changes in general economic our ability to maintain our dividend payments; regulatory, legislative and judicial actions or decisions that could affect our business plans or operations; the enactment or repeal of tort reforms; formation or dissolution of state-sponsored medical professional liability insurance entities that could remove or add sizable groups of physicians from or to the private insurance market; the impact of deflation or inflation; changes in the interest rate environment; changes in U.S. laws or government regulations regarding financial markets or market activity that may affect the U.S. economy and our business; changes in the ability of the U.S. government to meet its obligations that may affect the U.S. economy and our business; performance of financial markets affecting the fair value of our investments or making it difficult to determine the value of our investments; changes in accounting policies and practices that may be adopted by our regulatory agencies, changes in laws or government regulations affecting medical professional liability insurance or the financial community; the effects of changes in the healthcare delivery system, including but not limited to the Patient Protection and Affordable Care Act; consolidation of healthcare providers and entities that are more likely to self insure and not purchase medical professional liability insurance; uncertainties inherent in the estimate of loss and loss adjustment expense reserves and xý Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 June 30, 2012March 31, 2013 or¨ Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 Delaware 63-1261433 (IRS Employer Identification No.) 100 Brookwood Place, Birmingham, AL 35209 (Address of Principal Executive Offices) (Zip Code) (Zip Code)(205) 877-4400(205) 877-4400xý No ¨xý No ¨Large accelerated filer xý Accelerated filer ¨ Non-accelerated filer ¨ (Do(Do not check if a smaller reporting company) Smaller reporting company ¨ xýJuly 26, 2012,April 25, 2013, there were 30,663,44361,816,938 shares of the registrant’s common stock outstanding.FORWARD-LOOKING STATEMENTS“preliminary”“possible”, “potential”, “preliminary”, “project”, “should”, “will” and other analogous expressions. There are numerous factors that could cause our actual results to differ materially from those in the forward-looking statements. Thus, sentences and phrases that we use to convey our view of future events and trends are expressly designated as forward-looking statements as are sections of this Form 10-Q that are identified as giving our outlook on future business.conditions, either nationally or in our market areas, that are different than anticipated; and the Financial Accounting Standards Board, the Securities and Exchange Commission, or the Public Company Accounting Oversight Board;reinsurance, and reinsurance;
2
the results of litigation, including pre- or post-trial motions, trials and/or appeals we undertake;
allegation of bad faith which may arise from our handling of any particular claim, including failure to settle;
loss of independent agents;
changes in our organization, compensation and benefit plans;
our ability to retain and recruit senior management;
our ability to purchase reinsurance and collect recoveries from our reinsurers;
our ability to achieve continued growth through expansion into other states or through acquisitions or business combinations;
changes to the ratings assigned by rating agencies to our insurance subsidiaries, individually or as a group;
provisions in our charter documents, Delaware law and state insurance law may impede attempts to replace or remove management or may impede a takeover;
state insurance restrictions may prohibit assets held by our insurance subsidiaries, including cash and investment securities, from being used for general corporate purposes;
taxing authorities can take exception to our tax positions and cause us to incur significant amounts of defenselegal and accounting costs and, if our defense is not successful, additional tax costs, including interest and penalties;
insurance market conditions may alter the effectiveness of our current business strategy and impact our revenues; and
expected benefits from completed and proposed acquisitions may not be achieved or may be delayed longer than expected due to business disruption,disruption; loss of customers, employees and key agents,agents; increased operating costs or inability to achieve cost savings,savings; and assumption of greater than expected liabilities, among other reasons.
the outcome of any potential claims from policyholders of Medmarc and IND relating to payments or other issues arising from their respective conversions to stock insurance companies and subsequent mergers into ProAssurance;
the cost savings from either transaction may not be fully realized or may take longer to realize than expected;
operating costs, customer loss and business disruption following either or both transactions, including adverse effects on relationships with employees, may be greater than expected;
governmental approvals of either or both transactions may not be obtained or adverse regulatory conditions may be imposed in connection with governmental approvals of either or both mergers;
there may be restrictions on our ability to achieve continued growth through expansion into other states or through acquisitions or business combinations;
the board of directors of Medmarc or the Subscriber Advisory Committee (SAC) of IND may withdraw their recommendation and support a competing acquisition proposal; and
those eligible to vote on either merger may fail to approve the respective transaction.
Our results may differ materially from those we expect and discuss in any forward-looking statements. The principal risk factors that may cause these differences are described in “Item 1A, Risk Factors” in our Form 10-K and other documents we file with the Securities and Exchange Commission, such as our current reports on Form 8-K, and our regular reports on Form 10-Q.
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June 30 2012 December 31 2011 Assets Investments Fixed maturities, available for sale, at fair value; amortized cost, $3,373,804 and $3,465,720, respectively Equity securities, available for sale, at fair value; cost, $0 and $6, respectively Equity securities, trading, at fair value; cost, $147,628 and $101,078, respectively Short-term investments Business owned life insurance Investment in unconsolidated subsidiaries Other investments Total Investments Cash and cash equivalents Premiums receivable Receivable from reinsurers on paid losses and loss adjustment expenses Receivable from reinsurers on unpaid losses and loss adjustment expenses Prepaid reinsurance premiums Deferred policy acquisition costs Deferred taxes Real estate, net Intangible assets Goodwill Other assets Total Assets Liabilities and Shareholders’ Equity Liabilities Policy liabilities and accruals Reserve for losses and loss adjustment expenses Unearned premiums Reinsurance premiums payable Total Policy Liabilities Other liabilities Long-term debt, $34,992 and $35,507, at amortized cost, respectively; $14,777 and $14,180 at fair value, respectively Total Liabilities Shareholders’ Equity Common shares, par value $0.01 per share, 100,000,000 shares authorized, 34,661,113 and 34,551,494 shares issued, respectively Additional paid-in capital Accumulated other comprehensive income (loss), net of deferred tax expense (benefit) of $75,414 and $70,022, respectively Retained earnings Treasury shares, at cost, 3,997,951 shares Total Shareholders’ Equity Total Liabilities and Shareholders’ Equity Accumulated Other Comprehensive Income (Loss) Retained Earnings Other Capital Accounts Balance at December 31, 2011 Net income Dividends to shareholders Change in net unrealized gains (losses) on investments, after tax, net of reclassification adjustments Common shares issued for compensation and net effect of restricted and performance shares issued and stock options exercised Share-based compensation Balance at June 30, 2012 Accumulated Other Comprehensive Income (Loss) Retained Earnings Other Capital Accounts Balance at December 31, 2010 Net income Change in net unrealized gains (losses) on investments, after tax, net of reclassification adjustments Common shares reacquired Common shares issued for compensation and net effect of performance shares issued and stock options exercised Share-based compensation Balance at June 30, 2011 Three Months Ended June 30 Six Months Ended June 30 Revenues Net premiums earned Net investment income Equity in earnings (loss) of unconsolidated subsidiaries Net realized investment gains (losses): Other-than-temporary impairment (OTTI) losses Portion of OTTI losses recognized in (reclassified from) other comprehensive income before taxes Net impairment losses recognized in earnings Other net realized investment gains (losses) Total net realized investment gains (losses) Other income Total revenues Expenses Losses and loss adjustment expenses Reinsurance recoveries Net losses and loss adjustment expenses Underwriting, policy acquisition and operating expenses Interest expense Total expenses Income before income taxes Provision for income taxes Current expense (benefit) Deferred expense (benefit) Total income tax expense (benefit) Net income Other comprehensive income, after tax, net of reclassification adjustments (see Note 9) Comprehensive income Earnings per share: Basic Diluted Weighted average number of common shares outstanding: Basic Diluted Cash dividends declared per common share Six Months Ended June 30 Operating Activities Net income Depreciation and amortization Net realized investment (gains) losses Share-based compensation Deferred income taxes Other Changes in assets and liabilities: Premiums receivable Other assets Reserve for losses and loss adjustment expenses Unearned premiums Reinsurance related assets and liabilities Other liabilities Net cash provided by operating activities Investing Activities Purchases of: Fixed maturities, available for sale Equity securities, trading Other investments Funding of tax credit limited partnerships (Investments in) distributions from unconsolidated subsidiaries, net Proceeds from sale or maturities of: Fixed maturities, available for sale Equity securities, available for sale Equity securities, trading Other investments Net sales or maturities (purchases) of short-term investments Unsettled security transactions, net Cash received (paid) for other assets Net cash provided (used) by investing activities Financing Activities Repurchase of common stock Dividends to shareholders Other Net cash provided (used) by financing activities Increase (decrease) in cash and cash equivalents Cash and cash equivalents at beginning of period Cash and cash equivalents at end of period two years, and insurance licenses, which have an indefinite useful life and are not amortized. ProAssurance believes that all contractual cash flows related to acquired receivables will be collected. The fair value Assets: Fixed maturities, available for sale U.S. Treasury obligations U.S. Agency obligations State and municipal bonds Corporate debt, multiple observable inputs Corporate debt, limited observable inputs: Private placement senior notes Other corporate debt, NRSRO ratings available Other corporate debt, NRSRO ratings not available Residential mortgage-backed securities Commercial mortgage-backed securities Other asset-backed securities Equity securities Financial Utilities/Energy Consumer oriented Technology Industrial All other Short-term investments Financial instruments carried at fair value, classified as a part of: Investment in unconsolidated subsidiaries Other investments Total assets Liabilities: 2019 Note payable Interest rate swap agreement Total liabilities The fair values for securities included in the Level 2 category, with the few exceptions described below, have been developed by one of several third party, nationally recognized pricing Level 3 Valuations Level 3 securities are priced by the Level 3 valuations are computed quarterly. Prices are evaluated quarterly against prior period prices and the expected change in price. June 30, 2012 December 31, 2011 June 30, 2012 Investment in unconsolidated subsidiaries: LP primarily invested in long/short equities (1) LP primarily invested in non-public equities (2) Other investments: LLC primarily invested in private equity and debt (3) Fair Value at June 30, 2012 Range (Weighted Average) Assets: State and municipal bonds Corporate debt with limited observable inputs Liabilities: 2019 Note payable, Interest rate swap agreement Measurements - Level 3 Assets State and Municipal Bonds Asset- Securities Balance March 31, 2012 Total gains (losses) realized and unrealized: Included in earnings, as a part of: Equity in earnings of unconsolidated subsidiaries Net realized investment gains (losses) Included in other comprehensive income Purchases Sales Transfers in Transfers out Balance June 30, 2012 Change in unrealized gains (losses) included in earnings for the above period for Level 3 assets held at period-end State and Municipal Bonds Asset- Securities Balance December 31, 2011 Total gains (losses) realized and unrealized: Included in earnings, as a part of: Equity in earnings of unconsolidated subsidiaries Net realized investment gains (losses) Included in other comprehensive income Purchases Sales Transfers in Transfers out Balance June 30, 2012 Change in unrealized gains (losses) included in earnings for the above period for Level 3 assets held at period-end inputs. State and Municipal Bonds Asset- Securities Balance March 31, 2011 Total gains (losses) realized and unrealized: Included in earnings, as a part of: Equity in earnings of unconsolidated subsidiaries Net realized investment gains (losses) Included in other comprehensive income Purchases Sales Transfers in Transfers out Balance June 30, 2011 Change in unrealized gains (losses) included in earnings for the above period for Level 3 assets held at period-end State and Municipal Bonds Asset- Securities Balance December 31, 2010 Total gains (losses) realized and unrealized: Included in earnings, as a part of: Equity in earnings of unconsolidated subsidiaries Net realized investment gains (losses) Included in other comprehensive income Purchases Sales Transfers in Transfers out Balance June 30, 2011 Change in unrealized gains (losses) included in earnings for the above period for Level 3 assets held at period-end There were no transfers between the Level 1 and Level 2 categories during the three 2019 Note Payable Interest rate swap Balance March 31, 2012 Total (gains) losses realized and unrealized: Included in earnings as a part of net realized investment (gains) losses Settlements Balance June 30, 2012 Change in unrealized (gains) losses included in earnings for the above period for Level 3 liabilities outstanding at period-end 2019 Note Payable Interest rate swap Balance December 31, 2011 Total (gains) losses realized and unrealized: Included in earnings as a part of net realized investment (gains) losses Settlements Balance June 30, 2012 Change in unrealized (gains) losses included in earnings for the above period for Level 3 liabilities outstanding at period-end 2019 Note Payable Interest rate swap Balance March 31, 2011 Total (gains) losses realized and unrealized: Included in earnings as a part of net realized investment (gains) losses Settlements Balance June 30, 2011 Change in unrealized (gains) losses included in earnings for the above period for Level 3 liabilities outstanding at period-end 2019 Note Payable Interest rate swap Balance December 31, 2010 Total (gains) losses realized and unrealized: Included in earnings as a part of net realized investment (gains) losses Settlements Balance June 30, 2011 Change in unrealized (gains) losses included in earnings for the above period for Level 3 liabilities outstanding at period-end ProAssurance. Carrying Value Estimated Fair Value Carrying Value Estimated Fair Value Financial assets: Other Investments Investment in Unconsolidated Subsidiaries BOLI Other Assets Financial liabilities: Trust Preferred Securities Surplus Notes due May 2034 Note Payable due February 2012 Other Liabilities ProAssurance. Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Estimated Fair Value Fixed maturities U.S. Treasury obligations U.S. Agency obligations State and municipal bonds Corporate debt Residential mortgage-backed securities Commercial mortgage-backed securities Other asset-backed securities Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Estimated Fair Value Fixed maturities U.S. Treasury obligations U.S. Agency obligations State and municipal bonds Corporate debt Residential mortgage-backed securities Commercial mortgage-backed securities Other asset-backed securities Equity securities The recorded cost basis and estimated fair value of available-for-sale fixed maturities at Fixed maturities, available for sale U.S. Treasury obligations U.S. Agency obligations State and municipal bonds Corporate debt Residential mortgage-backed securities Commercial mortgage-backed securities Other asset-backed securities June 30, 2012 December 31, 2011 Investment in LLC, at NAV Investments in LPs/LLCs, at cost FHLB capital stock, at cost Other, principally an annuity, at amortized cost as follows: years Unfunded 2012 Percentage June 30, 2012 December 31, 2011 Investment LPs/LLCs: Tax credit partnerships Long/Short equity fund Non-public equity fund Business LLC ProAssurance's ownership percentage relative to two of the tax credit partnership interests was almost 100%; these interests had a carrying value of Condensed Consolidated Financial Statements (Unaudited) Fixed maturities, available for sale U.S. Treasury obligations U.S. Agency obligations State and municipal bonds Corporate debt Residential mortgage-backed securities Commercial mortgage-backed securities Other asset-backed securities Other investments Investments in LPs/LLCs carried at cost Fixed maturities, available for sale U.S. Treasury obligations State and municipal bonds Corporate debt Residential mortgage-backed securities Commercial mortgage-backed securities Other asset-backed securities Other investments Investments in LPs/LLCs carried at cost As of March 31, 2013. 2012 assumptions, and equaled or exceeded the current amortized cost basis of the security. Three Months Ended June 30 Six Months Ended June 30 Fixed maturities Equities Short-term investments Other invested assets Business owned life insurance Investment expenses Net investment income Three Months Ended June 30 Six Months Ended June 30 Total other-than-temporary impairment losses: Residential mortgage-backed securities Corporate debt Other investments Portion recognized in (reclassified from) Other Comprehensive Income: Residential mortgage-backed securities Net impairment losses recognized in earnings Gross realized gains, available-for-sale securities Gross realized (losses), available-for-sale securities Net realized gains (losses), trading securities Change in unrealized holding gains (losses), trading securities Decrease (increase) in the fair value of liabilities carried at fair value Net realized investment gains (losses) ProAssurance recognized impairments Three Months Ended June 30 Six Months Ended June 30 Balance beginning of period Additional credit losses recognized during the period, related to securities for which OTTI has been previously recognized Balance June 30 Three Months Ended June 30 Six Months Ended June 30 Proceeds from sales (exclusive of maturities and paydowns) Purchases tax-exempt, because ProAssurance utilizes tax credit benefits transferred from tax credit partnership investments, and because, during the first three months of 2013, ProAssurance recognized a non-taxable gain related to an acquisition. 2009 June 30 2012 December 31 2011 Trust Preferred Securities due 2034, unsecured. Bears interest at a variable rate of LIBOR plus 3.85%, adjusted quarterly, set at 4.3% at June 30, 2012. Surplus Notes due May 2034, unsecured. Bears interest at a variable rate of LIBOR plus 3.85%, adjusted quarterly, set at 4.3% at June 30, 2012. Note Payable due February 2019 (the 2019 Note Payable), carried at fair value, principal of $16.9 million at June 30, 2012 and $17.1 million at December 31, 2011. Secured by available-for-sale securities having a fair value at June 30, 2012 of approximately $25.4 million. Bears interest at a variable rate of LIBOR plus 0.7%. See information below regarding the associated interest rate swap. Note Payable due February 2012. Note was repaid on due date. Revolving Credit Agreement, expires in 2014, maximum outstanding borrowing of $150 million, interest rate set at the time funds are borrowed. No borrowings have occurred during the periods shown. regular fourth quarter 2012 dividend was accelerated into December, 2012. use. ProAssurance did not repurchase any common shares during the Three Months Ended June 30 Six Months Ended June 30 Net realized investment gains (losses) included in the calculation of net income Tax effect (at 35%) Net realized investment gains (losses) reclassified from other comprehensive income professional liability business. Prior Accident Year Reserves our results of operations for the period in which the adjustment is made. We have not experienced significant collection difficulties due to the financial condition of any reinsurer as of Fair value Investments not at fair value Total Investments - Other Valuation Methodologies Other investments: Interests in LPs Federal Home Loan Bank (FHLB) capital stock Other Total other investments Investment in unconsolidated subsidiaries: Interests in tax credit partnerships Interest in a business LLC Total investment in unconsolidated subsidiaries Business owned life insurance Total investments not at fair value third party research and credit rating reports; the current credit standing of the issuer, including credit rating downgrades; the extent to which the decline in fair value is attributable to credit risk specifically associated with our internal assessments and those of our external portfolio managers regarding specific circumstances surrounding for asset-backed securities, the origination date of the underlying loans, the remaining average life, the probability that credit performance of the underlying loans will deteriorate in the future, and our assessment of the quality of the collateral underlying the loan; failure of the issuer of the security to make scheduled interest or principal payments; any changes to the rating of the security by a rating agency; recoveries or additional declines in fair value subsequent to the balance sheet date; and our interest approximated ProAssurance Corporation is a holding company and is a legal entity separate and distinct from its subsidiaries. Because the holding company has no other business operations, dividends from its operating subsidiaries represent a significant source of funds for its obligations, including debt service and shareholder dividends. At 2013. Our operating activities Cash provided by operating activities for the six months ended June 30, 2011 Increase (decrease) in operating cash flows: Increase in premium receipts (1) Decrease in payments to reinsurers (2) Increase in losses paid (3) Increase in deposit contracts (4) Decrease in cash received for investments (5) Decrease in cash paid for other expenses (6) Increase in Federal and state income tax payments (7) Other amounts not individually significant, net Cash provided by operating activities for the six months ended June 30, 2012 Cash provided by operating activities for the six months ended June 30, 2010 Increase (decrease) in operating cash flows: Decrease in premium receipts (1) Increase in payments to reinsurers (2) Decrease in losses paid (3) Decrease in reinsurance recoveries (4) Increase in Federal and state income tax payments (5) Cash flows contributed by operations acquired November, 2010 as a part of the American Physician’s Service Group, Inc. (APS) transaction Other amounts not individually significant, net Cash provided by operating activities for the six months ended June 30, 2011 Estimated tax payments in Federal tax refunds received in 2011 Payments of $5.9 million made in 2011 for the 2008 and 2007 tax years as a result of required to pay. In January 2013 we made a We also have other direct actions against the company which we evaluate and account for as a part of our other liabilities. For these corporate legal actions, we evaluate each case separately and establish what we believe is an appropriate reserve based on GAAP guidance related to contingent liabilities. Average Rating % Total Investments Fixed Maturities Government U.S. Treasury U.S. Agency Total government State and Municipal Bonds Pre-refunded General obligation Special revenue Total state and municipal bonds Corporate Debt Financial institutions FDIC insured Communications Utilities/Energy Industrial Other Total corporate debt Securities backed by: Agency mortgages Non-agency mortgages Subprime mortgages Alt A mortgages Commercial mortgages Credit card loans Automobile loans Other asset loans Total asset-backed securities Total fixed maturities Equities Financial Utilities/Energy Consumer oriented Technology Industrial All Other Total equities Short-Term Business-owned life insurance (BOLI) Investment in Unconsolidated Subsidiaries Investment in tax credit partnerships Business LLC interest Investment in LPs Total investment in unconsolidated subsidiaries Other Investments FHLB capital stock Investments in LP/LLCs Other Total other investments Total Investments funded as of credit downgrade by rating agencies. Condensed Consolidated Financial Statements provides additional information regarding acquisitions. use. Carrying Value June 30, 2012 Trust Preferred Securities due 2034 Surplus Notes due May 2034 2019 Note Payable (2) Revolving Credit Agreement (4) 2012 Three Months Ended June 30 Six Months Ended June 30 Net income Operating income Net income per diluted share Operating income per diluted share compared to 2012 is primarily attributable to a Net premiums earned decreased reduction in tail premium. improved stock market yields. Current accident year net losses 2012three-month periods, respectively. entities. 