SUAI Specialty Underwriters Allianc (MM)

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2009

Or

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

Commission File Number: 000-50891

SPECIALTY UNDERWRITERS’ ALLIANCE, INC.

(Exact name of registrant as specified in its charter)

DELAWARE		20-0432760
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification Number)
222 South Riverside Plaza, Chicago, Illinois		60606
(Address of Principal Executive Offices)		(Zip Code)

(888) 782-4672

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

Large accelerated filer o		Accelerated filer þ		Non-accelerated filer o		Smaller reporting company o

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

     As of August 3, 2009, there were 14,574,596 shares of our common stock, $0.01 par value, or the Common Stock, outstanding and 1,354,328 shares of our Class B common stock, $0.01 par value, or the Class B Shares, outstanding.

 

 

SPECIALTY UNDERWRITERS’ ALLIANCE, INC.

TABLE OF CONTENTS

		Page
PART I — FINANCIAL INFORMATION
Item 1. Financial Statements			3
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			15
Item 3. Quantitative and Qualitative Disclosures About Market Risk			21
Item 4. Controls and Procedures			22
PART II — OTHER INFORMATION
Item 1. Legal Proceedings			24
Item 1A. Risk Factors			24
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			25
Item 3. Defaults Upon Senior Securities			25
Item 4. Submission of Matters to a Vote of Security Holders			25
Item 5. Other Information			26
Item 6. Exhibits			26
EX-10.1
EX-10.2
EX-10.3
EX-10.4
EX-10.5
EX-10.6
EX-10.7
EX-10.8
EX-10.9
EX-10.10
EX-10.11
EX-10.12
EX-10.13
EX-10.14
EX-31.1
EX-31.2
EX-32.1
EX-32.2

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

Specialty Underwriters’ Alliance, Inc.
Consolidated Balance Sheets
As of June 30, 2009 and December 31, 2008
(in thousands, except share data)

		6/30/2009				12/31/2008
		(unaudited)
ASSETS
Fixed maturity investments, at fair value (amortized cost: $231,131 and $220,744)		$	231,891			$	216,708
Short-term investments, at amortized cost (which approximates fair value)			33,153				46,697
Total Investments			265,044				263,405
Cash			1,383				208
Insurance premiums receivable			68,484				60,715
Reinsurance recoverable on paid and unpaid loss and loss adjustment expenses			79,725				79,598
Prepaid reinsurance premiums			245				309
Investment income accrued			2,554				2,467
Equipment and capitalized software at cost (less accumulated depreciation of $18,823 and $15,486)			12,901				13,562
Intangible assets			10,745				10,745
Deferred acquisition costs			16,982				18,156
Deferred tax asset			1,602				3,146
Other assets			2,867				2,426
Total Assets		$	462,532			$	454,737
LIABILITIES & STOCKHOLDERS’ EQUITY
Liabilities
Loss and loss adjustment expense reserves		$	218,400			$	214,953
Unearned insurance premiums			79,247				80,600
Insured deposit funds			13,737				15,806
Accounts payable and other liabilities			10,435				7,089
Total Liabilities			321,819				318,448
Commitments (Note 8)
Stockholders’ equity
Common stock at $0.01 par value per share — authorized: 30,000,000 shares; issued: 14,779,417 and 14,712,355 shares; and outstanding: 14,571,596 and 14,437,355 shares			148				147
Class B common stock at $0.01 par value per share — authorized: 2,000,000 shares; issued and outstanding: 1,333,884 shares and 1,368,562 shares			13				14
Paid-in capital — Common Stock			130,394				129,926
Paid-in capital — Class B Common Stock			7,694				8,077
Accumulated earnings			2,573				1,693
Treasury stock (207,821 and 275,000 shares of common stock)			(1,003	)			(1,347	)
Accumulated other comprehensive income (loss)			894				(2,221	)
Total Stockholders’ Equity			140,713				136,289
Total Liabilities & Stockholders’ Equity		$	462,532			$	454,737

The accompanying notes are an integral part of these consolidated financial statements.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Specialty Underwriters’ Alliance, Inc.
Consolidated Statements of Operations and Comprehensive Income
For the Three and Six Months Ended June 30, 2009 and 2008
(Unaudited — in thousands, except for earnings per share)

		Three Months Ended								Six Months Ended
		6/30/2009				6/30/2008				6/30/2009				6/30/2008
Revenues
Earned insurance premiums		$	35,365			$	34,195			$	70,140			$	69,945
Net investment income			2,775				2,670				5,549				5,323
Net realized gains, other than impairments			24				7				168				38
Subtotal: Revenue before impairments			38,164				36,872				75,857				75,306
Other than temporary impairment losses			(1,624	)			-				(1,835	)			-
Portion of loss recognized in other comprehensive income			1,259				-				1,259				-
Subtotal: Net impairment recognized in earnings			(365	)			-				(576	)			-
Total revenue			37,799				36,872				75,281				75,306
Expenses
Loss and loss adjustment expenses			23,045				20,941				43,979				41,999
Acquisition expenses			8,359				7,267				16,884				15,970
Other operating expenses			7,141				5,412				13,726				11,339
Total expenses			38,545				33,620				74,589				69,308
Pretax income (loss)			(746	)			3,252				692				5,998
Income tax (expense) benefit			270				(1,002	)			(175	)			(283	)
Net income (loss)			(476	)			2,250				517				5,715
Net change in unrealized gains and losses for investments held, after tax			2,066				(2,685	)			2,660				(2,233	)
Impairments included in other comprehensive income (loss), after tax			818				-				818				-
Comprehensive income (loss)		$	2,408			$	(435	)		$	3,995			$	3,482
Earnings (loss) per share available to common stockholders (in dollars)
Basic		$	(0.03	)		$	0.14			$	0.03			$	0.37
Diluted		$	(0.03	)		$	0.14			$	0.03			$	0.36
Weighted average shares outstanding
Basic			15,877				15,666				15,843				15,623
Diluted			15,917				15,809				15,941				15,766

