Navigators Group Inc (NAVG) SEC Annual Report (10-K) for 2012

United Kingdom

Our United Kingdom subsidiaries and our Lloyd's Operations are subject to regulation by the FSA, as established by the Financial Services and Markets Act 2000. Our Lloyd's Operations are also subject to supervision by the Council of Lloyd's. The FSA has been granted broad authorization and intervention powers as they relate to the operations of all insurers, including Lloyd's syndicates, operating in the United Kingdom. Lloyd's is authorized by the FSA and is required to implement certain rules prescribed by the FSA, which it does by the powers it has under the Lloyd's Act 1982 relating to the operation of the Lloyd's market. Lloyd's prescribes, in respect of its managing agents and corporate members, certain minimum standards relating to their management and control, solvency and various other requirements. The FSA directly monitors Lloyd's managing agents' compliance with the systems and controls prescribed by Lloyd's. If it appears to the FSA that either Lloyd's is not fulfilling its delegated regulatory responsibilities, or that managing agents are not complying with the applicable regulatory rules and guidance, the FSA may intervene at its discretion.

The United Kingdom coalition government has commenced a restructuring of the regulatory regime for financial services in the United Kingdom by enacting the Financial Services and Markets Act 2012 (amending the Financial Services and Markets Act 2000). Seen as a response to the financial crisis, the amendments involve the abolition of the FSA and the establishment in its place of a new system based on the following components: a new macro prudential regulator, the Financial Policy Committee, to be established within the Bank of England, responsible for setting macro financial services policy and monitoring systemic risks; a new prudential regulator, the Prudential Regulation Authority ("PRA"), to be established as a subsidiary of the Bank of England with the intention that it can draw on the financial sector expertise of the Bank but remain operationally independent; a new conduct of business regulator, called the Financial Conduct Authority ("FCA") to focus on ensuring confidence on the wholesale and retail financial markets with particular focus on protection of consumers; and the creation of a new single agency responsible for tackling serious economic crime. Insurers and reinsurers will be regulated both by the PRA (for prudential issues) and the FCA (for conduct of business issues). Consistent with this, The Society of Lloyd's and Lloyd's managing agents will be regulated both by the PRA and the FCA. The new system of regulation will begin operating on April 1, 2013. In the meantime, the FSA has moved towards a new regulatory structure by replacing its Risk and Supervision Business Unit with a Consumer and Markets Business Unit.

We participate in the Lloyd's market through our ownership of NUAL and Navigators Corporate Underwriters Ltd. NUAL is the managing agent for Syndicate 1221. We controlled 100% of Syndicate 1221's stamp capacity for the 2011, 2010 and 2009 underwriting years through our wholly-owned subsidiary, Navigators Corporate Underwriters Ltd., which is referred to as a corporate name in the Lloyd's market. By entering into a membership agreement with Lloyd's, Navigators Corporate Underwriters Ltd. undertakes to comply with all Lloyd's by-laws and regulations as well as the provisions of the Lloyd's Acts and the Financial Services and Markets Act that are applicable to it. The operation of Syndicate 1221, as well as Navigators Corporate Underwriters Ltd. and their respective directors, is subject to the Lloyd's supervisory regime.

Underwriting capacity of a member of Lloyd's must be supported by providing a deposit (referred to as "Funds at Lloyd's") in the form of cash, securities or letters of credit in an amount determined by Lloyd's equal to a specified percentage of the member's underwriting capacity. The amount of such deposit is calculated by each member through the completion of an annual capital adequacy exercise. The results of this exercise are submitted to Lloyd's for approval. Lloyd's then advises the member of the amount of deposit that is required. The consent of the Council of Lloyd's may be required when a managing agent of a syndicate proposes to increase underwriting capacity for the following underwriting year.

The Council of Lloyd's has wide discretionary powers to regulate members' underwriting at Lloyd's. It may, for instance, change the basis on which syndicate expenses are allocated or vary the Funds at Lloyd's ratio or the investment criteria applicable to the provision of Funds at Lloyd's. Exercising any of these powers might affect the return on an investment of the corporate member in a given underwriting year. Further, it should be noted that the annual business plans of a syndicate are subject to the review and approval of the Lloyd's Franchise Board. The Lloyd's Franchise Board was formally constituted on January 1, 2003. The Franchise Board is responsible for setting risk management and profitability targets for the Lloyd's market and operates a business planning and monitoring process for all syndicates.

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Corporate members continue to have insurance obligations even after all their underwriting years have been closed by reinsurance to close. In order to continue to perform these obligations, corporate members are required to stay in existence; accordingly, there continues to be an administrative and financial burden for corporate members between the time their memberships have ceased and the time their insurance obligations are extinguished, including the completion of financial accounts in accordance with the Companies Act 2006.

If a member of Lloyd's is unable to pay its debts to policyholders, such debts may be payable by the Lloyd's Central Fund, which acts similarly to state guaranty funds in the United States. If Lloyd's determines that the Central Fund needs to be increased, it has the power to assess premium levies on current Lloyd's members. The Council of Lloyd's has discretion to call or assess up to 3% of a member's underwriting capacity in any one year as a Central Fund contribution.

A European Union ("E.U.") directive covering the capital adequacy, risk management and regulatory reporting for insurers, known as Solvency II, was adopted by the European Parliament in April 2009. Solvency II will introduce a new system of regulation for insurers operating in the E.U. (including the United Kingdom) and presents a number of risks to us. Although Solvency II was originally stated to have become effective by October 31, 2012, the European Union approved a directive extending the implementation date until January 1, 2014, although this implementation date is also in doubt. In December 2012, the European Insurance and Occupational Pensions Authority ("EIOPA," which is a European Union supervisory authority for insurance and occupational pensions), proposed an outline to have certain elements of Solvency II in place by the beginning of 2014, including systems of governance, pre-application of internal models and reporting to supervisors. The Company's implementation plans are based on its current understanding of the Solvency II requirements, which may change. During the next few years, we expect to undertake a significant amount of work to ensure that we meet the new requirements, which may divert finite resources from other business related tasks. Although the details of how Solvency II (or individual elements thereof) will apply to Navigators Insurance Company, NUAL and Syndicate 1221 are not yet fully known, it is clear that Solvency II will impose new requirements with respect to capital structure, technical provisions, solvency calculations, governance, disclosure and risk management. There is also a risk that Solvency II may increase our capital requirements for our U.K. Branch and Syndicate 1221. These new regulations have the potential to adversely affect the profitability of Navigators Insurance Company, NUAL and Syndicate 1221, and to restrict their ability to carry on their businesses as currently conducted. A significant unanswered question about how Solvency II will be implemented is whether the new regulations will apply only to Navigators Insurance Company's U.K. Branch or to all of its operations, both within and outside of the United Kingdom and the other E.U. countries in which it operates. If the regulations are applied to Navigators Insurance Company in its entirety, we could be subject to even more onerous requirements under the new regulations. Such requirements could have a significant adverse effect on our ability to operate profitably and could impose other significant restrictions on our ability to carry on our insurance business in the E.U. (including the United Kingdom) as it is now conducted.

Competition

The property and casualty insurance industry is highly competitive. We face competition from both domestic and foreign insurers, many of whom have longer operating histories and greater financial, marketing and management resources. Competition in the types of insurance in which we are engaged is based on many factors, including our perceived overall financial strength, pricing, other terms and conditions of products and services offered, business experience, marketing and distribution arrangements, agency and broker relationships, levels of customer service (including speed of claims payments), product differentiation and quality, operating efficiencies and underwriting. Furthermore, insureds tend to favor large, financially strong insurers, and we face the risk that we will lose market share to higher rated insurers.

Another competitive factor in the industry is the entrance of other financial services providers such as banks and brokerage firms into the insurance business. These efforts pose new challenges to insurance companies and agents from financial services companies traditionally not involved in the insurance business.

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Employees

As of December 31, 2012, we had 567 full-time employees of which 450 were located in the United States, 110 in the United Kingdom, 3 in Sweden, 2 in Belgium and 2 in Denmark.

Available Information

This report and all other filings made by the Company with the SEC pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), are made available to the public by the SEC. All filings can be read and copied at the SEC Public Reference Room, located at 100 F Street, NE, Washington, DC 20549. Information pertaining to the operation of the Public Reference Room can be obtained by calling 1-800-SEC-0330. We are an electronic filer, so all reports, proxy and information statements, and other information can be found at the SEC website, www.sec.gov. Our website address is http://www.navg.com. Through our website at http://www.navg.com/Pages/sec-filings.aspx, we make available, free of charge, our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports as soon as reasonably practicable after such material is electronically filed with or furnished to the SEC. The annual report to stockholders, press releases and recordings of our earnings release conference calls are also provided on our website.

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Item 1A. Risk Factors

You should carefully consider each of the risks and uncertainties described below and elsewhere in this Annual Report on Form 10-K, as well as any amendments or updates reflected in subsequent filings with the SEC. We believe these risks and uncertainties, individually or in the aggregate, could cause our actual results to differ materially from expected and historical results and could materially and adversely affect our business operations. Further, additional risks and uncertainties not presently known to us or that we currently deem immaterial may also impair our results and business operations.

The continuing volatility in the financial markets and the risk of another recession could have a material adverse effect on our results of operations and financial condition.

The financial market experienced significant volatility worldwide from the third quarter of 2008 through 2012. Although the U.S., European and other foreign governments have taken various actions to try to stabilize the financial markets, it is unclear whether those actions will be effective. Therefore, the financial market volatility and the resulting negative economic impact could continue.

Although we continue to monitor market conditions, we cannot predict future market conditions or their impact on our stock price or investment portfolio. Depending on market conditions, we could incur future additional realized and unrealized losses, which could have a material adverse effect on our results of operations and financial condition. These economic conditions have had an adverse impact on the availability and cost of credit resources generally, which could negatively affect our ability to obtain letters of credit utilized by our Lloyd's Operations to support business written through Lloyd's.

In addition, the continuing financial market volatility and economic downturn could continue to have a material adverse effect on our insureds, agents, claimants, reinsurers, vendors and competitors. Certain of the actions U.S., European and other foreign governments have taken or may take in response to the financial market crisis have impacted certain property and casualty insurance carriers. The U.S., European and other foreign governments continue to actively take steps to implement measures to stabilize the financial markets and stimulate the economy, and it is possible that these measures could further affect the property and casualty insurance industry and its competitive landscape.

Our business is concentrated in marine and energy, specialty liability and professional liability insurance, and if market conditions change adversely, or we experience large losses in these lines, it could have a material adverse effect on our business.

As a result of our strategy to focus on specialty products in niches where we have underwriting and claims handling expertise and to decrease our business in areas where pricing does not afford what we consider to be acceptable returns, our business is concentrated in the marine and energy, specialty liability and professional liability lines of business. If our results of operations from any of these lines are less favorable for any reason, including lower demand for our products on terms and conditions that we find appropriate, flat or decreased rates for our products or increased competition, the impact of a reduction could have a material adverse effect on our business.

We are exposed to cyclicality in our business that may cause material fluctuations in our results.

The property and casualty insurance business generally, and the marine insurance business specifically, have historically been characterized by periods of intense price competition due to excess underwriting capacity as well as periods when shortages of underwriting capacity have permitted attractive premium levels. We have reduced business during periods of severe competition and price declines and grown when pricing allowed an acceptable return. The cyclical trends in the property and casualty insurance and reinsurance industries and the profitability of these industries can also be significantly affected by volatile and unpredictable developments, including what we believe to be a trend of natural disasters, fluctuations in interest rates, changes in the investment environment that affect market prices of investments and inflationary pressures that may tend to affect the size of losses experienced by insureds. We cannot predict with accuracy whether market conditions will remain constant, improve or deteriorate. We expect that our business will continue to experience the effects of this cyclicality which, over the course of time, could result in material fluctuations in our premium volume, revenues or expenses.

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We may not be successful in developing our new specialty lines which could cause us to experience losses.

Since 2001, we have entered into a number of new specialty lines of business, primarily professional liability, excess casualty, primary casualty, inland marine, property catastrophe, agriculture reinsurance, and accident and health reinsurance. We continue to look for appropriate opportunities to diversify our business portfolio by offering new lines of insurance in which we believe we have sufficient underwriting and claims expertise. However, as we enter into these new specialties, because of our limited history in these new lines, there is limited financial information available to help us estimate sufficient reserve amounts for these lines and to help evaluate whether we will be able to successfully develop these new lines or the likely ultimate losses and expenses associated with these new lines. Due to our limited history in these areas, we may have less experience managing their development and growth than some of our competitors. Additionally, there is a risk that the lines of business into which we expand will not perform at the levels we anticipate.

We may be unable to manage effectively our rapid growth in our lines of business, which may adversely affect our results.

To control our growth effectively, we must successfully manage our new and existing lines of business. This process will require substantial management attention and additional financial resources. In addition, our growth is subject to, among other risks, the risk that we may experience difficulties and incur expenses related to hiring and retaining a technically proficient workforce. Accordingly, we may fail to realize the intended benefits of expanding into new specialty lines and we may fail to realize value from such lines relative to the resources that we invest in them. Any difficulties associated with expanding our current and future lines of business could adversely affect our results of operations.

We may incur additional losses if our loss reserves are insufficient.

We maintain loss reserves to cover our estimated ultimate unpaid liability for losses and LAE with respect to reported and unreported claims incurred as of the end of each accounting period. Reserves do not represent an exact calculation of liability, but instead represent estimates, generally utilizing actuarial projection techniques and judgment at a given accounting date. These reserve estimates are expectations of what the ultimate settlement and administration of claims will cost based on our assessment of facts and circumstances then known, review of historical settlement patterns, estimates of trends in claims severity, frequency, legal theories of liability and other factors. Both internal and external events, including changes in claims handling procedures, economic inflation, legal trends and legislative changes, may affect the reserve estimation process. Many of these items are not directly quantifiable, particularly on a prospective basis. Additionally, there may be significant lags between the occurrence of the insured event and the time it is actually reported to us. We continually refine reserve estimates in a regular ongoing process as historical loss experience develops and additional claims are reported and settled. Adjustments to reserves are reflected in the results of the periods in which the estimates are changed. Because establishment of reserves is an inherently uncertain process involving estimates, currently established reserves may not be sufficient. If estimated reserves are insufficient, we will incur additional charges to earnings which could have a material adverse effect on future results of operations, financial position or cash flows.

Our loss reserves include amounts related to short tail and long tail classes of business. Short tail business means that claims are generally reported quickly upon occurrence of an event, making estimation of loss reserves less complex. For the long tail lines, significant periods of time, ranging up to several years or more, may elapse between the occurrence of the loss, the reporting of the loss and the settlement of the claim. The longer the time span between the incidence of a loss and the settlement of the claim, the more likely the ultimate settlement amount will vary. Our longer tail business includes general liability, including construction defect claims, as well as historical claims for asbestos exposures through our marine and aviation businesses and claims relating to our run-off businesses. Our professional liability business, though long tail with respect to settlement period, is produced on a claims-made basis (which means that the policy in-force at the time the claim is filed, rather than the policy in-force at the time the loss occurred, provides coverage) and is therefore, we believe, less likely to result in a significant time lag between the occurrence of the loss and the reporting of the loss. There can be no assurance, however, that we will not suffer substantial adverse prior period development in our business in the future.

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In addition, reinsurance reserves are subject to greater uncertainty than insurance reserves primarily because a reinsurer relies on the original underwriting decisions made by ceding companies. As a result, in relation to our reinsurance business, we are subject to the risk that our ceding companies may not have adequately evaluated the risks reinsured by us and the premiums ceded may not adequately compensate us for the risks we assume. In addition, reinsurance reserves may be less reliable than insurance reserves because there is generally a longer lapse of time from the occurrence of the event to the reporting of the loss or benefit to the reinsurer to the ultimate resolution or settlement of the loss.

In addition to loss reserves, preparation of our financial statements requires us to make many estimates and judgments.

In addition to loss reserves discussed above, the Consolidated Financial Statements contain estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures. On an ongoing basis we evaluate our estimates based on historical experience and other assumptions that we believe to be reasonable under the circumstances. Any significant change in these estimates could adversely affect our results of operations and/or our financial condition.

We may not have access to adequate reinsurance to protect us against losses.

We purchase reinsurance by transferring part of the risk we have assumed to a reinsurance company in exchange for part of the premium we receive in connection with the risk. The availability and cost of reinsurance are subject to prevailing market conditions, both in terms of price and available capacity, which can affect our business volume and profitability. Our reinsurance programs are generally subject to renewal on an annual basis. If we are unable to renew our expiring facilities or to obtain new reinsurance facilities, either our net exposures would increase, which could increase our costs, or, if we were unwilling to bear an increase in net exposures, we would have to reduce the level of our underwriting commitments, especially catastrophe exposed risks, which would reduce our revenues and possibly net income.

Our reinsurers may not pay on losses in a timely fashion, or at all, which may increase our costs.

Although reinsurance makes the reinsurer liable to us to the extent the risk is transferred or ceded to the reinsurer, ceded reinsurance arrangements do not eliminate our obligation to pay claims to our policyholders. Accordingly, we bear credit risk with respect to our reinsurers. Specifically, our reinsurers may not pay claims made by us on a timely basis, or they may not pay some or all of these claims. Either of these events would increase our costs and could have a material adverse effect on our business.

Intense competition for our products could harm our ability to maintain or increase our profitability and premium volume.

The property and casualty insurance industry is highly competitive. We face competition from both domestic and foreign insurers, many of whom have longer operating histories and greater financial, marketing and management resources. Competition in the types of insurance in which we are engaged is based on many factors, including our perceived overall financial strength, pricing and other terms and conditions of products and services offered, business experience, marketing and distribution arrangements, agency and broker relationships, levels of customer service (including speed of claims payments), product differentiation and quality, operating efficiencies and underwriting. Furthermore, insureds tend to favor large, financially strong insurers, and we face the risk that we will lose market share to higher rated insurers. We may have difficulty in continuing to compete successfully on any of these bases in the future. If competition limits our ability to write new business at adequate rates, our ability to transact business would be materially and adversely affected and our results of operations would be adversely affected.

We may be unable to attract and retain qualified employees.

We depend on our ability to attract and retain qualified executive officers, experienced underwriters, claims professionals and other skilled employees who are knowledgeable about our specialty lines of business. If the quality of our executive officers, underwriting or claims team and other personnel decreases, we may be unable to maintain our current competitive position in the specialty markets in which we operate and be unable to expand our operations into new specialty markets.

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Increases in interest rates may cause us to experience losses.

Because of the unpredictable nature of losses that may arise under insurance policies, we may require substantial liquidity at any time. Our investment portfolio, which consists largely of fixed-income investments, is our principal source of liquidity. The market value of our fixed-income investments is subject to fluctuation depending on changes in prevailing interest rates and various other factors. We do not hedge our investment portfolio against interest rate risk. Increases in interest rates during periods when we must sell fixed-income securities to satisfy liquidity needs may result in substantial realized investment losses.

Our investment portfolio is subject to certain risks that could adversely affect our results of operations, financial condition or cash flows.

Although our investment policy guidelines emphasize total investment return in the context of preserving and enhancing shareholder value and statutory surplus of the insurance subsidiaries, our investments are subject to market-wide risks and fluctuations, as well as to risks inherent in particular types of securities. Due to these risks we may not be able to realize our investment objectives. In addition, we may be forced to liquidate investments at times and prices that are not optimal, which could have an adverse effect on our results of operations. Investment losses could significantly decrease our asset base, thereby adversely affecting our ability to conduct business and pay claims.

We are exposed to significant capital market risks related to changes in interest rates, credit spreads, equity prices and foreign exchange rates which may adversely affect our results of operations, financial condition or cash flows.

We are exposed to significant capital markets risk related to changes in interest rates, credit spreads, equity prices and foreign currency exchange rates. If significant, declines in equity prices, changes in interest rates, changes in credit spreads and the strengthening or weakening of foreign currencies against the U.S. dollar, individually or in tandem, could have a material adverse effect on our consolidated results of operations, financial condition or cash flows.

Our exposure to interest rate risk relates primarily to the market price and cash flow variability associated with changes in interest rates. Our investment portfolio contains interest rate sensitive instruments, such as fixed income securities, which may be adversely affected by changes in interest rates from governmental monetary policies, domestic and international economic and political conditions and other factors beyond our control. A rise in interest rates would reduce the fair value of our investment portfolio. It would also provide the opportunity to earn higher rates of return on funds reinvested. Conversely, a decline in interest rates would increase the fair value of our investment portfolio. We would then presumably earn lower rates of return on assets reinvested. We may be forced to liquidate investments prior to maturity at a loss in order to cover liabilities. Although we take measures to manage the economic risks of investing in a changing interest rate environment, we may not be able to mitigate the interest rate risk of our assets relative to our liabilities.

Included in our fixed income securities are asset-backed and mortgage-backed securities. Changes in interest rates can expose us to prepayment risks on these investments. In periods of declining interest rates, mortgage prepayments generally increase and mortgage-backed securities are prepaid more quickly, requiring us to reinvest the proceeds at the then current rates.

Our fixed income portfolio is invested in high quality, investment-grade securities. However, we are generally permitted to invest up to 2% of our total investment portfolio in below investment-grade high yield fixed income securities. These securities, which pay a higher rate of interest, also have a higher degree of credit or default risk. These securities may also be less liquid in times of economic weakness or market disruptions. While we have put in place procedures to monitor the credit risk and liquidity of our invested assets, it is possible that, in periods of economic weakness, we may experience default losses in our portfolio. This may result in a reduction of net income, capital and cash flows.

We invest a portion of our portfolio in common stock or preferred stocks. The value of these assets fluctuates with the equity markets. In times of economic weakness, the market value and liquidity of these assets may decline, and may impact net income, capital and cash flows.

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The functional currencies of the Company's principal insurance and reinsurance subsidiaries are the U.S. dollar, U.K. pound and Canadian dollar. Exchange rate fluctuations relative to the functional currencies may materially impact our financial position. Certain of our subsidiaries maintain both assets and liabilities in currencies different than their functional currency, which exposes us to changes in currency exchange rates. In addition, locally-required capital levels are invested in local currencies in order to satisfy regulatory requirements and to support local insurance operations regardless of currency fluctuations.

Despite our mitigation efforts, an increase in interest rates or a change in foreign exchange rates could have a material adverse effect on our results of operations, financial position and cash flows.

Capital may not be available to us in the future or may only be available on unfavorable terms.

The capital needs of our business are dependent on several factors, including our ability to write new business successfully and to establish premium rates and reserves at levels sufficient to cover our losses. If our current capital becomes insufficient for our future plans, we may need to raise additional capital through the issuance of stock or debt. Otherwise, in the case of insufficient capital, we may need to limit our growth. The terms of an equity or debt offering could be unfavorable, for example, causing dilution to our current shareholders or such securities may have rights, preferences and privileges that are senior to our existing securities. If we were in a situation of having inadequate capital and if we were not able to obtain additional capital, our business, results of operations and financial condition could be adversely affected to a material extent.

A downgrade in our ratings could adversely impact the competitive positions of our operating businesses or negatively affect our ability to implement our business strategy successfully.

Ratings are a critical factor in establishing the competitive position of insurance companies. The Insurance Companies are rated by A.M. Best and S&P. A.M. Best's and S&P's ratings reflect their opinions of an insurance company's financial strength, operating performance, strategic position and ability to meet its obligations to policyholders, and are not evaluations directed to investors. Our ratings are subject to periodic review by A.M. Best and S&P. Our rating with S&P is subject to a negative outlook. Because these ratings have become an increasingly important factor in establishing the competitive position of insurance companies, if these ratings are reduced, our competitive position in the industry, and therefore our business, could be adversely affected in a material manner. A significant downgrade could result in a substantial loss of business as policyholders might move to other companies with higher ratings. In addition, a significant downgrade could subject us to higher borrowing costs and our ability to access the capital markets could be negatively impacted. If we were to be downgraded below an "A-" an event of default would occur under our letter of credit facility. Refer to Note 8, Credit Facility, in the Notes to Consolidated Financial Statements for additional information regarding our credit facility.

There can be no assurance that our current ratings will continue for any given period of time. For a further discussion of our ratings, refer to "Management's Discussion and Analysis of Financial Condition and Results of Operations – Ratings" included herein.

Continued or increased premium levies by Lloyd's for the Lloyd's Central Fund and cash calls for trust fund deposits or a significant downgrade of Lloyd's A.M. Best rating could materially and adversely affect us.

The Lloyd's Central Fund protects Lloyd's policyholders against the failure of a member of Lloyd's to meet its obligations. The Central Fund is a mechanism which in effect mutualizes unpaid liabilities among all members, whether individual or corporate. The fund is available to back Lloyd's policies issued after 1992. Lloyd's requires members to contribute to the Central Fund, normally in the form of an annual contribution, although a special contribution may be levied. The Council of Lloyd's has discretion to call up to 3% of underwriting capacity in any one year.

Policies issued before 1993 have been reinsured by Equitas Insurance Limited ("Equitas"), an independent insurance company authorized by the Financial Services Authority. However, if Equitas were to fail or otherwise be unable to meet all of its obligations, Lloyd's may take the view that it is appropriate to apply the Central Fund to discharge those liabilities Equitas failed to meet. In that case, the Council of Lloyd's may resolve to impose a special or additional levy on the existing members, including Lloyd's corporate members, to satisfy those liabilities.

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Additionally, Lloyd's insurance and reinsurance business is subject to local regulation, and regulators in the United States require Lloyd's to maintain certain minimum deposits in trust funds as protection for policyholders in the United States. These deposits may be used to cover liabilities in the event of a major claim arising in the United States and Lloyd's may require us to satisfy cash calls to meet claims payment obligations and maintain minimum trust fund amounts.

Any premium levy or cash call would increase the expenses of Navigators Corporate Underwriters Ltd., our corporate members, without providing compensating revenues, and could have a material adverse effect on our results.

We believe that in the event that Lloyd's rating is downgraded, the downgrade could have a material adverse effect on our ability to underwrite business through our Lloyd's Operations and therefore on our financial condition or results of operations.

Our businesses are heavily regulated, and changes in regulation may reduce our profitability and limit our growth.

Our insurance subsidiaries are subject to extensive regulation and supervision in the jurisdictions in which they conduct business. This regulation is generally designed to protect the interests of policyholders, as opposed to insurers and their stockholders and other investors, and relates to authorization for lines of business, capital and surplus requirements, investment limitations, underwriting limitations, transactions with affiliates, dividend limitations, changes in control, premium rates and a variety of other financial and non-financial components of an insurance company's business.

Virtually all states require insurers licensed to do business in that state to bear a portion of the loss suffered by some insureds as the result of impaired or insolvent insurance companies through the operation of guaranty funds. The effect of these arrangements could reduce our profitability in any given period or limit our ability to grow our business.

In recent years, the state insurance regulatory framework has come under increased federal scrutiny, and some state legislatures have considered or enacted laws that may alter or increase state authority to regulate insurance companies and insurance holding companies. Further, the NAIC and state insurance regulators are re-examining existing laws and regulations, specifically focusing on modifications to holding company regulations, interpretations of existing laws and the development of new laws. Additionally, the Dodd-Frank Wall Street Reform and Consumer Protection Act, which became effective on July 21, 2010, established a Federal Insurance Office to, among other responsibilities, identify issues or gaps in the regulation of insurers that could contribute to a systemic crisis in the insurance industry or the United States financial system. Any proposed or future legislation or NAIC initiatives may be more restrictive than current regulatory requirements or may result in higher costs.

In response to the September 11, 2001 terrorist attacks, the United States Congress has enacted legislation designed to ensure, among other things, the availability of insurance coverage for terrorist acts, including the requirement that insurers provide such coverage in certain circumstances. Refer to "Business-Regulation – United States" included herein for a discussion of the TRIA, TRIEA and TRIPRA legislation.

Extensive changes to the regulatory regime for financial services in the United Kingdom have been enacted. Refer to "Business – Regulation – United Kingdom" included herein for a discussion of such proposals.

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The E.U. Directive on Solvency II may affect how we manage our business, subject us to higher capital requirements and cause us to incur additional costs to conduct our business in the E.U. (including the United Kingdom) and possibly elsewhere.

An E.U. directive covering the capital adequacy, risk management and regulatory reporting for insurers, known as Solvency II, was adopted by the European Parliament in April 2009. Solvency II will introduce a new system of regulation for insurers operating in the E.U. (including the United Kingdom) and presents a number of risks to us. Although Solvency II was originally stated to have become effective by October 31, 2012, implementation has been delayed several times. On December 3, 2012, the European Parliament decided to delay a vote on its Omnibus II directive until June 10, 2013. The Omnibus II directive is expected to set forth the implementation schedule for Solvency II. In addition, the Omnibus II directive is expected (among other things) to introduce a series of transitional provisions in specific areas that may extend beyond the initial implementation date of Solvency II. The details of the Solvency II project will be set out in so-called "delegated acts" and binding technical standards which will be issued by the European Commission and will be legally binding. No official drafts for any of these measures have been released. Consequently the Company's implementation plans are based on its current understanding of the Solvency II requirements, which may change. During the next few years, we expect to undertake a significant amount of work to ensure that we meet the new requirements, which may divert finite resources from other business related tasks. Although the details of how Solvency II will apply to Navigators Insurance Company, NUAL and Syndicate 1221 are not yet fully known, it is clear that Solvency II will impose new requirements with respect to capital structure, technical provisions, solvency calculations, governance, disclosure and risk management. There is also a risk that Solvency II may increase our capital requirements for our U.K. Branch and Syndicate 1221. These new regulations have the potential to adversely affect the profitability of Navigators Insurance Company, NUAL and Syndicate 1221, and to restrict their ability to carry on their businesses as currently conducted. A significant unanswered question about how Solvency II will be implemented is whether the new regulations will apply only to Navigators Insurance Company's U.K. Branch or to all of its operations, both within and outside of the United Kingdom and the other E.U. countries in which it operates. If the regulations are applied to Navigators Insurance Company in its entirety, we could be subject to even more onerous requirements under the new regulations. Such requirements could have a significant adverse effect on our ability to operate profitably and could impose other significant restrictions on our ability to carry on our insurance business in the E.U. (including the United Kingdom) as it is now conducted.

The inability of our subsidiaries to pay dividends to us in sufficient amounts would harm our ability to meet our obligations.

The Parent Company is a holding company and relies primarily on dividends from our subsidiaries to meet our obligations for payment of interest and principal on outstanding debt obligations and corporate expenses. The ability of our insurance subsidiaries to pay dividends to the Parent Company in the future will depend on their statutory surplus, on earnings and on regulatory restrictions. For a discussion of our insurance subsidiaries' current dividend-paying ability, please refer to "Management's Discussion and Analysis of Financial Condition and Results of Operations-Capital Resources", included herein. The Parent Company, as an insurance holding company, and our underwriting subsidiaries are subject to regulation by some states. Such regulation generally provides that transactions between companies within our consolidated group must be fair and equitable. Transfers of assets among affiliated companies, certain dividend payments from underwriting subsidiaries and certain material transactions between companies within our consolidated group may be subject to prior notice to, or prior approval by, state regulatory authorities. Our underwriting subsidiaries are also subject to licensing and supervision by government regulatory agencies in the jurisdictions in which they do business. These regulations may set standards of solvency that must be met and maintained, such as the nature of and limitations on investments, the nature of and limitations on dividends to policyholders and stockholders and the nature and extent of required participation in insurance guaranty funds. These regulations may affect our subsidiaries' ability to provide us with dividends.

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Catastrophe losses could materially reduce our profitability.

We are exposed to claims arising out of catastrophes, particularly in our marine insurance line of business and our NavTech and NavRe businesses. We have experienced, and will experience in the future, catastrophe losses which may materially reduce our profitability or harm our financial condition. Catastrophes can be caused by various natural events, including, but not limited to, hurricanes, windstorms, earthquakes, tornadoes, floods, hail, severe winter weather and fires. Catastrophes can also be man-made, such as war, explosions or the World Trade Center attack, or caused by unfortunate events such as the Deepwater Horizon oil rig disaster or the grounding of the cruise ship Costa Concordia. In addition, changing climate conditions could result in an increase in the frequency or severity of natural catastrophes, which could increase our exposure to such losses. The incidence and severity of catastrophes are inherently unpredictable. Although we will attempt to manage our exposure to such events, the frequency and severity of catastrophic events could exceed our estimates, which could have a material adverse effect on our financial condition.

The market price of Navigators common stock may be volatile.

There has been significant volatility in the market for equity securities. The price of Navigators common stock may not remain at or exceed current levels. In addition to the other risk factors detailed herein, the following factors may have an adverse impact on the market price of Navigators common stock:

•

actual or anticipated variations in our quarterly results of operations, including the result of catastrophes,

•

changes in market valuations of companies in the insurance and reinsurance industry,

•

changes in expectations of future financial performance or changes in estimates of securities analysts,

•

issuances of common shares or other securities in the future,

•

a downgrade in our credit ratings,

•

the addition or departure of key personnel, and

•

announcements by us or our competitors of acquisitions, investments or strategic alliances.

Stock markets in the United States often experience price and volume fluctuations. Market fluctuations, as well as general political and economic conditions such as a recession or interest rate or currency rate fluctuations, could adversely affect the market price of Navigators common stock.

There is a risk that we may be directly or indirectly exposed to recent uncertainties with regard to European sovereign debt holdings.

We are protected by various treaty and facultative reinsurance agreements. Our exposure to credit risk from any one reinsurer is managed through diversification by reinsuring with a number of different reinsurers, principally in the United States and European reinsurance markets. Consequently, we may be indirectly exposed to recent uncertainties with regard to European sovereign debt holdings through certain of our reinsurers. A table of our 20 largest reinsurers by the amount of reinsurance recoverable for ceded losses and LAE and ceded unearned premium is presented in "Business" along with their rating from two rating agencies. The 20 largest reinsurers from the United States and Europe represent 72.7% of our Reinsurance Recoverables at December 31, 2012.

In addition, we invest primarily in non-sovereign fixed maturities in the European Union. As of December 31, 2012, the fair value of such securities was $83.2 million, with an amortized cost of $80.8 million representing 3.7% of our total fixed income and equity portfolio. Our largest exposure is in France with a total of $37.4 million followed by Netherlands with a total of $33.2 million. We have no direct material exposure to Greece, Portugal, Italy or Spain as of December 31, 2012.

Nonetheless, the failure of the European Union member states to successfully resolve this crisis could result in the devaluation of the Euro, the abandonment of the Euro by one or more members of the European Union or the dissolution of the European Union and it is impossible to predict all of the consequences that this could have on the global economy in general or more specifically on our business. Any or all of these events could have a material adverse effect on the results of our operations, liquidity and financial condition.

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The determination of the impairments taken on our investments is subjective and could materially impact our financial position or results of operations.

The determination of the impairments taken on our investments varies by investment type and is based upon our periodic evaluation and assessment of known and inherent risks associated with the respective asset class. Such evaluations and assessments are revised as conditions change and new information becomes available. Management updates its evaluations regularly and reflects impairments in operations as such evaluations are revised. We cannot assure you that we have accurately assessed the level of impairments taken in our financial statements. Furthermore, additional impairments may need to be taken in the future, which could materially impact our financial position or results of operations. Historical trends may not be indicative of future impairments.

If we experience difficulties with our information technology and telecommunications systems and/or data security, our ability to conduct our business might be adversely affected.

We rely heavily on the successful, uninterrupted functioning of our information technology ("IT") and telecommunications systems. Our business and continued expansion is highly dependent upon our ability to perform, in an efficient and uninterrupted fashion, necessary business functions, such as pricing, quoting and processing policies, paying claims, performing actuarial and other modeling functions. A failure of our IT and telecommunication systems or the termination of third-party software licenses we rely on in order to maintain such systems could materially impact our ability to write and process business, provide customer service, pay claims in a timely manner or perform other necessary actuarial, legal, financial and other business functions. Computer viruses, hackers and other external hazards, as well as internal exposures such as potentially dishonest employees, could expose our IT and data systems to security breaches that may result in liability to us, cause our data to be corrupted and cause us to commit resources, management time and money to prevent or correct security breaches. If we do not maintain adequate IT and telecommunications systems, we could experience adverse consequences, including inadequate information on which to base critical decisions, the loss of existing customers, difficulty in attracting new customers, litigation exposures and increased administrative expenses. As a result, our ability to conduct our business might be adversely affected.

Compliance by our marine business with the legal and regulatory requirements to which they are subject is evolving and unpredictable. In addition, compliance with new sanctions and embargo laws could have a material adverse effect on our business.

Our marine business, like our other business lines, is required to comply with a wide variety of laws and regulations, including economic sanctions and embargo laws and regulations, applicable to insurance or reinsurance companies, both in the jurisdictions in which they are organized and where they sell their insurance and reinsurance products, and that implicate the conduct of our insureds. The insurance industry, in particular as relates to international insurance and reinsurance companies, has become subject to increased scrutiny in many jurisdictions, including the United States, various states within the United States and the United Kingdom. For example, in 2012, President Obama signed into law the Iran Threat Reduction and Syria Human Rights Act of 2012 (the "Act") which created new sanctions and strengthened existing sanctions against Iran. Among other things, the Act intensifies existing sanctions regarding the provision of goods, services, infrastructure or technology to Iran's petroleum or petrochemical sector, and included provisions relating to persons that engage in certain insurance or re-insurance activities.

Increased regulatory focus on us, such as in connection with the matters discussed above, may result in costly compliance burdens and/or may otherwise increase our costs, which could materially and adversely impact our financial performance. The introduction of new or expanded economic sanctions applicable to marine insurance could also force us to exit certain geographic areas or product lines, which could have an adverse impact our profitability.

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Although we intend to maintain compliance with all applicable sanctions and embargo laws and regulations, and have established protocols, policies and procedures reasonably tailored to ensure compliance with all applicable embargo laws and regulations, there can be no assurance that we will be in compliance in the future, particularly as the scope of certain laws may be unclear and may be subject to changing interpretations. Any such violation could result in fines, penalties or other sanctions that could severely impact our ability to access U.S. capital markets and conduct our business, and could result in some investors deciding, or being required, to divest their interest, or not to invest, in us. In addition, certain institutional investors may have investment policies or restrictions that prevent them from holding securities of companies that have contracts with countries identified by the U.S. government as state sponsors of terrorism. The determination by these investors not to invest in, or to divest from, investing in our common stock may adversely affect the price at which our common stock trades.

Moreover, our subsidiaries, such as our Lloyd's Operations, may be subject to different sanctions and embargo laws and regulations. Our reputation and the market for our securities may be adversely affected if our Lloyd's Operations engages in certain activities, even though such activities are lawful under applicable sanctions and embargo laws and regulations.

Item 1B. Unresolved Staff Comments

None

Item 2. Properties

Our executive and administrative office is located at 6 International Drive in Rye Brook, NY. Our lease for this space expires in February 2014. Our underwriting operations are in various locations with non-cancelable operating leases including Alpharetta, GA, Charlotte, NC, Chicago, IL, Coral Gables, FL, Danbury, CT, Ellicott City, MD, Exton, PA, Houston, TX, Irvine, CA, Los Angeles, CA, New York City, NY, Parsippany, NJ, Philadelphia, PA, Pittsburgh, PA, San Francisco, CA, Schaumburg, IL, Seattle, WA, London, England, Manchester, England, Antwerp, Belgium, Copenhagen, Denmark, Stockholm, Sweden.

Item 3. Legal Proceedings

In the ordinary course of conducting business, our subsidiaries are involved in various legal proceedings, either indirectly as insurers for parties or directly as defendants. Most of the these proceedings consist of claims litigation involving our subsidiaries as either (a) liability insurers defending or providing indemnity for third party claims brought against insureds or (b) insurers defending first party coverage claims brought against them. We account for such activity through the establishment of unpaid loss and loss adjustment reserves. Our management believes that the ultimate liability, if any, with respect to such ordinary-course claims litigation, after consideration of provisions made for potential losses and cost of defense, will not be material to our consolidated financial condition, results of operations, or cash flows.

