Central Analysis Bureau, Inc.

2004 REVIEW AND A LOOK AHEAD TO 2005

MOTOR CARRIER INDUSTRY

The continued war in Iraq and the presidential election dominated the news this year. At year’s end the Americans continues to be divided in their response to both of these events. With the re-election of George W. Bush the country now moves to find ways to reunite, end the war and return our soldiers to our shores. While security concerns remain a part of everyday life, they have, in so many ways, come to seem normal. Only a few short years ago such a concept would have been unbelievable.

As the president settles into his second term, changes in the Administration are underway. Many cabinet posts have been vacated, including Secretary of the Department of Homeland Security. Norman Mineta, the head of the Department of Transportation (DOT), appears at this point to be one of the few cabinet officials who will remain in place during President Bush’s second term of office. Whether this will ensure a consistency in the operations of the DOT remains to be seen. As one of only a few Democrats in the Administration, many were expecting Secretary Mineta to resign and be replaced with a Republican. We also will have a former truck driver in the cabinet, as Carlos Gutierrez, a former driver for Kellogg’s, has been named as Secretary of Commerce. Trucking interests hope that his knowledge of transportation will benefit the industry.

Safestat, the Federal Motor Carrier Safety Administration’s (FMCSA) scoring system for a carrier’s safety performance came under fire this year. It was found to have such material weaknesses that even the FMCSA warned that reliance upon the data was not recommended. CAB reports continue to include the portion of the Safestat data which FMCSA still releases, with a warning of its potential problems. The FMCSA is working to clean up the information in its system so that that data can be properly used to evaluate the safety of a motor carrier.

Economic indicators for the trucking industry remain strong, with some roller coaster activity. Total tonnage is expected to rise 31% between 2003 and 2015. In years past, the trucking industry would have responded quickly to increased demand by increasing truck availability, and then suffered when demand failed to keep up with the aggregate increase in capacity. However, more carriers have now indicated a slower move to increase capacity in order to ensure that they will continue to operate at maximum efficiency, even in the event of some reduced capacity needs down the line. This move is partially caused by capacity constraints the trucking industry itself faces.

Fuel costs substantially increased during 2004. By mid-summer, Standard and Poor’s reported that fuel costs had boosted shipping charges 7-14%. While diesel prices moderated somewhat after that time, overall the average cost of diesel fuel was 58.9 cents higher than in 2003, further reducing trucking profits.

Driver shortages continue to be a major concern in the transportation industry. Low pay scales, the retirement of experienced drivers, tougher rules for hours of service and increased insurance rates for inexperienced drivers have all contributed to this problem. Motor carriers have begun to face up to the issues and many carriers have implemented substantial salary increases in order lure good drivers back into the fold. These increased costs, together with high diesel costs, have impacted profitability but generally not to such a degree as to impair most companies ability to operate effectively.

The trucking industry continues in its efforts to assist the country by helping to protect us from potential terrorist activity. The Transportation Safety Administration gave a two year grant totaling $41 million to the American Trucking Associations (ATA) to continue its Highway Watch program. The program, initially begun to create a traveling watchdog for terrorist activity, looks to expand over the next few years to provide other forms of assistance, including amber alert notifications.

After 20 years of battle, the Supreme Court ruled unanimously that no further studies were needed to open the Mexican border. For such a long battle, the win appears to have no real impact on the economy. Fewer than 300 Mexican trucking operations have applied for U.S. operating authority. The slow process of obtaining U.S. approval, and the need to comply with all U.S. regulations on driver and vehicle safety, have prevented any real influx of Mexican carriers. It is expected that another decade will pass before there is any significant impact on the U.S. economy.

Last year we reported that various organizations had petitioned the DOT for removal of the financial reporting requirements for large motor carriers. Although all comments have been filed with the DOT, no ruling has been issued on this petition. We would note that since the filing of the petition, the DOT has transferred the oversight of the processing and handling of the Form M from the Bureau of Transportation Statistics to the FMCSA and has indicated that it will be looking to use this information more efficiently in the coming years. This bodes well for future requirements that carriers disclose financial information.

The BMC - 32 endorsement remains in the news this year. The petition which was filed seeking to increase the BMC - 32 endorsement has not been docketed and so no increase can be expected for some time. An action is currently on appeal before the Second Circuit Court of Appeals to determine whether the existing endorsement is applicable to contract carriage. This case is discussed in greater detail in our legal section. As this is a critical issue for cargo underwriters, we will report on the status of this litigation as soon as a decision is reached.

