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ORI > SEC Filings for ORI > Form 10-K on 3-Mar-2014All Recent SEC Filings

Show all filings for OLD REPUBLIC INTERNATIONAL CORP

Form 10-K for OLD REPUBLIC INTERNATIONAL CORP


3-Mar-2014

Annual Report


Item 7 - Management Analysis of Financial Position and Results of Operations
($ in Millions, Except Share Data)
OVERVIEW

This management analysis of financial position and results of operations pertains to the consolidated accounts of Old Republic International Corporation ("Old Republic" or "the Company"). The Company conducts its operations through three major regulatory segments, namely, its General (property and liability), Title, and the RFIG (mortgage guaranty and consumer credit indemnity) Run-off Business. A small life and accident insurance business, accounting for 1.2% of consolidated operating revenues for the year ended December 31, 2013 and 1.3% of consolidated assets as of that date, is included within the corporate and other caption of this report.

The consolidated accounts are presented in conformity with the Financial Accounting Standards Board's ("FASB") Accounting Standards Codification ("ASC") of accounting principles generally accepted in the United States of America ("GAAP"). As a publicly held company, Old Republic utilizes GAAP largely to comply with the financial reporting requirements of the Securities and Exchange Commission ("SEC"). From time to time the FASB and the SEC issue various releases most of which require additional financial statement disclosures and provide related application guidance. Of particular relevance to the Company's financial statements is recent guidance issued by the FASB relative to the calculation of deferred acquisition costs incurred by insurance entities which is discussed further in Note 1(f) of the Notes to Consolidated Financial Statements and amounts reclassified out of other comprehensive income which affects the presentation of the Consolidated Statements of Comprehensive Income.

As a state regulated financial institution vested with the public interest, however, business of the Company's insurance subsidiaries is managed pursuant to the laws, regulations, and accounting practices of the various states in the U.S. and those of a small number of other jurisdictions outside the U.S. in which they operate. In comparison with GAAP, the statutory accounting practices reflect greater conservatism and comparability among insurers, and are intended to address the primary financial security interests of policyholders and their beneficiaries. Additionally, these practices also affect a significant number of important factors such as product pricing, risk bearing capacity and capital adequacy, the determination of Federal income taxes payable currently among ORI's tax-consolidated entities, and the upstreaming of dividends by insurance subsidiaries to the parent holding company. The major differences between these statutory financial accounting practices and GAAP are summarized in Note 1(a) to the consolidated financial statements included elsewhere in this report.

The insurance business is distinguished from most others in that the prices (premiums) charged for various insurance products are set without certainty of the ultimate benefit and claim costs that will emerge or be incurred, often many years after issuance and expiration of a policy. This basic fact casts Old Republic as a risk-taking enterprise managed for the long run. Management therefore conducts the business with a primary focus on achieving favorable underwriting results over cycles, and on the maintenance of financial soundness in support of the insurance subsidiaries' long-term obligations to insurance beneficiaries. To achieve these objectives, adherence to insurance risk management principles is stressed, and asset diversification and quality are emphasized.

In addition to income arising from Old Republic's basic underwriting and related services functions, significant investment income is earned from invested funds generated by those functions and from shareholders' capital. Investment management aims for stability of income from interest and dividends, protection of capital, and sufficient liquidity to meet insurance underwriting and other obligations as they become payable in the future. Securities trading and the realization of capital gains are not objectives. The investment philosophy is therefore best characterized as emphasizing value, credit quality, and relatively long-term holding periods. The Company's ability to hold both fixed maturity and equity securities for long periods of time is in turn enabled by the scheduling of maturities in contemplation of an appropriate matching of assets and liabilities.

In light of the above factors, the Company's affairs are necessarily managed for the long run and without significant regard to the arbitrary strictures of quarterly or even annual reporting periods that American industry must observe. In Old Republic's view, such short reporting time frames do not comport well with the long-term nature of much of its business. Management believes that the Company's operating results and financial condition can best be evaluated by observing underwriting and overall operating performance trends over succeeding five to ten year intervals. Such extended periods can encompass one or two economic and/or underwriting cycles, and thereby provide appropriate time frames for such cycles to run their course and for reserved claim costs to be quantified with greater finality and effect.

This management analysis should be read in conjunction with the consolidated financial statements and the footnotes appended to them.


