-Q Quarterly Report for the period ended
March 31, 2001 (see Exhibit 10(HH) therein)
Second Amendment to 2000 Directors Stock Option
Plan of State Auto Financial Corporation
Form 10-Q Quarterly Report for the period ended
September 30, 2001 (see Exhibit 10(KK) therein)
Third Amendment to 2000 Directors Stock Option
Plan of State Auto Financial Corporation
Form 10-K Annual Report for the year ended
December 31, 2001 (see Exhibit 10(EE) therein)
Fourth Amendment to 2000 Directors Stock Option
Plan of State Auto Financial Corporation
Form 10-K Annual Report
December 31, 2002 (see Exhibit 10(UU) therein)
for year ended
Fifth Amendment to 2000 Directors Stock Option
Plan of State Auto Financial Corporation
Form 10-Q Quarterly Report for the period ended
June 30, 2005 (see Exhibit 10.66 therein)
Sixth Amendment to the 2000 Directors Stock Option
Plan (effective March 7, 2008) of State Auto Financial
Corporation
Investment Management Agreement between Stateco
Financial Services, Inc. and State Automobile Mutual
Insurance Company, effective April 1, 1993
Form 8-K Current Report filed on March 13, 2008
(see Exhibit 10.3 therein)
Form 10-K Annual Report for the year ended
December 31, 1992 (see Exhibit 10 (N) therein)
First Amendment to the Investment Management
Agreement between Stateco Financial Services, Inc.
and State Automobile Mutual Insurance Company,
effective January 1, 2013
Amended and Restated Exhibit A to the Investment
Management Agreement between Stateco Financial
Services, Inc. and State Automobile Mutual Insurance
Company, effective January 1, 2013
Investment Management Agreement between Stateco
Financial Services, Inc. and Meridian Security
Insurance Company, effective June 1, 2001
Amended and Restated Exhibit A to the Investment
Management Agreement between Stateco Financial
Services, Inc. and Meridian Security Insurance
Company, effective January 1, 2013
Investment Management Agreement between Stateco
Financial Services, Inc. and State Auto Florida
Insurance Company effective April 1, 2002
Investment Management Agreement between Stateco
Financial Services, Inc. and Midwest Security
Insurance Company effective January 1, 1997
Amended and Restated Exhibit A to the Investment
Management Agreement between Stateco Financial
Services, Inc. and Midwest Security Insurance
Company, effective January 1, 2013
Investment Management Agreement between Stateco
Financial Services, Inc. and Meridian Citizens
Mutual Insurance Company effective June 1, 2001
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 10.09 therein)
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 10.10 therein)
Form 10-K Annual Report for the year ended
December 31, 2005 (see Exhibit 10.17 therein)
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 10.12 therein)
Form 10-K Annual Report for the year ended
December 31, 2005 (see Exhibit 10.18 therein)
Form 10-K Annual Report for the year ended
December 31, 2005 (see Exhibit 10.19 therein)
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 10.15 therein)
Form 10-K Annual Report for the year ended
December 31, 2005 (see Exhibit 10.20 therein)
803Fin.pdf
125
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 10.17 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2007 (see Exhibit 10.63 therein)
Form 10-K Annual Report for the year ended
December 31, 2007 (see Exhibit 10.22 therein)
Form 10-K Annual Report for the year ended
December 31, 2007 (see Exhibit 10.23 therein)
Form 10-K Annual Report for year ended December
31, 2010 (see Exhibit 10.26 therein)
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 10.22 therein)
Form 10-K Annual Report for year ended December
31, 2010 (see Exhibit 10.27 therein)
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 10.24 therein)
Form 10-K Annual Report for year ended December
31, 2010 (see Exhibit 10.28) therein)
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 10.26 therein)
Form 10-K Annual Report for year ended December
31, 2002 (see Exhibit 10(OO) therein)
Form 10-K Annual Report for the year ended
December 31, 2005 (see Exhibit 10.45 therein)
Description of Exhibit
Amended and Restated Exhibit A to the Investment
Management Agreement between Stateco Financial
Services, Inc. and Meridian Citizens Mutual
Insurance Company, effective January 1, 2013
Investment Management Agreement dated March 29,
2007, between Stateco Financial Services, Inc. and
Beacon National Insurance Company, First Preferred
Insurance Company, Petrolia Insurance Company
and Beacon Lloyds Insurance Company
Amended and Restated Investment Management
Agreement dated as of December 31, 2007, among
Stateco Financial Services, Inc. and Patrons Mutual
Insurance Company of Connecticut, Patrons Fire
Insurance Company of Rhode Island, and Provision
State Insurance Company
Amended and Restated Investment Management
Agreement dated as of December 31, 2007, between
Stateco Financial Services, Inc. and Litchfield Mutual
Fire Insurance Company
Investment Management Agreement between Stateco
Financial Services, Inc. and Plaza Insurance
Company effective October 1, 2010
Amended and Restated Exhibit A to the Investment
Management Agreement between Stateco Financial
Services, Inc. and Plaza Insurance Company,
effective January 1, 2013
Investment Management Agreement between Stateco
Financial Services, Inc. and Rockhill Insurance
Company effective October 1, 2010
Amended and Restated Exhibit A to the Investment
Management Agreement between Stateco Financial
Services, Inc. and Rockhill Insurance Company,
effective January 1, 2013
Investment Management Agreement between Stateco
Financial Services, Inc. and American Compensation
Insurance Company and Bloomington Compensation
Insurance Company effective October 1, 2010
Amended and Restated Exhibit A to the Investment
Management Agreement between Stateco Financial
Services, Inc. and American Compensation Insurance
Company and Bloomington Compensation Insurance
Company, effective January 1, 2013
Cost Sharing Agreement among State Auto Property
and Casualty Insurance Company, State Automobile
Mutual Insurance Company, and State Auto Florida
Insurance Company effective January 1, 2003
Midwest Security Insurance Company Management
Agreement amended and restated as of January 1,
2000 by and among State Automobile Mutual
Insurance Company, State Auto Property and
Casualty Insurance Company and Midwest Security
Insurance Company (nka State Auto Insurance
Company of Wisconsin)
126
Exhibit
No.
10.17
10.18
10.19
10.20
10.21
10.22
10.23
10.24
10.25
10.26
10.27
10.28
803Fin.pdf
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 10-Q Quarterly Report for the period ended
March 31, 2005 (see Exhibit10.56 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2007 (see Exhibit 66.67 therein)
Form 8-K Current Report filed on January 27, 2009
(see Exhibit 10.1 therein)
Exhibit
No.
