10-Q 1 ufcs-2013930x10q.htm 10-Q UFCS-2013.9.30-10Q
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_______________________
FORM 10-Q
_______________________

 
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

for the quarterly period ended September 30, 2013

Commission File Number 001-34257
____________________________

 
UNITED FIRE GROUP, INC.
(Exact name of registrant as specified in its charter)
____________________________
 
 
 
Iowa
 
45-2302834
 
 
 
 
(State of Incorporation)
 
(IRS Employer Identification No.)
 
 

118 Second Avenue, S.E., Cedar Rapids, Iowa 52407
(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code: (319) 399-5700

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 R NO o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
YES R NO o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o 
 
Accelerated filer R 
 
Non-accelerated filer o 
 
Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). YES o NO R

As of November 1, 2013, 25,403,989 shares of common stock were outstanding.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 



United Fire Group, Inc.
Index to Quarterly Report on Form 10-Q
September 30, 2013
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 4. Mine Safety Disclosures
 
 
 
 
 
 



FORWARD-LOOKING INFORMATION
This report may contain forward-looking statements about our operations, anticipated performance and other similar matters. The Private Securities Litigation Reform Act of 1995 provides a safe harbor under the Securities Act of 1933 and the Securities Exchange Act of 1934 for forward-looking statements. The forward-looking statements are not historical facts and involve risks and uncertainties that could cause actual results to differ from those expected and/or projected. Such forward-looking statements are based on current expectations, estimates, forecasts and projections about the Company, the industry in which we operate, and beliefs and assumptions made by management. Words such as “expect(s),” “anticipate(s),” “intend(s),” “plan(s),” “believe(s),” “continue(s),” “seek(s),” “estimate(s),” “goal(s),” “target(s),” “forecast(s),” “project(s),” “predict(s),” “should,” “could,” “may,” “will continue,” “might,” “hope,” “can” and other words and terms of similar meaning or expression in connection with a discussion of future operations, financial performance or financial condition, are intended to identify forward-looking statements. See Part I, Item 1A "Risk Factors" in our 2012 Annual Report on Form 10-K and Part II, Item 1A "Risk Factors" of this document for more information concerning factors that could cause actual results to differ materially from those in the forward-looking statements.
Risks and uncertainties that may affect the actual financial condition and results of the Company include but are not limited to the following:

The frequency and severity of claims, including those related to catastrophe losses and the impact those claims have on our loss reserve adequacy;
Occurrence of catastrophic events, occurrence of significant severe weather conditions, climate change, acts of terrorism, acts of war and pandemics;
Developments in the domestic and global financial markets and "other-than-temporary" impairment losses that could affect our investment portfolio;
The calculation and recovery of deferred policy acquisition costs (“DAC”);
The valuation of pension and other postretirement benefit obligations;
Our relationship with our agencies and agents;
Our relationship with our reinsurers;
The financial strength of our reinsurers;
Our exposure to international catastrophes through our assumed reinsurance program;
Lowering of one or more of the financial strength ratings of our operating subsidiaries or our issuer credit ratings and the adverse impact such action may have on our premium writings, policy retention, profitability and liquidity;
Changes in general economic conditions, interest rates, industry trends, increase in competition and significant industry developments;
Competitive, legal, regulatory or tax changes that affect the distribution cost or demand for our products;
Litigation or regulatory actions that could require us to pay significant damages or change the way we do business;
Governmental actions, policies and regulations, including, but not limited to, domestic health care reform, financial services regulatory reform, corporate governance, new laws or regulations or court decisions interpreting existing laws and regulations or policy provisions; and
NASDAQ policies or regulations relating to corporate governance and the cost to comply.

These are representative of the risks, uncertainties, and assumptions that could cause actual outcomes and results to differ materially from what is expressed in forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this report or as of the date they are made. Except as required under the federal securities laws and the rules and regulations of the Securities and Exchange Commission ("SEC"), we do not have any intention or obligation to update publicly any forward-looking statements, whether as a result of new information, future events, or otherwise.



1


PART I — FINANCIAL INFORMATION
 
ITEM 1. FINANCIAL STATEMENTS
 
United Fire Group, Inc.
Consolidated Balance Sheets
(In Thousands, Except Share Data)
September 30,
2013
 
December 31,
2012
 
(unaudited)
 
 
ASSETS
 
 
 
Investments
 
 
 
Fixed maturities
 
 
 
Held-to-maturity, at amortized cost (fair value $1,120 in 2013 and $1,681 in 2012)
$
1,102

 
$
1,655

Available-for-sale, at fair value (amortized cost $2,724,100 in 2013 and $2,657,800 in 2012)
2,769,082

 
2,808,078

Trading securities, at fair value (amortized cost $8,480 in 2013 and $12,645 in 2012)
9,977

 
13,353

Equity securities
 
 
 
Available-for-sale, at fair value (cost $70,951 in 2013 and $66,892 in 2012)
208,538

 
177,127

Trading securities, at fair value (cost $2,335 in 2013 and $1,772 in 2012)
2,464

 
2,018

Mortgage loans
4,477

 
4,633

Policy loans
6,361

 
6,671

Other long-term investments
34,876

 
30,028

Short-term investments
800

 
800

 
3,037,677

 
3,044,363

Cash and cash equivalents
86,691

 
107,466

Accrued investment income
29,064

 
30,375

Premiums receivable (net of allowance for doubtful accounts of $910 in 2013 and $866 in 2012)
233,747