EXECUTIVE SUMMARY

In late March 2012, the Company announced that its General Insurance Group's Consumer Credit Indemnity ("CCI") division would be combined with its mortgage guaranty ("MI") line (RMIC Companies, Inc. or "RMICC") within a business denoted as the Republic Financial Indemnity Group, Inc. ("RFIG") run-off segment. The two operations, which offer similar insurance coverages, have been in run-off operating mode since 2008 (CCI) and August 2011 (MI), and are inactive from new business production standpoints. The combination has affected the manner in which segmented information is presented herein and in ORI's financial reports. The operating results of the combined coverages are therefore shown as a single run-off book of business within Old Republic's consolidated operations.

                                     Financial Highlights
                                                                                % Change
                                                                            2013        2012
Years Ended December 31:            2013         2012          2011       vs. 2012    vs. 2011
Operating Revenues:
Excluding run-off business       $ 4,941.1    $ 4,474.9     $ 3,965.3       10.4  %     12.9  %
RFIG run-off business                353.4        447.3         564.6      (21.0 )     (20.8 )
Total                            $ 5,294.5    $ 4,922.2     $ 4,529.9        7.6  %      8.7  %
Net Operating Income (Loss):
Excluding run-off business       $   280.1    $   231.0     $   257.5       21.3  %    (10.3 )%
RFIG run-off business                 71.4       (330.8 )      (476.1 )    121.6        30.5
Total                                351.6        (99.7 )      (218.5 )   N/M           54.3
Realized Investment
Gains (Losses), net of tax            96.2         31.1          78.0      209.6  %    (60.1 )
Net Income (Loss):               $   447.8    $   (68.6 )   $  (140.5 )   N/M           51.1  %
Components of Net Income (Loss):
Excluding run-off business       $   381.0    $   253.1     $   280.5       50.5  %     (9.8 )%
RFIG run-off business                 66.8       (321.8 )      (421.1 )    120.8  %     23.6
Total                            $   447.8    $   (68.6 )   $  (140.5 )   N/M           51.1  %
Diluted Earnings Per Share:
Net Operating Income (Loss)
Excluding run-off business       $    1.01    $    0.90     $    1.01       12.2  %    (10.9 )%
RFIG run-off business                 0.24        (1.29 )       (1.87 )    118.6        31.0
Total                                 1.25        (0.39 )       (0.86 )   N/M           54.7
Realized Investment
Gains (Losses), net of tax            0.32         0.12          0.31      166.7  %    (61.3 )
Net Income (Loss)                $    1.57    $   (0.27 )   $   (0.55 )   N/M           50.9  %
Components of Net Income (Loss):
Excluding run-off business       $    1.35    $    0.99     $    1.10       36.4  %    (10.0 )%
RFIG run-off business                 0.22        (1.26 )       (1.65 )    117.5  %     23.6
Total                            $    1.57    $   (0.27 )   $   (0.55 )   N/M           50.9  %
Cash Dividends Per Share         $    0.72    $    0.71     $    0.70        1.4  %      1.4  %
Ending Book Value Per Share      $   14.64    $   14.03     $   14.76        4.3  %     (4.9 )%

N/M = Not meaningful

Consolidated operating results for 2013 were marked by improved underwriting performance in most of Old Republic's active and run-off operations. Year-over-year favorable comparisons were most pronounced in the combined MI and CCI run-off segment which evidenced a further drop in claim costs. The positive momentum in title insurance operations continued on the strength of strong revenue growth associated with relatively lower claim and operating expenses. Old Republic's largest business of general insurance also posted better results for the year as underwriting income benefited from higher premium revenues and lower operating costs. 2012 operating results benefited from substantial improvements in title insurance and much reduced losses in the combined MI and CCI run-off business. General insurance profits, however, dropped measurably as an increase in claim costs, mostly for the workers' compensation coverage, hindered profitability.

In addition to the strong turn-around in 2013 operating earnings, Old Republic's overall performance was enhanced by the realization of substantial investment gains. For 2013 these arose mostly from sales of equity securities, most of which had been impaired in 2008 to much lower levels than their sale price in 2013.


