MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE OF CONTENTS
Introduction 24 Executive Overview 24 Description of Operating Segments 25 Results of Operations - Consolidated 25 Results of Operations - Segments 27 Investments 32 Other Items 35 Income Taxes 35 Critical Accounting Estimates 36 Statutory Surplus of Insurance Subsidiaries 36 Liquidity and Capital Resources 36 Contingencies and Regulatory Matters 38 Risks and Forward - Looking Statements 38 23
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Table of Contents Introduction The following Management's Discussion and Analysis of Financial Condition and Results of Operations is intended to assist readers in understanding the interim consolidated results of operations and financial condition ofThe Hanover Insurance Group, Inc. and its subsidiaries ("THG"). Consolidated results of operations and financial condition are prepared in accordance with generally accepted accounting principles inthe United States of America ("U.S. GAAP"). This discussion should be read in conjunction with the interim consolidated financial statements and related footnotes included elsewhere in this Quarterly Report on Form 10-Q and Management's Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual Report on Form 10-K filed with theSecurities and Exchange Commission (the "SEC") onFebruary 25, 2022 . Results of operations include the accounts ofThe Hanover Insurance Company ("Hanover Insurance ") andCitizens Insurance Company of America ("Citizens"), our principal property and casualty insurance companies, and other insurance and non-insurance subsidiaries. Our results of operations also include the results of our discontinued operations, consisting primarily of our former accident and health and former life insurance businesses.
Executive Overview
Business operations consist of four operating segments: Core Commercial,
Specialty, Personal Lines and Other.
Our strategy, which focuses on the independent agency distribution channel, supports THG's commitment to our select independent agents. It is designed to generate profitable growth by leveraging the strengths of our distribution approach, including expansion of our agency footprint in underpenetrated geographies, as warranted. As part of that strategy, we have increased our capabilities in specialty markets and made investments designed to develop growth solutions for our agency distribution channel that meet the needs of our customers. Our goal is to grow responsibly in all of our businesses, while managing volatility. During the three months endedMarch 31, 2022 , our net income was$104.8 million , compared to$92.7 million for the three months endedMarch 31, 2021 , an increase of$12.1 million , primarily due to higher operating income, partially offset by changes in the fair value of equity securities. Operating income before interest expense and income taxes (a non-GAAP financial measure; see also "Results of Operations - Consolidated - Non-GAAP Financial Measures") was$154.4 million for the three months endedMarch 31, 2022 , compared to$85.1 million for the three months endedMarch 31, 2021 , an increase of$69.3 million . This increase was primarily due to lower catastrophe losses and earned premium growth, partially offset by higher personal automobile current accident year losses. The higher personal automobile losses were primarily due to higher severity, as a result of inflation and to supply chain disruptions. Pre-tax catastrophe losses were$45.5 million for the three months endedMarch 31, 2022 , compared to$133.3 million during the same period of 2021, a decrease of$87.8 million . The higher level of catastrophe losses in 2021 was primarily due to the freeze events inTexas and surrounding states. Net favorable development on prior years' loss reserves was$6.0 million for the three months endedMarch 31, 2022 , compared to$8.2 million for the three months endedMarch 31, 2021 , a decrease of$2.2 million . As vaccination efforts and other factors have mitigated the ongoing severity of the COVID-19 pandemic ("Pandemic"), states are lifting restrictions, businesses that ceased operations are re-opening, new businesses are being created, and companies that shifted to remote work environments have begun transitioning back to the workplace. Nevertheless, the impact of the Pandemic onU.S. and global financial markets and economies continues to evolve, is complex and uncertain, and is outside our control. These complexities have been compounded by a substantial increase in inflation and supply chain disruptions. As a result, we are experiencing higher claims costs, particularly in our automobile and homeowners lines of business. Several other uncertainties persist, including, among others, return to workplace initiatives, virus variants, vaccination rates, driving patterns and court caseload backlogs. We continue to believe that the effect of these uncertainties on our near-term results should be manageable. However, they may affect the property and casualty insurance industry, our business, and our financial results over the intermediate and long-term. (See "Contingencies and Regulatory Matters" and "Item 1A - Risk Factors" for further discussion). Core Commercial Core Commercial entails two distinct businesses, small commercial and middle market, both of which focus on account business, including commercial multiple peril, commercial automobile, workers' compensation and other (general liability, ancillary professional, commercial umbrella, and monoline property). Small commercial focuses on small businesses, with annual policy premiums up to$50,000 . Small commercial recently launched TAP sales, a quoting platform, that has generated a 20% increase in new business submissions during the quarter, enhancing the ease of doing business. Middle market provides coverage to mid-sized businesses with annual policy premiums between$50,000 and$500,000 . Middle market offers coverage in distinct industry segments, including technology, manufacturing, human services, retail, real estate, and others. We believe that our account-focused approach to the small commercial market and distinctiveness in the middle market provides us with a diversified portfolio of products and delivers significant value to agents and policyholders. We continue to pursue our core strategy of developing strong relationships with retail agents, enhanced franchise value through selective distribution, distinctive products and coverages, and through continued investment in industry segmentation. Net premiums written increased 9.6% in the first three months of 2022, compared to the same period in 2021, primarily driven by pricing and exposure increases and continued strong retention. 24
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Underwriting results increased in the first three months of 2022, primarily due to lower catastrophe losses. The competitive nature of the Core Commercial market requires us to be highly disciplined in our underwriting process to ensure that we write business at acceptable margins, and we continue to seek rate increases across many lines of business.
Specialty
Specialty offers a competitive set of products that is focused predominately on small to mid-sized businesses. This includes numerous specialized product areas that are organized into four distinct divisions - Professional and Executive Lines, Specialty Property and Casualty ("Specialty P&C"), Marine, and Surety and Other. We believe that this distribution of Specialty products, primarily with retail agents supplemented by select specialists, serves as a complement to our Core Commercial business and helps to enhance our overall agent value and increase growth opportunities. Net premiums written increased 9.4% in the first three months of 2022, compared to the same period in 2021, primarily due to pricing increases. Underwriting results increased in the first three months of 2022, primarily due to lower catastrophe losses and higher favorable development of prior years' loss reserves. The competitive nature of the Specialty market requires us to be highly disciplined in our underwriting process to ensure that we write business at acceptable margins, and we continue to seek rate increases across many lines of business. Personal Lines Personal Lines focuses on working with high quality, value-oriented agencies that deliver consultative selling to customers and stress the importance of account rounding (the conversion of single policy customers to accounts with multiple policies and/or additional coverages, to address customers' broader objectives). Approximately 87% of our policies in force have been issued to customers with multiple policies and/or coverages with us. We are focused on seeking profitable growth opportunities, building a distinctive position in the market in order to meet our customers' needs and diversifying geographically. We continue to seek appropriate rate increases that meet or exceed underlying loss cost trends, subject to regulatory and competitive considerations. Net premiums written increased by 10.1% in the first three months of 2022, compared to the same period in 2021, primarily due to increased new business production and improved retention. Underwriting results decreased in the first three months of 2022, primarily due to higher current accident year personal automobile losses and unfavorable development of prior years' loss reserves in our homeowners line, partially offset by earned premium growth.
