Note E. Claim and Claim Adjustment Expense Reserves

The Company's property and casualty insurance claim and claim adjustment expense reserves represent the estimated amounts necessary to resolve all outstanding claims, including incurred but not reported (IBNR) claims as of the reporting date. The Company's reserve projections are based primarily on detailed analysis of the facts in each case, the Company's experience with similar cases and various historical development patterns. Consideration is given to such historical patterns as field reserving trends and claims settlement practices, loss payments, pending levels of unpaid claims and product mix, as well as court decisions, economic conditions including inflation and public attitudes. All of these factors can affect the estimation of claim and claim adjustment expense reserves.

Establishing claim and claim adjustment expense reserves, including claim and claim adjustment expense reserves for catastrophic events that have occurred, is an estimation process. Many factors can ultimately affect the final settlement of a claim and, therefore, the necessary reserve. Changes in the law, results of litigation, medical costs, the cost of repair materials and labor rates can all affect ultimate claim costs. In addition, time can be a critical part of reserving determinations since the longer the span between the incidence of a loss and the payment or settlement of the claim, the more variable the ultimate settlement amount can be. Accordingly, short-tail claims, such as property damage claims, tend to be more reasonably estimable than long-tail claims, such as workers' compensation, general liability and professional liability claims. Adjustments to prior year reserve estimates, if necessary, are reflected in the results of operations in the period that the need for such adjustments is determined. There can be no assurance that the Company's ultimate cost for insurance losses will not exceed current estimates.

Catastrophes are an inherent risk of the property and casualty insurance business and can contribute to material period-to-period fluctuations in the Company's results of operations and/or equity. The Company reported catastrophe losses, net of reinsurance, of $60 million and $89 million for the three and six months ended June 30, 2015. Catastrophe losses in 2015 related primarily to U.S. weather-related events. The Company reported catastrophe losses, net of reinsurance, of $56 million and $130 million for the three and six months ended June 30, 2014.

Net Prior Year Development

The following tables and discussion present net prior year development recorded for Specialty, Commercial, International and Corporate & Other Non-Core segments.



Three months ended June 30, 2015
(In millions)	Specialty			Commercial			International			Corporate & Other Non-Core		Total
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development	$	(13	)	$	16		$	(8	)	$	—	$	(5	)
Pretax (favorable) unfavorable premium development	(2		)	(11		)	(2		)	—		(15		)
Total pretax (favorable) unfavorable net prior year development	$	(15	)	$	5		$	(10	)	$	—	$	(20	)



Three months ended June 30, 2014
(In millions)	Specialty			Commercial			International			Corporate & Other Non-Core		Total
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development	$	(41	)	$	90		$	(25	)	$	—	$	24
Pretax (favorable) unfavorable premium development	(2		)	(6		)	6			—		(2		)
Total pretax (favorable) unfavorable net prior year development	$	(43	)	$	84		$	(19	)	$	—	$	22



Six months ended June 30, 2015
(In millions)	Specialty			Commercial			International			Corporate & Other Non-Core		Total
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development	$	(11	)	$	11		$	(12	)	$	—	$	(12	)
Pretax (favorable) unfavorable premium development	(8		)	(12		)	14			—		(6		)
Total pretax (favorable) unfavorable net prior year development	$	(19	)	$	(1	)	$	2		$	—	$	(18	)



Six months ended June 30, 2014
(In millions)	Specialty			Commercial			International			Corporate & Other Non-Core		Total
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development	$	(44	)	$	108		$	(15	)	$	—	$	49
Pretax (favorable) unfavorable premium development	(8		)	(24		)	(1		)	—		(33		)
Total pretax (favorable) unfavorable net prior year development	$	(52	)	$	84		$	(16	)	$	—	$	16

Specialty

The following table presents further detail of the net prior year claim and allocated claim adjustment expense reserve development (development) recorded for the Specialty segment.



Periods ended June 30	Three Months						Six Months
(In millions)	2015			2014			2015			2014
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development:
Medical Professional Liability	$	(6	)	$	1		$	8		$	1
Other Professional Liability and Management Liability	(1		)	(44		)	(4		)	(50		)
Surety	—			—			1			1
Warranty	1			—			1			—
Other	(7		)	2			(17		)	4
Total pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development	$	(13	)	$	(41	)	$	(11	)	$	(44	)

Three Months

2015

Overall, favorable development in medical professional liability was primarily due to lower than expected severity for individual healthcare professionals and allied facilities in accident years 2009 through 2012. Unfavorable development was recorded related to increased claim frequency in the aging services business in accident years 2009 and 2010.

