South Central Mutual Insurance Company

Report of the Examination of South Central Mutual Insurance Company Friesland, Wisconsin As of December 31, 2008 TABLE OF CONTENTS Page I. INTRODUCTION ............................................................................................................. 1 II. REINSURANCE............................................................................................................... 7 III. FINANCIAL DATA ......................................................................................................... 10 IV. SUMMARY OF EXAMINATION RESULTS................................................................... 14 V. CONCLUSION ............................................................................................................... 26 VI. SUMMARY OF COMMENTS AND RECOMMENDATIONS ......................................... 27 VII. ACKNOWLEDGMENT................................................................................................... 28 State of Wisconsin / OFFICE OF THE COMMISSIONER OF INSURANCE Jim Doyle, Governor Sean Dilweg, Commissioner Wisconsin.gov May 8, 2009 125 South Webster Street • P.O. Box 7873 Madison, Wisconsin 53707-7873 Phone: (608) 266-3585 • Fax: (608) 266-9935 E-Mail: ociinformation@wisconsin.gov Web Address: oci.wi.gov Honorable Sean Dilweg Commissioner of Insurance State of Wisconsin 125 South Webster Street Madison, Wisconsin 53703 Commissioner: In accordance with your instructions, an examination has been performed as of December 31, 2008, of the affairs and financial condition of: SOUTH CENTRAL MUTUAL INSURANCE COMPANY FRIESLAND, WISCONSIN and the following report thereon is respectfully submitted: I. INTRODUCTION The previous examination of South Central Mutual Insurance Company (the company) was made in 2004 as of December 31, 2003. The current examination covered the intervening time period ending December 31, 2008, and included a review of such subsequent transactions deemed essential to complete this examination. The “Summary of Examination Results” contains elaboration on all areas of the company's operations. Special attention was given to the action taken by the company to satisfy the recommendations and comments made in the previous examination report. The company was organized as a town mutual insurance company on September 5, 1874, under the provisions of the then existing Wisconsin Statutes. The original name of the company was the Randolph & Scott Mutual Fire Insurance Company. On December 31, 1977, Westford Mutual Fire Insurance Company was merged into Randolph & Scott Mutual Fire Insurance Company. Subsequent to the Westford merger, the name of the surviving company was changed to Randolph-Scott-Westford Mutual Insurance Company (RSWMIC). On January 1, 1995, RSWMIC then merged with Manchester, Kingston & Marquette Mutual Insurance Company. Subsequent amendments to the company's articles and bylaws changed the company's name to that presently used. During the period under examination, there was one amendment to the articles of incorporation and no amendments to the bylaws. The amendment allowed the board of directors to consist of no more than nine members and no fewer than six members. The company is currently licensed to write property, including windstorm and hail, and nonproperty insurance. The company is currently licensed to write business in the following counties: Adams Dane Fond du Lac Jefferson Sauk Winnebago Columbia Dodge Green Lake Marquette Waushara A review was made of the policy and application forms currently used by the company. The company issues an approved policy with or without endorsements for terms of one year or three years for farmowner policies and one year for homeowner and commercial policies, with premiums payable on the advance premium basis. The company also charges a policy fee of $25 for homeowner’s policies, $50 for commercial policies and from $25 to $75 for farmowner policies based on the policy premium. The company also charges an installment fee of $5 for each installment. The company offers a discount for policyholders who have not had a claim in four or more years. Business of the company is acquired through eight agents, none of whom are directors of the company. Agents presently receive a 15% commission on all lines of business written. Agents can also receive a bonus commission ranging from 0.5% to 2.5% contingent upon meeting the following requirements: 1. 2. 3. 