 
188,289

Deferred policy acquisition costs
144,038

 
105,300

Property and equipment (primarily land and buildings, at cost, less accumulated depreciation of $35,888 in 2013 and $34,093 in 2012)
44,579

 
43,090

Reinsurance receivables and recoverables
100,821

 
114,399

Prepaid reinsurance premiums
3,438

 
2,963

Income taxes receivable
2,924

 
16,536

Goodwill and intangible assets
27,239

 
28,259

Other assets
13,479

 
13,613

TOTAL ASSETS
$
3,723,697

 
$
3,694,653

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Liabilities
 
 
 
Future policy benefits and losses, claims and loss settlement expenses
 
 
 
Property and casualty insurance
$
978,174

 
$
971,911

Life insurance
1,472,209

 
1,498,176

Unearned premiums
354,136

 
311,650

Accrued expenses and other liabilities
168,738

 
164,111

Deferred income taxes
6,213

 
19,628

TOTAL LIABILITIES
$
2,979,470

 
$
2,965,476

Stockholders’ Equity
 
 
 
Common stock, $0.001 par value; authorized 75,000,000 shares; 25,401,314 and 25,227,463 shares issued and outstanding in 2013 and 2012, respectively
$
25

 
$
25

Additional paid-in capital
212,522

 
208,536

Retained earnings
462,132

 
425,428

Accumulated other comprehensive income, net of tax
69,548

 
95,188

TOTAL STOCKHOLDERS’ EQUITY
$
744,227

 
$
729,177

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY
$
3,723,697

 
$
3,694,653

The Notes to Unaudited Consolidated Financial Statements are an integral part of these statements.


2


United Fire Group, Inc.
Consolidated Statements of Income and Comprehensive Income (Unaudited)
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(In Thousands, Except Share Data)
2013
 
2012
 
2013
 
2012
 
 
 
 
 
 
 
 
Revenues
 
 
 
 
 
 
 
Net premiums earned
$
194,219

 
$
176,531

 
$
557,403

 
$
508,124

Investment income, net of investment expenses
27,278

 
28,665

 
82,761

 
86,560

Net realized investment gains (losses)
 
 
 
 
 
 
 
Other-than-temporary impairment charges
(139
)
 

 
(139
)
 
(4
)
All other net realized gains (includes reclassifications for net unrealized gains on available-for-sale securities of $617 and $6,270 in 2013; and $91 and $3,111 in 2012; previously included in accumulated other comprehensive income)
1,329

 
1,300

 
7,389

 
4,662

Total net realized investment gains
1,190

 
1,300

 
7,250

 
4,658

Other income
337

 
85

 
634

 
584

Total revenues
$
223,024

 
$
206,581

 
$
648,048

 
$
599,926

Benefits, Losses and Expenses
 
 
 
 
 
 
 
Losses and loss settlement expenses
$
131,168

 
$
119,756

 
$
349,073

 
$
318,006

Increase in liability for future policy benefits
8,415

 
9,815

 
26,520

 
28,309

Amortization of deferred policy acquisition costs
38,767

 
36,167

 
113,556

 
104,897

Other underwriting expenses (includes reclassifications for employee benefit costs of $1,915 and $4,400 in 2013; and $1,085 and $3,460 in 2012; previously included in accumulated other comprehensive income)
21,654

 
20,496

 
67,310

 
63,031

Interest on policyholders’ accounts
8,625

 
10,327

 
27,026

 
31,610

Total benefits, losses and expenses
$
208,629

 
$
196,561

 
$
583,485

 
$
545,853

Income before income taxes
$
14,395

 
$
10,020

 
$
64,563

 
$
54,073

Federal income tax expense (includes reclassifications of $455 and ($654) in 2013; and $348 and $124 in 2012; previously included in accumulated other comprehensive income)
2,670

 
1,290

 
14,949

 
11,443

Net income
$
11,725

 
$
8,730

 
$
49,614

 
$
42,630

Other comprehensive income (loss)
 
 
 
 
 
 
 
Change in net unrealized appreciation on investments
$
(282
)
 
$
19,404

 
$
(37,576
)
 
$
41,335

Change in liability for underfunded employee benefit plans

 

 

 

Other comprehensive income (loss), before tax and reclassification adjustments
$
(282
)
 
$
19,404

 
$
(37,576
)
 
$
41,335

Income tax effect
107

 
(6,616
)
 
13,152

 
(14,290
)
Other comprehensive income (loss), after tax, before reclassification adjustments
$
(175
)
 
$
12,788

 
$
(24,424
)
 
$
27,045

Reclassification adjustment for net realized gains included in income
$
(617
)
 
$
(91
)
 
$
(6,270
)
 
$
(3,111
)
Reclassification adjustment for employee benefit costs included in expense
1,915

 
1,085

 
4,400

 
3,460

Total reclassification adjustments, before tax
$
1,298

 
$
994

 
$
(1,870
)
 
$
349

Income tax effect
(455
)
 
(348
)
 
$
654

 
$
(124
)
Total reclassification adjustments, after tax
$
843

 
$
646

 
$
(1,216
)
 
$
225

Comprehensive income
$
12,393

 
$
22,164

 
$
23,974

 
$
69,900

 
 
 
 
 
 
 
 
Weighted average common shares outstanding
25,359,196

 
25,423,191

 
25,301,432

 
25,468,293

Basic earnings per common share
$
0.46

 
$
0.34

 
$
1.96

 
$
1.67

Diluted earnings per common share
0.45

 
0.34

 
1.94

 
1.67

Cash dividends declared per common share
0.18

 
0.15

 
0.51

 
0.45

The Notes to Unaudited Consolidated Financial Statements are an integral part of these statements.


