SAFETY INSURANCE GROUP INC - Quarter Report: 2014 March (Form 10-Q)

Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2014

o 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: 000-50070

SAFETY INSURANCE GROUP, INC.

(Exact name of registrant as specified in its charter)

Delaware		13-4181699
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

20 Custom House Street, Boston, Massachusetts 02110

(Address of principal executive offices including zip code)

(617) 951-0600

(Registrant’s telephone number, including area code)

Not Applicable

(Former name or former address, if changed since last report)

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 x 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 x No o

Indicate by check mark whether the registrant is large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions 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 x

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 Exchange Act).

Yes o No x

As of May 2, 2014, there were 15,467,324 shares of common stock with a par value of $0.01 per share outstanding.

Table of Contents

SAFETY INSURANCE GROUP, INC.

Table of Contents

		Page

PART I.	FINANCIAL INFORMATION

Item 1.	Financial Statements
	Consolidated Balance Sheets at March 31, 2014 (Unaudited) and December 31, 2013	3
	Consolidated Statements of Operations for the Three Months Ended March 31, 2014 and 2013 (Unaudited)	4
	Consolidated Statements of Comprehensive Income for the Three Months Ended March 31, 2014 and 2013 (Unaudited)	5
	Consolidated Statements of Changes in Shareholders’ Equity for the Three Months Ended March 31, 2014 and 2013 (Unaudited)	6
	Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2014 and 2013 (Unaudited)	7
	Notes to Unaudited Consolidated Financial Statements	8

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
	Executive Summary and Overview	19
	Results of Operations — Three Months Ended March 31, 2014 and 2013	21
	Liquidity and Capital Resources	25
	Critical Accounting Policies and Estimates	27
	Forward-Looking Statements	34

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	34

Item 4.	Controls and Procedures	35

PART II.	OTHER INFORMATION	35

Item 1.	Legal Proceedings	35

Item 1A.	Risk Factors	35

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	35

Item 3.	Defaults upon Senior Securities	36

Item 4.	Mine Safety Disclosures	36

Item 5.	Other Information	36

Item 6.	Exhibits	36

SIGNATURE		37

EXHIBIT INDEX		38

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Safety Insurance Group, Inc. and Subsidiaries

Consolidated Balance Sheets

(Dollars in thousands, except share data)

	March 31,			December 31,
	2014			2013
	(Unaudited)
Assets
Investments:
Securities available for sale:
Fixed maturities, at fair value (amortized cost: $1,097,908 and $1,087,232)	$	1,125,506		$	1,104,957
Equity securities, at fair value (cost: $83,884 and $83,134)	93,739			91,871
Other invested assets	6,471			5,748
Total investments	1,225,716			1,202,576
Cash and cash equivalents	15,670			55,877
Accounts receivable, net of allowance for doubtful accounts	175,120			169,304
Receivable for securities sold	1,423			1,320
Accrued investment income	10,275			10,329
Taxes recoverable	5,474			709
Receivable from reinsurers related to paid loss and loss adjustment expenses	5,782			4,588
Receivable from reinsurers related to unpaid loss and loss adjustment expenses	60,610			60,346
Ceded unearned premiums	18,675			17,900
Deferred policy acquisition costs	64,812			63,388
Deferred income taxes	70			3,984
Equity and deposits in pools	22,094			18,733
Other assets	16,104			16,403
Total assets	$	1,621,825		$	1,625,457

Liabilities
Loss and loss adjustment expense reserves	$	461,022		$	455,014
Unearned premium reserves	381,412			370,583
Accounts payable and accrued liabilities	47,053			66,508
Payable for securities purchased	4,365			13,327
Payable to reinsurers	7,441			7,094
Other liabilities	13,717			17,744
Total liabilities	915,010			930,270

Commitments and contingencies (Note 7)

Shareholders’ equity
Common stock: $0.01 par value; 30,000,000 shares authorized; 17,286,871 and 17,207,929 shares issued	173			172
Additional paid-in capital	171,989			170,391
Accumulated other comprehensive income, net of taxes	24,345			17,200
Retained earnings	570,676			567,792
Treasury stock, at cost: 1,819,547 shares	(60,368		)	(60,368		)
Total shareholders’ equity	706,815			695,187
Total liabilities and shareholders’ equity	$	1,621,825		$	1,625,457

The accompanying notes are an integral part of these financial statements.

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Safety Insurance Group, Inc. and Subsidiaries

Consolidated Statements of Operations

(Unaudited)

(Dollars in thousands, except per share data)

	Three Months Ended March 31,
	2014		2013

Net earned premiums	$	175,970	$	166,439
Net investment income	10,573		10,387
Net realized gains on investments	20		402
Finance and other service income	4,524		4,568
Total revenue	191,087		181,796

Losses and loss adjustment expenses	120,888		112,145
Underwriting, operating and related expenses	53,407		50,098
Interest expense	22		22
Total expenses	174,317		162,265

Income before income taxes	16,770		19,531
Income tax expense	4,645		5,547
Net income	$	12,125	$	13,984

Earnings per weighted average common share:
Basic	$	0.79	$	0.91
Diluted	$	0.79	$	0.91

Cash dividends paid per common share	$	0.60	$	0.60

Number of shares used in computing earnings per share:
Basic	15,359,989		15,339,690
Diluted	15,421,159		15,356,754

The accompanying notes are an integral part of these financial statements.

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Safety Insurance Group, Inc. and Subsidiaries

Consolidated Statements of Comprehensive Income

(Unaudited)

(Dollars in thousands)

	Three Months Ended March 31,
	2014			2013
Net income	$	12,125		$	13,984

Other comprehensive income, net of tax:
Unrealized holding gains (losses) during the period, net of tax expense (benefit) of $3,854 and ($2,388)	7,158			(4,435		)
Reclassification adjustment for gains included in net income, net of tax expense of ($7) and ($141)	(13		)	(261		)
Unrealized (losses) gains on securities available for sale	7,145			(4,696		)

Comprehensive income	$	19,270		$	9,288

The accompanying notes are an integral part of these financial statements.

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Safety Insurance Group, Inc. and Subsidiaries

Consolidated Statements of Changes in Shareholders’ Equity

(Unaudited)

(Dollars in thousands)

					Accumulated
					Other
			Additional		Comprehensive									Total
	Common		Paid-in		Income,			Retained			Treasury			Shareholders’
	Stock		Capital		Net of Taxes			Earnings			Stock			Equity
Balance at December 31, 2012	$	170	$	163,041	$	43,356		$	543,361		$	(55,569	)	$	694,359
Net income, January 1 to March 31, 2013								13,984						13,984
Other comprehensive income, net of deferred federal income taxes					(4,696		)							(4,696		)
Restricted share awards issued	1		187											188
Recognition of employee share-based compensation, net of deferred federal income taxes			1,310											1,310
Exercise of options, net of federal income taxes			536											536
Dividends paid								(9,200		)				(9,200		)
Balance at March 31, 2013	$	171	$	165,074	$	38,660		$	548,145		$	(55,569	)	$	696,481

Accumulated

Other

Additional

Comprehensive

Total

Common

Paid-in

Income,

Retained

Treasury

Shareholders’

Stock

Capital

Net of Taxes

Earnings

Stock

Equity

Balance at December 31, 2013

172

170,391

17,200

567,792

(60,368

)

695,187

Net income, January 1 to March 31, 2014

12,125

Other comprehensive loss, net of deferred federal income taxes

7,145

Restricted share awards issued

217

218

Recognition of employee share-based compensation, net of deferred federal income taxes

1,311

Exercise of options, net of federal income taxes

Dividends paid and accrued

(9,241

)

(9,241

)

Balance at March 31, 2014

173

171,989

24,345

570,676

(60,368

)

706,815

The accompanying notes are an integral part of these financial statements.

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Safety Insurance Group, Inc. and Subsidiaries

Consolidated Statements of Cash Flows

(Unaudited)

(Dollars in thousands)

	Three Months Ended March 31,
	2014			2013
Cash flows from operating activities:
Net income	$	12,125		$	13,984
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization, net	3,345			3,474
Provision for deferred income taxes	67			59
Net realized gains on investments	(20		)	(402		)
Changes in assets and liabilities:
Accounts receivable	(5,816		)	(7,580		)
Accrued investment income	54			500
Receivable from reinsurers	(1,458		)	(744		)
Ceded unearned premiums	(775		)	(328		)
Deferred policy acquisition costs	(1,424		)	(1,392		)
Other assets	(7,866		)	3,128
Loss and loss adjustment expense reserves	6,008			7,954
Unearned premium reserves	10,829			12,577
Accounts payable and accrued liabilities	(19,455		)	(20,836		)
Payable to reinsurers	347			(683		)
Other liabilities	(4,056		)	(4,853		)
Net cash (used for) / provided by operating activities	(8,095		)	4,858

Cash flows from investing activities:
Fixed maturities purchased	(65,549		)	(41,969		)
Equity securities purchased	(4,302		)	(13,040		)
Other invested assets purchased	(750		)	—
Proceeds from sales and paydowns of fixed maturities	28,201			48,202
Proceeds from maturities, redemptions, and calls of fixed maturities	16,116			14,069
Proceed from sales of equity securities	3,928			1,820
Fixed assets purchased	(615		)	(955		)
Net cash (used for) / provided by investing activities	(22,971		)	8,127

Cash flows from financing activities:
Proceeds from stock options exercised	61			519
Excess tax benefit from stock options exercised	9			17
Dividends paid to shareholders	(9,211		)	(9,200		)
Net cash used for financing activities	(9,141		)	(8,664		)

Net (decrease) increase in cash and cash equivalents	(40,207		)	4,321
Cash and cash equivalents at beginning of year	55,877			35,383
Cash and cash equivalents at end of period	$	15,670		$	39,704

The accompanying notes are an integral part of these financial statements.

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Safety Insurance Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(Dollars in thousands except per share and share data)

1. Basis of Presentation

The consolidated financial statements have been prepared on the basis of accounting principles generally accepted in the United States of America (“GAAP”). 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 at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from these estimates.

The consolidated financial statements include Safety Insurance Group, Inc. and its subsidiaries (the “Company”). The subsidiaries consist of Safety Insurance Company, Safety Indemnity Insurance Company, Safety Property and Casualty Insurance Company, Whiteshirts Asset Management Corporation (“WAMC”), and Whiteshirts Management Corporation, which is WAMC’s holding company. All intercompany transactions have been eliminated.

The financial information as of March 31, 2014 and for the three months ended March 31, 2014 and 2013 is unaudited; however, in the opinion of the Company, the information includes all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the financial condition and results of operations for the periods. These unaudited consolidated financial statements may not be indicative of financial results for the full year and should be read in conjunction with the audited financial statements included in the Company’s annual report on Form 10-K filed with the U.S. Securities and Exchange Commission (“SEC”) on March 17, 2014.

The Company is a leading provider of property and casualty insurance focused primarily on the Massachusetts market. The Company’s principal product line is automobile insurance. The Company operates through its insurance company subsidiaries, Safety Insurance Company, Safety Indemnity Insurance Company, and Safety Property and Casualty Insurance Company (together referred to as the “Insurance Subsidiaries”).

2. Recent Accounting Pronouncements

In February 2013, the Financial Accounting Standards Board issued Accounting Standards Update ("ASU") 2013-02, Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income. ASU 2013-02 requires entities to present in either a single note or parenthetically on the face of the financial statements, the effect of significant amounts reclassified from each component of accumulated other comprehensive income based on its source and the income statement line items affected by the reclassification. Items not required to be reclassified to net income in their entirety are cross referenced to a related footnote for additional information. ASU 2013-02 was effective for interim and annual periods beginning after December 15, 2012. The impact of adoption was not material to the Company’s consolidated financial condition and results of operations.

3. Earnings per Weighted Average Common Share

Basic earnings per weighted average common share (“EPS”) is calculated by dividing net income by the weighted average number of basic common shares outstanding during the period including unvested restricted shares which are considered participating securities. Diluted earnings per share amounts are based on the weighted average number of common shares including unvested restricted shares and the net effect of potentially dilutive common shares outstanding.

The following table sets forth the computation of basic and diluted EPS for the periods indicated.