4. Write premium of $40,000 or more; and Number of written policies greater than the previous year’s; and Have a pure loss ratio of 40% or less; and Have a three-year pure loss ratio of 55% or less. 2 If an agent meets all the requirements for a contingent commission, the rate he/she receives directly relates to his/her pure loss ratio at year-end. A lower pure loss ratio results in a higher contingent commission rate, and vice versa. Also, the company has an additional policy incentive program whereby an agent can receive $25 for each net addition in policy count growth. Agents do not have authority to adjust losses. The company uses independent outside adjusting firms to adjust a majority of its claims. The outside adjusting firm bills the company based on time and expenses. The manager of the company can adjust minor claims, which can be handled without the need of a professional adjusting service. The manager doesn’t receive additional compensation for adjusting, but does receive reimbursement of $0.44 per mile for mileage over ten miles. Policyholders may participate in the management and control of the company by attending and voting at all annual or special meetings of the members. No member may vote by proxy. The annual meeting of the company for the election of directors and special meetings of the company are held in accordance with its articles of incorporation. Board of Directors The board of directors currently consists of seven members divided into three classes. One class is elected at each annual meeting for a term of three years. Vacancies on the board may be filled by the directors for the interim to the next annual meeting when a director shall be chosen for the unexpired term. The current board of directors consists of the following policyholders of the company: Name Lee Barden Wallace Williams Judy Stiemsma Tom Alsum Verlyn Jahnke Jerry Westra Heather Tessmann Principal Occupation Farmer Farmer Secretary & Treasurer Farmer Farmer Feed Mill Employee Farmer Residence Cambria, WI Randolph, WI Cambria, WI Randolph, WI Markesan, WI Randolph, WI Cambria, WI Expiry 2012 2010 2011 2010 2012 2010 2012 The company does not have any directors who are also agents. 3 Members of the board currently receive $85 for each director meeting attended, $65 for each educational meeting, $40 for each committee meeting and mileage reimbursement of $0.44 per mile for meetings away from the home office. Section 612.13 (1m), Wis. Stat., requires: (1) If a town mutual has fewer than 9 directors, no more than one director may be an employee or representative of the town mutual; and (2) Employees and representatives of a town mutual may not constitute a majority of its board. The company is in compliance with these requirements. Officers and Key Personnel Officers are elected by the board of directors from among its members and hold office for one year or until their successors are duly elected and qualified. Officers serving at the present time are as follows: 2008 Compensation $ 2,090 745 3,490 51,300 Name Lee Barden Wallace Williams Judy Stiemsma Denis Fuerstenberg Office President Vice President Secretary & Treasurer Manager Reported compensation is the total compensation paid by the insurer for the year and includes salary and director fees. The manager is not an officer of the company but included as a key personnel. The manager does not have any voting rights. Committees of the Board The company's bylaws allow for the formation of certain committees by the board of directors. The committees at the time of the examination are listed below: Adjusting Committee All Board members are also members of the adjusting committee. Executive Committee Lee Barden, Chair Judy Stiemsma Wallace Williams Nominating Committee Lee Barden, Chair Verlyn Jahnke Heather Tessmann Investment Committee Lee Barden, Chair Judy Stiemsma Wallace Williams 4 Growth of Company The growth of the company since the previous examination as compiled from its filed annual statements was as follows: Net Premiums Earned $454,712 424,402 410,426 426,351 381,285 297,595 Policies In Force 1,302 1,231 1,162 1,188 1,230 1,178 Net Income $(108,899) 60,431 (62,656) 112,641 1,853 (8,586) Admitted Assets $2,335,445 2,358,849 2,204,141 2,151,410 1,908,121 1,653,545 Policyholders' Surplus $1,738,524 1,844,962 1,722,518 1,714,141 1,491,156 1,267,839 Year 2008 2007 2006 2005 2004 2003 The ratios of gross and net premiums written to surplus as regards policyholders since the previous examination were as follows: Gross Premiums Written $870,373 833,686 778,480 774,594 769,099 715,313 Net Premiums Written $466,059 474,410 416,710 403,076 438,358 329,757 Policyholders' Surplus $1,738,524 1,844,962 1,722,518 1,714,141 1,491,156 1,267,839 Writings Ratios Net Gross 27% 26 24 24 29 26 50% 45 45 45 52 56 Year 2008 2007 2006 2005 2004 2003 For the same period, the company's operating ratios were as follows: Other Underwriting Expenses Incurred $234,526 208,458 190,312 170,109 192,281 184,767 Year 2008 2007 2006 2005 2004 2003 Net Losses and LAE Incurred $409,136 214,901 331,058 186,083 194,443 150,178 Net Premiums Earned $454,712 424,402 410,426 426,351 381,285 297,595 Net Loss Ratio 90% 51 81 44 51 50 Expense Ratio 52% 49 46 40 50 62 Composite Ratio 142% 100 127 84 101 112 During the period under examination, the company’s admitted assets increased by 41%, net premiums written increased by 41%, net premiums earned increased by 53% and