Description of Operating Segments
Primary business operations include insurance products and services currently provided through four operating segments: Core Commercial, Specialty, Personal Lines and Other. Core Commercial includes commercial multiple peril, commercial automobile, workers' compensation, and other commercial lines coverages provided to small and mid-sized businesses. Specialty includes four divisions of business: Professional and Executive Lines, Specialty P&C, Marine, and Surety and Other. Specialty P&C includes coverages such as program business (provides commercial insurance to markets with specialized coverage or risk management needs related to groups of similar businesses), specialty industrial and commercial property, and excess and surplus lines. Personal Lines includes personal automobile, homeowners and other personal coverages, such as umbrella. Included in the "Other" segment areOpus Investment Management, Inc. , which markets investment management services to institutions, pension funds, and other organizations; earnings on holding company assets; holding company and other expenses, including certain costs associated with retirement benefits due to our former life insurance employees and agents; and our run-off voluntary assumed property and casualty pools and run-off direct asbestos and environmental businesses. During the first quarter of 2022, we disaggregated our former Commercial Lines segment into the aforementioned Core Commercial and Specialty segments. Prior periods reflect this new presentation. This presentation is consistent with the manner in which our chief operating decision maker evaluates results in deciding how to allocate resources and in assessing performance. We report interest expense on debt separately from the earnings of our operating segments. This consists primarily of interest on our senior and subordinated debentures.
Results of Operations - Consolidated
Consolidated net income for the three months endedMarch 31, 2022 was$104.8 million , compared to$92.7 million for the three months endedMarch 31, 2021 , an increase of$12.1 million . The increase in consolidated net income was primarily due to an increase in operating income before interest expense and income taxes for the three months endedMarch 31, 2022 , partially offset by higher after-tax net realized and unrealized investment losses of approximately$43.8 million , primarily related to the change in the fair value of equity securities. Operating income before interest expense and income taxes increased$69.3 million primarily due to lower catastrophe losses and earned premium growth, partially offset by higher current accident year losses in our Personal Lines segment. 25
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The following table reflects operating income before interest expense and income taxes for each operating segment and a reconciliation to consolidated net income from operating income before interest expense and income taxes (a non-GAAP measure). Three Months Ended March 31, (in millions) 2022 2021 Operating income (loss) before interest expense and income taxes: Core Commercial$ 67.5 $ (14.8 ) Specialty 50.0 17.0 Personal Lines 36.3 81.8 Other 0.6 1.1
Operating income before interest expense and income
taxes
154.4
85.1
Interest expense on debt (8.5 ) (8.5 ) Operating income before income taxes 145.9
76.6
Income tax expense on operating income (28.2 ) (15.2 ) Operating income 117.7
61.4
Non-operating items: Net realized and unrealized investment gains (losses) (15.9 )
37.5
Income tax benefit (expense) on non-operating items 3.5 (6.1 ) Income from continuing operations, net of taxes 105.3
92.8
Discontinued operations (net of taxes): Loss from discontinued life businesses (0.5 ) (0.1 ) Net income$ 104.8 $ 92.7 Non-GAAP Financial Measures In addition to consolidated net income, discussed above, we assess our financial performance based upon pre-tax "operating income," and we assess the operating performance of each of our four operating segments based upon the pre-tax operating income (loss) generated by each segment. As reflected in the table above, operating income before interest expense and income taxes excludes interest expense on debt and certain other items which we believe are not indicative of our core operations, such as net realized and unrealized investment gains and losses. Such gains and losses are excluded since they are determined by interest rates, financial markets and the timing of sales. Also, operating income before interest expense and income taxes excludes net gains and losses on disposals of businesses, gains and losses related to the repayment of debt, discontinued operations, costs to acquire businesses, restructuring costs, the cumulative effect of accounting changes and certain other items. Although the items excluded from operating income before interest expense and income taxes are important components in understanding and assessing our overall financial performance, we believe a discussion of operating income before interest expense and income taxes enhances an investor's understanding of our results of operations by highlighting net income attributable to the core operations of the business. However, operating income before interest expense and income taxes, which is a non-GAAP measure, should not be construed as a substitute for income before income taxes or income from continuing operations, and operating income should not be construed as a substitute for net income. Catastrophe losses and prior years' reserve development are significant components in understanding and assessing the financial performance of our business. Management reviews and evaluates catastrophes and prior years' reserve development separately from the other components of earnings. References to "current accident year underwriting results" exclude prior accident year reserve development and may also be presented "excluding catastrophes." Prior years' reserve development and catastrophes are not predictable as to timing or the amount that will affect the results of our operations and have an effect on each year's operating and net income. Management believes that providing certain financial metrics and trends excluding the effects of catastrophes and prior years' reserve development helps investors to understand the variability in periodic earnings and to evaluate the underlying performance of our operations. Discussion of catastrophe losses in this Management's Discussion and Analysis includes development on prior years' catastrophe reserves and, unless otherwise indicated, such development is excluded from discussions of prior year loss and loss adjustment expenses ("LAE") reserve development. 26
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Results of Operations - Segments
The following is our discussion and analysis of the results of operations by business segment. The operating results are presented before interest expense, income taxes and other items, which management believes are not indicative of our core operations, including realized gains and losses, as well as unrealized gains and losses on equity securities, and the results of discontinued operations. The following table summarizes the results of operations for the periods indicated: Three Months Ended March 31, (in millions) 2022 2021 Operating revenues Net premiums written$ 1,312.3 $ 1,196.1 Net premiums earned$ 1,263.8 $ 1,161.8 Net investment income 76.9 76.8 Other income 5.9 6.0 Total operating revenues 1,346.6 1,244.6 Losses and operating expenses Losses and LAE 787.5
781.3
Amortization of deferred acquisition costs 262.9
240.3
Other operating expenses 141.8
137.9
Total losses and operating expenses 1,192.2
1,159.5
Operating income before interest expense and income taxes
Three Months Ended
Operating income before interest expense and income taxes was$154.4 million for the three months endedMarch 31, 2022 , compared to$85.1 million for the three months endedMarch 31, 2021 , an increase of$69.3 million . This increase was primarily due to lower catastrophe losses and earned premium growth, partially offset by higher personal automobile current accident year losses. Net premiums written increased$116.2 million for the three months endedMarch 31, 2022 , compared to the three months endedMarch 31, 2021 , primarily due to rate and exposure increases and continued strong retention.
