UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934

The Navigators Group, Inc.

(Exact name of Registrant as specified in its charter)

Delaware		13-3138397
(State or other jurisdiction of incorporation or organization)		(IRS Employer Identification No.)
One Penn Plaza, New York, New York		10119
(Address of principal executive offices)		(Zip Code)

(212) 244-2333

(Registrant’s telephone number, including area code)

 

(Former name, former address and former fiscal year, if changed since last report.)

Indicate by check mark whether the Registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer þ		Accelerated filer o		Non-accelerated filer   o (Do not check if a smaller reporting company)		Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

The number of common shares outstanding as of April 21, 2008 was 16,798,542.

 

 

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

INDEX

		Page No.
Part I. FINANCIAL INFORMATION:
Item 1. Financial Statements
Consolidated Balance Sheets March 31, 2008 (Unaudited) and December 31, 2007			3
Consolidated Statements of Income (Unaudited) Three Months Ended March 31, 2008 and 2007			4
Consolidated Statements of Stockholders’ Equity (Unaudited) March 31, 2008 and 2007			5
Consolidated Statements of Comprehensive Income (Unaudited) Three Months Ended March 31, 2008 and 2007			6
Consolidated Statements of Cash Flows (Unaudited) Three Months Ended March 31, 2008 and 2007			7
Notes to Interim Consolidated Financial Statements (Unaudited)			8
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			18
Item 3. Quantitative and Qualitative Disclosures About Market Risk			61
Item 4. Controls and Procedures			61
Part II. OTHER INFORMATION
Item 1. Legal Proceedings			61
Item 1A. Risk Factors			61
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			62
Item 3. Defaults Upon Senior Securities			62
Item 4. Submissions of Matters to a Vote of Security Holders			62
Item 5. Other Information			62
Item 6. Exhibits			62
Signature			63
Index of Exhibits			64
Exhibit 10-1
Exhibit 11-1
Exhibit 31-1
Exhibit 31-2
Exhibit 32-1
Exhibit 32-2

Part 1. Financial Information

Item 1. Financial Statements

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

		March 31,				December 31,
		2008				2007
		(Unaudited)
ASSETS
Investments and cash:
Fixed maturities, available-for-sale, at fair value (amortized cost: 2008, $1,554,999; 2007, $1,508,489)		$	1,570,971			$	1,522,320
Equity securities, available-for-sale, at fair value (cost: 2008, $65,309; 2007, $65,492)			59,688				67,240
Short-term investments, at fair value			171,447				170,685
Cash			12,810				7,056
Total investments and cash			1,814,916				1,767,301
Premiums in course of collection			198,494				163,081
Commissions receivable			272				2,381
Prepaid reinsurance premiums			188,223				188,961
Reinsurance receivable on paid losses			74,183				94,818
Reinsurance receivable on unpaid losses and loss adjustment expenses			776,767				801,461
Net deferred income tax benefit			31,260				29,249
Deferred policy acquisition costs			53,450				51,895
Accrued investment income			15,867				15,605
Goodwill and other intangible assets			8,087				8,084
Other assets			20,756				20,935
Total assets		$	3,182,275			$	3,143,771
LIABILITIES AND STOCKHOLDERS’ EQUITY
Liabilities:
Reserves for losses and loss adjustment expenses		$	1,661,556			$	1,648,764
Unearned premium			500,663				469,481
Reinsurance balances payable			139,331				161,829
Senior notes			123,702				123,673
Federal income tax payable			18,965				10,868
Payable for securities purchased			1,939				—
Accounts payable and other liabilities			59,242				67,050
Total liabilities			2,505,398				2,481,665
Stockholders’ equity:
Preferred stock, $.10 par value, authorized 1,000,000 shares, none issued			—				—
Common stock, $.10 par value, shares authorized: 50,000,000 at 3/31/08 and 12/31/07; issued and outstanding: 16,798,542 (net of Treasury stock) at 3/31/08 and 16,873,094 at 12/31/07			1,693				1,687
Additional paid-in capital			294,146				291,616
Retained earnings			378,334				355,084
Treasury stock, at cost (136,026 shares at 3/31/08)			(7,321	)			—
Accumulated other comprehensive income			10,025				13,719
Total stockholders’ equity			676,877				662,106
Total liabilities and stockholders’ equity		$	3,182,275			$	3,143,771

See accompanying notes to interim consolidated financial statements.

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

		Three Months Ended
		March 31,
		2008				2007
		(Unaudited)
Gross written premium		$	287,146			$	300,861
Revenues:
Net written premium		$	187,722			$	173,019
(Increase) in unearned premium			(31,982	)			(33,973	)
Net earned premium			155,740				139,046
Commission income			261				408
Net investment income			18,838				16,216
Net realized capital gains (losses)			(76	)			201
Other income (expense)			11				(71	)
Total revenues			174,774				155,800
Operating expenses:
Net losses and loss adjustment expenses incurred			88,420				81,192
Commission expense			20,948				17,099
Other operating expenses			29,756				26,289
Interest expense			2,217				2,215
Total operating expenses			141,341				126,795
Income before income tax expense			33,433				29,005
Income tax expense (benefit):
Current			10,306				9,276
Deferred			(123	)			57
Total income tax expense			10,183				9,333
Net income		$	23,250			$	19,672
Net income per common share:
Basic		$	1.38			$	1.17
Diluted		$	1.36			$	1.17
Average common shares outstanding:
Basic			16,862				16,756
Diluted			17,052				16,884

See accompanying notes to interim consolidated financial statements.

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

		Three Months Ended
		March 31,
		2008				2007
		(Unaudited)
Preferred Stock
Balance at beginning and end of period		$	—			$	—
Common stock
Balance at beginning of year		$	1,687			$	1,674
Shares issued under stock plans			6				4
Balance at end of period		$	1,693			$	1,678
Additional paid-in capital
Balance at beginning of year		$	291,616			$	286,732
Shares issued under stock plans			2,530				1,747
Balance at end of period		$	294,146			$	288,479
Retained earnings
Balance at beginning of year		$	355,084			$	259,464
Net income			23,250				19,672
Balance at end of period		$	378,334			$	279,136
Treasury stock, at cost
Balance at beginning of year		$	—			$	—
Treasury stock acquired			(7,321	)			—
Balance at end of period		$	(7,321	)		$	—
Accumulated other comprehensive income (loss)
Net unrealized gains (losses) on securities, net of tax
Balance at beginning of year		$	10,186			$	849
Change in period			(3,412	)			1,496
Balance at end of period			6,774				2,345
Cumulative translation adjustments, net of tax
Balance at beginning of year			3,533				2,624
Net adjustment for period			(282	)			105
Balance at end of period			3,251				2,729
Balance at end of period		$	10,025			$	5,074
Total stockholders’ equity at end of period		$	676,877			$	574,367

See accompanying notes to interim consolidated financial statements.

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

		Three Months Ended
		March 31,
		2008				2007
		(Unaudited)
Net income		$	23,250			$	19,672
Other comprehensive income:
Change in net unrealized gains (losses) on securities, net of tax expense (benefit) of ($1,813) and $771 in 2008 and 2007, respectively(1)			(3,412	)			1,496
Change in foreign currency translation gains, net of tax expense (benefit) of ($151) and $56 in 2008 and 2007, respectively			(282	)			105
Other comprehensive income			(3,694	)			1,601
Comprehensive income		$	19,556			$	21,273
(1) Disclosure of reclassification amount, net of tax:

Unrealized holding gains (losses) arising during period		$	(3,461	)		$	1,625
Less: reclassification adjustment for net realized capital gains (losses) included in net income			(49	)			129
Change in net unrealized gains (losses) on securities		$	(3,412	)		$	1,496

See accompanying notes to interim consolidated financial statements.

