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UNITED FIRE GROUP INC - Quarter Report: 2014 September (Form 10-Q)

Table of Contents

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_______________________
FORM 10-Q
_______________________

 
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

for the quarterly period ended September 30, 2014

Commission File Number 001-34257
_____________________________
 UNITED FIRE GROUP, INC.
(Exact name of registrant as specified in its charter)
____________________________
 
 
 
Iowa
 
45-2302834
 
 
 
 
(State of Incorporation)
 
(IRS Employer Identification No.)
 
 

118 Second Avenue, S.E., Cedar Rapids, Iowa 52401
(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code: (319) 399-5700

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES R NO o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
YES R 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. (Check one):
Large accelerated filer o 
 
Accelerated filer R 
 
Non-accelerated filer o 
 
Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES o NO R
As of October 31, 2014, 25,047,085 shares of common stock were outstanding.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


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United Fire Group, Inc.
Index to Quarterly Report on Form 10-Q
September 30, 2014
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 4. Mine Safety Disclosures
 
 
 
 
 
 


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FORWARD-LOOKING INFORMATION
This report may contain forward-looking statements about our operations, anticipated performance and other similar matters. The Private Securities Litigation Reform Act of 1995 provides a safe harbor under the Securities Act of 1933 (the "Securities Act") and the Securities Exchange Act of 1934, as amended (the "Exchange Act"), for forward-looking statements. The forward-looking statements are not historical facts and involve risks and uncertainties that could cause actual results to differ from those expected and/or projected. Such forward-looking statements are based on current expectations, estimates, forecasts and projections about United Fire Group, Inc. ("United Fire", the "Registrant", the "Company", "we", "us", or "our"), the industry in which we operate, and beliefs and assumptions made by management. Words such as "expect(s)," "anticipate(s)," "intend(s)," "plan(s)," "believe(s)," "continue(s)," "seek(s)," "estimate(s)," "goal(s)," "target(s)," "forecast(s)," "project(s)," "predict(s)," "should," "could," "may," "will continue," "might," "hope," "can" and other words and terms of similar meaning or expression in connection with a discussion of future operations, financial performance or financial condition, are intended to identify forward-looking statements. See Part I, Item 1A "Risk Factors" in our 2013 Annual Report on Form 10-K and Part II, Item 1A "Risk Factors" of this report for more information concerning factors that could cause actual results to differ materially from those in the forward-looking statements.
Risks and uncertainties that may affect the actual financial condition and results of the Company include but are not limited to the following:

The frequency and severity of claims, including those related to catastrophe losses and the impact those claims have on our loss reserve adequacy;
The adequacy of our reserves for property and casualty insurance losses and loss settlement expenses and our life insurance reserve for future policy benefits;
Geographic concentration risk in both property and casualty insurance and life insurance segments;
The potential disruption of our operations due to unauthorized data access, cyber-attacks or cyber-terrorism and other security breaches;
Occurrence of catastrophic events, occurrence of significant severe weather conditions, climate change, acts of terrorism, acts of war and pandemics;
Developments in the domestic and global financial markets and other-than-temporary impairment losses that could affect our investment portfolio;
Our ability to effectively underwrite and adequately price insured risks;
The calculation and recovery of deferred policy acquisition costs ("DAC");
The valuation of pension and other postretirement benefit obligations;
Our relationship with our agencies and agents;
Our relationship with and financial strength of our reinsurers;
Our exposure to international catastrophes through our assumed reinsurance program;
Lowering of one or more of the financial strength ratings of our operating subsidiaries or our issuer credit ratings and the adverse impact such action may have on our premium writings, policy retention, profitability and liquidity;
Changes in general economic conditions, interest rates, industry trends, increase in competition and significant industry developments;
Competitive, legal, regulatory or tax changes that affect the distribution cost or demand for our products;
Litigation or regulatory actions that could require us to pay significant damages, fines or penalties or change the way we do business;
Governmental actions, policies and regulations, including, but not limited to, domestic health care reform, financial services regulatory reform, corporate governance, new laws or regulations or court decisions interpreting existing laws and regulations or policy provisions; and
NASDAQ policies or regulations relating to corporate governance and the cost to comply.

These are representative of the risks, uncertainties, and assumptions that could cause actual outcomes and results to differ materially from what is expressed in forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this report or as of the date they are made. Except as required under the federal securities laws and the rules and regulations of the Securities and


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Exchange Commission ("SEC"), we do not have any intention or obligation to update publicly any forward-looking statements, whether as a result of new information, future events, or otherwise.



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PART I — FINANCIAL INFORMATION
 
ITEM 1. FINANCIAL STATEMENTS
 
United Fire Group, Inc.
Consolidated Balance Sheets
(In Thousands, Except Share Data)
September 30,
2014
 
December 31,
2013
 
(unaudited)
 
 
ASSETS
 
 
 
Investments
 
 
 
Fixed maturities
 
 
 
Held-to-maturity, at amortized cost (fair value $421 in 2014 and $669 in 2013)
$
413

 
$
656

Available-for-sale, at fair value (amortized cost $2,764,358 in 2014 and $2,733,557 in 2013)
2,826,643

 
2,751,256

Trading securities, at fair value (amortized cost $14,856 in 2014 and $8,049 in 2013)
17,441

 
9,940

Equity securities
 
 
 
Available-for-sale, at fair value (cost $71,685 in 2014 and $70,957 in 2013)
233,968

 
229,368

Trading securities, at fair value (cost $2,803 in 2014 and $2,367 in 2013)
3,252

 
2,487

Mortgage loans
4,257

 
4,423

Policy loans
6,046

 
6,261

Other long-term investments
46,428

 
44,946

Short-term investments
500

 
800

 
3,138,948

 
3,050,137

Cash and cash equivalents
71,932

 
92,193

Accrued investment income
27,525

 
27,923

Premiums receivable (net of allowance for doubtful accounts of $773 in 2014 and $896 in 2013)
258,580

 
218,635

Deferred policy acquisition costs
146,547

 
150,092

Property and equipment (primarily land and buildings, at cost, less accumulated depreciation of $40,286 in 2014 and $36,972 in 2013)
48,040

 
47,218

Reinsurance receivables and recoverables
84,067

 
87,451

Prepaid reinsurance premiums
3,712

 
3,160

Income taxes receivable
4,959

 
1,786

Goodwill and intangible assets
26,470

 
27,047

Other assets
14,548

 
15,030

TOTAL ASSETS
$
3,825,328

 
$
3,720,672

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Liabilities
 
 
 
Future policy benefits and losses, claims and loss settlement expenses
 
 
 
Property and casualty insurance
$
1,004,593

 
$
960,651

Life insurance
1,459,748

 
1,472,132

Unearned premiums
390,438

 
340,464

Accrued expenses and other liabilities
131,220

 
142,677

Deferred income taxes
30,895

 
21,915

TOTAL LIABILITIES
$
3,016,894

 
$
2,937,839

Stockholders’ Equity
 
 
 
Common stock, $0.001 par value; authorized 75,000,000 shares; 25,056,402 and 25,360,893 shares issued and outstanding in 2014 and 2013, respectively
$
25

 
$
25

Additional paid-in capital
203,458

 
211,574

Retained earnings
493,753

 
484,084

Accumulated other comprehensive income, net of tax
111,198

 
87,150

TOTAL STOCKHOLDERS’ EQUITY
$
808,434

 
$
782,833

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY
$
3,825,328

 
$
3,720,672

The Notes to Unaudited Consolidated Financial Statements are an integral part of these statements.


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United Fire Group, Inc.
Consolidated Statements of Income and Comprehensive Income (Unaudited)
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(In Thousands, Except Share Data)
2014
 
2013
 
2014
 
2013
Revenues
 
 
 
 
 
 
 
Net premiums earned
$
212,021

 
$
194,219

 
$
607,189

 
$
557,403

Investment income, net of investment expenses
22,837

 
27,278

 
77,202

 
82,761

Net realized investment gains (losses)
 
 
 
 
 
 
 
Other-than-temporary impairment charges

 
(139
)
 

 
(139
)
Net realized investment gains (includes reclassifications for net unrealized investment gains on available-for-sale securities of $985 and $4,073 in 2014; and $617 and $6,270 in 2013; previously included in accumulated other comprehensive income (loss))
894

 
1,329

 
5,796

 
7,389

Total net realized investment gains
894

 
1,190

 
5,796

 
7,250

Other income
113

 
337

 
1,255

 
634

Total revenues
$
235,865

 
$
223,024

 
$
691,442

 
$
648,048

Benefits, Losses and Expenses
 
 
 
 
 
 
 
Losses and loss settlement expenses
$
154,346

 
$
131,168

 
$
422,299

 
$
349,073

Increase in liability for future policy benefits
10,552

 
8,415

 
26,450

 
26,520

Amortization of deferred policy acquisition costs
44,644

 
38,767

 
124,374

 
113,556

Other underwriting expenses (includes reclassifications for employee benefit costs of $768 and $2,304 in 2014; and $1,915 and $4,400 in 2013; previously included in accumulated other comprehensive income (loss))
21,665

 
21,654

 
68,869

 
67,310

Interest on policyholders’ accounts
7,503

 
8,625

 
23,342

 
27,026

Total benefits, losses and expenses
$
238,710

 
$
208,629

 
$
665,334

 
$
583,485

Income (loss) before income taxes
$
(2,845
)
 
$
14,395

 
$
26,108

 
$
64,563

Federal income tax expense (benefit) (includes reclassifications of ($76) and ($619) in 2014; and $455 and ($654) in 2013; previously included in accumulated other comprehensive income (loss))
(3,170
)
 
2,670

 
1,767

 
14,949

Net income
$
325

 
$
11,725

 
$
24,341

 
$
49,614

Other comprehensive income (loss)
 
 
 
 
 
 
 
Change in net unrealized appreciation on investments
$
(12,410
)
 
$
(282
)
 
$
38,767

 
$
(37,576
)
Change in liability for underfunded employee benefit plans

 

 

 

Other comprehensive income (loss), before tax and reclassification adjustments
$
(12,410
)
 
$
(282
)
 
$
38,767

 
$
(37,576
)
Income tax effect
4,344

 
107

 
(13,569
)
 
13,152

Other comprehensive income (loss), after tax, before reclassification adjustments
$
(8,066
)
 
$
(175
)
 
$
25,198

 
$
(24,424
)
Reclassification adjustment for net realized investment gains included in income
$
(985
)
 
$
(617
)
 
$
(4,073
)
 
$
(6,270
)
Reclassification adjustment for employee benefit costs included in expense
768

 
1,915

 
2,304

 
4,400

Total reclassification adjustments, before tax
$
(217
)
 
$
1,298

 
$
(1,769
)
 
$
(1,870
)
Income tax effect
76

 
(455
)
 
$
619

 
$
654

Total reclassification adjustments, after tax
$
(141
)
 
$
843

 
$
(1,150
)
 
$
(1,216
)
Comprehensive income (loss)
$
(7,882
)
 
$
12,393

 
$
48,389

 
$
23,974

 
 
 
 
 
 
 
 
Weighted average common shares outstanding
25,188,381

 
25,359,196

 
25,295,842

 
25,301,432

Basic earnings per common share
$
0.01

 
$
0.46

 
$
0.96

 
$
1.96

Diluted earnings per common share
0.01

 
0.45

 
0.95

 
1.94

The Notes to Unaudited Consolidated Financial Statements are an integral part of these statements.


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United Fire Group, Inc.
Consolidated Statement of Stockholders’ Equity (Unaudited)

(In Thousands, Except Share Data)
Nine Months Ended September 30, 2014
 
 
Common stock
 
Balance, beginning of year
$
25

Shares repurchased (401,519 shares)

Shares issued for stock-based awards (85,350 shares)

Balance, end of period
$
25

 
 
Additional paid-in capital
 
Balance, beginning of year
$
211,574

Compensation expense and related tax benefit for stock-based award grants
1,351

Shares repurchased
(11,249
)
Shares issued for stock-based awards
1,782

Balance, end of period
$
203,458

 
 
Retained earnings
 
Balance, beginning of year
$
484,084

Net income
24,341

Dividends on common stock ($0.58 per share)
(14,672
)
Balance, end of period
$
493,753

 
 
Accumulated other comprehensive income, net of tax
 
Balance, beginning of year
$
87,150

Change in net unrealized investment appreciation(1)
22,551

Change in liability for underfunded employee benefit plans(2)
1,497

Balance, end of period
$
111,198

 
 
Summary of changes
 
Balance, beginning of year
$
782,833

Net income
24,341

All other changes in stockholders’ equity accounts
1,260

Balance, end of period
$
808,434

(1)
The change in net unrealized appreciation is net of reclassification adjustments and income taxes.
(2)
The change in liability for underfunded employee benefit plans is net of reclassification adjustments and income taxes.

The Notes to Unaudited Consolidated Financial Statements are an integral part of these statements.



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United Fire Group, Inc.
Consolidated Statements of Cash Flows (Unaudited)

Nine Months Ended September 30,
(In Thousands)
2014
 
2013
Cash Flows From Operating Activities
 
 
 
Net income
$
24,341

 
$
49,614

Adjustments to reconcile net income to net cash provided by operating activities
 
 
 
Net accretion of bond premium
10,985

 
11,715

Depreciation and amortization
5,449

 
4,120

Stock-based compensation expense
1,445

 
1,436

Net realized investment gains
(5,796
)
 
(7,250
)
Net cash flows from trading investments
(6,933
)
 
3,836

Deferred income tax benefit
(2,639
)
 
(4,352
)
Changes in:
 
 
 
Accrued investment income
398

 
1,311

Premiums receivable
(39,945
)
 
(45,458
)
Deferred policy acquisition costs
(10,219
)
 
(4,640
)
Reinsurance receivables
3,384

 
13,578

Prepaid reinsurance premiums
(552
)
 
(475
)
Income taxes receivable
(3,173
)
 
13,612

Other assets
482

 
134

Future policy benefits and losses, claims and loss settlement expenses
70,994

 
28,404

Unearned premiums
49,974

 
42,486

Accrued expenses and other liabilities
(9,153
)
 
9,027

Deferred income taxes
(1,330
)
 
4,743

Other, net
(368
)
 
(3,814
)
Total adjustments
$
63,003

 
$
68,413

Net cash provided by operating activities
$
87,344

 
$
118,027

Cash Flows From Investing Activities
 
 
 
Proceeds from sale of available-for-sale investments
$
3,091

 
$
23,007

Proceeds from call and maturity of held-to-maturity investments
243

 
557

Proceeds from call and maturity of available-for-sale investments
390,967

 
370,531

Proceeds from short-term and other investments
2,370

 
2,569

Purchase of available-for-sale investments
(432,112
)
 
(468,934
)
Purchase of short-term and other investments
(2,803
)
 
(3,475
)
Net purchases and sales of property and equipment
(5,692
)
 
(4,589
)
Net cash used in investing activities
$
(43,936
)
 
$
(80,334
)
Cash Flows From Financing Activities
 
 
 
Policyholders’ account balances
 
 
 
Deposits to investment and universal life contracts
$
131,134

 
$
97,893

Withdrawals from investment and universal life contracts
(170,570
)
 
(146,001
)
Payment of cash dividends
(14,672
)
 
(12,910
)
Repurchase of common stock
(11,249
)
 
(99
)
Issuance of common stock
1,782

 
3,075

Tax impact from issuance of common stock
(94
)
 
(426
)
Net cash used in financing activities
$
(63,669
)
 
$
(58,468
)
Net Change in Cash and Cash Equivalents
$
(20,261
)
 
$
(20,775
)
Cash and Cash Equivalents at Beginning of Period
92,193

 
107,466

Cash and Cash Equivalents at End of Period
$
71,932

 
$
86,691

The Notes to Unaudited Consolidated Financial Statements are an integral part of these statements.