surplus increased by 37%. The increase in admitted assets was attributable to two factors: increase in the value of Wisconsin Reinsurance Corporation common stock and increase in cash as a result of increased premium volume. Increase in premiums was due to the company’s 5 insuring more policies to value and increase in policy count. Surplus increased almost entirely due to increase in the value of Wisconsin Reinsurance Corporation common stock. Negative net income in 2006 was a result of two major fires and two hailstorms that passed through the company’s territory. Negative net income in 2008 was a result of 19 tornadoes that touched down in the company’s 11-county territory. (The state average for tornadoes is 21 per year.) The worst occurrence was 110 claims on June 7, 2008, which is more claims than the company would normally have in a year. 6 II. REINSURANCE The examiners' review of the company's reinsurance portfolio revealed there is currently one ceding treaty with six coverage sections. The treaty contained a proper insolvency clause and complied with s. Ins 13.09 (3), Wis. Adm. Code, concerning maximum wind loss. Company retentions of risk complied with s. Ins 13.06, Wis. Adm. Code. Reinsurer: Effective date: Termination provisions: Wisconsin Reinsurance Corporation (WRC) January 1, 2009 Either party may terminate on any January 1st by giving at least 90 days’ written notice to the other party The coverages provided under this treaty are summarized as follows: 1. Type of contract: Lines reinsured: Company's retention: Coverage: Class A Casualty Excess of Loss Casualty business $5,000 in respect to each and every loss occurrence 100% of each and every loss occurrence, including loss adjustment expense, in excess of the company’s retention subject to the maximum policy limits of: a. $1,000,000 per occurrence, single limit or combined for bodily injury and property damage liability b. $1,000,000 split limits, in any combination of bodily injury and property damage liability c. $25,000 for medical payments, per person; $25,000 per accident Reinsurance premium: 2. Type of contract: Lines reinsured: Company’s retention: 60% of the net premium written Class B First Surplus All property business If net retention is $350,000 or more on a risk, the company may cede on a pro rata basis, and the reinsurer is obligated to accept up to $800,000. If net retention is $350,000 or less on a risk, the company may cede on a pro rata basis, and the reinsurer is obligated to accept up to 50% of such risk. Pro rata share of each and every loss, including loss adjustment expense, corresponding to the amount of the risk ceded Coverage: 7 Reinsurance premium: The pro rata portion of all premiums, fees and assessments charged by the company corresponding to the amount of each risk ceded Commission allowance: 15% of the premium paid Profit commission: 15% of the net profit Class C-1 Excess of Loss First Layer All property business $35,000 per loss per occurrence. $70,000 excess of retention including loss adjusting expenses The rate in effect shall be determined by taking the sum of the immediately preceding four years’ losses incurred (paid plus outstanding) by the reinsurer divided by the total of the net premiums written for the same period, multiplied by the factor 100/80ths. Current rate is 9.84%. Minimum rate = 6.50% Maximum rate = 17.50% Annual deposit premium = $52,929 Ceding commission: 3. Type of contract: Lines reinsured: Company’s retention: Coverage: Reinsurance premium: 4. Type of contract: Lines reinsured: Company’s retention: Coverage: Class C-2 Second Excess of Loss Second Layer All property business $105,000 per loss per occurrence $245,000 excess of retention including loss adjustment expenses for each and every loss occurrence 3.0% of net premiums written, subject to an annual deposit premium of $16,137 Class D/E-1 First Aggregate Excess of Loss Reinsurance All business including nonproperty 75% of net premium written 100% of the amount by which the aggregate of the company’s losses, including loss adjustment expenses exceed the retention with a limit of 50% of NWP (losses from 75% to 125% of net written premium). Estimated attachment point is $455,925. Reinsurance premium: 5. Type of contract: Lines reinsured: Company's retention: Coverage: 8 Reinsurance premium: Current rate = 6.0% Minimum rate = 6.0% Maximum rate = 12.0% Annual deposit premium = $36,474 6. Type of contract: Class D/E-2 Second Aggregate Excess of Loss Reinsurance All business written by the company 125% of net written premium 100% of the amount by which the aggregate of the company’s losses, including loss adjustment expenses, exceed the retention Current rate = 3% Premium deposit = $18,237 Lines reinsured: Company’s retention: Coverage: Reinsurance premium: 9 III. FINANCIAL DATA The following financial statements reflect the financial condition of the company as reported to the Commissioner of Insurance in the December 31, 2008, annual statement. Adjustments made as a result of the examination are noted at the end of this section in the area captioned "Reconciliation of Policyholders' Surplus." 