The accompanying notes are an integral part of these consolidated financial statements.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Specialty Underwriters’ Alliance, Inc.
Consolidated Statement of Stockholders’ Equity
As of June 30, 2009
(Unaudited — in thousands)

																										Accum.
																										Other				Total
		Common				Paid-in				Common				Paid-in												Comp.				Stock-
		Stock				Capital				Stock				Capital				Retained				Treasury				Income				holders'
		Class A				Class A				Class B				Class B				Earnings				Stock				(Loss)				Equity
Balance at Dec. 31, 2008		$	147			$	129,926			$	14			$	8,077			$	1,693			$	(1,347	)		$	(2,221	)		$	136,289
Net income			-				-				-				-				517				-				-				517
Net change in unrealized investment gains, net of tax			-				-				-				-				-				-				2,660				2,660
Impairments included in other comprehensive income, net of tax			-				-				-				-				-				-				818				818
Stock issuance			1				111				(1	)			(383	)			-				344				-				72
Stock based compensation			-				357				-				-				-				-				-				357
Cumulative effect of adopting FSP FAS 115-2			-				-				-				-				363				-				(363	)			-
Balance at June 30, 2009		$	148			$	130,394			$	13			$	7,694			$	2,573			$	(1,003	)		$	894			$	140,713

The accompanying notes are an integral part of these consolidated financial statements.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Specialty Underwriters’ Alliance, Inc.
Consolidated Statements of Cash Flows
For the Six Months Ended June 30, 2009 and 2008
(Unaudited — in thousands)

		Six Months Ended
		6/30/2009				6/30/2008
Cash flows from operations
Net income		$	517			$	5,715
Charges (credits) to reconcile net income to cash flows from operations:
Change in deferred income tax			(332	)			(307	)
Net realized losses (gains)			408				(38	)
Amortization of bond premium (discount)			97				(10	)
Depreciation			3,337				3,171
Net change in:
Reinsurance recoverable (payable) on unpaid loss and loss adjustment expense reserves			(127	)			3,806
Loss and loss adjustment expense reserves			3,447				10,134
Insurance premiums receivable			(7,769	)			491
Unearned insurance premiums			(1,353	)			(8,253	)
Deferred acquisition costs			1,174				1,705
Prepaid reinsurance premiums			64				214
Insured deposit funds			(2,069	)			1,277
Other, net			3,129				(312	)
Total adjustments			6				11,878
Net cash flows provided by operations			523				17,593
Cash flows from investing activities
Net decrease in short-term investments			13,545				12,710
Redemptions, calls and maturities of fixed maturity investments			19,051				18,042
Purchases of fixed maturity investments			(29,384	)			(44,938	)
Purchases of equipment and capitalized software			(2,676	)			(3,643	)
Net cash flows provided by (used for) investing activities			536				(17,829	)
Cash flows from financing activities
Issuance of common stock			116				762
Treasury Stock Purchases			-				(1,347	)
Net cash provided by (used for) financing activities			116				(585	)
Net increase (decrease) in cash during the period			1,175				(821	)
Cash at beginning of the period			208				968
Cash at the end of the period		$	1,383			$	147

The accompanying notes are an integral part of these consolidated financial statements.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Specialty Underwriters’ Alliance, Inc.
Notes to Consolidated Financial Statements
(unaudited — in thousands, except earnings per share)

Note 1. Basis of Presentation

     The Consolidated Financial Statements (unaudited) include the accounts of Specialty Underwriters’ Alliance, Inc., and its consolidated subsidiary, SUA Insurance Company, together referred to as SUA or the Company. SUA completed an initial public offering, or IPO, of its common stock on November 23, 2004. Concurrent with the IPO, SUA completed the acquisition of Potomac Insurance Company of Illinois, or Potomac. Potomac has subsequently been renamed SUA Insurance Company.

     The accompanying financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, or GAAP. Certain financial information that is normally included in annual financial statements, including certain financial statements footnotes, prepared in accordance with GAAP, is not required for interim reporting purposes and has been condensed or omitted. These statements should be read in conjunction with the consolidated financial statements and notes thereto included in SUA’s Annual Report on Form 10-K for the year ended December 31, 2008 filed with the Securities and Exchange Commission, or SEC.

     The interim financial data as of June 30, 2009, and for the periods ended June 30, 2009 and June 30, 2008 is unaudited. However, in the opinion of management, the interim data includes all adjustments, consisting of normal recurring accruals, necessary for a fair statement of the Company’s results for the interim periods. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year. Certain reclassifications have been made to prior period financial statement line items to enhance the comparability of the results presented.

