| PMA CAPITAL CORP Item 1A Risk Factors Our business faces significant risks |
| The risks described below may not be the only risks we face |
| Additional risks that we do not yet know of or that we currently think are immaterial may also impair our business operations |
| If any of the following risks actually occur, our business, financial condition, results of operations, liquidity or prospects could be affected materially |
| Reserves are estimates and do not and cannot represent an exact measure of liability |
| If our actual losses from insureds exceed our loss reserves, our financial results would be adversely affected |
| We establish reserves representing estimates of future amounts needed to pay claims with respect to insured events that have occurred, including events that have not been reported to us |
| We also establish reserves for loss adjustment expenses, which represent the estimated expenses of settling claims, including legal and other fees, and general expenses of administering the claims adjustment process |
| Our reserves as of December 31, 2005 were in the aggregate dlra1dtta8 billion, consisting of dlra1dtta1 billion related to The PMA Insurance Group and dlra699 million related to the Run-off Operations |
| During the years ended December 31, 2005 and 2003, we increased our reserves for prior years’ losses and loss adjustment expenses by dlra26dtta8 million and dlra218dtta8 million, respectively |
| Reserves are estimates and do not and cannot represent an exact measure of liability |
| The reserving process involves actuarial models, which rely on the basic assumption that past experience, adjusted for the effect of current developments and likely trends in claims severity, frequency, judicial theories of liability and other factors, is an appropriate basis for predicting future outcomes |
| The inherent uncertainties of estimating insurance reserves are generally greater for casualty coverages than for property coverages |
| In many cases, significant periods of time, ranging up to several years or more, may elapse between the occurrence of an insured loss, the reporting of the loss to us and our payment of that loss |
| Our major long-tail lines include our workers’ compensation and casualty reinsurance business |
| Long-tail products are generally subject to more unforeseen development and uncertainty than shorter tailed products |
| Additionally, as reinsurers rely on their ceding companies to provide them with information regarding incurred losses, reported claims for reinsurers become known more slowly than for primary insurers |
| This also generally leads to more unforeseen development and uncertainty |
| Reserve estimates are continually refined through an ongoing process as further claims are reported and settled and additional information concerning loss experience becomes known |
| Because setting reserves is inherently uncertain, our current reserves may prove inadequate in light of subsequent developments |
| If we increase our reserves, our earnings for the period will generally decrease by a corresponding amount |
| Therefore, future reserve increases could have a material adverse effect on our results of operations, financial condition and financial strength and credit ratings |
| We have recorded significant reserve charges in the past and if we experience additional significant reserve charges it could adversely affect our ability to continue in the ordinary course of our business |
| We have recorded significant reserve charges in the past |
| In the first quarter of 2005, we recorded a charge of dlra30 million pre-tax, related to higher than expected claim frequency and severity on policies covering contractors’ liability for construction defects from accident years 1998 to 2001 written by our former excess and surplus lines operation and an increase in reported losses and continued volatility in pro rata professional liability reinsurance business written from accident years 1997 to 2001 |
| In the third quarter of 2003, we recorded a charge of dlra150 million pre-tax, related to higher than expected underwriting losses, primarily from casualty reinsurance business written in accident years 1997 to 2000 |
| As a result of this charge, the financial strength ratings of our insurance subsidiaries and our debt ratings were reduced, and we decided to exit the reinsurance business |
| We also suspended the payment of our regular cash dividend |
| Our capital position was diminished due to each of these charges |
| If, in the future, actual losses and loss adjustment expenses are greater than our loss reserve estimates, which may be due to a wide range of factors, including inflation, changes in claims and litigation trends and legislative or regulatory changes, we would have to increase reserves |
| A significant increase in reserves could have a material adverse effect on our insurance ratings and our ability to continue in the ordinary course of our business |
| 21 _________________________________________________________________ Because insurance ratings, particularly from AM Best, are important to our policyholders, downgrades in our ratings may adversely affect us |