10.29
10.30
10.31
Description of Exhibit
Management and Operations Agreement, Amended
and Restated as of January 1, 2005 by and among State
Automobile Mutual Insurance Company, State Auto
Financial Corporation, State Auto Property and
Casualty Insurance Company, State Auto National
Insurance Company, Milbank Insurance Company,
State Auto Insurance Company of Ohio, Meridian
Security Insurance Company, Meridian Citizens
Mutual Insurance Company, Meridian Insurance
Group, Inc., Farmers Casualty Insurance Company,
Stateco Financial Services, Inc., Strategic Insurance
Software, Inc., and 518 Property Management and
Leasing, LLC
First Amendment, made as of April 1, 2007, to
Management and Operations Agreement Amended
and Restated as of January 1, 2005, by and among
State Automobile Mutual Insurance Company, State
Auto Financial Corporation, State Auto Property and
Casualty Insurance Company, State Auto National
Insurance Company, Milbank Insurance Company,
State Auto Insurance Company of Ohio, Meridian
Security Insurance Company, Meridian Citizens
Mutual Insurance Company, Meridian Insurance
Group, Inc., Farmers Casualty Insurance Company,
Stateco Financial Services, Inc., Strategic Insurance
Software, Inc., 518 Property Management and
Leasing, LLC, State Auto Florida
Insurance
Company, Beacon National Insurance Company,
Beacon Lloyds, Inc., Beacon Lloyds Insurance
Company, First Preferred Insurance Company, and
Petrolia Insurance Company
Second Amendment dated as of December 31, 2008,
to the Management and Operations Agreement,
Amended and Restated as of January 1, 2005, among
State Auto Financial Corporation, State Automobile
Mutual Insurance Company, State Auto Property &
Casualty Insurance Company, State Auto National
Insurance Company, Milbank Insurance Company,
State Auto Insurance Company of Ohio, Meridian
Security Insurance Company, Meridian Citizens
Mutual Insurance Company, Meridian Insurance
Group, Inc., Farmers Casualty Insurance Company,
Stateco Financial Services, Inc., Strategic Insurance
Software, Inc., 518 Property Management and
Leasing, LLC, State Auto Florida
Insurance
Company, Beacon National Insurance Company,
Beacon Lloyds, Inc., Beacon Lloyds Insurance
Company, Patrons Mutual Insurance Company of
Connecticut, Litchfield Mutual Fire Insurance
Company, and Provision State Insurance Company
803Fin.pdf
127
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 10-K Annual Report
December 31, 2010 (see Exhibit 10.36 therein)
for year ended
Form 10-Q Quarterly Report for the period ended
September 30, 2009 (see Exhibit 10.01 therein)
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 10.35 therein)
Form 8-K Current Report filed on November 25, 2009
(see Exhibit 10.1 therein)
Form 8-K Current Report filed on January 7, 2011
(see Exhibit 10.2 therein)
Exhibit
No.
10.32
10.33
10.34
10.35
10.36
Description of Exhibit
Third Amendment, effective as of December 31,
2010, to the Management and Operations Agreement,
Amended and Restated as of January 1, 2005, among
State Auto Financial Corporation, State Automobile
Mutual Insurance Company, State Auto Property &
Casualty Insurance Company, Milbank Insurance
Company, State Auto Insurance Company of Ohio,
Meridian Security Insurance Company, Meridian
Citizens Mutual Insurance Company, Meridian
Insurance Group, Inc., Farmers Casualty Insurance
Company, Stateco Financial Services, Inc., Strategic
Insurance Software, Inc., 518 Property Management
and Leasing, LLC, State Auto Florida Insurance
Company, Beacon National Insurance Company,
Beacon Lloyds, Inc., Beacon Lloyds Insurance
Company, Patrons Mutual Insurance Company of
Connecticut and Litchfield Mutual Fire Insurance
Company
Consulting Services Agreement dated as of
November 1, 2009, by and between State Automobile
Mutual Insurance Company, State Auto Property &
Casualty Insurance Company, Meridian Security
Insurance Company, Meridian Citizens Mutual
Insurance Company, Farmers Casualty Insurance
Company, Milbank Insurance Company, and RTW,
Inc.
to
Amended and Restated Appendix B , effective as of
January 1, 2013,
the Consulting Service
Agreement, dated as of November 1, 2009, by and
between State Automobile Mutual
Insurance
Company, State Auto Property & Casualty Insurance
Company, Meridian Security Insurance Company,
Meridian Citizens Mutual Insurance Company,
Farmers Casualty Insurance Company, Milbank
Insurance Company, and RTW, Inc.
Underwriting Management Agreement effective as of
November 20, 2009, by and between Rockhill
Insurance Company, Plaza Insurance Company,
American Compensation
Insurance Company,
Bloomington Compensation Insurance Company,
State Automobile Mutual Insurance Company, State
Auto Property & Casualty Insurance Company,
Meridian Security Insurance Company, Milbank
Insurance Company, Farmers Casualty Insurance
Company, and Risk Evaluation and Design, LLC
Amended and Restated Management and Operations
Agreement, effective as of January 1, 2011, by and
among State Auto Property & Casualty Insurance
Company, State Automobile Mutual Insurance
Company, Rockhill Insurance Company, Plaza
Insurance Company, American Compensation
Insurance Company, Bloomington Compensation
Insurance Company, Rockhill Holding Company,
National Environmental Coverage Corporation of the
South, LLC, National Environmental Coverage
Corporation, RTW, Inc., Rockhill Insurance Services,
LLC and Rockhill Underwriting Management, LLC.
803Fin.pdf
128
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 10-K Annual Report for the year ended
December 31, 2012 (see Exhibit 10.38 therein)
Form 8-K Current Report filed on January 7, 2011
(see Exhibit 10.1 therein)
Form 10-K Annual Report for year ended December
31, 2011 (see Exhibit 10.45 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2013 (see Exhibit 10.1 therein)
Description of Exhibit
First Amendment, effective as of January 1, 2013, to
Amended and Restated Management and Operations
Agreement, effective as of January 1, 2011 by and
among State Auto Property & Casualty Insurance
Company, State Automobile Mutual Insurance
Company, Rockhill Insurance Company, Plaza
Insurance Company, American Compensation
Insurance Company, Bloomington Compensation
Insurance Company, Rockhill Holding Company,
National Environmental Coverage Corporation of the
South, LLC, National Environmental Coverage
Corporation, RTW, Inc., Rockhill Insurance Services,
LLC and Rockhill Underwriting Management, LLC.
Reinsurance Pooling Agreement Amended and
Restated as of January 1, 2011, entered into as of
January 3, 2011, by and among State Automobile
Mutual Insurance Company, State Auto Property &
Casualty Insurance Company, Milbank Insurance
Company, State Auto Insurance Company of
Wisconsin, Farmers Casualty Insurance Company,
State Auto Insurance Company of Ohio, State Auto
Florida Insurance Company, Meridian Security
Insurance Company, Meridian Citizens Mutual
Insurance Company, Patrons Mutual Insurance
Company of Connecticut, Litchfield Mutual Fire
Insurance Company, Beacon National Insurance
Company, Rockhill Insurance Company, Plaza
Insurance Company, American Compensation
Insurance Company and Bloomington Compensation
Insurance Company
First Amendment, effective December 31, 2011, to
Reinsurance Pooling Agreement Amended and
Restated as of January 1, 2011 by and among State
Automobile Mutual Insurance Company, State Auto
Property & Casualty Insurance Company, Milbank
Insurance Company, State Auto Insurance Company
of Wisconsin, Farmers Casualty Insurance Company,
State Auto Insurance Company of Ohio, State Auto
Florida Insurance Company, Meridian Security
Insurance Company, Meridian Citizens Mutual
Insurance Company, Patrons Mutual Insurance
Company of Connecticut, Litchfield Mutual Fire
Insurance Company, Beacon National Insurance
Company, Rockhill Insurance Company, Plaza
Insurance Company, American Compensation
Insurance Company and Bloomington Compensation
Insurance Company
Second Amendment, effective March 31, 2013, to
Reinsurance Pooling Agreement Amended and
Restated as of January 1, 2011 by and among State
Automobile Mutual Insurance Company, State Auto
Property & Casualty Insurance Company, Milbank
Insurance Company, State Auto Insurance Company
of Wisconsin, State Auto Insurance Company of
Ohio, Meridian Security
Insurance Company,
Meridian Citizens Mutual Insurance Company,
Patrons Mutual Insurance Company of Connecticut,
Rockhill Insurance Company, Plaza Insurance
Company, American Compensation
Insurance
Company and Bloomington Compensation Insurance
Company
129
Exhibit
No.