Production and Underwriting Results
The following tables summarize premiums written on a gross and net basis, net premiums earned and loss (including catastrophe losses), LAE, expense and combined ratios for the Core Commercial, Specialty, and Personal Lines segments. Loss, LAE, catastrophe loss and combined ratios shown below include prior year reserve development. These items are not meaningful for our Other segment. Three Months Ended March 31, 2022 Gross Net Net Premiums Premiums Premiums Catastrophe Loss & LAE Expense Combined (dollars in millions) Written Written Earned Loss Ratios Ratios Ratios Ratios Core Commercial$ 591.9 $ 526.6 $ 474.7 4.1 60.2 32.8 93.0 Specialty 379.1 302.8 283.8 2.7 52.3 35.4 87.7 Personal Lines 499.1 482.9 505.3 3.6 69.9 27.2 97.1 Total$ 1,470.1 $ 1,312.3 $ 1,263.8 3.6 62.3 31.1 93.4 Three Months Ended March 31, 2021 Gross Net Net Premiums Premiums Premiums Catastrophe Loss & LAE Expense Combined (dollars in millions) Written Written Earned Loss Ratios Ratios Ratios Ratios Core Commercial$ 539.9 $ 480.6 $ 435.2 21.7 78.7 33.0 111.7 Specialty 344.1 276.8 257.7 9.5 62.9 35.9 98.8 Personal Lines 453.6 438.7 468.9 3.1 59.0 28.0 87.0 Total$ 1,337.6 $ 1,196.1 $ 1,161.8 11.5 67.2 31.6 98.8 27
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The following table summarizes
Commercial, Specialty, Personal Lines and Other segments and reconciles them to
operating income before interest expense and income taxes.
Three Months Ended March 31, 2022 2021 Core Commercial Specialty Personal Other Total Core Commercial Specialty Personal Other Total (in millions) Lines Lines Underwriting profit, excluding prior year reserve development and catastrophes $ 45.5$ 28.3 $ 44.1 $ -$ 117.9 $ 40.4$ 25.8 $ 68.2 $ -$ 134.4 Prior year favorable (unfavorable) loss and LAE reserve development on non-catastrophe losses 6.4 13.2 (13.6 ) - 6.0 2.7 0.6 5.2 (0.3 ) 8.2 Prior year favorable (unfavorable) catastrophe development - - - - - 0.1 (0.1 ) - - - Current year catastrophe losses (19.7 ) (7.6 ) (18.2 ) - (45.5 ) (94.5 ) (24.3 ) (14.5 ) - (133.3 ) Underwriting profit (loss) 32.2 33.9 12.3 - 78.4 (51.3 ) 2.0 58.9 (0.3 ) 9.3 Net investment income 35.4 16.2 22.6 2.7 76.9 36.9 14.9 22.1 2.9 76.8 Fees and other income 1.0 1.3 2.8 0.8 5.9 0.8 1.6 2.3 1.3 6.0 Other operating expenses (1.1 ) (1.4 ) (1.4 ) (2.9 ) (6.8 ) (1.2 )
(1.5 ) (1.5 ) (2.8 ) (7.0 ) Operating income (loss) before interest expense and income taxes $ 67.5$ 50.0 $ 36.3 $ 0.6 $ 154.4 $ (14.8 )$ 17.0 $ 81.8 $ 1.1 $ 85.1 Core Commercial Core Commercial net premiums written were$526.6 million for the three months endedMarch 31, 2022 , compared to$480.6 million for the three months endedMarch 31, 2021 . This$46.0 million increase was primarily driven by pricing and exposure increases and continued strong retention. Core Commercial underwriting profit for the three months endedMarch 31, 2022 was$32.2 million , compared to a$51.3 million loss for the three months endedMarch 31, 2021 , a favorable change of$83.5 million . Catastrophe losses for the three months endedMarch 31, 2022 were$19.7 million , compared to$94.4 million for the three months endedMarch 31, 2021 , a decrease of$74.7 million . The higher catastrophe losses in 2021 were primarily due to freeze events inTexas and surrounding states. Net favorable development on prior year's loss reserves for the three months endedMarch 31, 2022 was$6.4 million , compared to$2.7 million for the three months endedMarch 31, 2021 , an increase of$3.7 million .
Core Commercial current accident year underwriting profit, excluding
catastrophes, was
compared to
million
We continue to manage underwriting performance through rate actions, pricing segmentation, specific underwriting actions and targeted new business growth. Our ability to achieve overall rate increases is affected by many factors, including regulatory activity and the competitive pricing environment, particularly within the workers' compensation line. Due to uncertainty caused by the Pandemic and the increase in inflation, there is a level of uncertainty in our ability to grow our business and maintain or improve our underwriting profitability in this environment. The extent and duration of these uncertainties are unknown and may result in an increase in claims costs and reduced premium levels.
Specialty
Specialty net premiums written were$302.8 million for the three months endedMarch 31, 2022 , compared to$276.8 million for the three months endedMarch 31, 2021 . This$26.0 million increase was primarily driven by improved retention and pricing, especially in our Professional and Executive and Specialty P&C divisions. Specialty underwriting profit for the three months endedMarch 31, 2022 was$33.9 million , compared to$2.0 million for the three months endedMarch 31, 2021 , an increase of$31.9 million . Catastrophe losses for the three months endedMarch 31, 2022 were$7.6 million , compared to$24.4 million for the three months endedMarch 31, 2021 , a decrease of$16.8 million . The higher catastrophe losses in 2021 were primarily due to freeze events inTexas and surrounding states. Net favorable development on prior year's loss reserves for the three months endedMarch 31, 2022 was$13.2 million , compared to$0.6 million for the three months endedMarch 31, 2021 , an increase of$12.6 million . 28
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Specialty current accident year underwriting profit, excluding catastrophes, was$28.3 million for the three months endedMarch 31, 2022 , compared to$25.8 million for the three months endedMarch 31, 2021 . This$2.5 million increase was primarily driven by earned premium growth. We continue to manage underwriting performance through rate actions, pricing segmentation, specific underwriting actions and targeted new business growth. Our ability to achieve overall rate increases is affected by many factors, including regulatory activity and the competitive pricing environment. Due to uncertainty caused by the Pandemic and the increase in inflation, there is a level of uncertainty in our ability to grow our business and maintain or improve our underwriting profitability in this environment. The extent and duration of these uncertainties are unknown and may result in an increase in claims costs and reduced premium levels. Personal Lines
Personal Lines net premiums written were
ended
increased new business and retention.