2013. ratio in acquisition. Three Months Ended June 30 Six Months Ended June 30 Net income Items excluded in the calculation of operating income: Net realized investment (gains) losses Guaranty fund assessments (recoupments) Effect of confidential settlements, net Pre-tax effect of exclusions Tax effect, at 35% Operating income Per diluted common share: Net income Effect of exclusions Operating income per diluted common share March 31, 2012 Revenues: Net premiums earned Net investment income Equity in earnings (loss) of unconsolidated subsidiaries Net realized investment gains (losses) Other income Total revenues Expenses: Losses and loss adjustment expenses Reinsurance recoveries Net losses and loss adjustment expenses Underwriting, policy acquisition and operating expenses Interest expense Total expenses Income before income taxes Income taxes Net income Earnings per share: Basic Diluted Net loss ratio Underwriting expense ratio Combined ratio Operating ratio Tax ratio Return on equity* Annualized. Gain on acquisition is excluded from this calculation. Gross premiums written Ceded premiums written Net premiums written Gross premiums written: Physician Non-physician healthcare providers Hospital and facility Other Non-continuing Tail coverage premium, all policy types Total between successive years reflects volume differences that have no effect on earned premium. brokerage arrangements. primary basis, within specified limits, to manufacturers and distributors of medical technology and life sciences products. Primary reinsurance arrangements Reduction in premiums owed under reinsurance arrangements Ascension Certitude program Commutation Other premiums ceded Total ceded premiums written Ceded premiums ratio, excluding other listed factors Effect on ceded premiums ratio from: Reduction in premiums owed under reinsurance arrangements Ascension Certitude program Commutation Ceded premiums ratio, as reported Premiums earned Premiums ceded Net premiums earned Premiums Ceded Increase (Decrease) 2012 versus 2011 Reduction in premiums owed under reinsurance arrangements* Ascension Certitude program* Commutation* All other factors Net increase acquisitions of Medmarc and IND. Fixed maturities Equities Short-term investments Other invested assets Business owned life insurance Investment expenses Net investment income Average income yield Average tax equivalent income yield other non-fixed income investments. Three Months Ended June 30 Six Months Ended June 30 Investment LPs Business LLC interest Tax credit partnerships Equity in earnings (loss) of unconsolidated subsidiaries profits. Three Months Ended June 30 Six Months Ended June 30 Net investment income, as reported for GAAP Taxable equivalent adjustments, calculated using the 35% federal statutory tax rate: State and municipal bonds BOLI Dividends received deduction Pro forma tax-equivalent net investment income Equity in earnings (loss) of unconsolidated subsidiaries, as reported for GAAP Taxable equivalent adjustment, calculated using the 35% federal statutory tax rate: Tax credit partnerships Pro forma tax-equivalent equity in earnings (loss) of unconsolidated subsidiaries Pro forma tax-equivalent investment results Three Months Ended June 30 Six Months Ended June 30 Other-than-temporary impairment losses, total: Residential mortgage-backed securities Corporate debt Other investments Portion recognized in (reclassified from) Other Comprehensive Income: Residential mortgage-backed securities Net impairment losses recognized in earnings Gross realized gains, available-for-sale securities Gross realized (losses), available-for-sale securities Net realized gains (losses), trading securities Change in unrealized holding gains (losses), trading securities Decrease (increase) in the fair value of liabilities carried at fair value Net realized investment gains (losses) 2013 as compared to first quarter 2012. July 2012. Three Months Ended June 30 Six Months Ended June 30 Current accident year Prior accident years Calendar year Current accident year Prior accident years Calendar year Current accident year net loss ratio, excluding other listed factors Effect attributable to: Reduction in premiums owed under reinsurance arrangements Commutation recorded in 2011 Tail coverages Current accident year net loss ratio, as reported Insurance operation expenses Agency expenses related to the discontinuation of certain agency operations. Offsetting these higher costs was a $0.7 million reduction in expenses resulting from recoveries related to the settlement of litigation. Underwriting expense ratio Three Months Ended June 30 Six Months Ended June 30 Trust Preferred Securities due 2034 Surplus Notes due May 2034 2019 Note Payable Revolving credit agreement fees and amortization Other Three Months Ended June 30 Six Months Ended June 30 Statutory rate Tax-exempt income Tax credits Other Effective tax rate Fair Value (in millions): U.S. Treasury obligations U.S. Agency obligations State and municipal bonds Corporate debt Asset-backed securities All fixed maturity securities Duration: U.S. Treasury obligations U.S. Agency obligations State and municipal bonds Corporate debt Asset-backed securities All fixed maturity securities Fair Value (in millions): U.S. Treasury obligations U.S. Agency obligations State and municipal bonds Corporate debt Asset-backed securities All fixed maturity securities Duration: U.S. Treasury obligations U.S. Agency obligations State and municipal bonds Corporate debt Asset-backed securities All fixed maturity securities The Chief Executive Officer and Chief Financial Officer of the Company participated in management’s evaluation of our disclosure controls and procedures (as defined in SEC Rule 13a-15(e)) as of On January 1, 2013 we completed the acquisition of Medmarc Mutual Insurance Company, now Medmarc Casualty Insurance Company (Medmarc). Our management has concluded that it will exclude Medmarc's systems and processes from the scope of ProAssurance's assessment of internal control over financial reporting as of December 31, 2013 in reliance on the guidance set forth in Question 3 of a "Frequently Asked Questions" interpretive release issued by the staff of the Securities and Exchange Commission's Office of the Chief Accountant and the Division of Corporation Finance in September 2004 (and revised on October 6, 2004). We are excluding Medmarc from that scope because we will not have completed our assessment of Medmarc's systems and processes by that date. Total Number of Shares Purchased Average Price Paid per Share Total Number of Shares Purchased as Part of Publicly Announced Plans or Approximate Dollar that May Yet Be the Plans or Programs (1) April 1 – 30, 2012 May 1 – 31, 2012 June 1 – 30, 2012 Total Condensed Consolidated Balance Sheets March 31,
2013 December 31,
2012Assets Investments Fixed maturities, available for sale, at fair value; amortized cost, $3,415,342 and $3,224,332, respectively $ 3,627,080 $ 3,447,999 Equity securities, trading, at fair value; cost, $222,167 and $187,891, respectively 257,745 202,618 Short-term investments 149,384 71,737 Business owned life insurance 52,850 52,414 Investment in unconsolidated subsidiaries 198,189 121,049 Other investments 33,104 31,085 Total Investments 4,318,352 3,926,902 Cash and cash equivalents 94,830 118,551 Premiums receivable 122,396 106,312 Receivable from reinsurers on paid losses and loss adjustment expenses 2,482 4,517 Receivable from reinsurers on unpaid losses and loss adjustment expenses 251,053 191,645 Prepaid reinsurance premiums 24,804 13,404 Deferred policy acquisition costs 26,342 23,179 Real estate, net 41,490 41,502 Intangible assets 55,577 53,225 Goodwill 161,123 163,055 Other assets 120,297 234,286 Total Assets $ 5,218,746 $ 4,876,578 Liabilities and Shareholders’ Equity Liabilities Policy liabilities and accruals Reserve for losses and loss adjustment expenses $ 2,216,874 $ 2,054,994 Unearned premiums 278,019 233,861 Reinsurance premiums payable 45,160 45,591 Total Policy Liabilities 2,540,053 2,334,446 Deferred tax liability 27,422 14,585 Other liabilities 165,228 131,967 Long-term debt, at amortized cost 125,000 125,000 Total Liabilities 2,857,703 2,605,998 Shareholders’ Equity Common shares, par value $0.01 per share, 100,000,000 shares authorized, 62,060,426 and 61,867,034 shares issued, respectively 621 619 Additional paid-in capital 342,590 341,780 Accumulated other comprehensive income (loss), net of deferred tax expense (benefit) of $74,108 and $78,284, respectively 137,626 145,380 Retained earnings 1,880,262 1,782,857 2,361,099 2,270,636 Treasury shares, at cost, 243,530 shares (56 ) (56 ) Total Shareholders’ Equity 2,361,043 2,270,580 Total Liabilities and Shareholders’ Equity $ 5,218,746 $ 4,876,578 $ 3,589,274 $ 3,665,763 — 25 154,588 103,133 167,914 119,421 53,571 52,651 113,342 111,324 21,842 38,224 4,100,531 4,090,541 132,190 130,400 112,333 120,220 15,464 4,175 239,225 247,658 17,287 12,568 25,129 26,626 22,587 30,989 40,900 40,432 51,333 53,703 159,625 159,625 79,155 81,941 $ 4,995,759 $ 4,998,878 $ 2,193,042 $ 2,247,772 238,291 251,155 81,967 82,039 2,513,300 2,580,966 154,547 203,772 49,769 49,687 2,717,616 2,834,425 347 346 543,531 538,625 140,051 130,037 1,798,622 1,699,853 2,482,551 2,368,861 (204,408 ) (204,408 ) 2,278,143 2,164,453 $ 4,995,759 $ 4,998,878 Condensed Consolidated Statements of Changes in Capital Total $ 2,164,453 $ 130,037 $ 1,699,853 $ 334,563 114,098 — 114,098 — (15,329 ) — (15,329 ) — 10,014 10,014 — — (165 ) — — (165 ) 5,072 — — 5,072 $ 2,278,143 $ 140,051 $ 1,798,622 $ 339,470 Total $ 1,855,863 $ 79,124 $ 1,428,026 $ 348,713 102,790 — 102,790 — 19,933 19,933 — — (15,437 ) — — (15,437 ) (499 ) — — (499 ) 3,714 — — 3,714 $ 1,966,364 $ 99,057 $ 1,530,816 $ 336,491 Common Stock Additional Paid-in Capital Accumulated Other Comprehensive Income (Loss) Retained Earnings Treasury Stock Total Balance at December 31, 2012 $ 619 $ 341,780 $ 145,380 $ 1,782,857 $ (56 ) $ 2,270,580 Common shares issued for compensation — 1,939 — — — 1,939 Share-based compensation — 2,282 — — — 2,282 Net effect of restricted and performance shares issued and stock options exercised 2 (3,411 ) — — — (3,409 ) Dividends to shareholders — — — (15,445 ) — (15,445 ) Other comprehensive income (loss) — — (7,754 ) — — (7,754 ) Net income — — — 112,850 — 112,850 Balance at March 31, 2013 $ 621 $ 342,590 $ 137,626 $ 1,880,262 $ (56 ) $ 2,361,043 Common Stock Additional Paid-in Capital Accumulated Other Comprehensive Income (Loss) Retained Earnings Treasury Stock Total Balance at December 31, 2011 $ 346 $ 538,625 $ 130,037 $ 1,699,853 $ (204,408 ) $ 2,164,453 Common shares issued for compensation — 1,654 — — — 1,654 Share-based compensation — 2,130 — — — 2,130 Net effect of restricted and performance shares issued and stock options exercised — (2,440 ) — — — (2,440 ) Dividends to shareholders — — — (7,663 ) — (7,663 ) Other comprehensive income (loss) — — 3,012 — — 3,012 Net income — — — 55,645 — 55,645 Balance at March 31, 2012 $ 346 $ 539,969 $ 133,049 $ 1,747,835 $ (204,408 ) $ 2,216,791 Condensed Consolidated Statements of Income and Comprehensive Income 2012 2011 2012 2011 $ 131,266 $ 137,063 $ 267,925 $ 269,140 34,510 36,297 68,003 72,457 (2,227 ) (2,416 ) (4,293 ) (3,780 ) (218 ) (1,065 ) (1,424 ) (2,902 ) (201 ) (113 ) (201 ) (681 ) (419 ) (1,178 ) (1,625 ) (3,583 ) (1,129 ) 3,378 10,755 9,907 (1,548 ) 2,200 9,130 6,324 1,868 1,685 3,675 4,273 163,869 174,829 344,440 348,414 55,132 69,394 133,437 146,493 (7,048 ) (5,041 ) (15,154 ) (11,717 ) 48,084 64,353 118,283 134,776 35,405 32,871 69,803 68,578 826 918 1,651 1,713 84,315 98,142 189,737 205,067 79,554 76,687 154,703 143,347 20,614 21,769 37,595 26,829 487 (178 ) 3,010 13,728 21,101 21,591 40,605 40,557 $ 58,453 $ 55,096 $ 114,098 $ 102,790 7,002 24,224 10,014 19,933 $ 65,455 $ 79,320 $ 124,112 $ 122,723 $ 1.91 $ 1.80 $ 3.73 $ 3.36 $ 1.89 $ 1.79 $ 3.69 $ 3.33 30,658 30,583 30,624 30,600 30,916 30,856 30,884 30,855 $ 0.25 $ — $ 0.50 $ — Three Months Ended March 31 2013 2012 Revenues Net premiums earned $ 134,578 $ 136,659 Net investment income 32,126 33,492 Equity in earnings (loss) of unconsolidated subsidiaries (223 ) (2,066 ) Net realized investment gains (losses): Other-than-temporary impairment (OTTI) losses — (1,206 ) Portion of OTTI losses recognized in (reclassified from) other comprehensive income before taxes — — Net impairment losses recognized in earnings — (1,206 ) Other net realized investment gains (losses) 26,680 11,883 Total net realized investment gains (losses) 26,680 10,677 Other income 1,813 1,809 Total revenues 194,974 180,571 Expenses Losses and loss adjustment expenses 60,887 78,305 Reinsurance recoveries (3,261 ) (8,106 ) Net losses and loss adjustment expenses 57,626 70,199 Underwriting, policy acquisition and operating expenses 37,285 34,398 Interest expense 371 825 Total expenses 95,282 105,422 Gain on acquisition 35,492 — Income before income taxes 135,184 75,149 Provision for income taxes Current expense (benefit) 7,775 16,981 Deferred expense (benefit) 14,559 2,523 Total income tax expense (benefit) 22,334 19,504 Net income $ 112,850 $ 55,645 Other comprehensive income, after tax, net of reclassification adjustments (see Note 10) (7,754 ) 3,012 Comprehensive income $ 105,096 $ 58,657 Earnings per share: Basic $ 1.83 $ 0.91 Diluted $ 1.82 $ 0.90 Weighted average number of common shares outstanding: Basic 61,708 61,177 Diluted 61,963 61,703 Cash dividends declared per common share $ 0.25 $ 0.13 Condensed Consolidated Statements of Cash Flows 2012 2011 $ 114,098 $ 102,790 20,402 17,954 (9,130 ) (6,324 ) 5,072 3,714 3,010 13,728 (2,936 ) 226 7,887 1,219 364 (1,549 ) (54,730 ) (11,836 ) (12,864 ) (6,814 ) (7,647 ) (12,795 ) (30,821 ) (47,261 ) 32,705 53,052 (347,146 ) (452,833 ) (53,001 ) (31,325 ) (158 ) (429 ) (23,470 ) (17,232 ) 582 — 432,667 449,364 — 3,704 22,921 33,908 565 432 (48,654 ) 39,537 6,712 1,228 (4,620 ) (11,428 ) (13,602 ) 14,926 — (14,993 ) (15,270 ) — (2,043 ) (2,610 ) (17,313 ) (17,603 ) 1,790 50,375 130,400 50,851 $ 132,190 $ 101,226 Three Months Ended March 31 2013 2012 Operating Activities Net income $ 112,850 $ 55,645 Adjustments to reconcile income to net cash provided by operating activities: Depreciation and amortization 12,318 10,382 Gain on acquisition (35,492 ) — Net realized investment gains (26,680 ) (10,677 ) Share-based compensation 2,282 2,130 Deferred income taxes 14,559 2,523 Policy acquisition costs, net amortization (net deferral) (3,163 ) (922 ) Other (6,304 ) (2,588 ) Other changes in assets and liabilities, excluding effect of business combinations: Premiums receivable (13,098 ) (10,090 ) Reinsurance related assets and liabilities 9,099 2,831 Other assets (26,119 ) (1,998 ) Reserve for losses and loss adjustment expenses (37,064 ) (13,014 ) Unearned premiums 20,025 22,689 Other liabilities (36,320 ) (28,811 ) Net cash provided (used) by operating activities (13,107 ) 28,100 Investing Activities Purchases of: Fixed maturities, available for sale (100,826 ) (247,622 ) Equity securities, trading (26,983 ) (26,678 ) Other investments (3,616 ) (158 ) Funding of tax credit limited partnerships (30,167 ) (12,236 ) Investment in unconsolidated subsidiaries, net (6,614 ) — Proceeds from sales or maturities of: Fixed maturities, available for sale 173,007 252,234 Equity securities, trading 26,509 16,039 Other investments 1,364 486 Net sales or maturities (purchases) of short-term investments (76,697 ) (13,143 ) Cash received from acquisitions 22,780 — Unsettled security transactions, net 18,478 4,403 Cash received (paid) for other assets (1,047 ) (1,358 ) Net cash provided (used) by investing activities (3,812 ) (28,033 ) Financing Activities Dividends to shareholders — (7,622 ) Other (6,802 ) (2,415 ) Net cash provided (used) by financing activities (6,802 ) (10,037 ) Increase (decrease) in cash and cash equivalents (23,721 ) (9,970 ) Cash and cash equivalents at beginning of period 118,551 130,400 Cash and cash equivalents at end of period $ 94,830 $ 120,430 Significant non-cash transactions Deposit transferred as consideration for acquisition $ 153,700 $ — June 30, 2012three- and six-month periodsthree-month period ended June 30, 2012March 31, 2013 are not necessarily indicative of the results that may be expected for the year ending December 31, 2012.2013. The accompanying Condensed Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and Notes contained in ProAssurance’s December 31, 20112012 report on Form 10-K. In connection with its preparation of the Condensed Consolidated Financial Statements, ProAssurance evaluated events that occurred subsequent to June 30, 2012March 31, 2013 for recognition or disclosure in its financial statements and notes to financial statements.Financial Accounting Standards Board (FASB)FASB revised guidance related to disclosures about certain assets and liabilities in an entity’s financial statements. The guidance requires disclosures related to the net and gross positions of certain financial instruments and transactions that are either eligible for offset in accordance with existing GAAP guidance or subject to an agreement that requires such offset. The guidance must be applied retrospectively for all prior periods presented. ProAssurance plans to adopt the guidance beginning January 1, 2013. Adoption of this guidance is not expected to have a material effect on ProAssurance’s results of operations or financial position.Accounting ChangesAccounting for Costs Associated with Acquiring or Renewing Insurance ContractsEffective for fiscal years beginning after December 15, 2011, the FASB revised guidance regarding the interpretation of which costs relating to the acquisition of new or renewal insurance contracts qualify for deferral. The guidance permits deferral of qualifying costs only when associated with successful contract acquisitions. Internal selling agent and underwriter salary and benefit costs allocated to unsuccessful contracts, as well as advertising costs, are excluded. The guidance must be applied prospectively, but may be applied retrospectively for all prior periods. ProAssurance prospectively adopted the guidance on January 1, 2012.2013. Adoption of this guidance had no material effect on ProAssurance’s results of operations or financial position.Fair Value MeasurementsEffectiveposition as it impacts disclosures only.interimin accordance with GAAP relating to business combinations.annual reporting periods beginning afterprovides products liability insurance for medical technology and life sciences companies and also provides legal professional liability insurance. ProAssurance acquired Medmarc for cash of $153.7 million, including the funding of future policy credits for eligible members of $7.5 million. ProAssurance transferred all of the cash required to complete the transaction to a third-party conversion agent for the benefit of Medmarc eligible members on December 15, 2011,27, 2012; the FASB revised guidancedeposit was classified as a part of Other Assets at December 31, 2012. ProAssurance incurred expenses related to the purchase of approximately $1.4 million during the first three months of 2013 and approximately $1.0 million during 2012. These expenses were included as a part of operating expenses in the periods incurred.measurements and disclosures, all of which arethe net assets acquired. ProAssurance believes it was able to be applied prospectively. The new guidance increases disclosure requirements regarding valuation methods used to determine fair value measurements categorized as Level 3, as well as the sensitivity to change of those measurements, and requires additional disclosures regarding the consideration given to highest and best use in fair value measurements of nonfinancial assets. The guidance also requires that when fair value measurements of items not carried at fair value are disclosed,acquire Medmarc for less than the fair value measurementsof its net assets due to Medmarc's declining premium base and its small capital position relative to other insurers in the medical technology and life sciences products liability insurance market.(In thousands) Fixed maturities, available for sale $ 269,529 Equity securities, trading 30,976 Cash and short-term investments 24,008 Other investments 5,340 Premiums receivable 2,986 Receivable from reinsurers on unpaid losses and LAE 73,107 Intangible assets 3,630 Other assets 14,614 Reserve for losses and loss adjustment expenses (201,072 ) Unearned premiums (16,937 ) Deferred tax liabilities (2,453 ) Other liabilities (14,536 ) Fair value of net assets acquired $ 189,192 Gain on Acquisition (35,492 ) Total purchase consideration $ 153,700 to be categorized by levelamortizable over their useful life of the fair value hierarchy. Additionally, the guidance also clarifies or revises certain9June 30, 20121. Basis of Presentation (continued)measurement principlesof reserves for losses and loss adjustment expenses and related reinsurance recoverables were estimated based on the present value of the expected underlying net cash flows, including a 5% profit margin and a 5% risk premium, and were determined to be materially the same as the recorded cost basis acquired.valuationintegration of financial instruments managed withinMedmarc operations.portfolio,statutory basis and expensed policy acquisition costs associated with successful contracts as incurred. After the valuationacquisition date, in accordance with GAAP, Medmarc policy acquisition costs associated with successful contracts were capitalized and amortized to expense as the related premium revenues were earned, but no amortization was recognized for Medmarc policies written prior to the acquisition date. The Pro Forma Consolidated Results for both 2013 and 2012 have been adjusted to reflect policy acquisition costs as if Medmarc had followed GAAP guidance for these costs in pre-acquisition periods.instruments classifiedintangible assets and debt security premiums and discounts recorded as a part of shareholders’ equity, the appropriate applicationMedmarc purchase price allocation.highestthree months endedMarch 31, 2013 has been reported in the Pro Forma Consolidated Results as being recognized during the three months endedMarch 31, 2012. Three months ended March 31, 2013 Three months ended March 31, 2012 (In thousands) ProAssurance
Pro Forma
Consolidated
Results ProAssurance
Actual
Consolidated Results ProAssurance
Pro Forma
Consolidated
Results ProAssurance
Actual
