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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
     
þ   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2009
OR
     
o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number 0-24000
ERIE INDEMNITY COMPANY
 
(Exact name of registrant as specified in its charter)
     
Pennsylvania   25-0466020
     
(State or other jurisdiction
of incorporation or organization)
  (I.R.S. Employer
Identification No.)
     
100 Erie Insurance Place, Erie, Pennsylvania   16530
     
(Address of principal executive offices)   (Zip code)
(814) 870-2000
 
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Class A common stock, stated value $0.0292 per share, listed on the NASDAQ Stock Market, LLC
 
(Title of each class)   (Name of each exchange on which registered)
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes þ     No o
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o     No þ
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 has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o     No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. 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
Aggregate market value of voting and non-voting common stock held by non-affiliates as of the last business day of the registrant’s most recently completed second fiscal quarter: $1.0 billion of Class A non-voting common stock as of June 30, 2009. There is no active market for the Class B voting common stock. The Class B common stock is closely held by few shareholders.
Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date: 51,203,473 shares of Class A common stock and 2,546 shares of Class B common stock outstanding on February 19, 2010.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of Part III of this Form 10-K (Items 10, 11, 12, 13, and 14) are incorporated by reference to the information statement on Form 14(C) to be filed with the Securities and Exchange Commission no later than 120 days after December 31, 2009.
 
 

 


 

INDEX
                 
PART   ITEM NUMBER AND CAPTION   PAGE
 
I   Item 1.       3  
    Item 1A.       8  
    Item 1B.       13  
    Item 2.       14  
    Item 3.       14  
    Item 4.       14  
 
II   Item 5.       15  
    Item 6.       17  
    Item 7.       18  
    Item 7A.       50  
    Item 8.       53  
    Item 9.       101  
    Item 9A.       101  
    Item 9B.       101  
 
III   Item 10.       102  
    Item 11.       103  
    Item 12.       103  
    Item 13.       103  
    Item 14.       103  
 
IV   Item 15.       104  
 
            105  
 EX-10.119
 EX-21
 EX-23
 EX-31.1
 EX-31.2
 EX-32

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PART I
Item 1. Business
General
Erie Indemnity Company (“we”, “us”, “our”) is a publicly held Pennsylvania business corporation that since 1925 has been the managing Attorney-in-Fact for the subscribers at Erie Insurance Exchange (“Exchange”). The Exchange is a subscriber (policyholder) owned Pennsylvania-domiciled reciprocal insurer that writes property/casualty insurance. Our primary function is to perform certain services for the Exchange relating to sales, underwriting and issuance of policies on behalf of the Exchange. This is done in accordance with a subscribers agreement (a limited power of attorney) executed by each subscriber (policyholder), appointing us as their common attorney-in-fact to transact business on their behalf and to manage their affairs at the Exchange. We earn a management fee from the Exchange for these services.
The Exchange and its wholly-owned subsidiary, Flagship City Insurance Company (“Flagship”) and the Indemnity’s wholly-owned subsidiaries, Erie Insurance Company (“EIC”), Erie Insurance Company of New York (“ENY”) and the Erie Insurance Property and Casualty Company (“EPC”), comprise the Property and Casualty Group. The Property and Casualty Group is a regional insurance group operating in 11 Midwestern, Mid-Atlantic, and Southeastern states and the District of Columbia. The Property and Casualty Group primarily writes personal auto insurance, which comprises 48% of its direct premiums.
The Indemnity owns 21.6% of the common stock of the Erie Family Life Insurance Company (“EFL”), an affiliated life insurance company; the Exchange owns the remaining 78.4%. EFL underwrites and sells nonparticipating individual and group life insurance policies and fixed annuities.
The Indemnity, together with the members of the Property and Casualty Group and EFL, operate collectively as the Erie Insurance Group (“Group”).
Business segments
We operate our business as three reportable segments — management operations, insurance underwriting operations and investment operations. Financial information about these segments is set forth in and referenced to Item 8. “Financial Statements and Supplementary Data — Note 22 of Notes to Consolidated Financial Statements” contained within this report. Further discussion of financial results by operating segment is provided in and referenced to Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained within this report.
Management operations — For our services as attorney-in-fact, we charge the policyholders of the Exchange a management fee of up to 25%. Management fees accounted for approximately 81% of our total revenue in 2009, 84% in 2008 and 72% in 2007. The proportion of management fee revenue to total revenues was greater in 2009 and 2008 due to lower revenues generated from our investment operations as a result of market conditions. Excluding limited partnership losses and market value adjustments, 2009 management fee revenues accounted for 76% of total revenues. Excluding impairment charges, 2008 management fee revenues accounted for 79% of total revenues.
We have an interest in the growth and financial condition of the Exchange as 1) the Exchange is our sole customer and 2) our earnings are largely generated from management fees based on the direct written premiums of the Exchange and other members of the Property and Casualty Group. Historically, due to policy renewal and sales patterns, the Property and Casualty Group’s direct written premiums are greater in the second and third quarters than in the first and fourth quarters of the calendar year. Consequently, there is seasonality in our management fees and we have higher gross margins in our management operations in those quarters.
Insurance underwriting operations — The members of the Property and Casualty Group pool their underwriting results. Under the reinsurance pooling arrangement, the Exchange assumes 94.5% of the pool. Accordingly, the underwriting risk of the Property and Casualty Group’s business is largely borne by the Exchange, which had $4.5 billion and $4.0 billion of statutory surplus at December 31, 2009 and December 31, 2008, respectively. Through the pool, our property/casualty insurance subsidiaries currently assume 5.5% of the Property and Casualty Group’s underwriting results, and therefore, we also have a direct incentive to manage the insurance underwriting operations of the Property and Casualty Group effectively.

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The Property and Casualty Group seeks to insure standard and preferred risks with personal lines comprising 72% of the 2009 direct written premiums and commercial lines the remaining 28%. The principal personal lines products based on 2009 direct written premiums were private passenger automobile (48%) and homeowners (21%). The principal commercial lines products based on 2009 direct written premiums were commercial multi-peril (11%), commercial automobile (8%) and workers compensation (6%). The Property and Casualty Group ranked as the 14th largest automobile insurer in the United States based on 2008 direct written premiums and as the 18th largest property/casualty insurer in the United States based on 2008 total lines net premium written according to AM Best.
The Property and Casualty Group writes business in Illinois, Indiana, Maryland, New York, North Carolina, Ohio, Pennsylvania, Tennessee, Virginia, West Virginia, Wisconsin and the District of Columbia. The states of Pennsylvania, Maryland and Virginia made up 64% of the Property and Casualty Group’s 2009 direct written premium.
The Property and Casualty Group is represented by over 2,000 independent agencies comprising over 9,200 licensed representatives and is our sole distribution channel. In addition to their principal role as salespersons, the independent agents play a significant role as underwriting and service providers and are fundamental to the Property and Casualty Group’s success.
While sales, underwriting and policy issuance services are centralized at our home office, the Property and Casualty Group maintains 23 field offices throughout its operating region to provide claims services to policyholders and marketing support for the independent agencies that represent us.
Investment operations — We generate revenues from our fixed maturity, equity security and alternative investment portfolios. The portfolios are managed with a view toward maximizing after-tax yields and limiting credit risk. Revenues and losses included in investment operations consist of net investment income, net realized gains and losses, and impairment losses recognized in earnings for our fixed maturity and equity portfolios. Equity in earnings and losses from our alternative investments, which include private equity, mezzanine, and real estate partnerships, are also included as a component of investment operations. Additionally, our 21.6% investment in EFL is included in the investment operation results.
Competition
Property and casualty insurers generally compete on the basis of customer service, price, consumer recognition, coverages offered, claim handling, financial stability and geographic coverage. Vigorous competition, particularly in the personal lines automobile and homeowners lines of business, is provided by large, well-capitalized national companies, some of which have broad distribution networks of employed or captive agents, by smaller regional insurers and by large companies who market and sell personal lines products directly to consumers. In addition, because the insurance products of the Property and Casualty Group are marketed exclusively through independent insurance agents, the Property and Casualty Group faces competition within its appointed agencies based on ease of doing business, product, price and service relationships. The market is competitive with some carriers filing rate decreases while others focus on acquiring business through other means.
Market competition bears directly on the price charged for insurance products and services subject to regulatory limitations. Growth is driven by a company’s ability to provide insurance services and competitive prices while maintaining target profit margins. Industry capital levels can also significantly affect prices charged for coverage. Growth is a product of a company’s ability to retain existing customers and to attract new customers, as well as movement in the average premium per policy.
The Erie Insurance Group has a strategic focus that we believe will result in long-term underwriting performance. First, the Erie Insurance Group employs an underwriting philosophy and product mix targeted to produce a Property and Casualty Group underwriting profit on a long-term basis through careful risk selection and rational pricing. The careful selection of risks allows for lower claims frequency and loss severity, thereby enabling insurance to be offered at favorable prices. The Property and Casualty Group has continued to refine its risk measurement and price segmentation model used in the underwriting and pricing processes. Second, the Property and Casualty Group focuses on consistently providing superior service to policyholders and agents. Third, the Property and Casualty Group’s business model is designed to provide the advantages of localized marketing and claims servicing with the economies of scale and low cost of operations from centralized accounting, administrative, underwriting, investment, information management and other support services.

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Finally, we carefully select the independent agencies that represent the Property and Casualty Group. The Property and Casualty Group seeks to be the lead insurer with its agents in order to enhance the agency relationship and the likelihood of receiving the most desirable underwriting opportunities from its agents. We have ongoing, direct communications with the agency force. Agents have access to a number of venues we sponsor designed to promote sharing of ideas, concerns and suggestions with the senior management of the Property and Casualty Group with the goal of improving communications and service. We continue to evaluate new ways to support our agents’ efforts, from marketing programs to identifying potential customer leads, to grow the business of the Property and Casualty Group and sustain our long-term agency partnerships. The higher agency penetration and long-term relationships allow for greater efficiency in providing agency support and training.
Employees
We employed 4,200 people at December 31, 2009, of which approximately 2,125, or 51%, provide claims specific services exclusively for the Property and Casualty Group and approximately 65, or 2%, perform services exclusively for EFL. Both the Exchange and EFL reimburse us at least quarterly for the cost of these services.
Reserves for losses and loss expenses
The table that follows illustrates the change over time of the loss and loss expense reserves established for our property/casualty insurance subsidiaries at the end of the last ten calendar years. The development of loss and loss expenses are presented on a gross basis (gross of ceding transactions in the intercompany pool) and a net basis (the amount remaining as our exposure after ceding and assuming amounts through the intercompany pool, as well as transactions under the excess-of-loss reinsurance agreement prior to 2006, with the Exchange). Incurred but not reported reserves (IBNR) are developed for the Property and Casualty Group as a whole and then allocated to members of the Property and Casualty Group based on each member’s proportionate share of earned premiums. We do not develop IBNR reserves for each of the property/casualty insurance subsidiaries based on their direct and assumed writings. Consequently, the gross liability data contained in this table for our property/casualty insurance subsidiaries includes allocated amounts for IBNR reserves.
Our 5.5% share of the loss and loss expense reserves of the Property and Casualty Group are shown in the net presentation and are more representative of the actual development of the property/casualty insurance losses accruing to our subsidiaries. The gross presentation is shown to be consistent with the balance sheet presentation of reinsurance transactions which requires direct and ceded amounts to be presented separate from one another, thus the gross liability for unpaid losses and loss expenses of $965.4 million at December 31, 2009 agrees to the gross balance sheet amount. When factoring in the $778.5 million in reinsurance recoverables under the pooling agreement, the net obligation to us is $186.9 million at December 31, 2009. Additional discussion of our reserve methodology can be found in and is referenced to Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Estimates” contained within this report.
The Property and Casualty Group discounts only workers compensation reserves. These reserves are discounted on a nontabular basis as prescribed by the Insurance Department of the Commonwealth of Pennsylvania. The interest rate of 2.5% used to discount these reserves is based upon the Property and Casualty Group’s historical workers compensation payout pattern. Our unpaid losses and loss expenses reserve was reduced by $7.5 million and $5.4 million at December 31, 2009 and 2008, respectively, as a result of this discounting. The increase in 2009 was the result of segregating massive injury workers compensation claims that have longer payout patterns in the discount calculation.
Additional discussion of reserve activity can be found in and is referenced to Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Financial Condition” section contained within this report.

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Property and Casualty Subsidiaries of Erie Indemnity Company
Reserves for Unpaid Losses and Loss Expenses
                                                                                 
    At December 31,  
(in millions)   2000     2001     2002     2003     2004     2005     2006     2007     2008     2009  
Gross liability for unpaid losses and loss expenses (LAE)
  $ 477.9     $ 557.3     $ 717.0     $ 845.5     $ 943.0     $ 1,019.5     $ 1,073.6     $ 1,026.5     $ 965.1     $ 965.4  
 
                                                                             
Gross liability re-estimated as of:
                                                                               
One year later
    516.2       622.6       727.2       844.5       955.3       1,034.1       992.8       945.8       909.1          
 
                                                                             
Two years later
    567.1       635.1       730.5       886.2       1,004.1       1,006.1       942.9       897.6                  
 
                                                                             
Three years later
    567.2       644.3       781.2       958.5       1,014.4       971.5       901.2                          
 
                                                                             
Four years later
    562.2       699.4       856.4       983.0       982.8       938.7                                  
 
                                                                             
Five years later
    619.0       779.2       888.0       952.8       954.2                                          
 
                                                                             
Six years later
    701.0       816.5       858.9       922.6                                                  
 
                                                                             
Seven years later
    721.5       788.2       828.9                                                          
 
                                                                             
Eight years later
    702.6       758.2                                                                  
 
                                                                             
Nine years later
    681.1                                                                          
 
                                                                             
Cumulative (deficiency) redundancy
    (203.2 )     (200.9 )     ( 111.9 )     (77.1 )     (11.2 )     80.8       172.4       128.9       56.0          
 
                                                             
Gross liability for unpaid losses and LAE
  $ 477.9     $ 557.3     $ 717.0     $ 845.5     $ 943.0     $ 1,019.5     $ 1,073.6     $ 1,026.5     $ 965.1     $ 965.4  
Reinsurance recoverable on unpaid losses
    375.6       438.6       577.9       687.8       765.6       828.0       873.0       834.4       778.3       778.5  
 
                                                           
Net liability for unpaid losses and LAE
  $ 102.3     $ 118.7     $ 139.1     $ 157.7     $ 177.4     $ 191.5     $ 200.6     $ 192.1     $ 186.8     $ 186.9  
 
                                                           
Net re-estimated liability as of:
                                                                               
One year later
  $ 109.8     $ 126.6     $ 140.9     $ 162.6     $ 181.2     $ 183.0     $ 185.1     $ 181.7     $ 181.6          
 
                                                                             
Two years later
    116.0       127.0       144.6       171.9       179.3       175.5       180.6       176.9                  
 
                                                                             
Three years later
    116.2       131.9       155.7       173.8       173.7       173.9       177.0                          
 
                                                                             
Four years later
    120.9       143.6       157.6       170.3       172.1       171.7                                  
 
                                                                             
Five years later
    132.5       146.2       155.1       169.4       170.4                                          
 
                                                                             
Six years later
    135.0       144.7       153.2       167.4                                                  
 
                                                                             
Seven years later
    132.8       142.6       153.4                                                          
 
                                                                             
Eight years later
    131.2       142.2                                                                  
 
                                                                             
Nine years later
    131.2                                                                          
 
                                                                             
Cumulative (deficiency) redundancy
  $ ( 28.9 )   $ (23.5 )   $ (14.3 )   $ (9.7 )   $ 7.0     $ 19.8     $ 23.6     $ 15.2     $ 5.2          
 
                                                             
                                                                                 
    At December 31,  
(in millions)   2000     2001     2002     2003     2004     2005     2006     2007     2008     2009  
Cumulative amount of gross liability paid through:
                                                                               
One year later
  $ 174.4     $ 194.3     $ 217.0     $ 259.1     $ 271.4     $ 271.7     $ 257.4     $ 248.0     $ 239.4          
 
                                                                             
Two years later
    270.9       302.1       351.0       410.6       435.0       427.0       404.4       377.9                  
 
                                                                             
Three years later
    326.1       372.4       434.8       508.4       530.0       519.1       483.3                          
 
                                                                             
Four years later
    361.3       418.9       488.0       561.4       586.1       570.5                                  
 
                                                                             
Five years later
    384.9       450.6       514.8       593.8       619.2                                          
 
                                                                             
Six years later
    405.9       466.9       534.9       614.6                                                  
 
                                                                             
Seven years later
    415.8       481.0       548.9                                                          
 
                                                                             
Eight years later
    427.8       491.8                                                                  
 
                                                                             
Nine years later
    436.4                                                                          
 
                                                                             
Cumulative amount of net liability paid through:
                                                                               
One year later
  $ 41.2     $ 47.2     $ 51.3     $ 58.0     $ 53.9     $ 51.9     $ 56.0     $ 57.3     $ 56.8          
 
                                                                             
Two years later
    64.8       73.6       81.3       85.3       81.9       82.8       89.2       86.5                  
 
                                                                             
Three years later
    79.2       91.2       95.3       100.3       101.5       104.1       107.9                          
 
                                                                             
Four years later
    88.5       97.4       100.9       111.9       114.6       116.1                                  
 
                                                                             
Five years later
    89.8       97.9       107.3       120.1       122.2                                          
 
                                                                             
Six years later
    94.1       101.8       112.5       125.0                                                  
 
                                                                             
Seven years later
    96.4       105.6       115.8                                                          
 
                                                                             
Eight years later
    98.5       107.9                                                                  
 
                                                                             
Nine years later
    100.0                                                                          
 
                                                                             

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Government Regulation
The Property and Casualty Group is subject to supervision and regulation in the states in which it transacts business. The extent of such regulation varies, but generally derives from state statutes that delegate regulatory, supervisory and administrative authority to state insurance departments. Accordingly, the authority of the state insurance departments includes the establishment of standards of solvency that must be met and maintained by insurers, the licensing to do business of insurers and agents, the nature of the limitations on investments, the approval of premium rates for property/casualty insurance, the provisions that insurers must make for current losses and future liabilities, the deposit of securities for the benefit of policyholders, the approval of policy forms, notice requirements for the cancellation of policies and the approval of certain changes in control. In addition, many states have enacted variations of competitive rate-making laws that allow insurers to set certain premium rates for certain classes of insurance without having to obtain the prior approval of the state insurance department. State insurance departments also conduct periodic examinations of the affairs of insurance companies and require the filing of quarterly and annual reports relating to the financial condition of insurance companies.
The Property and Casualty Group is also required to participate in various involuntary insurance programs for automobile insurance, as well as other property/casualty lines, in states in which such companies operate. These involuntary programs provide various insurance coverages to individuals or other entities that otherwise are unable to purchase such coverage in the voluntary market. These programs include joint underwriting associations, assigned risk plans, fair access to insurance requirements (“FAIR”) plans, reinsurance facilities and windstorm plans. Legislation establishing these programs generally provides for participation in proportion to voluntary writings of related lines of business in that state. The loss ratio on insurance written under involuntary programs has traditionally been greater than the loss ratio on insurance in the voluntary market.
Most states have enacted legislation that regulates insurance holding company systems such as the Erie Insurance Group. Each insurance company in the holding company system is required to register with the insurance supervisory authority of its state of domicile and furnish information regarding the operations of companies within the holding company system that may materially affect the operations, management or financial condition of the insurers within the system. Pursuant to these laws, the respective insurance departments may examine us and the Property and Casualty Group at any time, require disclosure of material transactions with the insurers and us as an insurance holding company and require prior approval of certain transactions between the Property and Casualty Group and us.
All transactions within the holding company system affecting the insurers we manage are filed with the applicable insurance departments and must be fair and reasonable. Approval of the applicable insurance commissioner is required prior to the consummation of transactions affecting the control of an insurer. In some states, the acquisition of 10% or more of the outstanding common stock of an insurer or its holding company is presumed to be a change in control. Approval of the applicable insurance commissioner is also required in order to declare extraordinary dividends. See Item 8, “Financial Statements and Supplementary Data — Note 19 of Notes to Consolidated Financial Statements” contained within this report.
Website access
Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports are available free of charge on our website at www.erieinsurance.com as soon as reasonably practicable after such material is filed electronically with the SEC. Our Code of Conduct is available on our website and in printed form upon request. Our annual report on Form 10-K and the information statement on Form 14(C) are also available free of charge at www.erieinsurance.com. Copies of our annual report on Form 10-K will be made available, free of charge, upon written request as well.

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Item 1A. Risk Factors
Our business involves various risks and uncertainties, including, but not limited to those discussed in this section. The events described in the risk factors below, or any additional risk outside of those discussed below, could have a material adverse effect on our business, financial condition, operating results or liquidity if they actually occur. This information should be considered carefully together with the other information contained in this report, including management’s discussion and analysis of financial condition and results of operations, the consolidated financial statements and the related notes.
Our formal enterprise risk management (ERM) activities fall under the leadership of our Chief Executive Officer and executive management. Actual supervision of the ERM program is the responsibility of our Chief Risk Officer (CRO). There is no universally accepted ERM standard of practice and, as such, approaches take on different forms throughout the insurance industry. Our formal ERM effort is meant to create an atmosphere of risk-intelligent decision making and, in turn, add greater likelihood to the successful achievement of our corporate objectives. To achieve these goals, our ERM program focuses on the following priorities:
    identifying, assessing and prioritizing potential risk events (using both quantitative and qualitative techniques);
 
    cataloguing effective risk responses;
 
    monitoring actual losses and learning from historical risk events;
 
    educating and encouraging employees at all levels to consider the risks and rewards of the decisions they make;
 
    managing corporate risks from an enterprise portfolio viewpoint;
 
    defining risk tolerances, including aligning strategic and operational objectives within those tolerances, and enforcing subsequent decision standards and limits; and
 
    planning for extreme adverse risk events.
Our ERM policy statement establishes the framework, principles and guidelines for our ERM program so that aggregated risks are acceptable to us or any of our subsidiaries or affiliates, including the Erie Insurance Exchange. Besides leading and directing the program, the CRO is responsible for reporting risk information to executive management and the Board of Directors, advising decision makers from a risk perspective, and improving our overall risk-readiness. Our ERM committee consists of a cross-functional team of representatives from all major business functions as well as a technical team which is responsible for risk quantification and identification on an integrated basis. General day-to-day risk management responsibility lies within our functional divisions, ensuring execution by those most familiar with the related risks. A compliance department within our law division is charged with monitoring regulatory, legal, and ethical requirements and ensuring that appropriate responses are initiated.
An essential part of our ERM infrastructure is a stochastic modeling capability for our property/casualty insurance operations as well as the investment operations for the Property and Casualty Group. The modeling capability is a significant component in our quantification of insurance and investment risk. Model output is used to assess the variability of risk inherent in our operations and the sufficiency of enterprise capital levels given our defined tolerance for risk. The model further provides additional insights into capital management, strategic asset allocation of our investment portfolios, capital required for product lines sold by the enterprise, catastrophe exposure management and reinsurance purchasing and risk management strategy.
As our ERM program continues to evolve, new techniques are being used at the enterprise and individual project levels to consider key risks not inherently quantifiable, such as scenario analysis. ERM tools continue to be developed and modified to identify and assess risk on a consistent basis, providing management with more information to respond effectively and efficiently.
Risk factors related to our business
If the management fee rate paid by the Exchange is reduced, if there is a significant decrease in the amount of premiums written by the Exchange, or if the costs of providing services to the Exchange are not controlled, revenues and profitability could be materially adversely affected.
We are dependent upon management fees paid by the Exchange, which represent our principal source of revenue. Management fee revenue from the Exchange is calculated by multiplying the management fee rate by the direct premiums written by the Exchange and the other members of the Property and Casualty Group, which are assumed by the Exchange under an intercompany pooling arrangement. Accordingly, any reduction in direct premiums written by the Property and Casualty Group would have a proportional negative effect on our revenues and net

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income. See the “Risk Factors relating to the business of the Property and Casualty Group” section, herein, for a discussion of risks impacting direct written premium.
The management fee rate is determined by the Board of Directors and may not exceed 25% of the direct written premiums of the Property and Casualty Group. The Board of Directors sets the management fee rate each December for the following year. At their discretion, the rate can be changed at any time. The factors considered by the Board in setting the management fee rate include our financial position in relation to the Exchange and the long-term needs of the Exchange for capital and surplus to support its continued growth and competitiveness. If the Exchange’s surplus were significantly reduced, the management fee rate could be reduced and our revenues and profitability could be materially adversely affected.
Pursuant to the attorney-in-fact agreements with the policyholders of the Exchange, we are appointed to perform certain services, regardless of the cost to us of providing those services. These services relate to the sales, underwriting and issuance of policies on behalf of the Exchange. We would lose money or be less profitable if the cost of providing those services increases significantly.
We are subject to credit risk from the Exchange because the management fees from the Exchange are not paid immediately when earned. Our property/casualty insurance subsidiaries are subject to credit risk from the Exchange because the Exchange assumes a higher insurance risk under an intercompany reinsurance pooling arrangement than is proportional to its direct business contribution to the pool.
We recognize management fees due from the Exchange as income when the premiums are written because at that time we have performed substantially all of the services we are required to perform, including sales, underwriting and policy issuance activities. However, such fees are not paid to us by the Exchange until the Exchange collects the premiums from policyholders. As a result, we hold receivables for management fees earned and due to us.
Two of our wholly-owned property/casualty insurance subsidiaries, Erie Insurance Company and Erie Insurance Company of New York, are parties to the intercompany pooling arrangement with the Exchange. Under this pooling arrangement, our insurance subsidiaries cede 100% of their property/casualty underwriting business to the Exchange, which retrocedes 5% of the pooled business to Erie Insurance Company and 0.5% to Erie Insurance Company of New York. In 2009, approximately 84% of the pooled direct property/casualty business was originally generated by the Exchange and its subsidiary, while 94.5% of the pooled business is retroceded to the Exchange under the intercompany pooling arrangement. Accordingly, the Exchange assumes a higher insurance risk than is proportional to the insurance business it contributes to the pool. This poses a credit risk to our property/casualty subsidiaries participating in the pool as they retain the responsibility to their direct policyholders if the Exchange is unable to meet its reinsurance obligations.
We hold receivables from the Exchange for costs we pay on the Exchange’s behalf and for reinsurance under the intercompany pooling arrangement. Our total receivable from the Exchange, including the management fee, reimbursable costs we paid on behalf of the Exchange and total amounts recoverable from the intercompany reinsurance pool, totaled $1.1 billion or 41.8% of our total assets at December 31, 2009.
Our financial condition may suffer because of declines in the value of the securities held in our investment portfolio that constitute a significant portion of our assets. The continuing volatility in the financial markets and the ongoing economic downturn could have a material adverse effect on our results of operations or financial condition.
Markets in the United States and around the world, which experienced extreme volatility and disruption since mid-2007 began to stabilize in 2009. The financial stress that affected the banking system so severely has diminished and the U.S. and most other economies grew in the second half of 2009. Government stimulus and the stock market recovery bolstered consumer and business confidence. Nevertheless, conditions remain fragile and the outlook for the financial markets remains uncertain. Although we continue to monitor market conditions, we cannot predict future market conditions or their impact on our investment portfolio. We could incur additional realized and unrealized losses in future fiscal periods, which could have a material adverse effect on our results of operations, financial condition or liquidity. In addition, financial market volatility and other economic variables could have a material adverse affect on third parties with which we do business. We cannot predict the impact that this would have on our business or results of operations.

