Donegal (DGICA) - 2022 Q4 - Annual Report

Part I Business Donegal Group Inc. (DGI) is a property and casualty insurance holding company operating in 24 states, with segments in commercial, personal, and investments Introduction and Corporate Structure DGI is an insurance holding company operating in 24 states, controlled by Donegal Mutual, with business segmented into investment, commercial, and personal lines - Donegal Group Inc. (DGI) is an insurance holding company operating in 24 states, segmented into investment, commercial, and personal lines[17][19] - Donegal Mutual Insurance Company controls DGI, holding approximately 71% of the combined voting power[18] - A pooling agreement allocates 80% of pooled business to DGI's subsidiary, Atlantic States, sharing underwriting results proportionally[27][31] Relationship with Donegal Mutual Donegal Mutual provides essential services to DGI, including management and IT, with allocated expenses totaling $199.2 million in 2022 - Donegal Mutual provides facilities, management, and IT services to DGI's subsidiaries, with allocated expenses totaling $199.2 million in 2022, up from $186.6 million in 2021 and $153.9 million in 2020[35] - All 876 employees serving DGI's insurance subsidiaries are employed by Donegal Mutual[36] - A coordinating committee reviews and approves intercompany agreements to ensure fairness to both DGI stockholders and Donegal Mutual policyholders[41][42] Business Strategy The company's strategy focuses on disciplined underwriting, technology modernization, profitable growth through agencies, and selective acquisitions - Primary strategies include sustained financial performance, modernizing operations, profitable growth, superior agent/policyholder experience, and P&C company acquisitions[47][50] Combined Ratio Comparison (2018-2022) | | 2022 | 2021 | 2020 | 2019 | 2018 | | :--- | :--- | :--- | :--- | :--- | :--- | | Our GAAP combined ratio | 103.3% | 101.0% | 96.0% | 99.5% | 110.1% | | Industry SAP combined ratio (1) | 104.0% | 99.6% | 98.4% | 98.9% | 99.2% | - A multi-year systems modernization project is underway, with new systems for workers' compensation and personal lines launched, and commercial lines scheduled for H1 2023[58] - The company has acquired seven smaller P&C insurers since 1998, a strategy currently de-emphasized but expected to continue[71][72][76] Products and Underwriting The company's insurance operations are segmented into commercial and personal lines, with a strategic shift towards commercial for better long-term growth - The company is strategically shifting its business mix to favor commercial lines for better long-term profitable growth opportunities[82] Net Premiums Written by Line of Insurance (in thousands) | Line of Business | 2022 Amount | 2022 % | 2021 Amount | 2021 % | 2020 Amount | 2020 % | | :--- | :--- | :--- | :--- | :--- | :--- | :--- | | Total commercial lines | $519,797 | 61.6% | $501,785 | 62.4% | $425,986 | 57.4% | | Commercial automobile | $167,774 | 19.9% | $161,947 | 20.1% | $135,294 | 18.2% | | Workers' compensation | $111,892 | 13.3% | $113,256 | 14.1% | $109,960 | 14.8% | | Commercial multi-peril | $200,045 | 23.7% | $188,242 | 23.4% | $147,993 | 19.9% | | Total personal lines | $323,733 | 38.4% | $302,482 | 37.6% | $316,154 | 42.6% | | Personal automobile | $181,129 | 21.5% | $170,578 | 21.2% | $184,602 | 24.9% | | Homeowners | $120,087 | 14.2% | $109,974 | 13.7% | $111,886 | 15.1% | | Total business | $843,530 | 100.0% | $804,267 | 100.0% | $742,140 | 100.0% | Distribution The company distributes products through 2,300 independent agencies across 24 states, with Pennsylvania as the largest market - Products are distributed through approximately 2,300 independent insurance agencies in 24 states[88] Direct Premiums Written by State (2022) | State | Percentage of Direct Premiums | | :--- | :--- | | Pennsylvania | 35.1 % | | Michigan | 15.8 % | | Maryland | 8.6 % | | Delaware | 6.4 % | | Virginia | 5.9 % | | Georgia | 4.6 % | | Other | 23.6 % | | Total | 100.0 % | Liabilities for Losses and Loss Expenses The company's loss reserves are subject to uncertainty, with $44.8 million favorable development in 2022, and a 1% change impacting pre-tax results by $6.7 million - The company recognized favorable prior-year loss reserve development of $44.8 million in 2022, $31.2 million in 2021, and $12.9 million in 2020[103] - The $44.8 million favorable development in 2022 represented 7.2% of prior year-end net reserves, primarily from lower loss emergence in personal and commercial auto lines[103] - A 1% change in net loss and loss expense reserves would affect pre-tax results by approximately $6.7 million[102] Reconciliation of GAAP Net Liability for Unpaid Losses and Loss Expenses (in thousands) | | 2022 | 2021 | 2020 | | :--- | :--- | :--- | :--- | | Net liability at beginning of year | $626,359 | $557,189 | $506,906 | | Total incurred losses | $564,079 | $520,710 | $459,764 | | Total paid losses | $520,576 | $451,540 | $409,481 | | Net liability at end of year | $669,862 | $626,359 | $557,189 | Investments The company's investment strategy focuses on after-tax income and risk limitation, with $1.3 