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UNITED FIRE GROUP, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, unless otherwise noted)

NOTE 1. NATURE OF OPERATIONS AND BASIS OF PRESENTATION
Nature of Business
United Fire Group, Inc. ("United Fire", the "Registrant", the "Company", "we", "us", or "our") and its consolidated subsidiaries and affiliates are engaged in the business of writing property and casualty insurance and life insurance and selling annuities through a network of independent agencies. We report our operations in two business segments: property and casualty insurance and life insurance. Our insurance company subsidiaries are licensed as a property and casualty insurer in 43 states and the District of Columbia, and as a life insurer in 37 states.
Basis of Presentation
The unaudited consolidated interim financial statements have been prepared in accordance with U.S. generally accepted accounting principles ("GAAP") for interim financial reporting and with the instructions to Form 10-Q and Regulation S-X promulgated by the SEC. Certain financial information that is included in our Annual Report on Form 10-K, including certain financial statement footnote disclosures, are not required by the rules and regulations of the SEC for interim financial reporting and have been condensed or omitted.
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The financial statement categories that are most dependent on management estimates and assumptions include: investments; deferred policy acquisition costs; reinsurance receivables and recoverables (for net realizable value); future policy benefits and losses, claims and loss settlement expenses; and pension and postretirement benefit obligations.
In the preparation of the accompanying unaudited Consolidated Financial Statements, we have evaluated all material subsequent events or transactions that occurred after the balance sheet date through the date on which the financial statements were issued for potential recognition or disclosure.
Certain prior year amounts have been reclassified to conform to the current year presentation.
Management of United Fire believes the accompanying unaudited Consolidated Financial Statements contain all adjustments (consisting of normal recurring adjustments) necessary to present fairly the financial position, results of operations and cash flows for the periods presented. All significant intercompany transactions have been eliminated in consolidation. The results reported for the interim periods are not necessarily indicative of the results of operations that may be expected for the year. The unaudited Consolidated Financial Statements should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2013. The review report of Ernst & Young LLP as of September 30, 2014 and for the three- and nine-month periods ended September 30, 2014 and 2013 accompanies the unaudited Consolidated Financial Statements included in Part I, Item 1 "Financial Statements."
Cash and Cash Equivalents
For purposes of reporting cash flows, cash and cash equivalents include cash, money market accounts, and non-negotiable certificates of deposit with original maturities of three months or less.
For the nine-month periods ended September 30, 2014 and 2013, we made payments for income taxes totaling $9,619 and $10,117, respectively. We received tax refunds of $615 and $8,744, respectively, during the nine-month periods ended September 30, 2014 and 2013.


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For the nine-month periods ended September 30, 2014 and 2013, we made no interest payments (excluding interest credited to policyholders’ accounts).
Deferred Policy Acquisition Costs ("DAC")

Certain costs associated with underwriting new business (primarily commissions, premium taxes and variable underwriting and policy issue expenses associated with successful acquisition efforts) are deferred. The following table is a summary of the components of DAC, including the related amortization recognized for the nine-month period ended September 30, 2014.
 
 
 
 
 
Property & Casualty Insurance
 
Life Insurance
 
Total
Recorded asset at beginning of period
$
67,663

 
$
82,429

 
$
150,092

Underwriting costs deferred
129,266

 
5,327

 
134,593

Amortization of deferred policy acquisition costs
(119,280
)
 
(5,094
)
 
(124,374
)
Ending unamortized deferred policy acquisition costs
$
77,649

 
$
82,662

 
$
160,311

Change in "shadow" deferred policy acquisition costs

 
(13,764
)
 
(13,764
)
Recorded asset at end of period
$
77,649

 
$
68,898

 
$
146,547


Property and casualty insurance policy acquisition costs deferred are amortized as premium revenue is recognized. The method followed in computing DAC limits the amount of such deferred costs to their estimated realizable value. This takes into account the premium to be earned, losses and loss settlement expenses expected to be incurred and certain other costs expected to be incurred as the premium is earned.

For traditional life insurance policies, DAC is amortized to income over the premium-paying period in proportion to the ratio of the expected annual premium revenue to the expected total premium revenue. Expected premium revenue and gross profits are based on the same mortality and withdrawal assumptions used in determining future policy benefits. These assumptions are not revised after policy issuance unless the recorded DAC asset is deemed to be unrecoverable from future expected profits.

For non-traditional life insurance policies, DAC is amortized over the anticipated terms in proportion to the ratio of the expected annual gross profits to the total expected gross profits. Changes in the amount or timing of expected gross profits result in adjustments to the cumulative amortization of these costs. The effect on amortization of DAC for revisions to estimated gross profits is reported in earnings in the period the estimated gross profits are revised.

The effect on DAC that results from the assumed realization of unrealized gains (losses) on investments allocated to non-traditional life insurance business is recognized with an offset, or "shadow" DAC, to net unrealized investment appreciation as of the balance sheet date. The "shadow" DAC adjustment decreased the DAC asset by $10,357 at September 30, 2014 and increased the DAC asset by $3,407 at December 31, 2013.
Income Taxes
Deferred tax assets and liabilities are established based on differences between the financial statement bases of assets and liabilities and the tax bases of those same assets and liabilities, using the currently enacted statutory tax rates. Deferred income tax expense is measured by the year-to-year change in the net deferred tax asset or liability, except for certain changes in deferred tax amounts that affect stockholders' equity and do not impact federal income tax expense.
We reported a federal income tax expense of $1,767 and $14,949 for the nine-month periods ended September 30, 2014 and 2013, respectively. Our effective tax rate is different than the federal statutory rate of 35.0 percent due principally to the effect of tax-exempt municipal bond interest income and non-taxable dividend income.


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We did not recognize any liability for unrecognized tax benefits at September 30, 2014 or December 31, 2013. In addition, we have not accrued for interest and penalties related to unrecognized tax benefits. However, if interest and penalties would need to be accrued related to unrecognized tax benefits, such amounts would be recognized as a component of federal income tax expense.
We file a consolidated federal income tax return. We also file income tax returns in various state jurisdictions. We are no longer subject to federal or state income tax examination for years before 2009. The Internal Revenue Service is conducting a routine examination of our income tax return for the 2011 tax year.

Subsequent Events

In the preparation of the accompanying financial statements, the Company has evaluated all material subsequent events or transactions that occurred after the balance sheet date through the date on which the financial statements were issued for potential recognition or disclosure in the Company's financial statements. In October 2014, the Society of Actuaries finalized new mortality tables and a new mortality improvement scale that could potentially impact our contributions and our benefit obligation to our defined benefit Pension Plan. The Company will consider using the new mortality tables in our 2014 year-end assumptions and is evaluating the impact on the Company's financial position and results of operations.
Recently Issued Accounting Standards
Adopted Accounting Standards in 2014

Unrecognized tax benefit
In July 2013, the FASB issued guidance on the financial statement presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. The new guidance was effective for annual and interim periods beginning after December 15, 2013. The Company currently does not have any liability for unrecognized tax benefits. The Company adopted the new guidance effective January 1, 2014. The adoption of the new guidance had no impact on the Company's financial position or results of operations.
Pending Adoption of Accounting Standards
Going Concern

In August 2014, the FASB issued new guidance on the disclosure of uncertainties about an entity's ability to continue as a going concern. The new guidance requires management to evaluate whether there is substantial doubt about the entity's ability to continue as a going concern and, if so, disclose the fact and what the entity's plans are to alleviate that doubt. The guidance is effective for annual periods ending after December 15, 2016 and interim periods within annual periods beginning after December 15, 2016. The Company will adopt the guidance on January 1, 2016. Management does not expect the adoption of the new guidance to have an impact on the Company's financial position or results of operations.

Troubled Debt Restructuring

In August 2014, the FASB issued updated guidance on the accounting for creditors who are holding receivables with troubled debt restructuring, specifically related to the classification of certain government guaranteed mortgage loans that are in foreclosure. The objective of this update is to provide greater consistency and transparency by addressing the classification of certain foreclosed mortgage loans guaranteed through government programs. The guidance is effective for interim and annual periods beginning after December 15, 2014. The Company will adopt the guidance on January 1, 2015. Management does not expect the adoption of the new guidance to have an impact on the Company's financial position or results of operations.





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Share Based Payments

In June 2014, the FASB issued new guidance on the accounting for share based payments when the terms of an award provide that a performance target could be achieved after the requisite service period. The new guidance requires a performance target that affects vesting and that could be achieved after the service period, be treated as a performance condition. The guidance is effective for interim and annual periods beginning after December 15, 2015. The amendments can be applied prospectively or retrospectively and early adoption is permitted. The Company will adopt the guidance on January 1, 2016 and is currently evaluating the impact on the Company's financial position and results of operations.
Revenue Recognition
In May 2014, the FASB issued comprehensive new guidance on revenue recognition which supersedes nearly all existing revenue recognition guidance under GAAP. The new guidance requires a company to recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. The standard creates a five-step model that requires companies to exercise judgment when considering the terms of the contract(s) and all relevant facts and circumstances. The new guidance is effective for annual and interim periods beginning after December 15, 2016. The Company will adopt the guidance on January 1, 2017 and is currently evaluating the impact on the Company's financial position and results of operations. Insurance contracts are not within the scope of this new guidance.
Discontinued Operations
In April 2014, the FASB issued new guidance on reporting discontinued operations and disclosures of disposals of components of an entity. The new guidance raises the threshold for a disposal to qualify as a discontinued operation and requires new disclosures of both discontinued operations and certain other disposals that do not meet the definition of a discontinued operation. It is effective for annual periods beginning after December 15, 2014. Early adoption is permitted but only for disposals that have not been reported in financial statements previously issued. The Company will adopt the guidance on January 1, 2015. Management does not expect the adoption of the new guidance to have an impact on the Company's financial position or results of operations.

NOTE 2. SUMMARY OF INVESTMENTS
Fair Value of Investments
A reconciliation of the amortized cost (cost for equity securities) to fair value of investments in held-to-maturity and available-for-sale fixed maturity and equity securities as of September 30, 2014 and December 31, 2013, is as follows:


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Table of Contents

September 30, 2014
 
Type of Investment
Cost or Amortized Cost
 
Gross Unrealized Appreciation
 
Gross Unrealized Depreciation
 
Fair Value
HELD-TO-MATURITY
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
States, municipalities and political subdivisions
$
55

 
$
1

 
$

 
$
56

Corporate bonds - financial services
200

 

 

 
200

Mortgage-backed securities
158

 
7

 

 
165

Total Held-to-Maturity Fixed Maturities
$
413

 
$
8

 
$

 
$
421

AVAILABLE-FOR-SALE

 

 

 

Fixed maturities:

 

 

 

Bonds

 

 

 

U.S. Treasury
$
31,168

 
$
198

 
$
129

 
$
31,237

U.S. government agency
380,763

 
2,872

 
6,247

 
377,388

States, municipalities and political subdivisions
727,929

 
32,731

 
1,302

 
759,358

Foreign bonds
139,849

 
5,709

 

 
145,558

Public utilities
212,716

 
6,623

 
295

 
219,044

Corporate bonds

 

 

 

Energy
135,428

 
4,360

 
314

 
139,474

Industrials
203,976

 
6,460

 
1,222

 
209,214

Consumer goods and services
157,073

 
4,293

 
395

 
160,971

Health care
78,257

 
3,270

 
281

 
81,246

Technology, media and telecommunications
131,910

 
3,562

 
1,063

 
134,409

Financial services
218,530

 
8,515

 
224

 
226,821

Mortgage-backed securities
18,343

 
493

 
120

 
18,716

Collateralized mortgage obligations
325,551

 
3,150

 
8,630

 
320,071

Asset-backed securities
2,865

 
271

 

 
3,136

Total Available-for-Sale Fixed Maturities
$
2,764,358

 
$
82,507

 
$
20,222

 
$
2,826,643

Equity securities:

 

 

 

Common stocks

 

 

 

Public utilities
$
7,231

 
$
10,393

 
$
10

 
$
17,614

Energy
5,094

 
9,990

 

 
15,084

Industrials
13,284

 
31,614

 
55

 
44,843

Consumer goods and services
10,287

 
11,982

 
4

 
22,265

Health care
7,920

 
19,254

 

 
27,174

Technology, media and telecommunications
6,207

 
7,925

 
51

 
14,081

Financial services
16,678

 
71,272

 
55

 
87,895

Nonredeemable preferred stocks
4,984

 
34

 
6

 
5,012

Total Available-for-Sale Equity Securities
$
71,685

 
$
162,464

 
$
181

 
$
233,968

Total Available-for-Sale Securities
$
2,836,043

 
$
244,971

 
$
20,403

 
$
3,060,611



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December 31, 2013
 
Type of Investment
Cost or Amortized Cost
 
Gross Unrealized Appreciation
 
Gross Unrealized Depreciation
 
Fair Value
HELD-TO-MATURITY
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
States, municipalities and political subdivisions
$
250

 
$
4

 
$

 
$
254

Corporate bonds - financial services
200

 

 

 
200

Mortgage-backed securities
206

 
9

 

 
215

Total Held-to-Maturity Fixed Maturities
$
656

 
$
13

 
$

 
$
669

AVAILABLE-FOR-SALE

 

 

 

Fixed maturities:

 

 

 

Bonds

 

 

 

U.S. Treasury
$
33,612

 
$
423

 
$
140

 
$
33,895

U.S. government agency
287,988

 
258

 
18,663

 
269,583

States, municipalities and political subdivisions
690,461

 
34,151

 
10,705

 
713,907

Foreign bonds
167,390

 
5,863

 
397

 
172,856

Public utilities
213,479

 
6,873

 
1,776

 
218,576

Corporate bonds

 


 

 

Energy
157,620

 
4,398

 
1,008

 
161,010

Industrials
234,221

 
5,626

 
2,819

 
237,028

Consumer goods and services
165,565

 
3,770

 
1,421

 
167,914

Health care
91,008

 
3,138

 
1,200

 
92,946

Technology, media and telecommunications
121,746

 
2,541

 
3,321

 
120,966

Financial services
234,739

 
7,735

 
723

 
241,751

Mortgage-backed securities
22,034

 
323

 
291

 
22,066

Collateralized mortgage obligations
309,975

 
1,707

 
16,919

 
294,763

Asset-backed securities
3,719

 
276

 

 
3,995

Total Available-for-Sale Fixed Maturities
$
2,733,557

 
$
77,082

 
$
59,383

 
$
2,751,256

Equity securities:

 

 

 

Common stocks

 

 

 

Public utilities
$
7,231

 
$
9,068

 
$
27

 
$
16,272

Energy
5,094

 
9,269

 

 
14,363

Industrials
13,308

 
32,823

 
32

 
46,099

Consumer goods and services
10,363

 
10,895

 

 
21,258

Health care
7,920

 
17,078

 

 
24,998

Technology, media and telecommunications
6,204

 
7,183

 
83

 
13,304

Financial services
15,853

 
72,537

 
128

 
88,262

Nonredeemable preferred stocks
4,984

 
5

 
177

 
4,812

Total Available-for-Sale Equity Securities
$
70,957

 
$
158,858

 
$
447

 
$
229,368

Total Available-for-Sale Securities
$
2,804,514

 
$
235,940

 
$
59,830

 
$
2,980,624




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Maturities
The amortized cost and fair value of held-to-maturity, available-for-sale and trading fixed maturity securities at September 30, 2014, by contractual maturity, are shown in the following table. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Asset-backed securities, mortgage-backed securities and collateralized mortgage obligations may be subject to prepayment risk and are therefore not categorized by contractual maturity.
 
Held-To-Maturity
 
Available-For-Sale
 
Trading
September 30, 2014
Amortized Cost
 
Fair Value
 
Amortized Cost
 
Fair Value
 
Amortized Cost
 
Fair Value
Due in one year or less
$
55

 
$
56

 
$
252,688

 
$
256,818

 
$
2,173

 
$
2,428

Due after one year through five years
200

 
200

 
853,979

 
896,360

 
6,107

 
7,107

Due after five years through 10 years

 

 
798,893

 
818,023

 
1,903

 
2,199

Due after 10 years

 

 
512,039

 
513,519

 
4,673

 
5,707

Asset-backed securities

 

 
2,865

 
3,136

 

 

Mortgage-backed securities
158

 
165

 
18,343

 
18,716

 

 

Collateralized mortgage obligations

 

 
325,551

 
320,071

 

 

 
$
413

 
$
421

 
$
2,764,358

 
$
2,826,643

 
$
14,856

 
$
17,441

Net Realized Investment Gains and Losses
Net realized gains on disposition of investments are computed using the specific identification method and are included in the computation of net income. A summary of the components of net realized investment gains is as follows:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2014
 
2013
 
2014
 
2013
Net realized investment gains (losses)
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
Available-for-sale
$
984

 
$
765

 
$
2,336

 
$
2,670

Trading securities
 
 
 
 
 
 
 
Change in fair value
(253
)
 
360

 
695

 
790

Sales
181

 
310

 
701

 
608

Equity securities:
 
 
 
 
 
 
 
Available-for-sale

 
(9
)
 
1,736

 
3,739

Trading securities
 
 
 
 
 
 
 
Change in fair value
(17
)
 
(97
)
 
329

 
(116
)
Sales
(1
)
 

 
(1
)
 
38

Other long-term investments

 

 

 
(340
)
Other-than-temporary-impairment charges - fixed maturities

 
(139
)
 

 
(139
)
Total net realized investment gains
$
894

 
$
1,190

 
$
5,796

 
$
7,250

The proceeds and gross realized gains on the sale of available-for-sale securities are as follows:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2014
 
2013
 
2014
 
2013
Proceeds from sales
$
3,081

 
$
17,036

 
$
3,091

 
$
23,007

Gross realized gains
900

 
213

 
900

 
451

Gross realized losses

 

 
(56
)
 

There were no sales of held-to-maturity securities during the three- and nine-month periods ended September 30, 2014 and 2013.