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

		Three Months Ended
		March 31,
		2008				2007
		(Unaudited)
Operating activities:
Net income		$	23,250			$	19,672
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation & amortization			1,222				703
Net deferred income tax expense (benefit)			(123	)			57
Net realized capital (gains) losses			76				(201	)
Changes in assets and liabilities:
Reinsurance receivable on paid and unpaid losses and LAE			45,418				18,344
Reserve for losses and LAE			12,577				(3,699	)
Prepaid reinsurance premiums			776				(19,719	)
Unearned premium			31,035				53,426
Premiums in course of collection			(35,297	)			(61,862	)
Commissions receivable			2,109				298
Deferred policy acquisition costs			(1,546	)			(11,884	)
Accrued investment income			(262	)			(290	)
Reinsurance balances payable			(22,525	)			8,347
Federal income tax			8,076				7,400
Other			(5,134	)			9,486
Net cash provided by operating activities			59,652				20,078
Investing activities:
Fixed maturities, available-for-sale
Redemptions and maturities			35,146				50,738
Sales			20,644				55,680
Purchases			(103,436	)			(174,445	)
Equity securities, available-for-sale
Sales			5,514				4,464
Purchases			(5,595	)			(11,877	)
Change in payable for securities			1,974				8,863
Net change in short-term investments			(647	)			47,079
Purchase of property and equipment			(1,072	)			(1,898	)
Net cash (used in) investing activities			(47,472	)			(21,396	)
Financing activities:
Purchase of treasury stock			(7,321	)			—
Proceeds of stock issued from employee stock purchase plan			356				301
Proceeds of stock issued from exercise of stock options			540				241
Net cash provided by (used in) financing activities			(6,425	)			542
Effect of exchange rate changes on foreign currency cash			(1	)			—
Increase (decrease) in cash			5,754				(776	)
Cash at beginning of year			7,056				2,404
Cash at end of period		$	12,810			$	1,628
Supplemental disclosures of cash flow information:
Federal, state and local income tax paid		$	2,728			$	1,712
Interest paid			—				—
Issuance of stock to directors			200				181

See accompanying notes to interim consolidated financial statements.

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

Notes to Interim Consolidated Financial Statements
(Unaudited)

Note 1. Accounting Policies

The accompanying interim consolidated financial statements are unaudited but reflect all adjustments which, in the opinion of management, are necessary to provide a fair statement of the results of The Navigators Group, Inc. and its subsidiaries for the interim periods presented on the basis of U.S. generally accepted accounting principles (“GAAP” or “U.S. GAAP”). All such adjustments are of a normal recurring nature. All significant intercompany transactions and balances have been eliminated. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported revenues and expenses during the reporting periods. The results of operations for any interim period are not necessarily indicative of results for the full year. The terms “we”, “us”, “our” and “the Company” as used herein are used to mean The Navigators Group, Inc. and its subsidiaries, unless the context otherwise requires. The term “Parent” or “Parent Company” are used to mean The Navigators Group, Inc. without its subsidiaries. These financial statements should be read in conjunction with the consolidated financial statements and notes contained in the Company’s 2007 Annual Report on Form 10-K. Certain amounts for the prior year have been reclassified to conform to the current year’s presentation.

Note 2. Reinsurance Ceded

The Company’s ceded earned premiums were $100.0 million and $107.9 million for the three months ended March 31, 2008 and 2007, respectively. The Company’s ceded incurred losses were $21.7 million and $63.6 million for the three months ended March 31, 2008 and 2007, respectively.

Note 3. Segment Information

The Company’s subsidiaries are primarily engaged in the underwriting and management of property and casualty insurance.

The Company classifies its business into two underwriting segments consisting of the Insurance Companies and the Lloyd’s Operations, which are separately managed, and a Corporate segment. Segment data for each of the two underwriting segments include allocations of revenues and expenses of the Navigators Agencies’ and the Parent Company’s expenses and related income tax amounts.

We evaluate the performance of each segment based on its underwriting and net income results. The Insurance Companies’ and the Lloyd’s Operations’ results are measured by taking into account net earned premium, net losses and loss adjustment expenses (“LAE”), commission expense, other operating expenses, commission income and other income or expense. The Corporate segment consists of the Parent Company’s investment income, interest expense and the related tax effect. Each segment maintains its own investments, on which it earns income and realizes capital gains or losses. Our underwriting performance is evaluated separately from the performance of our investment portfolios.

The Insurance Companies consist of Navigators Insurance Company, including its U.K. Branch, and its wholly-owned subsidiary, Navigators Specialty Insurance Company. They are primarily engaged in underwriting marine insurance and related lines of business, professional liability insurance, specialty lines of business including contractors general liability insurance, commercial and personal umbrella and primary and excess casualty businesses, and middle markets business consisting of general liability, commercial automobile liability and property insurance for a variety of commercial middle markets businesses.

Navigators Specialty Insurance Company underwrites specialty and professional liability insurance on an excess and surplus lines basis fully reinsured by Navigators Insurance Company. The Lloyd’s Operations primarily underwrite marine and related lines of business along with professional liability insurance, European property business and construction coverages for onshore energy business at Lloyd’s of London (“Lloyd’s”) through Lloyd’s Syndicate 1221 (“Syndicate 1221”). Our Lloyd’s Operations include Navigators Underwriting Agency Ltd. (“NUAL”), a Lloyd’s underwriting agency which manages Syndicate 1221. We participate in the capacity of Syndicate 1221 through two wholly-owned Lloyd’s corporate members. The Navigators Agencies are underwriting management companies which produce, manage and underwrite insurance and reinsurance for the Company.

The Insurance Companies’ and the Lloyd’s Operations’ underwriting results are measured based on underwriting profit or loss and the related combined ratio, which are both non-GAAP measures of underwriting profitability. Underwriting profit or loss is calculated from net earned premium, less the sum of net losses and LAE, commission expense, other operating expenses and commission income and other income (expense). The combined ratio is derived by dividing the sum of net losses and LAE, commission expense, other operating expenses and commission income and other income (expense) by net earned premium. A combined ratio of less than 100% indicates an underwriting profit and over 100% indicates an underwriting loss.

Financial data by segment for the three months ended March 31, 2008 and 2007 follows:

		Three Months Ended March 31, 2008
		Insurance				Lloyd’s
		Companies				Operations				Corporate				Total
		($ in thousands)
Gross written premium		$	191,596			$	95,550							$	287,146
Net written premium			124,310				63,412								187,722
Net earned premium			112,246				43,494								155,740
Net losses and LAE			(67,356	)			(21,064	)							(88,420	)
Commission expense			(12,948	)			(8,000	)							(20,948	)
Other operating expenses			(22,148	)			(7,608	)							(29,756	)
Commission income and other income (expense)			258				14								272
Underwriting profit			10,052				6,836								16,888
Net investment income			15,465				2,982			$	391				18,838
Net realized capital gains (losses)			(102	)			26				—				(76	)
Interest expense			—				—				(2,217	)			(2,217	)
Income (loss) before income taxes			25,415				9,844				(1,826	)			33,433
Income tax expense (benefit)			7,370				3,452				(639	)			10,183
Net income (loss)		$	18,045			$	6,392			$	(1,187	)		$	23,250
Identifiable assets (1)		$	2,356,343			$	756,100			$	69,520			$	3,182,275
Loss and LAE ratio			60.0	%			48.4	%							56.8	%
Commission expense ratio			11.5	%			18.4	%							13.5	%
Other operating expense ratio (2)			19.5	%			17.5	%							18.9	%
Combined ratio			91.0	%			84.3	%							89.2	%

