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SELECTIVE INSURANCE GROUP INC - Quarter Report: 2016 June (Form 10-Q)

Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
 
FORM 10-Q
(Mark One)
 
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended: June 30, 2016
or
 
¨ 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: 001-33067
 
SELECTIVE INSURANCE GROUP, INC.
(Exact Name of Registrant as Specified in Its Charter)
 
New Jersey
 
22-2168890
(State or Other Jurisdiction of Incorporation or Organization)
 
(I.R.S. Employer Identification No.)
 
 
 
40 Wantage Avenue
 
 
Branchville, New Jersey
 
07890
(Address of Principal Executive Offices)
 
(Zip Code)
 
(973) 948-3000
(Registrant’s Telephone Number, Including Area Code)
 
(Former Name, Former Address and Former Fiscal Year, 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.
Yesx           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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yesx           No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer x
 
Accelerated filer o
Non-accelerated filer o
 
Smaller reporting company o
(Do not check if a smaller reporting company)
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).                                                              Yeso          Nox
As of July 15, 2016, there were 57,812,467 shares of common stock, par value $2.00 per share, outstanding. 


Table of Contents

 
SELECTIVE INSURANCE GROUP, INC.
 
 
Table of Contents
 
 
 
Page No.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Federal Income Taxes
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


Table of Contents

PART I. FINANCIAL INFORMATION
 
ITEM 1. FINANCIAL STATEMENTS.
 
SELECTIVE INSURANCE GROUP, INC.
CONSOLIDATED BALANCE SHEETS
 
Unaudited
 
 
($ in thousands, except share amounts)
 
June 30,
2016
 
December 31,
2015
ASSETS
 
 

 
 

Investments:
 
 

 
 

Fixed income securities, held-to-maturity – at carrying value (fair value:  $167,061 – 2016; $209,544 – 2015)
 
$
160,297

 
201,354

Fixed income securities, available-for-sale – at fair value (amortized cost: $4,506,580 – 2016; $4,352,514 – 2015)
 
4,671,786

 
4,408,203

Equity securities, available-for-sale – at fair value (cost:  $126,881 – 2016; $193,816 – 2015)
 
152,938

 
207,051

Short-term investments (at cost which approximates fair value)
 
205,451

 
194,819

Other investments
 
76,051

 
77,842

Total investments (Note 4)
 
5,266,523


5,089,269

Cash
 
1,530

 
898

Interest and dividends due or accrued
 
39,941

 
38,501

Premiums receivable, net of allowance for uncollectible accounts of:  $4,624 – 2016; $4,422 – 2015
 
706,555

 
615,164

Reinsurance recoverables, net of allowance for uncollectible accounts of: $6,100 – 2016; $5,700 – 2015
 
592,423

 
561,968

Prepaid reinsurance premiums
 
145,520

 
140,889

Deferred federal income tax
 
47,696

 
92,696

Property and equipment – at cost, net of accumulated depreciation and amortization of:
$193,997 – 2016; $188,548 – 2015
 
68,573

 
65,701

Deferred policy acquisition costs
 
228,554

 
213,159

Goodwill
 
7,849

 
7,849

Other assets
 
84,477

 
78,339

Total assets
 
$
7,189,641

 
6,904,433

 
 
 
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 

 
 

Liabilities:
 
 

 
 

Reserve for loss and loss expenses
 
$
3,590,169

 
3,517,728

Unearned premiums
 
1,263,450

 
1,169,710

Short-term debt
 
60,000

 
60,000

Long-term debt
 
328,433

 
328,192

Current federal income tax
 
8,670

 
7,442

Accrued salaries and benefits
 
118,733

 
167,336

Other liabilities
 
267,449

 
255,984

Total liabilities
 
$
5,636,904

 
5,506,392

 
 
 
 
 
Stockholders’ Equity:
 
 

 
 

Preferred stock of $0 par value per share:
 
$

 

Authorized shares 5,000,000; no shares issued or outstanding
 
 
 
 
Common stock of $2 par value per share:
 
 
 
 
Authorized shares 360,000,000
 
 
 
 
Issued: 101,451,214 – 2016; 100,861,372 – 2015
 
202,903

 
201,723

Additional paid-in capital
 
340,109

 
326,656

Retained earnings
 
1,509,242

 
1,446,192

Accumulated other comprehensive income (loss) (Note 10)
 
72,007

 
(9,425
)
Treasury stock – at cost
(shares:  43,638,649 – 2016; 43,500,642 – 2015)
 
(571,524
)
 
(567,105
)
Total stockholders’ equity
 
$
1,552,737

 
1,398,041

Commitments and contingencies
 


 


Total liabilities and stockholders’ equity
 
$
7,189,641

 
6,904,433


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

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Table of Contents

SELECTIVE INSURANCE GROUP, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF INCOME
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands, except per share amounts)
 
2016
 
2015
 
2016
 
2015
Revenues:
 
 

 
 

 
 
 
 
Net premiums earned
 
$
531,932

 
490,309

 
1,054,390

 
966,432

Net investment income earned
 
31,182

 
32,230

 
61,951

 
59,147

Net realized gains (losses):
 
 

 
 

 
 
 
 
Net realized investment gains
 
2,314

 
1,031

 
3,203

 
22,008

Other-than-temporary impairments
 
(559
)
 
(4,451
)
 
(4,152
)
 
(6,545
)
Other-than-temporary impairments on fixed income securities recognized in other comprehensive income
 
10

 

 
10

 

Total net realized gains (losses)
 
1,765

 
(3,420
)
 
(939
)
 
15,463

Other income
 
3,868

 
2,854

 
4,819

 
4,823

Total revenues
 
568,747

 
521,973

 
1,120,221

 
1,045,865

 
 
 
 
 
 
 
 
 
Expenses:
 
 

 
 

 
 
 
 
Loss and loss expense incurred
 
298,479

 
291,561

 
595,623

 
576,560

Policy acquisition costs
 
190,731

 
169,770

 
373,958

 
334,493

Interest expense
 
5,620

 
5,612

 
11,226

 
11,216

Other expenses
 
11,606

 
8,265

 
25,228

 
20,541

Total expenses
 
506,436

 
475,208

 
1,006,035

 
942,810

 
 
 
 
 
 
 
 
 
Income before federal income tax
 
62,311

 
46,765

 
114,186

 
103,055

 
 
 
 
 
 
 
 
 
Federal income tax expense:
 
 

 
 

 
 
 
 
Current
 
18,318

 
7,733

 
32,402

 
19,987

Deferred
 
392

 
5,264

 
1,151

 
9,592

Total federal income tax expense
 
18,710

 
12,997

 
33,553

 
29,579

 
 
 
 
 
 
 
 
 
Net income
 
$
43,601

 
33,768

 
80,633

 
73,476

 
 
 
 
 
 
 
 
 
Earnings per share:
 
 

 
 

 
 
 
 
Basic net income
 
$
0.75

 
0.59

 
1.40

 
1.29

 
 
 
 
 
 
 
 
 
Diluted net income
 
$
0.74

 
0.58

 
1.38

 
1.27

 
 
 
 
 
 
 
 
 
Dividends to stockholders
 
$
0.15

 
0.14

 
0.30

 
0.28

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


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SELECTIVE INSURANCE GROUP, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
 
2016
 
2015
Net income
 
$
43,601

 
33,768

 
80,633

 
73,476

 
 
 
 
 
 
 
 
 
Other comprehensive income (loss), net of tax:
 
 

 
 

 
 
 
 
Unrealized gains on investment securities:
 
 

 
 

 
 
 
 
Unrealized holding gains (losses) arising during period
 
36,188

 
(39,160
)
 
78,917

 
(23,574
)
Non-credit portion of other-than-temporary impairments recognized in other comprehensive income
 
(6
)
 

 
(6
)
 

  Amounts reclassified into net income:
 
 
 
 
 
 
 
 
Held-to-maturity securities
 
(12
)
 
(120
)
 
(59
)
 
(290
)
Non-credit other-than-temporary impairments
 

 

 

 
232

Realized (gains) losses on available-for-sale securities
 
(1,145
)
 
2,225

 
609

 
(10,707
)
Total unrealized gains (losses) on investment securities
 
35,025

 
(37,055
)
 
79,461

 
(34,339
)
 
 
 
 
 
 
 
 
 
Defined benefit pension and post-retirement plans:
 
 

 
 

 
 
 
 
Amounts reclassified into net income:
 
 
 
 
 
 
 
 
Net actuarial loss
 
985

 
1,111

 
1,971

 
2,222

  Total defined benefit pension and post-retirement plans
 
985

 
1,111

 
1,971

 
2,222

Other comprehensive income (loss)
 
36,010

 
(35,944
)
 
81,432

 
(32,117
)
Comprehensive income (loss)
 
$
79,611

 
(2,176
)
 
162,065

 
41,359

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


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SELECTIVE INSURANCE GROUP, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
Common stock:
 
 

 
 

Beginning of year
 
$
201,723

 
199,896

Dividend reinvestment plan (shares:  20,808 – 2016; 26,843 – 2015)
 
42

 
54

Stock purchase and compensation plans (shares:  569,034 – 2016; 611,076 – 2015)
 
1,138

 
1,222

End of period
 
202,903

 
201,172

 
 
 
 
 
Additional paid-in capital:
 
 

 
 

Beginning of year
 
326,656

 
305,385

Dividend reinvestment plan
 
696

 
677

Stock purchase and compensation plans
 
12,757

 
11,233

End of period
 
340,109

 
317,295

 
 
 
 
 
Retained earnings:
 
 

 
 

Beginning of year
 
1,446,192

 
1,313,440

Net income
 
80,633

 
73,476

Dividends to stockholders ($0.30 per share – 2016; $0.28 per share – 2015)
 
(17,583
)
 
(16,235
)
End of period
 
1,509,242

 
1,370,681

 
 
 
 
 
Accumulated other comprehensive income (loss):
 
 

 
 

Beginning of year
 
(9,425
)
 
19,788

Other comprehensive income (loss)
 
81,432

 
(32,117
)
End of period
 
72,007

 
(12,329
)
 
 
 
 
 
Treasury stock:
 
 

 
 

Beginning of year
 
(567,105
)
 
(562,923
)
Acquisition of treasury stock (shares: 138,007 – 2016; 129,352 – 2015)
 
(4,419
)
 
(3,583
)
End of period
 
(571,524
)
 
(566,506
)
Total stockholders’ equity
 
$
1,552,737

 
1,310,313

 
Selective Insurance Group, Inc. also has authorized, but not issued, 5,000,000 shares of preferred stock, without par value, of which 300,000 shares have been
designated Series A junior preferred stock, without par value.
  
The accompanying notes are an integral part of these unaudited interim consolidated financial statements.
 


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SELECTIVE INSURANCE GROUP, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOW
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
Operating Activities
 
 

 
 

Net income
 
$
80,633

 
73,476

 
 
 
 
 
Adjustments to reconcile net income to net cash provided by operating activities:
 
 

 
 

Depreciation and amortization
 
30,155

 
29,085

Stock-based compensation expense
 
7,203

 
6,049

Undistributed losses of equity method investments
 
1,677

 
2,117

Net realized losses (gains)
 
939

 
(15,463
)
 
 
 
 
 
Changes in assets and liabilities:
 
 

 
 

Increase in reserve for loss and loss expenses, net of reinsurance recoverables
 
41,986

 
66,609

Increase in unearned premiums, net of prepaid reinsurance
 
89,109

 
83,789

Decrease in net federal income taxes
 
2,380

 
19,232

Increase in premiums receivable
 
(91,391
)
 
(88,813
)
Increase in deferred policy acquisition costs
 
(15,395
)
 
(17,616
)
(Increase) decrease in interest and dividends due or accrued
 
(1,030
)
 
395

Decrease in accrued salaries and benefits
 
(48,603
)
 
(18,171
)
Increase in other assets
 
(3,877
)
 
(743
)
(Decrease) increase in other liabilities
 
(34,659
)
 
25,651

Net adjustments
 
(21,506
)
 
92,121

Net cash provided by operating activities
 
59,127

 
165,597

 
 
 
 
 
Investing Activities
 
 

 
 

Purchase of fixed income securities, available-for-sale
 
(411,538
)
 
(463,758
)
Purchase of fixed income securities, held-to-maturity
 
(4,235
)
 

Purchase of equity securities, available-for-sale
 
(16,796
)
 
(177,386
)
Purchase of other investments
 
(17,734
)
 
(2,947
)
Purchase of short-term investments
 
(691,496
)
 
(732,278
)
Sale of fixed income securities, available-for-sale
 
22,114

 
22,323

Sale of short-term investments
 
680,865

 
695,901

Redemption and maturities of fixed income securities, held-to-maturity
 
44,615

 
68,704

Redemption and maturities of fixed income securities, available-for-sale
 
264,244

 
254,995

Sale of equity securities, available-for-sale
 
83,793

 
135,548

Distributions from other investments
 
13,380

 
17,840

Purchase of property and equipment
 
(8,187
)
 
(7,591
)
Net cash used in investing activities
 
(40,975
)
 
(188,649
)
 
 
 
 
 
Financing Activities
 
 

 
 

Dividends to stockholders
 
(16,569
)
 
(15,211
)
Acquisition of treasury stock
 
(4,419
)
 
(3,583
)
Net proceeds from stock purchase and compensation plans
 
4,368

 
4,037

Proceeds from borrowings
 
55,000

 
15,000

Repayments of borrowings
 
(55,000
)
 

Excess tax benefits from share-based payment arrangements
 
1,761

 
1,549

Repayments of capital lease obligations
 
(2,661
)
 
(2,331
)
Net cash used in financing activities
 
(17,520
)
 
(539
)
Net increase (decrease) in cash
 
632

 
(23,591
)
Cash, beginning of year
 
898

 
23,959

Cash, end of period
 
$
1,530

 
368

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

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NOTES TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1. Basis of Presentation
As used herein, the "Company,” “we,” “us,” or “our” refers to Selective Insurance Group, Inc. (the "Parent"), and its subsidiaries, except as expressly indicated or unless the context otherwise requires. Our interim unaudited consolidated financial statements (“Financial Statements”) have been prepared by us in conformity with U.S. generally accepted accounting principles (“GAAP”) and the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”) regarding interim financial reporting. The preparation of the Financial Statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported financial statement balances, as well as the disclosure of contingent assets and liabilities. Actual results could differ from those estimates. All significant intercompany accounts and transactions between the Parent and its subsidiaries are eliminated in consolidation.

Certain amounts in our prior years' Financial Statements and related notes have been reclassified to conform to the 2016 presentation. Such reclassifications had no effect on our net income, stockholders' equity, or cash flows.

Our Financial Statements reflect all adjustments that, in our opinion, are normal, recurring, and necessary for a fair presentation of our results of operations and financial condition. Our Financial Statements cover the second quarters ended June 30, 2016 (“Second Quarter 2016”) and June 30, 2015 (“Second Quarter 2015”) and the six-month periods ended June 30, 2016 ("Six Months 2016") and June 30, 2015 ("Six Months 2015"). The Financial Statements do not include all of the information and disclosures required by GAAP and the SEC for audited annual financial statements. Results of operations for any interim period are not necessarily indicative of results for a full year. Consequently, our Financial Statements should be read in conjunction with the consolidated financial statements contained in our Annual Report on Form 10-K for the year ended December 31, 2015 (“2015 Annual Report”) filed with the SEC.

NOTE 2. Accounting Pronouncements 
In June 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-12, Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period (“ASU 2014-12”). ASU 2014-12 requires that performance targets that affect vesting and could be achieved after the requisite service period be treated as performance conditions. The adoption of ASU 2014-12 in the first quarter of 2016 did not affect us, as we record expense consistent with the requirements of this accounting update.

In February 2015, the FASB issued ASU 2015-02, Amendments to the Consolidation Analysis (“ASU 2015-02”). ASU 2015-02 affects the following areas: (i) limited partnerships and similar legal entities; (ii) the evaluation of fees paid to a decision maker or a service provider as a variable interest; (iii) the effect of fee arrangements on the primary beneficiary determination; (iv) the effect of related parties on the primary beneficiary determination; and (v) certain investment funds. We adopted this guidance in the first quarter of 2016. Under the new guidance, our limited partnership and tax credit investments are variable interest entities ("VIEs"); however, we are not the primary beneficiary of any of these investments. As such, the adoption had no impact on our financial condition or results of operations. The required disclosures related to our VIEs are included in Note 4. “Investments” below.

In April 2015, the FASB issued ASU 2015-05, Customer's Accounting for Fees Paid in a Cloud Computing Arrangement (“ASU 2015-05”). ASU 2015-05 provides guidance to customers with cloud computing arrangements that include a software license. If a cloud computing arrangement includes a software license, the customer's accounting for the software license element of the arrangement is consistent with the acquisition of other software licenses. If a cloud computing arrangement does not include a software license, the customer accounts for the arrangement as a service contract. We adopted this guidance in the first quarter of 2016, with prospective application. The impact of this adoption did not have a material effect on our financial condition or results of operations.

In May 2015, the FASB issued ASU 2015-07, Disclosures for Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent) (“ASU 2015-07”). ASU 2015-07 provides that investments for which the practical expedient is used to measure fair value at net asset value per share ("NAV") must be removed from the fair value hierarchy. Instead, those investments must be included as a reconciling line item so that the total fair value amount of investments in the disclosure is consistent with the amount on the balance sheet. ASU 2015-07 also includes disclosure requirements for investments for which the NAV practical expedient was used to determine fair value. The adoption of this guidance in the first quarter of 2016 did not impact our financial condition or results of operations.