Our subsidiaries are also from time to time involved with other legal actions, some of which assert claims for substantial amounts. These actions include claims asserting extra contractual obligations, such as claims involving allegations of bad faith in the handling of claims or the underwriting of policies. In general, we believe we have valid defenses to these cases. Our management expects that the ultimate liability, if any, with respect to such extra-contractual matters will not be material to our consolidated financial position. Nonetheless, given the large or indeterminate amounts sought in certain of these matters, and the inherent unpredictability of litigation, an adverse outcome in such matters could, from time to time, have a material adverse outcome on our consolidated results of operations or cash flows in a particular fiscal quarter or year.

Item 4. Mine Safety Disclosures

Not applicable.

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PART II

Item  5. Market For Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Market Information

The Company's common stock is traded over-the-counter on NASDAQ under the symbol NAVG. Over-the-counter market quotations reflect inter-dealer prices, without retail mark-up, mark-down or commissions and may not necessarily represent actual transactions.

The high, low and closing trade prices for the four quarters of 2012 and 2011 were as follows:

		2012												2011
		High				Low				Close				High				Low				Close
First Quarter		$	51.84			$	44.43			$	47.24			$	54.59			$	48.13			$	51.50
Second Quarter		$	51.45			$	44.95			$	50.05			$	52.90			$	44.73			$	47.00
Third Quarter		$	54.22			$	46.41			$	49.22			$	50.03			$	38.36			$	43.21
Fourth Quarter		$	54.00			$	49.22			$	51.07			$	49.20			$	40.71			$	47.68

Information provided to us by our transfer agent and proxy solicitor indicates that there are approximately 156 holders of record and 3,520 beneficial holders of our common stock, as of January 14, 2013.

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Five Year Stock Performance Graph

The Five Year Stock Performance Graph and related Cumulative Indexed Returns table, as presented below, reflects the cumulative return on the Company's common stock, the Standard & Poor's 500 Index ("S&P 500 Index") and the S&P Property and Casualty Insurance Index (the "Insurance Index") assuming an original investment in each of $100 on December 31, 2007 (the "Base Period") and reinvestment of dividends to the extent declared. Cumulative returns for each year subsequent to 2007 are measured as a change from this Base Period.

The comparison of five year cumulative returns among the Company, the companies listed in the S&P 500 Index and the Insurance Index are as follows:

		Cumulative Indexed Returns Year Ended December 31,
Company / Index		Base Period 2007				2008				2009				2010				2011				2012
The Navigators Group, Inc.			100.00				84.48				72.47				77.46				71.78				76.52
S&P 500 Index			100.00				63.00				79.67				91.67				93.61				108.58
S&P Property & Casualty Insurance Index			100.00				70.59				79.21				86.52				86.29				103.65

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The following Annual Return Percentage table reflects the annual return on the Company's common stock, the S&P 500 Index and the Insurance Index including reinvestment of dividends to the extent declared.

		Annual Return Percentage Year Ended December 31,
Company / Index		2008				2009				2010				2011				2012
The Navigators Group, Inc.			-15.52				-14.21				6.88				-7.33				6.60
S&P 500 Index			-37.00				26.46				15.06				2.11				16.00
S&P Property & Casualty Insurance Index			-29.41				12.21				9.23				-0.26				20.11

Dividends

We have not paid or declared any cash dividends on our common stock. While there presently is no intention to pay cash dividends on the common stock, future declarations, if any, are at the discretion of our Board of Directors and the amounts of such dividends will be dependent upon, among other factors, our results of operations and cash flow, financial condition and business needs, restrictive covenants under our credit facility, the capital and surplus requirements of our subsidiaries and applicable government regulations.

Refer to Note 14, Dividends and Statutory Financial Information, in the Notes to Consolidated Financial Statements for additional information regarding dividends, including dividend restrictions and net assets available for dividend distribution.

Recent Sales of Unregistered Securities

None

Use of Proceeds from Public Offering of Debt Securities

None

Purchases of Equity Securities by the Issuer

None

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Item 6. Selected Financial Data

The following table sets forth selected consolidated financial data including consolidated financial information of the Company for each of the last five calendar years, derived from the Company's audited Consolidated Financial Statements. You should read the table in conjunction with Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations", and Item 8, "Financial Statements and Supplementary Data", included herein.

						Year Ended December 31,
In thousands, except share and per share amounts		2012				2011				2010				2009				2008
Operating Information:
Gross written premiums		$	1,286,465			$	1,108,216			$	987,201			$	1,044,918			$	1,084,922
Net written premiums			833,655				753,798				653,938				701,255				661,615
Net earned premiums			781,964				691,645				659,931				683,363				643,976
Net investment income			54,248				63,500				71,662				75,512				76,554
Net other-than-temporary impairment losses			(858	)			(1,985	)			(1,080	)			(11,876	)			(37,045	)
Net realized gains (losses)			41,074				11,996				41,319				9,216				(1,254	)
Total revenues			877,916				766,385				776,975				762,880				683,666
Income (loss) before income taxes			91,736				32,734				98,829				86,848				68,731
Net income (loss)			63,762				25,597				69,578				63,158				51,692
Net income per share:
Basic		$	4.54			$	1.71			$	4.33			$	3.73			$	3.08
Diluted		$	4.45			$	1.69			$	4.24			$	3.65			$	3.04
Average common shares outstanding:
Basic			14,052,311				14,980,429				16,064,770				16,935,488				16,801,713
Diluted			14,327,820				15,183,285				16,415,266				17,322,020				16,991,711
Combined loss and expense ratio (1) :
Loss ratio			63.6	%			69.0	%			63.8	%			63.8	%			61.0	%
Expense ratio			35.7	%			35.7	%			36.9	%			33.4	%			32.8	%
Total			99.3	%			104.7	%			100.7	%			97.2	%			93.8	%
Balance sheet information:
Total investments and cash		$	2,422,254			$	2,233,498			$	2,154,328			$	2,056,587			$	1,917,715
Total assets			4,007,670				3,670,007				3,531,459				3,453,994				3,349,580
Gross losses and LAE reserves			2,097,048				2,082,679				1,985,838				1,920,286				1,853,664
Net losses and LAE reserves			1,216,909				1,237,234				1,142,542				1,112,934				999,871
Senior Notes			114,424				114,276				114,138				114,010				123,794
Stockholders' equity			879,485				803,435				829,354				801,519				689,317
Common shares outstanding			14,046,666				13,956,235				15,743,511				16,846,484				16,856,073
Book value per share (2)		$	62.61			$	57.57			$	52.68			$	47.58			$	40.89
Statutory surplus of Navigators
Insurance Company		$	682,881			$	662,162			$	686,919			$	645,820			$	581,166

(1) -

Calculated based on earned premiums.

(2) -

Calculated as stockholders' equity divided by actual shares outstanding as of the date indicated.

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Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our Consolidated Financial Statements and accompanying notes which appear elsewhere in this Form 10-K. It contains forward-looking statements that involve risks and uncertainties. Please refer to "Note on Forward-Looking Statements" and "Risk Factors" for more information. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those discussed below and elsewhere in this Form 10-K.

Overview

We are an international insurance company focusing on specialty products within the overall property and casualty insurance market. Our largest product line and most long-standing area of specialization is ocean marine insurance. We have also developed other specialty insurance lines such as commercial primary and excess liability as well as specialty niches in professional liability, and have expanded our specialty reinsurance business since launching Navigators Re in the fourth quarter of 2010.

Our revenue is primarily comprised of premiums and investment income. We derive our premiums primarily from business written by wholly-owned underwriting management companies which produce, manage and underwrite insurance and reinsurance for us. Our products are distributed through multiple channels, utilizing global, national and regional retail and wholesale insurance brokers.

We conduct operations through our Insurance Companies and our Lloyd's Operations segments. The Insurance Companies segment consists of Navigators Insurance Company, which includes a United Kingdom Branch (the "U.K. Branch"), and Navigators Specialty Insurance Company, which underwrites specialty and professional liability insurance on an excess and surplus lines basis. All of the insurance business written by Navigators Specialty Insurance Company is fully reinsured by Navigators Insurance Company pursuant to a 100% quota share reinsurance agreement. The insurance and reinsurance business written by our Insurance Companies is underwritten through our wholly-owned underwriting management Companies, Navigators Management Company, Inc. ("NMC") and Navigators Management (UK) Ltd. ("NMUK").

Our Lloyd's Operations segment includes Navigators Underwriting Agency Ltd. ("NUAL"), a Lloyd's of London ("Lloyd's") underwriting agency which manages Lloyd's Syndicate 1221 ("Syndicate 1221"). Our Lloyd's Operations primarily underwrite marine and related lines of business along with offshore energy, professional liability insurance and construction coverages for onshore energy business at Lloyd's through Syndicate 1221. We controlled 100% of Syndicate 1221's stamp capacity for the 2012, 2011 and 2010 underwriting years through our wholly-owned subsidiary, Navigators Corporate Underwriters Ltd. which is referred to as a corporate name in the Lloyd's market. We have also established underwriting agencies in Antwerp, Belgium, Stockholm, Sweden, and Copenhagen, Denmark, which underwrite risks pursuant to binding authorities with NUAL into Syndicate 1221. We have also established a presence in Brazil and China through contractual arrangements with local affiliates of Lloyd's.

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

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

For additional information regarding our business, refer to "Business-Overview", included herein.

Ratings

Our ability to underwrite business is dependent upon the financial strength of the Insurance Companies and Lloyd's. Financial strength ratings represent the opinions of the rating agencies on the financial strength of a company and its capacity to meet the obligations of insurance policies. Independent ratings are one of the important factors that establish our competitive position in the insurance markets. The rating agencies consider many factors in determining the financial strength rating of an insurance company, including the relative level of statutory surplus necessary to support the business operations of the company. These ratings are based upon factors relevant to policyholders, agents and intermediaries and are not directed toward the protection of investors. Such ratings are not recommendations to buy, sell or hold securities. We could be adversely impacted by a downgrade in the Insurance Companies' or Lloyd's financial strength ratings, including a possible reduction in demand for our products, higher borrowing costs and our ability to access the capital markets.

For the Insurance Companies, Navigators Insurance Company and Navigators Specialty Insurance Company utilize the financial strength ratings from A.M. Best and S&P for underwriting purposes. Navigators Insurance Company and Navigators Specialty Insurance Company are both rated "A" (Excellent – stable outlook) by A.M. Best and "A" (Strong-negative outlook) by S&P. Syndicate 1221 utilizes the ratings from A.M. Best and S&P for underwriting purposes which apply to all Lloyd's syndicates. Lloyd's is rated "A" (Excellent – stable outlook) by A.M. Best and A+ (Strong – stable outlook) by S&P.

Debt ratings apply to short-term and long-term debt as well as preferred stock. These ratings are assessments of the likelihood that we will make timely payments of the principal and interest for our senior debt. It is possible that, in the future, one or more of the rating agencies may reduce our existing debt ratings. If one or more of our debt ratings were downgraded, we could incur higher borrowing costs and our ability to access the capital markets could be impacted.

We utilize the senior debt ratings from S&P. Our senior debt is rated BBB (Adequate – negative outlook) by S&P.

Critical Accounting Estimates

We prepare our financial statements in accordance with GAAP, which requires the use of estimates and assumptions. The following accounting estimates are viewed by management to be critical because they require significant judgment on the part of management. Management has discussed and reviewed the development, selection, and disclosure of critical accounting estimates with the Company's Audit Committee. Financial results could be materially different if other methodologies were used or if management modified its assumptions.

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

Reserves for Losses and Loss Adjustment Expenses

Reserves for losses and LAE represent an estimate of the expected cost of the ultimate settlement and administration of losses, based on facts and circumstances then known less the amount paid to date. Actuarial methodologies are employed to assist in establishing such estimates and include judgments relative to estimates of future claims severity and frequency, length of time to develop to ultimate, judicial theories of liability and other third party factors which are often beyond our control. No assurance can be given that actual claims made and related payments will not be in excess of the amounts reserved. During the loss settlement period, it often becomes necessary to refine and adjust the estimates of liability on a claim either upward or downward. Even after such adjustments, ultimate liability may exceed or be less than the revised estimates.

The numerous factors that contribute to the inherent uncertainty in the process of establishing loss reserves include: interpreting loss development activity, emerging economic and social trends, inflation, changes in the regulatory and judicial environment and changes in our operations, including changes in underwriting standards and claims handling procedures. The process of establishing loss reserves is complex and imprecise as it must take into account many variables that are subject to the outcome of future events. As a result, informed subjective judgments as to our ultimate exposure to losses are an integral component of our loss reserving process.

Our actuaries calculate indicated IBNR loss reserves for each line of business by underwriting year for major products principally using standard actuarial methodologies which are projection or extrapolation techniques: the loss ratio method, the loss development method and the Bornheutter-Ferguson method. In general the loss ratio method is used to calculate the IBNR for only the most recent underwriting years or in the absence of any statistical data upon which to estimate ultimate losses while the Bornheutter-Ferguson method is used to calculate the IBNR for recent years where a statistical basis exists for that computation with the loss development method used for more mature underwriting years. When appropriate such methodologies are supplemented by the frequency/severity method, which are used to analyze and better comprehend loss development patterns and trends in the data when making selections and judgments. Each of these methodologies, which are described below, are generally applicable to both long tail and short tail lines of business depending on a variety of circumstances. In utilizing these methodologies to develop our IBNR loss reserves, a key objective of management in making their final selections is to deliberate with our actuaries to identify aberrations and systemic changes occurring within historical experience and accurately adjust for them. This process requires the substantial use of informed judgment and is inherently uncertain as it can be influenced by numerous factors including:

•

Inflationary pressures (medical and economic) that affect the size of losses;

•

Judicial, regulatory, legislative, and legal decisions that affect insurers' liabilities;

•

Changes in the frequency and severity of losses;

•

Changes in the underlying loss exposures of our policies;

•

Changes in our claims handling procedures.

For non-statistical claim events, i.e., where historical patterns are not available for applicable, expert judgment by claims professionals with input from underwriting and management are used. Such instances relate to the IBNR loss reserve processes for our Hurricanes losses and our asbestos exposures.

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A brief summary of each actuarial method discussed above follows:

Loss ratio method

This method is based on the assumption that ultimate losses vary proportionately with premiums. Pursuant to the loss ratio method, IBNR loss reserves are calculated by multiplying the earned premium by an expected ultimate loss ratio to estimate the ultimate losses for each underwriting year, then subtracting the reported losses, consisting of paid losses and case loss reserves, to determine the IBNR loss reserve amount. The ultimate loss ratios applied are the Company's best estimates for each underwriting year and are generally determined after evaluating a number of factors which include: information derived by underwriters and actuaries in the initial pricing of the business, the ultimate loss ratios established in the prior accounting period and the related judgments applied, the ultimate loss ratios of previous underwriting years, premium rate changes, underwriting and coverage changes, changes in terms and conditions, legislative changes, exposure trends, loss development trends, claim frequency and severity trends, paid claims activity, remaining open case reserves and industry data where deemed appropriate. Such factors are also evaluated when selecting ultimate loss ratios and/or loss development factors in the methods described below.

Bornheutter-Ferguson method

The Bornheutter-Ferguson method calculates the IBNR loss reserves as the product of the earned premium, an expected ultimate loss ratio, and a loss development factor that represents the expected percentage of the ultimate losses that have been incurred but not yet reported. The loss development factor equals one hundred percent less the expected percentage of losses that have thus far been reported, which is generally calculated as an average of the percentage of losses reported for comparable reporting periods of prior underwriting years. The expected ultimate loss ratio is generally determined in the same manner as in the loss ratio method.

Loss development method

The loss development method, also known as the chainladder or the link-ratio method, develops the IBNR loss reserves by multiplying the paid or reported losses by a loss development factor to estimate the ultimate losses, then subtracting the reported losses, consisting of paid losses and case loss reserves, to determine the IBNR loss reserves. The loss development factor is the reciprocal of the expected percentage of losses that have thus far been reported, which is generally calculated as an average of the percentage of losses reported for comparable reporting periods of prior underwriting years.

Frequency/severity method

The frequency/severity method calculates the IBNR loss reserves by separately projecting claim count and average cost per claim data on either a paid or incurred basis. It estimates the expected ultimate losses as the product of the ultimate number of claims that are expected to be reported and the expected average amount of these claims.

Actuarial loss studies are conducted by the Company's actuaries at various times throughout the year for major lines of business employing the methodologies as described above. Additionally, a review of the emergence of actual losses relative to expectations for each line of business, generally derived from the annual loss studies, is conducted each quarter to determine whether the assumptions used in the reserving process continue to form a reasonable basis for the projection of liabilities for each product line. Such reviews may result in maintaining or revising assumptions regarding future loss development based on various quantitative and qualitative considerations. If actual loss activity differs from expectations, an upward or downward adjustment to loss reserves may occur. As time passes, estimated loss reserves for an underwriting year will be based more on historical loss activity and loss development patterns rather than on assumptions based on underwriters' input, pricing assumptions or industry experience.

The following discusses the method used for calculating the IBNR for each line of business and key assumptions used in applying the actuarial methods described.

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Marine

Generally, two key assumptions are used by our actuaries in setting IBNR loss reserves for major products in this line of business. The first assumption is that our historical experience regarding paid and reported losses for each product where we have sufficient history can be relied on to predict future loss activity. The second assumption is that our underwriters' assessments as to potential loss exposures are reliable indicators of the level of our expected loss activity. The specific loss reserves for marine are then analyzed separately by product based on such assumptions, except where noted below, with the major products including marine liability, cargo, P&I, transport and bluewater hull.

The claims emergence patterns for various marine product lines vary substantially. Our largest marine product line is marine liability, which has one of the longer loss development patterns. Marine liability protects an insured's business from liability to third parties stemming from their marine-related operations, such as terminal operations, stevedoring and marina operations. Since marine liability claims generally involve a dispute as to the extent and amount of legal liability that our insured has to a third party, these claims tend to take a longer time to develop and settle. Other longer-tail marine product lines include P&I insurance, which provides coverage for third party liability as well as injury to crew for vessel operators, and transport insurance, which provides both property and third party liability on a primary basis to businesses such as port authorities, marine terminal operators and others engaged in the infrastructure of international transportation. Other marine product lines have considerably shorter periods in which losses develop and settle. Ocean cargo insurance, for example, provides physical damage coverage to goods in the course of transit by water, air or land. By their nature, cargo claims tend to be reported quickly as losses typically result from an obvious peril such as fire, theft or weather. Similarly, bluewater hull insurance provides coverage against physical damage to ocean-going vessels. Such claims for physical damage generally are discovered, reported and settled quickly. The Company currently has extensive experience for all of these products and thus the IBNR loss reserves for all of the marine products are determined using the key assumptions and actuarial methodologies described above. Prior to 2007, however, as discussed below, the Company did not have sufficient experience in the transport product line and instead used its hull and liability products loss development experience as a key assumption in setting the IBNR loss reserves for its transport product.

Property Casualty

The reserves for property and casualty are established separately by product with the major product being contractors' liability insurance. Other products include offshore energy, commercial middle markets, primary casualty, excess casualty and specialty reinsurance. Our actuaries generally utilize two key assumptions in this line of business: first, that our historical loss development patterns are reasonable predictors of future loss patterns and second, that our claims personnel's assessment of our claims exposures and our underwriters' assessment of our expected losses are reliable indicators of our loss exposure. However, this line of business includes a number of products where there is insufficient Company historical experience to project loss reserves and/or loss development is sparse or erratic, which makes extrapolation techniques for those products extremely difficult to apply, and in those circumstances we typically rely more on industry data and our underwriters' input in setting assumptions for our IBNR loss reserves as opposed to historical loss development patterns. In addition, as discussed in more detail below with respect to construction defect reserves, our actuaries may take other market trends or events into account in setting IBNR loss reserves.

The substantial portion of the property and casualty loss reserves are for the contractors' liability business, which insures mostly general and artisan contractors. Contractor liability claims are categorized into two claim types: construction defect and other general liability. Other general liability claims typically derive from workplace accidents or from negligence alleged by third parties, and frequently take a long time to report and settle. Construction defect claims involve the discovery of damage to buildings that was caused by latent construction defects. These claims take a very long time to report and to settle compared to other general liability claims. Since construction defect claims report much later than other contractor liability claims, they are analyzed separately in an annual actuarial loss study.

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We have extensive history in the contractors' liability business upon which to perform actuarial analyses and we use the key assumption noted above relating to our own historical experience as a reliable indicator of the future for this product. However, there is inherent uncertainty in the loss reserve estimation process for this line of business given both the long-tail nature of the liability claims and the continuing underwriting and coverage changes, claims handling and reserve changes, and legislative changes that have occurred over a several year period. Such factors are judgmentally taken into account in this line of business in specific periods. The underwriting and coverage changes include the migration to a non-admitted business from admitted business in 2003, which allowed us to exclude certain exposures previously permitted (for example, exposure to construction work performed prior to the policy inception), withdrawals from certain contractor classes previously underwritten and expansion into new states beginning in 2005. Claims changes include bringing the claim handling in-house in 1999 and changes in case reserving practices in 2003, 2006 and 2011. During 2010 and 2011, we also significantly increased our claims staff and improved our claims procedures, which has allowed the Company to respond more quickly to reported construction defect claims. The Company is closely monitoring the impact of these effects on the adequacy of our case and IBNR loss reserves. After analysis of the factors above, Management believes that our reserves remain adequate to address our exposure to construction defect losses, but given the uncertainties noted above, there is a risk that our reserves for construction defect losses may ultimately prove to be inadequate, perhaps in a material manner.

Offshore energy provides physical damage coverage to offshore oil platforms along with offshore operations related to oil exploration and production. The significant offshore energy claims are generally caused by fire or storms, and thus tend to be large, infrequent, quickly reported, but occasionally not quickly settled because the damage is often extensive but not always immediately known.

Primary casualty insurance provides primary general liability coverage principally to corporations in the construction, real estate and manufacturing sector. Excess casualty insurance is purchased by corporations which seek higher limits of liability than are provided in their primary casualty policies.

Specialty assumed reinsurance provides proportional and excess of loss treaty coverage for several niche lines: Accident & Health ("A&H"), Agriculture, Latin America, and Professional Liability. The A&H reinsurance line primarily provides reinsurance coverage for large individual medical claims that occur with small frequency. The Agriculture reinsurance line primarily provides reinsurance coverage related to crop insurance schemes, most of which are sponsored by governmental bodies in the U.S. and Canada. The Latin America line primarily provides reinsurance coverage for individual risk and catastrophic property exposures, liability exposures, and surety bonds in Central and South America and the Spanish-speaking Caribbean. The Professional Liability line primarily provides reinsurance coverage for exposure related to medical malpractice and other miscellaneous professional liability policies.

Professional Liability

The professional liability policies mainly provide coverage on a claims-made basis mostly for a one-year period. The reserves for professional liability are analyzed separately by product. The major products are D&O liability coverage and E&O liability coverage for lawyers and other professionals.

The losses for D&O business are generally very large and infrequent, and with some cases involving securities class actions. D&O claims report reasonably quickly, but take years to settle. Our loss estimates are based on expected losses, an assessment of the characteristics of reported losses at the claim level, evaluation of loss trends, industry data, and the legal, regulatory and current risk environment. Significant judgment is involved because anticipated loss experience in this area is less predictable due to the small number of claims and/or erratic claim severity patterns. As time passes for a given underwriting year, we place additional weight on assumptions relating to our actual experience and claims outstanding. The expected ultimate losses may be adjusted up or down as the underwriting years mature.

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Lloyd's Operations

Reserves for the Company's Lloyd's Operations are reviewed separately for the marine, property and casualty, and professional liability lines by product. The major marine products are marine liability, transport, marine energy liability, offshore energy, cargo, specie and marine reinsurance. The major property and casualty products are offshore energy, engineering, onshore energy and operational engineering. The major products for professional liability are international D&O and international E&O.

The marine liability, offshore energy and cargo products and related loss exposures are similar in nature to that described for marine business above. Specie insurance provides property coverage for jewelry, fine art, vault and cash in transit risks. Claims tend to be from theft or damage, quick to report and, in most cases, quick to settle. Marine reinsurance is a diversified global book of reinsurance, the majority of which consists of excess-of-loss reinsurance policies for which claims activity tends to be large and infrequent with loss development somewhat longer than for such products written on a direct basis. Marine reinsurance reinsures liability, cargo, hull and offshore energy exposures that are similar in nature to the marine business described above.

The process for establishing the IBNR loss reserves for the marine and professional liability lines of the Lloyd's Operations, and the assumptions used as part of this process, are similar in nature to the process employed by the Insurance Companies.

The Lloyd's Operations products also include property coverages for engineering and construction projects and onshore energy business, which are substantially reinsured. Losses from engineering and construction projects tend to result from loss of use due to construction delays while losses from onshore energy business are usually caused by fires or explosions. Large losses tend to be catastrophic in nature and are heavily reinsured. IBNR loss reserves for attritional losses are established based on the Syndicate's extensive loss experience.

Sensitivity Analysis

A range of reasonable estimates has been developed based on the historical volatility of held reserves vs. current estimates. The actuarial history indicates that Navigators held reserves tend to be 10% redundant with a standard deviation of 11%. We have ignored the historical conservatism and built a range around the current held amounts. The Company's lines of business, the market pricing adequacy and the Company's underwriting strategies have changed dynamically over the past eleven years. There is thus a significant risk that the potential volatility of the current reserve estimates could differ in a material manner from the historical trends.

Actual emergence will vary and may exceed the historical variation. The actual losses may not emerge as expected which would cause the ranges to expand or contract from year to year. The impact from the shift on ranges will be greater for lines with longer emergence patterns. The individual lines will also have greater variance than the range for the entire book of business. The statistical variation is expected to have a somewhat higher range of deterioration than savings. The history in itself is only a rough estimate of the potential volatility. The ranges have been refined by reserve segment in three categories – Marine, Property Casualty and Professional Liability. These groupings give a sense of the volatility by sub-group but are not intended to be rigorous estimates even if such were possible. The total reserve variability is not equal to the sum of the segment variability due to the benefit of diversification.

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The range of ultimate unpaid amounts determined as described above as follows:

						Reasonably Likely Range of Deviation
In thousands, except per share amounts		Total Net Loss Reserve				Redundancy Amount				%				Deficiency Amount				%
Insurance Companies:
Marine		$	252,170			$	22,443				8.9	%		$	24,460				9.7	%
Property Casualty			495,443				51,031				10.3	%			56,976				11.5	%
Professional Liability			138,585				36,032				26.0	%			48,782				35.2	%
Total Insurance Companies (1)			886,198				83,303				9.4	%			91,278				10.3	%
Lloyd's Operations:
Marine			221,006				9,282				4.2	%			9,724				4.4	%
Property Casualty			56,366				2,762				4.9	%			2,875				5.1	%
Professional Liability			53,339				6,881				12.9	%			7,894				14.8	%
Total Lloyd's Operations (1)			330,711				14,551				4.4	%			15,213				4.6	%
Subtotal			1,216,909				97,854								106,491
Portfolio effect			-				(13,887	)							(15,223	)
Total Company		$	1,216,909			$	83,967				6.9	%		$	91,268				7.5	%
Increase (decrease) to net income
Amount						$	54,579							$	(59,324	)
Per Share (2)						$	3.81							$	(4.14	)

(1) -

The totals for each segment are adjusted for portfolio effect. The portfolio effect is the reduction in risk which arises out of diversification in the portfolio.

(2) -

Calculated using average diluted shares of 14,327,820 for the year ended December 31, 2012.

Reinsurance Recoverable

Reinsurance recoverables are established for the portion of the loss reserves that are ceded to reinsurers. Reinsurance recoverables are determined based upon the terms and conditions of reinsurance contracts which could be subject to interpretations that differ from our own based on judicial theories of liability. In addition, we bear credit risk with respect to our reinsurers which can be significant considering that certain of the reserves remain outstanding for an extended period of time. We are required to pay losses even if a reinsurer fails to meet its obligations under the applicable reinsurance agreement. Additional information regarding our reinsurance recoverables can be found in the "Business -Reinsurance Recoverables" section and Note 6, Reinsurance , to our consolidated financial statements, both included herein.

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Written and Unearned Premium

Written premium is recorded based on the insurance policies that have been reported to us and the policies that have been written by agents but not yet reported to us. We must estimate the amount of written premium not yet reported based on judgments relative to current and historical trends of the business being written. Such estimates are regularly reviewed and updated and any resulting adjustments are included in the current year's results. An unearned premium reserve is established to reflect the unexpired portion of each policy at the financial reporting date. Reinsurance reinstatement premium is earned in the period in which the event occurred which created the need to record the reinstatement premium. Additional information regarding our written and unearned premium can be found in Note 1, Organization and Summary of Significant Accounting Policies , and Note 6, Reinsurance , in the Notes to Consolidated Financial Statements, both included herein.

Substantially all of our business is placed through agents and brokers. We record estimates for both unreported direct and assumed premium. We also record the ceded portion of the estimated gross written premium and related acquisition costs. The earned gross, ceded and net premiums are calculated based on our earning methodology which is generally pro-rata over the policy period. Losses are also recorded in relation to the earned premium. The estimate for losses incurred on the estimated premium is based on an actuarial calculation consistent with the methodology used to determine incurred but not reported loss reserves for reported premiums.

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

Deferred Tax Assets

We apply the asset and liability method of accounting for income taxes whereby deferred assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis. In assessing the realization of deferred tax assets, management considers whether it is more likely than not that the deferred tax assets will be realized. Additional information regarding our deferred tax assets can be found in Note 1, Organization and Summary of Significant Accounting Policies , and Note 7, Income Taxes , in the Notes to Consolidated Financial Statements, both included herein.

Impairment of Invested Assets

Management regularly reviews our fixed maturity and equity securities portfolios to evaluate the necessity of recording impairment losses for other-than-temporary declines in the fair value of investments.

For fixed maturity securities, we consider our intent to sell a security and whether it is more likely than not that we will be required to sell a security before the anticipated recovery as part of the process of evaluating whether a security's unrealized loss represents an other-than-temporary decline. We assess whether the amortized cost basis of a fixed maturity security will be recovered by comparing the present value of cash flows expected to be collected to the current book value. Any shortfalls of the present value of the cash flows expected to be collected in relation to the amortized cost basis is considered the credit loss portion of other-than-temporary impairment ("OTTI") losses and is recognized in earnings. All non-credit losses are recognized as changes in OTTI losses within Other Comprehensive Income ("OCI").

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For equity securities, in general, the Company focuses its attention on those securities with a fair value less than 80% of their cost for six or more consecutive months. If warranted as the result of conditions relating to a particular security, the Company will focus on a significant decline in fair value regardless of the time period involved. Factors considered in evaluating potential impairment include, but are not limited to, the current fair value as compared to cost of the security, the length of time the investment has been below cost and by how much the investment is below cost. If an equity security is deemed to be other-than-temporarily impaired, the cost is written down to fair value with the loss recognized in earnings.

For equity securities, the Company also considers its intent to hold securities as part of the process of evaluating whether a decline in fair value represents an other-than-temporary decline in value. For fixed maturity securities, the Company considers its intent to sell a security and whether it is more likely than not that the Company will be required to sell a security before the anticipated recovery as part of the process of evaluating whether a security's unrealized loss represents an other-than-temporary decline. The Company's ability to hold such securities is supported by sufficient cash flow from its operations and from maturities within its investment portfolio in order to meet its claims payment and other disbursement obligations arising from its underwriting operations without selling such investments. With respect to securities where the decline in value is determined to be temporary and the security's value is not written down, a subsequent decision may be made to sell that security and realize a loss. Subsequent decisions on security sales are made within the context of overall risk monitoring, changing information and market conditions.

The day to day management of our investment portfolio is outsourced to third party investment managers. While these investment managers may, at a given point in time, believe that the preferred course of action is to hold securities with unrealized losses that are considered temporary until such losses are recovered, the dynamic nature of the portfolio management may result in a subsequent decision to sell the security and realize the loss based upon a change in the market and other factors described above. Investment managers are required to notify management of rating agency downgrades of securities in their portfolios as well as any potential investment valuation issues at the end of each quarter. Investment managers are also required to notify management, and receive approval, prior to the execution of a transaction or series of related transactions that may result in a realized loss above a certain threshold. Additionally, management monitors the execution of a transaction or series of related transactions that may result in any realized loss up until a certain period beyond the close of a quarterly accounting period.

Accounting for Lloyd's Results

We record Syndicate 1221's assets, liabilities, revenues and expenses under U.S. GAAP. Additional information regarding our accounting for Lloyd's results can be found in Note 1, Organization and Summary of Significant Accounting Policies , in the Notes to Consolidated Financial Statements, included herein.

Results of Operations

The following is a discussion and analysis of our consolidated and segment results of operations for the years ended December 31, 2012, 2011 and 2010. Our financial results are presented on the basis of U.S. GAAP. However, in presenting our financial results, we discuss our performance with reference to operating earnings, book value per share, underwriting profit or loss, and the combined ratio, all of which are non-GAAP financial measures of performance and/or underwriting profitability. Operating earnings is calculated as net income less after-tax net realized gains (losses) and net OTTI losses recognized in earnings. Book value per share is calculated by dividing stockholders' equity by the number of outstanding shares at any period end. Underwriting profit or loss is calculated from net earned premiums, less the sum of net losses and LAE, commission expenses, other operating expenses and other income (expense). The combined ratio is derived by dividing the sum of net losses and LAE, commission expenses, other operating expenses and other income (expense) by net earned premiums. A combined ratio of less than 100% indicates an underwriting profit and greater 100% indicates an underwriting loss. We consider such measures, which may be defined differently by other companies, to be important in the understanding of our overall results of operations by highlighting the underlying profitability of our insurance business.

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Summary of Consolidated Results

The following table presents a summary of our consolidated financial results for the years ended December 31, 2012, 2011 and 2010:

		Year Ended December 31,												Percentage Change
In thousands, except for per share amounts		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Gross written premiums		$	1,286,465			$	1,108,216			$	987,201				16.1	%			12.3	%
Net written premiums			833,655				753,798				653,938				10.6	%			15.3	%
Total revenues			877,916				766,385				776,975				14.6	%			-1.4	%
Total expenses			786,180				733,651				678,146				7.2	%			8.2	%
Pre-tax income (loss)		$	91,736			$	32,734			$	98,829				NM				-66.9	%
Provision (benefit) for income taxes			27,974				7,137				29,251				NM				-75.6	%
Net income (loss)		$	63,762			$	25,597			$	69,578				149.1	%			-63.2	%
Net income (loss) per common share:
Basic		$	4.54			$	1.71			$	4.33
Diluted		$	4.45			$	1.69			$	4.24

NM -	Percentage change not meaningful

Net income for the year ended December 31, 2012 was $63.8 million or $4.45 per diluted share compared to net income of $25.6 million or $1.69 per diluted share for the year ended December 31, 2011. Operating earnings for the year ended December 31, 2012 were $37.6 million or $2.63 per diluted share compared to $19.1 million or $1.26 per diluted share for the comparable period in 2011. In comparison to net income, operating earnings excludes after-tax net realized gains of $26.7 million and $7.8 million and after-tax OTTI losses of $0.6 million and $1.3 million for the years ended December 31, 2012 and 2011, respectively. The increase in our operating earnings was largely attributable to stronger underwriting results, partially offset by a decrease in net investment income driven by lower investment yields. The underwriting results for the year ended December 31, 2012 include net losses of $20.4 million related to Superstorm Sandy, $14.5 million from our Agriculture business driven by significant drought related crop losses across the U.S., and $13.9 million related to significant large losses from our Marine business, including the grounding of the cruise ship Costa Concordia off the coast of Italy.

Net income for the year ended December 31, 2011 was $25.6 million or $1.69 per diluted share compared to net income of $69.6 million or $4.24 per diluted share for the year ended December 31, 2010. Operating earnings for the year ended December 31, 2011 were $19.1 million or $1.26 per diluted share compared to $43.4 million or $2.65 per diluted share for the comparable period in 2010. In comparison to net income, operating earnings excludes after-tax net realized gains of $7.8 million and $26.9 million and after-tax OTTI losses of $1.3 million and $0.7 million for the years ended December 31, 2011 and 2010, respectively. The decrease in our operating earnings was largely attributable to unfavorable underwriting results related to large loss activity from our energy business, including losses arising from the Deepwater Horizon oil drilling platform, and significant current year loss emergence from our Professional Liability division, and to a lesser extent a decrease in net investment income.

Our book value per share as of December 31, 2012 was $62.61, increasing 8.8% from $57.57 as of December 31, 2011. The increase in book value per share primarily resulted from our increased results of operations and to a lesser extent, improvements in the value of our consolidated investment portfolio. Our consolidated stockholders' equity increased 9.5% to $879.5 million as of December 31, 2012 compared to $803.4 million as of December 31, 2011.

Cash flow from operations for the year ended December 31, 2012 was $96.7 million compared to approximately $118 million for the years ended December 31, 2011 and 2010. The decrease in cash flow from operations was primarily due to an increase in claim payments, partially offset by improved collections on reinsurance recoverables as well as premiums receivables.

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The following table presents our consolidated underwriting results and provides a reconciliation of our underwriting profit or loss to GAAP net income or loss for the years ended December 31, 2012, 2011 and 2010:

		Year Ended December 31,												Percentage Change
In thousands		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Gross written premiums		$	1,286,465			$	1,108,216			$	987,201				16.1	%			12.3	%
Net written premiums			833,655				753,798				653,938				10.6	%			15.3	%
Net earned premiums			781,964				691,645				659,931				13.1	%			4.8	%
Net losses and loss adjustment expenses			(497,433	)			(476,997	)			(421,155	)			4.3	%			13.3	%
Commission expenses			(121,470	)			(110,437	)			(109,113	)			10.0	%			1.2	%
Other operating expenses			(159,079	)			(138,029	)			(139,743	)			15.3	%			-1.2	%
Other income (expenses) (2)			1,488				1,229				5,186				21.1	%			-76.3	%
Underwriting profit (loss)		$	5,470			$	(32,589	)		$	(4,894	)			NM				NM
Net investment income			54,248				63,500				71,662				-14.6	%			-11.4	%
Net other-than-temporary impairment losses recognized in earnings			(858	)			(1,985	)			(1,080	)			-56.8	%			83.8	%
Net realized gains (losses)			41,074				11,996				41,319				NM				-71.0	%
Interest expense			(8,198	)			(8,188	)			(8,178	)			0.1	%			0.1	%
Income (loss) before income taxes		$	91,736			$	32,734			$	98,829				NM				-66.9	%
Income tax expense (benefit)			27,974				7,137				29,251				NM				-75.6	%
Net income (loss)		$	63,762			$	25,597			$	69,578				149.1	%			-63.2	%
Losses and loss adjustment expenses ratio			63.6	%			69.0	%			63.8	%
Commission expense ratio			15.5	%			16.0	%			16.5	%
Other operating expense ratio (1)			20.2	%			19.7	%			20.4	%
Combined ratio			99.3	%			104.7	%			100.7	%

(1) -

Includes Other operating expenses & Other income (expense)

(2) -

Reported within "Other income (expense)" on the Consolidated Statements of Income

NM -	Percentage change not meaningful

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The combined ratio for the year ended December 31, 2012 was 99.3%. Our pre-tax underwriting profit increased $38.1 million to a $5.5 million underwriting profit for December 31, 2012 compared to an underwriting loss of $32.6 million for the same period in 2011. Our pre-tax underwriting profit for 2012 includes the following:

•

Net loss of $20.4 million, inclusive of $8.3 million in reinsurance reinstatement premiums ("RRPs"), related to Superstorm Sandy. Gross of reinsurance our loss related to Superstorm Sandy was approximately $66.7 million. Refer to subsection " Net Losses and Loss Adjustment Expenses " within this section of the MD&A for additional disclosure related to Superstorm Sandy.

•

Current accident year loss emergence of $14.5 million from our Agriculture business that was driven by significant drought related crop losses across the U.S.

•

Net losses of $13.9 million, inclusive of $11.1 million in RRPs, related to several large losses from our Marine business, including the grounding of the cruise ship Costa Concordia off the coast of Italy.

•

Net reserve redundancies of $47.2 million from our Lloyd's Operations across all businesses and all divisions, most notably Lloyd's Marine.

In addition to the above, the increase in our pre-tax underwriting profit in 2012 was affected by the mix of business and loss trends.

