Good morning. My name is Wendy, and I'll be your conference operator today. At this time, I would like to welcome everyone to the Donegal Group Inc. Q3 2013 Earnings Conference. [Operator Instructions] Thank you. Mr. Miller, you may begin your conference.

Thank you. Good morning, and welcome, everyone, to the Donegal Group conference call for the third quarter ended September 30, 2013. I'm Jeff Miller, Chief Financial Officer, and I will begin today's call by discussing highlights of our quarterly financial results. Don Nikolaus, President and Chief Executive Officer, will then provide additional commentary on the quarter and an update on our business trends. Please be aware that certain statements made in our news release and in this conference call are forward-looking in nature and involve a number of risks and uncertainties. We refer you to our news release for more information about forward-looking statements. Further information on risk factors that could cause actual results to differ materially from those projected in the forward-looking statements is included in our 2012 Form 10-K, which is available on our website under the SEC Filings link. Reconciliation of non-GAAP information as required by SEC Regulation G, was provided in our news release, which we have also made available in the Investors section of our website. Focusing in on the third quarter results, we are pleased to report a 12% increase in net income and a 24% increase in operating income. I will discuss a number of contributing factors to the improvement. We are particularly pleased with the underwriting results, producing a 96% statutory combined ratio for the quarter. Earned premiums continue to grow at an 8% pace in the third quarter, underscoring the ongoing success of our growth strategies and playing a large role in our increased earnings. We achieved net premiums written growth of 5.7% for the quarter. As in recent periods, the growth reflects premium rate increases in nearly all of our business lines, a continuation of commercial line's new business growth and additional premiums retained by Michigan Insurance Company as a…

Thank you, Jeff, and good morning to everyone. Thank you for joining our third quarter earnings call. Jeff has done an excellent job of doing an overview of the quarter. And one of the topics that I would want to talk about is how these results relate to our overall corporate business strategy. And if we focus, as an example, on operating income increased 24%, earnings per share were $0.30 versus $0.27 in the prior year quarter, statutory combined at 96%, revenues grew by 6.1, commercial combined at 93%, personal lines at 97.9%, if we look at all of these results, we believe that it clearly indicates that there's an ongoing trend -- positive trend in our results to reflect what we believe to be a successful business strategy and business plan. We saw our loss ratios and combined ratios improve, as we said. Cumulative rate increases of 14.5% for private passenger auto and 23.1% in homeowners over the last 3 years, the combination of that, we believe, will have a positive effect going forward on our combined ratio, as these higher rates are fully reflected in earned premium. In the third quarter, we appointed an additional 22 agencies, a total of 80 year-to-date, which is part of our strategy to continue to build our distribution system, as well as to continue to enhance existing relationships. Commercial lines renewal increases continue to average in the range of 6.5% to 8%, depending on the state and class of business. And so that we can address what would be a question, certainly, we continue to see a positive environment both in personal lines and in commercial from a rate environment standpoint. With regard to our premium increases in personal lines, we calculate that approximately 80% is the result of rate increases. In…

Thank you, Don. And Wendy, if you could open the line for questions, please?

[Operator Instructions] Your first question comes from the line of Richard Todaro.

While I haven't known you guys long, I do like you guys and respect you guys, but I do take my fiduciary responsibility to my shareholders very seriously. And from an outside perspective, from what I'm seeing, I haven't seen -- I see the management team and the boards rejecting the offers. But I don't see them laying out a reasonable plan to shareholders, why that they could get a similar offer in any reasonable amount of time or similar share price based on earnings, ROE, some sort of metric that would get shareholders something similar. And I really feel that this is one of those situations that -- and this is my opinion and I'm an outsider, but that this is one of the situations that I kind of reference as where the board is not taking their job seriously and that they are setting us up for lawsuits and they're not handling their fiduciary responsibility the way they should. If you guys want to reject offers that are out there, I feel that you guys have to come up with a plan that states we're going to get to earnings based on our trajectory by x that would give shareholders a similar price on a stand-alone basis or some sort of reasonable responses as opposed to saying no. I feel that this could end up in the Wall Street Journal, this could end up on CNBC. I think that this is, from an outside perspective, looks terrible as a shareholder. And I can't -- when I talk to our shareholders, I can't justify what's going on here. So I would ask that either you guys give more substance why you think you can do this on your own versus what's being offered or you guys need to go back to the drawing board. And as far as the stock options, I think that's not an excuse because based on the track record of the company, if you guys were executing, then those options would have been worth money. So I think that even backs Shepard's argument even more that if the performance was better, then we wouldn't be in this situation. And once again, I say this and I -- I'm still new to all this. I've been in the industry 20 years. I'm not an expert in insurance. But I've been through enough board meetings and understanding how this goes that I feel that this is -- this feels wrong as shareholders, very wrong. And that's all I'm going to say.