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Pronouncements to be effective in the future
In August 2014, the FASB issued ASU 2014-15, Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern (“ASU 2014-15”). ASU 2014-15 is intended to define management’s responsibility to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern and provide related footnote disclosures. ASU 2014-15 is effective for annual periods ending after December 15, 2016, and interim periods within annual periods beginning after December 15, 2016. Early application is permitted. As the requirements of this literature are disclosure only, ASU 2014-15 will not impact our financial condition or results of operations.

In May 2015, the FASB issued ASU 2015-09, Disclosures about Short-Duration Contracts (“ASU 2015-09”). ASU 2015-09 requires companies that issue short duration contracts to disclose additional information, including: (i) incurred and paid claims development tables; (ii) frequency and severity of claims; and (iii) information about material changes in judgments made in calculating the liability for unpaid claim adjustment expenses, including reasons for the change and the effects on the financial statements. ASU 2015-09 is effective for annual periods beginning after December 15, 2015, and interim periods within annual periods beginning after December 15, 2016. ASU 2015-09 is to be applied retrospectively by providing comparative disclosures for each period presented, except for those requirements that apply only to the current period. As the requirements of this literature are disclosure only, the application of this guidance will not impact our financial condition or results of operations.

In January 2016, the FASB issued ASU 2016-01 Financial Instruments - Overall (Sub-topic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities (“ASU 2016-01”). ASU 2016-01 provides guidance to improve certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. Specifically the guidance: (i) requires equity investments to be measured at fair value with changes in fair value recognized in earnings; (ii) simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment; (iii) eliminates the requirement to disclose the methods and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost; (iv) requires the use of the exit price notion when measuring the fair value of financial instruments for disclosure purposes; and (v) clarifies that the need for a valuation allowance on a deferred tax asset related to an available-for-sale ("AFS") security should be evaluated with other deferred tax assets.

ASU 2016-01 is effective for annual periods beginning after December 15, 2017, including interim periods within those annual periods. Early application to financial statements of annual or interim periods that have not yet been issued are permitted as of the beginning of the year of adoption, otherwise early adoption of ASU 2016-01 is not permitted. We are currently evaluating the impact of this guidance on our financial condition and results of operations.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842) (“ASU 2016-02”). ASU 2016-02 requires all lessees to recognize a lease liability and a right-of-use asset, measured at the present value of the future minimum lease payments, at the lease commencement date. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim reporting periods within that fiscal year, with early adoption permitted. ASU 2016-02 requires the application of a modified retrospective approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. While we are currently evaluating ASU 2016-02, we do not expect a material impact on our financial condition or results of operations from the adoption of this guidance.

In March 2016, the FASB issued ASU 2016-09, Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-based Payment Accounting (“ASU 2016-09”). ASU 2016-09 simplifies several aspects of the accounting for share-based payment transactions including: (i) income tax consequences; (ii) classification of awards as either equity or liabilities; (iii) forfeitures assumptions; and (iv) cash flow classification. ASU 2016-09 is effective for annual periods beginning after December 15, 2016, and interim periods within those annual periods. Early adoption is permitted. While we are currently evaluating ASU 2016-09, we do not expect a material impact on our financial condition or results of operations.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses (“ASU 2016-13”).  ASU 2016-13 will change the way entities recognize impairment of financial assets by requiring immediate recognition of estimated credit losses expected to occur over the remaining life of many financial assets, including, among others, held-to-maturity debt securities, trade receivables, and reinsurance receivables. ASU 2016-13 requires a valuation allowance to be calculated on these financial assets and that they be presented on the financial statements net of the valuation allowance. The valuation allowance is a measurement of expected losses that is based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount.  This methodology is referred to as the current expected credit loss model. ASU 2016-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those annual periods. Early adoption is permitted, but no earlier than fiscal years

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beginning after December 15, 2018. We are currently evaluating the impact of this guidance on our financial condition and results of operations.

NOTE 3. Statements of Cash Flow
Supplemental cash flow information is as follows:
 
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
Cash paid during the period for:
 
 

 
 

Interest
 
$
10,986

 
10,947

Federal income tax
 
29,000

 
8,500

 
 
 
 
 
Non-cash items:
 
 
 
 
Exchange of fixed income securities, AFS
 
17,702

 
17,120

Corporate actions related to equity securities, AFS1
 
3,032

 
884

Assets acquired under capital lease arrangements
 
2,999

 
3,478

Non-cash purchase of property and equipment
 
577

 

1Examples of such corporate actions include non-cash acquisitions and stock splits.

Included in "Other assets" on the Consolidated Balance Sheet was $8.9 million at June 30, 2016 and $5.2 million at June 30, 2015 of cash received from the National Flood Insurance Program ("NFIP"), which is restricted to pay flood claims under the Write Your Own ("WYO") program. 

NOTE 4. Investments
(a) Information regarding our held-to-maturity ("HTM") fixed income securities as of June 30, 2016 and December 31, 2015 was as follows:
June 30, 2016
 
 
 
 
 
 
 
 
 
 
 
 
($ in thousands)
 
Amortized
Cost
 
Net
 Unrealized Gains
 (Losses)
 
Carrying
Value
 
Unrecognized
 Holding
Gains
 
Unrecognized Holding
 Losses
 
Fair
Value
Obligations of states and political subdivisions
 
$
131,480

 
533

 
132,013

 
4,260

 

 
136,273

Corporate securities
 
23,995

 
(175
)
 
23,820

 
2,286

 

 
26,106

Asset-backed securities (“ABS”)
 
126

 

 
126

 

 

 
126

Commercial mortgage-backed securities (“CMBS”)
 
4,489

 
(151
)
 
4,338

 
218

 

 
4,556

Total HTM fixed income securities
 
$
160,090

 
207

 
160,297

 
6,764

 

 
167,061

December 31, 2015
 
 
 
 
 
 
 
 
 
 
 
 
($ in thousands)
 
Amortized
Cost
 
Net
 Unrealized Gains
 (Losses)
 
Carrying
Value
 
Unrecognized
 Holding
Gains
 
Unrecognized Holding
 Losses
 
Fair
Value
Obligations of states and political subdivisions
 
$
175,269

 
848

 
176,117

 
5,763

 

 
181,880

Corporate securities
 
20,228

 
(185
)
 
20,043

 
1,972

 

 
22,015

ABS
 
1,030

 
(120
)
 
910

 
118

 

 
1,028

CMBS
 
4,527

 
(243
)
 
4,284

 
337

 

 
4,621

Total HTM fixed income securities
 
$
201,054

 
300

 
201,354

 
8,190

 

 
209,544

 
Unrecognized holding gains and losses of HTM securities are not reflected in the Financial Statements, as they represent fair value fluctuations from the later of: (i) the date a security is designated as HTM; or (ii) the date that an other-than-temporary impairment (“OTTI”) charge is recognized on an HTM security, through the date of the balance sheet. Our HTM securities had an average duration of 1.8 years as of June 30, 2016.



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Table of Contents

(b) Information regarding our AFS securities as of June 30, 2016 and December 31, 2015 was as follows:
June 30, 2016
 
 
 
 
 
 
 
 
($ in thousands)
 
Cost/
Amortized
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair
Value
AFS fixed income securities:
 
 
 
 
 
 
 
 
U.S. government and government agencies
 
$
91,933

 
4,237

 

 
96,170

Foreign government
 
8,635

 
424

 

 
9,059

Obligations of states and political subdivisions
 
1,379,548

 
82,604

 

 
1,462,152

Corporate securities
 
1,977,838

 
62,233

 
(1,963
)
 
2,038,108

ABS
 
257,182

 
1,656

 
(127
)
 
258,711

CMBS
 
249,603

 
6,484

 
(51
)
 
256,036

Residential mortgage-backed
securities (“RMBS”)
 
541,841

 
10,027

 
(318
)
 
551,550

Total AFS fixed income securities
 
4,506,580

 
167,665

 
(2,459
)
 
4,671,786

AFS equity securities:
 
 
 
 
 
 
 
 
Common stock
 
114,099

 
26,343

 
(1,023
)
 
139,419

Preferred stock
 
12,782

 
737

 

 
13,519

Total AFS equity securities
 
126,881

 
27,080

 
(1,023
)
 
152,938

Total AFS securities
 
$
4,633,461

 
194,745

 
(3,482
)
 
4,824,724

 
 
December 31, 2015
 
 
 
 
 
 
 
 
($ in thousands)
 
Cost/
Amortized
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair
Value
AFS fixed income securities:
 
 
 
 
 
 
 
 
U.S. government and government agencies
 
$
99,485

 
4,721

 
(91
)
 
104,115

Foreign government
 
14,885

 
298

 
(2
)
 
15,181

Obligations of states and political subdivisions
 
1,314,779

 
44,523

 
(160
)
 
1,359,142

Corporate securities
 
1,892,296

 
23,407

 
(15,521
)
 
1,900,182

ABS
 
244,541

 
531

 
(918
)
 
244,154

CMBS
 
245,252

 
750

 
(2,410
)
 
243,592

RMBS
 
541,276

 
4,274

 
(3,713
)
 
541,837

Total AFS fixed income securities
 
4,352,514

 
78,504

 
(22,815
)
 
4,408,203

AFS equity securities:
 
 
 
 
 
 
 
 
Common stock
 
181,991

 
14,796

 
(1,998
)
 
194,789

Preferred stock
 
11,825

 
477

 
(40
)
 
12,262

Total AFS equity securities
 
193,816

 
15,273

 
(2,038
)
 
207,051

Total AFS securities
 
$
4,546,330

 
93,777

 
(24,853
)
 
4,615,254


Unrealized gains and losses of AFS securities represent fair value fluctuations from the later of: (i) the date a security is designated as AFS; or (ii) the date that an OTTI charge is recognized on an AFS security, through the date of the balance sheet. These unrealized gains and losses are recorded in Accumulated other comprehensive income (loss) ("AOCI") on the Consolidated Balance Sheets.


  

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Table of Contents

(c) The following tables provide information regarding our AFS securities in a net unrealized/unrecognized loss position at June 30, 2016 and December 31, 2015:
June 30, 2016
 
Less than 12 months
 
12 months or longer
($ in thousands)
 
Fair Value
 
Unrealized
Losses1
 
Fair Value
 
Unrealized
Losses1
AFS fixed income securities:
 
 

 
 

 
 

 
 

Corporate securities
 
$
96,244

 
(822
)
 
33,616

 
(1,141
)
ABS
 
46,992

 
(117
)
 
4,665

 
(10
)
CMBS
 
6,348

 
(4
)
 
10,451

 
(47
)
RMBS
 
6,835

 
(19
)
 
50,134

 
(299
)
Total AFS fixed income securities
 
156,419

 
(962
)
 
98,866

 
(1,497
)
AFS equity securities:
 
 
 
 
 
 
 
 
Common stock
 
16,428

 
(1,023
)
 

 

Total AFS equity securities
 
16,428

 
(1,023
)
 

 

Total AFS
 
$
172,847

 
(1,985
)
 
98,866

 
(1,497
)

December 31, 2015
 
Less than 12 months
 
12 months or longer
($ in thousands)
 
Fair
Value
 
Unrealized
Losses1
 
Fair Value
 
Unrealized
Losses1
AFS fixed income securities:
 
 

 
 

 
 

 
 

U.S. government and government agencies
 
$
16,006

 
(87
)
 
396

 
(4
)
Foreign government
 
1,067

 
(2
)
 

 

Obligations of states and political subdivisions
 
28,617

 
(160
)
 

 

Corporate securities
 
761,479

 
(12,671
)
 
50,382

 
(2,850
)
ABS
 
197,477

 
(807
)
 
12,022

 
(111
)
CMBS
 
146,944

 
(2,196
)
 
15,385

 
(214
)
RMBS
 
264,914

 
(1,992
)
 
63,395

 
(1,721
)
Total AFS fixed income securities
 
1,416,504

 
(17,915
)
 
141,580

 
(4,900
)
AFS equity securities:
 
 
 
 
 
 
 
 
Common stock
 
31,148

 
(1,998
)
 

 

Preferred stock
 
1,531

 
(40
)
 

 

Total AFS equity securities
 
32,679

 
(2,038
)
 

 

Total AFS
 
$
1,449,183

 
(19,953
)
 
141,580

 
(4,900
)
  1 Gross unrealized losses include non-OTTI unrealized amounts and OTTI losses recognized in AOCI.  In addition, this column includes remaining unrealized gain or loss amounts on securities that were transferred to an HTM designation in the first quarter of 2009 for those securities that are in a net unrealized/unrecognized loss position.

There were no net unrealized/unrecognized losses on our HTM portfolio as of June 30, 2016. The table below provides our net unrealized/unrecognized loss positions by impairment severity for AFS securities as of June 30, 2016 and for both AFS and HTM securities as of December 31, 2015:
($ in thousands)
 
 
June 30, 2016
 
December 31, 2015
Number of
Issues
% of Market/Book
Unrealized/
Unrecognized Loss
 
Number of
Issues
% of Market/Book
Unrealized/
Unrecognized Loss
156

80% - 99%
$
3,482

 
606

80% - 99%
$
22,971


60% - 79%

 
3

60% - 79%
1,888


40% - 59%

 

40% - 59%


20% - 39%

 

20% - 39%


0% - 19%

 

0% - 19%

 

 
$
3,482

 
 

 
$
24,859

 

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Table of Contents

We do not intend to sell any of the securities in the tables above, nor do we believe we will be required to sell any of these securities. We have also reviewed these securities under our OTTI policy, as described in Note 2. “Summary of Significant Accounting Policies” within Item 8. “Financial Statements and Supplementary Data.” of our 2015 Annual Report, and have concluded that they are temporarily impaired. This conclusion reflects our current judgment as to the financial position and future prospects of the entity that issued the investment security and underlying collateral. If our judgment about an individual security changes in the future, we may ultimately record a credit loss after having originally concluded that one did not exist, which could have a material impact on our net income and financial position in future periods.
 
(d) Fixed income securities at June 30, 2016, by contractual maturity, are shown below. Mortgage-backed securities ("MBS") are included in the maturity tables using the estimated average life of each security. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations, with or without call or prepayment penalties.
 
Listed below are the contractual maturities of HTM fixed income securities at June 30, 2016:
($ in thousands)
 
Carrying Value
 
Fair Value
Due in one year or less
 
$
84,415

 
85,514

Due after one year through five years
 
65,616

 
69,914

Due after five years through 10 years
 
10,266

 
11,633

Total HTM fixed income securities
 
$
160,297

 
167,061

 
Listed below are the contractual maturities of AFS fixed income securities at June 30, 2016:
($ in thousands)
 
Fair Value
Due in one year or less
 
$
482,867

Due after one year through five years
 
2,425,517

Due after five years through 10 years
 
1,647,615

Due after 10 years
 
115,787

Total AFS fixed income securities
 
$
4,671,786

  
(e) We evaluate the alternative investments and the tax credit investments that are included in our other investments portfolio to determine whether those investments are VIEs and if so, whether consolidation is required. A VIE is an entity that either has equity investors that lack certain essential characteristics of a controlling financial interest or lacks sufficient funds to finance its own activities without financial support provided by other entities. We consider several significant factors in determining if our investments are VIEs and if we are the primary beneficiary including whether we have: (i) the power to direct activities of the VIE; (ii) the ability to remove the decision maker of the VIE; (iii) the ability to participate in making decisions that are significant to the VIE; and (iv) the obligation to absorb losses and the right to receive benefits that could potentially be significant to the VIE. We have determined that the investments in our other investment portfolio are VIEs, but that we are not the primary beneficiary and therefore, consolidation is not required.

The following table summarizes our other investment portfolio by strategy:
Other Investments
 
June 30, 2016
 
December 31, 2015
($ in thousands)
 
Carrying Value
 
Remaining Commitment
 
Maximum Exposure to Loss1
 
Carrying Value
 
Remaining Commitment
 
Maximum Exposure to Loss1
Alternative Investments
 
 

 
 

 
 
 
 
 
 
 
 
   Private equity
 
$
28,439

 
34,117

 
62,556

 
35,088

 
30,204

 
65,292

   Private credit
 
23,336

 
23,243

 
46,579

 
13,246

 
15,129

 
28,375

   Real assets
 
14,132

 
30,273

 
44,405

 
19,500

 
25,820

 
45,320

Total alternative investments
 
65,907

 
87,633

 
153,540

 
67,834

 
71,153

 
138,987

Other securities
 
10,144

 
6,850

 
16,994

 
10,008

 
3,200

 
13,208

Total other investments
 
$
76,051

 
94,483

 
170,534

 
77,842

 
74,353

 
152,195

1The maximum exposure to loss includes both the carry value of these investments and the related unfunded commitments. In addition, tax credits that have been previously recognized from our investment in Other securities are subject to the risk of recapture, which we do not consider significant. 


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Table of Contents

We do not have a future obligation to fund losses or debts on behalf of the investments above; however, we are contractually committed to make additional investments up to the remaining commitment outlined above. We have not provided any non-contractual financial support at any time during 2016 or 2015.