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Our investment portfolio includes trading securities with embedded derivatives. These securities are primarily convertible securities which are recorded at fair value. Income or loss, including the change in the fair value of these trading securities, is recognized currently in earnings as a component of net realized investment gains. Our portfolio of trading securities had a fair value of $20,693 and $12,427 at September 30, 2014 and December 31, 2013, respectively.

Funding Commitment

Pursuant to an agreement with one of our limited liability partnership investments, we are contractually committed through December 31, 2023 to make capital contributions upon request of the partnership. Our remaining potential contractual obligation was $12,610 at September 30, 2014.
Unrealized Appreciation
A summary of the changes in net unrealized investment appreciation during the reporting period is as follows:
 
Nine Months Ended September 30,
 
2014
 
2013
Change in net unrealized investment appreciation
 
 
 
Available-for-sale fixed maturities
$
44,586

 
$
(105,296
)
Available-for-sale equity securities
3,872

 
27,352

Deferred policy acquisition costs
(13,764
)
 
34,098

Income tax effect
(12,143
)
 
15,346

Total change in net unrealized investment appreciation, net of tax
$
22,551

 
$
(28,500
)
We continually monitor the difference between our cost basis and the estimated fair value of our investments. Our accounting policy for impairment recognition requires other-than-temporary impairment ("OTTI") charges to be recorded when we determine that it is more likely than not that we will be unable to collect all amounts due according to the contractual terms of the fixed maturity security or that the anticipated recovery in fair value of the equity security will not occur in a reasonable amount of time. Impairment charges on investments are recorded based on the fair value of the investments at the measurement date. Factors considered in evaluating whether a decline in value is other-than-temporary include: the length of time and the extent to which fair value has been less than cost; the financial condition and near-term prospects of the issuer; our intention to hold the investment; and the likelihood that we will be required to sell the investment.
The tables on the following pages summarize our fixed maturity and equity securities that were in an unrealized loss position at September 30, 2014 and December 31, 2013. The securities are presented by the length of time they have been continuously in an unrealized loss position. It is possible that we could recognize OTTI charges in future periods on securities held at September 30, 2014, if future events or information cause us to determine that a decline in fair value is other-than-temporary.
We have evaluated the near-term prospects of the issuers of our fixed maturity securities in relation to the severity and duration of the unrealized loss, and unless otherwise noted, these losses do not warrant the recognition of an OTTI charge at September 30, 2014. For the three- and nine-month periods ended September 30, 2013, we recognized a $139 credit loss OTTI in our unaudited Consolidated Statements of Income and Comprehensive Income. We believe the unrealized depreciation in value of other securities in our fixed maturity portfolio is primarily attributable to changes in market interest rates and not the credit quality of the issuer. We have no intent to sell and it is more likely than not that we will not be required to sell these securities until the fair value recovers to at least equal to our cost basis or the securities mature.
We have evaluated the near-term prospects of the issuers of our equity securities in relation to the severity and duration of the unrealized loss, and unless otherwise noted, these losses do not warrant the recognition of an OTTI charge at September 30, 2014. Our largest unrealized loss greater than 12 months on an individual equity security at September 30, 2014 was $52. We have no intention to sell any of these securities prior to a recovery in value, but


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will continue to monitor the fair value reported for these securities as part of our overall process to evaluate investments for OTTI recognition.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
September 30, 2014
Less than 12 months
 
12 months or longer
 
Total
Type of Investment
Number
of Issues
 
Fair
Value
 
Gross Unrealized
Depreciation
 
Number
of Issues
 
Fair
Value
 
Gross Unrealized Depreciation
 
Fair
Value
 
Gross Unrealized Depreciation
AVAILABLE-FOR-SALE
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
U.S. Treasury
9

 
$
9,269

 
$
52

 
6

 
$
6,086

 
$
77

 
$
15,355

 
$
129

U.S. government agency
34

 
89,312

 
532

 
44

 
126,509

 
5,715

 
215,821

 
6,247

States, municipalities and political subdivisions
20

 
21,590

 
107

 
71

 
60,745

 
1,195

 
82,335

 
1,302

Public utilities
14

 
25,296

 
159

 
5

 
5,261

 
136

 
30,557

 
295

Corporate bonds
 
 
 
 
 
 
 
 
 
 
 
 


 


Energy
5

 
10,680

 
32

 
3

 
7,170

 
282

 
17,850

 
314

Industrials
5

 
10,977

 
69

 
4

 
13,347

 
1,153

 
24,324

 
1,222

Consumer goods and services
4

 
12,349

 
200

 
8

 
15,447

 
195

 
27,796

 
395

Health care
3

 
7,489

 
85

 
3

 
7,110

 
196

 
14,599

 
281

Technology, media and telecommunications
6

 
17,577

 
174

 
5

 
18,942

 
889

 
36,519

 
1,063

Financial services
8

 
15,185

 
79

 
2

 
6,047

 
145

 
21,232

 
224

Mortgage-backed securities
5

 
217

 
15

 
5

 
5,496

 
105

 
5,713

 
120

Collateralized mortgage obligations
24

 
47,272

 
521

 
64

 
136,875

 
8,109

 
184,147

 
8,630

Total Available-for-Sale Fixed Maturities
137

 
$
267,213

 
$
2,025

 
220

 
$
409,035

 
$
18,197

 
$
676,248

 
$
20,222

Equity securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Common stocks
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Public utilities
3

 
$
298

 
$
10

 

 
$

 
$

 
$
298

 
$
10

Industrials
1

 
49

 
3

 
2

 
61

 
52

 
110

 
55

Consumer goods and services
1

 
14

 
4

 

 

 

 
14

 
4

Technology, media and telecommunications

 

 

 
5

 
211

 
51

 
211

 
51

Financial services
1

 
223

 
55

 

 

 

 
223

 
55

Nonredeemable preferred stocks

 

 

 
1

 
701

 
6

 
701

 
6

Total Available-for-Sale Equity Securities
6

 
$
584

 
$
72

 
8

 
$
973

 
$
109

 
$
1,557

 
$
181

Total Available-for-Sale Securities
143

 
$
267,797

 
$
2,097

 
228

 
$
410,008

 
$
18,306

 
$
677,805

 
$
20,403



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December 31, 2013
Less than 12 months
 
12 months or longer
 
Total
Type of Investment
Number
of Issues
 
Fair
Value
 
Gross Unrealized Depreciation
 
Number
of Issues
 
Fair
Value
 
Gross Unrealized Depreciation
 
Fair
Value
 
Gross Unrealized Depreciation
AVAILABLE-FOR-SALE
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
U.S. Treasury
10

 
$
9,196

 
$
140

 

 
$

 
$

 
$
9,196

 
$
140

U.S. government agency
101

 
256,203

 
18,019

 
2

 
4,356

 
644

 
260,559

 
18,663

States, municipalities and political subdivisions
136

 
97,950

 
7,423

 
29

 
29,670

 
3,282

 
127,620

 
10,705

Foreign bonds
10

 
20,832

 
397

 

 

 

 
20,832

 
397

Public utilities
31

 
61,582

 
1,776

 

 

 

 
61,582

 
1,776

Corporate bonds
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Energy
9

 
23,735

 
1,008

 

 

 

 
23,735

 
1,008

Industrials
34

 
77,788

 
2,819

 

 

 

 
77,788

 
2,819

Consumer goods and services
31

 
58,833

 
1,276

 
6

 
3,218

 
145

 
62,051

 
1,421

Health care
10

 
25,888

 
942

 
2

 
4,427

 
258

 
30,315

 
1,200

Technology, media and telecommunications
18

 
58,105

 
2,147

 
2

 
7,468

 
1,174

 
65,573

 
3,321

Financial services
7

 
15,191

 
720

 
1

 
1,525

 
3

 
16,716

 
723

Mortgage-backed securities
16

 
4,476

 
177

 
6

 
3,113

 
114

 
7,589

 
291

Collateralized mortgage obligations
111

 
208,855

 
11,062

 
23

 
55,184

 
5,857

 
264,039

 
16,919

Total Available-for-Sale Fixed Maturities
524

 
$
918,634

 
$
47,906

 
71

 
$
108,961

 
$
11,477

 
$
1,027,595

 
$
59,383

Equity securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Common stocks
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Public utilities

 
$

 
$

 
3

 
$
281

 
$
27

 
$
281

 
$
27

Industrials
1

 
1

 
1

 
2

 
81

 
31

 
82

 
32

Technology, media and telecommunications

 

 

 
6

 
206

 
83

 
206

 
83

Financial services

 

 

 
4

 
215

 
128

 
215

 
128

Nonredeemable preferred stocks
3

 
3,493

 
116

 
2

 
1,170

 
61

 
4,663

 
177

Total Available-for-Sale Equity Securities
4

 
$
3,494

 
$
117

 
17

 
$
1,953

 
$
330

 
$
5,447

 
$
447

Total Available-for-Sale Securities
528

 
$
922,128

 
$
48,023

 
88

 
$
110,914

 
$
11,807

 
$
1,033,042

 
$
59,830



16

Table of Contents

NOTE 3. FAIR VALUE OF FINANCIAL INSTRUMENTS
We estimate the fair value of our financial instruments based on relevant market information or by discounting estimated future cash flows at estimated current market discount rates appropriate to the specific asset or liability.
When possible, we use quoted market prices to determine the fair value of fixed maturities, equity securities, trading securities and short-term investments. When quoted market prices do not exist, we base estimates of fair value on market information obtained from independent pricing services and brokers or on valuation techniques that are both unobservable and significant to the overall fair value measurement of the financial instrument. Such inputs may reflect management's own assumptions about the assumptions a market participant would use in pricing the financial instrument. Our valuation techniques are discussed in more detail later in this section.
The fair value of our mortgage loans is determined by modeling performed by us based on the stated principal and coupon payments provided for in the loan agreements. These cash flows are then discounted using an appropriate risk-adjusted discount rate to determine the security's fair value, which is a Level 3 fair value measurement.
The fair value of our policy loans is equivalent to carrying value, which is a reasonable estimate of fair value and are classified as Level 2. We do not make policy loans for amounts in excess of the cash surrender value of the related policy. In all instances, the policy loans are fully collateralized by the related liability for future policy benefits for traditional insurance policies or by the policyholders' account balance for non-traditional policies.
Our other long-term investments consist primarily of our interests in limited liability partnerships that are recorded on the equity method of accounting. The fair value of the partnerships is obtained from the fund managers, which is based on the fair value of the underlying investments held in the partnerships. In management's opinion, these values represent a reasonable estimate of fair value. We have not adjusted the net asset value provided by the fund managers.
For cash and cash equivalents and accrued investment income, carrying value is a reasonable estimate of fair value due to the short-term nature of these financial instruments.

Policy reserves are developed and recorded for deferred annuities, which is an interest-sensitive product, and income annuities. The fair value of the reserve liability for these annuity products is based upon an estimate of the discounted pretax cash flows that are forecast for the underlying business, which is a Level 3 fair value measurement. We base the discount rate on the current U.S. Treasury spot yield curve, which is then risk-adjusted for nonperformance risk and, for interest-sensitive business, market risk factors. The risk-adjusted discount rate is developed using interest rates that are available in the market and representative of the risks applicable to the underlying business.





17

Table of Contents

A summary of the carrying value and estimated fair value of our financial instruments at September 30, 2014 and December 31, 2013 is as follows:
 
September 30, 2014
 
December 31, 2013
 
Fair Value
 
Carrying Value
 
Fair Value
 
Carrying Value
Assets
 
 
 
 
 
 
 
Investments
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
Held-to-maturity securities
$
421

 
$
413

 
$
669

 
$
656

Available-for-sale securities
2,826,643

 
2,826,643

 
2,751,256

 
2,751,256

Trading securities
17,441

 
17,441

 
9,940

 
9,940

Equity securities:
 
 
 
 
 
 
 
Available-for-sale securities
233,968

 
233,968

 
229,368

 
229,368

Trading securities
3,252

 
3,252

 
2,487

 
2,487

Mortgage loans
4,577

 
4,257

 
4,724

 
4,423

Policy loans
6,046

 
6,046

 
6,261

 
6,261

Other long-term investments
46,428

 
46,428

 
44,946

 
44,946

Short-term investments
500

 
500

 
800

 
800

Cash and cash equivalents
71,932

 
71,932

 
92,193

 
92,193

Corporate-owned life insurance
734

 
734

 

 

Liabilities
 
 
 
 
 
 
 
Policy reserves
 
 
 
 
 
 
 
Annuity (accumulations) (1)
$
925,478

 
$
887,634

 
$
941,636

 
$
925,832

Annuity (benefit payments)
149,980

 
98,492

 
140,276

 
94,805

(1) Annuity accumulations represent deferred annuity contracts that are currently earning interest.

Current accounting guidance on fair value measurements includes the application of a fair value hierarchy that requires us to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. Our financial instruments that are recorded at fair value are categorized into a three-level hierarchy, which is based upon the priority of the inputs to the valuation technique. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets (i.e., Level 1) and the lowest priority to unobservable inputs (i.e., Level 3). If the inputs used to measure fair value fall within different levels of the hierarchy, the category level is based on the lowest priority level input that is significant to the fair value measurement of the financial instrument.
Financial instruments recorded at fair value are categorized in the fair value hierarchy as follows:
Level 1: Valuations are based on unadjusted quoted prices in active markets for identical financial instruments that we have the ability to access.
Level 2: Valuations are based on quoted prices for similar financial instruments, other than quoted prices included in Level 1, in markets that are not active or on inputs that are observable either directly or indirectly for the full term of the financial instrument.
Level 3: Valuations are based on pricing or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement of the financial instrument. Such inputs may reflect management’s own assumptions about the assumptions a market participant would use in pricing the financial instrument.
Transfers between levels, if any, are recorded as of the beginning of the reporting period.
To determine the fair value of the majority of our investments, we utilize prices obtained from independent, nationally recognized pricing services. We obtain one price for each security. When the pricing services cannot provide a determination of fair value for a specific security, we obtain non-binding price quotes from broker-dealers


18

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with whom we have had several years experience and who have demonstrated knowledge of the subject security. We request and utilize one broker quote per security.
We validate the prices obtained from independent pricing services and brokers prior to their use for reporting purposes by evaluating their reasonableness on a monthly basis. Our validation process includes a review for unusual fluctuations. In our opinion, the pricing obtained at September 30, 2014 and December 31, 2013 was reasonable.
In order to determine the proper classification in the fair value hierarchy for each security where the price is obtained from an independent pricing service, we obtain and evaluate the vendors' pricing procedures and inputs used to price the security, which include unadjusted quoted market prices for identical securities, such as a New York Stock Exchange closing price, and quoted prices for identical securities in markets that are not active. For fixed maturity securities, an evaluation of interest rates and yield curves observable at commonly quoted intervals, volatility, prepayment speeds, credit risks and default rates may also be performed. We have determined that these processes and inputs result in fair values and classifications consistent with the applicable accounting guidance on fair value measurements.
We review our fair value hierarchy categorizations on a quarterly basis at which time the classification of certain financial instruments may change if the input observations have changed.