The combined ratio for the year ended December 31, 2011 was 104.7% compared to 100.7% for the comparable period in 2010. Our pre-tax underwriting loss increased by $27.7 million to $32.6 million for the year ended December 31, 2011 compared to a $4.9 million loss for the same period in 2010. Our pre-tax underwriting profit for 2011 includes the following:

•

2011 accident year energy losses with a net loss of $25.6 million, inclusive of $8.2 million in RRPs, related to drilling operations in the North Sea, Gulf of Mexico and Russia, as well as an onshore industrial site.

•

2011 accident year loss emergence of approximately $11.0 million related to our Professional Liability business, of which approximately $8.0 million was specific to our D&O liability insurance for both publicly and privately held corporations. The remaining $3.0 million of emergence was specific to our small lawyers and miscellaneous professional liability coverages.

•

An increase in our RRP accrual of $5.2 million. This accrual was driven by the recognition of the effect of a shift in our Marine reinsurance protections to an excess of loss program from a quota share program. As a result of this shift and the increased frequency of severity losses in recent periods, a greater portion of our IBNR was attributable to marine and energy losses that are or will be ceded to our Marine Excess-of-Loss Reinsurance program and such cession will trigger additional reinstatement premiums.

•

Net adverse loss development of $2.1 million driven by significant loss emergence in our Professional Liability business mostly offset by redundancies from our Property Casualty business.

In addition to the net adverse impacts noted above, the increase in our pre-tax underwriting loss in 2011 was affected by the mix of business and loss trends.

The combined ratio for the year ended December 31, 2010 was 100.7% and the pre-tax loss was $4.9 million mostly driven by a combined $22.5 million in RRPs related to the Deepwater Horizon and West Atlas losses, respectively. The RRPs were partially offset by net prior period reserve redundancies of $13.8 million. The net prior period reserve redundancies were driven by significant redundancies from our Property Casualty business partially offset by loss emergence from our Professional Liability business.

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Revenues

The following table sets forth our gross written premiums, net written premiums and net earned premiums by segment and line of business for the years ended December 31, 2012, 2011, and 2010:

		Year Ended December 31,
		2012																2011																2010
In thousands		Gross Written Premiums				%				Net Written Premiums				Net Earned Premiums				Gross Written Premiums				%				Net Written Premiums				Net Earned Premiums				Gross Written Premiums				%				Net Written Premiums				Net Earned Premiums
Insurance Companies:
Marine		$	200,095				16	%		$	133,210			$	142,181			$	228,500				21	%		$	170,642			$	169,018			$	223,061				23	%		$	151,059			$	155,846
Property Casualty			590,741				46	%			390,168				332,782				445,287				40	%			293,758				231,297				312,651				31	%			197,845				200,741
Professional Liability			130,489				10	%			99,578				96,476				114,632				10	%			77,991				72,148				129,793				13	%			80,451				82,264
Insurance Companies Total			921,325				72	%			622,956				571,439				788,419				71	%			542,391				472,463				665,505				67	%			429,355				438,851
Lloyd's Operations:
Marine			194,423				15	%			143,600				136,898				167,562				16	%			137,206				145,659				182,723				19	%			149,340				149,225
Property Casualty			127,028				10	%			43,824				52,951				115,138				10	%			56,249				55,903				94,799				10	%			54,049				49,852
Professional Liability			43,689				3	%			23,275				20,676				37,097				3	%			17,952				17,620				44,174				4	%			21,194				22,003
Lloyd's Operations Total			365,140				28	%			210,699				210,525				319,797				29	%			211,407				219,182				321,696				33	%			224,583				221,080
Total		$	1,286,465				100	%		$	833,655			$	781,964			$	1,108,216				100	%		$	753,798			$	691,645			$	987,201				100	%		$	653,938			$	659,931

Gross Written Premiums

Gross written premiums increased $178.2 million, or 16.1%, to $1.29 billion for the year ended December 31, 2012 compared to $1.11 billion for the same period in 2011. The increases in gross written premiums are primarily attributed to growth within our Property Casualty business, specifically our Assumed Reinsurance division, which writes Accident & Health ("A&H"), Agriculture, Latin American and Professional Liability reinsurance lines of business, as the division continues to achieve successful growth since its establishment in late 2010. The increase within Property Casualty is also attributed to growth within our Excess Casualty division resulting from strong production attributable to an expansion of our underwriting team and dislocation among certain competitors.

Gross written premiums increased $121.0 million, or 12.3%, to $1.11 billion for the year ended December 31, 2011 compared to $987.2 million for the same period in 2010. The increase in gross written premiums were primarily attributed growth in our Property Casualty business, which includes $101.5 million related to our newly established Assumed Reinsurance division which writes Accident & Health, Agriculture and Latin American reinsurance lines of business. The increase within Property Casualty is also attributable to the growth of our Excess Casualty, Environmental Liability and Primary Casualty divisions of $34.2 million, $11.5 million and $10.6 million, respectively, resulting from strong production, partially offset by the run-off of our middle market commercial package business. The increase in gross written premiums was offset by a $22.2 million decrease in our Professional Liability business attributable to our Directors and Officer Liability lines. This decrease reflects a change in our underwriting strategy that focuses on a planned shift toward underwriting excess layers.

Average renewal premium rates for our Insurance Companies segment also increased for the year ended December 31, 2012 as compared to the same period in 2011 across all segments. Our Marine business has realized a 4.4% and 4.5% increase in rates for the Marine Liability and Inland Marine divisions, respectively. Within our Property Casualty business we have realized a 2.9% increase in rates for the Energy and Engineering division, a 2.2% increase for the Excess Casualty division and a 7.9% increase in the Primary Casualty division. Our Professional Liability business has experienced an overall increase in its renewal rates of 5.1%, consisting of 5.7% and 4.2% for the E&O and the Management Liability divisions, respectively. For the year ended December 31, 2012, average renewal premium rates for our Lloyd's Operations segment include increases for Lloyd's Marine and Lloyd's Energy and Engineering for approximately 3.6% and 7.4%, respectively. Our Lloyd's Professional Liability business experienced an average decrease of 1.4%.

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Our Marine division saw increases in the average renewal premium rates in our Inland Marine and Lloyd's lines of approximately 7.3% and 0.9%, respectively, for the year ended December 31, 2011 compared to the same period in 2010. U.S. Marine premiums rates decreased 0.3% while U.K. Branch Marine premiums rates increased 1.9% for the year ended December 31, 2011 compared to the same period in 2010. For our Energy and Engineering and Primary Casualty lines we experienced an average renewal premium rate increases of approximately 4.2% and 7.4% for the year ended December 31, 2011 compared to the same period in 2010, which was offset by a decline in our Excess Casualty lines of 1.2%, respectively. The Insurance Companies and Lloyd's Professional Liability division overall experienced approximately a 1.5% decrease in average renewal premium rates for the year ended December 31, 2011 compared to 2010.

The average premium rate increases or decreases as noted above for the Marine, Property Casualty and Professional Liability businesses are calculated primarily by comparing premium amounts on policies that have renewed. The premiums are adjusted for changes in exposures and sometimes represent an aggregation of several lines of business. The rate change calculations provide an indicated pricing trend and are not meant to be a precise analysis of the numerous factors that affect premium rates or the adequacy of such rates to cover all underwriting costs and generate an underwriting profit. The calculation can also be affected quarter by quarter depending on the particular policies and the number of policies that renew during that period. Due to market conditions, these rate changes may or may not apply to new business that generally would be more competitively priced compared to renewal business. The calculation does not reflect the rate on business that we are unwilling or unable to renew due to loss experience or competition.

Ceded Written Premiums

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

Our reinsurance program includes contracts for proportional reinsurance, per risk and whole account excess-of-loss reinsurance for both property and casualty risks and property catastrophe excess-of-loss reinsurance. In recent years we have increased our utilization of excess-of-loss reinsurance for marine, property and certain casualty risks. Our excess-of-loss reinsurance contracts generally provide for a specific amount of coverage in excess of an attachment point and sometimes provides for reinstatement of the coverage to the extent the limit has been exhausted for payment of additional premium (referred to as reinsurance reinstatement premiums or RRPs). The number of reinsurance reinstatements available varies by contract.

We record an estimate of the expected RRPs for losses ceded to excess-of-loss agreements where this feature applies.

We incurred $26.9 million, $14.8 million, and $24.0 million of RRPs for the years ended December 31, 2012, 2011, and 2010, respectively. The $26.9 million in RRPs recorded in 2012 includes $11.1 million from several large losses on our marine business, including the grounding of the cruise ship Costa Concordia off the coast of Italy as well as $8.3 million in connection with our loss on Superstorm Sandy. The $14.8 million in RRPs recorded in 2011 are due to the large energy losses from our NavTech business and the accrual for large losses from our Marine business reflective of our shift to excess-of-loss reinsurance protection. The $24.0 million in RRPs recorded in 2010 is largely attributable to the Deepwater and West Atlas losses.

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The following table sets forth our ceded written premiums by segment and major line of business for the years ended December 31, 2012, 2011 and 2010:

		Year Ended December 31,
		2012								2011								2010
In thousands		Ceded Written Premiums				% of Gross Written Premiums				Ceded Written Premiums				% of Gross Written Premiums				Ceded Written Premiums				% of Gross Written Premiums
Insurance Companies:
Marine		$	66,885				33	%		$	57,858				25	%		$	72,002				32	%
Property Casualty			200,573				34	%			151,529				34	%			114,806				37	%
Professional Liability			30,911				24	%			36,641				32	%			49,342				38	%
Total Insurance Companies			298,369				32	%			246,028				31	%			236,150				36	%
Lloyd's Operations:
Marine			50,823				26	%			30,356				18	%			33,383				18	%
Property Casualty			83,204				66	%			58,889				51	%			40,750				43	%
Professional Liability			20,414				47	%			19,145				52	%			22,980				52	%
Total Lloyd's			154,441				42	%			108,390				34	%			97,113				30	%
Total		$	452,810				35	%		$	354,418				32	%		$	333,263				34	%

The increase in percentage of total ceded written premiums to total gross written premiums for the year ended December 31, 2012 compared to the same period in 2011 was primarily due to a lower retention ratio on our NavTech business as a result of a new quota share program for the offshore energy book and the RRPs recognized in our Marine business as a result of significant large loss activity during the year. The aforementioned increases were partially offset by a change in the mix of business resulting in the growth of our assumed reinsurance business written by NavRe and the continued growth of the real estate products offered by our Professional liability business where our retention ratios are higher.

The decrease in the percentage of total ceded written premiums to total gross written premiums for the year ended December 31, 2011 compared to the same period of 2010 was primarily due to a change in the mix of business resulting from new business within our recently established NavRe division, a reduction in RRPs in 2011 compared to 2010 related to large loss activity for each year and, to a lesser extent, the expansion of products offered by our Professional liability business where our retention ratios are higher, partially offset by a reduction in the retention of our Lloyd's Property Casualty business.

Net Written Premiums

Net written premiums increased 10.6% for the year ended December 31, 2012 compared to the same period in 2011. The increase is due to higher gross written premiums and the mix of business driven by our assumed reinsurance business written by NavRe, partially offset by higher premium cessions on our NavTech business and the additional RRPs recognized in our Marine business as discussed above. Net written premiums increased 15.3% for the year ended December 31, 2011 compared to the same period in 2010, due to the impact of higher gross written premiums, a reduction in RRP's in comparison to those recorded in 2010, and to a lesser extent lower premium cessions, as discussed above.

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Net Earned Premiums

Net earned premiums increased 13.1% for the year ended December 31, 2012 compared to the same period in 2011 as a result of continued growth in gross written premiums as well as a change in our mix of business driven by our assumed reinsurance business, which includes the A&H lines that are recognized in earnings over a longer exposure period than our other lines of business, and to a lesser extent, the expansion of products offered by our Professional Liability division where our retention ratios are higher. The increase in net earned premiums was partially offset by the additional RRPs in connection with loss activity in our Marine business, as discussed above. Net earned premiums increased 4.8% for the year ended December 31, 2011 compared to the same period in 2010 primarily as a result of significant ceded RRPs associated with large losses in 2010. The impact of reinstatement premiums was partially offset by a change in the mix of business in 2011 written by our assumed reinsurance business, specifically the A&H lines, which are recognized in earnings over a longer exposure period than our other lines of business.

Net Investment Income

Our net investment income was derived from the following sources:

		Year Ended December 31,												Percentage Change
In thousands		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Fixed maturities		$	58,995			$	65,060			$	69,996				-9.3	%			-7.1	%
Equity securities			3,945				5,071				3,028				-22.2	%			67.5	%
Short-term investments			1,694				964				965				75.7	%			-0.1	%
Total investment income		$	64,634			$	71,095			$	73,989				-9.1	%			-3.9	%
Investment expenses			(10,386	)			(7,595	)			(2,327	)			36.7	%			NM
Net investment income		$	54,248			$	63,500			$	71,662				-14.6	%			-11.4	%

NM -	Percentage change not meaningful

The decrease in total investment income before investment expenses for all years presented was primarily due to lower investment yields and shorter portfolio duration. The annualized pre-tax investment yield, excluding net realized gains and losses and net other-than-temporary impairment ("OTTI") losses recognized in earnings, was 2.4%, 3.0% and 3.5% for the years ended December 31, 2012, 2011 and 2010, respectively. The portfolio duration was 3.6 years for both the years ended December 31, 2012 and 2011, and was 4.4 years for the year ended December 31, 2010.

The 2.4% and 3.0% annualized pre-tax yields for the years ended December 31, 2012 and 2011, include investment expenses of $4.5 million and $4.7 million, respectively, for a total of $9.2 million, of interest expense related to the settlement of a dispute with Equitas over foregone interest on amounts that were due on certain reinsurance contracts. In the dispute Equitas alleged that we failed to make timely payments to them under certain reinsurance agreements in connection with subrogation recoveries received by us with respect to several catastrophe losses that occurred in the late 1980's and early 1990's. In addition, investment expenses for the year ended December 31, 2012 includes a $2.8 million investment performance fee. Excluding the impact of the aforementioned interest expense and investment performance fee, the annualized pre-tax yield for the years ended December 31, 2012 and 2011 would have been 2.7% and 3.2%, reflective of the general decline in market yield.

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Net Other-Than-Temporary Impairment Losses Recognized In Earnings

Our net OTTI losses recognized in earnings for the periods indicated were as follows:

		Year Ended December 31,												Percentage Change
In thousands		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Fixed maturities		$	(11	)		$	(1,093	)		$	(693	)			-99.0	%			57.7	%
Equity securities			(847	)			(892	)			(387	)			-5.0	%			130.5	%
OTTI recognized in earnings		$	(858	)		$	(1,985	)		$	(1,080	)			-56.8	%			83.8	%

The significant inputs used to measure the amount of credit loss recognized in earnings for fixed maturity securities were actual delinquency rates, default probability assumptions, severity assumptions and prepayment assumptions. Projected losses are a function of both loss severity and probability of default. Default probability and severity assumptions differ based on property type, vintage and the stress of the collateral. We do not intend to sell any of these securities and it is more likely than not that we will not be required to sell these securities before the recovery of the amortized cost basis.

Net OTTI losses for the year ended December 31, 2012 primarily consists of $0.8 million for three equity securities which were previously impaired.

Net OTTI losses for the year ended December 31, 2011 consisted of $1.0 million of additional impairments for residential mortgage-backed securities that were previously impaired and $0.9 million for two equity securities for which fair value was less than 80% of amortized cost for at least six months.

Net OTTI losses for the year ended December 31, 2010 were primarily related to residential mortgage-backed securities.

Net Realized Gains and Losses

Realized gains and losses, excluding net OTTI losses recognized in earnings, for the periods indicated were as follows:

		Year Ended December 31,												Percentage Change
In thousands		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Fixed maturities:
Gains		$	28,789			$	11,678			$	42,932				146.5	%			-72.8	%
Losses			(1,915	)			(7,044	)			(3,239	)			-72.8	%			117.5	%
Fixed maturities, net		$	26,874			$	4,634			$	39,693				NM				-88.3	%
Equity securities:
Gains		$	14,673			$	9,319			$	1,867				57.5	%			NM
Losses			(473	)			(1,957	)			(241	)			-75.8	%			NM
Equity securities, net		$	14,200			$	7,362			$	1,626				92.9	%			NM
Net realized gains (losses)		$	41,074			$	11,996			$	41,319				NM				-71.0	%

NM -	Percentage change not meaningful

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Net realized gains and losses are generated as part of the normal ongoing management of our investment portfolio. Net realized gains of $41.1 million for the year ended December 31, 2012 are primarily due to the sale of municipal bonds and equity securities in anticipation of continued market uncertainty, the proceeds of which were reinvested in U.S. Government Treasury bonds and equities. Net realized gains of $12.0 million for the year ended December 31, 2011 primarily included the sale of corporate bonds and equity mutual funds. Net realized gains of $41.3 million for the year ended December 31, 2010 included the sale of the majority of our general obligation municipal bond obligations, the proceeds of which were reinvested in corporate bonds and agency mortgage-backed securities.

Other Income/Expense

Total other income for the years ended December 31, 2012, 2011 and 2010 was $1.5 million, $1.2 million and $5.1 million, respectively, and consists of foreign exchange gains and losses from our Lloyd's Operations, commission income and inspection fees related to our specialty insurance business.

Expenses

Net Losses and Loss Adjustment Expenses

The ratio of net losses and LAE to net earned premiums ("loss ratios") for the years ended December 31, 2012, 2011 and 2010 is presented in the following table:

		Year Ended December 31,
Net Loss and LAE Ratio		2012				2011				2010
Net Loss and LAE Payments			66.2	%			55.3	%			59.3	%
Change in reserves			3.2	%			13.4	%			6.6	%
Subtotal-current year loss ratio			69.4	%			68.7	%			65.9	%
Prior year deficiencies (redundancies)			-5.8	%			0.3	%			-2.1	%
Net loss and LAE ratio			63.6	%			69.0	%			63.8	%

The net loss and LAE ratio for the year ended December 31, 2012 decreased 5.4 percentage points to 63.6% from 69.0% for the year ended December 31, 2011. The decrease in the loss ratio reflects improved loss experience due to net prior year reserve redundancies of $47.2 million, or 6 loss ratio points, from our Lloyd's Operations and loss ratio trends driven by mix of business. The improvement in the loss ratio was partially offset by $14.5 million, or 1.9 loss ratio points of current year loss emergence from our Agriculture reinsurance business, and specific large loss events that occurred in the current year. The current year loss ratio includes a net loss of $12.1 million, exclusive of RRPs, or 1.5 loss ratio points, related to Superstorm Sandy and net losses of $2.8 million, exclusive of RRPs, or 0.4 loss ratio points, related to several large losses from our Marine business, including the grounding of the cruise ship Costa Concordia off the coast of Italy.

The net loss and LAE ratio for the year ended December 31, 2011 increased 5.2 percentage points to 69.0% from 63.8% for the year December 31, 2010. The increase for the year ended December 31, 2011 was primarily due to 2011 accident year loss emergence of approximately $11.0 million related to our Professional Liability business of which approximately $8.0 million was specific to our D&O liability insurance for both publicly and privately held corporations. The remaining $3.0 million was specific to our small lawyers and miscellaneous professional liability coverages. In addition, the increase for the year ended December 31, 2011 included net losses of $17.4 million related to four energy events compared to net losses of $11.0 million in 2010 related to Deepwater Horizon and West Atlas.

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The segment and line of business breakdown of the net loss and LAE ratios for the years ended December 31, 2012, 2011 and 2010 are as follows:

		Year Ended December 31,
In thousands		2012				2011				2010
Insurance Companies:
Marine			77.4	%			65.8	%			64.5	%
Property Casualty			70.8	%			65.7	%			55.2	%
Professional Liability			73.8	%			108.8	%			83.4	%
Insurance Companies			73.0	%			72.3	%			63.8	%
Lloyd's Operations
Marine			37.3	%			60.0	%			66.2	%
Property Casualty			44.7	%			48.7	%			55.6	%
Professional Liability			26.8	%			118.3	%			66.2	%
Lloyd's Operations			38.2	%			61.8	%			63.8	%
Net loss and LAE ratio			63.6	%			69.0	%			63.8	%

Prior Year Reserve Deficiencies/Redundancies

The relevant factors that may have a significant impact on the establishment and adjustment of losses and LAE reserves can vary by line of business and from period to period. As part of our regular review of prior reserves, management, in consultation with our actuaries, may determine, based on their judgment that certain assumptions made in the reserving process in prior year periods may need to be revised to reflect various factors, likely including the availability of additional information. Based on their reserve analyses, management may make corresponding reserve adjustments.

The segment and line of business breakdowns of prior period net reserve deficiencies (redundancies) for the years ended December 31, 2012, 2011 and 2010 are as follows:

		Year Ended December 31,
In thousands		2012				2011				2010
Insurance Companies:
Marine		$	(10,010	)		$	1,348			$	(4,155	)
Property Casualty			4,293				(6,828	)			(14,923	)
Professional Liability			7,613				17,582				13,623
Insurance Companies		$	1,896			$	12,102			$	(5,455	)
Lloyd's Operations:
Marine			(30,735	)			(10,311	)			(3,152	)
Property Casualty			(6,890	)			(5,434	)			(5,236	)
Professional Liability			(9,562	)			5,788				41
Lloyd's			(47,187	)			(9,957	)			(8,347	)
Total deficiencies (redundancies)		$	(45,291	)		$	2,145			$	(13,802	)

The following is a discussion of relevant factors related to the $45.3 million prior period net reserve redundancies recorded for the year ended December 31, 2012:

The Insurance Companies recorded $1.9 million net prior period reserve deficiencies. The Marine business had $10.0 million of net reserve redundancies, which were primarily driven by:

•

an IBNR adjustment of 4.0 million to reflect the actual emergence of claims for underwriting year "(UY)" 2010, which was more favorable than the expected emergence.

•

case reserve releases of $3.4 million due to the favorable settlement of several large losses; and

•

a favorable IBNR adjustment of $2.6 million attributable to changes in our assumptions for salvage and subrogation from our short tail marine lines that was based on our observation of a consistent and persistent historical pattern of favorable savings attributable to salvage and subrogation.

The Marine reserve redundancies were partially offset by net reserve deficiencies of $7.6 million from the small lawyer and accountants lines within our Professional Liability business. This deficiency was primarily driven by IBNR increases of $3.4 million made to recognize the severity impact of several large losses that caused the actual claims emergence for these lines to exceed the expected emergence pattern. We also incurred net reserve deficiencies of $4.3 million within our Property Casualty segment, which were primarily attributable to two large hemophiliac claims from UY 2011 arising from our A&H business.

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Our Lloyd's Operations recorded $47.2 million of net prior period reserve redundancies across all businesses and divisions. In connection with the Company's implementation of the Solvency II technical provisions in its Lloyd's operation, the Company's actuaries undertook a comprehensive review during 2012 of the historical claims emergence patterns for all lines of business underwritten through Syndicate 1221. As a result of this review, the Company updated the loss emergence patterns used to project ultimate losses for all such lines of business, aligning these loss emergence factors with the historical median. This caused a reduction in ultimate loss estimates for all Lloyd's segments other than certain lines of business in Property Casualty segment, which increased. The Lloyd's Operation also experienced significant reserve redundancies in several large claims. The amount of reserve redundancies attributable to these settlements was $5.0 million, consisting of $4.1 million from the Lloyd's Marine business and $0.9 million from Lloyd's Professional Liability business. A summary of the resulting prior period redundancies for each business within our Lloyd's Operations by prior UY is set forth below:

In thousands		Marine				Property Casualty				Professional Liability				Total
2010			3,492				378				1,157				5,027
2009			14,792				4,170				6,072				25,034
2008 and Prior			12,451				2,342				2,333				17,126
Total Redundancy		$	30,735			$	6,890			$	9,562			$	47,187

The following is a discussion of relevant factors related to the $2.1 million net reserve deficiency for the year ended December 31, 2011:

The adverse development of $1.3 million for our Insurance Companies Marine business was driven by $4.0 million of unfavorable loss emergence in Inland Marine in accident years 2009 and 2010 which was offset by $2.7 million favorable development in Ocean Marine. The Ocean Marine development was driven by $5.8 million of favorable development in accident years 2008 to 2010 and was partially offset by $3.2 million of adverse development for accident years 2007 and prior. Ocean Marine's favorable development was driven by the Craft, protection and indemnity, and Transport classes with partial offsets from the Specie and Liability classes.

Our Insurance Companies Property Casualty business experienced $6.8 million of favorable development overall which was driven by favorable development of $8.4 million from Offshore Energy across several accident years and was partially offset by adverse development from runoff Liquor Liability in accident years 2008 and 2009.

Our Insurance Companies Professional Liability business had overall adverse development of $17.6 million, which consisted of adverse development of $14.5 million and $3.1 million from Management Liability and Errors and Omissions, respectively. The Management Liability development was primarily driven by liability coverage of Public Company directors and officers for accident years 2009 and 2010. The Errors and Omissions development was driven by Small Lawyers Professional Liability and Miscellaneous Professional Liability classes for accident year 2010.

Our Lloyd's operations experienced $10.0 million of favorable development. This was driven by favorable development of $10.3 million and $5.5 million from the Marine and NavTech divisions respectively, which was partially offset by $5.8 million of unfavorable development from Professional Liability. The favorable development in Marine was primarily from the Cargo, Liability and Specie classes for accident years 2008 and prior. The favorable development in NavTech was from Offshore Energy primarily in accident years 2007 to 2009. The adverse development in Professional Liability was mostly from Errors and Omissions in accident years 2006 to 2008.

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The following is a discussion of relevant factors impacting our $13.8 million net reserve redundancies for the year ended December 31, 2010:

The Insurance Companies recorded $4.2 million of net prior year favorable development for the marine business, of which $2.6 million arose in the marine liability business due to favorable loss emergence relative to our expectations and $1.4 million in Hull as we eliminated IBNR in older underwriting years where we determined the year had been fully reported and saw case reserve reductions on a number of claims.

The Insurance Companies recorded $14.9 million of net prior year redundancies for Property Casualty business in total. The favorable development included:

•

$29.2 million for West Coast contractors' liability due to an internal actuarial review conducted in 2010 which indicated that loss development on underwriting years 2006 to 2008 has been more favorable than our prior expectations with a partial offset for underwriting years 2004 and prior.

•

$2.9 million of favorable development on our offshore energy (NavTech) book due to favorable claims trends across a number of prior underwriting years.

•

$1.8 million of favorable development on the Somerset Re run-off book of business where we concluded the IBNR was no longer required and $1.5 million on our Agriculture reinsurance book where the reported activity was lower than our initial estimate for the 2009 treaty year.

Partially offsetting these favorable developments were adverse development of:

•

$16.5 million in our Specialty run-off books of business, including $13.3 million in our personal umbrella lines across multiple underwriting years where loss activity has exceeded our expectations and $2.0 million of adverse development in our Liquor business due to reported claim activity.

•

$1.7 million for New York construction liability due to unfavorable loss emergence.

The Insurance Companies recorded $13.6 million of net prior year unfavorable development for professional liability:

•

The directors and officers liability book of business had $15.7 million of adverse development, which was primarily attributable to a severity study of our open claims. This study showed our IBNR to be significantly deficient if current trends continued and we raised our loss estimates for underwriting years 2002 to 2009. This was partially offset by $1.4 million of favorable development on a run-off lawyers book of business written from London where we saw favorable settlements of outstanding claims and $0.7 million of favorable development on other lawyers business mostly due to a favorable claim reserve settlement.

The Lloyd's Operations recorded $8.3 million in favorable loss development for prior years during 2010. This included favorable development of $3.2 million in Marine, $4.8 million in NavTech, and $0.5 million in all other areas. The Marine favorable development was primarily from the 2007 and 2008 underwriting years and was driven by loss development on these underwriting years being more favorable than our expectations, particularly in marine liability, assumed reinsurance, and specie classes. NavTech's favorable development was mostly from the 2006 through 2008 underwriting years driven by favorable claims trends in the offshore energy.

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Superstorm Sandy

The net loss in connection with Superstorm Sandy was $20.4 million, or 2.6 points on our combined ratio, inclusive of $8.3 million in RRPs. Excluding the impact of RRPs, the gross and net loss was $66.7 million and $12.1 million, respectively.

The following table sets forth our gross and net loss and LAE reserves, incurred loss and LAE, and payments for Superstorm Sandy for the year ended December 31, 2012:

		Year Ended
(In thousands)		December 31, 2012
Gross of Reinsurance
Incurred loss & LAE			66,674
Calendar year payments			3,827
Ending gross reserves		$	62,847
Gross case loss reserves		$	26,294
Gross IBNR loss reserves			36,553
Ending gross reserves		$	62,847
Net of Reinsurance
Incurred loss & LAE			12,087
Calendar year payments			3,459
Ending net reserves		$	8,628
Net case loss reserves		$	7,455
Net IBNR loss reserves			1,173
Ending net reserves		$	8,628

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Hurricanes Gustav and Ike

The following table sets forth our gross and net loss and LAE reserves, incurred loss and LAE, and payments for the 2008 Hurricanes Gustav and Ike for the periods indicated:

		Year Ended December 31,
In thousands		2012				2011				2010
Gross of Reinsurance
Beginning gross reserves		$	31,170			$	40,095			$	59,509
Incurred loss & LAE			(12,551	)			(77	)			(1,997	)
Calendar year payments			2,842				8,848				17,417
Ending gross reserves		$	15,777			$	31,170			$	40,095
Gross case loss reserves		$	2,404			$	7,317			$	17,987
Gross IBNR loss reserves			13,373				23,853				22,108
Ending gross reserves		$	15,777			$	31,170			$	40,095
Net of Reinsurance
Beginning net reserves		$	1,150			$	569			$	2,683
Incurred loss & LAE			(58	)			141				1,257
Calendar year payments			248				(440	)			3,371
Ending net reserves		$	844			$	1,150			$	569
Net case loss reserves		$	344			$	951			$	569
Net IBNR loss reserves			500				199				-
Ending net reserves		$	844			$	1,150			$	569

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Hurricanes Katrina and Rita

The following tables set forth our gross and net loss and LAE reserves, incurred loss and LAE, and payments for the 2005 Hurricanes Katrina and Rita for the periods indicated:

		Year Ended December 31,
In thousands		2012				2011				2010
Gross of Reinsurance
Beginning gross reserves		$	19,527			$	22,599			$	67,038
Incurred loss & LAE			(894	)			(1,102	)			(2,300	)
Calendar year payments			419				1,970				42,139
Ending gross reserves		$	18,214			$	19,527			$	22,599
Gross case loss reserves		$	17,812			$	19,105			$	19,164
Gross IBNR loss reserves			402				422				3,435
Ending gross reserves		$	18,214			$	19,527			$	22,599
Net of Reinsurance
Beginning net reserves		$	40			$	90			$	3,536
Incurred loss & LAE			38				(148	)			(3,559	)
Calendar year payments			11				(98	)			(113	)
Ending net reserves		$	67			$	40			$	90
Net case loss reserves		$	32			$	4			$	44
Net IBNR loss reserves			35				36				46
Ending net reserves		$	67			$	40			$	90

The reduction in incurred loss and LAE shown for the 2008 Hurricanes was due to the release of IBNR on Hurricane Ike during the first quarter 2012. The takedown of IBNR on this loss event was a result of an evaluation of the reported losses over 2010 and 2011. The result of this review was a reduction to Hurricane Ike IBNR as the Company determined that the IBNR reserves for this loss event should be reduced to be in line with our ultimate loss expectations on this event.

Asbestos Liability

Our exposure to asbestos liability principally stems from marine liability insurance written on an occurrence basis during the mid-1980s. In general, our participation on such risks is in the excess layers, which requires the underlying coverage to be exhausted prior to coverage being triggered in our layer. In many instances we are one of many insurers who participate in the defense and ultimate settlement of these claims, and we are generally a minor participant in the overall insurance coverage and settlement.

The reserves for asbestos exposures as of December 31, 2012 are for: (i) one large settled claim for excess insurance policy limits exposed to a class action suit against an insured involved in the manufacturing or distribution of asbestos products being paid over several years (two other large settled claims were fully paid in 2007); (ii) other insureds not directly involved in the manufacturing or distribution of asbestos products, but that have more than incidental asbestos exposure for their purchase or use of products that contained asbestos; and (iii) attritional asbestos claims that could be expected to occur over time. Substantially all of our asbestos liability reserves are included in our marine loss reserves.

There can be no assurances that material loss development may not arise in the future from existing asbestos claims or new claims given the evolving and complex legal environment that may directly impact the outcome of the asbestos exposures of our insureds.

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The following tables set forth our gross and net loss and LAE reserves, incurred loss and LAE, and payments for our asbestos exposures for the periods indicated:

		Year Ended December 31,
In thousands		2012				2011				2010
Gross of Reinsurance
Beginning gross reserves		$	19,830			$	20,513			$	20,556
Incurred loss & LAE			5,032				128				638
Calendar year payments			639				811				681
Ending gross reserves		$	24,223			$	19,830			$	20,513
Gross case loss reserves		$	21,958			$	13,565			$	14,248
Gross IBNR loss reserves			2,265				6,265				6,265
Ending gross reserves		$	24,223			$	19,830			$	20,513
Net of Reinsurance
Beginning net reserves		$	15,089			$	15,161			$	15,172
Incurred loss & LAE			(317	)			(780	)			278
Calendar year payments			295				(708	)			289
Ending net reserves		$	14,477			$	15,089			$	15,161
Net case loss reserves		$	12,417			$	9,029			$	9,101
Net IBNR loss reserves			2,060				6,060				6,060
Ending net reserves		$	14,477			$	15,089			$	15,161

Commission Expenses

Commission expenses paid to brokers and agents are generally based on a percentage of gross written premiums and are partially offset by ceding commissions we may receive on ceded written premiums. Commissions are generally deferred and recorded as deferred policy acquisition costs to the extent that they relate to unearned premium. The percentage of commission expenses to net earned premiums ("commission expense ratio") for the years ended December 31, 2012, 2011 and 2010 was 15.5% 16.0% and 16.5%, respectively. The decrease in commission expense for the year ended December 31, 2012 compared to the same period in 2011 can be attributed to changes in the mix of business and to a lesser extent an increase in the ceding commission on the new quota share program for our offshore energy business, partially offset by additional RRPs in 2012 in connection with loss events from our Marine business. The slight decrease in the commission expense ratio for the year ended December 31, 2011 when compared to the same period in 2010 can be attributed to the impact of RRPs recorded in 2010, which reduced net earned premiums and in turn increased the commission expense ratio in 2010.

Other Operating Expenses

Other operating expenses increased to $159.1 million for the year ended December 31, 2012 from $138.0 million for the same period in 2011 primarily due to continued investments in new underwriting teams closely aligned with business growth and an increase in incentive compensation, which is largely impacted by a reversal of stock grants expense recorded for 2011 related to performance based awards that were not expected to vest, and to a lesser extent the issuance of additional performance and non-performance restricted stock grants in 2012. Refer to Note 15, Stock Option Plans, Stock Grants, Stock Appreciation Rights and Employee Stock Purchase Plan, in the Notes to Consolidated Financial Statements for additional information regarding our expense for restricted stock grants.

Other operating expenses decreased to $138.0 million for the year ended December 31, 2011 from $139.7 million for the same period in 2010. The decrease was primarily due to a reduction in stock grant expense related to performance based awards that are not expected to vest, partially offset by increased expenses for continued investments in new underwriting teams.

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Interest Expense

Interest expense relates to our Senior Notes due May 1, 2016. Interest on these Senior Notes is due each May 1 and November 1 and the effective interest rate, based on the proceeds net of discount and all issuance costs, is approximately 7.17%. Interest expense was $8.2 million for each of the years ended December 31, 2012, 2011 and 2010.

Income Taxes

We recorded income tax expense of $28.0 million, $7.1 million and $29.3 million for the years ended December 31, 2012, 2011 and 2010 respectively. The effective tax rates were 30.5%, 21.8% and 29.6% for the years ended December 31, 2012, 2011 and 2010, respectively. The increase in effective tax rate from 2011 to 2012 resulted primarily from a higher percentage of pre-tax income being subject to the maximum federal income tax rate in 2012, due in part to net realized gains on the sales of investments. The effective tax rate on net investment income was 26.8%, 27.6% and 27.0% for the years ended December 31, 2012, 2011 and 2010 respectively.

As of December 31, 2012, the net deferred federal, foreign, state and local tax assets were $3.2 million, compared to net deferred tax liabilities of $6.3 million as of December 31, 2011 with the change primarily due to the increase in the deferred tax asset for unearned premium reserve, in line with the growth of our business.

We had net state and local deferred tax assets amounting to potential future tax benefits of $0.5 million and $0.2 million as of December 31, 2012 and 2011, respectively. Included in the deferred tax assets are state and local net operating loss carry-forwards of $0.2 million for both December 31, 2012 and 2011. A valuation allowance was established for the full amount of these potential future tax benefits due to uncertainty associated with their realization. Our state and local tax carry-forwards as of December 31, 2012 expire from 2023 to 2031. Refer to Footnote 7, Income Taxes, included herein, for further detail on the temporary differences that give rise to federal, foreign, state and local deferred tax assets or liabilities.

The Company has not provided for U.S. income taxes on approximately $17.9 million of undistributed earnings of its non-U.S. subsidiaries since it is intended that those earnings will be reinvested indefinitely in those subsidiaries. If a future determination is made that those earnings no longer are intended to be reinvested indefinitely in those subsidiaries, U.S. income taxes of approximately $1.8 million, assuming all foreign tax credits are realized, would be included in the tax provision at that time and would be payable if those earnings were distributed to the Company.

Segment Information

We classify our business into two underwriting segments consisting of the Insurance Companies and the Lloyd's Operations, which are separately managed, and a Corporate segment. Segment data for each of the two underwriting segments include allocations of the operating expenses of the wholly-owned underwriting management companies and The Navigator's Group, Inc.'s (the "Parent Company's") operating expenses and related income tax amounts. The Corporate segment consists of the Parent Company's investment income, interest expense and the related tax effect.

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

Following are the financial results of our two underwriting segments.

Insurance Companies

The Insurance Companies consist of Navigators Insurance Company, including its U.K. Branch, and its wholly-owned subsidiary, Navigators Specialty. They are primarily engaged in underwriting marine insurance and related lines of business, specialty insurance lines of business, including contractors general liability insurance, commercial umbrella and primary and excess casualty businesses, specialty assumed reinsurance business, and professional liability insurance. Navigators Specialty underwrites specialty and professional liability insurance on an excess and surplus lines basis. Navigators Specialty is 100% reinsured by Navigators Insurance Company.

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The following table sets forth the results of operations for the Insurance Companies for the years ended December 31, 2012, 2011 and 2010:

		Year Ended December 31,												Percentage Change
In thousands		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Gross written premiums		$	921,325			$	788,419			$	665,505				16.9	%			18.5	%
Net written premiums			622,956				542,391				429,355				14.9	%			26.3	%
Net earned premiums			571,439				472,463				438,851				20.9	%			7.7	%
Net losses and loss adjustment expenses			(417,082	)			(341,625	)			(280,120	)			22.1	%			22.0	%
Commission expenses			(81,370	)			(64,165	)			(59,122	)			26.8	%			8.5	%
Other operating expenses			(113,625	)			(101,517	)			(106,631	)			11.9	%			-4.8	%
Other income (expense)			3,790				3,955				1,698				-4.2	%			132.9	%
Underwriting profit (loss)		$	(36,848	)		$	(30,889	)		$	(5,324	)			19.3	%			NM
Net investment income			46,549				54,164				62,792				-14.1	%			-13.7	%
Net realized gains (losses)			36,468				12,151				36,057				NM				-66.3	%
Income (loss) before income taxes		$	46,169			$	35,426			$	93,525				30.3	%			-62.1	%
Income tax expense (benefit)			12,686				8,271				27,219				53.4	%			-69.6	%
Net income (loss)		$	33,483			$	27,155			$	66,306				23.3	%			-59.0	%
Losses and loss adjustment expenses ratio			73.0	%			72.3	%			63.8	%
Commission expense ratio			14.2	%			13.6	%			13.5	%
Other operating expense ratio (1)			19.2	%			20.6	%			23.9	%
Combined ratio			106.4	%			106.5	%			101.2	%

(1) -

Includes Other operating expenses & Other income (expense)

NM -	Percentage change not meaningful

Our Insurance Companies reported net income of $33.5 million, $27.2 million and $66.3 million for the years ended December 31, 2012, 2011 and 2010, respectively. The increase in net income for the year ended December 31, 2012 as compared to the same period in 2011 was largely related to an increase in net realized gains on our investment portfolio, partially offset by a decrease in investment income driven by lower yields and unfavorable underwriting results. The decrease in net income for the year ended December 31, 2011 as compared to the same period in 2010 was largely attributable to an increase in our underwriting loss and a reduction in net realized gains.