10.37
10.38
10.39
10.40
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Exhibit
No.
10.41
10.42
10.43
10.44
10.45
10.46
10.47
Description of Exhibit
Third Amendment, effective July 1, 2014, to
Reinsurance Pooling Agreement Amended and
Restated as of January 1, 2011 by and among State
Automobile Mutual Insurance Company, State Auto
Property & Casualty Insurance Company, Milbank
Insurance Company, State Auto Insurance Company
of Wisconsin, State Auto Insurance Company of
Ohio, Meridian Security Insurance Company, Patrons
Mutual Insurance Company of Connecticut, Rockhill
Insurance Company, Plaza Insurance Company,
American Compensation Insurance Company and
Bloomington Compensation Insurance Company
Homeowners Quota Share Reinsurance Contract
between State Automobile Mutual
Insurance
insurance
itself and
Company (on behalf of
subsidiaries and affiliates now under its ownership,
control or management,
insurance
subsidiaries of State Auto Financial Corporation) and
a syndicate of reinsurers effective December 31, 2011
at 11:59 p.m.
including
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 10-Q Quarterly Report for the period ended
September 30, 2014 (see Exhibit 10.01 therein)
Form 10-K Annual Report
December 31, 2011 (see Exhibit 10.46 therein)
for year ended
Amended and Restated Declaration of Trust of STFC
Capital Trust I, dated as of May 22, 2003
Form 10-Q Quarterly Report for the period ended
June 30, 2003 (see 10(XX) therein)
Indenture dated as of May 22, 2003, for Floating Rate
Junior Subordinated Debt Securities Due 2033
Form 10-Q Quarterly Report for the period ended
June 30, 2003 (see 10(YY) therein)
Credit Agreement dated as of May 19, 2009, between
State Automobile Mutual Insurance Company, as
borrower, and Milbank Insurance Company, as lender
Form 8-K Current Report filed on May 26, 2009 (see
Exhibit 10.1 therein)
Credit Agreement dated as of September 29, 2011,
among State Auto Financial Corporation, as
borrower, a syndicate of financial institutions, as the
lenders party thereto, KeyBank National Association,
as Administrative Agent, Lead Arranger, Sole Book
Runner and Swingline Lender, and JPMorgan Chase
Bank, N.A. and PNC BANK, National Association,
as Co-Documentation Agents.
Credit Agreement dated as of July 26, 2013, among
State Auto Property & Casualty, as borrower, a
syndicate of financial institutions, as the lenders party
thereto, KeyBank National Association,
as
Administrative Agent, Lead Arranger, Sole Book
Runner and Swingline Lender, and JPMorgan Chase
Bank, N.A. and PNC BANK, National Association,
as Co-Documentation Agents.
Form 8-K Current Report filed on July 30, 2013 (see
Exhibit 10.1 therein)
Form 8-K Current Report filed on September 30,
2011 (see Exhibit 10.1 therein)
10.48*
10.49*
Employment Agreement, dated as of December 20,
2011, commencing as of January 1, 2012, among State
Auto Financial Corporation, State Auto Property &
Casualty Insurance Company, State Automobile
Mutual Insurance Company and Robert P. Restrepo,
Jr.
Executive Agreement dated as of December 20, 2011,
among State Auto Financial Corporation, State
Automobile Mutual Insurance Company and Robert
P. Restrepo, Jr.
Form 10-K Annual Report
December 31, 2011 (see Exhibit 10.55 therein)
for year ended
Form 10-K Annual Report
December 31, 2011 (see Exhibit 10.57 therein)
for year ended
803Fin.pdf
130
Exhibit
No.
10.50*
10.51*
10.52*
10.53*
10.54*
10.55*
10.56*
10.57*
10.58*
10.59*
10.60*
10.61*
10.62*
10.63*
Description of Exhibit
including Amendment
Employment Agreement (dated as of November 17,
2008),
to Employment
Agreement (dated as of November 30, 2010), among
Rockhill Holding Company, State Automobile
Mutual Insurance Company and Jessica E. Buss
Executive Change of Control Agreement dated as of
October 27, 2014, among State Auto Financial
Corporation, State Auto Property & Casualty
Insurance Company, State Automobile Mutual
Insurance Company and Steven E. English
Executive Change of Control Agreement dated as of
October 27, 2014, among State Auto Financial
Corporation, State Auto Property & Casualty
Insurance Company, State Automobile Mutual
Insurance Company and Clyde H. Fitch, Jr
Executive Change of Control Agreement dated as of
October 27, 2014, among State Auto Financial
Corporation, State Auto Property & Casualty
Insurance Company, State Automobile Mutual
Insurance Company and James A. Yano
Executive Change of Control Agreement dated as of
October 27, 2014, among State Auto Financial
Corporation, State Auto Property & Casualty
Insurance Company, State Automobile Mutual
Insurance Company and Jessica E. Buss
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 10-K Annual Report
December 31, 2011 (see Exhibit 10.61 therein)
for year ended
Form 10-Q Quarterly Report for the period ended
September 30, 2014 (see Exhibit 10.02 therein)
Form 10-Q Quarterly Report for the period ended
September 30, 2014 (see Exhibit 10.03 therein)
Form 10-Q Quarterly Report for the period ended
September 30, 2014 (see Exhibit 10.04 therein)
Form 10-Q Quarterly Report for the period ended
September 30, 2014 (see Exhibit 10.05 therein)
Form of Indemnification Agreement between State
Auto Financial Corporation and each of its directors
Form 8-K Current Report filed on November 20,
2008 (see Exhibit 99.1 therein)
Indemnification Agreement dated as of November 14,
2008, between State Auto Financial Corporation and
Robert P. Restrepo, Jr.
Officer Indemnification Agreement dated as of May
8, 2009, between State Auto Financial Corporation
and Steven E. English
Officer Indemnification Agreement dated as of May
8, 2009, between State Auto Financial Corporation
and Clyde H. Fitch, Jr.
Officer Indemnification Agreement dated as of May
8, 2009, between State Auto Financial Corporation
and James A. Yano
Amended
Incentive
and Restated Equity
Compensation Plan of State Auto Financial
Corporation
Amendment Number 1 to the Amended and Restated
Equity Incentive Compensation Plan of State Auto
Financial Corporation (amendment effective August
15, 2008)
Restricted Stock Agreement under the Amended and
Restated Equity Incentive Compensation Plan dated
as of November 5, 2007, between State Auto
Financial Corporation and Clyde H. Fitch
Form of Non-Qualified Stock Option Agreement
under the Amended and Restated Equity Incentive
Compensation Plan of State Auto Financial
Corporation
131
Form 8-K Current Report filed on May 13, 2009 (see
Exhibit 10.2 therein)
Form 8-K Current Report filed on May 13, 2009 (see
Exhibit 10.3 therein)
Form 8-K Current Report filed on May 13, 2009 (see
Exhibit 10.5 therein)
Form 8-K Current Report filed on May 13, 2009 (see
Exhibit 10.6 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2005 (see Exhibit 10.60 therein)
Form 10-K Annual Report for the year ended
December 31, 2008 (see Exhibit 10.63 therein)
Form 10-K Annual Report for the year ended
December 31, 2008 (see Exhibit 10.66 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2005 (see Exhibit 10.62 therein)
803Fin.pdf
Exhibit
No.