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Credit conditions improved during the second half of 2009, with most credit spreads falling from previous wide levels. The narrowing of credit spreads enabled businesses to refinance outstanding debt and raise new capital. While our fixed income portfolio is well diversified, volatility in the credit markets could adversely affect the values and liquidity of our corporate and municipal bonds and our asset-backed and mortgage-backed securities, which could have a material adverse affect on our financial condition. We do not hedge our exposure to credit risk as we control industry and issuer exposure within our diversified portfolio. Inflation remains low, and the Federal Reserve has indicated that the federal funds rate would likely remain low for an “extended period,” reiterating its intent to promote economic recovery and maintain price stability. Our investment strategy achieves a balanced maturity schedule in order to moderate investment income in the event of interest rate declines in a year in which a large amount of securities could be redeemed or mature. We do not hedge our exposure to interest rate risk as we have the ability to hold fixed income securities to maturity.
At December 31, 2009, we had investments in equity securities of $79.9 million and investments in limited partnerships of $235.0 million, or 3.0% and 8.8% of total assets, respectively. In addition, we are obligated to invest up to an additional $68.8 million in limited partnerships, including private equity, real estate and fixed income partnership investments. Limited partnerships are less liquid and generally involve higher degrees of price risk than publicly traded securities. Limited partnerships, like publicly traded securities, have exposure to market volatility; but unlike publicly traded securities, cash flows and return expectations are less predictable. The primary basis for the valuation of limited partnership interests are financial statements prepared by the general partner. Because of the timing of the preparation and delivery of these financial statements, the use of the most recently available financial statements provided by the general partners result in a quarter delay in the inclusion of the limited partnership results in our Consolidated Statements of Operations. Due to this delay, these financial statements do not reflect market conditions experienced in the fourth quarter 2009. We expect additional deterioration, primarily from our real estate limited partnerships, to be reflected in the general partners’ year end financial statements, which we will receive in 2010. Such declines could be significant.
All of our marketable securities are subject to market volatility. Our marketable securities have exposure to price risk and the volatility of the equity markets and general economic conditions. To the extent that future market volatility negatively impacts our investments, our financial condition will be negatively impacted. We review the investment portfolio on a continuous basis to evaluate positions that might have incurred other-than-temporary declines in value. The primary factors considered in our review of investment valuation include the extent and duration to which fair value is less than cost, historical operating performance and financial condition of the issuer, short- and long-term prospects of the issuer and its industry, specific events that occurred affecting the issuer including rating downgrades and, depending on the type of security, our intent to sell or our ability and intent to retain the investment for a period of time sufficient to allow for a recovery in value. If our policy for determining the recognition of impaired positions were different, our Consolidated Statements of Financial Position and Statements of Operations could be significantly impacted. See also Item 7A. “Quantitative and Qualitative Disclosures about Market Risk”.
Ineffective business relationships, including partnering and outsourcing, could affect our ability to compete.
The inability to successfully build business relationships through partnering or outsourcing could have a material adverse effect on our business. As we purchase technologies or services from others, we are reliant upon our partners’ employee skill, performance and ability to fulfill fundamental business functions. This places our business performance at risk. The severity of such risk would be commensurate with the level of aptitude of the external vendors’ knowledge and/or technology. If the business partner does not act within the intended limits of their authority or does not perform in a manner consistent with our business objectives, this could lead to ineffective operational performance. The potential also exists for an agency or policyholder to experience dissatisfaction with a vendor which may have an adverse effect on our business and/or agency relationships.
Risk factors relating to the business of the Property and Casualty Group
The Property and Casualty Group faces significant competition from other regional and national insurance companies which may result in lower revenues. Additionally, we face the operational risk of potential loss resulting from inadequate or failed internal processes, people, and systems, or from external events.
The Property and Casualty Group competes with regional and national property/casualty insurers including direct writers of insurance coverage. Many of these competitors are larger and many have greater financial, technical and

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operating resources. In addition, there is competition within each insurance agency that represents other carriers as well as the Property and Casualty Group.
If we are unable to perform at industry best practice levels in terms of quality, cost containment, and speed-to-market due to inferior operating resources and/or problems with external relationships, our business performance may suffer. As the business environment changes, if we are unable to adapt timely to emerging industry changes, or if our people do not conform to the changes, our business could be materially impacted.
The property/casualty insurance industry is highly competitive on the basis of product, price and service. If competitors offer property/casualty products with more coverage and/or better service or offer lower rates, and we are unable to implement product or service improvements quickly enough to keep pace, the Property and Casualty Group’s ability to grow and renew its business may be adversely impacted.
The internet continues to grow as a method of product distribution, and as a preferred method of product and price comparison. We compete against established ‘direct to consumer’ insurers as well as insurers that use a combination of agent and online distribution. We expect the competitors in this channel to grow. Failure to position our distribution technology effectively in light of these trends and changing demographics could inhibit our ability to grow and maintain our customer base. Our growth could also be adversely impacted by an inability to accommodate prospective customers based on lack of geographic agency presence.
If the Erie Insurance Group is unable to keep pace with technological advancements in the insurance industry or is unable to ensure system availability or to secure system information, the ability of the Property and Casualty Group to compete effectively could be impaired.
Technological development is necessary to reduce our cost and the Property and Casualty Group’s operating costs and to facilitate agents’ and policyholders’ ability to do business with the Property and Casualty Group. If the Erie Insurance Group is unable to keep pace with the advancements being made in technology, its ability to compete with other insurance companies who have advanced technological capabilities will be negatively affected. Further, if the Erie Insurance Group is unable to update or replace its legacy policy administration systems as they become obsolete or as emerging technology renders them competitively inefficient, the Property and Casualty Group’s competitive position would be adversely affected.
We have an established business continuity plan to ensure the continuation of core business operations in the event that normal business operations could not be performed due to a catastrophic event. While we continue to test and assess our business continuity plan to ensure it meets the needs of our core business operations and addresses multiple business interruption events, there is no assurance that core business operations could be performed upon the occurrence of such an event.
Advancements in technology continue to make it easier to store, share and transport information. A security breach of our computer systems could interrupt or damage our operations or harm our reputation if confidential company or customer information were to be misappropriated from our systems. Cases where sensitive data is exposed or lost may lead to a loss in competitive advantage or lawsuits. We implement standard information security procedures, such as user authentication protocols and intrusion detection systems, to control data access and storage, including that which is available on the internet.
Premium rates and reserves must be established for members of the Property and Casualty Group from forecasts of the ultimate costs expected to arise from risks underwritten during the policy period. Our underwriting profitability could be adversely affected to the extent such premium rates or reserves are too low or by the effects of inflation.
One of the distinguishing features of the property and casualty insurance industry in general is that its products are priced before its costs are known, as premium rates are generally determined before losses are reported. Consequently, in establishing premium rates, we attempt to anticipate the potential impact of inflation, including medical cost inflation, construction and auto repair cost inflation and tort issues. Medical costs are a broad element of inflation that impacts personal and commercial auto, general liability, workers compensation and commercial multi-peril lines of insurance written by the Property and Casualty Group. Accordingly, premium rates must be established from forecasts of the ultimate costs expected to arise from risks underwritten during the policy period and may not prove to be adequate. Further, property and casualty insurers establish reserves for losses and loss expenses based upon estimates, and it is possible that the ultimate liability will exceed these estimates because of the future development of known

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losses, the existence of losses that have occurred but are currently unreported and larger than historical settlements on pending and unreported claims. The process of estimating reserves is inherently judgmental and can be influenced by factors that are subject to variation. If pricing or reserves established by a member of the Property and Casualty Group are not sufficient, our underwriting profitability may be adversely impacted.
Not completely knowing costs before products are priced has caused the property and casualty insurance industry to cycle through periods of pricing corrections, resulting in an oscillation of profitability and premium growth. The Property and Casualty Group seeks an appropriate balance between profitability and premium growth, but the need to remain competitive prevents it from being completely immune to the cyclical routine.
The financial performance of members of the Property and Casualty Group could be adversely affected by severe weather conditions or other catastrophic losses, including terrorism.
The Property and Casualty Group conducts business in 11 states and the District of Columbia, primarily in the Mid-Atlantic, Midwestern and Southeastern portions of the United States. A substantial portion of this business is private passenger and commercial automobile, homeowners and workers compensation insurance in Ohio, North Carolina, Maryland, Virginia and particularly, Pennsylvania. As a result, a single catastrophe occurrence, destructive weather pattern, change in climate condition, general economic trend, terrorist attack, regulatory development or other condition disproportionately affecting one or more of the states in which the Property and Casualty Group conducts substantial business could adversely affect the results of operations of members of the Property and Casualty Group. Common natural catastrophe events include hurricanes, earthquakes, tornadoes, hail storms and severe winter weather. The frequency and severity of these catastrophes is inherently unpredictable. The extent of losses from a catastrophe is a function of both the total amount of insured exposures in the area affected by the event and the severity of the event.
Terrorist attacks could cause losses from insurance claims related to the property/casualty insurance operations, as well as a decrease in our shareholders’ equity, net income or revenue. The federal Terrorism Risk Insurance Program Reauthorization and Extension Act of 2007 requires that some coverage for terrorist loss be offered by primary commercial property insurers and provides federal assistance for recovery of claims through 2014. While the Property and Casualty Group is exposed to terrorism losses in commercial lines and workers compensation, these lines are afforded a limited backstop above insurer deductibles for acts of terrorism under this federal program. The Property and Casualty Group has no personal lines terrorist coverage in place. The Property and Casualty Group could incur large net losses if future terrorist attacks occur.
The Property and Casualty Group maintains a property catastrophe reinsurance treaty that was renewed effective January 1, 2010 that provides coverage of 95% of a loss up to $500 million in excess of the Property and Casualty Group’s loss retention of $400 million per occurrence. This treaty excludes losses from acts of terrorism. Nevertheless, catastrophe reinsurance may prove inadequate if a major catastrophic loss exceeds the reinsurance limit which could adversely affect our underwriting profitability.
The Property and Casualty Group depends on independent insurance agents, which exposes the Property and Casualty Group to risks not applicable to companies with dedicated agents or other forms of distribution.
The Property and Casualty Group markets and sells its insurance products through independent, non-exclusive agencies. These agencies are not obligated to sell only the Property and Casualty Group’s insurance products, and generally they also sell competitors’ insurance products. As a result, the Property and Casualty Group’s business depends in large part on the marketing and sales efforts of these agencies. To the extent these agencies’ marketing efforts cannot be maintained at their current levels of volume or they bind the Property and Casualty Group to unacceptable insurance risks, fail to comply with established underwriting guidelines or otherwise improperly market the Property and Casualty Group’s products, the results of operations and business of the Property and Casualty Group could be adversely affected. Also, to the extent these agencies place business with competing insurers due to compensation arrangements, product differences, price differences, ease of doing business or other reasons, the results of operations of the Property and Casualty Group could be adversely affected. If we are unsuccessful in maintaining and increasing the number of agencies in our independent agent distribution system, the results of operations of the Property and Casualty Group could be adversely affected.
To the extent that consumer preferences cause the business to migrate to a delivery system other than independent agencies, the business of the Property and Casualty Group could be adversely affected. Also, to the extent the

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agencies choose to place significant portions or all of their business with competing insurance companies, the results of operations and business of the Property and Casualty Group could be adversely affected.
If there were a failure to maintain a commercially acceptable financial strength rating, the Property and Casualty Group’s competitive position in the insurance industry would be adversely affected.
Financial strength ratings are an important factor in establishing the competitive position of insurance companies and may be expected to have an effect on an insurance company’s sales. Higher ratings generally indicate greater financial stability and a stronger ability to meet ongoing obligations to policyholders. Ratings are assigned by rating agencies to insurers based upon factors that they believe are relevant to policyholders. Currently the Property and Casualty Group’s pooled AM Best rating is an A+ (“superior”). A significant future downgrade in this or other ratings would reduce the competitive position of the Property and Casualty Group making it more difficult to attract profitable business in the highly competitive property/casualty insurance market.
Changes in applicable insurance laws, regulations or changes in the way regulators administer those laws or regulations could adversely change the Property and Casualty Group’s operating environment and increase its exposure to loss or put it at a competitive disadvantage.
Property and casualty insurers are subject to extensive supervision in the states in which they do business. This regulatory oversight includes, by way of example, matters relating to licensing and examination, rate setting, market conduct, policy forms, limitations on the nature and amount of certain investments, claims practices, mandated participation in involuntary markets and guaranty funds, reserve adequacy, insurer solvency, transactions between affiliates and restrictions on underwriting standards. Such regulation and supervision are primarily for the benefit and protection of policyholders and not for the benefit of shareholders. For instance, members of the Property and Casualty Group are subject to involuntary participation in specified markets in various states in which it operates, and the rate levels the Property and Casualty Group is permitted to charge do not always correspond with the underlying costs associated with the coverage issued. Although the federal government does not directly regulate the insurance industry, federal initiatives, such as federal terrorism backstop legislation, from time-to-time, also can impact the insurance industry. In addition to specific insurance regulation, we must also comply with other regulatory, legal and ethical requirements relating to the general operation of a business. Our Chief Compliance Officer oversees insurance regulations as well as other compliance issues.
Our ability to attract, develop and retain talented executives, key managers and employees is critical to our success.
Our future performance is substantially dependent upon our ability to attract, motivate and retain executives and other key management. The loss of the services and leadership of certain key officers and the failure to attract, motivate and develop talented new executives and managers could prevent us from successfully communicating, implementing and executing business strategies, and therefore have a material adverse effect on our financial condition and results of operations.
Our success also depends on our ability to attract, develop and retain a talented employee base. The inability to staff all functions of our business with employees possessing the appropriate technical expertise could have an adverse effect on our business performance. Staffing appropriately skilled employees for the deployment and maintenance of information technology systems and the appropriate handling of claims and rendering of disciplined underwriting, is critical to the success of our business.
Item 1B. Unresolved Staff Comments
None.

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Item 2. Properties
The member companies of the Erie Insurance Group share a corporate home office complex in Erie, Pennsylvania, which is comprised of approximately 500,000 square feet. The home office complex is owned by the Exchange. We are charged rent for the related square footage we occupy.
The Erie Insurance Group also operates 23 field offices in 11 states. Seventeen of these offices provide both agency support and claims services and are referred to as branch offices, while the remaining six provide only claims services and are considered claims offices. While we own three of these field offices, we lease the remaining field offices from other parties as detailed below.
                 
    Year ended December 31, 2009
            Net rent expense
    Number of field   incurred by
(dollars in thousands)   offices   Indemnity
 
Field office ownership:
               
Unaffiliated parties
    15 (1)   $ 2,603  
Erie Insurance Exchange (including home office complex)
    4       5,460  
Erie Family Life Insurance Company
    1 (1)     340  
 
 
    20       8,403  
Erie Indemnity Company
    3        
 
 
    23     $ 8,403  
 
(1)   Lease commitments for these properties expire periodically through 2014.
The total operating expense for all office space we occupied in 2009 including rent expense of $22.2 million was reduced by reimbursements from affiliates of $14.7 million. This net amount after allocations is reflected in our cost of management operations.
Item 3. Legal Proceedings
Reference is made to Item 8. “Financial Statements and Supplementary Data — Note 21 of Notes to Consolidated Financial Statements” contained within this report.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the fourth quarter of 2009.

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PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Common stock market prices and dividends
Our Class A, non-voting common stock trades on The NASDAQ Stock MarketSM LLC under the symbol “ERIE.” No established trading market exists for the Class B voting common stock. American Stock Transfer & Trust Company serves as our transfer agent and registrar. As of February 19, 2010, there were approximately 879 beneficial shareholders of record of our Class A non-voting common stock and 11 beneficial shareholders of record of our Class B voting common stock.
We historically have declared and paid cash dividends on a quarterly basis at the discretion of the Board of Directors. The payment and amount of future dividends on the common stock will be determined by the Board of Directors and will depend on, among other things, our operating results, financial condition, cash requirements and general business conditions at the time such payment is considered.
The common stock high and low sales prices and dividends for each full quarter of the last two years were as follows:
                                                                 
    2009   2008
                    Cash Dividend                   Cash Dividend
    Sales Price   Declared   Sales Price   Declared
Quarter ended   High   Low   Class A   Class B   High   Low   Class A   Class B
 
March 31
  $ 38.67     $ 28.57     $ 0.45     $ 67.50     $ 52.39     $ 48.13     $ 0.44     $ 66.00  
June 30
    36.47       32.72       0.45       67.50       56.04       46.15       0.44       66.00  
September 30
    38.67       35.01       0.45       67.50       49.00       40.61       0.44       66.00  
December 31
    40.18       35.21       0.48       72.00       43.66       31.52       0.45       67.50  
                                         
Total
                  $ 1.83     $ 274.50                     $ 1.77     $ 265.50  
                                         
Stock performance
The following graph depicts the cumulative total shareholder return (assuming reinvestment of dividends) for the periods indicated for our Class A common stock compared to the Standard & Poor’s 500 Stock Index and the Standard & Poor’s Property-Casualty Insurance Index:
(PERFORMANCE GRAPH)
                                                 
    2004   2005   2006   2007   2008   2009
 
Erie Indemnity Company Class A common stock
  $ 100 *   $ 104     $ 116     $ 107     $ 82     $ 89  
Standard & Poor’s 500 Stock Index
    100 *     105       121       128       81       102  
Standard & Poor’s Property-Casualty Insurance Index
    100 *     115       130       113       80       89  
 
*   Assumes $100 invested at the close of trading on the last trading day preceding the first day of the fifth preceding fiscal year in our Class A common stock, Standard & Poor’s 500 Stock Index and Standard & Poor’s Property-Casualty Insurance Index.

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Issuer Purchases of Equity Securities
A stock repurchase plan was authorized January 1, 2004 allowing us to repurchase up to $250 million of our outstanding Class A common stock through December 31, 2006. Our Board of Directors approved continuations of this stock repurchase program for an additional $250 million in February 2006, $100 million in September 2007, $100 million in April 2008, and again in May 2009 which authorized repurchases of $100 million through June 30, 2010. As of December 31, 2009, we have approximately $98 million available for the repurchase of securities under this publicly announced share repurchase plan. We may purchase the shares, from time-to-time, in the open market or through privately negotiated transactions, depending on prevailing market conditions and alternative uses of our capital. Shares repurchased during 2009 totaled 91,420 at a total cost of $3.1 million. Cumulative shares repurchased under this plan since inception were 11.8 million at a total cost of $613.2 million. See Item 8. “Financial Statements and Supplementary Data — Note 13 of Notes to Consolidated Financial Statements” contained within this report for discussion of additional shares repurchased outside of this plan from the F. William Hirt Estate in 2007.
                                 
                            Approximate  
                            Dollar Value  
                    Total Number of     of Shares that  
    Total Number     Average     Shares Purchased     May Yet Be  
    of Shares     Price Paid     as Part of Publicly     Purchased  
Period   Purchased     Per Share     Announced Plan     Under the Plan  
October 1 - 31, 2009
    0     $ 0.00       0          
November 1 - 30, 2009
    0       0.00       0          
December 1 - 31, 2009
    49,220       38.57       49,220          
 
                           
Total
    49,220               49,220     $ 98,100,000  
 
                         

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Item 6. Selected Consolidated Financial Data
                                         
    ERIE INDEMNITY COMPANY
    Years Ended December 31,
(in thousands, except per share data)   2009   2008   2007   2006   2005
Operating data:
                                       
Operating revenue
  $ 1,156,263     $ 1,137,231     $ 1,132,291     $ 1,133,982     $ 1,124,950  
Operating expenses
    968,145       951,397       930,454       934,204       900,731  
Investment (loss) income — unaffiliated
    (36,043 )     (63,128 )     107,331       99,021       115,237  
Income before income taxes and equity in earnings of Erie Family Life Insurance
    152,075       122,706       309,168       298,799       339,456  
Net income
  $ 108,490     $ 69,238     $ 212,945     $ 204,025     $ 231,104  
 
                                       
Per share data:
                                       
Net income per Class A share — diluted
  $ 1.89     $ 1.19     $ 3.43     $ 3.13     $ 3.34  
Book value per share — Class A common and equivalent B shares
    15.74       13.79       17.68       18.17 (5)     18.81  
Dividends declared per Class A share
    1.830       1.770       1.640       1.480       1.335  
Dividends declared per Class B share
    274.50       265.50       246.00       222.00       200.25  
 
                                       
Financial position data:
                                       
Investments (1)
  $ 1,051,934     $ 981,675     $ 1,277,781     $ 1,380,219     $ 1,452,431  
Receivables due from the Exchange and affiliates
    1,139,712       1,130,610       1,177,830       1,238,852       1,193,503  
Total assets
    2,666,517       2,613,386       2,878,623       3,039,361       3,101,261  
Shareholders’ equity
    901,977 (2)     791,875 (3)     1,051,279       1,161,848 (5)     1,278,602  
Treasury stock
    814,102       810,961       708,943       472,230       254,877  
Cumulative number of shares repurchased at December 31,
    17,086       16,995       14,939 (4)     10,448       6,438  
 
(1)   Includes investment in Erie Family Life Insurance.
 
(2)   On April 1, 2009, we adopted the accounting guidance related to non-credit other-than-temporary impairments for our debt security portfolio. The net impact of the cumulative effect adjustment on April 1, 2009 increased retained earnings and reduced other comprehensive income by $6.7 million, net of tax, resulting in no effect on shareholder’s equity.
 
(3)   On January 1, 2008, we adopted the fair value option for our common stock portfolio. The net impact of the cumulative effect adjustment increased retained earnings and reduced other comprehensive income by $11.2 million, net of tax, resulting in no effect on shareholder’s equity.
 
(4)   Includes 1.9 million shares of our Class A non-voting common stock from the F. William Hirt Estate separate from our stock repurchase program.
 
(5)   On December 31, 2006, shareholders’ equity decreased by $21.1 million, net of taxes, as a result of initially applying the recognition provisions for employers’ accounting for defined benefit pension and other postretirement plans.

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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion of financial condition and results of operations highlights significant factors influencing our Company. This discussion should be read in conjunction with the audited financial statements and related notes and all other items contained within this Annual Report on Form 10-K, as they contain important information helpful in evaluating our financial condition and operating results.
Certain statements contained herein are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements are not in the present or past tense and can generally be identified by the use of words such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “likely,” “plan,” “project,” “seek,” “should,” “target,” “will,” and other expressions that indicate future trends and events. Forward-looking statements include, without limitation, statements and assumptions on which such statements are based that are related to our plans, strategies, objectives, expectations, intentions and adequacy of resources. Examples of such statements are discussions relating to management fee revenue, cost of management operations, underwriting, premium and investment income volumes, and agency appointments. Such statements are not guarantees of future performance and involve risks and uncertainties that are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements. Among the risks and uncertainties that could cause actual results and future events to differ materially from those set forth or contemplated in the forward-looking statements are the following:
    factors affecting the property/casualty and life insurance industries generally, including price competition, legislative and regulatory developments;
 
    government regulation of the insurance industry including approval of rate increases;
 
    the size, frequency and severity of claims;
 
    natural disasters;
 
    exposure to environmental claims;
 
    fluctuations in interest rates;
 
    inflation and general business conditions;
 
    the geographic concentration of our business as a result of being a regional company;
 
    the accuracy of our pricing and loss reserving methodologies;
 
    changes in driving habits;
 
    our ability to maintain our business operations including our information technology system;
 
    our dependence on the independent agency system;
 
    the quality and liquidity of our investment portfolio;
 
    our dependence on our relationship with Erie Insurance Exchange; and
 
    the other risks and uncertainties discussed or indicated in all documents filed by the Company with the Securities and Exchange Commission, including those described in Part I, “Item 1A. Risk Factors” and elsewhere in this report.
A forward-looking statement speaks only as of the date on which it is made and reflects the Company’s analysis only as of that date. The Company undertakes no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events, changes in assumptions, or otherwise.
OVERVIEW
We are a Pennsylvania business corporation that since 1925 has been the managing attorney-in-fact for the subscribers of the Erie Insurance Exchange (“Exchange”), a reciprocal insurer that writes property/casualty insurance. Our primary function is to perform certain services relating to sales, underwriting and issuance of policies on behalf of the Exchange. We earn a management fee from the Exchange for these services.
We have three operating segments: management operations, insurance operations and investment operations.
Management operations
Our earnings are driven primarily by the management fee revenue we collect from the Exchange that is based on the direct written premiums of the Property and Casualty Group and the management fee rate we charge. Because of this

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relationship, our income from management operations is directly impacted by the cyclical nature of the insurance industry. The property/casualty insurance industry is highly cyclical, with periods of rising premium rates and shortages of underwriting capacity followed by periods of substantial price competition and excess capacity. The property/casualty insurance industry is in stable financial condition however, the economic recession has reduced premium and loss exposures affecting the financial performance of the industry. Industry premium exposures in both personal and commercial lines continued to be suppressed in 2009, with premium rates for personal lines showing some firming and most commercial lines still reflecting rate reductions.
Our management fee revenue reflected growth of 1.6% in 2009, as the direct written premiums of the Property and Casualty Group increased 1.6% compared to 2008. The Property and Casualty Group grew premiums in 2009 through increased new policies sold and stable policyholder retention. While modest price increases were implemented in 2009, they were offset by exposure reductions and changes in our mix of business which reduced our average premium per policy. We expect our pricing actions in 2010 to result in a net increase in direct written premiums, however, delayed economic recovery could adversely impact the average premium written of the Property and Casualty Group.
The management fee is calculated as a percentage, not to exceed 25%, of the direct written premiums of the Property and Casualty Group. The Board of Directors establishes the rate at least annually and considers such factors as relative financial strength of the Exchange and Company and projected revenue streams. Our Board set the 2010 rate at 25%, its maximum level.
Insurance underwriting operations
We generate revenues from our property/casualty insurance subsidiaries, which consist of our share of the pooled insurance business of the Property and Casualty Group. Members of the Property and Casualty Group participate in an intercompany reinsurance pooling agreement where all insurance business is pooled in the Exchange. Under the pooling agreement, the Exchange assumes 94.5% of the Property and Casualty Group’s underwriting results. Through the pool, our subsidiaries Erie Insurance Company and Erie Insurance Company of New York, currently assume 5.5% of the Property and Casualty Group’s underwriting results, providing a direct incentive for us to manage the insurance underwriting discipline as effectively as possible.
The property/casualty insurance business is driven by premium growth and the combined ratio. The Property and Casualty Group’s premium growth strategy focuses on growth by expansion of existing operations including a careful agency selection process and increased market penetration in existing operating territories. Expanding the size of our existing agency force of over 2,000 independent agencies will contribute to future growth as new agents build up their books of business with the Property and Casualty Group. The Property and Casualty Group appointed 120 new agencies in 2009. We plan to appoint a similar number of agencies during 2010. The Property and Casualty Group focuses on insuring standard and preferred risks and adheres to a set of consistent underwriting standards. Nearly 50% of premiums are derived from personal auto, 20% from homeowners and 30% from commercial lines. The combined ratio, expressed as a percentage, is the key measure of underwriting profitability traditionally used in the property and casualty insurance industry. It is the sum of the ratio of losses and loss expenses to premiums earned (loss ratio) plus the ratio of policy acquisition and other underwriting expenses to premiums earned (expense ratio). When the combined ratio is less than 100%, underwriting results are generally considered profitable; when the combined ratio is greater than 100%, underwriting results are generally considered unprofitable. Factors affecting loss and loss expenses include the frequency and severity of losses, the nature and severity of catastrophic losses, the quality of risks underwritten and underlying claims and settlement expenses related to medical costs and litigation.
Both personal lines and commercial lines net written premiums are experiencing highly competitive market conditions with the recessionary economic conditions. A light catastrophe season for the industry, coupled with some recovery in the financial markets, indicate increasing industry surplus and underwriting capacity. Despite an increase in loss cost drivers as a result of an increasing frequency trend, the Property and Casualty Group has experienced lower losses, primarily due to a reduction in large claims. The Property and Casualty Group’s economically sensitive lines, such as workers compensation and commercial auto, experienced reduced exposures and reduced average premium per policy due to economic conditions.

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Investment operations
We generate revenues from our fixed maturity, equity security and alternative investment portfolios. The portfolios are managed with a view toward maximizing after-tax yields and limiting credit risk, and management actively evaluates the portfolios for impairments. We record impairment writedowns on investments in instances where the fair value of the investment is substantially below cost and we conclude that the decline in fair value is other-than-temporary.
Our investment operations, while still showing overall losses driven primarily from our alternative investments, reflected the improvement experienced in the financial markets in the latter half of 2009. During 2009, we impaired $12.1 million of securities compared to $69.5 million in 2008. The decrease in our 2009 impairments included the change in impairment policy as a result of the new impairment guidance for debt securities effective for the second quarter of 2009. As a result, only debt securities that have a credit related issue, or we intend to sell, or more than likely will be required to sell, are now included as impairments recognized in earnings.
Unrealized gains (losses) on our investment portfolio showed improvements due to more favorable market conditions during 2009. Net unrealized gains on fixed maturities were $21.8 million at December 31, 2009, compared to $34.2 million in net unrealized losses at December 31, 2008. Net unrealized gains in equity securities were $2.9 million at December 31, 2009, compared to $4.7 million in unrealized losses at December 31, 2008. Our trading securities portfolio was similarly affected, with a net unrealized gain of $6.4 million at December 31, 2009, compared to $4.5 million of unrealized losses at December 31, 2008.
Our alternative investments were impacted by the weak financial market conditions in the fourth quarter of 2008 and the first three quarters of 2009. In particular, the downturn in the commercial real estate market had a significant impact on the portfolios of our real estate partnerships. Equity in losses of limited partnerships were $76.1 million in 2009 compared to gains of $5.7 million in 2008. The valuation adjustments in the limited partnerships are based on financial statements received from our general partners, which are generally received on a quarter lag. As a result, the 2009 partnership earnings do not reflect the valuation changes from the fourth quarter of 2009.
Financial overview
                                         
    Years ended December 31,
            % Change           % Change    
            2009 over           2008 over    
(in thousands, except per share data)   2009   2008   2008   2007   2007
 
Income from management operations
  $ 186,482       8.1 %   $ 172,525       (2.6 )%   $ 177,174  
Underwriting income
    1,636       (87.7 )     13,309       (46.0 )     24,663  
Net (loss) revenue from investment operations
    (30,450 )     60.8       (77,755 )   NM     110,464  
 
Income before income taxes
    157,668       45.9       108,079       (65.4 )     312,301  
Provision for income taxes
    49,178       26.6       38,841       (60.9 )     99,356  
 
Net income
  $ 108,490       56.7     $ 69,238       (67.5 )   $ 212,945  
 
Net income per share—diluted
  $ 1.89       58.3 %   $ 1.19       (65.2 )%   $ 3.43  
 
NM = not meaningful
Key points
    Increase in net income per share-diluted in 2009 was impacted by improved performance in our investment operations overall as the financial markets showed signs of recovery in 2009 compared to 2008.
 
