State Auto Financial
State Auto Financial
Corporation Annual Report
Corporation Annual Report
State Auto financial Corporation
State Auto financial Corporation
State Auto Property & Casualty Insurance Company
State Auto Property & Casualty Insurance Company
Milbank Insurance Company
Milbank Insurance Company
State Auto Insurance Company of Ohio
State Auto Insurance Company of Ohio
Stateco Financial Services Inc.
Stateco Financial Services Inc.
518 Property Management & Leasing LLC
518 Property Management & Leasing LLC
State Automobile Mutual Insurance Company
State Automobile Mutual Insurance Company
State Auto Insurance Company of Wisconsin
State Auto Insurance Company of Wisconsin
Meridian Security Insurance Company
Meridian Security Insurance Company
Patrons Mutual Insurance Company of Connecticut
Patrons Mutual Insurance Company of Connecticut
Rockhill Insurance Company
Rockhill Insurance Company
Plaza Insurance Company
Plaza Insurance Company
American Compensation Insurance Company
American Compensation Insurance Company
Bloomington Compensation Insurance Company
Bloomington Compensation Insurance Company
2017 annual report
State auto
financial corporation
2017 annual report
State auto
financial corporation
State auto financial corporation
State auto financial corporation
518 e. broad st.
518 e. broad st.
columbus, ohio 43215
columbus, ohio 43215
stateauto.com
stateauto.com
^
^
^
^
Mike Larocco
President, Chairman of the Board
& Chief Executive Officer
“We’re on a journey.”
often at State Auto:
What we’re trying to
something we talk about
We’re on a journey. It’s
than a job. More than a paycheck.
It’s about being part of something
transformational. An opportunity to
build a truly special company.
accomplish is about more
State Auto’s journey began, in
earnest, in 2017, and it’s off to a
successful start. It isn’t about just
getting a bit better or only being as
good as our competitors. We have
much more ambitious goals for
this journey, and we delivered real
progress in 2017. But to be clear: We
have much left to do.
During the second half of 2015 and
throughout 2016, we prepared for
our journey. We built a fully digital
quote and issue platform, State Auto
Connect, for new personal auto and
homeowners customers. Making the
decision to go digital was bold. The
states. By the end of 2018, we expect
work required was immense. Actually
to have this new platform up and
delivering was a tremendous step
running for BOP and commercial
forward.
The result? Our agency partners
and policyholders validated our
bold decision by delivering a record
number of new auto and home
policies in 2017. We also grew our
homeowners policies in force in 2017
as compared to 2016, the first year
of growth in eight years. Personal
auto policies, while not growing
for the full year, finished 2017
with four consecutive months of
policy growth. Finally, personal and
commercial lines written premium
grew on a year over year basis.
Clearly, we are relevant again in the
market.
We also launched State Auto
Connect for new customers of our
business owners policy (BOP) and
commercial auto products in four
auto in all states. We’ll begin work on
middle market commercial, worker’s
compensation and farm and ranch
business beginning in 2018, as well.
All of these changes, just like with
home and auto, make the purchase
process simpler for policyholders
and gives our agent customers more
time to do what they do best: provide
professional advice.
In 2018 and 2019, we’ll complete
the launch of this new platform
for our remaining lines of business.
We’ll also expand our commitment
to digital across State Auto, allowing
us to not only return to profitable
growth, but also build a sustainable
and flexible platform to be better
prepared for an industry undergoing
extraordinary change.
2
Letter to shareholders
1
Mike Larocco
President, Chairman of the Board
& Chief Executive Officer
“We’re on a journey.”
Letter to shareholders
1
We’re on a journey. It’s
something we talk about
often at State Auto:
What we’re trying to
accomplish is about more
than a job. More than a paycheck.
It’s about being part of something
transformational. An opportunity to
build a truly special company.
State Auto’s journey began, in
earnest, in 2017, and it’s off to a
successful start. It isn’t about just
getting a bit better or only being as
good as our competitors. We have
much more ambitious goals for
this journey, and we delivered real
progress in 2017. But to be clear: We
have much left to do.
During the second half of 2015 and
throughout 2016, we prepared for
our journey. We built a fully digital
quote and issue platform, State Auto
Connect, for new personal auto and
homeowners customers. Making the
decision to go digital was bold. The
work required was immense. Actually
delivering was a tremendous step
forward.
The result? Our agency partners
and policyholders validated our
bold decision by delivering a record
number of new auto and home
policies in 2017. We also grew our
homeowners policies in force in 2017
as compared to 2016, the first year
of growth in eight years. Personal
auto policies, while not growing
for the full year, finished 2017
with four consecutive months of
policy growth. Finally, personal and
commercial lines written premium
grew on a year over year basis.
Clearly, we are relevant again in the
market.
We also launched State Auto
Connect for new customers of our
business owners policy (BOP) and
commercial auto products in four
states. By the end of 2018, we expect
to have this new platform up and
running for BOP and commercial
auto in all states. We’ll begin work on
middle market commercial, worker’s
compensation and farm and ranch
business beginning in 2018, as well.
All of these changes, just like with
home and auto, make the purchase
process simpler for policyholders
and gives our agent customers more
time to do what they do best: provide
professional advice.
In 2018 and 2019, we’ll complete
the launch of this new platform
for our remaining lines of business.
We’ll also expand our commitment
to digital across State Auto, allowing
us to not only return to profitable
growth, but also build a sustainable
and flexible platform to be better
prepared for an industry undergoing
extraordinary change.
2
Profitability
While new business growth has
been impressive, our greatest
focus has been profitability. Our
combined ratio continued to move
in the right direction in our core
lines of business, personal and
commercial lines. But because
our combined ratio remains
unacceptable, we took a series of
aggressive, but necessary actions.
First, we continued to evaluate
our lines of business to determine
whether they fit our strategic
view of the future and are aligned
with our simple but critical
goal of profitable growth. As
a result, we decided to exit the
large commercial, healthcare, and
trucking businesses in 2015 and
2016. In 2017, we decided to exit
specialty business. While these have
been difficult decisions, we know
our strengths and where we have
the best chance of success. Our
focus on digital delivery, product
management, claims handling, data
and analytics and underwriting are
best suited for the lines on which
we’re now focused: personal and
commercial.
By the end of 2018, we’ll be
focused exclusively on our core and
ongoing lines of business: personal
auto, homeowners, farm and
ranch, small commercial package,
middle market commercial and
workers’ compensation. We have
the greatest chance for consistent,
profitable growth in these lines of
business because of our strengths
across product management,
technology, underwriting and
claims handling. Exiting businesses
is never an easy decision, but we
now feel we’re focused and built
for the long term.
We took significant rate action in
2017, especially in personal and
commercial auto. The result was
continued improvement in our
loss ratios for these key lines. A
consequence was a decrease in
retention of current customers.
While this is disappointing, we
must return to an underwriting
profit. Anything else is
unacceptable. We’ll continue to
take rate. However, as we get
better and better at analyzing our
results, those rate increases will be
increasingly targeted to individual
risks.
All of this work resulted in real
improvement in 2017. Loss ratios
in personal auto, commercial auto
and small commercial package
improved for the year, while
our middle market commercial,
homeowners and workers’
compensation lines met or
exceeded their loss ratio targets and
were profitable.
Our expense ratio remains far too
high, largely due to our investment
in the future. You can’t make
expenses go away unless you invest,
especially in technology. 2018
will be the last year of significant
spending on new digital policy
issuance technology, versus the
ongoing enhancements we’ll be
making moving forward. I’m
confident we’ll show improvement
in this key area because of the
growth we’ll see as a result of
improving our technology. At the
same time, many of our associates
are owners and they think that
way, constantly looking for
opportunities to reduce expenses
and become more efficient.
Delivering lower expense ratios is
critical to our long-term success.
Claims
Our Claims and Risk Engineering
(CARE) organization has made
great strides in the handling of
our customers’ claims. I was very
proud of their efforts throughout
the year, but never more so than in
their handling of Hurricanes Irma
and Harvey. They were on the
ground well before those storms
made landfall.
Having said that, we can do better.
Our CARE team is laser-focused
on being faster and more effective,
without sacrificing equity and the
quality of claim handling. Speed,
while delivering an exceptional
customer experience, is a win-win.
The customer gets their claim
handled more quickly and our loss
costs are reduced. This is an area
where we can and will improve.
Culture
If we’re to be successful on our
journey, another area in which
we continue to make positive
change is our culture. We cannot
have a successful journey, we
cannot become a transformational
company, we cannot meet and
exceed your expectations unless we
build and live this culture.
We need to have an open and
candid culture in which everyone
feels comfortable and empowered
to speak up. One that emphasizes
radical transparency. Sharing the
good and the bad, to be sure all
our associates have knowledge.
Allowing for mistakes, because great
companies encourage creativity and
risk-taking. If you fail, learn and
move forward. An environment
that’s diverse and inclusive of
thought, opinions, ideas and people.
3
Our culture also includes making a
difference in our communities. We’re
proud to give every associate two
days each year to volunteer where
they work and live. Our “Invest
a Day” program has resulted in
associates volunteering thousands
of hours with organizations
making positive impacts on their
communities. While I’m proud
of the progress we’ve made as a
150,000
120,000
90,000
company, I’m most proud of the way
our associates help others.
60,000
Transformation
We truly believe with the change
coming to our industry, we must
build something different. A
transformational company that
can generate consistent profit and
significant growth. One prepared
for the coming change by being
responsive and nimble. One that’s
seen across our communities as a
caring organization that gives back
and lifts up those less fortunate.
We’re on the right path.
In 2017, we emerged from two years
of internal focus and fixing. We’re
now quickly emerging as a company
that’s ready to embrace change and
win. While our journey has just
begun, our first steps have been
successful and productive, and we’re
prepared to accelerate our progress.
Best,
Mike larocco
President, Chairman of the Board
& Chief Executive Officer
350,000
300,000
250,000
300,000
250,000
New Business (Personal auto and home)
2013
2014
2015
2016
2017
2017 homeowners policies in force
.
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2017 Personal auto policies in force
350,000
(State Auto Group)
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4
Profitability
While new business growth has
been impressive, our greatest
focus has been profitability. Our
combined ratio continued to move
in the right direction in our core
lines of business, personal and
commercial lines. But because
our combined ratio remains
unacceptable, we took a series of
aggressive, but necessary actions.
First, we continued to evaluate
our lines of business to determine
whether they fit our strategic
view of the future and are aligned
with our simple but critical
goal of profitable growth. As
a result, we decided to exit the
large commercial, healthcare, and
trucking businesses in 2015 and
2016. In 2017, we decided to exit
specialty business. While these have
been difficult decisions, we know
our strengths and where we have
the best chance of success. Our
focus on digital delivery, product
management, claims handling, data
and analytics and underwriting are
best suited for the lines on which
we’re now focused: personal and
commercial.
By the end of 2018, we’ll be
focused exclusively on our core and
ongoing lines of business: personal
auto, homeowners, farm and
ranch, small commercial package,
middle market commercial and
workers’ compensation. We have
the greatest chance for consistent,
profitable growth in these lines of
business because of our strengths
across product management,
technology, underwriting and
claims handling. Exiting businesses
is never an easy decision, but we
now feel we’re focused and built
for the long term.
We took significant rate action in
2017, especially in personal and
commercial auto. The result was
continued improvement in our
loss ratios for these key lines. A
consequence was a decrease in
retention of current customers.
While this is disappointing, we
must return to an underwriting
profit. Anything else is
unacceptable. We’ll continue to
take rate. However, as we get
better and better at analyzing our
results, those rate increases will be
increasingly targeted to individual
risks.
All of this work resulted in real
improvement in 2017. Loss ratios
in personal auto, commercial auto
and small commercial package
improved for the year, while
our middle market commercial,
homeowners and workers’
compensation lines met or
exceeded their loss ratio targets and
were profitable.
Our expense ratio remains far too
high, largely due to our investment
in the future. You can’t make
expenses go away unless you invest,
especially in technology. 2018
will be the last year of significant
spending on new digital policy
issuance technology, versus the
ongoing enhancements we’ll be
making moving forward. I’m
confident we’ll show improvement
in this key area because of the
growth we’ll see as a result of
improving our technology. At the
same time, many of our associates
are owners and they think that
way, constantly looking for
opportunities to reduce expenses
and become more efficient.
Delivering lower expense ratios is
critical to our long-term success.
Claims
Our Claims and Risk Engineering
(CARE) organization has made
great strides in the handling of
our customers’ claims. I was very
proud of their efforts throughout
the year, but never more so than in
their handling of Hurricanes Irma
and Harvey. They were on the
ground well before those storms
made landfall.
Having said that, we can do better.
Our CARE team is laser-focused
on being faster and more effective,
without sacrificing equity and the
quality of claim handling. Speed,
while delivering an exceptional
customer experience, is a win-win.
The customer gets their claim
handled more quickly and our loss
costs are reduced. This is an area
where we can and will improve.
Culture
If we’re to be successful on our
journey, another area in which
we continue to make positive
change is our culture. We cannot
have a successful journey, we
cannot become a transformational
company, we cannot meet and
exceed your expectations unless we
build and live this culture.
We need to have an open and
candid culture in which everyone
feels comfortable and empowered
to speak up. One that emphasizes
radical transparency. Sharing the
good and the bad, to be sure all
our associates have knowledge.
Allowing for mistakes, because great
companies encourage creativity and
risk-taking. If you fail, learn and
move forward. An environment
that’s diverse and inclusive of
thought, opinions, ideas and people.
3
Our culture also includes making a
difference in our communities. We’re
proud to give every associate two
days each year to volunteer where
they work and live. Our “Invest
a Day” program has resulted in
associates volunteering thousands
of hours with organizations
making positive impacts on their
communities. While I’m proud
of the progress we’ve made as a
company, I’m most proud of the way
our associates help others.
Transformation
We truly believe with the change
coming to our industry, we must
build something different. A
transformational company that
can generate consistent profit and
significant growth. One prepared
for the coming change by being
responsive and nimble. One that’s
seen across our communities as a
caring organization that gives back
and lifts up those less fortunate.
We’re on the right path.
In 2017, we emerged from two years
of internal focus and fixing. We’re
now quickly emerging as a company
that’s ready to embrace change and
win. While our journey has just
begun, our first steps have been
successful and productive, and we’re
prepared to accelerate our progress.
Best,
Mike larocco
President, Chairman of the Board
& Chief Executive Officer
New Business (Personal auto and home)
150,000
120,000
90,000
60,000
350,000
300,000
250,000
2013
2014
2015
2016
2017
2017 homeowners policies in force
.
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J
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b
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F
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2017 Personal auto policies in force
(State Auto Group)
350,000
300,000
250,000
.
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J
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b
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F
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4
Board of Directors
Michael e. larocco
President and
Chief Executive Officer
Robert E. Baker
Executive Vice President of
DHR International Inc.
Chairman of the Board
Audit Committee
Investment and Finance Committee
Compensation Committee (Chair)
sisi pouraghabagher
Faculty at California
Polytechnic State University’s
Orfalea College of Business
Audit Committee
Independent Committee
Nominating and Governance Committee
Risk Committee
5
6
Board of Directors
Michael e. larocco
President and
Chief Executive Officer
Robert E. Baker
Executive Vice President of
DHR International Inc.
Chairman of the Board
Investment and Finance Committee
Audit Committee
Compensation Committee (Chair)
sisi pouraghabagher
Faculty at California
Polytechnic State University’s
Orfalea College of Business
Audit Committee
Independent Committee
Nominating and Governance Committee
Risk Committee
5
6
Board of Directors
kym m. hubbard
Retired Global Head of
Investments, Chief Investment
Officer and Treasurer of
Ernst & Young LLC
Audit Committee
Compensation Committee
Independent Committee
Investment and Finance Committee
michael j. fiorile
Chairman and Chief Executive
Officer of The Dispatch
Printing Company
Nominating & Governance
Committee (Chair)
Risk Committee (Chair)
eileen a. mallesch
Retired Senior Vice President
and Chief Financial Officer
of Nationwide Property and
Casualty Insurance Company
Audit Committee (Chair)
Compensation Committee
Independent Committee
thomas e. markert
david r. meuse
S. Elaine Roberts
Executive, Marketing, Branding
Senior Advisor of Stonehenge
Retired Executive Director
and Market Research
Compensation Committee
Independent Committee (Chair)
Partners Corp.
Lead Director
Audit Committee
Nominating and Governance Committee
Independent Committee
of the
Columbus Airport Authority
Compensation Committee
Independent Committee
Risk Committee
Investment and Finance Committee
Nominating and Governance Committee
(Chair)
Risk Committee
7
8
Board of Directors
kym m. hubbard
michael j. fiorile
eileen a. mallesch
Chairman and Chief Executive
Retired Senior Vice President
Retired Global Head of
Investments, Chief Investment
Officer and Treasurer of
Ernst & Young LLC
Audit Committee
Compensation Committee
Independent Committee
Investment and Finance Committee
Officer of The Dispatch
Printing Company
Nominating & Governance
Committee (Chair)
Risk Committee (Chair)
and Chief Financial Officer
of Nationwide Property and
Casualty Insurance Company
Audit Committee (Chair)
Compensation Committee
Independent Committee
thomas e. markert
Executive, Marketing, Branding
and Market Research
Compensation Committee
Independent Committee (Chair)
Nominating and Governance Committee
Risk Committee
david r. meuse
Senior Advisor of Stonehenge
Partners Corp.
Lead Director
Audit Committee
Independent Committee
Investment and Finance Committee
(Chair)
S. Elaine Roberts
Retired Executive Director
of the
Columbus Airport Authority
Compensation Committee
Independent Committee
Nominating and Governance Committee
Risk Committee
7
8
Senior Leadership
Mike larocco
President, Chairman and CEO
Jason berkey
SVP/Personal Lines
Melissa centers
Steve english
SVP/General Counsel/Secretary
SVP/Chief Financial Officer
Kim Garland
SVP/Commercial Lines and
Managing Director of State Auto Labs
John Petrucci
SVP/Customer Service
Élise Spriggs
SVP/Associate and
External Relations
Paul stachura
SVP/Chief Claims and
Risk Engineering Officer
Greg tacchetti
SVP/Chief Information and
Strategy Officer
9
10
Senior Leadership
Mike larocco
President, Chairman and CEO
Jason berkey
SVP/Personal Lines
Melissa centers
SVP/General Counsel/Secretary
Steve english
SVP/Chief Financial Officer
Kim Garland
SVP/Commercial Lines and
Managing Director of State Auto Labs
John Petrucci
SVP/Customer Service
Élise Spriggs
SVP/Associate and
External Relations
Paul stachura
SVP/Chief Claims and
Risk Engineering Officer
Greg tacchetti
SVP/Chief Information and
Strategy Officer
9
10
“I quote with approximately 10 different
companies on a daily basis and State
Auto’s new system is by far the easiest
system to get through. I was able to get
an Auto and Home quote together in a
total of 15 minutes. If all carrier systems
were like this, it would make things
more efficient and faster for an insurance
broker.”
- Colorado agent
the early stages of a five- to seven -
I n April 2015, State Auto was in
-year project to move personal
and commercial lines from its
mainframe- based system to a new
server-based platform. After CEO Mike
LaRocco rallied the company around the
idea that it didn’t have five to seven years
to wait, the State Auto team launched
a completely new, 100 percent digital
platform for personal lines within 14
months. In most states, personal lines
new business is being written entirely on
the new platform, known as State Auto
Connect.
■ New auto (including State
Auto Safety 360TM telematics),
home and umbrella products
and coverages
■ Personal auto and home quotes
within minutes with just four
pieces of information provided
by the customer (name,
address, occupation and date
of birth)
■ Electronic signature on all
applications, policy documents
■ Customer email and mobile
phone number required
■ All policy documents delivered
through a customer portal; no
paper
■ Recurring payment via e Check
or credit card required
At the same time, State Auto has formed
close, very successful partnerships with
platform agencies, introduced electronic
claim payment for all personal lines
customers, and successfully launched a
new platform that is delivering the same
ease of use and efficiency for commercial
lines.
The result? Record quotes and significant
increases in new business. A State Auto
that has truly been transformed.
Transforming State auto:
State Auto Connect
11
“The State Auto quoting platform is on
fire - best in the industry.”
- Ohio agent
12
I n April 2015, State Auto was in
the early stages of a five- to seven -
-year project to move personal
and commercial lines from its
mainframe- based system to a new
server-based platform. After CEO Mike
LaRocco rallied the company around the
idea that it didn’t have five to seven years
to wait, the State Auto team launched
a completely new, 100 percent digital
platform for personal lines within 14
months. In most states, personal lines
new business is being written entirely on
the new platform, known as State Auto
Connect.
■ New auto (including State
Auto Safety 360TM telematics),
home and umbrella products
and coverages
■ Personal auto and home quotes
within minutes with just four
pieces of information provided
by the customer (name,
address, occupation and date
of birth)
■ Electronic signature on all
applications, policy documents
■ Customer email and mobile
phone number required
■ All policy documents delivered
through a customer portal; no
paper
■ Recurring payment via e Check
or credit card required
At the same time, State Auto has formed
close, very successful partnerships with
platform agencies, introduced electronic
claim payment for all personal lines
customers, and successfully launched a
new platform that is delivering the same
ease of use and efficiency for commercial
lines.
The result? Record quotes and significant
increases in new business. A State Auto
that has truly been transformed.
“I quote with approximately 10 different
companies on a daily basis and State
Auto’s new system is by far the easiest
system to get through. I was able to get
an Auto and Home quote together in a
total of 15 minutes. If all carrier systems
were like this, it would make things
more efficient and faster for an insurance
broker.”
- Colorado agent
“The State Auto quoting platform is on
fire - best in the industry.”
- Ohio agent
12
Transforming State auto:
State Auto Connect
11
State Auto:
serving the
community
13
3
1
14
CAPTIONS
1. State Auto supported
workplace diversity by marching
in the 2017 Columbus Pride
Parade. Around 100 associates
and their families participated in
the 1.2-mile walk to celebrate the
LGBTQ community.
2. Chairman, President and
CEO Mike LaRocco chaired the
American Heart Association’s
2017 Central Ohio Heart Walk,
which raised nearly $1.9 million
to help fight heart disease and
stroke.
3. State Auto is committed
to ending the epidemic of
distracted driving, and partners
with Columbus-area television
personality Dom Tiberi (pictured
with State Auto associate Brit
Toth) on his “Maria’s Message”
campaign. Dom’s daughter,
Maria, was killed in a 2013 crash
believed to have been caused by
distracted driving.
4. State Auto has focused its
distracted driving awareness
efforts on young children, who
can serve as positive influencers
in their families, much as they
did with anti-drug, anti-smoking
and seatbelt campaigns of the
past. Our “Everything Can Wait”
storybook empowers children
to speak up when they see
distracted driving behaviors. State
Auto associate Errica Rivera
is pictured reading the book at
Clifton Park Elementary School
in Killeen, Texas. And our
distracted driving simulators are
made available to independent
agents, trade organizations and
other groups to help spread
the message in an even more
interactive way.
2
3
4
State Auto:
serving the
community
13
3
1
CAPTIONS
1. State Auto supported
workplace diversity by marching
in the 2017 Columbus Pride
Parade. Around 100 associates
and their families participated in
the 1.2-mile walk to celebrate the
LGBTQ community.
2. Chairman, President and
CEO Mike LaRocco chaired the
American Heart Association’s
2017 Central Ohio Heart Walk,
which raised nearly $1.9 million
to help fight heart disease and
stroke.
3. State Auto is committed
to ending the epidemic of
distracted driving, and partners
with Columbus-area television
personality Dom Tiberi (pictured
with State Auto associate Brit
Toth) on his “Maria’s Message”
campaign. Dom’s daughter,
Maria, was killed in a 2013 crash
believed to have been caused by
distracted driving.
4. State Auto has focused its
distracted driving awareness
efforts on young children, who
can serve as positive influencers
in their families, much as they
did with anti-drug, anti-smoking
and seatbelt campaigns of the
past. Our “Everything Can Wait”
storybook empowers children
to speak up when they see
distracted driving behaviors. State
Auto associate Errica Rivera
is pictured reading the book at
Clifton Park Elementary School
in Killeen, Texas. And our
distracted driving simulators are
made available to independent
agents, trade organizations and
other groups to help spread
the message in an even more
interactive way.
14
2
3
4
Financial highlights
($ in millions, except per share amounts)
2017
2016
2015
$
Earned premiums
$
Net investment income
$
Net realized investment gains
$
Other income
$
Total revenue
$
Net (loss) income
Basic (loss) earnings per share
$
Diluted (loss) earnings per share $
$
Dividends paid per share
$
Book value per share
$
Total assets
$
Stockholders’ equity
Return on equity
Combined ratio
1,275.1
78.8
65.1
2.3
1,421.3
(10.7)
(0.25)
(0.25)
0.40
20.76
3,014.3
880.9
(1.2)%
107.7
1,291.9
74.7
36.5
2.3
1,405.4
21.0
0.50
0.50
0.40
21.31
2,959.4
891.3
2.4%
106.2
1,270.5
71.7
24.3
2.1
1,368.6
51.2
1.25
1.23
0.40
21.40
2,828.2
884.6
5.8%
101.5
2014
1,074.1
74.7
20.7
3.2
1,172.7
107.4
2.63
2.60
0.40
21.32
2,766.6
872.9
13.0%
105.5
2013
1,055.0
72.8
23.2
2.0
1,153.0
60.8
1.50
1.49
0.40
19.27
2,496.1
785.0
8.0%
101.8
investment portfolio
Net premium written (in billions)
Corporate Bonds - 19.7%
MBS - 19.2%
Tax Exempt Bonds - 16.3%
Treasury Bonds - 15.5%
Equities - 13.6%
Agency Bonds - 7.4%
Taxable Muni Bonds - 3.6%
Notes Receivable - 2.6%
Other Invested Assets - 2.1%
2017
2016
2015
2014
2013
$1.3
$1.3
$1.3
$1.2
$1.1
$0.0
$0.3
$0.6
$0.9
$1.2
$1.5
book value (per share)
dividend paid (per share)
2017
2016
2015
2014
2013
$20.76
$21.31
$21.40
$21.32
$19.27
2017
2016
2015
2014
2013
$0.40
$0.40
$0.40
$0.40
$0.40
$0
$5
$10
$15
$20
$25
$0.00 $0.05 $0.10 $0.15 $0.20 $0.25 $0.30 $0.35 $0.40
15
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, 2017 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, a non-accelerated filer, smaller
reporting company, or an emerging growth company. See definition of “large accelerated filer”, "accelerated filer," "smaller
reporting company" and "emerging growth company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
Non-accelerated filer
(Do not check if a smaller reporting company)
Accelerated filer
Smaller reporting company
Emerging growth company
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes
No
As of June 30, 2017, 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
$416,265,622.
On February 23, 2018, the Registrant had 42,668,535 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 11, 2018 (the
“2018 Proxy Statement”), which will be filed within 120 days of December 31, 2017, are incorporated by reference into Part III
of this Form 10-K.
Index to Annual Report on Form 10-K for the year ended December 31, 2017
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
17
18
30
30
30
30
31
33
33
74
74
75
126
126
126
127
127
127
127
128
129
141
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.
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”), and Stateco Financial Services, Inc. (“Stateco”).
Refers to State Automobile Mutual Insurance Company, which owns
approximately 61.2% of STFC’s outstanding common shares.
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 Insurance Company of Wisconsin (“SA
Wisconsin”), Meridian Security Insurance Company (“Meridian Security”),
Patrons Mutual Insurance Company of Connecticut (“Patrons Mutual”),
Rockhill Insurance Company (“RIC”), Plaza Insurance Company (“Plaza”),
American Compensation Insurance Company (“American Compensation”)
and Bloomington Compensation Insurance Company (“Bloomington
Compensation”).