Net premiums written in the personal automobile line of business for the three months endedMarch 31, 2022 were$298.4 million , compared to$280.7 million for the three months endedMarch 31, 2021 , an increase of$17.7 million . Personal automobile policies in force increased by 8.0%. Net premiums written in the homeowners and other lines of business for the three months endedMarch 31, 2022 were$184.5 million , compared to$158.0 million for the three months endedMarch 31, 2021 , an increase of$26.5 million . Homeowners policies in force increased by 7.5%. Personal Lines underwriting profit for the three months endedMarch 31, 2022 was$12.3 million , compared to$58.9 million for the three months endedMarch 31, 2021 , a decrease of$46.6 million . Catastrophe losses for the three months endedMarch 31, 2022 were$18.2 million , compared to$14.5 million for the three months endedMarch 31, 2021 , an increase of$3.7 million . Net unfavorable development on prior year's loss reserves for the three months endedMarch 31, 2022 was$13.6 million , compared to$5.2 million of favorable development for the three months endedMarch 31, 2021 . The 2022 unfavorable development was primarily related to a higher severity of losses in our homeowners line. Personal Lines current accident year underwriting profit, excluding catastrophes, was$44.1 million for the three months endedMarch 31, 2022 , compared to$68.2 million for the three months endedMarch 31, 2021 . This$24.1 million decrease was primarily due to higher current accident year loss severity in our personal automobile line, partially offset by lower expenses and higher earned premium growth. We experienced an increase in physical damage and property severity associated with supply chain issues and limited availability of new vehicles due to chip shortages, higher used vehicle prices, and higher cost of parts. We have been able to obtain rate increases in our Personal Lines markets and believe that our ability to obtain increases will continue over the long-term. Our ability to maintain Personal Lines net premiums written may be affected, however, by price competition, and regulatory and legal activity and developments. See "Contingencies and Regulatory Matters." Additionally, these factors, along with weather-related loss volatility, may also affect our ability to maintain and improve underwriting results. We monitor these trends and consider them in our rate actions. Due to uncertainty caused by the Pandemic and the increase in inflation, there is a level of uncertainty in our ability to retain or grow our business, and may result in an increase in claims costs.
Other
Our Other segment had operating income of
ended
31, 2021
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Reserve for Losses and Loss Adjustment Expenses
The table below provides a reconciliation of the gross beginning and ending
reserve for unpaid losses and loss adjustment expenses.
Three Months Ended March 31, (in millions) 2022 2021
Gross reserve for losses and LAE, beginning of period
6,024.0
Reinsurance recoverable on unpaid losses 1,693.8
1,641.6
Net reserve for losses and LAE, beginning of period 4,753.8
4,382.4
Net incurred losses and LAE in respect of losses occurring in: Current year 793.5
789.5
Prior year non-catastrophe loss development (6.0 ) (8.2 ) Total incurred losses and LAE 787.5
781.3
Net payments of losses and LAE in respect of losses occurring in: Current year 191.1 178.5 Prior years 534.2 435.0 Total payments 725.3 613.5 Net reserve for losses and LAE, end of period 4,816.0
4,550.2
Reinsurance recoverable on unpaid losses 1,696.2
1,673.5
Gross reserve for losses and LAE, end of period
6,223.7
The table below summarizes the gross reserve for losses and LAE by line of business and division. March 31, December 31, (in millions) 2022 2021 Commercial multiple peril$ 1,329.4 $ 1,338.4 Workers' compensation 472.5 473.1 Commercial automobile 708.1 698.5 Other core commercial 501.5 481.0 Total Core Commercial 3,011.5 2,991.0 Specialty Property & Casualty 811.9 798.6 Professional and Executive Lines 511.0 494.9 Marine 123.3 122.5 Surety and Other 109.8 106.0 Total Specialty 1,556.0 1,522.0 Personal automobile 1,576.2 1,590.7 Homeowners and Other 303.1 277.7 Total Personal Lines 1,879.3 1,868.4 Total Other 65.4 66.2 Total loss and LAE reserves$ 6,512.2 $ 6,447.6 Loss and LAE reserves in our "Other core commercial" lines include general liability, commercial umbrella, and monoline property. "Specialty Property & Casualty" includes program business, specialty industrial and commercial property, and excess and surplus lines. "Professional and Executive Lines" includes professional and management liability, fidelity and crime, and other property and liability lines for healthcare firms. Loss and LAE reserves in our "Total Other" segment relate to our run-off voluntary assumed property and casualty reinsurance pools business and our run-off direct asbestos and environmental business. 30
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The following table summarizes prior year (favorable) unfavorable development for the periods indicated: Three Months Ended March 31, 2022 2021 (in millions) Loss & LAE Catastrophe Total Loss & LAE Catastrophe Total Core Commercial$ (6.4 ) $ -$ (6.4 ) $ (2.7 ) $ (0.1 ) $ (2.8 ) Specialty (13.2 ) - (13.2 ) (0.6 ) 0.1 (0.5 ) Personal Lines 13.6 - 13.6 (5.2 ) - (5.2 ) Other - - - 0.3 - 0.3 Total prior year favorable development$ (6.0 ) $ -$ (6.0 ) $ (8.2 ) $ -$ (8.2 ) It is not possible to know whether the factors that affected loss reserves in the first three months of 2022 will also occur in future periods. We encourage you to read our 2021 Annual Report on Form 10-K for more information about our reserving process and the judgments, uncertainties and risks associated therewith.
For the three months ended
loss development.
2022 Loss and
For the three months endedMarch 31, 2022 , net favorable loss and LAE development, excluding catastrophes, was$6.0 million . Core Commercial favorable loss and LAE development of$6.4 million was primarily due to lower than expected losses in the workers' compensation line, primarily in accident year 2020. Specialty favorable loss and LAE development of$13.2 million was primarily due to lower than expected losses in our marine, specialty industrial and commercial property, professional and executive, and surety lines. Personal Lines unfavorable loss and LAE development of$13.6 million was due to higher than expected loses in the homeowners line of$13.9 million . The increase in homeowners losses was primarily due to higher severity and longer cycle times in repair activity, primarily related to claims incurred in the fourth quarter of 2021.