    Gross margins from management operations increased to 18.7% in 2009 from 17.6% in 2008.
 
    GAAP combined ratios of the insurance underwriting operations increased to 99.2 in 2009 from 93.6 in 2008. Favorable development of prior accident year loss reserves improved the combined ratio by 2.4 points and 5.0 points in 2009 and 2008, respectively.
Management operations
    Management fee revenue increased 1.6% and 0.3% in 2009 and 2008, respectively. The two components of management fee revenue are the management fee rate we charge, and the direct written premiums of the Property and Casualty Group. The management fee rate was 25% for both 2009 and 2008. The direct written premiums of the Property and Casualty Group were $3.9 billion in 2009 compared to $3.8 billion in 2008.

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    In 2009, the direct written premiums of the Property and Casualty Group increased 1.6% compared to 0.4% in 2008. Policies in force grew 3.5% in 2009, compared to 2.9% in 2008. The growth in policies in force for both years is the result of continuing strong policyholder retention rates and increased new policies sold. Reductions in the average premium per policy were 1.9% in 2009 compared to 2.5% in 2008. While modest rate increases were implemented in 2009, these were offset by exposure reductions and changes in our mix of business, which resulted in a slight decrease in our average premium per policy in 2009. Rate reductions implemented by the Property and Casualty Group were the primary driver of the reduction in the average premium per policy in 2008.
 
    The cost of management operations increased 0.5%, or $3.9 million, to $813.4 million in 2009, primarily due to an increase in non-commission expenses:
    Commissions — Total commission costs decreased 0.3%, or $1.6 million, to $552.4 million in 2009 driven by a decrease in agent bonuses as a result of a reduction in the profitability component of the award. Offsetting this reduction were increases in normal scheduled rate commissions and other promotional incentives.
 
    Total costs other than commissions — All other non-commission expense increased 2.1%, to $261.1 million in 2009. Personnel costs increased primarily due to higher pension benefit costs and increased management incentive plan expense. Increased salaries and wages were offset by the capitalization of internal labor costs related to various technology initiatives. Survey and underwriting costs rose due to increased application activity. Other operating cost increases were driven by contract labor costs related to various technology initiatives.
Insurance underwriting operations
    Contributing to underwriting income of $1.6 million and a GAAP combined ratio of 99.2 in 2009, compared to income of $13.3 million and a GAAP combined ratio of 93.6 in 2008, were the following factors:
    current accident year loss and loss expense ratio, excluding catastrophe losses, was 0.7 points higher than 2008;
 
    favorable development of prior accident year loss reserves of 2.4 points, or $5.1 million, in 2009 compared to 5.0 points, or $10.3 million, of favorable development in 2008;
 
    catastrophe losses contributed 3.4 points to the GAAP combined ratio in both 2009 and 2008; and
 
    our share of the Property and Casualty Group’s write-off of assumed involuntary reinsurance premium contributed 1.3 points to our 2009 GAAP combined ratio.
Investment operations
    Net realized gains on investments totaled $10.4 million in 2009 compared to realized losses of $43.5 million in 2008. Our common stock trading portfolio contributed $10.9 million in valuation adjustment gains to the 2009 results and $21.7 million in valuation adjustment losses to the 2008 results.
 
    Impairment charges decreased significantly totaling $12.1 million in 2009 compared to $69.5 million in 2008.
 
    Equity in losses of limited partnerships in 2009 of $76.1 million compared to earnings of $5.7 million in 2008 as a result of fair value declines primarily in real estate limited partnerships.
 
    Equity in earnings of EFL was $5.6 million in 2009 compared to losses of $14.6 million in 2008 driven by lower impairment charges of $22.9 million in 2009 compared to $83.5 million in 2008.
The topics addressed in this overview are discussed in more detail in the sections that follow.

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Reconciliation of operating income to net income
We believe that investors’ understanding of our performance is enhanced by the disclosure of the following non-GAAP financial measure. Our method of calculating this measure may differ from those used by other companies and therefore comparability may be limited.
Operating income is net income excluding realized capital gains and losses, impairment losses and related federal income taxes. We elected the fair value measurement option for our common stock portfolio effective January 1, 2008. As such, changes in value related to common stocks are reported in earnings. These unrealized gains or losses are included in the net realized gains/losses on investments in our Consolidated Statements of Operations that is used to calculate operating income. Equity in earnings or losses of EFL and equity in earnings or losses of limited partnerships are not excluded from the calculation of operating income. Equity in earnings or losses of limited partnerships includes the respective investment’s realized capital gains and losses, as well as unrealized gains and losses.
Net income is the generally accepted accounting principle (GAAP) measure that is most directly comparable to operating income.
We use operating income to evaluate the results of operations. It reveals trends in our management services, insurance underwriting and investment operations that may be obscured by the net effects of realized capital gains and losses including impairment losses. Realized capital gains and losses including impairment losses, may vary significantly between periods and are generally driven by business decisions and economic developments such as capital market conditions, the timing of which is unrelated to our management services and insurance underwriting processes. We believe it is useful for investors to evaluate these components separately and in the aggregate when reviewing our performance. We are aware that the price to earnings multiple commonly used by investors as a forward-looking valuation technique uses operating income as the denominator. Operating income should not be considered as a substitute for net income and does not reflect our overall profitability.
The following table reconciles operating income and net income for the periods ended December 31:
                                         
            % Change           % Change    
            2009 over           2008 over    
(in thousands, except per share data)   2009   2008   2008   2007   2007
 
Operating income
  $ 109,571       (23.2 )%   $ 142,700       (34.0 )%   $ 216,320  
 
Net realized losses and impairments on investments
    (1,663 )   NM     (113,019 )   NM     (5,192 )
Income tax benefit
    582     NM     39,557     NM     1,817  
 
Realized losses and impairments, net of income taxes
    (1,081 )   NM     (73,462 )   NM     (3,375 )
 
Net income
  $ 108,490       56.7 %   $ 69,238       (67.5 )%   $ 212,945  
 
 
                                       
Per Class A share-diluted:
                                       
 
Operating income
  $ 1.91       (22.3 )%   $ 2.46       (29.4 )%   $ 3.48  
 
Net realized losses and impairments on investments
    (0.03 )   NM     (1.95 )   NM     (0.08 )
Income tax benefit
    0.01     NM     0.68     NM     0.03  
 
Realized losses and impairments, net of income taxes
    (0.02 )   NM     (1.27 )   NM     (0.05 )
 
Net income
  $ 1.89       58.3 %   $ 1.19       (65.2 )%   $ 3.43  
 
NM =   not meaningful
The decrease in operating income was primarily the result of equity in losses of limited partnerships of $76.1 million in 2009 compared to earnings of $5.7 million in 2008.
CRITICAL ACCOUNTING ESTIMATES
The consolidated financial statements include amounts based on estimates and assumptions that have a significant effect on reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period and related disclosures. Management considers an accounting estimate to be critical if (1) it requires assumptions to be made that were uncertain at the time the estimate was made, and (2) different estimates that could have been used, or changes in the estimate that are likely to occur from period-to-period, could have a material impact on our consolidated statements of operations or financial position.

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The following presents a discussion of those accounting policies surrounding estimates that we believe are the most critical to our reported amounts and require the most subjective and complex judgment. If actual events differ significantly from the underlying assumptions, there could be material adjustments to prior estimates that could potentially adversely affect our results of operations, financial condition and cash flows. The estimates and the estimating methods used are reviewed continually, and any adjustments considered necessary are reflected in current earnings.
Investment valuation
We make estimates concerning the valuation of all investments. Valuation techniques are used to derive the fair value of the available-for-sale and trading securities we hold. Fair value is the price that would be received to sell an asset in an orderly transaction between willing market participants at the measurement date.
Fair value measurements are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect our view of market assumptions in the absence of observable market information. We utilize valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs.
For purposes of determining whether the market is active or inactive, the classification of a financial instrument was based on the following definitions:
    An active market is one in which transactions for the assets being valued occur with sufficient frequency and volume to provide reliable pricing information.
 
    An inactive (illiquid) market is one in which there are few and infrequent transactions, where the prices are not current, price quotations vary substantially, and/or there is little information publicly available for the asset being valued.
We continually assess whether or not an active market exists for all of our investments and as of each reporting date re-evaluate the classification in the fair value hierarchy.
All assets carried at fair value are classified and disclosed in one of the following three categories:
    Level 1 — Quoted prices for identical instruments in active markets not subject to adjustments or discounts.
 
    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 whose inputs are observable or whose significant value drivers are observable.
 
    Level 3 — Instruments whose significant value drivers are unobservable and reflect management’s estimate of fair value based on assumptions used by market participants in an orderly transaction as of the valuation date.
Level 1 primarily consists of publicly traded common stock, nonredeemable preferred stocks and treasury securities and reflects market data obtained from independent sources, such as prices obtained from an exchange or a nationally recognized pricing service for identical instruments in active markets.
Level 2 includes those financial instruments that are valued using industry-standard models that consider various inputs, such as the interest rate and credit spread for the underlying financial instruments. All significant inputs are observable, or derived from observable information in the marketplace, or are supported by observable levels at which transactions are executed in the marketplace. Financial instruments in this category primarily include municipal securities, asset backed securities, collateralized-mortgage obligations, foreign and domestic corporate bonds and redeemable preferred stocks and certain nonredeemable preferred stocks.
Level 3 securities are valued based upon unobservable inputs, reflecting our estimates of value based on assumptions used by market participants. Securities are assigned to Level 3 in cases where non-binding broker quotes are significant to the valuation and there is a lack of transparency as to whether these quotes are based on information that is observable in the marketplace. Fair value estimates for securities valued using unobservable inputs require significant judgment due to the illiquid nature of the market for these securities and represent the best estimate of the fair value that would occur in an orderly transaction between willing market participants at the

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measurement date under current market conditions. Fair value for these securities are generally determined using comparable securities or non-binding broker quotes received from outside broker dealers based on security type and market conditions. Remaining un-priced securities are valued using an estimate of fair value based on indicative market prices that include significant unobservable inputs not based on, nor corroborated by, market information, including the utilization of discounted cash flow analyses which have been risk-adjusted to take into account illiquidity and other market factors. This category primarily consists of certain private preferred stock and bond securities, collateralized debt and loan obligations, and credit linked notes.
As of each reporting period, financial instruments recorded at fair value are classified based on the lowest level of input that is significant to the fair value measurement. The presence of at least one unobservable input would result in classification as a Level 3 instrument. Our assessment of the significance of a particular input to the fair value measurement requires judgment, and considers factors specific to the asset, such as the relative impact on the fair value as a result of including a particular input and market conditions. We did not make any other significant judgments except as described above.
Estimates of fair values for our investment portfolio are obtained primarily from a nationally recognized pricing service. Our Level 1 category includes those securities valued using an exchange traded price provided by the pricing service. The methodologies used by the pricing service that support a Level 2 classification of a financial instrument include multiple verifiable, observable inputs including benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers and reference data. Pricing service valuations for Level 3 securities are based on proprietary models and are used when observable inputs are not available in illiquid markets. In limited circumstances we adjust the price received from the pricing service when in our judgment a better reflection of fair value is available based on corroborating information and our knowledge and monitoring of market conditions such as a disparity in price of comparable securities and/or non-binding broker quotes. We perform continuous reviews of the prices obtained from the pricing service. This includes evaluating the methodology and inputs used by the pricing service to ensure we determine the proper level classification of the financial instrument. Price variances, including large periodic changes, are investigated and corroborated by market data. We have reviewed the pricing methodologies of our pricing service and believe that their prices adequately consider market activity in determining fair value. In cases in which a price from the pricing service is not available, values are determined by obtaining non-binding broker quotes and/or market comparables. When available, we obtain multiple quotes for the same security. The ultimate value for these securities is determined based on our best estimate of fair value using corroborating market information. Our evaluation includes the consideration of benchmark yields, reported trades, issuer spreads, two-sided markets, benchmark securities, bids, offers and reference data.
Investments are evaluated monthly for other-than-temporary impairment loss. Some factors considered in evaluating whether or not a decline in fair value is other-than-temporary include:
    the extent and duration for which fair value is less than cost;
 
    historical operating performance and financial condition of the issuer;
 
    short- and long-term prospects of the issuer and its industry based on analysts’ recommendations;
 
    specific events that occurred affecting the issuer, including rating downgrades;
 
    our intent to sell or more likely than not be required to sell (debt securities); and
 
    our ability and intent to retain the investment for a period of time sufficient to allow for a recovery in value (equity securities).
For debt securities in which we do not expect full recovery of amortized cost, the security is deemed to be credit-impaired. Credit-related impairments and impairments on securities we intend to sell or more likely than not will be required to sell are recorded in the Consolidated Statements of Operations. It is our intention to sell all debt securities with credit impairments. For available-for-sale equity securities, a charge is recorded in the Consolidated Statements of Operations for positions that have experienced other-than-temporary impairments due to credit quality or other factors.
The primary basis for the valuation of limited partnership interests is financial statements prepared by the general partner. Because of the timing of the preparation and delivery of these financial statements, the use of the most recently available financial statements provided by the general partners generally result in a quarter delay in the inclusion of the limited partnership results in our Consolidated Statements of Operations. Due to this delay, these financial statements do not reflect the market conditions experienced in the fourth quarter 2009. We expect additional deterioration,

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primarily from our real estate partnerships, to be reflected in the general partners’ year end financial statements, which we will receive in 2010. Nearly all of the underlying investments in our limited partnerships are valued using a source other than quoted prices in active markets. Our limited partnership holdings are considered investment companies where the general partners record assets at fair value. Several factors are to be considered in determining whether an entity is an investment company. Among these factors are a large number of investors, low level of individual ownership and passive ownership that indicate the entity is an investment company.
We have three types of limited partnership investments: private equity, mezzanine debt and real estate. Our private equity and mezzanine debt partnerships are diversified among numerous industries and geographies to minimize potential loss exposure. The fair value amounts for our private equity and mezzanine debt partnerships are based on the financial statements of the general partners, who use various methods to estimate fair value including the market approach, income approach and the cost approach. The market approach uses prices and other pertinent information from market-generated transactions involving identical or comparable assets or liabilities. Such valuation techniques often use market multiples derived from a set of comparables. The income approach uses valuation techniques to convert future cash flows or earnings to a single discounted present value amount. The measurement is based on the value indicated by current market expectations about those future amounts. The cost approach is derived from the amount that is currently required to replace the service capacity of an asset. If information becomes available that would impair the cost of investments owned by the partnerships, then the general partner would generally adjust to the net realizable value.
Real estate limited partnerships are recorded by the general partner at fair value based on independent appraisals and/or internal valuations. Real estate projects under development are generally valued at cost and impairment tested by the general partner. We minimize the risk of market decline by avoiding concentration in a particular geographic area and are diversified across residential, commercial, industrial and retail real estate investments.
We perform various procedures in review of the general partners’ valuations, and while we rely on the general partners’ financial statements as the best available information to record our share of the partnership unrealized gains and losses resulting from valuation changes, we adjust our financial statements for impairments of the partnership investments where appropriate. As there is no ready market for these investments, they have the greatest potential for variability. We survey each of the general partners quarterly about expected significant changes (plus or minus 10% compared to previous quarter) to valuations prior to the release of the fund’s quarterly and annual financial statements. Based on that information from the general partner, we consider whether additional disclosure is warranted.
Property/casualty insurance liabilities
Reserves for property/casualty insurance unpaid losses and loss expenses reflect our best estimate of future amounts needed to pay losses and related expenses with respect to insured events. These reserves include estimates for both claims that have been reported and those that have been incurred but not reported. They also include estimates of all future payments associated with processing and settling these claims. Reported losses represent cumulative loss and loss expenses paid plus case reserves for outstanding reported claims. Case reserves are established by a claims handler on each individual claim and are adjusted as new information becomes known during the course of handling the claims. Incurred but not reported reserves represent the difference between the actual reported loss and loss expenses and the estimated ultimate cost of all claims.
The process of estimating the liability for property/casualty unpaid loss and loss expense reserves is complex and involves a variety of actuarial techniques. This estimation process is based largely on the assumption that past development trends are an appropriate indicator of future events. Reserve estimates are based on our assessment of known facts and circumstances, review of historical settlement patterns, estimates of trends in claims frequency and severity, legal theories of liability and other factors. Variables in the reserve estimation process can be affected by 1) internal factors, including changes in claims handling procedures and changes in the quality of risk selection in the underwriting process, and 2) external events, such as economic inflation, regulatory and legislative changes. Due to the inherent complexity of the assumptions used, final loss settlements may vary significantly from the current estimates, particularly when those settlements may not occur until well into the future.
Our actuaries review reserve estimates for both current and prior accident years using the most current claim data, on a quarterly basis, for all direct reserves except the reserves for the pre-1986 automobile massive injury claims and the workers compensation massive injury claims which are reviewed semi-annually. These massive injury reserves are reviewed semi-annually because of the relatively low number of cases and the long-term nature of these claims. For reserves that are reviewed semi-annually, our actuaries monitor the emergence of paid and reported losses in the

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intervening quarters to either confirm that the estimate of ultimate losses should not change, or if necessary, perform a reserve review to determine whether the reserve estimate should change. Significant changes to the factors discussed above, which are either known or reasonably projected through analysis of internal and external data, are quantified in the reserve estimates each quarter.
The quarterly reserve reviews incorporate a variety of actuarial methods and judgments and involve rigorous analysis. The various methods generate different estimates of ultimate losses by product line and product coverage combination. Thus, there are no reserve ranges, but rather point estimates of the ultimate losses developed from the various methods. The methods that are considered more credible vary by product coverage combination based primarily on the maturity of the accident quarter, the mix of business and the particular internal and external influences impacting the claims experience or the method.
Paid loss development patterns, generated from historical data, are generally less useful for the more recent accident quarters of long-tailed lines since a low percentage of ultimate losses are paid in early periods of development. Reported loss (including cumulative paid losses and case reserves) development patterns, generated from historical data, estimate only the unreported losses rather than the total unpaid losses as this technique is affected by changes in case reserving practices. Combinations of the paid and reported methods are used in developing estimated ultimate losses for short-tail coverages, such as private passenger auto property and homeowners claims, and more mature accident quarters of long-tail coverages, such as private passenger auto liability claims and commercial liability claims, including workers compensation. The Bornhuetter-Ferguson method combines a reported development technique with an expected loss ratio technique. An expected loss ratio is developed through a review of historical loss ratios by accident quarter, as well as expected changes to earned premium, mix of business and other factors that are expected to impact the loss ratio for the accident quarter being evaluated. This method is generally used on the first four to eight accident quarters on long-tail coverages because a low percentage of losses are paid in the early period of development.
The reserve review process involves a comprehensive review by our actuaries of the various estimation methods and reserve levels produced by each. These multiple reserve point estimates are reviewed by our reserving actuaries and reserve best estimates are selected. The selected reserve estimates are discussed with management. Numerous factors are considered in setting reserve levels, including, but not limited to, the assessed reliability of key loss trends and assumptions that may be significantly influencing the current actuarial indications, the maturity of the accident year, pertinent claims frequency and severity trends observed over recent years, the level of volatility within a particular line of business and the improvement or deterioration of actuarial indications in the current period as compared to prior periods.
We also perform analyses to evaluate the adequacy of past reserve levels. Using subsequent information, we perform retrospective reserve analyses to test whether previously established estimates for reserves were reasonable. Our 2009 retrospective reserve analysis indicated the Property and Casualty Group’s December 31, 2008 direct reserves, excluding salvage and subrogation recoveries, had an estimated redundancy of approximately $22 million, which was 0.6% of reserves at December 31, 2008. Our 5.5% share of this favorable development was $1.2 million.
    Workers compensation reserves were reduced in 2009 by the settlement of eight massive injury workers compensation claims related to the 2003 accident year. In 2009, the mortality assumptions used for massive injury workers compensation claims was changed to a 100% weighting of the disabled pensioner mortality table and gender specific mortality tables were used. In 2008, our mortality assumption gave 75% weighting to our own experience and 25% weighting to the disabled pensioner mortality table. Additionally, the workers compensation discount on reserves increased in 2009 as a result of segregating massive injury workers compensation claims, which have longer payout patterns, from other workers compensation claims in the discount calculation. The Property and Casualty Group’s workers compensation reserves were $655.4 million and $788.6 million at December 31, 2009 and 2008, respectively.
 
    Reserves on pre-1986 automobile massive injury reserves were increased $32.6 million in 2009. In 2009, the mortality assumptions used for pre-1986 automobile massive injury claims was changed to a 100% weighting of the disabled pensioner mortality table and gender specific mortality tables were used. The Property and Casualty Group had pre-1986 automobile massive injury reserves of $297.9 million at December 31, 2009 and $265.1 million at December 31, 2008, which are net of $165.4 million and $153.9 million of anticipated reinsurance recoverables for 2009 and 2008, respectively.

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In 2008 and 2007, the Property and Casualty Group’s direct reserves had an estimated redundancy at December 31 of $122.0 million, or 3.5% of reserves, and $200.6 million, or 5.6% of reserves, respectively. In 2008, the Property and Casualty Group reduced automobile bodily injury and uninsured/underinsured motorist (UM/UIM) reserves by approximately $75 million primarily due to improved frequency trends. The pre-1986 automobile massive injury claims were reduced approximately $30 million in 2008 driven by lower than expected future attendant care costs. In 2007, the favorable frequency and severity trends in automobile BI and UM/UIM that began in 2006 became more fully developed.
The Property and Casualty Group’s coverage with the greatest potential for variation are the massive injury reserves. The automobile no-fault law in Pennsylvania before 1986 and workers compensation policies provide for unlimited medical benefits. The estimate of ultimate liabilities for these claims is subject to significant judgment due to variations in claimant health, mortality over time and health care cost trends. Workers compensation massive injury claims have been segregated from the total population of workers compensation claims. Because the coverage related to the automobile no-fault and workers compensation claims is unique and the number of claims is about 120, the previously discussed methods are not used; rather ultimate losses are estimated on a claim-by-claim basis. An annual payment assumption is made for each of these claimants who sustained massive injuries and then projected into the future based upon a particular assumption of the future inflation rate, including medical inflation and life expectancy of the claimant. The most significant variable in estimating this liability is medical cost inflation. Changes were also made in 2009 to mortality assumptions and the discount calculation.
    Our medical inflation rate assumption in setting this reserve for 2009 is an 8% annual increase grading down 0.5% per year to an ultimate rate of 5%. Our medical inflation rate assumption in setting this reserve for 2008 was a 9% annual increase grading down 1% after the first year, then grading down 0.5% per year to an ultimate rate of 5%. The Property and Casualty Group massive injury reserves were reduced $25.6 million as a result of this change. Our share of this reserve change was $1.4 million.
 
    The mortality rate assumption in 2009 gives 100% weighting to the disabled pensioner mortality table by gender. In 2008, our mortality rate assumption gave 75% weighting to our own mortality experience and 25% weighting to the male-female combined disabled pensioner mortality table. We believe weighting the mortality assumption to incorporate the disabled pensioner mortality table by gender, which more appropriately weighs male and female life expectancies, is reasonable in estimating our ultimate liability for these claims. Actual experience, different than that assumed, could have a significant impact on the reserve estimate. The Property and Casualty Group massive injury reserves increased $73.3 million as a result of this change. Our share of this reserve change was $4.0 million.
 
    Loss reserves are set at full expected cost, except for workers compensation loss reserves, which are discounted on a nontabular basis using an interest rate of 2.5% based upon the Property and Casualty Group’s historical workers compensation payout patterns. In 2009, we changed our workers compensation discounting method to segregate the workers compensation massive injury claims that have longer payout patterns in the discount calculation from the non-massive injury workers compensation claims. The Property and Casualty Group workers compensation reserves were reduced by $45.1 million related to this change. Our share of this change was $2.5 million.
At December 31, 2009, the reserve carried by the Property and Casualty Group for the pre-1986 automobile massive injury liabilities, which is our best estimate of this liability at this time, was $297.9 million, which is net of $165.4 million of anticipated reinsurance recoverables. Our property/casualty subsidiaries’ share of the net automobile massive injury liability reserve is $16.4 million at December 31, 2009. Each 100-basis point change in the medical cost inflation assumption would result in a change in net liability for us of $3.5 million. At December 31, 2009, the reserve carried by the Property and Casualty Group for workers compensation massive injury reserves, which is our best estimate of this liability at this time, was $129.8 million, which is net of $13.5 million of anticipated reinsurance recoverables. Our property/casualty insurance subsidiaries’ share of the workers compensation massive injury reserves is $7.1 million at December 31, 2009. Each 100-basis point change in the medical cost inflation assumption would result in a change in net liability for us of $1.4 million.

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Retirement benefit plans
Our pension plan for employees is the largest and only funded defined benefit plan we offer. Our pension and other retirement benefit obligations are developed from actuarial estimates. Several statistical and other factors, which attempt to anticipate future events, are used in calculating the expense and liability related to the plans. Key factors include assumptions about the discount rates and expected rates of return on plan assets. We review these assumptions annually and modify them considering historical experience, current market conditions, including changes in investment returns and interest rates, and expected future trends.
Accumulated and projected benefit obligations are expressed as the present value of future cash payments. We discount those cash payments using the prevailing market rate of a portfolio of high-quality fixed-income debt instruments with maturities that correspond to the payment of benefits. Lower discount rates increase present values and subsequent year pension expense; higher discount rates decrease present values and subsequent year pension expense. In determining the discount rate, we performed a bond-matching study. The study developed a portfolio of non-callable bonds rated AA- or higher with at least $25 million outstanding at December 31, 2009. These bonds had maturities primarily between zero and twenty-six years. For years beyond year twenty-seven, there were no appropriate bonds maturing. In these instances, the study estimated the appropriate bond by assuming that there would be bonds available with the same characteristics as the available bond maturing in the immediately preceding year. Outlier bonds were excluded from the study. The cash flows from the bonds were matched against our projected benefit payments in the pension plan, which have a duration of about 18 years. This bond-matching study supported the selection of a 6.11% discount rate for the 2010 pension expense. The 2009 expense was based on a discount rate assumption of 6.06%. A change of 25 basis points in the discount rate assumption, with other assumptions held constant, would have an estimated $2.1 million impact on net pension and other retirement benefit costs in 2010, before consideration of expense allocation to affiliates.
Unrecognized actuarial gains and losses are being recognized over a 15-year period, which represents the expected remaining service period of the employee group. Unrecognized actuarial gains and losses arise from several factors, including experience and assumption changes in the obligations and from the difference between expected returns and actual returns on plan assets. These unrecognized gains and losses are recorded in the pension plan obligation on the Statements of Financial Position and Accumulated Other Comprehensive Income. These amounts are systematically recognized to future net periodic pension expense in future periods, with gains decreasing and losses increasing future pension expense.
The expected long-term rate of return for the pension plan represents the average rate of return to be earned on plan assets over the period the benefits included in the benefit obligation are to be paid. The expected long-term rate of return is less susceptible to annual revisions, as there are typically not significant changes in the asset mix. The long-term rate of return is derived from expected future returns for each asset category based on applicable indices and their historical relationships under various market conditions. These expected future returns are then weighed based on our target asset allocation percentages for each asset category. A reasonably possible change of 25 basis points in the expected long-term rate of return assumption, with other assumptions held constant, would have an estimated $0.8 million impact on net pension benefit cost before consideration of reimbursement from affiliates.
We use a four year averaging method to determine the market-related value of plan assets, which is used to determine the expected return component of pension expense. Under this methodology, asset gains or losses that result from returns that differ from our long-term rate of return assumption are recognized in the market-related value of assets on a level basis over a four year period. The component of the actuarial gain generated during 2009 that related to the actual investment return being different from assumed during the prior year was $27.3 million. Recognition of this gain will be deferred over a four year period, consistent with the market-related asset value methodology. Once factored into the market-related asset value, these experience gains will be amortized over a period of 15 years, which is the remaining service period of the employee group.
The actuarial assumptions used by us in determining our pension and retirement benefits may differ materially from actual results due to changing market and economic conditions, higher or lower withdrawal rates or longer or shorter life spans of participants. While we believe that the assumptions used are appropriate, differences in actual experience or changes in assumptions may materially affect our financial position, results of operations or cash flows.