3


United Fire Group, Inc.
Consolidated Statement of Stockholders’ Equity (Unaudited)

(In Thousands, Except Share Data)
Nine Months Ended September 30, 2013
 
 
Common stock
 
Balance, beginning of year
$
25

Shares repurchased (3,577 shares)

Shares issued for stock-based awards (177,428 shares)

Balance, end of period
$
25

 
 
Additional paid-in capital
 
Balance, beginning of year
$
208,536

Compensation expense and related tax benefit for stock-based award grants
1,010

Shares repurchased
(99
)
Shares issued for stock-based awards
3,075

Balance, end of period
$
212,522

 
 
Retained earnings
 
Balance, beginning of year
$
425,428

Net income
49,614

Dividends on common stock ($0.51 per share)
(12,910
)
Balance, end of period
$
462,132

 
 
Accumulated other comprehensive income, net of tax
 
Balance, beginning of year
$
95,188

Change in net unrealized investment appreciation (1)
(28,500
)
Change in liability for underfunded employee benefit plans(2)
2,860

Balance, end of period
$
69,548

 
 
Summary of changes
 
Balance, beginning of year
$
729,177

Net income
49,614

All other changes in stockholders’ equity accounts
(34,564
)
Balance, end of period
$
744,227

(1)
The change in net unrealized appreciation is net of reclassification adjustments and income taxes.
(2)
The change in liability for underfunded employee benefit plans is net of reclassification adjustments and income taxes.

The Notes to Unaudited Consolidated Financial Statements are an integral part of these statements.



4


United Fire Group, Inc.
Consolidated Statements of Cash Flows (Unaudited)

Nine Months Ended September 30,
(In Thousands)
2013
 
2012
Cash Flows From Operating Activities
 
 
 
Net income
$
49,614

 
$
42,630

Adjustments to reconcile net income to net cash provided by operating activities
 
 
 
Net accretion of bond premium
11,715

 
10,909

Depreciation and amortization
4,120

 
5,989

Stock-based compensation expense
1,436

 
1,318

Net realized investment gains
(7,250
)
 
(4,658
)
Net cash flows from trading investments
3,836

 
(337
)
Deferred income tax expense (benefit)
(4,352
)
 
7,143

Changes in:
 
 
 
Accrued investment income
1,311

 
990

Premiums receivable
(45,458
)
 
(31,244
)
Deferred policy acquisition costs
(4,640
)
 
(4,345
)
Reinsurance receivables
13,578

 
(19,051
)
Prepaid reinsurance premiums
(475
)
 
3,029

Income taxes receivable
13,612

 
10,959

Other assets
134

 
4,575

Future policy benefits and losses, claims and loss settlement expenses
28,404

 
50,429

Unearned premiums
42,486

 
35,347

Accrued expenses and other liabilities
9,027

 
17,856

Deferred income taxes
4,743

 
(2,820
)
Other, net
(3,814
)
 
(3,373
)
Total adjustments
$
68,413

 
$
82,716

Net cash provided by operating activities
$
118,027

 
$
125,346

Cash Flows From Investing Activities
 
 
 
Proceeds from sale of available-for-sale investments
$
23,007

 
$
12,003

Proceeds from call and maturity of held-to-maturity investments
557

 
2,316

Proceeds from call and maturity of available-for-sale investments
370,531

 
433,619

Proceeds from short-term and other investments
2,569

 
3,791

Purchase of available-for-sale investments
(468,934
)
 
(557,257
)
Purchase of short-term and other investments
(3,475
)
 
(9,000
)
Net purchases and sales of property and equipment
(4,589
)
 
(1,391
)
Net cash used in investing activities
$
(80,334
)
 
$
(115,919
)
Cash Flows From Financing Activities
 
 
 
Policyholders’ account balances
 
 
 
Deposits to investment and universal life contracts
$
97,893

 
$
109,900

Withdrawals from investment and universal life contracts
(146,001
)
 
(106,978
)
Repayment of short-term debt

 
(45,000
)
Repayment of trust preferred securities

 
(15,626
)
Payment of cash dividends
(12,910
)
 
(11,455
)
Repurchase of common stock
(99
)
 
(2,900
)
Issuance of common stock
3,075

 
760

Tax impact from issuance of common stock
(426
)
 
(89
)
Net cash used in financing activities
$
(58,468
)
 
$
(71,388
)
Net Change in Cash and Cash Equivalents
$
(20,775
)
 
$
(61,961
)
Cash and Cash Equivalents at Beginning of Period
107,466

 
144,527

Cash and Cash Equivalents at End of Period
$
86,691

 
$
82,566

The Notes to Unaudited Consolidated Financial Statements are an integral part of these statements.