In President Bush’s second term of office, tort reform at the federal level is expected to be one of his key issues. Meanwhile, states continue their push forward with changes in state tort laws. In 2004, Mississippi, long considered one of the most difficult jurisdictions in which to be a defendant, enacted sweeping changes, including pure allocation of fault, non-economic damage caps and punitive damages tied to a defendant’s net worth. Reform of class action law suits, which have dominated public attention in recent years, is expected to lead the pack in the coming year. Several anti-tort reform proponents left office at the end of the year, paving way for easier changes to existing laws, which is welcome by truckers and insurers alike.

Government Activity

We began last year’s resumé with the news that the new Hours of Service rules were now fully implemented and advised that a burgeoning business in training and monitoring of hours of service rule compliance had begun. It had appeared that the battle over the changes to hours of service rules had ended. However, shortly after its initial application, the Fourth Circuit Court of Appeals ruled that the DOT had failed to determine the impact of the rules on driver fatigue and invalidated the rules. For a number of months it remained unclear as to whether the old rules or the new rules would remain in place pending completion of this study. After much political maneuvering by interested parties, the new rules remain in place, at least for some period of time, pending the outcome of the study.

As the study continues, the FMCSA looks for ways to enforce the new rules. Shortly before the end of the year the FMCSA issued a proposal to permit carriers to use electronic data to verify driver compliance with the rules. Both the ATA and the Owner-Operator Independent Drivers Association have come out against the use of electronic data transmission in the truck, arguing that "black boxes" will not help reduce hours of service violations.

Despite early pushes for resolution of the Highway Appropriations bill, Congress ended the year with yet another extension. The 109^th Congress will now have to start from scratch. As much of the battle is over efforts to implement environmental streamlining for required reviews of regulations, this battle may be contentious when Congress returns to work this year.

Although the driver shortage is a paramount concern in the industry, the FMCSA has moved forward to ensure that new drivers are not put on the road without adequate training. During 2004, the FMCSA issued mandatory regulations which require newly hired entry level drivers to complete training in driver qualifications, hours of service, driver wellness and whistleblower protection.

The responsibility for accidents and cargo damage caused by defective containers came to the head of the line as a hard fought trucking issue this year. While early in the year the DOT indicated that it would not become involved in the issue, it later reversed that decision. The FMCSA had initially indicated that the rulemaking would be in place by year’s end, but most rulemaking, including the container issues, was pushed ahead to 2005 as the year’s end drew near. Various organizations have been jockeying for position, with some steamship and rail lines offering voluntary acceptance of some levels of liability to avoid possible passage of a law which would resolve the issue against them. The trucking industry and most insurers continue to push for clear legislation to address the issue and reduce the risk to motor carriers.

Security issues continue to be of paramount concern to government regulators, with business interests mostly cooperating to meet common goals of importance to all. We continue to see implementation of mandatory security guidelines and notice of voluntary guidelines which quickly become derigeur in the community. The U.S. Department of Agriculture and the Agricultural and Food Transporters Conference have issued the Guide for Security Practices in the Transportation of Agricultural and Food Commodities. At year’s end the Food and Drug Administration, as part of the Bioterrorism Act, issued its regulations concerning record keeping for food transporters. The records must include the names of the transporter’s immediate previous source and the transporter’s immediate subsequent receipt, origin and destination points, date shipment received and date released, number of packages, description of the freight, route of movement during the time the food was transported, and transfer point through which the shipment moved. The maximum record retention period for all types of food is one year. Truckers will be allowed to use bills of lading and expense bills as acceptable forms of record keeping.

Transporters of hazardous materials have been a major focus of security measures as both the FBI and the Department of Homeland Security view trucks as a prime vehicle for terrorist activity. The newest FMCSA rule requires companies that haul toxic inhalants, liquefied natural gas, explosives, or radioactive materials to apply for permits. The FMCSA will issue permits to the trucking companies that have a satisfactory safety rating and a "satisfactory security program in place." These requirements include a communication plan that allows the trucks to maintain contact with their companies at all times, whether via radio and telephone, or real-time tracking devices. Although the TSA had planned to meet its latest deadline of January 31, 2005, to begin its background checks on all drivers of hazardous materials, the TSA has now indicated that it will only be able to check new drivers.

The new household goods regulations finally went into effect in May, 2004. Carriers have substantially increased obligations toward consumers and failure to comply with the regulations could greatly impact the motor carrier’s liability for loss and damage to goods. As we have reported in previous months, underwriters are urged to address their insured’s compliance when evaluating the risk to be undertaken.

