Delphi Financial Group,Inc.
1105 North Market
Street, Suite 1230
P.O. Box 8985
Wilmington, Delaware 19899
VIA EDGAR SYSTEM
March 1, 2006
Ms. Dana Hartz
Staff Accountant
Securities and Exchange Commission
Division of Corporate Finance
450 Fifth Street, N.W.
Mail Stop 0610
Washington, D.C. 20549
Re: Delphi Financial Group, Inc. (the "Company")
Form 10-K for the Fiscal Year Ended December 31, 2004 (the "2004
Form 10-K")
Filed March 15, 2005
File No. 001-11462
Dear Ms. Hartz:
This letter will follow up on the telephone conversation of February 17,
2006 among you, Chad Coulter, Duane Hercules and me regarding the
Commission's further comments relating to the Company's letter dated
January 27, 2006. As was discussed, the Company's letter responded to
the comments contained in the Commission's letter dated December 23,
2005 regarding the 2004 Form 10-K. As requested in that conversation,
this letter sets forth the substance of the Commission's further comments
that were conveyed verbally in the conversation, followed by the
Company's response.
Comment:
Item 1. Business
Property and Casualty Insurance Reserves, page 9
1. Your response to item 1 is noted. We believe that the amount of the
prior years' loss development is material as a percentage of the
Company's net income. Please confirm that the Company will include in
its Form 10-K for the fiscal year ended December 31, 2005 (the "2005
Form 10-K") disclosure similar to that contained in the last two
paragraphs of your response.
Response:
The first table contained in Item 1 of Part I of the 2005 Form 10-K in the
section entitled "Business - Property and Casualty Insurance Reserves"
will contain, in the same format as the corresponding table in the 2004
Form 10-K, a reconciliation of beginning and ending unpaid claims and
claim expenses for the Company's property and casualty insurance
products for the years ended December 31, 2005, December 31, 2004 and
December 31, 2003. Immediately following such table, disclosure will
appear in substantially the following form:
Provisions for claims and claim expenses incurred in prior years, as
reflected in the above table, reflect the periodic accretion of the
claims reserve amounts previously discounted with respect to the Company's
excess workers' compensation line of business. During 2005, 2004 and
2003, $21.1 million, $18.1 million and $21.5 million, respectively,
of such discount was accreted. Accordingly, of the Company's
provisions for prior years' claims and claim expenses incurred, net
of reinsurance, in 2005, 2004 and 2003, $35.6 million, $12.8
million and $(1.0) million, respectively, of such provisions were
made based on new loss experience data that emerged during the
respective years. In 2005, the additional provision arose primarily
from adverse loss experience in the Company's excess workers'
compensation line, principally due to moderately increased claim
frequency, relative to prior periods, relating to policies written
during the competitive market cycle years from 1997 to 2001. In
2004, the additional provision arose primarily from adverse loss
experience in the Company's excess workers' compensation line,
principally due to moderately increased claim frequency, relative
to prior periods, relating to policies written during the competitive
market cycle years from 1997 to 2000. These additional provisions
did not in either year result from specific changes in the Company's
key assumptions used to estimate the reserves since the preceding
period end. Rather, in both years, they resulted from the Company's
application of the same estimating processes it has historically
utilized to emerging experience data, including premium, loss and
expense information, and the impact of these factors on inception-
to-date experience. In each period, the Company makes its best
estimate of reserves based on all of the information available to it
at that time, which necessarily takes into account new experience
emerging during the period. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -
Critical Accounting Policies and Estimates - Future Policy
Benefits and Unpaid Claims and Claim Expenses."