The following tables present the categorization for our financial instruments measured at fair value on a recurring basis in our Consolidated Balance Sheets at September 30, 2014 and December 31, 2013:


19

Table of Contents

September 30, 2014
 
 
Fair Value Measurements
Description
Total
 
Level 1
 
Level 2
 
Level 3
AVAILABLE-FOR-SALE
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
U.S. Treasury
$
31,237

 
$

 
$
31,237

 
$

U.S. government agency
377,388

 

 
377,388

 

States, municipalities and political subdivisions
759,358

 

 
758,748

 
610

Foreign bonds
145,558

 

 
145,558

 

Public utilities
219,044

 

 
219,044

 

Corporate bonds
 
 
 
 
 
 
 
Energy
139,474

 

 
139,474

 

Industrials
209,214

 

 
209,214

 

Consumer goods and services
160,971

 

 
159,620

 
1,351

Health care
81,246

 

 
81,246

 

Technology, media and telecommunications
134,409

 

 
134,409

 

Financial services
226,821

 

 
215,671

 
11,150

Mortgage-backed securities
18,716

 

 
18,716

 

Collateralized mortgage obligations
320,071

 

 
320,071

 

Asset-backed securities
3,136

 

 
1,421

 
1,715

Total Available-for-Sale Fixed Maturities
$
2,826,643

 
$

 
$
2,811,817

 
$
14,826

Equity securities:
 
 
 
 
 
 
 
Common stocks
 
 
 
 
 
 
 
Public utilities
$
17,614

 
$
17,614

 
$

 
$

Energy
15,084

 
15,084

 

 

Industrials
44,843

 
44,834

 
9

 

Consumer goods and services
22,265

 
22,265

 

 

Health care
27,174

 
27,174

 

 

Technology, media and telecommunications
14,081

 
14,081

 

 

Financial services
87,895

 
83,951

 
72

 
3,872

Nonredeemable preferred stocks
5,012

 
553

 
4,459

 

Total Available-for-Sale Equity Securities
$
233,968

 
$
225,556

 
$
4,540

 
$
3,872

Total Available-for-Sale Securities
$
3,060,611

 
$
225,556

 
$
2,816,357

 
$
18,698

TRADING
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
Corporate bonds


 


 


 


Industrials
$
3,293

 
$

 
$
3,293

 
$

Consumer goods and services
943

 

 
943

 

Health care
2,622

 

 
2,622

 



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Technology, media and telecommunications
2,217

 

 
2,217

 

Financial services
3,836

 

 
3,836

 

Redeemable preferred stocks
4,530

 
4,530

 

 

Equity securities:
 
 
 
 
 
 
 
Energy
614

 
614

 

 

Consumer goods and services
27

 
27

 

 

Health care
342

 
342

 

 

Technology, media and telecommunications
405

 
405

 

 

Nonredeemable preferred stocks
1,864

 
1,864

 

 

Total Trading Securities
$
20,693

 
$
7,782

 
$
12,911

 
$

Short-Term Investments
$
500

 
$
500

 
$

 
$

Money Market Accounts
$
21,122

 
$
21,122

 
$

 
$

Corporate-Owned Life Insurance
$
734

 
$

 
$
734

 
$

Total Assets Measured at Fair Value
$
3,103,660

 
$
254,960

 
$
2,830,002

 
$
18,698




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December 31, 2013
 
 
Fair Value Measurements
Description
Total
 
Level 1
 
Level 2
 
Level 3
AVAILABLE-FOR-SALE
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
U.S. Treasury
$
33,895

 
$

 
$
33,895

 
$

U.S. government agency
269,583

 

 
269,583

 

States, municipalities and political subdivisions
713,907

 

 
713,209

 
698

Foreign bonds
172,856

 

 
172,856

 

Public utilities
218,576

 

 
218,576

 

Corporate bonds

 


 


 


Energy
161,010

 

 
161,010

 

Industrials
237,028

 

 
237,028

 

Consumer goods and services
167,914

 

 
166,460

 
1,454

Health care
92,946

 

 
92,946

 

Technology, media and telecommunications
120,966

 

 
120,966

 

Financial services
241,751

 

 
229,725

 
12,026

Mortgage-backed securities
22,066

 

 
22,066

 

Collateralized mortgage obligations
294,763

 

 
294,763

 

Asset-backed securities
3,995

 

 
1,966

 
2,029

Total Available-for-Sale Fixed Maturities
$
2,751,256

 
$

 
$
2,735,049

 
$
16,207

Equity securities:
 
 
 
 
 
 
 
Common stocks
 
 
 
 
 
 
 
Public utilities
$
16,272

 
$
16,272

 
$

 
$

Energy
14,363

 
14,363

 

 

Industrials
46,099

 
46,083

 
16

 

Consumer goods and services
21,258

 
21,258

 

 

Health care
24,998

 
24,998

 

 

Technology, media and telecommunications
13,304

 
13,304

 

 

Financial services
88,262

 
84,419

 
62

 
3,781

Nonredeemable preferred stocks
4,812

 
1,714

 
3,098

 

Total Available-for-Sale Equity Securities
$
229,368

 
$
222,411

 
$
3,176

 
$
3,781

Total Available-for-Sale Securities
$
2,980,624

 
$
222,411

 
$
2,738,225

 
$
19,988

TRADING
 
 
 
 
 
 
 
Fixed maturities:
 
 
 
 
 
 
 
Bonds
 
 
 
 
 
 
 
Foreign bonds
$
1,253

 
$

 
$
1,253

 
$

Corporate bonds

 

 

 

Industrials
1,122

 

 
1,122

 

Consumer goods and services
106

 

 
106

 

Health care
1,154

 

 
1,154

 

Technology, media and telecommunications
2,054

 

 
2,054

 



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Financial services
1,866

 

 
1,866

 

Redeemable preferred stocks
2,385

 
2,385

 

 

Equity securities:
 
 
 
 
 
 
 
Energy
563

 
563

 

 

Consumer goods and services
39

 
39

 

 

Health care
332

 
332

 

 

Nonredeemable preferred stocks
1,553

 
1,553

 

 

Total Trading Securities
$
12,427

 
$
4,872

 
$
7,555

 
$

Short-Term Investments
$
800

 
$
800

 
$

 
$

Money Market Accounts
$
37,811

 
$
37,811

 
$

 
$

Total Assets Measured at Fair Value
$
3,031,662

 
$
265,894

 
$
2,745,780

 
$
19,988

The fair value of securities that are categorized as Level 1 is based on quoted market prices that are readily and regularly available.
The fair value of securities that are categorized as Level 2 is determined by management after reviewing market prices obtained from independent pricing services and brokers. Such estimated fair values do not necessarily represent the values for which these securities could have been sold at the reporting date. Our independent pricing services and brokers obtain prices from reputable pricing vendors in the marketplace. They continually monitor and review the external pricing sources, while actively participating to resolve any pricing issues that may arise.
For the three- and nine-month periods ended September 30, 2014, the change in our available-for-sale securities categorized as Level 1 and Level 2 is the result of investment purchases that were made using funds held in our money market accounts, disposals and the change in unrealized gains on both fixed maturities and equity securities. During the three-month period ended September 30, 2014, there were no securities transferred between Level 1 and Level 2. During the nine-month period ended September 30, 2014, there was one nonredeemable preferred stock security with a fair value of $1,228 transfered between Level 1 and Level 2 because the security was delisted and is no longer actively traded on a major exchange.
Securities categorized as Level 3 include holdings in certain private placement fixed maturity and equity securities for which an active market does not currently exist.
The fair value of our Level 3 private placement securities is determined by management relying on pricing received from our independent pricing services and brokers consistent with the process to estimate fair value for Level 2 securities. If pricing cannot be obtained from these sources, which occurs on a limited basis, management will perform a discounted cash flow analysis, using an appropriate risk-adjusted discount rate, on the underlying security to estimate fair value.















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The following table provides a summary of the changes in fair value of our Level 3 securities for the three-month period ended September 30, 2014:
 
States, municipalities and political subdivisions
 
Corporate bonds
 
Asset-backed securities
 
Equities
 
Total
Balance at June 30, 2014
$
610

 
$
12,927

 
$
1,842

 
$
3,872

 
$
19,251

Realized gains (1)

 
11

 

 

 
11

Unrealized losses(1)

 
(55
)
 
(8
)
 

 
(63
)
Purchases

 
4

 

 

 
4

Disposals

 
(386
)
 
(119
)
 

 
(505
)
Balance at September 30, 2014
$
610

 
$
12,501

 
$
1,715

 
$
3,872

 
$
18,698

(1) Realized gains are recorded as a component of earnings, whereas unrealized gains are recorded as a component of comprehensive income.

The following table provides a summary of the changes in fair value of our Level 3 securities for the nine-month period ended September 30, 2014:
 
States, municipalities and political subdivisions
 
Corporate bonds
 
Asset-backed securities
 
Equities
 
Total
Balance at January 1, 2014
$
698

 
$
13,480

 
$
2,029

 
$
3,781

 
$
19,988

Realized gains (losses) (1)

 
11

 

 
(56
)
 
(45
)
Unrealized gains (losses) (1)
(18
)
 
(107
)
 
31

 
48

 
(46
)
Purchases

 
4

 

 
144

 
148

Disposals
(70
)
 
(887
)
 
(345
)
 
(45
)
 
(1,347
)
Balance at September 30, 2014
$
610

 
$
12,501

 
$
1,715

 
$
3,872

 
$
18,698

(1) Realized gains (losses) are recorded as a component of earnings, whereas unrealized gains are recorded as a component of comprehensive income.
The fixed maturities reported as disposals relate to the receipt of principal on calls or sinking fund bonds, in accordance with the indentures.

Corporate-Owned Life Insurance

The Company formed a rabbi trust in 2014 to fund obligations under the United Fire & Casualty Company Non-qualified Deferred Compensation Plan and United Fire Group Supplemental Executive Retirement and Deferral Plan (collectively the "Executive Retirement Plans"). Within the rabbi trust, corporate-owned life insurance ("COLI") policies are utilized as an investment vehicle and source of funding for the Company's Executive Retirement Plans. As of September 30, 2014, the cash surrender value of the COLI policies was $734, which is equal to the fair value measured using Level 2 inputs, based on the underlying assets of the COLI policies, and is included in other assets in the Consolidated Balance Sheets. The COLI policies invest in mutual funds, which are priced daily by independent sources.













24

Table of Contents

NOTE 4. EMPLOYEE BENEFITS

Net Periodic Benefit Cost

The components of the net periodic benefit cost for our pension and postretirement benefit plans are as follows:
 
Pension Plan
 
Postretirement Benefit Plan
Three Months Ended September 30,
2014
 
2013
 
2014
 
2013
Net periodic benefit cost
 
 
 
 
 
 
 
Service cost
$
1,303

 
$
1,575

 
$
924

 
$
1,401

Interest cost
1,468

 
1,295

 
586

 
472

Expected return on plan assets
(1,739
)
 
(1,443
)
 

 

Amortization of net loss
544

 
1,530

 
224

 
385

Net periodic benefit cost
$
1,576

 
$
2,957

 
$
1,734

 
$
2,258


 
Pension Plan
 
Postretirement Benefit Plan
Nine Months Ended September 30,
2014
 
2013
 
2014
 
2013
 
 
 
 
 
 
 
 
Net periodic benefit cost
 
 
 
 
 
 
 
Service cost
$
3,909

 
$
4,725

 
$
2,772

 
$
2,906

Interest cost
4,404

 
3,883

 
1,758

 
1,319

Expected return on plan assets
(5,217
)
 
(4,329
)
 

 

Amortization of net loss
1,632

 
3,741

 
672

 
659

Net periodic benefit cost
$
4,728

 
$
8,020

 
$
5,202

 
$
4,884


Employer Contributions

We previously disclosed in our Annual Report on Form 10-K for the year ended December 31, 2013 that we expected to contribute $6,260 to the pension plan in 2014. For the nine-month period ended September 30, 2014, we contributed $7,416 to the pension plan, or an increase of $1,156 from our original expected contributions. The increase was recommended by our external actuaries in order to reduce future pension related expenses and to maximize tax benefits associated with contributions to pension plans.

NOTE 5. STOCK-BASED COMPENSATION

Non-qualified Employee Stock Award Plan
The United Fire Group, Inc. Stock Plan (the "Stock Plan") authorized the issuance of restricted and unrestricted stock or stock unit awards, stock appreciation rights, incentive stock options, and non-qualified stock options for up to 1,900,000 shares of United Fire common stock to our employees. In May 2014, the Registrant's shareholders approved an additional 1,500,000 shares of United Fire common stock issuable at any time and from time to time pursuant to the Stock Plan, as amended. At September 30, 2014, there are 1,560,201 authorized shares remaining available for future issuance. The Stock Plan is administered by the Board of Directors, which determines those employees who will receive awards, when awards will be granted, and the terms and conditions of the awards. The Board of Directors may also take any action it deems necessary and appropriate for the administration of the Stock Plan. Pursuant to the Stock Plan, the Board of Directors may, at its sole discretion, grant awards to our employees who are in positions of substantial responsibility with United Fire.
Options granted pursuant to the Stock Plan are granted to buy shares of United Fire's common stock at the market value of the stock on the date of grant. Unless the Board of Directors authorizes accelerated vesting, all outstanding option awards vest and are exercisable in installments of 20.0 percent of the number of shares covered by the option award each year from the grant date. To the extent not exercised, vested option awards accumulate and are exercisable by the awardee, in whole or in part, in any subsequent year included in the option period, but not later


25

Table of Contents

than 10 years from the grant date. Restricted and unrestricted stock awards granted pursuant to the Stock Plan are granted at the market value of our common stock on the date of the grant. Restricted stock or stock unit awards fully vest after five years from the date of issuance, unless accelerated upon the approval of the Board of Directors, at which time United Fire common stock will be issued to the awardee.
The activity in the Stock Plan is displayed in the following table:
Authorized Shares Available for Future Award Grants
Nine Months Ended September 30, 2014
 
From Inception to September 30, 2014
Beginning balance
353,649

 
1,900,000

Additional shares authorized
1,500,000

 
1,500,000

Number of awards granted
(313,948
)
 
(1,996,444
)
Number of awards forfeited or expired
20,500

 
156,645

Ending balance
1,560,201

 
1,560,201

Number of option awards exercised
62,531

 
444,299

Number of unrestricted stock awards granted
660

 
5,215

Number of restricted stock awards vested

 
18,576


Non-qualified Non-employee Director Stock Option and Restricted Stock Plan
The United Fire & Casualty Company 2005 Non-Qualified Non-Employee Director Stock Option and Restricted Stock Plan (the "Director Plan") authorizes the issuance of restricted stock awards and non-qualified stock options to purchase shares of United Fire’s common stock to non-employee directors. At September 30, 2014, we had 87,194 authorized shares available for future issuance under the Director Plan.
The Board of Directors has the authority to determine which non-employee directors receive awards, when options and restricted stock shall be granted, the option price, the option expiration date, the date of grant, the vesting schedule of options or whether the options shall be immediately vested, the terms and conditions of options and restricted stock (other than those terms and conditions set forth in the plan) and the number of shares of common stock to be issued pursuant to an option agreement or restricted stock agreement (subject to limits set forth in the plan). The Board of Directors may also take any action it deems necessary and appropriate for the administration of the Director Plan.

The activity in the Director Plan is displayed in the following table:
Authorized Shares Available for Future Award Grants
Nine Months Ended September 30, 2014
 
From Inception to September 30, 2014
Beginning balance
103,912

 
300,000

Number of awards granted
(16,718
)
 
(218,809
)
Number of awards forfeited or expired

 
6,003

Ending balance
87,194

 
87,194

Number of option awards exercised
1,519

 
4,675

Number of restricted stock awards vested
5,040

 
11,442


Stock-Based Compensation Expense

For the three-month periods ended September 30, 2014 and 2013, we recognized stock-based compensation expense of $500 and $618, respectively. For the nine-month periods ended September 30, 2014 and 2013, we recognized stock-based compensation expense of $1,445 and $1,436, respectively. Stock-based compensation expense is recognized over the vesting period of the stock options.

As of September 30, 2014, we had $5,871 in stock-based compensation expense that has yet to be recognized through our results of operations. We expect this compensation to be recognized over the remainder of 2014 and subsequent years according to the following table, except with respect to awards that are accelerated by the Board of


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Table of Contents

Directors, in which case we will recognize any remaining compensation expense in the period in which the awards are accelerated.
2014
 
$
500

2015
 
1,864

2016
 
1,439

2017
 
1,200

2018
 
778

2019
 
90

Total
 
$
5,871


NOTE 6. SEGMENT INFORMATION

We have two reportable business segments in our operations: property and casualty insurance and life insurance. The property and casualty insurance segment has seven domestic locations from which it conducts its business. The life insurance segment operates from our home office. Because all of our insurance is sold domestically, we have no revenues from foreign operations.