The Motor Carrier Industry

From one perspective, conditions have not been exactly ideal for the trucking industry. Fuel prices are high, carriers are having trouble recruiting and retaining qualified drivers while insurance premiums and new regulations continue to drain carrier profits. However strong demand for shipping services may be more than compensating for those problems.

By the third quarter, shipments were up 18% above the September 2003 level, while comparable spending on delivery services climbed 21%, with the peak season approaching. Carriers have been raising rates and shippers have reluctantly accepted the rate increases, having little alternative with such tight capacity. Overall trucking stocks have triple the gains of the overall stock market this year, having gained nearly 25%, compared with an 8% rise for the Dow Jones Industrial Average. Other transportation related companies have also shown increase above market averages.

National highway fatality figures indicate that trucks accidents continue to be a problem. The good news is that overall accidents are not increasing substantially, even with more vehicles on the road. According to the National Highway Traffic Safety Administration, truck-related fatalities rose from 4,939 in 2002 to 4,986 last year. The total remained below 5,000 for the second year in a row. The 1 percent increase occurred at a time when total vehicle miles traveled in the United States increased to 2.88 trillion, up from 2.86 trillion in 2002. It should be noted that passenger car driver error is cited as the cause of about 75 percent of all car-truck crashes, according to government statistics.

This year has not shown any significant increase in bankruptcies and closings for trucking companies. Although a certain number of carriers did cease operations, the numbers are fairly standard and simply reflect ordinary business percentages. Publicly traded motor carriers may also begin seeing some of the many problems faced by the corporate sector. The end of the year saw a class action suit against Swift Transportation seeking damages because of the alleged failure to disclose information to permit adequate evaluation of stock values, including allegations that the conditional safety rating given to the Company by the FMSCA was not an error, but rather a true representation of the carrier's performance.

Insurance Underwriting

The beleaguered insurance industry began the year with continued concerns over inadequate reserves. Many insurers moved toward more conservative reserving practices, impacting profit margins as the year began. By the end of the year, the insurance industry had become the target for increased scrutiny following allegations of price fixing and broker commission irregularities. Insurers scrambled to bring all issues to the public attention to avoid any appearance of impropriety.

The U.S. property/casualty insurance industry's net income after taxes rose 28.3 percent to $26.7 billion in the first nine months of 2004 from $20.8 billion in the first nine months of 2003. Its surplus, or statutory net worth, increased $22 billion, or 6.3 percent, to $369 billion at the end of the third quarter, according to reports released by ISO and the Property Casualty Insurers Association of America (PCI).

On the whole, rates have stabilized this year and, according to some, the market has begun to soften. Analysts estimate that rates will continue to decline in the coming years. As has historically been the case, improved profitability results in increased competition and lower rates. The Council of Insurance Agents and Brokers third-quarter 2004 rate survey indicates commercial insurance prices fell an average of 5.9 percent for accounts of all sizes. Premium growth through the third quarter fell 2.2 percentage points short of the 6.7 percent increase levels one year ago. Also, as many buyers report paying more money for less coverage they are retaining a greater portion of the risk. The combined ratio for 2005, is projected to be 99.0, little changed from the 100.0 estimated for 2004 and the 100.1 recorded in 2003. Although third quarter results reflected loss ratios of approximately 98, the unprecedented number of hurricanes and storms in the fall will increase the overall number by the time year end reports are filed.

On a more positive note, the internet has opened a new base for many property/casualty insurers. A majority of insurers now use the internet to handle billing and claims inquires and to quote certain types of commercial coverage. Preliminary studies indicate that overall job performance is up and costs are down with the use of the internet.

The Terrorism Risk Insurance Act will be back in the forefront of the news this coming year as the existing program is scheduled to expire on December 31, 2005. Initial reports had indicated that the purchase of terrorism insurance was minor but in a more recent study conducted by AON found that 57 percent of the companies studied have decided to "take up" some kind of terrorism insurance - an increase over the 24 percent found earlier this year.

Central Analysis Bureau

This has been an exciting year at Central Analysis Bureau. We have listened carefully to your concerns and recognize the need to provide you with more information at affordable prices so that you collect adequate premium, reduce overall risk analysis expenses and fully analyze the risk you are assuming. We continue our search for new sources of valuable information. As always, our goal is to help with the underwriting of specific motor and passenger carriers, to give companies the tools to improve the quality of their transportation insurance programs and to guide underwriters through the complex legal and regulatory environment in which transportation insurance operates.