10 South Central Mutual Insurance Company Statement of Assets and Liabilities As of December 31, 2008 Assets Cash on hand Cash in checking Cash deposited at interest Bonds Stocks and mutual fund investments Real estate Premiums, agents' balances and installments: In course of collection Deferred and not yet due Investment income accrued Furniture and fixtures Totals $ Ledger 100 8,376 868,889 157,836 994,807 107,035 Nonledger $ Not Admitted $ Net Admitted $ 100 8,376 868,889 157,836 994,807 107,035 48,847 142,430 7,125 841 $2,329,161 $7,125 841 $841 48,847 142,430 7,125 $2,335,445 Liabilities and Surplus Net unpaid losses Unpaid loss adjustment expenses Commissions payable Fire department dues payable Federal income taxes payable Unearned premiums Reinsurance payable Other liabilities: Expense related: Accounts payable Total liabilities Policyholders' surplus Total Liabilities and Surplus $ 89,220 3,510 24,140 294 269 380,423 97,783 1,282 596,921 1,738,524 $2,335,445 11 South Central Mutual Insurance Company Statement of Operations For the Year 2008 Net premiums and assessments earned Deduct: Net losses incurred Net loss adjustment expenses incurred Net other underwriting expenses incurred Total losses and expenses incurred Net underwriting gain (loss) Net investment income: Net investment income earned Other income (expense): Fees Net income (loss) before federal income taxes Federal income taxes incurred Net Income (Loss) $ 454,712 $371,347 37,789 234,526 643,662 (188,950) 45,755 40,696 (102,499) 7,400 $(109,899) 12 South Central Mutual Insurance Company Reconciliation and Analysis of Surplus as Regards Policyholders For the Five-Year Period Ending December 31, 2008 The following schedule is a reconciliation of surplus as regards policyholders during the period under examination as reported by the company in its filed annual statements: 2008 Surplus, beginning of year Net income (Loss) Net unrealized capital gains or (losses) Change in nonadmitted assets Surplus, end of year 2007 2006 $1,714,141 (62,656) 69,969 1,064 $1,722,518 2005 $1,491,156 112,641 109,201 1,143 $1,714,141 2004 $1,268,389 1,853 222,623 (1,709) $1,491,156 $1,844,962 $1,722,518 (109,899) 60,431 2,397 1,064 60,949 1,064 $1,738,524 $1,844,962 Reconciliation of Policyholders' Surplus The examination resulted in no adjustments to policyholders’ surplus. The amount reported by the company as of December 31, 2008, is accepted. 13 IV. SUMMARY OF EXAMINATION RESULTS Compliance with Prior Examination Report Recommendations Comments and recommendations contained in the last examination report and the action taken on them by the company are as follows: 1. Underwriting—It is recommended that the company establish a formal written inspection procedure for new and renewal business, whereby the company formally tracks the inspection results, the results are reported to the board of directors and the results are used to plan for future inspections. Action—Compliance 2. Underwriting—It is recommended that the company implement a formal written policy on agent performance that includes criteria that agents have to meet as well as consequences that are to be enforced by the company when agents continually write unprofitable business. Action—Compliance 3. Underwriting—It is suggested that the company review its contingent commission program loss ratio standards in light of its expected expense ratios. Action—Compliance 4. Underwriting—It is suggested that the company consider a formal written policy to nonrenew policies that have had multiple claims in a reasonable period of time set by the company. Action—Compliance. A formal written policy was not adopted. However, the board and the manager of the company actively monitor claim history of its policyholders. The company has adopted written guidelines to reduce a policyholder’s claims. These guidelines include procedures for implementing higher deductibles on those with multiple claims as well as rates that are reflective of the policyholder’s claims experience. Cancellation of the policy is considered if issues persist. 