5



UNITED FIRE GROUP, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise noted)

NOTE 1. NATURE OF OPERATIONS AND BASIS OF PRESENTATION
Nature of Business
United Fire Group, Inc. ("United Fire", the "Registrant", the "Company", "we", "us", or "our") and its consolidated subsidiaries and affiliates are engaged in the business of writing property and casualty insurance and life insurance and selling annuities through a network of independent agencies. We report our operations in two business segments: property and casualty insurance and life insurance. Our insurance company subsidiaries are licensed as a property and casualty insurer in 43 states and the District of Columbia, and as a life insurer in 37 states.
Basis of Presentation
The unaudited consolidated interim financial statements have been prepared in accordance with U.S. generally accepted accounting principles ("GAAP") for interim financial reporting and with the instructions to Form 10-Q and Regulation S-X promulgated by the SEC. Certain financial information that is included in our Annual Report on Form 10-K, including certain financial statement footnote disclosures, are not required by the rules and regulations of the SEC for interim financial reporting and have been condensed or omitted.
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The financial statement categories that are most dependent on management estimates and assumptions include: investments; deferred policy acquisition costs; reinsurance receivables and recoverables (for net realizable value); future policy benefits and losses, claims and loss settlement expenses; and pension and postretirement benefit obligations.
In the preparation of the accompanying unaudited Consolidated Financial Statements, we have evaluated all material subsequent events or transactions that occurred after the balance sheet date through the date on which the financial statements were issued for potential recognition or disclosure.
Certain prior year amounts have been reclassified to conform to the current year presentation.
Management of United Fire believes the accompanying unaudited Consolidated Financial Statements contain all adjustments (consisting of normal recurring adjustments) necessary to present fairly the financial position, results of operations and cash flows for the periods presented. All significant intercompany transactions have been eliminated in consolidation. The results reported for the interim periods are not necessarily indicative of the results of operations that may be expected for the year. The unaudited Consolidated Financial Statements should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2012. The review report of Ernst & Young LLP as of September 30, 2013 and for the three- and nine-month periods ended September 30, 2013 and 2012 accompanies the unaudited Consolidated Financial Statements included in Part I, Item 1 "Financial Statements."
Cash and Cash Equivalents
For purposes of reporting cash flows, cash and cash equivalents include cash, money market accounts, and non-negotiable certificates of deposit with original maturities of three months or less.
For the nine-month periods ended September 30, 2013 and 2012, we made payments for income taxes totaling $10,117 and $11,363, respectively. We received tax refunds of $8,744 and $15,508, respectively, during the nine-month periods ended September 30, 2013 and 2012.


6


For the nine-month period ended September 30, 2013, we made no interest payments. For the nine-month period ended September 30, 2012, we made interest payments totaling $960. These payments exclude interest credited to policyholders’ accounts.
Deferred Policy Acquisition Costs ("DAC")

Certain costs associated with underwriting new business (primarily commissions, premium taxes and variable underwriting and policy issue expenses associated with successful acquisition efforts) are deferred. The following table is a summary of the components of DAC, including the related amortization recognized for the nine-month period ended September 30, 2013.
 
 
 
 
 
Property & Casualty
 
Life Insurance
 
Total
Recorded asset at beginning of period
$
64,947

 
$
40,353

 
$
105,300

Underwriting costs deferred
113,812

 
4,384

 
118,196

Amortization of deferred policy acquisition costs
(108,591
)
 
(4,965
)
 
(113,556
)
Ending unamortized deferred policy acquisition costs
$
70,168

 
$
39,772

 
$
109,940

Change in "shadow" deferred policy acquisition costs

 
34,098

 
34,098

Recorded asset at end of period
$
70,168

 
$
73,870

 
$
144,038


Property and casualty policy acquisition costs are deferred and amortized as premium revenue is recognized. The accounting method we follow in computing DAC limits the amount of such deferred costs to their estimated realizable value. This takes into account the premium to be earned, losses and loss settlement expenses to be incurred and certain other costs expected to be incurred as the premium is earned.

For traditional life insurance policies, DAC is amortized to income over the premium-paying period in proportion to the ratio of the expected annual premium revenue to the expected total premium revenue. For non-traditional life policies, DAC is amortized over the anticipated terms in proportion to the ratio of the expected annual gross profits to the total expected gross profits. Expected premium revenue and gross profits are based on the same mortality and withdrawal assumptions used in determining future policy benefits. For non-traditional policies, changes in the amount or timing of expected gross profits result in adjustments to the cumulative amortization of these costs. The effect on amortization of DAC for revisions to estimated gross profits is reported in earnings in the period the estimated gross profits are revised.

The effect on DAC that results from the assumed realization of unrealized gains (losses) on investments allocated to non-traditional life insurance business is recognized with an offset, or "shadow" DAC, to net unrealized investment appreciation as of the balance sheet date. The "shadow" DAC adjustment decreased the DAC asset by $4,597 and $38,695 at September 30, 2013 and December 31, 2012, respectively.
Income Taxes
Deferred tax assets and liabilities are established based on differences between the financial statement bases of assets and liabilities and the tax bases of those same assets and liabilities, using the currently enacted statutory tax rates. Deferred income tax expense is measured by the year-to-year change in the net deferred tax asset or liability, except for certain changes in deferred tax amounts that affect stockholders’ equity and do not impact federal income tax expense.
We reported a federal income tax expense of $14,949 and $11,443 for the nine-month periods ended September 30, 2013 and 2012, respectively. Our effective tax rate is different than the federal statutory rate of 35.0% due principally to the effect of tax-exempt municipal bond interest income and non-taxable dividend income.