Consolidated ResultsRevenue $194,974 $194,974 $190,678 $180,571 Earnings $77,095 $112,850 $92,777 $55,645 best use valuation premise, and the consideration of premium and discounts in a fair value measurement. ProAssurance adopted the guidance on January 1, 2012. Adoption of this guidance had no material effect on ProAssurance’s results of operations or financial position.2.Subsidiaries Level 1: quoted (unadjusted) market prices in active markets for identical assets and liabilities. For ProAssurance, Level 1 inputs are generally quotes for debt or equity securities actively traded in exchange or over-the-counter markets. Level 2: market data obtained from sources independent of the reporting entity (observable inputs). For ProAssurance, Level 2 inputs generally include quoted prices in markets that are not active, quoted prices for similar assets or liabilities, and results from pricing models that use observable inputs such as interest rates and yield curves that are generally available at commonly quoted intervals. Level 3: the reporting entity’s own assumptions about market participant assumptions based on the best information available in the circumstances (non-observable inputs). For ProAssurance, Level 3 inputs are used in situations where little or no Level 1 or 2 inputs are available or are inappropriate given the particular circumstances. Level 3 inputs include results from pricing models for which some or all of the inputs are not observable, discounted cash flow methodologies, single non-binding broker quotes and adjustments to externally quoted prices that are based on management judgment or estimation. The following tables present information about that are measured at fair value on a recurring basis as of June 30, 2012March 31, 2013 and December 31, 2011 and2012, including financial instruments for which ProAssurance has elected fair value, are shown in the following tables. The tables also indicate the fair value hierarchy of the valuation techniques utilized to determine such value.those fair values. For some assets, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. When this is the case, the asset is categorized based on the level of the most significant input to the fair value measurement. Assessments of the significance of a particular input to the fair value measurement requires judgment and consideration of factors specific to the assets being valued.10June 30, 20122. Fair Value Measurement (continued)Assets and liabilities measured at fair value on a recurring basis as March 31, 2013 Fair Value Measurements Using Total (In thousands) Level 1 Level 2 Level 3 Fair Value Assets: Fixed maturities, available for sale U.S. Treasury obligations $ — $ 231,004 $ — $ 231,004 U.S. Government-sponsored enterprise obligations — 59,553 — 59,553 State and municipal bonds — 1,285,353 7,175 1,292,528 Corporate debt, multiple observable inputs — 1,544,040 — 1,544,040 Corporate debt, limited observable inputs: Private placement senior notes — — 342 342 Other corporate debt, NRSRO ratings available — — 8,406 8,406 Other corporate debt, NRSRO ratings not available — — 914 914 Residential mortgage-backed securities — 295,347 — 295,347 Agency commercial mortgage-backed securities — 47,436 — 47,436 Other commercial mortgage-backed securities — 74,369 — 74,369 Other asset-backed securities — 66,065 7,076 73,141 Equity securities Financial 80,312 — — 80,312 Utilities/Energy 39,315 — — 39,315 Consumer oriented 64,467 — — 64,467 Technology 14,611 — — 14,611 Industrial 39,558 — — 39,558 All other 15,452 4,030 — 19,482 Short-term investments 141,802 7,582 — 149,384 Financial instruments carried at fair value, classified as a part of: Investment in unconsolidated subsidiaries — — 47,540 47,540 Total assets $ 395,517 $ 3,614,779 $ 71,453 $ 4,081,749 December 31, 2012 Fair Value Measurements Using Total (In thousands) Level 1 Level 2 Level 3 Fair Value Assets: Fixed maturities, available for sale U.S. Treasury obligations $ — $ 205,857 $ — $ 205,857 U.S. Government-sponsored enterprise obligations — 56,947 — 56,947 State and municipal bonds — 1,212,804 7,175 1,219,979 Corporate debt, multiple observable inputs — 1,455,333 — 1,455,333 Corporate debt, limited observable inputs: Private placement senior notes — — 346 346 Other corporate debt, NRSRO ratings available — — 13,835 13,835 Other corporate debt, NRSRO ratings not available — — 1,010 1,010 Residential mortgage-backed securities — 289,850 — 289,850 Agency commercial mortgage-backed securities — 59,464 — 59,464 Other commercial mortgage-backed securities — 74,106 — 74,106 Other asset-backed securities — 67,237 4,035 71,272 Equity securities Financial 70,900 — — 70,900 Utilities/Energy 31,383 — — 31,383 Consumer oriented 51,100 — — 51,100 Technology 11,495 — — 11,495 Industrial 18,200 — — 18,200 All other 19,540 — — 19,540 Short-term investments 59,761 11,976 — 71,737 Financial instruments carried at fair value, classified as a part of: Investment in unconsolidated subsidiaries — — 33,739 33,739 Total assets $ 262,379 $ 3,433,574 $ 60,140 $ 3,756,093 June 30, 20122. Fair Value Measurement (continued) December 31, 2011 Fair Value Measurements Using Total (In thousands) Level 1 Level 2 Level 3 Fair Value $ — $ 283,865 $ — $ 283,865 — 68,104 — 68,104 — 1,221,187 7,200 1,228,387 — 1,359,866 — 1,359,866 — — 612 612 — — 6,310 6,310 — — 1,160 1,160 — 542,551 — 542,551 — 81,188 — 81,188 — 93,720 — 93,720 25,281 — — 25,281 18,748 — — 18,748 29,711 — — 29,711 7,556 — — 7,556 9,185 — — 9,185 12,677 — — 12,677 111,359 8,062 — 119,421 — — 23,841 23,841 — — 15,873 15,873 $ 214,517 $ 3,658,543 $ 54,996 $ 3,928,056 — — 14,180 14,180 — — 4,659 4,659 $ — $ — $ 18,839 $ 18,839 services. These services, useincluding services that price only certain types of securities. Each service uses complex methodologies to determine values for securities and subject the values they develop to quality control reviews. Management has selected a primary source for each type of security in the portfolio, and reviews service-providedthe values provided for reasonableness by comparing data amongto alternate pricing services and to available market and trade data. Values that appear inconsistent are further reviewed for appropriateness. If a value does not appear reasonable, the valuation is discussed with the service that provided the value and would be adjusted, if necessary. No such adjustments have been necessary in 20122013 or 2011.12ProAssurance Corporation and SubsidiariesNotes to Condensed Consolidated Financial Statements (Unaudited)June 30, 20122. Fair Value Measurement (continued).AgencyGovernment-sponsored enterprise obligationsare valued using pricing models that consider current and historical market data, normal trading conventions, credit ratings, and the particular structure and characteristics of the security being valued, such as yield to maturity, redemption options, and contractual cash flows. Adjustments to model inputs or model results are included in the valuation process when necessary to reflect recent events, such as regulatory, government or corporate actions or significant economic, industry or geographic events that would affect the security’s fair value.events such as significant economic or geographic events or ratings changes that would affect the security’s fair value.agencyGovernment-sponsored enterprise obligations. Bank loans are valued by an outside vendor based upon a widely distributed, loan-specific listing of average bid and ask prices published daily by an investment industry group. The publisher of the listing derives the averages from data received from multiple market-makers for bank loans.byusing a matrix, considering the issuer type, coupon rate and longest cash flows outstanding. The matrix is developed daily based on available market information. Agency and non-agency collateralized mortgage obligations are both valued using models that consider the structure of the security, current and historical information regarding prepayment speeds, ratings and ratings updates, and current and historical interest rate and interest rate spread data. Evaluations of Alt-A and subprime mortgages include a review of collateral performance data, which is generally updated monthly.13ProAssurance Corporation and SubsidiariesNotes to Condensed Consolidated Financial Statements (Unaudited)June 30, 20122. Fair Value Measurement (continued)Company’s Vice President of Investments for our subsidiaries, who reports to the Chief Financial Officer.The Company’s Level 3 valuationsExclusive of Investments in unconsolidated subsidiaries, which are not overly sensitive to changes invalued at NAV, the unobservable inputs used. The securities noted in the disclosure are primarily investment gradeNRSRO rated corporate debt whereinstruments for which comparable market inputs are commonly available for evaluating the securities in question. using a model based on discounted cash flowsflow models using yields currently available on fixed rate securities with a similar term and collateral, adjusted to consider the effect of a floating rate and a premium for illiquidity. All areAt March 31, 2013 and December 31, 2012 all of these bonds were rated A- or better.June 30, 2012,March 31, 2013, the average NRSRO rating of rated securities is BBB.was InvestmentsBBB+.and Other investmentsconsist of limited partnership (LP) and limited liability company (LLC) interests valued using the net asset value (NAV) provided by the LP/LLC, which approximates the fair value of the interest. Fair Value Unfunded
Commitments (In thousands) $ 17,107 $ 17,123 None 6,921 6,718 3,500 24,028 23,841 — 15,873 None $ 24,028 $ 39,714 Unfunded
CommitmentsFair Value (In thousands) March 31,
2013March 31,
2013 December 31,
2012Investment in unconsolidated subsidiaries: LP invested in senior secured debt (1) $ 32,400 $ 7,600 $ — LP invested in long equities (2) None 5,569 — LP primarily invested in long/short equities (3) None 16,985 17,115 LPs primarily invested in non-public equities (4) $ 44,107 17,386 16,624 $ 47,540 $ 33,739 (1) (2) (3) (2)The(4) isfunds, each structured to provide capital appreciation through diversified investments in private equity, includingwhich can include investments in buyout, venture capital, mezzanine debt, distressed debt and other private equity-oriented LPs. Redemptions are not allowed, exceptOne LP allows redemption by special permission ofconsent; the LP.other does not permit redemption. Income and capital are to be periodically distributed at the discretion of the LP over an anticipated time frame that spans 3from 4 to 57 years.14June 30, 20122. Fair Value Measurement (continued)(3)The LLC converted into a publicly traded investment fund during the second quarter of 2012. Prior to conversion, the LLC was structured to provide income through diversified investments in private equity, including mezzanine debt, distressed debt, syndicated bank loans and other private equity-oriented investments.Liabilities (the 2019 Note payable and the Interest rate swap agreement)are valued using the present value of expected underlying cash flows of the instrument, discounted at rates available on the valuation date for similar instruments issued by entities with a similar credit standing to ProAssurance.Quantitative Information about Level 3 Fair Value Measurements (in millions) Valuation Technique Unobservable Input $ 7.2 Market Comparable Securities Comparability Adjustment 0% - 10% (5%) Discounted Cash Flows Comparability Adjustment 0% - 10% (5%) $ 10.5 Market Comparable Securities Comparability Adjustment 0% - 5% (2.5%) Discounted Cash Flows Comparability Adjustment 0% - 5% (2.5%) $ 19.5 Discounted Cash Flows Comparability Adjustment 0% - 5% (2.5%) Quantitative Information about Level 3 Fair Value Measurements Fair Value at (In millions) March 31, 2013 December 31, 2012 Valuation Technique Unobservable Input Range
(Weighted Average)Assets: State and municipal bonds $7.2 $7.2 Market Comparable
Securities Comparability Adjustment 0% - 10% (5%) Discounted Cash Flows Comparability Adjustment 0% - 10% (5%) Corporate debt with limited observable inputs $9.7 $15.2 Market Comparable
Securities Comparability Adjustment 0% - 5% (2.5%) Discounted Cash Flows Comparability Adjustment 0% - 5% (2.5%) Other asset-backed securities $7.1 $4.0 Market Comparable
Securities Comparability Adjustment 0% - 5% (2.5%) Discounted Cash Flows Comparability Adjustment 0% - 5% (2.5%) 15ProAssurance Corporation and SubsidiariesNotes to Condensed Consolidated Financial Statements (Unaudited)June 30, 20122. Measurement (continued)and liabilities measured at fair value using Level 3 inputs, including financial instruments for which ProAssurance has elected fair value accounting. June 30, 2012 Level 3 Fair Value Measurements – Assets (In thousands) Corporate
Debt
backed Investment in
Unconsolidated
Subsidiaries Other
Investments Total $ 7,175 $ 8,689 $ — $ 24,430 $ 15,742 $ 56,036 — — — 180 — 180 — — — — — — — (28 ) — — — (28 ) — 1,937 1,795 — — 3,732 — (88 ) — (582 ) — (670 ) — — — — — — — — — — (15,742 ) (15,742 ) $ 7,175 $ 10,510 $ 1,795 $ 24,028 $ — $ 43,508 $ — $ — $ — $ 180 $ — $ 180 June 30, 2012 Level 3 Fair Value Measurements – Assets (In thousands) Corporate
Debt
backed Investment in
Unconsolidated
Subsidiaries Other
Investments Total $ 7,200 $ 8,082 $ — $ 23,841 $ 15,873 $ 54,996 — — — 770 — 770 — — — — (131 ) (131 ) — 578 — — — 578 — 1,937 1,795 — — 3,732 (25 ) (87 ) — (583 ) — (695 ) — — — — — — — — — — (15,742 ) (15,742 ) $ 7,175 $ 10,510 $ 1,795 $ 24,028 $ — $ 43,508 $ — $ — $ — $ 770 $ — $ 770 16 March 31, 2013 Level 3 Fair Value Measurements – Assets (In thousands) State and Municipal Bonds Corporate Debt Asset-backed Securities Investment in Unconsolidated Subsidiaries Other Investments Total Balance December 31, 2012 $ 7,175 $ 15,191 $ 4,035 $ 33,739 $ — $ 60,140 Total gains (losses) realized and unrealized: Included in earnings, as a part of: Net Investment Income — (102 ) (16 ) — — (118 ) Equity in earnings of unconsolidated subsidiaries — — — 1,848 — 1,848 Net realized investment gains (losses) — (69 ) — — — (69 ) Included in other comprehensive income — — — — — — Purchases — 3,875 1,356 13,078 — 18,309 Sales — (616 ) — (1,125 ) — (1,741 ) Transfers in — — 1,701 — — 1,701 Transfers out — (8,617 ) — — — (8,617 ) Balance March 31, 2013 $ 7,175 $ 9,662 $ 7,076 $ 47,540 $ — $ 71,453 Change in unrealized gains (losses) included in earnings for the above period for Level 3 assets held at period-end $ — $ — $ — $ 1,848 $ — $ 1,848 March 31, 2012 Level 3 Fair Value Measurements – Assets (In thousands) State and Municipal Bonds Corporate Debt Asset-backed Securities Investment in Unconsolidated Subsidiaries Other Investments Total Balance December 31, 2011 $ 7,200 $ 8,082 $ — $ 23,841 $ 15,873 $ 54,996 Total gains (losses) realized and unrealized: Included in earnings, as a part of: Equity in earnings of unconsolidated subsidiaries — — — 589 — 589 Net realized investment gains (losses) — — — — (131 ) (131 ) Included in other comprehensive income — 607 — — — 607 Purchases — — — — — — Sales (25 ) — — — — (25 ) Transfers in — — — — — — Transfers out — — — — — — Balance March 31, 2012 $ 7,175 $ 8,689 $ — $ 24,430 $ 15,742 $ 56,036 Change in unrealized gains (losses) included in earnings for the above period for Level 3 assets held at period-end $ — $ — $ — $ 589 $ (131 ) $ 458 June 30, 20122. Fair Value Measurement (continued) June 30, 2011 Level 3 Fair Value Measurements – Assets (In thousands) Corporate
Debt
backed Investment in
Unconsolidated
Subsidiaries Other
Investments Total $ 7,450 $ 16,880 $ — $ 25,662 $ — $ 49,992 — — — (535 ) — (535 ) — — — — — — — (534 ) — — — (534 ) — — 1,684 — — 1,684 (125 ) (3,311 ) — — — (3,436 ) — — — — — — — (5,205 ) — — — (5,205 ) $ 7,325 $ 7,830 $ 1,684 $ 25,127 $ — $ 41,966 $ — $ — $ — $ (535 ) $ — $ (535 ) June 30, 2011 Level 3 Fair Value Measurements – Assets (In thousands) Corporate
Debt
backed Investment in
Unconsolidated
Subsidiaries Other
Investments Total $ 7,550 $ 21,229 $ 2,220 $ 25,112 $ — $ 56,111 — — — 15 — 15 — — 314 — — 314 — (714 ) (15 ) — — (729 ) — — 1,684 — — 1,684 (225 ) (8,505 ) (1,921 ) — — (10,651 ) — 3,447 — — — 3,447 — (7,627 ) (598 ) — — (8,225 ) $ 7,325 $ 7,830 $ 1,684 $ 25,127 $ — $ 41,966 $ — $ — $ — $ 15 $ — $ 15 17ProAssurance Corporation and SubsidiariesNotes to Condensed Consolidated Financial Statements (Unaudited)June 30, 20122. Fair Value Measurement (continued)Transfers and six months ended June 30, 2012March 31, 2013 or 2011.The transfer reported2012.for the three- and six-month periods of 2012 relates to an interest in an LLC that was valued at the beginning of both periods using the NAVare as of the LLC. The LLC converted into a publicly traded investment fundend of the period and were to or from Level 2, unless otherwise noted.second quarter of 2012. The interest in the converted fund was valued using Level 1 inputs at June 30, 2012.The transfers shown during the and six months ended June 30, 2011 relateMarch 31, 2013 related to securities held for which there was little market activity for identical or nearly identical securities during the period and represent transfers to or from Level 2. Suchperiod. The securities arewere valued using multiple observable inputs when those inputs arewere available; otherwise the securities arewere valued using limited observable inputs. June 30, 2012 Level 3 Fair Value Measurements - Liabilities (In thousands)
agreement Total $ 14,962 $ 4,415 $ 19,377 (99 ) 319 220 (86 ) — (86 ) $ 14,777 $ 4,734 $ 19,511 $ (99 ) $ 319 $ 220 June 30, 2012 Level 3 Fair Value Measurements - Liabilities (In thousands)
agreement Total $ 14,180 $ 4,659 $ 18,839 769 75 844 (172 ) — (172 ) $ 14,777 $ 4,734 $ 19,511 $ 769 $ 75 $ 844 March 31, 2012 Level 3 Fair Value Measurements - Liabilities (In thousands) 2019 Note Payable Interest rate swap agreement Total Balance December 31, 2011 $ 14,180 $ 4,659 $ 18,839 Total (gains) losses realized and unrealized: Included in earnings as a part of: Net realized investment (gains) losses 868 (244 ) 624 Settlements (86 ) — (86 ) Balance March 31, 2012 $ 14,962 $ 4,415 $ 19,377 Change in unrealized (gains) losses included in earnings for the above period for Level 3 liabilities outstanding at period-end $ 868 $ (244 ) $ 624 June 30, 20122. Fair Value Measurement (continued) June 30, 2011 Level 3 Fair Value Measurements - Liabilities (In thousands)
agreement Total $ 15,555 $ 3,415 $ 18,970 389 437 826 (81 ) — (81 ) $ 15,863 $ 3,852 $ 19,715 $ 389 $ 437 $ 826 June 30, 2011 Level 3 Fair Value Measurements - Liabilities (In thousands)
agreement Total $ 15,616 $ 3,658 $ 19,274 408 194 602 (161 ) — (161 ) $ 15,863 $ 3,852 $ 19,715 $ 408 $ 194 $ 602 Fair Value Option Electionsarewere measured at fair value on a recurring basis as of March 31, 2012 and December 31, 2011, with changes in the fair value of each liability recorded in net realized gains (losses). ProAssurance assumed both liabilities as part of a previous acquisition. The fair value option was elected for the Note and the Swap because valuation at fair value better reflectsreflected the economics of the related liabilities and eliminateseliminated the inconsistency that would have otherwise resultresulted from carrying the Note on an amortized cost basis and the Swap at fair value. As discussed in Note 8, ProAssurance repaid bothBoth the Note and the Swap were repaid in July 2012.19ProAssurance Corporation and SubsidiariesNotes The fair values of these liabilities were determined using the present value of the expected underlying cash flows of each instrument, discounted at rates available on the valuation date for similar instruments issued by entities with a similar credit standing to Condensed Consolidated Financial Statements (Unaudited)June 30, 20122. Fair Value Measurement (continued)Not Measured At- Methodologies Other Than Fair Valuenot carried atmeasured using a methodology other than fair value. All fair values provided fall within the Level 3 fair value category. June 30, 2012 December 31, 2011 (In thousands) $ 21,842 $ 28,568 $ 22,351 $ 28,226 89,314 99,279 87,483 96,443 53,571 53,571 52,651 52,651 10,906 10,850 9,636 9,636 $ 22,992 $ 22,992 $ 22,992 $ 22,992 12,000 12,000 12,000 12,000 — — 515 519 14,224 14,110 15,076 14,946 March 31, 2013 December 31, 2012 (In thousands) Carrying
Value Estimated
Fair
Value Carrying
Value Estimated
Fair
ValueFinancial assets: Other Investments $ 33,104 $ 42,666 $ 31,085 $ 38,656 Investment in Unconsolidated Subsidiaries 150,649 151,593 87,310 91,528 BOLI 52,850 52,850 52,414 52,414 Other Assets 11,964 11,964 11,400 11,385 Financial liabilities: Revolving credit agreement $ 125,000 $ 125,000 $ 125,000 $ 125,000 Other Liabilities 12,544 12,534 12,130 12,085 iswas based on the NAV provided by the LP/LLC managers. The estimated fair value of the FHLB common stock iswas based on the amount ProAssurance would receive if its membership were cancelled,canceled, as the membership cannot be sold. The fair value of the annuity iswas the present value of the expected future cash flows discounted using a rate available in active markets for similarly structured instruments.consistsconsisted of investments in tax credit partnerships and a non-controlling interest in a limited liability company. Fair values of investments in tax credit partnerships arewere based on the present value of the cash flows expected to be generated by the partnerships discounted at rates for investments with similar risk structures and repayment periods. The fair value of the LLC interest iswas estimated as the proceeds ProAssurance would receive upon liquidation of the LLC.iswas equal to the cash surrender value associated with the policies on the valuation date.consistconsisted of related investment assets and liabilities associated with funded deferred compensation agreements. Other Liabilities also includesincluded certain contractual liabilities related to prior business combinations. Fair values of the funded deferred compensation assets and liabilities arewere based on the NAVs of the underlying securities. The fair values of the business combination liabilities arewere based on the present value of the expected cash flows, discounted at ProAssurance’s assumed incremental borrowing rate on the valuation date for unsecured liabilities with similar repayment structures.long-term debt isrevolving credit agreement was estimated based on the present value of expected underlyingfuture cash flows ofoutflows under the debt,agreement, discounted at rates available on the valuation date for similar debt issued by entities with a similar credit standing to ProAssurance or, if issued by an insurance subsidiary, the subsidiary issuing the debt.20June 30,March 31, 2013 and December 31, 20123. Investments included the following:The amortized cost and estimated fair value of available-for-sale fixed maturities and equity securities are as follows: June 30, 2012 (In thousands) $ 216,909 $ 14,884 $ (17 ) $ 231,776 65,635 5,386 (13 ) 71,008 1,126,525 84,871 (169 ) 1,211,227 1,356,759 80,898 (2,913 ) 1,434,744 451,226 27,688 (1,977 )* 476,937 68,707 5,591 (58 ) 74,240 88,043 1,302 (3 ) 89,342 $ 3,373,804 $ 220,620 $ (5,150 ) $ 3,589,274 December 31, 2011 (In thousands) $ 267,120 $ 16,748 $ (3 ) $ 283,865 62,520 5,584 — 68,104 1,145,025 83,568 (206 ) 1,228,387 1,307,504 68,105 (7,661 ) 1,367,948 514,412 30,270 (2,131 )* 542,551 76,366 4,881 (59 ) 81,188 92,773 978 (31 ) 93,720 3,465,720 210,134 (10,091 ) 3,665,763 6 19 — 25 $ 3,465,726 $ 210,153 $ (10,091 ) $ 3,665,788 March 31, 2013 (In thousands) Amortized
Cost Gross Unrealized Gains Gross Unrealized Losses Estimated Fair Value Fixed maturities U.S. Treasury obligations $ 216,932 $ 14,373 $ (301 ) $ 231,004 U.S. Government-sponsored enterprise obligations 55,054 4,517 (18 ) 59,553 State and municipal bonds 1,212,808 80,621 (901 ) 1,292,528 Corporate debt 1,460,887 94,664 (1,849 ) 1,553,702 Residential mortgage-backed securities 281,426 14,964 (1,043 ) * 295,347 Agency commercial mortgage-backed securities 45,700 1,749 (13 ) 47,436 Other commercial mortgage-backed securities 70,047 4,343 (21 ) 74,369 Other asset-backed securities 72,488 1,076 (423 ) 73,141 $ 3,415,342 $ 216,307 $ (4,569 ) $ 3,627,080 December 31, 2012 (In thousands) Amortized
Cost Gross Unrealized Gains Gross Unrealized Losses Estimated Fair Value Fixed maturities U.S. Treasury obligations $ 191,642 $ 14,266 $ (51 ) $ 205,857 U.S. Government-sponsored enterprise obligations 52,110 4,837 — 56,947 State and municipal bonds 1,134,744 85,329 (94 ) 1,219,979 Corporate debt 1,375,880 96,187 (1,543 ) 1,470,524 Residential mortgage-backed securities 272,990 17,070 (210 ) * 289,850 Agency commercial mortgage-backed securities 57,234 2,255 (25 ) 59,464 Other commercial mortgage-backed securities 69,062 5,049 (5 ) 74,106 Other asset-backed securities 70,670 1,203 (601 ) 71,272 $ 3,224,332 $ 226,196 $ (2,529 ) $ 3,447,999 * $3.1$0.9 million at June 30, 2012both March 31, 2013 and $3.3 million at December 31, 2011.2012.21June 30, 20123. Investments (continued)June 30, 2012,March 31, 2013, by contractual maturity, are shown below. 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. ProAssurance uses the call date as the contractual maturity for pre-refunded state and municipal bonds which are 100% backed by U.S. Treasury obligations.(In thousands) Amortized
Cost Due in one
year or less Due after
one year
through
five years Due after
five years
through
ten years Due after
ten years Total Fair
Value $ 216,909 $ 35,562 $ 118,492 $ 73,654 $ 4,068 $ 231,776 65,635 5,700 52,293 12,758 257 71,008 1,126,525 29,760 371,190 541,666 268,611 1,211,227 1,356,759 74,089 685,847 633,546 41,262 1,434,744 451,226 476,937 68,707 74,240 88,043 89,342 $ 3,373,804 $ 3,589,274 (In thousands) Amortized
Cost Due in one
year or less Due after
one year
through
five years Due after
five years
through
ten years Due after
ten years Total Fair
