Best Affirms Harleysville Ratings; Outlook Positive

February 5, 2009

A.M. Best Co. has affirmed the financial strength rating (FSR) of ‘A-‘ (Excellent) and issuer credit ratings (ICR) of “a-” of Harleysville Insurance and its P/C pooling members. Best also affirmed the FSR of B++ (Good) and ICR of “bbb+” of Harleysville Life Insurance Company, as well as the ICR of “bbb-“and the debt rating of “bbb-” on the existing senior notes of the publicly traded holding company, Harleysville Group Inc. (HGIC).

In addition Best affirmed the indicative ratings of “bbb-” on senior debt, “bb+” on subordinated debt, “bb” on trust preferred securities and “bb” on preferred stock that are filed as part of the universal shelf registration of HGIC.

The outlook for the above ratings is positive.

“The ratings reflect Harleysville’s excellent risk-adjusted capitalization, improved operating performance, solid regional market franchise, as well as the future benefits to be derived from management’s material corrective actions over the past several years,” Best explained. “The affirmation of the ratings acknowledges the benefits being derived from Harleysville’s proactive re-underwriting and pricing initiatives, loss reserve development stability, cultural changes in claim management and field operations, and
investments in predictive modeling and policy management systems technology to support underwriting effectiveness and agency relationships.”

Best said the Group’s “positive rating outlook recognizes these operating improvements and the future benefits to be gained from these changes as they pertain to operating results, competitive advantages and capital formation.” In Best’s analysis, while “management’s efforts have resulted in positive signs in recent years, the rating agency believes that “the fruits of these efforts are likely to be increasingly apparent in the upcoming years. Sustainability remains a key determinant.”

However, Best also noted that “despite these attributes, Harleysville’s commercial lines underwriting performance, while improving substantially, lagged the industry in recent years. This is partially reflective of management’s retrenchment initiatives in a positive pricing environment that resulted in modest premium reductions since 2003.

“In addition, although Harleysville has initiated substantive actions to lower costs and enhance operating efficiencies, its expense ratio remains above the industry average. Nevertheless, despite lower underwriting and overall profitability in the first nine months of 2008, the group’s operating performance continued to improve relative to its peers and the industry and compared favorably to both.”

Best said it had “affirmed the ratings of Harleysville Life, acknowledging its strategic position within the group, adequate risk-adjusted capitalization for its current ratings and its strategy of providing a diversified portfolio of life insurance and related employee benefits products and services to the group’s core business markets.

“Partially offsetting these rating factors are Harleysville Life’s recent operating losses due to statutory strain from new business and recent declines in its reported statutory capital. The outlook reflects the commitment of Harleysville Life’s parent, Harleysville Mutual Insurance Company (Harleysville Mutual), the lead company of the Harleysville intercompany pool. A.M. Best expects continued capital contributions from Harleysville Mutual to support Harleysville Life’s growth strategy.”

In addition Best pointed out that “Harleysville is afforded financial flexibility through HGIC, whose share of the Harleysville intercompany pool was amended to 80 percent from 72 percent, effective January 1, 2008. Taking into consideration HGIC’s capital management in 2008, which included continued significant common share repurchases,” Best said it “expects the company’s debt-to-total capital to remain moderate, increasing to approximately 15 percent at year-end 2008 from 13.5 percent at year-end 2007.

“HGIC’s total shareholders’ equity declined 14 percent to $654.9 million in the first nine months of 2008, primarily reflecting the significant common share repurchases, realized and unrealized investment losses, offset by positive net income. HGIC’s realized losses included $32.4 million of impairment losses, more than half of which was recognized on planned sales of equity securities. The company may need to absorb additional write-downs on the value of collateral previously associated with its securities lending program, which has been terminated, although its capital position is expected to remain strong.

“HGIC’s liquid funds are expected to be well above average at year-end 2008 largely as a result of the cash it received from Harleysville Mutual in connection with the pool change on January 1. These liquid funds should be more than sufficient to meet HGIC’s fixed obligations in 2009.

For a complete list of Harleysville’s FSRs, ICRs and debt ratings,
go to:

Source: A.M. Best –

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