We evaluate the two segments on the basis of both statutory accounting principles prescribed or permitted by our states of domicile and GAAP. We analyze results based on profitability (i.e., loss ratios), expenses, and return on equity. The basis we use to determine and analyze segments and to measure segment profit or loss have not changed from that reported in our Annual Report on Form 10-K for the year ended December 31, 2013.
 
We have reconciled the amounts in the following table for the three-month periods ended September 30, 2014 and 2013 to the amounts reported in our unaudited Consolidated Financial Statements, adjusting for intersegment eliminations.
 
Property and Casualty Insurance
 
Life Insurance
 
Total
Three Months Ended September 30, 2014
 
 
 
 
 
Net premiums earned
$
195,195

 
$
16,958

 
$
212,153

Investment income, net of investment expenses
8,191

 
14,647

 
22,838

Net realized investment gains (losses)
(22
)
 
916

 
894

Other income (loss)
(102
)
 
215

 
113

Total reportable segment
$
203,262

 
$
32,736

 
$
235,998

Intersegment eliminations
(1
)
 
(132
)
 
(133
)
Total revenues
$
203,261

 
$
32,604

 
$
235,865

Net income (loss)
$
(1,880
)
 
$
2,205

 
$
325

Assets
$
2,094,173

 
$
1,731,155

 
$
3,825,328

Invested assets
$
1,515,753

 
$
1,623,195

 
$
3,138,948

 
 
 
 
 
 
Three Months Ended September 30, 2013
 
 
 
 
 
Net premiums earned
$
178,553

 
$
15,789

 
$
194,342

Investment income, net of investment expenses
11,679

 
15,587

 
27,266

Net realized investment gains
816

 
374

 
1,190

Other income
145

 
192

 
337

Total reportable segment
$
191,193

 
$
31,942

 
$
223,135

Intersegment eliminations
12

 
(123
)
 
(111
)
Total revenues
$
191,205

 
$
31,819

 
$
223,024

Net income
$
10,282

 
$
1,443

 
$
11,725

Assets
$
1,977,120

 
$
1,746,577

 
$
3,723,697

Invested assets
$
1,401,982

 
$
1,635,695

 
$
3,037,677





27

Table of Contents

We have reconciled the amounts in the following table for the nine-month periods ended September 30, 2014 and 2013 to the amounts reported in our unaudited Consolidated Financial Statements, adjusting for intersegment eliminations.

 
Property and Casualty Insurance
 
Life Insurance
 
Total
Nine Months Ended September 30, 2014
 
 
 
 
 
Net premiums earned
$
562,521

 
$
45,065

 
$
607,586

Investment income, net of investment expenses
31,135

 
46,011

 
77,146

Net realized investment gains
3,682

 
2,114

 
5,796

Other income
693

 
562

 
1,255

Total reportable segment
$
598,031

 
$
93,752

 
$
691,783

Intersegment eliminations
56

 
(397
)
 
(341
)
Total revenues
$
598,087

 
$
93,355

 
$
691,442

Net income
$
19,471

 
$
4,870

 
$
24,341

Assets
$
2,094,173

 
$
1,731,155

 
$
3,825,328

Invested assets
$
1,515,753

 
$
1,623,195

 
$
3,138,948

 
 
 
 
 
 
Nine Months Ended September 30, 2013
 
 
 
 
 
Net premiums earned
$
511,781

 
$
45,991

 
$
557,772

Investment income, net of investment expenses
34,379

 
48,297

 
82,676

Net realized investment gains
5,405

 
1,845

 
7,250

Other income
229

 
405

 
634

Total reportable segment
$
551,794

 
$
96,538

 
$
648,332

Intersegment eliminations
85

 
(369
)
 
(284
)
Total revenues
$
551,879

 
$
96,169

 
$
648,048

Net income
$
44,207

 
$
5,407

 
$
49,614

Assets
$
1,977,120

 
$
1,746,577

 
$
3,723,697

Invested assets
$
1,401,982

 
$
1,635,695

 
$
3,037,677


NOTE 7. EARNINGS PER COMMON SHARE
Basic earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding during the reporting period. Diluted earnings per share gives effect to all dilutive common shares outstanding during the reporting period. The dilutive shares we consider in our diluted earnings per share calculation relate to our outstanding stock options and restricted stock awards.
We determine the dilutive effect of our outstanding stock options using the "treasury stock" method. Under this method, we assume the exercise of all of the outstanding stock options whose exercise price is less than the weighted-average market value of our common stock during the reporting period. This method also assumes that the proceeds from the hypothetical stock option exercises are used to repurchase shares of our common stock at the weighted-average market value of the stock during the reporting period. The net of the assumed stock options exercised and assumed common shares repurchased represents the number of dilutive common shares, which we add to the denominator of the earnings per share calculation.







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The components of basic and diluted earnings per share were as follows for the three-month periods ended September 30, 2014 and 2013:
 
Three Months Ended September 30,
(In Thousands Except Share Data)
2014
 
2013
 
Basic
 
Diluted
 
Basic
 
Diluted
Net income
$
325

 
$
325

 
$
11,725

 
$
11,725

Weighted-average common shares outstanding
25,188,381

 
25,188,381

 
25,359,196

 
25,359,196

Add dilutive effect of restricted stock awards

 
114,313

 

 
59,849

Add dilutive effect of stock options

 
101,655

 

 
152,576

Weighted-average common shares
25,188,381

 
25,404,349

 
25,359,196

 
25,571,621

Earnings per common share
$
0.01

 
$
0.01

 
$
0.46

 
$
0.45

Awards excluded from diluted earnings per share calculation(1)

 
868,020

 

 
646,226

(1)
Outstanding awards that are not "in-the-money" are excluded from the diluted earnings per share calculation because the effect of including them would have been anti-dilutive.

The components of basic and diluted earnings per share were as follows for the nine-month periods ended September 30, 2014 and 2013:
 
Nine Months Ended September 30,
(In Thousands Except Share Data)
2014
 
2013
 
Basic
 
Diluted
 
Basic
 
Diluted
Net income
$
24,341

 
$
24,341

 
$
49,614

 
$
49,614

Weighted-average common shares outstanding
25,295,842

 
25,295,842

 
25,301,432

 
25,301,432

Add dilutive effect of restricted stock awards

 
114,313

 

 
59,849

Add dilutive effect of stock options

 
126,414

 

 
152,930

Weighted-average common shares
25,295,842

 
25,536,569

 
25,301,432

 
25,514,211

Earnings per common share
$
0.96

 
$
0.95

 
$
1.96

 
$
1.94

Awards excluded from diluted earnings per share calculation(1)

 
889,080

 

 
661,826

(1)
Outstanding awards that are not "in-the-money" are excluded from the diluted earnings per share calculation because the effect of including them would have been anti-dilutive.


NOTE 8. CREDIT FACILITY
In December 2011, United Fire entered into a credit agreement with a syndicate of financial institutions as lenders. KeyBank National Association is the administrative agent, lead arranger, sole book runner, swingline lender, and letter of credit issuer, and Bankers Trust Company is the syndication agent. The four-year credit agreement provides for a $100,000 unsecured revolving credit facility that includes a $20,000 letter of credit subfacility and a swingline subfacility of up to $5,000.
On June 4, 2013, United Fire & Casualty Company, United Fire Group, Inc. and the syndicated lenders entered into an Assignment, Joinder, Assumption, and Release Agreement (the "Joinder Agreement") transferring the obligations under the credit agreement from United Fire & Casualty Company to United Fire Group, Inc. Effective with the execution of the Joinder Agreement, United Fire & Casualty Company was released from any further obligations under the credit agreement.
During the term of this credit agreement, we have the right to increase the total credit facility from $100,000 up to $125,000 if no event of default has occurred and is continuing and certain other conditions are satisfied. The credit facility is available for general corporate purposes, including working capital, acquisitions and liquidity purposes. Any principal outstanding under the credit facility is due in full at maturity, on December 22, 2015. The interest rate is based on our monthly choice of either a base rate or the London Interbank Offered Rate ("LIBOR") plus, in each


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case, a calculated margin amount. A commitment fee on each lender's unused commitment under the credit facility is also payable quarterly.
The credit agreement contains customary representations, covenants and events of default, including certain covenants that limit or restrict our ability to engage in certain activities. Subject to certain exceptions, these activities include restricting our ability to sell or transfer assets or enter into a merger or consolidate with another company, grant certain types of security interests, incur certain types of liens, impose restrictions on subsidiary dividends, enter into leaseback transactions, or incur certain indebtedness. The credit agreement contains certain financial covenants including covenants that require us to maintain a minimum consolidated net worth, a debt to capitalization ratio and minimum shareholders' equity.
There was no outstanding balance on the credit facility at September 30, 2014 and 2013. For the nine-month periods ended September 30, 2014 and 2013, we did not incur any interest expense related to this credit facility. We were in compliance with all covenants for the credit agreement at September 30, 2014.


NOTE 9. ACCUMULATED OTHER COMPREHENSIVE INCOME

The following table shows the changes in the components of our accumulated other comprehensive income (loss), net of tax, for the three-month period ended September 30, 2014:

 
 
 
Liability for
 
 
 
Net unrealized
 
underfunded
 
 
 
appreciation
 
employee
 
 
 
on investments
 
benefit costs
 
Total
Balance as of June 30, 2014
$
147,858

 
$
(28,453
)
 
$
119,405

Change in accumulated other comprehensive income before reclassifications
(8,066
)
 

 
(8,066
)
Reclassification adjustments from accumulated other comprehensive income (loss)
(640
)
 
499

 
(141
)
Balance as of September 30, 2014
$
139,152

 
$
(27,954
)
 
$
111,198


The following table shows the changes in the components of our accumulated other comprehensive income (loss), net of tax, for the nine-month period ended September 30, 2014:

 
 
 
Liability for
 
 
 
Net unrealized
 
underfunded
 
 
 
appreciation
 
employee
 
 
 
on investments
 
benefit costs
 
Total
Balance as of January 1, 2014
$
116,601

 
$
(29,451
)
 
$
87,150

Change in accumulated other comprehensive income before reclassifications
25,198

 

 
25,198

Reclassification adjustments from accumulated other comprehensive income (loss)
(2,647
)
 
1,497

 
(1,150
)
Balance as of September 30, 2014
$
139,152

 
$
(27,954
)
 
$
111,198




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Review Report of Independent Registered Public Accounting Firm

Board of Directors and Stockholders
United Fire Group, Inc.

We have reviewed the consolidated balance sheet of United Fire Group, Inc. (the "Company") as of September 30, 2014, and the related consolidated statements of income and comprehensive income for the three-month and nine-month periods ended September 30, 2014 and 2013, the consolidated statements of cash flows for the nine-month periods ended September 30, 2014 and 2013, and the consolidated statement of stockholders' equity for the nine-month period ended September 30, 2014. These financial statements are the responsibility of the Company's management.

We conducted our review in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board (United States), the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.

Based on our review, we are not aware of any material modifications that should be made to the consolidated financial statements referred to above for them to be in conformity with U.S. generally accepted accounting principles.

We have previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of United Fire Group, Inc. as of December 31, 2013, and the related consolidated statements of income and comprehensive income, stockholders' equity, and cash flows for the year then ended (not presented herein) and we expressed an unqualified audit opinion on those consolidated financial statements in our report dated March 5, 2014. In our opinion, the accompanying consolidated balance sheet of United Fire Group, Inc. as of December 31, 2013 is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived.

 
/s/ Ernst & Young LLP  
 
 
Ernst & Young LLP 
 

Des Moines, Iowa
November 4, 2014



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

The following Management's Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with Part I, Item 1 "Financial Statements."

CRITICAL ACCOUNTING POLICIES
Critical accounting policies are defined as those that are representative of significant judgments and uncertainties and that potentially may result in materially different results under different assumptions and conditions. We base our discussion and analysis of our results of operations and financial condition on the amounts reported in our Consolidated Financial Statements, which we have prepared in accordance with GAAP. As we prepare these Consolidated Financial Statements, we must make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses for the reporting period. We evaluate our estimates on an ongoing basis. We base our estimates on historical experience and on other assumptions that we believe to be reasonable under the circumstances. Actual results could differ from those estimates. Our critical accounting policies are more fully described in our Management's Discussion and Analysis of Financial Condition and Results of Operations presented in our Annual Report on Form 10-K for the year ended December 31, 2013. There have been no changes in our critical accounting policies from December 31, 2013.

INTRODUCTION

The purpose of this Management's Discussion and Analysis is to provide an understanding of our results of operations and consolidated financial position. Our Management's Discussion and Analysis should be read in conjunction with our consolidated financial statements and related notes, including those in our Annual Report on Form 10-K for the year ended December 31, 2013. When we provide information on a statutory basis, we label it as such, otherwise, all other data is presented in accordance with GAAP.

OUR BUSINESS

Founded in 1946 as United Fire & Casualty Company, United Fire Group, Inc. ("United Fire", the "Registrant", the "Company", "we", "us", or "our") and its consolidated insurance subsidiaries provide insurance protection for individuals and businesses through several regional offices. Our property and casualty insurance company subsidiaries are licensed in 43 states plus the District of Columbia and are represented by approximately 1,200 independent agencies. Our life insurance subsidiary is licensed in 37 states and is represented by approximately 1,000 independent agencies.

Segments

We operate two business segments, each with a wide range of products:

property and casualty insurance, which includes commercial lines insurance, personal lines insurance, surety bonds and assumed reinsurance; and

life insurance, which includes deferred and immediate annuities, universal life products and traditional life (primarily single premium whole life) insurance products.

We manage these business segments separately, as they generally do not share the same customer base, and each has different products, pricing, and expense structures.

For the nine-month period ended September 30, 2014, property and casualty insurance business accounted for approximately 93.0 percent of our net premiums earned, of which 90.9 percent was generated from commercial


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lines. Life insurance business accounted for approximately 7.0 percent of our net premiums earned, of which 63.2 percent was generated from traditional life insurance products.

Pooling Arrangement

All of our property and casualty insurance subsidiaries, with the exception of Texas General Indemnity Company, are members of an intercompany reinsurance pooling arrangement. Pooling arrangements permit the participating companies to rely on the capacity of the entire pool's capital and surplus, rather than being limited to policy exposures of a size commensurate with each participant’s own surplus level.

Geographic Concentration

For the nine-month period ended September 30, 2014, approximately 48.9 percent of our property and casualty premiums were written in Texas, Iowa, California, New Jersey, and Missouri; approximately 68.1 percent of our life insurance premiums were written in Iowa, Wisconsin, Illinois, Minnesota, and Nebraska.

Segment Revenue and Expense

We evaluate segment profit or loss based upon operating and investment results. Segment profit or loss described in the following sections of this Management's Discussion and Analysis is reported on a pre-tax basis. Additional segment information is presented in Part I, Item 1, Note 6 "Segment Information" to the unaudited Consolidated Financial Statements.
Our primary sources of revenue are premiums and investment income. Major categories of expenses include losses and loss settlement expenses, future policy benefits, underwriting and other operating expenses and interest on policyholders' accounts.
Profit Factors
Our profitability is influenced by many factors, including price, competition, economic conditions, investment returns, interest rates, catastrophic events and other natural disasters, man-made disasters, state regulations, court decisions, and changes in the law. To manage these risks and uncertainties, we seek to achieve consistent profitability through strong agency relationships, exceptional customer service, fair and prompt claims handling, disciplined underwriting, superior loss control services, prudent management of our investments, appropriate matching of assets and liabilities, effective use of ceded reinsurance and effective and efficient use of technology.






