ValueFixed maturities, available for sale U.S. Treasury obligations $ 216,932 $ 33,718 $ 149,918 $ 44,190 $ 3,178 $ 231,004 U.S. Government-sponsored enterprise obligations 55,054 — 51,631 7,684 238 59,553 State and municipal bonds 1,212,808 60,391 414,146 492,665 325,326 1,292,528 Corporate debt 1,460,887 89,847 704,590 706,162 53,103 1,553,702 Residential mortgage-backed securities 281,426 295,347 Agency commercial mortgage-backed securities 45,700 47,436 Other commercial mortgage-backed securities 70,047 74,369 Other asset-backed securities 72,488 73,141 $ 3,415,342 $ 3,627,080 a U.S. Government agencyGovernment-sponsored enterprise obligations or pre-refunded state and municipal bonds which are 100% backed by U.S. Treasury obligations, no investment in any entity or its affiliates exceeds exceeded 10% of shareholders’ equity at June 30, 2012.At June 30, 2012, ProAssurance has available-for-sale securitiesfaircarrying value of $21.8$36.4 million at March 31, 2013 were on deposit with various state insurance departments to meet regulatory requirements. ProAssurance also has available-for-saleheld securities with a faircarrying value of $25.4$197.3 million at March 31, 2013 and $196.2 million at December 31, 2012 that are pledged as collateral security for advances under the 2019 Note PayableRevolving Credit Agreement (see Note 8)9).$35 million)$33 million). The primary purpose of the program is to offset future employee benefit expenses through earnings on the cash value of the policies. ProAssurance is the owner and principal beneficiary of these policies.ProAssurance has of the following:(In millions) $ — $ 15.9 15.9 16.2 4.3 4.4 1.6 1.7 $ 21.8 $ 38.2 (In millions) March 31,
2013 December 31,
2012Investments in LPs/LLCs, at cost $ 28.2 $ 25.1 FHLB capital stock, at cost 3.4 4.3 Other, principally an annuity, at amortized cost 1.5 1.7 $ 33.1 $ 31.1 years.22June 30, 20123. Investments (continued) Carrying Value
Commitments
June 30,
Ownership(In millions) June 30,
2012 $ 89.3 $ 86.8 $ 32.7 <20% 17.1 17.1 — <20% 6.9 6.7 3.5 <20% — 0.7 — See below $ 113.3 $ 111.3 $ 36.2 March 31, 2013 Carrying Value (In millions) Unfunded
Commitments Percentage
Ownership March 31,
2013 December 31,
2012Investment LPs/LLCs: Tax credit partnerships $ 55.8 See below $ 150.6 $ 87.3 Secured debt fund 32.4 < 20% 7.6 — Long equity fund None < 20% 5.6 — Long/Short equity fund None < 20% 17.0 17.1 Non-public equity funds 44.1 < 20% 17.4 16.6 $ 198.2 $ 121.0 partnershipspartnership interests held by ProAssurance generate investment returns by providing tax benefits to fund investors in the form of project operating losses and tax credits. The related properties are principally low income housing projects. LP targets absolute returns using a strategy designed to take advantage of event-driven market opportunities.fund LP holdsfunds hold diversified private equities and isare structured to provide capital appreciation.The Business LLC interest is a convertible preferred interest in a service-related business that began business operations in 2011. The preferred interest can be converted into a non-controlling common interest in May 2015, but conversion is not required. Asthe recognition of losses incurred to-date by the LLC.June 30, 2012March 31, 2013 and December 31, 2011,2012, including the length of time the investment hashad been held in a continuous unrealized loss position. June 30, 2012 Total Less than 12 months More than 12 months Fair Unrealized Fair Unrealized Fair Unrealized (In thousands) Value Loss Value Loss Value Loss $ 6,763 $ (17 ) $ 6,763 $ (17 ) $ — $ — 2,975 (13 ) 2,975 (13 ) — — 20,884 (169 ) 18,715 (108 ) 2,169 (61 ) 121,495 (2,913 ) 98,390 (1,770 ) 23,105 (1,143 ) 40,159 (1,977 ) 29,651 (738 ) 10,508 (1,239 ) 1,113 (58 ) — — 1,113 (58 ) 4,836 (3 ) 4,765 (3 ) 71 — $ 198,225 $ (5,150 ) $ 161,259 $ (2,649 ) $ 36,966 $ (2,501 ) $ 5,656 $ (875 ) $ 4,928 $ (663 ) $ 728 $ (212 ) 23 March 31, 2013 Total Less than 12 months More than 12 months Fair Unrealized Fair Unrealized Fair Unrealized (In thousands) Value Loss Value Loss Value Loss Fixed maturities, available for sale U.S. Treasury obligations $ 9,578 $ (301 ) $ 9,578 $ (301 ) $ — $ — U.S. Government-sponsored enterprise obligations 2,746 (18 ) 2,746 (18 ) — — State and municipal bonds 110,237 (901 ) 107,956 (878 ) 2,281 (23 ) Corporate debt 142,622 (1,849 ) 139,865 (1,645 ) 2,757 (204 ) Residential mortgage-backed securities 44,170 (1,043 ) 43,860 (1,040 ) 310 (3 ) Agency commercial mortgage-backed securities 667 (13 ) 445 (5 ) 222 (8 ) Other commercial mortgage-backed securities 4,145 (21 ) 4,145 (21 ) — — Other asset-backed securities 9,450 (423 ) 6,257 (21 ) 3,193 (402 ) $ 323,615 $ (4,569 ) $ 314,852 $ (3,929 ) $ 8,763 $ (640 ) Other investments Investments in LPs/LLCs carried at cost $ 4,730 $ (378 ) $ 3,690 $ (320 ) $ 1,040 $ (58 ) December 31, 2012 Total Less than 12 months More than 12 months Fair Unrealized Fair Unrealized Fair Unrealized (In thousands) Value Loss Value Loss Value Loss Fixed maturities, available for sale U.S. Treasury obligations $ 4,073 $ (51 ) $ 4,073 $ (51 ) $ — $ — State and municipal bonds 11,234 (94 ) 9,232 (65 ) 2,002 (29 ) Corporate debt 90,154 (1,543 ) 81,878 (1,377 ) 8,276 (166 ) Residential mortgage-backed securities 10,721 (210 ) 10,029 (205 ) 692 (5 ) Agency commercial mortgage-backed securities 1,643 (25 ) 498 (2 ) 1,145 (23 ) Other commercial mortgage-backed securities 2,100 (5 ) 1,103 (1 ) 997 (4 ) Other asset-backed securities 10,746 (601 ) 7,707 (20 ) 3,039 (581 ) $ 130,671 $ (2,529 ) $ 114,520 $ (1,721 ) $ 16,151 $ (808 ) Other investments Investments in LPs/LLCs carried at cost $ 9,474 $ (851 ) $ 8,697 $ (688 ) $ 777 $ (163 ) ProAssurance Corporation and SubsidiariesNotes to Condensed Consolidated Financial Statements (Unaudited)June 30, 20123. Investments (continued) December 31, 2011 Total Less than 12 months More than 12 months Fair Unrealized Fair Unrealized Fair Unrealized (In thousands) Value Loss Value Loss Value Loss $ 8,379 $ (3 ) $ 8,379 $ (3 ) $ — $ — 9,743 (206 ) 7,143 (10 ) 2,600 (196 ) 205,605 (7,661 ) 194,057 (6,691 ) 11,548 (970 ) 49,525 (2,131 ) 38,146 (488 ) 11,379 (1,643 ) 4,086 (59 ) 3,143 (2 ) 943 (57 ) 19,031 (31 ) 19,031 (31 ) — — $ 296,369 $ (10,091 ) $ 269,899 $ (7,225 ) $ 26,470 $ (2,866 ) $ 4,198 $ (984 ) $ 3,815 $ (856 ) $ 383 $ (128 ) June 30, 2012,March 31, 2013, there are 179were 446 debt securities (6.9%(15.4% of all available-for-sale fixed maturity securities held) in an unrealized loss position representing 163242 issuers. The single greatest unrealized loss position iswas approximately $0.8 million;$0.4 million; the second greatest unrealized loss position iswas approximately $0.5 million.$0.3 million. The securities were evaluated for impairment as of June 30, 2012.2011,2012, there were 251142 debt securities (9.6%(5.7% of all available-for-sale fixed maturity securities held) in an unrealized loss position representing 224131 issuers. The single greatest unrealized loss position approximated $1.2 million;$0.6 million; the second greatest unrealized loss position approximated $1.0 million.$0.2 million. The securities were evaluated for impairment as of December 31, 2011.ProAssurance’sProAssurance's December 31, 20112012 Form 10-K.At June 30, 2012, fixedequaled or exceeded the current amortized cost basiswere estimated as part of the security; such future cash flows were estimatedMarch 31, 2013 impairment evaluation using the most recently available six-month historical performance data for the collateral (loans) underlying the security or, if historical data was not available, sector based assumptions.iswas as follows: (In thousands) 2012 2011 2012 2011 $ 34,093 $ 36,682 $ 67,363 $ 72,634 1,608 186 2,649 416 38 17 57 73 39 575 441 1,564 461 472 918 936 36,239 37,932 71,428 75,623 (1,729 ) (1,635 ) (3,425 ) (3,166 ) $ 34,510 $ 36,297 $ 68,003 $ 72,457 Three Months Ended March 31 (In thousands) 2013 2012 Fixed maturities $ 30,854 $ 33,270 Equities 2,183 1,041 Short-term investments and Other invested assets 448 421 Business owned life insurance 436 457 Investment fees and expenses (1,795 ) (1,697 ) Net investment income $ 32,126 $ 33,492 Three Months Ended March 31 (In thousands) 2013 2012 Total other-than-temporary impairment losses: Residential mortgage-backed securities $ — $ (245 ) Corporate debt — (830 ) Other investments — (131 ) Net impairment losses recognized in earnings — (1,206 ) Gross realized gains, available-for-sale securities 3,114 3,887 Gross realized (losses), available-for-sale securities (75 ) (94 ) Net realized gains (losses), trading securities 2,789 777 Change in unrealized holding gains (losses), trading securities 20,852 7,937 Decrease (increase) in the fair value of liabilities carried at fair value — (624 ) Net realized investment gains (losses) $ 26,680 $ 10,677 June 30, 20123. Investments (continued)Net Realized Investment Gains (Losses)Net realized investment gains (losses) are comprised of the following: (In thousands) 2012 2011 2012 2011 $ (218 ) $ (319 ) $ (463 ) $ (769 ) — — (830 ) — — (746 ) (131 ) (2,133 ) (201 ) (113 ) (201 ) (681 ) (419 ) (1,178 ) (1,625 ) (3,583 ) 2,262 5,664 6,150 10,292 (89 ) (1,113 ) (183 ) (1,357 ) (50 ) 223 727 2,915 (3,032 ) (570 ) 4,905 (1,341 ) (220 ) (826 ) (844 ) (602 ) $ (1,548 ) $ 2,200 $ 9,130 $ 6,324 ProAssurance recognized credit-related impairments in earnings of $0.4 million and $0.7 million during the 2012 three- and six-month periods, respectively, and $0.4 million and $1.5 million for the same respective periods of 2011, related to certain residential mortgage-backed securities because the expected future cash flows from the securities were less than the carrying value.ProAssurance recognized credit-related impairments of $0.8 million related to a corporate debt security during the first quarter of 2012 due to deterioration of the credit standing of the issuer.of $0.1 million during the first quarter of 2012 and $0.7 million and $2.1 million for the 2011 three- and six-month periods, respectively,three-month period related to an interest in an LLC, accounted for using the cost method. Themethod, that was classified as a part of Other Investments. In 2011, the LLC announced in 2011 a plan to convert to a publicly traded investment fund, and OTTI was recognized in subsequent periods in order to carry the interest at the NAV reported by the fund. The conversion occurred duringin the second quarter of 2012.has beenwas recorded in Other Comprehensive Income. (In thousands) 2012 2011 2012 2011 $ 5,937 $ 5,334 $ 5,870 $ 4,446 201 394 268 1,282 $ 6,138 $ 5,728 $ 6,138 $ 5,728 Three Months Ended March 31 (In thousands) 2013 2012 Balance beginning of period $ 3,301 $ 5,870 Additional credit losses recognized during the period, related to securities for which: OTTI has been previously recognized — 67 Balance March 31 $ 3,301 $ 5,937 areis as follows: (In millions) 2012 2011 2012 2011 $ 99.8 $ 141.4 $ 305.9 $ 310.9 $ 99.5 $ 200.7 $ 347.1 $ 452.7 25ProAssurance Corporation and SubsidiariesNotes to Condensed Consolidated Financial Statements (Unaudited)June 30, 20124. Three Months Ended March 31 (In millions) 2013 2012 Proceeds from sales (exclusive of maturities and paydowns) $ 128.4 $ 206.1 Purchases $ 100.8 $ 247.6 tax-exempt.Internal Revenue ServiceIRS has begun but has not completedconcluded an examination of the 2009 and 2010 returns. returns and has issued a Notice of Proposed Adjustment (NOPA) for these years which would increase our current tax liability by approximately $130 million. ProAssurance has begun the IRS appeals process and is unable to reliably predict the timing of the final resolution or the ultimate outcome. The contested issues affect only the timing of when certain expense items are deductible for tax purposes and resolution of the NOPA would have no effect on our recorded tax expense, exclusive of interest found to be due on past-due taxes, if any.2008.2009. The statute for the 2006 tax year, has beenas well as the 2009 and 2010 tax year, was extended from May 31, 2012 tountil September 15, 2013.ProAssurance’s liability for unrecognized tax benefits, exclusive of accrued interest, is $23.7 million at June 30, 2012 and $18.6 million at December 31, 2011 with the increase in the provision being entirely attributable to unrecognized benefits associated with tax positions taken in a prior year. Unrecognized tax benefits at June 30, 2012 and December 31, 2011, if recognized, would not affect the effective tax rate but would accelerate the payment of tax. As with any uncertain tax position, there is a possibility that the ultimate deduction recognized could differ from the provision ProAssurance has established.5.2014.As of January 1, 2012, policy acquisition costs related to unsuccessful contracts are expensed immediately as a result of the revised FASB guidance as discussed in Note 1. ProAssurance adopted the revised guidance on a prospective basis. Under prior guidance, policy acquisition costs capitalized during the three and six months ended June 30, 2012 would have been $13.2 million and $30.3 million, respectively, as compared to $12.1 million and $28.1 million, respectively, capitalized under the current guidance.is $14.5was $13.4 million and $29.6$15.1 million for the three and six months ended June 30, 2012, respectively,March 31, 2013 and $14.6 million and $29.0 million for the three and six months ended June 30, 2011,2012, respectively.26June 30, 20126.$60.1$53.1 million and $107.5 million related to previously established reserves for the three and six months ended June 30, 2012, respectively.March 31, 2013. The favorable net loss development reflects reductions in the Company’sCompany's estimates of claims severity, principally for the 20042005 through 20092010 accident years. and six months ended June 30, 2011,March 31, 2012, ProAssurance recognized favorable net loss development of $50.2$47.5 million and $90.2 million, respectively, to reflect reductions in estimated claim severity principally for accident years 2004 through 2009.7..the Consolidated Financial Statements in ProAssurance’s 2011ProAssurance's 2012 Form 10-K.fundnon-public investment entities totaling approximately $33$168.0 million in capital contributions to tax credit partnerships as of June 30, 2012. Funding of the commitments is primarily, expected to occurbe paid as follows: $78.3 million in 20122013, $68.5 million in 2014 and 2013; additional information regarding tax credit partnership investments is provided2015 combined, and $21.2 million in Note 3. ProAssurance has also entered into agreements with several LPs/LLCs, totaling approximately $51 million at June 30, 2012, to be funded within the next five years as requested by the partnership.On June 26, 2012, ProAssurance entered into an agreement to acquire Medmarc Mutual Insurance Company (Medmarc) through a sponsored demutualization which will provide eligible Medmarc members with cash payments of $146.2 million2016 and future policy credits of $7.5 million. The transaction is subject to customary conditions, including regulatory and Medmarc eligible members’ approval. The transaction is expected to close in early January 2013.27ProAssurance Corporation and Subsidiaries2017 combined.Notes to Condensed Consolidated Financial Statements (Unaudited)June 30, 20128.consistsconsisted of the following: (In thousands) $ 22,992 $ 22,992 12,000 12,000 14,777 14,180 — 515 — — $ 49,769 $ 49,687 Prior to June 30, 2012, ProAssurance obtained required insurance department approvals and notified trustees of its intention to fully redeem the Trust Preferred Securities due 2034 and Surplus Notes due May 2034, for $35.0 million in cash, in August 2012. No gain or loss will be recognized related to the redemption.2019 Note Payable and Related Interest Rate SwapAs discussed in Note 2 to the Condensed Consolidated Financial Statements, the 2019 Note Payable (the Note) is carried at fair value at both June 30, 2012 and December 31, 2011. Prior to July 2012, see below, a related interest rate swap (the Swap) effectively fixed the interest rate related to the Note at 6.6% and required a monthly exchange of the difference between the fixed Swap rate and the stated variable rate of the Note, referenced against the then outstanding principal balance of the Note. The liability associated with the Swap is carried at fair value at June 30, 2012 and at December 31, 2011, $4.7 million at each date, and is classified as a part of Other LiabilitiesIn July 2012, ProAssurance repaid without penalty the outstanding principal on the 2019 Note Payable of $16.9 million and terminated the Swap for a cash settlement of $5.1 million. An aggregate loss on the extinguishment of the Note and the Swap of approximately $2.5 million will be recognized in the third quarter of 2012. (In thousands) March 31,
2013 December 31,
2012Revolving Credit Agreement, expires in 2016. Outstanding borrowings are not permitted to exceed $150 million. The interest rate on a borrowing is set at the time the borrowing is initiated or renewed. The outstanding borrowing at March 31, 2013 was fully secured, see Note 4, and carried an interest rate of 0.78%. The current borrowing can be repaid or renewed on June 25, 2013. If renewed, the interest rate will reset. $ 125,000 $ 125,000 the terms of ProAssurance’s outstandingProAssurance's long-term debt, see Note 10 of the Notes to the Consolidated Financial Statements included in ProAssurance’sProAssurance's December 31, 20112012 Form 10-K.28June 30, 20129.June 30, 2012March 31, 2013 and December 31, 2011,2012, ProAssurance had 100 million shares of authorized common stock and 50 million shares of authorized preferred stock. The Board of Directors of ProAssurance Corporation (the Board) has the authority to determine provisions for the issuance of preferred shares, including the number of shares to be issued, the designations, powers, preferences and rights, and the qualifications, limitations or restrictions of such shares. To date, the Board has not approved the issuance of preferred stock.During 2011 the Board of Directors of ProAssurance instituted a cash dividend policy. $0.25$0.25 per common share in both the first and second quarters of 2012;for the first quarter dividend totaled $7.7of 2013, totaling $15.4 million and was, that were paid in April 2012;2013. ProAssurance declared cash dividends of $0.125 per common share for the secondfirst quarter dividendof 2012 which totaled $7.7$7.7 million and was that were paid in July 2012.April 2012. The liability for unpaid dividends iswas included in Other Liabilities. Any decision to pay future cashliabilities. No dividends is subject towere paid in first quarter 2013 because payment of the Board’s final determination after a comprehensive review of financial performance, future expectations and other factors deemed relevant by the Board.June 30, 2012, approximately $153.5 million ofMarch 31, 2013, prior Board authorizations of $135.1 millionfor the repayment of debt or repurchase of common shares remainor the retirement of outstanding debt remained available for use, of which $16.9 million was used in July 2012 to repay the 2019 Note Payable. During the 2012 second quarter, Board authorizations totaling $35.0 million were used to notify debt trustees of ProAssurance’s intention to repay debt in August 2012 (see Note 8 for further discussion). and six months ended June 30, 2012. ProAssurance repurchased approximately 259,000 common shares, having a total cost of $15.4 million, during the six months ended June 30, 2011, including approximately 6,900 forfeited employer match shares (cost basis of $0.4 million) reacquired due to the termination of the ProAssurance Corporation Stock Ownership Plan.March 31, 2013 and 2012.is $2.9was $2.3 million and $5.1$2.1 million for the three and six months ended June 30, 2012, respectively,March 31, 2013 and $2.0 million and $3.7 million for the three and six months ended June 30, 2011,2012, respectively. Related tax benefits are $1.0were $0.8 million and $1.8$0.7 million for the three and six months ended June 30, 2012, respectively,March 31, 2013 and $0.7 million and $1.3 million for the three and six months ended June 30, 2011,2012, respectively.25,00039,000 restricted share units and 100,000146,000 (target) performance share units to employees in February 2012.2013. The fair value of each unit awarded was estimated at $89.28,$46.97, equal to the market value of a ProAssurance common share on the date of grant. All awards are charged to expense as an increase to equity over the service period (generally the vesting period) associated with the award. Restricted share units and performance share units vest in their entirety at the end of a three-yearthree-year period following the grant date based on a continuous service requirement and, for performance share units, achievement of a performance objective. Partial vesting is permitted for retirees. A ProAssurance common share is issued for each unit once vesting requirements are met, except that units sufficient to satisfy required tax withholdings are paid in cash. The number of common shares issued for performance share units varies from 75% to 125% of base awards depending upon the degree to which stated performance objectives are achieved. ProAssurance issued approximately 17,00032,000 and 50,000120,000 common shares respectively, to employees in February 20122013 related to restricted share units and performance share units granted in 2009.2010, respectively. Shares issued for performance share units were awarded at the maximum level (125%(125%).19,00041,000 and 20,00019,000 common shares to employees in February 20122013 and February 2011,2012, respectively, as bonus compensation, as approved by the Compensation Committee of the Board. The shares issued were valued at fair value (the market price of a ProAssurance common share on the date of award).29ProAssurance Corporation and SubsidiariesNotes to Condensed Consolidated Financial Statements (Unaudited)June 30, 20129. Shareholders’ Equity (continued)iswas comprised of unrealized gains and losses, including non-credit impairment losses, arising during the period related to available-for-sale securities less reclassification adjustments for gains (losses) from available-for-sale securities recognized in current period net income (net of tax). AccumulatedAt March 31, 2013 and December 31, 2012, accumulated other comprehensive income iswas comprised entirely of unrealized gains and losses from available for saleavailable-for-sale securities, including non-credit impairment losses, net of tax.Reclassification adjustments relatedavailable-for-sale securities fornet income during the three and six months ended June 30, 2012March 31, 2013 and 2011 are as follows: (In thousands) 2012 2011 2012 2011 $ 1,754 $ 4,119 $ 4,473 $ 7,485 (614 ) (1,442 ) (1,566 ) (2,620 ) $ 1,140 $ 2,677 $ 2,907 $ 4,865 10.2012 included the following: Three Months Ended March 31 (In thousands) 2013 2012 Reclassifications from accumulated other comprehensive income to net income: Realized investment gains (losses), available-for-sale securities $ 3,039 $ 2,718 Non-credit impairment losses reclassified to earnings, available for sale securities — — Total amounts reclassified, before tax effect 3,039 2,718 Tax effect (at 35%) (1,064 ) (951 ) Net reclassification adjustments $ 1,975 $ 1,767 LPs/LLCsentities that are considered to be Variable Interest Entities (VIEs) under GAAP guidance. ProAssurance's VIE interests include 1) interests in LPs/LLCs formed for the purpose of achieving diversified equity and debt returns and 2) a limited liability interest in a development stage business operation. ProAssurance VIE interests carried as a part of Other Investments totaled $28.2 million at March 31, 2013 and $25.1 million at December 31, 2012. ProAssurance VIE interests carried as a part of Investment in Unconsolidated Subsidiaries totaled $34.4 million at March 31, 2013 and $33.7 million at December 31, 2012.entitiesVIE's because it has either very limited or no power to control the activities that most significantly affect the economic performance of these entities and is not the primary beneficiary of any of the entities. ProAssurance’s involvement with each entity is limited to its direct ownership interest in the entity. ProAssurance has no arrangements or agreements of significance with any of the entities to provide other financial support to or on behalf of the entity. At June 30, 2012March 31, 2013, ProAssurance’s maximum loss exposure relative to these investments iswas limited to the carrying value of ProAssurance’s investment in the entity.The entities consist of 1) investments in LPs/LLCs formed for the purpose of achieving diversified equity and debt returns and 2) a limited liability interest in a development stage business operation classified as Other Investments (carrying value of $15.9 million and $32.1 million at June 30, 2012 and December 31, 2011, respectively) and Investment in Unconsolidated Subsidiaries (carrying value of $24.0 million and $24.5 million at June 30, 2012 and December 31, 2011, respectively).11.VIE.share awards and restricted stockshare units have vested.three-three-month periods ended March 31, 2013 and six-month periods ended June 30, 2012 and 2011.30 unaudited Condensed Consolidated Financial Statements and Notes to those statements which accompany this report as well as our 2011 Form 10-K.report. A glossary of insurance terms and phrases is available on the investor section of our website. Throughout the discussion, references to ProAssurance,“ProAssurance”, “PRA”, “Company”, “we”, “us” and “our” refer