In addition to the strategy descriptions included in Note 5. “Investments” in Item 8. “Financial Statements and Supplementary Data.” of our 2015 Annual Report, our private credit strategy now includes middle market lending, which is a strategy that provides privately negotiated loans to U.S. middle market companies.  Typically, these are floating rate, senior secured loans diversified across industries.  Loans can be made to private equity sponsor-backed companies or non-sponsored companies to finance leveraged buyouts, recapitalizations, and acquisitions.
 
The following table sets forth gross summarized financial information for our other investments portfolio, including the portion not owned by us. The majority of these investments are carried under the equity method of accounting. The last line of the table below reflects our share of the aggregate loss, which is the portion included in our Financial Statements. As the majority of these investments report results to us on a one quarter lag, the summarized financial statement information for the three and six-month periods ended March 31 is as follows:
Income Statement Information
 
Quarter ended March 31,
 
Six months ended March 31,
($ in millions)
 
2016

2015
 
2016
 
2015
Net investment (loss) income
 
$
(4.6
)

8.5

 
$
37.0

 
95.6

Realized gains
 
193.2


279.4

 
981.1

 
592.5

Net change in unrealized depreciation
 
(253.9
)

(223.4
)
 
(1,236.5
)
 
(866.9
)
Net (loss) gain
 
$
(65.3
)

64.5

 
$
(218.4
)
 
(178.8
)
Selective’s insurance subsidiaries’ other investments loss
 
$
(0.6
)

1.4

 
$
(1.7
)
 
(2.1
)
 
(f) We have pledged certain AFS fixed income securities as collateral related to our: (i) relationships with the Federal Home Loan Bank of Indianapolis ("FHLBI") and the Federal Home Loan Bank of New York ("FHLBNY"); and (ii) reinsurance obligations related to our 2011 acquisition of our excess and surplus lines ("E&S") book of business. In addition, certain securities were on deposit with various state and regulatory agencies at June 30, 2016 to comply with insurance laws. We retain all rights regarding all securities pledged as collateral.

The following table summarizes the market value of these securities at June 30, 2016:
($ in millions)
 
FHLBI Collateral
 
FHLBNY Collateral
 
Reinsurance Collateral
 
State and Regulatory Deposits
 
Total
U.S. government and government agencies
 
$
7.5

 

 

 
23.5

 
31.0

Obligations of states and political subdivisions
 

 

 
5.0

 

 
5.0

Corporate securities
 

 

 
4.8

 

 
4.8

CMBS
 
1.1

 

 

 

 
1.1

RMBS
 
55.0

 
29.9

 
1.6

 

 
86.5

Total pledged as collateral
 
$
63.6

 
29.9

 
11.4


23.5


128.4

 
(g) The Company did not have exposure to any credit concentration risk of a single issuer greater than 10% of the Company's stockholders' equity, other than certain U.S. government agencies, as of June 30, 2016 or December 31, 2015.

(h) The components of pre-tax net investment income earned for the periods indicated were as follows:
 
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
 
2016
 
2015
Fixed income securities
 
$
31,753


30,659

 
$
63,397

 
61,626

Equity securities
 
2,204


2,384

 
4,434

 
4,176

Short-term investments
 
142


23

 
301

 
48

Other investments
 
(611
)

1,422

 
(1,677
)
 
(2,118
)
Investment expenses
 
(2,306
)

(2,258
)
 
(4,504
)
 
(4,585
)
Net investment income earned
 
$
31,182

 
32,230

 
$
61,951

 
59,147



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Table of Contents

(i) The following tables summarize OTTI by asset type for the periods indicated:
Second Quarter 2016
 
Gross 
 
Included in Other Comprehensive Income ("OCI")
 
Recognized in
Earnings
($ in thousands) 
 
 
 
AFS fixed income securities:
 
 
 
 
 
 
Corporate securities
 
$
104

 

 
104

RMBS
 
98

 
10

 
88

Total AFS fixed income securities
 
202

 
10

 
192

AFS equity securities:
 
 
 
 
 
 
Common stock
 
357

 

 
357

Total AFS equity securities
 
357

 

 
357

Total OTTI losses
 
$
559

 
10

 
549


Second Quarter 2015
 
Gross 
 
Included in OCI
 
Recognized in
Earnings
($ in thousands) 
 
 
 
AFS fixed income securities:
 
 
 
 
 
 
   Corporate securities
 
$
183

 

 
183

Total AFS fixed income securities
 
183

 

 
183

AFS equity securities:
 
 
 
 
 
 
Common stock
 
4,088

 

 
4,088

Preferred stock
 
180

 

 
180

Total AFS equity securities
 
4,268

 

 
4,268

Total OTTI losses
 
$
4,451

 

 
4,451


Six Months 2016
 
Gross 
 
Included in OCI
 
Recognized in
Earnings
($ in thousands) 
 
 
 
AFS fixed income securities:
 
 
 
 
 
 
Corporate securities
 
$
1,077

 

 
1,077

RMBS
 
98

 
10

 
88

Total AFS fixed income securities
 
1,175

 
10

 
1,165

AFS equity securities:
 
 
 
 
 
 
Common stock
 
2,974

 

 
2,974

Preferred stock
 
3

 

 
3

Total AFS equity securities
 
2,977

 

 
2,977

Total OTTI losses
 
$
4,152

 
10

 
4,142


Six Months 2015
 
Gross 
 
Included in OCI
 
Recognized in
Earnings
($ in thousands) 
 
 
 
AFS fixed income securities:
 
 
 
 
 
 
   Corporate securities
 
$
1,192

 

 
1,192

   RMBS
 
1

 

 
1

Total AFS fixed income securities
 
1,193

 

 
1,193

AFS equity securities:
 
 
 
 
 
 
Common stock
 
5,172

 

 
5,172

Preferred stock
 
180

 

 
180

Total AFS equity securities
 
5,352

 

 
5,352

Total OTTI losses
 
$
6,545

 

 
6,545


For a discussion of our evaluation for OTTI of fixed income securities, short-term investments, equity securities, and other investments, refer to Note 2. "Summary of Significant Accounting Policies" in Item 8. "Financial Statements and Supplementary Data." of our 2015 Annual Report.


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Table of Contents

(j) The components of net realized gains, excluding OTTI charges, for the periods indicated were as follows:
 
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
 
2016
 
2015
HTM fixed income securities
 
 
 
 
 
 
 
 
Gains
 
$
3

 
2

 
3

 
2

Losses
 

 

 
(1
)
 
(1
)
AFS fixed income securities
 
 

 
 

 


 


Gains
 
365

 
487

 
985

 
1,989

Losses
 
(5
)
 
(18
)
 
(41
)
 
(130
)
AFS equity securities
 
 

 
 

 


 


Gains
 
2,171

 
830

 
2,501

 
22,148

Losses
 
(220
)
 
(270
)
 
(240
)
 
(1,346
)
Other investments
 
 
 
 
 
 
 
 
      Losses
 



 
(4
)
 
(654
)
Total net realized gains (excluding OTTI charges)
 
$
2,314


1,031

 
3,203

 
22,008

 
Realized gains and losses on the sale of investments are determined on the basis of the cost of the specific investments sold. Proceeds from the sale of AFS securities were $88.7 million and $19.5 million in Second Quarter 2016 and Second Quarter 2015, respectively, and $105.9 million and $157.9 million in Six Months 2016 and Six Months 2015, respectively. The $22.0 million in net realized gains for Six Months 2015 were primarily due to a change in our dividend equity strategy from a quantitative, model-driven stock selection strategy to a fundamentally-based stock selection approach that incorporates an assessment of the sustainability and growth rate of a company’s dividends and future cash flow.

NOTE 5. Indebtedness
During Six Months 2016, Selective Insurance Company of America ("SICA") borrowed the following short-term funds from the FHLBNY:
$25 million on February 26, 2016 at an interest rate of 0.59%, which was repaid on March 18, 2016;
$15 million on April 7, 2016 at an interest rate of 0.52%, which was repaid on April 28, 2016; and
$15 million on April 28, 2016 at an interest rate of 0.53%, which was repaid on May 19, 2016.

Additionally, on July 21, 2016, SICA borrowed $25 million for general corporate purposes from FHLBNY at an interest rate of 1.61%. The principal amount is due in 2021.

For additional information on our indebtedness, see Note 10. "Indebtedness" in Item 8. "Financial Statements and Supplementary Data." of our 2015 Annual Report.


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Table of Contents

NOTE 6. Fair Value Measurements
The following table presents the carrying amounts and estimated fair values of our financial instruments as of June 30, 2016 and December 31, 2015:
 
 
June 30, 2016
 
December 31, 2015
($ in thousands)
 
Carrying Amount
 
Fair
Value
 
Carrying Amount
 
Fair
Value
Financial Assets
 
 

 
 

 
 

 
 

Fixed income securities:
 
 

 
 

 
 

 
 

HTM
 
$
160,297

 
167,061

 
201,354

 
209,544

AFS
 
4,671,786

 
4,671,786

 
4,408,203

 
4,408,203

Equity securities, AFS
 
152,938

 
152,938

 
207,051

 
207,051

Short-term investments
 
205,451

 
205,451

 
194,819

 
194,819

Financial Liabilities
 
 

 
 

 
 

 
 

Short-term debt:
 
 

 
 

 
 

 
 

0.63% borrowings from FHLBI
 
$
15,000

 
15,001

 
15,000

 
14,977

1.25% borrowings from FHLBI
 
45,000

 
45,113

 
45,000

 
45,083

Total short-term debt
 
$
60,000

 
60,114

 
60,000

 
60,060

 
 
 
 
 
 
 
 
 
Long-term debt:
 
 
 
 
 
 
 
 
7.25% Senior Notes
 
$
49,900

 
61,003

 
49,898

 
56,929

6.70% Senior Notes
 
99,422

 
118,792

 
99,415

 
110,363

5.875% Senior Notes
 
185,000

 
194,176

 
185,000

 
192,474

Subtotal long-term debt
 
334,322

 
373,971

 
334,313

 
359,766

Unamortized debt issuance costs
 
(5,889
)
 
 
 
(6,121
)
 
 
Total long-term debt
 
$
328,433

 
 
 
328,192

 
 
 
For a discussion of the fair value and hierarchy of the techniques used to value our financial assets and liabilities, refer to Note 2. "Summary of Significant Accounting Policies" in Item 8. "Financial Statements and Supplementary Data." of our 2015 Annual Report.

The following tables provide quantitative disclosures of our financial assets that were measured at fair value at June 30, 2016 and December 31, 2015:
June 30, 2016
 
 
 
Fair Value Measurements Using
($ in thousands)
 
Assets
Measured at
Fair Value
at 6/30/2016
 
Quoted Prices in
Active Markets for
Identical Assets/
Liabilities (Level 1)1
 
Significant Other
 Observable
Inputs
 (Level 2)1
 
Significant Unobservable
 Inputs
 (Level 3)
Description
 
 

 
 

 
 

 
 

Measured on a recurring basis:
 
 

 
 

 
 

 
 

AFS fixed income securities:
 
 
 
 
 
 
 
 
U.S. government and government agencies
 
$
96,170

 
38,628

 
57,542

 

Foreign government
 
9,059

 

 
9,059

 

Obligations of states and political subdivisions
 
1,462,152

 

 
1,462,152

 

Corporate securities
 
2,038,108

 

 
2,038,108

 

ABS
 
258,711

 

 
258,711

 

CMBS
 
256,036

 

 
256,036

 

RMBS
 
551,550

 

 
551,550

 

Total AFS fixed income securities
 
4,671,786

 
38,628

 
4,633,158

 

AFS equity securities:
 
 
 
 
 
 
 
 
Common stock
 
139,419

 
136,093

 

 
3,326

Preferred stock
 
13,519

 
13,519

 

 

Total AFS equity securities
 
152,938

 
149,612

 

 
3,326

Total AFS securities
 
4,824,724

 
188,240

 
4,633,158

 
3,326

Short-term investments
 
205,451

 
205,451

 

 

Total assets measured at fair value
 
$
5,030,175

 
393,691

 
4,633,158


3,326


15

Table of Contents

December 31, 2015
 
 
 
Fair Value Measurements Using
($ in thousands)
 
Assets
Measured at
Fair Value
at 12/31/2015
 
Quoted Prices in
 Active Markets for
Identical Assets/Liabilities
(Level 1)1
 
Significant
Other Observable
Inputs
 (Level 2)1
 
Significant Unobservable
Inputs
 (Level 3)
Description
 
 

 
 

 
 

 
 

Measured on a recurring basis:
 
 

 
 

 
 

 
 

AFS fixed income securities:
 
 
 
 
 
 
 
 
U.S. government and government agencies
 
$
104,115

 
42,702

 
61,413

 

Foreign government
 
15,181

 

 
15,181

 

Obligations of states and political subdivisions
 
1,359,142

 

 
1,359,142

 

Corporate securities
 
1,900,182

 

 
1,900,182

 

ABS
 
244,154

 

 
244,154

 

CMBS
 
243,592

 

 
243,592

 

RMBS
 
541,837

 

 
541,837

 

Total AFS fixed income securities
 
4,408,203

 
42,702

 
4,365,501

 

AFS equity securities:
 
 
 
 
 
 
 
 
Common stock
 
194,789

 
191,517

 

 
3,272

Preferred stock
 
12,262

 
12,262

 

 

Total AFS equity securities
 
207,051

 
203,779

 

 
3,272

Total AFS securities
 
4,615,254

 
246,481

 
4,365,501

 
3,272

Short-term investments
 
194,819

 
194,819

 

 

Total assets measured at fair value
 
$
4,810,073

 
441,300

 
4,365,501

 
3,272

1 
There were no transfers of securities between Level 1 and Level 2.

The following table provides a summary of the changes in the fair value of securities measured using Level 3 inputs and related
quantitative information for Six Months 2016:
June 30, 2016
Common Stock
($ in thousands)
Fair value, December 31, 2015
$
3,272

Total net (losses) gains for the period included in:
 
OCI

Net income

Purchases
1,854

Sales
(1,800
)
Issuances

Settlements

Transfers into Level 3

Transfers out of Level 3

Fair value, June 30, 2016
$
3,326



16

Table of Contents

The following tables provide quantitative information regarding our financial assets and liabilities that were disclosed at fair value at June 30, 2016 and December 31, 2015:
June 30, 2016
 
 
 
Fair Value Measurements Using
($ in thousands)
 
Assets/
Liabilities
Disclosed at
Fair Value at 6/30/2016
 
Quoted Prices in
 Active Markets for
 Identical Assets/
Liabilities
(Level 1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Financial Assets
 
 

 
 

 
 

 
 

HTM:
 
 

 
 

 
 

 
 

Obligations of states and political subdivisions
 
$
136,273

 

 
136,273

 

Corporate securities
 
26,106

 

 
18,541

 
7,565

ABS
 
126

 

 
126

 

CMBS
 
4,556

 

 
4,556

 

Total HTM fixed income securities
 
$
167,061

 

 
159,496

 
7,565

Financial Liabilities
 
 

 
 

 
 

 
 

Short-term debt:
 
 

 
 

 
 

 
 

0.63% borrowings from FHLBI
 
$
15,001

 

 
15,001

 

1.25% borrowings from FHLBI
 
45,113

 

 
45,113

 

Total short-term debt
 
$
60,114

 

 
60,114

 

 
 
 
 
 
 
 
 
 
Long-term debt:
 
 
 
 
 
 
 
 
7.25% Senior Notes
 
$
61,003

 

 
61,003

 

6.70% Senior Notes
 
118,792

 

 
118,792

 

5.875% Senior Notes
 
194,176

 
194,176

 

 

Total long-term debt
 
$
373,971

 
194,176

 
179,795

 


December 31, 2015
 
 
 
Fair Value Measurements Using
($ in thousands)
 
Assets/
Liabilities
Disclosed at
Fair Value at 12/31/2015
 
Quoted Prices in
 Active Markets for
 Identical Assets/
Liabilities
(Level 1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Financial Assets
 
 

 
 

 
 

 
 

HTM:
 
 

 
 

 
 

 
 
Obligations of states and political subdivisions
 
$
181,880

 

 
181,880

 

Corporate securities
 
22,015

 

 
18,679

 
3,336

ABS
 
1,028

 

 
1,028

 

CMBS
 
4,621

 

 
4,621

 

Total HTM fixed income securities
 
$
209,544

 

 
206,208

 
3,336

Financial Liabilities
 
 

 
 
 
 
 
 
Short-term debt:
 
 

 
 
 
 
 
 
0.63% borrowings from FHLBI
 
$
14,977

 

 
14,977

 

1.25% borrowings from FHLBI
 
45,083

 

 
45,083

 

Total short-term debt
 
$
60,060

 

 
60,060

 

 
 
 
 
 
 
 
 
 
Long-term debt:
 
 
 
 
 
 
 
 
7.25% Senior Notes
 
$
56,929

 

 
56,929

 

6.70% Senior Notes
 
110,363

 

 
110,363

 

5.875% Senior Notes
 
192,474

 
192,474

 

 

Total long-term debt
 
$
359,766

 
192,474

 
167,292

 


17

Table of Contents


NOTE 7. Reinsurance
The following table contains a listing of direct, assumed, and ceded reinsurance amounts for premiums written, premiums earned, and loss and loss expenses incurred for the periods indicated. For more information concerning reinsurance, refer to
Note 8. “Reinsurance” in Item 8. “Financial Statements and Supplementary Data.” of our 2015 Annual Report.
 