Comment:
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Critical Accounting Policies
Future Policy Benefits and Unpaid Claims and Claim Expenses, page 27
2. Your response to item 2 is noted. Please provide in disclosure-type
format the following:
a. Confirm that you will include in the 2005 Form 10-K a table
summarizing the composition of your total reserves for unpaid property
and casualty claims and claim expenses as between case reserves and
IBNR reserves similar to that contained in your response, as well as
similar information relating to your disability and accident products, either
in a separate table or in a combined table for property and casualty and
disability and accident products.
b. Confirm that you will include in the 2005 Form 10-K expanded
disclosure relating to your loss reserving methods similar to that contained
in the fourth and fifth paragraphs of your response, as well as to the
existence and effects on future operations and financial condition of
known trends, events and uncertainties similar to that contained in the
sixth paragraph of such response.
c. Confirm that you will include in the 2005 Form 10-K expanded
disclosure clarifying how management uses the results from the
application of the actuarial methods to determine loss reserves described
in your response, including the basis for selecting point estimates from
these methods and factors considered when making these selections.
d. Confirm that you will include in the 2005 Form 10-K (i) with
respect to the significant assumptions made in the estimation process for
unpaid property and casualty claims and claims expenses described in the
third paragraph of your response, quantified and narrative disclosure of the
impact that changes you believe to be reasonably likely in one or more of
these assumptions would have on reported results, financial position and
liquidity and (ii) similar disclosure relating to the most significant
assumptions made in the estimation process for your disability reserves.
Response:
a. The Company will include a table reflecting the composition of its
total reserves for its property and casualty, as well as its disability and
accident, insurance products as between case reserves and IBNR reserves,
in the section of the 2005 Form 10-K entitled "Management's Discussion
and Analysis of Financial Condition and Results of Operations - Critical
Accounting Policies and Estimates - Future Policy Benefits and Unpaid
Claims and Claim Expenses." This section, in substantially the form in
which it will appear in the 2005 Form 10-K, is attached hereto as Exhibit
A and is referenced in the remainder of this response as the "Critical
Accounting Disclosure." Because of the large number of changes as
compared with the corresponding disclosure that appeared in the 2004
Form 10-K, it has not been redlined against such disclosure.
b. Such disclosure is reflected in the second through sixth paragraphs
of the Critical Accounting Disclosure. In addition, the 2005 Form 10-K,
in the section entitled "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Results of Operations -
2005 Compared to 2004 - Benefits and Expenses" will contain the
disclosure substantially in the following form (and disclosure of a
similar nature will be contained in the corresponding section
comparing benefits and expenses for the 2004 and 2003 periods):
Policyholder benefits and expenses were $1,018.8 million as
compared to $863.1 million in 2004, an increase of 18%. This
increase primarily reflects the increase in premiums from the
Company's group employee benefit products discussed above, and
also reflects an addition to reserves for prior years' claims and
claim expenses in the amount of $32.9 million, which arose
primarily from adverse loss experience in the Company's excess
workers' compensation line, principally due to moderately
increased claim frequency, relative to prior periods, relating to
policies written during the competitive market cycle years from
1997 to 2001. If this experience trend were to continue in the
future, absent favorable loss developments in other policy years,
the Company's results of operations could be materially adversely
affected.
c. Disclosures of this type are contained in the second, fourth and
fifth paragraphs of the Critical Accounting Disclosure.
d. Disclosures of this type are contained in the second, fourth and
sixth paragraphs of the Critical Accounting Disclosure.
* * *
If you have any further questions, please do not hesitate to contact me at
(267) 256-3684. Thank you for your time and attention.
