Central Analysis Bureau, Inc.

2005 REVIEW AND A LOOK AHEAD TO 2006

MOTOR CARRIER INDUSTRY

Whether it was because of diesel price fluctuations, hurricanes, security concerns, driver shortages or simply the economic stress of rising operating expenses, the transportation industry went on a roller coaster ride this year. Of course, the fury of Mother Nature and the battering of Hurricanes Katrina, Rita and Wilma left the biggest mark on the country. On the up side, the post hurricane months have once again shown the resilience of Americans as we begin the climb back from a national tragedy and look to make changes to avoid the same mistakes in the future.

While there was a severe economic setback following the hurricanes, the transportation industry, as it has done historically, has risen above each trauma and continued to help the economy recover. The industry is widely viewed by economic experts as a leading indicator of the economic swing. There is every reason to believe that will continue to be the case as we see truck tonnage rise and freight capacity again hitting crunch levels at year end. The Census Bureau issued its 2004 report in December 2005, showing that truck transportation reached $186 billion in 2004, with general freight trucking bringing in 2/3 of that revenue and specialized freight making up the balance. Motor carrier revenues were up 10.5% overall, with hazardous material transportation showing an increase of 9.4% to $10 billion. Final numbers for 2005 will not be available for scone time, but while freight tonnage was down substantially at mid-year, in part because of the delays associated with the hurricanes, it began a steady increase in the fall, lending hope to the possibility that numbers will equal last years numbers. The ATA reports that September, October and November all saw freight tonnage increases, the first consecutive increases in well over a year. This bodes well for future economic growth.

As the year drew to a close, fuel costs were also finally beginning to slow down after jet rocket increases. At the start of the year the country was aghast at the fact that diesel fuel prices had reached $1.96. Looking back we would be most happy to have those numbers today. By the end of October the average price in the U.S. had spiked to $3.158, and reports and studies were flying as to how many companies would be put out of business by year’s end. It is amazing that we are thankful that we closed the year at $2.448, a substantial increase from the price at the beginning of the year that was so shocking at the time. The ATA increased its estimate on the cost of fuel purchased to $85 billion this year, a $23 billion dollar increase.

Driver shortages still continue to plague the industry. A study released this year indicated that 20,000 drivers are currently needed to make up the short fall. If the numbers continue to follow this pattern, by 2014 the anticipated shortfall is expected to reach 111,000. By mid-year 2005 driver turnover rate for large truckload carriers had jumped to 129%. The past year has seen a number of organizations begin a push toward winning government approval for increased truck weights and use of triple trailers as a proposed solution to the driver shortage. However, as the ATA has not indicated support for those changes they are unlikely to be a viable option for trucking companies anytime soon.

Few people stop to recognize the importance of the Department of Defense as a customer of the transportation industry. It is by far one of the largest shippers, as it moves equipment, products, personal and household goods throughout the world. The Military Traffic Management and Command, which long governed the movement of household goods, has now evolved into the Surface Deployment and Distribution Command. This organization completes over 500,000 moves annually at a cost of $2 billion. One of the major initiatives of this organization is the implementation of Families First, a program designed to assure, among other things, that service personnel obtain full replacement cost recovery for any goods lost or damaged in transport. Underwriters of these accounts should be aware of the additional exposure now taken on by the motor carrier. The Department of Defense also appears to be moving forward on the Defense Transportation Coordination Initiative which seeks to shift management of large shipments to one third party logistics provider. Transportation groups are opposed to implementation of this protocol fearing that a single coordinator will reduce the number of vendors and impact the Department of Defense supply chain.

Tort reform continues to be a critical issue for insurers and truckers, who often face enormous judgments based solely on the fact that an accident involved a truck. The top five judicial hellholes for 2005 were located in Rio Grande Valley and Gulf Coast, Texas; Cook County, Illinois; West Virginia; Madison County and St. Clair Counties, Illinois; and South Florida. In 2005, the President signed into effect the Class Action Fairness Act, while South Carolina and Missouri passed anti-forum shopping statutes. In early fall the House approved the Lawsuit Abuse Reduction Act which would require sanctions against attorneys who file frivolous lawsuit. On the downside, the Pennsylvania Supreme Court held that state’s effort at tort reform were unconstitutional. A recent Guy Carpenter & Company study indicates that overall the courts have been less hostile to corporate defendants and insurers this year.

No CAB yearly resumé would be complete without some mention of the fact that the Mexico/U.S. border is still not open for full operation. While most of the hurdles have been jumped, the two countries still need to reach accord on the transportation of hazardous materials and the type of inspections to be conducted at the border.

Government Activity

The Highway Spending Act was finally enacted, two years after the last bill expired. In addition to a $286.4 billion dollar budget, the Act contains a number of items which will affect the insurance and transportation industries, hopefully in a positive way. The hard fought ban on state liability without fault laws was authorized, freeing truck leasing and rental companies from liability for accidents caused by drivers. The Federal Motor Carrier Safety Administration (FMCSA) was instructed to come up with a rulemaking within the year which will address the responsibility for container safety, hopefully taking the onus off truckers. They were also instructed to implement additional rules to permit greater penalties and monitoring of household goods carriers.