10.64*
10.65*
10.66*
10.67*
10.68*
10.69*
10.70*
10.71*
10.72*
10.73*
10.74*
10.75*
10.76*
10.77*
Description of Exhibit
Non-Qualified Stock Option Agreement under the
Amended
Incentive
and Restated Equity
Compensation Plan of State Auto Financial
Corporation dated March 2, 2006 between State Auto
Financial Corporation and Robert P. Restrepo, Jr.
Form of Incentive Stock Option Agreement under the
Amended
Incentive
and Restated Equity
Compensation Plan of State Auto Financial
Corporation
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 10-K Annual Report for the year ended
December 31, 2005 (see Exhibit 10.51 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2005 (see Exhibit 10.63 therein)
2009 Equity Incentive Compensation Plan of State
Auto Financial Corporation
Form 8-K Current Report filed on May 13, 2009 (see
Exhibit 10.7 therein)
Amendment No. 1 to the 2009 Equity Incentive
Compensation Plan of State Auto Financial
Corporation
Amendment No. 2 to the 2009 Equity Incentive
Compensation Plan of State Auto Financial
Corporation
Form 10-Q Quarterly Report for the period ended
June 30, 2011 (see Exhibit 10.01 therein)
Form 10-Q Quarterly Report for the period ended
September 30, 2013 (see Exhibit 10.01 therein)
Amendment No. 3 to the 2009 Equity Incentive
Compensation Plan of State Auto Financial
Corporation
Included herein
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of March 4,
2010 between State Auto Financial Corporation and
Robert P. Restrepo, Jr.
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated March 3, 2011,
between State Auto Financial Corporation and Robert
P. Restrepo, Jr.
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated March 1, 2012,
between State Auto Financial Corporation and Robert
P. Restrepo Jr.
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of March 6,
2014 between State Auto Financial Corporation and
Robert P. Restrepo, Jr.
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of March 6,
2014 between State Auto Financial Corporation and
Steven E. English
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of March 6,
2014 between State Auto Financial Corporation and
Clyde H. Fitch, Jr.
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of March 6,
2014 between State Auto Financial Corporation and
Jessica E. Buss
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of March 6,
2014 between State Auto Financial Corporation and
James A. Yano
132
Form 10-Q Quarterly Report for the period ended
March 31, 2010 (see Exhibit 10.01 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2011 (see Exhibit 10.01 therein)
Form 8-K Current Report filed on May 10, 2012 (see
Exhibit 10.1 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2014 (see Exhibit 10.01 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2014 (see Exhibit 10.02 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2014 (see Exhibit 10.03 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2014 (see Exhibit 10.04 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2014 (see Exhibit 10.05 therein)
803Fin.pdf
Exhibit
No.
10.78*
10.79*
10.80*
10.81*
10.82*
10.83*
10.84*
10.85*
10.86*
10.87*
10.88*
10.89*
10.90*
10.91*
10.92*
10.93*
Description of Exhibit
If incorporated by reference document with which Exhibit was
previously filed with SEC
Outside Directors Restricted Share Unit Plan of State
Auto Financial Corporation
Form 10-Q Quarterly Report for the period ended
June 30, 2005 (see Exhibit 10.61 therein)
First Amendment to the Outside Directors Restricted
Share Unit Plan of State Auto Financial Corporation
Form 10-K Annual Report for the year ended
December 31, 2005 (see Exhibit 10.54 therein)
Second Amendment
the Outside Directors
Restricted Share Unit Plan of State Auto Financial
Corporation
to
Form 10-K Annual Report for the year ended
December 31, 2008 (see Exhibit 10.72 therein)
Third Amendment to the Outside Directors Restricted
Share Unit Plan of State Auto Financial Corporation
Form 10-K Annual Report for the year ended
December 31, 2008 (see Exhibit 10.73 therein)
the Outside Directors
Fourth Amendment
Restricted Share Unit Plan of State Auto Financial
Corporation effective November 1, 2010
to
Form of Restricted Share Unit Agreement for the
Outside Directors Restricted Share Unit Plan of State
Auto Financial Corporation
Form of Designation of Beneficiary for the Outside
Directors Restricted Share Unit Plan of State Auto
Financial Corporation
Supplemental Retirement Plan
for Executive
Employees of State Auto Insurance Companies
effective as of May 1, 2010
First Amendment to the Supplemental Retirement
Plan for Executive Employees of State Auto
Insurance
effective
Companies (amendment
December 1, 2010)
Form 10-K Annual Report
December 31, 2010 (see Exhibit 10.89 therein)
for year ended
Form 10-Q Quarterly Report for the period ended
June 30, 2005 (see Exhibit 10.64 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2005 (see Exhibit 10.65 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2010 (see Exhibit 10.01 therein)
Form 10-K Annual Report
December 31, 2010 (see Exhibit 10.96 therein)
for year ended
State Auto Financial Corporation Supplemental
Executive Retirement Plan, effective January 1, 2007
Form 10-Q Quarterly Report for the period ended
September 30, 2007 (see Exhibit 10.72 therein)
First Amendment to the State Auto Financial
Corporation Supplemental Executive Retirement
Plan effective December 1, 2010
Form of Designation of Distribution Election for the
State Auto Financial Corporation Supplemental
Executive Retirement Plan
State Auto Insurance Companies Amended and
Restated Directors Deferred Compensation Plan
(amended and restated as of March 1, 2001)
First Amendment to the State Auto Insurance
Companies Amended and Restated Directors
Deferred Compensation Plan (amendment effective
as of December 1, 2005)
Second Amendment to the State Auto Insurance
Companies Amended and Restated Directors
Deferred Compensation Plan (amendment effective
as of January 1, 2009)
Third Amendment to the State Auto Insurance
Companies Amended and Restated Directors
Deferred Compensation Plan (amendment effective
as of January 1, 2009)
Form 10-K Annual Report
December 31, 2010 (see Exhibit 10.98 therein)
for year ended
Form 10-Q Quarterly Report for the period ended
September 30, 2007 (see Exhibit 10.73 therein)
Form 10-K Annual Report for the year ended
December 31, 2005 (see Exhibit 10.58 therein)
Form 10-K Annual Report for the year ended
December 31, 2005 (see Exhibit 10.59 therein)
Form 10-Q Quarterly Report for the period ended
September 30, 2008 (see Exhibit 10.02 therein)
Form 10-K Annual Report for the year ended
December 31, 2008 (see Exhibit 10.84 therein)
803Fin.pdf
133
Exhibit
No.