| Nationally recognized ratings agencies rate the financial strength of our principal insurance subsidiaries and our debt |
| Ratings are not recommendations to buy our securities |
| Between November 2003 and November 2004, The PMA Insurance Group’s financial strength rating was downgraded from “A-” to “B++” |
| Certain clients, particularly large account clients and clients in the construction industry, will not purchase property and casualty insurance from insurers with less than an “A-” (4th of 16) AM Best rating |
| The PMA Insurance Group’s “A-” rating was restored on November 15, 2004, which allowed us to significantly increase new business written and improve retention ratios for 2005 compared to 2004 |
| However, any future downgrade in The PMA Insurance Group’s AM Best rating might result in a material loss of business as policyholders might move to other companies with higher financial strength ratings and we could lose key executives necessary to operate our business |
| Accordingly, such a downgrade to our insurer financial strength ratings will likely result in lower premiums written and lower profitability and would have a material adverse effect on our results of operations, liquidity and capital resources |
| These ratings are subject to revision or withdrawal at any time by the rating agencies, and therefore, no assurance can be given that we or our principal insurance subsidiaries can maintain or improve these ratings |
| Each rating should be evaluated independently of any other rating |
| The Pennsylvania Insurance Department’s restriction on the declaration and payment of dividends from PMA Capital Insurance Company could adversely affect our ability to meet our obligations |
| In June 2004, the Pennsylvania Insurance Department approved our application for our primary insurance subsidiaries that comprise The PMA Insurance Group, or the Pooled Companies, previously subsidiaries of PMACIC, to become direct, wholly-owned subsidiaries of PMA Capital Corporation |
| As a result, the Pooled Companies became direct subsidiaries of PMA Capital Corporation and can pay dividends directly to PMA Capital Corporation |
| In its Order approving the unstacking, the Pennsylvania Insurance Department prohibited PMACIC from any declaration or payment of dividends or return of capital or any other types of distributions in 2004 and 2005 to PMA Capital Corporation |
| In 2006, PMACIC may declare and pay ordinary dividends or return of capital without the prior approval of the Pennsylvania Insurance Department if, immediately after giving effect to the dividend or return of capital, PMACIC’s risk-based capital equals or exceeds 225prca of Authorized Control Level Capital, as defined by the National Association of Insurance Commissioners |
| PMACIC is permitted to request an “extraordinary” dividend, as defined under Pennsylvania law, in 2006 subject to the same risk-based capital requirements |
| Such “extraordinary” dividend must be approved by the Pennsylvania Insurance Department prior to payment |
| In 2007 and beyond, PMACIC may make dividend payments, as long as such dividends are not considered “extraordinary |
| ” As a result, we may not be able to receive dividends from PMACIC at times and in amounts necessary to meet our debt obligations and corporate expenses |
| As of December 31, 2005, the statutory surplus of PMACIC was dlra204dtta9 million, which included dlra11dtta4 million of unassigned surplus, and its risk based capital ratio was 547prca of Authorized Control Level Capital |
| We may not have sufficient funds to satisfy our obligations under our indebtedness and our other financial obligations |
| As of December 31, 2005, we had dlra196dtta2 million of outstanding indebtedness |
| Our ability to service our indebtedness and to meet our other financial obligations will depend upon our future operating performance, which in turn is subject to market conditions and other factors, including factors beyond our control |
| In order to obtain funds sufficient to satisfy our obligations under our indebtedness as well as meet our other financial obligations, we may need to raise additional capital through the sale of securities or certain of our assets |
| However, we may not be able to enter into or complete any such transactions by the maturity date or put date of our indebtedness or on terms and conditions that are acceptable to us |
| In addition, we may be required to use all or a portion of the proceeds of such transactions to repay obligations under our 6dtta50prca Convertible Debt or our 8dtta50prca Monthly Income Senior Notes due 2018 |
| Accordingly, we cannot assure you that we will have sufficient funds to satisfy our obligations under our indebtedness and to meet our other financial obligations |
| 22 _________________________________________________________________ The indentures governing our indebtedness restrict our ability to engage in certain activities |