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NEW ACCOUNTING STANDARDS
In June 2009, the FASB amended the guidance for determining whether an enterprise is the primary beneficiary of a variable interest entity (VIE) by requiring a qualitative analysis to determine if an enterprise’s variable interest gives it a controlling financial interest. A primary beneficiary is expected to be identified through qualitative analysis, which looks at the power to direct activities of the VIE, including its economic performance and the right to receive benefits from the VIE that are significant. This guidance is effective for fiscal years that begin after November 15, 2009. Under the current quantitative analysis, although we hold a variable interest in it, we are not deemed to be the primary beneficiary of the Exchange, and the Exchange’s financial statements are not consolidated with ours. Under the new guidance we will be deemed to have a controlling financial interest in the Exchange, by virtue of our attorney-in-fact relationship with the Exchange, and consolidation of the Exchange in our financial statements will be required effective for our first quarter 2010 financial statements. This will require that the Exchange’s financial statements, which are currently prepared only in accordance with statutory accounting principles, be prepared in accordance with GAAP. Given the materiality of the Exchange’s operations, consolidating the Exchange’s financial statements with the Company’s will materially change our reporting entity’s assets, liabilities, revenues, expenses, related footnote disclosures and the overall presentation of management’s discussion and analysis. The Exchange’s equity will be shown as noncontrolling interests in such consolidated statements. Erie Indemnity Company’s net income and equity will be unchanged by this presentation.
RESULTS OF OPERATIONS
MANAGEMENT OPERATIONS
                                         
            Years ended December 31,    
            % Change           % Change    
            2009           2008    
(in thousands)   2009   over 2008   2008   over 2007   2007
 
Management fee revenue
  $ 965,110       1.6 %   $ 949,775       0.3 %   $ 947,023  
Service agreement revenue
    34,783       7.7       32,298       8.6       29,748  
 
Total revenue from management operations
    999,893       1.8       982,073       0.5       976,771  
Cost of management operations
    813,411       0.5       809,548       1.2       799,597  
 
Income from management operations
  $ 186,482       8.1 %   $ 172,525       (2.6 )%   $ 177,174  
 
Gross margin
    18.7 %             17.6 %             18.1 %
 
Key points
    The management fee rate was 25% in 2009 and 2008.
 
    Direct written premiums of the Property and Casualty Group increased 1.6% in 2009.
 
    Year-over-year policies in force increased 3.5% to 4,144,004 in 2009, compared to 4,002,209 in 2008.
 
    Year-over-year average premium per policy declined 1.9% to $932 in 2009 from $949 in 2008.
 
    Costs of management operations increased 0.5%. Commission costs decreased 0.3%, while non-commission expense increased 2.1%, driven by higher personnel, survey and underwriting costs and other operating costs in 2009 compared to 2008.

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Management fee revenue
The following table presents the direct written premium of the Property and Casualty Group, shown by major line of business, and the calculation of our management fee revenue.
                                         
            Years ended December 31,    
            % Change           % Change    
            2009           2008    
(in thousands)   2009   over 2008   2008   over 2007   2007
 
Private passenger auto
  $ 1,865,508       2.2 %   $ 1,826,143       1.3 %   $ 1,802,603  
Homeowners
    792,688       6.6       743,325       1.4       732,883  
Commercial multi-peril
    440,552       1.1       435,767       0.0       435,630  
Commercial auto
    301,006       (3.2 )     311,090       (1.5 )     315,851  
Workers compensation
    248,114       (11.6 )     280,743       (8.4 )     306,563  
All other lines of business
    212,971       5.0       202,833       6.0       191,361  
 
Property and Casualty Group direct written premiums
  $ 3,860,839       1.6 %   $ 3,799,901       0.4 %   $ 3,784,891  
Management fee rate
    25.00 %             25.00 %             25.00 %
 
Management fee revenue, gross
  $ 965,210       1.6 %   $ 949,975       0.4 %   $ 946,223  
Change in allowance for management fee returned on cancelled policies(1)
    (100 )   NM     (200 )   NM     800  
 
Management fee revenue, net of allowance
  $ 965,110       1.6 %   $ 949,775       0.3 %   $ 947,023  
 
NM =   not meaningful
 
(1)   Management fees are returned to the Exchange when policies are cancelled mid-term and unearned premiums are refunded. We record an estimated allowance for management fees returned on mid-term policy cancellations.
Management fee rate
Management fee revenue is based upon the management fee rate, determined by our Board of Directors, and the direct written premiums of the Property and Casualty Group. Changes in the management fee rate can affect our revenue and net income significantly. The management fee rate was set at 25%, the maximum rate, for both 2009 and 2008. The management fee rate for 2010 has again been set at the maximum rate of 25% by our Board of Directors.
Estimated allowance
Management fees are returned to the Exchange when policyholders cancel their insurance coverage mid-term and unearned premiums are refunded to them. We maintain an allowance for management fees returned on mid-term policy cancellations that recognizes the management fee anticipated to be returned to the Exchange based on historical mid-term cancellation experience. In 2009, although the mid-term cancellations of policies for the Property and Casualty Group continued to trend downward, a slight increase in the unearned premium reserve in 2009, as in 2008, resulted in an increase in the allowance for management fees returned on cancelled policies. Our cash flows are unaffected by the recording of this allowance.
Direct written premiums of the Property and Casualty Group
Direct written premiums of the Property and Casualty Group increased 1.6% to nearly $3.9 billion in 2009, compared to nearly $3.8 billion in 2008, due to an increase in policies in force offset by reductions in average premium. Total year-over-year policies in force increased by 3.5% as the result of continuing strong policyholder retention rates and increased new policies sold. The year-over-year average premium per policy for all lines of business declined 1.9% in 2009, the impact of which was seen primarily in the commercial lines renewal premiums.
Premiums generated from new business increased 5.0% in 2009 from 2008, which was 2.9% greater than 2007. Underlying the trend in new business premiums was an increase in new business policies in force of 7.7% in 2009 compared to 3.1% in 2008, offset by a decline in the year-over-year average premium per policy on new business of 2.5% in 2009 and 0.2% in 2008.
Premiums generated from renewal business increased 1.2% to just over $3.4 billion in 2009 compared to 2008, which was 0.1% more than in 2007. Renewal policies in force increased 3.0% in 2009 compared to a 2.9% increase in 2008. The year-over-year average premium per policy on renewal business decreased 1.7% in 2009 from 2008, which was 2.7% less than 2007. The Property and Casualty Group’s year-over-year policy retention ratio was 90.6% in both 2009 and 2008, which was up from 90.2% in 2007.

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The Property and Casualty Group implemented modest rate increases in 2009 in order to meet lost cost expectations, whereas rate reductions were taken in 2008 and 2007 to be more price-competitive for potential new policyholders and to improve retention of existing policyholders. Our modest rate increases in 2009 were offset by exposure reductions and changes in our mix of business which resulted in a slight decrease in our average premium per policy in 2009. We continuously evaluate our pricing actions and currently, rate increases are planned for 2010.
The Property and Casualty Group writes only one-year policies. Consequently, rate actions take 12 months to be fully recognized in written premium and 24 months to be recognized fully in earned premiums. Since rate changes are realized at renewal, it takes 12 months to implement a rate change to all policyholders and another 12 months to earn the decreased or increased premiums in full. As a result, certain rate actions approved in 2008 were reflected in 2009, and certain rate actions in 2009 will be reflected in 2010.
Personal lines — Total personal lines premiums written increased 3.7% to nearly $2.8 billion in 2009, compared to nearly $2.7 billion in 2008. Total personal lines policies in force increased 3.7% in 2009 and total personal lines year-over-year average premium per policy increased 0.1%.
The Property and Casualty Group’s personal lines new business premiums written increased 9.1% in 2009 compared to 2008, which was 2.5% greater than 2007. Personal lines new business policies in force increased 8.6% in 2009 from 2008, which was 3.3% higher than 2007. The year-over-year average premium per policy on personal lines new business increased 0.4% from 2008, which was 0.7% less than 2007.
    Private passenger auto new business premiums written increased 8.2% in 2009 driven by an 8.7% increase in new business policies in force in 2009 compared to 2008. An incentive program for private passenger auto has been in place since July 2006 to stimulate policy growth and has contributed to the increase in new business policies in force. The new business year-over-year average premium per policy for private passenger auto decreased 0.4% in 2009 from 2008. In 2008, the private passenger auto new business premiums written increased 5.3% compared to 2007 as new policies in force increased 7.3%, while the average premium per policy declined 1.8%.
Renewal premiums written on personal lines increased 3.2% in 2009 compared to an increase of 1.6% in 2008. The 2009 increase in renewal premiums was driven by a slight increase in average premium per policy and improving policy retention ratio trends. The year-over-year average premium per policy on personal lines renewal business increased 0.1% in 2009, compared to a decrease of 1.3% in 2008. The year-over-year policy retention ratio for personal lines improved to 91.5% in 2009, from 91.4% in 2008 and 90.8% in 2007.
    Private passenger auto renewal business premiums written increased 1.6% in 2009 from 2008. The private passenger auto year-over-year policy retention ratio was 91.9%, 91.8% and 91.5% in 2009, 2008 and 2007, respectively. Driving a 6.1% increase in homeowners renewal premiums written in 2009 compared to 2008 was an increase in year-over-year policyholder retention ratio to 91.2% in 2009, compared to 91.1% and 90.3% in 2008 and 2007, respectively.
Commercial lines — Total commercial lines premiums written decreased 3.6% to almost $1.1 billion in 2009, compared to just over $1.1 billion in 2008. Total commercial lines policies in force increased 2.7% while the total commercial lines year-over-year average premium per policy decreased 6.1%.
Commercial lines new business premiums written decreased 2.5% in 2009 from 2008, which had increased 3.9% from 2007. The year-over-year average premium per policy on commercial lines new business decreased 6.0% from 2008, which had increased 1.3% from 2007. Commercial lines new business policies in force increased 3.7% in 2009 from 2008, which was up 2.6% from 2007. The decrease in commercial lines new business year-over-year average premium per policy was driven by reductions in exposure as a result of continued economic pressures on commercial customers. In 2008, the factors contributing to the increase in new commercial lines premiums written included more proactive communications between us and our commercial agents, continued refinement and enhancements to our quote processing systems and our use of more refined pricing based on predictive modeling, all of which were initiated in 2007.

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Renewal premiums for commercial lines decreased 3.8% in 2009 from 2008, which was 3.4% less than 2007. Renewal policies in force increased 2.5% in 2009 compared to 3.1% in 2008. The year-over-year average premium per policy on commercial lines renewal business declined 6.1% in 2009 compared to 6.3% in 2008, due primarily to the workers compensation and commercial auto lines of business. The workers compensation and commercial auto year-over-year average premium per policy decreased 14.4% and 4.2%, respectively, in 2009. Contributing to the workers compensation lower average premium per policy were shifts in the mix of our book of business and lower exposures driven by reductions in payroll levels. The commercial auto average premium per policy decrease was driven by shifts in the mix of our book of business and fewer insured vehicles. In 2008, the 3.4% decrease in renewal premiums for commercial lines was reflective of the impact of rate reductions and changes in the mix of business. The year-over-year policy retention ratio for commercial lines was 84.9%, 85.3% and 85.7% in 2009, 2008 and 2007, respectively.
Future trends—premium revenue — We are continuing our efforts to grow Property and Casualty Group premiums and improve our competitive position in the marketplace. Expanding the size of the agency force will contribute to future growth as existing and new agents build up their book of business with the Property and Casualty Group. In 2009, we appointed 120 new agencies and had a total of 2,054 agencies as of December 31, 2009. We will continue to appoint a similar number of new agencies in 2010. We expect our pricing actions to result in a net increase in direct written premium in 2010, however, exposure reductions and changes in our mix of business could impact the average premium written by the Property and Casualty Group as customers may continue to reduce coverages.
Service agreement revenue
Service agreement revenue includes service charges we collect from policyholders for providing extended payment terms on policies written by the Property and Casualty Group and late payment and policy reinstatement fees. The service charges are fixed dollar amounts per billed installment. Service agreement revenue totaled $34.8 million, $32.3 million and $29.7 million in 2009, 2008 and 2007, respectively. Service agreement revenue increased by $5.8 million in 2009 and $2.9 million in 2008 due to the implementation of late payment and policy reinstatement fees that became effective in March 2008. These increases were offset somewhat by continued shifts to the no-fee, single payment plan driven by a discount in pricing offered for paid-in-full policies as well as consumers’ desire to not incur service charges.
Cost of management operations
                                         
    Years ended December 31,
            % Change
2009
          % Change
2008
   
(in thousands)   2009   over 2008   2008   over 2007   2007
 
Commissions
  $ 552,351       (0.3 )%   $ 553,958       (0.6 )%   $ 557,359  
 
Personnel costs
    145,563       0.9       144,281       3.8       138,948  
Survey and underwriting costs
    26,785       12.3       23,841       0.6       23,710  
Sales and policy issuance costs
    27,996       (2.3 )     28,665       27.1       22,556  
All other operating costs
    60,716       3.3       58,803       3.1       57,024  
 
Non-commission expense
    261,060       2.1       255,590       5.5       242,238  
 
Total cost of management operations
  $ 813,411       0.5 %   $ 809,548       1.2 %   $ 799,597  
 
Key points
    Commissions in 2009 decreased 0.3% as a result of a $12.7 million decrease in the estimate for agent bonuses, offset by a $11.1 million increase in scheduled rate commissions.
 
    Personnel costs were impacted by increases in employee benefit costs, management incentive plan expenses and regular salaries and wages. Offsetting these increases were capitalized labor costs related to technology initiatives.
 
    Survey and underwriting costs increased $2.9 million as a result of an increase in application activity that resulted in additional underwriting costs.
 
    All other operating costs increased $1.9 million primarily as a result of increased contract labor costs related to various technology initiatives.

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Commissions
Commissions to independent agents, which are the largest component of the cost of management operations, include scheduled commissions earned by independent agents on premiums written, accelerated commissions and agent bonuses and are outlined in the following table:
                         
    Years ended December 31,
(in thousands)   2009   2008   2007
 
Scheduled rate commissions
  $ 467,821     $ 456,711     $ 451,987  
Accelerated rate commissions
    3,799       4,326       2,880  
Agent bonuses
    68,508       81,227       95,854  
Promotional incentives and other bonuses
    12,223       11,694       6,638  
 
Total commissions
  $ 552,351     $ 553,958     $ 557,359  
 
Scheduled and accelerated rate commissions — Scheduled rate commissions were impacted by a 1.6% increase in the direct written premiums of the Property and Casualty Group in 2009. Also, commission rates were increased for certain commercial lines new business premiums effective in July 2008, which added $2.1 million to 2009 scheduled rate commissions. In 2008, these commercial rate increases added $1.5 million to scheduled rate commissions. Also in 2008, an increase in workers compensation commission rates, which became effective in the latter half of 2007 in certain states, added $2.8 million of commission expense.
Accelerated rate commissions are offered under specific circumstances to certain newly-recruited agencies for their initial three years of operation. Accelerated rate commissions decreased in 2009 as existing accelerated commission contracts are expiring. This is reflective of the fact that although new agency appointments continue, the number of such appointments has been declining. We appointed 120 new agencies in 2009, 156 in 2008 and 214 in 2007.
Agent bonuses — Agent bonuses are based on an individual agency’s property/casualty underwriting profitability over a three-year period. There is also a growth component to the bonus, paid only if the agency is profitable. The estimate for the bonus is modeled on a monthly basis using the two prior years’ actual underwriting data by agency combined with the current year-to-date actual data. Agent bonuses decreased $12.7 million in 2009 as our estimate of the profitability component of the bonus decreased when factoring in the most recent year’s underwriting data. The agent bonus award is estimated at $67.6 million for 2009. The $14.6 million decrease in 2008 compared to 2007 also reflected the profitability component of the bonus decreasing when factoring in the most recent year’s underwriting data.
Promotional incentives and other bonuses — In July 2006, an incentive program was implemented that paid a bonus to agents for each qualifying new private passenger auto policy issued to stimulate growth. A tiered payout structure was introduced for this bonus effective in June 2008. This tiered bonus structure resulted in additional commission expense of $4.7 million in 2009 and $3.2 million in 2008. This bonus structure ended on January 31, 2010. A new commission structure became effective February 1, 2010 which will increase commissions for qualifying new private passenger auto policies.
Other costs of management operations
Personnel costs, the second largest component in the cost of management operations, increased 0.9%, or $1.3 million, in 2009. Employee benefit costs increased $3.3 million, primarily driven by higher pension benefit costs due to the change in the discount rate assumption used to calculate the pension expense to 6.06% in 2009 from 6.62% in 2008. Expense for management incentive plans increased $2.0 million, resulting from an increase in the estimate of the plan payouts. Salaries and wages were impacted by a $1.1 million increase due to higher average pay rates offset by the capitalization of $2.5 million of labor costs related to our technology initiatives. Also, 2008 included $2.9 million of executive severance costs and other compensation expense.
Survey and underwriting costs increased $2.9 million in 2009. A 7.5% increase in submitted applications for potential policyholders contributed to higher underwriting costs. All other operating costs increased 3.3%, or $1.9 million, in 2009 driven by a $2.7 million increase primarily in contract labor costs related to various technology initiatives. This increase is net of $5.7 million of capitalized contract labor costs.

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Future trends—cost of management operations — The cost structure and competitive position of the Property and Casualty Group is based on many factors including price considerations, service levels, ease of doing business, product features and billing arrangements. Pricing of Property and Casualty Group policies is directly affected by the cost structure of the Property and Casualty Group and the underlying costs of sales, underwriting activities, policy issuance activities and billing arrangements performed by us for the Property and Casualty Group. Management’s objective is to better align our growth in costs to our growth in premium over the long-term. We will continue our various information technology initiatives aimed at improving our operating performance in 2010 and beyond.
INSURANCE UNDERWRITING OPERATIONS
                                         
    Years ended December 31,
            % Change
2009
          % Change
2008
   
(in thousands)   2009   over 2008   2008   over 2007   2007
 
Premiums earned
  $ 209,457       1.0 %   $ 207,407       (0.1 )%   $ 207,562  
 
Losses and loss expenses incurred
    145,452       6.0       137,167       9.0       125,903  
Policy acquisition and other underwriting expenses
    62,369       9.6       56,931       (0.1 )     56,996  
 
Total losses and expenses
    207,821       7.1       194,098       6.1       182,899  
 
Underwriting income
  $ 1,636       (87.7 )%   $ 13,309       (46.0 )%   $ 24,663  
 
NM = not meaningful
Key points
    The loss and loss expense ratio related to the current accident year, excluding catastrophe losses, was 68.4% in 2009, which was 0.7 points higher than the 67.7% in 2008.
 
    Development of prior accident year loss reserves improved the GAAP combined ratio by 2.4 points, or $5.1 million, in 2009 compared to 5.0 points, or $10.3 million, in 2008.
 
    Catastrophe losses contributed 3.4 points to the GAAP combined ratio in both 2009 and 2008.
 
    In 2009, the Property and Casualty Group’s underwriting income was reduced by a net $50.5 million related to the write-off of assumed involuntary reinsurance premium related to the North Carolina Beach and Coastal Plans deemed uncollectible as a result of recent state legislation. Our $2.8 million share of this write off is reflected in policy acquisition and other underwriting expense and contributed 1.3 points to our 2009 GAAP combined ratio.

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Profitability measures
                         
    Years ended December 31,
    2009   2008   2007
 
Erie Indemnity Company GAAP loss and LAE ratio(1)
    69.4       66.1       60.7  
Erie Indemnity Company GAAP combined ratio(2)
    99.2       93.6       88.1  
P&C Group statutory combined ratio
    96.9       93.3       87.7  
P&C Group adjusted statutory combined ratio(3)
    92.9       89.6       83.8  
Direct business—(statutory basis):
                       
Personal lines adjusted statutory combined ratio
    98.0 (4)     88.3 (4)     83.9  
Commercial lines adjusted statutory combined ratio
    82.2 (5)     94.2 (5)     84.7  
 
Prior accident year reserve development—redundancy
    (0.6 )     (3.2 )     (5.3 )
Prior year salvage and subrogation recoveries collected
    (1.9 )     (1.8 )     (1.7 )
 
Total loss ratio points from prior accident years
    (2.5 )     (5.0 )     (7.0 )
 
(1)   The GAAP loss and LAE ratio, expressed as a percentage, is the ratio of losses and loss expenses incurred to earned premiums for our property/casualty insurance subsidiaries.
 
(2)   The GAAP combined ratio, expressed as a percentage, is the ratio of losses, loss expenses, acquisition and other underwriting expenses incurred to earned premiums for our property/casualty insurance subsidiaries. Our GAAP combined ratios are different than the results of the Property and Casualty Group due to certain GAAP adjustments.
 
(3)   The adjusted statutory combined ratio removes the profit margin on the management fee we earn from the Property and Casualty Group.
 
(4)   The personal lines adjusted statutory combined ratio increase in 2009 over 2008 was primarily impacted by reserve increases resulting from assumption changes and increasing frequency trends. In 2008, favorable development on prior accident year loss reserves was experienced on automobile bodily injury and uninsured/underinsured motorist bodily injury.
 
(5)   The commercial lines adjusted statutory combined ratio decrease in 2009 over 2008 is primarily due to reserve decreases resulting from assumption changes combined with the settlement of eight massive injury workers compensation claims. Impacting 2008 was one large fire claim in Pennsylvania and losses related to Hurricane Ike in Ohio, Pennsylvania and Indiana.
The following table provides the details of the prior year loss reserve development for our wholly-owned property/casualty insurance subsidiaries:
Prior year loss development:
                         
    Years ended December 31,
(in thousands)   2009   2008   2007
 
Direct business excluding salvage and subrogation
  $ (1,204 )   $ (6,729 )   $ (11,031 )
Assumed reinsurance business
    (2,094 )     (3,675 )     (3,624 )
Ceded reinsurance business
    (1,307 )     167       (902 )
Salvage and subrogation
    (451 )     (104 )     47  
 
Total prior year loss development
  $ (5,056 )   $ (10,341 )   $ (15,510 )
 
NM = not meaningful
Negative amounts represent a redundancy (decrease in reserves) while positive amounts represent a deficiency (increase in reserves).
Development of loss reserves
Direct — Our 5.5% share of the Property and Casualty Group’s favorable development of prior accident year direct losses, after removing the effects of salvage and subrogation recoveries, was $1.2 million in 2009 and improved the combined ratio by 0.6 points. Driving the prior accident year development are $7.3 million of favorable development related to workers compensation reserves offset by adverse development of $4.3 million related to the pre-1986 automobile massive injury reserves. The favorable workers compensation development was a function of 1) the settlement of several massive injury workers compensation claims, 2) changes to mortality assumptions and 3) a change in the payout patterns used in the calculation to discount workers compensation reserves. The adverse development on the pre-1986 automobile massive injury reserves was the result of changes made to the mortality assumption, specifically the use of gender specific mortality tables, coupled with increasing frequency trends. Adverse development was also experienced on the commercial multi-peril line in 2009 as a result of some reserve strengthening and the outcome of certain court decisions.

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In 2008, our 5.5% share of the Property and Casualty Group’s favorable development of prior accident year direct losses, after removing the effects of salvage and subrogation recoveries, was $6.7 million and improved the combined ratio by 3.2 points. Of the $6.7 million, $4.3 million related to the personal auto line of business. The Property and Casualty Group reduced reserves in 2008 on prior accident years as a result of improvements in frequency trends and slight improvements in severity trends on automobile bodily injury and on uninsured/underinsured motorist bodily injury. In 2007, our share of the Property and Casualty Group’s favorable development of prior accident year direct losses, after removing the effects of salvage and subrogation recoveries, was $11.0 million and improved the combined ratio by 5.3 points. Of the $11.0 million, $8.1 million related to the personal auto line of business. The Property and Casualty Group reduced reserves in 2007 on prior accident years as a result of sustained improved severity trends on automobile bodily injury and on uninsured/underinsured motorist bodily injury.
Assumed reinsurance — The Property and Casualty Group experienced favorable development of prior accident year loss reserves on its assumed reinsurance business of $38.1 million, $66.8 million and $65.9 million in 2009, 2008 and 2007, respectively. Our 5.5% share of this development was $2.1 million, $3.7 million and $3.6 million in 2009, 2008 and 2007, respectively. The favorable development was due to less than anticipated growth in involuntary reinsurance and, to a lesser extent, reductions in reserve levels related to World Trade Center (WTC) losses.
Ceded reinsurance — Ceded reinsurance reserves are primarily related to the pre-1986 automobile massive injury claims. As mentioned in the discussion of direct business above, the pre-1986 automobile massive injury reserves increased in 2009 due to assumption changes and frequency trends. These reserve increases drove the corresponding increase in the 2009 receivable from the ceded reinsurer.
Catastrophe losses
Catastrophes are an inherent risk of the property/casualty insurance business and can have a material impact on our insurance underwriting results. In addressing this risk, we employ what we believe are reasonable underwriting standards and monitor our exposure by geographic region. The Property and Casualty Group’s definition of catastrophes includes those weather-related or other loss events which we consider significant to our geographic footprint which, individually or in the aggregate, may not reach the level of a national catastrophe as defined by the Property Claim Service (PCS). The Property and Casualty Group also maintains property catastrophe reinsurance coverage from unaffiliated insurers. The Property and Casualty Group maintains sufficient property catastrophe reinsurance coverage from unaffiliated reinsurers and no longer participates in the voluntary assumed reinsurance business, which lowers the variability of the underwriting results of the Property and Casualty Group.
Our share of catastrophe losses, as defined by the Property and Casualty Group, totaled $7.1 million, $7.0 million and $3.6 million in 2009, 2008 and 2007, respectively. Both 2009 and 2008 catastrophes amounted to 3.4 points of the respective loss ratios and 2007 comprised 1.7 points of the 2007 loss ratio. Catastrophe losses in 2009 were impacted by flooding, hail, tornado and wind storms primarily in Pennsylvania, Ohio and Indiana. In 2008, catastrophe losses resulted from flooding, tornado and wind storms related to Hurricane Ike primarily in Ohio and Pennsylvania. Storm-related losses were at lower than expected levels in 2007, with wind and rainstorms primarily in Ohio and Pennsylvania.
INVESTMENT OPERATIONS
                                         
    Years ended December 31,
            % Change
2009
          % Change
2008
   
(in thousands)   2009   over 2008   2008   over 2007   2007
 
Net investment income
  $ 41,728       (5.6 )%   $ 44,181       (16.4 )%   $ 52,833  
Net realized gains (losses) on investments
    10,396     NM     (43,515 )   NM     17,265  
Net impairment losses recognized in earnings
    (12,059 )     82.6       (69,504 )   NM     (22,457 )
Equity in (losses) earnings of limited partnerships
    (76,108 )   NM     5,710       (90.4 )     59,690  
Equity in earnings (losses) of EFL
    5,593     NM     (14,627 )   NM     3,133  
 
Net (loss) revenue from investment operations
  $ (30,450 )     60.8 %   $ (77,755 )   NM   $ 110,464  
 
NM = not meaningful

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Key points
    Net investment income decreased 5.6% in 2009 primarily due to decreased dividend income on our non-redeemable preferred stock portfolio as a result of disposals of these securities.
 
    We incurred net realized gains on investments in 2009 of $10.4 million compared to losses of $43.5 million in 2008. Our common stock trading portfolio contributed $10.9 million in valuation adjustment gains to the 2009 results, compared to $21.7 million in valuation adjustment losses to the 2008 results.
 
    Impairment losses recognized in earnings decreased $57.4 million in 2009 due to market conditions as well as the change in impairment policies related to credit impaired debt securities.
 
    Equity in losses of limited partnerships were $76.1 million in 2009 compared to gains of $5.7 million in 2008, primarily as a result of fair value declines in our real estate limited partnerships.
 