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CONSOLIDATED FINANCIAL HIGHLIGHTS
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(In Thousands)
2014
 
2013
 
%
 
2014
 
2013
 
%
Revenues
 
 
 
 
 
 
 
 
 
 
 
Net premiums earned
$
212,021

 
$
194,219

 
9.2
 %
 
$
607,189

 
$
557,403

 
8.9
 %
Investment income, net of investment expenses
22,837

 
27,278

 
(16.3
)
 
77,202

 
82,761

 
(6.7
)
Net realized investment gains (losses)
 
 
 
 
 

 
 
 
 
 
 

Other-than-temporary impairment charges

 
(139
)
 
(100.0
)
 

 
(139
)
 
(100.0
)
All other net realized gains
894

 
1,329

 
(32.7
)
 
5,796

 
7,389

 
(21.6
)
Net realized investment gains
894

 
1,190

 
(24.9
)
 
5,796

 
7,250

 
(20.1
)
Other income
113

 
337

 
(66.5
)
 
1,255

 
634

 
97.9

Total revenues
$
235,865

 
$
223,024

 
5.8
 %
 
$
691,442

 
$
648,048

 
6.7
 %
 

 
 
 
 
 
 
 
 
 
 
Benefits, Losses and Expenses

 
 
 
 
 
 
 
 
 
 
Losses and loss settlement expenses
$
154,346

 
$
131,168

 
17.7
 %
 
$
422,299

 
$
349,073

 
21.0
 %
Increase in liability for future policy benefits
10,552

 
8,415

 
25.4

 
26,450

 
26,520

 
(0.3
)
Amortization of deferred policy acquisition costs
44,644

 
38,767

 
15.2

 
124,374

 
113,556

 
9.5

Other underwriting expenses
21,665

 
21,654

 
0.1

 
68,869

 
67,310

 
2.3

Interest on policyholders' accounts
7,503

 
8,625

 
(13.0
)
 
23,342

 
27,026

 
(13.6
)
Total benefits, losses and expenses
$
238,710

 
$
208,629

 
14.4
 %
 
$
665,334

 
$
583,485

 
14.0
 %
 


 
 
 
 
 
 
 
 
 
 
Income (loss) before income taxes
$
(2,845
)
 
$
14,395

 
(119.8
)%
 
$
26,108

 
$
64,563

 
(59.6
)%
Federal income tax expense (benefit)
(3,170
)
 
2,670

 
(218.7
)
 
1,767

 
14,949

 
(88.2
)%
Net income
$
325

 
$
11,725

 
(97.2
)%
 
$
24,341

 
$
49,614

 
(50.9
)%


The following is a summary of our financial performance for the three- and nine-month periods ended September 30, 2014:

Consolidated Results of Operations

For the three-month period ended September 30, 2014, net income was $0.3 million compared to $11.7 million for the same period of 2013, driven primarily by an increase in losses and loss settlement expenses, and a decrease in investment income, which both were partially offset by growth in property and casualty premium revenue.
Consolidated net premiums earned increased to $212.0 million compared to $194.2 million for the same period of 2013. This increase represents organic growth and is the result of a combination of rate increases across most commercial and personal lines and, to a lessor extent, new business writings.

Losses and loss settlement expenses increased by $23.2 million during the three-month period ended September 30, 2014 compared to the same period of 2013. The increase is primarily attributable to an increase in catastrophe loss experience from carryover losses associated with late second quarter convective storms in regions of the U.S. where we conduct much of our business, an increase in frequency and severity in fire-related losses in our commercial


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property line of business and a decrease in favorable reserve development. Pre-tax catastrophe losses totaled $23.3 million compared to $8.5 million in the same period of 2013.

Investment income decreased by $4.4 million during the three-month period ended September 30, 2014 compared to the same period of 2013. The decrease is primarily due to changes in value of our investments in limited liability partnerships and secondarily to the decline of reinvestment interest rates from the continued low interest rate environment. We hold certain investments in limited liability partnerships that are recorded on the equity method of accounting, with changes in the value of these investments recorded in investment income. In the three-month period ended September 30, 2014, the change in value of investments in limited liability partnerships resulted in a decrease of $2.6 million to investment income as compared to an increase to investment income of $1.0 million in the same period of 2013.

For the nine-month period ended September 30, 2014, net income was $24.3 million compared to $49.6 million for the same period of 2013, driven primarily by an increase in losses and loss settlement expenses and a decrease in investment income, which were both partially offset by growth in property and casualty premium revenue. Consolidated net premiums earned increased to $607.2 million compared to $557.4 million for the same period of 2013. This increase represents organic growth and is the result of a combination of rate increases across most commercial and personal lines and, to a lessor extent, new business writings.

Losses and loss settlement expenses increased by $73.2 million during the nine-month period ended September 30, 2014 compared to the same period of 2013. The increase is primarily attributable to an increase in catastrophe loss experience from storms in the first half of 2014 in regions of the U.S. where we conduct much of our business, an increase in frequency and severity in fire-related losses in our commercial property line of business, an increase in our annual aggregate reinsurance deductible, and a decrease in favorable reserve development. Pre-tax catastrophe losses totaled $47.2 million compared to $27.2 million in the same period of 2013.

Investment income decreased by $5.6 million during the nine-month period ended September 30, 2014 compared to the same period of 2013. The decrease is primarily due to changes in value of our investments in limited liability partnerships and secondarily to the decline of reinvestment interest rates from the continued low interest rate environment. In the nine-month period ended September 30, 2014, the change in value of investments in limited liability partnerships resulted in a increase of $0.4 million to investment income as compared to an increase to investment income of $3.5 million in the same period of 2013.

Consolidated Financial Condition

At September 30, 2014, the book value per share of our common stock was $32.26. We repurchased 401,519 shares of our common stock at a total cost of $11.2 million and an average share price of $28.02 in the nine-month period ended September 30, 2014. Under our share repurchase program, which is scheduled to expire on August 31, 2016, we are authorized to repurchase an additional 1,668,598 shares of our common stock.

Net unrealized investment gains totaled $139.2 million as of September 30, 2014, an increase of $22.6 million, net of tax, or 19.3 percent, since December 31, 2013. The increase in net unrealized investment gains resulted from an increase in the fair value of the fixed maturity investment portfolio as a result of interest rate declines at September 30, 2014 and, to a lesser extent, an increase in the fair value of our equity investment portfolio due to overall equity market improvement.

Our stockholders' equity increased to $808.4 million at September 30, 2014, from $782.8 million at December 31, 2013. The increase was primarily attributable to net income of $24.3 million and an increase in net unrealized investment gains of $22.6 million, net of tax, partially offset by shareholder dividends of $14.7 million and share repurchases of $11.2 million.






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RESULTS OF OPERATIONS

Property and Casualty Insurance Segment Results
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(In Thousands Except Ratios)
2014
 
2013
 
2014
 
2013
Net premiums written
$
190,551

 
$
178,313

 
$
611,941

 
$
553,795

Net premiums earned
$
195,195

 
$
178,553

 
$
562,521

 
$
511,781

Losses and loss settlement expenses
(148,815
)
 
(124,643
)
 
(402,964
)
 
(332,264
)
Amortization of deferred policy acquisition costs
(42,902
)
 
(37,243
)
 
(119,280
)
 
(108,591
)
Other underwriting expenses
(17,843
)
 
(17,219
)
 
(57,207
)
 
(54,854
)
Underwriting gain (loss)
$
(14,365
)
 
$
(552
)
 
$
(16,930
)
 
$
16,072

 
 
 
 

 
 
 
 
Investment income, net of investment expenses
8,190

 
11,691

 
31,191

 
34,464

Net realized investment gains (losses)
 
 
 
 
 
 
 
Other-than-temporary impairment charges

 
(139
)
 

 
(139
)
All other net realized gains (losses)
(22
)
 
955

 
3,682

 
5,544

Net realized investment gains (losses)
(22
)
 
816

 
3,682

 
5,405

Other income (loss)
(102
)
 
145

 
693

 
229

Income (loss) before income taxes
$
(6,299
)
 
$
12,100

 
$
18,636

 
$
56,170

 
 
 
 

 
 
 
 
GAAP Ratios:
 
 
 

 
 
 
 
Net loss ratio (without catastrophes)
64.4
%
 
65.1
%
 
63.2
%
 
59.6
%
Catastrophes - effect on net loss ratio
11.9

 
4.7

 
8.4

 
5.3

Net loss ratio (1)
76.3
%
 
69.8
%
 
71.6
%
 
64.9
%
Expense ratio (2)
31.1

 
30.5

 
31.4

 
31.9

Combined ratio (3)
107.4
%
 
100.3
%
 
103.0
%
 
96.8
%
(1) The GAAP net loss ratio is calculated by dividing the sum of losses and loss settlement expenses by net premiums earned. We use the net loss ratio as a measure of the overall underwriting profitability of the insurance business we write and to assess the adequacy of our pricing. Our net loss ratio is meaningful in evaluating our financial results as reported in our unaudited Consolidated Financial Statements.
(2) The GAAP expense ratio is calculated by dividing nondeferred underwriting expenses and amortization of deferred policy acquisition costs by net premiums earned. The expense ratio measures a company's operational efficiency in producing, underwriting and administering its insurance business.
(3) The GAAP combined ratio is a commonly used financial measure of property and casualty underwriting performance. A combined ratio below 100.0 percent generally indicates a profitable book of business. The combined ratio is the sum of the GAAP net loss ratio and the GAAP underwriting expense ratio.

For the three- and nine-month periods ended September 30, 2014, our property and casualty segment reported a loss before taxes of $6.3 million and income of $18.6 million, respectively, or a decrease of $18.4 million and $37.5 million, respectively, compared to the same periods of 2013. The decrease in the three- and nine-month periods ended September 30, 2014 is primarily due to an increase in losses and loss settlement expenses partially offset by an increase in net premiums earned.

Net premiums earned increased 9.3 percent to $195.2 million in the three-month period ended September 30, 2014, compared to $178.6 million in the same period of 2013. In the nine-month period ended September 30, 2014, net premiums earned also increased 9.9 percent to $562.5 million as compared to $511.8 million in the same period of 2013. This increase represents organic growth and is the result of a combination of rate increases across most commercial and personal lines and, to a lessor extent, new business writings.

Investment income decreased 29.9 percent to $8.2 million in the three-month period ended September 30, 2014, compared to $11.7 million in the same period of 2013. In the nine-month period ended September 30, 2014,


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investment income decreased 9.5 percent to $31.2 million as compared to $34.5 million in the same period of 2013. The decrease is primarily due to changes in value of our investments in limited liability partnerships and secondarily to the decline of reinvestment interest rates from the continued low interest rate environment. In the three- and nine-month periods ended September 30, 2014, the change in value of investments in limited liability partnerships resulted in a decrease of $2.6 million and an increase $0.4 million, respectively, to investment income as compared to increases of $1.0 million and $3.5 million, respectively, to investment income in the same periods of 2013.

The GAAP combined ratio increased 7.1 percentage points to 107.4 percent for the three-month period ended September 30, 2014, compared to 100.3 percent for the same period of 2013. For the nine-month period ended September 30, 2014, the GAAP combined ratio was 103.0 percent, compared to 96.8 percent for the same period of 2013. The increase in the GAAP combined ratio in the three- and nine-month periods ended September 30, 2014, as compared to the same periods of 2013, is primarily attributable to an increase in catastrophe loss experience from storms in the first of half of 2014 in regions of the U.S. where we conduct much of our business, an increase in frequency and severity in fire-related losses in our commercial property line of business, an increase in our annual aggregate reinsurance deductible and a decrease in favorable reserve development.

The net loss ratio, a component of the combined ratio, increased by 6.5 percentage points to 76.3 percentage points in the three-month period ended September 30, 2014, as compared to the same period of 2013. The increase is primarily attributable to storms in regions of the U.S. where we conduct much of our business, an increase in frequency and severity in fire-related losses in our commercial property line of business and a decrease in favorable reserve development.

For the nine-month period ended September 30, 2014, the net loss ratio increased by 6.7 percentage points to 71.6 percentage points as compared to the same period of 2013. The increase is primarily attributable to an increase in catastrophe loss experience from storms in the first of half of 2014 in regions of the U.S. where we conduct much of our business, an increase in frequency and severity in fire-related losses in our commercial property line of business, an increase in our annual aggregate reinsurance deductible and a decrease in favorable reserve development. Pre-tax catastrophe losses totaled $23.3 million and $47.2 million for the three- and nine-month periods ended September 30, 2014, respectively, as compared to $8.5 million and $27.2 million, respectively, in the same periods of 2013.

The expense ratio, a component of the combined ratio, of 31.1 percentage points for the quarter ended September 30, 2014 increased by 0.6 percentage points as compared with the same period of 2013. For the nine-month period ended September 30, 2014, the expense ratio of 31.4 percentage points improved by 0.5 percentage point as compared with the same period of 2013. In 2014, the expense ratio will be impacted by an increase in premium taxes and assessments due to premium growth in specific lines of business and a deterioration in the profitability of certain lines of business caused by an increase in claims severity that limits the amount of underwriting expenses eligible for deferral. Our expectation is a gradual return to a more favorable expense ratio consistent with our history as we continue to reap the benefit of economies of scale and the ultimate completion of the Mercer Insurance Group integration.

For a detailed discussion of our consolidated investment results, refer to the "Investment Portfolio" section of this item.

Reserve Development

For many liability claims, significant periods of time, ranging up to several years and for certain construction defect claims more than a decade, may elapse between the occurrence of the loss, the reporting of the loss to us and the settlement or other disposition of the claim. As a result, loss experience in the more recent accident years for the long-tail liability coverages has limited statistical credibility in our reserving process because a relatively small proportion of losses in these accident years are reported claims and an even smaller proportion are paid losses. In addition, long-tail liability claims are more susceptible to litigation and can be significantly affected by changing contract interpretations and the legal environment. Consequently, the estimation of loss reserves for long-tail coverages is more complex and subject to a higher degree of variability. Reserves for these long-tail coverages represent a significant portion of our overall carried reserves.


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When establishing reserves and monitoring reserve adequacy, we analyze historical data and consider the potential impact of various loss development factors and trends including historical loss experience, legislative enactments, judicial decisions, legal developments in imposition of damages, experience with alternative dispute resolution, results of our medical bill review process and trends in general economic conditions, including the effects of inflation. All of these factors influence our estimates of required reserves and for long-tail lines these factors can change over the course of the settlement of the claim. However there is no precise method for evaluating the specific dollar impact of any individual factor on the development of reserves.

Our reserving philosophy is to reserve claims to their ultimate expected loss amount as soon as practicable after information about a claim becomes available. Historically, this approach has tended to produce, on average, some level of favorable development over the course of settlement.

2014 Development

The property and casualty insurance segment experienced $6.8 million and $32.5 million of favorable development in our net reserves for prior accident years for the three- and nine-month periods ended September 30, 2014, respectively. The significant drivers of the favorable reserve development in 2014 were our long-tail liability lines, including workers' compensation and automobile (both liability and physical damage), which have contributed $9.0 million and $38.0 million, respectively, of the three- and nine-month reserve development totals. Commercial auto liability, with $7.1 million of favorable year-to-date reserve development, continues to benefit from loss control and re-underwriting initiatives over the past two years. Development from the property lines provided a partial offset to the favorable development noted above.

2013 Development

The property and casualty insurance segment experienced $8.6 million and $49.0 million of favorable development in our net reserves for prior accident years for the three- and nine-month periods ended September 30, 2013, respectively. The favorable development in 2013 was primarily related to our long-tail lines of commercial business including other liability, workers' compensation and auto liability. The favorable development is generally caused by changes in loss development patterns due to many factors discussed previously. Specifically, we observed a continuation of a trend, started in 2011, reducing the overall number of reported new construction defect claims and lower than expected emergence on known claims. In addition, in 2009 management began an initiative to control legal defense costs. As these costs are a significant component of the carried reserves for the other liability line, management believes this initiative is also contributing to the favorable development trends.

Development amounts can vary significantly from quarter-to-quarter and year-to-year depending on a number of factors, including the number of claims settled and the settlement terms. During the third quarter, the decrease in favorable reserve development is attributable to the timing of paid claims; however, year-to-date the decline in favorable reserve development also reflects adverse development of large claims from prior accident years, primarily relevant to large losses from prior years that further developed in 2014. At September 30, 2014, our total reserves remained relatively flat compared to December 31, 2013 and within our actuarial estimates.