		Three Months Ended March 31, 2008
		Insurance				Lloyd’s
		Companies				Operations				Total
		($ in thousands)
Gross written premium:
Marine & Energy		$	82,535			$	74,953			$	157,488
Specialty			78,882				—				78,882
Professional Liability			19,287				10,670				29,957
Middle Markets			8,014				—				8,014
Property/Other			2,878				9,927				12,805
Total		$	191,596			$	95,550			$	287,146
Net written premium:
Marine & Energy		$	49,671			$	52,502			$	102,173
Specialty			53,944				—				53,944
Professional Liability			11,733				6,792				18,525
Middle Markets			6,526				—				6,526
Property/Other			2,436				4,118				6,554
Total		$	124,310			$	63,412			$	187,722
Net earned premium:
Marine & Energy		$	33,226			$	33,992			$	67,218
Specialty			56,669				—				56,669
Professional Liability			14,073				5,959				20,032
Middle Markets			5,697				—				5,697
Property/Other			2,581				3,543				6,124
Total		$	112,246			$	43,494			$	155,740

		Three Months Ended March 31, 2007
		Insurance				Lloyd’s
		Companies				Operations				Corporate				Total
		($ in thousands)
Gross written premium		$	208,874			$	91,987							$	300,861
Net written premium			122,048				50,971								173,019
Net earned premium			101,812				37,234								139,046
Net losses and LAE			(61,340	)			(19,852	)							(81,192	)
Commission expense			(11,083	)			(6,016	)							(17,099	)
Other operating expenses			(18,769	)			(7,520	)							(26,289	)
Commission income and other income (expense)			489				(152	)							337
Underwriting profit			11,109				3,694								14,803
Net investment income			13,654				2,151			$	411				16,216
Net realized capital gains (losses)			243				(42	)			—				201
Interest expense			—				—				(2,215	)			(2,215	)
Income (loss) before income taxes			25,006				5,803				(1,804	)			29,005
Income tax expense (benefit)			7,911				2,054				(632	)			9,333
Net income (loss)		$	17,095			$	3,749			$	(1,172	)		$	19,672
Identifiable assets (1)		$	2,166,439			$	822,689			$	65,240			$	3,065,861
Loss and LAE ratio			60.2	%			53.3	%							58.4	%
Commission expense ratio			10.9	%			16.2	%							12.3	%
Other operating expense ratio (2)			18.0	%			20.6	%							18.7	%
Combined ratio			89.1	%			90.1	%							89.4	%

		Three Months Ended March 31, 2007
		Insurance				Lloyd’s
		Companies				Operations				Total
		($ in thousands)
Gross written premium:
Marine & Energy		$	86,856			$	77,679			$	164,535
Specialty			89,416				—				89,416
Professional Liability			20,482				5,478				25,960
Middle Markets			6,304				—				6,304
Property/Other			5,816				8,830				14,646
Total		$	208,874			$	91,987			$	300,861
Net written premium:
Marine & Energy		$	45,736			$	45,488			$	91,224
Specialty			54,585				—				54,585
Professional Liability			12,192				3,383				15,575
Middle Markets			3,969				—				3,969
Property/Other			5,566				2,100				7,666
Total		$	122,048			$	50,971			$	173,019
Net earned premium:
Marine & Energy		$	33,490			$	32,341			$	65,831
Specialty			49,042				—				49,042
Professional Liability			13,037				2,957				15,994
Middle Markets			4,570				—				4,570
Property/Other			1,673				1,936				3,609
Total		$	101,812			$	37,234			$	139,046

The Insurance Companies’ net earned premium includes $14.7 million and $15.4 million of net earned premium from the U.K. Branch for the three months ended March 31, 2008 and 2007, respectively.

Note 4. Comprehensive Income

Comprehensive income encompasses net income, net unrealized capital gains and losses on available for sale securities, and foreign currency translation adjustments, all of which are net of tax. Please refer to the Consolidated Statements of Stockholders’ Equity and the Consolidated Statements of Comprehensive Income, included herein, for the components of accumulated other comprehensive income (loss) and of comprehensive income (loss), respectively.

Note 5. Stock-Based Compensation

Stock based compensation is expensed as stock awards granted under the Company’s stock plans vest with the expense being included in other operating expenses for the periods indicated. The amounts charged to expense for stock-based compensation were $1.9 million and $1.6 million for the three months ended March 31, 2008 and 2007, respectively.

The Company expensed $41,000 and $35,000 for the three months ended March 31, 2008 and 2007, respectively, related to its Employee Stock Purchase Plan.

In addition, $50,000 was expensed in each of the three month periods ended March 31, 2008 and 2007 for stock issued annually to non-employee directors as part of their directors’ compensation for serving on the Company’s Board of Directors.

Note 6. Application of New Accounting Standards

In December 2007, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) 141(R), Business Combinations, which requires most identifiable assets, liabilities, non-controlling interests, and goodwill acquired in a business combination to be recorded at full fair value. Under SFAS 141(R), all business combinations will be accounted for by applying the acquisition method (referred to as the purchase method in SFAS 141, Business Combinations). SFAS 141(R) is effective for fiscal years beginning on or after December 15, 2008 and is to be applied to business combinations occurring after the effective date. The Company does not expect the adoption of SFAS 141(R) to have a material effect on its financial condition or results of operations.

In December 2007, the FASB issued FASB 160, Noncontrolling Interests in Consolidated Financial Statements, which requires noncontrolling interests (previously referred to as minority interests) to be treated as a separate component of equity, not as a liability or other item outside of permanent equity. SFAS 160 is effective for fiscal years beginning on or after December 15, 2008. The Company does not expect the adoption of SFAS 160 to have a material effect on its financial condition or results of operations.

Note 7. Syndicate 1221

We record our pro rata share of Syndicate 1221’s assets, liabilities, revenues and expenses, after making adjustments to convert Lloyd’s accounting to U.S. GAAP. The most significant U.S. GAAP adjustments relate to income recognition. Our participation in Lloyd’s Syndicate 1221 is represented by and recorded as our proportionate share of the underlying assets and liabilities and results of operations of the syndicate, since (a) we hold an undivided interest in each asset, (b) we are proportionately liable for each liability and (c) Syndicate 1221 is not a separate legal entity.

Lloyd’s presents its results on an underwriting year basis, generally closing each underwriting year after three years. We make estimates for each underwriting year and timely accrue the expected results. Our Lloyd’s Operations included in the consolidated financial statements represent our participation in Syndicate 1221.

Syndicate 1221’s stamp capacity is £123.0 million ($243.4 million) in 2008 compared to £140.0 million ($280.2 million) in 2007. Stamp capacity is a measure of the amount of premium a Lloyd’s syndicate is authorized to write based on a business plan approved by the Council of Lloyd’s. Syndicate 1221’s capacity is expressed net of commission (as is standard at Lloyd’s). The Syndicate 1221 premium recorded in the Company’s financial statements is gross of commission. Navigators provides 100% of Syndicate 1221’s capacity for the 2008 and 2007 underwriting years through Navigators Corporate Underwriters Ltd. in 2008 and through Millennium Underwriting Ltd. and Navigators Corporate Underwriters Ltd. in 2007. The Lloyd’s Operations included in the consolidated financial statements represent the Company’s participation in Syndicate 1221.

The Company provides letters of credit to Lloyd’s to support its Syndicate 1221 capacity. If the Company increases its participation or if Lloyd’s changes the capital requirements, the Company may be required to supply additional letters of credit or other collateral acceptable to Lloyd’s, or reduce the capacity of Syndicate 1221. The letters of credit are provided through a credit facility with a consortium of banks which expires March 31, 2009. If the banks decide not to renew the credit facility, the Company will need to find other sources to provide the letters of credit or other collateral in order to continue to participate in Syndicate 1221. The bank facility is collateralized by all of the common stock of Navigators Insurance Company.