Well, Richard, as we always try to do, we certainly fully respect your position, and you are exercising what you believe is your fiduciary obligation to your shareholders. Without us getting into a debate in this call with regard to the decision of the Special Committee of DGI or the Board of Directors of DGI, and separately and distinctly, the deliberations and decisions of Donegal Mutual Insurance Company, I believe that in your analysis, you probably need to think through the distinction of where there is a downstream holding company as here. And the distinction between the responsibilities, fiduciary responsibilities of DGI and its board and the distinction between that and the position of the mutual company and how it, under applicable law, needs to apply its fiduciary responsibilities. So it is maybe somewhat clearly different than if this was simply a Donegal Group standing as a separate total entity and not the involvement in a downstream holding company. But we don't want to debate it. We're simply trying to convey to you and everyone else what the process has been. We think it's been a very deliberate, very thorough, very legally focused process. And with regard to your concerns as it relates to performance, I believe that if you look over time that our companies have compared very favorable among peer property/casualty insurance companies. And that we believe that we have a strong strategy that is being effectively executed. And we recognize that we, as a company, like every other public company, need to make sure that we are achieving the best possible results in order to enhance shareholder value, and the management and Board of Directors of Donegal Group Inc. is fully committed to do that.

Am I still on?

You are.

Okay. So I guess, what conceptually that I don't understand is if you guys are buying mutual companies that are in a similar situation as you guys are, and you're making an argument to that company why they're better off being part of -- through your acquisitions, you guys have been doing, they're better off being part of your company. Why that doesn't apply when it comes to someone buying you? The same arguments that you're using buying these mutual companies, why wouldn't that apply whenever it's your business for sale?

Well, I think there's a fundamental distinction, Richard. Mutual companies that we have, we don't acquire them. We have an effective way through various procedures that are legal to obtain control and then de-mutualize them, if that's appropriate. They are not necessarily in the same situation as Donegal Mutual Insurance Company. Donegal Mutual Insurance Company is a very strong, well-run, well-capitalized company, does not have rating issues, doesn't have technology issues, doesn't have profitability issues. That's clearly distinct from the nature of the companies that we have basically affiliated with and de-mutualized. So -- but thank you for your input.

Your next question comes the line of Vincent DeAugustino.

The first thing I'd like to start with on my end is a bit of clarification. And since consensus estimates basically represent, KBW's estimate, that I feel I'm obligated to mention that we had identified a calculation error in our model. And by correcting that error, would have put our estimate and therefore consensus at $0.32 versus what's out on Bloomberg and other data providers at $0.35, so making that comparison consensus more favorable versus what you guys actually reported. So I just wanted to apologize for the error and clarify the issue on my end for your listeners and other investors that would be out reading the transcript. So I just wanted to start off with that. And then as far as questions go, on the workers' comp, our core loss ratio improvement, I'm curious if indemnity severity has begun to come down in response to perhaps a modestly improved economic environment yet?

We're able to favorably report to you that even with a growth of premium in workers' comp that we have seen a downward trend in indemnity frequency statistics. So matter of fact, we have -- in our largest market areas, we have fewer workers' comp indemnity claims in 2013 than we would have had in 2012, even with higher premium growth.

Okay. I mean, I guess, one of the things that I'm kind of interested in is the frequency is kind of one side of it. But when you do have an indemnity claim, are you finding that they've shortened in duration at all yet? Or are they still pretty elevated?

Well, I think our response to that would be that with an improvement in employment, the effort to return to work we have had is, I think, other companies have experienced, more success in a faster return to work. So clearly, the improvement in the economy is very helpful to that. And we, as many companies do, have case managers and adjustors that are constantly working on that to make sure that every effort is being made with the employer to return that person to work, provided that the employee has a proper medical sign-off that, that's appropriate.

Okay, great. And as a player in the independent agency channel, curious if you have any thoughts on Travelers' planned 10% rate reduction. It seems like the last 2 quarters, we've gotten incremental information on what Travelers plans are. I'm just curious from a competitive standpoint within your channel, how you kind of envision that impacting your business.

Well, we, of course, read the same announcements that all of you have read. I believe that, that new Quantum 2 or whatever it is called is coming out in February in certain jurisdictions. I don't think that many of the jurisdictions that we compete in that it will be live by that date, but I'm sure it will be eventually. Needless to say, the devil is in the details. Until we actually see actual rate comparisons, we don't know where their black box is targeting and how that might affect us. But without discussing a competitor, we would say to you that there's also more issues in terms of how you define being competitive than simply the rate. And I realized in automobile, rate is extremely important. But other factors in terms of whether there are underwriters, the quantity of the underwriters available to agents, what their commission levels are, the relationship issues. That's why earlier on, part of my commentary was that certainly with focusing on a regional strategy, we can many times very effectively compete against national companies. But sometimes, not naming any particular one, they can tend to do things differently that may not necessarily work in terms of being able to effectively, over time, create strong relationships and grow premium. So bottom line is we will certainly watch very carefully the Travelers new program. But we believe that we have effectively competed with them in the past and we believe that we can effectively do that going forward, because we are, of course, also not sitting still. We are implementing new predictive modeling ourselves. And therefore, we think we will have very good solutions to competitive issues.