Our Insurance Companies combined ratio for the year ended December 31, 2012 was 106.4% compared to 106.5% for the same period in 2011. Our Insurance Companies pre-tax underwriting results decreased by $6.0 million to a $36.8 million underwriting loss for the year ended December 31, 2012 compared to an underwriting loss of $30.9 million for the same period in 2011. The Insurance Companies' pre-tax underwriting loss in 2012 includes the following:

•

Current accident year loss emergence of $14.5 million from our Agriculture business that was driven by significant drought related crop losses across the U.S.

•

Net loss of $12.8 million, inclusive of $6.3 million in RRPs, related to Superstorm Sandy. Gross of reinsurance the Insurance Companies' loss related to Superstorm Sandy was approximately $45.2 million.

•

Net losses of $9.9 million, inclusive of $9.2 million in RRPs, related to several large losses from our Marine business, including the grounding of the cruise ship Costa Concordia off the coast of Italy.

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Our Insurance Companies' combined ratio for the year ended December 31, 2011 was 106.5% compared to 101.2% for the same period in 2010. Our Insurance Companies' pre-tax underwriting loss increased by $25.6 million to $30.9 million as of December 31 2011 compared to $5.3 million for the same period 2010. The Insurance Companies' pre-tax underwriting loss in 2011 includes the following:

•

2011 accident year energy losses with a net loss of $16.1 million, inclusive of $5.5 million in reinsurance reinstatement premiums, related to drilling operations in the North Sea, Gulf of Mexico and Russia

•

Prior period net reserve deficiencies of $12.1 million largely attributable to significant emergence in our Professional liability business, partially offset by redundancies from our Property Casualty business.

•

2011 accident year loss emergence of approximately $11.0 million related to our Professional liability business, of which approximately $8.0 million was specific to our Directors and Officers liability insurance for both publicly and privately held corporations. The remaining $3.0 million of emergence was specific to our small lawyers and miscellaneous professional liability coverages.

In addition to the net adverse impacts noted above, the increase in our Insurance Companies' pre-tax underwriting loss in 2011 over 2010 was affected by the mix of business and loss trends.

The Insurance Companies' combined ratio for the year ended December 31, 2010 was 101.2% and the pre-tax underwriting loss was $5.3 million mostly driven by $13.1 million in RRPs related to the Deepwater Horizon and West Atlas losses, respectively, partially offset by net prior period reserve redundancies of $5.5 million driven by significant redundancies from our Property Casualty business partially offset by loss emergence from our Professional Liability business.

Insurance Companies Gross Written Premiums

Marine Premiums. The gross written premiums for our Marine business for the years ended December 31, 2012, 2011 and 2010 consisted of the following:

		Year Ended December 31,												Percentage Change
		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Marine liability		$	64,429			$	74,429			$	77,066				-13.4	%			-3.4	%
Inland Marine			33,982				33,120				29,986				2.6	%			10.4	%
Cargo			25,840				23,333				23,179				10.7	%			0.7	%
Craft/fishing vessels			25,018				21,714				19,948				15.2	%			8.9	%
Bluewater hull			18,134				18,695				18,531				-3.0	%			0.9	%
Protection & indemnity			17,767				20,496				17,479				-13.3	%			17.3	%
Other Marine			14,925				36,713				36,872				-59.3	%			-0.4	%
Total Marine		$	200,095			$	228,500			$	223,061				-12.4	%			2.4	%

The Insurance Companies Marine gross written premiums for the year ended December 31, 2012 decreased 12.4% compared to the same period in 2011 primarily due to the transfer of underwriting responsibility of our Transport business, which in the table above is included in Other Marine, to our Lloyd's Operations. The aforementioned decreases were slightly offset by growth across multiple products driven by an overall increase in renewal rates of 4.4%.

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The Insurance Companies' Marine gross written premiums for the year ended December 31, 2011 increased 2.4% to $228.5 million compared to 2010 primarily due to Inland Marine which increased by 10.5% as a result of new business and a 7.3% increase on renewal rates, and the P&I product which increased by 17.3%, benefiting from reduced competition as a major competitor had stopped writing P&I business. The Transport business also grew from prior year by 11.5% due to an unexpected increase in global trade in 2011. The increases were offset by the reduction of our Customs Bonds business, reported within Other Marine in the table above, which decreased from 2010 due to the termination of an agency agreement as well as the current economy's impact on the shipping industry. The 2011 Insurance Company Marine average renewal rate increased 1.3% from prior year.

Property Casualty Premiums. The gross written premiums for our Property Casualty business for the years ended December 31, 2012, 2011 and 2010 consisted of the following:

		Year Ended December 31,												Percentage Change
		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Excess Casualty		$	194,306			$	130,166			$	96,015				49.3	%			35.6	%
Assumed Reinsurance			181,025				106,496				5,031				70.0	%			NM
Primary Casualty			113,423				109,034				98,418				4.0	%			10.8	%
Energy & Engineering			61,109				57,641				52,789				6.0	%			9.2	%
Environmental liability			25,815				20,323				8,832				27.0	%			130.1	%
Other Property & Casualty			15,063				21,627				51,566				-30.4	%			-58.1	%
Total Property Casualty		$	590,741			$	445,287			$	312,651				32.7	%			42.4	%

NM -	Percentage change not meaningful

The Insurance Companies Property Casualty gross written premiums for the year ended December 31, 2012 increased 32.7% compared to the same period in 2011. The increases were primarily driven by our assumed reinsurance business written by NavRe as the division continues to achieve successful growth since its establishment in late 2010. Additionally, we experienced growth in our Excess Casualty division resulting from strong production attributable to the expansion of our underwriting team and dislocation of certain competitors.

The Insurance Companies Property Casualty gross written premiums for the year ended December 31, 2011 increased by 42.4% to $445.3 million compared to the same period in 2010. The increase was primarily driven by our recently established assumed reinsurance business, written by NavRe, which produced $106.5 million in gross written premiums for the year ended December 31, 2011. Additionally, we saw growth in our Excess Casualty and Primary Casualty lines due to an increase in underwriting activity resulting from an expansion of our underwriting team and competition dislocation in Excess Casualty. The increases were offset by activity within our Specialty Run-off division, reported within Other Property & Casualty in the table above, which decreased as a result of the sale of our NavPac business to Tower Insurance Company of New York via a renewal rights transaction.

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Professional Liability Premiums. The gross written premiums for our Professional Liability business for the years ended December 31, 2012, 2011 and 2010 consisted of the following:

		Year Ended December 31,												Percentage Change
		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Errors & Omissions		$	87,221			$	69,275			$	56,277				25.9	%			23.1	%
Management Liability			43,268				45,357				73,516				-4.6	%			-38.3	%
Total Professional Liability		$	130,489			$	114,632			$	129,793				13.8	%			-11.7	%

The Insurance Companies Professional Liability gross written premiums for the year ended December 31, 2012 increased 13.8% compared to the same period in 2011. The increase is related to our E&O division and is driven by growth from the real estate product, which produced $19.3 million in gross written premiums in 2012. Additionally, E&O reported an overall 5.7% increase in renewal rates for the year ended December 31, 2012.

The Insurance Companies' Professional Liability gross written premiums for the year ended December 31, 2011 decreased by 11.7% to $114.6 million compared to prior year primarily due to the reduction in our D&O business as we have implemented a revised underwriting strategy exiting areas that have been identified as having greater volatility and shifted our public company book by emphasizing higher excess layers. Our Noodle business, reported within Management liability in the table above, decreased by 97.4% from the prior year due to the termination of the agency relationship in 2010. The decreases were offset by the E&O business, which increased 37.6% from the prior year due to the success of the real estate product which was established in the third quarter of 2011 and wrote $8.9 million in gross written premium for the year ended December 31, 2011. In addition, the average 2011 Professional Liability renewal rate declined 1.4% from 2010.

Insurance Companies Other Operating Expenses

Other operating expenses for the Insurance Companies increased to $113.6 million for the year ended December 31, 2012 from $101.5 million for the same period in 2011 primarily due to an increase in allocated expenses from NMC and NMUK, which is driven by continued investments in new underwriting teams closely aligned with business growth and an increase in incentive compensation. The increase in incentive compensation is largely impacted by a reversal of stock grants expense recorded in 2011 related to performance based awards that were not expected to vest, and to a lesser extent the issuance of additional performance and non-performance restricted stock grants in 2012.

Other operating expenses for the Insurance Companies decreased to $101.5 million for the year ended December 31, 2011 from $106.6 million for the same period in 2010. The decrease was primarily due to a reduction in allocated expenses from NMC and NHUK due in part to a decrease in stock grant expense related to performance based awards that are not expected to vest, partially offset by increased expenses for continued investments in new underwriting teams.

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Lloyd's Operations

Our Lloyd's Operations primarily underwrite marine and related lines of business along with offshore energy, construction coverages for onshore energy business and professional liability insurance at Lloyd's through Syndicate 1221. Our Lloyd's Operations segment includes NUAL, a Lloyd's underwriting agency which manages Syndicate 1221.

The following table sets forth the results of operations of the Lloyd's Operations for the years ended December 31, 2012, 2011 and 2010:

		Year Ended December 31,												Percentage Change
In thousands		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Gross written premiums		$	365,140			$	319,797			$	321,696				14.2	%			-0.6	%
Net written premiums			210,699				211,407				224,583				-0.3	%			-5.9	%
Net earned premiums			210,525				219,182				221,080				-3.9	%			-0.9	%
Net losses and loss adjustment expenses			(80,351	)			(135,372	)			(141,035	)			-40.6	%			-4.0	%
Commission expenses			(42,449	)			(48,341	)			(49,991	)			-12.2	%			-3.3	%
Other operating expenses			(45,454	)			(36,512	)			(33,112	)			24.5	%			10.3	%
Other income (expense)			47				(657	)			3,488				NM				NM
Underwriting profit (loss)		$	42,318			$	(1,700	)		$	430				NM				NM
Net investment income			7,551				8,955				8,286				-15.7	%			8.1	%
Net realized gains (losses)			3,555				(2,354	)			3,323				NM				NM
Income (loss) before income taxes		$	53,424			$	4,901			$	12,039				NM				-59.3	%
Income tax expense (benefit)			18,620				1,523				4,389				NM				-65.3	%
Net income (loss)		$	34,804			$	3,378			$	7,650				NM				-55.8	%
Losses and loss adjustment expenses ratio			38.2	%			61.8	%			63.8	%
Commission expense ratio			20.2	%			22.1	%			22.6	%
Other operating expense ratio (1)			21.5	%			16.9	%			13.4	%
Combined ratio			79.9	%			100.8	%			99.8	%

(1) -

Includes Other operating expenses & Other income (expense)

NM -	Percentage change not meaningful.

Our Lloyd's Operations reported net income of $34.8 million, $3.4 million and $7.7 million for the years ended December 31, 2012, 2011 and 2010, respectively. The increase in net income for the year ended December 31, 2012 as compared to the same period in 2011 was largely attributable to stronger underwriting results and to a lesser extent an increase in net realized gains on investments. The decrease in net income for the year ended December 31, 2011 as compared to the same period in 2010 was largely attributable to adverse underwriting activity and current year net realized losses on investments.

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Our Lloyd's Operations combined ratio for the year ended December 31, 2012 was 79.9% compared to 100.8% for the same period in 2011. Our Lloyd's Operations pre-tax underwriting results increased by $44.0 million to a $42.3 million underwriting profit for the year ended December 31, 2012 compared to a $1.7 million underwriting loss for the same period in 2011. Our Lloyd's Operations pre-tax underwriting profit in 2012 includes:

•

Net loss of $7.6 million, inclusive of $2.0 million in RRPs, related to Superstorm Sandy. Gross of reinsurance our Lloyd's Operations loss related to Superstorm Sandy was approximately $21.5 million.

•

Net losses of $4.0 million, inclusive of $1.9 million in RRPs, related to several large losses from our Marine business, including the grounding of the cruise ship Costa Concordia off the coast of Italy.

•

Net reserve redundancies of $47.2 million across all businesses and all divisions, most notably Lloyd's Marine.

Our Lloyd's Operations combined ratio for the year ended December 31, 2011 was 100.8% compared to 99.8% for the same period in 2010. Our Lloyd's Operations pre-tax underwriting profit decreased by $2.1 million to a $1.7 million pre-tax underwriting loss for the year ended December 31, 2011 compared to $0.4 million of underwriting profit for the same period in 2010. Our Lloyd's Operations pre-tax underwriting loss in 2011 includes:

•

2011 accident year energy losses with a net loss of $9.5 million, inclusive of $2.7 million in reinsurance reinstatement premiums, related to drilling operations in the North Sea, Gulf of Mexico and Russia, as well as an onshore industrial site.

•

Sliding scale commission adjustments of $3.3 million related to large loss activity that has reduced our ceding commission benefit on a large loss quota share treaty.

The Lloyd's Operations combined ratio for the year ended December 31, 2010 was 99.8% and the pre-tax underwriting profit was $0.4 million and included $9.4 million of net losses related to the Deepwater Horizon and West Atlas events.

Lloyd's Operations Gross Written Premiums

We have controlled 100% of Syndicate 1221's stamp capacity since 2006. Stamp capacity is a measure of the amount of premium a Lloyd's syndicate is authorized to write based on a business plan approved by the Council of Lloyd's. Syndicate 1221's stamp capacity was £184 million ($300 million) in 2012, £175 million ($271 million) in 2011 and £168 million ($264 million) in 2010.

Marine Premiums. The gross written premiums for our Marine business for the years ended December 31, 2012, 2011 and 2010 consisted of the following:

		Year Ended December 31,												Percentage Change
		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Cargo		$	57,787			$	46,896			$	56,682				23.2	%			-17.3	%
Marine liability			39,417				41,424				53,992				-4.8	%			-23.3	%
Transport			22,912				6,618				7,238				NM				-8.6	%
Specie			21,772				20,611				21,833				5.6	%			-5.6	%
Energy liability			18,747				12,391				-				51.3	%			NM
Marine excess-of-loss reinsurance			15,309				16,730				14,380				-8.5	%			16.3	%
War			11,520				12,856				9,965				-10.4	%			29.0	%
Bluewater hull			6,959				10,036				18,633				-30.7	%			-46.1	%
Total Marine		$	194,423			$	167,562			$	182,723				16.0	%			-8.3	%

NM -	Percentage change not meaningful

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The Lloyd's Operations Marine gross written premiums for the year ended December 31, 2012 increased 16.0% compared to the same period in 2011. The increase in Lloyd's Marine is primarily related to growth within Cargo and the transfer of the Transport business to the Lloyd's Operations from the U.K. Branch.

The 2011 Lloyd's Operations Marine gross written premiums decreased 8.3% to $167.6 million compared to the same period in 2010. The reduction is attributed to a decrease in Cargo and Hull production. Cargo production has decreased as a result of depressed activity and a reduction in commodity prices due to an unfavorable economic environment. Hull gross written premium declined by 46.1% from prior year as we continue our strategy to reduce the book. Partially offsetting the decrease in activity was the War business which produced $12.9 million in gross written premium for the year ended December 31, 2011 due to the widening of hazardous war zones. Average renewal premium rates for 2011 increased approximately 0.9% compared to the same period in 2010, with larger increases on our marine and energy liability products.

Property Casualty Premiums. The gross written premiums for our Property Casualty business for the years ended December 31, 2012, 2011 and 2010 consisted of the following:

		Year Ended December 31,												Percentage Change
		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Energy & Engineering:
Offshore energy		$	53,915			$	46,212			$	43,479				16.7	%			6.3	%
Engineering and construction			36,178				32,292				23,411				12.0	%			37.9	%
Onshore energy			30,658				30,247				17,349				1.4	%			74.3	%
Energy & Engineering			120,751				108,751				84,239				11.0	%			29.1	%
Other Property Casualty			6,277				6,387				10,560				-1.7	%			-39.5	%
Total Property Casualty		$	127,028			$	115,138			$	94,799				10.3	%			21.5	%

The Lloyd's Operations Property Casualty gross written premiums for the year ended December 31, 2012 increased 10.3% compared to the same period in 2011. The increase is primarily due to growth within the Offshore Energy book due to new business opportunities. In addition, Property Casualty benefited from increases in average renewal rates of 7.4%.

The 2011 Lloyd's Operations Property Casualty gross written premiums increased 21.5% compared to the same period in 2010. The increase is primarily due to greater Onshore Energy premiums as a result of steady production and renewal rate increases resulting from reduced competition that has occurred due to recent loss activity. Engineering & Construction has also increased production from prior year primarily due to rate increases prompted by a contraction in the market.

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Professional Liability Premiums. The gross written premiums for our Professional Liability business for the years ended December 31, 2012, 2011 and 2010 consisted of the following:

		Year Ended December 31,												Percentage Change
		2012				2011				2010				2012 vs. 2011				2011 vs. 2010
Management Liability		$	32,036			$	27,895			$	30,777				14.8	%			-9.4	%
Errors & Omissions			11,653				9,202				13,397				26.6	%			-31.3	%
Total Professional Liability		$	43,689			$	37,097			$	44,174				17.8	%			-16.0	%

The Lloyd's Operations Professional Liability gross written premiums for the year ended December 31, 2012 increased 17.8% compared to the same period in 2011 primarily as a result of new business in both lines.

The 2011 Lloyd's Operations Professional Liability gross written premiums decreased 16.0% compared to the same period in 2010, due to restructuring the E&O and D&O businesses. E&O gross written premium declined 31.3% from the prior year due to exiting areas of business that were deemed unprofitable as well as reducing our number of underwriters. We had also restructured the D&O business by reducing our exposure to certain areas and non-renewing business that no longer fit our underwriting strategy. The 2011 average renewal premium rates for the Professional Liability division decreased approximately 1.8% compared to the same periods in 2010.

Lloyd's Operations Other Operating Expenses

Other operating expenses for our Lloyd's Operations increased to $45.5 million for the year ended December 31, 2012 from $36.5 million for the same period in 2011 primarily due to an increase in direct expenses, as well as allocated expenses from NMC, mostly driven by an increase in incentive compensation. The increase in incentive compensation is largely impacted by a reversal of stock grants expense recorded in 2011 related to performance based awards that were not expected to vest, and to a lesser extent the issuance of additional performance and non-performance restricted stock grants in 2012. As a percentage of net earned premiums, Lloyd's operating expenses for 2012 were higher at 21.5% as compared to 16.9% for the same period in 2011 due in part to additional RRP's in 2012 in connection with loss events from our Lloyd's Marine business as well as the increase in allocated expenses from NMC.

Off-Balance Sheet Transactions

We have no material off-balance sheet transactions with the exception of our letter of credit facility. For a discussion of our letter of credit facility, refer to "Capital Resources".

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Tabular Disclosure of Contractual Obligations

The following table sets forth the best estimate of our known contractual obligations with respect to the items indicated as of December 31, 2012:

		Payments Due by Period
In thousands		Total				Less than 1 Year				1-3 Years				3-5 Years				Thereafter
Reserves for losses and LAE (1)		$	2,097,048			$	649,010			$	778,753			$	387,788			$	281,497
7% Senior Notes (2)			143,175				8,050				16,100				119,025				-
Operating Leases			40,469				9,548				15,951				10,738				4,232
Total		$	2,280,692			$	666,608			$	810,804			$	517,551			$	285,729

(1)

The amounts determined are estimates which are subject to a high degree of variation and uncertainty, and are not subject to any specific payment schedule since the timing of these obligations are not set contractually. The amount in the above table excludes reinsurance recoveries of $880.1 million. Refer to "Business-Loss Reserves" included herein.

(2)	Includes interest payments.

Capital Resources

We monitor our capital adequacy to support our business on a regular basis. The future capital requirements of our business will depend on many factors, including our ability to write new business successfully and to establish premium rates and reserves at levels sufficient to cover losses. Our ability to underwrite is largely dependent upon the quality of our claims paying and financial strength ratings as evaluated by independent rating agencies. In particular, we require (1) sufficient capital to maintain our financial strength ratings, as issued by various ratings agencies, at a level considered necessary by management to enable our Insurance Companies to compete, (2) sufficient capital to enable our Insurance Companies to meet the capital adequacy tests performed by statutory agencies in the United States and the United Kingdom and (3) letters of credit and other forms of collateral that are necessary to support the business plan of our Lloyd's Operations.

Our capital resources consist of funds deployed or available to be deployed to support our business operations. As of December 31, 2012 and 2011, our capital resources were as follows:

		December 31,
In thousands		2012				2011
Senior debt		$	114,424			$	114,276
Stockholders' equity			879,485				803,435
Total capitalization		$	993,909			$	917,711
Ratio of debt to total capitalization			11.5	%			12.5	%

As part of our capital management program, we may seek to raise additional capital or may seek to return capital to our stockholders through share repurchases, cash dividends or other methods (or a combination of such methods). Any such determination will be at the discretion of the Parent Company's Board of Directors and will be dependent upon our profits, financial requirements and other factors, including legal restrictions, rating agency requirements, credit facility limitations and such other factors as our Board of Directors deems relevant.

In July 2012, we filed a universal shelf registration statement with the SEC. This registration statement, which expires in July 2015, allows for the future possible offer and sale by the Company of up to $500 million in the aggregate of various types of securities including common stock, preferred stock, debt securities, depositary shares, warrants, units or stock purchase contracts and stock purchase units. The shelf registration statement enables us to efficiently access the public equity or debt markets in order to meet future capital needs, if necessary. This report is not an offer to sell or the solicitation of an offer to buy nor shall there be any sale of these securities in any state in which such offer, solicitation or sale would be unlawful prior to registration or qualification under the securities laws of such state.

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We primarily rely upon dividends from our subsidiaries to meet our Parent Company's obligations. Since the issuance of the senior debt in April 2006, the Parent Company's cash obligations primarily consist of semi-annual interest payments on the senior debt, which are currently $4.0 million. Going forward, the interest payments may be made from funds currently at the Parent Company or dividends from its subsidiaries.

Navigators Insurance Company may pay dividends to the Parent Company out of its statutory earned surplus pursuant to statutory restrictions imposed under the New York insurance law. As of December 31, 2012, the maximum amount available for the payment of dividends by Navigators Insurance Company in 2013 without prior regulatory approval is $68.3 million. Navigators Insurance Company paid $15.0 million, $45.0 million and $40.0 million in dividends to the Parent Company in 2012, 2011 and 2010, respectively.

NCUL may pay dividends to the Parent Company up to the extent of available profits that have been distributed from Syndicate 1221 and as of December 31, 2012 that amount was $8.6 million (£5.3 million).

Refer to Note 14, Dividends and Statutory Financial Information, in the Notes to Consolidated Financial Statements for additional information regarding dividends, including dividend restrictions and net assets available for dividend distribution.

Condensed Parent Company balance sheets as of December 31, 2012 and 2011 are shown in the table below:

In thousands		December 31, 2012				December 31, 2011
Cash and investments		$	15,026			$	8,315
Investments in subsidiaries			955,024				895,047
Goodwill and other intangible assets			2,534				2,534
Other assets			23,219				13,806
Total assets		$	995,803			$	919,702
Senior Notes		$	114,424			$	114,276
Accounts payable and other liabilities			552				649
Accrued interest payable			1,342				1,342
Total liabilities		$	116,318			$	116,267
Stockholders' equity		$	879,485			$	803,435
Total liabilities and stockholders' equity		$	995,803			$	919,702

On November 22, 2012, we entered into a $165 million credit facility agreement with ING Bank N.V., London Branch, individually and as Administrative Agent, and a syndicate of lenders. The new credit facility amended and restated a $165 million letter of credit facility entered into by the parties on March 28, 2011. The credit facility, which is denominated in U.S. dollars, is utilized to fund our participation in Syndicate 1221 through letters of credit for the 2013 and 2014 underwriting years, as well as open prior years. The letters of credit issued under the facility are denominated in British pounds and their aggregate face amount will fluctuate based on exchange rates. If any letters of credit remain outstanding under the facility after December 31, 2014, we would be required to post additional collateral to secure the remaining letters of credit. As of December 31, 2012, letters of credit with an aggregate face amount of $145.2 million were outstanding under the credit facility and we have $0.8 million of cash collateral posted.

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This credit facility contains customary covenants for facilities of this type, including restrictions on indebtedness and liens, limitations on mergers, dividends and the sale of assets, and requirements as to maintaining certain consolidated tangible net worth, statutory surplus and other financial ratios. The credit facility also provides for customary events of default, including failure to pay principal, interest or fees when due, failure to comply with covenants, any representation or warranty made by the Company being false in any material respect, default under certain other indebtedness, certain insolvency or receivership events affecting the Company and its subsidiaries, the occurrence of certain material judgments, or a change in control of the Company. The letter of credit facility is secured by a pledge of the stock of certain insurance subsidiaries of the Company. To the extent the aggregate face amount issued under the credit facility exceeds the commitment amount, we are required to post collateral with the lead bank of the consortium. We were in compliance with all covenants under the credit facility as of December 31, 2012.

The applicable margin and applicable fee rate payable under the credit facility are based on a tiered schedule that is based on the Company's then-current ratings issued by S&P and Moody's with respect to the Company's Senior Notes without third-party credit enhancement, and the amount of the Company's own collateral utilized to fund its participation in Syndicate 1221.

Time lags do occur in the normal course of business between the time gross loss reserves are paid by the Company and the time such gross paid losses are billed and collected from reinsurers. Reinsurance recoverable amounts related to gross loss reserves as of December 31, 2012 are anticipated to be billed and collected over the next several years as the gross loss reserves are paid by the Company.

Generally, for pro rata or quota share reinsurers, we issue quarterly settlement statements for premiums less commissions and paid loss activity, which are expected to be settled within 30-45 days. We have the ability to issue "cash calls" requiring such reinsurers to pay losses whenever paid loss activity for a claim ceded to a particular reinsurance treaty exceeds a predetermined amount (generally $0.5 million to $1.0 million) as set forth in the pro rata treaty. For the Insurance Companies, cash calls must generally be paid within 30 calendar days. There is generally no specific settlement period for the Lloyd's Operations cash call provisions, but such billings have historically on average been paid within 45 calendar days.

Generally, for excess-of-loss reinsurers we pay quarterly deposit premiums based on the estimated subject premiums over the contract period (usually one year) that are subsequently adjusted based on actual premiums determined after the expiration of the applicable reinsurance treaty. Paid losses subject to excess-of-loss recoveries are generally billed as they occur and are usually settled by reinsurers within 30 calendar days for the Insurance Companies and 30 business days for the Lloyd's Operations.

We sometimes withhold funds from reinsurers and may apply ceded loss billings against such funds in accordance with the applicable reinsurance agreements.

Liquidity

Consolidated Cash Flows

Net cash provided by operating activities for the year ended December 31, 2012 was $96.7 million compared to approximately $118 million for the years ended December 31, 2011, and 2010, respectively. The decrease in cash flow from operations was due to an increase in claims payments, partially offset by improved collections on reinsurance recoverables as well as premiums receivables.

Net cash used in investing activities was $179.8 million for the year ended December 31, 2012 as compared to net cash provided by investing activities of $66.0 million for the same period in 2011 and net cash used in investing activities of $36.5 million for the same period in 2010. Fluctuations in cash provided by, or used in, investing activities is primarily due to the ongoing management of our investment portfolio.

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Net cash provided by financing activities was $1.1 million for the year ended December 31, 2012 compared to net cash used in financing activities of $88.8 million and $50.5 million for the years ended December 31, 2011 and 2010. The significant reduction in the use of cash by financing activities is primarily related to repurchases of the Parent Company's common stock under our share repurchase program which expired on December 31, 2011 and was not renewed.

We believe that the cash flow generated by the operating activities of our subsidiaries will provide sufficient funds for us to meet our liquidity needs over the next twelve months. Beyond the next twelve months, cash flow available to us may be influenced by a variety of factors, including general economic conditions and conditions in the insurance and reinsurance markets, as well as fluctuations from year to year in claims experience.

We believe that we have adequately managed our cash flow requirements related to reinsurance recoveries from their positive cash flows and the use of available short-term funds when applicable. However, there can be no assurances that we will be able to continue to adequately manage such recoveries in the future or that collection disputes or reinsurer insolvencies will not arise that could materially increase the collection time lags or result in recoverable write-offs causing additional incurred losses and liquidity constraints to the Company. The payment of gross claims and related collections from reinsurers with respect to large losses could significantly impact our liquidity needs. However, we expect to collect our paid reinsurance recoverables generally under the terms described above.

Investments

As of December 31, 2012, the weighted average rating of our fixed maturity investments was "AA" by S&P and "Aa" by Moody's. The entire fixed maturity investment portfolio, except for investments with a fair value of $18.6 million, consists of investment grade bonds. As of December 31, 2012, our portfolio had a duration of 3.6 years. Management periodically projects cash flow of the investment portfolio and other sources in order to maintain the appropriate levels of liquidity in an effort to ensure our ability to satisfy claims. As of December 31, 2012 and 2011, all fixed maturity securities and equity securities held by us were classified as available-for-sale.

The following tables set forth the Company's cash and investments as of December 31, 2012 and 2011. The tables below include OTTI securities recognized within OCI.

		December 31, 2012
In thousands		Fair Value				Gross Unrealized Gains				Gross Unrealized Losses				Amortized Cost
Fixed maturities:
U.S. Treasury bonds, agency bonds and foreign government bonds		$	649,692			$	8,654			$	(36	)		$	641,074
States, municipalities and political subdivisions			322,947				18,712				(380	)			304,615
Mortgage-backed and asset-backed securities:
Agency mortgage-backed securities			384,445				13,652				(204	)			370,997
Residential mortgage obligations			38,692				1,053				(549	)			38,188
Asset-backed securities			50,382				1,133				(49	)			49,298
Commercial mortgage-backed securities			204,821				17,996				(18	)			186,843
Subtotal		$	678,340			$	33,834			$	(820	)		$	645,326
Corporate bonds			470,854				27,129				(25	)			443,750
Total fixed maturities		$	2,121,833			$	88,329			$	(1,261	)		$	2,034,765
Equity securities-common stocks			101,297				16,919				(626	)			85,004
Short-term investments			153,788				-				-				153,788
Cash			45,336				-				-				45,336
Total		$	2,422,254			$	105,248			$	(1,887	)		$	2,318,893

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		December 31, 2011
In thousands		Fair Value				Gross Unrealized Gains				Gross Unrealized Losses				Amortized Cost
Fixed maturities:
U.S. Treasury bonds, agency bonds and foreign government bonds		$	336,070			$	8,979			$	(383	)		$	327,474
States, municipalities and political subdivisions			410,836				28,887				(108	)			382,057
Mortgage-backed and asset-backed securities:
Agency mortgage-backed securities			395,860				17,321				(3	)			378,542
Residential mortgage obligations			23,148				8				(2,848	)			25,988
Asset-backed securities			48,934				695				(75	)			48,314
Commercial mortgage-backed securities			216,034				10,508				(593	)			206,119
Subtotal		$	683,976			$	28,532			$	(3,519	)		$	658,963
Corporate bonds			457,187				15,743				(6,772	)			448,216
Total fixed maturities		$	1,888,069			$	82,141			$	(10,782	)		$	1,816,710
Equity securities-common stocks			95,849				23,240				(958	)			73,567
Short-term investments			122,220				-				-				122,220
Cash			127,360				-				-				127,360
Total		$	2,233,498			$	105,381			$	(11,740	)		$	2,139,857

The total non-credit OTTI on debt securities included in other comprehensive income as of December 31, 2011 was $1.7 million. As of December 31, 2012 due to appreciation in the fair value, the debt securities for which non-credit OTTI was previously recognized are now in an unrealized gain position of twenty thousand.

The fair value of the Company's investment portfolio may fluctuate significantly in response to various factors such as changes in interest rates, investment quality ratings, equity prices, foreign exchange rates and credit spreads. The Company does not have the intent to sell nor is it more likely than not that it will have to sell debt securities in unrealized loss positions that are not other-than-temporarily impaired before recovery. For structured securities, default probability and severity assumptions differ based on property type, vintage and the stress of the collateral. We do not intend to sell any of these securities and it is more likely than not that we will not be required to sell these securities before the recovery of the amortized cost basis. For equity securities, the Company also considers its intent to hold securities as part of the process of evaluating whether a decline in fair value represents an other-than-temporary decline in value. The Company may realize investment losses to the extent its liquidity needs require the disposition of fixed maturity securities in unfavorable interest rate, liquidity or credit spread environments. Significant changes in the factors the Company considers when evaluating investments for impairment losses could result in a significant change in impairment losses reported in the consolidated financial statements.

Invested assets increased in 2012 since the prior comparable periods for 2011 and 2010 primarily due to unrealized gains and cash flow from operations. The annualized pre-tax yield, excluding net realized gains and losses and net OTTI losses recognized in earnings, was 2.4%, 3.0% and 3.5% for the years ended December 31, 2012, 2011 and 2010, respectively. The 2.4% and 3.0% annualized pre-tax yield for the years ended December 31, 2012 and 2011 include investment expenses of $4.5 million and $4.7 million, respectively, for a total of $9.2 million, of interest expense related to the settlement of a dispute with Equitas over foregone interest on amounts that were due on certain reinsurance contracts. In the dispute Equitas alleged that we failed to make timely payments to them under certain reinsurance agreements in connection with subrogation recoveries received by us with respect to several catastrophe losses that occurred in the late 1980's and early 1990's. In addition, investment expenses for the year ended December 31, 2012 includes a $2.8 million investment performance fee. Excluding the impact of the aforementioned interest expense and investment performance fee, the annualized pre-tax yield for the year ended December 31, 2012 and 2011 would have been 2.7% and 3.2%, reflective of the general decline in market yields.

The tax equivalent yields for the years ended December 31, 2012, 2011 and 2010 on a consolidated basis were 2.6%, 3.5% and 4.0%, respectively. The portfolio duration was 3.6 years for both the years ended December 31, 2012 and 2011. Since the beginning of 2012, the tax-exempt portion of our investment portfolio has decreased by $91.8 million to approximately 13.2% of the fixed maturities investment portfolio as of December 31, 2012 compared to approximately 19.7% at December 31, 2011.

We are a specialty insurance company and periods of moderate economic recession or inflation tend not to have a significant direct effect on our underwriting operations. They do, however, impact our investment portfolio. A decrease in interest rates will tend to decrease our yield and have a positive effect on the fair value of our invested assets. An increase in interest rates will tend to increase our yield and have a negative effect on the fair value of our invested assets.

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The contractual maturity dates for fixed maturity securities categorized by the number of years until maturity as of December 31, 2012 are shown in the following table:

		December 31, 2012
In thousands		Fair Value				Amortized Cost
Due in one year or less		$	107,224			$	106,500
Due after one year through five years			801,129				780,715
Due after five years through ten years			356,251				333,257
Due after ten years			178,889				168,967
Mortgage- and asset-backed securities			678,340				645,326
Total		$	2,121,833			$	2,034,765

Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties. Due to the periodic repayment of principal, the aggregate amount of mortgage-backed and asset-backed securities is estimated to have an effective maturity of approximately 4.0 years.

The following table sets forth the amount and percentage of our fixed maturities as of December 31, 2012 by S&P credit rating or, if an S&P rating is not available, the equivalent Moody's rating. The table includes fixed maturities at fair value, and the total rating is the weighted average quality rating.

		December 31, 2012
In thousands		Rating		Fair Value				Percent of Total
Rating description:
Extremely strong		AAA		$	316,511				15	%
Very strong		AA			1,257,209				59	%
Strong		A			369,620				17	%
Adequate		BBB			159,943				8	%
Speculative		BB & Below			14,780				1	%
Not rated		NR			3,770				0	%
Total		AA		$	2,121,833				100	%

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The following table sets forth our U.S. Treasury bonds, agency bonds, and foreign government bonds as of December 31, 2012 and 2011:

		December 31, 2012
In thousands		Fair Value				Gross Unrealized Gains				Gross Unrealized (Losses)				Cost or Amortized Cost
U.S. Treasury bonds		$	414,503			$	4,441			$	(10	)		$	410,072
Agency bonds			155,465				3,331				(11	)			152,145
Foreign government bonds			79,724				882				(15	)			78,857
Total		$	649,692			$	8,654			$	(36	)		$	641,074
		December 31, 2011
In thousands		Fair Value				Gross Unrealized Gains				Gross Unrealized (Losses)				Cost or Amortized Cost
U.S. Treasury bonds		$	137,228			$	5,422			$	-			$	131,806
Agency bonds			136,506				2,870				(133	)			133,769
Foreign government bonds			62,336				687				(250	)			61,899
Total		$	336,070			$	8,979			$	(383	)		$	327,474

The following table sets forth the composition of the investments categorized as states, municipalities and political subdivisions in our portfolio by generally equivalent S&P and Moody's ratings (not all securities in our portfolio are rated by both S&P and Moody's) as of December 31, 2012. The securities that are not rated in the table below are primarily state bonds.

In thousands				December 31, 2012
Equivalent S&P Rating		Equivalent Moody's Rating		Fair Value				Book Value				Net Unrealized Gain (Loss)
AAA/AA/A		Aaa/Aa/A		$	295,167			$	277,663			$	17,504
BBB		Baa			24,010				23,311				699
BB		Ba			-				-				-
B		B			-				-				-
CCC or lower		Caa or lower			-				-				-
NR		NR			3,770				3,641				129
Total				$	322,947			$	304,615			$	18,332

The following table sets forth the municipal bond holdings by sectors as of December 31, 2012 and 2011:

		December 31, 2012								December 31, 2011
In thousands		Fair Value				Percent of Total				Fair Value				Percent of Total
Municipal Sector:
General obligation		$	73,642				23	%		$	43,195				10	%
Prerefunded			22,692				7	%			18,636				5	%
Revenue			183,096				57	%			309,659				75	%
Taxable			43,517				13	%			39,346				10	%
Total		$	322,947				100	%		$	410,836				100	%

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We own $94.6 million of municipal securities which are credit enhanced by various financial guarantors. As of December 31, 2012, the average underlying credit rating for these securities is A+. There has been no material adverse impact to our investment portfolio or results of operations as a result of downgrades of the credit ratings for several of the financial guarantors.

We analyze our mortgage-backed and asset-backed securities by credit quality of the underlying collateral distinguishing between the securities issued by the Federal National Mortgage Association ("FNMA"), the Federal Home Loan Mortgage Corporation ("FHLMC") and the Government National Mortgage Association ("GNMA") which are Federal government sponsored entities, and the non-FNMA and non-FHLMC securities broken out by prime, Alternative A-paper ("Alt-A") and subprime collateral. The securities issued by FNMA and FHLMC are the obligations of each respective entity. Legislation has provided for guarantees by the U.S. Government of up to $100 billion each for FNMA and FHLMC.

Prime collateral consists of mortgages or other collateral from the most creditworthy borrowers. Alt-A collateral consists of mortgages or other collateral from borrowers which have a risk potential that is greater than prime but less than subprime. The subprime collateral consists of mortgages or other collateral from borrowers with low credit ratings. Such subprime and Alt-A categories are as defined by S&P.