2021 Loss and
For the three months endedMarch 31, 2021 , net favorable loss and LAE development, excluding catastrophes, was$8.2 million . This was primarily due to lower than expected losses in the personal automobile line, driven by lower bodily injury and personal injury protection losses primarily in accident year 2020, and in the workers' compensation line, primarily in accident years 2015 through 2017 and 2019. Reinsurance Recoverables Reinsurance recoverables were$1,940.3 million and$1,907.3 million atMarch 31, 2022 andDecember 31, 2021 , respectively, of which$128.6 million and$100.4 million , respectively, represent billed recoverables. A reinsurance recoverable is billed after an eligible reinsured claim is paid by an insurer. Billed reinsurance recoverables related to theMichigan Catastrophic Claims Association (the "MCCA") were$55.7 million and$49.8 million atMarch 31, 2022 andDecember 31, 2021 , respectively, and billed non-MCCA reinsurance recoverables totaled$72.9 million and$50.6 million atMarch 31, 2022 andDecember 31, 2021 , respectively. AtMarch 31, 2022 ,$0.3 million of the billed non-MCCA recoverables were outstanding greater than 90 days, whereas atDecember 31, 2021 , there were no balances outstanding greater than 90 days. 31
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Table of Contents Investments Investment Results
Net investment income before income taxes was as follows:
Three Months Ended March 31, (dollars in millions) 2022 2021 Fixed maturities$ 55.8 $ 54.5 Limited partnerships 15.2 15.1 Mortgage loans 4.4 5.4 Equity securities 3.6 3.8 Other investments 0.8 0.7 Investment expenses (2.9 ) (2.7 ) Net investment income$ 76.9 $ 76.8 Earned yield, fixed maturities 2.95 % 3.11 % Earned yield, total portfolio 3.52 % 3.74 %
The increase in net investment income for the three months ended
was primarily due to the continued investment of operational cash flows,
partially offset by the impact of lower new money yields and lower mortgage
income.
Investment Portfolio
We held cash and investment assets diversified across several asset classes, as follows: March 31, 2022 December 31, 2021 Carrying % of Total Carrying % of Total (dollars in millions) Value Carrying Value Value Carrying Value Fixed maturities, at fair value$ 7,382.2 81.6 %$ 7,723.9 82.3 % Equity securities, at fair value 607.0 6.7 661.3 7.0 Mortgage and other loans 438.5 4.9 434.0 4.6 Other investments 347.6 3.8 333.4 3.6 Cash and cash equivalents 272.0 3.0 230.9 2.5 Total cash and investments$ 9,047.3 100.0 %$ 9,383.5 100.0 % Cash and Investments Total cash and investments decreased$336.2 million , or 3.6%, for the three months endedMarch 31, 2022 as compared toDecember 31, 2021 . The decrease was primarily due to net market value depreciation, partially offset by cash received from the MCCA to refund policyholders. ThroughMarch 31, 2022 ,$34.4 million of the MCCA refund was paid to policyholders and$148.9 million is expected to be paid during the second quarter of 2022. The following table provides information about the investment types of our fixed maturities portfolio: March 31, 2022 Amortized Cost, Net of Change in Net (in millions) Allowance for Credit Net Unrealized Unrealized Investment Type Losses Fair Value Gain (Loss) For the Year U.S. Treasury and government agencies $ 404.0$ 381.7 $ (22.3 ) $ (24.2 ) Foreign government 2.2 2.3 0.1 (0.3 ) Municipals: Taxable 1,166.5 1,113.0 (53.5 ) (77.3 ) Tax-exempt 23.1 22.9 (0.2 ) (1.0 ) Corporate 3,999.4 3,911.5 (87.9 ) (246.8 ) Asset-backed: Residential mortgage-backed 1,060.2 999.0 (61.2 ) (62.6 ) Commercial mortgage-backed 824.1 796.4 (27.7 ) (49.7 ) Asset-backed 165.3 155.4 (9.9 ) (9.8 ) Total fixed maturities $ 7,644.8 $
7,382.2 $ (262.6 )
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The change in net unrealized gain (loss) on fixed maturities was primarily due
to higher prevailing interest rates and, to a lesser extent, wider credit
spreads.
Amortized cost and fair value by rating category were as follows:
March 31, 2022 December 31, 2021 (dollars in millions) Rating Agency Amortized Cost, Net of Fair % of Total Amortized Cost, Net of Fair % of Total NAIC Designation Equivalent Designation Allowance for Credit Losses Value Fair Value Allowance for Credit Losses Value Fair Value 1 Aaa/Aa/A $ 5,010.9$ 4,829.3 65.4 % $ 4,867.5$ 4,987.6 64.6 % 2 Baa 2,256.5 2,186.2 29.6 2,302.2 2,380.4 30.8 3 Ba 230.2 223.4 3.0 216.9 225.2 2.9 4 B 140.8 136.4 1.9 123.2 125.3 1.6 5 Caa and lower 6.4 6.9 0.1 5.0 5.4 0.1 Total fixed maturities $ 7,644.8$ 7,382.2 100.0 % $ 7,514.8$ 7,723.9 100.0 % Based on ratings by theNational Association of Insurance Commissioners ("NAIC"), approximately 95% of the fixed maturity portfolio consisted of investment grade securities at bothMarch 31, 2022 andDecember 31, 2021 . The quality of our fixed maturity portfolio remains strong based on ratings, capital structure position, support through guarantees, underlying security, issuer diversification and yield curve position. Our investment portfolio primarily consists of fixed maturity securities whose fair value is susceptible to market risk, including interest rate changes. See also "Quantitative and Qualitative Disclosures about Market Risk" included in Management's Discussion and Analysis of Financial Condition and Results of Operations contained in our 2021 Annual Report on Form 10-K. Duration is a measurement used to quantify our inherent interest rate risk and analyze invested assets relative to our reserve liabilities.
The duration of our fixed maturity portfolio was as follows:
March 31, 2022 December 31, 2021 (dollars in millions) Amortized Cost, Net of % of Total Amortized Cost, Net of % of Total Duration Allowance for Credit Losses Fair Value Fair Value Allowance for Credit Losses Fair Value Fair Value 0-2 years $ 1,036.5$ 1,044.8 14.2 % $ 1,080.2$ 1,108.3 14.3 % 2-4 years 1,535.3 1,539.4 20.8 1,581.1 1,660.9 21.5 4-6 years 2,230.1 2,176.7 29.5 2,263.8 2,349.0 30.4 6-8 years 2,162.9 2,001.9 27.1 1,603.8 1,622.4 21.0 8-10 years 570.7 517.5 7.0 854.9 846.5 11.0 10+ years 109.3 101.9 1.4 131.0 136.8 1.8 Total fixed maturities $ 7,644.8$ 7,382.2 100.0 % $ 7,514.8$ 7,723.9 100.0 % Weighted average duration 4.9 4.9 Our fixed maturity and equity securities are carried at fair value. Financial instruments whose value was determined using significant management judgment or estimation constituted less than 1% of the total assets we measured at fair value. See also Note 4 - "Fair Value" in the Notes to Interim Consolidated Financial Statements.
Equity securities primarily consist of
common stocks and developed market equity index exchange-traded funds.