Pooled Companies or our Pooled Companies Refers to the STFC Pooled Companies and the Mutual Pooled Companies.
Rockhill Insurance Group
Rockhill Insurers
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
State Auto Group
Refers to the Pooled Companies
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 $25.0 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
Financial Accounting Standards Board or
FASB
Generally accepted accounting principles or
GAAP
In the United States, a non-governmental body the SEC has charged with
establishing and maintaining generally accepted standards for
professional accountants.
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
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.
7
Standard insurance
Statutory accounting practices or SAP
Statutory surplus
Insurance which is typically written by admitted insurers. Our personal
and business insurance segments are comprised of standard insurance.
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
Unearned premiums
Wholesale broker
Under SAP, earned premiums less loss and LAE and underwriting
expenses.
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.
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 61.2% 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.
As described in more detail below, we are exiting our excess and surplus lines specialty business, which will result in the
elimination of our specialty insurance segment and its related underwriting results from the State Auto Group. We expect to cease
writing this business by mid-2018. However, exposure to the risks underlying this business will continue as the premiums are
earned through mid-2019.
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, commercial 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 16
to our consolidated financial statements included in Item 8 of this Form 10-K.
The products within each reportable insurance segment are as follows:
• Personal Insurance Segment- personal auto, homeowners and other personal
• Commercial Insurance Segment - commercial auto, small commercial package, middle market commercial,
workers’ compensation, farm and ranch and other commercial
• Specialty Insurance Segment - E&S property, E&S casualty and programs
PERSONAL AND COMMERCIAL INSURANCE
Products offered in our personal and commercial 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, homeowners, and other personal (examples of products included in other personal are dwelling
fire, personal inland marine and personal umbrella).
9
Commercial Insurance
In our commercial insurance segment, we write standard insurance covering small-to-medium sized commercial exposures.
We offer a broad range of coverages which include commercial auto, small commercial package, middle market commercial, farm
& ranch, workers’ compensation and other commercial (examples of products included in other commercial are commercial inland
marine, small commercial package umbrella and middle market commercial umbrella).
Marketing
We market our personal and commercial insurance through approximately 2,800 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 their home states; training opportunities; and
incentives related to profit and growth. In addition, we share the cost of approved marketing with selected agencies.
We actively help our agencies develop the professional sales skills of their staff. Our training programs include both product
and sales training conducted in our corporate headquarters. Further, some of our training programs include disciplined follow-up
and coaching for an extended time. In addition, from time to time we provide targeted training sessions in our agents’ offices.
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.
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.
During the second half of 2017, management undertook a review of strategic alternatives for our excess and surplus lines
business, which constitutes all of the business, along with programs which was previously placed into run-off, within our specialty
insurance segment, to determine whether or not this business was core to our ongoing business strategy. As a result of this review,
management determined this business was not core to our strategy and decided to begin exiting the excess and surplus lines business
either through a series of renewal right transactions or by placing lines of business into run-off. The impact of this decision, along
with the run-off of the programs business, will result in the elimination of the specialty insurance segment and its related underwriting
results from the State Auto Group. We expect to stop writing specialty business by the middle of 2018; however, exposure to the
risks underlying this business will continue as the premiums are earned through mid-2019.
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 and programs.
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, in run-off since 2016, markets and distributes business through specialty program managers to whom
we have outsourced underwriting and policy administration. Program business typically consists of homogeneous 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 this unit included commercial auto, general liability, and
property.
10
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—Results of
Operations—Investment Operations Segment.”
CLAIMS
Our claims and risk engineering (“CARE”) 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,
sharing of relevant information, 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. In areas where there is not a sufficient volume of claims to warrant
staff adjusters, we supplement our field staff with outside adjusters and appraisers who work under our direction.
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, when appropriate,
by settling disputes regarding automobile physical damage, bodily injury and property insurance claims through arbitration or
mediation.
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. As with our internal claims adjusters, claim settlement authority
is established for 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
to defend our insureds, when appropriate.
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.”
11
GEOGRAPHIC DISTRIBUTION
The following table sets forth the geographic distribution of our direct written premiums for the year ended December 31,
2017:
State
Ohio
Texas
Kentucky
California
Minnesota
Georgia
South Carolina
Tennessee
Indiana
Illinois
Maryland
Mississippi
North Carolina
Pennsylvania
All others (1)
Total
% of Total
9.0%
8.7
6.2
4.8
4.2
4.0
3.7
3.7
3.6
3.4
3.2
3.2
3.1
3.1
36.1
100.0%
(1) No other single state accounted for 3.0% or more of the total direct
written premiums written in 2017.
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, renewed for an additional
ten-year period on January 1, 2015. 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
account the type of risk, the circumstances surrounding each claim and applicable policy provisions. The formula reserves are
12
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 single method for determining the exact 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—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, 2017, 2016 and 2015:
($ millions)
Beginning of Year:
Year Ended December 31
2016
2015
2017
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:
$ 1,181.6
3.6
1,178.0
$ 1,053.0
5.9
1,047.1
$
Current year
Prior years(2)
Total
Loss and loss expense payments for claims occurring during:
Current year
Prior years
Total
End of Year:
964.9
(46.6)
918.3
445.2
398.6
843.8
915.4
27.0
942.4
417.8
393.7
811.5
983.2
9.6
973.6
852.8
10.0
862.8
421.5
367.8
789.3
Net losses and loss expenses payable
Add: Reinsurance recoverable on losses and loss expenses payable
Losses and loss expenses payable(3)
1,252.5
3.1
$ 1,255.6
1,178.0
3.6
$ 1,181.6
1,047.1
5.9
$ 1,053.0
(1)
Includes net amounts assumed from affiliates of $630.9 million, $532.4 million, and $494.3 million at beginning of year 2017, 2016, and
2015, 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 $711.4 million, $630.9 million, and $532.4 million at end of year 2017, 2016, and 2015,
respectively.
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
13
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.
In 2017, the State Auto Group filed its ORSA Summary Report, supported by internal risk management materials, with the Ohio
Department of Insurance, our lead state regulator.
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, $85.8 million is available in 2018 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 $15.0 million, $10.0 million and $15.0 million in 2017, 2016 and 2015, respectively, from its insurance subsidiaries. Additional
information regarding dividend restrictions can be found in this Item 7 and in Note 12 to our consolidated financial statements
included in Item 8 of this Form 10-K.
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 2017 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 underpriced 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, 2017, 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
14
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.
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”), has been 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 was
$100.0 million and, beginning in 2016, increases by $20.0 million annually 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 are 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.
15
EMPLOYEES
As of February 23, 2018, we had approximately 1,962 employees. Our employees are not covered by any collective bargaining
agreement. We consider the relationship with our employees to be good.
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.
16
Name of Executive Officer and
Position(s) with Company
Michael E. LaRocco,
Chairman, President and Chief
Executive Officer
(1)
Age
61
Steven E. English,
Senior Vice President, Chief
Financial Officer
Jason E. Berkey,
Senior Vice President, Personal
Lines
Melissa A. Centers,
Senior Vice President, Secretary and
General Counsel
Kim B. Garland,
Senior Vice President, Director of
Commercial Lines
John M. Petrucci,
Senior Vice President, Customer
Service
Elise D. Spriggs,
Senior Vice President, Associate and
External Relations
Paul M. Stachura,
Senior Vice President, Chief CARE
Officer
Gregory A. Tacchetti,
Senior Vice President, Chief
Information and Strategy Officer
Scott A. Jones,
Vice President, Chief Investment
Officer
Matthew S. Mrozek,
Vice President, Chief Actuarial
Officer
Matthew R. Pollak,
Vice President, Chief Accounting
Officer and Treasurer
57
43
46
52
59
47
60
49
53
49
52
Executive Officers of the Registrant
Principal Occupation(s)
During the Past Five Years
President and Chief Executive Officer of STFC and State
Auto Mutual, 5/15 to present; Chairman of the Board of
STFC, 1/16 to present; chief executive officer of Business
Insurance Direct LLC, 10/11 to 4/15; chief executive officer
of AssureStart Insurance Agency LLC, 1/13 to 7/14; chief
executive officer of Fireman’s Fund Insurance Company, 3/08
to 7/11.
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 of Personal Lines of STFC and State
Auto Mutual, 9/17 to present; Vice President of STFC and
State Auto Mutual, 10/15 to 9/17; vice president of American
Insurance Group (“AIG”), 1/04 to 7/15.
Senior Vice President, Secretary and General Counsel of
STFC, 11/15 to present; General Counsel and Secretary of
State Auto Mutual, 11/15 to present; Assistant Secretary of
STFC and State Auto Mutual, 11/12 to 11/15; Associate
General Counsel of STFC and State Auto Mutual, 3/12 to
11/15; Assistant General Counsel of STFC and State Auto
Mutual, 6/10 to 3/12.
Senior Vice President of Commercial Lines of STFC and
State Auto Mutual, 9/17 to present; Senior Vice President of
Standard Lines of STFC and State Auto Mutual, 8/15 to 9/17;
chief product officer of AIG consumer division, 1/13 to
12/14; chief underwriting officer of AIG’s global consumer
insurance division, 12/12 to 1/13; president and chief
executive officer of United Guaranty Corporation (“UGC”),
an affiliate of AIG, 2/12 to 12/12; chief operating officer of
UGC, 6/09 to 12/12.
Senior Vice President, Customer Service, 04/16 to present;
Senior Vice President, Service and Administration, 9/15 to
present; Vice President and Director of Sales of STFC and
State Auto Mutual, 3/00 to 9/15.
Senior Vice President, Associate and External Relations of
STFC and State Auto Mutual, 10/17 to present; Senior Vice
President, External and Government Affairs of STFC and
State Auto Mutual, 3/16 to present; vice president and
director of government relations, 7/11 to 6/15. Attorney,
Carpenter, Lipps & Leland LLP, 06/15 to 03/16
Senior Vice President and Chief Claims Officer of STFC and
State Auto Mutual, 9/15 to present; chief claims officer, of
QBE Holdings, Inc., 5/13 to 9/15; chief claims and risk
services officer of Fireman’s Fund Insurance Company, 5/05
to 4/13.
Senior Vice President and Chief Information and Strategy
Officer of STFC and State Auto Mutual, 8/15 to present; chief
executive officer of AssureStart Insurance Agency LLC, 7/14
to 12/14; chief operating officer of AssureStart Insurance
Agency LLC, 10/11 to 6/14; senior vice president and chief
administrative officer of Fireman’s Fund Insurance Company,
2008 to 10/11.
Vice President and Chief 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.
Vice President and Chief Actuarial Officer of STFC and State
Auto Mutual, 3/09 to present.
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.
An Executive Officer
of the Company Since
2015
(2)
2006
2017
2015
2015
2015
2016
2015
2015
2012
2015
2013
(1) Age as of February 28, 2018.
(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.
17
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
18
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.
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:
•
•
•
•
•
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;
uncertainties which are generally inherent in estimates and assumptions;
our ability to project changes in certain operating expense levels with reasonable accuracy;
19
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
the development, selection and application of appropriate rating formula 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;
our ability to properly classify our new and renewal business;
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 including distracted driving; 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 rating 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 stable outlook.
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 stable outlook.
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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; 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.
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.
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.
System implementations are complex processes requiring extensive planning and coordination among multiple stakeholder
groups. During 2017, we continued the rollout of our “State Auto Connect” digital quote and issue platform. We have now
launched State Auto Connect for personal lines in 22 of the 28 states where we write private passenger auto and homeowners
business. We plan on launching State Auto Connect in the remaining six personal lines states in 2018. We launched new business
owners’ policies and commercial auto products to our Illinois agents in September 2017 via our State Auto Connect commercial
lines platform. Arizona, Ohio, Indiana and Wisconsin were added to the State Auto Connect commercial lines platform in November
2017. We plan on launching State Auto Connect in additional states and lines of coverage for commercial lines throughout 2018.
These new technology platforms are intended to provide us with quicker speed to market, improve ease of doing business for our
policyholders and agents, 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 2018 and beyond.
If we experience difficulties with outsourcing, or other third party relationships, our ability to conduct business might
be negatively impacted.
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.
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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.
CYBERSECURITY THREATS
Our highly automated and networked organization is subject to cyberterrorism and a variety of other cybersecurity 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 from multiple sources and could interrupt, damage or otherwise adversely
affect the operation of these critical systems. Threats to data security have risen in recent years due to new technologies, the use
of the internet and telecommunications to conduct financial transactions and the increased sophistication and resources of hackers,
activists and other external parties.
In addition, to access our online services, our customers may use devices or software that are beyond our control environment
and which may provide additional avenues for attackers to gain access to confidential information. Although we have information
security procedures and controls in place, our technologies, systems, networks, and customers' devices and software may become
the target of cyber-attacks or information security breaches that could result in the unauthorized release, gathering, monitoring,
misuse, loss, change, or destruction of our or our customers' confidential, proprietary and other information (including personal
identifying information of individuals), or otherwise disrupt our or our customers' or other third parties' business operations.
We and others in our industry are regularly the subject of attempts by attackers to gain unauthorized access to our networks,
systems, and data, or to obtain, change, or destroy confidential data (including personal identifying information of individuals)
through a variety of means, including computer viruses, malware, and phishing. In the future, these attacks may result in
unauthorized individuals obtaining access to our confidential information or that of our customers, or otherwise accessing,
damaging, or disrupting our systems or infrastructure.
We are continuously developing and enhancing our controls, processes, and practices designed to protect our systems,
computers, software, data, and networks from attack, damage, or unauthorized access. This continued development and
enhancement will require us to expend additional resources, including the investigation and remediation of any information security
vulnerabilities that may be detected. Despite our ongoing investments in security resources, talent, and business practices, we are
unable to assure that these security measures will be effective. Additionally, as part of our technology strategy, we utilize U.S.,
off-shore and cloud vendors. Controls employed by these vendors may prove inadequate.
The risk committee of the Board of Directors oversees the Company’s cybersecurity risk mitigation strategy. On a quarterly
basis, a written report is prepared and presented to the risk committee which provides an overview of the Company’s cybersecurity
program, including management’s assessment of the program’s maturity utilizing a standardized framework and investments we
have made in the program and how we expect them to enhance the maturity of the program. The presentation also includes a
discussion of major cybersecurity events in the news.
If our systems and infrastructure were to be breached, damaged, or disrupted, or if we were to experience a loss of our
confidential information or that of our customers, we could be subject to serious negative consequences, including disruption of
our operations, damage to our reputation, a loss of trust in us on the part of our customers, vendors or other counterparties, client
attrition, reimbursement or other costs, increased compliance costs, litigation exposure and legal liability and regulatory fines or
penalties. Any of these could materially and adversely affect our results of operations, our financial condition, and/or our share
price. 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.
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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
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. Reinsurance may not be adequate to protect us
against losses and may not be available to us in the future at commercially reasonable rates. The availability, policy conditions
and cost of reinsurance are subject to prevailing market conditions and loss experience, 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. 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.
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 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 cyclical nature of the industry may cause fluctuations in our operating results. While we 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 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. Policyholder reaction to price competition may result in the movement of business and
volatility of premium revenues.
The personal lines products are influenced by a collection of loss cost trends. Driving patterns including behavioral changes
like distracted driving, along with 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.
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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.
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 commercial insurance products. 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 exclusively through independent, non-exclusive insurance agents, including platform
agents, 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
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the industry has dramatically shrunk over the past decade due to agency purchases, consolidations, bankruptcies and agent
retirements. We also recognize that it may become 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.
Additionally, in any given period we may drive a significant portion of our business from a limited number of agents 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 payments to the agent 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. Consequently, we assume a
degree of risk associated with certain agents with whom we transact business.
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, some 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
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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.
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.
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
Affordable Care Act of 2010 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 are enacted or proposed that could materially impact our financial statements
or tax positions. The Tax Cuts and Jobs Act of 2017 (the “TCJA”), a comprehensive federal tax reform initiative, was enacted into
law in December 2017. Among other things, the TCJA reduces the corporate tax rate to 21 percent as of January 1, 2018. As a
result of the TCJA, we revalued our deferred tax assets and liabilities for the year ended 2017. This revaluation resulted in the
recognition of $36.4 million of provisional deferred tax expense. We are continuing to assess the impact of the TCJA on our
financial statements and tax positions.
There can be no assurance that our effective tax rate or tax positions will not be adversely affected by the TCJA or other
enacted or proposed tax 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.
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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.
An emerging risk faced by the property and casualty industry is commonly referred to as the opioid crisis. Numerous lawsuits
have been filed on behalf of states, counties and municipalities alleging a variety of claims and generally seek compensatory
damages caused by the opioid crisis. In general, defendants named in these lawsuits have been major pharmaceutical companies,
wholesale distributors, retail pharmacies and doctors. Since these lawsuits are at early stages, we are unable to predict the outcome
of these lawsuits or their impact to our financial results.
Court decisions have had, and are expected to continue to have, significant impact on the property and casualty insurance
industry. These 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.
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.
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
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accept or decline our terrorism coverage. In 2017, 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.
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
28
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.
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 the interests
of other STFC shareholders.
As of December 31, 2017, State Auto Mutual owned approximately 61.2% 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.
Some of our competitors have well-established national reputations and brands supported by extensive media advertising. Some
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, technology, use of telematics, 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 to market and sell
our products. 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.
29
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. We 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
We are involved in lawsuits in the ordinary course of our business arising out of or otherwise related to our insurance policies.
Additionally, from time to time we may be involved in lawsuits, including class actions, in the ordinary course of business but not
arising out of or otherwise related to our insurance policies. These lawsuits are in various stages of development. We generally
will contest these matters vigorously but may pursue settlement if appropriate. Based on currently available information, we do
not believe it is reasonably possible that any such lawsuit or related lawsuits will be material to our results of operations or have
a material adverse effect on our consolidated financial position or cash flows.
Item 4. Mine Safety Disclosures
Not applicable.
30
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 23, 2018,
there were 1,112 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:
2017
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
2016
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
(1) Adjusted for stock splits.
High
Low
Dividend
$
$
$
$
27.97
27.62
27.00
30.85
High
22.83
22.22
24.35
27.42
$
23.60
23.89
22.11
24.84
0.10
0.10
0.10
0.10
Low
Dividend
$
17.84
18.69
20.76
19.54
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.
31
Performance Graph
The line graph below compares the total return on $100.00 invested on December 31, 2012, 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
12/31/2012
12/31/2013
12/31/2014
12/31/2015
12/31/2016
12/31/2017
100.00
100.00
100.00
145.26
140.17
131.15
154.81
160.96
144.99
163.68
172.40
157.63
216.86
187.86
185.46
239.14
243.71
194.61
32
Item 6. Selected Consolidated Financial Data
(dollars and shares in millions, except per share data)
Year ended December 31
2017
2016
2015
2014
2013
Statement of Income Data — GAAP Basis:
Earned premiums
Net investment income
Total revenues
Net (loss) income
Earned premium (decline) 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.
$ 1,275.1
$
78.8
$ 1,421.3
(10.7)
$
(1.3)%
3.1 %
$ 2,689.7
$ 3,014.3
122.1
$
880.9
$
42.4
(1.2)%
12.2 %
$
$
$
$
$
$
$
(0.25)
(0.25)
0.40
20.76
30.85
22.11
29.12
1.40
72.0 %
35.7 %
107.7 %
72.2 %
35.1 %
107.3 %
1.5
1,291.9
74.7
1,405.4
21.0
1.7%
3.1%
2,612.6
2,959.4
122.1
891.3
41.8
2.4%
12.0%
1,270.5
71.7
1,368.6
51.2
18.3%
3.1%
2,471.7
2,828.2
100.5
884.6
41.3
5.8%
10.2%
1,074.1
74.7
1,172.7
107.4
1,055.0
72.8
1,153.0
60.8
1.8%
3.5%
1.2%
3.4%
2,357.9
2,766.6
100.5
872.9
40.9
13.0%
10.4%
2,251.3
2,496.1
100.5
785.0
40.7
8.0%
11.4%
0.50
0.50
0.40
21.31
27.42
17.84
26.81
1.26
72.9
33.3
106.2
73.1
33.4
106.5
1.5
1.25
1.23
0.40
21.40
27.37
20.01
20.59
0.96
67.9
33.6
101.5
68.0
33.9
101.9
1.6
2.63
2.60
0.40
21.32
25.43
18.35
22.22
1.04
71.8
33.7
105.5
72.1
33.9
106.0
1.5
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
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.
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.
33
Our reportable insurance segments are personal insurance, commercial 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 Commercial 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 2017 is set forth in this Item 7 and in Note 16 to our consolidated financial
statements included in Item 8 of this Form 10-K.
EXECUTIVE SUMMARY
We delivered significant progress in 2017 toward our goal of profitable growth. During 2017, we continued the rollout of
our “State Auto Connect” digital quote and issue platform for personal auto and homeowners new business. State Auto Connect
is now accessible to agents in 22 of the 28 states where we are licensed to write personal auto and homeowners policies. We plan
on launching the remaining six personal lines states in 2018. We are now a solely digital insurance company for new customers
in those states. Additionally, we launched State Auto Connect for our commercial auto and small commercial package products
in the fourth quarter of 2017 and will continue the rollout of this platform to our existing states throughout 2018. Both of our
platforms include new products and rates, and incorporate advanced data analytics. We believe these platforms will make us the
carrier of choice for independent agents as their customers increasingly demand products and services from digital companies.
We plan to complete our transformation to digital for commercial auto and small commercial package in 2018. Our workers’
compensation and farm and ranch products will follow.
Our decision to exit our excess and surplus specialty business during the second half of 2017, in addition to our 2016 decision
to exit our programs business, will enable us to fully focus on achieving profitable growth within our core personal insurance and
commercial insurance products. We believe that the changes we have made improve our competitiveness and better position us
to achieve our goal of profitable growth.
Insurance Operations
Personal insurance segment: Throughout 2017, work continued to address the underwriting and pricing issues that impacted
our underwriting results in recent years. We continued to take rate actions in a number of states for both our personal auto and
homeowners products to improve overall profitability. We experienced a year-over-year increase in written premiums, driven by
our rate actions and new business growth. Our new auto product incorporates discounts if customers decide to sign up for telematics,
which enables us to further refine our pricing based on an insured’s driving habits. Our new homeowners product incorporates
discounts for homes with smart technologies (i.e., technologies that monitor activity within the home and immediately notify a
homeowner in the event of a potential loss event such as a water leak or fire). Homeowners policies-in-force (“PIF”) increased
compared to 2016, the first year-over-year PIF growth in eight years, driven by the launch of State Auto Connect.
Commercial insurance segment: During 2017, we continued to address underwriting and pricing issues that impacted our
commercial insurance underwriting results in recent years, particularly commercial auto. Commercial auto results improved in
2017 compared to 2016 due primarily to (i) greater favorable development of prior accident year losses and (ii) pricing and other
actions we have undertaken since 2016; however, the pricing and other actions contributed to an overall decline in written premiums
as retention declines offset increases in new business. Softening marketing conditions within the workers’ compensation market
place impacted our workers’ compensation written premium as both new business and renewal premiums were down.
While expenses remain a challenge, associates at all levels are focused on identifying ways we can increase efficiencies and
lower expenses. We continued to invest in new technology solutions, enabling us to replace outdated and inefficient legacy
technologies. In addition to State Auto Connect, which enables us to improve overall underwriting efficiency and lower acquisition
costs, during 2017 we began an effort to replace our legacy financial and human resource systems and successfully launched a
new integrated platform in January 2018. We have also utilized robotics to improve efficiencies within our claims and customer
service units and continue to identify other processes throughout the organization that can be made more efficient with the use of
robotics. These investments will put pressure on our expense ratios in the short-term, but we believe that the efficiency benefits
will result in consistently lower expense ratios in the long-term.
Claims
Our Claims and Risk Engineering (CARE) associates are focused on being faster and more effective while still maintaining
quality. They continue to identify improvements to our claim handling capabilities. As an example, during 2017 we began offering
claimants the option to receive claim payments electronically, which not only streamlines the claims payment process, but also
lowers our overall payment costs.
34
Culture
We recognize that we can’t become the transformational company we aspire to be without a culture that is aligned with that
objective. We have made great strides in developing a culture that encourages openness, candor and collaboration; one in which
all associates are empowered to speak up and are comfortable doing so; and finally, one in which the sharing of information is an
expectation. Additionally, we strive to create a culture in which mistakes are not viewed as failures, but opportunities to learn and
improve. We have built an environment that is diverse and inclusive of thought, opinions, ideas and people. We continue building
upon a nearly century-long commitment to giving back to the communities in which we live and work through our time and
financial resources.
Moving forward
With the successful rollout of our digital platform for personal lines and the launch of our commercial lines-focused digital
platform, we now have the critical technology pieces of our foundation in place. With our decision to exit specialty business now
behind us, we can fully focus our efforts on digital delivery, product management, claims handling, data and analytics and
underwriting that is best suited for personal and commercial insurance. We are committed to making the same amount of progress
toward becoming profitable, and will do so with the people, the processes and technology required to deliver.
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. There were
no changes to the participants or to their participation percentages during 2017.
STFC Pooled Companies:
State Auto P&C
Milbank
SA Ohio
Total STFC Pooled Companies
State Auto Mutual Pooled Companies:
State Auto Mutual
SA Wisconsin
Meridian Security
Patrons Mutual
RIC
Plaza
American Compensation
Bloomington Compensation
Total State Auto Mutual Pooled Companies
51.0%
14.0
0.0
65.0
34.5
0.0
0.0
0.5
0.0
0.0
0.0
0.0
35.0%
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.
35
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, 2017, 2016 and 2015:
($ millions, except per share data)
2017
2016
2015
GAAP Basis:
Total revenues
Income before federal income taxes
Net (loss) 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 ratio
Non-cat loss and ALAE ratio
ULAE ratio
Loss and LAE ratio
Expense ratio
Combined ratio
Net premiums written to surplus
$ 1,421.3
$
$
$
$
33.4
(10.7)
880.9
20.76
(1.2)%
12.2 %
9.7 %
62.3 %
72.0 %
35.7 %
107.7 %
(1.9)%
3.1 %
9.7 %
56.8 %
5.7 %
72.2 %
35.1 %
$
$
$
$
$
1,405.4
19.2
21.0
891.3
21.31
$
$
$
$
$
1,368.6
67.3
51.2
884.6
21.40
2.4%
12.0%
6.3%
66.6%
72.9%
33.3%
106.2%
1.6%
3.1%
6.3%
60.9%
5.9%
73.1%
33.4%
5.8%
10.2%
4.0%
63.9%
67.9%
33.6%
101.5%
6.6%
3.1%
4.0%
57.7%
6.3%
68.0%
33.9%
107.3 %
106.5%
101.9%
1.5
1.5
1.6
Our 2017 net loss was $10.7 million compared to net income of $21.0 million and $51.2 million in 2016 and 2015, respectively.
Our 2017 results included a provisional net charge of $36.4 million resulting from revaluing our deferred tax assets and liabilities
as a result of the enactment of the TCJA.
The following highlights other significant factors that impacted 2017 results as compared to 2016 and 2015:
•
•
•
Earned premiums in 2017 were $1,275.1 million compared to $1,291.9 million and $1,270.5 million in 2016 and
2015, respectively. Earned premiums declined in 2017 compared to 2016 due to (i) underwriting and pricing decisions
within the commercial insurance segment to improve overall profitability and (ii) our decision to exit Program
business in 2016. Earned premiums in 2016 increased when compared to 2015 primarily driven by new business
growth in the specialty insurance segment.
The SAP cat loss and ALAE ratio for 2017 was 9.7% compared to 6.3% and 4.0% for 2016 and 2015, respectively.