10.94*
10.95*
10.96*
10.97*
10.98*
10.99*
10.100*
10.101*
10.102*
10.103*
10.104*
10.105*
10.106*
10.107*
10.108*
If incorporated by reference document with which Exhibit was
previously filed with SEC
1933 Act Registration Statement No. 333-170564 on
Form S-8 (see Exhibit 4(j) therein)
Form 10-Q Quarterly Report for the period ended
September 30, 2012 (see Exhibit 10.1 therein)
Form 10-K Annual Report for the year ended
December 31, 2005 (see Exhibit 10.60 therein)
Description of Exhibit
Fourth Amendment to the State Auto Insurance
Companies Amended and Restated Directors
Deferred Compensation Plan effective November 1,
2010
Fifth Amendment to the State Auto Insurance
Companies Amended and Restated Directors
Deferred Compensation Plan effective January 1,
2012
Agreement of Assignment and Assumption dated as
of March 1, 2001, among State Auto Financial
Corporation, State Automobile Mutual Insurance
Company, State Auto Property and Casualty
Insurance Company, and Midwest Security Insurance
Company (nka State Auto Insurance Company of
Wisconsin) regarding the State Auto Insurance
Companies Amended and Restated Directors
Deferred Compensation Plan
Form of State Auto Insurance Companies Directors
Deferred Compensation Agreement
Form 10-K Annual Report for the year ended
December 31, 2005 (see Exhibit 10.61 therein)
State Auto Property & Casualty Insurance Company
Amended and Restated
Incentive Deferred
Compensation Plan effective as of March 1, 2010
First Amendment to the State Auto Property &
Casualty Insurance Company Amended and Restated
Incentive Deferred Compensation Plan (amendment
effective July 1, 2010)
Second Amendment to the State Auto Property &
Casualty Insurance Company Amended and Restated
Incentive Deferred Compensation Plan (amendment
effective November 1, 2010)
Third Amendment to the State Auto Property &
Casualty Insurance Company Amended and Restated
Incentive Deferred Compensation Plan (amendment
effective January 1, 2011)
1933 Act Registration Statement No. 333-165366 on
Form S-8 (see Exhibit 4(e) therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2010 (see Exhibit 10.02 therein)
1933 Act Registration Statement No. 333-170568 on
Form S-8 (see Exhibit 4(h) therein)
Form 10-K Annual Report
December 31, 2011 (see Exhibit 10.109 therein)
for year ended
State Auto Financial Corporation Leadership Bonus
Plan
Form 10-Q Quarterly Report for the period ended
June 30, 2007 (see Exhibit 10.64 therein)
First Amendment to the State Auto Financial
Corporation Leadership Bonus Plan (amendment
effective as of January 1, 2009)
Second Amendment to the State Auto Financial
Corporation Leadership Bonus Plan (amendment
effective as of January 1, 2012)
Form 10-Q Quarterly Report for the period ended
September 30, 2008 (see Exhibit 10.04 therein)
Form 8K Current Report filed on May 10, 2012 (see
Exhibit 10.2 therein)
State Auto Financial Corporation Long-Term
Incentive Plan
Form 10-Q Quarterly Report for the period ended
June 30, 2007 (see Exhibit 10.65 therein)
First Amendment to the State Auto Financial
Corporation Long-Term Incentive Plan (amendment
effective as of January 1, 2008)
Second Amendment to the State Auto Financial
Corporation Long-Term Incentive Plan (amendment
effective as of January 1, 2009)
Third Amendment to the State Auto Financial
Corporation Long-Term Incentive Plan (amendment
effective as of January 1, 2012)
Form 8-K Current Report filed on March 13, 2008
(see Exhibit 10.5 therein)
Form 10-Q Quarterly Report for the period ended
September 30, 2008 (see Exhibit 10.05 therein)
Form 8-K Current Report filed on May 10, 2012 (see
Exhibit 10.3 therein)
803Fin.pdf
134
Exhibit
No.
10.109*
10.110*
10.111*
10.112*
21.01
23.01
24.01
24.02
Description of Exhibit
Underwriting Management Agreement effective as of
November 20, 2009, by and between Rockhill
Insurance Company, Plaza Insurance Company,
American Compensation
Insurance Company,
Bloomington Compensation Insurance Company,
State Automobile Mutual Insurance Company, State
Auto Property & Casualty Insurance Company,
Meridian Security Insurance Company, Milbank
Insurance Company, Farmers Casualty Insurance
Company, and Risk Evaluation and Design, LLC
Blanket Security Agreement effective February 15,
2013 between State Auto Property & Casualty
Insurance Company and Federal Home Loan Bank
of Cincinnati
Insurance Company Member Addendum to Blanket
Security Agreement effective February 15, 2013
between State Auto Property & Casualty Insurance
Company and Federal Home Loan Bank of
Cincinnati
Application for Callable Advance signed July 10,
2013 by State Auto Property & Casualty Insurance
Company with respect to Blanket Security
Agreement effective February 15, 2013 between
State Auto Property & Casualty Insurance
Company and Federal Home Loan Bank of
Cincinnati
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 8-K Current Report filed on November 25,
2009 (see Exhibit 10.1 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2013 (see Exhibit 10.02 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2013 (see Exhibit 10.03 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2013 (see Exhibit 10.04 therein)
List of Subsidiaries of State Auto Financial
Corporation
Included herein
Consent
Accounting Firm
of
Independent Registered Public
Included herein
Powers of Attorney—Robert P. Restrepo, Jr., David
J. D’Antoni, David R. Meuse, S. Elaine Roberts,
Alexander B. Trevor and Paul S. Williams
Form 10-K Annual Report for the year ended
December 31, 2007 (see Exhibit 24.01 therein)
Powers of Attorney—Robert E. Baker and Thomas
E. Markert
Form 10-Q Quarterly Report for the period ended
March 31, 2008 (see Exhibit 24.01 therein)
24.03
Power of Attorney—Eileen A. Mallesch
Form 10-K Annual Report
December 31, 2010 (see Exhibit 24.03 therein)
for year ended
31.01
31.02
32.01
32.02
CEO certification required by Section 302 of
Sarbanes-Oxley Act of 2002
Included herein
CFO certification required by Section 302 of
Sarbanes-Oxley Act of 2002
Included herein
CEO certification required by Section 906 of
Sarbanes-Oxley Act of 2002
Included herein
CFO certification required by Section 906 of
Sarbanes-Oxley Act of 2002
Included herein
101.INS
XBRL Instance Document
Included herein
101.SCH
XBRL Taxonomy Extension Schema Document
Included herein
101.CAL
XBRL Taxonomy Extension Calculation Linkbase
Document
Included herein
101.DEF
XBRL Taxonomy Definition Linkbase Document
Included herein
101.LAB
XBRL Taxonomy Extension Label Linkbase
Document
Included herein
135
803Fin.pdf
Exhibit
No.
101.PRE
Description of Exhibit
If incorporated by reference document with which Exhibit was
previously filed with SEC
XBRL Taxonomy Extension Presentation Linkbase
Document
Included herein
*
Constitutes either a management contract or a compensatory plan or arrangement required to be filed as an Exhibit.
(b) EXHIBITS
The exhibits included with this Form 10-K, as indicated in Item 15(a)(3), have been separately filed.
(c) FINANCIAL STATEMENT SCHEDULES
Our financial statement schedules included with this Form 10-K, as indicated in Item 15(a)(2), follow the signatures to this
Form 10-K.