Note 2. Recent Accounting Pronouncements

     In April 2009, the FASB issued FASB Staff Position, or FSP Financial Accounting Standard, or FAS 157-4, “ Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly ,” or FSP FAS 157-4, which provides guidance on how to determine the fair value of assets and liabilities in an environment where the volume and level of activity for the asset or liability has significantly decreased and re-emphasizes that the objective of a fair value measurement remains an exit price. FSP FAS 157-4 is effective for periods ending after June 15, 2009, with earlier adoption permitted. The adoption of FSP FAS 157-4 in the period ending June 30, 2009 did not have a material effect on the Company’s financial position or results of operations.

     In April 2009, the FASB issued FSP FAS 115-2 “ Recognition and Presentation of Other-Than-Temporary Impairments ,” or FSP FAS 115-2. The guidance applies to investments in debt securities for which other-than-temporary impairments may be recorded. If an entity’s management asserts that it does not have the intent to sell a debt security and it is more likely than not that it will not have to sell the security before recovery of its cost basis, then an entity may separate other-than-temporary impairments into two components: (1) the amount related to credit losses (recorded in earnings), and (2) all other amounts (recorded in other comprehensive income). This FSP is to be applied prospectively and is effective for interim and annual periods ending after June 15, 2009. The adoption of FSP FAS 115-2 in the period ending June 30, 2009 did not have a material effect on the Company’s financial position or results of operations.

     In April 2009, the FASB issued FSP FAS 107-1 and Accounting Principles Board 28-1 “ Interim Disclosures about Fair Value of Financial Instruments ,” or FSP FAS 107-1. FSP FAS 107-1 amends Statement of Financial Accounting Standards No. 107 “ Disclosures about Fair Value of Financial Instruments ” to require an entity to provide disclosures about fair value of financial instruments in interim financial information. FSP FAS 107-1 is to be applied prospectively and is effective for interim and annual periods ending after June 15, 2009. The adoption of FSP FAS 107-1 in the period ending June 30, 2009 did not have a material effect on the Company’s financial position or results of operations.

     In January 2009, the FASB issued FSP Emerging Issues Task Force, or EITF No. 99-20-1, “ Amendments to the Impairment Guidance of EITF Issue No. 99-20 ,” or FSP EITF 99-20-1, which is effective for interim and annual periods ending after December 15, 2008. FSP EITF 99-20-1 amends EITF 99-20 to align the impairment guidance in EITF 99-20 with the impairment guidance in FAS 115, “Accounting for Certain Investments in Debt and Equity Securities” . FSP EITF 99-20-1 amends the cash flows model used to analyze an other-than-temporary impairment under EITF 99-20 by replacing the market participant view with management’s assumption of whether it is probable

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Specialty Underwriters’ Alliance, Inc.
Notes to Consolidated Financial Statements
(unaudited — in thousands, except earnings per share)

that there is an adverse change in the estimated cash flows. The adoption of FSP EITF 99-20-1 in 2009 did not have a material effect on the Company’s results of operations, financial position or liquidity.

Note 3. Earnings Per Share

     Basic earnings per share is based on the weighted-average number of common shares outstanding during the period, while diluted earnings per share includes the weighted-average number of common shares and potential dilution from shares issuable pursuant to equity incentive compensation using the treasury stock method. The following table shows the computation of the Company’s earnings per share:

		Three Months Ended								Six Months Ended
		6/30/2009				6/30/2008				6/30/2009				6/30/2008
Numerator for earnings per share
Net income (loss)		$	(476	)		$	2,250			$	517			$	5,715
Denominator for earnings per share
Weighted-average shares outstanding used in computation of earnings per share
Common stock (class A and B) issued			16,097				15,684				16,090				15,632
Common stock in treasury			220				18				247				9
Weighted average shares outstanding - basic			15,877				15,666				15,843				15,623
Effect of dilutive securities 1 Stock awards			40				143				98				143
Weighted average shares outstanding - diluted			15,917				15,809				15,941				15,766
Earnings per share
Basic		$	(0.03	)		$	0.14			$	0.03			$	0.37
Diluted		$	(0.03	)		$	0.14			$	0.03			$	0.36

Note 4. Income Taxes

     The components of current and deferred income taxes for the three and six months ended June 30, 2009 and 2008 are as follows:

		Three Months Ended								Six Months Ended
		6/30/09				6/30/08				6/30/09				6/30/08
Current tax expense		$	(85	)		$	553			$	507			$	590
Deferred tax (benefit) expense			(185	)			449				(332	)			(307	)
Total income tax (benefit) expense		$	(270	)		$	1,002			$	175			$	283

     During the first quarter of 2008, based on profitability trends at the time, the Company believed that it was more likely than not that the deferred income tax assets would be realized. As such, the Company elected to eliminate its valuation allowance of $1,458. During the fourth quarter of 2008, the Company believed and continues to believe that certain state tax net operating loss carryforwards may not be realized in the future totaling $168 for which a valuation allowance has been maintained since December 31, 2008.