	Three Months Ended March 31,
	2014		2013
Net income available to common shareholders for basic and diluted earnings per share	$	12,125	$	13,984

Weighted average common and common equivalent shares outstanding used to calculate basic earnings per share	15,359,989		15,339,690
Common equivalent shares - stock options	2,929		8,797
Common equivalent shares - non-vested stock grants	58,241		8,267
Weighted average common and common equivalent shares outstanding used to calculate diluted earnings per share	15,421,159		15,356,754

Basic earnings per share	$	0.79	$	0.91
Diluted earnings per share	$	0.79	$	0.91

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Safety Insurance Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(Dollars in thousands except per share and share data)

Diluted EPS excludes stock options with exercise prices and exercise tax benefits greater than the average market price of the Company’s common stock during the period because their inclusion would be anti-dilutive. There were no anti-dilutive stock options for the three months ended March 31, 2014 and 2013, respectively.

4. Share-Based Compensation

Management Omnibus Incentive Plan

Long-term incentive compensation is provided under the Company’s 2002 Management Omnibus Incentive Plan (“the Incentive Plan”) which provides for a variety of share-based compensation awards, including nonqualified stock options, incentive stock options, stock appreciation rights and restricted stock (“RS”) awards.

The maximum number of shares of common stock with respect to which awards may be granted is 2,500,000. The Incentive Plan was amended in March of 2013 to remove "share recycling" plan provisions. Hence, shares of stock covered by an award under the Incentive Plan that are forfeited are no longer available for issuance in connection with future grants of awards. At March 31, 2014, there were 454,920 shares available for future grant. The Board of Directors and the Compensation Committee intend to issue more awards under the Incentive Plan in the future.

Accounting and Reporting for Stock-Based Awards

Accounting Standards Codification (“ASC”) 718, Compensation —Stock Compensation requires the Company to measure and recognize the cost of employee services received in exchange for an award of equity instruments. Under the provisions of ASC 718, share-based compensation cost is measured at the grant date, based on the fair value of the award, and is recognized as an expense over the requisite service period (generally the vesting period of the equity grant).

The following table summarizes stock option activity under the Incentive Plan for the three months ended March 31, 2014.

					Weighted
	Shares		Weighted		Average	Aggregate
	Under		Average		Remaining	Intrinsic
	Option		Exercise Price		Contractual Term	Value
Outstanding at beginning of year	20,200		$	41.64
Exercised	(2,000	)	$	30.68
Outstanding at end of period	18,200		$	42.85	1.9 years	$	200
Exercisable at end of period	18,200		$	42.85	1.9 years	$	200

The aggregate intrinsic value in the preceding table represents the total pre-tax intrinsic value, which is the difference between the fair value based upon the Company’s closing stock price on March 31, 2014 and the exercise price which would have been received by the option holders had all option holders exercised their options as of that date. The exercise price on stock options outstanding under the Incentive Plan at March 31, 2014 was $42.85. The range of exercise prices on stock options outstanding at March 31, 2013 was $18.50 to $42.85. The total intrinsic value of options exercised during the three months ended March 31, 2014 and 2013 was $46 and $201, respectively. Cash received from options exercised was $61 and $519 for the three months ended March 31, 2014 and 2013, respectively.

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Safety Insurance Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(Dollars in thousands except per share and share data)

Restricted Stock

Service-based restricted stock awarded to employees in the form of unvested shares is recorded at the market value of the Company’s common stock on the grant date and amortized ratably as compensation expense over the requisite service period. Service-based restricted stock awards generally vest over a three-year period and unrestrict 30% on the first and second anniversaries of the grant date and 40% on the third anniversary of the grant date, except for non-executive employees’ restricted stock awards which vest ratable over a five-year service period and independent directors’ stock awards which vest immediately. Independent directors’ stock awards cannot be sold, assigned, pledged, or otherwise transferred, encumbered or disposed of until the recipient is no longer a member of the Board of Directors.

In addition to service-based awards, the Company granted performance-based restricted shares to certain employees. These performance shares will cliff vest after a three-year performance period provided certain performance measures are attained. A portion of these awards, which contain a market condition, vest according to the level of total shareholder return achieved by the Company compared to its property-casualty insurance peers over a three-year period. The remainder, which contain a performance condition, vest according to the level of Company’s combined ratio results compared to its property-casualty insurance peers over the same three-year performance period.

Actual payouts can range from 0% to 200% of target shares awarded depending upon the level of achievement of the respective market and performance conditions during a three fiscal-year performance period. Compensation expense for performance share awards is based on the probable number of awards expected to vest using the performance level most likely to be achieved at the end of the performance period.

Performance-based awards with market conditions are accounted for and measured differently from an award that has a performance or service condition. The effect of a market condition is reflected in the award’s fair value on the grant date. That fair value is recognized as compensation cost over the requisite service period regardless of whether the market-based performance objective has been satisfied.

All of the Company’s restricted stock awards are issued as incentive compensation and are equity classified.

The following tables summarize service-based and performance-based restricted stock activity under the Incentive Plan.

	Service-based		Weighted		Performance-based	Weighted
	Shares Under		Average		Shares Under	Average
	Restriction		Fair Value		Restriction	Fair Value
Outstanding at beginning of year	211,234		$	43.51	37,456	$	44.13
Granted	49,014		$	54.05	27,928	$	58.09
Vested and unrestricted	(81,149	)	$	43.80	—	$	—
Outstanding at end of period	179,099		$	46.28	65,384	$	50.10

As of March 31, 2014, there was $9,764 of unrecognized compensation expense related to non-vested restricted stock awards that is expected to be recognized over a weighted average period of 2.1 years. The total fair value of the shares that were vested and unrestricted during the three months ended March 31, 2014 and 2013 was $3,554 and $4,230, respectively. For the three months ended March 31, 2014 and 2013, the Company recorded compensation expense related to restricted stock of $794 and $803, net of income tax benefits of $428 and $433, respectively.

5. Investments

The gross unrealized gains and losses on investments in fixed maturity securities, including redeemable preferred stocks that have characteristics of fixed maturities, and equity securities, including interests in mutual funds, and other invested assets were as follows for the periods indicated.

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Safety Insurance Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(Dollars in thousands except per share and share data)

As of March 31, 2014

Gross Unrealized Losses (3)

Cost or

Gross

Non-OTTI

OTTI

Estimated

Amortized

Unrealized

Fair

Cost

Gains

Losses

Losses (4)

Value

U.S. Treasury securities

1,510

—

)

—

1,503

Obligations of states and political subdivisions

447,792

14,502

(1,411

)

—

460,883

Residential mortgage-backed securities (1)

198,160

7,090

(2,376

)

—

202,874

Commercial mortgage-backed securities

26,441

275

(14

)

—

26,702

Other asset-backed securities

20,655

417

(21

)

—

21,051

Corporate and other securities

403,350

10,585

(1,442

)

—

412,493

Subtotal, fixed maturity securities

1,097,908

32,869

(5,271

)

—

1,125,506

Equity securities (2)

83,884

10,055

(200

)

—

93,739

Other invested assets (5)

6,471

—

6,471

Totals

1,188,263

42,924

(5,471

)

—

1,225,716

	As of December 31, 2013
					Gross Unrealized Losses (3)
	Cost or		Gross		Non-OTTI			OTTI		Estimated
	Amortized		Unrealized		Unrealized			Unrealized		Fair
	Cost		Gains		Losses			Losses (4)		Value
U.S. Treasury securities	$	1,510	$	—	$	(7	)	$	—	$	1,503
Obligations of states and political subdivisions	461,256		10,248		(4,179		)	—		467,325
Residential mortgage-backed securities (1)	205,053		6,879		(3,230		)	—		208,702
Commercial mortgage-backed securities	31,885		342		(8		)	—		32,219
Other asset-backed securities	13,357		124		(36		)	—		13,445
Corporate and other securities	374,171		9,882		(2,290		)	—		381,763
Subtotal, fixed maturity securities	1,087,232		27,475		(9,750		)	—		1,104,957
Equity securities (2)	83,134		8,821		(84		)	—		91,871
Other invested assets (5)	5,748		—		—					5,748
Totals	$	1,176,114	$	36,296	$	(9,834	)	$	—	$	1,202,576

(1) Residential mortgage-backed securities consists primarily of obligations of U.S. Government agencies including collateralized mortgage obligations issued, guaranteed and/or insured by the following issuers: Government National Mortgage Association (GNMA), Federal Home Loan Mortgage Corporation (FHLMC), Federal National Mortgage Association (FNMA) and the Federal Home Loan Bank (FHLB).

(2) Equity securities includes interests in mutual funds held to fund the Company’s executive deferred compensation plan.

(3) Our investment portfolio included 167 and 220 securities in an unrealized loss position at March 31, 2014 and December 31, 2013, respectively.

(4) Amounts in this column represent other-than-temporary impairment (“OTTI”) recognized in accumulated other comprehensive income.

(5) Other invested assets are accounted for under the equity method which approximates fair value.

The amortized cost and the estimated fair value of fixed maturity securities, by maturity, are shown below for the period indicated. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

	As of March 31, 2014
	Amortized		Estimated
	Cost		Fair Value
Due in one year or less	$	54,481	$	55,561
Due after one year through five years	321,446		330,245
Due after five years through ten years	208,275		213,802
Due after ten years	268,450		275,271
Asset-backed securities	245,256		250,627
Totals	$	1,097,908	$	1,125,506

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Safety Insurance Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(Dollars in thousands except per share and share data)

The gross realized gains and losses on sales of investments were as follows for the periods indicated.

	Three Months Ended March 31,
	2014			2013
Gross realized gains
Fixed maturity securities	$	174		$	379
Equity securities	411			26
Gross realized losses
Fixed maturity securities	(530		)	(2		)
Equity securities	(35		)	(1		)
Net realized gains on investments	$	20		$	402

In the normal course of business, the Company enters into transactions involving various types of financial instruments, including investments in fixed maturities and equity securities. Investment transactions have credit exposure to the extent that a counter party may default on an obligation to the Company. Credit risk is a consequence of carrying, trading and investing in securities. To manage credit risk, the Company focuses on higher quality fixed income securities, reviews the credit strength of all companies in which it invests, limits its exposure in any one investment and monitors the portfolio quality, taking into account credit ratings assigned by recognized statistical rating organizations.

The following tables as of March 31, 2014 and December 31, 2013 present the gross unrealized losses included in the Company’s investment portfolio and the fair value of those securities aggregated by investment category. The tables also present the length of time that they have been in a continuous unrealized loss position.

As of March 31, 2014

Less than 12 Months

12 Months or More

Total

Estimated

Unrealized

Estimated

Unrealized

Estimated

Unrealized

Fair Value

Losses

Fair Value

Losses

Fair Value

Losses

U.S. Treasury securities

1,503

—

1,503

Obligations of states and political subdivisions

65,313

1,244

3,465

167

68,778

1,411

Residential mortgage-backed securities

39,518

965

35,997

1,412

75,515

2,377

Commercial mortgage-backed securities

6,504

—

6,504

Other asset-backed securities

3,251

4,613

7,864

Corporate and other securities

77,940

1,310

4,558

132

82,498

1,442

Subtotal, fixed maturity securities

194,029

3,559

48,633

1,712

242,662

5,271

Equity securities

4,962

194

330

5,292

200

Total temporarily impaired securities

198,991

3,753

48,963

1,718

247,954

5,471

	As of December 31, 2013
	Less than 12 Months				12 Months or More				Total
	Estimated		Unrealized		Estimated		Unrealized		Estimated		Unrealized
	Fair Value		Losses		Fair Value		Losses		Fair Value		Losses
U.S. Treasury securities	$	1,503	$	7	$	—	$	—	$	1,503	$	7
Obligations of states and political subdivisions	131,114		3,898		3,362		281		134,476		4,179
Residential mortgage-backed securities	50,048		1,570		37,166		1,660		87,214		3,230
Commercial mortgage-backed securities	6,008		8		—		—		6,008		8
Other asset-backed securities	3,240		31		4,608		5		7,848		36
Corporate and other securities	86,312		2,223		2,235		67		88,547		2,290
Subtotal, fixed maturity securities	278,225		7,737		47,371		2,013		325,596		9,750
Equity securities	3,933		73		299		11		4,232		84
Total temporarily impaired securities	$	282,158	$	7,810	$	47,670	$	2,024	$	329,828	$	9,834

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Safety Insurance Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(Dollars in thousands except per share and share data)

Other-Than-Temporary Impairments

ASC 320, Investments – Debt and Equity Securities requires entities to separate an OTTI of a debt security into two components when there are credit related losses associated with the impaired debt security for which the Company asserts that it does not have the intent to sell the security, and it is more likely than not that it will not be required to sell the security before recovery of its cost basis. Under ASC 320, the amount of the OTTI related to a credit loss is recognized in earnings, and the amount of the OTTI related to other factors is recorded as a component of other comprehensive income (loss). In instances where no credit loss exists but it is more likely than not that the Company will have to sell the debt security prior to the anticipated recovery, the decline in market value below amortized cost is recognized as an OTTI in earnings. In periods after the recognition of an OTTI on debt securities, the Company accounts for such securities as if they had been purchased on the measurement date of the OTTI at an amortized cost basis equal to the previous amortized cost basis less the OTTI recognized in earnings. For debt securities for which OTTI was recognized in earnings, the difference between the new amortized cost basis and the cash flows expected to be collected will be accreted or amortized into net investment income.