| The indentures governing our indebtedness restrict our ability to, among other things: · incur additional debt; · pay dividends on or redeem or repurchase capital stock; · make certain investments; · enter into transactions with affiliates; · transfer or dispose of capital stock of subsidiaries; and · merge or consolidate with another company |
| The above restrictions could limit our ability to obtain future financing and may prevent us from taking advantage of attractive business opportunities |
| Because credit ratings are important to our creditors, downgrades in our credit ratings may adversely affect us |
| Nationally recognized rating agencies rate the debt of PMA Capital Corporation |
| Ratings are not recommendations to buy our securities |
| A downgrade in our debt ratings will affect our ability to raise additional debt with terms and conditions similar to our current debt, and, accordingly, will increase our cost of capital |
| In addition, a downgrade of our debt ratings will make it more difficult to raise capital to refinance any maturing debt obligations and to maintain or improve the current financial strength ratings of our principal insurance subsidiaries |
| Our reserves for asbestos and environmental claims may be insufficient |
| Estimating reserves for asbestos and environmental exposures continues to be difficult because of several factors, including: (i) evolving methodologies for the estimation of the liabilities; (ii) lack of reliable historical claim data; (iii) uncertainties with respect to insurance and reinsurance coverage related to these obligations; (iv) changing judicial interpretations; and (v) changing government standards and regulations |
| We believe that our reserves for asbestos and environmental claims are appropriately established based upon known facts, existing case law and generally accepted actuarial methodologies |
| However, the potential exists for changes in federal and state standards for clean-up and liability and changing interpretations by courts resulting from the resolution of coverage issues |
| These coverage issues in cases where we are a party include disputes concerning proof of insurance coverage, questions of allocation of liability and damages among the insured and participating insurers, assertions that asbestos claims are not product or completed operations claims subject to an aggregate limit and contentions that more than a single occurrence exists for purposes of determining the available coverage |
| Therefore, our ultimate exposure for these claims may vary significantly from the amounts currently recorded, resulting in a potential future adjustment that could be material to our financial condition, results of operations and liquidity |
| At December 31, 2005, 2004 and 2003, gross reserves for asbestos-related losses were dlra26dtta9 million, dlra27dtta9 million, and dlra37dtta8 million, respectively (dlra13dtta2 million, dlra14dtta0 million and dlra17dtta8 million, net of reinsurance, respectively) |
| Of the net asbestos reserves, approximately dlra10dtta2 million, dlra10dtta3 million and dlra14dtta9 million related to IBNR losses at December 31, 2005, 2004 and 2003, respectively |
| At December 31, 2005, 2004 and 2003, gross reserves for environmental-related losses were dlra15dtta3 million, dlra16dtta1 million and dlra14dtta2 million, respectively (dlra5dtta0 million, dlra6dtta4 million and dlra8dtta8 million, net of reinsurance, respectively) |
| Of the net environmental reserves, approximately dlra2dtta0 million, dlra3dtta0 million and dlra3dtta7 million related to IBNR losses at December 31, 2005, 2004, and 2003, respectively |
| All incurred asbestos and environmental losses were for accident years 1986 and prior |
| The effects of emerging claims and coverage issues on our business are uncertain |
| As industry practices and legal, judicial, social and other environmental conditions change, unexpected and unintended issues related to claims and coverage may emerge |
| These issues may harm our business by either extending coverage beyond our underwriting intent or by increasing the number or size of claims |
| In addition to the uncertainties with respect to asbestos and environmental claims discussed above, recent examples of emerging claims and coverage issues that have affected us include: · increases in the number and size of claims relating to construction defects and mold, which often present complex coverage and damage valuation questions, making it difficult for us to predict our exposure to losses; and 23 _________________________________________________________________ · changes in interpretation of the named insured provision with respect to the uninsured/ underinsured motorist coverage in commercial automobile policies, effectively broadening coverage and increasing our exposure to claims |
| The effects of these and other unforeseen emerging claim and coverage issues are extremely hard to predict and could harm our business |
| We rely on independent agents and brokers and therefore we are exposed to certain risks |
| Approximately 88prca of The PMA Insurance Group’s business in 2005 was produced through independent agents and brokers |
| We do business with a large number of independent brokers on a non-exclusive basis and we cannot rely on their ongoing commitment to our insurance products |