Perfect. And you tried to mention some of the hail impacts earlier. I'm just curious as far as the impact on the auto loss ratio. Beyond that, were there any changes, really, in the underlying severity and frequency of the business? Or is it really just some of that weather volatility that we kind of need to look through and nothing really notable as far as the underlying loss trend?

I think you've expressed it very well, Vincent. We did have some hail impact in the auto line from those Midwest storms. I talked about it. It's not a significant number, but there would be some impact there. And -- but other than that, we have not seen any underlying trends that we would say -- there's no deterioration in any line of business, a couple of large losses that I mentioned in commercial auto that account for the uptick there. But we've seen improvement in most of the other business lines, as far as loss ratios are concerned, and believe that we continue to see improving loss trends.

Okay. And Jeff, I think I heard you say as far as the cash build, there is the relationship there. You take advantage of organic growth opportunities. And unless I missed it, I don't think you mentioned acquisition. So I'm just curious how you guys are feeling about the acquisition pipeline now with, I would say, maybe a little bit more flexibility to do some deals.

Well, we have, of course, continued to be positive about it. We have -- as we have always done, we have outreach programs, where we're making contact with various companies. A lot of them are mutual companies. We continue to do that whole process. And certainly, looking for favorable opportunities because we think that, that environment will improve over time for doing acquisitions. And it's been a little while since we've done one, so we would be certainly open to doing that.

And then I'd just add to that, that we have achieved some acquisition growth if you want to look at it that way from our Michigan acquisition. Although we purchased that company in December of 2010, we've been adjusting the reinsurance percentage in the last several years. So each year, we've shown growth from that company. So we're continuing to benefit from our last acquisition.

And sorry, just one last one. And unfortunately, it's going to be on the offer issue. And so I'm just curious, outside of some of the mechanical issues, as far as the regulatory concerns with this particular offer. I'm curious, from a valuation standpoint and then secondly from the noted 2 interested mutuals, I'm curious if through your process, if you had identified if those were, I guess, legitimate or if they weren't really -- they're worthwhile, really, pursuing, as far as counterparties would go.

Well, let me respond to that, Vincent. With regard to other mutuals, first of all, it should come as no surprise to anyone that there would be larger mutuals in the United States that have an acquisition strategy as we do. So it's an easy answer. I'm sure somewhere out there, there are a number of mutual companies that would be pleased to talk to us or 10 other mutuals that they might like and respect. But we certainly have no such information.

Your next question comes from the line of Graham Neehard [ph]

My question is basically on the investment portfolio going to more equity or equity-like securities. I'm just wondering sort of how you guys are thinking about it? I noticed that it's sort of high dividend-paying equities, but it will transform -- I'm just wondering how much of the book will transform from sort of these fixed income municipal and treasuries and then going over to equities. If you could just speak on that.

Well, I think we wouldn't want you to overreact to that comment that I made. What we're looking at is over time, focusing new money investments on certain other classes, such as dividend-paying equities. We have some concentrations in our portfolio that have developed over time. We're just balancing what is in that portfolio in terms of looking at the current environment and not knowing exactly when rates might rise, positioning ourselves, so that we can take advantage of opportunities and limit the interest rate risk going forward. So it's not a significant change in strategy. We're just looking at, as we receive cash in our portfolio from growth or maturing investments, looking at other classes.

And let me follow up to that, Graham, if you look at our mix of investments in DGI, you will see that I think it gets only like 3% of the portfolios in equities. It's a very low equity investment percentage at this point. So as Jeff is saying, that we would not be materially changing that, but we would simply be increasing it over time.

Okay, I understand. And then just, Don, when you commented on the last -- just on the other mutuals that Vince brought up, that you certainly have no knowledge about. I'm just wondering whether -- or we -- I think the verbatim was "we certainly have no knowledge of that." I'm just wondering whether the mutual board or whether there's been any sort of formation at mutual board level of a "Special or Strategic Committee." I mean, obviously, you're sort of admitting if yourself that there would be other larger mutuals that would be interested in the company, so whether that's even a thought in terms of strategy at the mutual company.

Well I think that, Graham, let me read so I don't, in any way, misquote, the letter that was sent by DGI's board through its counsel to Mr. Shepard's counsel, "After due consideration, the board unanimously rejected Mr. Shepard's proposal, determining that it is contrary to the interest of Donegal Mutual, its policyholders and its other constituencies. The board reaffirmed that it is firmly committed to pursuing Donegal Mutual's current strategy as an independent mutual insurance company and determined that Mr. Shepard's proposal merits no further consideration by Donegal Mutual." I conclude those words to mean and their decision to mean that they have, at this point in time, a firm commitment to their independence as a mutual insurance company.

And there are no further questions at this time.

Okay. Well, we want to thank everyone for your participation in our conference call today. Wish you a good day.

Thank you, everybody.

This concludes today's conference call. You may now disconnect.