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
 
2016
 
2015
Premiums written:
 
 

 
 

 
 

 
 

Direct
 
$
665,862

 
621,408

 
$
1,312,140

 
1,220,191

Assumed
 
7,788

 
4,960

 
14,108

 
11,041

Ceded
 
(95,510
)
 
(94,235
)
 
(182,749
)
 
(181,011
)
Net
 
$
578,140

 
532,133

 
$
1,143,499

 
1,050,221

Premiums earned:
 
 

 
 

 
 

 
 

Direct
 
$
612,406

 
576,107

 
$
1,219,067

 
1,138,149

Assumed
 
7,171

 
5,093

 
13,441

 
11,001

Ceded
 
(87,645
)
 
(90,891
)
 
(178,118
)
 
(182,718
)
Net
 
$
531,932

 
490,309

 
$
1,054,390

 
966,432

Loss and loss expense incurred:
 
 

 
 

 
 

 
 

Direct
 
$
362,064

 
316,648

 
$
723,703

 
628,894

Assumed
 
6,140

 
4,228

 
12,495

 
8,890

Ceded
 
(69,725
)
 
(29,315
)
 
(140,575
)
 
(61,224
)
Net
 
$
298,479

 
291,561

 
$
595,623

 
576,560


Ceded premiums and losses related to our participation in the NFIP, under which 100% of our flood premiums, losses, and loss expenses are ceded to the NFIP, are as follows:
Ceded to NFIP
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
 
2016
 
2015
Ceded premiums written
 
$
(63,906
)
 
(62,479
)
 
$
(117,154
)
 
(116,321
)
Ceded premiums earned
 
(56,667
)
 
(58,781
)
 
(113,481
)
 
(117,779
)
Ceded loss and loss expense incurred
 
(24,261
)
 
(14,684
)
 
(64,979
)
 
(20,933
)

NOTE 8. Segment Information
We classify our business into four reportable segments, which are as follows:

Standard Commercial Lines - comprised of insurance products and services provided in the standard marketplace to
commercial enterprises, which are typically businesses, non-profit organizations, and local government agencies.

Standard Personal Lines - comprised of insurance products and services, including flood insurance coverage, provided primarily to individuals acquiring coverage in the standard marketplace.

E&S Lines - comprised of insurance products and services provided to customers who have not obtained coverage in
the standard marketplace.

Investments - invests the premiums collected by our insurance operations, as well as our earnings and amounts generated through our capital management strategies, which may include the issuance of debt and equity securities.

In computing the results of each segment, we do not make adjustments for interest expense or net general corporate expenses. While we do not fully allocate taxes to all segments, we do allocate taxes to our Investments segment as we manage that segment on after-tax results. We do not maintain separate investment portfolios for the segments and therefore, do not allocate assets to the segments.


18

Table of Contents

The following summaries present revenues (net investment income and net realized gains on investments in the case of the Investments segment) and pre-tax income for the individual segments:
Revenue by Segment
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
 
2016
 
2015
Standard Commercial Lines:
 
 

 
 

 
 
 
 
Net premiums earned:
 
 

 
 

 
 
 
 
Commercial automobile
 
$
98,896

 
88,658

 
194,315

 
175,013

Workers compensation
 
75,251

 
70,954

 
151,251

 
139,431

General liability
 
129,283

 
119,207

 
257,368

 
234,178

Commercial property
 
73,591

 
66,549

 
143,769

 
131,112

Businessowners’ policies
 
24,651

 
23,178

 
48,555

 
45,877

Bonds
 
5,665

 
5,106

 
11,129

 
10,106

Other
 
3,940

 
3,553

 
7,779

 
7,021

Miscellaneous income
 
3,567

 
2,563

 
4,257

 
4,232

Total Standard Commercial Lines revenue
 
414,844

 
379,768

 
818,423

 
746,970

Standard Personal Lines:
 
 
 
 
 
 
 
 
Net premiums earned:
 
 
 
 
 
 
 
 
Personal automobile
 
35,881

 
36,740

 
71,661

 
73,750

Homeowners
 
33,411

 
33,731

 
66,311

 
67,452

Other
 
1,532

 
1,600

 
3,057

 
3,348

Miscellaneous income
 
301

 
291

 
561

 
591

Total Standard Personal Lines revenue
 
71,125

 
72,362

 
141,590

 
145,141

E&S Lines:
 
 
 
 
 
 
 
 
Net premiums earned:
 
 
 
 
 
 
 
 
General liability
 
35,452

 
28,793

 
70,974

 
55,519

Commercial property
 
11,716

 
10,464

 
23,160

 
20,119

Commercial automobile
 
2,663

 
1,776

 
5,061

 
3,506

Miscellaneous income
 

 

 
1

 

Total E&S Lines revenue
 
49,831

 
41,033

 
99,196

 
79,144

Investments:
 
 

 
 

 
 

 
 

Net investment income
 
31,182

 
32,230

 
61,951

 
59,147

Net realized investment gains (losses)
 
1,765

 
(3,420
)
 
(939
)
 
15,463

Total Investments revenue
 
32,947

 
28,810

 
61,012

 
74,610

Total revenues
 
$
568,747

 
521,973

 
1,120,221

 
1,045,865

Income Before Federal Income Tax
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
 
2016
 
2015
Standard Commercial Lines:
 
 

 
 

 
 
 
 
Underwriting gain
 
$
40,173

 
35,241

 
71,105

 
65,277

GAAP combined ratio
 
90.2
%
 
90.7

 
91.3

 
91.2

Statutory combined ratio
 
88.6

 
90.1

 
89.1

 
89.9

 
 
 
 


 


 


Standard Personal Lines:
 
 
 
 
 
 
 
 
Underwriting gain (loss)
 
$
6,125

 
(4,655
)
 
14,730

 
(7,121
)
GAAP combined ratio
 
91.4
%
 
106.5

 
89.6

 
104.9

Statutory combined ratio
 
89.9

 
105.4

 
90.1

 
105.2

 
 
 
 
 
 
 
 
 
E&S Insurance Operations:
 
 
 
 
 
 
 
 
Underwriting loss
 
$
(2,521
)
 
(1,462
)
 
(1,103
)
 
(3,011
)
GAAP combined ratio
 
105.1
%
 
103.6

 
101.1

 
103.8

Statutory combined ratio
 
102.7

 
102.7

 
100.6

 
102.5

 
 
 
 
 
 
 
 
 
Investments:
 
 

 
 

 
 
 
 
Net investment income
 
$
31,182

 
32,230

 
61,951

 
59,147

Net realized investment gains (losses)
 
1,765

 
(3,420
)
 
(939
)
 
15,463

Total investment income, before federal income tax
 
32,947

 
28,810

 
61,012

 
74,610

Tax on investment income
 
8,275

 
6,254

 
14,538

 
18,572

      Total investment income, after federal income tax

$
24,672


22,556

 
46,474

 
56,038


19

Table of Contents

Reconciliation of Segment Results to Income
Before Federal Income Tax
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
 
2016
 
2015
Underwriting gain (loss), before federal income tax
 
 
 
 
 
 
 
 
Standard Commercial Lines
 
$
40,173

 
35,241

 
71,105

 
65,277

Standard Personal Lines
 
6,125

 
(4,655
)
 
14,730

 
(7,121
)
E&S Lines
 
(2,521
)
 
(1,462
)
 
(1,103
)
 
(3,011
)
Investment income, before federal income tax
 
32,947

 
28,810

 
61,012

 
74,610

Total all segments
 
76,724

 
57,934

 
145,744

 
129,755

Interest expense
 
(5,620
)
 
(5,612
)
 
(11,226
)
 
(11,216
)
General corporate and other expenses
 
(8,793
)
 
(5,557
)
 
(20,332
)
 
(15,484
)
Income before federal income tax
 
$
62,311

 
46,765


114,186

 
103,055


NOTE 9. Retirement Plans
SICA's primary pension plan is the Retirement Income Plan for Selective Insurance Company of America (the “Pension Plan”). SICA also sponsors the Supplemental Excess Retirement Plan (the “Excess Plan”) and a life insurance benefit plan. All plans are closed to new entrants and benefits ceased accruing under the Pension Plan and the Excess Plan after March 31, 2016. For more information concerning SICA's retirement plans, refer to Note 14. “Retirement Plans” in Item 8. “Financial Statements and Supplementary Data.” of our 2015 Annual Report.

The following tables provide information regarding the Pension Plan:
 
 
Pension Plan
Quarter ended June 30,
 
Pension Plan
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
 
2016
 
2015
Net Periodic Benefit Cost:
 
 
 
 
 
 
 
 
Service cost
 
$

 
1,912

 
1,606

 
3,825

Interest cost
 
3,101

 
3,407

 
6,203

 
6,816

Expected return on plan assets
 
(3,988
)
 
(3,990
)
 
(7,976
)
 
(7,981
)
Amortization of unrecognized net actuarial loss
 
1,481

 
1,644

 
2,961

 
3,287

Total net periodic cost
 
$
594

 
2,973

 
2,794

 
5,947

 
 
Pension Plan
Six Months ended June 30,
 
 
2016
 
2015
Weighted-Average Expense Assumptions:
 
 
 
 
Discount rate
 
4.69
%
 
4.29
Effective interest rate for calculation of service cost
 
4.52

 
Effective interest rate for calculation of interest cost
 
4.02

 
Expected return on plan assets
 
6.37

 
6.27
Rate of compensation increase
 
4.00

 
4.00

Effective January 1, 2016, the approach used to calculate the service and interest components of net periodic benefit cost for the Pension Plan was changed to provide a more precise measurement of these costs. Historically, we calculated the service and interest components utilizing a single weighted-average discount rate derived from the yield curve used to measure the benefit obligation at the beginning of the period. On January 1, 2016, we elected to utilize an approach that discounts the individual expected cash flows using the applicable spot rates derived from the yield curve over the projected cash flow period. We accounted for this change prospectively as a change in accounting estimate. The decrease in service cost reflected in the table above is attributable to the discontinuation of benefit accruals for existing participants as of March 31, 2016. 

We presently anticipate contributing approximately $56 million to the Pension Plan in 2016, $26.4 million of which has been funded as of June 30, 2016.

20

Table of Contents


NOTE 10. Comprehensive Income
The components of comprehensive income, both gross and net of tax, for Second Quarter and Six Months 2016 and 2015 were as follows:
Second Quarter 2016
 
 
 
 
 
 
($ in thousands)
 
Gross
 
Tax
 
Net
Net income
 
$
62,311

 
18,710

 
43,601

Components of OCI:
 
 

 
 

 
 

Unrealized gains (losses) on investment securities:
 
 

 
 

 
 

Unrealized holding gains during period
 
55,675

 
19,487

 
36,188

Non-credit portion of OTTI recognized in OCI
 
(10
)
 
(4
)
 
(6
)
Amounts reclassified into net income:
 
 
 
 
 
 
HTM securities
 
(19
)
 
(7
)
 
(12
)
Realized gains on AFS securities
 
(1,762
)
 
(617
)
 
(1,145
)
    Total unrealized gains on investment securities
 
53,884

 
18,859

 
35,025

Defined benefit pension and post-retirement plans:
 
 

 
 

 
 

Amounts reclassified into net income:
 
 

 
 

 
 

Net actuarial loss
 
1,517

 
532

 
985

    Total defined benefit pension and post-retirement plans
 
1,517

 
532

 
985

Other comprehensive income
 
55,401

 
19,391

 
36,010

Comprehensive income
 
$
117,712

 
38,101

 
79,611


Second Quarter 2015
 
 
 
 
 
 
($ in thousands)
 
Gross
 
Tax
 
Net
Net income
 
$
46,765

 
12,997

 
33,768

Components of OCI:
 
 

 
 

 
 

Unrealized (losses) gains on investment securities:
 
 

 
 

 
 

Unrealized holding losses during period
 
(60,244
)
 
(21,084
)
 
(39,160
)
Amounts reclassified into net income:
 
 
 
 
 
 
HTM securities
 
(185
)
 
(65
)
 
(120
)
Realized losses on AFS securities
 
3,422

 
1,197

 
2,225

    Total unrealized losses on investment securities
 
(57,007
)
 
(19,952
)
 
(37,055
)
Defined benefit pension and post-retirement plans:
 
 

 
 

 
 

Amounts reclassified into net income:
 
 

 
 

 
 

Net actuarial loss
 
1,709

 
598

 
1,111

    Total defined benefit pension and post-retirement plans
 
1,709

 
598

 
1,111

Other comprehensive loss
 
(55,298
)
 
(19,354
)
 
(35,944
)
Comprehensive loss
 
$
(8,533
)
 
(6,357
)
 
(2,176
)


21

Table of Contents

Six Months 2016
 
 
 
 
 
 
($ in thousands)
 
Gross
 
Tax
 
Net
Net income
 
$
114,186

 
33,553

 
80,633

Components of OCI:
 
 

 
 

 
 

Unrealized gains on investment securities:
 
 

 
 

 
 

Unrealized holding gains during period
 
121,412

 
42,495

 
78,917

Non-credit portion of OTTI recognized in OCI
 
(10
)
 
(4
)
 
(6
)
Amounts reclassified into net income:
 
 
 
 
 
 
HTM securities
 
(91
)
 
(32
)
 
(59
)
Realized losses on AFS securities
 
937

 
328

 
609

    Total unrealized gains on investment securities
 
122,248

 
42,787

 
79,461

Defined benefit pension and post-retirement plans:
 
 

 
 

 
 

Amounts reclassified into net income:
 
 

 
 

 
 

Net actuarial loss
 
3,033

 
1,062

 
1,971

    Total defined benefit pension and post-retirement plans
 
3,033

 
1,062

 
1,971

Other comprehensive income
 
125,281

 
43,849

 
81,432

Comprehensive income
 
$
239,467

 
77,402

 
162,065


Six Months 2015
 
 
 
 
 
 
($ in thousands)
 
Gross
 
Tax
 
Net
Net income
 
$
103,055

 
29,579

 
73,476

Components of OCI:
 
 

 
 

 
 

Unrealized (losses) gains on investment securities:
 
 

 
 

 
 

Unrealized holding losses during period
 
(36,267
)
 
(12,693
)
 
(23,574
)
Amounts reclassified into net income:
 
 
 
 
 
 
HTM securities
 
(446
)
 
(156
)
 
(290
)
Non-credit OTTI
 
357

 
125

 
232

Realized gains on AFS securities
 
(16,473
)
 
(5,766
)
 
(10,707
)
    Total unrealized losses on investment securities
 
(52,829
)
 
(18,490
)
 
(34,339
)
Defined benefit pension and post-retirement plans:
 
 

 
 

 
 

Amounts reclassified into net income:
 
 

 
 

 
 

Net actuarial loss
 
3,418

 
1,196

 
2,222

    Total defined benefit pension and post-retirement plans
 
3,418

 
1,196

 
2,222

Other comprehensive loss
 
(49,411
)
 
(17,294
)
 
(32,117
)
Comprehensive income
 
$
53,644

 
12,285

 
41,359


The balances of, and changes in, each component of AOCI (net of taxes) as of June 30, 2016 were as follows:
June 30, 2016
 
 
 
 
 
 
 
 
Net Unrealized Gain on Investment Securities
 
Defined Benefit
Pension and Post-Retirement Plans
 
Total AOCI
($ in thousands)
 
OTTI
Related
 
HTM
Related
 
All
Other
 
Investments
Subtotal
 
 
Balance, December 31, 2015
 
$
(282
)
 
194

 
45,083

 
44,995

 
(54,420
)
 
(9,425
)
OCI before reclassifications
 
(6
)
 

 
78,917

 
78,911

 

 
78,911

Amounts reclassified from AOCI
 

 
(59
)
 
609

 
550

 
1,971

 
2,521

Net current period OCI
 
(6
)
 
(59
)
 
79,526

 
79,461

 
1,971

 
81,432

Balance, June 30, 2016
 
$
(288
)
 
135

 
124,609

 
124,456

 
(52,449
)
 
72,007



22

Table of Contents

The reclassifications out of AOCI were as follows:
 
Quarter ended June 30,
 
Six Months ended
June 30,
Affected Line Item in the Unaudited Consolidated Statement of Income
($ in thousands)
2016
 
2015
 
2016
 
2015
OTTI related
 
 
 
 
 
 
 
 
Non-credit OTTI on disposed securities
$

 

 

 
357

Net realized gains (losses)
 

 

 

 
357

Income before federal income tax
 

 

 

 
(125
)
Total federal income tax expense
 

 

 

 
232

Net income
HTM related
 
 
 
 
 
 
 
 
Unrealized losses on HTM disposals
60

 
87

 
88

 
137

Net realized gains (losses)
Amortization of net unrealized gains on HTM securities
(79
)
 
(272
)
 
(179
)
 
(583
)
Net investment income earned
 
(19
)
 
(185
)
 
(91
)
 
(446
)
Income before federal income tax
 
7

 
65

 
32

 
156

Total federal income tax expense
 
(12
)
 
(120
)
 
(59
)
 
(290
)
Net income
Realized losses (gains) on AFS and OTTI
 
 
 
 
 
 
 
 
Realized losses (gains) on AFS disposals and OTTI
(1,762
)
 
3,422

 
937

 
(16,473
)
Net realized gains (losses)
 
(1,762
)
 
3,422

 
937

 
(16,473
)
Income before federal income tax
 
617

 
(1,197
)
 
(328
)
 
5,766

Total federal income tax expense
 
(1,145
)
 
2,225

 
609

 
(10,707
)
Net income
Defined benefit pension and post-retirement life plans
 
 
 
 
 
 
 
 
Net actuarial loss
329

 
372

 
658

 
743

Loss and loss expense incurred
 
1,188

 
1,337

 
2,375

 
2,675

Policy acquisition costs
Total defined benefit pension and post-retirement life
1,517

 
1,709

 
3,033

 
3,418

Income before federal income tax
 
(532
)
 
(598
)
 
(1,062
)
 
(1,196
)
Total federal income tax expense
 
985

 
1,111

 
1,971

 
2,222

Net income
 
 
 
 
 
 
 
 
 
Total reclassifications for the period
$
(172
)
 
3,216

 
2,521

 
(8,543
)
Net income

NOTE 11. Litigation
In the ordinary course of conducting business, we are named as defendants in various legal proceedings. Most of these proceedings are claims litigation involving our insurance subsidiaries as either: (i) liability insurers defending or providing indemnity for third-party claims brought against our customers; or (ii) insurers defending first-party coverage claims brought against them. We account for such activity through the establishment of unpaid loss and loss expense reserves. We expect that the ultimate liability, if any, with respect to such ordinary course claims litigation, after consideration of provisions made for potential losses and costs of defense, will not be material to our consolidated financial condition, results of operations, or cash flows.
 