The 2017 cat loss ratio increased when compared to the same 2016 and 2015 periods primarily driven by (i) Hurricanes
Harvey and Irma during the third quarter of 2017 and (ii) widespread storms that impacted the Ohio Valley region,
South Carolina, Texas, Mississippi and Georgia during the first quarter of 2017. The 2016 cat loss ratio increased
when compared to 2015 primarily due to the impact of (i) increased storm activity, including wind and hail storms,
in Texas, (ii) Hurricane Matthew, and (iii) wildfires in Tennessee.
The SAP non-catastrophe loss and ALAE ratio for 2017 was 56.8% compared to 60.9% and 57.7% for 2016 and
2015, respectively. The 2017 loss ratio improved 4.1 points compared to 2016 primarily attributable to 3.2 points,
36
or $41.4 million, of favorable development of prior accident year losses and loss adjustment expenses in 2017
compared to 1.9 points, or $24.7 million, of adverse development in 2016. Favorable development in 2017 was
primarily due to $44.0 million of favorable development in the commercial insurance segment. All commercial
insurance products developed favorably due primarily to lower than anticipated severity emerging from multiple
accident years. The 2016 loss ratio increased 3.2 points compared to 2015 due primarily to higher severity in lines
of business with auto exposures.
•
Net realized gains on investments were $65.1 million in 2017 compared to $36.5 million and $24.7 million in 2016
and 2015, respectively. Net realized gains in 2017 were impacted by (i) realized gains of $18.5 million from the
sale of our U.S. small-cap equity portfolio and (ii) sales within our U.S. large-cap equity portfolio. The proceeds
from the sale of our U.S. small-cap equity portfolio were reinvested in U.S. small-cap focused mutual and exchange
traded funds. Net realized gains in 2016 were impacted by the recognition of a $12.0 million gain from the redemption
of a limited partnership investment in international equities.
37
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 the “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. For a discussion of our pension and postretirement benefit obligations, see the “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.
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,
2017, 2016 and 2015:
$
$
($ in millions)
2017
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
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
Personal
Commercial
Specialty
Total
$
609.7
580.3
$
453.6
455.7
206.0
239.1
$
1,269.3
1,275.1
$
26.7
232.2
258.9
25.3
284.2
182.1
(10.6)
5.9%
50.9%
56.8%
5.6%
62.4%
40.2%
102.6%
$
53.9
156.1
210.0
9.5
219.5
76.6
(57.0)
22.5%
65.3%
87.8%
4.0%
91.8%
37.2%
129.0%
124.0
723.5
847.5
72.5
920.0
446.0
(90.9)
9.7%
56.8%
66.5%
5.7%
72.2%
35.1%
107.3%
$
43.4
335.2
378.6
37.7
416.3
187.3
(23.3)
7.5%
57.7%
65.2%
6.5%
71.7%
30.7%
102.4%
38
($ in millions)
2016
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
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
($ in millions)
2015
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
Underwriting expenses
Net underwriting gain (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
Personal
Commercial
Specialty
Total
$
$
459.4
472.6
$
256.7
240.8
1,293.3
1,291.9
Personal
Commercial
Specialty
Total
$
$
481.5
476.5
$
1,273.5
1,270.5
$
25.6
276.4
302.0
29.5
331.5
172.7
(31.6)
5.4%
58.5%
63.9%
6.2%
70.1%
37.6%
107.7%
$
7.5
173.7
181.2
9.4
190.6
92.9
(42.7)
3.1%
72.2%
75.3%
3.9%
79.2%
36.2%
115.4%
81.6
786.8
868.4
75.7
944.1
432.4
(84.6)
6.3%
60.9%
67.2%
5.9%
73.1%
33.4%
106.5%
211.0
202.7
0.3
121.1
121.4
8.0
129.4
79.1
(5.9)
$
$
0.2%
59.7%
59.9%
4.0%
63.9%
37.5%
101.4%
16.5
288.8
305.3
33.3
338.6
184.7
(46.8)
3.5%
60.6%
64.1%
7.0%
71.1%
38.4%
109.5%
51.1
732.7
783.8
80.5
864.3
431.3
(25.1)
4.0%
57.7%
61.7%
6.3%
68.0%
33.9%
101.9%
$
577.2
578.5
48.5
336.7
385.2
36.8
422.0
166.8
$
(10.3)
$
8.4%
58.2%
66.6%
6.3%
72.9%
28.9%
101.8%
$
581.0
591.3
34.2
322.9
357.1
39.1
396.2
167.5
$
27.5
$
5.8%
54.6%
60.4%
6.6%
67.0%
28.8%
95.8%
39
Personal Insurance Segment
The following table sets forth certain key performance indicators by major product line of business for our personal insurance
segment for the years ended December 31, 2017, 2016 and 2015:
Table 1
($ in millions)
2017
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
Underwriting expenses
Net underwriting (loss) gain
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
Personal Auto
Homeowners
Other Personal
Total
$
$
362.9
340.7
7.9
237.2
245.1
21.7
266.8
104.2
$
(30.3)
$
2.3%
69.6%
71.9%
6.4%
78.3%
28.7%
107.0%
$
$
227.9
220.7
34.4
89.2
123.6
14.8
138.4
76.0
6.3
15.6%
40.4%
56.0%
6.7%
62.7%
33.4%
96.1%
18.9
18.9
1.1
8.8
9.9
1.2
11.1
7.1
0.7
5.7%
46.5%
52.2%
6.5%
58.7%
37.4%
96.1%
$
609.7
580.3
43.4
335.2
378.6
37.7
416.3
187.3
$
(23.3)
7.5%
57.7%
65.2%
6.5%
71.7%
30.7%
102.4%
40
Table 2
($ in millions)
2016
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
Underwriting expenses
Net underwriting (loss) gain
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
Table 3
($ in millions)
2015
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
Underwriting expenses
Net underwriting (loss) gain
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
$
$
$
$
Personal Auto
Homeowners
Other Personal
Total
$
333.8
330.6
7.0
243.9
250.9
20.4
271.3
89.7
(30.4)
$
2.1%
73.8%
75.9%
6.1%
82.0%
26.9%
108.9%
$
$
223.0
226.8
40.4
84.2
124.6
15.0
139.6
69.7
17.5
17.8%
37.2%
55.0%
6.6%
61.6%
31.2%
92.8%
$
$
20.4
21.1
1.1
8.6
9.7
1.4
11.1
7.4
2.6
5.1%
41.1%
46.2%
6.8%
53.0%
36.8%
89.8%
577.2
578.5
48.5
336.7
385.2
36.8
422.0
166.8
(10.3)
8.4%
58.2%
66.6%
6.3%
72.9%
28.9%
101.8%
Personal Auto
Homeowners
Other Personal
Total
$
$
224.9
229.8
28.9
76.9
105.9
9.4
115.3
69.6
44.9
12.6%
33.5%
46.1%
4.1%
50.2%
31.0%
81.2%
$
$
21.7
22.4
0.7
9.9
10.6
0.8
11.4
7.9
3.1
3.3%
44.0%
47.3%
3.5%
50.8%
36.4%
87.2%
581.0
591.3
34.2
322.9
357.1
39.1
396.2
167.5
27.5
5.8%
54.6%
60.4%
6.6%
67.0%
28.8%
95.8%
$
334.4
339.1
$
4.6
236.1
240.6
28.9
269.6
90.0
(20.5)
1.3%
69.7%
71.0%
8.5%
79.5%
26.9%
106.4%
41
In October 2016, we launched State Auto Connect for our personal auto and homeowners products in five states. State Auto
Connect is a fully digital quote and issue platform that incorporates advanced data analytics and updated pricing models, enabling
us to offer new products and coverages for our personal auto and homeowners products. The platform enables our agents to submit,
quote, bind, issue and bill policies through a completely digital and integrated platform. We continued the rollout of State Auto
Connect throughout 2017, launching it in all but six of our states prior to December 31, 2017. We expect to complete the rollout
of our personal auto and homeowners products to our remaining six states during the first half of 2018.
Net written premiums for the year ended December 31, 2017 increased 5.7% compared to 2016 (Tables 1 - 2) driven by (i)
rate increases for our personal auto product implemented beginning in 2016 and continuing throughout 2017 and (ii) new business
growth in personal auto and homeowners. The new business growth experienced during 2017 was due to production generated
through State Auto Connect.
Net written premiums for the year ended December 31, 2016 were flat compared to 2015 (Tables 2 - 3). While total policies
in force continued to decline, new business policy counts were up, and personal auto and homeowners new business premiums
increased when compared to the same 2015 period. During 2016, we took actions to improve our new business trends, including
increasing the number of personal lines agency appointments and launching State Auto Connect in five states in October for our
personal auto and homeowners products.
The SAP catastrophe loss ratio for the year ended December 31, 2017 was 7.5%, compared to 8.4% in 2016 and 5.8% in
2015 (Tables 1 - 3). During 2017, we were primarily impacted by (i) Hurricanes Harvey and Irma and (ii) widespread storms that
affected the Ohio Valley region, South Carolina, Texas, Mississippi and Georgia. During 2016, we were impacted by (i) storms
in Texas, primarily wind and hail, (ii) Hurricane Matthew, and (iii) wildfires in Tennessee.
The SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2017 was 57.7%, compared to 58.2% in
2016 and 54.6% in 2015. (Tables 1 - 3). The SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2017
improved 0.5 points when compared to 2016 (Tables 1 - 2). The 2017 results were impacted by favorable development of prior
accident year losses of $4.4 million in personal auto compared to adverse development of $7.9 million in 2016. The 2017 favorable
development was attributable to lower than expected bodily injury severity, primarily from accident years 2015 and 2016. Slightly
offsetting the 2017 improvement was a 3.2 point increase in the homeowners SAP non-catastrophe loss and ALAE ratio when
compared to 2016, primarily driven by an increase in current accident year non-catastrophe weather-related losses.
The SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2016 increased 3.6 points when compared
to 2015 (Tables 2 -3). Personal auto results in 2016 were impacted by increased levels of bodily injury severity trends that resulted
in increases in ultimate loss and ALAE estimates for prior accident years, primarily 2014 and 2015. In addition, the 2016 accident
year loss and ALAE estimates reflected the impact of continued increased bodily injury severity trends.
42
Commercial Insurance Segment
The following table sets forth certain key performance indicators by major product line of business for our commercial
insurance segment for the years ended December 31, 2017, 2016 and 2015:
Workers'
Comp
Farm &
Ranch
Other
Commercial
Total
$
$
88.4
88.8
—
50.2
50.2
6.7
56.9
28.4
3.5
—%
56.5%
56.5%
7.6%
64.1%
32.1%
96.2%
42.6
39.6
5.1
23.0
28.1
30.2
16.3
(6.9)
13.0%
57.9%
70.9%
5.5%
76.4%
38.2%
$
14.2
14.6
$ 453.6
455.7
$
—
2.6
2.6
1.1
3.7
7.7
3.2
26.7
232.2
258.9
25.3
284.2
182.1
$ (10.6)
0.1%
18.4%
18.5%
7.0%
25.5%
54.4%
5.9%
50.9%
56.8%
5.6%
62.4%
40.2%
114.6%
79.9% 102.6%
Table 4
($ in millions)
2017
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
Underwriting expenses
Net underwriting (loss) gain
$
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
Commercial
Auto
Small
Commercial
Package
Middle
Market
Commercial
$
73.5
76.2
$
123.8
127.4
$
111.1
109.1
$
0.8
44.7
45.5
4.5
50.0
31.5
(5.3)
1.1%
58.6%
59.7%
5.9%
65.6%
43.0%
$
12.4
61.1
73.5
6.1
79.6
55.7
(7.9)
9.7%
48.0%
57.7%
4.8%
62.5%
45.0%
$
108.6%
107.5%
$
8.4
50.6
59.0
4.8
63.8
42.5
2.8
7.7%
46.4%
54.1%
4.4%
58.5%
38.3%
96.8%
43
Table 5
($ in millions)
2016
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
Underwriting expenses
Net underwriting (loss) gain
$
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
Table 6
($ in millions)
2015
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
Underwriting expenses
Net underwriting (loss) gain
$
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
Commercial
Auto
Small
Commercial
Package
Middle
Market
Commercial
Workers'
Comp
Farm &
Ranch
Other
Commercial
$
79.0
88.3
$
125.6
127.5
$
108.8
110.5
$
0.8
70.1
70.9
4.8
75.7
30.5
(17.9)
1.0%
79.4%
80.4%
5.5%
85.9%
38.5%
$
12.9
65.3
78.2
6.9
85.1
51.3
(8.9)
10.1%
51.2%
61.3%
5.3%
66.6%
40.8%
$
8.4
61.8
70.2
6.0
76.2
43.0
(8.7)
7.6%
55.9%
63.5%
5.3%
68.8%
39.5%
$
124.4%
107.4%
108.3%
100.4%
$
$
92.0
93.8
—
58.5
58.5
8.4
66.9
26.7
0.2
—%
62.3%
62.3%
9.0%
71.3%
29.1%
37.0
35.5
3.5
14.4
17.9
2.2
20.1
14.1
1.3
9.9%
40.8%
50.7%
6.0%
56.7%
38.1%
94.8%
$
17.0
17.0
$
—
6.3
6.3
1.2
7.5
7.2
2.3
— %
37.2 %
37.2 %
7.6 %
44.8 %
42.4 %
87.2 %
Commercial
Auto
Small
Commercial
Package
Middle
Market
Commercial
Workers'
Comp
Farm &
Ranch
Other
Commercial
$
96.1
95.4
$
128.4
128.5
$
113.1
113.4
$
$
$
92.8
89.3
—
54.6
54.6
5.5
60.1
25.5
3.7
—%
61.2%
61.2%
6.1%
67.3%
27.5%
94.8%
34.0
32.9
1.6
14.0
15.6
1.2
16.9
13.7
2.4
4.9%
42.6%
47.5%
3.7%
51.2%
40.2%
91.4%
$
17.2
17.1
$
—
5.2
5.2
1.3
6.5
7.4
3.1
(0.2)%
30.6 %
30.4 %
8.0 %
38.4 %
43.3 %
81.7 %
$
0.6
79.3
79.9
7.2
87.1
34.3
(26.1)
0.6%
83.2%
83.8%
7.6%
91.4%
35.7%
127.1%
$
8.3
77.4
85.7
11.6
97.3
55.4
(24.2)
6.5%
60.2%
66.7%
9.0%
75.7%
43.2%
118.9%
$
6.1
58.1
64.2
6.4
70.6
48.3
(5.6)
5.4%
51.2%
56.6%
5.7%
62.3%
42.7%
105.0%
44
Total
$ 459.4
472.6
25.6
276.4
302.0
29.5
331.5
172.7
$ (31.6)
5.4%
58.5%
63.9%
6.2%
70.1%
37.6%
107.7%
Total
$ 481.5
476.5
16.5
288.8
305.3
33.3
338.6
184.7
$ (46.8)
3.5%
60.6%
64.1%
7.0%
71.1%
38.4%
109.5%
Net written premiums for the year ended December 31, 2017 decreased 1.3% compared to 2016 (Tables 4 - 5), as new
business premium growth was offset by a decline in renewal premiums. While overall new business premium for commercial
insurance products increased 6.6% compared to 2016, new business policy counts declined 8.3%. The new business premium
growth reflects the impact of rate and other actions taken beginning in 2016 and continuing into 2017. With the exception of
workers’ compensation, new business premiums for each of the remaining commercial insurance products increased in 2017
compared to 2016. Renewal premiums and policy counts both declined in 2017 compared to 2016 due to (i) rate actions to improve
profitability in commercial auto, (ii) more competitive market conditions in workers' compensation, and (iii) our continued focus
on underwriting discipline across our commercial insurance products.
In October 2017, we launched State Auto Connect for new business in one state for our commercial auto and small commercial
package products. Similar to the State Auto Connect platform for our personal insurance products, the State Auto Connect
commercial lines platform is completely digital and incorporates data analytics and more sophisticated pricing models compared
to our legacy underwriting systems. The platform enables our agents to submit, quote, bind, issue and bill policies through a
completely digital and integrated platform. During 2018, we plan on completing the rollout of State Auto Connect in our remaining
states for commercial auto and small commercial package and we also plan on expanding the products offered through the platform
to include middle market commercial, workers’ compensation and farm & ranch.
Net written premiums for the year ended December 31, 2016 decreased 4.6% compared to 2015 (Tables 5 - 6). The 2016
decrease was primarily due to (i) our decision to exit our large account business, (ii) rate and underwriting actions to improve
profitability in commercial auto, and (iii) changes made to our regional sales teams during the first quarter of 2016, including staff
reductions and reassignment of agency relationships among the remaining staff.
The SAP catastrophe loss and ALAE ratio for 2017 was 5.9% compared to 5.4% and 3.5% in 2016 and 2015, respectively
(Tables 4 - 6). The 2017 and 2016 commercial insurance segment's cat loss and ALAE ratios were impacted by the same events
described in the preceding personal insurance segment discussion.
The commercial insurance segment SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2017 was
50.9% compared to 58.5% and 60.6% in 2016 and 2015, respectively (Tables 4 - 6). The 7.6 point improvement in the 2017 ratio
compared to 2016 (Tables 4 - 5) was primarily driven by (i) greater favorable development of prior accident year losses compared
to 2016 and (ii) pricing, underwriting and claims improvements implemented throughout the last two years, including improved
risk classification, rate increases and reductions in claims leakage
The commercial auto SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2017 improved 20.8 points
when compared to 2016 (Tables 4 - 5) primarily due to favorable development of prior accident year losses of $8.9 million compared
to adverse development of $3.6 million in 2016. The majority of the 2017 favorable development was driven by lower than
anticipated bodily injury severity from accident years 2014 and 2015. The 2016 commercial auto ratio improved 3.8 points compared
to 2015 (Tables 5 - 6) primarily due to less adverse development of prior accident year losses as a result of revising our previous
estimates for accident years 2014 and 2015, slightly offset by increases in the current accident year loss and ALAE estimates that
reflect the impact of increasing bodily injury severity trends.
The small commercial package SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2017 improved
3.2 points compared to 2016 (Tables 4 -5) primarily driven by greater favorable development of prior accident year losses compared
to 2016. The 2017 favorable development was primarily due to lower than anticipated bodily injury severity from the 2016 accident
year. The 2016 small commercial package ratio improved 9.0 points when compared to the same 2015 period primarily driven by
(i) underwriting actions taken to improve production and profitability and (ii) large fire losses that occurred during the second half
of 2015.
The middle market commercial SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2017 improved
9.5 points compared to 2016 (Tables 4 - 5) primarily driven by greater favorable development of prior accident year losses compared
to 2016. The 2017 favorable development was attributable to lower than anticipated liability severity from accident years 2014
and 2015. The 2016 middle market commercial ratio increased 4.7 points compared to 2015 (Tables 5 - 6) primarily driven by
(i) less favorable development of prior accident year losses compared to 2015 and (ii) large fire losses that occurred during the
second half of 2016.
The workers’ compensation SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2017 improved 5.8
points compared to 2016 (Tables 4 - 5) primarily driven by greater favorable development of prior accident year losses compared
to 2016. The 2017 favorable development occurred primarily within accident years 2015 and 2016. While lower than anticipated
severity accounted for the majority of the development, lower than expected frequency contributed as well. The 2016 workers’
compensation ratio increased 1.1 points compared to 2015 (Tables 5 - 6) primarily due to less favorable development of prior
accident year losses when compared to the same 2015 period.
45
The farm and ranch SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2017 increased 17.1 points
compared to 2016 (Tables 4 - 5) primarily driven by large fire losses. The 2016 farm and ranch ratio improved 1.8 points compared
to 2015 (Tables 5 - 6) primarily driven by greater favorable development of prior accident year losses compared to 2015.
Specialty Insurance Segment
The following table sets forth certain key performance indicators for our specialty insurance segment for the years ended
December 31, 2017, 2016 and 2015:
Table 7
($ in millions)
2017
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
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
E&S Property
E&S Casualty
Programs
Total
$
30.1
40.5
52.6
12.6
65.2
0.1
65.3
17.4
$
$
110.3
103.1
0.1
72.0
72.1
3.7
75.8
39.2
$
65.6
95.5
1.2
71.5
72.7
5.7
78.4
20.0
206.0
239.1
53.9
156.1
210.0
9.5
219.5
76.6
$
(42.2)
$
(11.9)
$
(2.9)
$
(57.0)
130.1%
31.2%
161.3%
—%
161.3%
57.9%
219.2%
0.1%
69.8%
69.9%
3.6%
73.5%
35.5%
1.2%
74.9%
76.1%
5.9%
82.0%
30.5%
22.5%
65.3%
87.8%
4.0%
91.8%
37.2%
109.0%
112.5%
129.0%
46
Table 8
Table 9
($ in millions)
2016
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
Underwriting expenses
Net underwriting gain (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
($ in millions)
2015
Net written premiums
Net earned premiums
Losses and LAE incurred:
Cat loss and ALAE
Non-cat loss and ALAE
Total Loss and ALAE
ULAE
Total Loss and LAE
Underwriting expenses
Net underwriting gain (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
E&S Property
E&S Casualty
Programs
Total
$
$
112.7
109.4
$
$
$
$
44.4
40.4
6.9
13.5
20.4
(0.4)
20.0
20.1
0.3
17.0 %
33.5 %
50.5 %
(0.9)%
49.6 %
45.1 %
94.7 %
99.6
91.0
0.1
65.3
65.4
4.3
69.7
35.5
(14.2)
$
0.1%
71.8%
71.9%
4.7%
76.6%
35.6%
112.2%
$
0.5
94.9
95.4
5.5
100.9
37.3
(28.8)
0.5%
86.7%
87.2%
5.1%
92.3%
33.1%
125.4%
256.7
240.8
7.5
173.7
181.2
9.4
190.6
92.9
(42.7)
3.1%
72.2%
75.3%
3.9%
79.2%
36.2%
115.4%
E&S Property
E&S Casualty
Programs
Total
$
70.5
64.0
—
41.2
41.2
2.3
43.5
24.6
(4.1)
—%
64.4%
64.4%
3.6%
68.0%
34.9%
$
$
$
96.0
89.3
0.2
73.0
73.2
4.9
78.2
33.4
(22.2)
0.2%
81.8%
82.0%
5.5%
87.5%
34.8%
211.0
202.7
0.3
121.1
121.4
8.0
129.4
79.1
(5.9)
0.2%
59.7%
59.9%
4.0%
63.9%
37.5%
102.9%
122.3%
101.4%
$
$
$
$
44.5
49.3
0.1
6.8
7.0
0.8
7.7
21.1
20.5
0.3%
13.8%
14.1%
1.6%
15.7%
47.5%
63.2%
47
Net written premiums for the year ended December 31, 2017 decreased 19.8% compared to 2016 (Tables 7 - 8). The change
was primarily driven by (i) our third quarter 2016 decision to exit program business and (ii) a decline in E&S property net written
premiums due to our 2017 decision to exit E&S property business (further described below) and continued competitiveness within
the catastrophe-exposed property market. These decreases were partially offset by new business growth in E&S casualty, primarily
driven by increased production from our umbrella and gas & propane distribution underwriting teams.
During the second half of 2017, management undertook a review of strategic alternatives for our specialty insurance segment
products and ultimately determined that these products were not core to our overall corporate strategy. The decision was then
made to begin exiting the excess and surplus lines business either through a series of renewal right transactions or by placing lines
of business into run-off. This decision will result in the elimination of the specialty insurance segment and its related underwriting
results from the State Auto Group. During November 2017, E&S property was placed into run-off. The number of in-force E&S
property policies will decline throughout 2018 as they are non-renewed upon expiration, with the majority of the non-renewals
occurring during the first half of 2018. By the end of 2018, we expect that all business within our E&S casualty line of business
will either be in run-off or will no longer be written by us.
Net written premiums for the year ended December 31, 2016 increased 21.7% compared to 2015 (Tables 8 - 9). E&S casualty
net written premiums increased 41.3% compared to 2015 primarily due to (i) continued organic growth within our general liability
and umbrella lines, which comprised the majority of the increase, (ii) changes to the reinsurance treaty covering casualty risks
within the specialty insurance segment, including an increase in our retention per loss occurrence (see “Liquidity and Capital
Resources – Reinsurance Arrangements" in this Item 7 for further information), and (iii) the impact of the reinsurance correction
recorded in the second quarter of 2015, which reduced E&S casualty net written premiums by $7.2 million. Programs unit net
written premiums increased 17.4% compared to 2015 due to new programs added during the second half of 2015 and growth of
existing programs. E&S property net written premiums were flat compared to the same 2015 period as a result of continuing
competitiveness of the catastrophe-exposed property market.
The SAP catastrophe loss and ALAE ratio for 2017 was 22.5% compared to 3.1% and 0.2% in 2016 and 2015, respectively
(Tables 7 - 9). The 2017 cat loss ratio reflects the impact of Hurricane’s Harvey and Irma, which added 21.2 points, or $50.6
million, to the cat loss ratio. The 2016 SAP catastrophe loss ratio reflects the impact of Hurricane Matthew which added 2.4 points,
or $5.9 million, to the cat loss ratio.
The specialty insurance segment SAP non-catastrophe loss and ALAE ratio for the year ended December 31, 2017 was
65.3% compared to 72.2% and 59.7% in 2016 and 2015, respectively (Tables 7 - 9). The 2017 non-cat loss and ALAE ratio was
impacted by $4.2 million of adverse development of prior accident year losses compared to $20.8 million in 2016. The 2017
adverse development was due to higher than anticipated severity for liability coverages on Florida package business in run-off in
E&S property and related primarily to accident years 2013 - 2016. The 2016 development was primarily driven by (i) elevated
severity trends within programs with commercial auto exposures and (ii) increases to prior accident year ultimate loss and ALAE
estimates for the run-off healthcare line of business within E&S casualty.
The 2016 E&S property SAP non-catastrophe loss and ALAE ratio increased 19.7 points compared to 2015 (Tables 8 - 9)
primarily driven by increases in the ultimate loss and ALAE estimates for prior accident years for the liability coverage of our
Florida package business. The 2016 E&S casualty non-cat loss and ALAE ratio increased 7.4 points compared to 2015 driven by
(i) increases in the ultimate loss and ALAE estimates for the current and prior accident years for our healthcare line, which was
placed in run-off during the first quarter of 2016, and (ii) an increase in the ultimate loss and ALAE estimates for the current
accident year in our general liability line due to increased severity. The programs loss and ALAE ratio increased 4.9 points compared
to 2015 primarily driven by elevated severity trends within programs with commercial auto exposures, which contributed to (i)
higher 2016 accident year loss and ALAE ratios and (ii) adverse development of prior accident year losses.
48
Loss and LAE Development
Losses and loss expenses for a calendar year represent the combined estimated ultimate liability for claims occurring in the
current calendar year along with any change in the estimated ultimate liability for claims occurring in prior years. The following
table sets forth the provision for losses and loss expenses for those claims occurring in the current and prior years, along with the
GAAP loss and LAE ratio for the years ended December 31, 2017, 2016 and 2015:
($ millions)
Provision for losses and loss expenses
occurring:
%
GAAP Loss
and LAE
Ratio
%
GAAP Loss
and LAE
Ratio
2016
2015
%
GAAP Loss
and LAE
Ratio
2017
Current year
Prior years
Total losses and loss expenses
$
$
964.9
(46.6)
918.3
75.7
(3.7)
72.0
$
$
915.4
27.0
942.4
70.8
2.1
72.9
$
$
852.8
10.0
862.8
67.1
0.8
67.9
As shown above, the impact on 2017 loss and loss expenses attributable to prior years was $46.6 million, or favorable
development in the estimated ultimate liability for prior years’ claims.
