Mercury Insurance 2008 Annual Report Download - page 49

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The income tax benefit of $208.7 million in 2008, compared to a tax expense of $77.2 million in 2007, resulted primarily
from realized losses in the investment portfolio.
Operating income for 2008 was $115.7 million, down 48% from the prior year largely due to a decrease in premiums
earned reflecting the continuing soft market conditions, higher losses as a result of inflation and higher other operating
expenses. In addition, a decrease in net investment income resulting from lower investment yields and lower invested assets
contributed to the decrease in operating income. Partially offsetting this was a $17.5 million net tax benefit realized from the tax
case victory over the California FTB.
Operating income is a non-GAAP measure which represents net income excluding realized investment gains and losses,
net of tax, and adjustments for other significant non-recurring, infrequent or unusual items. Net income is the GAAP measure that
is most directly comparable to operating income. Operating income is meant as supplemental information and is not intended to
replace net income. It should be read in conjunction with the GAAP financial results. The following is a reconciliation of
operating income to the most directly comparable GAAP measure:
2008 2007
Operating income, net of tax 115,719$ 224,307$
Net realized investment (losses) gains, net of tax (357,838) 13,525
Net (loss) income (242,119)$ 237,832$
(Amounts in thousands)
Year Ended December 31, 2007 Compared to Year Ended December 31, 2006
Net premiums earned and net premiums written in 2007 decreased approximately 0.1% and 2.1%, respectively, from
2006. The premium decreases were principally attributable to a decrease in the number of policies written by the Company’s non-
California operations, mostly in New Jersey and Florida, which were experiencing significant competition. The decrease was
partially offset by a slight increase in the average premium collected per policy. During 2007, the Company implemented no rate
changes in California. In states outside of California, the Company implemented automobile rate increases in two states,
automobile rate decreases in four states, and homeowners rate decreases in one state.
Net premiums written is a non-GAAP financial measure which represents the premiums charged on policies issued
during a fiscal period less any effects of reinsurance. Net premiums written is a statutory measure used to determine production
levels. Net premiums earned, the most directly comparable GAAP measure, represents the portion of premiums written that are
recognized as income in the financial statements for the period presented and earned on a pro-rata basis over the term of the
policies. The following is a reconciliation of total Company net premiums written to net premiums earned:
2007 2006
Net premiums written 2,982,024$ 3,044,774$
Decrease (increase) in unearned premiu
m
11,853 (47,751)
Net premiums earned 2,993,877$ 2,997,023$
(Amounts in thousands)
The loss ratio (GAAP basis) (loss and loss adjustment expenses related to premiums earned) was 68.0% and 67.5% in
2007 and 2006, respectively. There was negative development of approximately $20 million on prior accident years’ loss reserves
in both 2007 and 2006. Excluding the effect of prior accident years’ loss development, the loss ratio was 67.4% and 66.8% in
2007 and 2006, respectively. The Southern California fire storms negatively impacted the loss ratio by approximately 0.8% in
2007.
The expense ratio (GAAP basis) (policy acquisition costs and other operating expenses related to premiums earned) was
27.4% and 27.5% in 2007 and 2006, respectively. The majority of expenses vary directly with premiums.
The combined ratio of losses and expenses (GAAP basis) is the key measure of underwriting performance traditionally
used in the property and casualty insurance industry. A combined ratio under 100% generally reflects profitable underwriting
results; a combined ratio over 100% generally reflects unprofitable underwriting results. The combined ratio of losses and
expenses (GAAP basis) was 95.4% and 95.0% in 2007 and 2006, respectively.
The after-tax yield on average investments (fixed maturities, equities and short-term investments valued at cost) was
4.0% on average invested assets of $3.5 billion and 3.8% on average invested assets of $3.3 billion in 2007 and 2006,
respectively.