803Fin.pdf
136
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused
this report to be signed on its behalf by the undersigned, thereunto duly authorized.
SIGNATURES
Dated: March 3, 2015
STATE AUTO FINANCIAL CORPORATION
/S/ ROBERT P. RESTREPO, JR.
Robert P. Restrepo, Jr.
Chairman, President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons
on behalf of the Registrant and in the capacities and on the dates indicated.
Name
Title
/S/ ROBERT P. RESTREPO, JR.
Robert P. Restrepo, Jr.
Chairman, President and Chief Executive Officer
(principal executive officer)
/S/ STEVEN E. ENGLISH
Steven E. English
Senior Vice President and Chief Financial Officer
(principal financial officer)
Date
March 3, 2015
March 3, 2015
/S/ Matthew R. Pollak
Matthew R. Pollak
Vice President, Treasurer and Chief Accounting Officer
(principal accounting officer)
March 3, 2015
DAVID J. D’ANTONI*
David J. D’Antoni
ROBERT E. BAKER*
Robert E. Baker
THOMAS E. MARKERT*
Thomas E. Markert
DAVID R. MEUSE*
David R. Meuse
S. ELAINE ROBERTS*
S. Elaine Roberts
EILEEN A. MALLESCH*
Eileen A. Mallesch
ALEXANDER B. TREVOR*
Alexander B. Trevor
PAUL S. WILLIAMS*
Paul S. Williams
Director
Director
Director
Director
Director
Director
Director
Director
March 3, 2015
March 3, 2015
March 3, 2015
March 3, 2015
March 3, 2015
March 3, 2015
March 3, 2015
March 3, 2015
*
Steven E. English by signing his name hereto, does sign this document on behalf of the person indicated above pursuant
to a Power of Attorney duly executed by such person.
/S/ STEVEN E. ENGLISH
Steven E. English
Attorney in Fact
March 3, 2015
803Fin.pdf
137
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
SCHEDULE I – SUMMARY OF INVESTMENTS - OTHER THAN
INVESTMENTS IN RELATED PARTIES
December 31, 2014
($ millions)
December 31, 2014
Available-for-sale:
Fixed maturities:
U.S. treasury securities and obligations of U.S. government agencies
Obligations of states and political subdivisions
Corporate securities
U.S. government agencies residential mortgage-backed securities
Total fixed maturities
Equity securities:
Large-cap securities
Small-cap securities
Total equity securities
Other invested assets
Total available-for-sale securities
Other invested assets
Total investments – other than investments in related parties
Cost or
amortized
cost (1)
Fair
value
Amount at
which shown
in the
balance sheet
$
$
296.7
742.5
333.4
458.7
1,831.3
185.5
50.0
235.5
50.5
2,117.3
5.3
2,122.6
$
$
309.3
769.5
340.6
472.5
1,891.9
242.2
68.2
310.4
80.3
2,282.6
5.3
2,287.9
$
$
309.3
769.5
340.6
472.5
1,891.9
242.2
68.2
310.4
80.3
2,282.6
5.3
2,287.9
(1) Original cost of equity securities and, as to fixed maturities, original cost reduced by repayments and adjusted for amortization of premiums or
accrual of discounts.
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION
SCHEDULE II – CONDENSED FINANCIAL INFORMATION OF REGISTRANT
Condensed Balance Sheets
(in millions, except per share amounts)
Assets
Investments in common stock of subsidiaries (equity method)
Fixed maturities, available-for-sale, at fair value
Other invested assets
Cash and cash equivalents
Other assets
Due from affiliates
Federal income tax, net
Total assets
Liabilities and Stockholders’ Equity
Notes payable (affiliates $116.8 and $116.8, respectively)
Due to affiliates
Other liabilities
Total liabilities
Stockholders’ equity:
Class A Preferred stock (nonvoting), without par value. Authorized 2.5 shares;
none issued
Class B Preferred stock, without par value. Authorized 2.5 shares; none issued
Common stock, without par value. Authorized 100.0 shares; 47.7 and 47.5 shares
issued, respectively, at stated value of $2.50 per share
Treasury stock, 6.8 and 6.8 shares, respectively, at cost
Additional paid-in capital
Accumulated other comprehensive income
Retained earnings
Total stockholders’ equity
Total liabilities and stockholders’ equity
See accompanying notes to condensed financial statements.
December 31
2014
2013
$
$
$
$
960.7
0.9
2.8
11.5
0.3
—
21.2
997.4
116.8
0.5
7.2
124.5
—
—
119.3
(116.0)
143.2
71.7
654.7
872.9
997.4
$
$
$
$
891.1
1.6
2.6
6.1
0.4
1.5
4.6
907.9
116.8
—
6.1
122.9
—
—
118.8
(115.9)
137.5
80.8
563.8
785.0
907.9
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION
SCHEDULE II – CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONTINUED
Condensed Statements of Income
($ millions)
Net investment income
Net realized gain on investments
Total revenues
Interest expense (affiliates $6.0, $3.2 and $0.7, respectively)
Other operating expenses
Total expenses
Loss before federal income taxes
Federal income tax benefit
Net income (loss) before equity in net income of subsidiaries
Equity in net income of subsidiaries
Net income
See accompanying notes to condensed financial statements.
Year ended December 31
2013
2012
2014
$
$
0.3
—
0.3
6.0
5.6
11.6
(11.3)
(20.6)
9.3
98.1
107.4
$
$
0.3
0.7
1.0
8.8
6.8
15.6
(14.6)
(4.8)
(9.8)
70.6
60.8
$
$
0.2
0.4
0.6
7.0
5.8
12.8
(12.2)
(1.7)
(10.5)
21.2
10.7
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION
SCHEDULE II – CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONTINUED
Condensed Statements of Comprehensive Income
($ millions, except per share amounts)
Net income
Other comprehensive income, net of tax:
Year ended December 31
2013
2012
2014
$
107.4
$
60.8
$
10.7
Net unrealized holding (losses) gains on investments:
Unrealized holding (losses) gains arising during the year
Reclassification adjustments for gains realized in net income
Income tax benefit
Total net unrealized holding (losses) gains on investments
Unrealized equity in subsidiaries
Other comprehensive (loss) income
Comprehensive income
(0.2)
—
0.1
(0.1)
(9.0)
(9.1)
98.3
$
0.5
(0.7)
—
(0.2)
(3.2)
(3.4)
57.4
$
0.7
(0.4)
—
0.3
20.1
20.4
31.1
$
See accompanying notes to condensed financial statements.