49
The following table sets forth a tabular presentation of the development of the ultimate liability of prior accident years by
line of business for the years ended December 31, 2017, 2016 and 2015:
($ millions)
2017
2016
2015
Redundancy /(Deficiency)
Non-cat loss and ALAE:
Personal Insurance Segment:
Personal Auto
Homeowners
Other Personal
Personal Insurance Segment
Commercial Insurance Segment:
Commercial Auto
Small Commercial Package
Middle Market Commercial
Workers' Compensation
Farm & Ranch
Other Commercial
Commercial Insurance Segment
Specialty Insurance Segment:
E&S Property
E&S Casualty
Programs
Specialty Insurance Segment
Cat Loss and ALAE
ULAE
Total
$
$
4.4
(1.5)
(1.3)
1.6
8.9
11.4
8.2
8.9
0.9
5.7
44.0
(3.0)
(0.5)
(0.7)
(4.2)
2.0
3.2
$
46.6
$
(7.9)
(0.5)
(0.6)
(9.0)
(3.6)
0.6
0.4
4.2
1.7
1.8
5.1
(1.9)
(4.6)
(14.3)
(20.8)
1.4
(3.7)
(27.0)
$
$
(11.1)
2.5
(1.9)
(10.5)
(9.8)
(1.0)
4.3
5.1
0.6
1.5
0.7
5.2
(2.7)
(9.6)
(7.1)
0.7
6.2
(10.0)
For further information, see the discussion below and the "Personal Insurance Segment", "Commercial Insurance Segment"
and "Specialty Insurance Segment" sections of “Results of Operations – Insurance Segments” included in this Item 7.
50
The following table sets forth a tabular presentation of the development of the ultimate liability by accident year for the year
ended December 31, 2017:
($ millions)
Accident Year
2007 and prior
2008
2009
2010
2011
2012
2013
2014
2015
2016
Total
2017
Redundancy /(Deficiency)
(1.5)
$
0.7
0.4
1.9
3.5
7.7
2.5
7.9
13.8
9.7
46.6
$
While emergence by accident year includes normal fluctuations due to the uncertainty associated with loss reserve
development and claim settlement, the more notable items contributing to 2017 development were as follows:
•
•
•
•
•
The commercial insurance segment non-catastrophe loss and ALAE reserves contributed $44.0 million of
favorable development, driven by small commercial package, workers’ compensation, commercial auto and
middle market commercial of $11.4 million, $8.9 million, $8.9 million and $8.2 million, respectively. Favorable
development in these lines was driven by lower than anticipated severity emerging from multiple accident years.
ULAE was $3.2 million lower than anticipated in the reserves at December 31, 2016.
Catastrophe reserves contributed $2.0 million of favorable development.
The personal insurance segment non-catastrophe loss and ALAE reserves contributed $1.6 million of the
favorable development, driven by personal auto which contributed $4.4 million of favorable development,
primarily due to lower than anticipated bodily injury severity from the prior two accident years. This was partially
offset by homeowners and other personal, which contributed $1.5 million and $1.3 million of adverse
development, respectively.
The specialty insurance segment non-catastrophe loss and ALAE reserves accounted for $4.2 million of
adverse development, which was driven by E&S property with adverse development of $3.0 million. E&S
property adverse development was driven by higher than anticipated severity for liability coverages on the
run-off Florida package business.(cid:3) (cid:41)(cid:82)(cid:85)(cid:3) (cid:83)(cid:85)ograms, adverse development was $0.7 million, with adverse
development of $5.7 million attributable to accident years 2013 - 2015 mostly offset by favorable
development of $5.0 million, primarily from accident years 2012 and 2011.
51
The following table sets forth a tabular presentation of the development of the ultimate liability by accident year for the year
ended December 31, 2016:
($ millions)
Accident Year
2006 and prior
2007
2008
2009
2010
2011
2012
2013
2014
2015
Total
2016
Redundancy /(Deficiency)
(3.4)
$
3.3
1.7
(1.6)
0.5
1.7
1.9
(2.1)
(6.4)
(22.6)
(27.0)
$
While emergence by accident year includes normal fluctuations due to the uncertainty associated with loss reserve
development and claim settlement, the adverse development in 2016 resulted primarily from accident years 2015 and 2014. The
more notable items contributing to 2016 development were as follows:
•
•
•
•
The specialty insurance segment non-catastrophe loss and ALAE reserves accounted for $20.8 million of adverse
development, which was driven by programs and E&S casualty with adverse development of $14.3 million and
$4.6 million, respectively. Programs adverse development was driven by higher than expected severity in
programs with commercial auto exposures. E&S casualty adverse development was driven by increased severity
from the healthcare line, which was placed in run-off in the first quarter of 2016.
The personal insurance segment non-catastrophe loss and ALAE reserves contributed $9.0 million of the adverse
development, driven by personal auto which contributed $7.9 million of adverse development, primarily due to
higher than anticipated bodily injury severity from the prior two accident years.
ULAE was $3.7 million higher than anticipated in the reserves at December 31, 2015.
The commercial insurance segment non-catastrophe loss and ALAE reserves contributed $5.1 million of
favorable development, primarily driven by workers’ compensation, other commercial, and farm & ranch, of
$4.2 million, $1.8 million, and $1.7 million respectively. Favorable development in these lines was driven by
lower than anticipated severity emerging from multiple accident years. The favorable development was partially
offset by adverse development in commercial auto of $3.6 million, which was driven by higher than anticipated
bodily injury severity from the prior two accident years.
•
Catastrophe reserves contributed $1.4 million of favorable development.
52
The following table sets forth a tabular presentation of the favorable development by accident year for the year ended
December 31, 2015:
($ millions)
Accident Year
2005 and prior
2006
2007
2008
2009
2010
2011
2012
2013
2014
Total
2015
Redundancy /(Deficiency)
1.1
$
(0.2)
(0.1)
1.8
2.0
3.4
(1.7)
(2.8)
(11.5)
(2.0)
(10.0)
$
While emergence by accident year includes normal fluctuations due to the uncertainty associated with loss reserve
development and claim settlement, the adverse development in 2015 resulted primarily from accident year 2013. The more notable
items contributing to 2015 development were as follows:
•
•
•
•
•
The personal insurance segment contributed $10.5 million of the adverse development, primarily driven by
personal auto which developed unfavorably by $11.1 million, due to higher than anticipated bodily injury severity
trends from the 2014 and 2013 accident years. Partially offsetting the unfavorable development was favorable
development of $2.5 million in homeowners.
In the specialty insurance segment, the non-catastrophe loss and ALAE reserves accounted for $7.1 million of
adverse development, which was due to programs and E&S casualty with unfavorable development of $9.6
million and $2.7 million, respectively. Unfavorable development in programs was due to higher than expected
severity in programs with commercial auto exposure. Partially offsetting the unfavorable development was
favorable development of $5.2 million in the E&S property unit due to lower than anticipated severity emerging
from accident year 2014.
ULAE was $6.2 million lower than anticipated in the reserves at December 31, 2014.
We experienced favorable catastrophe loss development of $0.7 million in 2015 related to catastrophe losses
primarily from accident year 2014.
The commercial insurance segment contributed $0.7 million of favorable development, primarily due to favorable
development in workers’ compensation and middle market commercial of $5.1 million and $4.3 million,
respectively, driven by lower than anticipated severity emerging from multiple accident years. Partially offsetting
the favorable development was adverse development in commercial auto of $9.8 million driven by higher than
anticipated bodily injury severity from the prior two accident years.
53
The following table sets forth loss and loss expenses payable by major line of business at December 31, 2017 and 2016:
($ millions)
Personal Insurance Segment:
Personal auto
Homeowners
Other Personal
Total Personal Insurance Segment
Commercial Insurance Segment:
Commercial Auto
Small Commercial Package
Middle Market Commercial
Workers’ Compensation
Farm & Ranch
Other Commercial
Total Commercial Insurance Segment
Specialty Insurance Segment:
E&S Property
E&S Casualty
Programs
Total Specialty Insurance Segment
Total losses and loss expenses payable net of reinsurance
recoverable on losses and loss expenses payable
2017
2016
$
Change
$
$
191.8
50.5
13.8
256.1
92.1
124.5
151.4
193.4
16.4
26.5
604.3
64.8
176.8
150.5
392.1
$
192.7
50.5
11.3
254.5
98.3
125.4
154.2
185.6
14.3
24.7
602.5
29.8
137.4
153.8
321.0
(0.9)
—
2.5
1.6
(6.2)
(0.9)
(2.8)
7.8
2.1
1.8
1.8
35.0
39.4
(3.3)
71.1
$
1,252.5
$
1,178.0
$
74.5
The loss and loss expenses payable at December 31, 2017 increased $74.5 million from the loss and loss expenses payable
at December 31, 2016, primarily due to exposure growth and higher current accident year loss estimates in E&S casualty and a
higher level of current accident year weather-related losses, predominantly in E&S property, driven by the impact of Hurricanes
Harvey and Irma.
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, accounting projections, exposure changes, anticipated inflation, current business conditions, catastrophe
developments, late reported claims, and other reasonableness tests.
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 would be impacted, perhaps significantly,
in the future if the ultimate payments required to settle claims vary from the liability currently recorded. For a discussion of our
reserving methodologies, see “Critical Accounting Policies – Losses and Loss Expenses Payable” included in this Item 7.
Acquisition and Operating Expenses
Our GAAP expense ratio was 35.7% in 2017 compared to 33.3% and 33.6% in 2016 and 2015, respectively. Acquisition
and operating expenses for 2017 increased 2.4 points when compared to 2016 primarily driven by (i) the impact of our technology
investments, including amortization and system and infrastructure support and (ii) an increase in contingent commissions. The
2016 expense ratio decreased 0.3 points compared to 2015, primarily driven by decreases in personnel costs and incentive
compensation partially offset by an increase in technology investments.
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, U.S. large-cap equities, U.S. small-cap equity
funds, international equity funds, and MLP exchange traded funds. In addition, Stateco uses an outside investment manager who
invests in international funds. The Investment and Finance 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
54
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 purchases of bonds that are rated below investment grade by a recognized rating service. 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 nationally recognized ratings agencies. If there is a split rating, we assign the lowest rating obtained. At
December 31, 2017, there was one fixed maturity investment rated below investment grade in our available-for-sale investment
portfolio. This security is rated below investment grade due to a rating downgrade subsequent to the purchase of the security.
Our internally managed equity portfolio invests in U.S. large-cap companies across many different industries, selected based
upon their potential for appreciation. 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 individual company’s equity holding should exceed 5.0% of the total
equity portfolio. In addition, we also invest in dividend-paying exchange traded funds (“ETF”) and mutual funds which add to
the diversification of the portfolio by allowing us to invest in a large number of companies via one security.
Our externally managed equity portfolio invests in international funds. External 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
when compare to how we manage our large-cap equity holdings.
At December 31, 2017, 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, 2017 and 2016:
% of
Total
2016
% 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
Mutual and exchange traded funds
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
2017
$
91.5
2,037.0
155.8
2,192.8
70.0
96.8
—
268.5
365.3
3.3
$
51.1
73.2
5.6
78.8
2.5
3.5
—
9.7
13.2
1,947.5
161.8
2,109.3
70.0
139.0
79.1
164.7
382.8
45.2
10.8
56.0
5.6
$ 2,781.2
1.6
0.4
2.0
0.2
100.0
35.7
9.4
45.1
5.4
$ 2,663.7
1.9
73.1
6.1
79.2
2.6
5.2
3.0
6.2
14.4
1.3
0.4
1.7
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 $70.0 million from us on an unsecured basis. Interest is payable semi-annually at a fixed
annual interest rate of 7.00%. Principal is payable May 2019.
55
The following table sets forth the amortized cost and fair value of available-for-sale fixed maturities by contractual maturity
at December 31, 2017:
($ 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
$
$
5.9
543.8
419.1
499.6
704.7
2,173.1
$
$
5.9
545.0
420.3
521.2
700.4
2,192.8
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, 2017, our equity portfolio consisted of approximately 42 different large-cap stocks and 15 mutual and
exchange traded funds. The largest single fund holding was 20.2% of the equity portfolio based on fair value and the top ten
positions accounted for 71.1% of the equity portfolio. During the fourth quarter of 2017, we sold our externally-managed small-
cap holdings and reinvested the proceeds into small-cap focused mutual and exchange traded funds. At December 31, 2016, our
equity portfolio consisted of approximately 44 different large-cap stock, 73 small-cap stocks and 11 mutual and exchange traded
funds. The largest single fund holding was 12.7% of the equity portfolio based on fair value and the top ten positions accounted
for 45.5% of the equity portfolio.
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 4.23 and 4.45 as of December 31, 2017 and 2016,
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, 2017:
($ 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 mortgage-backed
securities
Balance as of December 31, 2017
$
$
478.8
573.5
560.7
755.5
2,368.5
$
$
456.8
549.0
545.2
730.5
2,281.5
$
$
436.9
525.8
529.7
700.4
2,192.8
$
$
418.6
502.8
512.8
664.9
2,099.1
$
$
401.9
477.2
496.0
629.3
2,004.4
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 63.1% 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
ensure adequate cash flow to meet claims as they are presented. We also manage liquidity risk by maintaining sufficient cash
56
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 mortgage backed securities issued by a federal agency or that are U.S. Government guaranteed.
Specifically, at December 31, 2017, approximately $700.4 million, or 31.9%, of our fixed maturity available-for-sale investment
portfolio was in either GNMA pools, which are guaranteed by the full faith and credit of the U.S. Government, or FNMA or Freddie
Mac pools.
The following table sets forth the credit ratings of our municipal securities based on ratings by nationally recognized rating
agencies at December 31, 2017:
($ millions)
Rating
AAA
AA*
A
BBB
Total fair
value
%
$
36.6
318.2
161.1
9.9
7.0
60.5
30.6
1.9
Total
$
525.8
100.0
* Our AA rating category includes securities that have been either pre-
funded or escrowed to maturity.
We believe our Muni Portfolio is well diversified by issuer and state. We have 7.6% 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 15.0% 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 57.8% 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.
At December 31, 2017, our large-cap equity portfolio had a beta of 1.03 using the S&P 500 Index as the benchmark. At
December 31, 2017, our mutual and exchange traded funds portfolio had a beta of 0.97 using the S&P 500 Index as a benchmark.
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 large-cap equity portfolio and the mutual and exchange traded funds portfolio
given a change in the S&P 500 Index at December 31, 2017:
Large-cap equity portfolio:
Fair value ($ millions)
Change in S&P 500 Index
Value as % of original value
Mutual and exchange traded funds portfolio:
Fair value ($ millions)
Change in Russell 2000 Index
Value as % of original value
$
$
$
$
116.7
+20%
121%
320.6
+20%
119%
$
$
106.8
+10%
110%
294.6
+10%
110%
$
96.8
—
100%
$
86.8
-10%
90%
76.9
-20%
79%
268.5
—
100%
$
242.5
$
216.4
-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
U.S. large-cap equity portfolio does not have any direct exposure to exchange rate risk since we do not directly hold any foreign
57
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, 2017, we have one international fund which is included in other invested assets available-for-sale. The
international fund had a beta of 0.70 using the MSCI EAFE Index as a benchmark. The following table sets forth what changes
might occur in the value of Funds 1 given a change in the MSCI EAFE Index at December 31, 2017:
International fund:
Fair value ($ millions)
Change in MSCI EAFE Index
Value as % of original value
$
$
51.6
+20%
114%
$
48.4
+10%
107%
$
45.2
—
100%
$
42.1
-10%
93%
38.9
-20%
86%
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 value
may differ significantly from what is shown in the table above.
Investment Operations Revenue
The following table sets forth the components of net investment income for the years ended December 31, 2017, 2016 and
2015:
($ 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
2016
2015
2017
$
$
63.2
10.5
6.3
80.0
1.2
78.8
$
$
63.4
7.3
5.6
76.3
1.6
74.7
$
$
61.3
6.5
5.9
73.7
2.0
71.7
$ 2,561.1
$ 2,443.0
$ 2,313.3
3.1%
2.2%
57.0
27.7%
$
3.1%
2.3%
55.7
25.5%
$
3.1%
2.4%
55.3
22.8%
$
Our investment operations revenue for the year ended December 31, 2017 was primarily impacted by an increase in dividend
income when compared to the same 2016 and 2015 periods. The dividend income increase was due primarily to higher dividends
from our international fund and master limited partnership (MLP) holdings. With the enactment of TCJA, we anticipate that our
effective tax rate on investment income will be approximately 17% in 2018.
58
The following table sets forth realized gains (losses) and the proceeds received on sale for our investment portfolio for the
years ended December 31, 2017, 2016 and 2015:
($ millions)
2017
2016
2015
Realized gains:
Fixed maturities
Equity securities
Other invested assets
Total realized gains
Realized losses:
Equity securities:
Sales
OTTI
Fixed maturities:
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
$
$
$
$
$
2.8
66.7
0.2
69.7
$
$
(1.1) $
(3.5)
—
(4.6) $
$
65.1
184.8
243.2
1.1
429.1
9.5
—
—
9.5
438.6
$
$
$
$
$
2.8
29.2
12.1
44.1
$
$
(0.8) $
(4.5)
(2.3)
(7.6) $
$
36.5
211.6
147.0
0.8
359.4
6.0
—
—
6.0
365.4
$
$
$
$
$
4.6
29.6
0.2
34.4
$
$
(1.8) $
(7.9)
—
(9.7) $
$
24.7
180.7
135.1
0.7
316.5
9.7
—
—
9.7
326.2
Net realized gains increased $28.6 million and $11.8 million, respectively, when compared to the same 2016 and 2015
periods. Net realized gains in 2017 were impacted by (i) realized gains of $18.5 million from the sale of our U.S. small-cap equity
portfolio and (ii) sales within our U.S. large-cap equity portfolio. The proceeds from the sale of our U.S. small-cap equity portfolio
were reinvested in U.S. small-cap focused mutual and exchange traded funds. During the fourth quarter of 2016, we redeemed a
limited partnership investment in international equities that had been classified as other invested assets. The redemption proceeds
were reinvested in an international equity mutual fund classified as an equity security. The Company recognized a gain of $12.0
million on the redemption. Out of the total proceeds related to this redemption and reinvestment, $44.0 million was non-cash and
therefore excluded from net cash used in investing activities in the consolidated statements of cash flows.
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 recognized $2.3 million of OTTI on our fixed maturity
portfolio during 2016. We did not recognize any impairments on our fixed maturity portfolio during 2017 or 2015.
When an equity security or other invested asset has been determined to have a decline in fair value that is other-than-
temporary, we adjust the cost basis of the security to fair value. See “Critical Accounting Policies – Investments” included in this
Item 7 for OTTI impairment indicators. This results in a charge to earnings as a realized loss, which is not reversed for subsequent
recoveries in fair value. Future increases or decreases in fair value, if not other-than-temporary, are included in accumulated other
comprehensive income (loss).
The following table sets forth the realized losses related to OTTI on our investment portfolio recognized for the years ended
December 31, 2017, 2016 and 2015:
($ millions)
2017
2016
2015
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
Total OTTI
1
22
—
23
$
$
(1.5)
(2.0)
—
(3.5)
2
28
1
31
$
$
(0.6)
(3.9)
(2.3)
(6.8)
1
41
—
42
$
$
(2.2)
(5.7)
—
(7.9)
59
Gross Unrealized Investment Gains and Losses
Based upon our review of our investment portfolio at December 31, 2017, 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, 2017:
($ 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 mortgage-backed
securities
Total fixed maturities
Equity Securities:
Large-cap securities
Mutual and exchange traded funds
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
$
433.8
$
9.3
17
$
(6.2)
40
$
436.9
507.1
527.5
704.7
2,173.1
62.4
256.2
318.6
25.8
$ 2,517.5
$
19.1
4.5
7.1
40.0
35.1
21.6
56.7
30.2
126.9
113
53
43
226
38
14
52
2
280
$
(0.4)
(2.3)
(11.4)
(20.3)
(0.7)
(9.3)
(10.0)
—
(30.3)
10
33
72
155
4
1
5
—
160
525.8
529.7
700.4
2,192.8
96.8
268.5
365.3
56.0
$ 2,614.1
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, 2017 and 2016, and the change in unrealized holding gains,
net of deferred tax, for the year ended December 31, 2017:
($ 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
2017
2016
$
Change
$
$
19.7
46.7
30.2
96.6
(30.6)
66.0
$
$
13.4
59.7
19.6
92.7
(29.9)
62.8
$
$
6.3
(13.0)
10.6
3.9
(0.7)
3.2
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, 2017.
As of December 31, 2017, we no longer hold any Level 3 assets.
60
Other Items
Income Taxes
For the year ended December 31, 2017, the federal income tax expense was $44.1 million compared to an income tax benefit
of $1.8 million for 2016 and an income tax expense of $16.1 million for 2015. Our effective tax rate for 2017 was 132.0% compared
with (9.4%) in 2016 and 23.9% in 2015. The change in our effective tax rate in 2017 was primarily due to the revaluation of our
net deferred tax asset as a result of the enactment of the TCJA. The revaluation of our deferred tax asset resulted in a provisional
deferred tax charge of $36.4 million.
Income taxes for the year ended 2016 reflect the impact of a correction of prior period deferred tax expense related to expired
stock options. As a result of the correction, deferred federal income tax expense and additional paid-in-capital were reduced by
$1.6 million, respectively.
See “Critical Accounting Policies — Income Taxes” included in this Item 7. See Note 9, “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
expense (benefit) and the amount computed at the indicated statutory rate for the years ended December 31, 2017, 2016 and 2015.
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 “Liquidity and Capital Resources – 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 2017, 2016 or 2015.
61
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, 2017 and 2016, we had $91.5 million and $51.1
million, respectively, in cash and cash equivalents, and $2,614.1 million and 2,537.2 million, respectively, of total available-for-
sale investments. Substantially all of our fixed maturity and equity securities are traded on public markets. Included in our fixed
maturities available-for-sale were $9.3 million and $9.2 million, respectively, of securities on deposit with insurance regulators,
as required by law, at December 31, 2017 and 2016. In addition, State Auto P&C had fixed maturity securities, with a carrying
value of approximately $106.5 million, that were pledged as collateral for the FHLB Loans. For a further discussion regarding
investments, see “Results of Operations – Investments Operations Segment” included in this Item 7.
Net cash provided by operating activities was $67.9 million, $113.5 million and $149.8 million in 2017, 2016 and 2015,
respectively. 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.
Net cash used in investing activities was $20.5 million, $127.6 million and $167.7 million in 2017, 2016 and 2015,
respectively. The change from 2017 compared to 2016 and 2015 was primarily due to an increase in proceeds from sales of equity
securities. In addition to investment objectives, sales were executed during the year in order to meet operational needs.
Net cash used in financing activities was $7.0 million in 2017 compared to net cash provided by of $7.1 million in 2016,
and net cash used by $10.3 million in 2015, respectively. The decrease year over year was primarily driven by proceeds from the
new term loan with the Federal Home Loan Bank of Cincinnati ("the "FHLB") in the principal amount of $21.5 million in 2016.
Borrowing Arrangements
Credit Facility
State Auto P&C has a credit facility (the “SPC Credit Facility”) with a syndicate of lenders that 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, 2017, 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 Loans
State Auto P&C has a term loan from the FHLB in the principal amount of $21.5 million (the “2016 FHLB Loan”). The
2016 FHLB Loan matures in September 2021 and may be called (prepaid) after September 2018 with no prepayment penalty. The
2016 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 1.73%. The 2016 FHLB Loan is fully secured by a pledge of specific investment securities of
State Auto P&C. Proceeds from the loan were contributed to our pension plan to reduce our future pension costs.
In addition, State Auto P&C has a loan from the FHLB in the principal amount of $85.0 million ("2013 FHLB Loan"). The
2013 FHLB Loan is a 20-year term loan that may be currently called (prepaid) at any time with no prepayment penalty. The
interest rate is fixed over the term of the loan at 5.03%.
The 2013 and 2016 FHLB Loans are fully secured by a pledge of specific investment securities of State Auto P&C.
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 $15.5 million aggregate principal amount of unsecured Floating Rate Junior Subordinated
Debt Securities due 2033 (the “Subordinated Debentures”). The sole assets of the Capital Trust are the Subordinated Debentures
and any interest accrued thereon. Interest on the Capital Trust’s capital and common securities is payable quarterly at a rate equal
to the three-month LIBOR rate plus 4.20%, adjusted quarterly. The applicable interest rates for December 31, 2017 and 2016 were
5.68% and 5.13%, respectively.
62
Notes Payable Summary
The following table sets forth our notes payable at December 31, 2017:
($ 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
FHLB loan due 2021: issued $21.5 million , September 2016 with fixed
interest
Total notes payable
Carrying
Value
Fair
Value
Interest
Rate
$
$
15.2
85.4
21.5
122.1
$
$
15.2
85.7
20.9
121.8
5.68%
5.03%
1.73%
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 “Liquidity and Capital Resources – Credit and Financial Strength Ratings” included
in this Item 7. Based upon the notes payable carrying value at December 31, 2017, we had $15.2 million notes payable with
variable interest and $85.4 million and $21.5 million of notes payable with interest fixed at 5.03% and 1.73%, respectively, and,
which equated to approximately 12.4% variable interest debt and 87.6% 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 “Liquidity and Capital Resources –
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.
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.
Adverse Development Cover
The State Auto Group has an adverse development reinsurance agreement that provides $40.0 million of coverage for adverse
development in excess of carried reserves for terminated restaurant program business previously underwritten by a MGU-subsidiary
of State Auto Mutual.
Property Catastrophe Treaty
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. This property catastrophe reinsurance agreement renewed as of July 1, 2017.
Under this reinsurance agreement, we retain the first $75.0 million of catastrophe loss, each occurrence, with a 5.0% co-participation
on the next $325.0 million of covered loss, each occurrence. The reinsurers are responsible for 95.0% of the excess over $75.0
million up to $400.0 million of covered losses, each occurrence. The State Auto Group is responsible for catastrophe losses above
$400.0 million.
63
Property Per Risk Treaty
As of July 1, 2017, the State Auto Group renewed its property per risk excess of loss reinsurance agreement. This reinsurance
agreement provides individual property risk coverage for the State Auto Group for losses exceeding $3.0 million, subject to an
additional $2 million annual aggregate retention (AAD). Claims arising from named storms and earthquake for E&S property are
excluded from this treaty. The reinsurers are responsible for 100.0% of the loss excess of the $3.0 million retention and $2.0 million
AAD for property business up to $20.0 million of covered loss.
Casualty and Workers' Compensation Treaties
As of July 1, 2017, the State Auto Group renewed its casualty excess of loss reinsurance agreement. Under this reinsurance
agreement, the State Auto Group is responsible for the first $2.0 million of losses that involve workers' compensation, auto liability,
other liability and umbrella liability policies, subject to an additional $2.0 million AAD. This reinsurance agreement provides
coverage up to $10.0 million, except for commercial 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 extra contractual obligations, excess of policy limits, LAE coverage and
multiple policy or coverage loss occurrences arising from bodily injury liability, property damage, uninsured motorist and personal
injury protection are covered by a Clash reinsurance agreement that provides for $30.0 million of coverage in excess of $10.0
million retention for each loss occurrence. This Clash reinsurance coverage sits above the $8.0 million excess of $2.0 million
arrangement. Policies underwritten by the E&S casualty and programs units are not subject to this casualty excess of loss reinsurance
agreement.
In addition, each company in the State Auto Group is party to a workers’ compensation catastrophe insurance 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.
As of July 1, 2017, the State Auto Group renewed its reinsurance coverage for E&S casualty and programs casualty risks.
Under this reinsurance agreement, the State Auto Group is responsible for the first $2.0 million of losses. This reinsurance agreement
provides 95.0% coverage up to $9.0 million excess of $2.0 million for any one insured, all policies, and 100.0% of $14.0 million
excess of $11.0 million clash only coverage.
The rates for all of our treaty reinsurance agreements are negotiated annually.