Consolidated Results - The major components of Old Republic's consolidated results and other data for the periods reported upon are shown below:

                                                                                                       % Change
                                                                                                  2013         2012
Years Ended December 31:                                2013          2012          2011        vs. 2012     vs. 2011
Operating revenues:
      General insurance                              $ 2,849.9     $ 2,699.4     $ 2,488.6         5.6  %        8.5  %
      Title insurance                                  2,025.6       1,707.1       1,391.8        18.7          22.7
      Corporate and other                                 65.6          68.3          84.8        (4.1 )       (19.4 )
            Subtotal                                   4,941.1       4,474.9       3,965.3        10.4          12.9
      RFIG run-off business                              353.4         447.3         564.6       (21.0 )       (20.8 )
            Total                                    $ 5,294.5     $ 4,922.2     $ 4,529.9         7.6  %        8.7  %
Pretax operating income (loss):
      General insurance                              $   288.3     $   261.0     $   353.9        10.5  %      (26.3 )%
      Title insurance                                    124.3          73.8          36.2        68.2         103.9
      Corporate and other                                  2.1          (2.7 )       (14.6 )     175.8          81.1
            Subtotal                                     414.7         332.1         375.5        24.9         (11.5 )
      RFIG run-off business                              110.0        (508.6 )      (727.8 )     121.6          30.1
            Total                                        524.8        (176.4 )      (352.2 )      N/M           49.9
Realized investment gains (losses):
      From sales                                         148.1          48.1         165.8
      From impairments                                       -          (0.2 )       (50.2 )
            Net realized investment gains (losses)       148.1          47.8         115.5       209.3         (58.6 )
Consolidated pretax income (loss)                        672.9        (128.5 )      (236.7 )      N/M           45.7
            Income taxes (credits)                       225.0         (59.8 )       (96.1 )      N/M           37.7
Net income (loss)                                    $   447.8     $   (68.6 )   $  (140.5 )      N/M           51.1  %
Consolidated underwriting ratio:
      Including RFIG run-off business
      Benefits and claim ratio                            45.8 %        61.9 %        68.3 %     (26.0 )%       (9.4 )%
      Expense ratio                                       49.2          48.5          47.5         1.4           2.1
            Composite ratio                               95.0 %       110.4 %       115.8 %     (13.9 )%       (4.7 )%
      Excluding RFIG run-off business
      Benefits and claim ratio                            44.2 %        45.7 %        45.2 %      (3.3 )%        1.1  %
      Expense ratio                                       52.1          52.4          51.2        (0.6 )         2.3
            Composite ratio                               96.3 %        98.1 %        96.4 %      (1.8 )%        1.8  %

Components of diluted earnings per share:
      Net operating income (loss):
            General insurance                        $    0.67     $    0.72     $    0.95
            Title insurance                               0.28          0.18          0.10
            Corporate and other                           0.06             -         (0.04 )
                    Subtotal                              1.01          0.90          1.01
            RFIG run-off business                         0.24         (1.29 )       (1.87 )
                    Total                                 1.25         (0.39 )       (0.86 )
      Net realized investment gains (losses)              0.32          0.12          0.31
      Net income (loss)                              $    1.57     $   (0.27 )   $   (0.55 )
Cash dividends paid per share                        $    0.72     $    0.71     $    0.70

The preceding tables show operating and net income or loss to highlight the effects of realized investment gain or loss recognition on period-to-period comparisons. The recognition of realized investment gains or losses can be highly discretionary and arbitrary due to such factors as the timing of individual securities sales, recording of estimated losses from write-downs of impaired securities, tax-planning considerations, and changes in investment management judgments relative to the direction of securities markets or the future prospects of individual investees or industry sectors. Accordingly, management uses net operating income, a non-GAAP financial measure, to evaluate and better explain operating performance, believing that this measure enhances an understanding of Old Republic's core business results. Operating income, however, does not replace net income determined in accordance with GAAP as a measure of total profitability. The composition of realized gains or losses is shown below:


                                                                          Years Ended December 31,
                                                                       2013           2012         2011
Realized Investment Gains (Losses):
Actual net gain from sales                                        $     16.7       $   40.5     $     8.3
Accounting adjustment of gain for impairment charges taken in
prior periods                                                          131.3            7.5         157.5
           Net gain from actual sales                                  148.1           48.1         165.8
Net realized losses from impairments                                       -           (0.2 )       (50.2 )
Net pretax realized investment gains (losses) reported herein     $    148.1       $   47.8     $   115.5

General Insurance Results - The table below shows major elements that fueled this segment's earnings progress throughout 2013.