    Equity in earnings of EFL was $5.6 million in 2009 compared to losses of $14.6 million in 2008, driven primarily by lower impairment charges. Our share of impairment charges recorded by EFL totaled $5.0 million in 2009 compared to $18.1 million in 2008.
The breakdown of our net realized gains (losses) on investments is as follows:
                         
    Years ended December 31,
(in thousands)   2009   2008   2007
 
Securities sold
  $ (504 )   $ (23,413 )   $ 16,789  
Common stock valuation adjustments
    10,900       (21,730 )     0  
Limited partnerships
    0       1,628       476  
 
Total net realized gains (losses)
  $ 10,396     $ (43,515 )   $ 17,265  
 
The components of other-than-temporary impairments are included below:
                         
    Years ended December 31,
(in thousands)   2009   2008   2007
 
Impairments:
                       
Fixed maturities
  $ (6,876 )   $ (35,974 )   $ (5,101 )
Equity securities
    (5,183 )     (33,530 )     (17,356 )
 
Total net impaired losses recognized in earnings
  $ (12,059 )   $ (69,504 )   $ (22,457 )
 
We terminated our securities lending program and completed the process of unwinding the current securities on loan in December 2009. Consequently, there were no loaned securities included as part of our invested assets at December 31, 2009, compared to $17.5 million at December 31, 2008.
The components of equity in (losses) earnings of limited partnerships are as follows:
                         
    Years ended December 31,
(in thousands)   2009   2008   2007
 
Private equity
  $ (12,543 )   $ 3,813     $ 22,948  
Real estate
    (58,590 )     (3,710 )     30,206  
Mezzanine debt
    (4,975 )     5,607       6,536  
 
Total equity in (losses) earnings of limited partnerships
  $ (76,108 )   $ 5,710     $ 59,690  
 

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Limited partnership earnings pertain to investments in U.S. and foreign private equity, real estate and mezzanine debt partnerships. Valuation adjustments are recorded to reflect the fair value of limited partnerships. These adjustments are recorded as a component of equity in earnings of limited partnerships in the Consolidated Statements of Operations. Private equity and mezzanine debt limited partnerships generated earnings, excluding valuation adjustments, of $0.1 million, $13.6 million and $21.6 million in 2009, 2008 and 2007, respectively. Real estate limited partnerships included losses of $0.5 million, and earnings of $13.1 million and $15.6 million in 2009, 2008 and 2007, respectively. We experienced a decline in earnings as a result of asset value reductions recognized in 2009 due to adverse market conditions resulting in lower than normal transaction volume and, subsequently, lower sales prices and gains on sales of investments. Limited partnership earnings tend to be cyclical based on market conditions, the age of the partnership and the nature of the investments. Generally, limited partnership earnings are recorded by us on a quarter lag from financial statements we receive from our general partners. As a consequence, earnings from limited partnerships reported at December 31, 2009 do not reflect investment valuation changes that may have resulted from the financial markets and the economy in general in the fourth quarter of 2009.
Our $5.6 million equity in earnings of EFL in 2009 included lower impairment charges compared to 2008. EFL recorded pre-tax impairment charges of $22.9 million in 2009, of which our share was $5.0 million before tax. EFL’s impairment charges were $83.5 million in 2008, of which our share was $18.1 million before tax. EFL’s net income was positively impacted by a reduction in the deferred tax valuation allowance of $18.9 million in 2009. The net loss in 2008 was negatively impacted by $32.7 million due to the establishment of a deferred tax valuation allowance. EFL’s valuation allowance at December 31, 2009 was $4.4 million. The allowance was established because it is more likely than not that the related deferred tax asset will not be realized.
In June 2009, we made an $11.9 million capital contribution to EFL and the Exchange made a $43.1 million capital contribution to EFL to strengthen its surplus. The $55 million in capital contributions increased EFL’s investments and total shareholders equity.
FINANCIAL CONDITION
Investments
Our investment strategy takes a long-term perspective emphasizing investment quality, diversification and superior investment returns. Investments are managed on a total return approach that focuses on current income and capital appreciation. Our investment strategy also provides for liquidity to meet our short- and long-term commitments. At December 31, 2009 and 2008, our investment portfolio of investment-grade bonds, preferred stock, common stock and cash and cash equivalents represents 29% and 26%, respectively, of total assets. These investments, along with our operating cash flow, provide the liquidity we require to meet the demands on our funds.
Distribution of investments
                                 
    Carrying value at December 31,
(in thousands)   2009   % to total   2008   % to total
 
Fixed maturities
  $ 664,026       68 %   $ 563,429       59 %
Equity securities:
                               
Preferred stock
    37,725       4       55,281       6  
Common stock
    42,153       4       33,338       3  
Limited partnerships:
                               
Real estate
    98,715       10       149,499       16  
Private equity
    85,568       8       94,512       10  
Mezzanine debt
    50,697       5       55,165       5  
Real estate mortgage loans
    1,116       1       1,215       1  
 
Total investments
  $ 980,000       100 %   $ 952,439       100 %
 
We continually review the available-for-sale debt and equity portfolios to evaluate positions that might incur other-than-temporary declines in value. For all investment holdings, general economic conditions and/or conditions specifically affecting the underlying issuer or its industry, including downgrades by the major rating agencies, are considered in evaluating impairment in value. Other factors considered in our review of investment valuation are the length of time the fair value is below cost and the amount the fair value is below cost.

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We individually analyze all positions with emphasis on those that have, in management’s opinion, declined significantly below costs. With the issuance of new impairment guidance for debt securities in the second quarter of 2009, we further analyze debt securities to determine if a credit-related impairment has occurred. Some of the factors considered in determining whether a debt security is credit impaired include potential for the default of interest and/or principal, level of subordination, collateral of the issue, compliance with financial covenants, credit ratings and industry conditions. We have the intent to sell all credit-impaired debt securities, therefore the entire amount of the impairment charges are included in earnings and no credit-related impairments are recorded in other comprehensive income. Prior to the second quarter of 2009, there was no differentiation between impairments related to credit loss and those related to other factors and declines in fair values of debt securities were deemed other-than-temporary if we did not have the intent and ability to hold a security to recovery. For available-for-sale equity securities, a charge is recorded in the Consolidated Statement of Operations for positions that have experienced other-than-temporary impairments due to credit quality or other factors. (See “Investment Operations” section herein.)
If our policy for determining the recognition of impaired positions were different, our Consolidated Results of Operations could be significantly impacted. Management believes its investment valuation philosophy and accounting practices result in appropriate and timely measurement of value and recognition of impairment.
Fixed maturities
Under our investment strategy, we maintain a fixed maturities portfolio that is of high quality and well diversified within each market sector. This investment strategy also achieves a balanced maturity schedule. The fixed maturities portfolio is managed with the goal of achieving reasonable returns while limiting exposure to risk. The municipal bond portfolio accounts for $243.7 million, or 36.7%, of the total fixed maturity portfolio. The overall credit rating of the municipal portfolio without consideration of the underlying insurance is AA-. Because of the rating downgrades of municipal bond insurers, the insurance does not improve the overall credit ratings.
Fixed maturities classified as available-for-sale are carried at fair value with unrealized gains and losses, net of deferred taxes, included in shareholders’ equity. At December 31, 2009, the net unrealized gain on fixed maturities, net of deferred taxes, amounted to $14.2 million, compared to a $22.3 million loss at December 31, 2008.
The following is a breakdown of the fair value of our fixed maturity portfolio by sector and rating as of December 31, 2009:
                                                         
(in thousands)                                   Not            
                                    Investment   Fair        
Industry Sector   AAA   AA   A   BBB   Grade   value        
         
Basic materials
  $ 0     $ 0     $ 537     $ 5,536     $ 1,370     $ 7,443          
Communications
    0       0       10,891       20,298       0       31,189          
Consumer
    0       3,181       18,700       39,158       2,113       63,152          
Diversified
    0       0       1,086       0       0       1,086          
Energy
    0       1,053       1,921       28,852       0       31,826          
Financial
    16,830       17,015       62,544       52,740       22,191       171,320          
Government sponsored enterprises
    0       0       2,100       0       0       2,100          
US Treasury
    2,916       0       0       0       0       2,916          
Municipal
    39,222       131,807       66,539       6,166       0       243,734          
Industrial
    0       0       5,680       18,445       1,906       26,031          
Structured securities (1)
    23,830       1,938       0       3,104       5,344       34,216          
Technology
    0       0       2,058       3,221       0       5,279          
Utilities
    0       381       4,259       37,200       1,894       43,734          
     
Total
  $ 82,798     $ 155,375     $ 176,315     $ 214,720     $ 34,818     $ 664,026          
     
 
(1)   Structured securities include asset-backed securities, collateral, lease and debt obligations, commercial mortgage-backed securities and residential mortgage-backed securities

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Equity securities
Our equity securities consist of common stock and nonredeemable preferred stock. Investment characteristics of common stock and nonredeemable preferred stock differ substantially from one another. Our nonredeemable preferred stock portfolio provides a source of current income that is competitive with investment-grade bonds.
The following tables present an analysis of the fair value of our preferred and common stock securities by sector at December 31:
                                 
(in thousands)   2009   2008
    Preferred   Common   Preferred   Common
Industry sector   stock   stock   stock   stock
 
Basic materials
  $ 0     $ 1,823     $ 0     $ 1,626  
Communications
    1,016       2,460       1,620       2,921  
Consumer
    0       14,869       1,740       11,878  
Diversified
    0       735       0       444  
Energy
    0       3,169       4,860       1,398  
Financial
    26,932       9,119       35,944       7,862  
Funds
    0       2,844       0       1,768  
Government
    345       0       179       0  
Industrial
    1,676       5,975       1,292       3,300  
Technology
    2,921       752       2,383       866  
Utilities
    4,835       407       7,263       1,275  
     
Total
  $ 37,725     $ 42,153     $ 55,281     $ 33,338  
     
Our equity securities are carried at fair value on the Consolidated Statements of Financial Position. At December 31, 2009, the unrealized gain on available-for-sale equity securities, net of deferred taxes, amounted to $1.9 million, compared to a $3.0 million loss at December 31, 2008.
Effective January 1, 2008, we adopted the fair value option for our common stock portfolio. As a result, all changes in unrealized gains and losses on our Consolidated Statements of Financial Position are reflected in our Consolidated Statements of Operations. A one-time cumulative-effect adjustment of approximately $11.2 million, net of tax, was recorded as an increase to retained earnings with an offsetting reduction to other comprehensive income on January 1, 2008.
Limited partnership investments
During 2009, investments in limited partnerships decreased $64.2 million to $235.0 million due to current market conditions. Mezzanine debt and real estate limited partnerships, which comprise 63.6% of the total limited partnerships, produce a more predictable earnings stream while private equity limited partnerships, which comprise 36.4% of the total limited partnerships, tend to provide a less predictable earnings stream but the potential for greater long-term returns. At December 31, 2009, our investments in limited partnerships represented 24.0% of total investments, compared to 31.4% at December 31, 2008.
Liabilities
Property/casualty loss reserves
Loss reserves are established to account for the estimated ultimate costs of losses and loss expenses for claims that have been reported but not yet settled and claims that have been incurred but not reported.
The factors which may potentially cause the greatest variation between current reserve estimates and the actual future paid amounts are: unforeseen changes in statutory or case law altering the amounts to be paid on existing claim obligations, new medical procedures and/or drugs with costs significantly different from those seen in the past, and claims patterns on current business that differ significantly from historical claims patterns.
Loss and loss expense reserves are presented on our Consolidated Statements of Financial Position on a gross basis for EIC, ENY and EPC. Our property/casualty insurance subsidiaries wrote about 16% of the direct property/casualty premiums of the Property and Casualty Group in 2009. Under the terms of the Property and Casualty Group’s quota share and intercompany pooling arrangement, a significant portion of these reserve liabilities are recoverable.

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Recoverable amounts are reflected as an asset on our Statements of Financial Position. The direct and assumed loss and loss expense reserves by major line of business and the related amount recoverable under the intercompany pooling arrangement are presented as follows:
                 
    As of December 31,
(in thousands)   2009   2008
 
Gross reserve liability:
               
Private passenger auto
  $ 297,988     $ 295,174  
Pre-1986 automobile massive injury
    172,773       167,748  
Homeowners
    34,287       28,984  
Workers compensation
    162,122       162,898  
Workers compensation massive injury
    58,877       92,019  
Commercial auto
    72,681       75,480  
Commercial multi-peril
    99,145       76,584  
All other lines of business
    67,547       66,194  
 
Gross reserves
    965,420       965,081  
Reinsurance recoverable(1)
    778,543       778,328  
 
Net reserve liability
  $ 186,877     $ 186,753  
 
 
(1)   Includes $778.0 million in 2009 and $777.8 million in 2008 due from the Exchange.
The reserves that have the greatest potential for variation are the massive injury claim reserves. The Property and Casualty Group is currently reserving for about 300 claimants requiring lifetime medical care, of which about 120 involve massive injuries. The reserve carried by the Property and Casualty Group for the massive injury claimants, which is our best estimate of this liability at this time, was $427.7 million at December 31, 2009, which is net of $178.9 million of anticipated reinsurance recoverables. Our property/casualty subsidiaries’ share of the net massive injury liability reserves was $23.5 million at December 31, 2009 compared to $28.3 million at December 31, 2008. The increase in the pre-1986 automobile massive injury direct and assumed reserves in the above table at December 31, 2009 compared to December 31, 2008 was primarily due to changes impacting the mortality rate assumption in 2009. The decrease in the direct and assumed workers compensation massive injury reserve at December 31, 2009, compared to December 31, 2008, was driven by the settlement of several massive injury workers compensation claims, changes to our mortality rate assumption and a change in the discount calculation, which all had the effect of reducing reserves in 2009.
It is anticipated that these massive injury claims will require payments over the next 30 to 40 years. In 2009, we changed our medical inflation rate assumption for these reserves to an 8% annual increase grading down 0.5% per year to an ultimate rate of 5%. In 2008, this assumption was a 9% annual increase grading down 1% after the first year, then grading down 0.5% per year to an ultimate rate of 5%. The impact on the massive injury liability reserves due to the change in our medical inflation rate assumption in 2009 resulted in a reserve reduction of $25.6 million for the Property and Casualty Group, of which our property/casualty subsidiaries’ share was $1.4 million. In 2009, we changed our mortality rate assumption to give 100% weighting to the disabled pensioner mortality table by gender to more appropriately weigh male versus female life expectancies. In 2008, this assumption gave 75% weighting to our own mortality experience and 25% weighting to the male-female combined disabled pensioner mortality table. The impact on the massive injury liability reserves due to the change in our mortality rate assumption in 2009 resulted in a reserve increase of $73.3 million for the Property and Casualty Group, of which our property/casualty subsidiaries’ share was $4.0 million. Our share of the massive injury claim payments made during 2009, 2008 and 2007 was $0.9 million, $0.8 million and $1.0 million, respectively.
Loss reserves are set at full expected cost, except for workers compensation loss reserves, which are discounted on a nontabular basis using an interest rate of 2.5% based upon the Property and Casualty Group’s historical workers compensation payout patterns. In 2009, the workers compensation massive injury claims that have longer payout patterns were segregated in the discount calculation from the non-massive injury workers compensation claims. The impact on the massive injury liability reserves due to this change resulted in a reserve reduction of $45.1 million for the Property and Casualty Group, of which our property/casualty subsidiaries’ share was $2.5 million.

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Shareholders’ equity
Pension plan
The funded status of our postretirement benefit plans is recognized in the statement of financial position, with a corresponding adjustment to accumulated other comprehensive income, net of tax. At December 31, 2009, shareholders’ equity increased by $24.5 million, net of tax, of which $2.4 million represents amortization of the prior service cost and net actuarial loss and $22.1 million represents the current period actuarial gain. The 2009 actuarial gain was primarily due to actual investment returns greater than expected. Also contributing to the gain were assumption changes made based on actual experience, such as the decrease in the assumed rate of compensation increase. Although we are the sponsor of these postretirement plans and record on our balance sheet the funded status of these plans, generally the Exchange and EFL reimburse the Company for approximately 50% of the annual benefit expense of these plans. At December 31, 2008, shareholders’ equity decreased by $90.6 million, net of tax, of which $0.1 million represented amortization of the prior service cost and net actuarial gain and $90.7 million represented the current period actuarial loss. The 2008 net actuarial loss was primarily due to the actual investment returns being significantly less than expected investment returns, driven by 2008 market conditions and a change in the discount rate used to estimate the future benefit obligations to 6.06% in 2008 from 6.62% in 2007.
IMPACT OF INFLATION
Property/casualty insurance premiums are established before losses and loss expenses, and therefore, before the extent to which inflation may impact such costs are known. Consequently, in establishing premium rates, we attempt to anticipate the potential impact of inflation, including medical cost inflation, construction and auto repair cost inflation and tort issues. Medical costs are a broad element of inflation that impacts personal and commercial auto, general liability, workers compensation and commercial multi-peril lines of insurance written by the Property and Casualty Group.
LIQUIDITY AND CAPITAL RESOURCES
Sources and uses of cash
Liquidity is a measure of a company’s ability to generate sufficient cash flows to meet the short- and long-term cash requirements of its business operations. Our liquidity requirements have been met primarily by funds generated from management operations, the net cash flows of our insurance subsidiaries 5.5% participation in the underwriting results of the reinsurance pool with the Exchange, and investment income from nonaffiliated investments. Cash provided from these sources is used primarily to fund the costs of management operations including salaries and wages and commissions, pension plans, share repurchases, dividends to shareholders and the purchase and development of information technology. We expect that our operating cash needs will be met by funds generated from operations. When cash provided by operating activities is in excess of our operating cash needs, we may use this excess to fund our investment portfolios or share repurchase activities. When funding requirements exceed operating cash flows, our investment portfolios may be used as a funding source. Continuing volatility in the financial markets presents challenges to us as we occasionally access our investment portfolio as a source of cash. Some of our fixed income investments, despite being publicly traded, are illiquid due to credit market conditions. Further volatility in these markets could impair our ability to sell certain of our fixed income securities or cause such securities to sell at deep discounts. Additionally, our limited partnership investments are illiquid. We believe we have sufficient liquidity to meet our needs from other sources even if market volatility persists throughout 2010. See Item 7A. “Quantitative and Qualitative Disclosures about Market Risk,” for further information on the risk of market volatility and Item 1A. “Risk Factors,” for a discussion of certain matters that may affect our investment portfolio and capital position.
Management fees from the Exchange generate a majority of our operating cash flows. We have a receivable from the Exchange and affiliates related to the management fee receivable from premiums written, but not yet collected, as well as the management fee receivable on premiums collected in the current month. We pay nearly all general and administrative expenses on behalf of the Exchange and other affiliated companies including EFL. The Exchange and EFL reimburse us for these expenses on a paid-basis quarterly.

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We generate cash from our property/casualty insurance subsidiaries, which consist of our share of the pooled underwriting results of the Property and Casualty Group. All members of the Property and Casualty Group pool their underwriting results. Through the pool, our subsidiaries assume 5.5% of the Property and Casualty Group’s underwriting results. We also generate cash from the income earned on our fixed maturity and equity security investment portfolios and earnings on our limited partnership investments.
Management fee and other cash settlements due at December 31 from the Exchange were $209.3 million and $214.3 million in 2009 and 2008, respectively. A receivable from EFL for cash settlements totaled $3.2 million at December 31, 2009, compared to $3.9 million at December 31, 2008. The receivable due from the Exchange for reinsurance recoverable from unpaid loss and loss expenses and unearned premium balances ceded to the intercompany reinsurance pool increased 1.7% to $902.2 million from $887.4 million at December 31, 2009 and 2008, respectively. This increase is the result of corresponding increases in direct loss and loss expense reserves of our property/casualty insurance subsidiaries that are ceded to the Exchange under the intercompany pooling agreement. The amounts due us from the Exchange represented 22% of the Exchange’s total liabilities at December 31, 2009 and 2008.
Capital outlook
If the financial market volatility continues, we have the ability to meet our future funding requirements through various alternatives available to us. Outside of our normal operating and investing cash activities, future funding requirements could be met through: (1) a $100 million bank line of credit, from which we have no borrowings at December 31, 2009, (2) dividend payments from our wholly-owned property/casualty insurance subsidiaries, EIC, EPC and ENY, up to their statutory limits totaling $26.4 million under current regulatory restrictions as of December 31, 2009, (3) our more liquid investments that can be sold, such as our common stock and cash and cash equivalents, which totaled approximately $118.7 million at December 31, 2009, and (4) the ability to curtail or modify discretionary cash outlays such as those related to shareholder dividends and our share repurchase activities. We believe we have the funding sources available to us to support future cash flow requirements in 2010.
Cash flow activities
Cash flows provided by operating activities totaled $180.2 million in 2009, compared to $150.8 million in 2008 and $253.8 million in 2007. Higher operating cash flows in 2009 were primarily due to increased management fee revenues received offset by lower distributions from our limited partnerships. Management fee revenues were higher reflecting the increase in the Property and Casualty Group’s direct written premium. Limited partnership distributions were lower as a result of a decline in performance of our limited partnership investments in 2009.
Cash paid for agent commissions increased to $453.6 million in 2009, compared to $439.2 million in 2008, as a result of an increase in direct written premiums of the Property and Casualty Group and rate increases for certain commercial lines new business premiums. Cash paid for agent bonuses totaled $81.1 million during 2009 compared to $95.1 million in 2008. Agent bonuses expected to be paid in 2010, that relate to the period ended in 2009, total $67.6 million reflecting the impact of the decline in underwriting profitability of the Property and Casualty Group. We made contributions to our pension plan of $14.3 million and $15.0 million in 2009 and 2008, respectively. Our policy is to contribute at least the minimum required contribution that is in accordance with the Pension Protection Act of 2006 and to fund the annual “normal” costs of the pension. For 2010, the expected contribution amount is $15.0 million, which does exceed the minimum required amount. Our affiliated entities generally reimburse us about 50% of the net periodic benefit cost of the pension plan.
At December 31, 2009, we recorded a gross deferred tax asset of $42.3 million, which included capital loss carryforwards of $4.5 million. A valuation allowance of $1.5 million was recorded because it is more likely than not that the deferred tax asset will not be realized for a portion of the deferred tax asset related to losses on investments.
We have the ability to carry back capital losses of $71.4 million as a result of gains recognized in prior years. We have disposed of assets with tax losses of approximately $29.0 million to carry back against these gains in 2009. Approximately $2.1 million of these losses expired in 2009. Our capital gain and loss strategies take into consideration our ability to offset gains and losses in future periods, further capital loss carry-back opportunities to the three preceding years and capital loss carry-forward opportunities to apply against future capital gains over the next five years.
Cash flows used in our investing activities totaled $68.6 million in 2009, compared to cash provided of $73.5 million and $44.8 million in 2008 and 2007, respectively. Our investing operations were impacted by less reinvestments in 2007 and 2008 due to the significant share repurchase activity in those years. Also impacting our future investing

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activities are our limited partnership commitments, which at December 31, 2009, totaled $68.8 million and will be funded as required by the partnerships’ agreements.
In the second quarter of 2009, we made a capital contribution to EFL in the amount of $11.9 million to support EFL’s life insurance and annuity business and strengthen its surplus.
Cash flows used in financing activities were $96.1 million, $194.3 million and $327.8 million in 2009, 2008 and 2007, respectively. In 2009, we reduced our cash outlay for share repurchase activity. Our cost of Class A nonvoting common stock repurchased was $3.1 million in 2009, compared to $102.0 million in 2008 and $236.7 million in 2007. Dividends paid to shareholders totaled $93.0 million, $92.3 million and $91.1 million in 2009, 2008 and 2007, respectively. We increased both our Class A and Class B shareholder quarterly dividends for 2009. There are no regulatory restrictions on the payment of dividends to our shareholders, although there are state law restrictions on the payment of dividends from our subsidiaries to us. Dividends have been approved at a 6.7% increase for 2010.
During 2009, we repurchased 91,420 shares of our outstanding Class A nonvoting common stock at a total cost of $3.1 million in conjunction with our stock repurchase plan. We repurchased 2.1 million shares of our outstanding Class A nonvoting common stock at a total cost of $102.0 million in 2008. In May 2009, our Board of Directors approved a continuation of the current stock repurchase program through June 30, 2010. We have approximately $98 million of repurchase authority remaining under this plan at December 31, 2009. We plan to continue to repurchase shares through this program as cash becomes available for such purpose.
In October 2008, we terminated our securities lending program. The process of unwinding the securities on loan was complete in December 2009. Consequently, there were no loaned securities included as part of our invested assets at December 31, 2009.
Financing activities through December 31, 2008 included short-term borrowings of $75 million on our bank line of credit for certain intercompany cash settlement needs. We made payments on the line of credit of $45 million and $30 million in the third and fourth quarters of 2008, respectively, reducing the outstanding balance to zero at December 31, 2008. This line of credit was extended to December 31, 2011. There were no borrowings on this line as of December 31, 2009. The bank requires compliance with certain covenants, which include minimum net worth and leverage ratios. We are in compliance with all covenants at December 31, 2009. Also during the first quarter of 2008, we borrowed $30 million from EIC, our 100% owned property/casualty insurance subsidiary, to fund certain operating and financing activities. We repaid the entire balance during the second quarter of 2008. This intercompany borrowing was eliminated upon consolidation and therefore had no impact on our Consolidated Statements of Financial Position or Operations.
Contractual obligations
Cash outflows are variable because the fluctuations in settlement dates for claims payments vary and cannot be predicted with absolute certainty. While volatility in claims payments could be significant for the Property and Casualty Group, the effect of this volatility on our performance is mitigated by the intercompany reinsurance pooling arrangement and our 5.5% participation. The cash flow requirements for claims have not historically had a significant effect on our liquidity. Based on a historical 15-year average, about 50% of losses and loss expenses included in the reserve are paid out in the subsequent 12-month period and approximately 89% are paid out within a five-year period. Losses that are paid out after that five-year period reflect such long-tail lines as workers compensation and auto bodily injury. Such payments are reduced by recoveries under the intercompany reinsurance pooling agreement.

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We have certain obligations and commitments to make future payments under various contracts. As of December 31, 2009, the aggregate obligations were as follows:
                                         
            Payments due by period    
                                    2015 and
(in thousands)   Total   2010   2011-2012   2013-2014   thereafter
 
Fixed obligations:
                                       
Limited partnership commitments(1)
  $ 68,778     $ 47,473     $ 21,305     $ 0     $ 0  
Pension contribution(2)
    15,000       15,000       0       0       0  
Other commitments(3)
    48,625       21,205       26,860       560       0  
Operating leases—vehicles
    17,970       4,532       8,428       5,010       0  
Operating leases—real estate(4)
    8,948       2,867       3,981       2,100       0  
Operating leases—computers
    5,079       3,359       1,720       0       0  
Financing arrangements
    1,674       1,537       137       0       0  
 
Fixed contractual obligations
    166,074       95,973       62,431       7,670       0  
Gross loss and loss expense reserves
    965,420       482,710       283,833       94,611       104,266  
 
Gross contractual obligations(5)
  $ 1,131,494     $ 578,683     $ 346,264     $ 102,281     $ 104,266  
 
Gross contractual obligations net of estimated reinsurance recoverables and reimbursements from affiliates are as follows:
                                         
            Payments due by period    
                                    2015 and
(in thousands)   Total   2010   2011-2012   2013-2014   thereafter
 
Gross contractual obligations(5)
  $ 1,131,494     $ 578,683     $ 346,264     $ 102,281     $ 104,266  
Estimated reinsurance recoverables
    778,543       389,272       228,892       76,297       84,082  
Estimated reimbursements from affiliates
    63,163       24,559       32,841       5,763       0  
 
Net contractual obligations
  $ 289,788     $ 164,852     $ 84,531     $ 20,221     $ 20,184  
 
 
(1)   Limited partnership commitments will be funded as required for capital contributions at any time prior to the agreement expiration date. The commitment amounts are presented using the expiration date as the factor by which to age when the amounts are due. At December 31, 2009, the total commitment to fund limited partnerships that invest in private equity securities is $31.8 million, real estate activities is $21.4 million and mezzanine debt is $15.6 million. We expect to have sufficient cash flows from operations and from positive cash flows generated from existing limited partnership investments to meet these partnership commitments.
 
(2)   The pension contribution for 2010 was estimated in accordance with the Pension Protection Act of 2006. Contributions anticipated in future years are expected to be an amount at least equal to the IRS minimum required contribution in accordance with this Act.
 
(3)   Other commitments include various agreements for service, including such things as computer software, telephones and maintenance.
 
(4)   Operating leases—real estate are for 16 of our 23 field offices that are operated in the states in which the Property and Casualty Group does business and three operating leases are for warehousing facilities and remote office locations. One of the branch locations is leased from EFL.
 
(5)   Gross contractual obligations do not include the obligations for our unfunded benefit plans, including the Supplemental Employee Retirement Plan (SERP) for our executive and senior management and the directors’ retirement plan. The recorded accumulated benefit obligations for these plans at December 31, 2009, are $4.0 million. We expect to have sufficient cash flows from operations to meet the future benefit payments as they become due.
Off-balance sheet arrangements
Off-balance sheet arrangements include those with unconsolidated entities that may have a material current or future effect on our financial condition or results of operations, including material variable interests in unconsolidated entities that conduct certain activities. There are no off-balance sheet obligations related to our variable interest in the Exchange. Any liabilities between us and the Exchange are recorded in our Consolidated Statements of Financial Position. We have no material off-balance sheet obligations or guarantees, other than the limited partnership investment commitments.