Our insurance subsidiaries are also from time to time involved in other legal actions, some of which assert claims for substantial amounts. These actions include, among others, putative class actions seeking certification of a state or national class. Such putative class actions have alleged, for example, improper reimbursement of medical providers paid under workers compensation and personal and commercial automobile insurance policies. Our insurance subsidiaries also are involved from time to time in individual actions in which extra-contractual damages, punitive damages, or penalties are sought, such as claims alleging bad faith in the handling of insurance claims. We believe that we have valid defenses to these cases. We expect that the ultimate liability, if any, with respect to such lawsuits, after consideration of provisions made for estimated losses, will not be material to our consolidated financial condition. Nonetheless, given the large or indeterminate amounts sought in certain of these actions, and the inherent unpredictability of litigation, an adverse outcome in certain matters could, from time to time, have a material adverse effect on our consolidated results of operations or cash flows in particular quarterly or annual periods. As of June 30, 2016, we do not believe the Company was involved in any legal action that could have a material adverse effect on our consolidated financial condition, results of operations, or cash flows.


23

Table of Contents

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

Forward-Looking Statements
As used herein, the "Company," "we," "us," or "our" refers to Selective Insurance Group, Inc. (the "Parent"), and its subsidiaries, except as expressly indicated or unless the context otherwise requires. In this Quarterly Report on Form 10-Q, we discuss and make statements regarding our intentions, beliefs, current expectations, and projections regarding our company’s future operations and performance. Such statements are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are often identified by words such as “anticipates,” “believes,” “expects,” “will,” “should,” and “intends” and their negatives. We caution prospective investors that such forward-looking statements are not guarantees of future performance. Risks and uncertainties are inherent in our future performance. Factors that could cause actual results to differ materially from those indicated by such forward-looking statements include, but are not limited to, those discussed under Item 1A. “Risk Factors” below in Part II “Other Information.” These risk factors may not be exhaustive. We operate in a continually changing business environment and new risk factors emerge from time to time. We can neither predict such new risk factors nor can we assess the impact, if any, of such new risk factors on our businesses or the extent to which any factor or combination of factors may cause actual results to differ materially from those expressed or implied in any forward-looking statements in this report. In light of these risks, uncertainties, and assumptions, the forward-looking events discussed in this report might not occur. We make forward-looking statements based on currently available information and assume no obligation to update these statements due to changes in underlying factors, new information, future developments, or otherwise.
  
Introduction
The Parent, through its insurance subsidiaries, offers property and casualty insurance products in the standard and excess and surplus ("E&S") marketplaces. We classify our business into four reportable segments, which are as follows:

Standard Commercial Lines - which represents 79% of our combined insurance segments' net premiums written ("NPW"), sells commercial lines insurance products and services to businesses, non-profit organizations, and local government agencies located primarily in 22 states in the Eastern and Midwestern U.S. and the District of Columbia through approximately 1,150 distribution partners in the standard marketplace.

Standard Personal Lines - which includes our flood business, represents approximately 12% of our combined insurance segments' NPW and sells personal lines insurance products and services to individuals located primarily in 13 states through approximately 700 distribution partners in the standard marketplace. In addition, we have approximately 5,000 distribution partners selling our flood business.

E&S Lines - which represents 9% of our combined insurance segments' NPW, sells commercial lines insurance products and services in all 50 states and the District of Columbia through approximately 80 distribution partners. Insurance policies in this segment are sold to customers that typically have business risks with unique characteristics, such as the nature of the business or its claim history and cannot obtain coverage in the standard marketplace. E&S insurers have more flexibility in coverage terms and rates compared to standard market insurers, generally resulting in policies with higher rates and terms and conditions that are more narrowly customized for specific risks.

Investments - invests the premiums collected by our Standard Commercial Lines, Standard Personal Lines, and E&S
Lines, as well as our earnings and amounts generated through our capital management strategies, which may include the issuance of debt and equity securities.

Our Standard Commercial and Standard Personal Lines products and services are written through our nine insurance subsidiaries, some of which write flood business through the Write Your Own ("WYO") program of the National Flood Insurance Program ("NFIP").
Our E&S products and services are written through one subsidiary, Mesa Underwriters Specialty Insurance Company ("MUSIC"). This subsidiary provides us with a nationally-authorized non-admitted platform to offer insurance products and services to customers who have not obtained coverage in the standard marketplace.
Our ten insurance subsidiaries are collectively referred to as the "Insurance Subsidiaries."

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Table of Contents

The following is Management’s Discussion and Analysis (“MD&A”) of the consolidated results of operations and financial condition, as well as known trends and uncertainties, that may have a material impact in future periods. Consequently, investors should read the MD&A in conjunction with the consolidated financial statements in our Annual Report on Form 10-K for the year ended December 31, 2015 (“2015 Annual Report”) filed with the U.S. Securities and Exchange Commission ("SEC").
In the MD&A, we will discuss and analyze the following:
Critical Accounting Policies and Estimates;
Financial Highlights of Results for the second quarters ended June 30, 2016 (“Second Quarter 2016”) and June 30, 2015 (“Second Quarter 2015”) and the six-month periods ended June 30, 2016 ("Six Months 2016") and June 30, 2015 ("Six Months 2015");
Results of Operations and Related Information by Segment;
Federal Income Taxes;
Financial Condition, Liquidity, Short-term Borrowings, and Capital Resources;
Ratings;
Off-Balance Sheet Arrangements; and
Contractual Obligations, Contingent Liabilities, and Commitments.

Critical Accounting Policies and Estimates
Our unaudited interim consolidated financial statements include amounts based on our informed estimates and judgments for those transactions that are not yet complete. Such estimates and judgments affect the reported amounts in the consolidated financial statements. Those estimates and judgments most critical to the preparation of the consolidated financial statements involve the following: (i) reserves for loss and loss expenses; (ii) pension and post-retirement benefit plan actuarial assumptions; (iii) other-than-temporary investment impairments ("OTTI"); and (iv) reinsurance. These estimates and judgments require the use of assumptions about matters that are highly uncertain and, therefore, are subject to change as facts and circumstances develop. If different estimates and judgments had been applied, materially different amounts might have been reported in the financial statements. For additional information regarding our critical accounting policies, refer to pages 36 through 47 of our 2015 Annual Report.
 
Financial Highlights of Results for Second Quarter and Six Months 2016 and Second Quarter and Six Months 20151 
 
 
Quarter ended June 30,
 
 
 
 
 
Six Months ended June 30,
 
 
 
 
($ and shares in thousands, except per share amounts)
 
2016
 
2015
 
Change
% or Points
 
 
 
2016
 
2015
 
Change
% or Points
 
 
Generally Accepted Accounting Principles ("GAAP") measures:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Revenues
 
$
568,747

 
521,973

 
9

 
%
 
$
1,120,221

 
1,045,865

 
7

 
%
Net investment income earned
 
31,182

 
32,230

 
(3
)
 
 
 
61,951

 
59,147

 
5

 
 
   Income before federal income tax
 
62,311

 
46,765

 
33

 
 
 
114,186

 
103,055

 
11

 
 
Net income
 
43,601

 
33,768

 
29

 
 
 
80,633

 
73,476

 
10

 
 
Diluted net income per share
 
0.74

 
0.58

 
28

 
 
 
1.38

 
1.27

 
9

 
 
Diluted weighted-average outstanding shares
 
58,598

 
57,805

 
1

 
 
 
58,552

 
57,761

 
1

 
 
GAAP combined ratio
 
91.8
%
 
94.1

 
(2.3
)
 
pts 
 
92.0
%
 
94.3

 
(2.3
)
 
pts 
   Statutory combined ratio
 
90.1

 
93.5

 
(3.4
)
 
 
 
90.4

 
93.2

 
(2.8
)
 
 
Invested assets per dollar of stockholders' equity
 
$
3.39

 
3.76

 
(10
)
 
%
 
$
3.39

 
3.76

 
(10
)
 
%
After-tax yield on investments
 
1.8
%
 
2.0

 
(0.2
)
 
pts
 
1.8
%
 
1.9

 
(0.1
)
 
pts
Annualized return on average equity ("ROE")
 
11.5

 
10.3

 
1.2

 
 
 
10.9

 
11.4

 
(0.5
)
 
 
Non-GAAP measures:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Operating income2
 
$
42,454

 
35,991

 
18

 
%
 
$
81,244

 
63,425

 
28

 
%
Diluted operating income per share2
 
0.72

 
0.62

 
16

 
 
 
1.39

 
1.10

 
26

 
 
Annualized operating ROE2
 
11.2
%
 
11.0

 
0.2

 
pts 
 
11.0
%
 
9.8

 
1.2

 
pts 
1 
Refer to the Glossary of Terms attached to our 2015 Annual Report as Exhibit 99.1 for definitions of terms used in this Form 10-Q.
2 
Operating income is used as an important financial measure by us, analysts, and investors, because the realization of investment gains and losses on sales in any given period is largely discretionary as to timing. In addition, these realized investment gains and losses, as well as OTTI that are charged to earnings and the results of discontinued operations, could distort the analysis of trends. See below for a reconciliation of operating income to net income in accordance with GAAP. Annualized operating ROE is calculated by dividing annualized operating income by average stockholders’ equity.


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Table of Contents

The following table reconciles operating income and net income for the periods presented above:
 
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands, except per share amounts)
 
2016
 
2015
 
2016
 
2015
Operating income
 
$
42,454

 
35,991

 
$
81,244

 
63,425

Net realized gains (losses), net of tax
 
1,147

 
(2,223
)
 
(611
)
 
10,051

Net income
 
$
43,601

 
33,768

 
$
80,633

 
73,476

 
 
 
 
 
 
 
 
 
Diluted operating income per share
 
$
0.72

 
0.62

 
$
1.39

 
1.10

Diluted net realized gains (losses) per share
 
0.02

 
(0.04
)
 
(0.01
)
 
0.17

Diluted net income per share
 
$
0.74

 
0.58

 
$
1.38

 
1.27


It is our goal to average an operating ROE that is at least 300 basis points in excess of our weighted-average cost of capital. At June 30, 2016, our weighted-average cost of capital was 7.8%. Our ROE contributions by component are as follows:
ROE
 
Quarter ended June 30,
 
Six Months ended June 30,
 
 
2016
 
2015
 
2016
 
2015
Insurance Segments
 
7.5
 %
 
5.8

 
7.5
 %
 
5.5

Investment income1
 
6.2

 
7.5

 
6.4

 
7.1

Other
 
(2.5
)
 
(2.3
)
 
(2.9
)
 
(2.8
)
Annualized operating ROE
 
11.2

 
11.0

 
11.0

 
9.8

Net realized gains (losses)1
 
0.3

 
(0.7
)
 
(0.1
)
 
1.6

Annualized ROE
 
11.5
 %
 
10.3

 
10.9
 %
 
11.4

1 Investment segment results are the combination of Investment income and Net realized (losses) gains.
                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
Insurance Segments
The key metric in understanding our insurance segments’ contribution to annualized operating ROE is the GAAP combined ratio. The following table provides a quantitative foundation for analyzing this ratio:
All Lines
 
Quarter ended June 30,
 
Change % or Points
 
 
 
Six Months ended June 30,
 
Change % or Points
 
 
($ in thousands)
 
2016
 
2015
 
 
 
 
2016
 
2015
 
 
 
GAAP Insurance Operations Results:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
NPW
 
$
578,140

 
532,133

 
9

 
%
 
$
1,143,499

 
1,050,221

 
9

 
%
Net premiums earned (“NPE”)
 
531,932

 
490,309

 
8

 
 
 
1,054,390

 
966,432

 
9

 
 
Less:
 
 
 
 

 
 
 
 
 
 
 
 
 
 
 
 
Loss and loss expense incurred
 
298,479

 
291,561

 
2

 
 
 
595,623

 
576,560

 
3

 
 
Net underwriting expenses incurred
 
188,058

 
167,780

 
12

 
 
 
370,764

 
331,358

 
12

 
 
Dividends to policyholders
 
1,618

 
1,844

 
(12
)
 
 
 
3,271

 
3,369

 
(3
)
 
 
Underwriting gain
 
$
43,777

 
29,124

 
50

 
%
 
$
84,732

 
55,145

 
54

 
%
GAAP Ratios:
 
 
 
 

 
 
 
 
 
 
 
 
 
 
 
 
Loss and loss expense ratio
 
56.1

%
59.5

 
(3.4
)
 
pts 
 
56.5

%
59.7

 
(3.2
)
 
pts 
Underwriting expense ratio
 
35.4

 
34.2

 
1.2

 
 
 
35.2

 
34.3

 
0.9

 
 
Dividends to policyholders ratio
 
0.3

 
0.4

 
(0.1
)
 
 
 
0.3

 
0.3

 

 
 
Combined ratio
 
91.8

 
94.1

 
(2.3
)
 
 
 
92.0

 
94.3

 
(2.3
)
 
 
Statutory Ratios:
 
 
 
 

 
 
 
 
 
 
 
 
 
 
 
 
Loss and loss expense ratio
 
56.0

 
59.5

 
(3.5
)
 
 
 
56.4

 
59.7

 
(3.3
)
 
 
Underwriting expense ratio
 
33.8

 
33.6

 
0.2

 
 
 
33.7

 
33.2

 
0.5

 
 
Dividends to policyholders ratio
 
0.3

 
0.4

 
(0.1
)
 
 
 
0.3

 
0.3

 

 
 
Combined ratio
 
90.1

%
93.5

 
(3.4
)
 
pts 
 
90.4

%
93.2

 
(2.8
)
 
pts 


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Table of Contents

The GAAP combined ratio improved by 2.3 points in both Second Quarter and Six Months 2016 compared to the same periods last year. This improvement was driven by the loss and loss expense ratio, reflecting lower catastrophe and non-catastrophe property losses, as last year was heavily impacted by severe winter weather and Midwest storms. Quantitative details are as follows:
 
Second Quarter 2016
 
 
Second Quarter 2015
 
 
 
($ in millions)
Losses Incurred
Impact on
Loss Ratio
 
 
Losses
Incurred
Impact on
 Loss Ratio
 
Change in Ratio
 
Catastrophe losses
$
8.4

1.6
pts
 
$
24.0

4.9
pts
(3.3
)
pts
Non-catastrophe property losses
64.3

12.1
 
 
70.5

14.4
 
(2.3
)
 

 
Six Months 2016
 
 
Six Months 2015
 
 
 
($ in millions)
Losses Incurred
Impact on
Loss Ratio
 
 
Losses
Incurred
Impact on
 Loss Ratio
 
Change in Ratio
 
Catastrophe losses
$
22.8

2.2
pts
 
$
49.3

5.1
pts
(2.9
)
pts
Non-catastrophe property losses
130.8

12.4
 
 
141.5

14.6
 
(2.2
)
 

Partially offsetting these items was lower favorable prior year casualty reserve development, as illustrated in the table below:
(Favorable)/Unfavorable Prior Year Casualty Reserve Development
 
 
 
 
 
 
 
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in millions)
2016
 
2015
 
2016
 
2015
General liability
$
(11.0
)
 
(16.0
)
 
$
(22.0
)
 
(36.0
)
Commercial automobile
8.0

 
2.0

 
13.0

 
3.0

Workers compensation
(9.0
)
 
(8.0
)
 
(21.0
)
 
(13.0
)
Businessowners' policies

 
1.0

 

 
4.0

   Total Standard Commercial Lines
(12.0
)
 
(21.0
)
 
(30.0
)
 
(42.0
)
 
 
 
 
 
 
 
 
E&S
2.0

 
1.0

 
3.0

 
2.0

 
 
 
 
 
 
 
 
Total (favorable) prior year casualty reserve development
$
(10.0
)
 
(20.0
)
 
$
(27.0
)
 
(40.0
)
 
 
 
 
 
 
 
 
(Favorable) impact on loss ratio
(1.9
)
pts
(4.1
)
 
(2.6
)
pts
(4.1
)
For a qualitative discussion of this reserve development, please refer to the respective insurance segment section below in
"Results of Operations and Related Information by Segment."

