Mercury Insurance 2010 Annual Report Download - page 53

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In December 2010, the Florida Senate issued a 47-page report entitled “Issues Relating to Sinkhole
Insurance.” The report states that the “Florida Insurance Commissioner has identified sinkhole claims as a major
cost driver and has expressed concern that such claims could threaten the solvency of domestic insurers and have
a destabilizing effect on an already fragile market.” While the Company, with approximately 8,000 homeowners
policies in-force in Florida, does not believe that the sinkhole issue creates solvency concerns, it does impair
profitability. The Company is in the process of withdrawing from the Florida homeowners market and expects to
complete the withdrawal in 2012.
In December 2010, the Insurance Services Office officially designated California winter storms occurring
between December 17, 2010 and December 22, 2010 as a catastrophe. These storms established precipitation
records across the state with some mountain areas receiving over 200 inches of snow and many lower elevation
locations receiving in excess of 15 inches of rain. The Company experienced a large increase in homeowners and
automobile claims as a result of these storms. The Company estimates that total losses from these storms are
approximately $25 million.
The Company evaluates its reserves quarterly. When management determines that the estimated ultimate
claim cost requires a decrease for previously reported accident years, favorable development occurs and a
reduction in losses and loss adjustment expenses is reported in the current period. If the estimated ultimate claim
cost requires an increase for previously reported accident years, unfavorable development occurs and an increase
in losses and loss adjustment expenses is reported in the current period. For 2010, the Company reported
favorable development of approximately $13 million on the 2009 and prior accident years’ losses and loss
adjustment expenses reserves which at December 31, 2009 totaled approximately $1.1 billion. The favorable
development in 2010 is largely the result of re-estimates of accident year 2009 California BI losses which have
experienced both lower average severities and fewer late reported claims (claim count development) than were
originally estimated at December 31, 2009. The Company also experienced favorable development on New
Jersey personal auto reserves, primarily resulting from more aggressive handling of litigated claims which
include a high percentage of favorable results in cases brought to trial. In addition, the Company experienced
unfavorable development of approximately $8 million on Florida reserves, which included approximately $3
million of unfavorable development on homeowners policies, primarily related to sinkhole claims.
Premiums
The Company’s insurance premiums are recognized as income ratably over the term of the policies, that is,
in proportion to the amount of insurance protection provided. Unearned premiums are carried as a liability on the
balance sheet and are computed on a monthly pro-rata basis. The Company evaluates its unearned premiums
periodically for premium deficiencies by comparing the sum of expected claim costs, unamortized acquisition
costs, and maintenance costs to related unearned premiums, net of investment income. To the extent that any of
the Company’s lines of business become substantially unprofitable, a premium deficiency reserve may be
required. The Company does not expect this to occur on any of its significant lines of business except Florida
homeowners. At December 31, 2010, the Company established a premium deficiency reserve for its Florida
homeowners operations of $6 million.
Investments
All of the Company’s fixed maturity and equity investments are classified as “trading” and carried at fair
value as required when applying the fair value option, with changes in fair value reflected in net realized
investment gains or losses in the consolidated statements of operations. The majority of equity holdings,
including non-sinking fund preferred stocks, are actively traded on national exchanges or trading markets, and
are valued at the last transaction price on the balance sheet date.
Fair Value of Financial Instruments
The financial instruments recorded in the consolidated balance sheets include investments, receivables,
interest rate swap agreements, accounts payable, equity contracts, and secured and unsecured notes payable. The
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