Mortgage and other loans consist primarily of commercial mortgage loan participations, which represent our interest in commercial mortgage loans originated by a third party. We share, on a pro-rata basis, in all related cash flows of the underlying mortgage loans, which are primarily investment-grade quality and diversified by geographic area and property type. Other investments consist primarily of our interest in corporate middle market and real estate limited partnerships. Corporate middle market limited partnerships may invest in senior or subordinated debt, preferred or common equity, or a combination thereof, of privately held middle market businesses. Real estate limited partnerships hold equity ownership positions in real properties and invest in debt secured by real properties. Our limited partnerships are generally accounted for under the equity method, or as a practical expedient using the fund's net asset value, with financial information provided by the partnership on a two or three month lag. Although we expect to invest new funds primarily in investment grade fixed maturities, we have invested, and expect to continue to invest, a portion of funds in limited partnerships, common equity securities, below investment grade fixed maturities and other investment assets. 33
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Table of Contents Impairments
For the three months ended
fixed maturities of
losses and
ended
At
mortgage loans was
available-for-sale debt securities was
respectively.
AtMarch 31, 2022 andDecember 31, 2021 we held no fixed maturity securities on non-accrual status. AtMarch 31, 2021 , fixed maturities on non-accrual status were not material and the effect of non-accruals for the three months endedMarch 31, 2021 , compared with amounts that would have been recognized in accordance with the original terms of the fixed maturities, were also not material. Any defaults in the fixed maturities portfolio in future periods may negatively affect investment income.
Unrealized Losses
Gross unrealized losses on fixed maturities at
million
attributable to higher interest rates and, to a lesser extent, wider credit
spreads. At
mortgage-backed securities,
commercial mortgage-backed securities, and
securities. See Note 3 - "Investments" in the Notes to Interim Consolidated
Financial Statements.
We view gross unrealized losses on fixed maturities as non-credit related since it is our assessment that these securities will recover, allowing us to realize their anticipated long-term economic value. Further, we do not intend to sell, nor is it more likely than not we will be required to sell, such debt securities before this expected recovery of amortized cost (See also "Liquidity and Capital Resources"). Inherent in our assessment are the risks that market factors may differ from our expectations; we may decide to subsequently sell a security for unforeseen business needs; or changes in the credit assessment from our original assessment may lead us to determine that a sale at the current value would maximize recovery on such investments. To the extent that there are such adverse changes, an impairment would be recognized as a realized loss. Although unrealized losses on fixed maturities are not reflected in the results of financial operations until they are realized, the fair value of the underlying investment, which does reflect the unrealized loss, is reflected in our Consolidated Balance Sheets. The following table sets forth gross unrealized losses for fixed maturities by maturity period atMarch 31, 2022 andDecember 31, 2021 . 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, or we may have the right to put or sell the obligations back to the issuers. March 31, December 31, (in millions) 2022 2021
Due after one year through five years
Due after five years through ten years
156.2 19.4 Due after ten years 42.4 10.9 209.9 31.0 Mortgage-backed and asset-backed securities 102.3 17.0 Total fixed maturities$ 312.2 $ 48.0 Our investment portfolio and shareholders' equity can be significantly impacted by changes in market values of our securities. Market volatility could increase and defaults on fixed income securities could occur. As a result, we could incur additional realized and unrealized losses in future periods, which could have a material adverse impact on our results of operations and/or financial position. Economic growth in theU.S. remains positive, driven by strength in the overall labor market and consumer spending. However, a number of risks have created greater uncertainty in the near-term. The spike in interest rates has led to a tightening of financial conditions for businesses and consumers which may impact consumer spending and corporate profitability. Lingering effects of the Pandemic, such as supply chain interruptions and labor market imbalances, have yet to be fully resolved. In addition, implications of the invasion ofUkraine byRussia and the impact of recently imposed sanctions, higher energy and commodity prices, as well as broad global trade disruptions impose additional risks. Despite this uncertainty, indicators of economic activity and employment have remained strong in theU.S. It is unclear how these risks will affect the continued economic recovery and our investment portfolio. With inflation having exceeded their 2 percent target for some time, combined with improvement in the labor market, theFederal Reserve (the "Fed") raised the federal funds rate by 0.25% in March and anticipates that ongoing increases in the target range will be appropriate. Additionally, it expects to reduce its holdings ofTreasury and agency securities in coming months.The Fed's asset purchase program represents a significant source of demand for certain sectors of the fixed income market and even a well-telegraphed, accelerated winding down of the program may result in market disruptions. In assessing the appropriate stance of monetary policy, the Fed will continue to monitor the implications of incoming information on its economic outlook. 34
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Fundamental conditions in certain corporate sectors remain challenging, such as lodging and hospitality, which still face lower than pre-Pandemic levels of demand. We may experience defaults on fixed income securities, particularly with respect to non-investment grade debt securities. Although we perform rigorous credit analysis of our fixed income investments, it is difficult to foresee which issuers, industries or markets will be most affected. As a result, the value of our fixed maturity portfolio could change rapidly in ways we cannot currently anticipate, and we could incur additional realized and unrealized losses in future periods.
Other Items
Net income also included the following items:
Three Months Ended March 31, Personal Discontinued (in millions) Core Commercial Specialty Lines Other Operations Total 2022 Net realized and unrealized investment gains (losses) $ (7.6 )$ (3.5 ) $ (4.9 ) $ 0.1 $ -$ (15.9 ) Discontinued life businesses - - - - (0.5 ) (0.5 ) 2021 Net realized and unrealized investment gains $ 18.6$ 7.5 $ 11.2 $ 0.2 $ -$ 37.5 Discontinued life businesses - - - - (0.1 ) (0.1 ) We manage investment assets for our Core Commercial, Specialty, Personal Lines and Other segments based on the requirements of our combined property and casualty insurance companies. We allocate the investment income, expenses and realized gains and losses to our Core Commercial, Specialty, Personal Lines and Other segments based on actuarial information related to the underlying businesses. Net realized and unrealized investment losses were$15.9 million for the three months endedMarch 31, 2022 , compared to net realized and unrealized gains of$37.5 million for the three months endedMarch 31, 2021 . For the three months endedMarch 31, 2022 and 2021, net realized and unrealized investment gains (losses) were primarily due to changes in the fair value of equity securities. Discontinued operations include our discontinued accident and health and life businesses. Losses of$0.5 million and$0.1 million the three months endedMarch 31, 2022 and 2021, primarily reflect adverse loss trends related to the long-term care pool.
Income Taxes
We file a consolidated
company and its domestic subsidiaries (including non-insurance operations).