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Financial ratings
Our property/casualty insurers are rated by rating agencies that provide insurance consumers with meaningful information on the financial strength of insurance entities. Higher ratings generally indicate financial stability and a strong ability to pay claims. The ratings are generally based upon factors relevant to policyholders and are not directed toward return to investors. The insurers of the Erie Insurance Group are currently rated by AM Best Company as follows:
     
Erie Insurance Exchange
  A+
Erie Insurance Company
  A+
Erie Insurance Property and Casualty Company
  A+
Erie Insurance Company of New York
  A+
Flagship City Insurance
  A+
Erie Family Life Insurance
  A
The outlook for all ratings is stable. According to AM Best, a Superior rating (A+) is assigned to those companies that, in AM Best’s opinion, have achieved superior overall performance when compared to the standards established by AM Best and have a superior ability to meet their obligations to policyholders over the long term. By virtue of its affiliation with the Property and Casualty Group, EFL is typically rated one notch lower than the property/casualty companies by AM Best Company. The insurers of the Property and Casualty Group are also rated by Standard & Poor’s, but this rating is based solely on public information. Standard & Poor’s rates the property/casualty insurers AApi, “very strong,” and EFL Api, “strong”. Financial strength ratings continue to be an important factor in evaluating the competitive position of insurance companies.
Regulatory risk-based capital
The standard set by the National Association of Insurance Commissioners (NAIC) for measuring the solvency of insurance companies, referred to as Risk-Based Capital (RBC), is a method of measuring the minimum amount of capital appropriate for an insurance company to support its overall business operations in consideration of its size and risk profile. The RBC formula is used by state insurance regulators as an early warning tool to identify, for the purpose of initiating regulatory action, insurance companies that potentially are inadequately capitalized. In addition, the formula defines minimum capital standards that will supplement the current system of low fixed minimum capital and surplus requirements on a state-by-state basis. At December 31, 2009, the companies comprising the Property and Casualty Group all had RBC levels substantially in excess of levels that would require regulatory action.
TRANSACTIONS AND AGREEMENTS WITH RELATED PARTIES
Board oversight
Our Board of Directors (Board) has broad oversight responsibility over intercompany relationships within Erie Insurance Group. As a consequence, the Board may be required to make decisions or take actions that may not be solely in the interest of our shareholders such as:
    setting the management fee rate paid by the Exchange to us;
 
    determining the continuation and participation percentages of the intercompany pooling agreement;
 
    determining the level of shareholders’ dividend, if any; and
 
    ratifying any other significant intercompany activity.
Subscriber’s agreement
We serve as attorney-in-fact for the Exchange, a reciprocal insurance exchange. Each applicant for insurance to a reciprocal insurance exchange signs a subscriber’s agreement that contains an appointment of an attorney-in-fact. Through the designation of attorney-in-fact, we are required to provide sales, underwriting and policy issuance services to the policyholders of the Exchange, as discussed previously.

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Intercompany agreements
Pooling
Members of the Property and Casualty Group participate in an intercompany reinsurance pooling agreement. Under the pooling agreement, all insurance business of the Property and Casualty Group is pooled in the Exchange. The Erie Insurance Company and Erie Insurance Company of New York share in the underwriting results of the reinsurance pool through retrocession. Since 1995, the Board of Directors has set the allocation of the pooled underwriting results at 5.0% participation for Erie Insurance Company, 0.5% participation for Erie Insurance Company of New York and 94.5% participation for the Exchange.
Service agreements
We make certain payments for the account of the Group’s related entities. These amounts are reimbursed to us on a cost basis in accordance with the service agreements. Cash transfers are settled quarterly.
Leased property
The Exchange leases certain office facilities to us on a year-to-year basis. Rents are determined considering returns on invested capital and building operating and overhead costs. Rental costs of shared facilities are allocated based on square footage occupied.
Intercompany cost allocation
The allocation of costs affects the financial condition of the Erie Insurance Group companies. Management must determine that allocations are consistently made in accordance with intercompany management service agreements, the attorney-in-fact agreements with the policyholders of the Exchange and applicable insurance laws and regulations. While allocation of costs under these various agreements requires management judgment and interpretation, such allocations are performed using a consistent methodology, which in management’s opinion, adheres to the terms and intentions of the underlying agreements.
Intercompany receivables
                                 
            Percent of total           Percent of total
            Company           Company
(in thousands)   2009   assets   2008   assets
 
Reinsurance recoverable from and ceded unearned premiums to the Exchange
  $ 902,210       33.8 %   $ 887,367       34.0 %
Other receivables from the Exchange and affiliates (management fees, costs and reimbursements)
    212,502       7.9       218,243       8.3  
Note receivable from EFL
    25,000       1.0       25,000       1.0  
 
Total intercompany receivables
  $ 1,139,712       42.7 %   $ 1,130,610       43.3 %
 
We have significant receivables from the Exchange that result in a concentration of credit risk. These receivables include the liability for losses and unearned premiums ceded to the Exchange under the intercompany pooling agreement and from management services performed by us for the Exchange. The policyholder surplus of the Exchange at December 31, 2009, on a statutory accounting basis totaled over $4.5 billion. Credit risks related to the receivables from the Exchange are evaluated periodically by our management. Reinsurance contracts do not relieve us from our primary obligations to policyholders if the Exchange were unable to satisfy its obligation. We collect our reinsurance recoverable amount generally within 30 days of actual settlement of losses.
We also have a receivable from the Exchange for management fees and costs we pay on behalf of the Exchange. We also pay certain costs for, and are reimbursed by, EFL. Since our inception, we have collected these amounts due from the Exchange and EFL in a timely manner (normally quarterly). There is interest charged on the outstanding balance due from the Exchange until its quarterly settlement that is based on an independent mutual fund rate.
We have a surplus note for $25 million with EFL that is payable on demand on or after December 31, 2018, subject to prior approval by the Pennsylvania Department of Insurance. EFL paid interest to us on the surplus note totaling $1.7 million in both 2009 and 2008. No other interest is charged or received on these intercompany balances due to the timely settlement terms and nature of the items.

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FACTORS THAT MAY AFFECT FUTURE RESULTS
Financial condition of the Exchange
We have a direct interest in the financial condition of the Exchange because management fee revenues are based on the direct written premiums of the Exchange and the other members of the Property and Casualty Group. Additionally, we participate in the underwriting results of the Exchange through the pooling arrangement in which our insurance subsidiaries have 5.5% participation. A concentration of credit risk exists related to the unsecured receivables due from the Exchange for certain fees, costs and reimbursements.
To the extent that the Exchange incurs underwriting losses or investment losses resulting from declines in the value of its marketable securities or limited partnership investments, the Exchange’s policyholders’ surplus would be adversely affected. If the surplus of the Exchange were to decline significantly from its current level, the Property and Casualty Group could find it more difficult to retain its existing business and attract new business. A decline in the business of the Property and Casualty Group would have an adverse effect on the amount of the management fees we receive and the underwriting results of the Property and Casualty Group. In addition, a significant decline in the surplus of the Exchange from its current level would make it more likely that the management fee rate would be reduced. A decline in surplus could also result from variability in investment markets as realized and unrealized losses are recognized. Due to the continued distress in the securities and real estate markets, the Exchange recognized impairment charges in 2009 of $441.4 million. To the extent market volatility continues, the Exchange’s investment portfolio may continue to be impacted. Additionally, conditions may exist where the Exchange may need to provide capital support to EFL. In the second quarter of 2009, the Exchange made a capital contribution to EFL in the amount of $43.1 million to support EFL’s life insurance and annuity business and strengthen its surplus. At December 31, 2009, the Exchange had $4.5 billion in statutory surplus and a premium to surplus ratio of less than 1 to 1.
The Exchange has strong underlying operating cash flows and sufficient liquidity to meet its needs, including the ability to pay the management fees owed to us. In 2009, the Exchange generated $635.8 million in cash flows from operating activities. At December 31, 2009 the Exchange had $134.5 million in cash and cash equivalents. The Exchange also has an unused $200 million bank line of credit that expires on September 30, 2012. The bank requires compliance with certain covenants which include minimum collateral values. The Exchange was in compliance with all bank covenants at December 31, 2009.
Insurance premium rate actions
The changes in premiums written attributable to rate changes of the Property and Casualty Group directly affect the direct written premium levels and underwriting profitability of the Property and Casualty Group, the Exchange and us, and have a direct bearing on our management fees. Pricing actions contemplated or taken by the Property and Casualty Group are also subject to various regulatory requirements of the states in which these insurers operate. The pricing actions already implemented, or to be implemented through 2009, will also have an effect on the market competitiveness of the Property and Casualty Group’s insurance products. Such pricing actions, and those of competitors, could affect the ability of our agents to sell and/or renew business. We expect our pricing actions to result in a net increase in direct written premium in 2010, however, recessionary economic conditions could continue to adversely impact the average premium per policy written by the Property and Casualty Group.
Policy growth
Premium levels attributable to growth in policies in force of the Property and Casualty Group directly affect the profitability of our management operations. Our continued focus on underwriting discipline and the maturing of our pricing segmentation model has contributed to our growth in new policies in force and improved retention ratios. The continued growth of the policy base of the Property and Casualty Group is dependent upon the Property and Casualty Group’s ability to retain existing and attract new policyholders. A lack of new policy growth or the inability to retain existing customers could have an adverse effect on the growth of premium levels for the Property and Casualty Group, and, consequently, our management fees.
Catastrophe losses
The Property and Casualty Group conducts business in 11 states and the District of Columbia, primarily in the Mid-Atlantic, Mid-western and Southeastern portions of the United States. A substantial portion of the business is private passenger and commercial automobile, homeowners and workers compensation insurance in Ohio, Maryland, Virginia and, particularly, Pennsylvania. As a result, catastrophic events, destructive weather patterns, or changes in climate condition could materially adversely affect the results of operations and surplus position of the members of the Property and Casualty Group. Common catastrophe events include severe winter storms, hurricanes, earthquakes,

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tornadoes, wind and hail storms. In its homeowners line of insurance, the Property and Casualty Group is particularly exposed to an Atlantic hurricane, which might strike the states of North Carolina, Maryland, Virginia and Pennsylvania. The Property and Casualty Group maintains a property catastrophe reinsurance treaty with nonaffiliated reinsurers to mitigate the future potential catastrophe loss exposure. The property catastrophe reinsurance coverage in 2009 provided coverage of up to 95% of a loss of $400 million in excess of the Property and Casualty Group’s loss retention of $450 million per occurrence. This agreement was renewed for 2010 providing coverage of up to 95% of a loss of $500 million in excess of the Property and Casualty Group’s loss retention of $400 million per occurrence.
While the Property and Casualty Group is exposed to terrorism losses in commercial lines, including workers compensation, these lines are afforded a limited backstop above insurer deductibles for foreign acts of terrorism under the federal Terrorism Risk Insurance Program Reauthorization and Extension Act of 2007 that continues through December 31, 2014. The Property and Casualty Group has no personal lines terrorism coverage in place. Although current models suggest the most likely occurrences would not have a material impact on the Property and Casualty Group, there is a chance that if future terrorism attacks occur, the Property and Casualty Group could incur large losses.
Incurred but not reported (IBNR) losses
The Property and Casualty Group is exposed to new claims on previously closed files and to larger than historical settlements on pending and unreported claims. We are exposed to increased losses by virtue of our 5.5% participation in the intercompany reinsurance pooling agreement with the Exchange. We exercise professional diligence to establish reserves at the end of each period that are fully reflective of the ultimate value of all claims incurred. However, these reserves are, by their nature, only estimates and cannot be established with absolute certainty.
The reserves that have the greatest potential for variation are the massive injury reserves. The workers compensation product and the automobile no-fault law in Pennsylvania from 1975 until 1985 provided for unlimited medical benefits. The estimation of ultimate liabilities for these claims is subject to significant judgment due to variations in claimant health and mortality over time. Actual experience has the potential to be impacted by changes in laws as well as costs, such as attendant care, inflation rates and mortality. Actual experience, different than that assumed, could have a significant impact on the reserve estimates.
Market volatility
Our portfolio of fixed income, limited partnerships, preferred and common stocks are subject to significant market value changes especially in periods of instability in the worldwide financial markets. Uncertainty remains surrounding the general market conditions. The current volatility in the financial markets could have an adverse impact on our financial condition, operations and cash flows.
As of January 1, 2008, all changes to unrealized gains and losses on the common stock portfolio are recognized in investment income as net realized gains or losses in the Consolidated Statements of Operations. The fair value of the common stock portfolio is subject to fluctuation from period-to-period resulting from changes in prices. Depending upon market conditions, this could cause considerable fluctuation in reported total investment income.
Financial conditions
Financial markets have been experiencing an improvement in recent months although overall economic conditions remain challenging. Unfavorable changes in economic conditions, including declining consumer confidence, inflation, recession or other changes, may lead the Property and Casualty Group’s customers to cancel insurance policies, modify coverage or not renew policies, and the Group’s premium revenue, and consequently our management fee, could be adversely affected. Challenging economic conditions also may impair the ability of the Group’s customers to pay premiums as they fall due, and as a result, the Group’s reserves and write-offs could increase. The Group is unable to predict the uncertainty in financial markets and economic conditions in the United States and abroad.

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Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Market risk
Market risk is the risk of loss arising from adverse changes in market rates and prices, such as interest rates, as well as other relevant market rate or price changes. The volatility and liquidity in the markets in which the underlying assets are traded directly influence market risk. The following is a discussion of our primary risk exposures, including interest rate risk, equity price risk and credit risk, and how those exposures are currently managed as of December 31, 2009.
Interest rate risk
We invest primarily in fixed maturity investments, which comprised 67.8% of invested assets at December 31, 2009. The value of the fixed maturity portfolio is subject to interest rate risk. As market interest rates decrease, the value of the portfolio goes up with the opposite holding true in rising interest rate environments. We do not hedge our exposure to interest rate risk since we have the capacity and intention to hold the fixed maturity positions until maturity. A common measure of the interest sensitivity of fixed maturity assets is modified duration, a calculation that utilizes maturity, coupon rate, yield and call terms to calculate an average age of the expected cash flows. The longer the duration, the more sensitive the asset is to market interest rate fluctuations. Convexity measures the rate of change of duration with respect to changes in interest rates. These factors are analyzed monthly to ensure that both the duration and convexity remain in the targeted ranges we established.
A sensitivity analysis is used to measure the potential loss in future earnings, fair values or cash flows of market-sensitive instruments resulting from one or more selected hypothetical changes in interest rates and other market rates or prices over a selected period. In our sensitivity analysis model, a hypothetical change in market rates is selected that is expected to reflect reasonably possible changes in those rates. The following pro forma information is presented assuming a 100-basis point increase in interest rates at December 31 of each year and reflects the estimated effect on the fair value of our fixed maturity investment portfolio. We used the modified duration of our fixed maturity investment portfolio to model the pro forma effect of a change in interest rates at December 31, 2009 and 2008.
Fixed maturities interest-rate sensitivity analysis
                 
    As of December 31,
(in thousands)   2009   2008
 
Fair value of fixed income portfolio
  $ 664,026     $ 563,429  
Fair value assuming 100-basis point rise in interest rates
    635,392       552,260  
 
Modified duration
    4.35       3.45  
 
While the fixed income portfolio is sensitive to interest rates, the future principal cash flows that will be received are presented as follows by contractual maturity date. Actual cash flows may differ from those stated as a result of calls, prepayments or defaults. The $25 million surplus note due from EFL is included in the principal cash flows and is due in 2018.
         
(in thousands)   December 31, 2009
 
Fixed maturities, including note from EFL:
       
2010
  $ 38,941  
2011
    33,717  
2012
    70,454  
2013
    81,180  
2014
    63,710  
Thereafter
    381,731  
 
Total
  $ 669,733  
 
Fair value
  $ 689,026  
 

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(in thousands)   December 31, 2008
 
Fixed maturities, including note from EFL:
       
2009
  $ 52,212  
2010
    48,775  
2011
    45,837  
2012
    67,232  
2013
    82,105  
Thereafter
    351,974  
 
Total
  $ 648,135  
 
Fair value
  $ 588,429  
 
Equity price risk
Our portfolio of marketable equity securities, which is carried on the Consolidated Statements of Financial Position at estimated fair value, has exposure to price risk, the risk of potential loss in estimated fair value resulting from an adverse change in prices. We do not hedge our exposure to equity price risk inherent in our equity investments. Our objective is to earn competitive relative returns by investing in a diverse portfolio of high-quality, liquid securities. Portfolio holdings are diversified across industries and among exchange-traded small- to large-cap stocks. We measure risk by comparing the performance of the marketable equity portfolio to benchmark returns such as the Standard & Poors (S&P) 500 Composite Index. Beta is a measure of a security’s systematic (non-diversifiable) risk, which is the percentage change in an individual security’s return for a 1% change in the return of the market. The average Beta for our common stock holdings was 1.04. Based on a hypothetical 20% reduction in the overall value of the stock market, the fair value of the common stock portfolio would decrease by approximately $8.8 million.
Credit risk
Our objective is to earn competitive returns by investing in a diversified portfolio of securities. Our portfolios of fixed maturity securities, nonredeemable preferred stock, mortgage loans and, to a lesser extent, short-term investments are subject to credit risk. This risk is defined as the potential loss in fair value resulting from adverse changes in the borrower’s ability to repay the debt. We manage this risk by performing upfront underwriting analysis and ongoing reviews of credit quality by position and for the fixed maturity portfolio in total. We do not hedge the credit risk inherent in our fixed maturity investments.
Generally, the fixed maturities in our portfolio are rated by external rating agencies. If not externally rated, we rate them internally on a basis consistent with that used by the rating agencies. We classify all fixed maturities as available-for-sale securities, allowing us to meet our liquidity needs and provide greater flexibility to appropriately respond to changes in market conditions. The following table shows our fixed maturity investments by S&P rating as of December 31, 2009:
                         
(in thousands)   Amortized   Fair   Percent
Comparable S&P Rating   cost   value   of total
 
AAA, AA, A
  $ 401,348     $ 414,488       62.4 %
BBB
    207,371       214,720       32.4  
 
Total investment grade
    608,719       629,208       94.8  
 
BB
    25,411       26,849       4.0  
B
    5,786       5,133       0.8  
CCC, CC, C
    2,291       2,836       0.4  
 
Total non-investment grade
    33,488       34,818       5.2  
 
Total
  $ 642,207     $ 664,026       100.0 %
 

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Approximately 5.2%, or $34.2 million, of our fixed income portfolio is invested in structured products which include mortgage-backed securities (MBS), collateralized debt and loan obligations (CDO and CLO), collateralized mortgage obligations (CMO), asset-backed (ABS) and credit-linked notes. Our structured product portfolio has an average rating of A or higher. We believe we have no direct exposure to the subprime residential mortgage market through investments in structured products. However, we have indirect exposure through bond and preferred stock investments in the financial service industry. We continually monitor these investments for material declines in quality and value.
Our municipal bond portfolio accounts for $243.7 million, or 36.7%, of the total fixed maturity portfolio. Of this $243.7 million, $175.4 million, or 72%, of the total municipal bond portfolio is insured. This insurance guarantees the payment of principal and interest on a bond if the issuer defaults. Using the underlying rating of the bonds without consideration of insurance, the overall credit quality rating of our municipal bond portfolio is AA-. Because of the rating downgrades of municipal bond insurers, the insurance does not improve the overall credit ratings. The following table presents an analysis of our municipal bond ratings at December 31, 2009.
                                                         
(in thousands)
(1)   (2)   (3)
Uninsured bonds   Insured bonds   Underlying rating of insured bonds
            Fair value               Fair value               Fair value
Rating   Fair value   %   Rating   Fair value   %   Rating   Fair value   %
         
AAA
  $ 32,275       47.2 %   AAA   $ 6,947       3.9 %   AAA   $ 0       0.0 %
AA
    27,491       40.2     AA     104,316       59.5     AA     83,404       47.6  
A
    7,564       11.1     A     58,975       33.6     A     80,350       45.8  
BBB
    1,000       1.5     BBB     5,166       3.0     BBB     6,900       3.9  
Non Inv Grade
    0       0.0     Non Inv Grade     0       0.0     Non Inv Grade     1,581       0.9  
         
Not rated
    0       0.0     Not rated     0       0.0     Not rated     3,169       1.8  
         
AA
  $ 68,330       100.0 %   AA-   $ 175,404       100.0 %   A+   $ 175,404       100.0 %
         
 
                                                       
(1) + (2)     (1) + (3)              
Total bonds (with insured rating)   Total bonds (with underlying rating)                    
            Fair value                 Fair value                      
Rating   Fair value     %     Rating   Fair value     %                      
                         
AAA
  $ 39,222       16.1 %   AAA   $ 32,275       13.2 %                    
AA
    131,807       54.1     AA     110,895       45.5                      
A
    66,539       27.3     A     87,914       36.1                      
BBB
    6,166       2.5     BBB     7,900       3.2                      
Non Inv Grade
    0       0.0     Non Inv Grade     1,581       0.7                      
                         
Not rated
    0       0.0     Not rated     3,169       1.3                      
                         
AA-
  $ 243,734       100.0 %   AA-   $ 243,734       100.0 %                    
                         
In our limited partnership investment portfolio we are exposed to credit risk, as well as price risk. Price risk is defined as the potential loss in estimated fair value resulting from an adverse change in prices. Our investments are directly affected by the impact of changes in these risk factors on the underlying investments held by our fund managers, which could vary significantly from fund to fund. We manage these risks by performing up front due diligence on our fund managers, ongoing monitoring and through the construction of a diversified portfolio.
We are also exposed to a concentration of credit risk with the Exchange. See the section, “Transactions and Agreements with Related Parties,” for further discussion of this risk.

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Item 8. Financial Statements and Supplementary Data
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Shareholders
     of Erie Indemnity Company
Erie, Pennsylvania
We have audited Erie Indemnity Company’s internal control over financial reporting as of December 31, 2009, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Erie Indemnity Company’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, Erie Indemnity Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2009, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated statements of financial position of Erie Indemnity Company as of December 31, 2009 and 2008, and the related consolidated statements of operations, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2009 of Erie Indemnity Company and our report dated February 25, 2010 expressed an unqualified opinion thereon.
         
     
/s/ Ernst & Young, LLP      
 
Cleveland, Ohio     
February 25, 2010    

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Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders
    of Erie Indemnity Company
Erie, Pennsylvania
We have audited the accompanying consolidated statements of financial position of Erie Indemnity Company as of December 31, 2009 and 2008, and the related consolidated statements of operations, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2009. Our audits also include the financial statement schedules listed in the Index at 15(a). These financial statements and schedules are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Erie Indemnity Company at December 31, 2009 and 2008, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2009, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
As discussed in Note 2 to the consolidated financial statements, in 2009 the Company changed its method of accounting for recognizing other-than-temporary impairment charges for its debt securities in connection with the adoption of the revised Financial Accounting Standards Board’s other-than-temporary impairment model. As discussed in Note 5 to the consolidated financial statements, in 2008 the Company changed its method of accounting for its common stock portfolio in connection with the adoption of the fair value option.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Erie Indemnity Company’s internal control over financial reporting as of December 31, 2009, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 25, 2010 expressed an unqualified opinion thereon.
         
     
/s/ Ernst & Young, LLP      
 
Cleveland, Ohio     
February 25, 2010    

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ERIE INDEMNITY COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
Years ended December 31, 2009, 2008 and 2007
(dollars in thousands, except per share data)
                         
    2009     2008     2007  
Operating revenue
                       
Management fee revenue, net
  $ 912,023     $ 897,526     $ 894,981  
Premiums earned
    209,457       207,407       207,562  
Service agreement revenue
    34,783       32,298       29,748  
 
                 
Total operating revenue
    1,156,263       1,137,231       1,132,291  
 
                       
Operating expenses
                       
Cost of management operations
    768,668       765,012       755,642  
Losses and loss expenses incurred
    145,452       137,167       125,903  
Policy acquisition and other underwriting expenses
    54,025       49,218       48,909  
 
                 
Total operating expenses
    968,145       951,397       930,454  
 
                       
Investment (loss) income — unaffiliated
                       
Investment income, net of expenses
    41,728       44,181       52,833  
Net realized gains (losses) on investments
    10,396       (43,515 )     17,265  
Net impairment losses recognized in earnings
    (12,059 )     (69,504 )     (22,457 )
Equity in (losses) earnings of limited partnerships
    (76,108 )     5,710       59,690  
 
                 
Total investment (loss) income — unaffiliated
    (36,043 )     (63,128 )     107,331  
 
                 
 
                       
Income before income taxes and equity in earnings (losses) of Erie Family Life Insurance
    152,075       122,706       309,168  
Provision for income taxes
    (48,787 )     (39,865 )     (99,137 )
Equity in earnings (losses) of Erie Family Life Insurance, net of tax
    5,202       (13,603 )     2,914  
 
                 
Net income
  $ 108,490     $ 69,238     $ 212,945  
 
                 
 
                       
Net income per share
                       
Class A common stock — basic
  $ 2.10     $ 1.34     $ 3.80  
 
                 
Class A common stock — diluted
  $ 1.89     $ 1.19     $ 3.43  
 
                 
Class B common stock — basic
  $ 312.45     $ 204.20     $ 572.98  
 
                 
 
                       
Weighted average shares outstanding — basic
                       
Class A common stock
    51,250,606       51,824,649       55,928,177  
 
                 
Class B common stock
    2,549       2,551       2,563  
 
                 
Weighted average shares outstanding — diluted
                       
Class A common stock
    57,385,228       57,967,144       62,096,816  
 
                 
Class B common stock
    2,549       2,551       2,563  
 
                 
See accompanying notes to Consolidated Financial Statements.

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ERIE INDEMNITY COMPANY
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
As of December 31, 2009 and 2008
(dollars in thousands)
                 
    2009     2008  
Assets
               
 
               
Investments
               
Available-for-sale securities, at fair value:
               
Fixed maturities (amortized cost of $642,207 and $597,672, respectively)
  $ 664,026     $ 563,429  
Equity securities (cost of $34,848 and $59,958, respectively)
    37,725       55,281  
Trading securities, at fair value (cost of $35,752 and $37,835, respectively)
    42,153       33,338  
Limited partnerships (cost of $280,576 and $272,144, respectively)
    234,980       299,176  
Real estate mortgage loans
    1,116       1,215  
 
           
Total investments
    980,000       952,439  
 
               
Cash and cash equivalents
    76,505       61,073  
Accrued investment income
    8,654       8,420  
Premiums receivable from policyholders
    237,229       244,760  
Federal income taxes recoverable
    12,709       7,498  
Deferred income taxes
    40,834       72,875  
Reinsurance recoverable from Erie Insurance Exchange on unpaid losses and loss expense
    777,968       777,754  
Ceded unearned premiums to Erie Insurance Exchange
    124,242       109,613  
Note receivable from Erie Family Life Insurance
    25,000       25,000  
Other receivables due from Erie Insurance Exchange and affiliates
    212,502       218,243  
Reinsurance recoverable from non-affiliates
    1,940       1,944  
Deferred policy acquisition costs
    17,229       16,531  
Equity in Erie Family Life Insurance
    71,934       29,236  
Securities lending collateral
    0       18,155  
Other assets
    79,771       69,845  
 
           
Total assets
  $ 2,666,517     $ 2,613,386  
 
           

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ERIE INDEMNITY COMPANY
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
As of December 31, 2009 and 2008
(dollars in thousands, except share data)
                 
    2009     2008  
Liabilities and shareholders’ equity
               
 
               
Liabilities
               
Unpaid losses and loss expenses
  $ 965,420     $ 965,081  
Unearned premiums
    433,659       424,370  
Commissions payable
    125,315       126,208  
Agent bonuses
    68,902       81,269  
Securities lending collateral
    0       18,155  
Accounts payable and accrued expenses
    58,636       51,333  
Deferred executive compensation
    15,076       15,152  
Dividends payable
    24,761       23,249  
Defined benefit pension plan liability
    57,089       97,682  
Employee benefit obligations
    15,682       19,012  
 
           
Total liabilities
    1,764,540       1,821,511  
 
           
 
               
Shareholders’ equity
               
Capital stock:
               
Class A common, stated value $0.0292 per share; authorized 74,996,930 shares; 68,289,600 and 68,277,600 shares issued, respectively; 51,203,473 and 51,282,893 shares outstanding, respectively
    1,992       1,991  
Class B common, convertible at a rate of 2,400 Class A shares for one Class B share, stated value $70 per share; 2,546 and 2,551 shares authorized, issued and outstanding, respectively
    178       179  
Additional paid-in capital
    7,830       7,830  
Accumulated other comprehensive loss
    (43,330 )     (135,854 )
 
               
Retained earnings, before cumulative effect adjustment
    1,742,717       1,717,499  
Cumulative effect of accounting changes, net of tax
    6,692       11,191  
 
           
Retained earnings, after cumulative effect adjustment
    1,749,409       1,728,690  
 
           
Total contributed capital and retained earnings
    1,716,079       1,602,836  
Treasury stock, at cost, 17,086,127 and 16,994,707 shares, respectively
    (814,102 )     (810,961 )
 
           
Total shareholders’ equity
    901,977       791,875  
 
           
Total liabilities and shareholders’ equity
  $ 2,666,517     $ 2,613,386  
 
           
See accompanying notes to Consolidated Financial Statements.