Also impacting the GAAP combined ratio was an increase in the underwriting expense ratio that was driven by higher supplemental commission expense to our agents, due to improved profitability, which increased the ratio by 0.8 points in both Second Quarter and Six Months 2016 compared to the same periods last year.

Investments Segment
In total, our investment segment contributed 6.5 points to our overall annualized ROE in Second Quarter 2016, compared to 6.8 points in Second Quarter 2015, and 6.3 points in Six Months 2016, compared to 8.7 points in Six Months 2015. The primary driver of the 2.4-point decrease for the year-to-date period was a $16.4 million decrease in pre-tax net realized gains this year compared to last, the timing of which is largely subjective from one period to the next.

Outlook
A.M. Best Company, Inc. ("A.M. Best") projected a 2016 industry statutory combined ratio of 99.2% in their Review & Preview Report issued in February 2016. This projection included industry catastrophe losses of 4.7 points and favorable reserve development of 1.7 points. A.M. Best also projected decreasing investment yields to continue into 2016.
In 2016, we celebrated our 90th year of business and our pillars of success continue to be: (i) our unique field model combined with sophisticated underwriting and claims capabilities; (ii) true franchise value with our distribution partners; and (iii) delivering a superior customer experience with our “best in class” employees. We plan to leverage our competitive advantages by increasing our share of wallet with existing agents while adding agents in areas with strong new business opportunities and exploring potential geographic expansion for our standard lines operations.

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Table of Contents

To that end, we remain focused on becoming a more customer-centric company in 2016. In 2015, we made key strategic investments in technology as part of our efforts to deliver a superior customer experience across all interactions. Over the last year, we have rolled out self-servicing capabilities via our mobile application, mobile web, and on the desktop, and relaunched our public website with simplified navigation, richer content, and responsive capabilities. These investments have enabled us to provide our customers with 24/7 access to transactional capabilities and information. We are also working to identify points of friction in the customer's experience between us and our distribution partners. These friction points provide opportunities for us to increase efficiency and improve the customer's impression of both us and our distribution partner. Customers expect this level of service and access from every company with which they conduct business. We view omni-channel service delivery as a key to future success in our industry and we will continue to focus our efforts in this area in 2016.
In Six Months 2016, our statutory combined ratio was 90.4%, which included 2.2 points of catastrophe losses and 2.6 points of favorable prior year casualty reserve development. Based on these results and our expectations for the remainder of the year, we are revising our guidance for full-year 2016 to the following:
An ex-catastrophe combined ratio of approximately 89.5%, which is an improvement of 1.5 points from our previous guidance of 91%. This assumes no additional prior year casualty reserve development;
3.5 points of catastrophe losses;
After-tax investment income of approximately $95 million; and
Weighted average shares of approximately 58.5 million.

Our goal is to generate an operating ROE that is 300 basis points in excess of our weighted average cost of capital, which was 7.8% as of June 30, 2016. In Six Months 2016, our annualized operating ROE was 11.0%.

Results of Operations and Related Information by Segment

Standard Commercial Lines
 
 
Quarter ended June 30,
 
 
 
 
Six Months ended June 30,
 
 
 
($ in thousands)
 
2016
 
2015
 
Change
% or
Points
 
 
2016
 
2015
 
Change
% or
Points
 
GAAP Insurance Operations Results:
 
 

 
 

 
 

 
 
 
 
 
 
 
 
NPW
 
$
449,008

 
410,821

 
9

%
 
$
904,071

 
826,079

 
9

%
NPE
 
411,277

 
377,205

 
9

 
 
814,166

 
742,738

 
10

 
Less:
 
 
 
  

 
 

 
 
 
 
  
 
 
 
Loss and loss expense incurred
 
221,618

 
210,088

 
5

 
 
444,968

 
416,236

 
7

 
Net underwriting expenses incurred
 
147,868

 
130,032

 
14

 
 
294,822

 
257,856

 
14

 
Dividends to policyholders
 
1,618

 
1,844

 
(12
)
 
 
3,271

 
3,369

 
(3
)
 
Underwriting gain
 
$
40,173

 
35,241

 
14

%
 
$
71,105

 
65,277

 
9

%
GAAP Ratios:
 
 

 
 

 
 

 
 
 
 
 
 
 
 
Loss and loss expense ratio
 
53.9

%
55.7

 
(1.8
)
pts
 
54.7

%
56.0

 
(1.3
)
pts
Underwriting expense ratio
 
35.9

 
34.5

 
1.4

 
 
36.2

 
34.7

 
1.5

 
Dividends to policyholders ratio
 
0.4

 
0.5

 
(0.1
)
 
 
0.4

 
0.5

 
(0.1
)
 
Combined ratio
 
90.2

 
90.7

 
(0.5
)
 
 
91.3

 
91.2

 
0.1

 
Statutory Ratios:
 
 

 
 

 
 

 
 
 
 
 
 
 
 
Loss and loss expense ratio
 
53.8

 
55.7

 
(1.9
)
 
 
54.5

 
56.1

 
(1.6
)
 
Underwriting expense ratio
 
34.4

 
33.9

 
0.5

 
 
34.2

 
33.3

 
0.9

 
Dividends to policyholders ratio
 
0.4

 
0.5

 
(0.1
)
 
 
0.4

 
0.5

 
(0.1
)
 
Combined ratio
 
88.6

%
90.1

 
(1.5
)
pts
 
89.1

%
89.9

 
(0.8
)
pts

The increases in NPW in Second Quarter and Six Months 2016 compared to Second Quarter and Six Months 2015 were driven by: (i) increases in direct new business; (ii) renewal pure price increases; and (iii) strong retention.
 
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in millions)
 
2016
 
2015
 
2016
 
2015
Retention
 
83

%
83

 
83

%
83

Renewal pure price increases
 
2.6

 
3.0

 
2.7

 
3.3

Direct new business
 
$
95.5

 
89.9

 
$
183.2

 
178.4


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Table of Contents


The NPE increases in Second Quarter and Six Months 2016 compared to Second Quarter and Six Months 2015 were consistent with the fluctuation in NPW for the twelve-month period ended June 30, 2016 compared with the twelve-month period ended June 30, 2015.

The GAAP loss and loss expense ratio improved 1.8 points in Second Quarter 2016 compared to Second Quarter 2015 and 1.3 points in Six Months 2016 compared to Six Months 2015. These improvements were driven by lower catastrophe losses and non-catastrophe property losses, which were partially offset by lower favorable prior year casualty reserve development. Information regarding these drivers is as follows:

Second Quarter 2016

Second Quarter 2015


($ in millions)
Losses Incurred
Impact on
Loss Ratio


Losses Incurred
Impact on
 Loss Ratio

Change in Ratio

Catastrophe losses
$
3.6

0.9

pts

$
13.6

3.6

pts
(2.7
)
pts
Non-catastrophe property losses
41.6

10.1



42.4

11.2


(1.1
)

Favorable prior year casualty reserve development
(12.0
)
(2.9
)


(21.0
)
(5.6
)

2.7



 
Six Months 2016
 
Six Months 2015
 
 
($ in millions)
Losses Incurred
Impact on
Loss Ratio
 
 
Losses Incurred
Impact on
Loss Ratio
 
Change in Ratio
 
Catastrophe losses
$
15.3

1.9

pts
 
$
32.3

4.3

pts
(2.4
)
pts
Non-catastrophe property losses
85.2

10.5

 
 
82.9

11.2

 
(0.7
)
 
Favorable prior year casualty reserve development
(30.0
)
(3.7
)
 
 
(42.0
)
(5.7
)
 
2.0

 

For additional information regarding the favorable prior year casualty reserve development by line of business, see the "Financial Highlights" section above and the line of business discussions below.

The increases in the GAAP underwriting expense ratio in the quarter and year-to-date periods of 1.4 points and 1.5 points, respectively, were primarily attributable to higher supplemental commission expense to our distribution partners of approximately 1.0 points.

The following is a discussion of our most significant Standard Commercial Lines of business and their respective statutory results:
General Liability
 
 
 
 
 
 
 
 
 
Quarter ended June 30,
 
 
 
 
Six Months ended June 30,
 
 
 
($ in thousands)
 
2016
 
2015
 
Change
% or
Points
 
 
2016
 
2015
 
Change
% or
Points
 
Statutory NPW
 
$
145,489

 
134,636

 
8

%
 
$
290,195

 
265,118

 
9

%
  Direct new business
 
28,865

 
27,176

 
6

 
 
54,976

 
52,405

 
5

 
  Retention
 
83

%
83

 

pts
 
83

%
83

 

pts
  Renewal pure price increases
 
1.6

 
2.8

 
(1.2
)
 
 
1.8

 
3.1

 
(1.3
)
 
Statutory NPE
 
$
129,283

 
119,207

 
8

%
 
$
257,368

 
234,178

 
10

%
Statutory combined ratio
 
83.5

%
77.6

 
5.9

pts
 
83.4

%
75.3

 
8.1

pts
% of total statutory Standard Commercial Lines NPW
 
32

 
33

 
 

 
 
32

 
32

 
 

 

29

Table of Contents

The statutory combined ratio increases in Second Quarter and Six Months 2016 compared to the same prior year periods were driven by lower favorable prior year casualty reserve development as illustrated in the tables below:

Second Quarter 2016
Second Quarter 2015


($ in millions)
(Benefit) Expense
Impact on
Combined Ratio

 (Benefit) Expense
Impact on
Combined Ratio

Change
Points

Favorable prior year casualty reserve development
$
(11.0
)
(8.5
)
pts
$
(16.0
)
(13.4
)
pts
4.9
pts

 
Six Months 2016
Six Months 2015
 
 
($ in millions)
(Benefit) Expense
Impact on
Combined Ratio
 
 (Benefit) Expense
Impact on
Combined Ratio
 
Change
Points
 
Favorable prior year casualty reserve development
$
(22.0
)
(8.5
)
pts
$
(36.0
)
(15.4
)
pts
6.9
pts

The significant drivers of the development were as follows:

Second Quarter and Six Months 2016: Development was primarily attributable to lower claims frequencies and severities in the 2012 through 2014 accident years.

Second Quarter and Six Months 2015: Development was primarily attributable to continued lower claims frequencies in the 2009 through 2013 accident years.

Commercial Automobile
 
 
 
 
 
 
 
 
 
Quarter ended June 30,
 
Change
% or
Points
 
 
Six Months ended June 30,
 
Change
% or
Points
 
($ in thousands)
 
2016
 
2015
 
 
 
2016
 
2015
 
 
Statutory NPW
 
$
108,888

 
97,019

 
12
%
 
$
217,096

 
193,606

 
12
%
  Direct new business
 
20,682

 
18,490

 
12
 
 
39,272

 
36,855

 
7
 
  Retention
 
84

%
83

 
1
pts
 
84

%
83

 
1
pts
  Renewal pure price increases
 
4.8

 
3.9

 
0.9
 
 
4.9

 
3.9

 
1.0
 
Statutory NPE
 
$
98,896

 
88,658

 
12
%
 
$
194,315

 
175,013

 
11
%
Statutory combined ratio
 
107.0

%
100.6

 
6.4
pts
 
106.0

%
100.0

 
6.0
pts
% of total statutory Standard Commercial Lines NPW
 
24

 
24

 
 
 
 
24

 
23

 
 
 

The 6.4-point increase in the statutory combined ratio in Second Quarter 2016 compared to Second Quarter 2015 and the 6.0-point increase in the statutory combined ratio in Six Months 2016 compared to Six Months 2015 was primarily due to higher unfavorable prior year casualty reserve development.

Quantitative information regarding the development and non-catastrophe property losses is as follows:
 
Second Quarter 2016
 
Second Quarter 2015
 
 
($ in millions)
Losses Incurred
Impact on
Loss Ratio
 
 
Losses Incurred
Impact on
 Loss Ratio
 
Change in Ratio
 
Unfavorable prior year casualty reserve development
$
8.0

8.1

 
 
$
2.0

2.3

 
5.8

pts
Non-catastrophe property losses
14.5

14.7

 
 
12.7

14.3

 
0.4

 

 
Six Months 2016
 
Six Months 2015
 
 
($ in millions)
Losses Incurred
Impact on
Loss Ratio
 
 
Losses Incurred
Impact on
 Loss Ratio
 
Change in Ratio
 
Unfavorable prior year casualty reserve development
$
13.0

6.7

 
 
$
3.0

1.7
 
5.0
pts
Non-catastrophe property losses
29.8

15.3

 
 
25.9

14.8
 
0.5
 

Unfavorable prior year casualty reserve development in Second Quarter and Six Months 2016 was primarily due to higher claims frequencies in the 2015 accident year, as well as higher severities in the 2011 and 2013 accident years.


30

Table of Contents

Workers Compensation
 
 
 
 
 
 
 
 
 
Quarter ended June 30,
 
 
 
 
Six Months ended June 30,
 
 
 
($ in thousands)
 
2016
 
2015
 
Change
% or
Points
 
 
2016
 
2015
 
Change
% or
Points
 
Statutory NPW
 
$
79,074

 
75,471

 
5

%
 
$
170,386

 
159,276

 
7

%
  Direct new business
 
17,081

 
18,158

 
(6
)
 
 
34,811

 
38,278

 
(9
)
 
  Retention
 
84

%
83

 
1

pts
 
84

%
83

 
1

pts
  Renewal pure price increases
 
1.3

 
2.8

 
(1.5
)
 
 
1.5

 
3.1

 
(1.6
)
 
Statutory NPE
 
$
75,251

 
70,954

 
6

%
 
$
151,251

 
139,431

 
8

%
Statutory combined ratio
 
87.7

%
89.2

 
(1.5
)
pts
 
84.3

%
89.9

 
(5.6
)
pts
% of total statutory Standard Commercial Lines NPW
 
18

 
18

 
 

 
 
19

 
19

 
 
 

The decreases in the statutory combined ratio in Second Quarter and Six Months 2016 compared to the same prior year periods were due to the following:

Favorable prior year casualty reserve development of $9.0 million, or 12.0 points, in Second Quarter 2016 related primarily to lower severities in accident years 2013 and prior, compared to $8.0 million, or 11.3 points, in Second Quarter 2015; and

Favorable prior year casualty reserve development of $21.0 million, or 13.9 points, in Six Months 2016 related primarily to lower severities in accident years 2013 and prior, compared to $13.0 million, or 9.3 points, in Six Months 2015.

Commercial Property
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Quarter ended June 30,
 
 
 
 
Six Months ended June 30,
 
 
 
($ in thousands)
 
2016
 
2015
 
Change
% or
Points
 
 
2016
 
2015
 
Change
% or
Points
 
Statutory NPW
 
$
79,354

 
70,736

 
12

%
 
$
154,998

 
141,634

 
9

%
  Direct new business
 
20,339

 
18,832

 
8

 
 
38,149

 
36,727

 
4

 
  Retention
 
82

%
82

 

pts
 
82

%
82

 

pts
Renewal pure price increases
 
2.7

 
2.7

 

 
 
2.5

 
2.8

 
(0.3
)
 
Statutory NPE
 
$
73,591

 
66,549

 
11

%
 
$
143,769

 
131,112

 
10

%
Statutory combined ratio
 
78.2

%
95.3

 
(17.1
)
pts
 
84.8

%
96.9

 
(12.1
)
pts
% of total statutory Standard Commercial Lines NPW
 
18

 
17

 
 

 
 
17

 
17

 
 
 

The 17.1-point decrease in the statutory combined ratio in Second Quarter 2016 compared to Second Quarter 2015 and the 12.1-point decrease in the statutory combined ratio in Six Months 2016 compared to Six Months 2015 were driven by: (i) lower catastrophe losses; and (ii) lower non-catastrophe property losses.

Quantitative information regarding the development and non-catastrophe property losses is as follows:

Second Quarter 2016

Second Quarter 2015


($ in millions)
(Benefit) Expense
Impact on
Combined Ratio


(Benefit) Expense
Impact on
Combined Ratio

Change
% or
Points

Catastrophe losses
$
2.9

4.0
pts

$
11.0

16.5
pts
(12.5
)
pts
Non-catastrophe property losses
23.2

31.5


23.7

35.6

(4.1
)

 
Six Months 2016
 
Six Months 2015
 
 
($ in millions)
(Benefit) Expense
Impact on
Combined Ratio
 
 
(Benefit) Expense
Impact on
Combined Ratio
 
Change
% or
Points
 
Catastrophe losses
$
13.1

9.1
pts
 
$
26.1

19.9
pts
(10.8
)
pts
Non-catastrophe property losses
46.3

32.2
 
 
45.2

34.5
 
(2.3
)
 

31

Table of Contents


Standard Personal Lines
 
 
Quarter ended June 30,
 
 
 
 
 
Six Months ended June 30,
 
 
 
($ in thousands)
 
2016
 
2015
 
Change
% or
Points
 
 
 
2016
 
2015
 
Change
% or
Points
 
GAAP Insurance Operations Results:
 
 

 
 

 
 

 
 
 
 
 
 
 
 
 
NPW
 
$
75,576

 
75,986

 
(1
)
 
%
 
$
137,545

 
141,010

 
(2
)
%
NPE
 
70,824

 
72,071

 
(2
)
 
 
 
141,029

 
144,550

 
(2
)
 
Less:
 
 
 
 

 
 
 
 
 
 
 
 

 
 
 
Loss and loss expense incurred
 
42,212

 
53,933

 
(22
)
 
 
 
81,907

 
106,902

 
(23
)
 
Net underwriting expenses incurred
 
22,487

 
22,793

 
(1
)
 
 
 
44,392

 
44,769

 
(1
)
 
Underwriting gain (loss)
 
$
6,125

 
(4,655
)
 
232

 
%
 
$
14,730

 
(7,121
)
 
307

%
GAAP Ratios:
 
 
 
 

 
 
 
 
 
 
 
 

 
 
 
Loss and loss expense ratio
 
59.6

%
74.8

 
(15.2
)
 
pts
 
58.1

%
74.0

 
(15.9
)
pts
Underwriting expense ratio
 
31.8

 
31.7

 
0.1

 
 
 
31.5

 
30.9

 
0.6

 
Combined ratio
 
91.4

 
106.5

 
(15.1
)
 
 
 
89.6

 
104.9

 
(15.3
)
 
Statutory Ratios:
 
 
 
 

 
 
 
 
 
 
 
 

 
 
 
Loss and loss expense ratio
 
59.6

 
75.0

 
(15.4
)
 
 
 
58.1

 
74.2

 
(16.1
)
 
Underwriting expense ratio
 
30.3

 
30.4

 
(0.1
)
 
 
 
32.0

 
31.0

 
1.0

 
Combined ratio
 
89.9

%
105.4

 
(15.5
)
 
pts
 
90.1

%
105.2

 
(15.1
)
pts

The decreases in NPW for the quarter and year-to-date periods were primarily driven by new business that were not sufficient to compensate for the attrition reflected in the 2016 retention ratios illustrated in the table below.
 