Three Months Ended
The provision for income taxes from continuing operations was an expense of$24.7 million and$21.3 million for the three months endedMarch 31, 2022 and 2021, respectively. These provisions resulted in consolidated effective federal tax rates of 19.0% and 18.7% for the three months endedMarch 31, 2022 and 2021, respectively. These provisions include excess tax benefits related to stock-based compensation of$2.8 million and$1.0 million for the three months endedMarch 31, 2022 and 2021, respectively. In addition, the provision for 2021 reflects benefits related to tax planning strategies implemented in prior years of$1.9 million . Absent these items, the provision for income taxes would have been an expense of$27.5 million and$24.2 million for the three months endedMarch 31, 2022 and 2021, respectively, or 21.2% for both periods. The income tax provision on operating income was an expense of$28.2 million and$15.2 million for the three months endedMarch 31, 2022 and 2021, respectively. These provisions resulted in effective tax rates for operating income of 19.3% and 19.8% for the three months endedMarch 31, 2022 and 2021, respectively. These provisions include excess tax benefits related to stock-based compensation of$2.8 million and$1.0 million for the three months endedMarch 31, 2022 and 2021, respectively. Absent this item, the provisions for income taxes would have been an expense of$31.0 million , or 21.2%, and$16.2 million , or 21.1%, for the three months endedMarch 31, 2022 and 2021, respectively. 35
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Critical Accounting Estimates
Interim consolidated financial statements have been prepared in conformity withU.S. GAAP and include certain accounting policies that we consider to be critical due to the amount of judgment and uncertainty inherent in the application of those policies. While we believe that the amounts included in our consolidated financial statements reflect our best judgment, the use of different assumptions could produce materially different accounting estimates. As disclosed in our 2021 Annual Report on Form 10-K, we believe the following accounting estimates are critical to our operations and require the most subjective and complex judgment: • Reserve for losses and loss expenses • Reinsurance recoverable balances • Pension benefit obligations • Investment credit losses
For a more detailed discussion of these critical accounting estimates, see our
2021 Annual Report on Form 10-K.
Statutory Surplus of Insurance Subsidiaries
The following table reflects statutory surplus for our insurance subsidiaries:
March 31, December 31, (in millions) 2022 2021
The statutory capital and surplus for our insurance subsidiaries increased$89.6 million during the first three months of 2022. This increase was primarily driven by an increase in underwriting profits and net realized investment gains, partially offset by net unrealized investment losses, primarily due to changes in the fair value of equity securities. The NAIC prescribes an annual calculation regarding risk-based capital ("RBC"). RBC ratios for regulatory purposes are expressed as a percentage of the capital required to be above the Authorized Control Level (the "Regulatory Scale"); however, in the insurance industry, RBC ratios are widely expressed as a percentage of the Company Action Level. The following table reflects the Company Action Level, the Authorized Control Level and RBC ratios forHanover Insurance (which includes Citizens and other insurance subsidiaries), as ofMarch 31, 2022 , expressed both on the Industry Scale (Total Adjusted Capital divided by the Company Action Level) and Regulatory Scale (Total Adjusted Capital divided by Authorized Control Level): Company Authorized RBC Ratio RBC Ratio (dollars in millions) Action Level Control Level Industry Scale Regulatory Scale The Hanover Insurance Company$ 1,190.6 $ 595.3 235 % 470 %
Liquidity and Capital Resources
Liquidity is a measure of our ability to generate sufficient cash flows to meet the cash requirements of business operations. As a holding company, our primary ongoing source of cash is dividends from our insurance subsidiaries. However, dividend payments to us by our insurance subsidiaries are subject to limitations imposed by regulators, such as prior notice periods and the requirement that dividends in excess of a specified percentage of statutory surplus or prior year's statutory earnings receive prior approval (so called "extraordinary dividends"). During the first quarter of 2022,Hanover Insurance did not pay dividends to the holding company. Sources of cash for our insurance subsidiaries primarily consist of premiums collected, investment income and maturing investments. Primary cash outflows are payments for losses and loss adjustment expenses, policy and contract acquisition expenses, other underwriting expenses and investment purchases. Cash outflows related to losses and loss adjustment expenses can be variable because of uncertainties surrounding settlement dates for liabilities for unpaid losses and because of the potential for large losses either individually or in the aggregate. We periodically adjust our investment policy to respond to changes in short-term and long-term cash requirements. Net cash provided by operating activities was$200.1 million during the first three months of 2022, as compared to$141.8 million during the first three months of 2021. The$58.3 million increase in cash provided was primarily due to the receipt of$183.3 million of surplus funds received from the MCCA, partially offset by$34.4 million that were remitted to policyholders in the first quarter of 2022. We expect to remit the remainder of these funds to policyholders in the second quarter of 2022. Additionally, cash was provided by an increase in premiums received, partially offset by an increase in loss and LAE payments. Net cash used in investing activities was$112.2 million during the first three months of 2022, as compared to$78.6 million during the first three months of 2021. During the first three months of 2022 and 2021, cash used in investing activities primarily related to net purchases of fixed maturities. 36
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Net cash used in financing activities was$46.8 million during the first three months of 2022, as compared to$71.7 million during the first three months of 2021. During the first three months of 2022, cash used in financing activities primarily resulted from the quarterly dividend payment to our shareholders and, to a lesser extent, the repurchase of common stock. During the first three months of 2021, cash used in financing activities primarily resulted from the repurchase of common stock and from the quarterly dividend payment to shareholders. Dividends to common shareholders are subject to quarterly board approval and declaration. During the first three months of 2022, as declared by the Board, we paid a quarterly dividend of$0.75 per share to our shareholders totaling$26.7 million . We believe that our holding company assets are sufficient to provide for future shareholder dividends should the Board of Directors declare them. AtMarch 31, 2022 , THG, as a holding company, held approximately$333.1 million of fixed maturities and cash. We believe our holding company assets will be sufficient to meet our current year obligations, which we expect to consist primarily of quarterly dividends to our shareholders (as and to the extent declared), interest on our senior and subordinated debentures, certain costs associated with benefits due to our former life employees and agents, and, to the extent required, payments related to indemnification of liabilities associated with the sale of various subsidiaries. As discussed below, we have, and opportunistically may continue to, repurchase our common stock and our debt. We do not expect that it will be necessary to dividend additional funds from our insurance subsidiaries in order to fund 2022 holding company obligations; however, we may decide to do so. We expect to continue to generate sufficient positive operating cash to meet all short-term and long-term cash requirements relating to current operations, including the funding of our qualified defined benefit pension plan. The ultimate payment amounts for our benefit plan is based on several assumptions, including but not limited to, the rate of return on plan assets, the discount rate for benefit obligations, mortality experience, interest crediting rates, inflation and the ultimate valuation and determination of benefit obligations. Since differences between actual plan experience and our assumptions are almost certain, changes, both positive and negative, to our current funding status and ultimately our obligations in future periods are likely. Our insurance subsidiaries maintain a high degree of liquidity within their respective investment portfolios in fixed maturity and short-term investments. We believe that the quality of the assets we hold will allow us to realize the long-term economic value of our portfolio, including securities that are currently in an unrealized loss position. We do not