| In accordance with industry practice, our customers often pay the premiums for their policies to agents and brokers for payment over to us |
| These premiums are considered paid when received by the broker and, thereafter, the customer is no longer liable to us for those amounts, whether or not we have actually received the premiums from the agent or broker |
| Consequently, we assume a degree of credit risk associated with our reliance on agents and brokers in connection with the settlement of insurance balances |
| Additionally, The New York Attorney General and certain other state regulators have conducted investigations and taken legal actions against certain brokers and insurance companies concerning their compensation agreements and other practices |
| Various states’ Insurance Departments and Attorneys General have also made inquiries of and issued subpoenas to insurance companies and insurance producers domiciled or doing business in their states |
| We received inquiries in 2004 from the Pennsylvania and North Carolina Insurance Departments concerning our business relationships with brokers, as did most or all other insurance companies doing business in these jurisdictions |
| We have responded fully to these inquiries and believe that our contractual relationships and business practices with agents and brokers are in compliance with all applicable statutes and regulations |
| Our failure to realize our deferred income tax asset could lead to a writedown, which could adversely affect our results of operations and financial position |
| Realization of our deferred income tax asset is dependent upon the generation of taxable income in those jurisdictions where the relevant tax losses and other timing differences exist |
| As of December 31, 2005, our net deferred tax asset was dlra103dtta7 million |
| Failure to achieve projected levels of profitability could lead to a writedown in the deferred tax asset if the recovery period becomes uncertain or longer than expected |
| We face a risk of non-collectibility of reinsurance, which could materially affect our results of operations |
| We follow the insurance practice of reinsuring with other insurance and reinsurance companies a portion of the risks under the policies written by our insurance and reinsurance subsidiaries (known as ceding) |
| During 2005, we had dlra433dtta7 million of gross premiums written of which we ceded dlra48dtta5 million, or 11prca of gross premiums written, to reinsurers for reinsurance protection |
| This reinsurance is maintained to protect our insurance and reinsurance subsidiaries against the severity of losses on individual claims and unusually serious occurrences in which a number of claims produce an aggregate extraordinary loss |
| Although reinsurance does not discharge our subsidiaries from their primary obligation to pay policyholders for losses insured under the policies we issue, reinsurance does make the assuming reinsurer liable to the insurance subsidiaries for the reinsured portion of the risk |
| As of December 31, 2005, we had dlra1dtta1 billion of reinsurance receivables from reinsurers for paid and unpaid losses, for which they are obligated to reimburse us under our reinsurance contracts |
| Our ability to collect reinsurance is dependent upon numerous factors including the solvency of our reinsurers, the payment performance of our reinsurers and whether there are any disputes or collection issues with our reinsurers |
| We perform credit reviews on our reinsurers, focusing on, among other things, financial capacity, stability, trends and commitment to the reinsurance business |
| We also require assets in trust, letters of credit or other acceptable collateral to support balances due from reinsurers not authorized to transact business in the applicable jurisdictions |
| Despite these measures, a reinsurer’s insolvency, inability or unwillingness to make payments under the terms of a reinsurance contract could have a material adverse effect on our results of operations and financial condition |
| See Note 5 in Item 8 of this Form 10-K for additional information on current disputes with reinsurers |
| 24 _________________________________________________________________ Because we are heavily regulated by the states in which we do business, we may be limited in the way we operate |
| We are subject to extensive supervision and regulation in the states in which we do business |
| The supervision and regulation relate to numerous aspects of our business and financial condition |
| The primary purpose of the supervision and regulation is the protection of our insurance policyholders, and not our investors |
| The extent of regulation varies, but generally is governed by state statutes |
| These statutes delegate regulatory, supervisory and administrative authority to state insurance departments |