The Company holds no subprime mortgage debt securities. All of the Company’s holdings in mortgage-backed securities are either U.S. Government or Agency guaranteed or are rated investment grade by either Moody’s or Standard & Poor’s.

The unrealized losses in the Company’s fixed income and equity portfolio as of March 31, 2014 were reviewed for potential other-than-temporary asset impairments. The Company held no securities at March 31, 2014 with a material (20% or greater) unrealized loss for four or more consecutive quarters. Specific qualitative analysis was also performed for any additional securities appearing on the Company’s “Watch List,” if any. Qualitative analysis considered such factors as the financial condition and the near term prospects of the issuer, whether the debtor is current on its contractually obligated interest and principal payments, changes to the rating of the security by a rating agency and the historical volatility of the fair value of the security.

The qualitative analysis performed by the Company concluded that the unrealized losses recorded on the investment portfolio at March 31, 2014 resulted from fluctuations in market interest rates and other temporary market conditions as opposed to fundamental changes in the credit quality of the issuers of such securities. Therefore, decreases in fair values of the Company’s securities are viewed as being temporary.

During the three months ended March 31, 2014 and 2013, there was no significant deterioration in the credit quality of any of the Company’s holdings and no OTTI charges were recorded related to the Company’s portfolio of investment securities. At March 31, 2014 and December 31, 2013, there were no amounts included in accumulated other comprehensive income related to securities which were considered by the Company to be other-than-temporarily impaired.

Based upon the qualitative analysis performed, the Company’s decision to hold these securities, the Company’s current level of liquidity and its positive operating cash flows, management believes it is more likely than not that it will not be required to sell any of its securities before the anticipated recovery in the fair value to its amortized cost basis.

Net Investment Income

The components of net investment income were as follows:

	Three Months Ended March 31,
	2014		2013
Interest on fixed maturity securities	$	10,404	$	10,700
Dividends on equity securities	657		171
Equity in earnings of other invested assets	121		—
Interest on other assets	20		74
Interest on cash and cash equivalents	1		8
Total investment income	11,203		10,953
Investment expenses	630		566
Net investment income	$	10,573	$	10,387

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Safety Insurance Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(Dollars in thousands except per share and share data)

Fair Value Measurements

ASC 820, Fair Value Measurements and Disclosure provides a revised definition of fair value, establishes a framework for measuring fair value and expands financial statement disclosure requirements for fair value information. Under ASC 820, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants (an exit price). ASC 820 establishes a fair value hierarchy that distinguishes between inputs based on market data from independent sources (“observable inputs”) and a reporting entity’s internal assumptions based upon the best information available when external market data is limited or unavailable (“unobservable inputs”). The fair value hierarchy in ASC 820 prioritizes fair value measurements into three levels based on the nature of the inputs as follows:

Level 1 — Valuations based on quoted prices in active markets for identical assets and liabilities;

Level 2 — Valuations based on observable inputs that do not meet the criteria for Level 1, including quoted prices in inactive markets and quoted prices in active markets for similar, but not identical instruments; and

Level 3 — Valuations based on unobservable inputs.

Fair values for the Company’s fixed maturity securities are based on prices provided by its custodian bank and its investment managers. Both the Company’s custodian bank and investment managers use a variety of independent, nationally recognized pricing services to determine market valuations. If the pricing service cannot provide fair value determinations, the Company obtains non-binding price quotes from broker-dealers. A minimum of two quoted prices is obtained for the majority of the Company’s available-for-sale fixed maturity securities in its investment portfolio. The Company’s custodian bank is its primary provider of quoted prices from third-party pricing services and broker-dealers. To provide reasonable assurance of the validity of each price or quote, a secondary third-party pricing service or broker-dealer quote is obtained from the Company’s investment managers. An examination of the pricing data is then performed for each security. If the variance between the primary and secondary price quotes for a security is within an accepted tolerance level, the quoted price obtained from the Company’s custodian bank is used in the financial statements for the security. If the variance between the primary and secondary price quotes exceeds an accepted tolerance level, the Company obtains a quote from an alternative source, if possible, and documents and resolves any differences between the pricing sources. In addition, the Company may request that its investment managers and their traders provide input as to which vendor is providing prices that its traders believe are reflective of fair value for the security. Following this process, the Company may decide to value the security in its financial statements using the secondary or alternative source if it believes that pricing is more reflective of the security’s value than the primary pricing provided by its custodian bank. The Company analyzes market valuations received to verify reasonableness, to understand the key assumptions used and their sources, and to determine an appropriate ASC 820 fair value hierarchy level based upon trading activity and the observability of market inputs. Based on this evaluation and investment class analysis, each price is classified into Level 1, 2 or 3.

Fair values of instruments are based on (i) quoted prices in active markets for identical assets (Level 1), (ii) quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active and model-derived valuations in which all significant inputs are observable in active markets (Level 2) or (iii) valuations derived from valuation techniques in which one or more significant inputs are unobservable in the marketplace (Level 3).

The Company’s Level 1 securities consist of equity securities whose values are based on quoted prices in active markets for identical assets. The Company’s Level 2 securities are comprised of available-for-sale fixed maturity securities whose fair value was determined using observable market inputs. The Company’s Level 3 security is a real estate investment trust equity investment whose fair value is determined using the trust’s net asset value obtained from its audited financial statements; however, the Company is required to submit a request 45 days before quarter end to dispose of the security. Fair values for securities for which quoted market prices were unavailable were estimated based upon reference to observable inputs such as benchmark interest rates, market comparables, and other relevant inputs. Investments valued using these inputs include U.S. Treasury securities and obligations of U.S. Government agencies, obligations of international government agencies, obligations of states and political subdivisions, corporate securities, commercial and residential mortgage-backed securities, and other asset-backed securities. Inputs into the fair value application that are utilized by asset class include but are not limited to:

· States and political subdivisions: overall credit quality, including assessments of market sectors and the level and variability of sources of payment such as general obligation, revenue or lease; credit support such as insurance, state or local economic and political base, prefunded and escrowed to maturity covenants.

· Corporate fixed maturities: overall credit quality, the establishment of a risk adjusted credit spread over the applicable risk free yield curve for discounted cash flow valuations; assessments of the level of industry economic sensitivity, company financial policies, indenture restrictive covenants, and/or security and collateral.

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Safety Insurance Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(Dollars in thousands except per share and share data)

· Residential mortgage-backed securities, U.S. agency pass-throughs, collateralized mortgage obligations (“CMOs”), non U.S. agency CMOs: estimates of prepayment speeds based upon historical prepayment rate trends, underlying collateral interest rates, original weighted average maturity, vintage year, borrower credit quality characteristics, interest rate and yield curve forecasts, U.S. government support programs, tax policies, and delinquency/default trends.

· Commercial mortgage-backed securities: overall credit quality, including assessments of the level and variability of credit support and collateral type such as office, retail, or lodging, predictability of cash flows for the deal structure, prevailing economic market conditions.

· Other asset-backed securities: overall credit quality, estimates of prepayment speeds based upon historical trends and characteristics of underlying loans, including assessments of the level and variability of collateral, revenue generating agreements, area licenses agreements, product sourcing agreements and equipment and property leases.

· Real estate investment trust (“REIT”): net asset value per share derived from member ownership in capital venture to which a proportionate share of independently appraised net assets is attributed.

All unadjusted estimates of fair value for our fixed maturities priced by the pricing services as described above are included in the amounts disclosed in Level 2.

In order to ensure the fair value determination is representative of an exit price (consistent with ASC 820), the Company’s procedures for validating quotes or prices obtained from third parties include, but are not limited to, obtaining a minimum of two price quotes for each fixed maturity security if possible, as discussed above, the periodic testing of sales activity to determine if there are any significant differences between the market price used to value the security as of the balance sheet date and the sales price of the security for sales that occurred around the balance sheet date, and the periodic review of reports provided by its investment manager regarding those securities with ratings changes and securities placed on its “Watch List.” In addition, valuation techniques utilized by pricing services and prices obtained from external sources are reviewed by the Company’s external investment manager, whose investment professionals are familiar with the securities being priced and the markets in which they trade to ensure the fair value determination is representative of an exit price (consistent with ASC 820).

With the exception of the REIT which is categorized as a Level 3 security, the Company’s entire available-for-sale portfolio was priced based upon quoted market prices or other observable inputs as of March 31, 2014. There were no significant changes to the valuation process during the period ended March 31, 2014. As of March 31, 2014 and December 31, 2013, no quotes or prices obtained were adjusted by management. All broker quotes obtained were non-binding.

At March 31, 2014 and December 31, 2013, investments in fixed maturities and equity securities classified as available-for-sale had a fair value which equaled carrying value of $1,219,245 and $1,196,828, respectively. At March 31, 2014 and December 31, 2013, we held no short-term investments. The carrying values of cash and cash equivalents and investment income accrued approximate fair value.

The following tables summarize the Company’s total fair value measurements for available-for-sale investments for the periods indicated.

As of March 31, 2014

Total

Level 1 Inputs

Level 2 Inputs

Level 3 Inputs

U.S. Treasury securities

1,503

—

1,503

—

Obligations of states and political subdivisions

460,883

—

460,883

—

Residential mortgage-backed securities

202,874

—

202,874

—

Commercial mortgage-backed securities

26,702

—

26,702

—

Other asset-backed securities

21,051

—

21,051

—

Corporate and other securities

412,493

—

412,493

—

Equity securities

93,739

77,545

—

16,194

Total investment securities

1,219,245

77,545

1,125,506

16,194

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Safety Insurance Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(Dollars in thousands except per share and share data)

	As of December 31, 2013
	Total		Level 1 Inputs		Level 2 Inputs		Level 3 Inputs
U.S. Treasury securities	$	1,503	$	—	$	1,503	$	—
Obligations of states and political subdivisions	467,325		—		467,325		—
Residential mortgage-backed securities	208,702		—		208,702		—
Commercial mortgage-backed securities	32,219		—		32,219		—
Other asset-backed securities	13,445		—		13,445		—
Corporate and other securities	381,763		—		381,763		—
Equity securities	91,871		75,951		—		15,920
Total investment securities	$	1,196,828	$	75,951	$	1,104,957	$	15,920

There were no transfers between Level 1 and Level 2 during the three months ended March 31, 2014 and 2013.

The following table summarizes the changes in the Company’s Level 3 fair value securities for the periods indicated.

	Three Months Ended March 31,
	2014		2013
	Level 3		Level 3
	Fair Value		Fair Value
	Securities		Securities
Balance at January 1	$	15,920	$	5,346
Net gains and losses included in earnings	—		—
Net gains included in other comprehensive income	274		60
Purchases and sales	—		—
Transfers in (out) of Level 3	—		—
Balance at March 31	$	16,194	$	5,406
Amount of total losses included in earnings attributable to the change in unrealized losses related to assets still held at March 31	$	—	$	—

Transfers in and out of Level 3 are attributable to changes in the ability to observe significant inputs in determining fair value exit pricing. As noted in the table above, no transfers were made in or out of level 3 during the three months ended March 31, 2014 and 2013.

6. Loss and Loss Adjustment Expense Reserves

The following table sets forth a reconciliation of beginning and ending reserves for losses and loss adjustment expenses (“LAE”), as shown in the Company’s consolidated financial statements for the periods indicated.

	Three Months Ended March 31,
	2014			2013
Reserves for losses and LAE at beginning of year	$	455,014		$	423,842
Less receivable from reinsurers related to unpaid losses and LAE	(60,346		)	(52,185		)
Net reserves for losses and LAE at beginning of year	394,668			371,657
Incurred losses and LAE, related to:
Current year	131,867			119,545
Prior years	(10,979		)	(7,400		)
Total incurred losses and LAE	120,888			112,145
Paid losses and LAE related to:
Current year	58,941			51,676
Prior years	56,203			53,756
Total paid losses and LAE	115,144			105,432
Net reserves for losses and LAE at end of period	400,412			378,370
Plus receivable from reinsurers related to unpaid losses and LAE	60,610			53,426
Reserves for losses and LAE at end of period	$	461,022		$	431,796

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Safety Insurance Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(Dollars in thousands except per share and share data)

At the end of each period, the reserves were re-estimated for all prior accident years. The Company’s prior year reserves decreased by $10,979 and $7,400 for the three months ended March 31, 2014 and 2013, respectively, and resulted from re-estimations of prior years ultimate loss and LAE liabilities. The decreases in prior years’ reserves during the 2014 and 2013 periods are primarily composed of reductions in our retained automobile reserves and our retained homeowners reserves.