64
Contractual Obligations
The following table sets forth our significant contractual obligations at December 31, 2017:
($ 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
FHLB loan due 2021: issued $21.5 million , September
2016 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 2021: issued $21.5 million , September
2016 with fixed interest
FHLB loan due 2033; issued $85.0 million, July 2013 with
fixed interest
Total interest payable
Postretirement benefits
Pension funding(4)
Total
Total
$ 1,252.5
Due
1 year
or less
Due
1-3
years
Due
3-5
years
Due
after 5
years
$
526.9
$
443.5
$
147.4
$
134.7
15.5
85.0
21.5
122.0
14.6
1.5
—
—
—
0.9
0.4
—
—
—
1.8
0.7
—
—
—
1.8
0.4
70.7
86.8
12.9
47.2
$ 1,521.4
$
4.3
5.6
1.5
4.2
538.2
$
8.6
11.1
2.9
8.8
466.3
$
8.6
10.8
2.6
9.5
170.3
$
15.5
85.0
21.5
122.0
10.1
—
49.2
59.3
5.9
24.7
346.6
(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, 2017, 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, 2017 of 1.4806%
plus 4.20%, or 5.6806%.
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 10, “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, 2017, 2016 and 2015, 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.
65
The following table sets forth the statutory leverage ratios for our insurance subsidiaries at December 31, 2017, 2016 and
2015:
Statutory Leverage Ratios
2017
2016
2015
State Auto P&C
Milbank
Weighted Average
1.5
1.8
1.6
1.5
1.9
1.5
1.5
1.9
1.6
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, $85.8 million is available for payment to State Auto Financial from
its insurance subsidiaries in 2018 without prior approval. State Auto Financial received dividends from its insurance subsidiaries
in the amount of $15.0 million, $10.0 million and $15.0 million in 2017, 2016 and 2015.
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, 2017, the ratio
of total adjusted statutory capital to authorized control level of State Auto Financial’s insurance subsidiaries ranged from 434%
to 10,530%.
Credit and Financial Strength Ratings
As of June 6, 2017, the State Auto Group’s financial strength rating from A.M. Best was A- (Excellent) with a stable outlook
and its credit rating from A.M. Best was bbb- with a stable outlook.
The financial strength rating is for the State Auto Group and expresses 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.
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.
66
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, 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.
67
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
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 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
68
and case reserves) for claims that have been reported and are still open. With this method, a pattern of reported losses is estimated
to project ultimate incurred values for each accident year. 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.
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 (i) the paid method does not use all of
the available information, (ii) in some cases the liability payment patterns require the application of very large development factors
to relatively small payments in less mature accident years, and (iii) changes in the claims settlement rate will distort the projections.
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.
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.
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.
Incurred Bornhuetter-Ferguson Method: The Incurred 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.
Paid Bornhuetter-Ferguson Method: The Paid Bornhuetter-Ferguson Method is a weighted average of the Expected Loss
Ratio Method and the Paid Development Method, using the percentage of losses paid as the weight. In less mature accident periods
in which payment activity is relatively low, this method produces estimates that are similar to the Expected Loss Ratio 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 historical 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, historical 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, 2017,
MBE of our direct loss and ALAE reserves for the STFC Pooled Companies’ share of the Pooled Companies’ reserves were
$1,258.6 million, within an estimated range of $1,094.6 million to $1,311.9 million.
69
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, $1,311.9
million, the reserve increase of $53.3 million corresponds to an after-tax decrease of $42.1 million in net income, assuming a tax
rate of 21%. Likewise, should ultimate losses decline to a level corresponding to the low point of the range, $1,094.6 million, the
$164.0 million reserve decrease would add $129.6 million of after-tax net income. The loss reserve range noted above represents
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 certain loss reserve estimation methods for casualty lines is that the loss cost trends
underlying historical data 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, 2017, workers’ compensation 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 5% 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 5% increase in the loss cost trend would have on our results
of operations over the lifetime of the underlying claims in workers’ compensation is an increase of $110.9 million on reserves, or
a $87.6 million reduction to net income, assuming a tax rate of 21%. Inflation changes have much more impact on the longer tail
commercial lines like workers’ compensation, and much less impact on the shorter tail personal lines’ reserves.
In addition to establishing loss reserves, as described above, we establish reserves for ULAE. Historical patterns of paid
ULAE relative to paid loss are analyzed along with historical claim counts including claims opened, claims closed, and claims
remaining open. The product of this analysis is an estimate of the relationship, or ratio, between ULAE and loss underlying the
current loss reserves. This ratio is applied to the current outstanding loss reserves to estimate the required ULAE reserve.
Consequently, this component of the loss expense reserve has a proportional relationship to the overall claim inventory and held
loss reserves. The method assumes that the underlying claims process and mix of business do not change materially from period
to period.
70
The following table sets forth a reconciliation of MBE of our direct loss and LAE reserve to our net losses and loss expenses
payable at December 31, 2017 and 2016. The STFC Pooled Companies net additional share of transactions assumed from State
Auto Mutual through the Pooling Arrangement for the years ended December 31, 2017 and 2016, respectively, has been reflected
in the table below as assumed by STFC Pooled Companies.
($ 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
2017
2016
$
527.1
731.5
1,258.6
536.9
643.8
1,180.7
29.8
33.8
63.6
(21.9)
(3.6)
(25.5)
(3.1)
9.2
(50.3)
31.3
32.2
63.5
(22.5)
(4.5)
(27.0)
(3.6)
5.1
(40.7)
Total losses and loss expenses payable, net of reinsurance recoverable on losses and
loss expenses payable of $3.1 million and $3.6 million in 2017 and 2016, respectively
$ 1,252.5
1,178.0
The following tables set forth the net losses and loss expenses payable by major line of business at December 31, 2017
and 2016:
($ millions)
December 31, 2017
Personal Insurance Segment:
Personal Auto
Homeowners
Other personal
Total Personal Insurance Segment
Commercial Insurance Segment:
Commercial Auto
Small Commercial Package
Middle Market Commercial
Workers’ Compensation
Farm & Ranch
Other Commercial
Total Commercial Insurance Segment
Specialty Insurance Segment:
E&S Property
E&S Casualty
Programs
Total Specialty Insurance Segment
Ending
Loss &
ALAE
Case &
Formula
Ending
Loss &
ALAE
IBNR
Ending
ULAE
Bulk
Total
Reserves
$
125.7
28.8
5.6
160.1
53.2
51.6
59.6
68.3
10.1
3.8
246.6
44.3
38.7
58.6
141.6
56.4
18.5
7.6
82.5
35.7
66.7
77.8
112.5
5.5
22.6
320.8
19.6
129.2
88.1
236.9
640.2
9.7
3.2
0.6
13.5
3.2
6.2
14.0
12.6
0.8
0.1
36.9
0.9
8.9
3.8
13.6
64.0
191.8
50.5
13.8
256.1
92.1
124.5
151.4
193.4
16.4
26.5
604.3
64.8
176.8
150.5
392.1
1,252.5
Total losses and loss expenses payable net of reinsurance
recoverable on losses and loss expenses payable
$
548.3
71
($ millions)
December 31, 2016
Personal Insurance Segment:
Personal Auto
Homeowners
Other personal
Total Personal Insurance Segment
Commercial Insurance Segment:
Commercial Auto
Small Commercial Package
Middle Market Commercial
Workers’ Compensation
Farm & Ranch
Other Commercial
Total Commercial Insurance Segment
Specialty Insurance Segment:
E&S Property
E&S Casualty
Programs
Total Specialty Insurance Segment
Ending
Loss &
ALAE
Case &
Formula
Ending
Loss &
ALAE
IBNR
Ending
ULAE
Bulk
Total
Reserves
$
121.6
32.8
2.2
156.6
47.8
55.9
63.4
68.0
8.5
1.0
244.6
12.0
30.2
68.1
110.3
60.3
14.9
8.6
83.8
46.6
62.5
76.8
106.0
5.1
23.6
320.6
16.2
99.5
82.6
198.3
602.7
10.8
2.8
0.5
14.1
3.9
7.0
14.0
11.6
0.7
0.1
37.3
1.6
7.7
3.1
12.4
63.8
192.7
50.5
11.3
254.5
98.3
125.4
154.2
185.6
14.3
24.7
602.5
29.8
137.4
153.8
321.0
1,178.0
Total losses and loss expenses payable net of reinsurance
recoverable on losses and loss expenses payable
$
511.5
See discussion in “Results of Operations—Loss and LAE Development” 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 $1.2 million, and environmental reserves are $17.1 million, for a total of $18.3 million, or 1.5% of
net losses and loss expenses payable. Asbestos and environmental reserves increased $0.1 million and $2.0 million, respectively,
from 2016.
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.
For the December 31, 2017 and 2016 valuations, the Adjusted RP-2014 mortality table was used as a baseline for the mortality
assumption and to project future mortality rates. Incorporated into the table are rates projected generationally using Scale MP-2017
to reflect mortality improvement (Scale MP-2016 was used at the beginning of the year). The January 1, 2018 and 2017 actuarial
reports of the benefit plans included these revised mortality assumptions.
72
To calculate the State Auto Group’s December 31, 2017 benefit obligation for each of the benefit plans, we used a discount
rate of 3.50% 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, all else being equal, results in a higher present
value benefit obligation. To calculate our benefit obligation at December 31, 2017 and net periodic benefit cost for the year ended
December 31, 2018, a discount rate of 3.50% 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 revised mortality assumptions and the change in the discount rate, the benefit plan’s liability increased $0.7
million for the year ended December 31, 2017 and increased $2.9 million for the year ended December 31, 2016.
The following table sets forth an illustration of variability with respect to the discount rate on our share of the State Auto
Group’s December 31, 2017 benefit obligation and expected net periodic benefit cost for the year ending December 31, 2018,
along with the variability of the expected return on plan assets to our expected net periodic benefit cost for the year ending
December 31, 2018. Holding all other assumptions constant, sensitivity to changes in any one of our key assumptions are as
follows:
($ millions)
Benefit obligation
Net periodic benefit cost (benefit)
Net periodic benefit cost
$
$
$
Pension
Discount rate
Postretirement
Discount rate
3.25%
3.50%
3.75%
3.25%
3.50%
3.75%
315.7
6.6
304.2
5.6
292.8
4.8
$
$
18.8
(4.7)
18.3
(4.6)
18.0
(4.6)
Expected return on plan assets
6.75%
7.00%
7.25%
6.3
5.6
5.0
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, 2017, our share of the State Auto Group’s ABO and
PBO was $287.9 million and $304.2 million, respectively. At December 31, 2017, STFC’s share of the defined benefit pension
plan’s fair value of the assets was $265.0 million, which resulted in an underfunded status within our balance sheet of $39.2 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 $10.0
million in 2018.
The unfunded status on the pension plan and supplemental executive retirement plan decreased from $55.6 million at
December 31, 2016, to $46.2 million at December 31, 2017. Primarily influencing the change from year to year are actuarial gains
and losses arising from factors that include (i) changes in the discount rate, (ii) expected to actual demographic changes, such as
retirement age, mortality, turnover, rate of compensation changes, and (iii) changes in returns on our plan assets.
See Note 10, “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 2017, we recognized federal income tax expense of $44.1 million compared to a federal income tax benefit of $1.8
million for 2016 and federal income tax expense of $16.1 million for 2015. Income taxes for the year ended 2017 reflect provisional
deferred tax expense of $34.6 million attributable to the revaluation of our deferred tax assets and liabilities as a result of the
enactment of the TCJA. Income taxes for the year ended 2016 reflect the impact of a correction of prior period deferred tax
expense related to expired stock options. As a result of the correction, deferred federal income tax expense and additional paid-
in-capital were reduced by $1.6 million, respectively.
In computing taxable income, property and casualty insurers are required to discount their unpaid loss reserves. The discount
is determined using interest rates and claim payment patterns prescribed by the U.S. Treasury. The TCJA changed the prescribed
73
interest rates to rates based on corporate bond yield curves and extends the applicable time periods for the claim payment pattern.
Management determined the provisional change in discounted loss reserves attributable to the TCJA changes to be $50.9 million
pre-tax. As a result of changes to the Section 846 of the IRS Code, deferred tax assets were increased by that amount, with an
offsetting deferred tax liability. The deferred tax liability will be amortized over a period of eight years beginning in 2018. The
provisional amount will be adjusted once the IRS publishes the official discount factors that should be used.
Deferred income tax assets and liabilities represent the tax effect of the differences between the financial statement carrying
value of existing assets and liabilities and their respective tax bases. In accordance with the FASB’s ASC 740, Income Taxes (ASC
740), we periodically evaluate our deferred tax assets, which requires significant judgment, to determine if they are realizable
based upon weighing all available evidence, both positive and negative, including our historical and anticipated future taxable
income. In making such judgments, significant weight is given to evidence that can be objectively verified.
Management anticipates generating taxable income over the next three years that will allow for the realization of all of our
net operating loss (“NOL”) carryforwards by the end of 2020. The NOL carryforwards do not begin to expire until 2030 and will
not fully expire until 2036.
The following table sets forth the components of our federal income tax expense (benefit) for the years ended December 31,
2017, 2016 and 2015:
($ millions)
Income before federal income taxes
Current tax expense (benefit)
Deferred tax expense (benefit)
Total federal income tax expense (benefit)
Net (loss) income
2017
2016
2015
$
33.4
$
19.2
$
0.4
43.7
44.1
(10.7) $
$
(1.7)
(0.1)
(1.8)
21.0
$
67.3
2.9
13.2
16.1
51.2
See Note 9, “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:
74
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors of State Auto Financial Corporation
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of State Auto Financial Corporation and subsidiaries
(the Company) as of December 31, 2017 and 2016, 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, 2017, and the related notes and
financial statement schedules listed in the Index at Item 15(a)(2) (collectively referred to as the “consolidated financial statements”).
In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company
at December 31, 2017 and 2016, and the results of its operations and its cash flows for each of the three years in the period ended
December 31, 2017, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2017, based on criteria established
in Internal Control- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission
(2013 framework) and our report dated February 28, 2018 expressed an unqualified opinion thereon.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an
opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB
and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the
applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether
due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial
statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included
examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included
evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall
presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Ernst & Young LLP
We have served as the Company’s auditor since 1994
Grandview Heights, Ohio
February 28, 2018
75
Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting
To the Stockholders and the Board of Directors of State Auto Financial Corporation
Opinion on Internal Control over Financial Reporting
We have audited State Auto Financial Corporation and subsidiaries’ internal control over financial reporting as of
December 31, 2017, 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). In our opinion, State Auto Financial
Corporation and subsidiaries (the Company) maintained, in all material respects, effective internal control over financial reporting
as of December 31, 2017, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States) (the PCAOB) , the consolidated balance sheets of the Company as of December 31, 2017 and 2016, 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, 2017, and the related notes and financial statement schedules listed in the Index at Item 15(a)(2) and our report
dated February 28, 2018, expressed an unqualified opinion thereon.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its
assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s 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 are a public accounting firm registered with the PCAOB and are required to be
independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations
of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all
material respects.
Our audit 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.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding
the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally
accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that
(1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions
of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation
of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the
company are being made only in accordance with authorizations of management and directors of the company; and (3) provide
reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s
assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate
because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ Ernst & Young LLP
Grandview Heights, Ohio
February 28, 2018
76
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Consolidated Balance Sheets
($ and shares in millions, except per share amounts)
Assets
Fixed maturities, available-for-sale, at fair value (amortized cost $2,173.1 and $2,095.9,
respectively)
Equity securities, available-for-sale, at fair value (cost $318.6 and $323.1, respectively)
Other invested assets, available-for-sale, at fair value (cost $25.8 and $25.5,
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 $64.7 and $50.7, respectively)
Reinsurance recoverable on losses and loss expenses payable
Prepaid reinsurance premiums
Current federal income taxes
Net deferred federal income taxes
Property and equipment, at cost (net of accumulated depreciation of $6.8 and $6.6,
respectively)
Total assets
Liabilities and Stockholders’ Equity
Losses and loss expenses payable (affiliated net assumed $711.4 and $630.9,
respectively)
Unearned premiums (affiliated net assumed $187.9 and $220.9, respectively)
Notes payable (affiliates $15.2 and $15.2, respectively)
Postretirement and pension benefits (affiliated net ceded $34.8 and $40.1, respectively)
Due to affiliate
Other liabilities (affiliated net assumed $15.5 and $11.0, 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; 49.2 and 48.6 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 $50.7 and $53.7,
respectively)
Retained earnings
Total stockholders’ equity
Total liabilities and stockholders’ equity
See accompanying notes to consolidated financial statements.
December 31
2017
2016
$
$
2,192.8
365.3
$
$
$
$
56.0
5.6
70.0
2,689.7
91.5
36.5
117.8
3.1
6.4
4.8
57.2
7.3
3,014.3
1,255.6
611.8
122.1
64.5
2.7
76.7
2,133.4
—
—
123.0
(116.8)
171.8
36.7
666.2
880.9
3,014.3
$
$
2,109.3
382.8
45.1
5.4
70.0
2,612.6
51.1
40.0
129.8
3.6
6.1
6.7
102.1
7.4
2,959.4
1,181.6
617.8
122.1
74.4
2.4
69.8
2,068.1
—
—
121.6
(116.5)
159.9
32.5
693.8
891.3
2,959.4
77
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Consolidated Statements of Income
($ millions, except per share amounts)
Year ended December 31
2016
2015
2017
Earned premiums (affiliated net assumed $458.0, $472.0 and $437.6, respectively)
Net investment income (affiliates $4.9, $4.9 and $4.9, respectively)
Net realized gain on investments:
$
1,275.1
78.8
$
1,291.9
74.7
$
1,270.5
71.7
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 $2.3, $2.3 and $2.1, respectively)
Total revenues
Losses and loss expenses (affiliated net assumed $379.6, $383.8 and $293.3,
respectively)
Acquisition and operating expenses (affiliated net assumed $270.7, $285.8 and
$248.6, respectively)
Interest expense (affiliates $0.8, $0.8 and $0.7, respectively)
Other expenses
Total expenses
Income before federal income taxes
Federal income tax expense (benefit):
Current
Deferred
Total federal income tax expense (benefit)
Net (loss) income
(Loss) earnings per common share:
Basic
Diluted
Dividends paid per common share
See accompanying notes to consolidated financial statements.
(3.5)
—
68.6
65.1
2.3
1,421.3
(6.8)
—
43.3
36.5
2.3
1,405.4
(7.9)
—
32.2
24.3
2.1
1,368.6
918.3
942.4
862.8
455.8
5.9
7.9
1,387.9
33.4
430.4
5.5
7.9
1,386.2
19.2
426.8
5.4
6.3
1,301.3
67.3
0.4
43.7
44.1
(10.7) $
(0.25) $
(0.25) $
0.40
$
$
$
$
$
(1.7)
(0.1)
(1.8)
21.0
0.50
0.50
0.40
$
$
$
$
2.9
13.2
16.1
51.2
1.25
1.23
0.40
78
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Consolidated Statements of Comprehensive Income
($ millions)
Net (loss) income
Other comprehensive income (loss), net of tax:
Year ended December 31
2016
2015
2017
$
(10.7) $
21.0
$
51.2
Net change in 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 change in net unrealized holding gains (losses) on investments
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 gain
Income tax expense
Total net unrecognized benefit plan obligations
Other comprehensive income (loss)
Comprehensive (loss) income
$
See accompanying notes to consolidated financial statements.
69.0
(65.1)
(0.7)
3.2
(1.0)
(5.5)
8.0
(0.5)
1.0
4.2
(6.5) $
27.8
(36.5)
3.0
(5.7)
(3.0)
(5.5)
9.4
(0.3)
0.6
(5.1)
15.9
$
(39.2)
(24.7)
22.4
(41.5)
5.3
(5.4)
11.5
(4.0)
7.4
(34.1)
17.1
79
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Consolidated Statements of Stockholders’ Equity
Year ended December 31
2016
2015
2017
48.6
0.6
49.2
(6.8)
(6.8)
48.1
0.5
48.6
(6.8)
(6.8)
47.7
0.4
48.1
(6.8)
(6.8)
121.6
1.4
123.0
$
$
120.4
1.2
121.6
$
$
119.3
1.1
120.4
(116.5) $
(0.3)
(116.8) $
(116.3) $
(0.2)
(116.5) $
(116.0)
(0.3)
(116.3)
159.9
8.8
—
3.1
171.8
32.5
3.2
1.0
36.7
$
$
$
$
153.5
6.8
(3.0)
2.6
159.9
37.6
(5.7)
0.6
32.5
$
$
$
$
$
693.8
(10.7)
(16.9) $
666.2
880.9
$
$
689.4
21.0
(16.6) $
693.8
891.3
$
143.2
5.2
0.3
4.8
153.5
71.7
(41.5)
7.4
37.6
654.7
51.2
(16.5)
689.4
884.6
(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 award exercises and vested restricted shares
Balance at end of year
Additional paid-in capital:
Balance at beginning of year
Issuance of common stock
Tax (expense) benefit from stock option exercises
Stock awards 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
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 (loss) income
Cash dividends paid (affiliates $10.4, $10.4 and $10.4, respectively)
Balance at end of year
Total stockholders’ equity at end of year
See accompanying notes to consolidated financial statements.
$
$
$
$
$
$
$
$
$
$
$
80
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Consolidated Statements of Cash Flows
($ millions)
Cash flows from operating activities:
Net (loss) income
Adjustments to reconcile net (loss) income to net cash provided by operating
activities:
Depreciation and amortization, net
Share-based compensation
Net realized gain on investments
Changes in operating assets and liabilities:
Deferred policy acquisition benefits
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 expense on share-based awards
Federal income taxes
Cash provided from December 31, 2014 unearned premium transfer related
to the homeowners quota-share reinsurance arrangement
Net cash provided by 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 disposals of property and equipment
Net cash used in investing activities
Cash flows from financing activities:
Proceeds from issuance of common stock
Payments to acquire treasury stock
Payments of dividends (affiliates $10.4, $10.4 and $10.4, respectively)
Excess tax expense on share-based awards
Proceeds from long-term debt
Net cash (used in) provided by 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 $0.8, $0.8 and $0.7, respectively)
Federal income tax (refund) paid
See accompanying notes to consolidated financial statements.
81
Year ended December 31
2016
2015
2017
$
(10.7) $
21.0
$
51.2
12.5
4.2
(65.1)
12.0
3.5
(9.0)
0.2
6.0
74.0
(6.0)
—
46.3
—
14.6
3.7
(36.5)
(0.7)
(4.5)
(28.8)
3.0
7.3
128.6
1.5
(0.2)
4.5
—
15.7
4.5
(24.3)
(2.6)
(2.4)
(6.0)
3.0
(39.9)
69.8
3.9
(0.3)
13.7
63.5
$
$
$
$
$
$
$
$
67.9
$
113.5
$
149.8
(505.4) $
(185.9)
(1.4)
233.6
184.8
252.7
1.1
—
(20.5) $
$
10.2
(0.3)
(16.9)
—
—
(7.0) $
40.4
51.1
91.5
$
5.7
$
(1.6) $
(589.3) $
(143.1)
(1.5)
240.9
211.6
153.0
0.8
—
(127.6) $
$
2.2
(0.2)
(16.6)
0.2
21.5
7.1
(7.0)
58.1
51.1
$
$
$
5.4
— $
(573.9)
(154.0)
(6.9)
241.0
180.7
144.8
0.7
(0.1)
(167.7)
6.2
(0.3)
(16.5)
0.3
—
(10.3)
(28.2)
86.3
58.1
5.3
6.4
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
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.
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 basis 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 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.
82
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
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 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 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. 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.
83
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
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, 2017, 2016 and 2015:
($ millions)
Balance, beginning of year
Acquisition costs deferred
Acquisition costs amortized to expense
Balance, end of year
2017
2016
2015
$
$
129.8
245.7
(257.7)
117.8
$
$
129.1
291.0
(290.3)
129.8
$
$
126.5
285.6
(283.0)
129.1
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 $25.5 million and $27.0 million at December 31, 2017 and 2016,
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 (loss) 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 (loss) income includes net (loss) income and other
comprehensive income (loss). Other comprehensive income (loss) includes all other non-owner related changes to equity and
includes net unrealized gains and losses on available-for-sale investments and unrecognized benefit plan obligations, adjusted for
deferred federal income taxes.
84
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
k. New Accounting Standards
Adoption of Recent Accounting Pronouncements
Employee Share-Based Payment Accounting
The amendments in this guidance simplify the accounting for share-based payment award transactions including: income
tax consequences, classification of awards as either equity or liabilities, classification of excess tax benefits, and classification on
the statement of cash flows. The guidance is effective for fiscal years beginning after December 15, 2016, including interim periods
within those fiscal years. The Company adopted this guidance prospectively at January 1, 2017, and prior periods were not adjusted.
For the year ended December 31, 2017, the Company recognized $1.5 million of income tax expense as a result of adopting this
guidance. There were no other material impacts to the Company’s results of operations or consolidated financial position as a
result of adopting this guidance.
Pending Adoption of Recent Accounting Pronouncements
Revenue from Contracts with Customers
In May 2014, the FASB issued guidance that requires an entity to recognize revenue to depict the transfer of promised goods
or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those
goods and services. Insurance contracts do not fall within the scope of this new guidance. The guidance is effective for annual
reporting periods beginning after December 15, 2017, with early adoption permitted. The guidance has not yet been adopted. The
Company completed its contract analysis during the third quarter of 2017 and noted that 0.1% of revenue, primarily affiliated
investment management fee revenue, is subject to the new revenue recognition guidance. Revenue will not change under the new
guidance; thus, upon adoption, the Company does not expect any impact to its' results of operations and consolidated financial
position.
Financial Instruments - Overall: Recognition and Measurement of Financial Assets and Financial Liabilities
In January 2016, the FASB issued guidance to improve certain aspects of recognition, measurement, presentation, and
disclosure of financial instruments. Specifically the guidance (i) requires equity investments, including equity securities and limited
partnership interests, that are not accounted for under the equity method of accounting or result in consolidation to be measured
at fair value with changes in fair value recognized in earnings, (ii) simplifies the impairment assessment of equity investments
without readily determinable fair values by requiring a qualitative assessment to identify impairment, (iii) eliminates the requirement
to disclose the methods and significant assumptions used to estimate the fair value that is required to be disclosed for financial
instruments measured at amortized cost, (iv) requires the use of the exit price notion when measuring the fair value of financial
instruments for disclosure purposes, (v) requires an entity to present separately in other comprehensive income the portion of the
total change in fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected
to measure the liability at fair value in accordance with the fair value option, (vi) requires separate presentation of financial assets
and liabilities by measurement category and form on the balance sheet or the notes to the financial statements, and (vii) clarifies
that the need for a valuation allowance on a deferred tax asset related to an available for sale security should be evaluated with
other deferred tax assets. The guidance is effective beginning January 1, 2018. The Company will recognize $60.7 million of net
unrealized gains (net of tax) as a cumulative effect adjustment that will increase retained earnings as of January 1, 2018 and decrease
accumulated other comprehensive income (“AOCI”) by a corresponding amount. There are no other significant impacts anticipated
to the Company’s results of operations, consolidated financial position or cash flows.
Leases
In February 2016, the FASB issued guidance that amended previous guidance on lease accounting. The new guidance requires
the recognition of lease assets and lease liabilities by lessees for those leases classified as operating leases under previous GAAP.
The guidance is effective beginning January 1, 2019 and the Company is currently evaluating the impact on its results of operations
and consolidated financial position; however, it is not expected to have a material impact on the Company’s results of operations,
consolidated financial position or cash flows.