to ProAssurance Corporation and its consolidated subsidiaries. The discussion contains certain forward-looking information that involves risks and uncertainties. As discussed under “Forward-Looking Statements”, our actual financial condition and operating results could differ significantly from these forward-looking statements.claimant’sclaimant's family, the outcome of jury trials, the legislative and judicial climate where the insured event occurred, general economic conditions and, for Medical Professional Liability (MPL) claims involving bodily harm, the trend of healthcare costs. ProfessionalProducts and professional liability claims are typically resolved over an extended period of time, often five years or more. The combination of changing conditions and the extended time required for claim resolution results in a loss cost estimation process that requires actuarial skill and the application of significant judgment, and such estimates require periodic revision.subsidiaries. We engage consulting actuariessubsidiaries, supplemented to reviewthe extent necessary by relevant industry loss and exposure data.dataloss reserves by $201.1 million which represented the fair value of Medmarc's loss reserves at the time of the acquisition. The estimated fair value was calculated as the present value of the expected underlying net cash flows, including a 5% profit margin and provide us with their observations regarding our dataa 5% risk premium. Expected net cash flows were derived from the expected loss payment patterns included in an actuarial analysis of Medmarc reserves performed as of December 31, 2012. Actuarial methods used to evaluate Medmarc reserves included the Bornhuetter-Ferguson (Paid and Reported) Method and the Development Method (Paid and Reported) described in Item 2 of ProAssurance 2012 Form 10K. The Adjusted Reported, Adjusted Paid, and the Expected Loss Methods, described below, were also used to evaluate Medmarc's reserves. We supplemented relevant industry data where sufficient Medmarc historical data was not available. Approximately 85% of the reserves assumed in the Medmarc acquisition are products liability reserves and 15% are professional liability reserves.established reserve, believing that the consulting actuaries provide an independent view of our loss data as well as a broader perspective on industry loss trends.31Initial Reserve EstimatesInbusiness and in establishing our initial reserves for a givenany current accident year dueperiod. The targeted loss ratio in our pricing varies to some extent by jurisdiction, type of coverage and policy limits. For our largest line of business, physician professional liability, we are on average targeting a 75% loss ratio. Due to the lack of available open or closed claims data for both open and closed claims for thatthe current accident year period, we heavily rely heavily on the loss assumptions that are used in pricing our pricing models. Loss assumptions usedbusiness in making our pricing models are based on our analysisinitial estimate of our actual and projected claims data, adjustedphysician professional losses for perceived differences between the current legalaccident year period. For our physician business, we presently and economic environment and that of the periods associated with the claims data. In recent years, our analysis of claims has indicated reductions in average loss costs, and we have reflected those reductions in our pricing loss assumptions. Our average pricing for 2012 is approximately 16 percentage points below our average pricing in 2006 (exclusive of our podiatry and chiropractic lines acquired in 2009), principally reflecting expected reductions in loss costs.Historically, and at present, in establishing our initial reserves we utilizehistorically utilized loss ratios that are approximately 8 to 10 percentage points above the loss ratios incorporated withinwe have targeted in our pricing for the pricing targets for thatcurrent accident year. We believe this reflects expected loss costs but alsoappropriately considers the inherent risks associated with our physician professional rate development process and the historic volatility of professional liabilityMPL losses (the industry has experienced accident year loss ratios as high as 163% and as low as 57% over the past 30 years) and produces a reasonable best estimate of the reserves required to cover actual ultimate unpaid losses. We follow the same practice in establishing initial loss reserves for our other professional liability lines. In the current environment this equates to an overall average initial loss ratio of approximately 85% onfor our physician business as compared to an average loss ratio of approximately 75% assumed in our pricing.The Effect of Changing Severityclaims. claims and the severity trend is the increase, or decrease, in severity from period to period. Although we remain uncertain regarding the ultimate severity trend to project into the future for our medical professional liability (MPL) business, as discussed in following paragraphs, we have given consideration to observed lower loss costs for this business and reduced rates in recent years. For example, on average, excluding our podiatry business acquired in 2009, we have gradually reduced the premium rates we charge on our standard physician renewal business (our largest MPL line) by approximately 17% from the beginning of 2006 to March 31, 2013. (the expected annual percentage change in severity) is a key assumption for both pricing models and the actuarial estimation of reserves. The severity trend is an explicit component of our pricing models, whereas in our reserving process the severity trend's impact is implicit. Our estimate of this trend and our expectations about changes in this trend impact a variety of factors, from the selection of expected loss ratios to the ultimate point estimates established by management.OurFor our MPL business, which comprises 90% of our first quarter 2013 gross earned premium, our current pricing model assumes an averagemodels assume a severity trend of 3%2% to 4%3% in most states and lines of business. If the severity trend were to be higher by 1 percentage point, the impact would be an increase in our expected loss ratio of this business of 3.2 percentage points.points, based on current claim disposition patterns. An increase in the severity trend of 3 percentage points would result in a 10.1 percentage point increase in our expected loss ratio. Due to the long-tailedlong tailed nature of MPL claims and the previously discussed historical volatility of loss costs, selection of a severity trend assumption is a subjective process that is inherently likely to prove inaccurate over time. Given this long tailthe long-tail and the previously discussed historical volatility, of loss costs, we are generally cautious in making changes to ourthe severity assumptions within our pricing model. Also of note is that all open claims and actuarial estimations.Recent changesaccident years are generally impacted by a change in the severity trend, which compounds the effect of such a change.have alsoof MPL claims (or number of claims per exposure unit) that cannot be attributed to any single factor, which has complicated the selection of an appropriate severity trend. Bothtrend for our internal and consulting actuaries have observed fluctuating but generally lower claims frequency that cannot be attributedpricing models for this business. It has also made it more challenging to any single factor.factor severity into the various actuarial methodologies we use to evaluate our reserves. We believe that much of the reduction in the number of claimsclaim frequency is the result of a decline in the filing of frivolous lawsuits that have historically been dismissed or otherwise result in no payment of indemnity on the part of our insureds. With fewer frivolous claims being filed we expect that the claims that are filed have the potential for greater average losses, or greater severity. As a result, we cannot be certain as to the impact this decline will ultimately have on the average cost of claims. Based on a weighted average of payments, resolution ofonly 85% of our MPL claims are resolved after eight years for a given accident year requires more than eight years (based on a weighted average of payments).year. Due to this long tail, it will becan take several years before we are able to determine what impact, if any, has resulted from the decline in frequency has indeed resulted inand whether there is a related increase in severity.Additionally, given the lengthtime required for resolution of our claims, we are cautious in giving full credibility to claims data indicating emerging trends. Numerical data both within our own information and in the broader MPL marketplace may in the short term indicate development of a trend, whether positive or negative, that mitigates or reverses over the longer term as claims mature and additional data becomes available. Our current severity trend assumption gives recognition to both the indications from our recent claims data and the known volatility associated with the long tail claims environment in which we operate.32Loss Developmentsixthree months of both 20122013 and 2011 is2012 was primarily attributable to the favorable resolution of MPL claims during the period and an evaluation of established case reserves and paid claims data that indicatesindicated that the actual severity associated with the remaining MPL claims will be lower than we had previously estimated. The Critical Accounting Estimates discussion in our 20112012 Form 10K includes a more detailedand our discussion of acquired reserves, above, include additional information regarding the methodologies used to evaluate our reserves, beginningreserves.page 30.We evaluate each of our ceded reinsurance contracts at inception to confirm that there is sufficient risk transfer to allow the contract to be accounted for as reinsurance under current accounting guidance. At June 30, 2012, all ceded contracts are accounted for as risk transferring contracts.Our receivable from reinsurers on unpaid losses and loss adjustment expenses represents our estimate of the amount of our reserve for losses that will be recoverable under our reinsurance programs. We base our estimate of funds recoverable upon our expectation of ultimate losses and the portion of those losses that we estimate to be allocable to reinsurers based upon the terms of our reinsurance agreements. Our assessment of the collectability of the recorded amounts receivable from reinsurers considers the payment history of the reinsurer, publicly available financial and rating agency data, our interpretation of the underlying contracts and policies, and responses by reinsurers.Given the uncertainty inherent in our estimates of losses and related amounts recoverable from reinsurers, these estimates may vary significantly from the ultimate outcome.Under the terms of certain of our reinsurance agreements, the amount of premium that we cede to our reinsurers is based in part on the losses we recover under the agreements. Therefore we make an estimate of premiums ceded under these reinsurance agreements subject to certain maximums and minimums.Any adjustments to our estimates of either balances recoverable under our reinsurance agreements or premiums owed under our agreements are reflected in then-current operations. Due to the size of our reinsurance balances, an adjustment to these estimates could have a material effect on our results of operations for the period in which the adjustment is made.thetheir then-current financial strength, rating and stabilitystability.prospectiveour ceded reinsurance contracts at inception to confirm that there is sufficient risk transfer to allow the contract to be accounted for as reinsurance under current accounting guidance. At March 31, 2013, all ceded contracts were accounted for as risk transferring contracts. However, corresponding ability to pay us may change in the future due to forces or events we cannot control or anticipate.33June 30, 2012; periodically, reinsurers may periodically dispute our claimdemand for reimbursement from them based upon their interpretation of the terms of our agreements. We have established appropriate reserves for any balances that we believe may not be ultimately collected. Should future events lead us to believe that any reinsurer will not meet its obligations to us, adjustments to the amounts recoverable would be reflected in the results of current operations. Such an adjustment has the potential to be material to the results of operations in the period in which it is recorded; however, we would not expect such an adjustment to have a material effect on our capital position or our liquidity.TheAt March 31, 2013 the distribution of our investments based on GAAP fair value hierarchies (levels) iswas as follows: Distribution by
GAAP Fair Value Hierarchy June 30, 2012 Level 1 Level 2 Level 3 Total Investments 7 % 88 % 1 % 96 % 4 % 100 % Distribution by GAAP Fair Value Hierarchy March 31, 2013 Level 1 Level 2 Level 3 Total
InvestmentsInvestments recorded at: Fair value 9% 84% 2% 95% Other valuations 5% Total Investments 100% In addition, we compare provided information for consistency with our other pricing services, known market data and information from our own trades, considering both values and valuation trends. We also compare yields indicated by the provided values to appropriate benchmark yields and review for values that are unchanged or that reflect an unanticipated variation as compared to prior period values. In addition, we compare provided information for consistency with our other pricing services, known market data and information from our own trades, considering both values and valuation trends. We also review weekly trades versus the prices supplied by our vendors.the services. If a supplied value appears unreasonable, we discuss the valuation in question with the pricing service and make adjustments if deemed necessary. To date, we haveour review has not adjustedresulted in any changes to the values supplied by the pricing services.34As of June 30, 2012, fairhave beenare determined using exchange traded prices. There is little judgment involved when fair value is determined using an exchange traded price. In accordance with GAAP, for disclosure purposes we classify securities valued using an exchange traded price as Level 1 securities.With the exception of certain government bonds, mostthe NAV provided to us.a fund-provided net asset value (NAV) for our interest. All investments valued in this manner are LP or LLC interests that hold debt and equity securities. InterestsAt March 31, 2013 interests valued using a fund-provided NAV at June 30, 2012 total $24.0totaled $47.5 million, or 1% of total investments, and arewere classified as part of our Investment in Unconsolidated Subsidiaries.Not at Fair Valuenot carried atmeasured using methodologies other than fair value. Investments not carried at fair value haveAt March 31, 2013 these investments had a carrying value at June 30, 2012 of approximately $164.7$236.6 million, which represents 4%represented 5% of total investments, and are valued as shown in the following table. Additional information about these investments is provided in Note 2Notes 3 and 4 of the Notes to Condensed Consolidated Financial Statements.(In Millions) Carrying Value GAAP Measurement
Method $ 15.9 Cost 4.3 Cost 1.6 Cost $ 21.8 $ 89.3 Equity — Equity $ 89.3 $ 53.6 Cash surrender value $ 164.7 35(In millions) Carrying Value GAAP Measurement
MethodOther investments: Investments in LP/LLCs, at cost $ 28.2 Cost Federal Home Loan Bank (FHLB) capital stock 3.4 Cost Other 1.5 Amortized cost Total other investments 33.1 Investment in unconsolidated subsidiaries: Investments in tax credit partnerships 150.6 Equity Business owned life insurance 52.9 Cash surrender value Total investments - Other valuation methodologies $ 236.6 OTTI. In all instances weother than temporary impairment (OTTI). We consider an impairment to be an OTTI if we intend to sell the security or if we believe we will be required to sell the security before we fully recover the amortized cost basis of the security. Otherwise, we consider various factors in our evaluation, depending upon the type of security, as discussed below.an investmentthe security or its issuer;an investment,a security, which can cause us to believe the investmentsecurity is more or less likely to recover its value than other investmentssecurities with a similar structure; ability and intent to holdsell and whether it is more likely than not we will be required to sell the investment for a periodsecurity before the recovery of time sufficient to allow for any anticipated recovery in fair value.interest in the LP/LLC.interest. The NAV is based on the fair values of securities held by the LP/LLC as determined by the LP/LLC manager. We consider the most recent NAV provided, the performance of the LP/LLC relative to the market, the stated objectives of the LP/LLC, the cash flows expected from the LP/LLC and audited financial statements of the entity, if available, in considering whether an OTTI exists. Beginning January 1, 2012, in order to comply with adopted Financial Accounting Standards Board (FASB) guidance, we no longer capitalize internal selling agent and underwriter salary and benefit costs that are allocated to unsuccessful insurance contracts. Adoption of this guidance had no material effect on our results of operations or financial position.36basisbases of assets and liabilities determined for financial reporting purposes and the basisbases determined for income tax purposes. Our temporary differences principally relate to loss reserves, unearned premiums, deferred policy acquisition costs, and unrealized investment gains (losses) and investment impairments.. Deferred tax assets and liabilities are measured using the enacted tax rates expected to be in effect when such benefits are realized. We review our deferred tax assets quarterly for impairment. If we determine that it is more likely than not that some or all of a deferred tax asset will not be realized, a valuation allowance is recorded to reduce the carrying value of the asset. In assessing the need for a valuation allowance, management is required to make certain judgments and assumptions about our future operations based on historical experience and information as of the measurement period regarding reversal of existing temporary differences, carryback capacity, future taxable income (including its capital and operating characteristics) and tax planning strategies.June 30, 2012,March 31, 2013, our current tax liability includes $23.7 million for unrecognized tax benefits approximated $4.8 million, and $1.1 million for related accrued interest.3, 2011,1, 2012, that the fair value of our reporting unit exceeded the carrying value and no adjustment to impair goodwill was necessary.37that we have not yet adopted as of June 30, 2012March 31, 2013 that would have a material impacteffect on our results of operations or financial position. Note 1 of the Notes to Condensed Consolidated Financial Statements provides additional detail regarding accounting changes.OverviewJune 30, 2012,March 31, 2013, we held cash and liquid investments of approximately $371.9$320.4 million outside of our insurance subsidiaries that arewere available for use without regulatory approval.approval, $197.3 million of which was pledged as collateral for advances under our credit facility. Our insurance subsidiaries, in aggregate, are permitted to pay dividends of approximately $269$311 million over the remaindercourse of 20122013 without the prior approval of state insurance regulators. However, the payment of any dividend requires prior notice to the insurance regulator in the state of domicile, and the regulator may prevent the dividend if, in its judgment, payment of the dividend would have an adverse effect on the surplus of the insurance subsidiary. During the six months ended June 30, 2012, ourOur insurance subsidiaries have paid extraordinaryno dividends during the first three months of $25.0 million.our claim payments for those policies are generally paid over a more extended period of time. Likewise, timing delays exist between the payment of claims and the collection of any associated reinsurance recoveries.provided positiveused cash flows of approximately $32.7$53.1provided cash flows of approximately $28.1 million for the sixthree months ended June 30, 2012March 31, 2013 and 2011,2012, respectively.2012the three months endedMarch 31, 2013 and 20112012 compare as follows:(In millions) Operating
Cash Flow $ 53 6 4 (28 ) 5 (9 ) 10 (10 ) 2 $ 33 (In millions) Cash provided (used) by operating activities for the three months ended March 31, 2012 $ 28 Increase (decrease) in operating cash flows: Decrease in premium receipts (1) (20 ) Increase in payments to reinsurers (2) (7 ) Decrease in losses paid, net of reinsurance recoveries (3) 18 Decrease in deposit contracts (4) (7 ) Increase in cash paid for other expenses (5) (3 ) Increase in Federal and state income tax payments (6) (14 ) Net cash flow provided (used) by acquisitions (7) (9 ) Other amounts not individually significant, net 1 Cash provided (used) by operating activities for the three months ended March 31, 2013 $ (13 ) (1) The increasereduction in premium receipts primarily reflects an increase inreflected lower premium volume in 2012, particularlywritten during the volume of tail premium, excluding the volume decline in 2012 attributable to two-year term policies. Two year term policies affect gross written premium, but have little effect on timing of premium receipts since half of the written amount is billed in the second term. Tail policies are typically collected in the period written.preceding twelve months.38(2) Reinsurance contracts are generally for premiums written in a specific annual period, but, canabsent a commutation agreement, remain in effect until all claims under the contract have been resolved. Some contracts require annual settlements while others require settlement only after a number of years have elapsed, thus the amounts paid can vary widely from period to period.(3) paymentprocess for resolving claims is complex and occurs at an uneven pace depending upon the circumstances of the individual losses can be sporadic.claim. The increasedecrease in loss payments for the first sixthree months of 20122013 primarily reflects the resolution ofreflected a greatersmaller number of larger cases resulting inclaims resolved with large indemnity payments. Loss payments were not isolated to any one state or to any specific risk groups. We currently estimatehave not seen evidence in our loss data that approximately $15 million ofsuggests the 2012 increasedecrease in indemnityloss payments is recoverable under existing reinsurance arrangements.for the three-month period represents a change in loss trends and as such have not changed our loss assumptions for the current period.(4) We are party to certain contracts that involve claims handling but do not transfer insurance risk. As required by GAAP, receipts and disbursements for these contracts are not considered as receipts of premium or payments of losses, but rather are considered as deposits received or returned. These contracts do not constitute a significant business activity for us, but, increased our cash flows on a net basis by $5 million in 2012.us.(5) The decrease in cash received for investments reflects the decrease in net investment income as well as timing differences of interest receipts between periods.(6)The decreaseincrease in cash paid for other expenses iswas principally attributable to non-recurring paymentstiming differences related to the settlement of APS integration costs, primarily compensation-related, during 2011.certain operating liabilities and various operating expense payments.(7)(6) (in millions):a $20.6 million protective tax payment made related to a dispute with the Internal Revenue Service (IRS), partially offset by a $6.5 million decrease in the final tax payments for the prior fiscal year. The protective tax payment is discussed in further detail in this section under the heading "Taxes."(7) The net cash payments made by our acquired entities during 2013 primarily reflect tax payments made for the prior fiscal year, payments made for acquisition related expenses, and a concentration of operating expenses normally paid in the first quarter. Estimated tax payments in 2012 were higher as compared to 2011 by $8.9 million.Federal tax refunds received in 2011 of $7.0 millionPayments of $5.9 million made in 2011 for the 2008 and 2007 tax years as a result of federal tax return audits conducted by the Internal Revenue Service. The payments reduced tax liabilities recognized prior to January 1, 2011 and did not increase or decrease 2011 tax expense.Our operating activities provided positive cash flows of approximately $53.0 million and $75.9 million for the six months ended June 30, 2011 and 2010, respectively. Operating cash flows for 2011the three months endedMarch 31, 2012 and 20102011 compare as follows:(In millions) Operating