The following table sets forth our agency mortgage-backed securities and residential mortgage-backed securities ("RMBS") by those issued by GNMA, FNMA, and FHLMC, and the quality category (prime, Alt-A and subprime) for all other such investments as of December 31, 2012:

		December 31, 2012
In thousands		Fair Value				Gross Unrealized Gains				Gross Unrealized Losses				Amortized Cost
Agency mortgage-backed securities:
GNMA		$	132,595			$	4,657			$	(198	)		$	128,136
FNMA			193,901				7,230				(6	)			186,677
FHLMC			57,949				1,765				-				56,184
Total agency mortgage-backed securities		$	384,445			$	13,652			$	(204	)		$	370,997
Residential mortgage-backed securities:
Prime		$	12,492			$	217			$	(440	)		$	12,715
Alt-A			2,119				40				(109	)			2,188
Subprime			699				26				-				673
Non-US RMBS			23,382				770				-				22,612
Total residential mortgage-backed securities		$	38,692			$	1,053			$	(549	)		$	38,188

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The following table sets forth the composition of the investments categorized as RMBS in our portfolio by generally equivalent S&P and Moody's ratings (not all securities in our portfolio are rated by both S&P and Moody's) as of December 31, 2012:

In thousands				December 31, 2012
Equivalent S&P Rating		Equivalent Moody's Rating		Fair Value				Book Value				Net Unrealized Gain (Loss)
AAA/AA/A		Aaa/Aa/A		$	24,363			$	23,563			$	800
BBB		Baa			2,257				2,311				(54	)
BB		Ba			1,460				1,505				(45	)
B		B			2,777				2,852				(75	)
CCC or lower		Caa or lower			7,835				7,957				(122	)
NR		NR			-				-				-
Total				$	38,692			$	38,188			$	504

Details of the collateral of our asset-backed securities portfolio as of December 31, 2012 are presented below:

In thousands		AAA				AA				A				BBB				BB				CCC				Fair Value				Amortized Cost				Unrealized Gain (Loss)
Auto loans		$	3,792			$	5,462			$	-			$	-			$	-			$	-			$	9,254			$	9,030			$	224
Credit cards			13,993				-				-				-				-				-				13,993				13,500				493
Time Share			-				-				17,504				-				-				-				17,504				17,169				335
Student Loans			5,564				3,488				-				-				-				-				9,052				9,036				16
Miscellaneous			579				-				-				-				-				-				579				563				16
Total		$	23,928			$	8,950			$	17,504			$	-			$	-			$	-			$	50,382			$	49,298			$	1,084

The following table sets forth the composition of the investments categorized as commercial mortgage-backed securities in our portfolio by generally equivalent S&P and Moody's ratings (not all securities in our portfolio are rated by both S&P and Moody's) as of December 31, 2012:

In thousands				December 31, 2012
Equivalent S&P Rating		Equivalent Moody's Rating		Fair Value				Book Value				Net Unrealized Gain (Loss)
AAA/AA/A		Aaa/Aa/A		$	204,821			$	186,843			$	17,978
BBB		Baa			-				-				-
BB		Ba			-				-				-
B		B			-				-				-
CCC or lower		Caa or lower			-				-				-
NR		NR			-				-				-
Total				$	204,821			$	186,843			$	17,978

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The following table sets forth the composition of the investments categorized as corporate bonds in our portfolio by generally equivalent S&P and Moody's ratings (not all securities in our portfolio are rated by both S&P and Moody's) as of December 31, 2012:

In thousands				December 31, 2012
Equivalent S&P Rating		Equivalent Moody's Rating		Fair Value				Book Value				Net Unrealized Gain (Loss)
AAA/AA/A		Aaa/Aa/A		$	334,471			$	314,475			$	19,996
BBB		Baa			133,675				126,725				6,950
BB		Ba			2,708				2,550				158
B		B			-				-				-
CCC or lower		Caa or lower			-				-				-
NR		NR			-				-				-
Total				$	470,854			$	443,750			$	27,104

The company holds non-sovereign European securities of $83.2 million at fair value and $80.8 million at amortized cost, primarily in the investment portfolio. This represents 3.7% of our total fixed income and equity portfolio. Our largest exposure is in France with a total of $37.4 million followed by the Netherlands with a total of $33.2 million. We have no direct material exposure to Greece, Portugal, Italy or Spain as of December 31, 2012.

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The following table summarizes all securities in a gross unrealized loss position as of December 31, 2012 and 2011, showing the aggregate fair value and gross unrealized loss by the length of time those securities had continuously been in a gross unrealized loss position as well as the number of securities:

		December 31, 2012												December 31, 2011
In thousands, except # of securities		Number of Securities				Fair Value				Gross Unrealized Loss				Number of Securities				Fair Value				Gross Unrealized Loss
Fixed maturities:
U.S. Treasury bonds, agency bonds, and foreign government bonds
0-6 months			8			$	23,760			$	22				7			$	58,587			$	98
7-12 months			3				14,118				11				-				-				-
> 12 months			1				4,652				3				2				6,883				285
Subtotal			12			$	42,530			$	36				9			$	65,470			$	383
States, municipalities and political subdivisions
0-6 months			10			$	21,299			$	325				7			$	5,894			$	72
7-12 months			-				-				-				1				216				1
> 12 months			4				2,908				55				5				2,420				35
Subtotal			14			$	24,207			$	380				13			$	8,530			$	108
Agency mortgage-backed securities
0-6 months			10			$	62,516			$	174				3			$	5,087			$	3
7-12 months			2				1,671				30				-				-				-
> 12 months			-				-				-				-				-				-
Subtotal			12			$	64,187			$	204				3			$	5,087			$	3
Residential mortgage obligations
0-6 months			6			$	1,825			$	22				6			$	6,672			$	184
7-12 months			-				-				-				7				5,250				313
> 12 months			35				7,252				527				47				10,749				2,351
Subtotal			41			$	9,077			$	549				60			$	22,671			$	2,848
Asset-backed securities
0-6 months			-			$	-			$	-				2			$	4,933			$	12
7-12 months			-				-				-				5				6,645				63
> 12 months			2				2,369				49				1				2				-
Subtotal			2			$	2,369			$	49				8			$	11,580			$	75
Commercial mortgage-backed securities
0-6 months			7			$	2,639			$	7				6			$	5,465			$	29
7-12 months			-				-				-				3				6,840				550
> 12 months			5				845				11				3				1,503				14
Subtotal			12			$	3,484			$	18				12			$	13,808			$	593
Corporate bonds
0-6 months			2			$	3,528			$	6				52			$	135,516			$	4,539
7-12 months			-				-				-				18				27,561				1,457
> 12 months			4				6,689				19				8				14,898				776
Subtotal			6			$	10,217			$	25				78			$	177,975			$	6,772
Total fixed maturities			99			$	156,071			$	1,261				183			$	305,121			$	10,782
Equity securities - common stocks
0-6 months			13			$	23,345			$	522				4			$	3,320			$	587
7-12 months			1				1,943				104				1				1,629				371
> 12 months			-				-				-				-				-				-
Total equity securities			14			$	25,288			$	626				5			$	4,949			$	958

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We analyze the unrealized losses quarterly to determine if any are other-than-temporary. The above unrealized losses have been determined to be temporary based on our policies.

In the above table the gross unrealized loss for the greater than 12 months category consists primarily of residential mortgage-backed securities. Residential mortgage-backed securities are a type of fixed income security in which residential mortgage loans are sold into a trust or special purpose vehicle, thereby securitizing the cash flows of the mortgage loans.

To determine whether the unrealized loss on structured securities is other-than-temporary, we analyze the projections provided by our investment managers with respect to an expected principal loss under a range of scenarios and utilize the most likely outcomes. The analysis relies on actual collateral performance measures such as default rate, prepayment rate and loss severity. These assumptions are applied throughout the remaining term of the deal, incorporating the transaction structure and priority of payments, to generate loss adjusted cash flows. Results of the analysis will indicate whether the security is expected ultimately to incur a loss or whether there is a material impact on yield due to either a projected loss or a change in cash flow timing. A break even default rate is also calculated. A comparison of the break even default rate to the actual default rate provides an indication of the level of cushion or coverage to the first dollar principal loss. The analysis applies the stated assumptions throughout the remaining term of the transaction to forecast cash flows, which are then applied through the transaction structure to determine whether there is a loss to the security. For securities in which a tranche loss is present, and the net present value of loss adjusted cash flows is less than book value, an impairment is recognized. The output data also includes a number of additional metrics such as average life remaining, original and current credit support, over 60 day delinquency and security rating.

Prepayment assumptions associated with the mortgage-backed and asset-backed securities are reviewed on a periodic basis. When changes in prepayment assumptions are deemed necessary as the result of actual prepayments differing from anticipated prepayments, securities are revalued based upon the new prepayment assumptions utilizing the retrospective accounting method.

As of December 31, 2012 and 2011, the largest single unrealized loss by a non-government backed issuer in the investment portfolio was $0.2 million and $1.4 million, respectively.

The following table sets forth the composition of the investments categorized as fixed maturity securities in our investment portfolio with gross unrealized losses by generally equivalent S&P and Moody's ratings (not all of the securities are rated by S&P and Moody's) as of December 31, 2012:

				December 31, 2012
In thousands				Gross Unrealized Loss								Fair Value
Equivalent S&P Rating		Equivalent Moody's Rating		Amount				Percent of Total				Amount				Percent of Total
AAA/AA/A		Aaa/Aa/A		$	627				50	%		$	136,335				87	%
BBB		Baa			150				12	%			12,323				8	%
BB		Ba			54				4	%			962				1	%
B		B			96				8	%			2,126				1	%
CCC or lower		Caa or lower			334				26	%			4,325				3	%
NR		NR			-				0	%			-				0	%
Total				$	1,261				100	%		$	156,071				100	%

As of December 31, 2012, the gross unrealized losses in the table above were related to fixed maturity securities that are rated investment grade, which is defined as a security having an S&P rating of "BBB–" or higher, or a Moody's rating of "Baa3" or higher, except for $0.5 million which is rated below investment grade or not rated. Unrealized losses on investment grade securities principally relate to changes in interest rates or changes in sector-related credit spreads since the securities were acquired.

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The contractual maturity for fixed maturity securities categorized by the number of years until maturity, with a gross unrealized loss as of December 31, 2012 is presented in the following table:

		December 31, 2012
		Gross Unrealized Losses								Fair Value
In thousands		Amount				Percent of Total				Amount				Percent of Total
Due in one year or less		$	7				1	%		$	8,560				5	%
Due after one year through five years			62				5	%			33,336				21	%
Due after five years through ten years			89				7	%			6,157				4	%
Due after ten years			283				22	%			28,901				19	%
Mortgage- and asset-backed securities			820				65	%			79,117				51	%
Total		$	1,261				100	%		$	156,071				100	%

The following table summarizes the gross unrealized investment losses by length of time that the fair value continues to be less than 80% of amortized cost as of December 31, 2012:

		December 31, 2012
In thousands		Fixed Maturities				Equity Securities				Total
Less than three months		$	-			$	-			$	-
Longer than three months and less than six months			-				-				-
Longer than six months and less than twelve months			-				-				-
Longer than twelve months			32				-				32
Total		$	32			$	-			$	32

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The table below summarizes our activity related to OTTI losses for the periods indicated:

		Year Ended December 31,
		2012								2011								2010
In thousands, except # of securities		Number of Securities				Amount				Number of Securities				Amount				Number of Securities				Amount
Total OTTI losses:
Corporate and other bonds			-			$	-				1			$	109				-			$	-
Commercial mortgage-backed securities			-				-				-				-				-				-
Residential mortgage-backed securities			1				55				19				2,616				18				1,835
Asset-backed securities			-				-				-				-				-				-
Equities			3				847				2				892				2				387
Total			4			$	902				22			$	3,617				20			$	2,222
Less: Portion of loss in accumulated other comprehensive income (loss):
Corporate and other bonds						$	-							$	-							$	-
Commercial mortgage-backed securities							-								-								-
Residential mortgage-backed securities							44								1,632								1,142
Asset-backed securities							-								-								-
Equities							-								-								-
Total						$	44							$	1,632							$	1,142
Impairment losses recognized in earnings:
Corporate and other bonds						$	-							$	109							$	-
Commercial mortgage-backed securities							-								-								-
Residential mortgage-backed securities							11								984								693
Asset-backed securities							-								-								-
Equities							847								892								387
Total						$	858							$	1,985							$	1,080

During the year ended December 31, 2012 we recognized OTTI losses of $0.9 million related to one non-agency mortgage-backed security and three equity securities. During 2011, we recognized OTTI losses of $2.0 million related to non-agency mortgage-backed securities, two equity securities and one corporate bond. During 2010 we recognized OTTI losses of $1.1 million related to residential mortgage-backed securities and equity securities. The significant inputs used to measure the amount of credit loss recognized in earnings were actual delinquency rates, default probability assumptions, severity assumptions and prepayment assumptions. Projected losses are a function of both loss severity and probability of default. Default probability and severity assumptions differ based on property type, vintage and the stress of the collateral. We do not intend to sell any of these securities and it is more likely than not that we will not be required to sell these securities before the recovery of the amortized cost basis.

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Item 7A. Quantitative and Qualitative Disclosures about Market Risk

Market Sensitive Instruments and Risk Management

Market risk represents the potential for loss due to adverse changes in the fair value of financial instruments. We are exposed to potential loss to various market risks, including changes in interest rates, equity prices and foreign currency exchange rates. Market risk is directly influenced by the volatility and liquidity in the markets in which the related underlying assets are traded. The following is a discussion of our primary market risk exposures and how those exposures have been managed through December 31, 2012. Our market risk sensitive instruments are entered into for purposes other than trading and speculation.

The carrying value of our investment portfolio as of December 31, 2012 was $2.4 billion of which 87.6% was invested in fixed maturity securities. The primary market risk to our investment portfolio is interest rate risk associated with investments in fixed maturity securities. We do not have any commodity risk exposure.

For fixed maturity securities, short-term liquidity needs and the potential liquidity needs of the business are key factors in managing the portfolio. The portfolio duration relative to the liabilities' duration is primarily managed through investment transactions.

There were no significant changes regarding the investment portfolio in our primary market risk exposures or in how those exposures were managed for the year ended December 31, 2012. We do not currently anticipate significant changes in our primary market risk exposures or in how those exposures are managed in future reporting periods based upon what is known or expected to be in effect in future reporting periods.

Interest Rate Risk Sensitivity Analysis

Sensitivity analysis is defined as the measurement of potential loss in 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 time. In our sensitivity analysis model, a hypothetical change in market rates is selected that is expected to reflect reasonably possible near-term changes in those rates. "Near-term" means a period of time going forward up to one year from the date of the Consolidated Financial Statements. Actual results may differ from the hypothetical change in market rates assumed in this disclosure, especially since this sensitivity analysis does not reflect the results of any actions that would be taken by us to mitigate such hypothetical losses in fair value.

In this sensitivity analysis model, we use fair values to measure our potential loss. The sensitivity analysis model includes fixed maturities and short-term investments. The primary market risk to our market-sensitive instruments is interest rate risk. The sensitivity analysis model uses a 50 and 100 basis points change in interest rates to measure the hypothetical change in fair value of financial instruments included in the model. Changes in interest rates will have an immediate effect on comprehensive income and shareholders' equity but will not ordinarily have an immediate effect on net income. As interest rates rise, the market value of our interest rate sensitive securities will decrease. Conversely, as interest rates fall, the market value of our interest rate sensitive securities will increase.

For invested assets, modified duration modeling is used to calculate changes in fair values. Durations on invested assets are adjusted for call, put and interest rate reset features. Duration on tax-exempt securities is adjusted for the fact that the prices on such securities are less sensitive to changes in interest rates compared to Treasury securities. Invested asset portfolio durations are calculated on a market value weighted basis using holdings as of December 31, 2012.

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The following table summarizes the effect that an immediate, parallel shift in the interest rate yield curve would have had on our portfolio as of December 31, 2012.

		Interest Rate Shift in Basis Points
In thousands		-100				-50				0				+50				+100
December 31, 2012:
Total market value		$	2,197,158			$	2,159,177			$	2,121,833			$	2,084,064			$	2,045,659
Market value change from base			3.55	%			1.76	%							-1.78	%			-3.59	%
Change in unrealized value		$	75,325			$	37,344			$	-			$	(37,769	)		$	(76,174	)
December 31, 2011:
Total market value		$	2,079,845			$	2,044,665			$	2,010,289			$	1,975,712			$	1,939,326
Market value change from base			3.46	%			1.71	%							-1.72	%			-3.53	%
Change in unrealized value		$	69,556			$	34,376			$	-			$	(34,577	)		$	(70,963	)

Equity Price Risk

Our portfolio of equity securities currently valued at $101.3 million, which we carry on our balance sheet at fair value, has exposure to price risk. This risk is defined as the potential loss in fair value resulting from adverse changes in stock prices. Our U.S. equity portfolio is benchmarked to the S&P 500 index and changes in that index may approximate the impact on our portfolio.

Foreign currency exchange rate risk

Our Lloyd's Operations are exposed to foreign currency exchange rate risk primarily related to foreign-denominated cash, cash equivalents and marketable securities ("foreign funds"), premiums receivable, reinsurance recoverables on paid and unpaid losses and loss adjustment expenses as well as reserves for losses and loss adjustment expenses. The principal currencies creating foreign currency exchange risk for the Lloyd's Operations are the British pound, the Euro and the Canadian dollar. The Lloyd's Operations manages its foreign currency exchange rate risk primarily through asset-liability matching.

Based on the primary foreign-denominated balances within the Lloyd's Operations as of December 31, 2012, an assumed 5%, 10% and 15% negative currency movement would result in changes as follows:

		December 31, 2012
						Negative Currency Movement of
In millions		USD Equivalent				5%				10%				15%
Cash, cash equivalents and marketable securities at fair value		$	95.2			$	(4.8	)		$	(9.5	)		$	(14.3	)
Premiums receivable		$	28.2			$	(1.4	)		$	(2.8	)		$	(4.2	)
Reinsurance recoverables on paid, unpaid losses and LAE		$	48.9			$	(2.4	)		$	(4.9	)		$	(7.3	)
Reserves for losses and loss adjustment expenses		$	136.5			$	6.8			$	13.7			$	20.5

Item 8. Financial Statements and Supplementary Data

The Consolidated Financial Statements required in response to this section are submitted as part of Item 15(a) of this report.

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

None.

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Item 9A. Controls and Procedures

Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Exchange Act. Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this annual report.

Management's Report on Internal Control over Financial Reporting

(a)

Management's annual report on internal control over financial reporting

Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our evaluation under the framework in Internal Control – Integrated Framework , our management concluded that our internal control over financial reporting was effective as of December 31, 2012.

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.

The Company's independent registered public accounting firm, KPMG LLP, has audited the effectiveness of the Company's internal control over financial reporting as of December 31, 2012, as stated in their report in item (b) below.

(b)	Attestation report of the registered public accounting firm

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Report of Independent Registered Public Accounting Firm

The Board of Directors and Stockholders

The Navigators Group, Inc.

We have audited The Navigators Group, Inc.'s internal control over financial reporting as of December 31, 2012, based on criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Navigators Group, Inc.'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 under Item 9A, Management's Annual 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, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included 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, The Navigators Group, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2012, based on criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of The Navigators Group, Inc. and subsidiaries as of December 31, 2012 and 2011, and the related consolidated statements of income, comprehensive income, stockholders' equity and cash flows for each of the years in the three-year period ended December 31, 2012, and our report dated March 1, 2013 expressed an unqualified opinion on those consolidated financial statements.

KPMG LLP

New York, New York

March 1, 2013

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(b)

Changes in internal control over financial reporting

There have been no changes during our fourth fiscal quarter in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect our internal control over financial reporting.

Item 9B. Other Information

None.

PART III

Item 10. Directors, Executive Officers and Corporate Governance

Information concerning our directors and executive officers is contained under "Election of Directors" in our 2013 Proxy Statement, which information is incorporated herein by reference. Information concerning the Audit Committee and the Audit Committee's financial expert of the Company is contained under "Board of Directors and Committees" in our 2013 Proxy Statement, which information is incorporated herein by reference.

We have adopted a Code of Ethics for our Chief Executive Officer and Senior Financial Officers, which is applicable to our Chief Executive Officer, Chief Financial Officer, Treasurer, Controller and all other persons performing similar functions. A copy of such Code is available on our website at www.navg.com under the Corporate Governance link. Any amendments to, or waivers of, such Code which apply to any of the financial professionals listed above will be disclosed on our website under the same link promptly following the date of such amendment or waiver.

Item 11. Executive Compensation

Information concerning executive compensation will be contained under "Compensation Discussion and Analysis" in our 2013 Proxy Statement, which information is incorporated herein by reference.

Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

Information concerning the security ownership of the directors and officers of the Company is contained under "Election of Directors" and "Compensation Discussion and Analysis" in our 2013 Proxy Statement, which information is incorporated herein by reference. Information concerning securities that are available to be issued under our equity compensation plans is contained under "Equity Compensation Plan Information" in our 2012 Proxy Statement, which information is incorporated herein by reference.

Item 13. Certain Relationships and Related Transactions, and Director Independence

Information concerning relationships and related transactions of our directors and officers is contained under "Related Party Transactions" in our 2013 Proxy Statement, which information is incorporated herein by reference . Information concerning director independence is contained under "Board of Directors and Committees" in our 2013 Proxy Statement, which information is incorporated herein by reference.

Item 14. Principal Accounting Fees and Services

Information concerning the principal accountant's fees and services for the Company is contained under "Independent Registered Public Accounting Firm" in the Company's 2013 Proxy Statement, which information is incorporated herein by reference.

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PART IV

Item 15. Exhibits, Financial Statement Schedules

The following documents are filed as part of this report:

a. Financial Statements and Schedules : The financial statements and schedules that are listed in the accompanying Index to Consolidated Financial Statements and Schedules on page F-1.

b. Exhibits : The exhibits that are listed in the accompanying Index to Exhibits on the page which immediately follows page S-8. The exhibits include the management contracts and compensatory plans or arrangements required to be filed as exhibits to this Form 10-K by Item 601(a)(10)(iii) of Regulation S-K.

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Signatures

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

				The Navigators Group, Inc.
						(Company)
Dated: March 1, 2013				By:		/s/ Ciro M. DeFalco
						Ciro M. DeFalco Senior Vice President and Chief Financial Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Company and in the capacities and on the dates indicated.

Name		Title		Date
/s/ TERENCE N. DEEKS Terence N. Deeks		Chairman		March 1, 2013
/s/ STANLEY A. GALANSKI Stanley A. Galanski		President and Chief Executive Officer (Principal Executive Officer)		March 1, 2013
/s/ CIRO M. DEFALCO Ciro M. DeFalco		Senior Vice President and Chief Financial Officer (Principal Financial Officer)		March 1, 2013
/s/ SAUL L. BASCH Saul L. Basch		Director		March 1, 2013
/s/ H.J. MERVYN BLAKENEY H.J. Mervyn Blakeney		Director		March 1, 2013
/s/ GEOFFREY E. JOHNSON Geoffrey E. Johnson		Director		March 1, 2013
/s/ JOHN F. KIRBY John F. Kirby		Director		March 1, 2013
/s/ ROBERT V. MENDELSOHN Robert V. Mendelsohn		Director		March 1, 2013
/s/ MARJORIE D. RAINES Marjorie D. Raines		Director		March 1, 2013
/s/ JANICE C. TOMLINSON Janice C. Tomlinson		Director		March 1, 2013
/s/ MARC M. TRACT Marc M. Tract		Director		March 1, 2013

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INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES

		Page
Report of Independent Registered Public Accounting Firm			F-2
Consolidated Balance Sheets as of December 31, 2012 and 2011			F-3
Consolidated Statements of Income for each of the years ended December 31, 2012, 2011 and 2010			F-4
Consolidated Statements of Comprehensive Income for each of the years ended December  31, 2012, 2011 and 2010			F-5
Consolidated Statements of Stockholders' Equity for each of the years ended December  31, 2012, 2011 and 2010			F-6
Consolidated Statements of Cash Flows for each of the years ended December 31, 2012, 2011 and 2010			F-7
Notes to Consolidated Financial Statements			F-8
SCHEDULES:
Schedule I Summary of Consolidated Investments-Other Than Investment in Related Parties			S-1
Schedule II Condensed Financial Information of Registrant			S-2
Schedule III Supplementary Insurance Information			S-5
Schedule IV Reinsurance			S-6
Schedule V Valuation and Qualifying Accounts			S-7
Schedule VI Supplementary Information Concerning Property-Casualty Insurance Operations			S-8
Index to Exhibits

F-1

Table of Contents

Report of Independent Registered Public Accounting Firm

The Board of Directors and Stockholders

The Navigators Group, Inc.

We have audited the accompanying consolidated balance sheets of The Navigators Group, Inc. as of December 31, 2012 and 2011, and the related consolidated statements of income, comprehensive income, stockholders' equity and cash flows for each of the years in the three-year period ended December 31, 2012. In connection with our audits of the consolidated financial statements, we also have audited the consolidated financial statement schedules as listed in the accompanying index. These consolidated financial statements and financial statement schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement 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 consolidated financial statements referred to above present fairly, in all material respects, the financial position of The Navigators Group, Inc. and subsidiaries as of December 31, 2012 and 2011, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2012, 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 consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), The Navigators Group, Inc.'s internal control over financial reporting as of December 31, 2012, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 1, 2013 expressed an unqualified opinion on the effectiveness of the Company's internal control over financial reporting.

KPMG LLP

New York, New York

March 1, 2013

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Table of Contents

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(In thousands, except share amounts)

		December 31,
		2012				2011
ASSETS
Investments and cash:
Fixed maturities, available-for-sale, at fair value (amortized cost: 2012, $2,034,765; 2011, $1,816,710)		$	2,121,833			$	1,888,069
Equity securities, available-for-sale, at fair value (cost: 2012, $85,004; 2011, $73,567)			101,297				95,849
Short-term investments, at cost which approximates fair value			153,788				122,220
Cash			45,336				127,360
Total investments and cash			2,422,254				2,233,498
Premiums receivable			320,182				255,725
Prepaid reinsurance premiums			221,015				164,162
Reinsurance recoverable on paid losses			49,282				43,791
Reinsurance recoverable on unpaid losses and loss adjustment expenses			880,139				845,445
Deferred policy acquisition costs			61,005				63,984
Accrued investment income			12,587				14,492
Goodwill and other intangible assets			7,093				6,869
Current income tax receivable, net			-				15,391
Deferred income tax, net			3,216				-
Receivable for investments sold			4,310				-
Other assets			26,587				26,650
Total assets		$	4,007,670			$	3,670,007
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Reserves for losses and loss adjustment expenses		$	2,097,048			$	2,082,679
Unearned premiums			642,407				532,628
Reinsurance balances payable			165,813				108,699
Senior Notes			114,424				114,276
Current income tax payable, net			2,133				-
Deferred income tax, net			-				6,291
Payable for invstments purchased			58,345				-
Accounts payable and other liabilities			48,015				21,999
Total liabilities			3,128,185				2,866,572
Stockholders' equity:
Preferred stock, $.10 par value, authorized 1,000,000 shares, none issued		$	-			$	-
Common stock, $.10 par value, authorized 50,000,000 shares, issued 17,558,046 shares for 2012 and 17,467,615 shares for 2011			1,755				1,746
Additional paid-in capital			329,452				322,133
Treasury stock, at cost (3,511,380 shares for 2012 and 2011)			(155,801	)			(155,801	)
Retained earnings			628,871				565,109
Accumulated other comprehensive income			75,208				70,248
Total stockholders' equity			879,485				803,435
Total liabilities and stockholders' equity		$	4,007,670			$	3,670,007

The accompanying Notes to Consolidated Financial Statements are an integral part of these financial statements.

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THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except share and per share amounts)

		Year Ended December 31,
		2012				2011				2010
Gross written premiums		$	1,286,465			$	1,108,216			$	987,201
Revenues:
Net written premiums		$	833,655			$	753,798			$	653,938
Change in unearned premiums			(51,691	)			(62,153	)			5,993
Net earned premiums			781,964				691,645				659,931
Net investment income			54,248				63,500				71,662
Total other-than-temporary impairment losses			(902	)			(3,617	)			(2,222	)
Portion of loss recognized in other comprehensive income (before tax)			44				1,632				1,142
Net other-than-temporary impairment losses recognized in earnings			(858	)			(1,985	)			(1,080	)
Net realized gains (losses)			41,074				11,996				41,319
Other income (expense)			1,488				1,229				5,143
Total revenues			877,916				766,385				776,975
Expenses:
Net losses and loss adjustment expenses			497,433				476,997				421,155
Commission expenses			121,470				110,437				109,113
Other operating expenses			159,079				138,029				139,700
Interest expense			8,198				8,188				8,178
Total expenses			786,180				733,651				678,146
Income (loss) before income taxes			91,736				32,734				98,829
Income tax expense (benefit)			27,974				7,137				29,251
Net income (loss)		$	63,762			$	25,597			$	69,578
Net income per common share:
Basic		$	4.54			$	1.71			$	4.33
Diluted		$	4.45			$	1.69			$	4.24
Average common shares outstanding:
Basic			14,052,311				14,980,429				16,064,770
Diluted			14,327,820				15,183,285				16,415,266

The accompanying Notes to Consolidated Financial Statements are an integral part of these financial statements.

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Table of Contents

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In thousands)

		Year Ended December 31,
		2012				2011				2010
Net income (loss)		$	63,762			$	25,597			$	69,578
Other comprehensive income (loss):
Change in net unrealized gains (losses) on investments:
Unrealized gains (losses) on investments arising during the period, net of deferred tax of $13,136, $17,776 and $9,242 in 2012, 2011 and 2010, respectively		$	24,350			$	34,276			$	16,137
Reclassification adjustment for net realized (gains) losses included in net income net of deferred tax of $10,314, $2,588 and $9,045 in 2012, 2011 and 2010, respectively			(19,154	)			(4,807	)			(16,797	)
Change in net unrealized gains (losses on investments)			5,196				29,469				(660	)
Change in other-than-temporary impairments:
Non credit other-than-temporary impairments arising during the period, net of deferred tax of $612, $39 and $2,045 in 2012, 2011 and 2010, respectively		$	1,135			$	72			$	(3,798	)
Reclassification adjustment for non credit other-than-temporary impairment losses recognized in net income net of deferred tax of $16, $84 and $524 in 2012, 2011 and 2010, respectively			(29	)			(155	)			974
Change in other-than-temporary impairments			1,106				(83	)			(2,824	)
Change in foreign currency translation gains (losses), net of deferred tax of $521, $192 and $157 in 2012, 2011 and 2010, respectively			(1,342	)			401				290
Other comprehensive income (loss)			4,960				29,787				(3,194	)
Comprehensive income (loss)		$	68,722			$	55,384			$	66,384

The accompanying Notes to Consolidated Financial Statements are an integral part of these financial statements.

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Table of Contents

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

(In thousands, except share amounts)

										Additional																Accumulated Other				Total
		Common Stock								Paid-in				Treasury Stock								Retained				Comprehensive				Stockholders'
		Shares				Amount				Capital				Shares				Amount				Earnings				Income (Loss)				Equity
Balance, December 31, 2009			17,212,814			$	1,721			$	304,505				366,330			$	(18,296	)		$	469,934			$	43,655			$	801,519
Net income			-				-				-				-				-				69,578				-				69,578
Changes in comprehensive income:
Change in net unrealized gain (loss) on investments			-				-				-				-				-				-				(660	)			(660	)
Change in net non-credit other- than-temporary impairment losses			-				-				-				-				-				-				(2,824	)			(2,824	)
Change in foreign currency translation gain (loss)			-				-				-				-				-				-				290				290
Total comprehensive income			-				-				-				-				-				-				(3,194	)			(3,194	)
Shares issued under stock plan			61,626				7				-				-				-				-				-				7
Share-based compensation			-				-				8,083				-				5,341				-				-				13,424
Treasury stock acquired			-				-								1,165,943				(51,980	)			-				-				(51,980	)
Balance, December 31, 2010			17,274,440			$	1,728			$	312,588				1,532,273			$	(64,935	)		$	539,512			$	40,461			$	829,354
Net income			-				-				-				-				-				25,597				-				25,597
Changes in comprehensive income:
Change in net unrealized gain (loss) on investments			-				-				-				-				-				-				29,469				29,469
Change in net non-credit other- than-temporary impairment losses			-				-				-				-				-				-				(83	)			(83	)
Change in foreign currency translation gain (loss)			-				-				-				-				-				-				401				401
Total comprehensive income			-				-				-				-				-				-				29,787				29,787
Shares issued under stock plan			193,175				18				-				-				-				-				-				18
Share-based compensation			-				-				9,545				-				-				-				-				9,545
Treasury stock acquired			-				-								1,979,107				(90,866	)			-				-				(90,866	)
Balance, December 31, 2011			17,467,615			$	1,746			$	322,133				3,511,380			$	(155,801	)		$	565,109			$	70,248			$	803,435
Net income			-				-				-				-				-				63,762				-				63,762
Changes in comprehensive income:
Change in net unrealized gain (loss) on investments			-				-				-				-				-				-				5,196				5,196
Change in net non-credit other- than-temporary impairment losses			-				-				-				-				-				-				1,106				1,106
Change in foreign currency translation gain (loss)			-				-				-				-				-				-				(1,342	)			(1,342	)
Total comprehensive income			-				-				-				-				-				-				4,960				4,960
Shares issued under stock plan			90,431				9				(61	)			-				-				-				-				(52	)
Share-based compensation			-				-				7,380				-				-				-				-				7,380
Balance, December 31, 2012			17,558,046			$	1,755			$	329,452				3,511,380			$	(155,801	)		$	628,871			$	75,208			$	879,485

The accompanying Notes to Consolidated Financial Statements are an integral part of these financial statements.

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Table of Contents

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

		Year Ended December 31,
		2012				2011				2010
Operating activities:
Net income (loss)		$	63,762			$	25,597			$	69,578
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation & amortization			5,931				4,059				4,362
Deferred income taxes			(11,414	)			6,224				17,189
Net realized (gains) losses			(41,074	)			(11,996	)			(41,319	)
Net other-than-temporary losses recognized in earnings			858				1,985				1,080
Changes in assets and liabilities:
Reinsurance recoverable on paid and unpaid losses and loss adjustment expenses			(40,185	)			10,084				(17,359	)
Reserves for losses and loss adjustment expenses			14,369				98,879				67,701
Prepaid reinsurance premiums			(56,853	)			(7,477	)			5,298
Unearned premiums			109,778				69,602				(10,990	)
Premiums receivable			(64,457	)			(75,973	)			4,415
Deferred policy acquisition costs			2,979				(8,815	)			1,212
Accrued investment income			1,905				961				1,856
Reinsurance balances payable			57,114				2,865				7,450
Current income taxes			17,523				(17,226	)			3,092
Other			36,503				19,569				4,656
Net cash provided by (used in) operating activities			96,739				118,338				118,221
Investing activities:
Fixed maturities
Redemptions and maturities			188,282				166,657				206,461
Sales			1,319,404				666,976				1,191,796
Purchases			(1,711,080	)			(803,568	)			(1,439,725	)
Equity securities
Sales			39,503				73,590				6,942
Purchases			(37,587	)			(75,894	)			(23,123	)
Change in payable for securities			56,543				12,432				1,043
Net change in short-term investments			(31,568	)			30,384				22,713
Purchase of property and equipment			(3,336	)			(4,571	)			(2,568	)
Net cash provided by (used in) investing activities			(179,839	)			66,006				(36,461	)
Financing activities:
Purchase of treasury stock			-				(90,866	)			(51,980	)
Proceeds of stock issued from employee stock purchase plan			672				945				868
Proceeds of stock issued from exercise of stock options			404				1,169				611
Net cash provided by (used in) financing activities			1,076				(88,752	)			(50,501	)
Increase (decrease) in cash			(82,024	)			95,592				31,259
Cash at beginning of year			127,360				31,768				509
Cash at end of period		$	45,336			$	127,360			$	31,768
Supplemental cash information:
Income taxes paid, net		$	19,602			$	14,145			$	6,398
Interest paid		$	8,050			$	8,050			$	8,050
Issuance of stock to directors		$	242			$	210			$	190

The accompanying Notes to Consolidated Financial Statements are an integral part of these financial statements.

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Table of Contents

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

Note 1. Organization and Summary of Significant Accounting Policies

Organization

The accompanying Consolidated Financial Statements, consisting of the accounts of The Navigators Group, Inc., a Delaware holding company established in 1982, and its wholly-owned subsidiaries, are prepared on the basis of U.S. generally accepted accounting principles ("GAAP" or "U.S. GAAP"). The terms "we", "us", "our" and "the Company" as used herein are used to mean The Navigators Group, Inc. and its wholly-owned subsidiaries, unless the context otherwise requires. The terms "Parent" or "Parent Company" are used to mean The Navigators Group, Inc. without its subsidiaries. All significant intercompany transactions and balances have been eliminated. Certain amounts for prior years have been reclassified to conform to the current year's presentation.

We are an international insurance company focusing on specialty products within the overall property and casualty insurance market. Our largest product line and most long-standing area of specialization is ocean marine insurance. We have also developed other specialty insurance lines such as commercial primary and excess liability as well as specialty niches in professional liability, and have expanded our specialty reinsurance business since launching Navigators Re in the fourth quarter of 2010.

Our revenue is primarily comprised of premiums and investment income. We derive our premiums primarily from business written by wholly-owned underwriting management companies which produce, manage and underwrite insurance and reinsurance for us. Our products are distributed through multiple channels, utilizing global, national and regional retail and wholesale insurance brokers.

We conduct operations through our Insurance Companies and our Lloyd's Operations underwriting segments. The Insurance Companies segment consists of Navigators Insurance Company, which includes a United Kingdom Branch (the "U.K. Branch"), and Navigators Specialty Insurance Company, which underwrites specialty and professional liability insurance on an excess and surplus lines basis. All of the insurance business written by Navigators Specialty Insurance Company is fully reinsured by Navigators Insurance Company pursuant to a 100% quota share reinsurance agreement. The insurance and reinsurance business written by our Insurance Companies is underwritten through our wholly-owned underwriting management Companies, Navigators Management Company, Inc. ("NMC") and Navigators Management (UK) Ltd. ("NMUK").

Our Lloyd's Operations segment includes Navigators Underwriting Agency Ltd. ("NUAL"), a Lloyd's of London ("Lloyd's") underwriting agency which manages Lloyd's Syndicate 1221 ("Syndicate 1221"). Our Lloyd's Operations primarily underwrite marine and related lines of business along with offshore energy, construction coverages for onshore energy business and professional liability insurance at Lloyd's through Syndicate 1221. We controlled 100% of Syndicate 1221's stamp capacity for the 2012, 2011 and 2010 underwriting years through our wholly-owned subsidiary, Navigators Corporate Underwriters Ltd., which is referred to as a corporate name in the Lloyd's market. We have also established underwriting agencies in Antwerp, Belgium, Stockholm, Sweden and Copenhagen, Denmark, which underwrite risks pursuant to binding authorities with NUAL into Syndicate 1221. For financial information by segment, refer to Note 3, Segment Information , to the Consolidated Financial Statements.

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Table of Contents

Significant Accounting Policies

Cash

Cash includes cash on hand, demand deposits with banks and treasury bills with original maturities of less than 90 days.

Investments

As of December 31, 2012 and 2011, all fixed maturity and equity securities held by the Company were carried at fair value and classified as available-for-sale. Available-for-sale securities are debt and equity securities not classified as either held-to-maturity securities or trading securities and are reported at fair value, with unrealized gains and losses excluded from earnings and reported in other comprehensive income as a separate component of stockholders' equity. Fixed maturity securities include bonds, mortgage-backed and asset-backed securities. Equity securities consist of common stock.

Short-term investments are carried at cost, which approximates fair value. Short-term investments mature within one year from the purchase date.

All prices for our fixed maturities, equity securities and short-term investments valued as Level 1, Level 2 or Level 3 in the fair value hierarchy, as defined in the Financial Accounts Standards Board ("FASB") Accounting Standards Codification 820 ("ASC 820"), Fair Value Measurements, are received from independent pricing services utilized by one of our outside investment managers whom we employ to assist us with investment accounting services. This manager utilizes a pricing committee which approves the use of one or more independent pricing service vendors. The pricing committee consists of five or more members of the investment management firm, one from senior management and one from the accounting group with the remainder from the asset class specialists and client strategists. The pricing source of each security is determined in accordance with the pricing source procedures approved by the pricing committee. The investment manager uses supporting documentation received from the independent pricing service vendor detailing the inputs, models and processes used in the independent pricing service vendors' evaluation process to determine the appropriate fair value hierarchy. Any pricing where the input is based solely on a broker price is deemed to be a Level 3 price. Management has reviewed this process by which the manager determines the prices and has obtained alternative pricing to validate a sample of the prices and assess their reasonableness.