The Company’s private passenger automobile line of business prior year reserves decreased for the three months ended March 31, 2014 and 2013 primarily due to improved retained private passenger results. The improved retained private passenger results were primarily due to fewer incurred but not yet reported claims than previously estimated and better than previously estimated severity on the Company’s established bodily injury and property damage case reserves.

Due to the nature of the risks that the Company underwrites and has historically underwritten, management does not believe that it has an exposure to asbestos or environmental pollution liabilities.

7. Commitments and Contingencies

Various claims, generally incidental to the conduct of normal business, are pending or alleged against the Company from time to time. In the opinion of management, based in part on the advice of legal counsel, the ultimate resolution of such claims will not have a material adverse effect on the Company’s consolidated financial statements. However, if estimates of the ultimate resolutions of those proceedings are revised, liabilities related to those proceedings could be adjusted in the near term.

Massachusetts law requires that insurers licensed to do business in Massachusetts participate in the Massachusetts Insurers Insolvency Fund (“Insolvency Fund”). Members of the Insolvency Fund are assessed a proportionate share of the obligations and expenses of the Insolvency Fund in connection with an insolvent insurer. It is anticipated that there will be additional assessments from time to time relating to various insolvencies. Although the timing and amounts of any future assessments are not known, based upon existing knowledge, management’s opinion is that such future assessments are not expected to have a material effect upon the financial position of the Company.

8. Debt

The Company has a Revolving Credit Agreement (the “Credit Agreement”) with RBS Citizens, NA (“RBS Citizens”). The Credit Agreement provides a $30,000 revolving credit facility with an accordion feature allowing for future expansion of the committed amount up to $50,000. Loans under the credit facility bear interest at the Company’s option at either (i) the LIBOR rate plus 1.25% per annum or (ii) the higher of RBS Citizens prime rate or 0.5% above the federal funds rate plus 1.25% per annum. Interest only is payable prior to maturity. The Credit Agreement has a maturity date of August 14, 2018.

The Company’s obligations under the credit facility are secured by pledges of its assets and the capital stock of its operating subsidiaries. The credit facility is guaranteed by the Company’s non-insurance company subsidiaries. The credit facility contains covenants including requirements to maintain minimum risk-based capital ratios and statutory surplus of Safety Insurance Company as well as limitations or restrictions on indebtedness, liens, and other matters. As of March 31, 2014, the Company was in compliance with all covenants. In addition, the credit facility includes customary events of default, including a cross-default provision permitting the lenders to accelerate the facility if the Company (i) defaults in any payment obligation under debt having a principal amount in excess of $10,000 or (ii) fails to perform any other covenant permitting acceleration of all such debt.

The Company had no amounts outstanding on its credit facility at March 31, 2014 and December 31, 2013. The credit facility commitment fee included in interest expense was computed at a rate of 0.25% per annum on the $30,000 commitment at March 31, 2014 and 2013.

9. Income Taxes

Federal income tax expense for the three months ended March 31, 2014 and 2013 has been computed using estimated effective tax rates. These rates are revised, if necessary, at the end of each successive interim period to reflect the current estimates of the annual effective tax rates.

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Safety Insurance Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(Dollars in thousands except per share and share data)

The Company believes that the positions taken on its income tax returns for open tax years will be sustained upon examination by the Internal Revenue Service (“IRS”). Therefore, the Company has not recorded a liability under ASC 740, Income Taxes.

During the three months ended March 31, 2014, there were no material changes to the amount of the Company’s unrecognized tax benefits or to any assumptions regarding the amount of its ASC 740 liability.

The Company’s U.S. federal tax return for the year ended December 31, 2011 is currently under examination by the IRS. In the Company’s opinion, adequate tax liabilities have been established for all years. However, the amount of these tax liabilities could be revised in the near term if estimates of the Company’s ultimate liability are revised. Tax years prior to 2010 are closed.

10. Share Repurchase Program

On August 3, 2007, the Board of Directors approved a share repurchase program of up to $30,000 of the Company’s outstanding common shares. As of March 31, 2014, the Board of Directors had authorized increases to the existing share repurchase program of up to $150,000 of its outstanding common shares. Under the program, the Company may repurchase shares of its common stock for cash in public or private transactions, in the open market or otherwise. The timing of such repurchases and actual number of shares repurchased will depend on a variety of factors including price, market conditions and applicable regulatory and corporate requirements. The program does not require the Company to repurchase any specific number of shares and it may be modified, suspended or terminated at any time without prior notice.

No share purchases were made by the Company under the program during the three months ending March 31, 2014 and 2013. As of March 31, 2014 and December 31, 2013, the Company had purchased 1,819,547 shares on the open market at a cost of $60,368.

11. Related Party Transactions

Mr. A. Richard Caputo, Jr., a member of the Company’s Board of Directors and the Chairman of its Investment Committee, is a principal of The Jordan Company, LP (“Jordan”). In 2012, the Company participated as a lender in two loans made by syndicates of lenders to a portfolio company in which funds managed by Jordan are controlling or a significant investor. The first loan, made to Vantage Specialties, Inc., currently bears interest at a rate of 5.00% per annum and matures on February 10, 2018. The Company’s original participation in the loan was $2,500. The second loan, made to ARCAS Automotive (formerly known as Sequa Auto), currently bears interest at a rate of 6.25% per annum and has a maturity date of November 15, 2018. The Company’s original participation in the loan was $1,200. Both loans amortize in equal quarterly installments of 0.25% of the principal amount per quarter. The Company made the loans on the same terms as the other lenders participating in the syndicate. The loans were subject to the approval of the Company’s full Investment Committee.

12. Subsequent Events

The Company has evaluated subsequent events for recognition or disclosure in the consolidated financial statements filed on Form 10-Q with the SEC and no events have occurred that require recognition or disclosure.

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Item 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS

OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with our accompanying consolidated financial statements and notes thereto, which appear elsewhere in this document. In this discussion, all dollar amounts are presented in thousands, except share and per share data.

The following discussion contains forward-looking statements. We intend statements which are not historical in nature to be, and are hereby identified as “forward-looking statements” to be covered by the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. In addition, the Company’s senior management may make forward-looking statements orally to analysts, investors, the media and others. This safe harbor requires that we specify important factors that could cause actual results to differ materially from those contained in forward-looking statements made by or on behalf of us. We cannot promise that our expectations in such forward-looking statements will turn out to be correct. Our actual results could be materially different from and worse than our expectations. See “Forward-Looking Statements” below for specific important factors that could cause actual results to differ materially from those contained in forward-looking statements.

Executive Summary and Overview

In this discussion, “Safety” refers to Safety Insurance Group, Inc. and “our Company,” “we,” “us” and “our” refer to Safety Insurance Group, Inc. and its consolidated subsidiaries. Our subsidiaries consist of Safety Insurance Company (“Safety Insurance”), Safety Indemnity Insurance Company (“Safety Indemnity”), Safety Property and Casualty Insurance Company (“Safety P&C”), Whiteshirts Asset Management Corporation (“WAMC”), and Whiteshirts Management Corporation, which is WAMC’s holding company.

We are a leading provider of property and casualty insurance focused primarily on the Massachusetts market. Our principal product line is automobile insurance. In addition to private passenger automobile insurance (which represented 63.9% of our direct written premiums in 2013) and commercial automobile insurance (11.8% of 2013 direct written premiums), we offer a portfolio of other insurance products, including homeowners (19.8% of 2013 direct written premiums) and dwelling fire, umbrella and business owner policies (totaling 4.5% of 2013 direct written premiums). Operating exclusively in Massachusetts and New Hampshire through our insurance company subsidiaries, Safety Insurance, Safety Indemnity, and Safety P&C (together referred to as the “Insurance Subsidiaries”), we have established strong relationships with independent insurance agents, who numbered 893 in 1,047 locations throughout Massachusetts and New Hampshire during 2013. We have used these relationships and our extensive knowledge of the Massachusetts market to become the third largest private passenger automobile and the third largest commercial automobile insurance carrier in Massachusetts, capturing an approximate 10.8% and 13.1% share, respectively, of the Massachusetts private passenger and commercial automobile markets in 2013 according to statistics compiled by the Commonwealth Automobile Reinsurers (“CAR”).

The Insurance Subsidiaries began writing private passenger automobile and homeowners insurance in New Hampshire during 2008, personal umbrella insurance in New Hampshire during 2009, and commercial automobile insurance in New Hampshire during 2011. During the three months ended March 31, 2014 and 2013, we wrote $3,906 and $2,709, respectively, in direct written premiums in New Hampshire.

Massachusetts Automobile Insurance Market

We have been subject to extensive regulation in the private passenger automobile insurance industry in Massachusetts, which represented 63.9% of our direct written premiums in 2013. Private passenger automobile insurance has been heavily regulated in Massachusetts. In many respects, the private passenger automobile insurance market in Massachusetts prior to 2008 was unique, in comparison to other states. This was due to a number of factors, including unusual regulatory conditions, the market dominance of domestic companies, the relative absence of large national companies, and the heavy reliance on independent insurance agents as the market’s principal distribution channel. Perhaps most significantly, prior to 2008, the Massachusetts Commissioner of Insurance (the “Commissioner”) fixed and established the premium rates and the rating plan to be used by all insurance companies doing business in the private passenger automobile insurance market and the Massachusetts private passenger automobile insurance residual market mechanism featured a reinsurance program run by CAR in which companies were assigned producers.

In 2008, the Commissioner issued a series of decisions to introduce what she termed “managed competition” to Massachusetts automobile insurance premium rates and in doing so replaced the fixed and established regime with a prior approval

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rate review process, governed by regulations that set certain terms and conditions that insurers must comply with in establishing their rates. The Commissioner also replaced the former reinsurance program with an assigned risk plan.

These decisions removed many of the factors that had historically distinguished the Massachusetts private passenger automobile insurance market from the market in other states. However, certain of the historically unique factors have not been eliminated, including compulsory insurance, affinity group marketing, and the prominence of independent agents.

CAR runs a reinsurance pool for commercial automobile policies and, beginning January 1, 2006, CAR implemented a Limited Servicing Carrier Program (“LSC”) for ceded commercial automobile policies. CAR approved Safety Insurance and five other servicing carriers through a Request for Proposal to process ceded commercial automobile business, which was spread equitably among the six servicing carriers. In 2010, CAR reduced the number of servicing carriers to four, and CAR approved Safety Insurance and three other servicing carriers effective July 1, 2011 to continue the program. Subject to the Commissioner’s review, CAR sets the premium rates for commercial automobile policies reinsured through CAR and this reinsurance pool can generate an underwriting result that is a profit or deficit based upon CAR’s rate level. This underwriting result is allocated among every Massachusetts commercial automobile insurance company, including us, based on a company’s commercial automobile voluntary market share.

CAR also runs a reinsurance pool for Taxi, Limousine and Car Service risks (the “Taxi/Limo Program”). CAR approved Safety Insurance as one of the two servicing carriers for this program beginning January 1, 2011 until December 31, 2016.

During 2013, we filed private passenger rate changes that increased the variation of rates within our tiering system which resulted in no change to the overall rate level. Our rates include a 13.0% commission rate for agents.

Insurance Ratios

The property and casualty insurance industry uses the combined ratio as a measure of underwriting profitability. The combined ratio is the sum of the loss ratio (losses and loss adjustment expenses incurred as a percent of net earned premiums) plus the expense ratio (underwriting and other expenses as a percent of net earned premiums, calculated on a GAAP basis). The combined ratio reflects only underwriting results and does not include income from investments or finance and other service income. Underwriting profitability is subject to significant fluctuations due to competition, catastrophic events, weather, economic and social conditions, and other factors.

Our GAAP insurance ratios are outlined in the following table.

	Three Months Ended March 31,
	2014		2013
GAAP ratios:
Loss ratio	68.7	%	67.4	%
Expense ratio	30.4		30.1
Combined ratio	99.1	%	97.5	%

Stock-Based Compensation

Long-term incentive compensation is provided under the our 2002 Management Omnibus Incentive Plan (the “Incentive Plan”) which provides for a variety of share-based compensation awards, including nonqualified stock options, incentive stock options, stock appreciation rights and restricted stock (“RS”) awards.