Note 8. Income Taxes

We are subject to the tax regulations of the United States and foreign countries in which we operate. The Company files a consolidated federal tax return, which includes all domestic subsidiaries and the U.K. Branch. The income from the foreign operations is designated as either U.S. connected income or non-U.S. connected income. Lloyd’s is required to pay U.S. income tax on U.S. connected income written by Lloyd’s syndicates. Lloyd’s and the IRS have entered into an agreement whereby the amount of tax due on U.S. connected income is calculated by Lloyd’s and remitted directly to the IRS. These amounts are then charged to the corporate members in proportion to their participation in the relevant syndicates. The Company’s corporate members are subject to this agreement and will receive United Kingdom (“U.K.”) tax credits for any U.S. income tax incurred up to the U.K. income tax charged on the U.S. connected income. The non-U.S. connected insurance income would generally constitute taxable income under the Subpart F income section of the Internal Revenue Code since less than 50% of Syndicate 1221’s premium is derived within the U.K. and would therefore be subject to U.S. taxation when the Lloyd’s year of account closes. Taxes are accrued at a 35% rate on our foreign source insurance income and foreign tax credits, where available, are utilized to offset U.S. tax as permitted. The Company’s effective tax rate for Syndicate 1221 taxable income could substantially exceed 35% to the extent the Company is unable to offset U.S. taxes paid under Subpart F tax regulations with U.K. tax credits on future underwriting year distributions. U.S. taxes are not accrued on the earnings of the Company’s foreign agencies as these earnings are not subject to the Subpart F tax regulations. These earnings are subject to taxes under U.K. tax regulations at a 30% rate. We have not provided for U.S. deferred income taxes on the undistributed earnings of our non-U.S. subsidiaries since these earnings are intended to be permanently reinvested in our non-U.S. subsidiaries. A finance bill was enacted in the U.K. on July 19, 2007 that reduces the U.K. corporate tax rate from 30% to 28% effective April 1, 2008. The effect of such tax rate change was not material to the Company’s financial statements.

 A tax benefit taken in the tax return but not in the financial statements is known as an ‘unrecognized tax benefit’. The Company had no unrecognized tax benefits at either March 31, 2008 or March 31, 2007 and does not anticipate any significant unrecognized tax benefits within the next twelve months. The Company is currently not under examination by any major U.S. or foreign tax authority and is generally subject to U.S. Federal, state, local, or foreign tax examinations by tax authorities for years 2004 and subsequent. The Company’s policy is to record interest and penalties related to unrecognized tax benefits to income tax expense. The Company did not incur any interest or penalties related to unrecognized tax benefits for the three month periods ended March 31, 2008 and 2007.

The Company had state and local deferred tax assets amounting to potential future tax benefits of $7.6 million and $6.3 million at March 31, 2008 and December 31, 2007, respectively. Included in the deferred tax assets are net operating loss carryforwards of $1.6 million and $2.5 million at March 31, 2008 and December 31, 2007, respectively. A valuation allowance was established for the full amount of these potential future tax benefits due to the uncertainty associated with their realization. The Company’s state and local tax carryforwards at March 31, 2008 expire in 2025.

Note 9. Commitments and Contingencies

(a) The Company is not a party to, or the subject of, any material pending legal proceedings that depart from the routine litigation incidental to the kinds of business it conducts.

(b) Whenever a member of Lloyd’s is unable to pay its debts to policyholders, such debts may be payable by the Lloyd’s Central Fund. If Lloyd’s determines that the Central Fund needs to be increased, it has the power to assess premium levies on current Lloyd’s members up to 3% of a member’s underwriting capacity in any one year. The Company does not believe that any assessment is likely in the foreseeable future and has not provided any allowance for such an assessment. However, based on the Company’s 2008 capacity at Lloyd’s of £123 million, the March 31, 2008 exchange rate of £1 equals $1.99 and assuming the maximum 3% assessment, the Company would be assessed approximately $7.3 million.

Note 10. Senior Notes due May 1, 2016

On April 17, 2006, the Company completed a public debt offering of $125 million principal amount of 7% senior unsecured notes due May 1, 2016 (the “Senior Notes”) and received net proceeds of $123.5 million. The interest payment dates on the Senior Notes are each May 1 and November 1. The effective interest rate related to the Senior Notes, based on the proceeds net of discount and all issuance costs, approximates 7.17%. The interest expense on the Senior Notes was $2.2 million for the first three months of both 2008 and 2007. The fair value of the Senior Notes, based on quoted market prices, was $120.7 million and $126.7 million at March 31, 2008 and December 31, 2007, respectively.

The Senior Notes, the Company’s only senior unsecured obligation, will rank equally with future senior unsecured indebtedness. The Company may redeem the Senior Notes at any time and from time to time, in whole or in part, at a “make-whole” redemption price. The terms of the Senior Notes contain various restrictive business and financial covenants typical for debt obligations of this type, including limitations on mergers, liens and dispositions of the common stock of certain subsidiaries. As of March 31, 2008, the Company was in compliance with all such covenants.

Note 11. Fair Value Measurements SFAS 157 and SFAS 159

In September 2006, the FASB issued SFAS 157, Fair Value Measurements, which was adopted by the Company on January 1, 2008. SFAS 157 defines fair value, expands disclosure requirements around fair value and specifies a hierarchy of valuation techniques based on whether the input to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. These two types of inputs create the following fair value hierarchy:

	•		Level 1 – Quoted prices for identical instruments in active markets.
	•		Level 2 – Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets.
	•		Level 3 – Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.

This hierarchy requires the Company to use observable market data, when available, and to minimize the use of unobservable inputs when determining fair value.

The following table presents, for each of the fair value hierarchy levels, the Company’s fixed maturities, equity securities and short-term investments that are measured at fair value at March 31, 2008:

		Quoted Prices				Significant
		In Active				Other				Significant
		Markets for				Observable				Unobservable
		Identical Assets				Inputs				Inputs
		Level 1				Level 2				Level 3				Total
		($ in thousands)
Fixed maturities		$	188,291			$	1,380,607			$	2,073			$	1,570,971
Equities securities			54,030				5,658				—				59,688
Short-term investments			28,664				142,783				—				171,447
Total		$	270,985			$	1,529,048			$	2,073			$	1,802,106

The securities classified as Level 3 in the above table consist of three structured securities rated AAA/Aaa by Standard and Poor’s (“S&P”) and Moody’s Investors Service (“Moody’s”), respectively, with unobservable inputs included in the Company’s fixed maturities portfolio for which price quotes from brokers were used to indicate fair value. The following table presents a reconciliation of the beginning and ending balances for all investments measured at fair value using Level 3 inputs during the quarter ended March 31, 2008:

		Three Months Ended
		March 31, 2008
		($ in thousands)
Level 3 investments as of January 1, 2008		$	2,603
Unrealized net gains included in other comprehensive income (loss)			17
Purchases, sales, paydowns and amortization			(153	)
Transfer to Level 2			(394	)
Level 3 investments as of March 31, 2008		$	2,073

In February 2007, the FASB issued SFAS 159, The Fair Value Option for Financial Assets and Financial Liabilities. SFAS 159 provides on an instrument-by-instrument basis for most financial assets and liabilities to be reported at with changes in fair value reported in earnings. The Company adopted SFAS 159 on January 1, 2008 and did not elect to apply fair value accounting to any financial instruments with future changes in value reported in earnings.