| This system of supervision and regulation covers, among other things: · standards of solvency, including risk-based capital measurements; · restrictions of certain transactions between our insurance subsidiaries and their affiliates, including us; · restrictions on the nature, quality and concentration of investments; · limitations on the rates that we may charge on our primary insurance business; · restrictions on the types of terms and conditions that we can include in the insurance policies offered by our primary insurance operations; · limitations on the amount of dividends that insurance subsidiaries can pay; · the existence and licensing status of a company under circumstances where it is not writing new or renewal business; · certain required methods of accounting; · reserves for unearned premiums, losses and other purposes; and · assignment of residual market business and potential assessments for the provision of funds necessary for the settlement of covered claims under certain policies provided by impaired, insolvent or failed insurance companies |
| On December 22, 2003, PMACIC entered into a voluntary agreement with the Pennsylvania Insurance Department |
| Pursuant to the agreement, PMACIC has agreed to request the Pennsylvania Insurance Department’s prior approval of certain actions, including: entering into any new reinsurance contracts, treaties or agreements, except as may be required by law; making any payments, dividends or other distributions to, or engaging in any transactions with any of PMACIC’s affiliates; making any withdrawal of monies from PMACIC’s bank accounts or making any disbursements, payments or transfers of assets in an amount exceeding five percent of the fair market value of PMACIC’s then aggregate cash and investments; incurring any debt, obligation or liability for borrowed money, pledging its assets or loaning monies to any person or entity (whether or not affiliated); appointing any new director or executive officer; or altering its or its Pennsylvania-domiciled insurance company subsidiaries’ ownership structure |
| Finally, the Pennsylvania Insurance Department may impose additional operational or administrative restrictions deemed necessary by the Pennsylvania Insurance Commissioner for implementation of the agreement |
| These restrictions, as well as any further restrictions on the conduct of PMACIC’s business, may adversely affect its ability to efficiently conduct the run-off of its insurance liabilities |
| In June 2004, the Pennsylvania Insurance Department approved our application for the Pooled Companies, previously subsidiaries of PMACIC, to become direct, wholly-owned subsidiaries of PMA Capital Corporation |
| However, in its Order approving the transfer of the Pooled Companies from PMACIC to PMA Capital Corporation, the Pennsylvania Insurance Department prohibited PMACIC from any declaration or payment of dividends, return of capital or any other types of distributions in 2004 and 2005 to PMA Capital Corporation |
| In 2006, PMACIC may declare and pay ordinary dividends or returns of capital without the prior approval of the Pennsylvania Insurance Department if, immediately after giving effect to the dividend or returns of capital, PMACIC’s risk-based capital equals or exceeds 225prca of Authorized Control Level Capital as defined by the National Association of Insurance Commissioners |
| PMACIC is permitted to request an “extraordinary” dividend, as defined under Pennsylvania law, in 2006 subject to the same risk-based capital requirements |
| Such “extraordinary” dividend must be approved by the Pennsylvania Insurance Department prior to payment |
| ” The regulations of the state insurance departments may affect the cost or demand for our products and may impede us from obtaining rate increases on insurance policies offered by our primary insurance subsidiaries or taking other actions we might wish to take to increase our profitability |
| Further, we may be unable to maintain all required licenses and approvals and our business may not fully comply with the wide variety of applicable laws and regulations or the relevant authority’s interpretation of the laws and regulations, which may change from time to 25 _________________________________________________________________ time |
| Also, regulatory authorities have relatively broad discretion to grant, renew or revoke licenses and approvals |
| If we do not have the requisite licenses and approvals or do not comply with applicable regulatory requirements, the insurance regulatory authorities could preclude or temporarily suspend us from carrying on some or all of our activities or impose substantial fines |
| Further, insurance regulatory authorities have relatively broad discretion to issue orders of supervision, which permit such authorities to supervise the business and operations of an insurance company |
| During 2005, no state insurance regulatory authority had imposed on us any substantial fines or revoked or suspended any of our licenses to conduct insurance business in any state or issued an order of supervision with respect to our insurance subsidiaries which would have a material adverse effect on our results of operations or financial condition |
| In light of recent insolvencies of large property and casualty insurers, it is possible that the regulations governing the level of the guaranty fund or association assessments against us may change, requiring us to increase our level of payments |