The maximum number of shares of common stock with respect to which awards may be granted is 2,500,000. The Incentive Plan was amended in March of 2013 to remove “share recycling” plan provisions. Hence, shares of stock covered by an award under the Incentive Plan that are forfeited are no longer available for issuance in connection with future grants of awards. At March 31, 2014, there were 454,920 shares available for future grant. The Board of Directors and the Compensation Committee intend to issue more awards under the Incentive Plan in the future.

A summary of share-based awards granted under the Incentive Plan during the three months ended March 31, 2014 is as follows:

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Type of		Number of	Fair
Equity		Awards	Value per
Awarded	Effective Date	Granted	Share			Vesting Terms
RS	March 11, 2014	24,426	$	54.35	(1)	3 years, 30%-30%-40%
RS	March 11, 2014	4,000	$	54.35	(1)	No vesting period (3)
RS	March 11, 2014	27,928	$	58.09	(2)	3 years, cliff vesting (4)
RS	March 24, 2014	20,588	$	53.64	(1)	5 years, 20% annually (5)

(1) The fair value per share of the restricted stock grant is equal to the closing price of our common stock on the grant date.

(2) The fair value per share of the restricted stock grant is equal to the performance-based restricted stock award calculation.

(3) The shares cannot be sold, assigned, pledged, or otherwise transferred, encumbered or disposed of until the recipient is no longer a member of the Board of Directors.

(4) The shares represent performance-based restricted share awards. Vesting of these shares is dependent upon the attainment of pre-established performance objectives, and any difference between shares granted and shares earned at the end of the performance period will be reported at the conclusion of the performance period in 2017.

(5) The shares represent awards granted to non-executive employees and vest ratably over a five-year service period.

Reinsurance

We reinsure with other insurance companies a portion of our potential liability under the policies we have underwritten, thereby protecting us against an unexpectedly large loss or a catastrophic occurrence that could produce large losses, primarily in our homeowners line of business. We use various software products to measure our exposure to catastrophe losses and the probable maximum loss to us for catastrophe losses such as hurricanes. The models include estimates for our share of the catastrophe losses generated in the residual market for property insurance by the Massachusetts Property Insurance Underwriting Association (“FAIR Plan”). The reinsurance market has seen from the various software modelers, increases in the estimate of damage from hurricanes in the southern and northeast portions of the United States due to revised estimations of increased hurricane activity and increases in the estimation of demand surge in the periods following a significant event. We continue to manage and model our exposure and adjust our reinsurance programs as a result of the changes to the models. As of January 1, 2014, we have purchased three layers of excess catastrophe reinsurance providing $515,000 of coverage for property losses in excess of $50,000 up to a maximum of $565,000. Our reinsurers co-participation is 65.00% of $100,000 for the 1st layer, 80.0% of $280,000 for the 2nd layer and 80.0% of $135,000 for the 3rd layer. As a result of the changes to the models, and our revised reinsurance program, our catastrophe reinsurance in 2014 protects us in the event of a “115-year storm” (that is, a storm of a severity expected to occur once in a 115-year period). Swiss Re, our primary reinsurer, maintains an A.M. Best rating of “A+” (Excellent). Most of our other reinsurers have an A.M. Best rating of “A+” (Excellent) or “A” (Excellent).

We are a participant in CAR, a state-established body that runs the residual market reinsurance programs for commercial automobile insurance in Massachusetts under which premiums, expenses, losses and loss adjustment expenses on ceded business are shared by all insurers writing automobile insurance in Massachusetts. CAR also runs MAIP, the private passenger assigned risk in Massachusetts. We also participate in the FAIR Plan in which premiums, expenses, losses and loss adjustment expenses on homeowners business that cannot be placed in the voluntary market are shared by all insurers writing homeowners insurance in Massachusetts. The FAIR Plan has grown dramatically over the past decade as insurance carriers have reduced their exposure to coastal property. The FAIR Plan’s exposure to catastrophe losses increased and as a result, the FAIR Plan buys reinsurance to reduce their exposure to catastrophe losses. On July 1, 2013, the FAIR Plan purchased $1,000,000 of catastrophe reinsurance for property losses in excess of $200,000. At March 31, 2014, we had no material amounts recoverable from any reinsurer, excluding $60,338 recoverable from CAR.

Effects of Inflation

We do not believe that inflation has had a material effect on our consolidated results of operations, except insofar as inflation may affect interest rates.

Results of Operations

Three Months Ended March 31, 2014 Compared to Three Months Ended March 31, 2013

The following table shows certain of our selected financial results.

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	Three Months Ended March 31,
	2014		2013
Direct written premiums	$	192,660	$	185,554
Net written premiums	$	186,023	$	178,688
Net earned premiums	$	175,970	$	166,439
Net investment income	10,573		10,387
Net realized gains on investments	20		402
Finance and other service income	4,524		4,568
Total revenue	191,087		181,796
Loss and loss adjustment expenses	120,888		112,145
Underwriting, operating and related expenses	53,407		50,098
Interest expenses	22		22
Total expenses	174,317		162,265
Income before income taxes	16,770		19,531
Income tax expense	4,645		5,547
Net income	$	12,125	$	13,984
Earnings per weighted average common share:
Basic	$	0.79	$	0.91
Diluted	$	0.79	$	0.91
Cash dividends paid per common share	$	0.60	$	0.60

Direct Written Premiums. Direct written premiums for the three months ended March 31, 2014 increased by $7,106, or 3.8%, to $192,660 from $185,554 for the comparable 2013 period. The 2014 increase occurred primarily in our commercial automobile and homeowners business lines, which experienced increases of 9.2% and 4.0%, respectively, in average written premium per exposure. Written exposures increased by 9.7% and 5.3% in our commercial automobile and our homeowners business lines, respectively.

Net Written Premiums. Net written premiums for the three months ended March 31, 2014 increased by $7,335, or 4.1%, to $186,023 from $178,688 for the comparable 2013 period. The 2014 increase was primarily due to the factors that increased direct written premiums.

Net Earned Premiums. Net earned premiums for the three months ended March 31, 2014 increased by $9,531, or 5.7%, to $175,970 from $166,439 for the comparable 2013 period. The 2014 increase was primarily due to the factors that increased direct written premiums.

The effect of reinsurance on net written and net earned premiums is presented in the following table.

	Three Months Ended March 31,
	2014			2013
Written Premiums
Direct	$	192,660		$	185,554
Assumed	7,444			6,036
Ceded	(14,081		)	(12,902		)
Net written premiums	$	186,023		$	178,688

Earned Premiums
Direct	$	182,872		$	173,689
Assumed	6,404			5,324
Ceded	(13,306		)	(12,574		)
Net earned premiums	$	175,970		$	166,439

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Net Investment Income. Net investment income for the three months ended March 31, 2014 increased by $186, or 1.8%, to $10,573 from $10,387 for the comparable 2013 period. Net effective annualized yield on the investment portfolio was 3.5% and 3.6% for the three months ended March 31, 2014 and 2013, respectively. Our duration was 4.0 years at March 31, 2014 compared to 4.1 years at December 31, 2013.

Net Realized Gains on Investments. Net realized gains on investments were $20 for the three months ended March 31, 2014 compared to $402 for the comparable 2013 period.

The gross unrealized gains and losses on investments in fixed maturity securities, including redeemable preferred stock with the characteristics of fixed maturities, and equity securities, including interests in mutual funds, and other invested assets were as follows:

As of March 31, 2014

Gross Unrealized Losses (3)

Cost or

Gross

Non-OTTI

OTTI

Estimated

Amortized

Unrealized

Fair

Cost

Gains

Losses

Losses (4)

Value

U.S. Treasury securities

1,510

—

)

—

1,503

Obligations of states and political subdivisions

447,792

14,502

(1,411

)

—

460,883

Residential mortgage-backed securities (1)

198,160

7,090

(2,376

)

—

202,874

Commercial mortgage-backed securities

26,441

275

(14

)

—

26,702

Other asset-backed securities

20,655

417

(21

)

—

21,051

Corporate and other securities

403,350

10,585

(1,442

)

—

412,493

Subtotal, fixed maturity securities

1,097,908

32,869

(5,271

)

—

1,125,506

Equity securities (2)

83,884

10,055

(200

)

—

93,739

Other invested assets (5)

6,471

—

6,471

Totals

1,188,263

42,924

(5,471

)

—

1,225,716

(1) Residential mortgage-backed securities consists of obligations of U.S. Government agencies including collateralized mortgage obligations issued, guaranteed and/or insured by the following issuers: Government National Mortgage Association (GNMA), Federal Home Loan Mortgage Corporation (FHLMC), Federal National Mortgage Association (FNMA) and the Federal Home Loan Bank (FHLB).

(2) Equity securities include interests in mutual funds held to fund the Company’s executive deferred compensation plan.

(3) Our investment portfolio included 167 securities in an unrealized loss position at March 31, 2014.

(4) Amounts in this column represent other-than-temporary impairment (“OTTI”) recognized in accumulated other comprehensive income.

(5) Other invested assets are accounted for under the equity method which approximates fair value.

The composition of our fixed income security portfolio by Moody’s rating was as follows:

	As of March 31, 2014
	Estimated
	Fair Value		Percent
U.S. Treasury securities and obligations of U.S. Government agencies	$	206,064	18.3	%
Aaa/Aa	467,104		41.5
A	206,712		18.4
Baa	98,432		8.8
Ba	43,582		3.9
B	67,990		6.0
Caa	9,333		0.8
Not rated	26,289		2.3
Total	$	1,125,506	100.0	%

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As of March 31, 2014, our portfolio of fixed maturity investments was comprised principally of investment grade corporate fixed maturity securities, U.S. government and agency securities, and asset-backed securities. The portion of our non-investment grade portfolio of fixed maturity investments is primarily comprised of variable rate secured and senior bank loans and high yield bonds. We have no exposure to European sovereign debt.

The following table illustrates the gross unrealized losses included in our investment portfolio and the fair value of those securities, aggregated by investment category. The table also illustrates the length of time that they have been in a continuous unrealized loss position as of March 31, 2014.

As of March 31, 2014

Less than 12 Months

12 Months or More

Total

Estimated

Unrealized

Estimated

Unrealized

Estimated

Unrealized

Fair Value

Losses

Fair Value

Losses

Fair Value

Losses

U.S. Treasury securities

1,503

—

1,503

Obligations of states and political subdivisions

65,313

1,244

3,465

167

68,778

1,411

Residential mortgage-backed securities

39,518

965

35,997

1,412

75,515

2,377

Commercial mortgage-backed securities

6,504

—

6,504

Other asset-backed securities

3,251

4,613

7,864

Corporate and other securities

77,940

1,310

4,558

132

82,498

1,442

Subtotal, fixed maturity securities

194,029

3,559

48,633

1,712

242,662

5,271

Equity securities

4,962

194

330

5,292

200

Total temporarily impaired securities

198,991

3,753

48,963

1,718

247,954

5,471

As of March 31, 2014, we held insured investment securities of approximately $104,262, which represented approximately 8.5% of our total investments. Approximately $62,603 of these securities are pre-refunded, meaning that funds have been set aside in escrow to satisfy the future interest and principal obligations of the bond.

The following table shows our insured investment securities that are backed by financial guarantors including pre-refunded securities as of March 31, 2014. We do not have any direct investment holdings in a financial guarantee insurance company.

	As of March 31, 2014
					Exposure Net
			Pre-refunded		of Pre-refunded
Financial Guarantor	Total		Securities		Securities
Municipal bonds:
Ambac Assurance Corporation	$	17,589	$	13,830	$	3,759
Financial Guaranty Insurance Company	262		262		—
Assured Guaranty Municipal Corporation	41,742		31,053		10,689
National Public Finance Guaranty Corporation	44,669		17,458		27,211
Total	$	104,262	$	62,603	$	41,659

The Moody’s rating of the Company’s insured investments held at March 31, 2014 are essentially the same with or without the investment guarantees.

We reviewed the unrealized losses in our fixed income and equity portfolio as of March 31, 2014 for potential other-than-temporary asset impairments. We held no debt securities at March 31, 2014 with a material (20% or greater) unrealized loss for four or more consecutive quarters. Specific qualitative analysis was performed for securities appearing on our “Watch List,” if any. Qualitative analysis considered such factors as the financial condition and the near term prospects of the issuer, whether the debtor is current on its contractually obligated interest and principal payments, changes to the rating of the security by a rating agency and the historical volatility of the fair value of the security.