Note 12. Share Repurchases

In October, 2007 the Company’s Board of Directors adopted a stock repurchase program for up to $30 million of the Company’s common stock. Purchases may be made from time to time at prevailing prices in open market or privately negotiated transactions through December 31, 2008. The timing and amount of purchases under the program will depend on a variety of factors, including the trading price of the stock, market conditions and corporate and regulatory considerations. There were no purchases made in the 2007 fourth quarter. During the first quarter of 2008, the Company purchased 136,026 shares of its common stock in the open market at an average cost of $53.82 per share which approximates $7.3 million in total. There is approximately $22.7 million remaining to be used in the stock repurchase program.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Note on Forward-Looking Statements

Some of the statements in this Quarterly Report on Form 10-Q are ‘‘forward-looking statements’’ as defined in the Private Securities Litigation Reform Act of 1995. All statements other than statements of historical fact included in or incorporated by reference in this Quarterly Report are forward-looking statements. Whenever used in this report, the words “estimate”, “expect”, “believe”, “may”, “will”, “intend”, “continue” or similar expressions or their negative are intended to identify such forward-looking statements. Forward-looking statements are derived from information that we currently have and assumptions that we make. We cannot assure that anticipated results will be achieved, since actual results may differ materially because of both known and unknown risks and uncertainties which we face. We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. Factors that could cause actual results to differ materially from our forward-looking statements include, but are not limited to, the factors discussed in the ‘‘Risk Factors’’ section of our 2007 Annual Report on Form 10-K as well as:

	•		the effects of domestic and foreign economic conditions, and conditions which affect the market for property and casualty insurance;
	•		changes in the laws, rules and regulations which apply to our insurance companies;
	•		the effects of emerging claim and coverage issues on our business, including adverse judicial or regulatory decisions and rulings;
	•		the effects of competition from banks and other insurers and the trend toward self-insurance;
	•		risks that we face in entering new markets and diversifying the products and services we offer;
	•		unexpected turnover of our professional staff;
	•		changing legal and social trends and inherent uncertainties in the loss estimation process that can adversely impact the adequacy of loss reserves and the allowance for reinsurance recoverables, including our estimates relating to ultimate asbestos liabilities and related reinsurance recoverables;
	•		risks inherent in the collection of reinsurance recoverable amounts from our reinsurers over many years into the future based on the reinsurers’ financial ability and intent to meet such obligations to the Company;
	•		risks associated with our continuing ability to obtain reinsurance covering our exposures at appropriate prices and/or in sufficient amounts and the related recoverability of our reinsured losses;
	•		weather-related events and other catastrophes (including acts of terrorism) impacting our insureds and/or reinsurers, including, without limitation, the impact of Hurricanes Katrina, Rita, and Wilma and the possibility that our estimates of losses from Hurricanes Katrina, Rita and Wilma will prove to be materially inaccurate;
	•		our ability to attain adequate prices, obtain new business and retain existing business consistent with our expectations and to successfully implement our business strategy during “soft” as well as “hard” markets;
	•		our ability to maintain or improve our ratings to avoid the possibility of downgrades in our claims-paying and financial strength ratings significantly adversely affecting us, including reducing the number of insurance policies we write generally, or causing clients who require an insurer with a certain rating level to use higher-rated insurers;

	•		the inability of our internal control framework to provide absolute assurance that all incidents of fraud or unintended material errors will be detected and prevented;
	•		changes in accounting principles or policies or in our application of such accounting principles or policies;
	•		the risk that our investment portfolio suffers reduced returns or investment losses which could reduce our profitability; and
	•		other risks that we identify in future filings with the Securities and Exchange Commission (the “SEC”), including without limitation the risks described under the caption “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2007.

In light of these risks, uncertainties and assumptions, any forward-looking events discussed in this Form 10-Q may not occur. You are cautioned not to place undue reliance on any forward-looking statements, which speak only as of their respective dates.

The discussion and analysis of our financial condition and results of operations contained herein should be read in conjunction with our consolidated financial statements and accompanying notes which appear elsewhere in this Form 10-Q. It contains forward-looking statements that involve risks and uncertainties. Please see “Note on Forward-Looking Statements” for more information. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those discussed below and elsewhere in this Form 10-Q.

Overview

We are an international insurance holding company focusing on specialty products for niches within the overall property/casualty insurance market. The Company’s underwriting segments consist of insurance company operations and operations at Lloyd’s of London. Our largest product line and most long-standing area of specialization is ocean marine insurance. We have also developed specialty niches in professional liability insurance and in specialty liability insurance primarily consisting of contractors liability and primary and excess liability coverages. We conduct operations through our Insurance Companies and our Lloyd’s Operations. The Insurance Companies consist of Navigators Insurance Company, which includes our U.K. Branch, and Navigators Specialty Insurance Company, which underwrites specialty and professional liability insurance on an excess and surplus lines basis fully reinsured by Navigators Insurance Company. Our Lloyd’s Operations include NUAL, a wholly-owned Lloyd’s underwriting agency which manages Syndicate 1221. Our Lloyd’s Operations primarily underwrite marine and related lines of business along with professional liability insurance, European property business and construction coverages for onshore energy business at Lloyd’s through Syndicate 1221. We participate in the capacity of Syndicate 1221 through our wholly-owned Lloyd’s corporate member (utilized two wholly-owned Lloyd’s corporate members prior to the 2008 underwriting year).

While management takes into consideration a wide range of factors in planning the Company’s business strategy and evaluating results of operations, there are certain factors that management believes are fundamental to understanding how the Company is managed. First, underwriting profit is consistently emphasized as a primary goal, above premium growth. Management’s assessment of our trends and potential growth in underwriting profit is the dominant factor in its decisions with respect to whether or not to expand a business line, enter into a new niche, product or territory or, conversely, to contract capacity in any business line. In addition, management focuses on managing the costs of our operations. Management believes that careful monitoring of the costs of existing operations and assessment of costs of potential growth opportunities are important to our profitability. Access to capital also has a significant impact on management’s outlook for our operations. The Insurance Companies’ operations and ability to grow their business and take advantage of market opportunities are particularly constrained by regulatory capital requirements and rating agency assessments of capital adequacy.

The discussions that follow include tables, which contain both our consolidated and segment operating results for the three month periods ended March 31, 2008 and 2007. In presenting our financial results we have discussed our performance with reference to underwriting profit or loss and the related combined ratio, both of which are non-GAAP measures of underwriting profitability. We consider such measures, which may be defined differently by other companies, to be important in the understanding of our overall results of operations. Underwriting profit or loss is calculated from net earned premium, less the sum of net losses and LAE, commission expense, other operating expenses and commission income and other income (expense). The combined ratio is derived by dividing the sum of net losses and LAE, commission expense, other operating expenses and commission income and other income (expense) by net earned premiums. A combined ratio of less than 100% indicates an underwriting profit and over 100% indicates an underwriting loss.

Although not a financial measure, management’s decisions are also greatly influenced by access to specialized underwriting and claims expertise in our lines of business. We have chosen to operate in specialty niches with certain common characteristics which we believe provide us with the opportunity to use our technical underwriting expertise in order to realize underwriting profit. As a result, we have focused on underserved markets for businesses characterized by higher severity and lower frequency of loss where we believe our intellectual capital and financial strength bring meaningful value. In contrast, we have avoided niches that we believe have a high frequency of loss activity and/or are subject to a high level of regulatory requirements, such as workers compensation and personal automobile insurance, because we do not believe our technical expertise is of as much value in these types of businesses. Examples of niches that have the characteristics we look for include bluewater hull which provides coverage for physical damage to, for example, highly valued cruise ships, and directors and officers liability insurance (“D&O”) which covers litigation exposure of a corporation’s directors and officers. These types of exposures require substantial technical expertise. We attempt to mitigate the financial impact of severe claims on our results by conservative and detailed underwriting, prudent use of reinsurance and a balanced portfolio of risks.

Our revenue is primarily comprised of premiums and investment income. The Insurance Companies derive their premiums primarily from business written by the Navigators Agencies, which are wholly-owned insurance underwriting agencies of the Company. The Lloyd’s Operations derive their premiums from business written by NUAL. Beginning in 2006, The Navigators Agencies produce and manage business almost exclusively for the Insurance Companies and are reimbursed for actual costs. NUAL is reimbursed for its actual costs and, where applicable, profit commissions on the business produced for Syndicate 1221.