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ERIE INDEMNITY COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2009, 2008 and 2007
(dollars in thousands)
                         
    2009     2008     2007  
Cash flows from operating activities
                       
Management fee received
  $ 912,494     $ 898,128     $ 889,813  
Service agreement fee received
    34,583       32,097       29,648  
Premiums collected
    213,588       208,097       207,491  
Settlement of commutation received from Exchange
    0       0       6,782  
Net investment income received
    45,162       51,941       55,031  
Limited partnership distributions
    12,788       29,111       78,960  
Increase (decrease) in reimbursements collected from affiliates
    3,503       (7,437 )     17,861  
Commissions paid to agents
    (453,570 )     (439,162 )     (435,163 )
Agents bonuses paid
    (81,108 )     (95,127 )     (91,955 )
Salaries and wages paid
    (109,701 )     (110,813 )     (111,794 )
Pension contribution and employee benefits paid
    (31,827 )     (48,146 )     (31,989 )
Losses paid
    (123,284 )     (121,064 )     (114,624 )
Loss expenses paid
    (22,044 )     (21,428 )     (19,817 )
Other underwriting and acquisition costs paid
    (54,403 )     (52,054 )     (49,115 )
General operating expenses paid
    (103,816 )     (104,298 )     (73,458 )
Interest paid on bank line of credit
    0       (1,000 )      
Income taxes paid
    (62,200 )     (68,000 )     (103,905 )
 
                 
Net cash provided by operating activities
    180,165       150,845       253,766  
 
                 
 
                       
Cash flows from investing activities
                       
Purchase of investments:
                       
Fixed maturities
    (157,934 )     (162,186 )     (149,826 )
Preferred stock
    (13,626 )     (36,874 )     (87,351 )
Common stock
    (24,768 )     (67,578 )     (92,783 )
Additional investment in Erie Family Life Insurance
    (11,897 )            
Limited partnerships
    (25,777 )     (55,974 )     (87,503 )
Sales/maturities of investments:
                       
Fixed maturity sales
    56,548       128,733       180,433  
Fixed maturity calls/maturities
    62,703       102,201       85,590  
Preferred stock
    37,850       48,939       95,112  
Common stock
    24,119       106,581       99,869  
Sale of and returns on limited partnerships
    2,545       21,135       9,995  
(Purchase) disposal of property and equipment
    (16,246 )     (8,279 )     100  
Net distributions on agent loans
    (2,158 )     (3,220 )     (8,805 )
 
                 
Net cash (used in) provided by investing activities
    (68,641 )     73,478       44,831  
 
                 
 
                       
Cash flows from financing activities
                       
Purchase of treasury stock
    (3,141 )     (102,018 )     (236,713 )
Dividends paid to shareholders
    (92,951 )     (92,302 )     (91,055 )
(Decrease) increase in collateral from securities lending
    (18,155 )     (12,216 )     7,585  
Redemption (acquisition) of securities lending collateral
    18,155       12,216       (7,585 )
Proceeds from bank line of credit
    0       75,000        
Payments on bank line of credit
    0       (75,000 )      
 
                 
Net cash used in financing activities
    (96,092 )     (194,320 )     (327,768 )
 
                 
 
                       
Net increase (decrease) in cash and cash equivalents
    15,432       30,003       (29,171 )
Cash and cash equivalents at beginning of year
    61,073       31,070       60,241  
 
                 
Cash and cash equivalents at end of year
  $ 76,505     $ 61,073     $ 31,070  
 
                 
See accompanying notes to Consolidated Financial Statements.

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ERIE INDEMNITY COMPANY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
(dollars in thousands, except per share data)
                                                                 
                            Accumulated                          
    Total                     other     Class A     Class B     Additional        
    shareholders’     Comprehensive     Retained     comprehensive     common     common     paid-in     Treasury  
    equity     Income (loss)     earnings     income (loss)     stock     stock     capital     stock  
 
Balance, December 31, 2006
  $ 1,161,848             $ 1,618,656     $ 5,422     $ 1,990     $ 180     $ 7,830     $ (472,230 )
 
Comprehensive income:
                                                               
Net income
    212,945     $ 212,945       212,945                                          
Other comprehensive income (loss):
                                                               
Unrealized loss on securities, net of tax (Note 8)
    (11,427 )     (11,427 )             (11,427 )                                
Postretirement plans (Note 8):
                                                               
Prior service cost, net of tax
    222       222               222                                  
Net actuarial gain, net of tax
    12,901       12,901               12,901                                  
Loss due to amendments, net of tax
    (867 )     (867 )             (867 )                                
Curtailment/settlement gain, net of tax
    3,797       3,797               3,797                                  
                                                   
Postretirement plans, net of tax
    16,053       16,053               16,053                                  
                                                   
Comprehensive income
          $ 217,571                                                  
 
                                                             
Purchase of treasury stock
    (236,713 )                                                     (236,713 )
Conversion of Class B shares to Class A shares
                                  1       (1 )                
Dividends declared:
                                                               
Class A $1.64 per share
    (90,797 )             (90,797 )                                        
Class B $246.00 per share
    (630 )             (630 )                                        
 
Balance, December 31, 2007
  $ 1,051,279             $ 1,740,174     $ 10,048     $ 1,991     $ 179     $ 7,830     $ (708,943 )
 
Comprehensive loss:
                                                               
Net income
    69,238     $ 69,238       69,238                                          
Other comprehensive income (loss):
                                                               
Unrealized loss on securities, net of tax (Note 8)
    (44,135 )     (44,135 )             (44,135 )                                
Cumulative effect of accounting changes, net of tax (Note 5)
                  11,191       (11,191 )                                
Postretirement plans (Note 8):
                                                               
Prior service cost, net of tax
    121       121               121                                  
Net actuarial loss, net of tax
    (90,571 )     (90,571 )             (90,571 )                                
Gain due to amendments, net of tax
    33       33               33                                  
Curtailment/settlement loss, net of tax
    (159 )     (159 )             (159 )                                
                                                   
Postretirement plans, net of tax
    (90,576 )     (90,576 )             (90,576 )                                
                                                   
Comprehensive loss
          $ (65,473 )                                                
 
                                                             
Purchase of treasury stock
    (102,018 )                                                     (102,018 )
Dividends declared:
                                                               
Class A $1.77 per share
    (91,236 )             (91,236 )                                        
Class B $265.50 per share
    (677 )             (677 )                                        
 
Balance, December 31, 2008
  $ 791,875             $ 1,728,690     $ (135,854 )   $ 1,991     $ 179     $ 7,830     $ (810,961 )
 
Comprehensive loss:
                                                               
Net income
    108,490       108,490       108,490                                          
Other comprehensive income (loss):
                                                               
Unrealized gain on securities, net of tax (Note 8)
    74,745       74,745               74,745                                  
Cumulative effect of accounting changes, net of tax (Note 2)
                  6,692       (6,692 )                                
Postretirement plans (Note 8):
                                                               
Prior service cost, net of tax
    379       379               379                                  
Net actuarial gain, net of tax
    26,972       26,972               26,972                                  
Loss due to amendments, net of tax
    (2,129 )     (2,129 )             (2,129 )                                
Curtailment/settlement loss, net of tax
    (751 )     (751 )             (751 )                                
                                                   
Postretirement plans, net of tax
    24,471       24,471               24,471                                  
                                                   
Comprehensive income
          $ 207,706                                                  
 
                                                             
Purchase of treasury stock
    (3,141 )                                                     (3,141 )
Conversion of Class B shares to Class A shares
                                  1       (1 )                
Dividends declared:
                                                               
Class A $1.83 per share
    (93,764 )             (93,764 )                                        
Class B $274.50 per share
    (699 )             (699 )                                        
 
Balance, December 31, 2009
  $ 901,977             $ 1,749,409     $ (43,330 )   $ 1,992     $ 178     $ 7,830     $ (814,102 )
 
See accompanying notes to Consolidated Financial Statements.

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Nature of operations
Erie Indemnity Company (“Indemnity” or “Company”) is a publicly held Pennsylvania business corporation that since 1925 has been the managing Attorney-in-Fact for the subscribers of Erie Insurance Exchange (“Exchange”). The Exchange is a subscriber (policyholder) owned Pennsylvania-domiciled reciprocal insurer that writes property/casualty insurance. Our primary function is to perform certain services for the Exchange relating to sales, underwriting and issuance of policies on behalf of the Exchange. This is done in accordance with a subscribers agreement (a limited power of attorney) executed by each subscriber (policyholder), appointing us as their common attorney-in-fact to transact business on their behalf and to manage their affairs at the Exchange. We earn a management fee from the Exchange for these services.
The Exchange and its wholly-owned subsidiary, Flagship City Insurance Company (“Flagship”) and the Indemnity’s wholly-owned subsidiaries, Erie Insurance Company (“EIC”), Erie Insurance Company of New York (“ENY”) and the Erie Insurance Property and Casualty Company (“EPC”), comprise the Property and Casualty Group. The Property and Casualty Group is a regional insurance group operating in 11 Midwestern, Mid-Atlantic, and Southeastern states and the District of Columbia. The Property and Casualty Group primarily writes personal auto insurance, which comprises 48% of its 2009 direct premiums.
The Indemnity also owns 21.6% of the common stock of the Erie Family Life Insurance Company (“EFL”), an affiliated life insurance company; the Exchange owns the remaining 78.4%. EFL underwrites and sells nonparticipating individual and group life insurance policies and fixed annuities.
The Indemnity, together with the members of the Property and Casualty Group and EFL, operate collectively as the Erie Insurance Group (“Group”).
Note 2. Significant accounting policies
Basis of presentation
The accompanying consolidated financial statements have been prepared in conformity with U.S. generally accepted accounting principles (GAAP) that differ from statutory accounting practices prescribed or permitted for insurance companies by regulatory authorities. See also Note 19. The consolidated financial statements include our accounts and those of our wholly-owned subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation. The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Reclassifications
Certain amounts previously reported in the 2008 financial statements have been reclassified to conform to the current period’s presentation. Such reclassifications only affected the Consolidated Statements of Operations and Cash Flows. The reclassifications in the Consolidated Statements of Operations resulted from new accounting guidance (See Note 5). These reclassifications had no effect on previously reported net income.
Investments
Available-for-sale securities — Fixed maturity and preferred stock securities are classified as available-for-sale and are reported at fair value. Unrealized holding gains and losses, net of related tax effects, on fixed maturities and preferred stock are charged or credited directly to shareholders’ equity as accumulated other comprehensive (loss) income.
Realized gains and losses on sales of fixed maturity and preferred stock securities are recognized in income based upon the specific identification method. Interest and dividend income are recognized as earned.
Fixed income and redeemable preferred stock (debt securities) are evaluated monthly for other-than-temporary impairment loss. For debt securities that have experienced a decline in fair value and we intend to sell or for which it is

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 2. Significant accounting policies (continued)
more likely than not we will be required to sell the security before recovery of its amortized cost, an other-than-temporary impairment is deemed to have occurred and is recognized in earnings.
Debt securities that have experienced a decline in fair value and that we do not intend to sell, and that we will not be required to sell before recovery, are evaluated to determine if the decline in fair value is other-than-temporary.
Some factors considered in this evaluation include:
    the extent and duration to which fair value is less than cost;
 
    historical operating performance and financial condition of the issuer;
 
    short and long-term prospects of the issuer and its industry based on analysts’ recommendations;
 
    specific events that occurred affecting the issuer, including a ratings downgrade;
 
    near term liquidity position of the issuer; and
 
    compliance with financial covenants.
If a decline is deemed to be other-than-temporary, an assessment is made to determine the amount of the total impairment related to a credit loss and that related to all other factors. Consideration is given to all available information relevant to the collectibility of the security in this determination. If the entire amortized cost basis of the security will not be recovered, a credit loss exists. Currently, we have the intent to sell all of our securities that have been determined to have a credit-related impairment. As a result, the entire amount of the impairment has been recognized in earnings. If we had securities with credit impairments that we did not intend to sell, the non-credit portion of the impairment would have been recorded in other comprehensive income.
Impairment charges on non-redeemable preferred securities and hybrid securities with equity characteristics are included in earnings consistent with the treatment for equity securities. This is a more conservative approach since the lack of a final maturity and unlikelihood of a call means recovery is uncertain and would occur over a multi-year period.
Trading securities — Common stock securities were reclassified from available-for-sale at December 31, 2007 to trading on January 1, 2008 upon our election to report our common stock portfolio at fair value. As of January 1, 2008, unrealized gains and losses on these securities are included in net realized (losses) gains in the Consolidated Statements of Operations. Realized gains and losses on sales of common stock are recognized in income based upon the specific identification method. Dividend income is recognized as earned.
Limited partnerships — Limited partnerships include U.S. and foreign private equity, real estate and mezzanine debt investments. The private equity limited partnerships invest primarily in small- to medium-sized companies. The general partners for our limited partnerships determine the market value of investments in the partnerships including any other-than-temporary impairments of these individual investments.
The primary basis for the valuation of limited partnership interests are financial statements prepared by the general partner. Because of the timing of the preparation and delivery of these financial statements, the use of the most recently available financial statements provided by the general partners result in a quarter delay in the inclusion of the limited partnership results in our Consolidated Statements of Operations. Due to this delay, these financial statements do not yet reflect the market conditions experienced in the fourth quarter of 2009.
Nearly all of the underlying investments in our limited partnerships are valued using a source other than quoted prices in active markets. The fair value amounts for our private equity and mezzanine debt partnerships are based on the financial statements of the general partners, who use multiple methods to estimate fair value including the market approach, income approach and/or the cost approach. The market approach uses prices and other pertinent information from market-generated transactions involving identical or comparable assets or liabilities. Such valuation techniques often use market multiples derived from a set of comparables. The income approach uses valuation techniques to convert future cash flows

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 2. Significant accounting policies (continued)
or earnings to a single discounted present value amount. The measurement is based on the value indicated by current market expectations on those future amounts. The cost approach is derived from the amount that is currently required to replace the service capacity of an asset. If information becomes available that would impair the cost of these partnerships, then the general partner would generally adjust to the net realizable value.
For real estate limited partnerships, the general partners record these at fair value based on an independent appraisal or internal estimates of fair value.
We perform various procedures in review of the general partners’ valuations. While we generally rely on the general partners’ financial statements as the best available information to record our share of the partnership unrealized gains and losses resulting from valuation changes, we adjust our financial statements for impairments at the fund level as necessary. There were no valuation changes in 2009, 2008 or 2007. As there is a limited market for these investments, they have the greatest potential for market price variability.
Unrealized gains and losses for these investments are reflected in equity in earnings (losses) on limited partnerships in our Consolidated Statements of Operations in accordance with the equity method of accounting. Cash contributions made to and distributions received from the partnerships are recorded in the period in which the transaction occurs.
Cash and cash equivalents — Cash equivalents are principally comprised of investments in bank money market funds and approximate fair value.
Insurance liabilities
The liability for losses and loss expenses includes estimates for claims that have been reported and those that have been incurred but not reported, and estimates of all expenses associated with processing and settling these claims. Estimating the ultimate cost of future losses and loss expenses is an uncertain and complex process. This estimation process is based significantly on the assumption that past developments are an appropriate indicator of future events, and involves a variety of actuarial techniques that analyze experience, trends and other relevant factors. The uncertainties involved with the reserving process include internal factors, such as changes in claims handling procedures, as well as external factors, such as economic trends and changes in the concepts of legal liability and damage awards. Accordingly, final loss settlements may vary from the present estimates, particularly when those payments may not occur until well into the future.
We regularly review the adequacy of our estimated loss and loss expense reserves by line of business. Adjustments to previously established reserves are reflected in the operating results of the period in which the adjustment is determined to be necessary. Such adjustments could possibly be significant, reflecting any variety of new and adverse or favorable trends.
Agent bonus estimates
Agent bonuses are based on an individual agency’s property/casualty underwriting profitability and also include a component for growth in agency property/casualty premiums if the agency’s underwriting profitability targets for our book of business are met. The estimate for agent bonuses, which are based on the performance over 36 months, is modeled on a monthly basis using actual underwriting data by agency for the two prior years combined with the current year-to-date actual data. At December 31 of each year, we use actual data available and record an accrual based on the expected payment amount. These costs are included in the cost of management operations in the Consolidated Statements of Operations.
Deferred taxes
Deferred tax assets and liabilities are recorded for temporary differences between the tax basis of assets and liabilities and their reported amounts in the consolidated financial statements using the statutory tax rates in effect for the year in which the differences are expected to reverse. The effect on deferred tax assets and liabilities of a change in tax rates is

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 2. Significant accounting policies (continued)
recognized in the results of operations in the period that includes the enactment date under the law. Valuation allowances on deferred tax assets are estimated based on our assessment of the realizability of such amounts.
Recognition of management fee revenue
We earn management fees from the Exchange for providing sales, underwriting and policy issuance services. The management fee revenue is calculated as a percentage of the direct written premium of the Property and Casualty Group. The Exchange issues policies with annual terms only. Management fees are recorded as revenue upon policy issuance or renewal, as substantially all of the services required to be performed by us have been satisfied at that time. Certain activities are performed and related costs are incurred by us subsequent to policy issuance in connection with the services provided to the Exchange; however, these activities are inconsequential and perfunctory.
Recognition of premium revenues and losses
Insurance premiums written are earned over the terms of the policies on a pro-rata basis. Unearned premiums represent that portion of premiums written which is applicable to the unexpired terms of policies in force. Losses and loss expenses are recorded as incurred. Premiums earned and losses and loss expenses incurred are reflected net of amounts ceded to the Exchange on the Consolidated Statements of Operations. See also Note 18.
Recognition of service agreement revenue
Included in service agreement revenue are service charges we collect from policyholders for providing multiple payment plans on policies written by the Property and Casualty Group. Service charges, which are flat dollar charges for each installment billed beyond the first installment, are recognized as revenue when bills are rendered to the policyholder. Service agreement revenues also includes late payment and policy reinstatement fees.
Recent accounting pronouncements
In June 2009, the FASB updated ASC 810, Consolidations, that amended the guidance for determining whether an enterprise is the primary beneficiary of a variable interest entity (VIE) by requiring a qualitative analysis to determine if an enterprise’s variable interest results in a controlling financial interest. A primary beneficiary is expected to be identified through qualitative analysis, which evaluates the power to direct activities of the VIE, including its economic performance and the right to receive benefits from the VIE that are significant. This guidance is effective for fiscal years that begin after November 15, 2009. Under the current quantitative analysis, although we hold a variable interest in it, we are not deemed to be the primary beneficiary of the Exchange (see Note 17), and the Exchange’s financial statements are not consolidated with ours. Under the amended guidance we will have a controlling financial interest in the Exchange, by virtue of our attorney-in-fact relationship with the Exchange, and consolidation of the Exchange in our financial statements will be required effective for our first quarter 2010 financial statements. This will require that the Exchange’s financial statements, which are currently only prepared in accordance with statutory accounting principles, be prepared in accordance with GAAP. The Company will be required to incorporate the Exchange’s financial reporting process into its Sarbanes-Oxley 404 internal control reporting requirements. Given the materiality of the Exchange’s operations, consolidating the Exchange’s financial statements with the Company’s will materially change our reporting entity’s assets, liabilities, revenues, expenses, related footnote disclosures and the overall presentation of management’s discussion and analysis. The Exchange’s equity will be shown as noncontrolling interests in such consolidated statements and the net income and equity attributable to the shareholders will be unchanged by this presentation.
FASB ASC 855, Subsequent Events, was issued in June 2009 to establish general standards of accounting for and disclosure of events that occur after the balance sheet date but before the financial statements are issued or available to be issued. This statement became effective for periods ending after June 15, 2009.

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 2. Significant accounting policies (continued)
On July 1, 2009, we adopted new accounting guidance related to the codification of accounting standards and the hierarchy of GAAP established by the Financial Accounting Standards Board (the “FASB”). This accounting guidance established two levels of GAAP, authoritative and nonauthoritative. The FASB Accounting Standards Codification (the “Codification”) is the source of authoritative, nongovernmental GAAP, except for rules and interpretive releases of the SEC, which are also sources of authoritative GAAP for SEC registrants. All other accounting literature is nonauthoritative. There was no impact on our consolidated financial statements upon adoption of this standard.
In April 2009, the Financial Accounting Standards Board provided additional application guidance and enhanced disclosure requirements regarding fair value measurements and impairments of securities as follows:
    FASB ASC 820, Fair Value Measurements and Disclosures, provides additional guidance for estimating fair value when the volume and level of activity for the asset or liability have significantly decreased in relation to normal market activity. This guidance states a reporting entity shall evaluate circumstances to determine whether the transaction is orderly based on the weight of the evidence. The additional disclosures required by this guidance, including the inputs and valuation techniques used to measure fair values and any changes in such, have been included in Note 5.
 
    FASB ASC 825, Financial Instruments, requires disclosures about fair value of financial instruments for interim reporting periods as well as in annual financial statements. We adopted this guidance in the second quarter of 2009 and the additional fair value disclosures were provided in the interim periods. See annual disclosures in Note 5.
 
    On April 1, 2009, we adopted new accounting guidance under FASB ASC 320, Investments — Debt and Equity Securities. This guidance amended the other-than-temporary impairment (OTTI) model for debt securities and requires that credit-related losses and securities in an unrealized loss position that we intend to sell be recognized in earnings, with the remaining decline recognized in other comprehensive income. Additionally, this accounting guidance modified the presentation of OTTI in the statement of operations with the total OTTI presented along with an offset for the amount of OTTI recognized in other comprehensive income. Disclosures include further disaggregation of securities, methodology, inputs related to credit-related loss impairments and a rollforward of credit-related loss impairments. The adoption of this guidance required a cumulative effect adjustment to reclass previously recognized non-credit other-than-temporary impairments from retained earnings to other comprehensive income. The net impact of the cumulative effect adjustment increased retained earnings and decreased other comprehensive income by $6.7 million, net of tax. Disclosures regarding our impairment methodology are included in this note under the caption Investments. The remaining disclosures regarding credit and non-credit related impairments have been provided in Note 6.
In 2007, the FASB issued guidance under FASB ASC 325, Financial Instruments, that gave us the irrevocable option to report selected financial assets and liabilities at fair value and established presentation and disclosure requirements. We adopted the fair value option for our common stock portfolio. Beginning January 1, 2008, all changes in fair value of our common stock are recognized in earnings as they occur. The net impact of the cumulative effect adjustment for our common stock portfolio on January 1, 2008 increased retained earnings and reduced other comprehensive income by $11.2 million, net of tax. See also Note 5.
In 2006, FASB ASC 820, Fair Value Measurements and Disclosures, was updated to provide guidance for using fair value to measure assets and liabilities as well as enhances disclosures about fair value measurements which became effective for us on January 1, 2008. The standard did not expand the use of fair value in any new circumstances and thus, did not have an impact on our financial position, results of operations or cash flows. The guidance established a fair value hierarchy that prioritizes the inputs for valuation techniques used to measure fair value into three levels. The required disclosures concerning inputs used to measure fair value are included in Note 5.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 3. Earnings per share
Basic earnings per share are calculated under the two-class method which allocates earnings to each class of stock based on its dividend rights. Class B shares are convertible into Class A shares at a conversion ratio of 2,400 to 1. See Note 13. Class A diluted earnings per share are calculated under the if-converted method which reflects the conversion of Class B shares and the effect of a potentially dilutive outstanding employee stock-based award and awards not yet vested related to the outside directors’ stock compensation plan. The 2007 calculation also includes the effect of potentially dilutive outstanding employee stock-based awards under the pre-2004 long term incentive plan. See Note 11.
A reconciliation of the numerators and denominators used in the basic and diluted per-share computations is presented below for each class of common stock.
                                                                         
    For the years ended December 31,
    2009   2008   2007
    Allocated   Weighted   Per-   Allocated   Weighted   Per-   Allocated   Weighted   Per-
(dollars in thousands,   net income   shares   share   net income   shares   share   net income   shares   share
except per share data)   (numerator)   (denominator)   amount   (numerator)   (denominator)   amount   (numerator)   (denominator)   Amount
     
Class A — Basic EPS:
                                                                       
Income available to Class A stockholders
  $ 107,694       51,250,606     $ 2.10     $ 68,718       51,824,649     $ 1.34     $ 211,477       55,928,177     $ 3.80  
     
 
                                                                       
Dilutive effect of stock awards
    0       17,022             0       20,095             0       17,439        
     
 
                                                                       
Assumed conversion of Class B shares
    796       6,117,600             521       6,122,400             1,468       6,151,200        
     
 
                                                                       
Class A — Diluted EPS
                                                                       
Income available to Class A stockholders on Class A equivalent shares
  $ 108,490       57,385,228     $ 1.89     $ 69,239       57,967,144     $ 1.19     $ 212,945       62,096,816     $ 3.43  
     
 
                                                                       
Class B — Basic and diluted EPS:
                                                                       
Income available to Class B stockholders
  $ 796       2,549     $ 312.45     $ 521       2,551     $ 204.20     $ 1,468       2,563     $ 572.98  
     
Note 4. Segment information
We operate our business as three reportable segments: management operations, insurance underwriting operations and investment operations. Accounting policies for segments are the same as those described in the summary of significant accounting policies, with the exception of the management fee revenues received from the property/casualty insurance subsidiaries. These revenues are not eliminated in the segment detail below, as our decisions are based on the segment presentation. See also Note 2. Assets are not allocated to the segments but rather are reviewed in total for purposes of decision-making. No single customer or agent provides 10% or more of revenues for the Property and Casualty Group.
Our principal operations consist of serving as attorney-in-fact for the Exchange, which constitutes our management operations. We operate in this capacity solely for the Exchange. Our insurance underwriting operations arise through direct business of our property/casualty insurance subsidiaries and by virtue of the pooling agreement between our subsidiaries and the Exchange, which includes assumed reinsurance from nonaffiliated domestic and foreign sources. The Exchange exited the assumed reinsurance business effective December 31, 2003, and therefore unaffiliated reinsurance

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 4. Segment information (continued)
includes only run-off activity of the assumed reinsurance business. Insurance provided in the insurance underwriting operations consists of personal and commercial lines and is sold by independent agents. Personal lines consist primarily of private passenger auto and are marketed to individuals, and commercial lines are marketed to small- and medium-sized businesses. The performance of personal lines and commercial lines is evaluated by our management based upon the underwriting results as determined under statutory accounting principles (SAP) for the total pooled business of the Property and Casualty Group.
We evaluate profitability of our management operations segment principally on the gross margin from management operations. Profitability of the insurance underwriting operations segment is evaluated principally based on the combined ratio. Investment operations performance is evaluated based on appreciation of assets, rate of return and overall return. Summarized financial information for these operations is presented below.
                         