5. Accounts and Records—It is recommended that the company properly segregate the duties of signing checks and handling of cash from those of performing accounting functions and reconciling month-end bank balances in accordance with s. Ins 13.05 (4), Wis. Adm. Code. Action—Compliance 6. Business Continuity Plan—It is recommended that the company develop an adequate business continuity plan, which should be filed with this office when completed. Action—Compliance 14 Current Examination Results Corporate Records The minutes of the annual meetings of policyholders and meetings of the board of directors and committees thereof were reviewed for the period under examination and also for the subsequent period. No concerns were noted. Biographical data relating to company officers and directors have been reported in accordance with the provisions of s. Ins 6.52, Wis. Adm. Code. The company has executed formal written agreements with its agents. The contracts include language indicating the agent will represent the company's interests "in good faith." Conflict of Interest In accordance with a directive of the Commissioner of Insurance, each company is required to establish a procedure for the disclosure to its board of directors of any material interest or affiliation on the part of its officers, directors, or key employees which conflicts or is likely to conflict with the official duties of such person. A part of this procedure is the annual completion of a conflict of interest questionnaire by the appropriate persons. The company has adopted such a procedure for disclosing potential conflicts of interest. Conflict of interest questionnaires were reviewed for the period under examination with no apparent conflicts being noted. Fidelity Bond and Other Insurance The company is afforded coverage under the terms of the following bonds or contracts and has complied with s. Ins 13.05 (6), Wis. Adm. Code, which sets forth the minimum requirements for fidelity bond coverage: 15 Type of Coverage Fidelity bond: Manager and office employees Worker’s compensation: Employee injury Employee liability: Bodily injury (per accident) Bodily injury (per employee for disease) Policy limit Property coverage: Building Personal property Money and Securities: On premises Off premises Accounts receivable Valuable papers Personal liability: Liability and medical expenses (per occurrence) Medical expenses (per person) Products-completed operations limit General aggregate policy limit Deductible Professional liability: Per claim limit Aggregate limit Deductible Directors and officers liability: Per claim limit Aggregate limit Deductible Underwriting Coverage Limits $110,000 Statutory 100,000 100,000 500,000 Full replacement 50,000 5,000 2,500 25,000 25,000 1,000,000 5,000 2,000,000 2,000,000 500 2,000,000 2,000,000 5,000 2,000,000 2,000,000 5,000 The company has a written underwriting guide. The guide covers all the lines of business that the company is presently writing. The company has a formal inspection procedure for both new and renewal business. All new applications and a sampling of renewal business is inspected by committee members who are independent of the risk under consideration and review. Claims Adjusting The company has an adjusting committee consisting of at least three directors as required by s. 612.13 (4), Wis. Stat. The function of this committee is to adjust or supervise the adjustment of losses. 16 Accounts and Records The examiners' review of the company's records indicated that the company is in compliance with s. Ins 13.05, Wis. Adm. Code, which sets forth the minimum standards for the handling of cash and recording of cash transactions by town mutual insurance companies. The examiners noted the following: 1. 2. 3. 4. 5. A proper policy register is maintained. A proper cash receipts journal is maintained. A proper cash disbursements journal is maintained. A proper general journal is maintained. A proper general ledger is maintained. An extensive review was made of income and disbursement items. Cash receipts were traced from source records and the proper recording and eventual deposit thereof ascertained. Negotiated checks issued during the period under examination were reviewed, test checked for proper endorsement, and traced to cash records. The verification of assets and determination of liabilities were made as of December 31, 2008. The company is audited annually by an outside public accounting firm. EDP Environment Company personnel were interviewed with respect to the company’s electronic data processing environment. Access to the computers is limited to people authorized to use the computers. Company personnel back up the computers daily and the backed-up data is kept off-site. The company has manuals documenting the use of its software and outlining the steps to complete specific tasks. The manuals assist in the continuity of operations by providing instructions for seldom-used applications or when staff turnover occurs. The examination determined that the level of documentation contained in the manuals was reasonable. Business Continuity Plan A business continuity plan identifies steps to be performed by a company in the event of business interruptions including, but not limited to, the inability to access its computer, the loss of information on its computer, the loss of a key employee, or the destruction of its office building. 