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The following tables display our net premiums earned, net losses and loss settlement expenses and net loss ratio by line of business:
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended September 30,
2014
 
2013
 
 
 
Net Losses
 
 
 
 
 
Net Losses
 
 
 
 
 
and Loss
 
 
 
 
 
and Loss
 
 
 
Net
 
Settlement
 
Net
 
Net
 
Settlement
 
Net
(In Thousands)
Premiums
 
Expenses
 
Loss
 
Premiums
 
Expenses
 
Loss
Unaudited
Earned
 
Incurred
 
Ratio
 
Earned
 
Incurred
 
Ratio
Commercial lines
 
 
 
 
 
 
 
 
 
 
 
Other liability
$
58,807

 
$
32,842

 
55.8
 %
 
$
52,251

 
$
28,406

 
54.4
 %
Fire and allied lines
46,448

 
49,120

 
105.8

 
41,717

 
27,260

 
65.3

Automobile
42,181

 
36,938

 
87.6

 
37,646

 
36,140

 
96.0

Workers' compensation
22,955

 
12,239

 
53.3

 
21,519

 
20,524

 
95.4

Fidelity and surety
5,095

 
150

 
2.9

 
4,877

 
(163
)
 
(3.3
)
Miscellaneous
692

 
(28
)
 
(4.0
)
 
628

 
(104
)
 
(16.6
)
Total commercial lines
$
176,178

 
$
131,261

 
74.5
 %
 
$
158,638

 
$
112,063

 
70.6
 %
 
 
 
 
 
 
 
 
 
 
 
 
Personal lines
 
 
 
 
 
 
 
 
 
 
 
Fire and allied lines
$
11,151

 
$
12,163

 
109.1
 %
 
$
10,786

 
$
8,307

 
77.0
 %
Automobile
5,877

 
5,622

 
95.7

 
5,624

 
3,615

 
64.3

Miscellaneous
251

 
1,622

 
NM

 
240

 
1,068

 
NM

Total personal lines
$
17,279

 
$
19,407

 
112.3
 %
 
$
16,650

 
$
12,990

 
78.0
 %
Reinsurance assumed
$
1,738

 
$
(1,853
)
 
(106.6
)%
 
$
3,265

 
$
(410
)
 
(12.6
)%
Total
$
195,195

 
$
148,815

 
76.3
 %
 
$
178,553

 
$
124,643

 
69.8
 %
 
NM=Not meaningful

 
 
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
2014
 
2013
 
 
 
Net Losses
 
 
 
 
 
Net Losses
 
 
 
 
 
and Loss
 
 
 
 
 
and Loss
 
 
 
Net
 
Settlement
 
Net
 
Net
 
Settlement
 
Net
(In Thousands)
Premiums
 
Expenses
 
Loss
 
Premiums
 
Expenses
 
Loss
Unaudited
Earned
 
Incurred
 
Ratio
 
Earned
 
Incurred
 
Ratio
Commercial lines
 
 
 
 
 
 
 
 
 
 
 
Other liability
$
167,851

 
$
87,704

 
52.3
 %
 
$
146,755

 
$
77,721

 
53.0
 %
Fire and allied lines
133,802

 
126,618

 
94.6

 
122,107

 
71,954

 
58.9

Automobile
121,022

 
88,539

 
73.2

 
108,629

 
91,090

 
83.9

Workers' compensation
64,981

 
46,577

 
71.7

 
60,786

 
51,364

 
84.5

Fidelity and surety
13,654

 
1,145

 
8.4

 
13,684

 
(843
)
 
(6.2
)
Miscellaneous
2,039

 
(18
)
 
(0.9
)
 
1,190

 
555

 
46.6

Total commercial lines
$
503,349

 
$
350,565

 
69.6
 %
 
$
453,151

 
$
291,841

 
64.4
 %
 
 
 
 
 
 
 
 
 
 
 
 
Personal lines
 
 
 
 
 
 
 
 
 
 
 
Fire and allied lines
$
33,253

 
$
32,548

 
97.9
 %
 
$
31,911

 
$
25,273

 
79.2
 %
Automobile
17,349

 
16,588

 
95.6

 
16,485

 
11,177

 
67.8

Miscellaneous
742

 
1,710

 
NM

 
528

 
1,969

 
NM

Total personal lines
$
51,344

 
$
50,846

 
99.0
 %
 
$
48,924

 
$
38,419

 
78.5
 %
Reinsurance assumed
$
7,828

 
$
1,553

 
19.8
 %
 
$
9,706

 
$
2,004

 
20.6
 %
Total
$
562,521

 
$
402,964

 
71.6
 %
 
$
511,781

 
$
332,264

 
64.9
 %
 
NM=Not meaningful





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Commercial fire and allied lines - The net loss ratio deteriorated 40.5 percentage points and 35.7 percentage points in the three- and nine-month periods ended September 30, 2014, respectively, compared to the same periods of 2013. The change is primarily attributable to losses from an increase in the frequency of claims associated with the harsh winter weather experienced in the U.S. in the first quarter of 2014, an increase in catastrophes from convective storms experienced in regions of the U.S. in 2014 where we conduct much of our business and an increase in frequency and severity in commercial fire losses and an increase in our annual aggregate reinsurance deductible.

Commercial automobile - The net loss ratio improved 8.4 percentage points and 10.7 percentage points in the three- and nine-month periods ended September 30, 2014, respectively, compared to the same periods of 2013. The change was primarily due to favorable results from loss control and re-underwriting initiatives over the past two years that focused on under-performing accounts and agents.

Workers' compensation - The net loss ratio improved 42.1 percentage points and 12.8 percentage points in the three- and nine-month periods ended September 30, 2014, respectively, compared to the same periods of 2013. The change was due to the combined effects of lower claim frequency and favorable development from previously reported claims.

Personal fire and allied lines- The net loss ratio deteriorated 32.1 percentage points and 18.7 percentage points in the three- and nine-month periods ended September 30, 2014, respectively, compared to the same periods of 2013. The change was primarily due to an increase in catastrophe loss experience from convective storms in the U.S. in 2014.

Personal automobile - The net loss ratio deteriorated 31.4 percentage points and 27.8 percentage points in the three- and nine-month periods ended September 30, 2014, respectively, compared to the same periods of 2013. The change was primarily due to increased claim frequency and severity due to the harsh winter weather experienced in the U.S. in the first quarter of 2014 and due to an increase in catastrophe loss experience from convective storms in regions of the U.S. in 2014 where we conduct much of our business.




























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Life Insurance Segment Results
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(In Thousands)
2014
 
2013
 
2014
 
2013
Revenues
 
 
 
 
 
 
 
Net premiums earned
$
16,826

 
$
15,666

 
$
44,668

 
$
45,622

Investment income, net of investment expenses
14,647

 
15,587

 
46,011

 
48,297

Net realized investment gains
916

 
374

 
2,114

 
1,845

Other income
215

 
192

 
562

 
405

Total revenues
$
32,604

 
$
31,819

 
$
93,355

 
$
96,169

 
 
 
 
 
 
 
 
Benefits, Losses and Expenses
 
 
 
 
 
 
 
Losses and loss settlement expenses
$
5,531

 
$
6,525

 
$
19,335

 
$
16,809

Increase in liability for future policy benefits
10,552

 
8,415

 
26,450

 
26,520

Amortization of deferred policy acquisition costs
1,742

 
1,524

 
5,094

 
4,965

Other underwriting expenses
3,822

 
4,435

 
11,662

 
12,456

Interest on policyholders' accounts
7,503

 
8,625

 
23,342

 
27,026

Total benefits, losses and expenses
$
29,150

 
$
29,524

 
$
85,883

 
$
87,776

 
 
 
 
 
 
 
 
Income before income taxes
$
3,454

 
$
2,295

 
$
7,472

 
$
8,393


Income before income taxes increased $1.2 million in the three-month period ended September 30, 2014 as compared to the same periods of 2013. The increase in net income is primarily due to a increase in net premiums earned from higher sales of single premium whole life policies, a decrease in interest on policyholders' accounts due to a decline in the amount of expense associated with the payment of interest to policyholders on annuity accounts, a decrease in losses and loss settlement expenses and a decrease in underwriting expenses, all partially offset by a decrease in investment income and an increase in the increase in liability for future benefits.

Income before income taxes decreased $0.9 million in the nine-month period ended September 30, 2014 as compared to the same periods of 2013. The decrease in net income is primarily due to an decrease in net premiums earned from lower sales of single premium whole life policies, an increase in losses and loss settlement expenses from higher death benefits and a decrease in investment income, all partially offset by a decrease in underwriting expenses, a decrease in the increase in liability for future benefits, and a decrease in interest on policyholders' accounts due to a decline in the amount of expense associated with the payment of interest to policyholders on annuity accounts.

Net premiums earned increased 7.4 percent to $16.8 million for the three-month period ended September 30, 2014, compared to $15.7 million in the same period of 2013. The increase in net premiums earned was primarily due to an increase in sales of single premium whole life policies. In the nine-month period ended September 30, 2014, net premiums earned decreased 2.1 percent to $44.7 million, compared to $45.6 million in the same period of 2013. The decrease in net premiums earned was primarily due to a decrease in sales of single premium whole life policies. We continue to maintain price diligence on our single premium whole life product to achieve target rate spreads.

Net investment income decreased 6.0 percent to $14.6 million for the three-month period ended September 30, 2014, compared to $15.6 million for the same period of 2013. In the nine-month period ended September 30, 2014, investment income decreased 4.7 percent to $46.0 million compared to $48.3 million in the same period of 2013. The decrease is due to a continuation of the low interest rate environment and a lower asset base due to declining annuity deposits.



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Losses and loss settlement expenses decreased $1.0 million for the three-month period ended September 30, 2014 and increased $2.5 million for the nine-month period ended September 30, 2014 compared to the same periods of 2013 due to corresponding fluctuations in death benefits paid. Fluctuations in the timing of death benefits occur from quarter-to-quarter and year-to-year.

The increase in the liability for future policy benefits increased in the three-month period ended September 30, 2014 compared to the same period of 2013, due to an increase in sales of life insurance products partially offset by net withdrawals of deferred annuities.

Deferred annuity deposits decreased 28.5 percent and increased 62.2 percent for the three- and nine-month periods ended September 30, 2014, respectively, compared with the same periods of 2013. Guaranteed interest rates of our products increased in the second half of 2013 and in the first three months of 2014, resulting in more favorable retention of maturing deferred annuity deposits as opposed to lapse of policies due to maturity, as well as increased deposits due to additional annuity sales for the nine-month period ended September 30, 2014. Since the beginning of the second quarter of 2014, guaranteed interest rates of our products have periodically declined, resulting in a decrease in deferred annuity deposits for the three-month period ended September 30, 2014 as compared with the same period of 2013.

Net cash outflow related to our annuity business was $23.8 million and $50.6 million in the three- and nine-month periods ended September 30, 2014, respectively, compared to a net cash outflow of $17.1 million and $63.2 million in the same periods of 2013. We attribute this to the interest rate activity described above.

For a detailed discussion of our consolidated investment results, refer to the "Investment Portfolio" section of this item.

Investment Portfolio

Our invested assets totaled $3,138.9 million at September 30, 2014, compared to $3,050.1 million at December 31, 2013, an increase of $88.8 million. At September 30, 2014, fixed maturity securities and equity securities made up 90.6 percent and 7.6 percent of the value of our investment portfolio, respectively. Because the primary purpose of our investment portfolio is to fund future claims payments, we use a conservative investment philosophy, investing in a diversified portfolio of high-quality, intermediate-term taxable corporate bonds, taxable U.S. government bonds and tax-exempt U.S. municipal bonds. Our overall investment strategy is to keep our cash on hand low in the current interest rate environment. If additional cash is needed, we can borrow funds available under our revolving credit facility.

Composition
We develop our investment strategies based on a number of factors, including estimated duration of reserve liabilities, short- and long-term liquidity needs, projected tax status, general economic conditions, expected rates of inflation, regulatory requirements, interest rates and credit quality of assets. We administer our investment portfolio based on investment guidelines approved by management and the investment committee of our Board of Directors that comply with applicable statutory regulations.













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The composition of our investment portfolio at September 30, 2014 is presented at carrying value in the following table:
 
Property & Casualty Insurance Segment
 
Life Insurance Segment
 
Total
 
 
 
Percent

 
 
 
Percent

 
 
 
Percent

(In Thousands)
 
 
of Total

 
 
 
of Total

 
 
 
of Total

Fixed maturities (1)
 
 
 
 
 
 


 


 


Held-to-maturity
$
256

 
%
 
$
157

 
%
 
$
413

 
%
Available-for-sale
1,253,741

 
82.7

 
1,572,902

 
96.9

 
2,826,643

 
90.0

Trading securities
17,441

 
1.2

 

 

 
17,441

 
0.6

Equity securities
 
 
 
 
 
 
 
 
 
 
 
Available-for-sale
207,488

 
13.7

 
26,480

 
1.6

 
233,968

 
7.5

Trading securities
3,252

 
0.2

 

 

 
3,252

 
0.1

Mortgage loans

 

 
4,257

 
0.3

 
4,257

 
0.1

Policy loans

 

 
6,046

 
0.4

 
6,046

 
0.2

Other long-term investments
33,075

 
2.2

 
13,353

 
0.8

 
46,428

 
1.5

Short-term investments
500

 

 

 

 
500

 

Total
$
1,515,753

 
100.0
%
 
$
1,623,195

 
100.0
%
 
$
3,138,948

 
100.0
%
(1) Available-for-sale securities and trading fixed maturities are carried at fair value. Held-to-maturity fixed maturities are carried at amortized cost.

At September 30, 2014, we classified $2,826.6 million, or 99.4 percent, of our fixed maturities portfolio as available-for-sale, compared to $2,751.3 million, or 99.6 percent, at December 31, 2013. We classify our remaining fixed maturities as held-to-maturity or trading. We record held-to-maturity securities at amortized cost. We record available-for-sale securities at fair value, with any changes in fair value recognized in accumulated other comprehensive income. We record trading securities, primarily convertible redeemable preferred debt securities, at fair value, with any changes in fair value recognized in earnings.

As of September 30, 2014 and December 31, 2013, we did not have direct exposure to investments in subprime mortgages or other credit enhancement vehicles.

Credit Quality

The following table shows the composition of fixed maturity securities held in our available-for-sale, held-to-maturity and trading security portfolios, by credit rating at September 30, 2014 and December 31, 2013. Information contained in the table is generally based upon the issue credit ratings provided by Moody's, unless the rating is unavailable, in which case we obtain it from Standard & Poor's.
(In Thousands)
September 30, 2014
 
December 31, 2013
Rating
Carrying Value
 
% of Total
 
Carrying Value
 
% of Total
AAA
$
911,912

 
32.1
%
 
$
761,017

 
27.6
%
AA
614,666

 
21.6

 
537,527

 
19.5

A
593,067

 
20.8

 
564,396

 
20.4

Baa/BBB
663,518

 
23.3

 
830,735

 
30.1

Other/Not Rated
61,334

 
2.2

 
68,177

 
2.5

 
$
2,844,497

 
100.0
%
 
$
2,761,852

 
100.0
%

Duration
Our investment portfolio is invested primarily in fixed maturity securities whose fair value is susceptible to market risk, specifically interest rate changes. Duration is a measurement used to quantify our inherent interest rate risk and analyze our ability to match our invested assets to our reserve liabilities. If our invested assets and reserve liabilities have similar durations, then any change in interest rates will have an equal effect on these accounts. The primary purpose for matching invested assets and reserve liabilities is liquidity. With appropriate matching, our investments


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will mature when cash is needed, preventing the need to liquidate other assets prematurely. Mismatches in the duration of assets and liabilities can cause significant fluctuations in our results of operations.

Group

The weighted average effective duration of our portfolio of fixed maturity securities at September 30, 2014 is 4.7 years compared to 5.0 years at December 31, 2013.

Property and Casualty Insurance Segment

The weighted average effective duration of our portfolio of fixed maturity securities at September 30, 2014 is 4.6 years compared to 4.9 years at December 31, 2013.

Life Insurance Segment

The weighted average effective duration of our portfolio of fixed maturity securities at September 30, 2014 is 4.8 years compared to 5.0 years at December 31, 2013.