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Of the $5,471 gross unrealized losses as of March 31, 2014, $1,418 relates to obligations of U.S. Treasuries, states and political subdivisions. The remaining $4,053 of gross unrealized losses relates primarily to holdings of investment grade asset-backed, corporate, other fixed maturity and equity securities.

The unrealized losses recorded on the investment portfolio at March 31, 2014 resulted from fluctuations in market interest rates and other temporary market conditions as opposed to fundamental changes in the credit quality of the issuers of such securities. Given our current level of liquidity, the fact that we do not intend to sell these securities, and that it is more likely than not that we will not be required to sell these securities prior to recovery of the cost basis of these securities, these decreases in values are viewed as being temporary.

During the three months ended March 31, 2014 and 2013, there was no significant deterioration in the credit quality of any of our holdings and no other-than-temporary impairment (“OTTI”) charges were recorded related to our portfolio of investment securities.

For information regarding fair value measurements of our investment portfolio, refer to Item 1-Financial Statements, Note 5, Investments, of this Form 10-Q.

Finance and Other Service Income. Finance and other service income includes revenues from premium installment charges, which we recognize when earned, and other miscellaneous income and fees. Finance and other service income decreased by $44, or 1.0% to $4,524 for the three months ended March 31, 2014 from $4,568 for the comparable 2013 period.

Losses and Loss Adjustment Expenses. Losses and loss adjustment expenses incurred for the three months ended March 31, 2014 increased by $8,743, or 7.8%, to $120,888 from $112,145 for the comparable 2013 period. The increase was primarily due to a higher level of auto claim activity as a result of severe and snowy winter weather in the Northeast during the quarter ended March 31, 2014, when compared to the quarter ended March 31, 2013. Our GAAP loss ratio for the three months ended March 31, 2014 increased to 68.7% from 67.4% for the comparable 2013 period. Our GAAP loss ratio excluding loss adjustment expenses for the three months ended March 31, 2014 increased to 59.8% from 58.1% for the comparable 2013 period. Total prior year favorable development included in the pre-tax results was $10,979 and $7,400 for the three months ended March 31, 2014 and 2013, respectively.

Underwriting, Operating and Related Expenses. Underwriting, operating and related expense for the three months ended March 31, 2014 increased by $3,309, or 6.6%, to $53,407 from $50,098 for the comparable 2013 period. The 2014 increase is primarily due to an increase in commissions to agents. Our GAAP expense ratio for the three months ended March 31, 2014 increased to 30.4% from 30.1% for the comparable 2013 period.

Interest Expense. Interest expense for both the three months ended March 31, 2014 and 2013 was $22. The credit facility commitment fee included in interest expense for both the three months ended March 31, 2014 and 2013 was $19.

Income Tax Expense. Our effective tax rate was 27.7% and 28.4% for the three months ended March 31, 2014 and 2013, respectively. These effective rates were lower than the statutory rate of 35.0% primarily due to tax-exempt investment income.

Net Income. Net income for the three months ended March 31, 2014 was $12,125 compared to $13,984 for the comparable 2013 period. The decrease in net income for the three months ended March 31, 2014 from the comparable 2013 period was primarily attributable to the increase in loss and loss adjustments expenses, as discussed above.

Liquidity and Capital Resources

As a holding company, Safety’s assets consist primarily of the stock of our direct and indirect subsidiaries. Our principal source of funds to meet our obligations and pay dividends to shareholders, therefore, is dividends and other permitted payments from our subsidiaries, principally Safety Insurance. Safety is the borrower under our credit facility.

Safety Insurance’s sources of funds primarily include premiums received, investment income, and proceeds from sales and redemptions of investments. Safety Insurance’s principal uses of cash are the payment of claims, operating expenses and taxes, the purchase of investments, and the payment of dividends to Safety.

Net cash used for operating activities was $8,095 during the three months ended March 31, 2014. Net cash provided by operating activities was $4,858 during the three months ended March 31, 2013. The cash used for operating activities during the current period is a result of the increase in taxes recoverable and decrease in accounts payable at March 31, 2014 from December 31, 2013. Our operations typically generate positive cash flows from operations as most premiums are received in advance of the time

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when claim and benefit payments are required. Positive operating cash flows are expected to continue to meet our liquidity requirements.

Net cash used for investing activities was $22,971 during the three months ended March 31, 2014, primarily the result of purchases of fixed maturity securities exceeding proceeds from sales, paydowns, redemptions, calls and maturities of fixed maturity securities. Net cash provided by investing activities was $8,127 during the three months ended March 31, 2013, primarily the result of proceeds from sales, paydowns, redemptions, calls and maturities of fixed maturity securities exceeding purchases of fixed maturity securities.

Net cash used for financing activities was $9,141 and $8,664 during the three months ended March 31, 2014 and 2013, respectively. Net cash used for financing activities is primarily comprised of dividend payments to shareholders.

The Insurance Subsidiaries maintain a high degree of liquidity within their respective investment portfolios in fixed maturity and short-term investments. In recent years, global financial markets experienced unprecedented and challenging conditions, including a tightening in the availability of credit, the failure of several large financial institutions and concerns about the creditworthiness of the sovereign debt of several European and other countries. We believe the quality of the assets we hold will allow us to realize these securities’ anticipated long-term economic value. Furthermore, as of March 31, 2014, we had the intent and ability to retain such investments for the period of time anticipated to allow for this expected recovery in fair value. We do not anticipate the need to sell these securities to meet the Insurance Subsidiaries’ cash requirements. We expect the Insurance Subsidiaries to generate sufficient operating cash to meet all short-term and long-term cash requirements. However, there can be no assurance that unforeseen business needs or other items will not occur causing us to have to sell securities before their values fully recover; thereby causing us to recognize additional impairment charges in that time period.

Credit Facility

For information regarding our Credit Facility, please refer to Item 1- Financial Statements, Note 8, Debt, of this Form 10-Q.

Recent Accounting Pronouncements

For information regarding Recent Accounting Pronouncements, please refer to Item 1- Financial Statements, Note 2, Recent Accounting Pronouncements, of this Form 10-Q.

Regulatory Matters

Our Insurance Subsidiaries are subject to various regulatory restrictions that limit the maximum amount of dividends available to be paid to their parent without prior approval of the Commissioner. The Massachusetts statute limits the dividends an insurer may pay in any twelve-month period, without the prior permission of the Commissioner, to the greater of (i) 10% of the insurer’s surplus as of the preceding December 31 or (ii) the insurer’s net income for the twelve-month period ending the preceding December 31, in each case determined in accordance with statutory accounting practices. Our Insurance Subsidiaries may not declare an “extraordinary dividend” (defined as any dividend or distribution that, together with other distributions made within the preceding twelve months, exceeds the limits established by Massachusetts statute) until thirty days after the Commissioner has received notice of the intended dividend and has not objected. As historically administered by the Commissioner, this provision requires the Commissioner’s prior approval of an extraordinary dividend. Under Massachusetts law, an insurer may pay cash dividends only from its unassigned funds, also known as earned surplus, and the insurer’s remaining surplus must be both reasonable in relation to its outstanding liabilities and adequate to its financial needs. At year-end December 31, 2013, the statutory surplus of Safety Insurance was $627,993, and its net income for 2013 was $53,078. As a result, a maximum of $62,799 is available in 2014 for such dividends without prior approval of the Commissioner. As result of this Massachusetts statue, the Insurance Subsidiaries had restricted net assets in the amount of $565,194 at December 31, 2013. During the three months ended March 31, 2014, Safety Insurance recorded dividends to Safety of $8,317.

The maximum dividend permitted by law is not indicative of an insurer’s actual ability to pay dividends, which may be constrained by business and regulatory considerations, such as the impact of dividends on surplus, which could affect an insurer’s ratings or competitive position, the amount of premiums that can be written and the ability to pay future dividends.

Since the initial public offering of its common stock In November 2002, the Company has paid regular quarterly dividends to shareholders of its common stock. Quarterly dividends paid during 2014 were as follows:

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					Total
Declaration	Record	Payment	Dividend per		Dividends Paid
Date	Date	Date	Common Share		and Accrued
February 14, 2014	March 3, 2014	March 14, 2014	$	0.60	$	9,241

On May 6, 2014, our Board approved and declared a quarterly cash dividend of $0.60 per share which will be paid on June 13, 2014 to shareholders of record on June 2, 2014. We plan to continue to declare and pay quarterly cash dividends in 2014 depending on our financial position and the regularity of our cash flows.

Management believes that the current level of cash flow from operations provides us with sufficient liquidity to meet our operating needs over the next 12 months. We expect to be able to continue to meet our operating needs after the next 12 months from internally generated funds. Since our ability to meet our obligations in the long term (beyond such twelve-month period) is dependent upon such factors as market changes, insurance regulatory changes and economic conditions, no assurance can be given that the available net cash flow will be sufficient to meet our operating needs. We expect that we would need to borrow or issue capital stock if we needed additional funds, for example, to pay for an acquisition or a significant expansion of our operations. There can be no assurance that sufficient funds for any of the foregoing purposes would be available to us at such time.

Risk-Based Capital Requirements

The NAIC has adopted a formula and model law to implement risk-based capital requirements for most property and casualty insurance companies, which are designed to determine minimum capital requirements and to raise the level of protection that statutory surplus provides for policyholder obligations. Under Massachusetts law, insurers having less total adjusted capital than that required by the risk-based capital calculation will be subject to varying degrees of regulatory action, depending on the level of capital inadequacy. The risk-based capital law provides for four levels of regulatory action. The extent of regulatory intervention and action increases as the level of total adjusted capital to risk-based capital falls. As of December 31, 2013, the Insurance Subsidiaries had total adjusted capital of $627,993, which is in excess of amounts requiring company or regulatory action at any prescribed risk-based capital action level. Minimum statutory capital and surplus, or company action level risk-based capital, was $90,613 at December 31, 2013.

Off-Balance Sheet Arrangements

We have no material obligations under a guarantee contract meeting the characteristics identified in ASC 460, Guarantees. We have no material retained or contingent interests in assets transferred to an unconsolidated entity. We have no material obligations, including contingent obligations, under contracts that would be accounted for as derivative instruments. We have no obligations, including contingent obligations, arising out of a variable interest in an unconsolidated entity held by, and material to, us, where such entity provides financing, liquidity, market risk or credit risk support to, or engages in leasing, hedging or research and development services with us. We have no direct investments in real estate and no holdings of mortgages secured by commercial real estate. Accordingly, we have no material off-balance sheet arrangements.

Critical Accounting Policies and Estimates

Loss and Loss Adjustment Expense Reserves

Significant periods of time can elapse between the occurrence of an insured loss, the reporting to us of that loss and our final payment of that loss. To recognize liabilities for unpaid losses, we establish reserves as balance sheet liabilities. Our reserves represent estimates of amounts needed to pay reported and unreported losses and the expenses of investigating and paying those losses, or loss adjustment expenses. Every quarter, we review our previously established reserves and adjust them, if necessary.

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When a claim is reported, claims personnel establish a “case reserve” for the estimated amount of the ultimate payment. The amount of the reserve is primarily based upon an evaluation of the type of claim involved, the circumstances surrounding each claim and the policy provisions relating to the loss. The estimate reflects the informed judgment of such personnel based on general insurance reserving practices and on the experience and knowledge of the claims person. During the loss adjustment period, these estimates are revised as deemed necessary by our claims department based on subsequent developments and periodic reviews of the cases. When a claim is closed with or without a payment, the difference between the case reserve and the settlement amount creates a reserve deficiency if the payment exceeds the case reserve or a reserve redundancy if the payment is less than the case reserve.

In accordance with industry practice, we also maintain reserves for estimated losses incurred but not yet reported (“IBNR”). IBNR reserves are determined in accordance with commonly accepted actuarial reserving techniques on the basis of our historical information and experience. We review and make adjustments to incurred but not yet reported reserves quarterly. In addition, IBNR reserves can also be expressed as the total loss reserves required less the case reserves on reported claims.

When reviewing reserves, we analyze historical data and estimate the impact of various loss development factors, such as our historical loss experience and that of the industry, trends in claims frequency and severity, our mix of business, our claims processing procedures, legislative enactments, judicial decisions, legal developments in imposition of damages, and changes and trends in general economic conditions, including the effects of inflation. A change in any of these factors from the assumption implicit in our estimate can cause our actual loss experience to be better or worse than our reserves, and the difference can be material. There is no precise method, however, for evaluating the impact of any specific factor on the adequacy of reserves, because the eventual development of reserves is affected by many factors.