The House of Representatives introduced the Cargo Theft Prevention Act this year. The act is designed to coordinate cargo theft crime data collection and make improvements relating to cargo theft prevention. During the year the Act was incorporated into the USA Patriot and Terrorism Prevention Reauthorization Act. Although the Reauthorization Act was substantially modified, by year end the final approved version did include the Cargo Theft Prevention Act. The new Act will increase the criminal penalties for cargo theft and create an all-inclusive database regarding cargo theft to allow state and local law enforcement to coordinate reports of cargo theft. In addition, cargo theft will be reflected as a separate category in the Uniform Crime Reporting System used by the FBI which should hopefully enable tracking and monitoring of trends in cargo theft, which is estimated by the government to be up to $30 billion a year.

The FMCSA was on a roll this year. After years of delays in implementing rulemaking and procedures for transportation operations, the FMCSA has begun to dig itself out of the hole by issuing a substantial number of proposed rulemakings to address the issues left open by the ICC Termination Act in 1996. 2006 will see many organizations jockeying for their position in response to the proposed rules.

The most significant of all is the proposed rulemaking for a Unified Registration System. This rulemaking seeks a complete overhaul of government regulation over motor carrier operations and could have a substantial impact on carriers and insurers alike. One extremely contentious proposal is the elimination of the BMC-32 cargo filing. The battle lines have been drawn on that issue, as shippers, brokers, and many carriers oppose its removal. Insurers were divided on whether they wanted the filing rescinded. MC numbers, freight forwarder and Mexican carrier’s numbers may also be eliminated and insurance filing requirements may be extended to exempt for hire motor carriers, passenger carriers and private hazardous materials carriers. Comments have been filed by various organizations on all of these issues and we await the next step by the FMCSA.

The FMCSA has indicated that the coming year will focus on driver issues in order to insure road safety. The FMCSA is currently considering a network of approved physicians who will be trained to properly complete driver examinations and will also look to join CDL licenses with medical certifications.

In 2005 the FMCSA published its new rules for driver training of new drivers. However at year’s end the court had struck down the rules because they failed to address on-the-road training. As it did with the hours of service rules, the new rules remain in effect while the FMCSA considers amendments to comply with the court’s directive.
Hazardous material carriers saw some of the biggest changes in their operations this year. Background checks are now standard for those seeking new or renewal licenses but there are many problems with the program as it has been implemented. Various cities began implementing bans on hazardous materials being shipped within their jurisdiction. A legal attack is underway in D.C., which has banned hazardous materials within 2.2 miles of the U.S. Capitol building.

The Hours of Service rules continued to be an issue. Last year the Fourth Circuit Court of Appeals had rejected the rules after concluding that the FMCSA had failed to comply with its statutory mandate to evaluate the rules in relation to driver fatigue. The FMCSA attempted to have the rules codified as part of the highway bill, but that effort was rejected. By the fall the FMCSA had completed its study on driver fatigue and the rules were back in place, but not without continued attack by various groups. The FMCSA has rejected most requests for reconsideration, agreeing only to consider the effect of the rules on team drivers with sleep berths. A year end study by the Insurance Services Office indicates that the new rules have done little to reduce driver fatigue, a major factor in accidents.

In analyzing the operations of the FMCSA, the Government Accountability Office issued a recent report indicating that the FMCSA needs to improve its enforcement programs. While the FMCSA does implement various means of enforcement of rules, its evaluation of the effect of the enforcement does not meet its mandated goals of determining whether the programs actually accomplish the goals of the U.S. Department of Transportation (USDOT) in improving road operations. The FMCSA has indicated that steps will be taken in the coming year to correct this operating concern.

The insurance industry was greatly concerned at the end of 2004 when it appeared that Congressional action had been taken to eliminate financial reporting for motor carriers. Through our efforts, in conjunction with other organizations with these concerns, Congress mandated that the DOT address the issue. By the end of this year funding had been restored for the collection of the financial data and we expect that things will get back in line in the early part of the year. We urge you to continue to require financial reporting by your insured; and to submit those statements to us for evaluation by our team of analysts.

While the country coped with natural disaster issues, terrorist threats remain a viable concern. Regulations continue to be enacted to protect the stream of commerce and assure the safety of the country. The Greenlane Maritime Cargo Security Act was proposed late in the year. The Act is designed to implement protocols and procedures to prevent the use of cargo containers as arsenals to bring weapons and terrorists into the country. It would offer competitive advantages to shippers who voluntarily comply with the highest security standards and would also create and fund a new Office of Cargo Security Policy within the Department of Homeland Security.

The Motor Carrier Industry

Initially trucking was severely impacted by the hurricanes and the economic fallout that followed but the full effects will not be known for some time. But the hurricanes were not the only challenges faced by the industry in 2005. By the beginning of the 4th quarter trucking failures had already reached 1,680, well above last year’s totals. Much of this is tied to the rising fuel and insurance prices, as well as the driver shortage.