7


We did not recognize any liability for unrecognized tax benefits at September 30, 2013 or December 31, 2012. In addition, we have not accrued for interest and penalties related to unrecognized tax benefits. However, if interest and penalties would need to be accrued related to unrecognized tax benefits, such amounts would be recognized as a component of federal income tax expense.
We file a consolidated federal income tax return. We also file income tax returns in various state jurisdictions. We are no longer subject to federal or state income tax examination for years before 2009. The Internal Revenue Service is conducting a routine examination of our income tax return for the 2011 tax year.
Recently Issued Accounting Standards
Adopted Accounting Standards in 2013

Comprehensive Income
In February 2013, the Financial Accounting Standards Board ("FASB") issued guidance that requires significant items that are reclassified out of accumulated other comprehensive income ("AOCI") to net income in their entirety in the same reporting period, to be reported to show the effect of the reclassifications on the respective line items of the statement where net income is presented. These reclassifications can be presented either on the face of the statement where net income is presented or in the notes to the financial statements. For items that are not reclassified to net income in their entirety in the same reporting period a cross reference to other disclosures currently required under GAAP is required in the notes to the financial statements. The new guidance also requires companies to report changes in the accumulated balances of each component of AOCI. This new guidance was effective for annual and interim periods beginning after December 15, 2012. The Company adopted the new guidance effective January 1, 2013. The adoption of the new guidance affects presentation only and therefore had no impact on the Company's results of operations or financial position.
Pending Adoption of Accounting Standards
In July 2013, the FASB issued guidance on the financial statement presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. This new guidance is effective for annual and interim periods beginning after December 15, 2013. The Company currently does not have any liability for unrecognized tax benefits. Therefore, the adoption of the new guidance in not expected to have an impact on the Company's financial position or results of operations.
NOTE 2. SUMMARY OF INVESTMENTS
Fair Value of Investments
A reconciliation of the amortized cost (cost for equity securities) to fair value of investments in held-to-maturity and available-for-sale fixed maturity and equity securities as of September 30, 2013 and December 31, 2012, is as follows:


8


September 30, 2013
 
Type of Investment
Cost or Amortized Cost
 
Gross Unrealized Appreciation
 
Gross Unrealized Depreciation
 
Fair Value
HELD-TO-MATURITY
 
 
 
 
 
 
 
Fixed maturities
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
States, municipalities and political subdivisions
$
684

 
$
7

 
$

 
$
691

Corporate bonds - financial services
200

 

 

 
200

Mortgage-backed securities
218

 
11

 

 
229

Total Held-to-Maturity Fixed Maturities
$
1,102

 
$
18

 
$

 
$
1,120

AVAILABLE-FOR-SALE

 

 

 

Fixed maturities

 

 

 

Bonds

 

 

 

U.S. Treasury
$
35,882

 
$
551

 
$
86

 
$
36,347

U.S. government agency
224,953

 
449

 
11,844

 
213,558

States, municipalities and political subdivisions
699,796

 
36,302

 
9,138

 
726,960

Foreign bonds
174,839

 
6,333

 
324

 
180,848

Public utilities
224,874

 
8,620

 
947

 
232,547

Corporate bonds

 

 

 

Energy
154,915

 
4,802

 
858

 
158,859

Industrials
242,348

 
6,783

 
2,257

 
246,874

Consumer goods and services
176,217

 
4,544

 
1,099

 
179,662

Health care
95,424

 
3,576

 
1,074

 
97,926

Technology, media and telecommunications
130,972

 
2,968

 
3,203

 
130,737

Financial services
241,319

 
8,921

 
763

 
249,477

Mortgage-backed securities
23,641

 
308

 
269

 
23,680

Collateralized mortgage obligations
294,759

 
2,393

 
10,067

 
287,085

Asset-backed securities
3,827

 
358

 

 
4,185

Redeemable preferred stocks
334

 
3

 

 
337

Total Available-for-Sale Fixed Maturities
$
2,724,100

 
$
86,911

 
$
41,929

 
$
2,769,082

Equity securities

 

 

 

Common stocks

 

 

 

Public utilities
$
7,231

 
$
8,543

 
$
41

 
$
15,733

Energy
5,094

 
8,152

 

 
13,246

Industrials
13,308

 
27,741

 
59

 
40,990

Consumer goods and services
10,356

 
9,391

 
10

 
19,737

Health care
7,920

 
13,767

 

 
21,687

Technology, media and telecommunications
6,204

 
6,229

 
64

 
12,369

Financial services
15,854

 
64,267

 
90

 
80,031

Nonredeemable preferred stocks
4,984

 
5

 
244

 
4,745

Total Available-for-Sale Equity Securities
$
70,951

 
$
138,095

 
$
508

 
$
208,538

Total Available-for-Sale Securities
$
2,795,051

 
$
225,006

 
$
42,437

 
$
2,977,620



9


December 31, 2012
 
Type of Investment
Cost or Amortized Cost
 
Gross Unrealized Appreciation
 
Gross Unrealized Depreciation
 
Fair Value
HELD-TO-MATURITY
 
 
 
 
 
 
 
Fixed maturities
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
States, municipalities and political subdivisions
$
1,185

 
$
11

 
$

 
$
1,196

Corporate bonds - financial services
200

 

 

 
200

Mortgage-backed securities
256

 
15

 

 
271

Collateralized mortgage obligations
14

 

 

 
14

Total Held-to-Maturity Fixed Maturities
$
1,655

 
$
26

 
$

 
$
1,681

AVAILABLE-FOR-SALE

 

 

 

Fixed maturities

 

 

 