Management determines our loss and LAE reserves estimate based upon the analysis of our actuaries. A reasonable estimate is derived by selecting a point estimate within a range of indications as calculated by our actuaries using generally accepted actuarial techniques. The key assumption in most actuarial analysis is that past patterns of frequency and severity will repeat in the future, unless a significant change in the factors described above takes place. Our key factors and resulting assumptions are the ultimate frequency and severity of claims, based upon the most recent ten years of claims reported to the Company, and the data CAR reports to us to calculate our share of the residual market, as of the date of the applicable balance sheet. For each accident year and each coverage within a line of business our actuaries calculate the ultimate losses incurred. Our total reserves are the difference between the ultimate losses incurred and the cumulative loss and loss adjustment payments made to date. Our IBNR reserves are calculated as the difference between our total reserves and the outstanding case reserves at the end of the accounting period. To determine ultimate losses, our actuaries calculate a range of indications and select a point estimation using such actuarial techniques as:

· Paid Loss Indications: This method projects ultimate loss estimates based upon extrapolations of historic paid loss trends. This method tends to be used on short tail lines such as automobile physical damage.

· Incurred Loss Indications: This method projects ultimate loss estimates based upon extrapolations of historic incurred loss trends. This method tends to be used on long tail lines of business such as automobile liability and homeowner’s liability.

· Bornhuetter-Ferguson Indications: This method projects ultimate loss estimates based upon extrapolations of an expected amount of IBNR, which is added to current incurred losses or paid losses. This method tends to be used on small, immature, or volatile lines of business, such as our BOP and umbrella lines of business.

· Bodily Injury Code Indications: This method projects ultimate loss estimates for our private passenger and commercial automobile bodily injury coverage based upon extrapolations of the historic number of accidents and the historic number of bodily injury claims per accident. Projected ultimate bodily injury claims are then segregated into expected claims by type of injury (e.g. soft tissue injury vs. hard tissue injury) based on past experience. An ultimate severity, or average paid loss amounts, is estimated based upon extrapolating historic trends. Projected ultimate loss estimates using this method are the aggregate of estimated losses by injury type.

Such techniques assume that past experience, adjusted for the effects of current developments and anticipated trends, is an appropriate basis for predicting our ultimate losses, total reserves, and resulting IBNR reserves. It is possible that the final outcome may fall above or below these amounts as a result of a number of factors, including immature data, sparse data, or significant growth in a line of business. Using these methodologies our actuaries established a range of reasonably possible estimations for net reserves of approximately $366,656 to $407,956 as of March 31, 2014. In general, the low and high values of the ranges represent reasonable minimum and maximum values of the indications based on the techniques described above. Our selected point estimate of net loss and LAE reserves based upon the analysis of our actuaries was $400,412 as of March 31, 2014.

The following table presents the point estimation of the recorded reserves and the range of estimations by line of business for net loss and LAE reserves as of March 31, 2014.

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Line of Business	Low		Recorded		High
Private passenger automobile	$	212,458	$	226,640	$	229,956
Commercial automobile	51,359		56,701		58,039
Homeowners	62,838		68,134		69,246
All other	40,001		48,937		50,715
Total	$	366,656	$	400,412	$	407,956

The following table presents our total net reserves and the corresponding case reserves and IBNR reserves for each line of business as of March 31, 2014.

Line of Business	Case		IBNR			Total
Private passenger automobile	$	236,862	$	(11,469	)	$	225,393
CAR assumed private passenger auto	411		836			1,247
Commercial automobile	36,789		6,421			43,210
CAR assumed commercial automobile	6,434		7,057			13,491
Homeowners	44,027		15,465			59,492
FAIR Plan assumed homeowners	3,124		5,518			8,642
All other	19,264		29,673			48,937
Total net reserves for losses and LAE	$	346,911	$	53,501		$	400,412

At March 31, 2014, our total IBNR reserves for our private passenger automobile line of business was comprised of $(32,541) related to estimated ultimate decreases in the case reserves, including anticipated recoveries (i.e. salvage and subrogation), and $21,070 related to our estimation for not yet reported losses.

Our IBNR reserves consist of our estimate of the total loss reserves required less our case reserves. The IBNR reserves for CAR assumed commercial automobile business are 52.3% of our total reserves for CAR assumed commercial automobile business as of March 31, 2014 due to the reporting delays in the information we receive from CAR, as described further in the section on Residual Market Loss and Loss Adjustment Expense Reserves. Our IBNR reserves for FAIR Plan assumed homeowners are 63.9% of our total reserves for FAIR Plan assumed homeowners at March 31, 2014 due to similar reporting delays in the information we receive from FAIR Plan.

The following table presents information by line of business for our total net reserves and the corresponding retained (i.e. direct less ceded) reserves and assumed reserves as of March 31, 2014.

Line of Business	Retained		Assumed		Net
Private passenger automobile	$	225,393
CAR assumed private passenger automobile			$	1,247
Net private passenger automobile					$	226,640
Commercial automobile	43,210
CAR assumed commercial automobile			13,491
Net commercial automobile					56,701
Homeowners	59,492
FAIR Plan assumed homeowners			8,642
Net homeowners					68,134
All other	48,937		—		48,937
Total net reserves for losses and LAE	$	377,032	$	23,380	$	400,412

Residual Market Loss and Loss Adjustment Expense Reserves

We are a participant in CAR, the FAIR Plan and other various residual markets and assume a portion of losses and LAE on business ceded by the industry participants to the residual markets. We estimate reserves for assumed losses and LAE that have not

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yet been reported to us by the residual markets. Our estimations are based upon the same factors we use for our own reserves, plus additional factors due to the nature of and the information we receive.

Residual market deficits, consists of premium ceded to the various residual markets less losses and LAE, and is allocated among insurance companies based on a various formulas (the “Participation Ratio”) that takes into consideration a company’s voluntary market share.

Because of the lag in the various residual market estimations, and in order to try to validate to the extent possible the information provided, we must try to estimate the effects of the actions of our competitors in order to establish our Participation Ratio.

Although we rely to a significant extent in setting our reserves on the information the various residual markets provide, we are cautious in our use of that information, both because of the delays in receiving data from the various residual markets. As a result, we are cautious in recording residual market reserves for the calendar years for which we have to estimate our Participation Ratio and these reserves are subject to significant judgments and estimates.

Sensitivity Analysis

Establishment of appropriate reserves is an inherently uncertain process. There can be no certainty that currently established reserves based on our key assumptions regarding frequency and severity in our lines of business, or our assumptions regarding our share of the CAR loss will prove adequate in light of subsequent actual experience. To the extent that reserves are inadequate and are strengthened, the amount of such increase is treated as a charge to earnings in the period that the deficiency is recognized. To the extent that reserves are redundant and are released, the amount of the release is a credit to earnings in the period the redundancy is recognized. For the three months ended March 31, 2014, a 1 percentage-point change in the loss and LAE ratio would result in a change in reserves of $1760. Each 1 percentage-point change in the loss and loss expense ratio would have had a $1,144 impact on net income, or $0.07 per diluted share.

Our assumptions consider that past experience, adjusted for the effects of current developments and anticipated trends, are an appropriate basis for establishing our reserves. Our individual key assumptions could each have a reasonable possible range of plus or minus 5 percentage-points for each estimation, although there is no guarantee that our assumptions will not have more than a 5 percentage point variation. The following sensitivity tables present information for each of our primary lines of business on the effect each 1 percentage-point change in each of our key assumptions on unpaid frequency and severity could have on our retained (i.e., direct minus ceded) loss and LAE reserves and net income for the three months ended March 31, 2014. In evaluating the information in the table, it should be noted that a 1 percentage-point change in a single assumption would change estimated reserves by 1 percentage-point. A 1 percentage-point change in both our key assumptions would change estimated reserves within a range of plus or minus 2 percentage-points.

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	-1 Percent			No			+1 Percent
	Change in			Change in			Change in
	Frequency			Frequency			Frequency
Private passenger automobile retained loss and LAE reserves
-1 Percent Change in Severity
Estimated decrease in reserves	$	(4,508	)	$	(2,254	)	$	—
Estimated increase in net income	2,930			1,465			—
No Change in Severity
Estimated (decrease) increase in reserves	(2,254		)	—			2,254
Estimated increase (decrease) in net income	1,465			—			(1,465		)
+1 Percent Change in Severity
Estimated increase in reserves	—			2,254			4,508
Estimated decrease in net income	—			(1,465		)	(2,930		)

Commercial automobile retained loss and LAE reserves
-1 Percent Change in Severity
Estimated decrease in reserves	(864		)	(432		)	—
Estimated increase in net income	562			281			—
No Change in Severity
Estimated (decrease) increase in reserves	(432		)	—			432
Estimated increase (decrease) in net income	281			—			(281		)
+1 Percent Change in Severity
Estimated increase in reserves	—			432			864
Estimated decrease in net income	—			(281		)	(562		)

Homeowners retained loss and LAE reserves
-1 Percent Change in Severity
Estimated decrease in reserves	(1,190		)	(595		)	—
Estimated increase in net income	774			387			—
No Change in Severity
Estimated (decrease) increase in reserves	(595		)	—			595
Estimated increase (decrease) in net income	387			—			(387		)
+1 Percent Change in Severity
Estimated increase in reserves	—			595			1,190
Estimated decrease in net income	—			(387		)	(774		)

All other retained loss and LAE reserves
-1 Percent Change in Severity
Estimated decrease in reserves	(979		)	(489		)	—
Estimated increase in net income	636			318			—
No Change in Severity
Estimated (decrease) increase in reserves	(489		)	—			489
Estimated increase (decrease) in net income	318			—			(318		)
+1 Percent Change in Severity
Estimated increase in reserves	—			489			979
Estimated decrease in net income	—			(318		)	(636		)

Our estimated share of CAR loss and LAE reserves is based on assumptions about our Participation Ratio, the size of CAR, and the resulting deficit (similar assumptions apply with respect to the FAIR Plan). Our assumptions consider that past experience, adjusted for the effects of current developments and anticipated trends, is an appropriate basis for establishing our CAR reserves. Each of our assumptions could have a reasonably possible range of plus or minus 5 percentage-points for each estimation.

The following sensitivity table presents information of the effect each 1 percentage-point change in our assumptions on our share of reserves for CAR and other residual markets could have on our assumed loss and LAE reserves and net income for the three months ended March 31, 2014. In evaluating the information in the table, it should be noted that a 1 percentage-point change in our assumptions would change estimated reserves by 1 percentage-point.

	-1 Percent			+1 Percent
	Change in			Change in
	Estimation			Estimation
CAR assumed private passenger automobile
Estimated (decrease) increase in reserves	$	(12	)	$	12
Estimated increase (decrease) in net income	8			(8		)
CAR assumed commercial automobile
Estimated (decrease) increase in reserves	(135		)	135
Estimated increase (decrease) in net income	88			(88		)
FAIR Plan assumed homeowners
Estimated (decrease) increase in reserves	(86		)	86
Estimated increase (decrease) in net income	56			(56		)

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Reserve Development Summary

The changes we have recorded in our reserves in the past illustrate the uncertainty of estimating reserves. Our prior year reserves decreased by $10,979, and $7,400 during the three months ended March 31, 2014 and 2013, respectively.

The following table presents a comparison of prior year development of our net reserves for losses and LAE for the three months ended March 31, 2014 and 2013. Each accident year represents all claims for an annual accounting period in which loss events occurred, regardless of when the losses are actually reported, booked or paid. Our financial statements reflect the aggregate results of the current and all prior accident years.

	Three Months Ended March 31,
Accident Year	2014			2013
2004 & prior	$	(470	)	$	(49	)
2005	50			(231		)
2006	(426		)	(289		)
2007	(674		)	(757		)
2008	(837		)	(945		)
2009	(1,283		)	(1,697		)
2010	(1,876		)	(1,226		)
2011	(3,116		)	(1,794		)
2012	(2,482		)	(412		)
2013	135			—
All prior years	$	(10,979	)	$	(7,400	)

The decreases in prior years reserves during the three months ended March 31, 2014 and 2013 resulted from re-estimations of prior year ultimate loss and LAE liabilities. The 2014 decrease is primarily composed of reductions of $5,961 in our retained private passenger automobile reserves and reductions of $4,055 in our retained homeowners reserves. The 2013 decrease is primarily composed of reductions of $4,335 in our retained private passenger automobile reserves.

The following table presents information by line of business for prior year development of our net reserves for losses and LAE for the three months ended March 31, 2014.