From 2003 through 2006, we experienced generally beneficial market changes in our lines of business. As a result of several large industry losses in the second quarter of 2001, the marine insurance market began to experience diminished capacity and rate increases, initially in the offshore energy line of business. The marine rate increases began to level off in 2004 and into 2005. As a result of the substantial insurance industry losses resulting from Hurricanes Katrina and Rita, the marine insurance market experienced diminished capacity and rate increases through the end of 2006, particularly for the offshore energy risks located in the Gulf of Mexico. Since the end of 2006, competitive market conditions have returned as available capacity has increased. The average renewal premium rates for our Insurance Companies’ marine business decreased approximately 0.7% for the 2008 first quarter, including offshore energy average renewal premium rates which decreased approximately 5.6%. The average renewal premium rates for our Lloyd’s Operations marine business decreased approximately 4.0% for the 2008 first quarter including offshore energy average renewal premium rates which decreased approximately 9.5%. We expect continuing overall declines in 2008 pricing for marine lines of business, including offshore energy, as additional capacity continues to re-enter the marine market.

Specialty liability losses in 2001 to 2003, particularly for the contractors liability business, also resulted in diminished capacity in the market in which we compete, as many former competitors who lacked the expertise to selectively underwrite this business have been forced to withdraw from the market resulting in average renewal premium rate increases of approximately 13% in 2004 and 49% in 2003. This was followed by a slight decline in rates of approximately 1% in 2005. The 2006 year average renewal premium rates for the contractors liability business declined approximately 6%, primarily due to additional competition in the marketplace. This decline continued into 2007 with average renewal premium rates declining approximately 10.7%. The average renewal premium rates for the contractors liability business declined approximately 9.3% in the 2008 first quarter. We expect competitive conditions to continue during 2008 resulting in continuing declines in pricing for contractors liability and excess liability business.

In the professional liability market, the enactment of the Sarbanes-Oxley Act of 2002, together with financial and accounting scandals at publicly traded corporations and the increased frequency of securities-related class action litigation, has led to heightened interest in professional liability insurance generally. Average professional liability average renewal premium rates decreased approximately 6.6% in 2007 compared to relatively level average renewal premium rates in 2006 and 2005 after decreasing approximately 3% in 2004 which followed substantial average renewal premium rate increases in 2003 and 2002, particularly for D&O insurance. The 2007 D&O insurance average renewal premium rates decreased approximately 7.9% following decreases of approximately 1.7% in 2006, 2.3% 2005 and 9.5% in 2004. The average renewal premium rates for the professional liability business declined approximately 5.6% in the 2008 first quarter, including D&O insurance average renewal premium rates which declined approximately 4.4%. We anticipate continuing declines in 2008 pricing given the overall favorable industry underwriting results since 2002 for the professional liability lines of business.

Our business is cyclical and influenced by many factors. These factors include price competition, economic conditions, interest rates, weather-related events and other catastrophes including natural and man-made disasters (for example hurricanes and terrorism), state regulations, court decisions and changes in the law. The incidence and severity of catastrophes are inherently unpredictable. Although we will attempt to manage our exposure to such events, the frequency and severity of catastrophic events could exceed our estimates, which could have a material adverse effect on our financial condition. Additionally, because our insurance products must be priced, and premiums charged, before costs have fully developed, our liabilities are required to be estimated and recorded in recognition of future loss and settlement obligations. Due to the inherent uncertainty in estimating these liabilities, we cannot assure you that our actual liabilities will not exceed our recorded amounts.

Catastrophe Risk Management

Our Insurance Companies and Lloyd’s Operations have exposure to losses caused by hurricanes and other natural and man-made catastrophic events. The frequency and severity of catastrophes are unpredictable.

The extent of losses from a catastrophe is a function of both the total amount of insured exposure in an area affected by the event and the severity of the event. We continually assess our concentration of underwriting exposures in catastrophe exposed areas globally and attempt to manage this exposure through individual risk selection and through the purchase of reinsurance. We also use modeling and concentration management tools that allow us to better monitor and control our accumulations of potential losses from catastrophe exposures. Despite these efforts, there remains uncertainty about the characteristics, timing and extent of insured losses given the nature of catastrophes. The occurrence of one or more severe catastrophic events could have a material adverse effect on the Company’s results of operations, financial condition and liquidity.

The Company has significant catastrophe exposures throughout the world. The largest catastrophe exposure results from hurricane damage to offshore energy risks in the Gulf of Mexico. Based on an assessment made through the end of the 2008 first quarter and taking into account the 2008 reinsurance structure, the Company believes that its estimated probable maximum pre-tax gross and net loss exposure in a so-called or theoretical one in two hundred and fifty year hurricane event in the Gulf of Mexico would approximate $221 million and $32 million, respectively, including the cost of reinsurance reinstatement premiums. There are a number of significant assumptions and related variables related to such an estimate including the size, force and path of the hurricane, the various types of the insured risks exposed to the event at the time the event occurs and the estimated costs or damages incurred for each insured risk. There can be no assurances that the gross and net loss amounts that the Company could incur in such an event or in any hurricanes that may occur in the Gulf of Mexico would not be materially higher than the estimates discussed above given the significant uncertainties with respect to such an estimate.

The occurrence of large loss events could reduce the reinsurance coverage that is available to us and could weaken the financial condition of our reinsurers, which could have a material adverse effect on our results of operations. Although the reinsurance agreements make the reinsurers 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 a reinsurer fails to meet its obligations under the reinsurance agreement.

Critical Accounting Policies

It is important to understand our accounting policies in order to understand our financial statements. Management considers certain of these policies to be critical to the presentation of the financial results, since they require management to make significant estimates and assumptions. These estimates and assumptions affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosures at the financial reporting date and throughout the reporting period. Certain of the estimates result from judgments that can be subjective and complex and consequently actual results may differ from these estimates, which would be reflected in future periods.

Our most critical accounting policies involve the reporting of the reserves for losses and LAE (including losses that have occurred but were not reported to us by the financial reporting date), reinsurance recoverables, written and unearned premium, the recoverability of deferred tax assets, the impairment of invested assets, accounting for Lloyd’s results and the translation of foreign currencies.

Reserves for Losses and LAE. Reserves for losses and LAE represent an estimate of the expected cost of the ultimate settlement and administration of losses, based on facts and circumstances then known. Actuarial methodologies are employed to assist in establishing such estimates and include judgments relative to estimates of future claims severity and frequency, length of time to develop to ultimate, judicial theories of liability and other third party factors which are often beyond our control. Due to the inherent uncertainty associated with the reserving process, the ultimate liability may be different from the original estimate. Such estimates are regularly reviewed and updated and any resulting adjustments are included in the current year’s results.

Reinsurance Recoverables. The most significant reinsurance recoverables are established for the portion of the loss reserves that are ceded to reinsurers. Reinsurance recoverables are determined based upon the terms and conditions of reinsurance contracts which could be subject to interpretations that differ from our own based on judicial theories of liability. In addition, we bear credit risk with respect to our reinsurers which can be significant considering that certain of the reserves remain outstanding for an extended period of time. We are required to pay losses even if a reinsurer fails to meet its obligations under the applicable reinsurance agreement.

Written and Unearned Premium. Written premium is recorded based on the insurance policies that have been reported to us and the policies that have been written by agents and brokers but not yet reported to us. We must estimate the amount of written premium not yet reported based on judgments relative to current and historical trends of the business being written. Such estimates are regularly reviewed and updated and any resulting adjustments are included in the current year’s results. An unearned premium reserve is established to reflect the unexpired portion of each policy at the financial reporting date.