Bonds

 

 

 

U.S. Treasury
$
37,887

 
$
939

 
$
5

 
$
38,821

U.S. government agency
45,566

 
429

 
67

 
45,928

States, municipalities and political subdivisions
739,752

 
55,572

 
819

 
794,505

Foreign bonds
207,359

 
11,863

 
62

 
219,160

Public utilities
232,550

 
15,208

 
32

 
247,726

Corporate bonds

 


 

 

Energy
169,973

 
9,758

 

 
179,731

Industrials
280,185

 
13,690

 
212

 
293,663

Consumer goods and services
193,313

 
9,813

 
151

 
202,975

Health care
115,654

 
7,111

 
80

 
122,685

Technology, media and telecommunications
123,660

 
6,909

 
198

 
130,371

Financial services
271,061

 
13,858

 
1,059

 
283,860

Mortgage-backed securities
27,940

 
888

 
21

 
28,807

Collateralized mortgage obligations
208,042

 
7,702

 
1,160

 
214,584

Asset-backed securities
4,480

 
406

 

 
4,886

Redeemable preferred stocks
378

 

 
2

 
376

Total Available-for-Sale Fixed Maturities
$
2,657,800

 
$
154,146

 
$
3,868

 
$
2,808,078

Equity securities

 

 

 

Common stocks

 

 

 

Public utilities
$
7,231

 
$
7,268

 
$
83

 
$
14,416

Energy
5,094

 
6,903

 

 
11,997

Industrials
13,031

 
19,827

 
174

 
32,684

Consumer goods and services
10,394

 
8,535

 
50

 
18,879

Health care
7,920

 
10,286

 
125

 
18,081

Technology, media and telecommunications
5,367

 
5,155

 
95

 
10,427

Financial services
15,701

 
52,936

 
145

 
68,492

Nonredeemable preferred stocks
2,154

 
25

 
28

 
2,151

Total Available-for-Sale Equity Securities
$
66,892

 
$
110,935

 
$
700

 
$
177,127

Total Available-for-Sale Securities
$
2,724,692

 
$
265,081

 
$
4,568

 
$
2,985,205



10


Maturities
The amortized cost and fair value of held-to-maturity, available-for-sale and trading fixed maturity securities at September 30, 2013, by contractual maturity, are shown in the following table. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Asset-backed securities, mortgage-backed securities and collateralized mortgage obligations may be subject to prepayment risk and are therefore not categorized by contractual maturity.
 
Held-To-Maturity
 
Available-For-Sale
 
Trading
September 30, 2013
Amortized Cost
 
Fair Value
 
Amortized Cost
 
Fair Value
 
Amortized Cost
 
Fair Value
Due in one year or less
$
570

 
$
572

 
$
257,096

 
$
261,686

 
$
1,828

 
$
1,972

Due after one year through five years
314

 
319

 
989,457

 
1,039,814

 
3,965

 
4,918

Due after five years through 10 years

 

 
830,883

 
844,061

 

 

Due after 10 years

 

 
324,437

 
308,571

 
2,687

 
3,087

Asset-backed securities

 

 
3,827

 
4,185

 

 

Mortgage-backed securities
218

 
229

 
23,641

 
23,680

 

 

Collateralized mortgage obligations

 

 
294,759

 
287,085

 

 

 
$
1,102

 
$
1,120

 
$
2,724,100

 
$
2,769,082

 
$
8,480

 
$
9,977

Net Realized Investment Gains and Losses
Net realized gains (losses) on disposition of investments are computed using the specific identification method and are included in the computation of net income. A summary of the components of net realized investment gains (losses) is as follows:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Net realized investment gains (losses)
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
Held-to-maturity
$

 
$
11

 
$

 
$
11

Available-for-sale
626

 
91

 
2,531

 
2,414

Trading securities
 
 
 
 
 
 
 
Change in fair value
360

 
966

 
790

 
927

Sales
310

 
(64
)
 
608

 
313

Equity securities
 
 
 
 
 
 
 
Available-for-sale
(9
)
 

 
3,739

 
697

Trading securities
 
 
 
 
 
 
 
Change in fair value
(97
)
 
296

 
(116
)
 
296

Sales

 

 
38

 

Other long-term investments

 

 
(340
)
 

Total net realized investment gains
$
1,190

 
$
1,300

 
$
7,250

 
$
4,658

The proceeds and gross realized gains (losses) on the sale of available-for-sale securities are as follows:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2013
 
2012
 
2013
 
2012
Proceeds from sales
$
17,036

 
$

 
$
23,007

 
$
12,003

Gross realized gains
213

 

 
451

 
472

Gross realized losses
(139
)
 

 
(139
)
 
(25
)
There were no sales of held-to-maturity securities during the three- and nine-month periods ended September 30, 2013 and 2012.



