Note 6. Reinsurance

We utilize reinsurance principally to reduce our exposure on individual risks, to protect against catastrophic losses, and to stabilize loss ratios and underwriting results. Although reinsurance makes the reinsurer liable to us to the extent the risk is transferred or ceded to the reinsurer, ceded reinsurance arrangements do not eliminate our obligation to pay claims to our policyholders. Accordingly, we bear credit risk with respect to our reinsurers. Specifically, our reinsurers may not pay claims made by us on a timely basis, or they may not pay some or all of these claims. Either of these events would increase our costs and could have a material adverse effect on our business. We are required to pay the losses even if the reinsurer fails to meet its obligations under the reinsurance agreement. Superstorm Sandy in 2012, Hurricanes Gustav and Ike in 2008 (“2008 Hurricanes”) and Hurricanes Katrina and Rita in 2005 (“2005 Hurricanes”) significantly increased our reinsurance recoverables which increased our credit risk.

We have established a reserve for uncollectible reinsurance in the amount of $11.5 million and $13.0 million as of December 31, 2012 and 2011, respectively, which was determined by considering reinsurer specific default risk as indicated by their financial strength ratings. Actual uncollectible reinsurance could potentially exceed our estimate.

We are protected by various treaty and facultative reinsurance agreements. Our exposure to credit risk from any one reinsurer is managed through diversification by reinsuring with a number of different reinsurers, principally in the United States and European reinsurance markets. To meet our standards of acceptability, when the reinsurance is placed, a reinsurer generally must have a rating from A.M. Best Company (“A.M. Best”) and/or S&P of “A” or better, or an equivalent financial strength if not rated, plus at least $500 million in policyholders’ surplus. Our Reinsurance Security Committee, which is part of our Enterprise Risk Management Reinsurance Sub-Committee, monitors the financial strength of our reinsurers and the related reinsurance receivables and periodically reviews the list of acceptable reinsurers. The reinsurance is placed either directly by us or through reinsurance intermediaries. The reinsurance intermediaries are compensated by the reinsurers.

The credit quality distribution of the Company’s reinsurance recoverables of $1.15 billion as of December 31, 2012 for ceded paid and unpaid losses and LAE and ceded unearned premiums based on insurer financial strength ratings from A.M. Best or S&P were as follows:


In thousands	Rating	Carrying Value ⁽²⁾		Percent of Total ⁽³⁾
A.M. Best Rating description ⁽¹⁾:
Superior	A++, A+	$	567,903		49	%
Excellent	A, A-		568,630		50	%
Very good	B++, B+		67		0	%
Not rated	NR		13,836		1	%

Total		$	1,150,436		100	%

(1) —

Equivalent S&P rating used for certain companies when an A.M. Best rating was unavailable.

(2) —

Net of reserve for uncollectible reinsurance of approximately $11.5 million. The carrying value consists of reinsurance recoverables on paid losses due within 30-45 days and reinsurance on unpaid losses which by nature of our reserving process is our best estimate of the value as of December 31, 2012.

(3) —

The Company holds offsetting collateral of approximately 19.7%, including 17.6% for B++ and B+ companies and 54.4% from non rated companies which includes letters of credit, ceded balances payable and other balances held by our Insurance Companies and our Lloyd’s Operations.

The Company’s ceded earned premiums were $396.6 million, $346.2 million and $338.6 million for the years ended December 31, 2012, 2011 and 2010, respectively. The increase in ceded earned premiums from 2011 to 2012 is primarily due to a lower retention on our NavTech business as a result of a new quota share program for the offshore energy book and reinsurance reinstatement premiums recognized in our Marine business as a result of significant large loss activity during the year. The increase in ceded earned premiums from 2010 to 2011 is primarily due to growth and mix of business trends, partially offset by a reduction in reinsurance reinstatement premiums in 2011 as compared to 2010 related to specific losses for each year.

The Company’s ceded incurred losses were $262.6 million, $213.4 million and $281.3 million for the years ended December 31, 2012, 2011 and 2010, respectively. The increase in ceded incurred losses from 2011 to 2012 is primarily related to Superstorm Sandy as well as several large losses from our Marine business, including the grounding of the cruise ship Costa Concordia, off the coast of Italy. The decrease in ceded loss from 2010 to 2011 is driven by large ceded incurred losses from 2010, such as Deepwater Horizon and West Atlas.

The following table lists the Company’s 20 largest reinsurers measured by the amount of reinsurance recoverable for ceded losses and LAE and ceded unearned premium (constituting 72.7% of the total recoverable), together with the reinsurance recoverable and collateral as of December 31, 2012, and the reinsurers’ ratings from AMB or S&P:


	Reinsurance Recoverables
In thousands	Unearned Premium		Paid/Unpaid Losses		Total ⁽¹⁾		Collateral Held ⁽²⁾		AMB	S&P
National Indemnity Company	$	41,004	$	58,215	$	99,219	$	27,976	A++	AA+
Swiss Reinsurance America Corporation		4,708		89,842		94,550		9,916	A+	AA-
Munich Reinsurance America Inc.		10,005		81,982		91,987		5,356	A+	AA-
Transatlantic Reinsurance Company		17,763		73,221		90,984		8,219	A	A+
Everest Reinsurance Company		19,098		70,097		89,195		8,003	A+	A+
Lloyd’s Syndicate #2003		7,946		38,757		46,703		10,909	A	A+
Partner Reinsurance Europe		9,811		34,859		44,670		17,168	A+	A+
Allied World Reinsurance		10,017		24,749		34,766		3,577	A	A
Scor Global P&C SE		12,521		21,505		34,026		7,139	A	A+
General Reinsurance Corporation		468		27,134		27,602		789	A++	AA+
Tower Insurance Company		11,363		15,271		26,634		7,195	A-	NR
Validus Reinsurance Ltd.		2,719		22,357		25,076		13,830	A	A
Berkley Insurance Company		1,675		19,402		21,077		88	A+	A+
Scor Holding (Switzerland) AG		877		16,139		17,016		9,080	A	A+
Ace Property and Casualty Insurance Company		867		15,979		16,846		—	A+	AA-
AXIS Re Europe		3,084		12,566		15,650		2,530	A	A+
Sirius America Insurance Company		59		15,457		15,516		21	A	A-
Platinum Underwriters Re		405		14,653		15,058		1,594	A	A-
Lloyd’s Syndicate #4000		2,407		12,323		14,730		1,772	A	A+
Star Insurance Company		7,812		6,830		14,642		2,837	A-	BBB

Top 20 Total	$	164,609	$	671,338	$	835,947	$	137,999
All Others		56,406		258,083		314,489		89,166

Total	$	221,015	$	929,421	$	1,150,436	$	227,165

(1) —

Net of reserve for uncollectible reinsurance of approximately $11.5 million.

(2) —

Collateral of $227.2 million consists of $165.8 million in ceded balances payable, $57.2 million in letters of credit, and $4.2 million of other balances held by the Company’s Insurance Companies and Lloyd’s Operations.

Approximately 25% of the collateral held consists of letters of credit obtained from reinsurers in accordance with New York Insurance Regulation Nos. 20 and 133. Regulation 20 requires collateral to be held by the ceding company from reinsurers not licensed in New York State in order for the ceding company to take credit for the reinsurance recoverables on its statutory balance sheet. The specific requirements governing the letters of credit are contained in Regulation 133 and include a clean and unconditional letter of credit and an “evergreen” clause which prevents the expiration of the letter of credit without due notice to the Company. Only banks considered qualified by the National Association of Insurance Commissioners (“NAIC”) may be deemed acceptable issuers of letters. In addition, based on our credit assessment of the reinsurer, there are certain instances where we require collateral from a reinsurer even if the reinsurer is licensed in New York State, generally applying the requirements of Regulation No. 133. The contractual terms of the letters of credit require that access to the collateral is unrestricted. In the event that the counterparty to our collateral would be deemed not qualified by the NAIC, the reinsurer would be required by agreement to replace such collateral with acceptable security under the reinsurance agreement. There is no assurance, however, that the reinsurer would be able to replace the counterparty bank in the event such counterparty bank becomes unqualified and the reinsurer experiences significant financial deterioration. Under such circumstances, we could incur a substantial loss from uncollectible reinsurance from such reinsurer. In November 2010, Regulation No. 20 was amended to provide the New York Superintendent of Financial Services (the “New York Superintendent”) discretion to allow a reduction in collateral that qualifying reinsurers must post in order for New York domestic ceding insurers such as Navigators Insurance Company and Navigators Specialty Insurance Company to receive full financial statement credit. The “collateral required” percentages range from 0% – 100%, are based upon the New York Superintendent’s evaluation of a number of factors, including the reinsurer’s financial strength ratings, and apply to contracts entered into, renewed or having an anniversary date on or after January 1, 2011. In November 2011, the NAIC adopted similar amendments to its Credit for Reinsurance Model Act that would apply to certain non-U.S. reinsurers. States will have the option to retain a 100% funding requirement if they so choose and it remains to be seen whether and when states will amend their credit for reinsurance laws and regulations in accordance with such model act.

As of December 31, 2012, the reinsurance recoverables for paid and unpaid losses due from reinsurers in connection with all catastrophic losses was $88.2 million, consisting of $54.6 million for Superstorm Sandy and $33.6 million for the 2008 and 2005 Hurricanes. As of December 31, 2011, the reinsurance recoverables for paid and unpaid losses due from reinsurers in connection with all catastrophic losses was $50.9 million for the 2008 and 2005 Hurricanes.

As of December 31, 2012, the reinsurance recoverables for paid and unpaid losses due from reinsurers in connection with several large losses incurred by the Marine business in 2012, including the grounding of the cruise ship Costa Concordia off the coast of Italy, was $22.9 million.

As of December 31, 2012 and 2011, the reinsurance recoverables for paid and unpaid losses due from reinsurers for the Deepwater Horizon incident from 2010 was $64.0 million and $80.9 million, respectively.

The following table summarizes written premium:


	Year Ended December 31,
In thousands	2012			2011			2010
Direct	$	1,034,658		$	929,778		$	916,817
Assumed		251,807			178,438			70,384
Ceded		(452,810	)		(354,418	)		(333,263	)

Net	$	833,655		$	753,798		$	653,938

The following table summarizes earned premium:


	Year Ended December 31,
In thousands	2012			2011			2010
Direct	$	972,844		$	912,020		$	925,935
Assumed		205,759			125,797			72,643
Ceded		(396,639	)		(346,172	)		(338,647	)

Net	$	781,964		$	691,645		$	659,931

The following table summarizes losses and loss adjustment expenses incurred:


	Year Ended December 31,
In thousands	2012			2011			2010
Direct	$	608,945		$	608,445		$	669,949
Assumed		151,137			81,945			32,505
Ceded		(262,649	)		(213,393	)		(281,299	)

Net	$	497,433		$	476,997		$	421,155