Very truly yours,
/S/ THOMAS W. BURGHART
Thomas W. Burghart
Vice President and Treasurer
cc: Chad Coulter
Geoffrey Liebmann
Duane Hercules
EXHIBIT A
Future Policy Benefits and Unpaid Claims and Claim Expenses. The
Company establishes reserves that are intended to be sufficient to fund the
future policy benefits and unpaid claims and claim expenses relating to its
insurance products. These reserves, which totaled $1,862.9 million at
December 31, 2005, represent management's best estimate of future
policy benefits and unpaid claims and claim expenses. The reserves are
calculated using various generally recognized actuarial methodologies and
are based upon assumptions and estimates that management believes are
appropriate and which vary by type of product. Annually, external
actuarial experts also review the Company's methodologies, assumptions
and the resulting reserves. The Company's projected ultimate insurance
liabilities and associated reserves are estimates, which are subject to
variability. This variability arises because the factors and events affecting
the ultimate liability for claims have not all taken place, and thus cannot
be evaluated with certainty. As a result, actual future ultimate losses will
not develop exactly as projected and may vary significantly from the
projections. The estimation process is complex and involves information
obtained from company-specific and industry-wide data, as well as general
economic information. The Company's insurance reserves are based upon
management's informed estimates and judgments using currently available
data. As additional experience emerges and other data become available,
these estimates and judgments are reviewed and may be revised. The
methods and assumptions used to establish the Company's insurance
reserves are continually reviewed and updated based on current
circumstances, and any resulting adjustments may result in reserve
increases or decreases that would be reflected in the Company's results of
operations for the periods in which such revisions are made. There were
no material changes in the current year in the actuarial methods and/or
assumptions from those used in the previous periods; however, in 2005
and 2004, the Company experienced a degree of adverse variance in loss
experience from its past projections. See Item 1, "Business - Property and
Casualty Insurance Reserves."
The most significant assumptions made in the estimation process for
future policy benefits and unpaid claims and claim expenses for the
Company's disability and accident products relate to mortality, morbidity,
claim termination and discount rates. Mortality and morbidity
assumptions are based on various actuarial tables that are generally
utilized in the industry, modified as believed to be necessary for possible
variations. The claim termination rate represents the probability that a
disability claim will close or change due to maximum benefits being paid
under the policy, the recovery or death of the claimant, or a change in
status in any given period. Establishing claim termination rates is
complex and involves many factors, including the cause of disability, the
claimant's age and the type of contractual benefits provided. The
Company uses its extensive claim experience database to develop its claim
termination rate assumptions, which are applied as an average to its large
population of active claims. A one percent increase or decrease in the
group long-term disability claim termination rate established by the
Company would have decreased or increased, respectively, the reserves
established for claims incurred in 2005 by approximately $0.6 million.
Disability reserves are discounted using interest rate assumptions based
upon projected portfolio yield rates for the assets supporting the
liabilities. The Company's discount rate assumptions are discussed in
further detail below.
The Company's reserves for unpaid claims and claim expenses are
determined on an individual basis for reported claims, for which case
reserves are established, and estimates of incurred but not reported
("IBNR") losses are developed on the basis of past experience. The
unpaid claims and claim expense reserves carried for the Company's
property and casualty insurance products represent the difference between
the selected ultimate loss amount and the loss amount paid to date.
The unpaid claims and claim expense reserves carried for the Company's
disability and accident insurance products are established by the
incurred loss development method utilizing various mathematic tools in
order to project future loss experience based on the Company's historical
loss experience. The difference between total unpaid claims and claim expense
reserves and case unpaid claims and claim expense reserves represents
the IBNR reserve. The following table summarizes the composition of the
Company's total reserves for disability, accident and casualty claims and
claim expenses, as between case and IBNR reserves, as of December 31,
2005 (dollars in millions):
Balance, net of reinsurance:
Case reserves $ 730.0
IBNR reserves 554.7
--------
Total reserves 1,284.4
Reinsurance receivables 249.1
--------
Balance, gross of reinsurance $1,533.5
========
Balance Sheets:
Future policy benefits:
Disability and accident $ 539.9
Unpaid claims and claim expenses:
Disability and accident $ 247.1
Property and casualty 746.5
--------
$1,533.5
========
The most significant assumptions made in the estimation process for
unpaid claims and claim expenses for the Company's property and
casualty insurance products are the trend in loss costs, the expected
frequency and severity of claims, changes in the timing of the reporting of
losses from the loss date to the notification date, and expected costs to
settle unpaid claims. Other assumptions include that the coverages under
these insurance products will not be expanded by future legislative action
or judicial interpretation and that extraordinary classes of losses not
previously in existence will not arise in the future. The assumptions vary
based on the year the claim is incurred. At December 31, 2005, disability
and primary and excess workers' compensation reserves for unpaid claims
and claim expenses with a carrying value of $844.1 million have been
discounted at a weighted average rate of 5.5%, with the rates ranging from
3.7% to 7.5%. Disability reserves for unpaid claims and claim expenses
are discounted using interest rate assumptions based upon projected
portfolio yield rates for the assets supporting the liabilities. The assets
selected to support these liabilities produce cash flows that are intended to
match the timing and amount of anticipated claim and claim expense
payments. Primary and excess workers' compensation claim reserves are
discounted using interest rate assumptions based on the risk-free rate of
return for U.S. Government securities with a duration comparable to the
expected duration and payment pattern of the claims at the time the claims
are settled. The rates used to discount reserves are determined annually.