Investment Results
We invest the premiums received from our policyholders and annuitants in order to generate investment income, which is an important component of our revenues and profitability. The amount of investment income that we are able to generate is affected by many factors, some of which are beyond our control. Some of these factors are volatility in the financial markets, economic growth, inflation, interest rates, world political conditions, terrorist attacks or threats of terrorism, adverse events affecting other companies in our industry or the industries in which we invest and other unpredictable national or world events. Our net investment income decreased by 16.3 percent and 6.7 percent in the three- and nine-month periods ended September 30, 2014, respectively, compared with the same periods of 2013. The decrease is primarily due to changes in value of our investments in limited liability partnerships and secondarily to the decline of reinvestment interest rates from the continued low interest rate environment. We are maintaining our investment philosophy of purchasing fixed income investments rated investment grade or better.
Our net realized investment gains were $0.9 million and $5.8 million, respectively, during the three- and nine-month periods ended September 30, 2014, as compared with $1.2 million and $7.3 million, respectively, in the same periods of 2013.
We hold certain investments in limited liability partnerships that are recorded on the equity method of accounting, with changes in the value of these investments recorded in investment income. In the three- and nine-month periods ended September 30, 2014, the change in value of investments in limited liability partnerships resulted in a decrease of $2.6 million and an increase of $0.4 million, respectively, to investment income as compared to increases of $1.0 million and $3.5 million, respectively, to investment income in the same periods of 2013.
We regularly monitor the difference between our cost basis and the estimated fair value of our investments. Our accounting policy for impairment recognition requires other-than-temporary impairment charges to be recorded when we determine that it is more likely than not that we will be unable to collect all amounts due according to the contractual terms of the fixed maturity security or that the anticipated recovery in fair value of the equity security will not occur in a reasonable amount of time. Impairment charges on investments are recorded based on the fair value of the investments at the measurement date. Factors considered in evaluating whether a decline in value is other-than-temporary include: the length of time and the extent to which fair value has been less than cost; the financial condition and near-term prospects of the issuer; our intention to hold the investment; and the likelihood that we will be required to sell the investment.
Changes in unrealized gains and losses on available-for-sale securities do not affect net income and earnings per share but do impact comprehensive income, stockholders' equity and book value per share. We believe that any unrealized losses on our available-for-sale securities at September 30, 2014 are temporary based upon our current analysis of the issuers of the securities that we hold and current market events. It is possible that we could recognize


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impairment charges in future periods on securities that we own at September 30, 2014 if future events and information cause us to determine that a decline in value is other-than-temporary. However, we endeavor to invest in high quality assets to provide protection from future credit quality issues and corresponding other-than-temporary impairment write-downs.  

LIQUIDITY AND CAPITAL RESOURCES
Liquidity measures our ability to generate sufficient cash flows to meet our short- and long-term cash obligations. Our cash inflows are primarily a result of the receipt of premiums, annuity deposits, reinsurance recoveries, sales or maturities of investments, and investment income. Cash provided from these sources is used to fund the payment of losses and loss settlement expenses, policyholder benefits under life insurance contracts, annuity withdrawals, the purchase of investments, operating expenses, dividends, pension plan contributions, and in recent years, common stock repurchases.
We monitor our capital adequacy to support our business on a regular basis. The future capital requirements of our business will depend on many factors, including our ability to write new business successfully and to establish premium rates and reserves at levels sufficient to cover losses. Our ability to underwrite is largely dependent upon the quality of our claims paying and financial strength ratings as evaluated by independent rating agencies. In particular, we require (1) sufficient capital to maintain our financial strength ratings, as issued by various rating agencies, at a level considered necessary by management to enable our insurance company subsidiaries to compete and (2) sufficient capital to enable our insurance company subsidiaries to meet the capital adequacy tests performed by regulatory agencies in the U.S.
Cash outflows may be variable because of the uncertainty regarding settlement dates for losses. In addition, the timing and amount of individual catastrophe losses are inherently unpredictable and could increase our liquidity requirements. The timing and amount of reinsurance recoveries may be affected by reinsurer solvency and reinsurance coverage disputes.
Historically, we have generated substantial cash inflows from operations. It is our policy to invest the cash generated from operations in securities with maturities that, in the aggregate, correlate to the anticipated timing of payments for losses and loss settlement expenses and future policyholder benefits of the underlying insurance policies, and annuity withdrawals. The majority of our assets are invested in available-for-sale fixed maturity securities.
The following table displays a summary of cash sources and uses in 2014 and 2013.
Cash Flow Summary
Nine Months Ended September 30,
(In Thousands)
2014
 
2013
Cash provided by (used in)
 
 
 
Operating activities
$
87,344

 
$
118,027

Investing activities
(43,936
)
 
(80,334
)
Financing activities
(63,669
)
 
(58,468
)
Net decrease in cash and cash equivalents
$
(20,261
)
 
$
(20,775
)
Operating Activities
Net cash flows provided by operating activities totaled $87.3 million and $118.0 million for the nine-month periods ended September 30, 2014 and 2013, respectively. Operating cash flows in the nine-month period ended September 30, 2014 reflect a higher level of property and casualty loss payments. Our cash flows from operations were sufficient to meet our liquidity needs for the nine-month periods ended September 30, 2014 and 2013.
Investing Activities
Cash in excess of operating requirements is generally invested in fixed maturity securities and equity securities. Fixed maturities provide regular interest payments and allow us to match the duration of our liabilities. Equity securities provide dividend income, potential dividend income growth and potential appreciation. For further


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discussion of our investments, including our philosophy and our strategy for our portfolio, see the "Investment Portfolio" section of this item.
In addition to investment income, possible sales of investments and proceeds from calls or maturities of fixed maturity securities also can provide liquidity. During the next five years, $1.1 billion, or 37.1 percent, of our fixed maturity portfolio will mature.
We invest funds required for short-term cash needs primarily in money market accounts, which are classified as cash equivalents. At September 30, 2014, our cash and cash equivalents included $21.1 million related to these money market accounts, compared to $37.8 million at December 31, 2013.
Net cash flows used in investing activities totaled $43.9 million and $80.3 million for the nine-month periods ended September 30, 2014 and 2013, respectively. For the nine-month periods ended September 30, 2014 and 2013, we had cash inflows from scheduled and unscheduled investment maturities, redemptions, prepayments, and sales of investments of $396.7 million.
Our cash outflows for investment purchases were $434.9 million for the nine-month period ended September 30, 2014, compared to $472.4 million for the same period of 2013. In 2014, we continued to purchase a higher level of fixed maturity securities, which are more profitable than other categories of investments when market interest rates are low.
Financing Activities
Net cash flows used in financing activities were $63.7 million for the nine-month period ended September 30, 2014 compared to net cash flows used in financing activities of $58.5 million for the nine-month period ended September 30, 2013. The increase reflects a higher level of share repurchases in the nine-month period ended September 30, 2014, compared to the same period of 2013.
Credit Facilities
In December 2011, United Fire entered into a credit agreement with a syndicate of financial institutions as lenders, KeyBank National Association as administrative agent, lead arranger, sole book runner, swingline lender, and letter of credit issuer, and Bankers Trust Company as syndication agent.
On June 4, 2013, United Fire & Casualty Company, United Fire Group, Inc. and the syndicated lenders entered into an Assignment, Joinder, Assumption, and Release Agreement (the "Joinder Agreement") transferring the obligations under the credit agreement from United Fire & Casualty Company to United Fire Group, Inc. Effective with the execution of the Joinder Agreement, United Fire & Casualty Company was released from any further obligations under the credit agreement. As of September 30, 2014, there were no balances outstanding under this credit agreement. For further discussion of our credit agreement, refer to Part I, Item 1, Note 8 "Credit Facility" to the unaudited Consolidated Financial Statements.
Dividends
Dividends paid to shareholders totaled $14.7 million and $12.9 million in the nine-month periods ended September 30, 2014 and 2013, respectively. Our practice has been to pay quarterly cash dividends, which we have paid every quarter since March 1968.
Payments of any future dividends and the amounts of such dividends, however, will depend upon factors such as net income, financial condition, capital requirements, and general business conditions. We will only pay dividends if declared by our Board of Directors out of legally available funds.
As a holding company with no independent operations of its own, United Fire Group, Inc. relies on dividends received from its insurance company subsidiaries in order to pay dividends to its common shareholders. Dividends payable by our insurance subsidiaries are governed by the laws in the states in which they are domiciled. In all cases, these state laws permit the payment of dividends only from earned surplus arising from business operations.


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For example, under Iowa law, the maximum dividend or distribution that may be paid within a 12-month period without prior approval of the Iowa Insurance Commissioner is generally restricted to the greater of 10 percent of statutory surplus as of the preceding December 31, or net income of the preceding calendar year on a statutory basis, not greater than earned statutory surplus. Other states in which our insurance company subsidiaries are domiciled may impose similar restrictions on dividends and distributions. Based on these restrictions, at September 30, 2014, United Fire Group Inc.'s sole direct insurance company subsidiary, United Fire & Casualty Company, is able to make a maximum of $45.2 million in dividend payments without prior regulatory approval. These restrictions will not have a material impact in meeting our cash obligations.
Stockholders' Equity
Stockholders' equity increased 3.3 percent to $808.4 million at September 30, 2014, from $782.8 million at December 31, 2013. The increase was primarily attributable to net income of $24.3 million and an increase in net unrealized investment gains of $22.6 million, net of tax, during the first nine months of 2014, partially offset by shareholder dividends of $14.7 million and share repurchases of $11.2 million. At September 30, 2014, the book value per share of our common stock was $32.26 compared to $30.87 at December 31, 2013.

Funding Commitments

Pursuant to an agreement with one of our limited liability partnership investments, we are contractually committed through December 31, 2023 to make capital contributions upon request of the partnership. Our remaining potential contractual obligation was $12.6 million at September 30, 2014.

MEASUREMENT OF RESULTS
Our consolidated financial statements are prepared on the basis of GAAP. We also prepare financial statements for each of our insurance company subsidiaries based on statutory accounting principles and file them with insurance regulatory authorities in the states where they do business.
Management evaluates our operations by monitoring key measures of growth and profitability. We believe that disclosure of certain non-GAAP financial measures enhances investor understanding of our financial performance. The following section provides further explanation of the key measures management uses to evaluate our results.

Catastrophe losses is a commonly used non-GAAP financial measure that uses the designations of the Insurance Services Office (ISO) and are reported with loss and loss settlement expense amounts net of reinsurance recoverables, unless specified otherwise. According to the ISO, a catastrophe loss is defined as a single unpredictable incident or series of closely related incidents that result in $25.0 million or more in U.S. industry-wide direct insured losses to property and that affect a significant number of insureds and insurers ("ISO catastrophe"). In addition to ISO catastrophes, we also include as catastrophes those events ("non-ISO catastrophes"), which may include U.S. or international losses that we believe are, or will be, material to our operations, either in amount or in number of claims made. Management, at times, may determine for comparison purposes that it is more meaningful to exclude extraordinary catastrophe losses and resulting litigation. The frequency and severity of catastrophic losses we experience in any year affect our results of operations and financial position. In analyzing the underwriting performance of our property and casualty insurance segment, we evaluate performance both including and excluding catastrophe losses. Portions of our catastrophe losses may be recoverable under our catastrophe reinsurance agreements. We include a discussion of the impact of catastrophes because we believe it is meaningful for investors to understand the variability in our periodic earnings.
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(In Thousands)
2014
 
2013
 
2014
 
2013
ISO catastrophes
$
18,909

 
$
6,179

 
$
43,562

 
$
24,672

Non-ISO catastrophes (1)
4,373

 
2,275

 
3,598

 
2,514

Total catastrophes
$
23,282

 
$
8,454

 
$
47,160

 
$
27,186

(1) This number includes international assumed losses.


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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We have exposure to market risk arising from potential losses in our investment portfolio due to adverse changes in interest rates and market prices. However, we have the ability to hold fixed maturity investments to maturity. Our investment guidelines define the overall framework for managing our market and other investment risks including accountability and controls. In addition, each of our subsidiaries has specific investment policies that delineate the investment limits and strategies that are appropriate given each entity's liquidity, surplus, product, and regulatory requirements. We respond to market risk by managing the character of investment purchases.

It is our philosophy that we do not utilize financial hedges or derivative financial instruments to manage risks, nor do we enter into any swap, forward or option contracts, but attempt to mitigate our exposure through active portfolio management. In addition, we place the majority of our investments in high-quality, liquid securities and limit the amount of credit exposure to any one issuer. At September 30, 2014, we did not have direct exposure to investments in sub-prime mortgages or other credit-enhancement exposures.

While our primary market risk exposure is to changes in interest rates, we do have limited exposure to changes in equity prices and limited exposure to foreign currency exchange rates.

There have been no material changes in our market risk or market risk factors from what we reported in our Annual Report on Form 10-K for the year ended December 31, 2013.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure 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 Exchange Act) as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures, as of the end of the period covered by this report, were designed and functioning effectively to provide reasonable assurance that the information required to be disclosed by us in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. We believe that a control system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the control system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected.

Changes in Internal Control Over Financial Reporting

Our management, including our Chief Executive Officer and Chief Financial Officer, has evaluated our internal control over financial reporting to determine whether any changes occurred during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Based on this evaluation, no such change in our internal control over financial reporting occurred during the fiscal quarter to which this report relates.



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PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS
We consider all of our litigation pending as of September 30, 2014 to be ordinary, routine, and incidental to our business.
ITEM 1A. RISK FACTORS

Our business is subject to a number of risks, including those identified in Part I, Item 1A "Risk Factors" in our 2013 Annual Report on Form 10-K filed with the SEC on March 5, 2014, that could have a material effect on our business, results of operations, financial condition, and/or liquidity and that could cause our operating results to vary significantly from period to period. The risks described in the above mentioned report are not the only risks we face. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial could also have a material effect on our business, results of operations, financial condition and/or liquidity.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Under our share repurchase program, first announced in August 2007, we may purchase United Fire common stock from time to time on the open market or through privately negotiated transactions. The amount and timing of any purchases will be at our discretion and will depend upon a number of factors, including the share price, general economic and market conditions, and corporate and regulatory requirements.

In August 2014, our Board of Directors authorized the repurchase of 1,000,000 shares of common stock. This is in addition to the 868,601 shares of common stock remaining at June 30, 2014 under its previous authorization. Subsequently, the board of directors also extended the present authorization until August 2016. At September 30, 2014, after giving effect to share repurchases in the third quarter 2014, we are authorized to purchase 1,668,598 shares of common stock.

The following table provides information with respect to purchases of shares of common stock made by or on our behalf or by any "affiliated purchaser," as defined in Rule 10b-18(a)(3) under the Exchange Act, during the three-month period ended September 30, 2014.
 
 
 
 
 
Total Number of Shares
 
Maximum Number of
 
Total
 
 
 
Purchased as a Part of
 
Shares that may yet be
 
Number of
 
Average Price
 
Publicly Announced
 
Purchased Under the
Period
Shares Purchased
 
Paid per Share
 
Plans or Programs
 
Plans or Programs
7/1/2014 - 7/31/2014
49,900

 
$
28.50

 
49,900

 
818,701

8/1/2014 - 8/31/2014
100

 
28.46

 
100

 
1,818,601

9/1/2014 - 9/30/2014
150,003

 
28.38

 
150,003

 
1,668,598

Total
200,003

 
$
28.41

 
200,003

 
 

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

ITEM 4. MINE SAFETY DISCLOSURES

None.

ITEM 5. OTHER INFORMATION

None.


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ITEM 6. EXHIBITS
Exhibit number
 
Exhibit description
 
Filed herewith
11
 
Statement Re Computation of Per Share Earnings. All information required by Exhibit 11 is presented within Note 7 of the Notes to Unaudited Consolidated Financial Statements, in accordance with the FASB guidance on Earnings per Share.
 
X
31.1
 
Certification of Randy A. Ramlo pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
X
31.2
 
Certification of Dianne M. Lyons pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
X
32.1
 
Certification of Randy A. Ramlo pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
X
32.2
 
Certification of Dianne M. Lyons pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
X
101.1
 
The following financial information from United Fire Group, Inc.'s Quarterly Report on Form 10-Q for the quarter ended September 30, 2014 formatted in XBRL: (i) Consolidated Balance Sheets at September 30, 2014 (unaudited) and December 31, 2013; (ii) Consolidated Statements of Income and Comprehensive Income (unaudited) for the three and nine months ended September 30, 2014 and 2013; (iii) Consolidated Statement of Stockholders’ Equity (unaudited) for the nine months ended September 30, 2014; (iv) Consolidated Statements of Cash Flows (unaudited) for the nine months ended September 30, 2014 and 2013; and (v) Notes to Unaudited Consolidated Financial Statements, tagged as a block of text.

 
X



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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

UNITED FIRE GROUP, INC.
 
 
(Registrant)
 
 
 
 
 
/s/ Randy A. Ramlo
 
/s/ Dianne M. Lyons
Randy A. Ramlo
 
Dianne M. Lyons
President, Chief Executive Officer,
 
Senior Vice President, Chief Financial Officer and
Director and Principal Executive Officer
 
Principal Accounting Officer
 
 
 
November 4, 2014
 
November 4, 2014
(Date)
 
(Date)
 



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