85
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Measurement of Credit Losses on Financial Instruments
In June 2016, the FASB issued guidance that amended previous guidance on the impairment of financial instruments by
adding an impairment model that allows an entity to recognize expected credit losses as an allowance rather than impairing as
they are incurred. The new guidance is intended to reduce complexity of credit impairment models and result in a more timely
recognition of expected credit losses. The measurement of credit losses for available-for-sale debt securities measured at fair value
is not affected except that credit losses recognized are limited to the amount by which fair value is below amortized cost and the
carrying value adjustment is recognized through an allowance and not as a direct write-down. The guidance is effective beginning
January 1, 2020 and the Company is currently evaluating the impact on its results of operations and consolidated financial position.
Statement of Cash Flows - Classification of Certain Cash Receipts and Cash Payments
In August 2016, the FASB issued guidance that addresses eight specific cash flow issues with the objective of reducing
existing diversity in practice. The new guidance is effective beginning January 1, 2018 and it is not expected to have a material
impact on the Company's cash flows.
Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income
In February 2018, the FASB issued guidance that addresses certain stranded income tax effects in AOCI resulting from the
Tax Cuts and Jobs Act of 2017 (“TCJA”). Current guidance requires the effect of a change in tax laws or rates on deferred tax
balances to be reported in income from continuing operations in the accounting period that includes the period of enactment, even
if the related income tax effects were originally charged or credited directly to AOCI. The amount of the reclassification would
include the effect of the change in the U.S. federal corporate income tax rate on the gross deferred tax amounts and related valuation
allowances, if any, at the date of the enactment of TCJA related to items in AOCI. The updated guidance is effective for reporting
periods beginning after December 15, 2018 and is to be applied retrospectively to each period in which the effect of the TCJA
related to items remaining in AOCI are recognized or at the beginning of the period of adoption. Early adoption is permitted. The
Company expects to adopt the updated guidance effective January 1, 2018. The adoption of this guidance will not affect the
Company's results of operations, consolidated financial position, or liquidity.
Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost
In March 2017, the FASB issued guidance on how to present the components of net periodic benefit costs in the income
statement for pension plans and other post-retirement benefit plans. The new guidance is effective for interim and annual reporting
periods beginning after December 15, 2017. The guidance has not yet been adopted; however, it will not have a material impact
on the Company's results of operations, consolidated financial position, or cash flows.
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,
2017 and 2016:
($ millions)
December 31, 2017
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 mortgage-backed securities
Total fixed maturities
Equity securities:
Large-cap securities
Mutual and exchange traded funds
Total equity securities
Other invested assets
Total available-for-sale securities
86
Cost or
amortized
cost
Gross
unrealized
holding
gains
Gross
unrealized
holding
losses
Fair
value
$
433.8
507.1
527.5
704.7
2,173.1
62.4
256.2
318.6
25.8
$ 2,517.5
$
$
9.3
19.1
4.5
7.1
40.0
35.1
21.6
56.7
30.2
126.9
$
$
(6.2) $
(0.4)
(2.3)
(11.4)
(20.3)
436.9
525.8
529.7
700.4
2,192.8
(0.7)
(9.3)
(10.0)
—
96.8
268.5
365.3
56.0
(30.3) $ 2,614.1
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
($ millions)
December 31, 2016
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 mortgage-backed securities
Total fixed maturities
Equity securities:
Large-cap securities
Small-cap securities
Mutual and exchange traded funds
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
$
401.9
634.6
445.7
613.7
2,095.9
108.9
57.2
157.0
323.1
25.5
$ 2,444.5
$
$
8.9
12.3
6.1
8.5
35.8
32.7
21.9
8.5
63.1
19.6
118.5
$
$
(6.1) $
(3.2)
(2.2)
(10.9)
(22.4)
404.7
643.7
449.6
611.3
2,109.3
(2.6)
—
(0.8)
(3.4)
—
139.0
79.1
164.7
382.8
45.1
(25.8) $ 2,537.2
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, 2017 and 2016:
($ millions, except # of positions)
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
$ 102.4
$
(0.6)
18
$ 196.1
$
(5.6)
22
$ 298.5
$
(6.2)
December 31, 2017
Fixed maturities:
U.S. treasury securities and
obligations of U.S.
government agencies
Obligations of states and
political subdivisions
Corporate securities
58.6
153.2
(0.4)
(1.3)
Total fixed maturities
Large-cap equity securities
U.S. government agencies mortgage-
backed securities
188.6
502.8
4.4
66.9
71.3
Total temporarily impaired securities $ 574.1
Mutual and exchange traded funds
Total equity securities
(2.9)
(5.2)
(0.7)
(9.3)
(10.0)
$ (15.2)
40
10
33
72
155
4
1
5
160
10
23
31
82
4
1
5
87
—
67.3
252.2
515.6
—
—
—
$ 515.6
—
(1.0)
(8.5)
(15.1)
—
—
—
$ (15.1)
—
10
41
73
—
—
—
73
58.6
220.5
440.8
1,018.4
4.4
66.9
71.3
$1,089.7
(0.4)
(2.3)
(11.4)
(20.3)
(0.7)
(9.3)
(10.0)
$ (30.3)
87
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
($ millions, except # of positions)
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
December 31, 2016
Fixed maturities:
U.S. treasury securities and
obligations of U.S.
government agencies
Obligations of states and
political subdivisions
Corporate securities
$ 229.1
$
(6.1)
30
$ — $ —
— $ 229.1
$
(6.1)
178.9
102.9
(3.2)
(1.4)
Total fixed maturities
Large-cap equity securities
U.S. government agencies mortgage-
backed securities
341.7
852.6
9.1
29.9
39.0
Total temporarily impaired securities $ 891.6
Mutual and exchange traded funds
Total equity securities
(10.1)
(20.8)
(0.9)
(0.8)
(1.7)
$ (22.5)
26
16
43
115
7
2
9
124
—
29.4
20.5
49.9
8.8
—
8.8
$ 58.7
$
—
(0.8)
(0.8)
(1.6)
(1.7)
—
(1.7)
(3.3)
—
4
11
15
5
—
5
20
178.9
132.3
362.2
902.5
17.9
29.9
47.8
$ 950.3
(3.2)
(2.2)
(10.9)
(22.4)
(2.6)
(0.8)
(3.4)
$ (25.8)
30
26
20
54
130
12
2
14
144
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, 2017, 2016 and 2015:
($ millions)
Equity securities:
Large-cap securities
Small-cap securities
Fixed maturities
Total other-than-temporary impairments
2017
2016
2015
$
$
(1.5) $
(2.0)
—
(3.5) $
(0.6) $
(3.9)
(2.3)
(6.8) $
(2.2)
(5.7)
—
(7.9)
The Company reviewed its investments at December 31, 2017, and determined that no additional other-than-temporary
impairment exists in the gross unrealized holding losses.
The following table sets forth the amortized cost and fair value of available-for-sale fixed maturities by contractual maturity
at December 31, 2017:
($ 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 mortgage-backed securities
Total
Amortized
cost
Fair
value
$
$
5.9
543.8
419.1
499.6
704.7
2,173.1
$
$
5.9
545.0
420.3
521.2
700.4
2,192.8
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, 2017, State Auto P&C had fixed maturity securities, with a carrying value of approximately $106.5 million,
that were pledged as collateral for the FHLB Loan (as defined in Note 8). 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 mortgage-backed
securities” classification of the Company’s fixed maturity securities portfolio.
Fixed maturities with fair values of approximately $9.3 million and $9.2 million were on deposit with insurance regulators
as required by law at December 31, 2017 and 2016, respectively.
88
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth the components of net investment income for the years ended December 31, 2017, 2016 and
2015:
($ millions)
Fixed maturities
Equity securities
Cash and cash equivalents, and other
Investment income
Investment expenses
Net investment income
2017
2016
2015
$
$
63.2
10.5
6.3
80.0
1.2
78.8
$
$
63.4
7.3
5.6
76.3
1.6
74.7
$
$
61.3
6.5
5.9
73.7
2.0
71.7
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 2017, 2016 and 2015 were $438.6 million, $365.4 million and $326.2
million, respectively.
The following table sets forth the realized and unrealized holding gains (losses) on the Company’s investment portfolio for
the years ended December 31, 2017, 2016 and 2015:
($ millions)
Realized gains:
Fixed maturities
Equity securities
Other invested assets
Total realized gains
Realized losses:
Equity securities:
Sales
OTTI
Fixed maturities:
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
Change in unrealized holding gains (losses), net of tax
2017
2016
2015
$
$
$
$
2.8
66.7
0.2
69.7
(1.1)
(3.5)
—
(4.6)
65.1
6.3
(13.0)
10.6
(0.7)
3.2
$
$
$
$
2.8
29.2
12.1
44.1
(0.8)
(4.5)
(2.3)
(7.6)
36.5
$
$
(14.4) $
14.3
(8.6)
3.0
(5.7) $
4.6
29.6
0.2
34.4
(1.8)
(7.9)
—
(9.7)
24.7
(32.8)
(29.5)
(1.6)
22.4
(41.5)
During the fourth quarter of 2016, the Company redeemed a limited partnership investment in international equities that had
been classified as other invested assets. The redemption proceeds were reinvested in an international equity mutual fund classified
as an equity security. The Company recognized a gain of $12.0 million on the redemption. Out of the total proceeds related to
this redemption and reinvestment, $44.0 million was non-cash and therefore excluded from net cash used in investing activities
in the consolidated statements of cash flows.
89
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
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, 2017 and 2016, the Company did not adjust any
of the prices received from the pricing service.
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, 2017 and 2016.
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 a security discussed below), and U.S.
government agencies 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 held one fixed maturity corporate security included in Level 3 and estimated its fair value using the present
value of the future cash flows. This security was sold during the second quarter of 2017.
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.
90
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Other Invested Assets
Included in other invested assets is one international fund (“the fund”) that invests in equity securities of foreign issuers and
is managed by third party investment managers. The fund had a fair value of $45.2 million and $35.7 million at December 31,
2017 and 2016, respectively, which was determined using the fund’s net asset value. The Company employs procedures to assess
the reasonableness of the fair value of the fund including obtaining and reviewing the fund’s audited financial statements. There
is no unfunded commitment related to the fund. The Company may not sell its investment in the fund; however, the Company may
redeem all or a portion of its investment in the fund at net asset value per share with the appropriate prior written notice.
At December 31, 2015, the Company held another international fund that was managed by third party investment managers.
During the fourth quarter of 2016, the Company redeemed its investment in the fund. At December 31, 2015, the fund had a fair
value of $43.7 million.
In accordance with Accounting Standard Codification 820-10, since the investments are measured at fair value using the net
asset value per share practical expedient they have not been classified in the fair value hierarchy. Fair values presented here are
intended to permit reconciliation of the fair value hierarchy to the amounts presented in the consolidated balance sheets.
The remainder of the Company’s other invested assets consist of holdings in publicly-traded mutual funds. The Company
believes that its prices for these publicly-traded mutual funds, based on an observable market price for an identical asset in an
active market, reflect their fair values and consequently these securities have been disclosed in Level 1.
91
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following tables set forth the Company’s available-for-sale investments within the fair value hierarchy at December 31,
2017 and 2016:
($ millions)
December 31, 2017
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 mortgage-backed securities
Total fixed maturities
Equity securities:
Large-cap securities
Small-cap securities
Mutual and exchange traded funds
Total equity securities
Other invested assets
Total available-for-sale investments
($ millions)
December 31, 2016
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 mortgage-backed securities
Total fixed maturities
Equity securities:
Large-cap securities
Small-cap securities
Mutual and exchange traded funds
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
$
$
$
$
436.9
525.8
529.7
700.4
2,192.8
96.8
—
268.5
365.3
10.8
2,568.9
$
$
— $
—
—
—
—
96.8
—
268.5
365.3
10.8
376.1
$
436.9
525.8
529.7
700.4
2,192.8
—
—
—
—
—
2,192.8
Quoted prices
in active
markets for
identical
assets
(Level 1)
Significant
other
observable
inputs
(Level 2)
Total
404.7
643.7
449.6
611.3
2,109.3
139.0
79.1
164.7
382.8
9.4
2,501.5
$
$
— $
—
—
—
—
139.0
79.1
164.7
382.8
9.4
392.2
$
404.7
643.7
446.1
611.3
2,105.8
—
—
—
—
—
2,105.8
$
$
$
$
—
—
—
—
—
—
—
—
—
—
—
Significant
unobservable
inputs
(Level 3)
—
—
3.5
—
3.5
—
—
—
—
—
3.5
92
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 2017 and 2016, separately for each major category of assets.
This security was sold during the second quarter of 2017.
($ millions)
Balance at January 1, 2017
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, 2017
($ millions)
Balance at January 1, 2016
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, 2016
Fixed
maturities
3.5
1.4
—
0.1
(5.0)
—
—
—
Fixed
maturities
3.3
—
—
0.2
—
—
—
3.5
$
$
$
$
93
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 common stock of the Federal Home Loan Bank of Cincinnati (the “FHLB”), and the
Trust Securities (as defined in Note 7b). 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, 2017 was $5.1 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, 2017
Fair
value
Carrying
value
Interest
rate
Carrying
value
December 31, 2016
Fair
value
Interest
rate
Notes receivable from affiliate
$
70.0
$
72.6
7.00% $
70.0
$
75.7
7.00%
Notes Payable
Included in notes payable are the FHLB Loans, consisting of the 2013 FHLB Loan and the 2016 FHLB Loan (as defined in
Note 8) and Subordinated Debentures. The Company estimates the fair value of the FHLB Loans by discounting cash flows using
a borrowing rate currently available to the Company for a loan with similar terms. The FHLB Loans have 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, 2017
Fair
Value
Carrying
value
Interest
rate
Carrying
value
December 31, 2016
Fair
value
Interest
rate
FHLB Loan due 2021:, issued $21.5,
September 2016 with fixed interest
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
$
21.5
$
20.9
1.73% $
21.5
$
21.0
1.73%
85.4
85.7
5.03%
85.4
85.6
5.03%
15.2
122.1
$
15.2
121.8
$
5.68%
15.2
122.1
$
15.2
121.8
$
5.13%
94
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 $711.4, $630.9, and
$532.4, respectively)
2017
2016
2015
$
$
1,181.6
3.6
1,178.0
$
1,053.0
5.9
1,047.1
964.9
(46.6)
918.3
445.2
398.6
843.8
1,252.5
3.1
915.4
27.0
942.4
417.8
393.7
811.5
1,178.0
3.6
983.2
9.6
973.6
852.8
10.0
862.8
421.5
367.8
789.3
1,047.1
5.9
$
1,255.6
$
1,181.6
$
1,053.0
The Company recorded favorable development related to prior years’ loss and loss expense reserves in 2017 of $46.6 million,
compared to adverse development in 2016 and 2015 of $27.0 million and $10.0 million, respectively. Unallocated loss adjustment
expenses and catastrophe reserves contributed $3.2 million and $2.0 million, respectively, of favorable development in 2017.
Favorable development of prior accident years' non-catastrophe loss and ALAE reserves was primarily driven by $44.0 million
of favorable development in the commercial insurance segment. Favorable development in these lines was driven by lower than
anticipated severity emerging from multiple accident years. The personal insurance segment non-catastrophe loss and ALAE
reserves accounted for $1.6 million of the favorable development in 2017. Personal auto contributed $4.4 million of favorable
development primarily driven by lower than anticipated severity emerging from accident years 2015 and 2016. Slightly offsetting
the favorable development was adverse development in homeowners and other personal of $1.5 million and $1.3 million,
respectively. Homeowners adverse development was primarily from accident year 2016. Adverse development in other personal
was driven by higher than anticipated severity emerging from accident years 2015 and 2016. The specialty insurance segment
non-catastrophe loss and ALAE reserves accounted for $4.2 million of adverse development, primarily driven by E&S property
with adverse development of $3.0 million. E&S property adverse development was driven by higher than anticipated severity for
liability coverages on business in run-off.
Unallocated loss adjustment expenses contributed $3.7 million of the adverse development and catastrophe reserves
contributed $1.4 million of the favorable development in 2016. The personal insurance segment non-catastrophe loss and ALAE
reserves accounted for $9.0 million of the adverse development, driven by personal auto which contributed $7.9 million of adverse
development, primarily due to higher than anticipated bodily injury severity from the prior two accident years. The commercial
insurance segment non-catastrophe loss and ALAE reserves contributed $5.1 million of favorable development, driven by workers’
compensation, other commercial, and farm & ranch of $4.2 million, $1.8 million, and $1.7 million respectively. Favorable
development in these lines was driven by lower than anticipated severity emerging from multiple accident years. The favorable
development was partially offset by adverse development in commercial auto of $3.6 million, which was driven by higher than
anticipated bodily injury severity from the prior two accident years. The specialty insurance segment non-catastrophe loss and
ALAE reserves accounted for $20.8 million of adverse development in 2016, which was driven by programs and E&S casualty
with adverse development of $14.3 million and $4.6 million, respectively. Programs adverse development was driven by higher
than expected severity in programs with commercial auto exposures. E&S casualty adverse development was driven by increased
severity from the healthcare line, which was placed in run-off in the first quarter of 2016.
Favorable development of unallocated loss adjustment expenses and catastrophe reserves were approximately $6.2 million
and $0.7 million, respectively, of the 2015 development. The personal insurance segment contributed $10.5 million of the adverse
development, driven by personal auto which developed unfavorably by $11.1 million, primarily due to higher than anticipated
bodily injury severity from the prior two accident years. The commercial insurance segment contributed $0.7 million of favorable
development, driven by favorable development in workers’ compensation and middle market commercial of $5.1 million and $4.3
95
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
million, respectively. Favorable development in these lines was driven by lower than anticipated severity emerging from multiple
accident years. The favorable development was offset by commercial auto which developed unfavorably by $9.8 million, due to
higher than anticipated bodily injury severity from the prior two accident years. The specialty insurance segment non-catastrophe
loss and ALAE reserves accounted for $7.1 million of adverse development, which was driven by programs and E&S casualty
with adverse development of $9.6 million and $2.7 million, respectively. Adverse development in programs was driven by higher
than expected severity in programs with commercial auto exposures. Somewhat offsetting the adverse development was favorable
development of $5.2 million in the E&S property unit driven by lower than anticipated severity emerging from accident year 2014.
5. Short-Duration Insurance Contracts
The following tables set forth:
•
•
•
•
undiscounted, incurred and paid claims and allocated claim adjustment expenses by accident year, on a net basis after
reinsurance;
the sum of IBNR claims liabilities + expected development on reported claims ("IBNR+") included within the incurred
claims development tables, for each accident year, for the most recent reporting period; and
cumulative claim frequency information for each accident year;
average annual percentage payout of incurred claims by age, net of reinsurance.
The above information is provided for each of the Company’s reportable insurance segments and then is further disaggregated
between short and long-tail where "tail" refers to the time period between the occurrence of a loss and the ultimate settlement of
the claims. The tables below have been restated to conform to the December 31, 2017 segment presentation. See Note 16 for
discussion of the Company’s reportable segments.
The personal insurance segment generally only consists of short-tail business, whereas the commercial and specialty insurance
segments have both short and long-tail business. The Company determined that these disaggregated groupings have homogeneous
risk characteristics with similar development patterns and are generally subject to similar trends.
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 in the "Losses and Loss Expenses Payable" section of "Critical Accounting Policies" included
in Item 7 of this Form10-K. Separate projections are made for catastrophes that are in the very early stages of development based
on specific information known through the reporting date.
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 in the "Losses and Loss Expenses Payable" section of "Critical
Accounting Policies" included in Item 7 of this Form10-K. Statistical models may also be used when the historical patterns can
be reasonably approximated.
Cumulative Claim Frequency: Cumulative claim frequency is defined as the cumulative number of reported claims ("reported
claims"). Reported claims include claims that do not result in a liability (e.g. those below a deductible). Reported claims disclosed
in the tables below are for the State Auto Group and have not been pooled (see Note 7a for additional information regarding the
Pooling Arrangement).
96
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Personal Insurance Segment - Short-Tail
($ in millions except number of claims)
Incurred Losses and Allocated Loss Adjustment Expenses, Net of Reinsurance
As of December 31, 2017
Accident
Year
2013
2014
2015
2016
2017
For the Years Ended December 31,
2013*(1)
2014*(1)
2015*
2016
2017
IBNR+
$
291.3
$
286.1
$
290.3
$
290.0
$
289.8
$
273.2
274.9
339.0
277.3
345.5
368.5
276.0
341.0
370.0
372.4
Total
$
1,649.2
1.5
2.7
7.4
22.8
54.0
Reported
Claims (2)
190,310
172,678
152,698
150,364
140,258
* Supplementary information and unaudited
(1) Allocated claim adjustment expenses, net of reinsurance, for accident years 2013 and 2014 were impacted by the HO QS
Arrangement. See Note 6 for a more detailed discussion of the HO QS Arrangement.
(2) Personal insurance segment - short-tail is an aggregation of the homeowners and personal auto product lines. Homeowners
reported claims are counted by claimant and personal auto claims are counted by coverage.
($ in millions)
Cumulative Paid Losses and Allocated Loss Adjustment Expenses, Net of Reinsurance
For the Years Ended December 31,
Accident Year
2013*(1)
2014*(1)
2015*
2016
2017
2013
2014
2015
2016
2017
$
178.1
$
239.5
$
174.2
267.6
$
279.4
$
228.4
216.5
254.3
290.8
231.9
Total $
All outstanding liabilities before 2013, net of reinsurance $
Losses and allocated loss adjustment expenses payable, net of reinsurance $
286.2
266.3
318.0
316.2
236.8
1,423.5
3.7
229.4
* Supplementary information and unaudited
(1) Cumulative paid claims for accident years 2013 and 2014 were impacted by the HO QS Arrangement. See Note 6 for a
more detailed discussion of the HO QS Arrangement.
97
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Commercial Insurance Segment - Short-Tail
The change in incurred losses and loss adjustment expenses for prior accident years was caused by lower than expected
emergence during 2017 in the commercial auto, small commercial package and middle market commercial products. The
unanticipated emergence in these products was driven by lower than expected severity from (i) accident years 2013 and 2014 in
commercial auto, (ii) accident years 2013 - 2016 in small commercial package, and (iii) accident years 2014 - 2016 in middle
market commercial. These accident years account for approximately 80% of the change in incurred losses and loss adjustment
expenses.
($ in millions except number of claims)
Incurred Losses and Allocated Loss Adjustment Expenses, Net of Reinsurance
As of December 31, 2017
For the Years Ended December 31,
Accident
Year
2013
2014
2015
2016
2017
2013*
2014*
2015*
2016
2017
IBNR+
$
214.6
$
211.9
$
217.6
$
217.6
$
213.9
$
227.0
231.3
239.4
233.7
239.9
237.0
226.3
232.5
227.6
236.8
Total
$
1,137.1
10.4
15.3
28.4
47.6
69.5
Reported
Claims(1)
39,984
38,657
37,556
34,088
28,605
* Supplementary information and unaudited
(1) Commercial insurance segment - short-tail is an aggregation of the commercial auto, small commercial package, middle
market commercial and farm & ranch product lines. Commercial auto reported claims are counted by coverage and small
commercial package, middle market commercial and farm & ranch reported claims are counted by claimant.
($ in millions)
Cumulative Paid Losses and Allocated Loss Adjustment Expenses, Net of Reinsurance
For the Years Ended December 31,
Accident Year
2013*
2014*
2015*
2016
2017
2013
2014
2015
2016
2017
$
89.9
$
$
146.1
103.0
$
168.9
151.9
101.5
$
185.4
180.8
148.3
99.2
Total $
All outstanding liabilities before 2013, net of reinsurance $
Losses and allocated loss adjustment expenses payable, net of reinsurance $
196.4
195.9
169.6
147.3
104.9
814.1
37.2
360.2
* Supplementary information and unaudited
98
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Commercial Insurance Segment - Long-Tail
The change in incurred losses and loss adjustment expenses for prior accident years was due to lower than expected emergence
during 2017 in the workers’ compensation product. The unanticipated emergence in the workers’ compensation product was driven
by lower than expected severity from accident years 2015 and 2016.
($ in millions except number of claims)
Incurred Losses and Allocated Loss Adjustment Expenses, Net of Reinsurance
As of December 31, 2017
For the Years Ended December 31,
Accident
Year
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2008*
2009*
2010*
2011*
2012*
2013*
2014*
2015*
2016
2017
IBNR+
$ 46.6
$ 45.2
$ 42.7
$ 43.6
$ 43.7
$ 43.4
$ 43.3
$ 43.3
$ 43.0
$ 42.4
$
47.3
48.1
38.8
46.8
41.3
44.6
46.7
41.6
47.4
49.7
46.3
40.4
45.5
45.8
48.7
46.0
40.3
44.8
43.7
45.4
51.6
45.8
40.4
44.8
44.1
44.1
50.0
59.7
45.5
40.8
44.9
43.9
43.4
47.1
59.4
62.6
45.0
40.2
43.9
42.9
42.9
45.7
56.5
60.6
59.0
Total
$ 479.1
2.2
2.4
2.9
4.2
5.0
6.9
9.5
14.3
22.3
29.3
Reported
Claims(1)
4,461
4,889
5,257
12,220
12,754
11,305
11,563
11,118
12,362
11,728
* Supplementary information and unaudited
(1) Commercial insurance segment-long-tail consists of the workers' compensation product. Workers' compensation reported claims are
counted by a combination of claimant and coverage.
99
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
($ in millions)
Accident
Year
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
Cumulative Paid Losses and Allocated Loss Adjustment Expenses, Net of Reinsurance
For the Years Ended December 31,
2008*
2009*
2010*
2011*
2012*
2013*
2014*
2015*
2016
2017
$
10.7
$
$
26.2
11.9
$
29.9
26.4
9.0
$
32.8
33.2
21.6
12.4
$
34.8
37.2
28.0
25.4
12.6
$
35.8
38.7
31.4
31.9
23.5
12.3
$
37.0
40.0
33.2
35.0
29.8
23.3
12.4
$
37.4
40.4
34.6
36.9
32.7
29.0
24.4
13.9
$
38.0
41.1
35.4
37.7
34.7
32.3
30.0
28.2
12.6
38.2
41.4
35.8
38.1
35.8
33.7
32.8
35.7
26.8
13.2
$ 331.4
33.1
Losses and allocated loss adjustment expenses payable, net of reinsurance $ 180.8
All outstanding liabilities before 2008, net of reinsurance $
* Supplementary information and unaudited
100
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Specialty Insurance Segment - Short-Tail
The change in incurred losses and loss adjustment expenses for prior accident years was attributable to greater than expected
emergence during 2017 in E&S property. The unanticipated emergence in E&S property was driven by higher than expected
severity from accident years 2013 - 2016 for the liability portion of our Florida package business.
($ in millions except number of claims)
Incurred Losses and Allocated Loss Adjustment Expenses, Net of Reinsurance
As of December 31, 2017
Accident
Year
2013
2014
2015
2016
2017
For the Years Ended December 31,
2013*
2014*
2015*
2016
2017
IBNR+
$
70.9
$
$
82.9
55.7
$
85.0
56.9
75.5
$
90.9
58.5
85.4
99.3
Total
$
$
93.8
60.9
87.8
99.5
134.2
476.2
2.8
4.4
10.8
28.8
48.5
Reported
Claims(1)
7,689
7,805
7,955
6,811
7,917
* Supplementary information and unaudited
(1) Specialty insurance segment-short-tail is an aggregation of the E&S Property and programs product lines. E&S Property and
programs reported claims are counted by claimant.