Substantially all of our business is placed through agents and brokers. Since the vast majority of the Company’s gross written premium is primary or direct as opposed to assumed, the delays in reporting assumed premium generally do not have a significant effect on the Company’s financial statements, since we record estimates for both unreported direct and assumed premium. We also record the ceded portion of the estimated gross written premium and related acquisition costs. The earned gross, ceded and net premiums are calculated based on our earning methodology which is generally pro-rata over the policy period. Losses are also recorded in relation to the earned premium. The estimate for losses incurred on the estimated premium is based on an actuarial calculation consistent with the methodology used to determine incurred but not reported loss reserves for reported premiums.

The portion of the Company’s premium that is estimated is mostly for the marine business written by our U.K. Branch and Lloyd’s Operations. We generally do not experience any significant backlog in processing premiums. Such premium estimates are generally based on submission data received from agents and brokers and recorded when the insurance policy or reinsurance contract is written or bound. The estimates are regularly reviewed and updated taking into account the premium received to date versus the estimate and the age of the estimate. To the extent that the actual premium varies from the estimates, the difference, along with the related loss reserves and underwriting expenses, is recorded in current operations.

Deferred Tax Assets. We apply the asset and liability method of accounting for income taxes whereby deferred assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis. In assessing the realization of deferred tax assets, management considers whether it is more likely than not that the deferred tax assets will be realized.

Impairment of Invested Assets. Impairment of invested assets results in a charge to operations when a market decline below cost is other-than-temporary. Management regularly reviews our fixed maturity and equity securities portfolios to evaluate the necessity of recording impairment losses for other-than-temporary declines in the fair value of investments. In general, we focus our attention on those securities whose market value was less than 80% of their cost or amortized cost, as appropriate, for six or more consecutive months. Factors considered in evaluating potential impairment include, but are not limited to, the current fair value as compared to cost or amortized cost of the security, as appropriate, the length of time the investment has been below cost or amortized cost and by how much, our intent and ability to retain the investment for a period of time sufficient to allow for an anticipated recovery in value, specific credit issues related to the issuer and current economic conditions. Other-than-temporary impairment losses result in a permanent reduction of the cost basis of the underlying investment. Significant changes in the factors we consider when evaluating investments for impairment losses could result in a significant change in impairment losses reported in the consolidated financial statements.

As mentioned above, the Company considers its intent and ability to hold a security until the value recovers as part of the process of evaluating whether a security’s unrealized loss represents an other-than- temporary decline. The Company’s ability to hold such securities is supported by sufficient cash flow from its operations and from maturities within its investment portfolio in order to meet its claims payment and other disbursement obligations arising from its underwriting operations without selling such investments. With respect to securities where the decline in value is determined to be temporary and the security’s value is not written down, a subsequent decision may be made to sell that security and realize a loss. Subsequent decisions on security sales are made within the context of overall risk monitoring, changing information, market conditions and assessing value relative to other comparable securities. Management of the Company’s investment portfolio is outsourced to third party investment managers. While these investment managers may, at a given point in time, believe that the preferred course of action is to hold securities with unrealized losses that are considered temporary until such losses are recovered, the dynamic nature of the portfolio management may result in a subsequent decision to sell the security and realize the loss, based upon a change in market and other factors described above. The Company believes that subsequent decisions to sell such securities are consistent with the classification of the Company’s portfolio as available for sale.

Investment managers are required to notify management of rating agency downgrades of securities in their portfolios as well as any potential investment valuation issues at the end of each quarter. Investment managers are also required to notify management to the extent the investment manager is contemplating a transaction or transactions that may result in a realized loss above a certain threshold. Additionally, investment managers are required to notify management if they are contemplating a transaction or transactions that may result in any realized loss up until a certain period beyond the close of a quarterly accounting period.

Accounting for Lloyd’s Results. We record our pro rata share of Syndicate 1221’s assets, liabilities, revenues and expenses, after making adjustments to convert Lloyd’s accounting to U.S. GAAP. The most significant GAAP adjustments relate to income recognition. Lloyd’s syndicates determine underwriting results by year of account at the end of three years. We record adjustments to recognize underwriting results as incurred, including the expected ultimate cost of losses incurred. These adjustments to losses are based on actuarial analysis of syndicate accounts, including forecasts of expected ultimate losses provided by the syndicate. At the end of the Lloyd’s three-year period for determining underwriting results for an account year, the syndicate will close the account year by reinsuring outstanding claims on that account year with the participants for the next underwriting year. The amount to close an underwriting year into the next year is referred to as the reinsurance to close (“RITC”). The RITC transaction, recorded in the fourth quarter, does not result in any gain or loss.

Translation of Foreign Currencies. Financial statements of subsidiaries expressed in foreign currencies are translated into U.S. dollars in accordance with SFAS 52, Foreign Currency Translation, issued by the FASB. Under SFAS 52, functional currency assets and liabilities are translated into U.S. dollars using period end rates of exchange and the related translation adjustments are recorded as a separate component of accumulated other comprehensive income. Statement of income amounts expressed in functional currencies are translated using average exchange rates.

Realized gains and losses resulting from foreign currency transactions are recorded in other income (expense) in the Company’s Consolidated Statements of Income.

Results of Operations

The following is a discussion and analysis of our consolidated and segment results of operations for the three month periods ended March 31, 2008 and 2007. Earnings per share data is presented on a per diluted share basis.

Effective in 2008, the Company has reclassified certain of its business for this Management’s Discussion and Analysis of Financial Condition and Results of Operations. The inland marine business, formerly included in other business, is now included in marine business. Middle markets business, formerly included in the specialty business, is now broken out separately. Underwriting data for prior periods has been reclassified to reflect these changes.

Net income for the three months ended March 31, 2008 was $23.3 million or $1.36 per share compared to $19.7 million or $1.17 per share for the three months ended March 31, 2007. Included in these results were net realized capital gains (losses) of nil per share and $0.01 per share for the three months ended March 31, 2008 and 2007, respectively.

The combined ratios, which consist of the sum of the loss and LAE ratio and the expense ratio for each period, for the 2008 and 2007 first quarters were 89.2% and 89.4%, respectively. The combined ratio for the 2008 first quarter was reduced by 8.8 loss ratio points for net loss reserve redundancies relating to prior periods of $13.7 million or $0.52 per share. The combined ratio for the 2007 first quarter was reduced by 4.9 loss ratio points for net loss reserve redundancies relating to prior periods of $6.8 million or $0.26 per share. The net paid loss and LAE ratio for the 2008 first quarter was 32.7% compared to 31.3% for the 2007 first quarter.

Cash flow from operations was $59.7 million for the 2008 first quarter compared to $20.1 million for the comparable period in 2007. The positive cash flow contributed to the growth in invested assets and net investment income.

Consolidated stockholders’ equity increased 2.2% to $676.9 million or $40.29 per share at March 31, 2008 compared to $662.1 million or $39.24 per share at December 31, 2007. The increase was primarily due to net income of $23.3 million for the first three months of 2008.

Revenues. Gross written premium decreased 4.6% to $287.1 million in the first quarter of 2008 from $300.9 million in the first quarter of 2007. The decrease in the 2008 gross written premium generally reflects a softening market.

The average premium rate increases or decreases as noted elsewhere in this document for the marine, specialty and professional liability businesses are calculated primarily by comparing premium amounts on policies that have renewed. The premiums are judgmentally adjusted for exposure factors when deemed significant and sometimes represent an aggregation of several lines of business. The rate change calculations provide an indicated pricing trend and are not meant to be a precise analysis of the numerous factors that affect premium rates or the adequacy of such rates to cover all underwriting costs and generate an underwriting profit. The calculation can also be affected quarter by quarter depending on the particular policies and the number of policies that renew during that period. Due to market conditions, these rate changes may or may not apply to new business which generally would be more competitively priced compared to renewal business.