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION
SCHEDULE II – CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONTINUED
Condensed Statements of Cash Flows
Year ended December 31
2013
2012
2014
$
107.4
$
60.8
$
10.7
—
0.9
—
(98.1)
0.5
—
—
(16.6)
(5.9)
24.0
—
(0.4)
0.5
0.3
—
24.4
3.5
(0.1)
(16.5)
—
—
—
(13.1)
5.4
6.1
11.5
1.3
1.6
(0.7)
(70.6)
0.1
0.5
0.1
(3.1)
(10.0)
13.8
—
(0.2)
0.2
3.9
3.7
21.4
4.0
(0.1)
(16.1)
(0.1)
100.0
(100.0)
(12.3)
(0.9)
7.0
6.1
$
$
4.3
$
(6.0) $
1.5
$
(8.0) $
(0.3)
0.4
(0.4)
(21.2)
1.5
0.3
—
(1.2)
(10.2)
27.0
(3.2)
(0.3)
2.5
0.3
3.2
29.5
1.6
—
(22.3)
—
—
—
(20.7)
(1.4)
8.4
7.0
0.4
(7.0)
$
$
$
($ millions)
Cash flows from operating activities:
Net income
Adjustments to reconcile net income to net cash used in operating
activities:
Depreciation and amortization, net
Share-based compensation
Net realized gain on investments
Equity in net income from consolidated subsidiaries
Changes in operating assets and liabilities:
Other liabilities and due from affiliates
Other assets
Excess tax benefits on share-based awards
Federal income taxes, net
Net cash used in operating activities
Cash flows from investing activities:
Dividends received from consolidated subsidiaries
Purchases of equity securities – available-for-sale
Purchases of other invested assets
Maturities, calls and pay downs of fixed maturities – available-for-sale
Sales of fixed maturities – available-for-sale
Sales of equity securities – available-for-sale
Net cash provided by investing activities
Cash flows from financing activities:
Proceeds from issuance of common stock
Payments to acquire treasury stock
Payment of dividends
Excess tax benefits on share-based awards
Proceeds from long-term debt
Redemption of long-term debt
Net cash used in financing activities
Net increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of year
Supplemental Disclosures:
Federal income tax received
Interest paid (affiliates $6.0, $3.2 and $0.7, respectively)
See accompanying notes to condensed financial statements.
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION
SCHEDULE II – CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONTINUED
Notes to Condensed Financial Statements
STFC’s investment in subsidiaries is stated at cost plus equity in net income from consolidated subsidiaries since the date
of acquisition. STFC’s share of net income of its unconsolidated subsidiaries is included in consolidated income using the equity
method.
During 2012, STFC received dividends from Stateco in the amount of $9.2 million in investments.
These financial statements should be read in conjunction with the consolidated financial statements of State Auto Financial
Corporation.
On July 11, 2013, STFC entered into two separate credit agreements with two of its subsidiaries, State Auto P&C and
Milbank. Under the terms of the credit agreements, STFC borrowed $85.0 million and $15.0 million, from State Auto P&C and
Milbank, respectively. Under the terms of each credit agreement, interest is payable semi-annually at a fixed annual interest rate
of 5.28%, with the principal due at the maturity date. There are no prepayment penalties and no collateral was given as security
for the payment of either of these loans.
Financial Instruments Disclosed, But Not Carried, At Fair Value
Notes Payable
Included in notes payable are the credit agreements described above with State Auto P&C and Milbank. STFC estimates
the fair value of each note payable by obtaining market quotations for U.S. treasury securities with similar maturity dates and
applies an appropriate credit spread. These have been placed in Level 3 of the fair value hierarchy.
($ millions, except interest rates)
December 31, 2014
December 31, 2013
Carrying
value
Fair
Value
Interest
rate
Carrying
value
Fair
value
Interest
rate
Affiliate note payable with Milbank, issued
$15.0, July 2013 with fixed interest
Affiliate note payable with State Auto P&C,
issued $85.0, July 2013 with fixed interest
Total notes payable to affiliates
$
$
15.0
$
14.8
5.28%
15.0
85.0
100.0
$
83.9
98.7
5.28%
85.0
100.0
14.4
81.4
95.8
5.28%
5.28%
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
SCHEDULE III – SUPPLEMENTARY INSURANCE INFORMATION
Years Ended December 31, 2014, 2013 and 2012
($ millions)
Segment
Year ended December 31, 2014:
Personal insurance segment
Business insurance segment
Specialty insurance segment
Investment operations segment
Total
Year ended December 31, 2013:
Personal insurance segment
Business insurance segment
Specialty insurance segment
Investment operations segment
Total
Year ended December 31, 2012:
Personal insurance segment
Business insurance segment
Specialty insurance segment
Investment operations segment
Total
Segment
Year ended December 31, 2014:
Personal insurance segment
Business insurance segment
Specialty insurance segment
Investment operations segment
Total
Year ended December 31, 2013:
Personal insurance segment
Business insurance segment
Specialty insurance segment
Investment operations segment
Total
Year ended December 31, 2012:
Personal insurance segment
Business insurance segment
Specialty insurance segment
Investment operations segment
Total
Deferred
policy
acquisition
cost
Future
benefits,
claims and
losses(1)
Unearned
premiums
Other policy
claims and
benefits
payable
Premium
revenue
$
$
$
$
$
$
$
$
$
$
$
$
48.9
41.4
36.2
—
126.5
31.5
38.8
26.5
—
96.8
30.1
35.0
26.6
—
91.7
$
$
$
$
$
$
201.9
349.8
421.9
—
973.6
223.7
359.6
367.5
—
950.8
231.0
341.8
355.9
—
928.7
Net
investment
income
Benefits,
losses and
settlement
expenses(2)
— $
—
—
74.7
74.7
$
— $
—
—
72.8
72.8
$
— $
—
—
75.4
75.4
$
318.3
231.3
219.0
—
768.6
342.2
221.8
158.7
—
722.7
344.8
222.5
211.7
—
779.0
$
$
$
$
$
$
$
$
$
$
$
$
270.7
201.9
139.8
—
612.4
189.9
193.1
108.0
—
491.0
188.4
180.9
112.3
—
481.6
Amort.
of deferred
policy
acquisition
costs
75.4
81.9
64.5
—
221.8
74.7
74.3
60.6
—
209.6
76.6
63.1
73.4
—
213.1
$
$
$
$
$
$
$
$
$
$
$
$
— $
—
—
—
— $
— $
—
—
—
— $
— $
—
—
—
— $
451.4
381.8
240.9
—
1,074.1
464.0
364.2
226.8
—
1,055.0
469.8
327.2
245.1
—
1,042.1
Other
operating
expenses
Premiums
written
52.0
58.1
30.0
—
140.1
55.5
73.5
16.2
—
145.2
46.6
80.6
5.6
—
132.8
$
$
$
$
$
$
532.1
389.2
272.9
—
1,194.2
465.4
374.8
221.9
—
1,062.1
469.5
349.4
236.4
—
1,055.3
(1) Segmented balances are net of reinsurance recoverable on losses and loss expenses payable.
(2) Benefits, losses and settlement expenses are monitored on a statutory basis.
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
SCHEDULE IV – REINSURANCE
Years Ended December 31, 2014, 2013 and 2012
($ million, except percentages)
Ceded to
Assumed from
Gross
Amount
Unaffiliated
Companies
Affiliated
Companies
(1)
Unaffiliated
Companies
Affiliated
Companies
(1)
Net
Amount
Percentage
of amount
assumed
(2)
to net
Property-casualty
earned premiums for
year ended December 31,
2014
2013
2012
$
$
882.6
874.7
833.3
$
25.3
23.5
28.2
$
861.7
855.0
809.2
4.4
3.8
4.1
$ 1,074.1
1,055.0
1,042.1
$ 1,074.1
1,055.0
1,042.1
0.4%
0.4 %
0.4 %
(1) These columns include the effect of intercompany pooling.
(2) Calculated as earned premiums assumed from outside companies to net amount.