Cash Flow $ 76 (19 ) (9 ) 24 (12 ) (12 ) 7 (2 ) $ 53 (In millions) Cash provided by operating activities three months ended March 31, 2011 $ 25 Increase (decrease) in operating cash flows for the three months ended March 31, 2012: Increase in premium receipts (1) 5 Decrease in payments to reinsurers (2) 11 Increase in losses paid, net of reinsurance recoveries (3) (11 ) Increase in Federal and state income tax payments (4) (6 ) Other amounts not individually significant, net 4 Cash provided by operating activities three months ended March 31, 2012 $ 28 (1) The declineincrease in premium receipts was primarily reflects a $10.0 million reduction in gross written premiums at our subsidiaries other than APS. Written premiums associated with two-year term policiesattributable to increased by approximately $6.9 million forpremium volume during the six-month period ended 2011 as compared to 2010, with approximately halffirst three months of the written amount scheduled to be collected in 2012. Additionally, in 2011 more of our insureds elected to take advantage of payment plans offered to them.39(2) Reinsurance contracts are generally for premiums written in a specific annual period, but, canabsent a commutation agreement, remain in effect until all claims under the contract have been resolved. Some contracts require annual settlements while others require settlement only after a number of years have elapsed, thus the amounts paid can vary widely from period to period.(3) The timing of our net loss payments varies from period to period because the process for resolving claims is complex and occurs at an uneven pace depending upon the circumstances of the individual claim. The increase in paid losses for the first three months of 2012 reflected an increase in claims closed during 2012. (4) The timing of reinsurance recoveries varies from period to period and can depend upon the terms of the applicable reinsurance agreement, the nature of the underlying claim and the timing and amount of underlying loss payments.(5)Thenet increase in tax payments primarily reflected:reflected the following:20112012 were higher as compared to 20102011 by $ 9.4$4.8 million.were $3.6of $7.1 million higher as compared to 2010.Federalfederal tax return audits conducted by the Internal Revenue Service.a reinsurance brokerbrokers to assist us in the placement of our reinsurance coverage and in the analysis of the credit quality of our reinsurers. We base our reinsurance buying decisions on an evaluation of the then-current financial strength, rating and stability of prospective reinsurers. However, the financial strength of our reinsurers, and their corresponding ability to pay us, may change in the future due to forces or events we cannot control or anticipate.TaxesWe haveIn December 2012 we received a draft Notice of Proposed Adjustment (NOPA) from the IRS related to its audit of our 2009 and 2010 federal income tax return stating that the IRS intends to disallowwhich disallows a substantial portion of the loss and loss adjustment expense deductions taken for the 2009 and 2010 fiscal years and would thereby increase our current tax liability by approximately $130 million. We believe that our loss and loss adjustment expense deduction taken onwas computed in a manner consistent with tax law, our returns for these years.past practices, and the practices of other liability insurers, and we haveAs now written, the Notice of Proposed Adjustment would requireAdditional tax payments that we reduce our current deduction for loss and loss adjustment expenses, thereby increasing our current tax liability by approximately $100 million including interest associated with the timingmight be made as a result of the payment. For financial reporting purposes, the tax liability asserted in the Notice of Proposed Adjustment would be offset, excluding the interest component, by the establishment of a deferred tax asset in recognition that these losses and loss adjustment expenses will be deductible in future periods. We believe that our loss and loss adjustment expense deduction was computed in a manner consistent with tax law, our past practices, and the practices of other MPL insurers. We remain in discussions with the IRS, challenging the position asserted in the draft Notice of Proposed Adjustment. There are other taxpayers with legal actions pending against the IRS in the United States Tax Court challenging IRS audit findings with regard to loss and loss adjustment expense deductions, and any rulings on these cases may influence the timing and amount of any asserted additional tax liability in any final report we receive from the IRS, and in our response to the final report. Any payments madeNOPA would come out of our cash and investments and could impact future investment earnings, but, except for interest on past-due taxes, if any, will not change recorded tax expense will not change.expense. We have considered this matter in establishing our liability for uncertain tax matters. We do not know when a final resolution will be reached with the IRS, or the amount of additionalextent, if any, to which we might be required to accelerate our tax payments or the amount of interest, thatif any, we might be asserted.4041June 30, 2012: Included in Carrying Value: (In thousands) Carrying
Value Unrealized
Gains Unrealized
Losses (1) $ 231,776 $ 14,884 $ (17 ) AA+ (2 ) 6 % 71,008 5,386 (13 ) AA+ (2 ) 2 % 302,784 20,270 (30 ) AA+ (2 ) 7 % 122,242 8,145 — AA 3 % 392,362 29,118 (27 ) AA 10 % 696,623 47,608 (142 ) AA- 17 % 1,211,227 84,871 (169 ) AA 30 % 422,757 16,034 (1,102 ) A 10 % 3,281 11 — AA+ (2 ) <1 % 96,689 5,685 (350 ) BBB 2 % 281,632 19,486 (376 ) BBB+ 7 % 618,805 39,239 (1,084 ) BBB+ 15 % 11,580 443 (1 ) A- <1 % 1,434,744 80,898 (2,913 ) A- 35 % 448,384 27,042 (114 ) AA+ (2 ) 11 % 16,139 258 (611 ) BB <1 % 7,832 319 (1,209 ) BBB <1 % 4,582 69 (43 ) B- <1 % 74,240 5,591 (58 ) AAA 2 % 21,675 570 — AAA 1 % 51,883 418 (3 ) AAA 1 % 15,784 314 — AAA <1 % 640,519 34,581 (2,038 ) AA+ 16 % 3,589,274 220,620 (5,150 ) AA- 88 % 54,086 — — 1 % 23,938 — — 1 % 39,176 — — 1 % 9,718 — — <1 % 14,555 — — <1 % 13,115 — — <1 % 154,588 — — 4 % 167,914 — — 4 % 53,571 — — 1 % 89,314 — — 2 % — — — — 24,028 — — 1 % 113,342 — — 3 % 4,301 — — <1 % 15,864 — — <1 % 1,677 — — <1 % 21,842 — — 1 % $ 4,100,531 $ 220,620 $ (5,150 ) 100 % Included in Carrying Value: ($ in thousands) Carrying
Value Unrealized
Gains Unrealized
Losses Average
Rating (1) % Total
InvestmentsFixed Maturities Government U.S. Treasury $ 231,004 $ 14,373 $ (301 ) AA+ (2) 5 % U.S. Government-sponsored enterprise 59,553 4,517 (18 ) AA+ (2) 1 % Total government 290,557 18,890 (319 ) AA+ (2) 7 % State and Municipal Bonds Pre-refunded 188,944 10,637 — AA 4 % General obligation 349,502 24,288 (203 ) AA+ 8 % Special revenue 754,082 45,696 (698 ) AA 17 % Total state and municipal bonds 1,292,528 80,621 (901 ) AA 30 % Corporate Debt Financial institutions 449,930 24,724 (183 ) A 10 % Communications 117,979 5,725 (140 ) BBB 3 % Utilities/Energy 295,761 21,024 (348 ) BBB+ 7 % Industrial 678,789 42,848 (1,174 ) BBB+ 16 % Other 11,243 343 (4 ) A <1% Total corporate debt 1,553,702 94,664 (1,849 ) A- 36 % Securities backed by: Agency mortgages 282,241 14,363 (600 ) AA+ (2) 7 % Non-agency mortgages 6,271 201 (1 ) A <1% Subprime home equity loans 7,174 95 (402 ) BBB+ <1% Alt -A mortgages 6,835 400 (442 ) CCC+ <1% Agency commercial mortgages 47,436 1,749 (13 ) AA+ (2) 1 % Other commercial mortgages 74,369 4,343 (21 ) AAA 2 % Credit card loans 17,273 513 (10 ) AAA <1% Automobile loans 36,142 242 (4 ) AAA 1 % Other asset loans 12,552 226 (7 ) AA <1% Total asset-backed securities 490,293 22,132 (1,500 ) AA+ 11 % Total fixed maturities 3,627,080 216,307 (4,569 ) A+ 84 % Equities Financial 80,312 — — 2 % Utilities/Energy 39,315 — — 1 % Consumer oriented 64,467 — — 1 % Technology 14,611 — — <1% Industrial 39,558 — — 1 % All Other 19,482 — — <1% Total equities 257,745 — — 6 % Short-Term 149,384 — — 3 % Business-owned life insurance (BOLI) 52,850 — — 1 % Investment in Unconsolidated Subsidiaries Investment in tax credit partnerships 150,649 — — 3 % Investment in LPs, carried at NAV 47,540 — — 1 % Total investment in unconsolidated subsidiaries 198,189 — — 5 % Other Investments FHLB capital stock 3,449 — — <1% Investments in LP/LLCs, carried at cost 28,173 — — 1 % Other 1,482 — — <1% Total other investments 33,104 — — 1 % Total Investments $ 4,318,352 $ 216,307 $ (4,569 ) 100 % (1) A weighted average rating is calculated using available ratings from Standard & Poor’s, Moody’s and Fitch. The table presents the Standard & Poor’s rating that is equivalent to the computed average. (2) Aaa.Aaa and the Fitch rating is AAA.42June 30, 2012March 31, 2013 is presented in an Investor Supplement we make available in the Investor Relations section of our website, www.proassurance.com, or directly at www.proassurance.com/investorrelations/supplemental.aspx.$50$50 million and $90$70 million of our investments will mature (or be paid down) each quarter of the next year and become available, if needed, to meet our cash flow requirements. The primary outflow of cash at our insurance subsidiaries is related to paid losses and operating costs, including income taxes. The payment of individual claims cannot be predicted with certainty; therefore, we rely upon the history of paid claims in estimating the timing of future claims payments. To the extent that we may have an unanticipated shortfall in cash we may either liquidate securities or borrow funds under existing borrowing arrangements through our $150 million credit facility and the FHLB system. However, givenIn December 2012 we elected to partially fund our acquisition of Medmarc by borrowing $125 million from our existing credit facility on a fully secured basis as this allowed us to continue to hold rather than liquidate certain higher yielding securities. At March 31, 2013, $25 million of the relatively shortcredit facility remains available for use. Given the duration of our investments, we do not foresee any such shortfall.a shortfall that would require us to meet operating cash needs through additional borrowings. Additional information regarding the credit facility is detailed in Note 89 of the Notes to Condensed Consolidated Financial Statements.95%93% of our fixed maturities being investment grade securities as determined by national rating agencies. The weighted average effective duration of our fixed maturity securities at June 30, 2012 is 3.8March 31, 2013 was 3.9 years; the weighted average effective duration of our fixed maturity securities combined with our short-term securities and cash was 3.7 years.3.6 years.We increasedprimarily attributable to the equity portfolio obtained from the acquisition of Medmarc and market appreciation. investment in tax credit limited partnerships by an additional $7was approximately $150.6 million at March 31, 2013 and $32$87.3 million during at December 31, 2012. The carrying value reflected our total commitments (both funded and unfunded) to the first six months of 2012 and 2011, respectively.partnerships, less amortization, since our initial investment. These investments are comprised of multiple separate limited partner interests designed to generate investment returns by providing tax benefits to investors in the form of project operating losses and tax credits. The related properties are principally low income housing properties. The $89.3We fund these investments based on funding schedules maintained by the partnerships. We funded approximately $30.2 million carrying value during the three months endedMarch 31, 2013, and $12.2 million during the three months endedMarch 31, 2012. Approximately $55.8 million and $20.5 million of the partnerships reflects theour total commitments to the tax credit partnerships (less amortization) of which approximately $32.7 million is not yet funded as of June 30, 2012. As of June 30, 2011 the carrying value of the partnerships approximated $90.0 million, of which approximately $61.0 million had not yet been funded.corporations. Entities thatcorporations or may have significant European exposure maya reliance on Eurocurrency denominated business. Should Europe suffer credit downgrades due to European sovereign debt exposurea severe recession or due to European creditor exposure if they have significant business in the Euro-zone or Eurocurrency denominated business should eitherfail, issuers may suffer credit or both fail,profitability losses or shouldmay experience a severe European recession arise.June 30, 2012 include $127.1March 31, 2013 included $197.9 million (3% (5% of our total investments) where the issuer is domiciled in Europe or the underlying revenue stream supporting the security is European.OurAt March 31, 2013 we held non-European financial sector investments outsidedebt securities of Europe approximate $431.2approximately $375.3 million at June 30, 2012. Also, our.2011,2012, two of our largest reinsurers were domiciled in Europe, withEurope; our net receivables totalingwith these reinsurers totaled approximately $61 million. Our reinsurance receivables total $254.7$53 million. Net amounts due from reinsurers approximated $233.2 million at June 30, 2012.March 31, 2013.43In Junewe entered into agreementsthrough a conversion from a reciprocal to acquirea stock insurance company. IND, which had net earned premium for the 2012 calendar year of approximately $9.4 million, primarily provides medical professional liability insurance to physicians. We acquired Medmarc Mutual Insurance Company, now Medmarc Casualty Insurance Company, and its subsidiaries (Medmarc) and Independent Nevada Doctors Insurance Exchange (IND). Medmarc will be acquiredeffective January 1, 2013 through a sponsored demutualization, that will provide Medmarc’s eligible members with cash paymentsas discussed in more detail in Note 2 of $146.2 million and future policy credits of $7.5 million. The transaction is expectedthe Notes to close in early January 2013.Condensed Consolidated Financial Statements. Medmarc is an underwriter of productproducts liability insurance for medical technology and life sciences companies and also underwrites a book of legal professional liability insurance. Medmarc had direct writtennet earned premium of $41 million for the 2012 calendar year ended December 31, 2011of $30.0 million, of which $20.9 million related to medical and statutorylife sciences corporate liability coverages, and $9.1 million related to legal professional liability coverages. A gain was recognized on the acquisition of Medmarc of $35.5 million as the estimated fair value of net assets of $160 million at March 31, 2012. The transaction is subject to customary conditions, including approval by Medmarc’s eligible members and insurance regulators in Vermont where Medmarc is domiciled. IND is a Nevada reciprocal exchange and in 2011 wasacquired exceeded the leading writer of MPL insurance in the state of Nevada. IND will become a part of ProAssurance through a conversion from a reciprocal to a stock insurance company. The IND transaction requires approval of IND subscribers and the Nevada Division of Insurance. Proceeds from the transaction will be paid in cash to eligible IND subscribers; termspurchase consideration given. Note 2 of the transaction are not materialNotes to our financial statements. It is anticipated that both acquisitions will be funded with existing capital.On November 30, 2010, we acquired 100% of the outstanding shares of American Physicians Service Group, Inc. (APS), a MPL provider principally insuring physicians in the state of Texas, in a transaction valued at $237 million including cash paid of $233 million and liabilities assumed of $4 million.sixthree months ended June 30, 2012. We reacquiredMarch 31, 2013 or 2012. At March 31, 2013, approximately 259,000 common shares having a total cost of $15.4$135.1 million during the six-month period ended June 30, 2011, including approximately 6,900 forfeited employer match shares (cost basis of $0.4 million) reacquired due to the termination of the ProAssurance Corporation Stock Ownership Plan. At June 30, 2012, approximately $153.5 million of Board authorizations for the repayment of debt or repurchase of common shares remainremained available for use, of which $17 million was used in July 2012 to repay the 2019 Note Payable. The remaining Board authorization at June 30, 2012 has been reduced due to repayment notices provided to debt trustees in May and June of 2012 that totaled $35 million (see discussion under “Debt”).of $0.25 per share in bothtotaling $15.4 million and $7.7 million during the first and second quarters of 2012;2013 and 2012, respectively. The dividends were paid in April 2013 and 2012, respectively. No dividends were paid during the first quarter dividend totaled $7.7 million and wasof 2013, because we accelerated the payment of dividends declared during the fourth quarter of 2012 that would normally have been paid in April 2012;January 2013. Dividends of $7.6 million declared in the secondfourth quarter dividend totaled $7.7 million and wasof 2011 were paid in Julyduring the first quarter of 2012. Any decision to pay future cash dividends is subject to the Board’s final determination after a comprehensive review of financial performance, future expectations and other factors deemed relevant by the Board. The liability for unpaid dividends is included in Other Liabilities.44Our long-term debt as of June 30, 2012 is comprised of the following:($ in thousands) Contractual Rate Outstanding Principal 4.3% (1) $ 22,992 $ 22,992 4.3% (1) 12,000 12,000 6.6% (3) 16,940 14,777 N/A — — $ 49,769 (1)Adjusted quarterly based on LIBOR.(2)The 2019 Note Payable is valued at fair value. See Note 8 of the Notes to Condensed Consolidated Financial Statements.(3)A related interest rate swap fixes rate at 6.6%. See Note 8 of the Notes to Condensed Consolidated Financial Statements.(4)No balance outstanding as of June 30, 2012; expires April 15, 2014.Prior to June 30, 2012, we obtained required approvals and notified the debt trustees of our intention to repay the Trust Preferred Securities due 2034 and Surplus Notes due May 2034 in August 2012. The principal balances, totaling $35 million, will be repaid at no gain or loss in August 2012.In July 2012 we repaid in full the $16.9 million outstanding principal of the 2019 Note Payable and terminated the related interest rate swap. will recognizehave a $2.5 million loss on the early repayment of the Note and termination of the swap in the third quarter of 2012.Our revolving credit agreement that allows us to borrow up to $150 that would be used for general corporate purposes, including, but not limited to, short-term working capital, share repurchases as authorized by the Board, and support for other activities we enter into in the normal course of business. To date,The agreement expires April 15, 2016. At March 31, 2013 and December 31, 2012 we have nothad borrowed any funds$125 million under the agreement, on a fully secured basis. The borrowing at March 31, 2013 is repayable in June 2013, but repayment can be deferred until expiration of the credit agreement. also a member of the FHLB.a number of FHLBs. Through membership, we have access to secured cash advances which can be used for liquidity purposes or other operational needs. To date, we have not established a FHLB line of credit or materially utilized our membership.its borrowing arrangements.the revolving credit agreement. Additional information regarding our debt is provided in Note 89 of the Notes to Condensed Consolidated Financial Statements. and Six Months Ended June 30, 2012March 31, 2013 and 2011below)on the following page) are presented in the table below. The $57 million improvement in net income in 2013 as follows: (In millions, except per share data) 2012 2011 2012 2011 $ 58.5 $ 55.1 $ 114.1 $ 102.8 $ 59.5 $ 53.7 $ 107.7 $ 98.6 $ 1.89 $ 1.79 $ 3.69 $ 3.33 $ 1.92 $ 1.74 $ 3.49 $ 3.20 Three Months Ended
March 31(In millions, except per share data) 2013 2012 Net income $ 112.9 $ 55.6 Operating income $ 60.0 $ 48.2 Net income per diluted share $ 1.82 $ 0.90 Operating income per diluted share $ 0.97 $ 0.78 fromfor the three and six months ended June 30, 2012March 31, 2013 and 20112012 compare as follows:Revenuesforduring the 2012 three- and six-month periods2013three-month period by approximately $5.8$2.1 million or 4.2%1.5%. Our acquisitions of Medmarc and $1.2IND contributed an additional $10.2 million or 0.5%, respectively, principally reflecting the effects of a competitive market place. The effects of competition were mitigated by an increase in tail premiums written of $1.9 million for the 2012 three-month period and $10.3 million for the 2012 six-month period. Also, a reduction in the estimated premiums owed under our reinsurance arrangements increased net premiums earned during the 2013 three-month period. In addition, the favorable emergence of losses ceded to our reinsurers resulted in a $4.8 million reduction to ceded premium under the variable component of our reinsurance arrangements. These positive factors were offset by $2.9a competitive marketplace and a $6.9 million for both the three- and six-month periods.45decreased by $1.6increased $0.5 million or 4.7%1.5% for the 2012 2013three-month period and $5.0 million or 7.2% for. Net investment income decreased during the six-month period. Net Investment Income decreased $1.8 million and $4.5 million, for the three- and six-month periods, respectively,2013three-month period primarily due to lower yields on our fixed income securities. Equity in Earnings of Unconsolidated Subsidiaries increased $0.2 million for the 2012 three-month period and decreased $0.5 million for the 2012 six-month period primarily reflecting the net effect of the amortization of a larger investment in tax credit partnerships and higherportfolio, while earnings from our interests in certainunconsolidated subsidiaries increased due to stronger earnings from investment LPs.The three months ended June 30, 2012 resulted in a net realized investment loss of $1.5 million as compared to net realized investment gains of $2.2 million for the same period in 2011. $9.1approximately $16.0 million for the six months ended June 30, higher than in 2012 as compared. The change was principally attributable to $6.3 million for the 2011 six-month period. Ouran increase in our average equity trading portfolio generated holding losses in the second quarter of 2012 which partially offset holding gains generated during the first quarter of 2012. Net gains from the sale of available-for-sale securities were less in 2012 than in 2011 for both the three-investment and six-month periods. Impairments recognized in 2012 were lower than in 2011 for both the three-month and the six-month period.Expensesdecreaseddecreased by $6.4$7.0 million or 5.6% and increased by $0.8 million or 0.4% for5.9% in the 2012 three- and six-month periods, respectively.2013three-month period. The decline for the three-month period was principally attributable to a lower volume for physician non-tail exposures. For the six-month period, the effectrisk exposures and changes to our mix of a lower volume for non-tail exposures was more than offset by an increase in tail exposures. We expect higher losses per exposure for tail coverages. Werisks. Favorable development of prior accident year reserves reduced calendar year net losses by $60.1$53.1 million and $107.5$47.5 million for the 2012 three-2013 and six-month periods, respectively, and by $50.2 million and $90.2 million for the same periods in 2011 as a result of our review of our estimate of net losses incurred for prior accident years.increasedincreased by $2.5$2.9 million or 7.7%8.4% in the 2013three-month period, which primarily reflected the inclusion of the operating costs of newly acquired entities, Medmarc and $1.2 million or 1.8% forIND, a portion of which were non-recurring. Additionally, the 2012 three- and six-month periods, respectively, primarily reflecting higher salary costs in 2012 and the change in timingamortization of recognition ofdeferred policy acquisition expenses resulting fromcosts decreased in 2013, partially offsetting the expense increases associated with the new FASB guidance.RatiosOur net loss ratio decreased by 10.4 percentage points for the 2012 three-month period and 6.0 percentage points for the 2012 six-month period, reflecting reductions of 9.2 percentage points and 6.7 percentage points, respectively, attributable to prior year favorable development. Our current accident year net loss ratio decreased 1.23.8 percentage points in the 2013three-month period, primarily reflecting a favorable effect from changes to our estimate of ceded premium and increased 0.7 percentage pointsa reduced number of tail risks insured. Our calendar year net loss ratio was 42.8% for the 2013three-month period as compared