     As of June 30, 2009 and December 31, 2008, the Company had no tax basis net operating loss carry forwards. The Company accumulated start-up and organization expenditures through December 31, 2004 of $2,364 that are deductible over a 60-month period commencing on November 23, 2004. The unamortized portions of these costs were $166 and $402 at June 30, 2009 and December 31, 2008, respectively.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Specialty Underwriters’ Alliance, Inc.
Notes to Consolidated Financial Statements
(unaudited — in thousands, except earnings per share)

Note 5. Unpaid Loss and Loss Adjustment Expense Reserves

     Loss and loss adjustment expense, or LAE reserves are estimates of amounts needed to pay claims and related expenses in the future for insured events that have already occurred. The Company establishes estimates of amounts recoverable from its reinsurers in a manner consistent with the claims liability covered by the reinsurance contracts, net of an allowance for uncollectible amounts. The Company’s loss and LAE reserves represent management’s best estimate of reserves based on a composite of the results of various actuarial methods, as well as consideration of known facts and trends.

     As of June 30, 2009, the Company reported gross loss and LAE reserves of $218,400, of which $49,522 represented the gross direct loss and LAE reserves of Potomac, which is fully reinsured by OneBeacon Insurance Company, or OneBeacon. As of December 31, 2008, the Company reported gross loss and LAE reserves of $214,953, of which $53,262 represented the gross direct loss and LAE reserves of Potomac, which are fully reinsured by OneBeacon. Included in the reserves for the Company are tabular reserve discounts for workers’ compensation and excess workers’ compensation pension claims of $3,218 as of June 30, 2009 and $2,612 as of December 31, 2008. The reserves are discounted on a tabular basis at four percent using the 2001 United States Actuarial Life Tables for Female and Male population.

     Potomac was a participant in the OneBeacon Amended and Restated Reinsurance Agreement. Under that agreement, Potomac ceded all of its insurance assets and liabilities into a pool, or Pool, and assumed a 0.5% share of the Pool’s assets and liabilities. On April 1, 2004, Potomac ceased its participation in the Pool and entered into reinsurance agreements whereby Potomac reinsured all of its business written with OneBeacon effective as of January 1, 2004. As a result, Potomac will not share in any favorable or unfavorable development of prior losses recorded by it or the Pool after January 1, 2004, unless OneBeacon fails to perform on its reinsurance obligation.

Note 6. Investments

     The cost or amortized cost and estimated fair values of the Company’s fixed maturity investments at June 30, 2009 were as follows:

		Cost or				Gross				Gross
		Amortized				Unrealized				Unrealized				Fair
Category		Cost				Gains				Losses				Value
U.S. Treasury		$	9,791			$	656			$	-			$	10,447
U.S. Government Agencies			30,239				1,562				(117	)			31,684
Municipals			64,495				2,115				(214	)			66,396
Corporate Fixed Maturity			62,233				2,413				(666	)			63,980
Agency Mortgage Backed			39,338				1,852				-				41,190
Non-Agency Mortgage Backed			7,341				-				(1,939	)			5,402
Commercial Mortgage Backed			13,394				-				(2,805	)			10,589
Asset Backed			4,300				-				(2,097	)			2,203
Total Fixed Maturities		$	231,131			$	8,598			$	(7,838	)		$	231,891

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Specialty Underwriters’ Alliance, Inc.
Notes to Consolidated Financial Statements
(unaudited — in thousands, except earnings per share)

     The cost or amortized cost and estimated fair values of Company’s fixed maturity investments at December 31, 2008 were as follows:

		Cost or				Gross				Gross
		Amortized				Unrealized				Unrealized				Fair
Category		Cost				Gains				Losses				Value
U.S. Treasury		$	9,794			$	1,109			$	-			$	10,903
U.S. Government Agencies			35,109				2,118				-				37,227
Municipals			54,655				959				(679	)			54,935
Corporate Fixed Maturity			56,368				858				(1,691	)			55,535
Agency Mortgage Backed			39,066				1,373				-				40,439
Non-Agency Mortgage Backed			7,781				-				(2,617	)			5,164
Commercial Mortgage Backed			13,301				-				(3,412	)			9,889
Asset Backed			4,670				-				(2,054	)			2,616
Total Fixed Maturities		$	220,744			$	6,417			$	(10,453	)		$	216,708

     In addition to the above investments, the Company also held, at amortized cost, $33,153 and $46,697 in short term investments as of June 30, 2009 and December 31, 2008, respectively. The Company did not have any other investments.

Measuring Fair Value

     SFAS No. 157 establishes a fair value hierarchy which requires maximizing the use of observable inputs and minimizing the use of unobservable inputs when measuring fair value.

     As of June 30, 2009, assets measured at fair value on a recurring basis are summarized below:

						Fair Value Measurement Using:
						Quoted Prices
						in Active				Significant
						Markets for				Other				Significant
		Fair Value				Identical				Observable				Unobservable
		as of				Assets				Inputs				Inputs
Category		6/30/2009				(Level 1)				(Level 2)				(Level 3)
U.S. Treasury		$	10,447			$	-			$	10,447			$	-
U.S. Government Agency			31,684				-				31,684				-
Municipal			66,396				-				66,396				-
Corporate Fixed Maturity			63,980				-				63,033				947
Agency Mortgage Backed			41,190				-				41,190				-
Non-Agency Mortgage Backed			5,402				-				-				5,402
Commercial Mortgage Backed			10,589				-				-				10,589
Asset Backed			2,203				-				-				2,203
Total Fixed Maturity Investments		$	231,891			$	-			$	212,750			$	19,141

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Specialty Underwriters’ Alliance, Inc.
Notes to Consolidated Financial Statements
(unaudited — in thousands, except earnings per share)

     As of December 31, 2008, assets measured at fair value on a recurring basis are summarized below:

						Fair Value Measurement Using:
						Quoted Prices
						in Active				Significant
						Markets for				Other				Significant
		Fair Value				Identical				Observable				Unobservable
		as of				Assets				Inputs				Inputs
Category		12/31/08				(Level 1)				(Level 2)				(Level 3)
U.S. Treasury		$	10,903			$	-			$	10,903			$	-
U.S. Government Agency			37,227								37,227
Municipal			54,934								54,934
Corporate Fixed Maturity			55,536								55,536
Agency Mortgage Backed			40,439								40,439
Non-Agency Mortgage Backed			5,164												5,164
Commercial Mortgage Backed			9,889								8,676				1,213
Asset Backed			2,616								204				2,412
Total Fixed Maturity Investments		$	216,708			$	-			$	207,919			$	8,789

     The Company uses an independent pricing service to determine the fair value of substantially all of its investment assets. As of June 30, 2009, a total of nine securities with a total fair value of $4,828 were not priced by the Company’s independent pricing service, all of which were categorized Level 3 securities. The Company uses the following pricing methodology for each instrument in its portfolio.

•		First, the Company requests a single non-binding price from our independent pricing service.
•		Second, if no price is available from the pricing service for the instrument, the Company requests one or more non-binding broker-dealer quotes. A single quote is sought from a broker-dealer who has significant knowledge of the instrument being priced. If such broker-dealer is not available to quote, then an average is used from quotes solicited from multiple broker-dealers.
•		Third, if a broker-dealer quote is unavailable for the instrument, the Company uses a matrix pricing formula based on various factors provided from multiple broker-dealers including yield spreads, reported trades, sector or grouping information and for certain securities, other factors such as timeliness of payment, default experience and prepayment speed assumptions.

     The Company then validates the price or quote received by examining its reasonableness. The Company’s review process includes: (i) quantitative analysis (including yield spread and interest rate and price fluctuations on a monthly basis); (ii) initial and ongoing evaluation of methodologies used by outside parties to calculate fair value; and (iii) comparing the fair value estimates to its knowledge of the current market. If a price or a quote as provided is deemed unreasonable, the Company will use the second or the third pricing methodology to determine the fair value of the instrument.

     In order to determine the proper SFAS 157 classification for each instrument, the Company obtains from its outside pricing sources the pricing procedures and inputs used to price the instrument. The Company analyzes this information taking into account asset type, rating and liquidity to determine what inputs are observable and unobservable and thereby determines the suggested SFAS 157 Level.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Specialty Underwriters’ Alliance, Inc.
Notes to Consolidated Financial Statements
(unaudited — in thousands, except earnings per share)

     The following table presents a reconciliation of the beginning and ending balances for all investments measured at fair value using Level 3 inputs during the three months ended June 30, 2009:

		Three Months				Six Months
		Ended				Ended
		6/30/2009				6/30/2009
Level 3 investments as of beginning of period		$	16,586			$	8,789
Transfers into level 3 (at beginning period value)			911				9,618
Purchases, sales, issuances, and settlements, net			(348	)			(507	)
Total gains or losses (realized/unrealized):
Included in earnings			(365	)			(576	)
Included in comprehensive income			2,357				1,817
Level 3 investments as of June 30, 2009		$	19,141			$	19,141

     The transfer into Level 3 during the first quarter of 2009 of securities with a fair value, as of December 31, 2008, of $8,677 was the result of reduced liquidity, and therefore reduced price transparency, related to commercial mortgage backed securities.

Impairment Review

     The Company’s methodology for assessing other-than-temporary impairments, or OTTI, is based on security-specific facts and circumstances as of the balance sheet date. Factors considered in evaluating whether a decline in value is other than temporary included: (i) the length of time and the extent to which the fair value has been less than cost; (ii) the financial conditions and near-term prospects of the issuer; and (iii) the Company’s intent and ability to retain the investment for a period of time sufficient to allow for any anticipated recovery. The majority of the Company’s structured securities are subject to Emerging Issues Task Force Issue No. 99-20, “ Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets ,” or EITF 99-20, and FSP EITF 99-20-1 which allows management to analyze whether it is probable that there is an adverse change in the estimated cash flows. Accordingly, on a quarterly basis, when significant changes in estimated cash flows from the cash flows previously estimated occur due to actual prepayment and credit loss experience, and the present value of the revised cash flow is less than the present value previously estimated, OTTI is deemed to have occurred. Based on recent guidance in FSP FAS 115-2 and FAS 124-2 “ Recognition and Presentation of Other-Than-Temporary Impairments ,” a company that does not intend to sell the debt security and it is not more likely than not that the entity will be required to sell the debt security before recovery of its amortized cost basis, is required to separate the decline in fair value into (a) the amount representing the credit loss and (b) the amount related to all other factors. The amount of the total decline in fair value related to the credit loss is recognized in earnings as OTTI, with the amount related to other factors recognized in accumulated other comprehensive net loss, net of applicable income taxes. OTTI credit losses result in a permanent reduction of the cost basis of the underlying investment. The determination of OTTI is a subjective process, and different judgments and assumptions could affect the timing of loss realization.