billion in total investments, primarily investment-grade fixed maturities - As of December 31, 2022, 100% of all debt securities held had an investment-grade rating[118] Investment Portfolio Composition at Dec 31, 2022 (Carrying Value) | Investment Type | Amount (in thousands) | Percent of Total | | :--- | :--- | :--- | | Total fixed maturities | $1,212,231 | 92.9% | | Equity securities | $35,105 | 2.7% | | Short-term investments | $57,321 | 4.4% | | Total investments | $1,304,657 | 100.0% | Investment Results | (dollars in thousands) | 2022 | 2021 | 2020 | | :--- | :--- | :--- | :--- | | Average Invested assets | $1,290,752 | $1,249,024 | $1,165,878 | | Net Investment income | $34,016 | $31,126 | $29,504 | | Average yield | 2.6% | 2.5% | 2.5% | Risk Factors The company faces significant risks including unpredictable catastrophe losses, pricing and reserving challenges, intense competition, and regulatory changes - Industry-wide risks include increasing loss severity from litigation and inflation, unpredictable catastrophe losses, and difficulties in setting adequate premium rates and reserves[145][146][150] - Company-specific risks include potential conflicts of interest from Donegal Mutual's control, geographic concentration, dependence on independent agents, and reliance on IT systems[168][175][176][183] - Stockholder risks include low trading volume causing price volatility and Donegal Mutual's majority control making a third-party takeover unlikely[200][202] - The company faces reinsurance credit risk, with $148.3 million in receivables from third-party reinsurers, including $60.7 million from MCCA[194][195] Unresolved Staff Comments The company reports no unresolved written comments from the Securities and Exchange Commission staff - There are no unresolved written comments from the SEC staff[205] Properties The company shares a 270,000 sq ft headquarters with Donegal Mutual in Marietta, PA, and owns a 10,000 sq ft facility in Glen Allen, VA - The company shares a 270,000 sq ft headquarters in Marietta, PA, owned by its parent, Donegal Mutual[206] Legal Proceedings The company is involved in routine litigation not expected to have a material adverse effect on its financial condition or operations - The company is party to routine litigation from its insurance business, not expected to have a material adverse effect[207] Part II Market for Common Equity, Stockholder Matters, and Issuer Purchases This section details the company's Class A and B common stock trading on NASDAQ, including dividends, share purchases, and stock performance Dividends Declared Per Share | Stock Class | 2022 | 2021 | | :--- | :--- | :--- | | Class A Common Stock | $0.66 | $0.64 | | Class B Common Stock | $0.59 | $0.57 | - During Q4 2022, Donegal Mutual purchased 259,508 Class A common shares at an average price of $15.13 per share[213] - Over five years ending December 31, 2022, a $100 investment in Class A stock grew to $101.23, and Class B to $130.35, compared to $122.41 for Russell 2000 and $135.46 for the peer group[215][216] Management's Discussion and Analysis (MD&A) The MD&A provides an overview of the company's financial performance, condition, critical accounting policies, and analysis of operational results and liquidity Results of Operations The company reported a net loss of $2.0 million in 2022, driven by a higher combined ratio of 103.3% due to increased claim severity and weather-related losses Key Financial Results (2020-2022) | (in millions) | 2022 | 2021 | 2020 | | :--- | :--- | :--- | :--- | | Net Premiums Written | $843.5 | $804.3 | $742.1 | | Net Premiums Earned | $822.5 | $776.0 | $742.0 | | Net Investment Income | $34.0 | $31.1 | $29.5 | | Combined Ratio | 103.3% | 101.0% | 96.0% | | Net (Loss) Income | $(2.0) | $25.3 | $52.8 | - The 2022 loss ratio increased to 68.6% from 67.1% in 2021, driven by higher claim severity and increased weather-related losses of $63.5 million (7.7 points) from $45.3 million (5.8 points) in 2021[259] - Favorable loss reserve development from prior accident years was $44.8 million in 2022, compared to $31.2 million in 2021[259] - The expense ratio increased slightly to 34.1% in 2022 from 33.3% in 2021, mainly due to higher technology-related expenses[260] Financial Condition, Liquidity and Capital Resources The company maintains strong liquidity with $67.1 million net cash from operations in 2022, a $1.3 billion liquid investment portfolio, and $46.4 million dividend capacity - Net cash provided by operating activities was $67.1 million in 2022, down from $76.7 million in 2021 and $101.1 million in 2020[282] - The maximum ordinary dividends payable to the parent company in 2023 without regulatory approval is approximately $46.4 million[285] - At year-end 2022, the company had a $35.0 million FHLB advance and access to an undrawn $20.0 million line of credit[283][419][420] - Book value per share decreased to $14.79 at December 31, 2022, from $16.95 due to $45.4 million in after-tax unrealized losses on fixed-maturity investments[266] Quantitative and Qualitative Disclosures About Market Risk The company's primary market risks are interest rate, equity price, and credit risk, managed