    Years ended December 31  
(in thousands)   2009     2008     2007  
Management operations
                       
Operating revenue
                       
Management fee revenue
  $ 965,110     $ 949,775     $ 947,023  
Service agreement revenue
    34,783       32,298       29,748  
 
                 
Total operating revenue
    999,893       982,073       976,771  
Cost of management operations
    813,411       809,548       799,597  
 
                 
Income before income taxes
  $ 186,482     $ 172,525     $ 177,174  
 
                 
Net income from management operations
  $ 126,657     $ 116,475     $ 120,362  
 
                 
Insurance underwriting operations
                       
Operating revenue
                       
Premiums earned:
                       
Personal lines
  $ 150,593     $ 146,826     $ 145,007  
Commercial lines
    58,762       61,274       62,913  
Reinsurance — nonaffiliates
    102       (693 )     (358 )
 
                 
Total premiums earned
    209,457       207,407       207,562  
 
                 
Operating expenses
                       
Losses and expenses:
                       
Personal lines
    156,705       137,221       129,788  
Commercial lines
    48,516       58,133       53,930  
Reinsurance — nonaffiliates
    2,600       (1,256 )     (819 )
 
                 
Total losses and expenses
    207,821       194,098       182,899  
 
                 
Income before income taxes
  $ 1,636     $ 13,309     $ 24,663  
 
                 
Net income from insurance underwriting operations
  $ 1,111     $ 8,985     $ 16,754  
 
                 
Investment operations
                       
Investment income, net of expenses
  $ 41,728     $ 44,181     $ 52,833  
Net realized gains (losses) on investments
    10,396       (43,515 )     17,265  
Net impairment losses recognized in earnings
    (12,059 )     (69,504 )     (22,457 )
Equity in (losses) earnings of limited partnerships
    (76,108 )     5,710       59,690  
 
                 
Total investment (loss) income — unaffiliated
  $ (36,043 )   $ (63,128 )   $ 107,331  
 
                 
Net (loss) income from investment operations
  $ (24,480 )   $ (42,619 )   $ 72,915  
 
                 
Equity in earnings (losses) of EFL, net of tax
  $ 5,202     $ (13,603 )   $ 2,914  
 
                 

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 4. Segment information (continued)
Reconciliation of reportable segment revenues and operating expenses to the Consolidated Statements of Operations
                         
    Years ended December 31
(in thousands)   2009   2008   2007
Segment revenues
  $ 1,209,350     $ 1,189,480     $ 1,184,333  
Elimination of intersegment management fee revenues
    (53,087 )     (52,249 )     (52,042 )
 
                 
Total operating revenue
  $ 1,156,263     $ 1,137,231     $ 1,132,291  
 
                 
Segment operating expenses
  $ 1,021,232     $ 1,003,646     $ 982,496  
Elimination of intersegment management fee expenses
    (53,087 )     (52,249 )     (52,042 )
 
                 
Total operating expenses
  $ 968,145     $ 951,397     $ 930,454  
 
                 
The intersegment revenues and expenses that are eliminated in the Consolidated Statements of Operations relate to our property/casualty insurance subsidiaries 5.5% share of the management fees paid to us.
Note 5. Fair Value
Our available-for-sale and trading securities are recorded at fair value, which is the price that would be received to sell the asset in an orderly transaction between willing market participants as of the measurement date.
Valuation techniques used to derive the fair value of our available-for-sale and trading securities are based on observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources.
Unobservable inputs reflect our own assumptions regarding fair market value for these securities. Although the majority of our prices are obtained from third party sources, we also perform an internal pricing review for securities with low trading volumes in the current market conditions. Financial instruments are categorized into three levels based upon the following characteristics or inputs to the valuation techniques:
  Level 1    Quoted prices for identical instruments in active markets not subject to adjustments or discounts.
 
  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 whose inputs are observable or whose significant value drivers are observable.
 
  Level 3    Instruments whose significant value drivers are unobservable and reflect management’s estimate of fair value based on assumptions used by market participants in an orderly transaction as of the valuation date.

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 5. Fair Value (continued)
The following table represents the fair value measurements on a recurring basis for our invested assets by major category and level of input:
                                 
    December 31, 2009
            Fair value measurements using:    
            Quoted prices in        
            active markets for   Significant   Significant
            identical assets   observable inputs   unobservable inputs
(in thousands)   Total   Level 1   Level 2   Level 3
     
Available-for-sale securities:
                               
Fixed maturities
  $ 664,026     $ 6,089     $ 648,211     $ 9,726  
Preferred stock
    37,725       8,823       27,661       1,241  
Trading securities:
                               
Common stock
    42,153       42,134       0       19  
     
Total
  $ 743,904     $ 57,046     $ 675,872     $ 10,986  
     
Level 3 Invested Assets — Quarterly Change:
                                                 
    Beginning                        
    balance at           Included in other   Purchases,   Transfers in   Ending balance
    September 30,   Included in   comprehensive   sales and   and (out) of   at December 31,
(in thousands)   2009   earnings (1)   income   adjustments   Level 3 (2)   2009
     
Available-for-sale securities:
                                               
Fixed maturities
  $ 11,679     $ (602 )   $ 114     $ (48 )   $ (1,417 )   $ 9,726  
Preferred stock
    1,184       0       57       0       0       1,241  
Trading securities:
                                               
Common stock
    22       (3 )     0       0       0       19  
     
Total Level 3 assets
  $ 12,885     $ (605 )   $ 171     $ (48 )   $ (1,417 )   $ 10,986  
     
Level 3 Invested Assets — Year-to-Date Change(3):
                                                 
    Beginning                        
    balance at           Included in other   Purchases,   Transfers in   Ending balance
    December 31,   Included in   comprehensive   sales and   and (out) of   at December 31,
(in thousands)   2008   earnings (1)   income   adjustments   Level 3 (2)   2009
     
Available-for-sale securities:
                                               
Fixed maturities
  $ 14,217     $ (1,180 )   $ 1,908     $ 711     $ (5,930 )   $ 9,726  
Preferred stock
    11,818       0       672       0       (11,249 )     1,241  
Trading securities:
                                               
Common stock
    22       (3 )     0       0       0       19  
     
Total Level 3 assets
  $ 26,057     $ (1,183 )   $ 2,580     $ 711     $ (17,179 )   $ 10,986  
     
 
(1)   Includes losses as a result of other-than-temporary impairments and accrual of discount and amortization of premium. These amounts are reported in the Consolidated Statement of Operations. There were no unrealized gains or losses included in earnings for the three or twelve months ended December 31, 2009 on Level 3 securities.
 
(2)   Transfers in and out of Level 3 are attributable to changes in the availability of market observable information for individual securities within the respective categories.
 
(3)   Year-to-date rollforward amounts may include inter-category eliminations from prior quarter activity due to security transfers in and out of Level 3.

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 5. Fair Value (continued)
The following table represents the fair value measurements on a recurring basis for our invested assets by major category and level of input:
                                 
    December 31, 2008
            Fair value measurements using:    
            Quoted prices in        
            active markets for   Significant   Significant
            identical assets   observable inputs   unobservable inputs
(in thousands)   Total   Level 1   Level 2   Level 3
     
Available-for-sale securities:
                               
Fixed maturities
  $ 563,429     $ 6,272     $ 542,940     $ 14,217  
Preferred stock
    55,281       35,207       8,256       11,818  
Trading securities:
                               
Common stock
    33,338       33,316       0       22  
     
Total
  $ 652,048     $ 74,795     $ 551,196     $ 26,057  
     
Level 3 Invested Assets — Quarterly Change:
                                                 
    Beginning                    
    balance at           Included in other   Purchases,   Transfers in   Ending balance
    September 30,   Included in   comprehensive   sales and   and (out) of   at December 31,
(in thousands)   2008   earnings (1)   income   adjustments   Level 3 (2)   2008
     
Available-for-sale securities:
                                               
Fixed maturities
  $ 28,063     $ (2,083 )   $ (3,071 )   $ (6,517 )   $ (2,175 )   $ 14,217  
Preferred stock
    13,178       (357 )     (1,003 )     0       0       11,818  
Trading securities:
                                               
Common stock
    22       0       0       0       0       22  
     
Total Level 3 assets
  $ 41,263     $ (2,440 )   $ (4,074 )   $ (6,517 )   $ (2,175 )   $ 26,057  
     
Level 3 Invested Assets — Year-to-Date Change:
                                                 
    Beginning                    
    balance at           Included in other   Purchases,   Transfers in   Ending balance
    December 31,   Included in   comprehensive   sales and   and (out) of   at December 31,
(in thousands)   2007   earnings (1)   income   adjustments   Level 3 (2)   2008
     
Available-for-sale securities:
                                               
Fixed maturities
  $ 10,941     $ (3,334 )   $ (3,324 )   $ (5,071 )   $ 15,005     $ 14,217  
Preferred stock
    5,858       (2,193 )     (2,204 )     2,000       8,357       11,818  
Trading securities:
                                               
Common stock
    21       0       1       0       0       22  
     
Total Level 3 assets
  $ 16,820     $ (5,527 )   $ (5,527 )   $ (3,071 )   $ 23,362     $ 26,057  
     
 
(1)   These losses are a result of other-than-temporary impairments and are reported in the Consolidated Statements of Operations. There were no unrealized gains or losses included in earnings at December 31, 2008 on Level 3 securities.
 
(2)   Transfers in to Level 3 would be attributable to changes in the availability of market observable information for individual securities within the respective categories.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 5. Fair Value (continued)
Estimates of fair values for our investment portfolio are obtained primarily from a nationally recognized pricing service. Our Level 1 category includes those securities valued using an exchange traded price provided by the pricing service. The methodologies used by the pricing service that support a Level 2 classification of a financial instrument include multiple verifiable, observable inputs including benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers and reference data. Pricing service valuations for Level 3 securities are based on proprietary models and are used when observable inputs are not available in illiquid markets. In limited circumstances we adjust the price received from the pricing service when in our judgment a better reflection of fair value is available based on corroborating information and our knowledge and monitoring of market conditions. At December 31, 2009, we adjusted eight prices received by the pricing service to reflect an alternate fair market value based on observable market data such as a disparity in price of comparable securities and/or non-binding broker quotes. The value of these securities based on prices from the pricing service was $8.5 million, while the ultimate value used in our financial statements was $8.6 million. We perform continuous reviews of the prices obtained from the pricing service. This includes evaluating the methodology and inputs used by the pricing service to ensure we determine the proper level classification of the financial instrument. Price variances, including large periodic changes, are investigated and corroborated by market data. We have reviewed the pricing methodologies of our pricing service and believe that their prices adequately consider market activity in determining fair value.
In cases in which a price from the pricing service is not available, values are determined by obtaining non-binding broker quotes and/or market comparables. When available, we obtain multiple quotes for the same security. The ultimate value for these securities is determined based on our best estimate of fair value using corroborating market information. Our evaluation includes the consideration of benchmark yields, reported trades, issuer spreads, two-sided markets, benchmark securities, bids, offers and reference data.
For certain structured securities in an illiquid market, there may be no prices available from a pricing service and no comparable market quotes available. In these situations, we value the security using an internally-developed risk-adjusted discounted cash flow model.
The following table sets forth the fair value of our fixed maturity and preferred stock securities by pricing source as of December 31, 2009:
                                 
(in thousands)           December 31, 2009    
    Total   Level 1   Level 2   Level 3
     
Fixed maturity securities:
                               
Priced via pricing services
  $ 649,780     $ 6,089     $ 643,691     $ 0  
Priced via market comparables/non-binding broker quote (1)
    5,742       0       4,520       1,222  
Priced via internal modeling (2)
    8,504       0       0       8,504  
     
Total fixed maturity securities
    664,026       6,089       648,211       9,726  
Preferred stock securities:
                               
Priced via pricing services
    31,543       8,823       22,720       0  
Priced via market comparables/non-binding broker quote (1)
    4,941       0       4,941       0  
Priced via internal modeling (2)
    1,241       0       0       1,241  
     
Total preferred stock securities
    37,725       8,823       27,661       1,241  
     
Total available-for-sale securities
  $ 701,751     $ 14,912     $ 675,872     $ 10,967  
     
 
(1)   All broker quotes obtained for securities were non-binding. When a non-binding broker quote was the only price available, the security was classified as Level 3.
 
(2)   Internal modeling using a discounted cash flow model was performed on ten Level 3 securities representing less than 1.4% of the total available-for-sale portfolio.
We have no assets that were measured at fair value on a nonrecurring basis during the year ended December 31, 2009.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 5. Fair Value (continued)
Fair Value Option
Effective January 1, 2008, the Company adopted the fair value option for our common stock portfolio. See Note 2. The following table represents the December 31, 2007 carrying value of these assets, the transition adjustment booked to retained earnings and the carrying value as of January 1, 2008.
                         
                    January 1, 2008  
    December 31, 2007     Cumulative effect     fair value  
    (carrying value     adjustment to January 1,     (carrying value  
(in thousands)   prior to adoption)     2008 retained earnings     after adoption)  
     
Common stock
  $ 108,090     $ 17,216     $ 108,090  
 
                   
Deferred tax adjustment
            (6,025 )        
 
                     
Carrying value, net of deferred tax adjustment
          $ 11,191          
 
                     
Note 6. Investments
The following tables summarize the cost and fair value of available-for-sale securities at December 31, 2009 and 2008:
                                 
    At December 31, 2009
    Amortized   Gross unrealized   Gross unrealized   Estimated
(in thousands)   cost   gains   losses   fair value
     
Available-for-sale securities:
                               
Fixed maturities
                               
U.S. treasuries and government agencies
  $ 2,625     $ 291     $ 0     $ 2,916  
Foreign government
    1,998       102       0       2,100  
Municipal securities
    235,250       8,942       459       243,733  
U.S. corporate debt — non-financial
    172,231       9,800       670       181,361  
U.S. corporate debt — financial
    148,759       6,668       3,630       151,797  
Foreign corporate debt — non-financial
    26,799       1,790       210       28,379  
Foreign corporate debt — financial
    19,063       982       522       19,523  
Structured securities:
                               
Asset-backed securities — auto loans
    4,000       125       0       4,125  
Collateralized debt obligations
    9,697       334       1,645       8,386  
Commercial mortgage-backed
    5,516       84       146       5,454  
Residential mortgage-backed:
                               
Government sponsored enterprises
    13,525       228       119       13,634  
Non-government sponsored enterprises
    2,744       0       126       2,618  
     
Total fixed maturities
  $ 642,207     $ 29,346     $ 7,527     $ 664,026  
     
Equity securities
                               
U.S. nonredeemable preferred securities:
                               
Financial
  $ 20,055     $ 2,607     $ 1,239     $ 21,423  
Non-financial
    8,734       918       220       9,432  
Government sponsored enterprises
    166       179       0       345  
Foreign nonredeemable preferred securities:
                               
Financial
    4,893       746       130       5,509  
Non-financial
    1,000       16       0       1,016  
     
Total equity securities
  $ 34,848     $ 4,466     $ 1,589     $ 37,725  
     
Total available-for-sale securities
  $ 677,055     $ 33,812     $ 9,116     $ 701,751  
     

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 6. Investments (continued)
                                 
    At December 31, 2008
    Amortized   Gross unrealized   Gross unrealized   Estimated
(in thousands)   cost   gains   losses   fair value
     
Available-for-sale securities:
                               
Fixed maturities
                               
U.S. treasuries and government agencies
  $ 3,078     $ 345     $ 51     $ 3,372  
Foreign government
    1,998       0       180       1,818  
Municipal securities
    212,224       3,041       3,846       211,419  
U.S. corporate debt — non-financial
    164,419       1,963       13,181       153,201  
U.S. corporate debt — financial
    130,929       4,500       15,807       119,622  
Foreign corporate debt — non-financial
    34,900       86       2,681       32,305  
Foreign corporate debt — financial
    21,917       100       2,875       19,142  
Structured securities:
                               
Asset-backed securities — auto loans
    4,000       0       321       3,679  
Collateralized debt obligations
    11,438       0       4,362       7,076  
Commercial mortgage-backed
    5,098       80       484       4,694  
Residential mortgage-backed:
                               
Government sponsored enterprises
    3,450       219       0       3,669  
Non-government sponsored enterprises
    4,221       0       789       3,432  
     
Total fixed maturities
  $ 597,672     $ 10,334     $ 44,577     $ 563,429  
     
Equity securities
                               
U.S. nonredeemable preferred securities:
                               
Financial
  $ 34,353     $ 3,045     $ 5,650     $ 31,748  
Non-financial
    19,359       449       2,270       17,538  
Government sponsored enterprises
    180       0       1       179  
Foreign nonredeemable preferred securities:
                               
Financial
    4,066       187       57       4,196  
Non-financial
    2,000       0       380       1,620  
     
Total equity securities
  $ 59,958     $ 3,681     $ 8,358     $ 55,281  
     
Total available-for-sale securities
  $ 657,630     $ 14,015     $ 52,935     $ 618,710  
     
The amortized cost and estimated fair value of fixed maturities at December 31, 2009, are shown below by remaining contractual term to maturity. Mortgage-backed securities are allocated based on their stated maturity dates. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
                 
    Amortized     Estimated  
(in thousands)   cost     fair value  
Due in one year or less
  $ 38,994     $ 39,533  
Due after one year through five years
    253,090       265,480  
Due after five years through ten years
    253,167       261,439  
Due after ten years
    96,956       97,574  
 
           
Total fixed maturities
  $ 642,207     $ 664,026  
 
           

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 6. Investments (continued)
Fixed maturities and equity securities in a gross unrealized loss position are as follows. Data is provided by length of time securities were in a gross unrealized loss position.
December 31, 2009
                                                         
    Less than 12 months   12 months or longer   Total
    Fair   Unrealized   Fair   Unrealized   Fair   Unrealized   No. of
(dollars in thousands)   value   losses   value   losses   value   losses   holdings
             
Fixed maturities
                                                       
Municipal securities
  $ 18,487     $ 240     $ 4,949     $ 219     $ 23,436     $ 459       12  
U.S. corporate debt — non- financial
    18,738       260       8,079       410       26,817       670       16  
U.S. corporate debt — financial
    23,728       270       40,090       3,360       63,818       3,630       44  
Foreign corporate debt — non-financial
    0       0       3,776       210       3,776       210       3  
Foreign corporate debt — financial
    2,314       27       2,671       494       4,985       521       4  
Structured securities:
                                                       
Collateralized debt obligations
    49       1       3,104       1,645       3,153       1,646       6  
Commercial mortgage-backed
    0       0       1,361       146       1,361       146       1  
Residential mortgage-backed:
                                                       
Government sponsored enterprises
    5,856       119       0       0       5,856       119       2  
Non-government sponsored enterprises
    0       0       2,618       126       2,618       126       2  
             
Total fixed maturities
  $ 69,172     $ 917     $ 66,648     $ 6,610     $ 135,820     $ 7,527       90  
             
 
                                                       
Equity securities
                                                       
U.S. nonredeemable preferred securities:
                                                       
Financial
  $ 4,859     $ 414     $ 5,487     $ 824     $ 10,346     $ 1,238       8  
Non-financial
    2,921       79       3,909       142       6,830       221       3  
Foreign nonredeemable preferred securities:
                                                       
Financial
    0       0       1,000       130       1,000       130       1  
             
Total equity securities
  $ 7,780     $ 493     $ 10,396     $ 1,096     $ 18,176     $ 1,589       12  
             
Quality breakdown of fixed maturities at December 31, 2009
                                                         
    Less than 12 months     12 months or longer     Total  
    Fair     Unrealized     Fair     Unrealized     Fair     Unrealized     No. of  
(dollars in thousands)   value     losses     value     losses     value     losses     holdings  
Investment grade
  $ 69,123     $ 916     $ 48,515     $ 4,299     $ 117,638     $ 5,215       71  
Non-investment grade
    49       1       18,133       2,311       18,182       2,312       19  
 
                                         
Total fixed maturities
  $ 69,172     $ 917     $ 66,648     $ 6,610     $ 135,820     $ 7,527       90  
 
                                         
The above securities have been evaluated and determined to be temporary impairments for which we expect to recover our entire principal. The primary components of this analysis are a general review of market conditions and financial performance of the issuer along with the extent and duration of which fair value is less than cost. A large portion of the unrealized losses greater than 12 months are related to U.S. financial securities. The continued unrealized loss positions in these securities are reflective of wide credit spreads due to the uncertain condition in the U.S. financial sectors. Any debt securities that we intend to sell or will more likely than not be required to sell before recovery are included in other-than-temporary impairments with the impairment charges recognized in earnings.

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 6. Investments (continued)
December 31, 2008
                                                         
    Less than 12 months   12 months or longer   Total
    Fair   Unrealized   Fair   Unrealized   Fair   Unrealized   No. of
(dollars in thousands)   value   losses   value   losses   value   losses   holdings
             
Fixed maturities
                                                       
U.S. treasuries and government agencies
  $ 948     $ 51     $ 0     $ 0     $ 948     $ 51       1  
Foreign government
    1,818       180       0       0       1,818       180       1  
Municipal securities
    82,222       2,960       4,291       886       86,513       3,846       53  
U.S. corporate debt — non- financial
    98,422       8,199       18,961       4,982       117,383       13,181       92  
U.S. corporate debt — financial
    70,528       10,625       18,047       5,182       88,575       15,807       84  
Foreign corporate debt — non-financial
    24,007       1,725       1,042       956       25,049       2,681       18  
Foreign corporate debt — financial
    10,514       2,029       2,154       846       12,668       2,875       11  
Structured securities:
                                                       
Asset-backed securities — auto loans
    3,678       321       0       0       3,678       321       3  
Collateralized debt obligations
    6,198       4,192       426       170       6,624       4,362       13  
Commercial mortgage-backed
    2,064       396       1,198       88       3,262       484       4  
Residential mortgage-backed:
                                                       
Non-government sponsored enterprises
    2,703       549       729       240       3,432       789       5  
             
Total fixed maturities
  $ 303,102     $ 31,227     $ 46,848     $ 13,350     $ 349,950     $ 44,577       285  
             
 
                                                       
Equity securities
                                                       
U.S. nonredeemable preferred securities:
                                                       
Financial
  $ 18,370     $ 5,396     $ 741     $ 254     $ 19,111     $ 5,650       17  
Non-financial
    10,538       1,286       5,708       984       16,246       2,270       9  
Government sponsored enterprises
    15       1       0       0       15       1       1  
Foreign nonredeemable preferred securities:
                                                       
Financial
    1,073       57       0       0       1,073       57       1  
Non-financial
    1,620       380       0       0       1,620       380       1  
             
Total equity securities
  $ 31,616     $ 7,120     $ 6,449     $ 1,238     $ 38,065     $ 8,358       29  
             
Quality breakdown of fixed maturities at December 31, 2008
                                                         
    Less than 12 months     12 months or longer     Total  
    Fair     Unrealized     Fair     Unrealized     Fair     Unrealized     No. of  
(dollars in thousands)   value     losses     value     losses     value     losses     holdings  
Investment grade
  $ 296,457     $ 29,067     $ 42,002     $ 12,217     $ 338,459     $ 41,284       271  
Non-investment grade
    6,645       2,160       4,846       1,133       11,491       3,293       14  
 
                                         
Total fixed maturities
  $ 303,102     $ 31,227     $ 46,848     $ 13,350     $ 349,950     $ 44,577       285  
 
                                         
Investment income, net of expenses, was generated from the following portfolios for the years ended December 31 as follows:
                         
(in thousands)   2009     2008     2007  
Fixed maturities
  $ 36,030     $ 35,806     $ 42,547  
Equity securities
    5,005       9,203       10,619  
Cash equivalents and other
    1,219       1,687       2,002  
 
                 
Total investment income
    42,254       46,696       55,168  
Less: investment expenses
    526       2,515       2,335  
 
                 
Investment income, net of expenses
  $ 41,728     $ 44,181     $ 52,833  
 
                 

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 6. Investments (continued)
We adopted the fair value option for our common stock portfolio effective January 1, 2008 as it better reflects the way we manage our common stock portfolio under a total return approach. Dividend income is recognized as earned and recorded to net investment income.
The components of net realized losses and gains on investments as reported in the Consolidated Statements of Operations are included below.
There were no sales of limited partnerships in 2009. We sold our interest in ten partnerships in 2008 and two partnerships in 2007 which generated net realized gains.
                         
    Years ended December 31,  
(in thousands)   2009     2008     2007  
Available-for-sale securities:
                       
Fixed maturities
                       
Gross realized gains
  $ 4,724     $ 2,507     $ 2,301  
Gross realized losses
    (3,589 )     (4,466 )     (746 )
 
                 
Net realized gains (losses)
    1,135       (1,959 )     1,555  
 
                 
 
                       
Equity securities
                       
Gross realized gains
    7,583       8,299       23,146  
Gross realized losses
    (6,826 )     (12,870 )     (7,912 )
 
                 
Net realized gains (losses)
    757       (4,571 )     15,234  
 
                 
 
                       
Trading securities:
                       
Common stock
                       
Gross realized gains
    2,300       11,921       0  
Gross realized losses
    (4,696 )     (28,804 )     0  
Valuation adjustments
    10,900       (21,730 )     0  
 
                 
Net realized gains (losses)
    8,504       (38,613 )     0  
 
                 
 
                       
Limited partnerships
                       
Gross realized gains
    0       3,541       538  
Gross realized losses
    0       (1,913 )     (62 )
 
                 
Net realized gains
    0       1,628       476  
 
                 
 
                       
Net realized gains (losses) on investments
  $ 10,396     $ (43,515 )   $ 17,265  
 
                 
The components of other-than-temporary impairments on investments are included below.
                         
    Years ended December 31,  
(in thousands)   2009     2008     2007  
Fixed maturities
  $ (6,876 )   $ (35,974 )   $ (5,101 )
Equity securities
    (5,183 )     (33,530 )     (17,356 )
 
                 
Total
    (12,059 )     (69,504 )     (22,457 )
Portion recognized in other comprehensive income
    0       0       0  
 
                 
Net impairment losses recognized in earnings
  $ (12,059 )   $ (69,504 )   $ (22,457 )
 
                 
In considering if fixed maturity securities were credit impaired some of the factors considered include: potential for the default of interest and/or principal, level of subordination, collateral of the issue, compliance with financial covenants, credit ratings and industry conditions. We have the intent to sell all credit-impaired fixed

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 6. Investments (continued)
maturity securities, therefore the entire amount of the impairment charges were included in earnings and no non-credit impairments were recognized in other comprehensive income. Prior to the second quarter of 2009 when new impairment guidance was issued for debt securities, the impairment policy for fixed maturities was consistent with that of equity securities. See also Note 2.
Limited partnerships
Our limited partnership investments are recorded using the equity method of accounting as our ownership interest is less than 50% in any limited partnership and we do not exercise significant influence over any of these partnerships. As these investments are generally reported on a one-quarter lag, our limited partnership results through December 31, 2009 are comprised of general partnership financial results for the fourth quarter of 2008 and the first, second, and third quarters of 2009. Therefore, the volatility in market conditions experienced in these periods is included in our 2009 results. Given the lag in reporting, our limited partnership results do not reflect the market conditions of the fourth quarter of 2009. Private equity and mezzanine debt sectors appear to be stabilizing; however, there may be additional deterioration in the real estate sector. Such declines could be significant. Cash contributions made to and distributions received from the partnerships are recorded in the period in which the transaction occurs.
Equity in losses from limited partnerships as reported in the Consolidated Statements of Operations totaled $76.1 million in 2009 compared to earnings of $5.7 million and $59.7 million in 2008 and 2007, respectively.
We have provided summarized financial information in the following table for the years ended December 31, 2009 and 2008. Amounts provided in the table are presented using the latest available financial statements received from the partnerships.
                                 
    Recorded by Erie Indemnity Company
(dollars in thousands)   as of and for the year ended December 31, 2009
                    Loss    
                    recognized    
                    due to valuation    
                    adjustments   (Loss)
Investment percentage in partnership   Number of   Asset   by the   income
for Erie Indemnity Company   partnerships   recorded   partnerships   recorded
 
Private equity:
                               
Less than 10%
    29     $ 82,533     $ (10,828 )   $ (982 )
Greater than or equal to 10% but less than 50%
    1       3,035       (226 )     (507 )
 
Total private equity
    30       85,568       (11,054 )     (1,489 )
Mezzanine debt:
                               
Less than 10%
    15       47,990       (5,470 )     1,066  
Greater than or equal to 10% but less than 50%
    1       2,708       (1,122 )     551  
 
Total mezzanine debt
    16       50,698       (6,592 )     1,617  
Real estate:
                               
Less than 10%
    24       89,436       (46,921 )     (748 )
Greater than or equal to 10% but less than 50%
    4       9,278       (11,199 )     278  
 
Total real estate
    28       98,714       (58,120 )     (470 )
 
Total limited partnerships
    74     $ 234,980     $ (75,766 )   $ (342 )
 
Per the limited partner financial statements, total partnership assets were $35.5 billion and total partnership liabilities were $8.2 billion at December 31, 2009 (as recorded in the September 30, 2009 limited partnership financial statements). For the twelve month period comparable to that presented in the preceding table (fourth quarter of 2008 and first three quarters of 2009), total partnership valuation adjustment losses were $5.0 billion and total partnership net loss was $0.5 billion.

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ERIE INDEMNITY COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 6. Investments (continued)
As these investments are generally reported on a one-quarter lag, our limited partnership results through December 31, 2008 include the general partnership financial results for the fourth quarter of 2007 and the first three quarters of 2008.
                                 
    Recorded by Erie Indemnity Company
(dollars in thousands)   as of and for the year ended December 31, 2008
                    (Loss) income    
                    recognized    
                    due to    
                    valuation    
                    adjustments   Income
Investment percentage in partnership   Number of   Asset   by the   (loss)
for Erie Indemnity Company   partnerships   recorded   partnerships   recorded
 
Private equity:
                               
Less than 10%
    31     $ 91,222     $ (4,668 )   $ 8,915  
Greater than or equal to 10% but less than 50%
    1       3,290       0       (434 )
 
Total private equity
    32       94,512       (4,668 )     8,481  
Mezzanine debt:
                               
Less than 10%
    15       51,941       1,164       4,664  
Greater than or equal to 10% but less than 50%
    1       3,224       (717 )     496  
 
Total mezzanine debt
    16       55,165       447       5,160  
Real estate:
                               
Less than 10%
    24       127,349       (16,176 )     11,224  
Greater than or equal to 10% but less than 50%
    5       22,150       (675 )     1,917  
 
Total real estate
    29       149,499       (16,851 )     13,141  
 
Total limited partnerships