Premiums and discounts on fixed maturity securities are amortized into interest income over the life of the security under the interest method. For mortgage-backed and asset-backed securities, anticipated prepayments and expected maturities are utilized in applying the interest rate method to our mortgage-backed and asset-backed securities. An effective yield is calculated based on projected principal cash flows at the time of original purchase. The effective yield is used to amortize the purchase price of the security over the security's expected life. Book values are adjusted to reflect the amortization of premium or accretion of discount on a monthly basis. The projected principal cash flows are based on certain prepayment assumptions which are generated using a prepayment model. The prepayment model uses a number of factors to estimate prepayment activity including the current levels of interest rates (refinancing incentive), time of year (seasonality), economic activity (including housing turnover) and term and age of the underlying collateral (burnout, seasoning). Prepayment assumptions associated with the mortgage-backed and asset-backed securities are reviewed on a periodic basis. When changes in prepayment assumptions are deemed necessary as the result of actual prepayments differing from anticipated prepayments, securities are revalued based upon the new prepayment assumptions utilizing the retrospective adjustment method, whereby the effective yield is recalculated to reflect actual payments to date and anticipated future payments. The investment in such securities is adjusted to the amount that would have existed had the new effective yield been applied since the acquisition of the security. Such adjustments, if any, are included in net investment income for the current period being reported.

Realized gains and losses on sales of investments are recognized when the related trades are executed and are determined on the basis of the specific identification method.

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Impairment of Invested Assets

Management regularly reviews our fixed maturity and equity securities portfolios to evaluate the necessity of recording impairment losses for other-than-temporary declines in the fair value of securities.

For fixed maturity securities, we consider our intent to sell a security and whether it is more likely than not that we will be required to sell a security before the anticipated recovery as part of the process of evaluating whether a security's unrealized loss represents an other-than-temporary decline. We assess whether the amortized cost basis of a fixed maturity security will be recovered by comparing the present value of cash flows expected to be collected to the current book value. Any shortfalls of the present value of the cash flows expected to be collected in relation to the amortized cost basis is considered the credit loss portion of other-than-temporary impairment ("OTTI") losses and is recognized in earnings. All non-credit losses are recognized as changes in OTTI losses within Other Comprehensive Income ("OCI").

For equity securities, in general, the Company focuses its attention on those securities with a fair value less than 80% of their cost for six or more consecutive months. If warranted as the result of conditions relating to a particular security, the Company will focus on a significant decline in fair value regardless of the time period involved. Factors considered in evaluating potential impairment include, but are not limited to, the current fair value as compared to cost of the security, the length of time the investment has been below cost and by how much the investment is below cost. If an equity security is deemed to be other-than-temporarily impaired, the cost is written down to fair value with the loss recognized in earnings.

For equity securities, the Company also considers its intent to hold securities as part of the process of evaluating whether a decline in fair value represents an other-than-temporary decline in value. For fixed maturity securities, the Company considers its intent to sell a security and whether it is more likely than not that the Company will be required to sell a security before the anticipated recovery as part of the process of evaluating whether a security's unrealized loss represents an other-than-temporary decline. The Company's ability to hold such securities is supported by sufficient cash flow from its operations and from maturities within its investment portfolio in order to meet its claims payment and other disbursement obligations arising from its underwriting operations without selling such investments. With respect to securities where the decline in value is determined to be temporary and the security's value is not written down, a subsequent decision may be made to sell that security and realize a loss. Subsequent decisions on security sales are made within the context of overall risk monitoring, changing information and market conditions.

The day to day management of our investment portfolio is outsourced to third party investment managers. While these investment managers may, at a given point in time, believe that the preferred course of action is to hold securities with unrealized losses that are considered temporary until such losses are recovered, the dynamic nature of the portfolio management may result in a subsequent decision to sell the security and realize the loss based upon a change in the market and other factors described above. Investment managers are required to notify management of rating agency downgrades of securities in their portfolios as well as any potential investment valuation issues at the end of each quarter. Investment managers are also required to notify management, and receive approval, prior to the execution of a transaction or series of related transactions that may result in a realized loss above a certain threshold. Additionally, management monitors the execution of a transaction or series of related transactions that may result in any realized loss up until a certain period beyond the close of a quarterly accounting period.

Syndicate 1221

Syndicate 1221 reports the amount of premiums, claims, and expenses recorded in an underwriting account for a particular year over a three year period. Traditionally, three years has been necessary to report substantially all premiums associated with an underwriting year and to report most of the related claims, although claims may remain unsettled after the underwriting year is closed. Syndicate 1221 typically closes an underwriting year by reinsuring outstanding claims in that underwriting year with the next underwriting year. Only profits from closed underwriting years of account are distributed to NCUL. Profits from open underwriting years of account are not available and therefore not distributed to NCUL until the end of the three year period.

The Company's participation in Lloyd's Syndicate 1221 is accounted for under US GAAP and includes all of the assets, liabilities, revenues and expenses of Syndicate1221. Adjustments are recorded to recognize underwriting results as incurred in the specific year and not over a three year period. Syndicate 1221 is not a separate legal entity. Refer to Note 10, Lloyd's Syndicate 1221 , for additional information.

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Translation of Foreign Currencies

Functional currency assets and liabilities are translated into U.S. dollars using period end rates of exchange and the related translation adjustments are recorded as a separate component of Accumulated other comprehensive income. Statement of income amounts expressed in functional currencies are translated using average exchange rates. Realized gains and losses resulting from foreign currency transactions are recorded in Other income (expense) in our Consolidated Statements of Income.

Premium Revenues

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

Substantially all of our business is placed through agents and brokers. We record estimates for both unreported direct and assumed premiums. We also record the ceded portion of the estimated gross written premium and related acquisition costs. The earned gross, ceded and net premiums are calculated based on our earning methodology which is generally pro-rata over the policy period or over the period of risk if the period of risk differs significantly from the contract period. Losses are also recorded in relation to the earned premium. The estimate for losses incurred on the estimated premium is based on an actuarial calculation consistent with the methodology used to determine incurred but not reported ("IBNR") loss reserves for reported premiums.

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

Reinsurance Ceded

In the normal course of business, reinsurance is purchased by us from insurers or reinsurers to reduce the amount of loss arising from claims. In order to determine the proper accounting for the reinsurance, management analyzes the reinsurance agreements to determine whether the reinsurance should be classified as prospective or retroactive based upon the terms of the reinsurance agreement and whether the reinsurer has assumed significant insurance risk to the extent that the reinsurer may realize a significant loss from the transaction.

Prospective reinsurance is reinsurance in which an assuming company agrees to reimburse the ceding company for losses that may be incurred as a result of future insurable events covered under contracts subject to the reinsurance. Retroactive reinsurance is reinsurance in which an assuming company agrees to reimburse a ceding company for liabilities incurred as a result of past insurable events covered under contracts subject to the reinsurance. The analysis of the reinsurance contract terms has determined that all of our reinsurance is prospective reinsurance with adequate transfer of insurance risk to the reinsurer to qualify for reinsurance accounting treatment.

Ceded reinsurance premiums and any related ceding commission and ceded losses are reflected as reductions of the respective income or expense accounts over the terms of the reinsurance contracts. Prepaid reinsurance premiums represent the portion of premiums ceded to reinsurers applicable to the unexpired terms of the reinsurance contracts in force. Reinsurance reinstatement premiums are recognized in the same period as the loss event that gave rise to the reinstatement premiums. Amounts recoverable from reinsurers are estimated in a manner consistent with the claim liability associated with the reinsured policy. Unearned premiums ceded and estimates of amounts recoverable from reinsurers on paid and unpaid losses are reflected as assets. Provisions are made for estimated unrecoverable reinsurance.

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Deferred Policy Acquisition Costs

Costs of acquiring business which vary with and are directly related to the production of new or renewal business are deferred and amortized ratably over the period that the related premiums are recognized as revenue. Such costs primarily include commission expense, other underwriting expenses and premium taxes are limited to the incremental direct costs related to the successful acquisition of new or renewal business. The method of computing deferred policy acquisition costs limits the deferral to their estimated net realizable value based on the related unearned premiums and takes into account anticipated losses and loss adjustment expenses, commission expense and operating expenses based on historical and current experience as well as anticipated investment income.

Reserves for Losses and Loss Adjustment Expenses

Unpaid losses and loss adjustment expenses are determined on an individual basis for claims reported on direct business for insureds, from reports received from ceding insurers for insurance assumed from such insurers and on estimates based on Company and industry experience for IBNR claims and loss adjustment expenses. Indicated IBNR loss reserves are calculated by our actuaries using several standard actuarial methodologies, including the paid and incurred loss development and the paid and incurred Bornheutter-Ferguson loss methods. Additional analyses, such as frequency/severity analyses, are performed for certain books of business. The provision for unpaid losses and loss adjustment expenses has been established to cover the estimated unpaid cost of claims incurred. Such estimates are regularly reviewed and updated and any resulting adjustments are included in the current year's results. Management believes that the liability it has recognized for unpaid losses and loss adjustment expenses is a reasonable estimate of the ultimate unpaid claims incurred, however, such provisions are necessarily based on estimates and, accordingly, no representation is made that the ultimate liability will not differ materially from the amounts recorded in the accompanying consolidated financial statements. Losses and loss adjustment expenses are recorded on an undiscounted basis.

Earnings per Share

Basic earnings per share ("EPS") is computed by dividing net income by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflects the basic earnings per share adjusted for the potential dilution that would occur if all issued stock options were exercised and all stock grants were fully vested.

Depreciation and Amortization

Depreciation of furniture and fixtures, electronic data processing equipment and computer software is provided over the estimated useful lives of the respective assets, ranging from three to seven years, using the straight-line method. Amortization of leasehold improvements is provided over the shorter of the useful lives of those improvements or the contractual terms of the leases using the straight-line method.

Goodwill and Other Intangible Assets

The Company has recorded goodwill in connection with various acquisitions over the years. Goodwill represents the excess of cost of acquiring a business enterprise over the fair value of the net assets acquired. The Company has also recorded indefinite lived intangible assets related to the acquisition of the remaining non-controlled stamp capacity of Lloyd's Syndicate 1221. Goodwill and indefinite lived intangible assets are reported at carrying value and are tested for impairment at least annually. Goodwill and indefinite lived intangible assets are impaired if the estimated fair value is less than its carrying value. Any impairment loss is measured as the difference between the implied fair value and the carrying value. This Company did not recognize an impairment on goodwill or the indefinite lived intangible assets for any of the years ended December 31, 2012, 2011 and 2010.

As of December 31, 2012, the carrying value of goodwill and indefinite lived intangible assets was $7.1 million, consisting of $2.5 million and $2.4 million of goodwill assigned to NMC and our Lloyd's Operations, respectively, and $2.2 million of indefinite lived intangible assets assigned to our Lloyd's Operations. As of December 31, 2011, the carrying value of goodwill and indefinite lived intangible assets was $6.9 million, consisting of $2.5 million and $2.3 million of goodwill assigned to NMC and our Lloyd's Operations, respectively, and $2.1 million of indefinite lived intangible assets assigned to our Lloyd's Operations. Changes in the carrying value of the goodwill and indefinite lived intangible assets are due to fluctuations in currency exchange rates between the U.S. dollar and the British pound.

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Income Taxes

We apply the asset and liability method of accounting for income taxes. Under the asset and liability method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. In assessing the realization of deferred tax assets, management considers whether it is more likely than not that the deferred tax assets will be realized.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires the use of 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 period. The accounting estimates that are viewed by management as critical are those in connection with reserves for losses and loss adjustment expenses, reinsurance recoverables, written and unearned premiums, deferred tax assets, impairment of invested assets and accounting for Lloyd's results. Refer to "Management's Discussion of Financial Condition and Results of Operations – Critical Accounting Estimates" for expanded disclosure on management's use of estimates and assumptions.

Recently Adopted Accounting Pronouncements

In September 2011, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2011-08 amending Codification topic 350 – Intangibles – Goodwill and Other. The amendment simplifies how goodwill is tested for impairment by permitting entities to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying value as a basis for determining whether it is necessary to perform the two step goodwill impairment test. The amendment is effective for the interim and annual goodwill impairment tests performed for fiscal years beginning after December 15, 2011. Adoption of this amendment had no impact on the Company's consolidated financial condition, results of operations or cash flows.

In June 2011, the FASB issued ASU 2011-05 amending Codification Topic 220 – Comprehensive Income. The amendment requires that other comprehensive income be either presented in a single continuous statement or two separate but consecutive statements. In addition, the amendment requires the disclosure of reclassification adjustments for items reclassified from other comprehensive income to net income on the face of the financial statements. The amendment is effective for the interim and annual periods beginning after December 15, 2011 and should be applied retrospectively. This standard only affected the Company's presentation of comprehensive income and did not affect the Company's consolidated financial position, results of operations, or cash flows.

In May 2011, the FASB issued ASU 2011-04 amending Codification Topic 820 – Fair Value Measurements and Disclosures. The amendments were intended to result in common fair value measurement and disclosure requirements in U.S. GAAP and International Financial Reporting Standards ("IFRS"). The amendment expands and enhances current disclosures about fair value measurement and clarifies the FASB's intent regarding the application of existing fair value measurement requirements in certain circumstances. The amendments are effective for the interim and annual periods beginning after December 15, 2011 and should be applied prospectively. Adoption of the amendment had no impact on the Company's consolidated financial position, results of operations or cash flows.

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In October 2010, the FASB issued ASU 2010-26 amending Codification Topic 944 – Financial Services – Insurance; Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts. The amendment clarifies which costs relating to the acquisition of new or renewal insurance contracts qualify for deferral. In addition, the amendment limits deferrable costs that can be capitalized to those that are incremental direct costs related to the successful acquisition of new or renewal insurance contracts. The amendment is effective for fiscal years and interim periods within a fiscal year, beginning after December 15, 2011. The guidance is to be applied prospectively upon effectiveness of the amendment, with retrospective application permitted, but not required. The Company adopted this guidance prospectively in the first quarter of 2012. The amount of acquisition costs capitalized during the current year under the adopted guidance compared with the amount of acquisition costs that would have been capitalized during the year if the entity's previous policy had been applied resulted in decreases in amounts capitalized of $4.2 million for the twelve months ended December 31, 2012, respectively.

Recent Accounting Developments

In July 2012, the Financial Accounting Standards Board ("FASB") issued Accounting Standard Update ("ASU") 2012-02 amending Codification topic 350 – Intangibles – Goodwill and Other. The amendment is intended to reduce cost and complexity, in addition to enhancing consistency of impairment testing guidance among long-lived asset categories by permitting entities to assess qualitative factors to determine whether it is necessary to calculate an asset's fair value when testing an indefinite-lived asset for impairment. The amendment is effective for fiscal years beginning after September 15, 2012. The Company is currently evaluating the impact of this amendment on the Company's consolidated financial position, results of operating or cash flows.

Note 2. Earnings Per Share

The following is a reconciliation of the basic and diluted EPS computations for the years ended December 31, 2012, 2011 and 2010:

		Year Ended December 31,
In thousands, except share and per share amounts		2012				2011				2010
Net income (loss)		$	63,762			$	25,597			$	69,578
Basic weighted average shares			14,052,311				14,980,429				16,064,770
Effect of common stock equivalents:
Assumed exercise of stock options and vesting of stock grants			275,509				202,856				350,496
Diluted weighted average shares			14,327,820				15,183,285				16,415,266
Net income (loss) per common share:
Basic		$	4.54			$	1.71			$	4.33
Diluted		$	4.45			$	1.69			$	4.24

Note 3. Segment Information

The Company classifies its business into two underwriting segments consisting of the Insurance Companies segment ("Insurance Companies") and the Lloyd's Operations segment ("Lloyd's Operations"), which are separately managed, and a Corporate segment ("Corporate"). Segment data for each of the two underwriting segments include allocations of the operating expenses of the wholly-owned underwriting management companies and the Parent Company's operating expenses and related income tax amounts. The Corporate segment consists of the Parent Company's investment income, interest expense and the related tax effect.

The Company evaluates the performance of each underwriting segment based on its underwriting and GAAP results. The Insurance Companies' and the Lloyd's Operations' results are measured by taking into account net earned premiums, net losses and loss adjustment expenses ("LAE"), commission expenses, other operating expenses and other income (expense). Each segment maintains its own investments on which it earns income and realizes capital gains or losses. The Company's underwriting performance is evaluated separately from the performance of its investment portfolios.

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The Insurance Companies consist of Navigators Insurance Company, including its U.K. Branch, and its wholly-owned subsidiary, Navigators Specialty Insurance Company ("Navigators Specialty"). They are primarily engaged in underwriting marine insurance and related lines of business, specialty insurance lines of business, including contractors general liability insurance, commercial umbrella and primary and excess casualty businesses, specialty assumed reinsurance business, and professional liability insurance. Navigators Specialty underwrites specialty and professional liability insurance on an excess and surplus lines basis. Navigators Specialty is 100% reinsured by Navigators Insurance Company.

The Lloyd's Operations primarily underwrite marine and related lines of business along with offshore energy, professional liability insurance and construction coverages for onshore energy business at Lloyd's through Syndicate 1221. The Lloyd's Operations includes NUAL, a Lloyd's underwriting agency which manages Syndicate 1221.

Navigators Management Company, Inc. ("NMC") is a wholly-owned underwriting management company that produces, manages and underwrites insurance and reinsurance, and provides corporate services for the Company. The operating results for NMC are allocated to both the Insurance Companies and Lloyd's Operations as appropriate.

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

Financial data by segment for the years ended December 31, 2012, 2011, and 2010 were as follows:

		Year Ended December 31, 2012
In thousands		Insurance Companies				Lloyd's Operations				Corporate (1)				Total
Gross written premiums		$	921,325			$	365,140			$	-			$	1,286,465
Net written premiums			622,956				210,699				-				833,655
Net earned premiums			571,439				210,525				-				781,964
Net losses and loss adjustment expenses			(417,082	)			(80,351	)			-				(497,433	)
Commission expenses			(81,370	)			(42,449	)			2,349				(121,470	)
Other operating expenses			(113,625	)			(45,454	)			-				(159,079	)
Other income (expense)			3,790				47				(2,349	)			1,488
Underwriting profit (loss)		$	(36,848	)		$	42,318			$	-			$	5,470
Net investment income			46,549				7,551				148				54,248
Net realized gains (losses)			36,468				3,555				193				40,216
Interest expense			-				-				(8,198	)			(8,198	)
Income (loss) before income taxes		$	46,169			$	53,424			$	(7,857	)		$	91,736
Income tax expense (benefit)			12,686				18,620				(3,332	)			27,974
Net income (loss)		$	33,483			$	34,804			$	(4,525	)		$	63,762
Identifiable assets		$	3,036,489			$	928,448			$	42,733			$	4,007,670
Losses and loss adjustment expenses ratio			73.0	%			38.2	%							63.6	%
Commission expense ratio			14.2	%			20.2	%							15.5	%
Other operating expense ratio (2)			19.2	%			21.5	%							20.2	%
Combined ratio			106.4	%			79.9	%							99.3	%

(1) -

Includes Corporate segment intercompany eliminations.

(2) -

Includes Other operating expenses and Other income.

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		Year Ended December 31, 2011
In thousands		Insurance Companies				Lloyd's Operations				Corporate (1)				Total
Gross written premiums		$	788,419			$	319,797			$	-			$	1,108,216
Net written premiums			542,391				211,407				-				753,798
Net earned premiums			472,463				219,182				-				691,645
Net losses and loss adjustment expenses			(341,625	)			(135,372	)			-				(476,997	)
Commission expenses			(64,165	)			(48,341	)			2,069				(110,437	)
Other operating expenses			(101,517	)			(36,512	)			-				(138,029	)
Other income (expense)			3,955				(657	)			(2,069	)			1,229
Underwriting profit (loss)		$	(30,889	)		$	(1,700	)		$	-			$	(32,589	)
Net investment income			54,164				8,955				381				63,500
Net realized gains (losses)			12,151				(2,354	)			214				10,011
Interest expense			-				-				(8,188	)			(8,188	)
Income (loss) before income taxes		$	35,426			$	4,901			$	(7,593	)		$	32,734
Income tax expense (benefit)			8,271				1,523				(2,657	)			7,137
Net income (loss)		$	27,155			$	3,378			$	(4,936	)		$	25,597
Identifiable assets		$	2,768,930			$	865,230			$	35,847			$	3,670,007
Losses and loss adjustment expenses ratio			72.3	%			61.8	%							69.0	%
Commission expense ratio			13.6	%			22.1	%							16.0	%
Other operating expense ratio (2)			20.6	%			16.9	%							19.7	%
Combined ratio			106.5	%			100.8	%							104.7	%

(1) -

Includes Corporate segment intercompany eliminations.

(2) -

Includes Other operating expenses and Other income.

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		Year Ended December 31, 2010
In thousands		Insurance Companies				Lloyd's Operations				Corporate (1)				Total
Gross written premiums		$	665,505			$	321,696			$	-			$	987,201
Net written premiums			429,355				224,583				-				653,938
Net earned premiums			438,851				221,080				-				659,931
Net losses and loss adjustment expenses			(280,120	)			(141,035	)			-				(421,155	)
Commission expenses			(59,122	)			(49,991	)			-				(109,113	)
Other operating expenses			(106,631	)			(33,112	)			43				(139,700	)
Other income (expense)			1,698				3,488				(43	)			5,143
Underwriting profit (loss)		$	(5,324	)		$	430			$	-			$	(4,894	)
Net investment income			62,792				8,286				584				71,662
Net realized gains (losses)			36,057				3,323				859				40,239
Interest expense			-				-				(8,178	)			(8,178	)
Income (loss) before income taxes		$	93,525			$	12,039			$	(6,735	)		$	98,829
Income tax expense (benefit)			27,219				4,389				(2,357	)			29,251
Net income (loss)		$	66,306			$	7,650			$	(4,378	)		$	69,578
Identifiable assets		$	2,623,871			$	838,047			$	69,541			$	3,531,459
Losses and loss adjustment expenses ratio			63.8	%			63.8	%							63.8	%
Commission expense ratio			13.5	%			22.6	%							16.5	%
Other operating expense ratio (2)			23.9	%			13.4	%							20.4	%
Combined ratio			101.2	%			99.8	%							100.7	%

(1) -

Includes Corporate segment intercompany eliminations.

(2) -

Includes Other operating expenses and Other income.

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The following tables provide additional financial data by segment for the years ended December 31, 2012, 2011 and 2010:

		Year Ended December 31, 2012
In thousands		Insurance Companies				Lloyd's Operations				Total
Gross written premiums:
Marine		$	200,095			$	194,423			$	394,518
Property casualty			590,741				127,028				717,769
Professional liability			130,489				43,689				174,178
Total		$	921,325			$	365,140			$	1,286,465
Net written premiums :
Marine		$	133,210			$	143,600			$	276,810
Property casualty			390,168				43,824				433,992
Professional liability			99,578				23,275				122,853
Total		$	622,956			$	210,699			$	833,655
Net earned premiums:
Marine		$	142,181			$	136,898			$	279,079
Property casualty			332,782				52,951				385,733
Professional liability			96,476				20,676				117,152
Total		$	571,439			$	210,525			$	781,964

		Year Ended December 31, 2011
In thousands		Insurance Companies				Lloyd's Operations				Total
Gross written premiums:
Marine		$	228,500			$	167,562			$	396,062
Property casualty			445,287				115,138				560,425
Professional liability			114,632				37,097				151,729
Total		$	788,419			$	319,797			$	1,108,216
Net written premiums :
Marine		$	170,642			$	137,206			$	307,848
Property casualty			293,758				56,249				350,007
Professional liability			77,991				17,952				95,943
Total		$	542,391			$	211,407			$	753,798
Net earned premiums:
Marine		$	169,018			$	145,659			$	314,677
Property casualty			231,297				55,903				287,200
Professional liability			72,148				17,620				89,768
Total		$	472,463			$	219,182			$	691,645

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		Year Ended December 31, 2010
In thousands		Insurance Companies				Lloyd's Operations				Total
Gross written premiums:
Marine		$	223,061			$	182,723			$	405,784
Property casualty			312,651				94,799				407,450
Professional liability			129,793				44,174				173,967
Total		$	665,505			$	321,696			$	987,201
Net written premiums :
Marine		$	151,059			$	149,340			$	300,399
Property casualty			197,845				54,049				251,894
Professional liability			80,451				21,194				101,645
Total		$	429,355			$	224,583			$	653,938
Net earned premiums:
Marine		$	155,846			$	149,225			$	305,071
Property casualty			200,741				49,852				250,593
Professional liability			82,264				22,003				104,267
Total		$	438,851			$	221,080			$	659,931

The Insurance Companies' net earned premiums include $63.9 million, $88.3 million and $86.1 million of net earned premiums from the U.K. Branch for 2012, 2011 and 2010, respectively.

Note 4. Investments

The following tables set forth the Company's cash and investments as of December 31, 2012 and 2011. The tables below include OTTI securities recognized within OCI.

		December 31, 2012
In thousands		Fair Value				Gross Unrealized Gains				Gross Unrealized Losses				Amortized Cost
Fixed maturities:
U.S. Treasury bonds, agency bonds and foreign government bonds		$	649,692			$	8,654			$	(36	)		$	641,074
States, municipalities and political subdivisions			322,947				18,712				(380	)			304,615
Mortgage-backed and asset-backed securities:
Agency mortgage-backed securities			384,445				13,652				(204	)			370,997
Residential mortgage obligations			38,692				1,053				(549	)			38,188
Asset-backed securities			50,382				1,133				(49	)			49,298
Commercial mortgage-backed securities			204,821				17,996				(18	)			186,843
Subtotal		$	678,340			$	33,834			$	(820	)		$	645,326
Corporate bonds			470,854				27,129				(25	)			443,750
Total fixed maturities		$	2,121,833			$	88,329			$	(1,261	)		$	2,034,765
Equity securities-common stocks			101,297				16,919				(626	)			85,004
Short-term investments			153,788				-				-				153,788
Cash			45,336				-				-				45,336
Total		$	2,422,254			$	105,248			$	(1,887	)		$	2,318,893

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		December 31, 2011
In thousands		Fair Value				Gross Unrealized Gains				Gross Unrealized Losses				Amortized Cost
Fixed maturities:
U.S. Treasury bonds, agency bonds and foreign government bonds		$	336,070			$	8,979			$	(383	)		$	327,474
States, municipalities and political subdivisions			410,836				28,887				(108	)			382,057
Mortgage-backed and asset-backed securities:
Agency mortgage-backed securities			395,860				17,321				(3	)			378,542
Residential mortgage obligations			23,148				8				(2,848	)			25,988
Asset-backed securities			48,934				695				(75	)			48,314
Commercial mortgage-backed securities			216,034				10,508				(593	)			206,119
Subtotal		$	683,976			$	28,532			$	(3,519	)		$	658,963
Corporate bonds			457,187				15,743				(6,772	)			448,216
Total fixed maturities		$	1,888,069			$	82,141			$	(10,782	)		$	1,816,710
Equity securities-common stocks			95,849				23,240				(958	)			73,567
Short-term investments			122,220				-				-				122,220
Cash			127,360				-				-				127,360
Total		$	2,233,498			$	105,381			$	(11,740	)		$	2,139,857

The total non-credit OTTI on debt securities included in other comprehensive income as of December 31, 2011 was $1.7 million. As of December 31, 2012 due to appreciation in the fair value, the debt securities for which non-credit OTTI was previously recognized are now in an unrealized gain position of twenty thousand.

The fair value of the Company's investment portfolio may fluctuate significantly in response to various factors such as changes in interest rates, investment quality ratings, equity prices, foreign exchange rates and credit spreads. The Company does not have the intent to sell nor is it more likely than not that it will have to sell debt securities in unrealized loss positions that are not other-than-temporarily impaired before recovery. For structured securities, default probability and severity assumptions differ based on property type, vintage and the stress of the collateral. We do not intend to sell any of these securities and it is more likely than not that we will not be required to sell these securities before the recovery of the amortized cost basis. For equity securities, the Company also considers its intent to hold securities as part of the process of evaluating whether a decline in fair value represents an other-than-temporary decline in value. The Company may realize investment losses to the extent its liquidity needs require the disposition of fixed maturity securities in unfavorable interest rate, liquidity or credit spread environments. Significant changes in the factors the Company considers when evaluating investments for impairment losses could result in a significant change in impairment losses reported in the consolidated financial statements.

The contractual maturity dates for fixed maturity securities categorized by the number of years until maturity as of December 31, 2012 are shown in the following table:

		December 31, 2012
In thousands		Fair Value				Amortized Cost
Due in one year or less		$	107,224			$	106,500
Due after one year through five years			801,129				780,715
Due after five years through ten years			356,251				333,257
Due after ten years			178,889				168,967
Mortgage- and asset-backed securities			678,340				645,326
Total		$	2,121,833			$	2,034,765

Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties. Due to the periodic repayment of principal, the mortgage-backed and asset-backed securities are estimated to have an effective maturity of approximately 4.0 years.

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The following table shows the amount and percentage of the Company's fixed maturities as of December 31, 2012 by Standard & Poor's ("S&P") credit rating or, if an S&P rating is not available, the equivalent Moody's Investor Services ("Moody's") rating. The table includes fixed maturities at fair value, and the total rating is the weighted average quality rating.

		December 31, 2012
In thousands		Rating		Fair Value				Percent of Total
Rating description:
Extremely strong		AAA		$	316,511				15	%
Very strong		AA			1,257,209				59	%
Strong		A			369,620				17	%
Adequate		BBB			159,943				8	%
Speculative		BB & Below			14,780				1	%
Not rated		NR			3,770				0	%
Total		AA		$	2,121,833				100	%

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The following table summarizes all securities in a gross unrealized loss position as of December 31, 2012 and 2011, showing the aggregate fair value and gross unrealized loss by the length of time those securities had continuously been in a gross unrealized loss position as well as the relevant number of securities.

		December 31, 2012												December 31, 2011
In thousands, except # of securities		Number of Securities				Fair Value				Gross Unrealized Loss				Number of Securities				Fair Value				Gross Unrealized Loss
Fixed maturities:
U.S. Treasury bonds, agency bonds, and foreign government bonds
0-6 months			8			$	23,760			$	22				7			$	58,587			$	98
7-12 months			3				14,118				11				-				-				-
> 12 months			1				4,652				3				2				6,883				285
Subtotal			12			$	42,530			$	36				9			$	65,470			$	383
States, municipalities and political subdivisions
0-6 months			10			$	21,299			$	325				7			$	5,894			$	72
7-12 months			-				-				-				1				216				1
> 12 months			4				2,908				55				5				2,420				35
Subtotal			14			$	24,207			$	380				13			$	8,530			$	108
Agency mortgage-backed securities
0-6 months			10			$	62,516			$	174				3			$	5,087			$	3
7-12 months			2				1,671				30				-				-				-
> 12 months			-				-				-				-				-				-
Subtotal			12			$	64,187			$	204				3			$	5,087			$	3
Residential mortgage obligations
0-6 months			6			$	1,825			$	22				6			$	6,672			$	184
7-12 months			-				-				-				7				5,250				313
> 12 months			35				7,252				527				47				10,749				2,351
Subtotal			41			$	9,077			$	549				60			$	22,671			$	2,848
Asset-backed securities
0-6 months			-			$	-			$	-				2			$	4,933			$	12
7-12 months			-				-				-				5				6,645				63
> 12 months			2				2,369				49				1				2				-
Subtotal			2			$	2,369			$	49				8			$	11,580			$	75
Commercial mortgage-backed securities
0-6 months			7			$	2,639			$	7				6			$	5,465			$	29
7-12 months			-				-				-				3				6,840				550
> 12 months			5				845				11				3				1,503				14
Subtotal			12			$	3,484			$	18				12			$	13,808			$	593
Corporate bonds
0-6 months			2			$	3,528			$	6				52			$	135,516			$	4,539
7-12 months			-				-				-				18				27,561				1,457
> 12 months			4				6,689				19				8				14,898				776
Subtotal			6			$	10,217			$	25				78			$	177,975			$	6,772
Total fixed maturities			99			$	156,071			$	1,261				183			$	305,121			$	10,782
Equity securities-common stocks
0-6 months			13			$	23,345			$	522				4			$	3,320			$	587
7-12 months			1				1,943				104				1				1,629				371
> 12 months			-				-				-				-				-				-
Total equity securities			14			$	25,288			$	626				5			$	4,949			$	958

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As of December 31, 2012 and 2011, the largest single unrealized loss by a non-government backed issuer in the investment portfolio was $0.2 million and $1.4 million, respectively.

The company analyzes the unrealized losses quarterly to determine if any are other-than-temporary. The above unrealized losses have been determined to be temporary based on our policies.

For debt securities, when assessing whether the amortized cost basis of the security will be recovered, the Company compares the present value of cash flows expected to be collected in relation to the current book value. Any shortfalls of the present value of the cash flows expected to be collected to the amortized cost basis is considered the credit loss portion of OTTI losses and is recognized in earnings. All non-credit losses are recognized as changes in OTTI losses within OCI.

To determine whether the unrealized loss on structured securities is other-than-temporary, the Company analyzes the projections provided by its investment managers with respect to an expected principal loss under a range of scenarios and utilizes the most likely outcomes. The analysis relies on actual collateral performance measures such as default rate, prepayment rate and loss severity. These assumptions are applied throughout the remaining term of the deal, incorporating the transaction structure and priority of payments, to generate loss adjusted cash flows. Results of the analysis will indicate whether the security is expected ultimately to incur a loss or whether there is a material impact on yield due to either a projected loss or a change in cash flow timing. A break even default rate is also calculated. A comparison of the break even default rate to the actual default rate provides an indication of the level of cushion or coverage to the first dollar principal loss. The analysis applies the stated assumptions throughout the remaining term of the transaction to forecast cash flows, which are then applied through the transaction structure to determine whether there is a loss to the security. For securities in which a tranche loss is present, and the net present value of loss adjusted cash flows is less than book value, impairment is recognized. The output data also includes a number of additional metrics such as average life remaining, original and current credit support, over 60 day delinquency and security rating.

The significant inputs used to measure the amount of credit loss recognized in earnings were actual delinquency rates, default probability assumptions, severity assumptions and prepayment assumptions. Projected losses are a function of both loss severity and probability of default. Default probability and severity assumptions differ based on property type, vintage and the stress of the collateral. The Company does not intend to sell any of these securities and it is more likely than not that it will not be required to sell these securities before the recovery of the amortized cost basis.

For equity securities, in general, the Company focuses its attention on those securities with a fair value less than 80% of their cost for six or more consecutive months. If warranted as the result of conditions relating to a particular security, the Company will focus on a significant decline in fair value regardless of the time period involved. Factors considered in evaluating potential impairment include, but are not limited to, the current fair value as compared to cost of the security, the length of time the investment has been below cost and by how much the investment is below cost. If an equity security is deemed to be other-than-temporarily impaired, the cost is written down to fair value with the loss recognized in earnings.

For equity securities, the Company also considers its intent to hold securities as part of the process of evaluating whether a decline in fair value represents an other-than-temporary decline in value. For fixed maturity securities, the Company considers its intent to sell a security and whether it is more likely than not that the Company will be required to sell a security before the anticipated recovery as part of the process of evaluating whether a security's unrealized loss represents an other-than-temporary decline. The Company's ability to hold such securities is supported by sufficient cash flow from its operations and from maturities within its investment portfolio in order to meet its claims payment and other disbursement obligations arising from its underwriting operations without selling such investments. With respect to securities where the decline in value is determined to be temporary and the security's value is not written down, a subsequent decision may be made to sell that security and realize a loss. Subsequent decisions on security sales are made within the context of overall risk monitoring, changing information and market conditions.

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The following table summarizes the gross unrealized investment losses by length of time that the fair value continues to be less than 80% of amortized cost as of December 31, 2012:

		December 31, 2012
In thousands		Fixed Maturities				Equity Securities				Total
Less than three months		$	-			$	-			$	-
Longer than three months and less than six months			-				-				-
Longer than six months and less than twelve months			-				-				-
Longer than twelve months			32				-				32
Total		$	32			$	-			$	32

The table below summarizes the Company's activity related to OTTI losses for the periods indicated:

		Year Ended December 31,
		2012								2011								2010
In thousands, except # of securities		Number of Securities				Amount				Number of Securities				Amount				Number of Securities				Amount
Total OTTI losses:
Corporate and other bonds			-			$	-				1			$	109				-			$	-
Commercial mortgage-backed securities			-				-				-				-				-				-
Residential mortgage-backed securities			1				55				19				2,616				18				1,835
Asset-backed securities			-				-				-				-				-				-
Equities			3				847				2				892				2				387
Total			4			$	902				22			$	3,617				20			$	2,222
Less: Portion of loss in accumulated other comprehensive income (loss):
Corporate and other bonds						$	-							$	-							$	-
Commercial mortgage-backed securities							-								-								-
Residential mortgage-backed securities							44								1,632								1,142
Asset-backed securities							-								-								-
Equities							-								-								-
Total						$	44							$	1,632							$	1,142
Impairment losses recognized in earnings:
Corporate and other bonds						$	-							$	109							$	-
Commercial mortgage-backed securities							-								-								-
Residential mortgage-backed securities							11								984								693
Asset-backed securities							-								-								-
Equities							847								892								387
Total						$	858							$	1,985							$	1,080

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The following table summarizes the cumulative amounts related to the Company's credit loss portion of the OTTI losses on debt securities for the years ended December 31, 2012, 2011 and 2010. The Company does not intend to sell and it is more likely than not that it will not be required to sell, the securities prior to recovery of the amortized cost basis and for which the non-credit loss portion is included in OCI.

		Year Ended December 31,
In thousands		2012				2011				2010
Beginning balance		$	3,321			$	2,228			$	2,523
Additions for credit loss impairments recognized in the current period on securities not previously impaired							109				271
Additions for credit loss impairments recognized in the current period on securities previously impaired			11				984				422
Reductions for credit loss impairments previously recognized on securities sold during the period			-				-				(988	)
Ending balance		$	3,332			$	3,321			$	2,228

The contractual maturity dates for fixed maturity securities categorized by the number of years until maturity, with a gross unrealized loss as of December 31, 2012 is presented in the following table:

		December 31, 2012
		Gross Unrealized Losses								Fair Value
In thousands		Amount				Percent of Total				Amount				Percent of Total
Due in one year or less		$	7				1	%		$	8,560				5	%
Due after one year through five years			62				5	%			33,336				21	%
Due after five years through ten years			89				7	%			6,157				4	%
Due after ten years			283				22	%			28,901				19	%
Mortgage- and asset-backed securities			820				65	%			79,117				51	%
Total		$	1,261				100	%		$	156,071				100	%

The Company's net investment income was derived from the following sources:

		Year Ended December 31,
In thousands		2012				2011				2010
Fixed maturities		$	58,995			$	65,060			$	69,996
Equity securities			3,945				5,071				3,028
Short-term investments			1,694				964				965
Total investment income			64,634				71,095				73,989
Investment expenses			(10,386	)			(7,595	)			(2,327	)
Net investment income		$	54,248			$	63,500			$	71,662

The decrease in total investment income before investment expenses for all years presented was primarily due to lower investment yields and to a lesser extent, shorter portfolio duration. The annualized pre-tax investment yield, excluding net realized gains and losses and net OTTI losses recognized in earnings, was 2.4%, 3.0% and 3.5% for the years ended December 31, 2012, 2011 and 2010, respectively. The portfolio duration was 3.6 years for both the years ended December 31, 2012 and 2011, and was 4.4 years for the year ended December 31, 2010.