The level of the rate utilized to discount reserves in a particular period
directly impacts the level of the reserves established for such period. For
example, a 25 basis point increase in the discount rates the Company
applied to disability and primary and excess workers' compensation
claims incurred in 2005 would have decreased the amount of the reserves
it established with respect to such claims by approximately $2.2 million,
and a 25 basis point decrease in such rates would have increased the
amount of the reserves so established by the same amount.
The primary actuarial methods used to establish the Company's reserves
for unpaid claims and claim expenses for its property and casualty
insurance products are the incurred loss development method and the
Bornhuetter-Ferguson expected loss method. Under the incurred loss
development method, various mathematic tools are utilized in order to
project future loss experience based on the Company's historical loss
experience. This method is utilized for accident years as to which
management believes a sufficient level of historical loss experience exists.
For more recent years for which this level of experience does not exist,
management utilizes the Bornhuetter-Ferguson expected loss method to
establish loss reserves. Under this method, in addition to historical loss
experience, the Company also takes into account an expected loss ratio
based on information determined during the initial pricing of the business,
including, among other factors, rate increases and changes in terms and
conditions.
The Company's actuaries select an ultimate loss reserve amount for its
property and casualty insurance products by reviewing the results of the
actuarial methods described above, as well as other tertiary methods which
serve to provide supplemental data points, and applying judgments to
achieve a point estimate for the ultimate loss amount, rather than
calculating ranges around the reserves. Reserves for unpaid claims and
claim expenses for such products represent management's best estimate
and are based upon this actuarially derived point estimate. In reviewing
and determining the adequacy of this estimate, management considers
several factors such as historical results, changes to policy pricing, terms
and conditions, deductibles and attachment points, claims-handling
staffing, practices and procedures, effects of claim inflation, industry loss
trends, reinsurance coverages, underwriting initiatives, and changes in
state legislative and regulatory environments.
For the Company's property and casualty insurance products, a review of
the seven most recent years' historical loss development variation reflects
an annual range of -3.4% to + 6.6%. The average annual increase
reflected in such review was +3.6% and the average decrease was -1.7%.
If the Company were to assume subsequent loss development of + 3.6%
or -1.7%, each of which are within historical variation, the estimated
unpaid claims and claims expense reserves, net of reinsurance, established
for such products as of December 31, 2005 would be increased by $23
million in the first case or decreased by $11 million in the second.
Management believes that while fluctuations of this magnitude could have
a material impact on the Company's results of operations, they would not
be likely to materially affect its financial condition or liquidity. However,
it is possible that, using other assumptions or variables that are outside of
the range of historical variation, the level of the Company's unpaid claims
and claim expenses could be changed by an amount that could be
material to the Company's results of operations, financial condition and
liquidity.
For the reasons described above, if the Company's actual loss experience
from its current or discontinued products is different from the Company's
assumptions or estimates, the Company's reserves could be inadequate. In
such event, the Company's results of operations, liquidity and financial
condition could be materially adversely affected.