through portfolio diversification and high-quality investments - The company's main market risk exposures are interest rate risk, equity price risk, and credit risk[295] - Interest rate risk is managed by holding fixed-maturity investments to maturity and maintaining a laddered portfolio structure[296] - Credit risk is managed by investing in a diversified portfolio of high-quality securities and limiting single issuer exposure[299] Financial Statements and Supplementary Data This section presents the company's audited consolidated financial statements, including balance sheets, income statements, cash flows, and detailed notes, with an unqualified audit opinion Consolidated Financial Statements This section presents core audited financial statements, showing $2.24 billion total assets, $483.6 million equity, and a $2.0 million net loss in 2022 Consolidated Balance Sheet Highlights (in millions) | | Dec 31, 2022 | Dec 31, 2021 | | :--- | :--- | :--- | | Total Investments | $1,304.7 | $1,276.8 | | Total Assets | $2,243.3 | $2,255.2 | | Losses and loss expenses | $1,121.0 | $1,077.6 | | Total Liabilities | $1,759.8 | $1,724.1 | | Total Stockholders' Equity | $483.6 | $531.0 | Consolidated Statement of (Loss) Income Highlights (in millions) | | 2022 | 2021 | 2020 | | :--- | :--- | :--- | :--- | | Net premiums earned | $822.5 | $776.0 | $742.0 | | Total revenues | $848.2 | $816.5 | $777.8 | | Net losses and loss expenses | $564.1 | $520.7 | $459.8 | | Total expenses | $851.9 | $786.1 | $714.5 | | Net (loss) income | $(2.0) | $25.3 | $52.8 | Note 3 - Transactions with Affiliates This note details significant reinsurance and expense-sharing agreements with Donegal Mutual, including the 80% pooling agreement and $199.2 million in allocated expenses in 2022 Net Effect of Affiliated Reinsurance Transactions (in millions) | | 2022 | 2021 | 2020 | | :--- | :--- | :--- | :--- | | On Premiums Earned | $232.1 | $212.6 | $192.9 | | On Losses and Loss Expenses | $177.8 | $131.4 | $87.4 | - Allocated expenses from Donegal Mutual for services totaled $199.2 million in 2022, $186.6 million in 2021, and $153.9 million in 2020[361] Note 8 - Liability for Losses and Loss Expenses This note analyzes the $1.121 billion gross liability for losses and loss expenses, with $44.8 million favorable prior-year development in 2022 Activity in Liability for Losses and Loss Expenses (in millions) | | 2022 | 2021 | 2020 | | :--- | :--- | :--- | :--- | | Net Balance at January 1 | $626.4 | $557.2 | $506.9 | | Incurred related to current year | $608.9 | $551.9 | $472.7 | | Incurred related to prior years | $(44.8) | $(31.2) | $(12.9) | | Total Paid | $(520.6) | $(451.5) | $(409.5) | | Net Balance at December 31 | $669.9 | $626.4 | $557.2 | - The $44.8 million favorable development in 2022 represented 7.2% of December 31, 2021 net carried reserves, primarily from lower loss emergence in personal and commercial auto lines[389] Note 14 - Statutory Information and Dividend Restrictions This note presents statutory financial data for insurance subsidiaries, detailing capital and surplus, and $46.4 million in ordinary dividend capacity for 2023 Statutory Capital and Surplus of Insurance Subsidiaries (in millions) | Subsidiary | 2022 | 2021 | | :--- | :--- | :--- | | Atlantic States | $263.6 | $278.9 | | Southern | $64.5 | $64.2 | | Peninsula | $52.2 | $47.9 | | MICO | $75.4 | $75.2 | - The total ordinary dividends available for payment to the parent company in 2023 without prior regulatory approval is approximately $46.4 million[456] Controls and Procedures Management concluded that disclosure controls and internal control over financial reporting were effective as of December 31, 2022, with an unqualified audit opinion - Management, including the CEO and CFO, concluded that disclosure controls and procedures were effective as of December 31, 2022[489] - Management concluded that internal control over financial reporting was effective as of December 31, 2022, based on the COSO framework, and audited by KPMG LLP[490][491] - Changes to internal controls over financial reporting resulted from implementing a new system for expense allocation and reinsurance premiums[492] Part III Directors, Executive Compensation, Security Ownership, and Related Party Transactions Information for Items 10-14, including directors, executive compensation, and security ownership, is incorporated by reference from the definitive proxy statement - Information for Items 10-14, covering directors, executive compensation, security ownership, related party transactions, and accounting fees, is incorporated by reference from the definitive proxy statement[503][505][506][507][508] Part IV Exhibits, Financial Statement Schedules This section lists all financial statements, schedules, and exhibits filed with the Form 10-K, including consolidated financials, audit reports, and key corporate documents - This section contains the list of all financial statements, schedules, and exhibits filed with the 10-K[510] - Key exhibits include the Certificate of Incorporation, By-laws, equity plans, the Proportional Reinsurance Agreement with Donegal Mutual, and CEO/CFO certifications[511][512]