803Fin.pdf
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
SCHEDULE V – VALUATION AND QUALIFYING ACCOUNTS
Years Ended December 31, 2014, 2013 and 2012
($ millions)
Valuation allowance for deferred tax assets:
Balance at beginning of period
Deductions
Balance at end of period
2014
At December 31
2013
2012
$
$
$
82.6
82.6
— $
100.5
17.9
82.6
$
$
103.3
2.8
100.5
803Fin.pdf
EXHIBIT 23.01
Consent of Independent Registered Public Accounting Firm
We consent to the incorporation by reference in the following Registration Statements:
Form
Registration
Number
S-8
33-44667
1991 Stock Option Plan
33-89400
Description
S-8
S-8
S-8
S-8
S-8
S-3
S-3
S-8
S-8
33-44666
1991 Directors’ Stock Option Plan
33-41423
1991 Employee Stock Purchase and Dividend Reinvestment Plan
333-05755
333-147333
333-56336
State Auto Insurance Companies Retirement Savings Plan
333-43882
2000 Directors’ Stock Option Plan
333-43880
2000 Stock Option Plan
333-14849
Monthly Stock Purchase Plan for Independent Agents
333-90529
1998 State Auto Agents’ Stock Option Plan
333-127172
2005 Outside Directors Restricted Share Unit Plan
333-165364
State Auto Financial Corporation 2009 Equity Incentive Compensation Plan
333-192158
S-8
333-165366
333-170568
State Auto Property & Casualty Insurance Company Amended and Restated Incentive Deferred Compensation
Plan
S-8
333-170564
State Auto Insurance Companies Amended and Restated Directors Deferred Compensation Plan
of our reports dated March 3, 2015, with respect to the consolidated financial statements and schedules of State Auto Financial Corporation
and subsidiaries and the effectiveness of internal control over financial reporting of State Auto Financial Corporation and subsidiaries,
included in this Annual Report (Form 10-K) for the year ended December 31, 2014.
/s/ Ernst & Young LLP
Columbus, Ohio
March 3, 2015
803Fin.pdf
I, Robert P. Restrepo, Jr., certify that:
CERTIFICATION
EXHIBIT 31.01
1.
2.
3.
4.
I have reviewed this Form 10-K of State Auto Financial Corporation;
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;
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;
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 the registrant’s board of
directors:
(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: March 3, 2015
/s/ Robert P. Restrepo, Jr.
Robert P. Restrepo, Jr.,
Chief Executive Officer
(Principal Executive Officer)
803Fin.pdf
I, Steven E. English, certify that:
CERTIFICATION
EXHIBIT 31.02
1.
2.
3.
4.
I have reviewed this Form 10-K of State Auto Financial Corporation;
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;
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;
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 the registrant’s board of
directors:
(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: March 3, 2015
/s/ Steven E. English
Steven E. English,
Chief Financial Officer
(Principal Financial Officer)
803Fin.pdf
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906
OF THE SARBANES-OXLEY ACT OF 2002
EXHIBIT 32.01
In connection with the Annual Report of State Auto Financial Corporation (the “Company”) on Form 10-K for the period ended
December 31, 2014, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Robert P. Restrepo,
Jr., Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of
operations of the Company.
/s/ Robert P. Restrepo, Jr.
Robert P. Restrepo, Jr.
Chief Executive Officer
March 3, 2015
A signed original of this written statement required by Section 906 has been provided to State Auto Financial Corporation and
will be retained by State Auto Financial Corporation and furnished to the Securities and Exchange Commission or its staff upon
request.
803Fin.pdf
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906
OF THE SARBANES-OXLEY ACT OF 2002
EXHIBIT 32.02
In connection with the Annual Report of State Auto Financial Corporation (the “Company”) on Form 10-K for the period ended
December 31, 2014, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Steven E. English,
Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of
operations of the Company.
/s/ Steven E. English
Steven E. English
Chief Financial Officer
March 3, 2015
A signed original of this written statement required by Section 906 has been provided to State Auto Financial Corporation and
will be retained by State Auto Financial Corporation and furnished to the Securities and Exchange Commission or its staff upon
request.
803Fin.pdf
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803Fin.pdf
Corporate Information
ANNUAL MEETING
10 a.m. ET Friday, May 8, 2015, at Corporate
Headquarters
SHAREHOLDER INQUIRIES
Tara Shull
Investor Relations and Finance Director
State Auto Financial Corporation
518 E. Broad St.
Columbus, Ohio 43215
Phone (614) 917-4478
Fax (614) 887-1793
Tara.Shull@StateAuto.com
INDEPENDENT AUDITORS
Ernst & Young LLP
Huntington Center
41 S. High St., Ste. 1100
Columbus, Ohio 43215
LEGAL COUNSEL
Baker & Hostetler LLP
65 E. State St., Ste. 2100
Columbus, Ohio 43215
SEC FILINGS
This report and other fi lings with the Securities and
Exchange Commission are available free of charge
on the Company’s website at StateAuto.com.
TRANSFER AGENT/REGISTRAR
Computershare
P.O. Box 43078
Providence, R.I. 02940
Phone (800) 622-6757
www.computershare.com/investor
STOCK TRADING
Common shares are traded in the Nasdaq Global Select
National Market System under the symbol STFC. As of
Feb. 27, 2015, there were 1,258 shareholders of the
Company’s common shares.
MARKET PRICE RANGE,COMMON STOCK
Initial Public Offering – June 28, 1991, $2.25
The high and low sale prices for each quarterly period
for the past two years as reported by Nasdaq and cash
dividends paid per share are:
2014
High
Fourth Quarter $24.00
25.43
Third Quarter
Second Quarter 23.62
22.85
First Quarter
2013
Fourth Quarter
Third Quarter
Second Quarter
First Quarter
High
$22.61
23.10
19.77
17.99
Low
$19.36
20.30
20.01
18.35
Low
$18.65
17.56
15.48
14.10
Dividend
$0.10
0.10
0.10
0.10
Dividend
$0.10
0.10
0.10
0.10
CORPORATE HEADQUARTERS
State Auto Financial Corporation
518 E. Broad St.
Columbus, Ohio 43215
StateAuto.com
(614) 464-5000
FORWARD-LOOKING STATEMENTS
This Annual Report contains forward-looking statements
within the meaning of the Private Securities Litigation
Reform Act of 1995. Please see “Important Information
Regarding Forward-Looking Statements” preceding
Part I of the Company’s Annual Report on Form 10-K
for the fiscal year ended Dec. 31, 2014, which is
included with this Annual Report.
39803.indd 7
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State Auto Financial Corporation Annual Report
State Auto Financial Corporation
State Auto Property & Casualty Insurance Company
Milbank Insurance Company
State Auto Insurance Company of Ohio
Stateco Financial Services Inc.
518 Property Management & Leasing LLC
State Automobile Mutual Insurance Company
State Auto Insurance Company of Wisconsin
Meridian Security Insurance Company
Patrons Mutual Insurance Company of Connecticut
Rockhill Insurance Company
Plaza Insurance Company
American Compensation Insurance Company
Bloomington Compensation Insurance Company
STATE AUTO FINANCIAL CORPORATION
518 E. BROAD ST.
COLUMBUS, OHIO 43215
STATEAUTO.COM
39803.indd 8
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