($ in millions)
Cumulative Paid Losses and Allocated Loss Adjustment Expenses, Net of Reinsurance
For the Years Ended December 31,
Accident Year
2013*
2014*
2015*
2016
2017
2013
2014
2015
2016
2017
$
18.2
$
$
37.7
22.0
$
55.5
34.9
24.0
$
72.0
44.0
48.3
25.2
Total $
All outstanding liabilities before 2012, net of reinsurance $
Losses and allocated loss adjustment expenses payable, net of reinsurance $
83.1
49.3
62.8
50.2
39.0
284.4
18.8
210.6
* Supplementary information and unaudited
101
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Specialty Insurance Segment - Long-Tail
($ in millions except number of claims)
Incurred Losses and Allocated Loss Adjustment Expenses, Net of Reinsurance
As of December 31, 2017
For the Years Ended December 31,
2008*
2009*
2010*
2011*
2012*
2013*
2014*
2015*
2016
2017
IBNR+
Reported
Claims(1)
$
6.4
$
6.7
$
6.7
$
6.8
$
6.1
$
6.0
$
5.8
$
6.0
$
4.9
$
4.8
$
10.3
11.0
11.2
10.0
10.9
11.9
10.4
9.9
10.7
16.7
11.0
9.7
10.7
16.7
20.1
11.0
9.8
10.2
15.4
18.9
23.3
10.6
9.9
10.1
17.6
17.9
25.2
38.6
12.4
10.3
10.9
17.4
16.5
27.1
44.9
60.8
12.9
10.1
10.5
16.5
15.9
28.3
44.8
62.9
71.6
Total
$ 278.2
1.3
2.5
1.8
1.8
1.9
3.1
6.8
14.7
34.7
58.7
1,652
1,504
1,224
953
860
1,055
1,265
2,001
4,348
4,819
Accident
Year
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
* Supplementary information and unaudited
(1) Specialty insurance segment-long-tail consists of the E&S Casualty product line. E&S Casualty reported claims are counted by
claimant.
($ in millions)
Accident
Year
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
Cumulative Paid Losses and Allocated Loss Adjustment Expenses, Net of Reinsurance
For the Years Ended December 31,
2008*
2009*
2010*
2011*
2012*
2013*
2014*
2015*
2016
2017
$
0.1
$
$
0.3
0.2
$
0.8
2.4
0.8
$
1.3
4.9
2.2
0.9
$
1.7
7.2
5.2
3.0
0.9
$
2.1
8.6
6.5
5.2
4.0
1.1
$
2.4
9.4
7.7
6.6
7.3
3.7
1.2
$
2.8
9.2
7.6
7.1
10.3
6.7
7.2
2.7
3.0
10.0
8.1
7.9
12.5
9.0
12.5
10.9
6.0
$
3.3
10.4
8.2
8.1
14.0
10.5
16.7
20.6
15.7
5.5
$ 113.0
* Supplementary information and unaudited
2.7
Losses and allocated loss adjustment expenses payable, net of reinsurance $ 167.9
All outstanding liabilities before 2008, net of reinsurance $
102
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth the reconciliation of the claims development tables to the balance sheet losses and loss expenses
payable, with separate disclosure of unallocated loss adjustment expenses, net of reinsurance ("ULAE") and reinsurance recoverable
on losses and loss expenses payable, for the years ended December 31:
($ in millions)
Net losses and allocated loss adjustment expenses payable:
2017
2016
2015
Personal Insurance Segment
Short-tail
Other personal
Commercial Insurance Segment
Short-tail
Long-tail
Other commercial
Specialty Insurance Segment
Short-tail
Long-tail
Net losses and loss expenses payable
ULAE
Reinsurance recoverable on losses and loss expenses payable
$
229.4
$
13.2
360.2
180.8
26.4
210.6
167.9
1,188.5
64.0
3.1
$
229.6
10.8
226.4
314.2
24.6
178.9
129.7
1,114.2
63.8
3.6
208.3
12.8
332.4
158.8
24.1
165.8
91.1
993.3
53.8
5.9
Total losses and loss expenses payable
$
1,255.6
$
1,181.6
$
1,053.0
The following table sets forth the historical average annual payout of incurred losses and allocated loss adjustment expenses
(claims duration) for short-duration contracts, based on the disaggregated information in the paid loss development tables, net of
reinsurance:
Average Annual Percentage Payout of Incurred Claims by Age, Net of Reinsurance
Years
Segment
1*
2*
3*
4*
5*
6*
7*
8*
9*
10*
62.9% 21.4% 9.0%
4.2%
2.3%
N/A
N/A
N/A
N/A
N/A
Personal Insurance:
Short-tail
Commercial Insurance:
Short-tail
Long-tail
Specialty Insurance:
43.8% 22.3% 10.9%
25.5% 28.4% 13.5%
7.2%
7.4%
5.1%
4.1%
N/A
N/A
2.6% 1.7%
Short-tail
Long-tail
27.5% 23.7% 16.8% 13.1% 11.9%
9.6%
6.0% 16.0% 20.1% 14.6%
N/A
N/A
6.1% 2.7%
* Supplementary information and unaudited
103
N/A
1.1%
N/A
5.9%
N/A
1.1%
N/A
3.3%
N/A
0.4%
N/A
5.9%
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
6. 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 7a 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 years ended December 31, 2017, 2016 and 2015, the Company recognized profit commission of $0.7 million, $1.9 million,
and $4.2 million, respectively, reflected as a reduction in acquisition and operating expenses on the consolidated statements of
income. The amount of ceding commission earned was limited to the amount of deferred acquisition costs that would have been
deferred if not for entering in the arrangement.
The following table sets forth the effect of the Company’s external reinsurance on its balance sheets at December 31, 2017
and 2016, prior to the reinsurance transaction with State Auto Mutual under the Pooling Arrangement, as discussed in Note 7a:
($ millions)
Losses and loss expenses payable:
Direct
Assumed
Ceded
Net losses and loss expenses payable
Unearned premiums:
Direct
Assumed
Ceded
Net unearned premiums
2017
2016
$
$
$
$
535.0
9.2
(3.1)
541.1
402.5
21.4
(6.4)
417.5
$
$
$
$
545.7
5.0
(3.6)
547.1
395.6
1.3
(6.1)
390.8
104
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, 2017, 2016 and 2015, prior to the reinsurance transaction with State Auto Mutual under the Pooling Arrangement,
as discussed in Note 7a:
($ 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
7. Transactions with Affiliates
a. Reinsurance
2017
2016
2015
$
$
$
$
$
$
835.6
31.1
(22.9)
843.8
828.7
11.0
(22.6)
817.1
530.9
10.4
(2.5)
538.8
$
$
$
$
$
$
835.4
5.0
(24.9)
815.5
840.6
4.9
(25.6)
819.9
559.1
3.9
(4.4)
558.6
$
$
$
$
$
$
854.1
4.7
(35.4)
823.4
863.1
4.5
(34.7)
832.9
569.0
3.4
(2.9)
569.5
The insurance subsidiaries of State Auto Financial, including State Auto P&C, Milbank and SA Ohio (collectively referred
to as the “STFC Pooled Companies”) participate in a quota share reinsurance pooling arrangement (“the Pooling Arrangement”)
with State Auto Mutual 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”). 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).
105
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, 2017 and 2016:
($ 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 assumed
Stockholders’ Equity
Accumulated other comprehensive income:
Ceded
Assumed
Net ceded
2017
2016
(53.1) $
117.8
64.7
$
(79.1)
129.8
50.7
(541.1) $
1,252.5
711.4
$
(547.1)
1,178.0
630.9
(417.5) $
605.4
187.9
$
(99.3) $
64.5
(34.8) $
(43.0) $
58.5
15.5
$
(390.8)
611.7
220.9
(114.5)
74.4
(40.1)
(42.9)
53.9
11.0
(144.7) $
94.0
(50.7) $
(153.5)
99.8
(53.7)
$
$
$
$
$
$
$
$
$
$
$
$
106
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, 2017, 2016 and 2015:
($ 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
2017
2016
2015
$
$
$
$
$
$
$
(843.8) $
1,269.3
425.5
$
(815.5) $
1,293.3
477.8
$
(817.1) $
1,275.1
458.0
$
(819.9) $
1,291.9
472.0
$
(540.4) $
920.0
379.6
$
(189.7)
460.4
270.7
$
(560.3) $
944.1
383.8
$
(148.5)
434.3
285.8
$
(823.4)
1,273.5
450.1
(832.9)
1,270.5
437.6
(570.9)
864.2
293.3
(183.9)
432.5
248.6
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, 2017 and 2016 is approximately $323.1 million and $310.5 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 5.68% at December 31, 2017). 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.
107
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, 2017,
2016 and 2015, 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 $2.0 million, $1.9 million and $1.8 million in 2017, 2016
and 2015, respectively, and is included in other income (affiliates) on the consolidated statements of income.
8. Notes Payable and Credit Facility
FHLB Loans
State Auto Financial’s subsidiary, State Auto P&C, is a member of the Federal Home Loan Bank of Cincinnati (the “FHLB”)
and in September 2016 entered into a new term loan with the FHLB in the principal amount of $21.5 million (the “2016 FHLB
Loan”). The 2016 FHLB Loan is a five-year term loan and may be called (prepaid) after three years with no prepayment penalty.
The 2016 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 1.73%. The 2016 FHLB Loan is fully secured by a pledge of specific investment securities of
State Auto P&C. State Auto P&C has a term loan with the FHLB in the principal amount of $85.0 million (the “2013 FHLB
Loan”). The 2013 FHLB Loan is a 20-year term loan and is callable after three years with no prepayment penalty thereafter. The
2013 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 2013 FHLB Loan is fully secured by a pledge of specific investment securities of
State Auto P&C.
Credit Facility
State Auto P&C has a credit facility (the “SPC Credit Facility”) with a syndicate of lenders that 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 $150.0 million, provided that no event of default
has occurred and is continuing. The SPC Credit Facility is available for general corporate purposes and provides for interest-only
payments during its term, with principal and interest due in full at maturity. Interest is based on the London Interbank Offered
Rate (“LIBOR”) or a base rate plus a calculated margin amount. All advances under the SPC Credit Facility are to be fully secured
by a pledge of specific investment securities of State Auto P&C. The SPC Credit Facility includes certain requirements, including
financial requirements that State Auto Financial maintain a minimum net worth and a certain debt to capitalization ratio.
As of December 31, 2017, State Auto P&C had not made any borrowings and both State Auto P&C and State Auto Financial
were in compliance with all covenants and requirements of the SPC Credit Facility.
9. Federal Income Taxes
On December 22, 2017, the United States enacted the TCJA which, among other changes, reduced the U.S. federal tax rate
from 35.0% to 21.0% beginning on January 1, 2018. The estimated effects of enactment of TCJA are reflected in the net deferred
tax asset that is reported on the Company's balance sheet at December 31, 2017.
108
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following table sets forth the reconciliation between actual federal income tax (benefit) expense and the amount computed
at the indicated statutory rate for the years ended December 31, 2017, 2016 and 2015:
($ millions)
Amount at statutory rate
Tax-exempt interest and dividends received deduction
Other, net
Federal income tax expense (benefit)
Impact of TCJA at enactment
Federal income tax expense (benefit)
2017
2016
2015
$
$
11.7
(5.7)
1.7
7.7
36.4
44.1
35.0% $
(17.1)
5.4
23.3
108.7
132.0% $
6.7
(7.1)
(1.4)
(1.8)
—
(1.8)
35.0 % $
(37.2)
(7.2)
(9.4)%
—
(9.4)% $
23.5
(8.7)
1.3
16.1
—
16.1
35.0%
(13.0)
1.9
23.9%
—
23.9%
Total income tax expense for 2017 included a provisional net charge of $36.4 million to reflect the change in tax laws and
tax rates included in TCJA at the date of enactment, resulting primarily from revaluing the Company's deferred tax assets and
liabilities.
In computing taxable income, property and casualty insurers are required to discount their unpaid loss reserves. TCJA
changes the prescribed interest rates to rates based on corporate bond yield curves, requires the use of IRS-prescribed claims
payment patterns and extends the applicable time periods for the claims payment patterns. These changes are effective for tax
years beginning after 2017 and are subject to a transition rule that spreads the additional tax payment from the amount determined
by applying these changes over the subsequent eight years beginning in 2018. The pre-tax provisional change in discounted loss
reserves attributable to the TCJA changes to loss reserve discounting is determined to be $50.9 million. As a result of changes to
the IRS Code, deferred tax assets were increased by that amount, with an offsetting deferred tax liability. The deferred tax liability
will be amortized over a period of eight years beginning in 2018. This item is a taxable temporary difference and has no direct
impact on total tax expense for 2017 and future years. The provisional amount will be adjusted once the IRS publishes the official
discount factors that should be used.
Income taxes for the year ended December 31, 2016 reflect the impact of a correction of prior period deferred tax expense
related to expired stock options. As a result of the correction, deferred federal income tax expense (“other, net” above) and additional
paid-in-capital were reduced by $1.6 million, respectively.
The following table sets forth the tax effects of temporary differences that give rise to significant portions of deferred tax
assets and deferred tax liabilities at December 31, 2017 and 2016:
($ 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
Losses and loss expenses payable discounting (transition rule)
Total deferred tax liabilities
Net deferred federal income taxes
2017
2016
$
$
25.5
22.0
13.6
2.1
9.2
34.3
3.7
2.5
112.9
24.7
20.3
10.7
55.7
57.2
$
$
42.6
19.7
26.1
5.8
16.6
58.9
3.3
7.0
180.0
45.4
32.5
—
77.9
102.1
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,
109
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
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.
At December 31, 2017, the tax benefit of the net operating loss (“NOL”) carryforward was $34.3 million. The NOL
carryforwards do not begin to expire until 2030 and will not fully expire until 2036.
At December 31, 2017, the Company carried no balance for uncertain tax positions. The Company had no accrual for the
payment of interest and penalties at December 31, 2017 or 2016.
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 2014. The Company has no current U.S. federal or state and local income tax
examinations on-going at this time.
10. 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, 2017 and 2016:
Pension
Postretirement
2017
2016
2017
2016
($ 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
$
$
284.5
5.6
11.1
17.0
(14.0)
304.2
$
$
281.3
6.1
11.6
4.5
(19.0)
284.5
$
$
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
$
$
$
$
235.7
9.8
33.5
(14.0)
265.0
(7.0)
(46.2) $
287.9
$
$
No assets are expected to be returned during the fiscal year ending December 31, 2018.
110
$
204.4
34.5
15.8
(19.0)
235.7
(6.8)
(55.6) $
267.5
$
18.8
—
0.7
0.6
(1.8)
18.3
$
$
— $
—
—
—
— $
—
(18.3) $
20.3
—
0.8
(0.9)
(1.4)
18.8
—
—
—
—
—
—
(18.8)
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, 2017 and 2016:
($ millions)
Prior service benefit
Net actuarial loss
Total
2017
2016
$
$
(48.6) $
111.6
63.0
$
(54.1)
118.5
64.4
The following table sets forth the Company’s share of amortization expected to be recognized for the year ending
December 31, 2018:
($ millions)
Prior service benefit
Net actuarial loss
Total
2018
(5.5)
8.4
2.9
$
$
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, 2017, 2016 and 2015:
($ millions)
Components of net periodic cost:
Service cost
Interest cost
Expected return on plan assets
Amortization of:
Prior service benefit
Net actuarial loss
Net periodic cost (benefit)
2017
Pension
2016
2015
2017
Postretirement
2016
2015
$
$
5.7
11.4
(16.7)
—
7.8
8.2
$
$
6.2
11.9
(15.1)
—
9.2
12.2
$
$
7.9
11.3
(13.8)
—
10.9
16.3
$
$
— $
0.8
—
(5.5)
0.2
(4.5) $
— $
0.9
—
(5.5)
0.2
(4.4) $
—
1.1
—
(5.4)
0.6
(3.7)
The following table sets forth the Company’s share of the benefit payments, which reflect expected future service, expected
to be paid:
($ millions)
2018
2019
2020
2021
2022
2023-2027
$
Pension
11.2
11.5
12.0
12.5
12.9
76.2
Postretirement
1.5
$
1.5
1.4
1.4
1.3
5.9
The postretirement plan’s gross benefit payments for 2017 were $1.8 million, including the prescription drug benefits. The
postretirement plan’s subsidy related to Medicare Prescription Drug Improvement and Modernization Act of 2003 was $0.2 million
for 2017 and estimates future annual subsidies to be approximately $0.1 million.
111
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, 2017 and 2016:
Benefit obligations weighted-average assumptions:
Discount rate
Rates of increase in compensation levels
Pension
Postretirement
2017
2016
2017
2016
3.50%
3.25
4.00%
3.50
3.50%
—
4.00%
—
The following table sets forth the weighted average assumptions used to determine the benefit plans’ net periodic cost for
the years ended December 31, 2017, 2016 and 2015:
Weighted-average assumptions:
Discount rate
Expected long-term rate of return on assets
Rates of increase in compensation levels
2017
Pension
2016
2015
2017
Postretirement
2016
2015
4.00% 4.20%
7.00
3.50
7.00
3.50
3.85%
7.00
3.50
4.00%
—
—
4.20%
—
—
3.85%
—
—
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, 2017, 2016
and 2015:
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
2017
Postretirement
2016
2015
6.00%
3.80%
2075
6.50%
3.90%
2075
6.50%
3.80%
2076
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, 2017:
($ millions)
Postretirement
Increase
(Decrease)
One percentage point change:
Effect on total service and interest cost
Effect on accumulated postretirement benefit obligation
$
$
0.1
1.7
(0.1)
(1.5)
112
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
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.
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%)
52.0%
24.2
10.3
9.4
4.1
100.0%
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 maturity
holdings. 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.
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, 2017 and 2016.
Included in the pension plan’s available-for-sale securities 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 $26.6 million and
$20.0 million at December 31, 2017 and 2016, respectively, which was determined using the funds’ net asset value. In accordance
with Accounting Standard Codification 820-10, since these investments are measured at fair value using the net asset value per
share practical expedient these have not been classified in the table below.
At December 31, 2016, the Company held an international fund (classified as available-for-sale) that was managed by third
party investment managers. During the fourth quarter of 2017, the Company redeemed its investment in the fund. At December
31, 2016, the fund had a fair value of $11.3 million.
113
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The following tables set forth the Company’s share of pension plan’s available-for-sale securities within the fair value
hierarchy at December 31, 2017 and 2016:
($ millions)
December 31, 2017
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
Mutual and exchange traded funds
Total equity securities
Total pension plan investments
($ millions)
December 31, 2016
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
Short-term fixed maturities
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
$
70.1
60.7
— $
—
$
70.1
60.7
4.4
135.2
71.6
25.1
96.7
231.9
$
—
—
71.6
25.1
96.7
96.7
$
4.4
135.2
—
—
—
135.2
$
—
—
—
—
—
—
—
—
Quoted prices
in active
markets for
identical
assets
(Level 1)
Significant
other
observable
inputs
(Level 2)
Significant
unobservable
inputs
(Level 3)
Total
$
60.4
48.0
— $
—
$
60.4
48.0
4.6
113.0
59.6
26.3
85.9
2.0
200.9
—
—
59.6
26.3
85.9
$
$
— $
$
85.9
4.6
113.0
—
—
—
2.0
115.0
$
$
—
—
—
—
—
—
—
—
—
$
$
$
$
$
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 2018 is approximately $10.0 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
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 $6.4 million, $6.3 million and $5.1 million for 2017, 2016 and 2015, respectively.
114
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
11. Other Comprehensive Income and Accumulated Other Comprehensive Income
The following tables set forth the changes in the Company’s accumulated other comprehensive income component (AOCI),
net of tax, for the years ended December 31, 2017, 2016 and 2015:
($ millions)
Beginning balance at January 1, 2017
Other comprehensive income before reclassifications
Amounts reclassified from AOCI (a)
Net current period other comprehensive income
Ending balance at December 31, 2017
Beginning balance at January 1, 2016
Other comprehensive income before reclassifications
Amounts reclassified from AOCI (a)
Net current period other comprehensive income
Ending balance at December 31, 2016
Beginning balance at January 1, 2015
Other comprehensive income before reclassifications
Amounts reclassified from AOCI (a)
Net current period other comprehensive income
Ending balance at December 31, 2015
(a) See separate table below for details about these reclassifications
Unrealized Gains
and Losses on
Available-for-Sale
Securities
Benefit Plan
Items
Total
$
$
$
$
$
$
62.8
45.5
(42.3)
3.2
66.0
68.5
18.0
(23.7)
(5.7)
62.8
110.0
(25.4)
(16.1)
(41.5)
68.5
$
$
$
$
$
$
(30.3) $
(1.0)
2.0
1.0
(29.3) $
(30.9) $
(3.0)
3.6
0.6
(30.3) $
(38.3) $
5.3
2.1
7.4
(30.9) $
32.5
44.5
(40.3)
4.2
36.7
37.6
15.0
(20.1)
(5.1)
32.5
71.7
(20.1)
(14.0)
(34.1)
37.6
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, 2017, 2016 and 2015:
($ millions)
Details about Accumulated Other
Comprehensive Income Components
December 31
2016
2017
2015
Affected line item in the Condensed
Consolidated Statements of Income
Unrealized gains on available for sale
securities
Amortization of benefit plan items:
Negative prior service costs
Net loss
Total reclassifications for the period
$ 65.1
65.1
(22.8)
42.3
$ 36.5
36.5
(12.8)
23.7
5.5
(8.0)
(2.5)
0.5
(2.0)
$ 40.3
5.5
(9.4)
(3.9)
0.3
(3.6)
$ 20.1
$ 24.7 Realized gain on sale of securities
24.7 Total before tax
(8.6) Tax expense
16.1 Net of tax
(a)
(a)
5.4
(11.5)
(6.1) Total before tax
4.0 Tax benefit
(2.1) Net of tax
$ 14.0
(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).
115
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
12. 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 $85.8 million is available for payment to State Auto
Financial from its insurance subsidiaries in 2016 without prior approval. State Auto Financial received dividends from its insurance
subsidiaries in the amount of $15.0 million, $10.0 million and $15.0 million in 2017, 2016 and 2015, respectively.
The Company’s insurance subsidiaries are subject to risk-based capital (“RBC”) requirements that have been adopted by
individual states. These requirements subject insurers having statutory capital less than that required by the RBC calculation to
varying degrees of regulatory action, depending on the level of capital inadequacy. The RBC formulas specify various weighting
factors to be applied to financial balances or various levels of activity based on the perceived degree of risk. Regulatory compliance
is determined by a ratio of total adjusted capital to authorized control level RBC. Generally no remedial action is required by an
insurance company if its adjusted statutory surplus exceeds 200% of the authorized level RBC. As of December 31, 2017, each
of the Company’s insurance subsidiaries maintained adjusted statutory surplus in excess of 400% of the authorized control level
RBC.
The following tables set forth reconciliations of statutory capital and surplus and net income, as determined using SAP, to
the amounts included in the accompanying consolidated financial statements:
($ 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
$
2017
2016
$
858.4
(89.8)
768.6
117.8
22.3
(61.2)
19.6
13.8
880.9
$
844.4
(84.9)
759.5
129.8
22.7
(49.1)
13.5
14.9
891.3
($ millions)
Statutory net income of insurance subsidiaries
Net loss 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 (loss) income per accompanying consolidated financial statements
$
13. Preferred Stock
Year ended December 31
2016
2015
2017
$
42.8
(13.1)
29.7
(12.0)
4.3
(34.6)
—
1.9
(10.7) $
22.7
(3.0)
19.7
0.7
4.4
(5.4)
—
1.6
21.0
$
$
65.4
(4.1)
61.3
2.5
4.2
(12.2)
(0.1)
(4.5)
51.2
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,
116
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
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.
117
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
14. Share-Based Compensation
The Company maintains share-based compensation plans for key employees and outside, or non-employee, directors.
Effective May 4, 2017, the share-based compensation plan for key employees is the State Auto Financial Corporation 2017 Long-
Term Incentive Plan (the “2017 LTIP”). The 2017 LTIP replaced the State Auto Financial Corporation 2009 Equity Compensation
Plan (the “2009 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
performance stock awards, performance unit awards, restricted stock, and other stock based awards 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 Company has reserved 2.4 million common shares under the 2017 LTIP. As of December 31, 2017, a total of 2.2 million
common shares are available for issuance under the 2017 LTIP. The 2017 LTIP provides that (i) the maximum value of performance
stock awards or performance unit awards settled in cash that may be granted in any calendar year is equal to the excess of the
number of awards multiplied by the fair market value of the company’s common shares on the applicable payment or settlement
date of the award multiplied by 5.0 and (ii) the maximum number of common shares subject to awards of performance stock and
performance units that may be granted in any calendar year to any one individual is 250,000 shares. The 2017 LTIP automatically
terminates on May 4, 2027.
Restricted Stock and Performance Unit Awards
Service-based restricted stock awards granted to employees are 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.
Awards with both service and performance conditions granted to employees are subject to (i) the Restriction Period, and (ii)
the achievement of predetermined performance goals within specified time periods. All performance-based awards include a
specified number of units that will vest. The number of performance based awards that are ultimately earned for each grant is
dependent upon meeting specified target and performance goals that range from 0% to 500% of the target number of performance
units awarded based on the extent to which the Company achieves the performance goals for the performance measures as set
forth in a performance matrix established by the Compensation Committee.
Generally, service-based and performance-based equity awards are expensed pro-rata over their respective vesting periods
based on the market value of the awards at the time of grant. Performance-based equity awards that contain variable vesting criteria
are expensed based on management’s expectation of the percentage of the award that will ultimately be earned. These estimates
can change periodically throughout the measurement period.
The following table set forth the Company’s total activity and related information for employee restricted stock and
performance unit award activity for the years ended December 31, 2017, 2016 and 2015:
2017
2016
2015
Weighted
Average
Grant
Date Fair
Value
22.04
27.20
21.39
25.68
25.65
Shares
107,297
177,846
(26,271)
(39,425)
219,447
$
$
Weighted
Average
Grant
Date Fair
Value
22.19
21.55
21.93
21.91
22.04
Shares
111,084
45,252
(33,414)
(15,625)
107,297
$
$
Weighted
Average
Grant
Date Fair
Value
19.06
22.83
16.88
21.92
22.19
Shares
76,472
74,020
(35,859)
(3,549)
111,084
$
$
Outstanding, beginning of year
Granted
Vested
Forfeited
Outstanding, end of year
As of December 31, 2017, there was $2.3 million of total unrecognized compensation cost related to restricted stock and
performance unit awards. The remaining cost is expected to be recognized over a period of 2.25 years.
118
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
Stock Options
In accordance with the terms of the 2009 Equity Plan, stock options were 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.
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.
The following tables present the weighted-average assumptions used in the option pricing model for options granted to
employees during 2016 and 2015. 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, 2016 and 2015:
Fair value per share
Expected dividend yield
Risk free interest rate
Expected volatility factor
Expected life in years
(1) No stock options granted during 2017
2017
N/A(1)
N/A(1)
N/A(1)
N/A(1)
N/A(1)
$
2016
2015
$
6.75
1.87%
1.30%
36.27%
5.3
7.69
1.75%
1.60%
36.61%
6.0
The following table sets forth the Company’s stock option activity and related information for the years ended December 31,
2017, 2016 and 2015:
(millions, except per share amounts)
2017
2016
2015
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
2.5
—
(0.4)
(0.4)
1.7
$
$
20.63
—
19.38
28.96
19.22
3.1
0.2
(0.4)
(0.4)
2.5
$
$
21.45
21.55
17.18
30.70
20.63
3.4
0.3
(0.3)
(0.3)
3.1
$
$
21.37
22.86
16.54
25.63
21.45
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, 2017, 2016 and 2015, the total intrinsic value of stock options exercised was $3.5 million, $3.0 million
and $2.6 million, respectively. The tax benefit for tax deductions from share-based awards totaled $1.4 million and $0.3 million
for the years ended December 31, 2016 and 2015, respectively. In addition, income taxes for the year ended December 31, 2016
reflected the impact of a $1.6 million correction of prior period deferred tax expense related to expired stock options. See Note 9
for additional information.