 
Quarter ended June 30,
 
 
Six Months ended June 30,
 
($ in millions)
 
2016
 
2015
 
 
2016
 
2015
 
New business
 
$
9.6

 
8.6
 
 
$
17.0

 
15.9
 
Retention
 
83

%
82
 
 
82

%
81
 
Renewal pure price increases
 
5.2

 
6.7
 
 
5.1

 
6.8
 

The NPE decreases in Second Quarter and Six Months 2016 compared to Second Quarter and Six Months 2015 were consistent with the fluctuations in NPW for the twelve-month period ended June 30, 2016 compared with the twelve-month period ended June 30, 2015.

The GAAP loss and loss expense ratio decreased 15.2 points in Second Quarter 2016 compared to Second Quarter 2015 and 15.9 points in Six Months 2016 compared to Six Months 2015. The drivers of these fluctuations were as follows:
 
Second Quarter 2016
 
Second Quarter 2015
 
 
($ in millions)
Loss and Loss Expense Incurred
Impact on
Loss and Loss Expense Ratio
 
 
Loss and Loss
Expense
Incurred
Impact on
Loss and Loss Expense Ratio
 
Change in Ratio
 
Catastrophe losses
$
2.1

3.0

pts
 
$
8.3

11.5

pts
(8.5
)
pts
Non-catastrophe property losses
18.4

25.9

 
 
22.8

31.7

 
(5.8
)
 
Flood claims handling fees
(0.9
)
(1.3
)
 
 
(0.7
)
(1.0
)
 
(0.3
)
 
 
Six Months 2016
 
Six Months 2015
 
 
($ in millions)
Loss and Loss Expense Incurred
Impact on
Loss and Loss Expense Ratio
 
 
Loss and Loss
Expense
Incurred
Impact on
Loss and Loss Expense Ratio
 
Change in Ratio
 
Catastrophe losses
$
4.3

3.1

pts
 
14.6

10.1

pts
(7.0
)
pts
Non-catastrophe property losses
34.7

24.6

 
 
47.0

32.5

 
(7.9
)
 
Flood claims handling fees
(2.0
)
(1.4
)
 
 
(1.2
)
(0.9
)
 
(0.5
)
 

The increase in the GAAP underwriting expense ratio in Six Months 2016 compared to Six Months 2015 was primarily driven by increased costs associated with: (i) capital technology improvements; and (ii) underwriting expenses from third-party data vendors.

32

Table of Contents


E&S Insurance Operations
 
 
Quarter ended June 30,
 
 
 
 
Six Months ended June 30,
 
 
 
($ in thousands)
 
2016
 
2015
 
Change
% or
Points
 
 
2016
 
2015
 
Change
% or
Points
 
GAAP Insurance Operations Results:
 
 

 
 

 
 

 
 
 
 
 
 
 
 
NPW
 
$
53,556

 
45,326

 
18

%
 
$
101,883

 
83,132

 
23

%
NPE
 
49,831

 
41,033

 
21

 
 
99,195

 
79,144

 
25

 
Less:
 
 

 
 

 
 

 
 
 

 
 

 
 

 
Loss and loss expense incurred
 
34,649

 
27,540

 
26

 
 
68,748

 
53,422

 
29

 
Net underwriting expenses incurred
 
17,703

 
14,955

 
18

 
 
31,550

 
28,733

 
10

 
Underwriting loss
 
$
(2,521
)
 
(1,462
)
 
(72
)
%
 
$
(1,103
)
 
(3,011
)
 
63

%
GAAP Ratios:
 
 

 
 

 
 

 
 
 

 
 

 
 

 
Loss and loss expense ratio
 
69.5

%
67.1

 
2.4

pts
 
69.3

%
67.5

 
1.8

pts
Underwriting expense ratio
 
35.6

 
36.5

 
(0.9
)
 
 
31.8

 
36.3

 
(4.5
)
 
Combined ratio
 
105.1

 
103.6

 
1.5

 
 
101.1

 
103.8

 
(2.7
)
 
Statutory Ratios:
 
 

 
 

 
 

 
 
 

 
 

 
 

 
Loss and loss expense ratio
 
69.6

 
67.2

 
2.4

 
 
69.3

 
67.4

 
1.9

 
Underwriting expense ratio
 
33.1

 
35.5

 
(2.4
)
 
 
31.3

 
35.1

 
(3.8
)
 
Combined ratio
 
102.7

%
102.7

 

pts
 
100.6

%
102.5

 
(1.9
)
pts

The increases in NPW for both the quarter and year-to-date periods, compared to the same periods last year, were primarily driven by price increases of 4.8% and 4.1%, respectively, coupled with strong new business as indicated in the table below:
 
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in millions)
 
2016
 
2015
 
2016
 
2015
Direct new business
 
$
25.4

 
25.6

 
47.9

 
47.1

 
The NPE increases in Second Quarter and Six Months 2016, compared to Second Quarter and Six Months 2015, were consistent with the fluctuations in NPW for the twelve-month period ended June 30, 2016 compared with the twelve-month period ended June 30, 2015.

The GAAP loss and loss expense ratio increased by 2.4 points in Second Quarter 2016 and 1.8 points in Six Months 2016 compared to the same prior year periods. These variances reflect a 3.7-point increase in current year loss costs in both Second Quarter and Six Months 2016, as well as higher unfavorable prior year casualty reserve development. Quantitative information is as follows:
 
Second Quarter 2016
 
 
Second Quarter 2015
 
 
 
($ in millions)
Loss and Loss Expense Incurred
Impact on
Loss and Loss Expense Ratio
 
 
Loss and Loss
Expense
Incurred
Impact on
Loss and Loss Expense Ratio
 
Change in Ratio
 
Non-catastrophe property losses
$
4.4

8.7
pts
 
$
5.2

12.7
pts
(4.0
)
pts
Unfavorable prior year casualty development
2.0

4.0
 
 
1.0

2.4
 
1.6

 
 
Six Months 2016
 
 
Six Months 2015
 
 
 
($ in millions)
Loss and Loss Expense Incurred
Impact on
Loss and Loss Expense Ratio
 
 
Loss and Loss
Expense
Incurred
Impact on
Loss and Loss Expense Ratio
 
Change in Ratio
 
Non-catastrophe property losses
$
10.8

10.9
pts
 
$
11.7

14.8
pts
(3.9
)
pts
Unfavorable prior year casualty development
3.0

3.0
 
 
2.0

2.6
 
0.4

 

33

Table of Contents


The GAAP underwriting expense ratio decreased by 0.9 points in Second Quarter 2016 and 4.5 points in Six Months 2016, compared to the same prior year periods, primarily due to the following:

A 0.7-point reduction in Second Quarter 2016 and 2.1-point reduction in Six Months 2016 from a lower annual cash incentive plan payment for employees in this segment based on 2015 underwriting results; and

A 0.5-point decrease in Second Quarter 2016 and 1.2-point decrease in Six Months 2016 from lower commission expenses to our distribution partners reflecting a change in the mix of business written in this segment, as well as lower supplemental commission expense.

In addition, the growth in premiums earned in Second Quarter and Six Months 2016 compared to last year has more than outpaced the increase in fixed expenses, thus reducing the expense ratio.

Reinsurance
We have successfully completed negotiations of our July 1, 2016 excess of loss treaties, which continue to incorporate coverage for our Standard Commercial Lines, Standard Personal Lines, and E&S Lines. The renewal of these treaties included some enhancements in terms and conditions, with the same structure as the expiring treaties as follows:

Property Excess of Loss
The property excess of loss treaty ("Property Treaty") continues to provide $58.0 million of coverage in excess of a $2.0 million retention:
The per occurrence cap on the first and second layers is $84.0 million.
The first layer has unlimited reinstatements and a limit of $8.0 million in excess of $2.0 million.
The annual aggregate limit for the $30.0 million in excess of $10.0 million second layer is $120.0 million.
A third layer has a limit of $20.0 million excess of $40.0 million with an annual aggregate limit of approximately $70.0 million.
The Property Treaty excludes nuclear, biological, chemical, and radiological ("NBCR") terrorism losses.

Casualty Excess of Loss
The casualty excess of loss treaty (“Casualty Treaty”) continues to provide $88.0 million of coverage in excess of a $2.0 million retention:
The first through sixth layers provide coverage for 100% of up to $88.0 million in excess of a $2.0 million retention.
The Casualty Treaty includes a $25.0 million limit, per life, on our workers compensation business, which is a $4.0 million increase from the prior treaty.
The Casualty Treaty excludes NBCR terrorism losses and continues to have annual aggregate non-NBCR terrorism limits of $208.0 million.


Investments
Our investment philosophy includes certain return and risk objectives for the fixed income, equity, and other investment portfolios. Although yield and income generation remain the key drivers to our investment strategy, our overall philosophy is to invest with a long-term horizon along with predominantly a “buy-and-hold,” low turnover approach.
Total Invested Assets
 
 
 
 
 
 
 
($ in thousands)
 
June 30, 2016
 
December 31, 2015
 
Change % or Points
 
Total invested assets
 
$
5,266,523

 
5,089,269

 
3

%
Unrealized gain – before tax
 
191,471

 
69,224

 
177

 
Unrealized gain – after tax
 
124,456

 
44,996

 
177

 
Invested assets per dollar of stockholders' equity
 
3.39

 
3.64

 
(7
)

Annualized after-tax yield on investment portfolio
 
1.8

 
1.9

 
(0.1
)
pts
 
The increase in invested assets at June 30, 2016 compared to December 31, 2015 was driven by a $122.2 million increase in unrealized gains, primarily on our fixed income securities portfolio, as well as operating cash flow of $59.1 million. During Six Months 2016, interest rates on the 10-year U.S. Treasury Note fell by 80 basis points, which drove the increase in unrealized gains on the fixed income securities portfolio. While the low interest rate environment favorably impacts our unrealized position, it presents a challenge to us in generating after-tax return, as new purchase yields are below the average yield on bonds that are currently maturing.

34

Table of Contents


Fixed Income Securities
At June 30, 2016, our fixed income securities portfolio represented 92% of our total invested assets, compared to our December 31, 2015 allocation of 91%. The average duration of the fixed income securities portfolio as of June 30, 2016 was 3.7 years, including short-term investments, compared to the Insurance Subsidiaries’ liability duration of approximately 4.3 years. The current duration of the fixed income securities portfolio is within our historical range, and is monitored and managed to maximize yield while managing interest rate risk at an acceptable level. We maintain a well-diversified portfolio across sectors, credit quality, and maturities that affords us ample liquidity. We typically have a long investment time horizon, and every purchase or sale is made with the intent of maximizing risk-adjusted investment returns in the current market environment while balancing capital preservation. Our fixed income securities portfolio had a weighted average credit rating of "AA-" as of both June 30, 2016 and December 31, 2015.

The sector composition and credit quality of our major asset categories within our fixed income securities portfolio did not significantly change from December 31, 2015. Our top 10 state exposures represented 53% of the total municipal bond portfolio as of June 30, 2016 and had an average rating of "AA." A portion of our municipal bond portfolio contains insurance enhancements; however, the ratings of the securities with and without insurance remained unchanged as we generally purchase securities based on their underlying credit quality. For details regarding this credit quality information, see Item 7A. “Quantitative and Qualitative Disclosures About Market Risk.” of our 2015 Annual Report.

Net Investment Income
The components of net investment income earned for the indicated periods were as follows:
 
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
 
2016
 
2015
Fixed income securities
 
$
31,753

 
30,659

 
63,397

 
61,626

Equity securities
 
2,204

 
2,384

 
4,434

 
4,176

Short-term investments
 
142

 
23

 
301

 
48

Other investments
 
(611
)
 
1,422

 
(1,677
)
 
(2,118
)
Investment expenses
 
(2,306
)
 
(2,258
)
 
(4,504
)
 
(4,585
)
Net investment income earned – before tax
 
31,182

 
32,230

 
61,951

 
59,147

Net investment income tax expense
 
(7,657
)
 
(7,451
)
 
(14,866
)
 
(13,160
)
Net investment income earned – after tax
 
$
23,525

 
24,779

 
47,085

 
45,987

Effective tax rate
 
24.6
%
 
23.1

 
24.0

 
22.2

Annualized after-tax yield on fixed income securities
 
2.0

 
2.1

 
2.0

 
2.1

Annualized after-tax yield on investment portfolio
 
1.8

 
2.0

 
1.8

 
1.9


Income on our fixed income securities portfolio increased in both Second Quarter and Six Months 2016, reflecting a higher asset base in this portfolio. However, losses on the alternative investments within our other investment portfolio more than offset this increase in Second Quarter 2016, resulting in a slight reduction in income compared to Second Quarter 2015.

Realized Gains and Losses
Our general philosophy for sales of securities is to reduce our exposure to securities and sectors based on economic evaluations and when the fundamentals for that security or sector have deteriorated, or to opportunistically trade out of securities to other securities with better economic return characteristics. Net realized gains for the indicated periods were as follows:
 
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in thousands)
 
2016
 
2015
 
2016
 
2015
Net realized gains, excluding OTTI
 
$
2.3

 
1.1

 
3.2

 
22.0

OTTI
 
(0.5
)
 
(4.5
)
 
(4.1
)
 
(6.5
)
Total net realized gains (losses)
 
1.8

 
(3.4
)
 
(0.9
)
 
15.5

 
Net realized gains excluding OTTI in Six Months 2015 reflect the sale of AFS equity securities related to a change in our dividend strategy from a quantitative, model-driven stock selection strategy to a fundamentally-based stock selection approach.

For further discussion of our realized gains and losses, as well as our OTTI methodology, see Note 2. “Summary of Significant Accounting Policies” in Item 8. “Financial Statements and Supplementary Data.” of our 2015 Annual Report. For additional information about our OTTI charges, see Note 4. "Investments" in Item 1. "Financial Statements." of this Form 10-Q.

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Federal Income Taxes
The following table provides information regarding federal income taxes:
 
Quarter ended June 30,
 
Six Months ended June 30,
($ in million)
2016
 
2015
 
2016
 
2015
Federal income tax expense
$
18.7

 
13.0

 
33.6

 
29.6

Effective tax rate
30
%
 
28

 
29

 
29


Federal income tax expense increased in Second Quarter and Six Months 2016 compared with the same prior year periods due to higher underwriting income. This increase in underwriting income was partially offset by a decrease in net realized gains in Six Months 2016 compared to Six Months 2015. The effective tax rate remained consistent with the comparable prior year periods, as tax-advantaged income remained flat compared to the increase in overall pre-tax income. The majority of our differences from the statutory rate are from recurring nontaxable items, such as tax-advantaged interest and dividends received deductions.

We believe that our future effective tax rate will continue to be impacted by similar items, assuming no significant changes to tax laws occur that would impact our tax-advantaged investments.

Financial Condition, Liquidity, Short-term Borrowings, and Capital Resources
Capital resources and liquidity reflect our ability to generate cash flows from business operations, borrow funds at competitive rates, and raise new capital to meet operating and growth needs.
 
Liquidity
We manage liquidity with a focus on generating sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. Our cash and short-term investment position of $207 million at June 30, 2016 was comprised of $30 million at the Parent and $177 million at the Insurance Subsidiaries. Short-term investments are generally maintained in "AAA" rated money market funds approved by the National Association of Insurance Commissioners. The Parent maintains a fixed income security investment portfolio containing high-quality, highly-liquid government and corporate fixed income securities. This portfolio amounted to $63 million at June 30, 2016, consistent with December 31, 2015.
 
Sources of Liquidity
Sources of cash for the Parent have historically consisted of dividends from the Insurance Subsidiaries, the investment portfolio discussed above, borrowings under lines of credit and loan agreements with certain Insurance Subsidiaries, and the issuance of stock and debt securities. We continue to monitor these sources, giving consideration to our long-term liquidity and capital preservation strategies.