Favorable development of $38 million was recorded in other professional liability and management liability related to lower than expected severity for professional services primarily in accident years 2010 and prior. Unfavorable development of $37 million was recorded primarily related to increased claim frequency on public company management liability in accident years 2012 through 2014.

Favorable development for other coverages was primarily due to better than expected claim frequency in property coverages provided to Specialty customers in accident year 2014.

2014

Favorable development for other professional liability and management liability was primarily related to favorable outcomes on individual large claims in accident years 2009 and prior, which contributed to a lower estimate of ultimate severity. Additionally, there was lower than expected severity in accident years 2008 through 2011.

Six Months

2015

Overall, unfavorable development for medical professional liability was primarily related to increased claim frequency in the aging services business for accident years 2009 through 2014, partially offset by lower than expected severity in accident years 2010 and prior. Additional favorable development was due to lower than expected severity for individual healthcare professionals and allied facilities in accident years 2009 through 2012.

Favorable development of $41 million was recorded in other professional liability and management liability primarily related to lower than expected severity in accident years 2010 and prior for professional services. Unfavorable development of $37 million was recorded primarily related to increased claim frequency on public company management liability in accident years 2012 through 2014.

Favorable development for other coverages was primarily due to better than expected claim frequency in property coverages provided to Specialty customers in accident year 2014.

2014

Commercial

The following table presents further detail of the development recorded for the Commercial segment. The majority of the 2014 unfavorable development relates to business classes which the Company has exited, but also includes Small Business where the Company has taken underwriting actions in an effort to improve profitability.



Periods ended June 30	Three Months					Six Months
(In millions)	2015			2014		2015			2014
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development:
Commercial Auto	$	7		$	19	$	7		$	39
General Liability	1			32		5			32
Workers' Compensation	24			39		23			50
Property and Other	(16		)	—		(24		)	(13		)
Total pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development	$	16		$	90	$	11		$	108

Three Months

2015

In the aggregate, the unfavorable loss development of $16 million was driven by an extra contractual obligation loss and losses associated with premium development. The reserve development discussed below was largely offsetting.

Unfavorable development for workers’ compensation was primarily due to higher than expected severity related to Defense Base Act contractors in accident years 2008 through 2013.

Favorable development for property and other was primarily due to better than expected loss emergence from 2012 catastrophe events and better than expected claim frequency of large claims in accident year 2014.

2014

Unfavorable development for commercial auto was primarily related to increased claim frequency of large losses in accident years 2010 through 2013.

Unfavorable development for general liability was primarily related to higher than expected severity in accident years 2009 through 2011. In addition, there was higher than expected severity in accident year 2013 related to Small Business.

Unfavorable development for workers’ compensation was primarily due to higher than expected severity related to Defense Base Act contractors in accident years 2012 and 2013.

Six Months

2015

In addition to the favorable property development noted in the three month discussion, there was additional favorable development for property related to better than expected loss emergence from 2014 catastrophe events.

2014

Unfavorable development for commercial auto was primarily related to increased claim frequency of large losses in accident years 2010 through 2013. Additionally, unfavorable development was recorded for increased claim frequency in accident years 2012 and 2013 and higher than expected severity in accident years 2010 and 2011.

Unfavorable development for workers’ compensation was primarily due to higher than expected severity related to Defense Base Act contractors in accident years 2012 and 2013 and the recognition of losses related to favorable premium development in accident year 2013.

Overall, favorable development for property and other coverages in accident years 2011 and prior primarily related to fewer claims than expected and favorable individual claim settlements. Additionally, there was favorable development due to better than expected loss emergence in catastrophe losses in accident year 2013. Unfavorable development was recorded in accident year 2012 primarily related to higher than expected loss emergence in catastrophe losses.

International

The following table presents further detail of the development recorded for the International segment.



Periods ended June 30	Three Months						Six Months
(In millions)	2015			2014			2015			2014
Pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development:
Medical Professional Liability	$	—		$	—		$	—		$	1
Other Professional Liability	(5		)	(14		)	(5		)	(15		)
Liability	(2		)	(4		)	(7		)	(6		)
Property & Marine	(8		)	(7		)	(14		)	1
Other	7			—			14			(6		)
Commutations	—			—			—			10
Total pretax (favorable) unfavorable net prior year claim and allocated claim adjustment expense reserve development	$	(8	)	$	(25	)	$	(12	)	$	(15	)

Three Months

2015

Favorable development in property and marine was due to better than expected emergence in accident years 2012 through 2014.