     The Company recorded an OTTI charge of $1,624 on investment securities during the three months ended June 30, 2009 of which $365 was recognized as a loss in earnings and $1,259 was recognized, net of taxes, as a loss in comprehensive income. The Company recorded an OTTI charge of $1,835 on investment securities during the six months ended June 30, 2009 of which $576 was recognized as a loss in earnings and $1,259 was recognized, net of taxes, as a loss in comprehensive income.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Specialty Underwriters’ Alliance, Inc.
Notes to Consolidated Financial Statements
(unaudited — in thousands, except earnings per share)

     The following table provides a roll-forward of the OTTI showing the amounts that have been included in earnings and other comprehensive net loss.

		Recognized In
						Other
						Compre-
						hensive
		Earnings				Net Loss				Total
Beginning Balance, April 1, 2009		$	1,060			$	-			$	1,060
Cumulative effect of adjustment resulting from adoption of FSP115-2, before income taxes			(559	)			559				-
Subtotal			501				559				1,060
Other-than-temporary impairment loss			365				1,259				1,624
Ending balance, June 30, 2009		$	866			$	1,818			$	2,684

Unrealized Losses

     Significant factors influencing the Company’s determination that unrealized losses were temporary included (i) the magnitude of the unrealized losses in relation to each security’s cost, (ii) the nature of the investment and (iii) that management does not intend to sell these securities and it is not more likely than not that the Company will be required to sell these investments for a period of time sufficient to allow for anticipated recovery of fair value to the Company’s cost basis. The following table presents information regarding the Company’s invested assets that were in an unrealized loss position at June 30, 2009 by amount of time in a continuous unrealized loss position:

						Unrealized Losses
						Less than				Greater than
		Fair Value				12 Months				12 Months				Total
U.S. Government Agency		$	3,063			$	(37	)		$	(80	)		$	(117	)
Municipal			15,043				(87	)			(127	)			(214	)
Corporate Fixed Maturity			10,709				(25	)			(641	)			(666	)
Non-Agency Mortgage Backed			4,790				-				(1,939	)			(1,939	)
Commercial Mortgage Backed			10,589				(52	)			(2,753	)			(2,805	)
Asset Backed			1,555				-				(2,097	)			(2,097	)
Total Fixed Maturities		$	45,749			$	(201	)		$	(7,637	)		$	(7,838	)

     The following table presents information regarding the Company’s invested assets that were in an unrealized loss position at December 31, 2008 by amount of time in a continuous unrealized loss position:

						Unrealized Losses
						Less than				Greater than
		Fair Value				12 Months				12 Months				Total
Municipal		$	21,713			$	(679	)		$	-			$	(679	)
Corporate Fixed Maturity			35,201				(560	)			(1,131	)			(1,691	)
Non-Agency Mortgage Backed			5,164				(279	)			(2,338	)			(2,617	)
Commercial Mortgage Backed			9,889				(1,811	)			(1,601	)			(3,412	)
Asset Backed			2,616				-				(2,054	)			(2,054	)
Total Fixed Maturities		$	74,583			$	(3,329	)		$	(7,124	)		$	(10,453	)

     Temporary losses on investment securities are primarily a result of market illiquidity and certain asset classes being out of favor with investors and are recorded as unrealized losses. The Company considered all relevant factors, including expected recoverability of cashflows, in assessing whether the loss was other-than-temporary. The Company does not intend to sell its fixed maturity securities, and it is not more likely than not that the Company will be required to sell these investments, until there is a recovery of fair value to the Company’s original cost basis, which may be at maturity.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Specialty Underwriters’ Alliance, Inc.
Notes to Consolidated Financial Statements
(unaudited — in thousands, except earnings per share)

Note 7. Equity-Based Compensation

     On May 1, 2007, the stockholders of the Company approved the 2007 Stock Incentive Plan, or 2007 Plan. The 2007 Plan replaces the 2004 Stock Option Plan, or 2004 Plan. Options previously granted under the 2004 Plan will continue for the life of such options. The 2007 Plan provides for the issuance of up to 800,000 shares of the Company’s common stock in the form of stock options, stock appreciation rights, restricted stock awards and deferred stock awards. In addition, should any of the options outstanding under the 2004 Plan be terminated, those shares will become available under the 2007 Plan.

     The 2007 Plan provides for an automatic grant of 3,000 unrestricted shares of common stock to each independent director on the first business day following such director’s re-election to the Board of Directors at the Annual Meeting of the Stockholders. On May 6, 2009, 15,000 shares were granted to independent directors who were re-elected to the Board at the 2009 Annual Meeting of the Stockholders held on May 5, 2009.

     The compensation cost associated with the grants of common stock on May 6, 2009 is $51 based on the fair market value of the shares on the date of grant pursuant to SFAS 123R which was completely recognized during the second quarter of 2009.

     No other awards were made under the 2007 Plan or the 2004 Plan and 50 shares subject to grant were forfeited under the 2007 Plan in the second quarter of 2009.

     In addition there was equity based compensation expenses of $3, relating to stock options previously granted.