                                                             General Insurance Group
                                                                                          % Change
                                                                                     2013         2012
Years Ended December 31:                   2013          2012          2011        vs. 2012     vs. 2011
A. Prior to reclassification and
 including CCI run-off business:
Net premiums earned                     $ 2,543.5     $ 2,366.9     $ 2,167.7         7.5  %        9.2  %
Net investment income                       250.0         265.0         270.5        (5.7 )        (2.0 )
Benefits and claims costs                 1,894.0       1,808.9       1,562.9         4.7          15.7
Pretax operating income (loss)          $   272.0     $   186.0     $   304.3        46.2  %      (38.9 )%

Claim ratio                                  74.5 %        76.4 %        72.1 %      (2.5 )%        6.0  %
Expense ratio                                23.5          25.5          24.8        (7.8 )         2.8
      Composite ratio                        98.0 %       101.9 %        96.9 %      (3.8 )%        5.2  %

B. All CCI run-off business
reclassification(*):
Net premiums earned                     $    29.8     $    42.4     $    58.3       (29.9 )%      (27.1 )%
Net investment income                         0.4           0.1             -         N/M           N/M
Claim costs                                  44.5         112.8         102.9       (60.6 )         9.7
Pretax operating income (loss)          $   (16.2 )   $   (74.9 )   $   (49.6 )      78.3  %      (51.0 )%

Claim ratio                                 149.4 %       265.7 %       176.5 %     (43.8 )%       50.5  %
Expense ratio                                 6.6          11.0           8.7       (40.0 )        26.4
      Composite ratio                       156.0 %       276.7 %       185.2 %     (43.6 )%       49.4  %

C. After reclassification /
 Total Excluding all CCI run-off
business:
Net premiums earned                     $ 2,513.7     $ 2,324.4     $ 2,109.4         8.1  %       10.2  %
Net investment income                       249.6         264.9         270.5        (5.8 )        (2.1 )
Benefits and claims costs                 1,849.4       1,696.0       1,460.0         9.0          16.2
Pretax operating income (loss)          $   288.3     $   261.0     $   353.9        10.5  %      (26.3 )%

Benefits and claim ratio                     73.6 %        73.0 %        69.2 %       0.8  %        5.5  %
Expense ratio                                23.7          25.7          25.2        (7.8 )         2.0
      Composite ratio                        97.3 %        98.7 %        94.4 %      (1.4 )%        4.6  %

(*) In connection with the previously noted MI / CCI combination, $14.0 and $70.9 of pretax operating losses for all of 2013 and 2012, respectively, are retained by certain general insurance companies pursuant to various quota share and stop loss reinsurance agreements. All of these amounts, however, have been reclassified and are included for segment reporting purposes such that table (B) above incorporates 100% of the CCI run-off business results.

Favorable premium trends in workers' compensation, general liability, and several other general insurance coverages were mainly responsible for 2013's revenue growth. Old Republic's targeted insurance underwriting services in such fields as aviation, construction, energy, home warranty, trucking, and large account risk management provided the main impetus to this growth. Similar trends for workers' compensation and liability insurance lines within the construction, trucking, and large account risk management business were experienced in 2012. The combination of a generally improving rate environment for most coverages and the slowly strengthening pace of U.S. economic activity were major contributing factors in this regard.

2013 net investment income reflected further deterioration and lessened its contribution to operating margins. While


cash flow from operations was positive and additive to the invested asset base, market yields on new securities investments were constrained throughout the year.

This year's general insurance composite ratio, exclusive of the run-off CCI coverage, was slightly lower in comparison to 2012 results. The claim ratio remained at relatively high levels as workers compensation and general liability loss costs continued to reflect greater-than-expected severity. Most of the decline in this year's expense ratio stemmed from the absence of charges approximating 2 percentage points that were expensed during 2012. The charges pertained to the 2012 adoption of Financial Accounting Standards Board guidance for the calculation of deferred policy acquisition costs.

Title Insurance Results - Positive operating momentum in Old Republic's title insurance business accelerated throughout 2013. The following highlights portray the Company's recent earnings progress:

                                                     Title Insurance Group
                                                                                % Change
                                                                            2013        2012
Years Ended December 31:           2013          2012          2011       vs. 2012    vs. 2011
Net premiums and fees earned    $ 1,996.1     $ 1,677.4     $ 1,362.4       19.0  %     23.1  %
Net investment income                26.6          27.3          27.3       (2.6 )      (0.1 )
Claim costs                         134.0         120.8         105.7       10.9        14.3
Pretax operating income (loss)  $   124.3     $    73.8     $    36.2       68.2  %    103.9  %

Claim ratio                           6.7 %         7.2 %         7.8 %     (6.9 )%     (7.7 )%
Expense ratio                        88.0          89.6          91.2       (1.8 )      (1.8 )
     Composite ratio                 94.7 %        96.8 %        99.0 %     (2.2 )%     (2.2 )%

Growth in title insurance premiums and fees benefited from the same favorable market and operating factors that have taken hold in recent times. Most importantly these include market share gains, steadily improving housing sales and related financing transactions, and a relatively low mortgage interest rate environment. From an underwriting perspective, 2013 claim ratios were lower when compared to 2012 postings as claim frequency and severity continued to abate. Year-over-year expense ratio comparisons reflected further improvements from the combination of firm expense management and operating leverage arising from a growing book of business.