anticipate the need to sell these securities to meet our insurance subsidiaries' cash requirements since we expect our insurance subsidiaries to generate sufficient operating cash to meet all short-term and long-term cash requirements relating to current operations. However, there can be no assurance that unforeseen business needs or other items will not occur causing us to have to sell those securities in a loss position before their values fully recover, thereby causing us to recognize impairment charges in that time period. The Board of Directors authorized a stock repurchase program which provides for aggregate repurchases of our common stock of up to$1.3 billion . Under the repurchase authorization, we may repurchase, from time to time, common stock in amounts, at prices and at such times as we deem appropriate, subject to market conditions and other considerations. Repurchases may be executed using open market purchases, privately negotiated transactions, accelerated repurchase programs, or other transactions. We are not required to purchase any specific number of shares or to make purchases by any certain date under this program. During the first three months of 2022 we repurchased approximately 0.1 million shares at an aggregate cost of$16.3 million . As ofMarch 31, 2022 , we had repurchased 7.8 million shares under this$1.3 billion program and had approximately$345 million available for additional repurchases. We maintain our membership in theFederal Home Loan Bank ("FHLB") to provide access to additional liquidity based on our holdings of FHLB stock and pledged collateral. AtMarch 31, 2022 , we had borrowing capacity of$116.6 million . There were no outstanding borrowings under this short-term facility atMarch 31, 2022 however, we have and may continue to borrow, from time to time, through this facility to provide short-term liquidity. OnApril 30, 2019 , we entered into a credit agreement that provides for a five-year unsecured revolving credit facility not to exceed$200.0 million at any one time outstanding, with the option to increase the facility up to$300.0 million (assuming no default and satisfaction of other specified conditions, including the receipt of additional lender commitments). The agreement also includes an uncommitted subfacility of$50.0 million for standby letters of credit. Borrowings, if any, under this agreement are unsecured and incur interest at a rate per annum equal to, at our election, either (i) the greater of, (a) the prime commercial lending rate of the administrative agent, (b) the NYFRB Rate plus half a percent, or (c) the one month Adjusted LIBOR plus one percent and a margin that ranges from 0.25% to 0.625% depending on our debt rating, or (ii) Adjusted LIBOR for the applicable interest period, plus a margin that ranges from 1.25% to 1.625% depending on our debt rating. The agreement also contains certain financial covenants such as maintenance of specified levels of consolidated equity and leverage ratios, and requires that certain of our subsidiaries maintain minimum RBC ratios. We currently have no borrowings under this agreement and had no borrowings under this agreement during the first three months of 2022. The LIBOR rate, upon which Adjusted LIBOR is based, is in process of being discontinued. During 2021, certain key tenors of LIBOR were extended with a new cessation date ofJune 20, 2023 . Our credit agreement permits us to agree with the Administrative Agent for the credit facility on a replacement to Adjusted LIBOR subject to the satisfaction of certain conditions.
At
credit agreements.
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Contingencies and Regulatory Matters
REGULATORY AND INDUSTRY DEVELOPMENTS
In response to the Pandemic, regulators in many of the states in which we operate have issued orders or guidance pertaining to, among other things, (a) premium refunds, credits or reductions for personal automobile insurance premiums and premiums for other insurance lines that regulators have determined are disproportionately impacted by the Pandemic, including certain commercial lines, for the periods during which governmental restrictions were or remain in effect, with premium adjustments based on factors such as the ongoing frequency and severity of claims, inflation, repair costs and reinsurance pricing, among others; (b) premium payment grace periods, moratoriums on policy non-renewals and cancellations, and other measures that are similar to actions historically implemented in regions heavily impacted by catastrophes, which we anticipate to be manageable, depending on the duration of the regulatory orders and the degree to which policyholder payment patterns vary as a result; and (c) a reassessment of rates in light of current exposures, loss experience and economic conditions. Regulatory restrictions on rate increases, underwriting, policy terms, and the ability to non-renew business may, depending on their duration, limit THG's ability to manage our mix of business and any potential exposures that emerge in our lines of business in the near term. Draft legislation has been proposed in several state legislatures and/or in theUnited States Congress that seeks to require insurers to retroactively pay unfunded Pandemic business interruption claims that insurance policies do not currently cover, to impose presumptions on insurance policy interpretation, and/or to mandate prospective pandemic coverage. The impact of such legislation, were it to be adopted, would, according to a statement of the NAIC onMarch 25, 2020 , "create substantial solvency risks" for the property and casualty insurance sector, "significantly undermine the ability of insurers to pay other types of claims, and potentially exacerbate the negative financial and economic impacts the country is currently experiencing." Industry trade groups further assert that any such legislation would be violative of basic contract law and well-founded principles of constitutional law. Federal stimulus plans such as the CARES Act and the American Rescue Plan Act of 2021 providing financial support to individuals and businesses during the Pandemic may mitigate the political pressure to continue advancing such proposed legislation. Proposals are also being considered at the federal level to establish government-funded pandemic insurance programs, possibly similar to the federal terrorism risk insurance program. Discussion on such competing proposals is ongoing and at a preliminary stage such that it is too early to estimate their potential impact, if any, on our business.
Information regarding litigation, legal contingencies and regulatory matters
appears in Part I - Note 12 "Commitments and Contingencies" in the Notes to
Interim Consolidated Financial Statements.
Risks and Forward-Looking Statements
Information regarding risk factors and forward-looking information appears in Part II - Item 1A of this Quarterly Report on Form 10-Q and in Part I - Item 1A of our 2021 Annual Report on Form 10-K. This Management's Discussion and Analysis should be read and interpreted in light of such factors. 38
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Table of Contents ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our market risks, the ways we manage them, and sensitivity to changes in interest rates, and equity price risk are summarized in Management's Discussion and Analysis of Financial Condition and Results of Operations as ofDecember 31, 2021 , included in our Annual Report on Form 10-K for the year endedDecember 31, 2021 . There have been no material changes in the first three months of 2022 to these risks or our management of them. ITEM 4 CONTROLS AND PROCEDURES
Disclosure Controls and Procedures Evaluation
Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of our "disclosure controls and procedures," as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the "Exchange Act").
Limitations on the Effectiveness of Controls
Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls over financial reporting will prevent all error and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system's objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
Based on our controls evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this quarterly report, our disclosure controls and procedures were effective to provide reasonable assurance that (i) the information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in theSEC's rules and forms and (ii) material information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate "internal control over financial reporting," as such term is defined in Exchange Act Rule 13a-15(f). Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting, as required by Rule 13a-15(d) of the Exchange Act, to determine whether any changes occurred during the period covered by this quarterly report on Form 10-Q that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Based on the that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that there were no such changes during the quarter endedMarch 31, 2022 , that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 39
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