Note 8. Commitments and Contingencies

     FBR Capital Markets & Co., or FBR, acted as financial advisor to the Company in connection with the entry into the Amended and Restated Agreement and Plan of Merger by and among the Company, Tower Group, Inc., or Tower, and Tower S.F. Merger Corporation, a wholly owned subsidiary of Tower, effective as of June 21, 2009 as well as other merger proposals received by the Company in 2008 and 2009 and received an aggregate of $100 in retainers for its services. FBR also received a fee of $500 in connection with the delivery of its fairness opinion and will receive a fee equal to 1.25% of the aggregate consideration of the merger as of the consummation thereof, less any retainer and fairness opinion fees. Assuming an average Tower stock price of $25.00, the total fee to FBR (including the retainer fees and opinion fee previously paid) would be approximately $1,392.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

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

      This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the federal securities laws, which are intended to be covered by the safe harbors created thereby. Those statements include, but may not be limited to, the discussions of our operating and growth strategy. Investors are cautioned that all forward-looking statements involve risks and uncertainties including, without limitation, those set forth under the caption “Risk Factors” in Item 1A of Part II of this Quarterly Report on Form 10-Q and in the Business section of our Annual Report on Form 10-K for the year ended December 31, 2008. Although we believe that the assumptions underlying the forward-looking statements contained herein are reasonable, any of the assumptions could prove to be inaccurate, and therefore, there can be no assurance that the forward-looking statements included in this Quarterly Report on Form 10-Q will prove to be accurate. In light of the significant uncertainties inherent in the forward-looking statements included herein, the inclusion of such information should not be regarded as a representation by us or any other person that our objectives and plans will be achieved. We undertake no obligation to publicly release any revisions to any forward-looking statements contained herein to reflect events and circumstances occurring after the date hereof or to reflect the occurrence of unanticipated events.

Overview

     We were formed on April 3, 2003 for the purpose of offering products in the specialty commercial property and casualty insurance market by using an innovative business model. Specialty insurance typically serves niche groups of insureds that require highly specialized knowledge of a business class to achieve underwriting profits. This segment has traditionally been underserved by most standard commercial property and casualty insurers, due to the complex business knowledge and the investment required to achieve attractive underwriting profits. Competition in this segment is based primarily on client service, availability of insurance capacity, specialized policy forms, efficient claims handling and other value-based considerations, rather than just price.

     On November 23, 2004 we completed our IPO and concurrent private placements and completed the acquisition of Potomac. After giving effect to the acquisition, we changed the name of Potomac to SUA Insurance Company. On January 1, 2005 we commenced our insurance operations.

     On June 21, 2009, the Company, Tower Group, Inc., or Tower, and Tower S.F. Merger Corporation, a wholly-owned subsidiary of Tower, or Merger Sub, entered into an Agreement and Plan of Merger, pursuant to which, subject to the terms and conditions set forth therein, Merger Sub will merge into the Company, with the Company continuing as the surviving corporation and a wholly-owned subsidiary of Tower. Upon the consummation of the merger, the Company’s common stock will be delisted. On July 22, 2009, the Company, Tower and Merger Sub executed an Amended and Restated Agreement and Plan of Merger, or the merger agreement, effective as of June 21, 2009, to make certain corrections to the original merger agreement. For further information about the merger or to view the merger agreement, see our current reports on Forms 8-K and 8-K/A filed with the Securities and Exchange Commission on June 22, 2009 and July 24, 2009.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

Three Months Ended June 30, 2009 as compared to the Three Months Ended June 30, 2008

RESULTS OF OPERATIONS

		Three Months Ended
		6/30/2009				6/30/2008				% Change
		(in millions, except for
		earnings per share)
Gross written premiums		$	43.9			$	41.8				5.0%
Net written premiums			41.8				39.9				4.8%
Earned premiums		$	35.4			$	34.2				3.5%
Net investment income			2.8				2.7				3.7%
Net realized gains (losses)			(0.3	)			-				*
Total revenues			37.9				36.9				2.7%
Net loss and loss adjustment expense			23.0				20.9				10.0%
Acquisition expenses			8.4				7.3				15.1%
Other operating expenses			7.2				5.4				33.3%
Total expenses			38.6				33.6				14.9%
Pre-tax income (loss)			(0.7	)			3.3				*
Federal income (tax) benefit			0.2				(1.0	)			*
Net income (loss)		$	(0.5	)		$	2.3				*
Basic		$	(0.03	)		$	0.14				*
Diluted		$	(0.03	)		$	0.14				*
Basic			15.9				15.7				1.3%
Diluted			15.9				15.8				0.6%
Key operating ratios
Net loss and loss adjustment expense ratio			65.0%				61.2%				6.2%
Ratio of acquisition expense to earned premiums			23.7%				21.3%				11.2%
Ratio of all other expenses to gross written premiums			16.4%				13.0%				26.2%

     Net loss for the quarter ended June 30, 2009 was $0.5 million, compared to net income of $2.3 million for the quarter ended June 30, 2008. Loss per share for the quarter ended June 30, 2009 was $0.03, versus earnings per share of $0.14 for the quarter ended June 30, 2008. The decrease in our net income was due to several factors, including (i) the operating expenses incurred as a result of both the proxy contest waged at the annual meeting of stockholders held on May 5, 2009 and the negotiation of the merger agreement we entered into with Tower on June 21, 2009, (ii) the increase to our net loss and loss adjustment ratio resulting from several large losses in our commercial automobile line and (iii) the increase in our acquisition expense ratio resulting from higher commission rates paid to our partner agents.