| Our results may fluctuate as a result of many factors, including cyclical changes in the insurance industry |
| The results of companies in the property and casualty insurance industry historically have been subject to significant fluctuations and uncertainties |
| The industry’s profitability can be affected significantly by: · rising levels of actual costs that are not known by companies at the time they price their products; · volatile and unpredictable developments, including man-made, weather-related and other natural catastrophes; · changes in reserves resulting from the general claims and legal environments as different types of claims arise and judicial interpretations relating to the scope of insurers’ liability develop; · fluctuations in interest rates, inflationary pressures and other changes in the investment environment, which affect returns on invested capital and may impact the ultimate payout of losses; and · volatility associated with the long-tail nature of the reinsurance business, which may impact our operating results |
| The property and casualty insurance industry historically is cyclical in nature |
| The demand for property and casualty insurance can vary significantly, rising as the overall level of economic activity increases and falling as such activity decreases |
| The property and casualty insurance industry has been very competitive and the fluctuations in demand and competition and the impact on us of other factors identified above could have a negative impact on our results of operations and financial condition |
| We operate in a highly competitive industry which makes it more difficult to attract and retain new business |
| Our business is highly competitive and we believe that it will remain so for the foreseeable future |
| The PMA Insurance Group has six major competitors: Liberty Mutual Group, American International Group, Inc, Zurich/Farmers Group, St |
| Paul Travelers, The Hartford Insurance Group and CNA All of these companies and some of our other competitors have greater financial, marketing and management resources than we do |
| A number of new, proposed or potential legislative or industry developments could further increase competition in our industry |
| These developments include: · an influx of new capital in the marketplace as existing companies attempt to expand their business and new companies attempt to enter the insurance and reinsurance business; · the enactment of the Gramm-Leach-Bliley Act of 1999 (which permits financial services companies, such as banks and brokerage firms, to engage in certain insurance activities), which could result in increased competition from financial services companies; · programs in which state-sponsored entities provide property insurance in catastrophe-prone areas or other alternative markets types of coverage; and · changing practices caused by technology, which have led to greater competition in the insurance industry |
| Many commercial property and casualty insurers and industry groups and associations currently offer alternative forms of risk protection in addition to traditional insurance products |
| These products, including large deductible programs and various forms of self-insurance that utilize captive insurance companies and risk retention groups, have been instituted to allow for better control of risk management and costs |
| We cannot predict how continued 26 _________________________________________________________________ growth in alternative forms of risk protection will affect our future results of operations, but it could reduce our premium volume |
| Because our investment portfolio is primarily fixed-income securities, the fair value of our investment portfolio and our investment income could suffer as a result of fluctuations in interest rates |
| We currently maintain and intend to continue to maintain an investment portfolio primarily of fixed-income securities |
| The fair value of these securities can fluctuate depending on changes in interest rates |
| Generally, the fair market value of these investments increases or decreases in an inverse relationship to changes in interest rates, while net investment income earned by us from future investments in fixed-income securities will generally increase or decrease in a direct relationship with changes in interest rates |
| Our overall investment strategy is to invest in high quality securities while maintaining diversification to avoid significant concentrations in individual issuers, industry segments and geographic regions |
| All of our fixed-income securities are classified as available for sale; as a result, changes in the market value of our fixed-income securities are reflected in our balance sheet |
| Changes in interest rates may result in fluctuations in the income from, and the valuation of, our fixed-income investments, which could have an adverse effect on our results of operations and financial condition |
| Our business is dependent upon our key executives, certain of whom do not have employment agreements with restrictive covenants and can leave our employment at any time |