Unfavorable development in other is due to large losses in financial institutions and political risk primarily in accident year 2014.

2014

Favorable development for other professional liability was primarily related to lower than expected severity in accident years 2011 and prior.

Six Months

2015

Favorable development in property and marine was due to better than expected emergence in accident years 2012 through 2014.

Unfavorable development in other is due to large losses in financial institutions and political risk primarily in accident year 2014.

2014

Favorable development for other professional liability was primarily related to lower than expected severity in accident years 2011 and prior.

Reinsurance commutations in the first quarter of 2014 reduced ceded losses from prior years. Overall the commutations increased net operating income because of the release of the related allowance for uncollectible reinsurance.

Asbestos and Environmental Pollution (A&EP) Reserves

In 2010, Continental Casualty Company (CCC) together with several of the Company’s insurance subsidiaries completed a transaction with National Indemnity Company (NICO), a subsidiary of Berkshire Hathaway Inc., under which substantially all of the Company’s legacy A&EP liabilities were ceded to NICO (Loss Portfolio Transfer or LPT). At the transaction effective date, the Company ceded approximately $1.6 billion of net A&EP claim and allocated claim adjustment expense reserves to NICO under a retroactive reinsurance agreement with an aggregate limit of $4 billion. The $1.6 billion of claim and allocated claim adjustment expense reserves ceded to NICO was net of $1.2 billion of ceded claim and allocated claim adjustment expense reserves under existing third-party reinsurance contracts. The NICO aggregate reinsurance limit also covers credit risk on the existing third-party reinsurance related to these liabilities. The Company paid NICO a reinsurance premium of $2 billion and transferred to NICO billed third-party reinsurance receivables related to A&EP claims with a net book value of $215 million, resulting in total consideration of $2.2 billion.

Through December 31, 2013, the Company recorded $0.9 billion of additional amounts ceded under LPT. As a result, the cumulative amounts ceded under the Loss Portfolio Transfer exceeded the $2.2 billion consideration paid, resulting in a deferred retroactive reinsurance gain. This deferred gain is recognized in earnings in proportion to actual recoveries under the Loss Portfolio Transfer. Over the life of the contract, there is no economic impact as long as any additional losses are within the limit under the contract. In a period in which the estimate of ceded losses is changed, the required change to the deferred gain is cumulatively recognized in earnings as if the revised estimate was available at the inception of the LPT.

The following table displays the impact of the Loss Portfolio Transfer on the Condensed Consolidated Statements of Operations.



Periods ended June 30	Three Months						Six Months
(In millions)	2015			2014			2015			2014
Net A&EP adverse development before consideration of LPT	$	150		$	—		$	150		$	—
Provision for uncollectible third-party reinsurance on A&EP	—			—			—			—
Additional amounts ceded under LPT	150			—			150			—
Retroactive reinsurance benefit recognized	(66		)	(1		)	(71		)	(5		)
Pretax impact of unrecognized deferred retroactive reinsurance benefit	$	84		$	(1	)	$	79		$	(5	)

The fourth quarter of 2014 A&EP reserve review was not completed in 2014 because additional information and analysis on inuring third-party reinsurance recoveries were needed to finalize the review. The review was finalized in the second quarter of 2015. Unfavorable development was due to a decrease in anticipated future reinsurance recoveries related to asbestos claims and higher than expected severity on pollution claims. The effect of the unrecognized deferred retroactive reinsurance benefit is recorded in Insurance claims and policyholders' benefits in the Condensed Consolidated Statement of Operations.

As of June 30, 2015 and December 31, 2014, the cumulative amounts ceded under the LPT were $2.6 billion and $2.5 billion. The unrecognized deferred retroactive reinsurance benefit was $255 million and $176 million as of June 30, 2015 and December 31, 2014.

NICO established a collateral trust account as security for its obligations to the Company. The fair value of the collateral trust account was $3.1 billion and $3.4 billion as of June 30, 2015 and December 31, 2014. In addition, Berkshire Hathaway Inc. guaranteed the payment obligations of NICO up to the full aggregate reinsurance limit as well as certain of NICO’s performance obligations under the trust agreement. NICO is responsible for claims handling and billing and collection from third-party reinsurers related to the Company’s A&EP claims.