     Gross written premiums were $43.9 million for the three months ended June 30, 2009 compared to $41.8 million for the three months ended June 30, 2008. The increase in gross written premiums was attributable to increased premiums in our commercial automobile line of business offset by rate reductions affecting the renewal business in our workers’ compensation line.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

     Our gross written premiums by partner agent for the three months ended June 30, 2009 and 2008 were as follows:

		6/30/2009								6/30/2008
		Gross Written				% of Total Gross				Gross Written				% of Total Gross
		Premium				Written Premium				Premium				Written Premium
		(in millions)
Risk Transfer Programs, LLC		$	17.6				40.1%			$	22.3				53.3%
American Team Managers			6.4				14.6%				6.5				15.6%
Appalachian Underwriters, Inc.			5.9				13.4%				2.1				5.0%
Specialty Risk Solutions, LLC			4.1				9.3%				0.9				2.2%
Northern Star Management, Inc.			3.5				8.0%				2.0				4.8%
AEON Insurance Group, Inc.			3.4				7.7%				5.2				12.4%
First Light Program Manager, Inc.			2.9				6.6%				1.0				2.4%
Insential, Inc.			0.2				0.5%				0.4				1.0%
Flying Eagle Insurance Service, Inc.			-				0.0%				0.3				0.7%
Other			(0.1)				-0.2%				1.1				2.6%
Total		$	43.9				100.0%			$	41.8				100.0%

     Our gross written premiums for the three months ended June 30, 2009 and 2008 by state were as follows:

		6/30/2009								6/30/2008
		Gross				% of Total				Gross				% of Total
		Written				Gross Written				Written				Gross Written
		Premium				Premium				Premium				Premium
		(in millions)
Florida		$	12.2				27.8%			$	10.7				25.6%
California			11.0				25.1%				14.2				34.0%
Texas			4.5				10.3%				1.3				3.1%
Other states			16.2				36.8%				15.6				37.3%
Total		$	43.9				100.0%			$	41.8				100.0%

     Our gross written premiums by line of business for the three months ended June 30, 2009 and 2008 were as follows:

		6/30/2009								6/30/2008
		Gross				% of Total				Gross				% of Total
		Written				Gross Written				Written				Gross Written
		Premium				Premium				Premium				Premium
		(in millions)
Workers’ compensation		$	25.7				58.6%			$	26.4				63.2%
Commercial automobile			13.0				29.6%				10.4				24.9%
General liability			4.7				10.7%				4.2				10.0%
All other			0.5				1.1%				0.8				1.9%
Total		$	43.9				100.0%			$	41.8				100.0%

     The change in our mix of business by agent, state and line of business was influenced by an increase of premium in our commercial automobile line of business which was partially offset by rate reductions affecting the renewal business in our workers’ compensation line.

     Earned premiums were $35.4 million for the quarter ended June 30, 2009 compared to $34.2 million for the quarter ended June 30, 2008.

2009 Second Quarter Form 10-Q
Specialty Underwriters’ Alliance, Inc.

     Net investment income was $2.8 million for the three months ended June 30, 2009 versus $2.7 million for the three months ended June 30, 2008.

     Acquisition expenses were $8.4 million for the three months ended June 30, 2009 compared to $7.3 million for the quarter ended June 30, 2008. The increase in acquisition expenses was primarily the result of higher commission rates paid to our partner agents resulting from the continuation of a soft insurance market.

     Other operating expenses were $7.2 million for the quarter ended June 30, 2009 compared to $5.4 million for the quarter ended June 30, 2008. The increase in other operating expenses was primarily attributable to the one-time expenses of approximately $1.6 million incurred as a result of both the proxy contest waged at the annual meeting of stockholders held on May 5, 2009 and the negotiation of the merger agreement entered into with Tower Group, Inc. on June 21, 2009.

     For the second quarter of 2009, our net loss and loss adjustment expense ratio was 65.0%, compared to 61.2% for the comparable quarter in 2008. This increase was primarily driven by higher loss ratios in our commercial automobile line of business resulting from several large losses in that line. This was partially offset by favorable prior year loss development for the second quarter of 2009 of $1.0 million primarily attributable to favorable loss development in our general liability line of business. For the three months ended June 30, 2008 we experienced favorable prior year loss development of $0.6 million across all lines of business.

Six Months Ended June 30, 2009 as compared to the Six Months Ended June 30, 2008

RESULTS OF OPERATIONS

		Six Months Ended
		6/30/2009				6/30/2008				% Change
		(in millions, except for
		earnings per share)
Gross written premiums		$	72.9			$	65.9				10.6	%
Net written premiums			68.8				61.6				11.7	%
Earned premiums		$	70.1			$	69.9				0.3	%
Net investment income			5.6				5.3				5.7	%
Net realized gains (losses)			(0.4	)			0.1				*
Total revenues			75.3				75.3				0.0	%
Net loss and loss adjustment expense			44.0				42.0				4.8	%
Acquisition expenses			16.9				16.0				5.6	%
Other operating expenses			13.7				11.3				21.2	%
Total expenses			74.6				69.3				7.6	%
Pre-tax income			0.7				6.0				-88.3	%
Federal income tax			(0.2	)			(0.3	)			*
Net income		$	0.5			$	5.7				-91.2	%
Basic		$	0.03			$	0.37				-91.4	%
Diluted		$	0.03			$	0.36				-91.3	%
Basic			15.8				15.6				1.3	%
Diluted			15.9				15.8				0.6	%
Key operating ratios
Net loss and loss adjustment expense ratio			62.8	%			60.0	%			4.6	%
Ratio of acquisition expense to earned premiums			24.1	%			22.8	%			5.7	%
Ratio of all other expenses to gross written premiums			18.8	%			17.2	%			9.3	%