| Our success depends significantly on the efforts and abilities of our key executives |
| We currently have employment agreements that include restrictive covenants with three of our key executives; however, we do not have employment agreements with our other executives |
| Accordingly, such other executives may leave our employment at any time |
| Our future results of operations could be adversely affected if we are unable to retain our current executives, attract new executives or if our current executives leave our employ and join companies that compete with us |
| We have exposure to catastrophic events, which can materially affect our financial results |
| We are subject to claims arising out of catastrophes that may have a significant effect on our results of operations, liquidity and financial condition |
| Catastrophes can be caused by various events, including hurricanes, windstorms, earthquakes, hailstorms, explosions, severe winter weather and fires |
| The incidence and severity of catastrophes are inherently unpredictable |
| The extent of losses from a catastrophe is a function of both the total amount of insured exposure in the area affected by the event and the severity of the event |
| Insurance companies are not permitted to reserve for catastrophes until such event takes place |
| Although we actively manage our exposure to catastrophes through our underwriting process and the purchase of reinsurance protection, an especially severe catastrophe or series of catastrophes, or terrorist event, could exceed our reinsurance protection and may have a material adverse impact on our financial condition, results of operations and liquidity |
| Man-made events, such as terrorism, can also cause catastrophes |
| For example, the attack on the World Trade Center has, to date, resulted in approximately dlra31 million in pre-tax losses to us, after deduction of all reinsurance and retrocessional protection |
| Because of the jury verdict on December 6, 2004 that concluded that the attack on the World Trade Center was two occurrences instead of one, this estimate may change |
| However, it is difficult to fully estimate our losses from the attack given the uncertain nature of damage theories and loss amounts, the possible development of additional facts related to the attack and whether the recent court decision will be successfully appealed |
| As more information becomes available, we may need to change our estimate of these losses |
| Although the Terrorism Risk Insurance Extension Act of 2005 (“TRIEA”), which expires December 31, 2007, may mitigate the impact of future terrorism losses in connection with the commercial insurance business offered by The PMA Insurance Group, the amount of losses a company must retain and the fact that certified nuclear, biological and chemical events are not covered in The PMA Insurance Group’s reinsurance treaties, future terrorist attacks may result in losses that have a material adverse effect on our financial condition, results of operations and liquidity |
| The PMA Insurance Group would have a deductible of approximately dlra63 million in 2006 if a covered terrorist act were to occur |
| 27 _________________________________________________________________ We face a risk of non-availability of reinsurance, which could materially affect our ability to write business and our results of operations |
| Market conditions beyond our control, such as the amount of surplus in the reinsurance market and natural and man-made catastrophes, determine the availability and cost of the reinsurance protection we purchase |
| We cannot assure you that reinsurance will remain continuously available to us to the same extent and on the same terms and rates as are currently available |
| If we are unable to maintain our current level of reinsurance or purchase new reinsurance protection in amounts that we consider sufficient, we would either have to be willing to accept an increase in our net exposures or a reduction in our insurance writings |
| Purported class action lawsuits may result in financial losses and may divert management resources |
| In addition, we are subject to litigation in the ordinary course of our business |
| We and certain of our directors and key executive officers are defendants in several purported class actions that were filed in 2003 in the United States District Court for the Eastern District of Pennsylvania by alleged purchasers of our Class A Common stock, 4dtta25prca Senior Convertible Debt due 2022 (“4dtta25prca Convertible Debt”) and 8dtta50prca Monthly Income Senior Notes |
| On June 28, 2004, the District Court issued an order consolidating the cases under the caption In Re PMA Capital Corporation Securities Litigation (civil action Nodtta 03-6121) and appointing Sheet Metal Workers Local 9 Pension Trust, Alaska Laborers Employers Retirement Fund and Communications Workers of America for Employees’ Pension and Death Benefits as lead plaintiff |
| On September 20, 2004, the plaintiffs filed an amended and consolidated complaint on behalf of an alleged class of purchasers of our securities between May 5, 1999 and February 11, 2004 |