17 The company has developed a business continuity plan. The company’s business continuity plan appears to be adequate. Invested Assets Section 610.23, Wis. Stat., requires insurers to hold all investments and deposits of its funds in its own name except that: (1) Securities kept under a custodial agreement or trust arrangement with a bank or banking and trust company may be issued in the name of a nominee of the bank or banking and trust company; and Any insurer may acquire and hold securities in bearer form. (2) For securities not held under a custodial agreement or trust arrangement with a bank or banking and trust company, s. Ins 13.05 (4), Wis. Adm. Code, requires that: Non-negotiable evidences of company investments such as registered bonds, certificates of deposits, notes, etc., shall be maintained in a safe or vault with adequate safety controls or in a safety deposit box in a bank. Negotiable evidences of company investments shall be maintained in a safety deposit box in a bank. Access to a company safety deposit box containing negotiable securities shall require the presence and signature of at least 2 officers, directors or employees of the company. The company is in compliance with these requirements. Investment Rule Compliance The investment rule for town mutual insurers allows a company to invest in common stocks, common stock mutual funds, and other higher risk investments (referred to as “Type 2”) provided that the town mutual has a sufficient amount of lower risk investments (referred to as “Type 1”). A town mutual may invest in Type 2 securities only if it already has sufficient Type 1 investments. Type 1 investments must equal or exceed the greater of items 1, 2, or 3. 1. Liabilities plus $300,000 2. Liabilities plus 33% of gross premiums written 3. Liabilities plus 50% of net premiums written 4. Amount required (greater of 1, 2, or 3) 5. Amount of Type 1 investments as of 12/31/2008 6. Excess or (deficiency) The company has sufficient Type 1 investments. $ 896,921 884,144 829,951 896,921 1,090,253 $ 193,332 18 The company was granted an exception on March 25, 2005, by this office to hold up to 45% of admitted assets in common stocks, preferred stocks and convertible securities. There were no other investment exceptions granted. Claims-Free Discount The company has a program in place whereby policyholders are eligible for a claimsfree discount if they meet certain criteria. The company records both the “full premium” (premium before discount) and the premium after discount in its computer system. Review of the company’s premium determined that the computer system calculates the unearned and deferred premium as well as the gross premiums in force using the premium before discount, thus, overstating those amounts reported in the Annual Statement. (Other calculations, such as reinsurance premiums, are performed using the premium after discount so no adjustment was necessary.) These overstatements offset each other so the net amount is considered to be immaterial for purposes of this examination. It is recommended that the company properly deduct the claims-free discount from the unearned premium, deferred premium and premiums in force for the policyholders that qualify for the discount. 19 ASSETS Cash and Invested Cash The above asset is comprised of the following types of cash items: Cash in company's office Cash deposited in banks—checking accounts Cash deposited in banks at interest Total $ 100 8,376 868,889 $877,365 $877,365 Cash in company's office at year-end represents the company's petty cash fund. A physical count was made by the examiners during the course of the examination and the balance reconciled to year-end. Cash deposited in banks subject to the company's check and withdrawal consists of one account maintained in a local bank. Verification of checking account balances was made by obtaining confirmations directly from the depositor and reconciling the amounts shown thereon to company records. Cash deposited in banks represents the aggregate of 40 deposits in 21 depositories. Deposits were verified by direct correspondence with the respective depositories and by an actual count and inspection of certificates and/or passbooks. Interest received during the year 2008 totaled $44,383 and was verified to company cash records. Rates of interest earned on cash deposits ranged from 2.5% to 5.65%. Accrued interest on cash deposits totaled $5,441 at year-end. Book Value of Bonds $157,836 The above asset consists of the aggregate book value of bonds held by the company as of December 31, 2008. Bonds owned by the company are held under a safekeeping agreement with a bank custodian. Bonds were verified to applicable company investment custodial statement records, as documented in the independent CPA’s work papers. Bond purchases and sales for the period under examination were checked to brokers' invoices and advices. The company's investment in bonds was in conformance with Wisconsin Statutes and the rules of the Commissioner of Insurance as regards investments made by town mutual insurers. 