11


Our investment portfolio includes trading securities with embedded derivatives. These securities, which are primarily convertible redeemable preferred debt securities, are recorded at fair value. Income or loss, including the change in the fair value of these trading securities, is recognized currently in earnings as a component of net realized investment gains and losses. Our portfolio of trading securities had a fair value of $12,441 and $15,371 at September 30, 2013 and December 31, 2012, respectively.
Off-Balance Sheet Arrangements
Pursuant to an agreement with one of our limited liability partnership investments, we are contractually committed through December 31, 2017 to make capital contributions upon request of the partnership. Our remaining potential contractual obligation was $1,950 at September 30, 2013.
Unrealized Appreciation
A summary of the changes in net unrealized investment appreciation during the reporting period is as follows:
 
Nine Months Ended September 30,
 
2013
 
2012
Change in net unrealized investment appreciation
 
 
 
Available-for-sale fixed maturities
$
(105,296
)
 
$
29,205

Equity securities
27,352

 
19,873

Deferred policy acquisition costs
34,098

 
(10,854
)
Income tax effect
15,346

 
(13,270
)
Total change in net unrealized investment appreciation, net of tax
$
(28,500
)
 
$
24,954

We continually monitor the difference between our cost basis and the estimated fair value of our investments. Our accounting policy for impairment recognition requires other-than-temporary impairment ("OTTI") charges to be recorded when we determine that it is more likely than not that we will be unable to collect all amounts due according to the contractual terms of the fixed maturity security or that the anticipated recovery in fair value of the equity security will not occur in a reasonable amount of time. Impairment charges on investments are recorded based on the fair value of the investments at the measurement date. Factors considered in evaluating whether a decline in value is other-than-temporary include: the length of time and the extent to which fair value has been less than cost; the financial condition and near-term prospects of the issuer; our intention to hold the investment; and the likelihood that we will be required to sell the investment.
The tables on the following pages summarize our fixed maturity and equity securities that were in an unrealized loss position at September 30, 2013 and December 31, 2012. The securities are presented by the length of time they have been continuously in an unrealized loss position. It is possible that we could recognize OTTI charges in future periods on securities held at September 30, 2013, if future events or information cause us to determine that a decline in fair value is other-than-temporary.
We have evaluated the near-term prospects of the issuers of our fixed maturity securities in relation to the severity and duration of the unrealized loss which resulted in the recognition of a $139 credit loss OTTI in our unaudited Consolidated Statements of Income and Comprehensive Income for the three- and nine-month periods ended September 30, 2013. We believe the unrealized depreciation in value of other securities in our fixed maturity portfolio is primarily attributable to changes in market interest rates and not the credit quality of the issuer. We have no intent to sell and it is more likely than not that we will not be required to sell these securities until the fair value recovers to at least equal our cost basis or the securities mature.
We have evaluated the near-term prospects of the issuers of our equity securities in relation to the severity and duration of the unrealized loss, and unless otherwise noted, these losses do not warrant the recognition of an OTTI charge at September 30, 2013. Our largest unrealized loss greater than 12 months on an individual equity security at September 30, 2013 was $42. We have no intention to sell any of these securities prior to a recovery in value, but will continue to monitor the fair value reported for these securities as part of our overall process to evaluate investments for OTTI recognition.


12


 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
September 30, 2013
Less than 12 months
 
12 months or longer
 
Total
Type of Investment
Number
of Issues
 
Fair
Value
 
Gross Unrealized
Depreciation
 
Number
of Issues
 
Fair
Value
 
Gross Unrealized Depreciation
 
Fair
Value
 
Gross Unrealized Depreciation
AVAILABLE-FOR-SALE
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fixed maturities
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
U.S. Treasury
8

 
$
7,493

 
$
86

 

 
$

 
$

 
$
7,493

 
$
86

U.S. government agency
61

 
170,795

 
11,844

 

 

 

 
170,795

 
11,844

States, municipalities and political subdivisions
156

 
119,047

 
8,255

 
2

 
5,867

 
883

 
124,914

 
9,138

Foreign bonds
9

 
23,867

 
324

 

 

 

 
23,867

 
324

Public utilities
27

 
52,241

 
947

 

 

 

 
52,241

 
947

Corporate bonds
 
 
 
 
 
 
 
 
 
 
 
 


 


Energy
10

 
25,104

 
858

 

 

 

 
25,104

 
858

Industrials
27

 
71,118

 
2,257

 

 

 

 
71,118

 
2,257

Consumer goods and services
19

 
38,968

 
983

 
6

 
3,256

 
116

 
42,224

 
1,099

Health care
9

 
25,008

 
963

 
1

 
1,181

 
111

 
26,189

 
1,074

Technology, media and telecommunications
16

 
55,331

 
3,203

 

 

 

 
55,331

 
3,203

Financial services
6

 
17,773

 
699

 
2

 
6,513

 
64

 
24,286

 
763

Mortgage-backed securities
37

 
10,620

 
250

 
5

 
333

 
19

 
10,953

 
269

Collateralized mortgage obligations
100

 
198,380

 
8,637

 
13

 
26,367

 
1,430

 
224,747

 
10,067

Total Available-for-Sale Fixed Maturities
485

 
$
815,745

 
$
39,306

 
29

 
$
43,517

 
$
2,623

 
$
859,262

 
$
41,929

Equity securities
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Common stocks
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Public utilities
3

 
$
267

 
$
41

 

 
$

 
$

 
$
267

 
$
41

Industrials

 

 

 
3

 
140

 
59

 
140

 
59

Consumer goods and services

 

 