to 51.4% for the 2012 three-three-month period, with the decrease reflecting the improved current accident year net loss ratio and six-month periods, respectively, principally due to changesthe emergence of a higher amount of favorable development in the mix of insured risks.2.8 and 0.82.5 percentage points forin the 2012 three-2013three-month period, principally reflecting the effect of lower net premiums earned in 2013 and six-month periods, respectively, reflecting higherthe effect of larger non-recurring expenses and a decline in net earned premium during 2012.2013 as compared to 2012.declined(calculated as our combined ratio, less our investment income ratio) decreased by 7.4 and 3.75.4 percentage points forin the 2012 three- and six-month periods, respectively,2013three-month period, reflecting thean improved net loss ratio, partially offset by a higher expense ratio and a lower investment ratio.is 10.4%was 13.4% in the 2013three-month period and 10.3%10.2% in the 2012three-month period. The calculation of return on equity for the 2012 three- and six-month periods, respectively,2013three-month period excluded the effect of the $35.5 million gain on an annualized basis.46June 30, 2012 is $74.30March 31, 2013 as compared to $70.84 at December 31, 2011. The increase primarily reflects2012 is shown in the effect of our 2012 net income and an increase in accumulated other comprehensive income, partially offset by dividends declared during the six months ended June 30, 2012 which reduced our book value per share by $0.50.following table. Due to the size of our Shareholders’ Equity (approximately $2.3$2.4 billion at June 30, 2012)March 31, 2013), the growth rate of our book value per share may slow. The past growth rates of our book value per share do not necessarily predict similar future results. Book Value Per Share Book Value Per Share at December 31, 2012 $ 36.85 Increase (decrease) to book value per share during the three months ended March 31, 2013 attributable to: Dividends declared (0.25 ) Net income 1.83 Decline in accumulated other comprehensive income (0.13 ) Other (0.11 ) Book Value Per Share at March 31, 2013 $ 38.19 OperatingIn calculating operating income, excludeswe have excluded the after-tax effects of net realized investment gains or losses, guaranty fund assessments, a gain recognized as the result of an acquisition and in 2012, the effect of confidential settlements that do not reflect normal operating results. We believe operating income presents a useful view of the performance of our insurance operations, but should be considered in conjunction with net income computed in accordance with GAAP. (In thousands, except per share data) 2012 2011 2012 2011 $ 58,453 $ 55,096 $ 114,098 $ 102,790 1,548 (2,200 ) (9,130 ) (6,324 ) (1 ) (15 ) (25 ) (58 ) — — (714 ) — 1,547 (2,215 ) (9,869 ) (6,382 ) (541 ) 775 3,454 2,234 $ 59,459 $ 53,656 $ 107,683 $ 98,642 $ 1.89 $ 1.79 $ 3.69 $ 3.33 0.03 (0.05 ) (0.20 ) (0.13 ) $ 1.92 $ 1.74 $ 3.49 $ 3.20 47 Three Months Ended March 31 (In thousands, except per share data) 2013 2012 Net income $ 112,850 $ 55,645 Items excluded in the calculation of operating income: Net realized investment (gains) losses (26,680 ) (10,677 ) Guaranty fund assessments (recoupments) (1 ) (23 ) Gain on Acquisition (35,492 ) — Effect of confidential settlements, net — (714 ) Pre-tax effect of exclusions (62,173 ) (11,414 ) Tax effect, at 35%, exclusive of non-taxable gain on acquisition 9,338 3,995 Operating income $ 60,015 $ 48,226 Per diluted common share: Net income $ 1.82 $ 0.90 Effect of exclusions (0.85 ) (0.12 ) Operating income per diluted common share $ 0.97 $ 0.78 and Six Months Ended June 30, 2012March 31, 2013 Compared to Three and Six Months Ended June 30, 2011 Three Months Ended June 30 Six Months Ended June 30 ($ in thousands, except share data) 2012 2011 Change 2012 2011 Change $ 131,266 $ 137,063 $ (5,797 ) $ 267,925 $ 269,140 $ (1,215 ) 34,510 36,297 (1,787 ) 68,003 72,457 (4,454 ) (2,227 ) (2,416 ) 189 (4,293 ) (3,780 ) (513 ) (1,548 ) 2,200 (3,748 ) 9,130 6,324 2,806 1,868 1,685 183 3,675 4,273 (598 ) 163,869 174,829 (10,960 ) 344,440 348,414 (3,974 ) 55,132 69,394 (14,262 ) 133,437 146,493 (13,056 ) (7,048 ) (5,041 ) (2,007 ) (15,154 ) (11,717 ) (3,437 ) 48,084 64,353 (16,269 ) 118,283 134,776 (16,493 ) 35,405 32,871 2,534 69,803 68,578 1,225 826 918 (92 ) 1,651 1,713 (62 ) 84,315 98,142 (13,827 ) 189,737 205,067 (15,330 ) 79,554 76,687 2,867 154,703 143,347 11,356 21,101 21,591 (490 ) 40,605 40,557 48 $ 58,453 $ 55,096 $ 3,357 $ 114,098 $ 102,790 $ 11,308 $ 1.91 $ 1.80 $ 0.11 $ 3.73 $ 3.36 $ 0.37 $ 1.89 $ 1.79 $ 0.10 $ 3.69 $ 3.33 $ 0.36 36.6 % 47.0 % (10.4 ) 44.1 % 50.1 % (6.0 ) 26.8 % 24.0 % 2.8 25.7 % 24.9 % 0.8 63.4 % 71.0 % (7.6 ) 69.8 % 75.0 % (5.2 ) 37.1 % 44.5 % (7.4 ) 44.4 % 48.1 % (3.7 ) 26.5 % 28.2 % (1.7 ) 26.2 % 28.3 % (2.1 ) 10.4 % 11.4 % (1.0 ) 10.3 % 10.8 % (0.5 ) Three Months Ended March 31 ($ in thousands, except per share data) 2013 2012 Change Revenues: Net premiums earned $ 134,578 $ 136,659 $ (2,081 ) Net investment income 32,126 33,492 (1,366 ) Equity in earnings (loss) of unconsolidated subsidiaries (223 ) (2,066 ) 1,843 Net investment result 31,903 31,426 477 Net realized investment gains (losses) 26,680 10,677 16,003 Other income 1,813 1,809 4 Total revenues 194,974 180,571 14,403 Expenses: Losses and loss adjustment expenses 60,887 78,305 (17,418 ) Reinsurance recoveries (3,261 ) (8,106 ) 4,845 Net losses and loss adjustment expenses 57,626 70,199 (12,573 ) Underwriting, policy acquisition and operating expenses 37,285 34,398 2,887 Interest expense 371 825 (454 ) Total expenses 95,282 105,422 (10,140 ) Gain on acquisition 35,492 — 35,492 Income before income taxes 135,184 75,149 60,035 Income taxes 22,334 19,504 2,830 Net income $ 112,850 $ 55,645 $ 57,205 Earnings per share: Basic $ 1.83 $ 0.91 $ 0.92 Diluted $ 1.82 $ 0.90 $ 0.92 Net loss ratio 42.8 % 51.4 % (8.6 ) Underwriting expense ratio 27.7 % 25.2 % 2.5 Combined ratio 70.5 % 76.6 % (6.1 ) Operating ratio 46.6 % 52.0 % (5.4 ) Tax ratio 16.5 % 26.0 % (9.5 ) Return on equity* 13.4 % 10.2 % 3.2 Annualized48both by rates charged and by the amount and type of coverage an insured chooses to purchase, (3) the timing of premium written for business generated bythrough multi-period policies, and (4) the amount of new business we generate.generate, including the business generated as a result of acquisitions. The professional liability market remains competitive with some competitors choosing to compete primarily on price.arewere as follows: Three Months Ended June 30 Six Months Ended June 30 ($ in thousands) 2012 2011 Change 2012 2011 Change $ 102,228 $ 115,302 $ (13,074 ) (11.3 %) $ 272,676 $ 276,115 $ (3,439 ) (1.2 %) (10,358 ) (8,291 ) (2,067 ) 24.9 % (22,808 ) (19,221 ) (3,587 ) 18.7 % $ 91,870 $ 107,011 $ (15,141 ) (14.1 %) $ 249,868 $ 256,894 $ (7,026 ) (2.7 %) Three Months Ended March 31 ($ in thousands) 2013 2012 Change Gross premiums written $ 163,210 $ 170,448 $ (7,238 ) (4.2 %) Ceded premiums written (13,157 ) (12,450 ) (707 ) 5.7 % Net premiums written $ 150,053 $ 157,998 $ (7,945 ) (5.0 %) arewere as follows: Three Months Ended June 30 Six Months Ended June 30 ($ in thousands) 2012 2011 Change 2012 2011 Change $ 73,795 $ 89,439 $ (15,644 ) (17.5 %) $ 205,817 $ 221,525 $ (15,708 ) (7.1 %) 10,048 10,164 (116 ) (1.1 %) 21,724 22,076 (352 ) (1.6 %) 8,196 7,336 860 11.7 % 15,272 13,585 1,687 12.4 % 4,216 4,379 (163 ) (3.7 %) 10,316 9,685 631 6.5 % 329 273 56 20.5 % 706 738 (32 ) (4.3 %) 5,644 3,711 1,933 52.1 % 18,841 8,506 10,335 121.5 % $ 102,228 $ 115,302 $ (13,074 ) (11.3 %) $ 272,676 $ 276,115 $ (3,439 ) (1.2 %) Three Months Ended March 31 (In thousands) 2013 2012 Change Gross premiums written: Professional liability Physicians, twelve month term $ 116,915 $ 125,973 $ (9,058 ) (7.2 %) Physicians, twenty-four month term 6,433 6,050 383 6.3 % Total Physicians 123,348 132,023 (8,675 ) (6.6 %) Other healthcare providers 11,483 12,007 (524 ) (4.4 %) Facilities, including hospitals 7,585 7,076 509 7.2 % Legal professionals 8,072 5,699 2,373 41.6 % Tail coverages, all policy types 6,319 13,197 (6,878 ) (52.1 %) Total professional liability 156,807 170,002 (13,195 ) (7.8 %) Medical and life science products liability 5,885 — 5,885 nm Other 518 446 72 16.1 % Total $ 163,210 $ 170,448 $ (7,238 ) (4.2 %) Three Months Ended March 31 (In thousands) 2013 Gross premiums written: Professional liability Physicians, twelve month term $ 3,476 Legal professionals 2,737 Total professional liability 6,213 Medical and life science products liability 5,885 Total $ 12,098 PremiumsAspolicies were our greatest source of premium revenues in both 2011, physician premiums declined during the 2012 second quarter period after having been nearly flat for the first quarter period.of 2012, reflecting the impact of an 87% retention rate and largely flat pricing on renewal business, partially offset by approximately $5 million of new physician business.expected timing differencespremium associated with two-year policies accounted for more than 35%both years is included in written premium in the period the policy is written; comparison of total physiciangross written premium decrease in both the second quarter and the year-to-date periods.is 88%was approximately 87% and 90%92% for the three and six months ended June 30, 2012, respectively, as compared to 90% for both the 2011 three-March 31, 2013 and six-month periods.2012, respectively. We calculate our retention rate as retained premium divided by all premium subject to renewal. Retention rates are affected by a number of factors. We may lose insureds to competitors or to alternative insurance mechanisms such as risk retention groups or self-insurance entities (often when physicians join hospitals or large group practices) or due to pricing or other issues. We may choose not to renew an insured as a result of our underwriting evaluation. Insureds may also terminate coverage because they have left the practice of medicine for various reasons, principally for retirement but also for personal reasons or due to disability or death.Charged rates for The decline in 2013 as compared to 2012 was primarily attributable to business lost to competitors, principally over pricing that did not meet our profit objectives.have averaged 2% higher1% lower than the expiring premiums during the 2012 three-month period and remained relatively flat for the 2012 six-month period. Our charged rates include2013. The pricing of our business includes the effects of filed rates, surcharges and discounts. The average increase for the second quarter is attributableWe continue to the mix of policies renewed during the period rather than to rate increases across all linesbase our pricing on expected losses, as indicated by our historical loss data and states. In the second quarter of 2012 as compared to second quarter 2011, more renewals were claims-made policies subjectavailable industry loss data. We are committed to a standard rate increase. Rates for claims made policies increase at renewal for four renewals (years) after the policy is initially written.49Approximately $5.6 million and $6.1 million of the written premium decrease for the three- and six-month periods, respectively, is associated with two-year term policies. Gross premiums written associated with these policies is $1.5 million and $7.6 million for the three and six months ended June 30, 2012, respectively, as comparedstructure that will allow us to $7.1 million and $12.6 million for the same respective periods in 2011. We offer two-year term policies (as opposed to a one-year term)fulfill our obligations to our physician insureds, in one selected jurisdiction. The premium associated with both years is included in written premium in the period the policy is written.New physician business written in 2012 approximated $2 million and $5 millionwhile generating competitive returns for the three- and six-month periods, respectively.Non-physician PremiumsNon-physicianour shareholders.Premium volume for these coverages is consistent with 2011.Hospital and facility premiums increased for the three- and six-month periods of 2012 primarily due to new business.Non-physician “other” premiums are primarily legal professional liability premiums. ChangesThe 2012 three-United States, principally through agent and six-month periods principally relate to legal professional liability premiums.Non-continuing premiums consist of premiums derived from optometry coverages discontinued in early 2012 and certain miscellaneous liability coverages which were discontinued in 2010 but that continued to produce small amounts of written premium in 2011.Tail Coverage PremiumsA large portion of the increaseThe decrease in tail premium for the 2012 six-month period is attributablein 2013 was principally due to a large single custom policy issued in 2012 for which there was no counterpart in 2013.hospital that terminated its self insurance arrangement.comparecompared as follows: Three Months Ended June 30 Six Months Ended June 30 ($ in thousands) 2012 2011 Change 2012 2011 Change $ 4,545 $ 5,870 $ (1,325 ) (22.6 %) $ 12,107 $ 12,567 $ (460 ) (3.7 %) (2,850 ) — (2,850 ) nm (2,850 ) — (2,850 ) nm 4,779 3,727 1,052 28.2 % 5,153 3,739 1,414 37.8 % — (5,634 ) 5,634 nm — (5,634 ) 5,634 nm 3,884 4,328 (444 ) (10.3 %) 8,398 8,549 (151 ) (1.8 %) �� $ 10,358 $ 8,291 $ 2,067 24.9 % $ 22,808 $ 19,221 $ 3,587 18.7 % We reinsure most of our MPL coverages under a single reinsurance agreement that is renewed annually. There was no significant change in treaty terms upon the last renewal of the program.Premiums ceded Three Months Ended March 31 ($ in thousands) 2013 2012 Change Ceded premiums written, exclusive of separately listed items below (1) $ 10,320 $ 12,076 $ (1,756 ) (14.5 %) Ascension Health Certitude program (2) 2,817 374 2,443 >100% Fully reinsured clinic program begun in 2013 (3) 2,404 — 2,404 nm Premiums ceded associated with acquired entities (4) 2,446 — 2,446 nm Reduction in premiums owed under reinsurance agreements, prior accident years (5) (4,830 ) — (4,830 ) nm Total ceded premiums written $ 13,157 $ 12,450 $ 707 5.7 % TheIn general we retain the first $1 million in risk insured by us and cede any coverages in excess of this amount. We pay our reinsurers a ceding premium in exchange for their accepting the risk, the ultimate amount owed under certain of our reinsurance arrangements is variable andwhich is determined by the loss experience of the business ceded, subject to minimumscertain minimum and maximums. Many years may elapse before all losses recoverable under a reinsurance arrangement are known. In the intervening periods, amounts owed are estimated. Premiums cededmaximum amounts.current period includes both our estimate of premiums owed under reinsurance arrangements of the current periodthree months ended March 31, 2013 and changes to our previous estimate of premiums owed under reinsurance arrangements of prior periods. During the second quarter of 2012 we reduced our estimate of premiums owed under reinsurance arrangements for prior years by $2.9 million.50A substantial portion of the policies renewed under the Ascension Health (Ascension) Certitude program during the 2012 second quarter are heavily reinsured by an Ascension affiliate. There was a nominal amount of Ascension premium written prior to the second quarter of 2011.During 2011, we commuted (terminated) certain of our reinsurance arrangements with Colisee Re (formerly AXA Reassurance S.A.) in return for approximately $4.3 million in cash. The commutation reduced Ceded Premium, on both a written and an earned basis, by $5.6 million and reduced Reinsurance Recoveries by approximately $4.0 million.(1) (2) (3) (4) The business written by Medmarc and IND is currently reinsured under separate reinsurance arrangements that existed at the time of those acquisitions. (5) Given the length of time that it takes to resolve our claims, many years may elapse before all losses recoverable under a reinsurance agreement are known. As a part of the process of estimating our loss reserves we also make estimates regarding the amounts recoverable under our reinsurance agreements. As previously discussed, the amounts ultimately owed under our reinsurance agreements are subject to the losses ceded under the agreements. In the current period we have decreased the expected losses and associated recoveries for prior year ceded losses, and this has in turn resulted in a decrease to our estimate of premiums ceded under these treaties. Decreases to estimates of premiums ceded related to prior accident years are fully earned in the period the change in estimates occur. Three Months Ended June 30 Six Months Ended June 30 2012 2011 Change 2012 2011 Change 8.9 % 9.3 % (0.4 ) 7.8 % 7.8 % — (3.0 %) — (3.0 ) (1.1 %) — (1.1 ) 4.2 % 3.0 % 1.2 1.7 % 1.3 % 0.4 — (5.1 %) 5.1 — (2.1 %) 2.1 10.1 % 7.2 % 2.9 8.4 % 7.0 % 1.4 Three Months Ended March 31 2013 2012 Change Ceded premiums ratio, excluding other listed factors 7.2 % 7.1 % 0.1 Effect on ceded premiums ratio from: Ascension Certitude program 1.6 % 0.2 % 1.4 Clinic fully reinsured outside primary reinsurance agreements 1.4 % — % 1.4 Premiums ceded associated with acquired entities 1.0 % — % 1.0 Reduction in premiums owed under reinsurance agreements, prior accident years (3.1 %) — % (3.1 ) Ceded premiums ratio, as reported 8.1 % 7.3 % 0.8 arewere as follows: Three Months Ended June 30 Six Months Ended June 30 ($ in thousands) 2012 2011 Change 2012 2011 Change $ 138,412 $ 142,409 $ (3,997 ) (2.8 %) $ 286,015 $ 283,783 $ 2,232 0.8 % (7,146 ) (5,346 ) (1,800 ) 33.7 % (18,090 ) (14,643 ) (3,447 ) 23.5 % $ 131,266 $ 137,063 $ (5,797 ) (4.2 %) $ 267,925 $ 269,140 $ (1,215 ) (0.5 %) Three Months Ended March 31 ($ in thousands) 2013 2012 Change Premiums earned $ 143,532 $ 147,602 $ (4,070 ) (2.8 %) Premiums ceded (8,954 ) (10,943 ) 1,989 (18.2 %) Net premiums earned $ 134,578 $ 136,659 $ (2,081 ) (1.5 %) two-yeartwenty-four month term. Tail coverage premiums are generally 100% earned in the period written because the policies insure only incidents that occurred in prior periods and are not cancellable. Additionally, ceded premium changes due to commutations or changes to estimates of premiums owed under reinsurance arrangementsagreements are fully earned in the period of change.The increase in2012 six-month2013 three-month period, is primarily attributableoffset by additional earned premium of $13.2 million contributed by Medmarc and IND. Our 2013 gross earned premium includes approximately $11.2 million of earned premium associated with Medmarc and IND policies written prior to tail premiums written. Componentsour acquisition of these operations. We expect Medmarc and IND policies written pre-acquisition to contribute gross earned premium of approximately $8.8 million, $4.0 million and $1.2 million in the increasesecond, third and fourth quarters of 2013, respectively.forduring 2013 reflected the 2012 three-previously discussed $4.8 million reduction related to prior accident years, partially offset by increases attributable to our Ascension business and six-month periods are detailed in the following table: ($ in thousands) Three Months
Ended June 30 Six Months
Ended June 30 $ (2,850 ) $ (2,850 ) 787 2,004 5,634 5,634 (1,771 ) (1,341 ) $ 1,800 $ 3,447 *See “Ceded Premiums Written.”51iswas as follows: Three Months Ended June 30 Six Months Ended June 30 ($ in thousands) 2012 2011 Change 2012 2011 Change $ 34,093 $ 36,682 $ (2,589 ) (7.1 %) $ 67,363 $ 72,634 $ (5,271 ) (7.3 %) 1,608 186 1,422 >100 % 2,649 416 2,233 >100 % 38 17 21 >100 % 57 73 (16 ) (21.9 %) 39 575 (536 ) (93.2 %) 441 1,564 (1,123 ) (71.8 %) 461 472 (11 ) (2.3 %) 918 936 (18 ) (1.9 %) (1,729 ) (1,635 ) (94 ) 5.7 % (3,425 ) (3,166 ) (259 ) 8.2 % $ 34,510 $ 36,297 $ (1,787 ) (4.9 %) $ 68,003 $ 72,457 $ (4,454 ) (6.1 %) Three Months Ended March 31 ($ in thousands) 2013 2012 Change Fixed maturities $ 30,854 $ 33,270 $ (2,416 ) (7.3 %) Equities 2,183 1,041 1,142 >100% Short-term investments and other invested assets 448 421 27 6.4 % Business owned life insurance 436 457 (21 ) (4.6 %) Investment fees and expenses (1,795 ) (1,697 ) (98 ) 5.8 % Net investment income $ 32,126 $ 33,492 $ (1,366 ) (4.1 %) The decreaseincomefixed maturities was flat for the three months ended March 31, 2013 as compared to the same period in 2012. In 2012 three-we repaid debt, paid a special dividend, and six-month periods primarily reflectsincreased our allocations to other asset classes, all of which reduced the funds available for investment in our fixed portfolio. Yields for our fixed maturity portfolio were generally lower in 2013. In order to maintain the quality and duration of our portfolio, we must reinvest maturities, paydowns and proceeds from sales in our fixed income portfolio at yields that are lower than the average yield on our portfolio. The result is that while the size of our fixed income portfolio remains largely the same, it is, in the aggregate, generating lower income. Additionally, the yields on our portfolio, combined with lower average fixed income investment balances. A $0.5 million and $0.9 million declinematurity securities acquired in the Medmarc and IND transactions, after adjustment as required by GAAP purchase accounting rules, approximated market yields on the acquisition dates which lowered our 2013 average consolidated tax equivalent yield by approximately 21 basis points. Yields for 2013 also reflected lower income produced by ourfrom Treasury Inflation-Protected Securities (TIPS) for the three- and six-month periods in 2012 contributed to the lower yield.The overall yield on our portfolio declined for the 2012 three- and six-month periods because we have not been able to reinvest proceeds from maturities, pay-downs and sales at rates comparable to expiring rates while maintaining our asset quality and the duration of our portfolio. available-for-sale fixed maturity securities during the three and six months ended June 30, 2012March 31, 2013 and 2011 are2012 were as follows: Three Months ended June 30 Six Months Ended June 30 2012 2011 2012 2011 4.0% 4.2% 3.9% 4.2% 4.5% 4.7% 4.5% 4.7% The level of Three Months Ended March 31 2013 2012 Average income yield 3.6% 3.8% Average tax equivalent income yield 4.2% 4.4% investmentequity portfolio increased in fixed maturity securities varies depending upon a number of factors, including, among others, our operating cash needs, anticipated shifts in credit markets, the attractiveness of other investment alternatives and cash needed for acquisitions or other capital purposes. In 20122013three-month period as compared to 2011, ourthe 2012three-month period primarily reflecting an increase in average investment balances of approximately 104%in 2013. Given the challenge in finding compelling returns in the fixed maturities decreased by approximately 3%income portfolio and 2% for the three-sensitivity of the value of the fixed income portfolio to rising interest rates, we have increased our allocation to dividend yielding equities and six-month periods, respectively.method,method. Results were as follows: (In thousands) 2012 2011 Change 2012 2011 Change $ 180 $ (535 ) $ 715 $ 770 $ 15 $ 755 (182 ) (593 ) 411 (728 ) (1,409 ) 681 (2,225 ) (1,288 ) (937 ) (4,335 ) (2,386 ) (1,949 ) $ (2,227 ) $ (2,416 ) $ 189 $ (4,293 ) $ (3,780 ) $ (513 ) Three Months Ended March 31 (In thousands) 2013 2012 Change Investment LPs $ 1,848 $ 590 $ 1,258 Business LLC interest — (546 ) 546 Tax credit partnerships (2,071 ) (2,110 ) 39 Equity in earnings (loss) of unconsolidated subsidiaries $ (223 ) $ (2,066 ) $ 1,843 portfolios.portfolios and secured debt. The performance of the LPs is affected by the volatility of equity and credit markets.52TheDuring 2012, operating losses reduced the carrying amount of our interest to zero and we no longer believe that the entity has been slowerwill be able to produce positive operating returns than initially anticipated and losses to date have fully eroded our initial investment.investment returns by providing tax benefits to fund investors in the form of project operating losses and tax credits. Our tax credit partnerships reduced our tax expenses by approximately $2.5$4.5 million and $5.1$2.6 million during the three and six months ended June 30, March 31, 2013 and 2012, respectively, while we recognized $2.2$2.1 million and $4.3 million of pre-tax amortization ($1.4for both periods (approximately $1.3 million and $2.8 million after tax) during the same respective periods on these investments as noted in the table above.investments; therefore, weinvestments as the tax benefit received represents a portion of the return provided by our tax-exempt bonds, BOLI, common and preferred stocks, and tax credit partnership investments (our tax-exempt investments). We impute a pro formapro-forma tax-equivalent investment result by adjusting the current tax benefit intoestimating the amount of investmentfully-taxable income a taxable investment would needneeded to produce to fairly compare to an investment with preferentialachieve the same after-tax result as is currently provided by our tax treatment.exempt investments. We believe this better reflects the economics ofbehind our decision to invest in certain asset classes that are either taxed at lower rates and/or result in reductions to our current federal income tax expense. (In thousands) 2012 2011 2012 2011 $ 34,510 $ 36,297 $ 68,003 $ 72,457 4,606 4,836 9,290 9,842 248 254 494 504 214 168 481 376 39,578 41,555 78,268 83,179 (2,227 ) (2,416 ) (4,293 ) (3,780 ) 3,818 2,831 7,861 4,860 1,591 415 3,568 1,080 $ 41,169 $ 41,970 $ 81,836 $ 84,259 Three Months Ended