20 Interest received during 2008 on bonds amounted to $10,366 and was traced to cash receipts records. Accrued interest of $1,684 at December 31, 2008, was checked and allowed as a nonledger asset. Stocks and Mutual Fund Investments $994,807 The above asset consists of the aggregate market value of stocks and mutual funds held by the company as of December 31, 2008. Stocks owned by the company are located in the company safe or held by a bank under a custodial agreement. Stock certificates were physically examined and the December 31, 2008, custodial statement was reviewed by the examiners. Stock and mutual fund purchases and sales for the period under examination were checked to brokers' invoices and advices. The company's investment in stocks and mutual funds was in conformance with Wisconsin Statutes and the rules of the Commissioner of Insurance as regards investments made by town mutual insurers. Dividends received during 2008 on stocks and mutual funds amounted to $10,744 and were traced to cash receipts records. There were no accrued dividends at December 31, 2008. Book Value of Real Estate $107,035 The above amount represents the company's investment in real estate, net of depreciation, as of December 31, 2008. The company's real estate holdings consisted of the company’s home office building. The required documents supporting the validity of this asset were reviewed and were in order. Adequate hazard insurance was carried on the real estate and contents as noted under the caption, "Fidelity Bond and Other Insurance." The company's investment in real estate and related items was in conformance with the Wisconsin Statutes and the rules of the Commissioner of Insurance as regards investments made by town mutual insurers. Real estate depreciation is calculated using the straight-line method. 21 Premiums, Agents' Balances in Course of Collection $48,847 This asset represents the amounts due from agents or policyholders which are not in excess of 90 days past due at year-end. A review of individual agent's accounts verified the accuracy of this asset. Premiums Deferred and Not Yet Due $142,430 This asset represents modal premium installments (such as monthly, quarterly, etc.) that are not yet due. A review of a sample from the company’s detailed list of deferred premiums verified the accuracy of this asset except as related to the immaterial claims-free discount error described previously. Investment Income Accrued Interest due and accrued on the various assets of the company at December 31, 2008, consists of the following: Cash at interest Bonds Total $5,441 1,684 $7,125 $7,125 To verify the above balance, the amounts were recalculated using outside source documentation as well as reviewing subsequent receipt of these amounts and tracing them to the cash receipts records. Furniture and Fixtures This asset consists of $841 of furniture and fixtures owned by the company at December 31, 2008. In accordance with annual statement requirements, this amount has been reported as nonadmitted asset, thus the balance shown above is $0. $0 22 LIABILITIES AND SURPLUS Net Unpaid Losses $89,220 This liability represents losses incurred on or prior to December 31, 2008, that remained unpaid as of that date. The examiners reviewed the reasonableness of this liability by totaling actual loss payments made subsequent to December 31, 2008, with incurred dates in 2008 and prior years. To the actual paid loss figure was added an estimated amount for 2008 and prior losses remaining unpaid at the time of the examination. The examiners' development of unpaid losses is compared with the amount estimated by the company in the following schedule. Company Estimate Incurred but unpaid losses Less: Reinsurance recoverable on unpaid losses Net Unpaid Losses $274,758 185,538 $ 89,220 Examiners' Development $158,844 125,013 $ 33,831 Difference $115,914 60,525 $ 55,389 Net unpaid losses as noted above were found to be adequate. The examiners determined the company estimate to be based on sound reserving methodology and to be within a reasonable range. The large redundancy in the reserve development was primarily attributable to the company’s conservative approach regarding the incurred but not reported (IBNR) reserve. The company had only one loss against its IBNR, thus resulting in a large redundancy. The examiners' review of claim files included open claims, paid claims, claims closed without payment, and claims that were denied during the examination period. The review indicated that claims are investigated and evaluated properly and that payments are made promptly and in accordance with policy provisions upon the submission of a proper proof of loss. In addition, the review of claims handling procedures and files revealed the following: 1. 2. 