119
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, 2017:
(Options in millions)
Options Outstanding
Options Exercisable
Range of Exercise Prices:
$10.01 – $20.00
$20.01 – $30.00
Weighted-
Average
Remaining
Contractual Life
Weighted-
Average
Exercise
Price
Number
Number
Weighted-
Average
Exercise
Price
1.0
0.7
1.7
3.6
4.7
4.0
$
$
16.53
23.07
19.22
1.0
0.6
1.6
$
$
16.53
23.33
18.98
Aggregate intrinsic value for total options outstanding at December 31, 2017 was $16.1 million. Aggregate intrinsic value
for total options exercisable at December 31, 2017 was $17.1 million.
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 3.7 million common shares under this plan. As of December 31, 2017, a total of 3.5
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
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 cash or common share 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 10,000 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, 2026. The Company
accounts for the RSU Plan as a liability plan. There were 26,323 RSUs, 22,832 RSUs, and 26,184 RSUs granted in 2017, 2016
and 2015, respectively.
During 2017 and 2016, common shares valued at approximately $106,581 and $753,000, respectively, were distributed by
the Company under the RSU Plan.
Share-based compensation expense recognized during 2017, 2016 and 2015 was $4.2 million, $3.7 million and $4.5 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, 2017, there was $2.7 million
of total unrecognized compensation cost related to compensation arrangements granted under the plans. The remaining cost is
expected to be recognized over a period of 2.25 years.
120
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
15. Net (Loss) Earnings Per Common Share
The following table sets forth the compilation of basic and diluted net (loss) earnings per common share for the years ended
December 31, 2017, 2016 and 2015:
(millions, except per share amounts)
Numerator:
Net (loss) earnings for basic net earnings per common share
Adjusted net (loss) earnings for dilutive net (loss) earnings per
common share
Denominator:
Weighted average shares for basic net (loss) earnings per common share
Effect of dilutive share-based awards
Adjusted weighted average shares for diluted net (loss) earnings per
common share
Basic net (loss) earnings per common share
Diluted net (loss) earnings per common share
2017
2016
2015
$
$
$
$
(10.7) $
(10.7) $
42.1
—
42.1
(0.25) $
(0.25) $
21.0
21.0
41.6
0.4
42.0
0.50
0.50
$
$
$
$
51.2
51.2
41.1
0.5
41.6
1.25
1.23
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, 2017, 2016 and 2015:
(millions)
Total number of antidilutive options and awards
2017
2016
2015
0.5
1.2
1.5
16. Reportable Segments
The Company has four reportable segments: personal insurance, commercial 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 primarily provides personal automobile and homeowners to the personal insurance market.
The commercial insurance segment primarily provides commercial automobile, commercial multi-peril, fire & allied, general
liability, workers’ compensation insurance covering small-to-medium sized commercial exposures in the commercial insurance
market. In addition, the commercial insurance segment provides farm & ranch insurance. 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 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 investment operations segment, managed by Stateco, provides investment services and is evaluated based on investment
returns of assets. Asset information by segment is not reported for the insurance segments because the Company does not produce
such information internally.
121
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
The Company’s reportable insurance segments, and the products within each, are as follows:
• Personal Insurance Segment- personal auto, homeowners, farm & ranch and other personal
• Commercial Insurance Segment - commercial auto, small commercial package, middle market commercial,
workers’ compensation and other commercial
• Specialty Insurance Segment - E&S property, E&S casualty and programs
After a review of strategic alternatives for our excess and surplus lines business in the specialty insurance segment, during
the second half of 2017 management made the decision to begin exiting the excess and surplus lines business either through a
series of renewal right transactions or by placing lines of business into run-off since this business is not core to the Company’s
ongoing business strategy. The impact of this decision, along with the 2016 decision to exit programs business, on future results
will result in the elimination of the specialty insurance segment and its related underwriting results from the State Auto Group.
122
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, 2017, 2016 and 2015:
$
$
$
($ millions)
Revenues from external sources:
Insurance segments
Personal insurance
Commercial 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 taxes:
Insurance segments:
Personal insurance SAP underwriting (loss) gain
Commercial 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
$
$
2017
2016
2015
$
580.3
455.7
239.1
1,275.1
78.8
65.1
143.9
1,419.0
2.3
1,421.3
6.0
1,427.3
$
578.5
472.6
240.8
1,291.9
74.7
36.5
111.2
1,403.1
2.3
1,405.4
5.8
1,411.2
591.3
476.5
202.7
1,270.5
71.7
24.7
96.4
1,366.9
1.7
1,368.6
5.6
1,374.2
(6.0)
1,421.3
$
(5.8)
1,405.4
$
(5.6)
1,368.6
(23.3) $
(10.6)
(57.0)
(90.9)
(10.3) $
(31.6)
(42.7)
(84.6)
78.8
65.1
143.9
0.6
(10.2)
(5.9)
(4.1)
(20.2) $
33.4
$
74.7
36.5
111.2
0.4
2.0
(5.5)
(4.3)
(7.8) $
$
19.2
27.5
(46.7)
(5.9)
(25.1)
71.7
24.7
96.4
(0.1)
4.2
(5.4)
(2.7)
(3.9)
67.3
The following table sets forth financial information regarding the Company’s reportable segments at December 31, 2017
and 2016:
($ millions)
Segment assets:
Investment operations segment
Total segment assets
Reconciling items:
Corporate assets
Total consolidated assets
2017
2016
$
$
2,781.2
2,781.2
233.1
3,014.3
$
$
2,663.7
2,663.7
295.7
2,959.4
123
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.
17. Quarterly Financial Data (unaudited)
The following tables set forth quarterly financial data for 2017 and 2016:
($ millions, except per share amounts)
Total revenues
(Loss) income before federal income taxes
Net (loss) income
(Loss) earnings per common share:
Basic
Diluted
Total revenues
Income (loss) before federal income taxes
Net income (loss)
Earnings (loss) per common share:
Basic
Diluted
$
$
$
$
$
$
March 31
$
344.3
(5.2)
(4.1)
(0.10) $
(0.10) $
2017
For three months ended
June 30
September 30
358.4
$
(11.2)
(9.5)
December 31
362.9
$
37.9
(5.8)
355.7
11.9
8.7
0.21
0.21
$
$
(0.23) $
(0.23) $
(0.14)
(0.14)
2016
For three months ended
March 31
June 30
September 30
352.8
$
7.4
10.1
$
December 31
364.9
33.1
32.5
348.5
(25.1)
(24.6)
(0.59) $
(0.59) $
0.24
0.24
$
$
0.78
0.77
339.2
3.8
3.0
0.07
0.07
$
$
$
124
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Companies)
18. 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 Company is involved in 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 results of
operations or have a material adverse effect on its consolidated financial position or cash flows.
125
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,
2017, 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 report 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.
126
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 2018 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 February 28, 2018, the members of our Audit Committee were Eileen A. Mallesch, Robert E. Baker, Kym
M. Hubbard, David R. Meuse and Setareh Pouraghabagher. Ms. Mallesch is Chairperson of our Audit Committee. Our Board of
Directors has determined that Ms. Mallesch and Ms. Pouraghabagher are both 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 “Ownership of Equity Securities of the Company—Section 16(a) Beneficial Ownership Reporting
Compliance” in the 2018 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 and Board of Directors—Nomination of Directors” in the 2018 Proxy Statement.
There has been no material change to the nomination procedures previously disclosed in the proxy statement for our 2018 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 2018 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 “Corporate Governance and Board of
Directors—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
Matters—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 Matters—Compensation Committee Report of the Fiscal Year
Ended December 31, 2017” 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 “Ownership of Equity Securities of the Company” in the 2018 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 and Burn Rate” in the 2018 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 2018 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 and Board of Directors—Directors—Director Independence” in the 2018 Proxy Statement, which
is incorporated herein by reference.
127
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 “Audit Committee Matters—Independent Registered Public Accounting Firm’s Audit and Other Services Fees” in our
2018 Proxy Statement, which information is incorporated herein by reference.
128
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, 2017 and 2016
Consolidated Statements of Income for each of the three years in the period ended December 31, 2017
Consolidated Statements of Comprehensive Income for each of the three years in the period ended December 31, 2017
Consolidated Statements of Stockholders’ Equity for each of the three years in the period ended December 31, 2017
Consolidated Statements of Cash Flows for each of the three years in the period ended December 31, 2017
Notes to Consolidated Financial Statements
(a)(2) LISTING OF FINANCIAL STATEMENT SCHEDULES
The following financial statement schedules of the Company for the years 2017, 2016 and 2015 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
Form 10-Q Quarterly Report for the period ended
September 30, 2010 (see Exhibit 3.05 therein)
129
Exhibit
No.
3.06
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
Description of Exhibit
Second Amendment
to State Auto Financial
Corporation’s Amended and Restated Code of
Regulations
2000 Directors Stock Option Plan of State Auto
Financial Corporation
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 10-Q Quarterly Report for the period ended
June 30, 2016 (see Exhibit 3.01 therein)
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
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 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 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)
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 10.19 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)
130
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-K Annual Report for the year ended
December 31, 2007 (see Exhibit 10.22 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 the year ended
December 31, 2005 (see Exhibit 10.45 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2015 (see Exhibit10.01 therein)
Exhibit
No.
10.16
10.17
10.18
10.19
10.20
10.21
10.22
10.23
10.24
10.25
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
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
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
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)
Management and Operations Agreement, Amended
and Restated as of January 1, 2015 by and among State
Automobile Mutual Insurance Company, State Auto
Financial Corporation, State Auto Property and
Casualty Insurance Company, State Auto Insurance
Company of Ohio, Milbank Insurance Company,
Meridian Security Insurance Company, Patrons
Mutual Insurance Company, Stateco Financial
Services, Inc., 518 Property Management and
Leasing, LLC, State Auto Holdings, Inc., Facilitators,
Inc., CDC Holding, Inc., Partners General Insurance
Agency, LLC, and Network E&S Brokers, LLC
131
Exhibit
No.
10.26
10.27
10.28
10.29
10.30
Description of Exhibit
If incorporated by reference document with which Exhibit was
previously filed with SEC
Included herein.
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)
First Amendment, effective as of September 5 , 2017,
to the Management and Operations Agreement,
Amended and Restated as of January 1, 2015 by and
among State Automobile Mutual
Insurance
Company, State Auto Financial Corporation, State
Auto Property and Casualty Insurance Company,
State Auto Insurance Company of Ohio, Milbank
Insurance Company, Meridian Security Insurance
Company, Patrons Mutual Insurance Company,
Stateco Financial Services, Inc., 518 Property
Management and Leasing, LLC, State Auto Holdings,
Inc., Facilitators, Inc., Partners General Insurance
Agency, LLC, Network E&S Brokers, LLC, and State
Auto Labs Corp.
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
the Consulting Service
January 1, 2013,
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.
132
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 10.39 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)
Exhibit
No.
10.31
10.32
10.33
10.34
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
Insurance
Company, American Compensation
Company and Bloomington Compensation Insurance
Company
133
Exhibit
No.
10.35
10.36
10.37
10.38
10.39
10.40
10.41
10.42*
10.43*
10.44*
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
Insurance
between State Automobile Mutual
Company (on behalf of
insurance
itself and
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)
Form 8-K Current Report filed on May 13, 2009 (see
Exhibit 10.1 therein)
Form 8-K Current Report filed on September 30,
2011 (see Exhibit 10.1 therein)
Included herein
Included herein
Included herein
Credit Agreement dated as of May 8, 2009, between
State Automobile Mutual Insurance Company, as
borrower, and State Auto Property & Casualty, as
lender
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.
Employment Agreement, dated as of November 28,
2017, commencing as of January 1, 2018, among
State Auto Financial Corporation, State Auto
Property & Casualty Insurance Company, State
Automobile Mutual Insurance Company and Michael
E. LaRocco
Executive Change of Control Agreement dated as of
October 26, 2017, 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 26, 2017, among State Auto Financial
Corporation, State Auto Property & Casualty
Insurance Company, State Automobile Mutual
Insurance Company and Gregory A. Tacchetti
134
Exhibit
No.
10.45*
10.46*
10.47*
10.48*
10.49*
10.50*
10.51*
10.52*
10.53*
10.54*
10.55*
10.56*
Description of Exhibit
If incorporated by reference document with which Exhibit was
previously filed with SEC
Executive Change of Control Agreement dated as of
November 28, 2017 among State Auto Financial
Corporation, State Auto Property & Casualty
Insurance Company, State Automobile Mutual
Insurance Company and Michael E. LaRocco
Executive Change of Control Agreement dated as of
October 26, 2017 among State Auto Financial
Corporation, State Auto Property & Casualty
Insurance Company, State Automobile Mutual
Insurance Company and Kim B. Garland
Executive Change of Control Agreement dated as of
October 26, 2017 among State Auto Financial
Corporation, State Auto Property & Casualty
Insurance Company, State Automobile Mutual
Insurance Company and Paul M. Stachura
Included herein
Included herein
Included herein
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)
Officer Indemnification Agreement dated as of May
8, 2009, between State Auto Financial Corporation
and Steven E. English
Form of PAU Award Agreement under the State Auto
Financial Corporation 2017 Long-Term Incentive
Plan (incorporated by reference to Exhibit 10.01 to
the registrant’s Form 10-Q for the quarterly period
ended June 30, 2017.)
Form of Performance Unit Award Agreement under
the State Auto Financial Corporation 2017 Long-
Term Incentive Plan (incorporated by reference to
Exhibit 10.01 to the registrant’s Form 10-Q for the
quarterly period ended June 30, 2017.)
Form of Time Based Restricted Stock Award
the State Auto Financial
Agreement under
Corporation 2017 Long-Term
Incentive Plan
(incorporated by reference to Exhibit 10.01 to the
registrant’s Form 10-Q for the quarterly period ended
June 30, 2017.)
Form of Time Based Deferred Stock Unit Award
the State Auto Financial
Agreement under
Incentive Plan
Corporation 2017 Long-Term
(incorporated by reference to Exhibit 10.01 to the
registrant’s Form 10-Q for the quarterly period ended
June 30, 2017.)
Form of Performance Based Deferred Stock Award
the State Auto Financial
Agreement under
Corporation 2017 Long-Term
Incentive Plan
(incorporated by reference to Exhibit 10.01 to the
registrant’s Form 10-Q for the quarterly period ended
June 30, 2017.)
Form of Performance Based Restricted Stock Award
the State Auto Financial
Agreement under
Corporation 2017 Long-Term
Incentive Plan
(incorporated by reference to Exhibit 10.01 to the
registrant’s Form 10-Q for the quarterly period ended
June 30, 2017.)
Amended
Incentive
and Restated Equity
Compensation Plan of State Auto Financial
Corporation
135
Form 8-K Current Report filed on May 13, 2009 (see
Exhibit 10.3 therein)
Included herein.
Included herein.
Included herein.
Included herein.
Included herein
Included herein.
Form 10-Q Quarterly Report for the period ended
June 30, 2005 (see Exhibit 10.60 therein)
Exhibit
No.
10.57*
10.58*
10.59*
10.60*
10.61*
10.62*
10.63*
10.64*
10.65*
10.66*
10.67*
10.68*
10.69*
10.70*
10.71*
Description of Exhibit
Amendment Number 1 to the Amended and Restated
Equity Incentive Compensation Plan of State Auto
Financial Corporation (amendment effective August
15, 2008)
Form of Non-Qualified Stock Option Agreement
under the Amended and Restated Equity Incentive
Compensation Plan of State Auto Financial
Corporation
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, 2008 (see Exhibit 10.63 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2005 (see Exhibit 10.62 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
Amendment No. 3 to the 2009 Equity Incentive
Compensation Plan of State Auto Financial
Corporation
Amendment No. 4 to the 2009 Equity Incentive
Compensation Plan of State Auto Financial
Corporation
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 5,
2015 between State Auto Financial Corporation and
Steven E. English
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of May 7,
2015 between State Auto Financial Corporation and
Michael E. LaRocco
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of March 3,
2016 between State Auto Financial Corporation and
Michael E. LaRocco
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of March 3,
2016 between State Auto Financial Corporation and
Steven E. English
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of March 3,
2016 between State Auto Financial Corporation and
Jessica E. Clark
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of August 24,
2015 between State Auto Financial Corporation and
Kim B. Garland
136
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)
Form 10-K Annual Report for the year ended
December 31, 2014 (see Exhibit 10.69 therein)
Form 10-Q Quarterly Report for the period ended
June 30, 2016 (see Exhibit 10.01 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2014 (see Exhibit 10.02 therein)
Form 8-K Current Report filed on May 13, 2015 (see
Exhibit 10.02 therein)
Form 8-K Current Report filed on May 13, 2015 (see
Exhibit 10.06 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2016 (see Exhibit 10.01 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2016 (see Exhibit 10.02 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2016 (see Exhibit 10.03 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2016 (see Exhibit 10.04 therein)
Exhibit
No.
10.72*
10.73*
10.74*
10.75*
10.76*
10.77*
10.78*
10.79*
10.80*
10.81*
10.82*
10.83*
10.84*
10.85*
10.86*
10.87*
10.88*
Description of Exhibit
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of August 24,
2015 between State Auto Financial Corporation and
Kim B. Garland
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of March 3,
2016 between State Auto Financial Corporation and
Kim B. Garland
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of September
9, 2015 between State Auto Financial Corporation
and Paul M. Stachura
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of September
9, 2015 between State Auto Financial Corporation
and Paul M. Stachura
Restricted Stock Agreement under the 2009 Equity
Incentive Compensation Plan dated as of March 3,
2016 between State Auto Financial Corporation and
Paul M. Stachura
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 10-Q Quarterly Report for the period ended
March 31, 2016 (see Exhibit 10.05 therein)
Form 10-Q Quarterly Report for the period ended
March 31, 2016 (see Exhibit 10.06 therein)
Form 10-K Annual Report for the year ended
December 31, 2016 (see Exhibit 10.74 therein)
Form 10-K Annual Report for the year ended
December 31, 2016 (see Exhibit 10.75 therein)
Form 10-K Annual Report for the year ended
December 31, 2016 (see Exhibit 10.76 therein)
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)
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)
Fourth Amendment
the Outside Directors
Restricted Share Unit Plan of State Auto Financial
Corporation effective November 1, 2010
to
Form 10-K Annual Report
December 31, 2010 (see Exhibit 10.89 therein)
for year ended
Outside Directors Restricted Share Unit Plan of State
Auto Financial Corporation
Form 10-Q Quarterly Report for the period ended
June 30, 2016 (see Exhibit 10.02 therein)
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-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
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)
137
Exhibit
No.
10.89*
10.90*
10.91*
10.92*
10.93*
10.94*
10.95*
10.96*
10.97*
10.98*
10.99*
10.100*
10.101*
10.102*
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 10.58 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)
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
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)
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)
Form 10-Q Quarterly Report for the period ended
September 30, 2008 (see Exhibit 10.04 therein)
138
Exhibit
No.
10.103*
10.104*
10.105*
10.106*
10.107*
10.108*
10.109*
10.110*
10.111*
10.112*
10.113*
10.114*
Description of Exhibit
Second Amendment to the State Auto Financial
Corporation Leadership Bonus Plan (amendment
effective as of January 1, 2012)
Third Amendment to the State Auto Financial
Corporation Leadership Bonus Plan (amendment
effective as of January 1, 2015)
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 8-K Current Report filed on May 10, 2012 (see
Exhibit 10.2 therein)
Form 10-Q Quarterly Report for the period ended
September 30, 2015 (see Exhibit 10.02 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)
Fourth Amendment to the State Auto Financial
Corporation Long-Term Incentive Plan (amendment
effective as of August 8, 2014)
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)
Form 10-Q Quarterly Report for the period ended
September 30, 2015 (see Exhibit 10.01 therein)
State Auto Financial Corporation 2017 Long-Term
Incentive Plan
Form 10-Q Quarterly Report for the period ended
June 30, 2017 (see Exhibit 10.01 therein)
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
Application for Callable Advance signed September
2, 2016 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
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)
Form 10-Q Quarterly Report for the period ended
September 30, 2016 (see Exhibit 10.01 therein)
10.115*
State Auto Financial Corporation One Team Incentive
Plan
Form 10-Q Quarterly Report for the period ended
June 30, 2016 (see Exhibit 10.03 therein)
21.01
23.01
List of Subsidiaries of State Auto Financial
Corporation
Included herein
Consent
Accounting Firm
of
Independent Registered Public
Included herein
139
Exhibit
No.
24.01
24.02
31.01
31.02
32.01
32.02
Description of Exhibit
Powers of Attorney - Robert E. Baker, Michael J.
Fiorile, Kym M. Hubbard, Eileen A. Mallesch,
Thomas E. Markert, David R. Meuse and S. Elaine
Roberts
If incorporated by reference document with which Exhibit was
previously filed with SEC
Form 10-K Annual Report
December 31, 2016 (see Exhibit 24.01 therein)
for year ended
Power of Attorney- Setareh Pouraghabagher
Included herein
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
The instance document does not appear in the
interactive data file because its XBRL tags are
embedded within
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
101.PRE
XBRL Taxonomy Extension Label Linkbase
Document
Included herein
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.
140
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: February 28, 2018
STATE AUTO FINANCIAL CORPORATION
/s/ Michael E. LaRocco
Michael E. LaRocco
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/ Michael E. LaRocco
Michael E. LaRocco
Chairman, President and Chief Executive Officer
(principal executive officer)
Date
February 28, 2018
February 28, 2018
/s/ Steven E. English
Steven E. English
/s/ Matthew R. Pollak
Matthew R. Pollak
Robert E. Baker*
Robert E. Baker
Michael J. Fiorile*
Michael J. Fiorile
Kym M. Hubbard*
Kym M. Hubbard
Eileen A. Mallesch*
Eileen A. Mallesch
Thomas E. Markert*
Thomas E. Markert
David R. Meuse*
David R. Meuse
Setareh Pouraghabagher*
Setareh Pouraghabagher
S. Elaine Roberts*
S. Elaine Roberts
Senior Vice President and Chief Financial Officer
(principal financial officer)
Vice President, Treasurer and Chief Accounting Officer
(principal accounting officer)
February 28, 2018
Director
Director
Director
Director
Director
Director
Director
Director
February 28, 2018
February 28, 2018
February 28, 2018
February 28, 2018
February 28, 2018
February 28, 2018
February 28, 2018
February 28, 2018
*
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
February 28, 2018
141
EXHIBIT 21.01
List of Subsidiaries of
State Auto Financial Corporation
State Auto Property and Casualty Insurance Company, an Iowa corporation
Stateco Financial Services, Inc., an Ohio corporation
Milbank Insurance Company, an Iowa corporation
State Auto Insurance Company of Ohio, an Ohio corporation
518 Property Management and Leasing, LLC, an Ohio limited liability company
EXHIBIT 23.01
Consent of Independent Registered Public Accounting Firm
We consent to the incorporation by reference in the following Registration Statements:
(1) Registration Statement (Form S-8, No. 33-44667 and 33-89400) pertaining to the 1991 Stock Option Plan
(2) Registration Statement(Form S-8, No. 33-44666) pertaining to the1991 Directors’ Stock Option Plan
(3) Registration Statement (Form S-8, No. 33-41423, 333-05755, 333-147333, and 333-206148) pertaining to the 1991
Employee Stock Purchase and Dividend Reinvestment Plan
(4) Registration Statement (Form S-8, No. 333-56336) pertaining to the State Auto Insurance Companies Retirement Savings
Plan
(5) Registration Statement (Form S-8, No. 333-43882) pertaining to the 2000 Directors’ Stock Option Plan
(6) Registration Statement (Form S-8, No. 333-43880) pertaining to the 2000 Stock Option Plan
(7) Registration Statement (Form S-3, No. 333-41849 and 333-209878) pertaining to the Monthly Stock Purchase Plan for
Independent Agents
(8) Registration Statement (Form S-3, No. 333-90529) pertaining to the 1998 State Auto Agents’ Stock Option Plan
(9) Registration Statement (Form S-8, No. 333-127172) pertaining to the 2005 Outside Directors Restricted Share Unit Plan
(10) Registration Statement (Form S-8, No. 333-165364, 333-192158, and 333-214472) pertaining to the State Auto Financial
Corporation 2009 Equity Incentive Compensation Plan
(11) Registration Statement (Form S-8, No. 333-165366 and 333-170568) pertaining to the State Auto Property & Casualty
Insurance Company Amended and Restated Incentive Deferred Compensation Plan
(12) Registration Statement (Form S-8, No. 333-170564) pertaining to the State Auto Property & Casualty Insurance Company
Amended and Restated Directors Deferred Compensation Plan, and
(13) Registration Statement (Form S-8, No. 333-214471) pertaining to the Outside Directors Restricted Share Unit Plan of
State Auto Financial Corporation;
of our reports dated February 28, 2018, 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 included in this Annual Report (Form 10-K) of State Auto Financial Corporation for the year ended December 31,
2017.
/s/ Ernst & Young LLP
Grandview Heights, Ohio
February 28, 2018
I, Michael E. LaRocco, 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: February 28, 2018
/s/ Michael E. LaRocco
Michael E. LaRocco, Chief Executive Officer
Chief Executive Officer
(Principal Executive Officer)
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: February 28, 2018
/s/ Steven E. English
Steven E. English,
Chief Financial Officer
(Principal Financial Officer)
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, 2017, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Michael E.
LaRocco, 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/ Michael E. LaRocco
Michael E. LaRocco
Chief Executive Officer
February 28, 2018
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.
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, 2017, 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
February 28, 2018
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.
corporate information
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:
2017
Fourth Quarter
Third Quarter
Second Quarter
First Quarter
Dividend
$0.10
0.10
0.10
0.10
Low
$24.84
22.11
23.89
23.60
High
$30.85
27.00
27.62
27.97
2016
Fourth Quarter
Third Quarter
Second Quarter
First Quarter
High
$27.42
24.35
22.22
22.83
Low
$19.54
20.76
18.69
17.84
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, 2017,
which is included with this Annual Report.
ANNUAL MEETING
11 a.m. ET Friday, May 11, 2018,
at Corporate Headquarters
SHAREHOLDER INQUIRIES
Tara Shull
VP Financial
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
800 Yard St., Ste. 200
Grandview Heights, Ohio 43212
LEGAL COUNSEL
Baker & Hostetler LLP
200 Civic Center Dr., Ste. 1200
Columbus, Ohio 43215
SEC FILINGS
This report and other filings 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. 23, 2018, there
were 1,112 shareholders of the Company’s
common shares.
State Auto Financial
State Auto Financial
Corporation Annual Report
Corporation Annual Report
State Auto financial Corporation
State Auto financial Corporation
State Auto Property & Casualty Insurance Company
State Auto Property & Casualty Insurance Company
Milbank Insurance Company
Milbank Insurance Company
State Auto Insurance Company of Ohio
State Auto Insurance Company of Ohio
Stateco Financial Services Inc.
Stateco Financial Services Inc.
518 Property Management & Leasing LLC
518 Property Management & Leasing LLC
State Automobile Mutual Insurance Company
State Automobile Mutual Insurance Company
State Auto Insurance Company of Wisconsin
State Auto Insurance Company of Wisconsin
Meridian Security Insurance Company
Meridian Security Insurance Company
Patrons Mutual Insurance Company of Connecticut
Patrons Mutual Insurance Company of Connecticut
Rockhill Insurance Company
Rockhill Insurance Company
Plaza Insurance Company
Plaza Insurance Company
American Compensation Insurance Company
American Compensation Insurance Company
Bloomington Compensation Insurance Company
Bloomington Compensation Insurance Company
2017 annual report
2017 annual report
State auto
State auto
financial corporation
financial corporation
State auto financial corporation
State auto financial corporation
518 e. broad st.
518 e. broad st.
columbus, ohio 43215
columbus, ohio 43215
stateauto.com
stateauto.com
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