The following table sets forth our gross and net written premium and net earned premium by segment and line of business for the periods indicated:

		Three Months Ended March 31,
		2008																2007
		Gross								Net				Net				Gross								Net				Net
		Written								Written				Earned				Written								Written				Earned
		Premium				%				Premium				Premium				Premium				%				Premium				Premium
		($ in thousands)
Insurance Companies:
Marine		$	82,535				28.7	%		$	49,671			$	33,226			$	86,856				28.9	%		$	45,736			$	33,490
Specialty			78,882				27.5	%			53,944				56,669				89,416				29.7	%			54,585				49,042
Professional Liability			19,287				6.7	%			11,733				14,073				20,482				6.8	%			12,192				13,037
Middle Markets			8,014				2.8	%			6,526				5,697				6,304				2.1	%			3,969				4,570
Property/Other			2,878				1.0	%			2,436				2,581				5,816				1.9	%			5,566				1,673
Insurance Companies Total			191,596				66.7	%			124,310				112,246				208,874				69.4	%			122,048				101,812
Lloyd’s Operations:
Marine			74,953				26.1	%			52,502				33,992				77,679				25.8	%			45,488				32,341
Professional Liability			10,670				3.7	%			6,792				5,959				5,478				1.8	%			3,383				2,957
Other			9,927				3.5	%			4,118				3,543				8,830				3.0	%			2,100				1,936
Lloyd’s Operations Total			95,550				33.3	%			63,412				43,494				91,987				30.6	%			50,971				37,234
Intercompany elimination			—				—				—				—				—				—				—				—
Total		$	287,146				100.0	%		$	187,722			$	155,740			$	300,861				100.0	%		$	173,019			$	139,046

Gross Written Premium

Insurance Companies’ Gross Written Premium

Marine Premium. The gross written premium for the first three months of 2008 and 2007 consisted of the following:

		2008				2007
Marine liability			31	%			30	%
P&I			14	%			13	%
Offshore energy			13	%			17	%
Cargo			10	%			9	%
Transport			8	%			8	%
Inland marine			7	%			3	%
Other			6	%			7	%
Bluewater hull			6	%			7	%
Craft/Fishing vessel			5	%			6	%
Total			100	%			100	%

The marine gross written premium for the 2008 first quarter decreased 5.0% compared to the same period in 2007 reflecting flattening or declining premium in several classes of business due to increased competitive market conditions. The average renewal premium rates during the 2008 first quarter decreased 0.7%. We expect continuing overall declines in 2008 pricing for marine lines of business, including offshore energy, as additional capacity continues to re-enter the marine market.

Specialty Premium. The gross written premium for the first three months of 2008 and 2007 consisted of the following:

		2008				2007
Construction liability			50	%			50	%
Commercial umbrella			21	%			18	%
Programs			13	%			10	%
Primary E&S			11	%			14	%
Personal umbrella			3	%			3	%
Liquor liability			2	%			1	%
Other			0	%			4	%
Total			100	%			100	%

The specialty gross written premium for the 2008 first quarter decreased 11.8% compared to the same period in 2007 due primarily to weakening economic conditions that have reduced demand for contractors liability insurance. The average renewal premium rates decreased by approximately 9.3% for the contractors liability business in the 2008 first quarter. The recent premium rate decreases for the contractors liability business and generally for the specialty lines of business are reflective of softening market conditions which are expected to continue throughout 2008.

Professional Liability Premium. The gross written premium for the first three months of 2008 and 2007 consisted of the following:

		2008				2007
D&O (public and private)			57	%			60	%
Lawyers and other professionals			38	%			33	%
Architects and engineers			5	%			7	%
Total			100	%			100	%

The professional liability gross written premium for the 2008 first quarter decreased 5.8% compared to the same period in 2007. The average renewal premium rates for the professional liability business including D&O renewal premium rates decreased by approximately 5.6% in the 2008 first quarter. We anticipate continuing declines in 2008 pricing given the overall favorable industry underwriting results since 2002 for the professional liability lines of business.

Middle Markets Premium. Middle markets premium consists of general liability, auto liability and property insurance for a variety of commercial middle markets businesses engaged in contracting, light manufacturing, garage services, hospitality and real estate.

Despite the softening market conditions, the gross written premium increased 27.1% for the first three months of 2008 due to geographic and product diversification and consisted of the following:

		2008				2007
General liability			49	%			55	%
Commercial automobile liability			38	%			32	%
Property			13	%			13	%
Total			100	%			100	%

Property/Other Premium. Property/Other premium includes European property business written by the U.K. Branch beginning in 2006 and run-off business.

Lloyd’s Operations’ Gross Written Premium

We have provided 100% of Syndicate 1221’s stamp capacity since 2006. Stamp capacity is a measure of the amount of premium a Lloyd’s syndicate is authorized to write based on a business plan approved by the Council of Lloyd’s. Syndicate 1221’s stamp capacity is £123.0 million ($243.4 million) in 2008 compared to £140.0 million ($280.2 million) in 2007.

The Lloyd’s Operations gross written premium for the 2008 first quarter increased 3.9% compared to the same period in 2007 reflecting continued expansion in the professional liability book of business partially offset by a decline in marine and energy business due to weakening market conditions.

Marine Premium. The gross written premium for the first three months of 2008 and 2007 consisted of the following:

		2008				2007
Marine liability			37	%			27	%
Cargo and specie			31	%			38	%
Assumed reinsurance			12	%			12	%
Offshore energy			10	%			18	%
Hull			6	%			4	%
Other			4	%			1	%
Total			100	%			100	%

The marine gross written premium for the 2008 first quarter decreased 3.5% compared to the same period in 2007. The decrease was due to the flattening or declining premium in several classes of business due to increased competitive market conditions. The average renewal premium rates decreased approximately 4.0% for the 2008 first quarter. We expect continuing overall declines in 2008 pricing for marine lines of business, including offshore energy, as additional capacity continues to re-enter the marine market.

Professional Liability Premium. The gross written premium for the first three months of 2008 and 2007 consisted of the following:

		2008				2007
E&O			78	%			68	%
D&O (public and private)			22	%			32	%
Total			100	%			100	%

Syndicate 1221 commenced writing professional liability business during the second quarter of 2005. The 2008 first quarter gross written premium increased 94.7%, compared to the same period in 2007, due to continued expansion and geographic diversification of the business.

Property/Other Premium. Property/Other premium consists of gross written premium for European property business, engineering and construction business which provides coverage for construction projects including machinery, equipment and loss of use due to delays and of premium for onshore energy business which principally focuses on the oil and gas, chemical and petrochemical industries with coverages primarily for property damage and business interruption.

Ceded Written Premium. In the ordinary course of business, we reinsure certain insurance risks with unaffiliated insurance companies for the purpose of limiting our maximum loss exposure, protecting against catastrophic losses, and maintaining desired ratios of net premiums written to statutory surplus. The relationship of ceded to written premium varies based upon the types of business written and whether the business is written by the Insurance Companies or the Lloyd’s Operations.

The following table sets forth our ceded written premium by segment and major line of business for the periods indicated:

		Three Months Ended March 31
		2008								2007
						% of								% of
		Ceded				Gross				Ceded				Gross
		Written				Written				Written				Written
		Premium				Premium				Premium				Premium
		($ in thousands)
Insurance Companies:
Marine		$	32,864				39.8	%		$	41,120				47.3	%
Specialty			24,938				31.6	%			34,831				39.0	%
Professional Liability			7,554				39.2	%			8,290				40.5	%
Middle Markets			1,488				18.6	%			2,335				37.0	%
Property/Other			442				15.4	%			250				4.3	%
Subtotal			67,286				35.1	%			86,826				41.6	%
Lloyd’s Operations:
Marine			22,451				30.0	%			32,191				41.4	%
Professional Liability			3,878				36.3	%			2,095				38.2	%
Property/Other			5,809				58.5	%			6,730				76.2	%
Subtotal			32,138				33.6	%			41,016				44.6	%
Total		$	99,424				34.6	%		$	127,842				42.5	%