	Private Passenger			Commercial
Accident Year	Automobile			Automobile			Homeowners			All Other			Total
2004 & prior	$	(463	)	$	(1	)	$	13		$	(19	)	$	(470	)
2005	(13		)	(1		)	—			64			50
2006	(125		)	(246		)	—			(55		)	(426		)
2007	(428		)	(3		)	(11		)	(232		)	(674		)
2008	(624		)	(8		)	(236		)	31			(837		)
2009	(511		)	5			(180		)	(597		)	(1,283		)
2010	(1,311		)	(10		)	(503		)	(52		)	(1,876		)
2011	(1,203		)	(34		)	(1,427		)	(452		)	(3,116		)
2012	(1,061		)	9			(1,371		)	(59		)	(2,482		)
2013	97			501			(340		)	(123		)	135
All prior years	$	(5,642	)	$	212		$	(4,055	)	$	(1,494	)	$	(10,979	)

To further clarify the effects of changes in our reserve estimates for CAR and other residual markets, the next two tables break out the information in the table above by source of the business (i.e., non-residual market vs. residual market).

The following table presents information by line of business for prior year development of retained reserves for losses and LAE for the three months ended March 31, 2014; that is, all our reserves except for business ceded or assumed from CAR and other residual markets.

	Retained			Retained
	Private Passenger			Commercial			Retained			Retained
Accident Year	Automobile			Automobile			Homeowners			All Other			Total
2004 & prior	$	(606	)	$	(1	)	$	13		$	(19	)	$	(613	)
2005	(13		)	(1		)	—			64			50
2006	(125		)	(246		)	—			(55		)	(426		)
2007	(475		)	(3		)	(11		)	(232		)	(721		)
2008	(700		)	(6		)	(236		)	31			(911		)
2009	(553		)	(12		)	(180		)	(597		)	(1,342		)
2010	(1,322		)	(26		)	(503		)	(52		)	(1,903		)
2011	(1,203		)	(61		)	(1,427		)	(452		)	(3,143		)
2012	(1,061		)	(113		)	(1,371		)	(59		)	(2,604		)
2013	97			68			(340		)	(123		)	(298		)
All prior years	$	(5,961	)	$	(401	)	$	(4,055	)	$	(1,494	)	$	(11,911	)

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The following table presents information by line of business for prior year development of reserves assumed from residual markets for losses and LAE for the three months ended March 31, 2014.

	CAR Assumed		CAR Assumed
	Private Passenger		Commercial			FAIR Plan
Accident Year	Automobile		Automobile			Homeowners		Total
2004 & prior	$	143	$	—		$	—	$	143
2005	—		—			—		—
2006	—		—			—		—
2007	47		—			—		47
2008	76		(2		)	—		74
2009	42		17			—		59
2010	11		16			—		27
2011	—		27			—		27
2012	—		122			—		122
2013	—		433			—		433
All prior years	$	319	$	613		$	—	$	932

Our retained private passenger automobile line of business prior year reserves decreased by $5,961 for the three months ended March 31, 2014. The decrease was primarily due to improved retained private passenger results of $3,586 for the accident years 2010 through 2012. The improved retained private passenger results were primarily due to fewer IBNR claims than previously estimated and better than previously estimated severity on our established bodily injury and property damage case reserves.

Our retained homeowners line of business prior year reserves decreased by $4,055 for the three months ended March 31, 2014. The decrease was primarily due to improved retained homeowners results of $2,798 for the accident years 2012 and 2011.

In estimating all our loss reserves, including CAR, we follow the guidance prescribed by Accounting Standards Codification (“ASC”) 944, Financial Services-Insurance.

For further information, see “Results of Operations: Losses and Loss Adjustment Expenses.”

Other-Than-Temporary Impairments.

We use a systematic methodology to evaluate declines in fair values below cost or amortized cost of our investments. This methodology ensures that we evaluate available evidence concerning any declines in a disciplined manner.

In our determination of whether a decline in fair value below amortized cost is an OTTI, we consider and evaluate several factors and circumstances including the issuer’s overall financial condition, the issuer’s credit and financial strength ratings, a weakening of the general market conditions in the industry or geographic region in which the issuer operates, a prolonged period (typically six months or longer) in which the fair value of an issuer’s securities remains below our amortized cost, and any other factors that may raise doubt about the issuer’s ability to continue as a going concern.

ASC 320, Investments — Debt and Equity Securities requires entities to separate an OTTI of a debt security into two components when there are credit related losses associated with the impaired debt security for which the Company asserts that it does not have the intent to sell the security, and it is more likely than not that it will not be required to sell the security before recovery of its cost basis. Under ASC 320, the amount of the OTTI related to a credit loss is recognized in earnings, and the amount of the OTTI related to other factors is recorded as a component of other comprehensive income (loss). In instances where no credit loss exists but it is more likely than not that the Company will have to sell the debt security prior to the anticipated recovery, the decline in market value below amortized cost is recognized as an OTTI in earnings. In periods after the recognition of an OTTI on debt securities, the Company accounts for such securities as if they had been purchased on the measurement date of the OTTI at an amortized cost basis equal to the previous amortized cost basis less the OTTI recognized in earnings. For debt securities for which OTTI was recognized in earnings, the difference between the new amortized cost basis and the cash flows expected to be collected will be accreted or amortized into net investment income.

For further information, see “Results of Operations: Net Realized Gains on Investments.”

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Forward-Looking Statements

Forward-looking statements might include one or more of the following, among others:

· Projections of revenues, income, earnings per share, capital expenditures, dividends, capital structure or other financial items;

· Descriptions of plans or objectives of management for future operations, products or services;

· Forecasts of future economic performance, liquidity, need for funding and income;

· Descriptions of assumptions underlying or relating to any of the foregoing; and

· Future performance of credit markets.

Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They often include words such as “believe,” “expect,” “anticipate,” “intend,” “plan,” “estimate,” “aim,” “projects,” or words of similar meaning and expressions that indicate future events and trends, or future or conditional verbs such as “will,” “would,” “should,” “could,” or “may.” All statements that address expectations or projections about the future, including statements about the Company’s strategy for growth, product development, market position, expenditures and financial results, are forward-looking statements.

Forward-looking statements are not guarantees of future performance. By their nature, forward-looking statements are subject to risks and uncertainties. There are a number of factors, many of which are beyond our control, that could cause actual future conditions, events, results or trends to differ significantly and/or materially from historical results or those projected in the forward-looking statements. These factors include but are not limited to the competitive nature of our industry and the possible adverse effects of such competition. Although a number of national insurers that are much larger than we are do not currently compete in a material way in the Massachusetts private passenger automobile market, if one or more of these companies decided to aggressively enter the market it could have a material adverse effect on us. Other significant factors include conditions for business operations and restrictive regulations in Massachusetts, the possibility of losses due to claims resulting from severe weather, the possibility that the Commissioner may approve future Rule changes that change the operation of the residual market, the possibility that existing insurance-related laws and regulations will become further restrictive in the future, our possible need for and availability of additional financing, and our dependence on strategic relationships, among others, and other risks and factors identified from time to time in our reports filed with the SEC. Refer to Part I, Item 1A — Risk Factors of our Annual Report on Form 10-K for the year ended December 31, 2013.

Some other factors, such as market, operational, liquidity, interest rate, equity and other risks, are described elsewhere in this Quarterly Report on Form 10-Q. Factors relating to the regulation and supervision of our Company are also described or incorporated in this report. There are other factors besides those described or incorporated in this report that could cause actual conditions, events or results to differ from those in the forward-looking statements.

Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date on which they are made. We do not undertake any obligation to update publicly or revise any forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made.

Item 3. Quantitative and Qualitative Information about Market Risk (Dollars in thousands)

Market Risk. Market risk is the risk that we will incur losses due to adverse changes in market rates and prices. We have exposure to market risk through our investment activities and our financing activities. Our primary market risk exposure is to changes in interest rates. We use both fixed and variable rate debt as sources of financing. We have not entered, and do not plan to enter, into any derivative financial instruments for trading or speculative purposes.

Interest Rate Risk. Interest rate risk is the risk that we will incur economic losses due to adverse changes in interest rates. Our exposure to interest rate changes primarily results from our significant holdings of fixed rate investments and from our financing activities. Our fixed maturity investments include U.S. and foreign government bonds, securities issued by government agencies, obligations of state and local governments and governmental authorities, corporate bonds and asset-backed securities, most of which are exposed to changes in prevailing interest rates.

We manage our exposure to risks associated with interest rate fluctuations through active review of our investment portfolio by our management and Board and consultation with third-party financial advisors. As a general matter, we do not attempt to match the durations of our assets with the durations of our liabilities, and the majority of our liabilities are “short tail.” Our goal is to maximize the total after-tax return on all of our investments. An important strategy that we employ to achieve this goal is to try to hold enough in cash and short-term investments in order to avoid liquidating longer-term investments to pay claims.

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Based upon the results of interest rate sensitivity analysis, the following table shows the interest rate risk of our investments in fixed maturities, measured in terms of fair value (which is equal to the carrying value for all our fixed maturity securities).

	-100 Basis				+100 Basis
	Point Change		No Change		Point Change
As of March 31, 2014
Estimated fair value	$	1,164,849	$	1,125,506	$	1,082,217
Estimated increase (decrease) in fair value	$	39,343	$	—	$	(43,289	)

With respect to floating rate debt, we are exposed to the effects of changes in prevailing interest rates. At March 31, 2014, we had no debt outstanding under our credit facility. Assuming the full utilization of our current available credit facility, a 2.0% increase in the prevailing interest rate on our variable rate debt would result in interest expense increasing approximately $600 for 2014, assuming that all of such debt is outstanding for the entire year.

In addition, in the current market environment, our investments can also contain liquidity risks.

Equity Risk. Equity risk is the risk that we will incur economic losses due to adverse changes in equity prices. Our exposure to changes in equity prices results from our holdings of common stock and mutual funds held to fund the executive deferred compensation plan. We continuously evaluate market conditions and we expect in the future to purchase additional equity securities. We principally manage equity price risk through industry and issuer diversification and asset allocation techniques.

Item 4. Controls and Procedures

Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

Under the supervision and with the participation of our management, including our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), we evaluated the effectiveness of the design and operation of our disclosure controls and procedures [as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”)] as of the end of the period covered by this report. Based on that evaluation, our CEO and CFO have concluded that our disclosure controls and procedures are adequate and effective and ensure that all information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and that information required to be disclosed in such reports is accumulated and communicated to management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosures.

Changes in Internal Control over Financial Reporting

There have been no changes in our internal control over financial reporting that occurred during our last fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Part II. OTHER INFORMATION

Item 1. Legal Proceedings - Please see “Item 1 — Financial Statements - Note 7, Commitments and Contingencies.”

Item 1A. Risk Factors

There have been no subsequent material changes from the risk factors previously disclosed in the Company’s 2013 Annual Report on Form 10-K.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds (Dollars in thousands)

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Item 3. Defaults upon Senior Securities - None.

Item 4. Mine Safety Disclosures — None.

Item 5. Other Information - None.

Item 6. Exhibits - The exhibits are contained herein as listed in the Exhibit Index.

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SIGNATURE

Pursuant to the requirements 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.

	SAFETY INSURANCE GROUP, INC. (Registrant)

Date: May 12, 2014

	By:	/s/ WILLIAM J. BEGLEY, JR.
		William J. Begley, Jr.
		Vice President, Chief Financial Officer and Secretary

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SAFETY INSURANCE GROUP, INC.

EXHIBIT INDEX

Exhibit Number		Description

11.0		Statement re: Computation of Per Share Earnings(1)

31.1		CEO Certification Pursuant to Rule 13a-14(a)/15d-14(a), as Adopted Pursuant to Section 302 of the Sarbanes Oxley Act
		of 2002(2)

31.2		CFO Certification Pursuant to Rule 13a-14(a)/15d-14(a), as Adopted Pursuant to Section 302 of the Sarbanes Oxley Act of 2002(2)

32.1		CEO Certification Pursuant to U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes Oxley Act of 2002(2)

32.2		CFO Certification Pursuant to U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes Oxley Act of 2002(2)

101.INS		XBRL Instance Document(2)

101.SCH		XBRL Taxonomy Extension Schema(2)

101.CAL		XBRL Taxonomy Extension Calculation Linkbase(2)

101.DEF		XBRL Taxonomy Extension Definition Linkbase(2)

101.LAB		XBRL Taxonomy Extension Label Linkbase(2)

101.PRE		XBRL Taxonomy Extension Presentation Linkbase(2)

(1) Not included herein as the information is included as part of this Form 10-Q, Item 1 - Financial Statements, Note 3, Earnings per Weighted Average Common Share.

(2) Included herein.