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Investment expenses for the year ended December 31, 2012 and 2011 include $4.5 million and $4.7 million, respectively, for a total of $9.2 million, of interest expense related to the settlement of a dispute with Equitas over foregone interest on amounts that were due on certain reinsurance contracts. In the dispute Equitas alleged that we failed to make timely payments to them under certain reinsurance agreements in connection with subrogation recoveries received by the Company with respect to several catastrophe losses that occurred in the late 1980's and early 1990's. In addition, investment expenses for the year ended December 31, 2012 includes a $2.8 million investment performance fee. Excluding the impact of the aforementioned interest expense and investment performance fee, the annualized pre-tax yield for the years ended December 31, 2012 and 2011 would have been 2.7% and 3.2%, reflective of the general decline in market yield.

The change in net unrealized gains and losses, inclusive of the change in the non-credit portion of OTTI losses, consisted of:

		Year Ended December 31,
In thousands		2012				2011				2010
Fixed maturities		$	15,709			$	44,712			$	(12,039	)
Equity securities			(5,989	)			(183	)			7,231
Gross unrealized gains (losses)			9,720				44,529				(4,808	)
Deferred income tax			3,418				15,143				(1,324	)
Change in net unrealized gains (losses), net		$	6,302			$	29,386			$	(3,484	)

Realized gains and losses, excluding net OTTI losses recognized in earnings, for the periods indicated were as follows:

		Year Ended December 31,
In thousands		2012				2011				2010
Fixed maturities:
Gains		$	28,789			$	11,678			$	42,932
Losses			(1,915	)			(7,044	)			(3,239	)
Fixed maturities, net		$	26,874			$	4,634			$	39,693
Equity securities:
Gains		$	14,673			$	9,319			$	1,867
Losses			(473	)			(1,957	)			(241	)
Equity securities, net		$	14,200			$	7,362			$	1,626
Net realized gains (losses)		$	41,074			$	11,996			$	41,319

Net realized gains and losses are generated as part of the normal ongoing management of our investment portfolio. Net realized gains of $41.1 million for the year ended December 31, 2012 are primarily due to the sale of municipal bonds and equity securities in anticipation of continued market uncertainty, the proceeds of which were reinvested in U.S. Government Treasury bonds and equities. Net realized gains of $12.0 million for the year ended December 31, 2011 primarily included the sale of corporate bonds and equity mutual funds. Net realized gains of $41.3 million for the year ended December 31, 2010 included the sale of the majority of our general obligation municipal bond obligations, the proceeds of which were reinvested in corporate bonds and agency mortgage-backed securities.

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The following tables present, for each of the fair value hierarchy levels as defined by the accounting guidance for fair value measurements and described below, the Company's fixed maturities and equity securities by asset class that are measured at fair value on a recurring basis as of December 31, 2012 and 2011:

		December 31, 2012
In thousands		Level 1				Level 2				Level 3				Total
Fixed maturities:
U.S. Treasury bonds, agency bonds and foreign government bonds		$	414,502			$	235,190			$	-			$	649,692
States, municipalities and political subdivisions			-				322,947				-				322,947
Mortgage-backed and asset-backed securities:															-
Agency mortgage-backed securities			-				384,445				-				384,445
Residential mortgage obligations			-				38,692				-				38,692
Asset-backed securities			-				50,382				-				50,382
Commercial mortgage-backed securities			-				204,821				-				204,821
Subtotal		$	-			$	678,340			$	-			$	678,340
Corporate bonds			-				470,854				-				470,854
Total fixed maturities		$	414,502			$	1,707,331			$	-			$	2,121,833
Equity securities-common stocks			101,297				-				-				101,297
Total		$	515,799			$	1,707,331			$	-			$	2,223,130

		December 31, 2011
In thousands		Level 1				Level 2				Level 3				Total
Fixed maturities:
U.S. Treasury bonds, agency bonds and foreign government bonds		$	136,625			$	199,445			$	-			$	336,070
States, municipalities and political subdivisions			-				410,836				-				410,836
Mortgage-backed and asset-backed securities:															-
Agency mortgage-backed securities			-				395,860				-				395,860
Residential mortgage obligations			-				23,148				-				23,148
Asset-backed securities			-				48,934				-				48,934
Commercial mortgage-backed securities			-				216,034				-				216,034
Subtotal		$	-			$	683,976			$	-			$	683,976
Corporate bonds			-				457,187				-				457,187
Total fixed maturities		$	136,625			$	1,751,444			$	-			$	1,888,069
Equity securities-common stocks			95,849				-				-				95,849
Total		$	232,474			$	1,751,444			$	-			$	1,983,918

The fair value of financial instruments is determined based on the following fair value hierarchy:

Level 1 – Quoted prices for identical instruments in active markets. Examples are listed equity and fixed income securities traded on an exchange. U.S. Treasury securities are reported as level 1 and are valued based on unadjusted quoted prices for identical assets in active markets that the Company can access.

Level 2 – Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets. Examples are asset-backed and mortgage-backed securities that are similar to other asset-backed or mortgage-backed securities observed in the market. U.S. government agency securities are reported as level 2 and are valued using yields and spreads that are observable in active markets.

Level 3 – Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable. An example would be a private placement with minimal liquidity.

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The Company did not have any significant transfers between Level 1 and 2 for the years ended December 31, 2012 and 2011.

As of December 31, 2012, the company did not have any Level 3 assets. Any pricing where the input is based solely on a broker price is deemed to be a Level 3 price.

The following tables present a reconciliation of the beginning and ending balances for all investments measured at fair value using Level 3 inputs for the years ended December 31, 2011 and 2010.

		Year Ended December 31, 2011
In thousands		Beginning Balance				Realized Gains (Losses)				Unrealized Gains (Losses)				Purchases				Sales				Settlements				Transfers into Level 3				Transfers out of Level 3				Ending Balance
Assets:
Commercial Mortgage Obligations		$	1,837			$	-			$	94			$	-			$	-			$	-			$	-			$	(1,931	)		$	-
Total assets		$	1,837			$	-			$	94			$	-			$	-			$	-			$	-			$	(1,931	)		$	-

		Year Ended December 31, 2010
In thousands		Beginning Balance				Realized Gains (Losses)				Unrealized Gains (Losses)				Purchases				Sales				Settlements				Transfers into Level 3				Transfers out of Level 3				Ending Balance
Assets:
Commercial Mortgage Obligations		$	-			$	-			$	(19	)		$	1,856			$	-			$	-			$	-			$	-			$	1,837
Total assets		$	-			$	-			$	(19	)		$	1,856			$	-			$	-			$	-			$	-			$	1,837

As of December 31, 2012 and 2011, the Company's restricted net assets in support of the underwriting activities of the Insurance Companies and Lloyd's Operations were $519.2 million and $462.5 million, respectively, consisting of fixed maturities, short term investments and cash. Refer to Note 14, Dividends and Statutory Financial Information , for additional information on the nature and type of restricted net assets.

As of December 31, 2012 and 2011, the Company did not have a concentration of greater than 5% of invested assets in a single non-U.S. government-backed issuer.

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Note 5. Reserves for Losses and Loss Adjustment Expenses

Insurance companies and Lloyd's syndicates are required to maintain reserves for unpaid losses and unpaid loss adjustment expenses for all lines of business. These reserves are intended to cover the probable ultimate cost of settling all losses incurred and unpaid, including those incurred but not reported. The determination of reserves for losses and LAE for insurance companies such as Navigators Insurance Company and Navigators Specialty Insurance Company, and Lloyd's corporate members such as Navigators Corporate Underwriters Ltd. is dependent upon the receipt of information from the agents and brokers which produce the insurance business for us. Generally, there is a lag between the time premiums are written and related losses and loss adjustment expenses are incurred, and the time such events are reported to the agents and brokers and, subsequently, to Navigators Insurance Company, Navigators Specialty Insurance Company, Navigators Corporate Underwriters Ltd.

Case reserves are established by our Insurance Companies and Syndicate 1221 for reported claims when notice of the claim is first received. Reserves for such reported claims are established on a case-by-case basis by evaluating several factors, including the type of risk involved, knowledge of the circumstances surrounding such claim, severity of injury or damage, the potential for ultimate exposure, experience with the line of business, and the policy provisions relating to the type of claim. Reserves for IBNR are determined in part on the basis of statistical information, in part on industry experience and in part on the judgment of our senior corporate officers. Indicated reserves are calculated by our actuaries using several standard actuarial methodologies, including the paid and incurred loss development and the paid and incurred Bornheutter-Ferguson loss methods. Additional analyses, such as frequency/severity analyses, are performed for certain books of business. To the extent that reserves are deficient or redundant, the amount of such deficiency or redundancy is treated as a charge or credit to earnings in the period in which the deficiency or redundancy is recognized.

Total loss reserves are estimates of what the insurer or reinsurer expects to pay on claims, based on facts and circumstances then known. It is possible that the ultimate liability may exceed or be less than such estimates. In setting our loss reserve estimates, we review statistical data covering several years, analyze patterns by line of business and consider several factors including trends in claims frequency and severity, changes in operations, emerging economic and social trends, inflation and changes in the regulatory and litigation environment. Using the aforementioned actuarial methods and different underlying assumptions, our actuaries produce a number of point estimates for each class of business. After reviewing the appropriateness of the underlying assumptions, management selects the carried reserve for each class of business. We do not calculate a range of loss reserve estimates. We believe that ranges may not be a true reflection of the potential volatility between carried loss reserves and the ultimate settlement amount of losses incurred prior to the balance sheet date. The numerous factors that contribute to the inherent uncertainty in the process of establishing loss reserves include: interpreting loss development activity, emerging economic and social trends, inflation, changes in the regulatory and judicial environment and changes in our operations, including changes in underwriting standards and claims handling procedures. During the loss settlement period, which, in some cases, may last several years, additional facts regarding individual claims may become known and, accordingly, it often becomes necessary to refine and adjust the estimates of liability on a claim upward or downward. Such estimates are regularly reviewed and updated and any resulting adjustments are included in the current year's income statement. Even then, the ultimate liability may exceed or be less than the revised estimates. The reserving process is intended to provide implicit recognition of the impact of inflation and other factors affecting loss payments by taking into account changes in historical payment patterns and perceived probable trends. There is generally no precise method for the subsequent evaluation of the adequacy of the consideration given to inflation, or to any other specific factor, because the eventual deficiency or redundancy of reserves is affected by many factors, some of which are interdependent. To the extent that reserves are deficient or redundant, the amount of such deficiency or redundancy is treated as a charge or credit to earnings in the period in which the deficiency or redundancy is recognized.

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The following table summarizes the Company's reserves for losses and LAE activity for the years ended December 31, 2012, 2011 and 2010:

		Year Ended December 31,
In thousands		2012				2011				2010
Net reserves for losses and LAE at beginning of year		$	1,237,234			$	1,142,542			$	1,112,934
Provision for losses and LAE for claims occurring in the current year			542,724				474,852				434,957
Increase (decrease) in estimated losses and LAE for claims occurring in prior years			(45,291	)			2,145				(13,802	)
Incurred losses and LAE			497,433				476,997				421,155
Losses and LAE paid for claims occurring during:
Current year			(110,373	)			(73,242	)			(76,982	)
Prior years			(407,385	)			(309,063	)			(314,565	)
Losses and LAE payments			(517,758	)			(382,305	)			(391,547	)
Net reserves for losses and LAE at end of year			1,216,909				1,237,234				1,142,542
Reinsurance recoverables on unpaid losses and LAE			880,139				845,445				843,296
Gross reserves for losses and LAE at end of year		$	2,097,048			$	2,082,679			$	1,985,838

The segment and line of business breakdowns of prior period net reserve deficiencies (redundancies) for the years ended December 31, 2012, 2011 and 2010 are as follows:

		Year Ended December 31,
In thousands		2012				2011				2010
Insurance Companies:
Marine		$	(10,010	)		$	1,348			$	(4,155	)
Property Casualty			4,293				(6,828	)			(14,923	)
Professional Liability			7,613				17,582				13,623
Insurance Companies		$	1,896			$	12,102			$	(5,455	)
Lloyd's Operations:
Marine			(30,735	)			(10,311	)			(3,152	)
Property Casualty			(6,890	)			(5,434	)			(5,236	)
Professional Liability			(9,562	)			5,788				41
Lloyd's			(47,187	)			(9,957	)			(8,347	)
Total deficiencies (redundancies)		$	(45,291	)		$	2,145			$	(13,802	)

The Insurance Companies recorded $1.9 million net prior period reserve deficiencies. The Marine business had $10.0 million of net reserve redundancies, which were primarily driven by:

•

an IBNR adjustment of 4.0 million to reflect the actual emergence of claims for underwriting year "(UY)" 2010, which was more favorable than the expected emergence.

•

case reserve releases of $3.4 million due to the favorable settlement of several large losses; and

•

a favorable IBNR adjustment of $2.6 million attributable to changes in our assumptions for salvage and subrogation from our short tail marine lines that was based on our observation of a consistent and persistent historical pattern of favorable savings attributable to salvage and subrogation.

The Marine reserve redundancies were partially offset by net reserve deficiencies of $7.6 million from the small lawyer and accountants lines within our Professional Liability business. This deficiency was primarily driven by IBNR increases of $3.4 million made to recognize the severity impact of several large losses that caused the actual claims emergence for these lines to exceed the expected emergence pattern. We also incurred net reserve deficiencies of $4.3 million within our Property Casualty segment, which were primarily attributable to two large hemophiliac claims from UY 2011 arising from our A&H business.

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Our Lloyd's Operations recorded $47.2 million of net prior period reserve redundancies across all businesses and divisions. In connection with the Company's implementation of the Solvency II technical provisions in its Lloyd's operation, the Company's actuaries undertook a comprehensive review during 2012 of the historical claims emergence patterns for all lines of business underwritten through Syndicate 1221. As a result of this review, the Company updated the loss emergence patterns used to project ultimate losses for all such lines of business, aligning these loss emergence factors with the historical median. This caused a reduction in ultimate loss estimates for all Lloyd's segments other than certain lines of business in Property Casualty segment, which increased. The Lloyd's Operation also experienced significant reserve redundancies in several large claims. The amount of reserve redundancies attributable to these settlements was $5.0 million, consisting of $4.1 million from the Lloyd's Marine business and $0.9 million from Lloyd's Professional Liability business. A summary of the resulting prior period redundancies for each business within our Lloyd's Operations by prior UY is set forth below:

In thousands		Marine				Property Casualty				Professional Liability				Total
2010			3,492				378				1,157				5,027
2009			14,792				4,170				6,072				25,034
2008 and Prior			12,451				2,342				2,333				17,126
Total Redundancy		$	30,735			$	6,890			$	9,562			$	47,187

The following is a discussion of relevant factors impacting our $2.1 million net reserve deficiencies for the year ended December 31, 2011:

The adverse development of $1.3 million for our Insurance Companies Marine business was driven by $4.0 million of unfavorable loss emergence in Inland Marine in accident years 2009 and 2010 which was offset by $2.7 million favorable development in Ocean Marine. The Ocean Marine development was driven by $5.8 million of favorable development in accident years 2008 to 2010 and was partially offset by $3.2 million of adverse development for accident years 2007 and prior. Ocean Marine's favorable development was driven by the Craft, protection and indemnity, and Transport classes with partial offsets from the Specie and Liability classes.

Our Insurance Companies Property Casualty business experienced $6.8 million of favorable development overall which was driven by favorable development of $8.4 million from Offshore Energy across several accident years and was partially offset by adverse development from runoff Liquor Liability in accident years 2008 and 2009.

Our Insurance Companies Professional Liability business had overall adverse development of $17.6 million, which consisted of adverse development of $14.5 million and $3.1 million from Management Liability and Errors and Omissions, respectively. The Management Liability development was primarily driven by coverage of Public companies for accident years 2009 and 2010. The Errors and Omissions development was driven by Small Lawyer Professional Liability and Miscellaneous Professional Liability classes for accident year 2010.

Our Lloyd's operations experienced $10.0 million of favorable development. This was driven by favorable development of $10.3 million and $5.5 million from the Marine and Nav Tech divisions respectively, which was partially offset by $5.8 million of unfavorable development from Professional Liability. The favorable development in Marine was primarily from the Cargo, Liability and Specie classes for accident years 2008 and prior. The favorable development in Nav Tech was from Offshore Energy primarily in accident years 2007 to 2009. The adverse development in Professional Liability was mostly from Errors and Omissions in accident years 2006 to 2008.

The following is a discussion of relevant factors impacting our $13.8 million net reserve redundancies for the year ended December 31, 2010:

The Insurance Companies recorded $4.2 million of net prior year favorable development for the marine business, of which $2.6 million arose in the marine liability business due to favorable loss emergence relative to our expectations and $1.4 million in Hull as we eliminated IBNR in older underwriting years where we determined the year had been fully reported and saw case reserve reductions on a number of claims.

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The Insurance Companies recorded $14.9 million of net prior year redundancies for property casualty business in total. The favorable development included:

•

$29.2 million for West Coast contractors' liability due to an internal actuarial review conducted in 2010 which indicated that loss development on underwriting years 2006 to 2008 has been more favorable than our prior expectations with a partial offset for underwriting years 2004 and prior.

•

$2.9 million of favorable development on our offshore energy (NavTech) book due to favorable claims trends across a number of prior underwriting years.

•

$1.8 million of favorable development on the Somerset Re run-off book of business where we concluded the IBNR was no longer required and $1.5 million on our Agriculture reinsurance book where the reported activity was lower than our initial estimate for the 2009 treaty year.

Partially offsetting these favorable developments were adverse development of:

•

$16.5 million in our Specialty run-off books of business, including $13.3 million in our personal umbrella lines across multiple underwriting years where loss activity has exceeded our expectations and $2.0 million of adverse development in our Liquor business due to reported claim activity.

•

$1.7 million for New York construction liability due to unfavorable loss emergence.

The Insurance Companies recorded $13.6 million of net prior year unfavorable development for professional liability:

•

The directors and officers liability book of business had $15.7 million of adverse development, which was primarily attributable to a severity study of our open claims. This study showed our IBNR to be significantly deficient if current trends continued and we raised our loss estimates for underwriting years 2002 to 2009. This was partially offset by $1.4 million of favorable development on a run-off lawyers book of business written from London where we saw favorable settlements of outstanding claims and $0.7 million of favorable development on other lawyers business mostly due to a favorable claim reserve settlement.

The Lloyd's Operations recorded $8.3 million in favorable loss development for prior years during 2010. This included favorable development of $3.2 million in Marine, $4.8 million in NavTech, and $0.5 million in all other areas. The Marine favorable development was primarily from the 2007 and 2008 underwriting years and was driven by loss development on these underwriting years being more favorable than our expectations, particularly in marine liability, assumed reinsurance, and specie classes. NavTech's favorable development was mostly from the 2006 through 2008 underwriting years driven by favorable claims trends in the offshore energy.

Management believes that the reserves for losses and loss adjustment expenses are adequate to cover the ultimate cost of losses and loss adjustment expenses on reported and unreported claims. We continue to review our reserves on a regular basis.

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Note 6. Reinsurance

We utilize reinsurance principally to reduce our exposure on individual risks, to protect against catastrophic losses, and to stabilize loss ratios and underwriting results. Although reinsurance makes the reinsurer liable to us to the extent the risk is transferred or ceded to the reinsurer, ceded reinsurance arrangements do not eliminate our obligation to pay claims to our policyholders. Accordingly, we bear credit risk with respect to our reinsurers. Specifically, our reinsurers may not pay claims made by us on a timely basis, or they may not pay some or all of these claims. Either of these events would increase our costs and could have a material adverse effect on our business. We are required to pay the losses even if the reinsurer fails to meet its obligations under the reinsurance agreement. Superstorm Sandy in 2012, Hurricanes Gustav and Ike in 2008 ("2008 Hurricanes") and Hurricanes Katrina and Rita in 2005 ("2005 Hurricanes") significantly increased our reinsurance recoverables which increased our credit risk.

We have established a reserve for uncollectible reinsurance in the amount of $11.5 million and $13.0 million as of December 31, 2012 and 2011, respectively, which was determined by considering reinsurer specific default risk as indicated by their financial strength ratings. Actual uncollectible reinsurance could potentially exceed our estimate.

We are protected by various treaty and facultative reinsurance agreements. Our exposure to credit risk from any one reinsurer is managed through diversification by reinsuring with a number of different reinsurers, principally in the United States and European reinsurance markets. To meet our standards of acceptability, when the reinsurance is placed, a reinsurer generally must have a rating from A.M. Best Company ("A.M. Best") and/or S&P of "A" or better, or an equivalent financial strength if not rated, plus at least $500 million in policyholders' surplus. Our Reinsurance Security Committee, which is part of our Enterprise Risk Management Reinsurance Sub-Committee, monitors the financial strength of our reinsurers and the related reinsurance receivables and periodically reviews the list of acceptable reinsurers. The reinsurance is placed either directly by us or through reinsurance intermediaries. The reinsurance intermediaries are compensated by the reinsurers.

The credit quality distribution of the Company's reinsurance recoverables of $1.15 billion as of December 31, 2012 for ceded paid and unpaid losses and LAE and ceded unearned premiums based on insurer financial strength ratings from A.M. Best or S&P were as follows:

In thousands		Rating		Carrying Value  (2)				Percent of Total (3)
A.M. Best Rating description (1) :
Superior		A++, A+		$	567,903				49	%
Excellent		A, A-			568,630				50	%
Very good		B++, B+			67				0	%
Not rated		NR			13,836				1	%
Total				$	1,150,436				100	%

(1) -

Equivalent S&P rating used for certain companies when an A.M. Best rating was unavailable.

(2) -

Net of reserve for uncollectible reinsurance of approximately $11.5 million. The carrying value consists of reinsurance recoverables on paid losses due within 30-45 days and reinsurance on unpaid losses which by nature of our reserving process is our best estimate of the value as of December 31, 2012.

(3) -

The Company holds offsetting collateral of approximately 19.7%, including 17.6% for B++ and B+ companies and 54.4% from non rated companies which includes letters of credit, ceded balances payable and other balances held by our Insurance Companies and our Lloyd's Operations.

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The Company's ceded earned premiums were $396.6 million, $346.2 million and $338.6 million for the years ended December 31, 2012, 2011 and 2010, respectively. The increase in ceded earned premiums from 2011 to 2012 is primarily due to a lower retention on our NavTech business as a result of a new quota share program for the offshore energy book and reinsurance reinstatement premiums recognized in our Marine business as a result of significant large loss activity during the year. The increase in ceded earned premiums from 2010 to 2011 is primarily due to growth and mix of business trends, partially offset by a reduction in reinsurance reinstatement premiums in 2011 as compared to 2010 related to specific losses for each year.

The Company's ceded incurred losses were $262.6 million, $213.4 million and $281.3 million for the years ended December 31, 2012, 2011 and 2010, respectively. The increase in ceded incurred losses from 2011 to 2012 is primarily related to Superstorm Sandy as well as several large losses from our Marine business, including the grounding of the cruise ship Costa Concordia, off the coast of Italy. The decrease in ceded loss from 2010 to 2011 is driven by large ceded incurred losses from 2010, such as Deepwater Horizon and West Atlas.

The following table lists the Company's 20 largest reinsurers measured by the amount of reinsurance recoverable for ceded losses and LAE and ceded unearned premium (constituting 72.7% of the total recoverable), together with the reinsurance recoverable and collateral as of December 31, 2012, and the reinsurers' ratings from AMB or S&P:

		Reinsurance Recoverables
In thousands		Unearned Premium				Paid/Unpaid Losses				Total (1)				Collateral Held (2)				AMB		S&P
National Indemnity Company		$	41,004			$	58,215			$	99,219			$	27,976			A++		AA+
Swiss Reinsurance America Corporation			4,708				89,842				94,550				9,916			A+		AA-
Munich Reinsurance America Inc.			10,005				81,982				91,987				5,356			A+		AA-
Transatlantic Reinsurance Company			17,763				73,221				90,984				8,219			A		A+
Everest Reinsurance Company			19,098				70,097				89,195				8,003			A+		A+
Lloyd's Syndicate #2003			7,946				38,757				46,703				10,909			A		A+
Partner Reinsurance Europe			9,811				34,859				44,670				17,168			A+		A+
Allied World Reinsurance			10,017				24,749				34,766				3,577			A		A
Scor Global P&C SE			12,521				21,505				34,026				7,139			A		A+
General Reinsurance Corporation			468				27,134				27,602				789			A++		AA+
Tower Insurance Company			11,363				15,271				26,634				7,195			A-		NR
Validus Reinsurance Ltd.			2,719				22,357				25,076				13,830			A		A
Berkley Insurance Company			1,675				19,402				21,077				88			A+		A+
Scor Holding (Switzerland) AG			877				16,139				17,016				9,080			A		A+
Ace Property and Casualty Insurance Company			867				15,979				16,846				-			A+		AA-
AXIS Re Europe			3,084				12,566				15,650				2,530			A		A+
Sirius America Insurance Company			59				15,457				15,516				21			A		A-
Platinum Underwriters Re			405				14,653				15,058				1,594			A		A-
Lloyd's Syndicate #4000			2,407				12,323				14,730				1,772			A		A+
Star Insurance Company			7,812				6,830				14,642				2,837			A-		BBB
Top 20 Total		$	164,609			$	671,338			$	835,947			$	137,999
All Others			56,406				258,083				314,489				89,166
Total		$	221,015			$	929,421			$	1,150,436			$	227,165

(1) -

Net of reserve for uncollectible reinsurance of approximately $11.5 million.

(2) -

Collateral of $227.2 million consists of $165.8 million in ceded balances payable, $57.2 million in letters of credit, and $4.2 million of other balances held by the Company's Insurance Companies and Lloyd's Operations.

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Approximately 25% of the collateral held consists of letters of credit obtained from reinsurers in accordance with New York Insurance Regulation Nos. 20 and 133. Regulation 20 requires collateral to be held by the ceding company from reinsurers not licensed in New York State in order for the ceding company to take credit for the reinsurance recoverables on its statutory balance sheet. The specific requirements governing the letters of credit are contained in Regulation 133 and include a clean and unconditional letter of credit and an "evergreen" clause which prevents the expiration of the letter of credit without due notice to the Company. Only banks considered qualified by the National Association of Insurance Commissioners ("NAIC") may be deemed acceptable issuers of letters. In addition, based on our credit assessment of the reinsurer, there are certain instances where we require collateral from a reinsurer even if the reinsurer is licensed in New York State, generally applying the requirements of Regulation No. 133. The contractual terms of the letters of credit require that access to the collateral is unrestricted. In the event that the counterparty to our collateral would be deemed not qualified by the NAIC, the reinsurer would be required by agreement to replace such collateral with acceptable security under the reinsurance agreement. There is no assurance, however, that the reinsurer would be able to replace the counterparty bank in the event such counterparty bank becomes unqualified and the reinsurer experiences significant financial deterioration. Under such circumstances, we could incur a substantial loss from uncollectible reinsurance from such reinsurer. In November 2010, Regulation No. 20 was amended to provide the New York Superintendent of Financial Services (the "New York Superintendent") discretion to allow a reduction in collateral that qualifying reinsurers must post in order for New York domestic ceding insurers such as Navigators Insurance Company and Navigators Specialty Insurance Company to receive full financial statement credit. The "collateral required" percentages range from 0% – 100%, are based upon the New York Superintendent's evaluation of a number of factors, including the reinsurer's financial strength ratings, and apply to contracts entered into, renewed or having an anniversary date on or after January 1, 2011. In November 2011, the NAIC adopted similar amendments to its Credit for Reinsurance Model Act that would apply to certain non-U.S. reinsurers. States will have the option to retain a 100% funding requirement if they so choose and it remains to be seen whether and when states will amend their credit for reinsurance laws and regulations in accordance with such model act.

As of December 31, 2012, the reinsurance recoverables for paid and unpaid losses due from reinsurers in connection with all catastrophic losses was $88.2 million, consisting of $54.6 million for Superstorm Sandy and $33.6 million for the 2008 and 2005 Hurricanes. As of December 31, 2011, the reinsurance recoverables for paid and unpaid losses due from reinsurers in connection with all catastrophic losses was $50.9 million for the 2008 and 2005 Hurricanes.

As of December 31, 2012, the reinsurance recoverables for paid and unpaid losses due from reinsurers in connection with several large losses incurred by the Marine business in 2012, including the grounding of the cruise ship Costa Concordia off the coast of Italy, was $22.9 million.

As of December 31, 2012 and 2011, the reinsurance recoverables for paid and unpaid losses due from reinsurers for the Deepwater Horizon incident from 2010 was $64.0 million and $80.9 million, respectively.

The following table summarizes written premium:

		Year Ended December 31,
In thousands		2012				2011				2010
Direct		$	1,034,658			$	929,778			$	916,817
Assumed			251,807				178,438				70,384
Ceded			(452,810	)			(354,418	)			(333,263	)
Net		$	833,655			$	753,798			$	653,938

The following table summarizes earned premium:

		Year Ended December 31,
In thousands		2012				2011				2010
Direct		$	972,844			$	912,020			$	925,935
Assumed			205,759				125,797				72,643
Ceded			(396,639	)			(346,172	)			(338,647	)
Net		$	781,964			$	691,645			$	659,931

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The following table summarizes losses and loss adjustment expenses incurred:

		Year Ended December 31,
In thousands		2012				2011				2010
Direct		$	608,945			$	608,445			$	669,949
Assumed			151,137				81,945				32,505
Ceded			(262,649	)			(213,393	)			(281,299	)
Net		$	497,433			$	476,997			$	421,155

Note 7. Income Taxes

The Company is subject to the tax laws and regulations of the United States ("U.S.") and the foreign countries in which it operates. The Company files a consolidated U.S. Federal tax return, which includes all domestic subsidiaries and the U.K. Branch. The income from the foreign operations is designated as either U.S. connected income or non-U.S. connected income. Lloyd's is required to pay U.S. income tax on U.S. connected income written by Lloyd's syndicates. Lloyd's and the Internal Revenue Service ("IRS") have entered into an agreement whereby the amount of tax due on U.S. connected income is calculated by Lloyd's and remitted directly to the IRS. These amounts are then charged to the corporate member in proportion to its participation in the relevant syndicates. The Company's corporate member is subject to this agreement and will receive U.K. tax credits in the United Kingdom ("U.K.") for any U.S. income tax incurred up to the U.K. income tax charged on the U.S. connected income. The non-U.S. connected insurance income would generally constitute taxable income under the Subpart F income section of the U.S. Internal Revenue Code ("Subpart F") since less than 50% of Syndicate 1221's premiums are derived within the U.K. and would therefore be subject to U.S. taxation when the Lloyd's year of account closes. Taxes are accrued at a 35% rate on the Company's foreign source insurance income and foreign tax credits, where available, are utilized to offset U.S. tax as permitted. The Company's effective tax rate for Syndicate 1221 taxable income could substantially exceed 35% to the extent the Company is unable to offset U.S. taxes paid under Subpart F tax regulations with U.K. tax credits on future underwriting year distributions. U.S. taxes are not accrued on the earnings of the Company's foreign agencies as these earnings are not includable as Subpart F income in the current year. These earnings were subject to taxes under U.K. tax regulations at a 26% rate through March 31, 2012. A finance bill was enacted in the U.K. that reduced the U.K. corporate tax rate from 26% to 24% effective April 2012. The effect of such tax rate change was not material.

The components of current and deferred income tax expense (benefit) are as follows:

		Year Ended December 31,
In thousands		2012				2011				2010
Current income tax expense (benefit):
Federal and foreign		$	39,242			$	573			$	11,965
State and local			146				340				97
Subtotal			39,388				913				12,062
Deferred income tax expense (benefit):
Federal and foreign			(11,414	)			6,224				17,189
State and local			-				-				-
Subtotal			(11,414	)			6,224				17,189
Total income tax expense (benefit)		$	27,974			$	7,137			$	29,251

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A reconciliation of total income taxes applicable to pre-tax operating income and the amounts computed by applying the federal statutory income tax rate to the pre-tax operating income were as follows:

		Year Ended December 31,
In thousands		2012								2011								2010
Computed expected tax expense		$	32,109				35.0	%		$	11,457				35.0	%		$	34,590				35.0	%
Tax-exempt interest			(4,443	)			-4.8	%			(4,437	)			-13.6	%			(5,992	)			-6.1	%
Dividends received deduction			(799	)			-0.9	%			(1,065	)			-3.3	%			(718	)			-0.7	%
Proration			786				0.9	%			825				2.5	%			1,006				1.0	%
Current state and local income taxes, net of federal income tax			95				0.1	%			221				0.7	%			63				0.1	%
Other			226				0.2	%			136				0.5	%			302				0.3	%
Actual tax expense and rate		$	27,974				30.5	%		$	7,137				21.8	%		$	29,251				29.6	%

The tax effects of temporary differences that give rise to federal, foreign, state and local deferred tax assets and deferred tax liabilities were as follows:

		December 31,
In thousands		2012				2011
Deferred tax assets:
Loss reserve discount		$	29,687			$	31,687
Unearned premiums			22,860				19,253
Compensation related			5,285				2,695
State and local net deferred tax assets			499				242
Other			4,245				664
Total gross deferred tax assets			62,576				54,541
Less: Valuation allowance			(499	)			(242	)
Total deferred tax assets			62,077				54,299
Deferred tax liabilities:
Deferred acquisition costs			(16,903	)			(16,939	)
Net unrealized gains on securities			(36,200	)			(32,782	)
Other			(5,758	)			(10,869	)
Total deferred tax liabilities			(58,861	)			(60,590	)
Net deferred income tax asset (liability)		$	3,216			$	(6,291	)

The Company has not provided for U.S. income taxes on approximately $17.9 million of undistributed earnings of its non-U.S. subsidiaries since it is intended that those earnings will be reinvested indefinitely in those subsidiaries. If a future determination is made that those earnings no longer are intended to be reinvested indefinitely in those subsidiaries, U.S. income taxes of approximately $1.8 million, assuming all foreign tax credits are realized, would be included in the tax provision at that time and would be payable if those earnings were distributed to the Company.

Unrecognized tax benefits are differences between tax positions taken in the tax returns and benefits recognized in the financial statements. The Company has no unrecognized tax benefits as of December 31, 2012 and 2011. The Company did not incur any interest or penalties related to unrecognized tax benefits for the years ended December 31, 2012 and 2011. The Company currently is under examination by the Internal Revenue Service for taxable year 2010 and generally is subject to U.S. Federal, state or local, or foreign tax examinations by tax authorities for 2009 and subsequent years.

The Company recorded income tax expense of $28.0 million, $7.1 million and $29.3 million for the years ended December 31, 2012, 2011 and 2010, respectively. The effective tax rates were 30.5%, 21.8% and 29.6% for the years ended December 31, 2012, 2011 and 2010. The effective tax rate on net investment income was 26.8%, 27.6% and 27.0% for the years ended December 31, 2012, 2011 and 2010.

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The Company had state and local deferred tax assets amounting to potential future tax benefits of $0.5 million and $0.2 million as of December 31, 2012 and 2011, respectively. Included in the deferred tax assets are state and local net operating loss carry-forwards of $0.2 million for both December 31, 2012 and 2011. A valuation allowance was established for the full amount of these potential future tax benefits due to the uncertainty associated with their realization. The Company's state and local tax carry-forwards as of December 31, 2012 expire from 2023 to 2031.

In assessing the realization of deferred tax assets, management considers whether it is more likely than not that the deferred tax assets will be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, tax planning strategies and anticipated future taxable income in making this assessment and believes it is more likely than not that the Company will realize the benefits of its deductible differences as of December 31, 2012, net of any valuation allowance.

Note 8. Credit Facility

On November 22, 2012, we entered into a $165 million credit facility agreement with ING Bank N.V., London Branch, individually and as Administrative Agent, and a syndicate of lenders. The new credit facility amended and restated a $165 million letter of credit facility entered into by the parties on March 28, 2011. The credit facility, which is denominated in U.S. dollars, is utilized to fund our participation in Syndicate 1221 through letters of credit for the 2013 and 2014 underwriting years, as well as open prior years. The letters of credit issued under the facility are denominated in British pounds and their aggregate face amount will fluctuate based on exchange rates. If any letters of credit remain outstanding under the facility after December 31, 2014, we would be required to post additional collateral to secure the remaining letters of credit. As of December 31, 2012, letters of credit with an aggregate face amount of $145.2 million were outstanding under the credit facility and we have $0.8 million of cash collateral posted.

This credit facility contains customary covenants for facilities of this type, including restrictions on indebtedness and liens, limitations on mergers, dividends and the sale of assets, and requirements as to maintaining certain consolidated tangible net worth, statutory surplus and other financial ratios. The credit facility also provides for customary events of default, including failure to pay principal, interest or fees when due, failure to comply with covenants, any representation or warranty made by the Company being false in any material respect, default under certain other indebtedness, certain insolvency or receivership events affecting the Company and its subsidiaries, the occurrence of certain material judgments, or a change in control of the Company. The letter of credit facility is secured by a pledge of the stock of certain insurance subsidiaries of the Company. To the extent the aggregate face amount issued under the credit facility exceeds the commitment amount, the Company is required to post collateral with the lead bank of the consortium. The Company was in compliance with all covenants under the credit facility as of December 31, 2012.

The applicable margin and applicable fee rate payable under the credit facility are based on a tiered schedule that is based on the Company's then-current ratings issued by S&P and Moody's with respect to the Company's Senior Notes without third-party credit enhancement, and the amount of the Company's own collateral utilized to fund its participation in Syndicate 1221.

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Note 9. Senior Note due May 1, 2016

On April 17, 2006, we completed a public debt offering of $125 million principal amount of 7% senior unsecured notes (the "Senior Notes") and received net proceeds of $123.5 million. The Principal amount of the Senior Notes is payable in a single installment on May 1, 2016. In April 2009, the Company repurchased $10.0 million aggregate principal amount of the Senior Notes from an unaffiliated note holder on the open market for $7.0 million, which generated a $3.0 million pre-tax gain that was reflected in Other income. The Senior Notes liability as of December 31, 2012 was $114.4 million. The unamortized discount at December 31, 2012 was $0.6 million. The aggregate principal amount of the Senior Notes that will be repaid on May 1, 2016, as a result of these transactions, is $115.0 million.

The fair value of the Senior Notes was $123.2 million and $119.3 million as of December 31, 2012 and 2011, respectively. The fair value was determined using quoted prices for similar instruments in active markets and is classified as Level 2 within the fair value hierarchy as defined by the accounting guidance for fair value measurements.

Interest is payable on the Senior Notes each May 1 and November 1. The effective interest rate related to the Senior Notes, based on the proceeds net of discount and all issuance costs, approximates 7.17%. Interest expense on the Senior Notes for the years ended December 31, 2012 and 2011 was $8.2 million, respectively.

The Senior Notes, our only senior unsecured obligation, will rank equally with future senior unsecured indebtedness. The Company may redeem the Senior Notes at any time and from time to time, in whole or in part, at a "make-whole" redemption price. The terms of the Senior Notes contain various restrictive business and financial covenants typical for debt obligations of this type, including limitations on mergers, liens and dispositions of the common stock of certain subsidiaries. As of December 31, 2012, the Company was in compliance with all such covenants.

Note 10. Lloyd's Syndicate 1221

The Company's Lloyd's Operations included in the consolidated financial statements represents its participation in Syndicate 1221. Syndicate 1221's stamp capacity is £184 million ($300 million) for the 2012 underwriting year compared to £175 million ($271 million) for the 2011 underwriting year. Stamp capacity is a measure of the amount of premiums a Lloyd's syndicate is authorized to write based on a business plan approved by the Council of Lloyd's. Syndicate 1221's stamp capacity is expressed net of commission (as is standard at Lloyd's). The Syndicate 1221 premiums recorded in the Company's financial statements are gross of commission. The Company controlled 100% of Syndicate 1221's stamp capacity for the 2012, 2011and 2010 underwriting years through its wholly-owned Lloyd's corporate member.