RFIG Run-off Business Results - The table below reflects RFIG's comparative results before and after the above noted combination of Old Republic's mortgage guaranty and consumer credit indemnity coverages within a single run-off business segment.

                                                               RFIG Run-off Business
                                                                                          % Change
                                                                                     2013         2012
Years Ended December 31:                    2013          2012         2011        vs. 2012     vs. 2011
A. Prior to reclassification /
 Excluding CCI run-off business:
Net premiums earned                      $   286.7     $  368.0     $   444.9       (22.1 )%      (17.3 )%
Net investment income                         36.4         36.2          59.2         0.7         (38.9 )
Claim costs                                  173.2        797.5       1,057.1       (78.3 )       (24.6 )
Pretax operating income (loss)           $   126.3     $ (433.6 )   $  (678.1 )     129.1  %       36.1  %

Claim ratio                                   60.4 %      216.7 %       237.6 %     (72.1 )%       (8.8 )%
Expense ratio                                  8.2         10.4          23.9       (21.2 )       (56.5 )
       Composite ratio                        68.6 %      227.1 %       261.5 %     (69.8 )%      (13.2 )%

B. All CCI run-off business
reclassification(*):
Net premiums earned                      $    29.8     $   42.4     $    58.3       (29.9 )%      (27.1 )%
Net investment income                          0.4          0.1             -         N/M           N/M
Claim costs                                   44.5        112.8         102.9       (60.6 )         9.7
Pretax operating income (loss)           $   (16.2 )   $  (74.9 )   $   (49.6 )      78.3  %      (51.0 )%

Claim ratio                                  149.4 %      265.7 %       176.5 %     (43.8 )%       50.5  %
Expense ratio                                  6.6         11.0           8.7       (40.0 )        26.4
       Composite ratio                       156.0 %      276.7 %       185.2 %     (43.6 )%       49.4  %

C. After reclassification /
 Total RFIG run-off MI and CCI business:
Net premiums earned                      $   316.5     $  410.5     $   503.2       (22.9 )%      (18.4 )%
Net investment income                         36.8         36.3          59.3         1.5         (38.7 )
Claim costs                                  217.7        910.4       1,160.1       (76.1 )       (21.5 )
Pretax operating income (loss)           $   110.0     $ (508.6 )   $  (727.8 )     121.6  %       30.1  %

Claim ratio                                   68.8 %      221.8 %       230.5 %     (69.0 )%       (3.8 )%
Expense ratio                                  8.1         10.4          22.1       (22.1 )       (52.9 )
       Composite ratio                        76.9 %      232.2 %       252.6 %     (66.9 )%       (8.1 )%

(*) In connection with the previously noted MI / CCI combination, $14.0 and $70.9 of pretax operating losses for all of 2013 and 2012, respectively, are retained by certain general insurance companies pursuant to various quota share and stop loss reinsurance agreements. All of these amounts, however, have been reclassified and are included for segment reporting purposes such that table (B) above incorporates 100% of the CCI run-off business results.

Both MI and CCI premiums registered declines throughout 2013 and 2012- the natural outcome of a run-off book of business devoid of new premium production since at least 2011. Net investment income trends for the past three years were affected adversely by a pervasively low yield environment and by the segment's declining invested asset base which eroded gradually by declining premium volume and ongoing claim disbursements.

The substantial improvement in 2013 mortgage guaranty operating income arose mostly from much lower claim provisions. These emanated from the combined effects of further reductions in newly reported defaults and a rising rate at which previously reported defaults have cured or otherwise been resolved without payment. These factors led to highly favorable developments of year-end 2012 claim reserves during 2013. The (favorable) reserve developments accounted for a (reduction) of (88.2) percentage points in the reported claim ratio for all of 2013. By contrast, unfavorable developments of year-end 2011 reserves in 2012 raised the latter year's reported claim ratios by 31.6 percentage points. The disparate development patterns in previously established claim reserves are . . .

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