| The complaint alleges, among other things, that the defendants violated Section 10(b) of the Exchange Act, and Rule 10b-5 thereunder by making materially false and misleading public statements and material omissions during the class period regarding our underwriting performance, loss reserves and related internal controls |
| The complaint alleges, among other things, that the defendants violated Sections 11, 12(a) (2) and 15 of the Securities Act by making materially false and misleading statements in registration statements and prospectuses about our financial results, underwriting performance, loss reserves and related internal controls |
| The complaint seeks unspecified compensatory damages, the right to rescind the purchases of securities in the public offerings, interest, and plaintiffs’ reasonable costs and expenses, including attorneys’ fees and expert fees |
| We intend to vigorously defend against the claims asserted in this consolidated action |
| By Order dated July 27, 2005, the District Court partially granted our previously filed Motion to Dismiss the Amended Complaint, dismissing all allegations with respect to The PMA Insurance Group, and otherwise denied the Motion to Dismiss |
| By virtue of the Order, the alleged class period was reduced to November 6, 2003 |
| The lawsuit is in its earliest stages; therefore, it is not possible at this time to reasonably estimate the impact on us |
| However, the lawsuit may have a material adverse effect on our financial condition, results of operations and liquidity |
| We are continuously involved in numerous lawsuits arising, for the most part, in the ordinary course of business, either as a liability insurer defending third-party claims brought against our insureds, or as an insurer defending coverage claims brought against it by our policyholders or other insurers |
| We may require additional capital in the future, which may not be available or may be available only on unfavorable terms |
| Our capital requirements depend on many factors, including our ability to write new and renewal business and rating agency capital requirements |
| To the extent that our existing capital is insufficient to meet these requirements, we may need to raise additional funds through financings |
| Any equity or debt financing, if available at all, may be on terms that are not favorable to us |
| Equity financings could result in dilution to our shareholders and the securities may have rights, preferences and privileges that are senior to those of our shares of common stock |
| If our need for capital arises because of significant losses, the occurrence of these losses may make it more difficult for us to raise the necessary capital |
| If we cannot obtain adequate capital on favorable terms or at all, our business, operating results and financial condition could be adversely affected |
| We are an insurance holding company with no direct operations |
| Statutory requirements governing dividends from our principal operating subsidiaries could adversely affect our ability to meet our obligations |
| We are a holding company that transacts substantially all of our business directly and indirectly through subsidiaries |
| Our primary assets are the stock of our operating subsidiaries |
| Our ability to meet our obligations on 28 _________________________________________________________________ our outstanding debt and to pay dividends and our general and administrative expenses depends on the surplus and earnings of our subsidiaries and the ability of our subsidiaries to pay dividends or to advance or repay funds to us |
| Payments of dividends within any twelve month period and advances and repayments by our insurance operating subsidiaries are restricted by state insurance laws, including laws establishing minimum solvency and liquidity thresholds |
| Generally this limitation is the greater of statutory net income for the preceding calendar year or 10prca of the statutory surplus, but only to the extent of unassigned surplus |
| In addition, insurance regulators have broad powers to prevent reduction of statutory surplus to inadequate levels, and could refuse to permit the payment of dividends of the maximum amounts calculated under any applicable formula |
| Provisions in our charter documents may impede attempts to replace or remove our current directors with directors favored by shareholders |
| Our Restated Articles of Incorporation and Amended and Restated Bylaws contain provisions that could delay or prevent changes in our board of directors that shareholders may desire |
| These provisions include: · requiring advance notice requirements for nominations for election to the board of directors or for proposing business that can be acted on by shareholders at meetings; · establishing a classified board of directors and permitting our board to increase its size and appoint directors to fill newly created board vacancies; · requiring shareholders to show cause to remove one or more directors; and · prohibiting shareholders from acting by written consent |