The Company provides letters of credit and posts cash to Lloyd's to support its participation in Syndicate 1221's stamp capacity. As of December 31, 2012, the Company had provided letters of credit of $145.2 million and has $0.8 million of cash collateral posted. If Syndicate 1221 increases its stamp capacity and the Company participates in the additional stamp capacity, or if Lloyd's changes the capital requirements, the Company may be required to supply additional collateral acceptable to Lloyd's. If the Company is unwilling or unable to provide additional acceptable collateral, the Company will be required to reduce its participation in the stamp capacity of Syndicate 1221. The letters of credit are provided through a credit facility with a consortium of banks which provides the Company with the ability to have letters of credit issued to support Syndicate 1221's stamp capacity at Lloyd's for the 2013 and 2014 underwriting years, as well as open prior years. If any letters of credit remain outstanding under the facility after December 31, 2014, we would be required to post additional collateral to secure the remaining letters of credit. If the credit facility is not renewed prior to December 31, 2014, the Company will need to find internal and/or external sources to provide either letters of credit or other collateral in order to continue to participate in Syndicate 1221. The credit facility is collateralized by all of the common stock of Navigators Insurance Company. Refer to Note 8, Credit Facility , for additional information.

Note 11. Fiduciary Funds

Prior to 2006, the underwriting agencies managed insurance pools in which Navigators Insurance Company participated. Functions performed by the underwriting agencies included underwriting business, collecting premiums from the insured, paying claims, collecting paid recoverables from reinsurers, paying reinsurance premiums to reinsurers and remitting net account balances to member insurance companies. Funds received by the Company belonging to non-related participants in the former insurance pools are not material. They are held in a fiduciary capacity and are included in the accompanying consolidated balance sheets.

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Note 12. Commitments and Contingencies

Future minimum annual rental commitments as of December 31, 2012 under various non-cancellable operating leases for our office facilities, which expire at various dates through 2020, are as follows:

		Year Ended
In thousands		December 31,
2013		$	9,548
2014			8,035
2015			7,915
2016			6,162
2017			4,576
Thereafter			4,233
Total minimum operating lease payments		$	40,469

We are also liable for additional payments to the landlords for certain annual cost increases. Rent expense for the years ended December 31, 2012, 2011 and 2010 was $10.5 million, $10.4 million and $9.3 million, respectively.

In the ordinary course of conducting business, the Company's subsidiaries are involved in various legal proceedings, either indirectly as insurers for parties or directly as defendants. Most of these proceedings consist of claims litigation involving the Company's subsidiaries as either (a) liability insurers defending or providing indemnity for third party claims brought against insureds or (b) insurers defending first party coverage claims brought against them. The Company accounts for such activity through the establishment of unpaid loss and loss adjustment reserves. The Company's management believes that the ultimate liability, if any, with respect to such ordinary-course claims litigation, after consideration of provisions made for potential losses and cost of defense, will not be material to the Company's consolidated financial condition, results of operations, or cash flows.

The Company's subsidiaries are also from time to time involved with other legal actions, some of which assert claims for substantial amounts. These actions include claims asserting extra contractual obligations, such as claims involving allegations of bad faith in the handling of claims or the underwriting of policies. In general, the Company believes it has valid defenses to these cases. The Company's management expects that the ultimate liability, if any, with respect to future extra-contractual matters will not be material to its consolidated financial position. Nonetheless, given the large or indeterminate amounts sought in certain of these matters, and the inherent unpredictability of litigation, an adverse outcome in such matters could, from time to time, have a material adverse outcome on the Company's consolidated results of operations or cash flows in a particular fiscal quarter or year.

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Note 13. Share Capital and Share Repurchases

Our authorized share capital consists of 50,000,000 common shares with a par value of $0.10 per share and 1,000,000 preferred shares with a par value of $0.10 per share. The Company has not issued any preferred shares as of December 31, 2012.

The following table represents changes in the Company's issued and outstanding common shares for the periods indicated:

		Year Ended December 31,
In thousands		2012				2011				2010
Beginning balance			13,956				15,742				16,846
Vested stock grants			60				122				109
Employee stock purchase plan			16				19				22
Stock options exercised			15				52				29
Treasury shares purchased			-				(1,979	)			(1,264	)
Ending balance			14,047				13,956				15,742

In May 2011, the Parent Company's Board of Directors authorized an additional $50 million under the existing share repurchase program of the Company's common stock, which increased the size of the program to $150 million. This repurchase program was initially authorized in November 2009. The share repurchase program as originally approved was scheduled to expire on December 31, 2010, however, prior to its expiration, the Parent Company's Board of Directors approved an extension to December 31, 2011. The share repurchase program expired on December 31, 2011 and was not renewed.

The following presents our share repurchases under the aforementioned programs for the periods indicated:

		Total Number of Shares Purchased				Average Cost Paid Per Share
Fourth quarter 2009 activity			141,576			$	47.72
Total 2009 activity			141,576			$	47.72
First quarter 2010 activity			573,600			$	41.27
Second quarter 2010 activity			558,003				40.32
Third quarter 2010 activity			97,115				42.25
Fourth quarter 2010 activity			35,566				48.04
Total 2010 activity			1,264,284			$	41.11
First quarter 2011 activity			256,094			$	50.96
Second quarter 2011 activity			597,026				47.55
Third quarter 2011 activity			749,076				43.03
Fourth quarter 2011 activity			376,911				45.61
Total 2011 activity			1,979,107			$	45.91

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Note 14. Dividends and Statutory Financial Information

The Parent Company has not paid or declared any cash dividends on common stock. There are no regulatory restrictions on the ability of the Parent Company to pay dividends. While there is no intention to pay cash dividends on the common stock, future declarations, if any, are at the discretion of our Board of Directors. The amounts of such dividends will be dependent, upon other factors such as, our results of operations and cash flow, financial condition and business needs, restrictive covenants under our credit facility that require us to maintain certain consolidated tangible net worth, the capital and surplus requirements of our subsidiaries, and applicable insurance regulations that limit the amount of dividends that may be paid by our regulated insurance subsidiaries. Refer to Note 8, Credit Facility , for additional information on the restrictions of our credit facility that limit the amount of dividends that may be paid by our subsidiaries.

The amount and nature of net assets that are restricted from payment of dividends as of December 31, 2012 and 2011 are presented in the following table:

		As of December 31,
In thousands		2012				2011
Restricted Net Assets:
Insurance Companies:
Fixed maturities at fair value (amortized cost: 2012, $9,607, 2011, $10,163)		$	11,728			$	12,489
Short term investments, at cost which approximates fair value			290				290
Cash			5,208				1,206
Total Insurance Companies (1)			17,226				13,985
Lloyd's Operations:
Fixed maturities at fair value (amortized cost: 2012, $419,271, 2011, $386,275)			428,142				386,608
Short term investments, at cost which approximates fair value			72,984				59,928
Cash			849				1,938
Total Lloyd's Operations (2)			501,975				448,474
Total Restricted Net Assets		$	519,201			$	462,459

(1)–

The restricted net assets for the Insurance Companies primarily consist of fixed maturities on deposit with various state insurance departments. As of December 31, 2012 restricted net assets in the form of cash include approximately $4.0 million in collateral held in trust in connection with the commercial surety business. The remaining cash as of December 31, 2012 and 2011, as presented in the table above, was on deposit with a U.K. bank to comply with the regulatory requirements of the Financial Services Authority for the underwriting activities of the U.K. Branch.

(2)–

The restricted net assets for the Lloyd's Operations consists of fixed maturities and cash held in trust for the benefit of syndicate policyholders and short term investments primarily consisting of overseas deposits in various countries with Lloyd's to support underwriting activities in those countries.

In addition to the Company's restricted net assets provided in the table above, there are regulatory limitations on the payment of dividends by our subsidiaries, discussed below, and the Company's letter of credit facility is secured by all of the common stock of Navigators Insurance Company.

Insurance Companies

Navigators Insurance Company may pay dividends to the Parent Company out of its statutory earned surplus pursuant to statutory restrictions imposed under the New York insurance law. As of December 31, 2012, the maximum amount available for the payment of dividends by Navigators Insurance Company in 2013 without prior regulatory approval is $68.3 million. Navigators Insurance Company paid $15.0 million, $45.0 million and $40.0 million in dividends to the Parent Company in 2012, 2011 and 2010, respectively.

The Insurance Companies' statutory net income as filed with the regulatory authorities for 2012, 2011 and 2010 was $28.6 million, $16.3 million and $85.7 million, respectively. The statutory capital and surplus as filed with the regulatory authorities was $682.9 million and $662.2 million as of December 31, 2012 and 2011, respectively.

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The NAIC has codified statutory accounting practices ("SAP") for insurance enterprises. As a result of this process, the NAIC issued a revised Statutory Accounting Practices and Procedures Manual that became effective January 1, 2001, and is updated each year. We prepare our statutory basis financial statements in accordance with the most recently updated statutory manual subject to any deviations prescribed or permitted by the New York Insurance Commissioner. The significant differences between SAP and GAAP, as they relate to our operations, are as follows: (1) acquisition and commission costs are expensed when incurred, while under GAAP these costs are deferred and amortized as the related premium is earned; (2) bonds are stated at amortized cost, while under GAAP bonds are classified as available-for-sale and reported at fair value, with unrealized gains and losses recognized in other comprehensive income as a separate component of stockholders' equity; (3) certain deferred tax assets are not permitted to be included in statutory surplus, while under GAAP deferred taxes are provided to reflect all temporary differences between the carrying values and tax basis of assets and liabilities; (4) unearned premiums and loss reserves are reflected net of ceded amounts, while under GAAP the unearned premiums and loss reserves are reflected gross of ceded amounts; (5) agents' balances over ninety days due are excluded from the balance sheet, and uncollateralized amounts due from unauthorized reinsurers are deducted from surplus, while under GAAP they are restored to the balance sheet, subject to the usual tests regarding recoverability.

The NAIC has adopted Risked Based Capital ("RBC") requirements to elevate the adequacy of statutory capital and surplus in relation to risks associated with: (1) asset risk; (2) insurance risk; (3) interest rate and equity market risk; and (4) business risk. The RBC formula is designated as an early warning tool for the states to identify possible undercapitalized companies for the purpose of initiating regulatory action. In the course of operations, we periodically monitor the RBC level of the Navigators Insurance Company. As of December 31, 2012 and 2011, the Navigators Insurance Company exceeded the company action RBC levels. The RBC ratio of Navigators Insurance Company was approximately 295.1% and 307.8% of the company action level as of December 31, 2012 and 2011, respectively.

As part of its general regulatory oversight process, the New York State Department of Finance conducts detailed examinations of the books, records and accounts of New York insurance companies every three to five years. In 2011, the New York State Department of Finance conducted an examination of Navigators Insurance Company and Navigators Specialty Insurance Company for the years 2005 through 2009. The U.K. Branch is required to maintain certain capital requirements under U.K. regulations and subject to examination by the U.K. Financial Services Authority (FSA).

Lloyd's Operations

Lloyd's sets the corporate member's required capital annually based on Syndicate 1221's business plans, rating environment, reserving environment and input arising from Lloyd's discussions with regulatory and rating agencies. The capital requirement of Syndicate 1221, known as Funds at Lloyd's (the "FAL"), is currently calculated using the internal Lloyd's risk-based capital model. The FAL may comprise cash, investments and undrawn letters of credit provided by various banks. As of December 31, 2012 and 2011, the FAL requirement set by Lloyd's for Syndicate 1221 was $223.4 million (£137.1 million) and $223.4 million (£144.1 million) based on its business plans approved in November 2012 and November 2011, respectively.

The valuation of the assets and letters of credit posted for FAL for Syndicate 1221 as of December 31, 2012 and 2011 was $227.3 million (£139.5 million) and $227.3 million (£146.7) million, respectively.

We prepare our Lloyd's financial statements in accordance with U.K. GAAP basis. The significant differences between U.K. GAAP and GAAP, as they relate to our operations, are as follows: (1) investments are recorded at fair value with unrealized gains and losses being recorded in income while under GAAP the changes in unrealized gains and losses are recorded through other comprehensive income as a separate component of stockholders' equity; (2) realized foreign exchange on inter-currency conversions are recorded through the income statement, while under GAAP foreign exchange translation is recorded through other comprehensive income as a separate component of stockholders' equity; (3) Lloyd's membership costs are not deferred for U.K. GAAP, while under GAAP a prepaid asset is established and amortized over each year of account.

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The primary source of income for NCUL, a corporate member of Lloyd's and controller of 100% of Syndicate 1221's stamp capacity, is generated through Syndicate 1221. Syndicate 1221 is subject to oversight by the Council of Lloyd's. Lloyd's as a whole is authorized and regulated by the FSA. Syndicate 1221's income as filed with Lloyd's for 2012, 2011 and 2010 was $54.9 million, $5.3 million and $6.5 million, respectively. The Syndicate's capital and surplus as filed with Lloyd's was $110.0 million (£67.5 million) and $68.2 million (£44.0 million) as of December 31, 2012 and 2011, respectively. The difference between our Syndicate's capital and surplus and the FAL primarily consists of letters of credit and cash held by our corporate member.

NCUL may pay dividends to the Parent Company up to the extent of available profits that have been distributed from Syndicate 1221. The Syndicate's capital and surplus as filed with Lloyd's consists of undistributed profits on closed and open years of account. In connection with the business plan approved in November 2012, NCUL posted all of the available undistributed profits on closed years of $91.1 million (£55.9 million) to support a portion of the FAL requirement and therefore that amount is not available for distribution to NCUL, which ultimately is not available to the Parent in the form of a dividend. As of December 31, 2012, NCUL has the ability to pay dividends of up to $8.6 million (£5.3 million), consisting of previously distributed profits from Syndicate 1221, to the Parent in the form of dividends.

Refer to Note 1, Organization and Summary of Significant Accounting Policies , for additional disclosure on the accounting treatment for Syndicate 1221 as it relates to closed and open years of account.

Note 15. Stock Option Plans, Stock Grants, Stock Appreciation Rights and Employee Stock Purchase Plan

At our May 2005 Annual Meeting, the stockholders approved the 2005 Stock Incentive Plan. The 2005 Stock Incentive Plan authorizes the issuance in the aggregate of 1,000,000 incentive stock options, non-incentive stock options, restricted shares and stock appreciation rights for our common stock. In April 2009, the stockholders approved an amendment to the 2005 Stock Incentive Plan increasing the available number of incentive stock options, non-incentive stock options, restricted shares and stock appreciation rights from 1,000,000 to 1,500,000. Stockholders further amended and restated the 2005 Stock Incentive Plan in 2010. Now, known as the 2005 Amended and Restated Stock Incentive Plan, but no additional shares authorized for issuance. As of December 31, 2012, 1,225,805 of such awards were issued leaving 274,195 awards available to be issued in subsequent periods. Upon the approval of the 2005 Amended and Restated Stock Incentive Plan, no further awards are being issued under any of our other stock plans or the stock appreciation rights plan. All stock options issued under the 2005 Amended and Restated Stock Incentive Plan are exercisable upon vesting for one share of our common stock and are granted at exercise prices no less than the fair market value of our common stock on the date of grant.

Stock-based compensation granted under the Company's stock plans is expensed in tranches over the vesting period. Options and non-performance based grants generally vest equally over a three or four year period and the options have a maximum term of ten years. Certain non-performance based grants vest over five years with one-third vesting in each of the third, fourth and fifth years. The Company's performance based share grants generally consist of two types of awards. The restricted stock units issued in 2011 and after will cliff vest over a three year period, with 50% vesting in full, and 50% dependent on the rate of compound annual growth in book value per share for the three years immediately prior to the vesting date, with actual shares that vest ranging between 150% to 0% of that portion of the original award. Those performance based restricted stock units issued prior to 2011 generally vest over five years with one-third vesting in each of the third, fourth and fifth years, dependent on the rolling three-year average return on equity based on the three years prior to the year in which the vesting occurs, with actual shares that vest ranging between 150% to 0% of the original award.

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The amounts charged to expense for stock-based compensation for the years ended December 31, 2012, 2011 and 2010 are presented in the following table:

		Year Ended December 31,
In thousands		2012				2011				2010
Restricted stock units (1)		$	7,380			$	139			$	5,551
Directors restricted stock grants (2)			390				248				210
Employee stock purchase plan			82				173				221
Stock appreciation rights (3)			-				(100	)			(77	)
Stock options			-				-				-
Total stock based compensation		$	7,852			$	460			$	5,905

(1) -

The increase in RSU expense for 2012 as compared to 2011 is largely impacted by a $6.2 million reversal of RSU expense recorded in 2011 related to performance based awards that are not expected to vest, and to a lesser extent, the issuance of additional performance and non-performance RSU granted in 2012, partially offset by the impact of cancellations. The decrease in RSU expense for 2011 as compared to 2010 was primarily due to the reduction in RSU expense related to performance based awards not expected to vest.

(2) -

Relates to non-employee directors serving on the Parent Company's Board of Directors, all of whom have been elected by the Company's stockholders, as well as non-employee directors serving on NUAL's Board of Directors.

(3) -

All outstanding stock appreciation rights were exercised during 2011. The Company has no current plans to issue stock appreciation rights under the 2005 Amended and Restated Stock Incentive Plan.

Unvested restricted stock units outstanding as of December 31, 2012, 2011 and 2010, and changes during the years ended on those dates, are presented in the following table:

		December 31,
		2012				2011				2010
Beginning balance			526,972				590,661				619,739
Granted-Performance			97,145				86,118				90,634
Granted-Non Performance			146,915				98,640				78,500
Total Granted			244,060				184,758				169,134
Vested-Performance Earned			-				(22,993	)			(8,333	)
Vested-Performance Unearned			(46,998	)			(42,334	)			(12,000	)
Vested-Non Performance			(91,323	)			(149,738	)			(148,390	)
Total Vested			(138,321	)			(215,065	)			(168,723	)
Forfeited			(45,082	)			(33,382	)			(29,489	)
Ending balance			587,629				526,972				590,661

As included in the table above, there were no performance based restricted stock units that vested during the year ended December 31, 2012. Performance based shares that vested during the years ended December 31, 2011 and 2010 were 22,933 and 8,333, respectively.

The fair value of total vested shares for the years ended December 31, 2012, 2011 and 2010 was $4.6 million, $8.6 million, and $7.8 million, respectively.

The weighted average grant date fair value of all RSU granted during the years ended December 31, 2012, 2011 and 2010 was $48.21, $50.06 and $39.54, respectively.

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As of December 31, 2012 and 2011, the total unrecognized compensation expense, net of estimated forfeitures, related to unvested RSU was $11.9 million and $4.9 million, respectively, which is expected to be recognized as expense over weighted average periods of 2.2 years and 2.7 years, respectively. The aggregate fair value of all unvested RSU as of December 31, 2012 and 2011 was $30.0 million and $25.1 million, respectively.

Stock options outstanding as of December 31, 2012, 2011 and 2010 are as follows:

		December 31,
		2012								2011								2010
						Average								Average								Average
		# of Shares				Exercise Price				# of Shares				Exercise Price				# of Shares				Exercise Price
Beginning balance			105,250			$	29.50				157,500			$	27.13				191,000			$	26.21
Granted			-				-				-				-				-				-
Exercised			(15,000	)		$	26.90				(52,250	)		$	22.35				(29,000	)		$	21.12
Expired or forfeited			-				-				-				-				(4,500	)		$	26.69
Ending balance			90,250			$	29.94				105,250			$	29.50				157,500			$	27.13
Number of options exercisable			90,250			$	29.94				105,250			$	29.50				157,500			$	27.13

The following table summarizes information about stock options outstanding as of December 31, 2012:

						Average
		Outstanding				Remaining				Average				Average Aggregate				Exercisable				Average				Average Aggregate
Price Range		Options				Contract Life				Exercise Price				Intrinsic Value				Options				Exercise Price				Intrinsic Value
$21 to $30			68,750				1.1			$	28.86			$	22.21				68,750			$	28.86			$	22.21
$31 to $37			21,500				2.2			$	33.39			$	17.68				21,500			$	33.39			$	17.68
Total			90,250																90,250

The Company has a Stock Appreciation Rights Plan which allows for the grant of up to 300,000 stock appreciation rights ("SARs") at prices of no less than 90% of the fair market value of the common stock. As a result of the approval of the 2005 Amended and Restated Stock Incentive Plan, no further awards will be issued from the Stock Appreciation Rights Plan. SARs outstanding as of December 31, 2012, 2011 and 2010 were as follows:

		December 31,
		2012								2011								2010
		SARs				Average Exercise Prices				SARs				Average Exercise Prices				SARs				Average Exercise Prices
Beginning balance			-			$	-				16,500			$	18.74				52,000			$	14.05
Granted			-				-				-				-				-				-
Exercised			-				-				(16,500	)		$	18.74				(35,500	)		$	11.86
Expired or forfeited			-				-				-				-				-				-
Ending balance			-			$	-				-			$	-				16,500			$	18.74
Number of SARs exercisable			-			$	-				-			$	-				16,500			$	18.74

We offer an Employee Stock Purchase Plan (the "ESPP") to all of our eligible employees. Employees are offered the opportunity to purchase the Company's common stock at 90% of fair market value at the lower of the price at the beginning or the end of each six month offering period. Employees can invest up to 10% of their base compensation through payroll withholding towards the purchase of our common stock subject to the lesser of 1,000 shares or total market value of $25,000. There will be 8,136 shares purchased in 2013 from funds withheld during the July 1, 2012 to December 31, 2012 offering period. There were 15,679 shares purchased in 2012 in the aggregate from funds withheld during the offering periods of July 1, 2011 to December 31, 2011 and January 1, 2012 to June 30, 2012. We expense both the value of the 10% discount and the "look-back" option which provides for the more favorable price at either the beginning or end of the offering period.

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Table of Contents

Note 16. Retirement Plans

We have a 401(k) Plan for all U.S. eligible employees. Each eligible employee can contribute a portion of their salary, limited by certain Federal regulations. Beginning in 2008, we matched 100% of employee contributions on eligible compensation, up to a maximum of 4% each pay period; our contribution vests immediately. For 2012, eligible compensation consisted of gross base salary and annual bonus. For 2011 and 2010, eligible compensation consisted solely of gross base salary. In addition, we have the discretion of contributing up to 4% of eligible compensation to each eligible employee's 401(k) plan irrespective of the employees' contribution amount, which also vests immediately. The Company did not make any discretionary matching contributions during the years ended December 31, 2012, 2011, and 2010.

We sponsored a standalone retirement savings defined contribution plan covering substantially all of the Company's U.S. employees through December 31, 2011. The standalone retirement savings defined contribution plan was merged into the 401(k) Plan effective January 1, 2012. Company contributions were equal to 7.5% of each eligible employee's eligible compensation up to the amount permitted by certain Federal regulations. For 2012, eligible compensation consisted solely of gross base salary. For 2011 and 2010, eligible compensation consisted of gross base salary and annual bonus, with the contribution on the bonus not to exceed $2,500. The Company's contributions vest at 20% per year for six years with vesting beginning in an employee's second year of service. For any employee hired prior to January 1, 2008, vesting is calculated based on hours of service and vesting commences on January 1 following an employee's first full year of service. For employees hired after January 1, 2008, vesting is calculated based on elapsed time and vesting commences on the employees anniversary date.

The expense recorded for all contributions to the 401(k) Plan for the year ended December 31, 2012 was $4.6 million, consisting of $2.5 million for the retirement savings contributions and $2.1 million for the non discretionary matching contributions. The expense recorded for the 401(k) Plan for the years ended December 31, 2011 and 2010 was $1.6 million and $1.7 million, respectively. The expense recorded for the money purchase defined contribution plan for the years ended December 31, 2011 and 2010 was $2.8 million and $2.9 million, respectively.

The Company sponsors a defined contribution plan for the Company's U.K. employees under U.K. regulations. Contributions, which are fully vested when made, are equal to 15% of each eligible employee's gross base salary. All U.K. employees are eligible on their date of hire. The expense recorded for the U.K. defined contribution plan was $1.9 million, $1.7 million and $1.5 million for 2012, 2011 and 2010, respectively. Such expenses are included in Other operating expenses.

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Table of Contents

Note 17. Quarterly Financial Data (Unaudited)

The following is a summary of quarterly financial data for the periods indicated:

		March 31,				June 30,				September 30,				December 31,
In thousands, except per share amounts		2012				2012				2012				2012
Gross written premiums		$	343,149			$	322,987			$	298,742			$	321,587
Revenues:
Net written premiums			243,045				190,252				188,046				212,312
Change in unearned premiums			(59,926	)			5,765				13,216				(10,746	)
Net earned premiums			183,119				196,017				201,262				201,566
Net investment income			11,258				15,777				13,597				13,616
Total other-than-temporary impairment losses			(198	)			(496	)			-				(208	)
Portion of loss recognized in other comprehensive income (before tax)			44				-				-				-
Net other-than-temporary impairment losses recognized in earnings			(154	)			(496	)			-				(208	)
Net realized gains (losses)			1,842				4,217				4,761				30,254
Other income (expense)			911				387				789				(599	)
Total revenues			196,976				215,902				220,409				244,629
Expenses:
Net losses and loss adjustment expenses			117,985				123,407				128,850				127,191
Commission expenses			29,450				29,503				31,258				31,259
Other operating expenses			36,307				39,819				40,112				42,841
Interest expense			2,049				2,049				2,049				2,051
Total expenses			185,791				194,778				202,269				203,342
Income (loss) before income taxes			11,185				21,124				18,140				41,287
Income tax expense (benefit)			3,281				6,225				5,225				13,243
Net income (loss)		$	7,904			$	14,899			$	12,915			$	28,044
Comprehensive income (loss)		$	13,881			$	21,663			$	30,760			$	2,418
Combined ratio			99.8	%			98.1	%			99.1	%			100.2	%
Net income (loss) per common share:
Basic		$	0.57			$	1.06			$	0.92			$	2.00
Diluted		$	0.56			$	1.05			$	0.90			$	1.96

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		March 31,				June 30,				September 30,				December 31,
In thousands, except per share amounts		2011				2011				2011				2011
Gross written premiums		$	296,283			$	278,714			$	255,318			$	277,901
Revenues:
Net written premiums			193,076				183,363				175,357				202,002
Change in unearned premiums			(40,598	)			(9,586	)			(1,724	)			(10,245	)
Net earned premiums			152,478				173,777				173,633				191,757
Net investment income			17,384				17,429				16,259				12,428
Total other-than-temporary impairment losses			(263	)			(833	)			(1,241	)			(1,280	)
Portion of loss recognized in other comprehensive income (before tax)			22				301				618				691
Net other-than-temporary impairment losses recognized in earnings			(241	)			(532	)			(623	)			(589	)
Net realized gains (losses)			(1,389	)			3,006				3,238				7,141
Other income (expense)			991				573				(921	)			586
Total revenues			169,223				194,253				191,586				211,323
Expenses:
Net losses and loss adjustment expenses			116,788				113,863				110,242				136,104
Commission expenses			26,200				28,030				25,934				30,273
Other operating expenses			36,575				35,777				34,989				30,688
Interest expense			2,046				2,047				2,047				2,048
Total expenses			181,609				179,717				173,212				199,113
Income (loss) before income taxes			(12,386	)			14,536				18,374				12,210
Income tax expense (benefit)			(4,493	)			5,032				4,476				2,122
Net income (loss)		$	(7,893	)		$	9,504			$	13,898			$	10,088
Comprehensive income (loss)		$	(6,924	)		$	26,329			$	12,686			$	23,293
Combined ratio			117.1	%			101.9	%			99.1	%			102.5	%
Net income per common share:
Basic		$	(0.50	)		$	0.62			$	0.94			$	0.71
Diluted		$	(0.50	)		$	0.60			$	0.92			$	0.70

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SCHEDULE I

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

Summary of Consolidated Investments-Other Than Investments in Related Parties

December 31, 2012

		December 31, 2012
In thousands		Fair Value				Gross Unrealized Gains				Gross Unrealized Losses				Amortized Cost
Fixed maturities:
U.S. Treasury bonds, agency bonds and foreign government bonds		$	649,692			$	8,654			$	(36	)		$	641,074
States, municipalities and political subdivisions			322,947				18,712				(380	)			304,615
Mortgage-backed and asset-backed securities:
Agency mortgage-backed securities			384,445				13,652				(204	)			370,997
Residential mortgage obligations			38,692				1,053				(549	)			38,188
Asset-backed securities			50,382				1,133				(49	)			49,298
Commercial mortgage-backed securities			204,821				17,996				(18	)			186,843
Subtotal		$	678,340			$	33,834			$	(820	)		$	645,326
Corporate bonds			470,854				27,129				(25	)			443,750
Total fixed maturities		$	2,121,833			$	88,329			$	(1,261	)		$	2,034,765
Equity securities-common stocks			101,297				16,919				(626	)			85,004
Short-term investments			153,788				-				-				153,788
Cash			45,336				-				-				45,336
Total		$	2,422,254			$	105,248			$	(1,887	)		$	2,318,893

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SCHEDULE II

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

Condensed Financial Information of Registrant

The Navigators Group, Inc.

Balance Sheets

(Parent Company)

(In thousands, except share amounts)

		December 31,
		2012				2011
ASSETS
Cash and investments		$	15,026			$	8,315
Investments in subsidiaries			955,024				895,047
Goodwill and other intangible assets			2,534				2,534
Other assets			23,219				13,806
Total assets		$	995,803			$	919,702
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Senior Notes		$	114,424			$	114,276
Accounts payable and other liabilities			552				649
Accrued interest payable			1,342				1,342
Total liabilities			116,318				116,267
Stockholders' Equity:
Preferred stock, $.10 par value, authorized 1,000,000 shares, none issued			-				-
Common stock, $.10 par value, authorized 50,000,000 shares, issued 17,558,046 shares for 2012 and 17,467,615 shares for 2011			1,755				1,746
Additional paid-in capital			329,452				322,133
Treasury stock, at cost (3,511,380 shares for 2012 and 2011)			(155,801	)			(155,801	)
Retained earnings			628,871				565,109
Accumulated other comprehensive income:
Net unrealized gains (losses) on securities available-for-sale, net of tax			67,161				60,860
Foreign currency translation adjustment, net of tax			8,047				9,388
Total stockholders' equity			879,485				803,435
Total liabilities and stockholders' equity		$	995,803			$	919,702

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SCHEDULE II

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

Condensed Financial Information of Registrant (Continued)

The Navigators Group, Inc.

Statements of Income

(Parent Company)

(In thousands)

		Year Ended December 31,
		2012				2011				2010
Revenues:
Net investment income		$	341			$	595			$	630
Dividends received from wholly-owned subsidiaries			15,000				45,000				40,000
Total revenues			15,341				45,595				40,630
Expenses:
Interest expense			8,198				8,188				8,178
Other (income) expense			1,749				2,969				634
Total expenses			9,947				11,157				8,812
Income before income tax benefit			5,394				34,438				31,818
Income tax expense (benefit)			(3,332	)			(3,635	)			(2,846	)
Income before equity in undistributed net income of wholly owned subsidiaries			8,726				38,073				34,664
Equity in undistributed net income of wholly-owned subsidiaries			55,036				(12,476	)			34,914
Net income		$	63,762			$	25,597			$	69,578

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SCHEDULE II

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

Condensed Financial Information of Registrant (Continued)

The Navigators Group, Inc.

Statements of Cash Flows

(Parent Company)

(In thousands)

		Year Ended December 31,
		2012				2011				2010
Operating activities:
Net income		$	63,762			$	25,597			$	69,578
Adjustments to reconcile net income to net cash provided by (used in) operations:
Equity in undistributed net income of wholly-owned subsidiaries			(70,036	)			(32,524	)			(74,914	)
Dividends received from subsidiaries			15,000				45,000				40,000
Other			(3,265	)			5,831				4,543
Net cash provided by (used in) operating activities			5,461				43,904				39,207
Investing activities:
Fixed maturities, available-for-sale
Sales			7,986				45,716				26,313
Purchases			(14,700	)			(9,253	)			(28,213	)
Equity securities
Sales			-				-				2,995
Purchases			-				-				(2,367	)
Net increase in short-term investments			(167	)			10,064				5,122
Net cash provided by (used in) investing activities			(6,881	)			46,527				3,850
Financing activities:
Capital contribution			-				-				-
Purchase of treasury stock			-				(90,866	)			(51,980	)
Proceeds of stock issued from employee stock purchase plan			672				945				868
Proceeds of stock issued from exercise of stock options			404				1,169				611
Net cash provided by (used in) financing activities			1,076				(88,752	)			(50,501	)
Increase (decrease) in cash			(344	)			1,679				(7,444	)
Cash at beginning of year			3,325				1,646				9,090
Cash at end of year		$	2,981			$	3,325			$	1,646

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SCHEDULE III

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

Supplementary Insurance Information

						Reserve																				Losses				Amortization
		Deferred				for losses								Other policy												and loss				of deferred
		policy				and loss								claims and				Net				Net				adjustment				policy				Other				Net
		acquisition				adjustment				Unearned				benefits				earned				investment				expenses				acquisition				operating				written
In thousands		costs				expenses				premiums				payable				premiums				income (1)				incurred				costs (2)				expenses  (1)				premiums
Year ended December 31, 2012
Insurance Companies		$	48,294			$	1,567,045			$	470,425			$	-			$	571,439			$	46,549			$	417,082			$	81,370			$	113,625			$	622,956
Lloyd's Operations			12,711				530,003				171,982				-				210,525				7,551				80,351				42,449				45,454				210,699
		$	61,005			$	2,097,048			$	642,407			$	-			$	781,964			$	54,100			$	497,433			$	123,819			$	159,079			$	833,655
Year ended December 31, 2011
Insurance Companies		$	47,298			$	1,517,331			$	384,596			$	-			$	472,463			$	54,164			$	341,625			$	64,165			$	101,517			$	542,391
Lloyd's Operations			16,686				565,348				148,032				-				219,182				8,955				135,372				48,341				36,512				211,407
		$	63,984			$	2,082,679			$	532,628			$	-			$	691,645			$	63,119			$	476,997			$	112,506			$	138,029			$	753,798
Year ended December 31, 2010
Insurance Companies		$	33,273			$	1,433,556			$	318,119			$	-			$	438,851			$	62,792			$	280,120			$	59,122			$	106,631			$	429,355
Lloyd's Operations			21,928				552,282				145,396				-				221,080				8,286				141,035				49,991				33,112				224,583
		$	55,201			$	1,985,838			$	463,515			$	-			$	659,931			$	71,078			$	421,155			$	109,113			$	139,743			$	653,938

(1) -

Net investment income and Other operating expenses reflect only such amounts attributable to the Company's insurance operations.

(2) -

Amortization of deferred policy acquisition costs reflects only such amounts attributable to the Company's insurance operations. A portion of these costs is eliminated in consolidation.

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SCHEDULE IV

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

Reinsurance-Written Premium

						Ceded to				Assumed								Percentage
		Direct				other				from other				Net				of amount
In thousands		Amount				companies				companies				amount				assumed to net
Year ended December 31, 2012
Property-Casualty		$	1,034,658			$	452,810			$	251,807			$	833,655				30	%
Year ended December 31, 2011
Property-Casualty		$	929,778			$	354,418			$	178,438			$	753,798				24	%
Year ended December 31, 2010
Property-Casualty		$	916,817			$	333,263			$	70,384			$	653,938				11	%

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SCHEDULE V

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

Valuation and Qualifying Accounts

		Balance at				Charged (Credited) to				Charged to				Deductions				Balance at
In thousands		January 1, 2012				Costs and Expenses				Other Accounts				(Describe)				December 31, 2012
Description:
Allowance for uncollectable reinsurance		$	13,020			$	(1,500	)		$	-			$	-			$	11,520
Valuation allowance in deferred taxes		$	242			$	257			$	-			$	-			$	499

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SCHEDULE VI

THE NAVIGATORS GROUP, INC. AND SUBSIDIARIES

Supplementary Information Concerning Property-Casualty Insurance Operations

($ in thousands)

						Reserve																												Amortization
		Deferred				for losses																				Losses and loss adjustment								of deferred
		policy				and loss				Discount,								Net				Net				expenses incurred related to								policy				Other				Net
		acquisition				adjustment				if any,				Unearned				earned				investment				Current				Prior				acquisition				operating				written
Affiliation with Registrant		costs				expenses				deducted				premiums				premiums				income (1)				year				years				costs (2)				expenses  (1)				premiums
Consolidated Subsidiaries:
Year ended December 31, 2012		$	61,005			$	2,097,048			$	-			$	642,407			$	781,964			$	54,100			$	542,724			$	(45,291	)		$	123,819			$	159,079			$	833,655
Year ended December 31, 2011		$	63,984			$	2,082,679			$	-			$	532,628			$	691,645			$	63,119			$	474,852			$	2,145			$	112,506			$	138,029			$	753,798
Year ended December 31, 2010		$	55,201			$	1,985,838			$	-			$	463,515			$	659,931			$	71,078			$	434,957			$	(13,802	)		$	109,113			$	139,743			$	653,938

(1) -

Net investment income and Other operating expenses reflect only such amounts attributable to the Company's insurance operations.

(2) -

Amortization of deferred policy acquisition costs reflects only such amounts attributable to the Company's insurance operations. A portion of these costs is eliminated in consolidation.

S-8

Table of Contents

Exhibit No.		Description of Exhibit		Previously filed and Incorporated Herein by Reference to:
3-1		Restated Certificate of Incorporation		Form S-8 filed July 26, 2002 (File No. 333-97183)
3-2		Certificate of Amendment to the Restated Certificate of Incorporation		Form S-8 filed July 26, 2002 (File No. 333-97183)
3-3		By-laws, as amended		Form S-1 (File No. 33-5667)
3-4		Certificate of Amendment to the Restated Certificate of Incorporation		Form 10-Q for June 30, 2006
4-1		Specimen of Common Stock certificate, par value $0.10 per share		Form S-8 filed June 20, 2003 (File No. 333-106317)
10-1*		Stock Option Plan		Form S-1 (File No. 33-5667)
10-2*		Non-Qualified Stock Option Plan		Form S-4 (File No. 33-75918)
10-3		Employment Agreement with Stanley A. Galanski effective March 26, 2001		Form 10-Q for March 31, 2001
10-4		Employment Agreement with R. Scott Eisdorfer dated September 1, 1999		Form 10-K for December 31, 2002
10-5*		2002 Stock Incentive Plan		Proxy Statement filed May 30, 2002
10-6*		Employee Stock Purchase Plan		Proxy Statement filed May 29, 2003
10-7*		Executive Performance Incentive Plan		Proxy Statement filed April 4, 2008
10-8		Form of Indemnity Agreement by the Company and the Selling Stockholders (as defined therein)		Amendment No. 2 to Form S-3 dated October 1, 2003 (File No.333-108424)
10-16		Agreement with Bruce J. Byrnes		Form 8-K filed June 16, 2009
10-17*		Amended and Restated 2005 Stock Incentive Plan		Proxy Statement filed April 4, 2010
10-18		Amended and Restated Funds at Lloyds Letter of Credit Agreement among the Company, ING Bank N.V., London Branch, individually and as Administrative Agent, and Letter of Credit Agent JP Morgan Chase Bank N.A., and Barclays Bank		Form 8-K filed November 28, 2012
11-1		Statement re Computation of Per Share Earnings		**
21-1		Subsidiaries of Registrant		**
23-1		Consent of Independent Registered Public Accounting Firm		**
31-1		Certification of CEO per Section 302 of the Sarbanes-Oxley Act		**
31-2		Certification of CFO per Section 302 of the Sarbanes-Oxley Act		**
32-1		Certification of CEO per Section 906 of the Sarbanes-Oxley Act (This exhibit is intended to be furnished in accordance with regulation S-K item 601(b)(32)(ii) and shall not be deemed to be filed for purposes of section 18 of the Securities Exchange Act of 1934, as amended, or incorporated by reference into any filing under the Securities Act of 1933, except as shall be expressly set forth by specific reference).		**
32-2		Certification of CFO per Section 906 of the Sarbanes-Oxley Act (This exhibit is intended to be furnished in accordance with regulation S-K item 601(b)(32)(ii) and shall not be deemed to be filed for purposes of section 18 of the Securities Exchange Act of 1934, as amended, or incorporated by reference into any filing under the Securities Act of 1933, except as shall be expressly set forth by specific reference).		**
101.INS		XBRL Instance Document		**
101.SCH		XBRL Taxonomy Extension Scheme		**
101.CAL		XBRL Taxonomy Extension Calculation Database		**
101.LAB		XBRL Taxonomy Extension Label Linkbase		**
101.PRE		XBRL Taxonomy Extension Presentation Linkbase		**
101.DEF		XBRL Taxonomy Extension Definition Linkbase		**

*	Compensatory Plan

**	Included herein