Insurance Subsidiary Dividends
We currently anticipate that the Insurance Subsidiaries will pay $61 million in total dividends to the Parent in 2016. Cash dividends of $31 million were paid during Six Months 2016. As of December 31, 2015, our allowable ordinary maximum dividend was $178 million for 2016.

Any dividends to the Parent are subject to the approval and/or review of the insurance regulators in the respective Insurance Subsidiaries' domiciliary states and are generally payable only from earned surplus as reported in the statutory annual statements of those subsidiaries as of the preceding December 31. Although past dividends have historically been met with regulatory approval, there is no assurance that future dividends that may be declared will be approved. Indiana state regulators passed legislation revising the calculation to determine an extraordinary dividend, which became effective on July 1, 2016. These changes did not have a material impact on our allowable ordinary dividends for 2016. For additional information regarding dividend restrictions, refer to Note 19. “Statutory Financial Information, Capital Requirements, and Restrictions on Dividends and Transfers of Funds” in Item 8. “Financial Statements and Supplementary Data.” of our 2015 Annual Report.
The Insurance Subsidiaries generate liquidity through insurance float, which is created by collecting premiums and earning investment income before losses are paid. The period of the float can extend over many years. Our investment portfolio consists of maturity dates that continually provide a source of cash flows for claims payments in the ordinary course of business. The duration of the fixed income securities portfolio, including short-term investments, was 3.7 years as of June 30, 2016, while the liabilities of the Insurance Subsidiaries have a duration of 4.3 years. As protection for the capital resources at the Insurance Subsidiaries, we purchase reinsurance coverage for any significantly large claims or catastrophes that may occur during the year.


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Line of Credit
The Parent's line of credit with Wells Fargo Bank, National Association, as administrative agent, and Branch Banking and Trust Company (BB&T) (referred to as our "Line of Credit"), was renewed effective December 1, 2015 with a borrowing capacity of $30 million, which can be increased to $50 million with the approval of both lending partners. This Line of Credit expires on December 1, 2020 and has an interest rate which varies and is based on, among other factors, the Parent's debt ratings.

The Line of Credit agreement contains representations, warranties, and covenants that are customary for credit facilities of this type, including, without limitation, financial covenants under which we are obligated to maintain a minimum consolidated net worth, a minimum combined statutory surplus, and a maximum ratio of consolidated debt to total capitalization, as well as covenants limiting our ability to: (i) merge or liquidate; (ii) incur debt or liens; (iii) dispose of assets; (iv) make certain investments and acquisitions; and (v) engage in transactions with affiliates.

The table below outlines information regarding certain of the covenants in the Line of Credit:
 
Required as of June 30, 2016
Actual as of June 30, 2016
Consolidated net worth
$1.0 billion
$1.6 billion
Statutory surplus
Not less than $750 million
$1.5 billion
Debt-to-capitalization ratio1
Not to exceed 35%
20.4%
A.M. Best financial strength rating
Minimum of A-
A
1 
Calculated in accordance with the Line of Credit agreement.

Several of our Insurance Subsidiaries are members of certain branches of the Federal Home Loan Bank, which provides those subsidiaries with additional access to liquidity. Membership is as follows:
Branch
Insurance Subsidiary Member
Federal Home Loan Bank of Indianapolis ("FHLBI")
Selective Insurance Company of South Carolina ("SICSC")1
Selective Insurance Company of the Southeast ("SICSE")1
Federal Home Loan Bank of New York ("FHLBNY")
Selective Insurance Company of America ("SICA")
Selective Insurance Company of New York ("SICNY")
1These subsidiaries are jointly referred to as the "Indiana Subsidiaries" as they are domiciled in Indiana.

The Line of Credit permits aggregate borrowings from the FHLBI and the FHLBNY up to 10% of the respective member company’s admitted assets for the previous year. Additionally, the FHLBNY limits borrowings by SICA and SICNY to 5% of admitted assets for the previous year. All borrowings from both the FHLBI and the FHLBNY are required to be secured by investments pledged as collateral. For additional information regarding collateral outstanding, refer to Note 4. "Investments" in Item 1. "Financial Statements." of this Form 10-Q. The following table provides information on the remaining capacity for Federal Home Loan Bank borrowings based on these restrictions, as well as the amount of additional stock that would need to be purchased to allow these member companies to borrow their remaining capacity:
($ in millions)
Admitted Assets
as of December 31, 2015
 
Borrowing Limitation
 
Amount Borrowed
 
Remaining Capacity
 
Additional Stock Requirements
As of June 30, 2016
 
 
 
 
SICSC1
$
594.3

 
$
59.4

 
32.0

 
27.4

 
1.2

SICSE1
461.8

 
46.2

 
28.0

 
18.2

 
0.8

SICA1
2,140.7

 
107.0

 

 
107.0

 
4.8

SICNY
403.4

 
20.2

 

 
20.2

 
0.9

Total
 
 
$
232.8

 
60.0

 
172.8

 
7.7

1On July 21, 2016, SICA borrowed $25 million from the FHLBNY which is due in 2021. On July 22, 2016, SICSC and SICSE repaid $5 million and $10 million, respectively, on their borrowing from the FHLBI.


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Intercompany Loan Agreements
The Parent has lending agreements with the Indiana Subsidiaries that have been approved by the Indiana Department of Insurance, which provide additional liquidity to the Parent. Similar to the Line of Credit agreement, these lending agreements limit borrowings by the Parent from the Indiana Subsidiaries to 10% of the admitted assets of the respective Indiana Subsidiary. The following table provides information on the Parent’s borrowings and remaining borrowing capacity from the Indiana Subsidiaries:
($ in millions)
Admitted Assets
as of December 31, 2015
 
Borrowing Limitation
 
Amount Borrowed
 
Remaining Capacity
As of June 30, 2016
 
 
 
SICSC
$
594.3

 
$
59.4

 
29.7

 
29.7

SICSE
461.8

 
46.2

 
18.3

 
27.9

Total
 
 
$
105.6

 
48.0

 
57.6


Capital Market Activities
The Parent had no private or public issuances of stock or debt instruments during Six Months 2016.

Uses of Liquidity
The liquidity generated from the sources discussed above is used, among other things, to pay dividends to our shareholders. Dividends on shares of the Parent's common stock are declared and paid at the discretion of the Board of Directors based on our operating results, financial condition, capital requirements, contractual restrictions, and other relevant factors.

Our ability to meet our interest and principal repayment obligations on our debt, as well as our ability to continue to pay dividends to our stockholders, is dependent on liquidity at the Parent coupled with the ability of the Insurance Subsidiaries to pay dividends, if necessary, and/or the availability of other sources of liquidity to the Parent. Scheduled repayments of our FHLBI borrowings are $15 million, which was paid in July 2016 and $45 million, which is due in December 2016. Subsequent to these payments, our next principal repayment is due in 2021, which is the FHLBNY borrowing made in July 2016.

Restrictions on the ability of the Insurance Subsidiaries to declare and pay dividends, without alternative liquidity options, could materially affect our ability to service debt and pay dividends on common stock.

Short-term Borrowings
There were no balances outstanding under the Line of Credit at June 30, 2016 or at any time during 2016. In Six Months 2016, SICA borrowed an aggregate amount of $55 million through three short-term borrowings from FHLBNY. None of these borrowings remained outstanding at June 30, 2016. For additional information regarding these and other borrowings, see Note 5. "Indebtedness" in Item 1. "Financial Statements." of this Form 10-Q.

Capital Resources
Capital resources provide protection for policyholders, furnish the financial strength to support the business of underwriting insurance risks, and facilitate continued business growth. At June 30, 2016, we had statutory surplus of $1.5 billion and GAAP stockholders’ equity of $1.6 billion. With total debt of $388 million, our debt-to-capital ratio was approximately 20%.
 
Our cash requirements include, but are not limited to, principal and interest payments on various notes payable, dividends to stockholders, payment of claims, payment of commitments under limited partnership agreements and capital expenditures, as well as other operating expenses, which include commissions to our distribution partners, labor costs, premium taxes, general and administrative expenses, and income taxes. For further details regarding our cash requirements, refer to the section below entitled, “Contractual Obligations, Contingent Liabilities, and Commitments.”
 
We continually monitor our cash requirements and the amount of capital resources that we maintain at the holding company and operating subsidiary levels. As part of our long-term capital strategy, we strive to maintain capital metrics, relative to the macroeconomic environment, that support our targeted financial strength. Based on our analysis and market conditions, we may take a variety of actions, including, but not limited to, contributing capital to the Insurance Subsidiaries in our insurance operations, issuing additional debt and/or equity securities, repurchasing shares of the Parent’s common stock, and increasing stockholders’ dividends.
 

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Our capital management strategy is intended to protect the interests of the policyholders of the Insurance Subsidiaries and our stockholders, while enhancing our financial strength and underwriting capacity.
 
Book value per share increased to $26.86 as of June 30, 2016, up from $24.37 as of December 31, 2015, due to $1.38 in net income and $1.37 in unrealized gains on our investment portfolio, partially offset by $0.30 in dividends to our shareholders.

Ratings
We are rated by major rating agencies that issue opinions on our financial strength, operating performance, strategic position, and ability to meet policyholder obligations. We believe that our ability to write insurance business is most influenced by our rating from A.M. Best. We have been rated “A” or higher by A.M. Best for the past 86 years. A downgrade from A.M. Best to a rating below “A-” is an event of default under our Line of Credit and could affect our ability to write new business with customers and/or distribution partners, some of whom are required (under various third-party agreements) to maintain insurance with a carrier that maintains a specified A.M. Best minimum rating.

Our ratings have not changed from those reported in our "Ratings" section of Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations." in our 2015 Annual Report and continue to be as follows:
NRSRO
 
Financial Strength Rating
 
Outlook
A.M. Best
 
A
 
Stable
Standard & Poor's Rating Services
 
A-
 
Positive
Moody's Investor Services
 
A2
 
Stable
Fitch Ratings
 
A+
 
Stable

Our S&P, Moody's, and Fitch financial strength and associated credit ratings affect our ability to access capital markets.  The interest rate on our Line of Credit varies and is based on, among other factors, the Parent's debt ratings. There can be no assurance that our ratings will continue for any given period of time or that they will not be changed.  It is possible that positive or negative ratings actions by one or more of the rating agencies may occur in the future.

Off-Balance Sheet Arrangements
At June 30, 2016 and December 31, 2015, we did not have any material relationships with unconsolidated entities or financial partnerships, also referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or for other contractually narrow or limited purposes. As such, we are not exposed to any material financing, liquidity, market, or credit risk that could arise if we had engaged in such relationships.

Contractual Obligations, Contingent Liabilities, and Commitments
Our future cash payments associated with: (i) loss and loss expense reserves; (ii) contractual obligations pursuant to operating leases for office space and equipment; (iii) notes payable; and (iv) contractual obligations related to our alternative and other investments portfolio have not materially changed since December 31, 2015. Additionally, as of June 30, 2016, we had contractual obligations that expire in 2019 to invest $15 million in a non-publicly traded common stock within our AFS portfolio. We expect to have the capacity to repay and/or refinance these obligations as they come due.
 
We have issued no material guarantees on behalf of others and have no trading activities involving non-exchange traded contracts accounted for at fair value. We have no material transactions with related parties other than those disclosed in Note 16. "Related Party Transactions" included in Item 8. "Financial Statements and Supplementary Data." of our 2015 Annual Report.

ITEM 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
There have been no material changes in the information about market risk set forth in our 2015 Annual Report.

ITEM 4.   CONTROLS AND PROCEDURES.
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”)), as of the end of the period covered by this report. In performing this evaluation, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control Integrated Framework ("COSO Framework") in 2013. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, our disclosure controls and procedures are: (i) effective in recording, processing, summarizing, and reporting information on a timely basis that we are required to disclose in the reports that we file or submit under the Exchange Act; and (ii) effective in ensuring that information that we are required to disclose in the reports that we file or submit under the Exchange Act is accumulated and

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communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. No changes in our internal control over financial reporting (as such term is defined in Rule 13a-15(f) of the Exchange Act) occurred during Six Months 2016 that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS.
In the ordinary course of conducting business, we are named as defendants in various legal proceedings. Most of these proceedings are claims litigation involving our Insurance Subsidiaries as either: (i) liability insurers defending or providing indemnity for third-party claims brought against our customers; or (ii) insurers defending first-party coverage claims brought against them. We account for such activity through the establishment of unpaid loss and loss expense reserves. We expect that the ultimate liability, if any, with respect to such ordinary course claims litigation, after consideration of provisions made for potential losses and costs of defense, will not be material to our consolidated financial condition, results of operations, or cash flows.
 
Our Insurance Subsidiaries are also from time to time involved in other legal actions, some of which assert claims for substantial amounts. These actions include, among others, putative class actions seeking certification of a state or national class. Such putative class actions have alleged, for example, improper reimbursement of medical providers paid under workers compensation and personal and commercial automobile insurance policies. Our Insurance Subsidiaries are also involved from time to time in individual actions in which extra-contractual damages, punitive damages, or penalties are sought, such as claims alleging bad faith in the handling of insurance claims. We believe that we have valid defenses to these cases. We expect that the ultimate liability, if any, with respect to such lawsuits, after consideration of provisions made for estimated losses, will not be material to our consolidated financial condition. Nonetheless, given the large or indeterminate amounts sought in certain of these actions, and the inherent unpredictability of litigation, an adverse outcome in certain matters could, from time to time, have a material adverse effect on our consolidated results of operations or cash flows in particular quarterly or annual periods. As of June 30, 2016, we do not believe the Company was involved in any legal action that could have a material adverse effect on our consolidated financial condition, results of operations, or cash flows.

ITEM 1A. RISK FACTORS.
Certain risk factors exist that can have a significant impact on our business, liquidity, capital resources, results of operations, financial condition, and debt ratings. The impact of these risk factors also could impact certain actions that we take as part of our long-term capital strategy, including but not limited to, contributing capital to any or all of the Insurance Subsidiaries, issuing additional debt and/or equity securities, repurchasing our equity securities, redeeming our fixed income securities, or increasing or decreasing stockholders dividends. We operate in a continually changing business environment and new risk factors emerge from time to time. Consequently, we can neither predict such new risk factors nor assess the potential future impact, if any, they might have on our business. There have been no material changes from the risk factors disclosed in Item 1A. “Risk Factors.” in our 2015 Annual Report.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.
The following table provides information regarding our purchases of our common stock in Second Quarter 2016:
Period
 
Total Number of
Shares Purchased1
 
Average Price
Paid per Share
 
Total Number of
Shares Purchased
as Part of Publicly
Announced Programs
 
Maximum Number of
Shares that May Yet
Be Purchased Under the Announced Programs
April 1 – 30, 2016
 
3,826

 
$
35.78

 

 

May 1 - 31, 2016
 
10,946

 
36.54

 

 

June 1 - 30, 2016
 
985

 
37.30

 

 

Total
 
15,757

 
$
36.40

 

 


1During Second Quarter 2016, 4,811 shares were purchased from employees in connection with the vesting of restricted stock units and 10,946 shares were purchased from employees in connection with option exercises. These repurchases were made to satisfy tax withholding obligations and/or option costs with respect to those employees. These shares were not purchased as part of any publicly announced program. The shares that were purchased in connection with the vesting of restricted stock units were purchased at fair market value as defined in the Selective Insurance Group, Inc. 2014 Omnibus Stock Plan and the Selective Insurance Group, Inc. 2005 Omnibus Stock Plan As Amended and Restated Effective as of May 1, 2010. The shares purchased in connection with the option exercises were purchased at the current market prices of our common stock on the dates the options were exercised.

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ITEM 6. EXHIBITS.
Exhibit No.  
 
 
* 11
 
Statement Re: Computation of Per Share Earnings.
* 31.1
 
Certification of Chief Executive Officer in accordance with Section 302 of the Sarbanes-Oxley Act of 2002.
* 31.2
 
Certification of Chief Financial Officer in accordance with Section 302 of the Sarbanes-Oxley Act of 2002.
* 32.1
 
Certification of Chief Executive Officer in accordance with Section 906 of the Sarbanes-Oxley Act of 2002.
* 32.2
 
Certification of Chief Financial Officer in accordance with Section 906 of the Sarbanes-Oxley Act of 2002.
** 101.INS
 
XBRL Instance Document.
** 101.SCH
 
XBRL Taxonomy Extension Schema Document.
** 101.CAL
 
XBRL Taxonomy Extension Calculation Linkbase Document.
** 101.LAB
 
XBRL Taxonomy Extension Label Linkbase Document.
** 101.PRE
 
XBRL Taxonomy Extension Presentation Linkbase Document.
** 101.DEF
 
XBRL Taxonomy Extension Definition Linkbase Document.
 
* Filed herewith.
** Furnished and not filed herewith.



SIGNATURES
 
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.
 
SELECTIVE INSURANCE GROUP, INC.
Registrant 
 
By: /s/ Gregory E. Murphy
July 28, 2016
Gregory E. Murphy
 
Chairman of the Board and Chief Executive Officer
 
 
 
By: /s/ Dale A. Thatcher
July 28, 2016
Dale A. Thatcher
 
Executive Vice President, Chief Financial Officer and Treasurer
 
(principal financial officer)
 
 
 
By: /s/ Anthony D. Harnett
July 28, 2016
Anthony D. Harnett
 
Senior Vice President and Chief Accounting Officer
 
(principal accounting officer)
 
 



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