Our financial analysis service remains the cornerstone of our operations and provides an important tool for underwriters. As the scope of regulatory filings are broadened by the courts, and monetary judgments get higher and higher, it is imperative that underwriters minimize the risk of exposure by assuring that financially stable carriers make up the bulk of their book of business. As part of this resumé, there is a breakdown of the distribution of our ratings over the past ten years. While the breakdown changes each year along with the health of the overall economy and the specific health of the trucking industry, between 25 and 30 percent of carriers fall within categories which should be of concern to underwriters and an additional 30 to 35 percent are of marginal financial strength. Without knowledge of a carrier’s financial condition many will appear, at least in the application, to be an acceptable risk.

To allow subscribers to screen all submissions, subscribers have unlimited access to CAB’s web and telephone "clearinghouse". There is no charge until you actually bind that risk. In addition, CAB will review and analyze any financial information you send to us, again without charge, unless a policy is bound. Our statistics show that on average subscribers to our service will screen five risks and write only one of those risks after reviewing the information which we provide.

CAB is not just about financial analysis. Detailed information about all aspects of a company’s operations are important to your risk assessment. In this time of quick decisions and immediate turn around on applications, we have expanded our information to provide you with virtually all relevant information on a motor carrier, both during the application and renewal process, and during the policy term. Information on out of service reports, revocation proceedings, filing cancellations, and improper filings are just some of the important information which is provided to you.

During 2004 we reorganized our analysis report and website to further highlight this information. For your ease in locating relevant information, the notifications denoted by ****ALERT have been summarized at the beginning of the report. On our subscriber website these notification now pop up as soon as you request information on the carrier. These notifications highlight the anomalies noted above.

We recognize that financial information is oftentimes unavailable or sketchy at best, or that preliminary decisions need to be made before the financial analysis is reviewed. As a value added benefit to our subscribers, we are excited to advise that we have now put together a growing and up-to-date database of information on carriers which will be displayed on the website even if a financial analysis has not yet been completed. Compare this information to your application and ensure that you know what you are writing.

Our monthly e-mail newsletter, "Bits and Pieces" has expanded this year. This newsletter, which is sent free of charge to all subscribers, now keeps you abreast of the news of the month in transportation and insurance, provides a heads-up on regulatory activities and provides information on the latest court battles over issues which effect your exposure. The feed back over this newsletter has been excellent and each month we get more requests for copies. As these are the current issues that can have a direct impact on your book of business you need to know this information to keep your policies up to date. Your competitors are getting this information. If you do not currently receive this newsletter but would like to please e-mail Mark Schweber at mschweber@cabfinancial.com.

Over the years insurance companies have sought, with limited success, to make sure that they controlled the status of filings. We have found, repeatedly, that regulatory filings are not cancelled, are made with greater limits than required, or made for carriers that did not even require filings. With great success, CAB has introduced a new service to help you control this problem. For a yearly fee, substantially discounted for subscribers, insurance companies can now obtain, up to twelve times a year, a detailed listing of all of current U.S. Department of Transportation filings for the company. The list will include the motor carrier name, Motor carrier (MC) number, operating authorities, effective filing date, and required and posted filings and limits. The list highlights those carriers where filings that were not required were made, where filings have higher than required limits and where the filing is very old to allow a company to quickly see those filings that might be a problem. If you are interested in learning more about this service please contact Alex Bentsen at (212) 244-6575, ext 225 or abentsen@cabfinancial.com.

At year’s end we were pleased to complete negotiations to obtain information from the state of Texas on all vehicles, including VIN numbers, that a motor carrier registers with the state to operate in or through the state. This will provide a wealth of information to underwriters which is otherwise unavailable without substantial time and effort and will better enable you to verify application information and ensure proper premium collection. We are working to integrate this information onto our report and web site so watch Bits and Pieces in coming months for further announcements. During 2005 we will be meeting with various other states to seek to gain access to their information for you.

Our affiliate, Transportation Technical Services, Inc., is America’s foremost publisher of transportation directories, both on the web and in print. Its subscription-based web directory, fleetseek.com, has information on over 177,000 for-hire motor carriers, private fleets and owner-operators in the U.S., Canada and Mexico, and is updated continuously throughout the year. To become a subscriber or get further information phone (888) ONLY TTS or visit their website at ttstrucks.com. The senior staff of TTS (and CAB) are recognized transportation experts with many years of experience and are available for litigation, consulting or other purposes.

The entire staff of CAB wishes you the best for the coming year. Please do not hesitate to contact us with any questions regarding specific motor carriers, the industry in general, regulatory issues or coverage questions. There is always someone here to help you.

Schindel, Farman & Lipsius LLP's "Recent Developments in Transportation and Insurance Law"