March 31(In thousands) 2013 2012 Net investment income, as reported for GAAP $ 32,126 $ 33,492 Taxable equivalent adjustments, calculated using the 35% federal statutory tax rate: State and municipal bonds 4,922 4,684 BOLI 235 246 Dividends received 243 267 Pro forma tax-equivalent net investment income 37,526 38,689 Equity in earnings (loss) of unconsolidated subsidiaries, as reported for GAAP (223 ) (2,066 ) Taxable equivalent adjustment, calculated using the 35% federal statutory tax rate: Tax credit partnerships 6,874 4,043 Pro forma tax-equivalent equity in earnings (loss) of unconsolidated subsidiaries 6,651 1,977 Pro forma tax-equivalent investment results $ 44,177 $ 40,666 (In thousands) 2012 2011 2012 2011 $ (218 ) $ (319 ) $ (463 ) $ (769 ) — — (830 ) — — (746 ) (131 ) (2,133 ) (201 ) (113 ) (201 ) (681 ) (419 ) (1,178 ) (1,625 ) (3,583 ) 2,262 5,664 6,150 10,292 (89 ) (1,113 ) (183 ) (1,357 ) (50 ) 223 727 2,915 (3,032 ) (570 ) 4,905 (1,341 ) (220 ) (826 ) (844 ) (602 ) $ (1,548 ) $ 2,200 $ 9,130 $ 6,324 53We Three Months Ended
March 31(In thousands) 2013 2012 Other-than-temporary impairment losses, total: Residential mortgage-backed securities $ — $ (245 ) Corporate debt — (830 ) Other investments — (131 ) Net impairment losses recognized in earnings — (1,206 ) Gross realized gains, available-for-sale securities 3,114 3,887 Gross realized (losses), available-for-sale securities (75 ) (94 ) Net realized gains (losses), trading securities 2,789 777 Change in unrealized holding gains (losses), trading securities 20,852 7,937 Decrease (increase) in the fair value of liabilities carried at fair value — (624 ) Net realized investment gains (losses) $ 26,680 $ 10,677 credit-relatedin the three months endedMarch 31, 2013. All impairments in earnings of $0.4 million and $0.7 milliondebt securities recognized during 2012 were credit-related. three- and six-month periods, respectively, and $0.4 million and $1.5 million for the same respective periods of 2011, related to certain residential mortgage-backed securities because the expected future cash flows from the securities were less than our carrying value.We recognized credit-related impairments of $0.8 million related to a corporate debt security during the first quarter of 2012 due to deterioration of the credit standing of its issuer.We recognized impairments of $0.1 million during the first quarter of 2012 and $0.7 million and $2.1 million for the 2011 three- and six-month periods, respectively,fund.fund during the first quarter of 2012. The conversion occurred during the second quarter of 2012.overduring the previous year.first quarter of 2013 and last three quarters of 2012. Unrealized trading portfolio lossesgains in 2013 reflect favorable gainsboth higher average balances and improved stock market yields in the first quarter of 2012 which partially deteriorated in the second quarter.attributable to changefrom changes in the fair value of liabilities arein 2012 were entirely attributable to our 2019 Note Payable and the related interest rate swap, as discussedboth of which we repaid in Notes 2 and 8 of the Notes to Condensed Consolidated Financial Statements. and six months ended June 30, 2012March 31, 2013 and 20112012 by separating losses between the current accident year and all prior accident years. Net Losses ($ In millions) 2012 2011 Change 2012 2011 Change $ 108.2 $ 114.6 $ (6.4 ) $ 225.8 $ 225.0 $ 0.8 (60.1 ) (50.2 ) (9.9 ) (107.5 ) (90.2 ) (17.3 ) $ 48.1 $ 64.4 $ (16.3 ) $ 118.3 $ 134.8 $ (16.5 ) Net Loss Ratios* Three Months Ended
June 30 Six Months Ended
June 30 2012 2011 Change 2012 2011 Change 82.4 % 83.6 % (1.2 ) 84.3 % 83.6 % 0.7 (45.8 %) (36.6 %) (9.2 ) (40.2 %) (33.5 %) (6.7 ) 36.6 % 47.0 % (10.4 ) 44.1 % 50.1 % (6.0 ) *Net losses as specified divided by net premiums earned.54 Net Losses Three Months Ended March 31 ($ In millions) 2013 2012 Change Current accident year: PRA all other $ 102.6 $ 117.7 $ (15.1 ) Acquisitions 8.1 — 8.1 Consolidated $ 110.7 $ 117.7 $ (7.0 ) Prior accident years: PRA all other $ (53.1 ) $ (47.5 ) $ (5.6 ) Acquisitions — — — Consolidated $ (53.1 ) $ (47.5 ) $ (5.6 ) Calendar year: PRA all other $ 49.5 $ 70.2 $ (20.7 ) Acquisitions 8.1 — 8.1 Consolidated $ 57.6 $ 70.2 $ (12.6 ) and six months ended June 30, 2012March 31, 2013 and 20112012 compare as follows: Three Months Ended June 30 Six Months Ended June 30 2012 2011 Change 2012 2011 Change 82.2 % 83.2 % (1.0 ) 83.2 % 82.7 % 0.5 (1.8 %) — (1.8 ) (1.0 %) — (1.0 ) — (0.5 %) 0.5 — (0.2 %) 0.2 2.0 % 0.9 % 1.1 2.1 % 1.1 % 1.0 82.4 % 83.6 % (1.2 ) 84.3 % 83.6 % 0.7 Exclusive of the effect of items separately identified Net Loss Ratios* Three Months Ended March 31 2013 2012 Change Current accident year net loss ratio, excluding other listed factors 84.4 % 84.0 % 0.4 Effect attributable to: Reduction in premiums owed under reinsurance agreements, prior accident years (3.4 %) — % (3.4 ) Tail coverages 1.8 % 2.1 % (0.3 ) Net losses, acquisitions (0.5 %) — % (0.5 ) Current accident year net loss ratio, as reported 82.3 % 86.1 % (3.8 ) Prior accident year net loss ratio (39.5 %) (34.7 %) (4.8 ) Calendar year net loss ratio 42.8 % 51.4 % (8.6 ) the table above, the change in our 2012 current accident year net loss ratio is primarily attributable to changes in the mix of insured risks. As discussed under “Net Premiums Earned”, during the second quarter of 2012 we reduced our estimate of premiums owed under reinsurance arrangements which lowered our current accident year net loss ratio during the first three months of 2013 principally reflected the net effect of the following:bothprior accident years. This increase to net earned premium reduced the three- and the six-month periods as the reduction increased net premiums earned but had no effect on net losses incurred. A commutation recorded in 2011 (see “Net Premiums Earned”) decreased our 20112013 current accident year ratio. There was no such reduction in 2012.ratio; no commutationratio was recordedincreased in 2012. An increase inboth 2013 and 2012 due to tail coverages during 2012, particularly in the six-month period, partially offset these ratio declines asbecause we expectexpected higher losses for tailthese coverages than for our other professional liability coverages.Duringcoverages; however, the three-effect was less in 2013 due to a smaller amount of earned premium from tail coverages as compared to 2012.six-month periods of both 2012 and 2011, weIND, particularly the products liability business, were lower than the average for our other business, which decreased our average current accident year net loss ratio for 2013 as compared to 2012.on a net basis, related to reserves previously established for prior accident yearsreserves during the three months ended March 31, 2013 of $53.1 million within our retained layers of coverage ($1(generally, $1 million and below) and $6.9 million related to our ceded coverage layers (generally, above $1 million). The reduction to gross losses in the ceded coverage layers$60.1$47.5 million and $107.5 million for related to our retained layers of coverage during the three months ended March 31, 2012, three- and six-month periods, respectively, primarily related to accident years 2004 to 2009. We recognized favorable loss development of $50.2 million and $90.2 million for the same respective periods of 2011, primarily related to accident years 2004 to 2009.through 2009. A detailed discussion of factors influencing our recognition of loss development recognized is included in the Critical Accounting Estimates section of Item 2, under the caption “Reserve for Losses and Loss Adjustment Expenses.”2011both 2013 and has been thus far in 2012.2012.2012the three months endedMarch 31, 2013 and 20112012 underwriting, policy acquisition and operating expenses: Three Months Ended March 31 ($ in thousands) 2013 2012 Change Underwriting, policy acquisition and operating expenses $ 37,285 $ 34,398 $ 2,887 8.4 % threeacquisition date were written off rather than being expensed ratably over the term of the associated insurance policy.six months ended June 30: Three Months Ended June 30 Six Months Ended June 30 ($ in thousands) 2012 2011 Change 2012 2011 Change $ 35,216 $ 32,829 $ 2,387 7.3 % $ 68,985 $ 67,075 $ 1,910 2.8 % 189 42 147 >100 % 818 1,503 (685 ) (45.6 %) $ 35,405 $ 32,871 $ 2,534 7.7 % $ 69,803 $ 68,578 $ 1,225 1.8 % Insurance Operation Expenses$0.4 million Underwriting Expense Ratio Three Months Ended March 31 2013 2012 Change Underwriting expense ratio, excluding listed factors 23.8 % 23.7 % 0.1 Reduction in premiums owed under reinsurance agreements, prior accident years (0.8 %) — % (0.8 ) Reduction in net premiums earned from prior year (see below) 2.5 % — % 2.5 Non-recurring expenses 2.2 % 1.5 % 0.7 Underwriting expense ratio, as reported 27.7 % 25.2 % 2.5 insurance operationour consolidated underwriting expense ratio for 2013 was attributable to both the decline in net premiums earned, exclusive of premium earned from acquisitions and reductions to our estimate of ceded premiums (see discussion under "Premiums"), and to the effect of non-recurring expenses in 2013 as compared to 2012, as previously discussed. The normal operating expenses of our acquired business had a nominal effect on the ratio as it was offset, almost in its entirety, by the effect on the ratio of the net premium earned contributed by our acquired business.periodsperiod in 2011 primarily reflects the net effect of the following:–Salary and benefits expenses increased by $2.0 million and $3.9 million during the 2012 three- and six-month periods, respectively. The increase reflects higher stock compensation and bonus costs as well as additional costs incurred related to the enhancement of our customer service capabilities during 2012. We relocated a number of positions in order to create a centralized customer service center. Relocation benefits are being provided to affected employees as well as termination benefits for employees unable to relocate.55–As discussed in Notes 1 and 5 of the Notes to Condensed Consolidated Financial Statements, we adopted, on a prospective basis, new FASB guidance related to the deferral of policy acquisition costs. Our 2012 insurance operation expenses include policy acquisition expenses that would have been deferred to later periods under previous accounting guidance of approximately $1.1 million and $2.2 million for the 2012 three- and six-month periods, respectively. The new guidance affects the timing, but not the amount of acquisition costs ultimately expensed, as the decrease in the expense deferral reduces amortization of policy acquisition costs by the same amount, recognized over the term of the associated successful policies. Amortization of policy acquisition costs for the 2012 three- and six-month periods is lower by $0.5 million and $0.7 million, respectively, than would have been recognized under previous guidance.–Amortization of deferred policy acquisition costs reflects increases of $0.5 million and $1.3 million for the 2012 three- and six-month periods, respectively, related to the acquisition of APS in November 2010. Due to the application of GAAP purchase accounting rules, no asset for deferred policy acquisition costs was recognized as a part of the purchase price allocation of APS; consequently, amortization of deferred policy acquisition costs in 2011 was reduced.–On a sporadic basis our expenses are reduced by recoveries related to the settlement of litigation. Recoveries in 2012 were $0.8 million lower (and thus expenses on a net basis were higher) for the three and six months ended June 30, 2012 than for the comparable periods of 2011.–Costs associated with the operations acquired from APS, primarily personnel costs and professional fees, were approximately $1.8 million and $3.3 million lower in the 2012 three- and six-month periods, respectively, as compared to the same respective periods of 2011.–Various other operating costs were collectively higher by approximately $0.3 million for the 2012 three-month period and lower by $2.3 million for the 2012 six-month period.Underwriting Expense Ratio2012 Underwriting Expense Ratio * Three Months Ended June 30 Six Months Ended June 30 2012 2011 Change 2012 2011 Change 26.8 % 24.0 % 2.8 25.7 % 24.9 % 0.8 *Our expense ratio computations exclude agency expenses as discussed below.Approximately 1.8 and 0.7 percentage points of the three- and six-month increases in our underwriting expense ratio are attributable to the previously discussed overall increase in expenses. The remainder of the change is due to the change in net earned premium, including the change attributable to reinsurance premiums as discussed under the header “Net Premiums Earned.”Agency expensesWe maintain limited agency operations that both generate premium revenues for our insurance subsidiaries and earn external commission and service fee revenues. Agency operations that are associated with the generation of premium revenues by our insurance subsidiaries are included in insurance operation expenses in the above table. Expenses of agency operations that are directly associated with external commission and service fee revenues are included in agency expenses in the above table. Agency expenses for 2011 include non-recurring expenses associated with the dissolution of certain agency operations.56Interest ExpenseInterest expense remained relatively flat. Average outstanding debt for the three2012three-month period was approximately $50 million and six months ended June 30, 2012 as compared to the same respective periods in 2011. As discussed in Liquidity and Capital Resources and Financial Condition, we intend to repay allconsisted of our outstandinglong-term debt exclusive of the revolving credit agreement,repaid during the third quarter of 2012. Average outstanding debt for the 2013three-month period was $125 million, all of which was under our revolving credit agreement and bore a more favorable rate of interest than the debt held during 2012. See Note 9 of the Notes to Condensed Consolidated Financial Statements for discussion of the Revolving credit agreement.by debt obligationfor the three months endedMarch 31, 2013 and 2012 is provided in the following table: (In thousands) 2012 2011 Change 2012 2011 Change $ 252 $ 244 $ 8 $ 506 $ 483 $ 23 131 126 5 264 253 11 284 289 (5 ) 569 576 (7 ) 159 135 24 309 135 174 — 124 (124 ) 3 266 (263 ) $ 826 $ 918 $ (92 ) $ 1,651 $ 1,713 $ (62 ) Three Months Ended
March 31(In thousands) 2013 2012 Change Revolving credit agreement (including fees and amortization) $ 363 $ 150 $ 213 Long-term debt repaid in 2012 — 672 (672 ) Other 8 3 5 $ 371 $ 825 $ (454 ) 2012 2011 2012 2011 35.0 % 35.0 % 35.0 % 35.0 % (5.3 %) (4.4 %) (5.6 %) (4.7 %) (4.0 %) (2.4 %) (4.2 %) (2.2 %) 0.8 % — 1.0 % 0.2 % 26.5 % 28.2 % 26.2 % 28.3 % Three Months Ended
March 31 2013 2012 Statutory rate 35.0 % 35.0 % Tax-exempt income (5.8 %) (5.8 %) Tax credits (7.3 %) (4.3 %) Gain on acquisition (5.9 %) — % Other 0.5 % 1.1 % Effective tax rate 16.5 % 26.0 % decreased in both the first quarter of 2013 and 2012 as compared to 2011, is different from the statutory Federal income tax rate primarily due to an increase in the expectedbecause a portion of our investment income is tax-exempt and because we utilize tax benefitcredit benefits transferred from tax credits transferred to us by our tax credit partnership investments and an increase ininvestments. During the expectedfirst quarter of 2013, net income included a non-taxable gain of $35.5 million, the effect of tax-exempt dividend income. Wewhich further reduced our 2013 effective tax rate. expected tax benefits of approximately $2.5 million and $5.1 million for the three and six months ended June 30, 2012, respectively, related to the tax credits, approximated $4.5 million for the three months endedMarch 31, 2013, as compared to expected tax benefits of $1.8$2.6 million and $3.2 million for the 2011 three- and six-month periods.57June 30, 2012March 31, 2013 and December 31, 2011.2012. There are principally two factors that determine interest rates on a given security: market interest rates and credit spreads. As different asset classes can be affected in different ways by movements in those two factors, we have broken out our portfolio by asset class in the following table. Interest Rate Shift in Basis Points June 30, 2012 (200) (100) Current 100 200 $ 250 $ 249 $ 232 $ 227 $ 222 72 72 71 69 66 1,253 1,239 1,211 1,145 1,093 1,484 1,474 1,435 1,382 1,334 654 651 640 620 597 $ 3,713 $ 3,685 $ 3,589 $ 3,443 $ 3,312 3.10 3.08 3.02 2.96 2.89 2.78 2.78 2.84 3.26 3.33 3.98 4.17 4.35 4.46 4.54 4.09 4.11 4.07 3.99 3.91 1.27 1.50 2.65 3.41 3.81 3.46 3.57 3.82 3.96 4.02 December 31, 2011 $ 303 $ 301 $ 284 $ 277 $ 270 70 70 68 65 63 1,301 1,279 1,228 1,172 1,117 1,429 1,413 1,368 1,314 1,263 735 733 718 695 669 $ 3,838 $ 3,796 $ 3,666 $ 3,523 $ 3,382 3.42 3.39 3.33 4.00 3.95 3.25 3.26 3.43 3.62 3.69 4.22 4.44 4.58 4.69 4.76 4.07 4.05 4.00 3.91 3.83 1.01 1.54 2.87 3.48 3.83 3.47 3.63 3.91 4.09 4.14 58 Interest Rate Shift in Basis Points March 31, 2013 (200) (100) Current 100 200 Fair Value (in millions): U.S. Treasury obligations $ 235 $ 234 $ 231 $ 226 $ 222 U.S. Government-sponsored enterprise obligations 61 61 60 58 57 State and municipal bonds 1,348 1,334 1,293 1,238 1,185 Corporate debt 1,623 1,607 1,554 1,489 1,428 Asset-backed securities 495 497 489 476 458 All fixed maturity securities $ 3,762 $ 3,733 $ 3,627 $ 3,487 $ 3,350 Duration: U.S. Treasury obligations 2.77 2.77 2.72 2.65 2.58 U.S. Government-sponsored enterprise obligations 2.75 2.75 2.80 2.92 2.91 State and municipal bonds 3.75 3.95 4.15 4.33 4.43 Corporate debt 4.21 4.22 4.23 4.18 4.11 Asset-backed securities 1.63 1.97 2.66 3.36 3.83 All fixed maturity securities 3.59 3.71 3.87 4.00 4.06 December 31, 2012 Fair Value (in millions): U.S. Treasury obligations $ 210 $ 209 $ 206 $ 202 $ 197 U.S. Government-sponsored enterprise obligations 58 58 57 55 53 State and municipal bonds 1,269 1,258 1,220 1,170 1,122 Corporate debt 1,533 1,521 1,471 1,409 1,350 Asset-backed securities 498 499 494 481 466 All fixed maturity securities $ 3,568 $ 3,545 $ 3,448 $ 3,317 $ 3,188 Duration: U.S. Treasury obligations 2.92 2.89 2.84 2.77 2.70 U.S. Government-sponsored enterprise obligations 2.89 2.90 2.98 3.08 3.08 State and municipal bonds 3.78 3.91 4.06 4.17 4.26 Corporate debt 4.26 4.27 4.27 4.22 4.15 Asset-backed securities 1.81 1.82 2.35 3.06 3.66 All fixed maturity securities 3.65 3.70 3.81 3.93 4.01 thosethe projections presented should market conditions vary from assumptions used in the calculation of the fair value of individual securities, including non-parallel shifts in the term structure of interest rates and changing individual issuer credit spreads.June 30, 2012 isMarch 31, 2013 was on a cost basis which approximates its fair value. This portfolio lacks significant interest rate sensitivity due to its short duration.June 30, 2012, 95%March 31, 2013, 93% of our fixed maturity securities arewere rated investment grade as determined by Nationally Recognized Statistical Rating Organizations (NRSROs), such as A.M. Best, Fitch, Moody’s and Standard & Poor’s. We believe that this concentration in investment grade securities reduces our exposure to credit risk on our fixed income investments to an acceptable level. However, investment grade securities, in spite of their rating, can rapidly deteriorate and result in significant losses. Ratings published by the NRSROs are one of the tools used to evaluate the credit worthiness of our securities. The ratings reflect the subjective opinion of the rating agencies as to the credit worthiness of the securities, and therefore, we may be subject to additional credit exposure should the rating prove to be unreliable.We hold $1.2 billion of municipal bonds at June 30, 2012. We require the bonds that we purchase to meet our credit criteria on a stand-alone basis. As of June 30, 2012, on a stand-alone basis, our municipal bonds have a weighted average rating of AA.(on(with regard to both paid and unpaid losses) approximate $255approximated $254 million at June 30, 2012March 31, 2013 and $252$196 million at December 31, 2011.2012, with the 2013 increase primarily attributable to acquisitions. We monitor the credit risk associated with our reinsurers using publicly available financial and rating agency data.June 30, 2012March 31, 2013 the fair value of our investment in common stocks is $155 million.was $258 million. These securities are subject to equity price risk, which is defined as the potential for loss in fair value due to a decline in equity prices. The weighted average beta of this group of securities is 0.96.was 0.95. Beta measures the price sensitivity of an equity security or group of equity securities to a change in the broader equity market, in this case the S&P 500 Index. If the value of the S&P 500 Index increased by 10%, the fair value of these securities would be expected to increase by 10%9.5% to $169 million.$282 million. Conversely, a 10% decrease in the S&P 500 Index would imply a decrease of 10%9.5% in the fair value of these securities to $140 million.$233 million. The selected hypothetical changes of plus or minus 10% do not reflect what could be considered the best or worst case scenarios and are used for illustrative purposes only.59ITEM 4.CONTROLS AND PROCEDURES.June 30, 2012.6078 of the Notes to Condensed Consolidated Financial Statements.20112012 Form 10-K.(a) Not applicable. (b) Not applicable. (c) Information required by Item 703 of Regulation S-K. Period
Programs
Value of Shares
Purchased Under — $ — — $ 188,449,201 — $ — — $ 176,449,201 (2) — $ — — $ 153,457,201 (2) — $ — — (1)In November 2010, the ProAssurance Board of Directors authorized $200 million for the repurchase of common shares or the retirement of outstanding debt. This is ProAssurance’s only plan for the repurchase of common shares, and the plan has no expiration date.(2)After giving effect to commitments to redeem Trust Preferred Securities and Surplus Notes. See Note 8 of the Notes to Condensed Consolidated Financial Statements.61Period January 1 - 31, 2013 — $ — — $ 135,083,102 February 1 - 28, 2013 — $ — — $ 135,083,102 March 1 - 31, 2013 — $ — — $ 135,083,102 Total — $ — — 10.1Exhibit Number Form of Release and Severance CompensationDescription2.1 Stock Purchase Agreement dated as of September 1, 2011 betweenJune 26, 2012, by and among ProAssurance Corporation, PRA Professional Liability Group, Inc. and Ross E. Taubman:*Medmarc Mutual Insurance Company. Exhibits and schedules are listed but not included in the filing. Copies of the omitted exhibits and schedules will be provided to the SEC supplementally upon request.10.2 Form of Release and Severance Compensation Agreement dated as of April 2, 2012 between ProAssurance and Jerry D. Brant.*10.3Form of Indemnification Agreement between ProAssurance and each of the following named executive officers and directors of ProAssurance:*Victor T. AdamoLucian F. BloodworthRobert E. FlowersHoward H. FriedmanM. James GorrieJeffrey P. LisenbyWilliam J. ListwanJohn J. McMahonDrayton NabersFrank B. O’NeilAnn F. PutallazEdward L. Rand, Jr.Frank A. SpinosaW. Stancil StarnesRoss E. TaubmanAnthony R. TersigniDarryl K. ThomasAdam P. WilczekThomas A. S. Wilson, Jr.31.1 Certification of Principal Executive Officer of ProAssurance as required under SEC rule 13a-14(a). 31.2 Certification of Principal Financial and Accounting Officer of ProAssurance as required under SEC rule 13a-14(a). 32.1 Certification of Principal Executive Officer of ProAssurance as required under SEC Rule 13a-14(b) and Section 1350 of Chapter 63 of Title 18 of the United States Code, as amended (18 U.S.C. 1350). 32.2 Certification of Principal Financial and Accounting Officer of ProAssurance as required under SEC Rule 13a-14(b) and Section 1350 of Chapter 63 of Title 18 of the United States Code, as amended (18 U.S.C. 1350). 101.INS XBRL Instance Document 101.SCH XBRL Taxonomy Extension Schema Document 101.CAL XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF XBRL Taxonomy Extension Definition Linkbase Document 101.LAB XBRL Taxonomy Extension Labels Linkbase Document 101.PRE XBRL Taxonomy Extension Presentation Linkbase Document * Denotes a management contract or compensatory plan, contract or arrangement required to be filed as an exhibit to this report.62PROASSURANCE CORPORATION August20122013/s/ Edward L. Rand, Jr. Edward L. Rand, Jr. Chief Financial and Accounting Officer 63