3. A proper loss register is maintained. Claim files contained sufficient investigatory data and documentation to verify settlement payments or reserve estimates. Proofs of loss were properly signed. $3,510 Unpaid Loss Adjustment Expenses This liability represents the company's estimate of amounts necessary to settle losses which were incurred prior to December 31, 2008, but which remained unpaid as of year-end. The 23 company sets loss adjustment expense reserves at the time individual claims are being set up. The company establishes the liability at year-end by totaling all loss adjustment expense reserves associated with open claims. The examiners' analysis of expenses incurred in the current year related to the settlement of prior year losses, as well as estimates of amounts necessary to settle any prior losses remaining unpaid at the examination date, determined this liability to be adequately stated. Commissions Payable This liability represents the commissions on deferred premiums due to the company’s agents as well as bonus commissions due to the company’s agents as of December 31, 2008. Bonus commissions are contingent upon individual agent’s year-end results in meeting criteria described under the company’s contingent commission program. The contingent commission liability portion of the above liability totaled $2,775 at year-end. The examiners reviewed the company’s commission calculation and found the liability to be reasonably stated. Fire Department Dues Payable $294 $24,140 This liability represents the fire department dues payable to the State of Wisconsin as of December 31, 2008. The examiners reviewed the company's fire department dues calculation and found this liability to be correctly calculated. The actual amount paid was verified to the cash disbursement records. Federal Income Taxes Payable $269 This liability represents the balance payable at year-end for federal income taxes incurred prior to December 31, 2008. The examiners reviewed the company's 2008 tax return and verified amounts paid to cash disbursement records to verify the accuracy of this liability. Unearned Premiums $380,423 This liability represents the reserve established for unearned premiums in compliance with s. Ins 13.08 (3), Wis. Adm. Code. This reserve was established using a daily pro rata methodology and was determined to be materially correct. 24 Reinsurance Payable This liability consists of amounts due to the company's reinsurer at $97,783 December 31, 2008, relating to transactions which occurred on or prior to that date. Amounts listed below are the reinsurer’s portion of premiums collected in November and December of 2008 by contract type, the year-end adjustment for the company’s written premium results, and the reinsurer’s portion of deferred premiums at year-end. Contract Description Class A, Liability Class B, First Surplus Class C-1, Excess of Loss Class C-2, Excess of Loss Class D/E-1, Stop Loss Class D/E-2, Stop Loss Deferred Reinsurance Premium Payable Total Amount $17,574 16,059 13,997 3,411 7,536 3,763 35,443 $97,783 Subsequent cash disbursements and reinsurance accountings verified the amount of this liability. Accounts Payable $1,282 This liability represents the company’s estimate for unpaid general expenses at December 31, 2008. Supporting records and subsequent cash disbursements verified the items and that the liability was reasonable. 25 V. CONCLUSION During the period under examination, the company’s admitted assets increased by 41%, net premiums written increased by 41%, net premiums earned increased by 53% and surplus increased by 37%. The increase in admitted assets was attributable to two factors: increase in the value of Wisconsin Reinsurance Corporation common stock and increase in cash as a result of increased premium volume. Increase in premiums was due to the company’s insuring more policies to value and increase in policy count. Surplus increased almost entirely due to increase in the value of Wisconsin Reinsurance Corporation common stock. Negative net income in 2006 was a result of two major fires and two hailstorms that passed through the company’s territory. Negative net income in 2008 was a result of 19 tornadoes that touched down in the company’s 11-county territory. (The state average for tornadoes is 21 per year.) The worst occurrence was 110 claims on June 7, 2008, which is more claims than the company would normally have in a year. There were no adjustments made to surplus as a result of this examination. The company complied with all of its prior examination recommendations. The current examination resulted in one recommendation. 26 VI. SUMMARY OF COMMENTS AND RECOMMENDATIONS 1. Page 19 - Claims-Free Discount—It is recommended that the company properly deduct the claims-free discount from the unearned premium, deferred premium and premiums in force for the policyholders that qualify for the discount. 27 VII. ACKNOWLEDGMENT The courteous cooperation extended to the examiners by the company's personnel is hereby acknowledged. In addition to the undersigned, Judy Michael of the Office of the Commissioner of Insurance, State of Wisconsin, participated in the examination. Respectfully submitted, Rick Anderson Examiner-in-Charge 28