Mercury Insurance 2009 Annual Report Download - page 62

Management’s recoverability assessment of its deferred tax assets which are ordinary in character takes into
consideration the Company’s strong history of generating ordinary taxable income and a reasonable expectation
that it will continue to generate ordinary taxable income in the future. Further, the Company has the capacity to
recoup its ordinary deferred tax assets. Finally, the Company has various deferred tax liabilities which represent
sources of future ordinary taxable income.
Management’s recoverability assessment with regards to its capital deferred tax assets is based on estimates
of anticipated capital gains and tax-planning strategies available to generate future taxable capital gains, both of
which would contribute to the realization of deferred tax benefits. The Company expects to hold certain
quantities of debt securities, which are currently in loss positions, to recovery or maturity. Management believes
unrealized losses related to these debt securities, which represent a significant portion of the unrealized loss
positions at year-end, are not subject to default risk. Thus, the principal amounts are believed to be fully
realizable at maturity. The Company has a long-term horizon for holding these securities, which management
believes will allow avoidance of forced sales prior to maturity. The Company also has unrealized gains in its
investment portfolio which could be realized through asset dispositions, at management’s discretion. Further, the
Company has the capability to generate additional realized capital gains by entering into a sale-leaseback
transaction using one or more properties of its appreciated real estate holdings. Finally, the Company has an
established history of generating capital gain premiums earned through its common stock call option program.
Based on the continued existence of the options market, the substantial amount of capital committed to
supporting the call option program, and the Company’s favorable track record in generating net capital gains
from this program in both upward and downward markets, management believes it will be able to generate
sufficient amounts of capital gains from this program, if necessary, to recover recorded capital deferred tax
assets.
The Company has the capability to implement tax planning strategies as it has a steady history of generating
positive cash flow from operations, as well as the reasonable expectation that its cash flow needs can be met in
future periods without the forced sale of its investments. This capability will enable management to use its
discretion in controlling the timing and amount of realized losses it generates during future periods. By prudent
utilization of some or all of these actions, management believes that it has the ability and intent to generate
capital gains, and minimize tax losses, in a manner sufficient to avoid losing the benefits of its deferred tax
assets. Management will continue to assess the need for a valuation allowance on a quarterly basis. Although
realization is not assured, management believes it is more likely than not that the Company’s deferred tax assets
will be realized.
Goodwill and Other Intangible Assets
Goodwill and other intangible assets arise primarily as a result of business acquisitions and consist of the
excess of the cost of the acquisitions over the tangible and intangible assets acquired and liabilities assumed and
identifiable intangible assets acquired. The Company annually evaluates goodwill for impairment using widely
accepted valuation techniques to estimate the fair value of its reporting units. The Company also reviews its
goodwill for impairment whenever events or changes in circumstances indicate that it is more likely than not that
the carrying amount of goodwill may exceed its implied fair value. As of December 31, 2009, the fair value of
the Company’s reporting units substantially exceeds their carrying value.
Contingent Liabilities
The Company has known, and may have unknown, potential liabilities which include claims, assessments,
or lawsuits relating to the Company’s business. The Company continually evaluates these potential liabilities and
accrues for them or discloses them in the notes to the consolidated financial statements where required. While it
is not possible to know with certainty the ultimate outcome of contingent liabilities, an unfavorable result may
have a material impact on the Company’s quarterly results of operations; however, it is not expected to be
material to the Company’s financial position. See also “Regulatory and Legal Matters” and Note 17 of Notes to
Consolidated Financial Statements.
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