 
2

 
66

 
10

 
66

 
10

Technology, media and telecommunications
4

 
245

 
2

 
6

 
227

 
62

 
472

 
64

Financial services
1

 
47

 
19

 
3

 
206

 
71

 
253

 
90

Nonredeemable preferred stocks
3

 
3,425

 
183

 
2

 
1,170

 
61

 
4,595

 
244

Total Available-for-Sale Equity Securities
11

 
$
3,984

 
$
245

 
16

 
$
1,809

 
$
263

 
$
5,793

 
$
508

Total Available-for-Sale Securities
496

 
$
819,729

 
$
39,551

 
45

 
$
45,326

 
$
2,886

 
$
865,055

 
$
42,437



13


 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2012
Less than 12 months
 
12 months or longer
 
Total
Type of Investment
Number
of Issues
 
Fair
Value
 
Gross Unrealized Depreciation
 
Number
of Issues
 
Fair
Value
 
Gross Unrealized Depreciation
 
Fair
Value
 
Gross Unrealized Depreciation
AVAILABLE-FOR-SALE
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fixed maturities
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
U.S. Treasury
2

 
$
1,724

 
$
5

 

 
$

 
$

 
$
1,724

 
$
5

U.S. government agency
5

 
17,654

 
67

 

 

 

 
17,654

 
67

States, municipalities and political subdivisions
31

 
41,775

 
819

 

 

 

 
41,775

 
819

Foreign bonds
1

 
3,323

 
48

 
1

 
558

 
14

 
3,881

 
62

Public utilities
2

 
3,155

 
32

 

 

 

 
3,155

 
32

Corporate bonds
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Industrials
4

 
12,194

 
109

 
1

 
2,897

 
103

 
15,091

 
212

Consumer goods and services

 

 

 
7

 
4,606

 
151

 
4,606

 
151

Health care
3

 
7,416

 
80

 

 

 

 
7,416

 
80

Technology, media and telecommunications
5

 
13,402

 
198

 

 

 

 
13,402

 
198

Financial services
2

 
1,005

 
1

 
24

 
24,693

 
1,058

 
25,698

 
1,059

Mortgage-backed securities
7

 
4,472

 
21

 

 

 

 
4,472

 
21

Collateralized mortgage obligations
27

 
74,702

 
1,004

 
1

 
29

 
156

 
74,731

 
1,160

Redeemable preferred stocks
2

 
376

 
2

 

 

 

 
376

 
2

Total Available-for-Sale Fixed Maturities
91

 
$
181,198

 
$
2,386

 
34

 
$
32,783

 
$
1,482

 
$
213,981

 
$
3,868

Equity securities
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Common stocks
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Public utilities
3

 
$
225

 
$
83

 

 
$

 
$

 
$
225

 
$
83

Industrials
4

 
482

 
52

 
9

 
621

 
122

 
1,103

 
174

Consumer goods and services
2

 
280

 
19

 
4

 
372

 
31

 
652

 
50

Health care
1

 
31

 
2

 
3

 
896

 
123

 
927

 
125

Technology, media and telecommunications
5

 
241

 
7

 
7

 
581

 
88

 
822

 
95

Financial services
1

 
47

 
19

 
7

 
1,109

 
126

 
1,156

 
145

Nonredeemable preferred stocks

 

 

 
2

 
1,203

 
28

 
1,203

 
28

Total Available-for-Sale Equity Securities
16

 
$
1,306

 
$
182

 
32

 
$
4,782

 
$
518

 
$
6,088

 
$
700

Total Available-for-Sale Securities
107

 
$
182,504

 
$
2,568

 
66

 
$
37,565

 
$
2,000

 
$
220,069

 
$
4,568



14


NOTE 3. FAIR VALUE OF FINANCIAL INSTRUMENTS
We estimate the fair value of our financial instruments based on relevant market information or by discounting estimated future cash flows at estimated current market discount rates appropriate to the specific asset or liability.
In most cases, we use quoted market prices to determine the fair value of fixed maturities, equity securities, trading securities and short-term investments. When quoted market prices do not exist, we base estimates of fair values on pricing or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement of the financial instrument. Such inputs may reflect management’s own assumptions about the assumptions a market participant would use in pricing the financial instrument.
The fair value of our mortgage loans is determined by modeling performed by us based on the stated principal and coupon payments provided for in the loan agreement. These cash flows are then discounted using an appropriate risk-adjusted discount rate to determine the security's fair value, which is a Level 3 fair value measurement.
The fair value of our policy loans is equivalent to carrying value, which is a reasonable estimate of fair value. We do not make policy loans for amounts in excess of the cash surrender value of the related policy. In all instances, the policy loans are fully collateralized by the related liability for future policy benefits for traditional insurance policies or by the policyholders’ account balance for non-traditional policies.
Our other long-term investments consist primarily of our interests in limited liability partnerships that are recorded on the equity method of accounting. The values of the partnerships are determined by the fund managers primarily based on the fair value of the underlying investments held. In management’s opinion, these values represent a reasonable estimate of fair value.
For cash and cash equivalents and accrued investment income, carrying value is a reasonable estimate of fair value due to the short-term nature of these financial instruments.

Policy reserves are developed and recorded for deferred annuities, which is an interest-sensitive product, and income annuities. The fair value of the reserve liability for these annuity products is based upon an estimate of the discounted pretax cash flows that are forecast for the underlying business, which is a Level 3 fair value measurement. We base the discount rate on the current U.S. Treasury spot yield curve, which is then risk-adjusted for nonperformance risk and, for interest-sensitive business, market risk factors. The risk-adjusted discount rate is developed using interest rates that are available in the market and representative of the risks applicable to the underlying business.





15


A summary of the carrying value and estimated fair value of our financial instruments at September 30, 2013 and December 31, 2012 is as follows:
 
September 30, 2013
 
December 31, 2012
 
Fair Value