Motor carriers, once again, showed that they continue to exemplify the values of America in their response to the national disasters this year. There were emergency suspensions of many trucking regulations in order to permit truckers to aid in disaster relief. They responded in a big way, providing trucks, supplies and money and reaching out to help the lives of many in small ways. We applaud all those companies and drivers who took time out to help their fellow countrymen.

Transportation, as an industry, has continued to evolve to meet the needs of commerce. In early years each company fell into one category – be it warehousing, brokerage, short-haul, long-haul or dedicated service, among others. In today’s global economy, those companies which look to survive have expanded to provide multi-service operations. There were a number of large mergers this year as LTL carriers and third party logistics providers looked to join operations to gain market share and extend their operations. This combination of services requires underwriters to focus on the over-all operations and evaluate the various risks which the insured has in all its different operations before determining the proper coverage to be provided.

As a whole, trucking has placed a strong focus on safety and reducing accidents. There is recognition that money spent on safety is well spent to insure a company’s health. A recent FMCSA study has determined that a motor carrier operating at a 2% profit margin needs revenues of $2.5 million to offset every $50,000 in accident losses, with the average crash costing $62,613 (2003 dollars). Understanding the relationship between accidents and revenues becomes even more important when considering the fact that even only a few small accidents can so substantially impact a motor carrier’s operations that it will be put it out of business. This year, built-in-stability control systems, collision avoidance radar technology, in-truck cameras and sensors, and lane departure warning systems were being marketed and tested by various truckers and insurers. The cost of these systems, when considered in light of the savings for each accident, makes the systems even more attractive. Many of the new truck models will include some of these features. While in the long term trucking companies will save money as a result of the new safety features, the cost of these features will require trucking companies to have sufficient resources. This is yet another reason to closely monitor the financial condition of insureds; to make sure they have the resources to be using the best equipment. Truck sales are expected to be high this year, as new regulations on emissions standards go into effect with vehicles manufactured in 2007. Many carriers have indicated that they will look to replace older equipment with tractors still available under the older standards.

Despite the unprecedented surge and volatility in diesel prices during the third quarter, the nation’s publicly traded trucking companies saw revenues grow at the same rate as expenses, and operating profits grew at about the same rate as in the second quarter. For the three months ended Sept. 30, public carriers posted revenues that were 12.8 percent higher than the same 2004 period. Expenses also were about 12.8 percent higher and operating profits grew 12.6 percent. Third-quarter growth in revenues, expenses and operating profits were very close to the growth reported in the second quarter. Mergers and acquisitions also continued this year, with some large carriers swooping up smaller regional carriers or simply purchasing other large carriers.

Truck fatalities are on the rise. The National Highway Traffic Safety Administration indicates that for a second straight year the numbers have increased. In mid year, the NHTSA revised its prior report which indicated that fatalities may have decreased. It was later determined that in 2004 there were 5,190 truck fatalities. An end of the year study showed that most of those occurred in rural areas, with rollovers and multiple deaths more likely on the rural roads.

This year saw the Teamsters break from the AFL-CIO, an historical move for the labor movement. The Teamsters and six other unions have joined together to form a new coalition called Change to Win. The initial focus of the new coalition will be to organize drivers and other transportation sector employees.

In the coming year the transportation industry has indicated that it will focus its legislative efforts on the need for a new national transportation strategy, involving truck, rail and air carriers. Attention will also be placed on the continuing challenges to the hours of service rules, the proposal to cut the required stopping distance, planned rulemaking on the use of electronic onboard recorders and the possible imposition of security regulations which will require inspection and tracking requirements for shippers and carriers.

Insurance Underwriting

As the year began many insurers were under attack by various state attorneys general about their insurance practices. Brokers and insurers have entered into settlement agreements during the course of this year and attention seems to have moved away from some of those issues. Following the hurricanes most insurers were focused on evaluating catastrophe models and coverage issues related to wind and flood losses. The various state regulators most substantially impacted by the hurricanes have shifted their eyes to finding ways to obtain coverage for all losses suffered in the hurricanes, regardless of policy exclusions.

The insurance industry was hit hard with worldwide catastrophic losses this year, even without the possibility of increased losses if coverage issues are resolved against insurers. Advisen Ltd. estimated worldwide insurance and reinsurance losses related to the three major hurricanes that hit the United States this year would amount to $57.6 billion, making the cumulative catastrophe losses the largest on record. Advisen projects pretax insured losses per hurricane to be $40.4 billion for Katrina, $6.4 billion for Rita and $10.8 billion for Wilma.

Although the exact amount of losses will not be known for awhile, the industry as a whole seems to have withstood the onslaught. At years end the P & C industry's net income after taxes is stated to have risen 4.4%, or $1.2 billion, to $28.8 billion in nine-months 2005 from $27.6 billion in nine-months 2004. Overall the combined ratio rose 2.2 percent to 100% during the first nine months of the year. While that number would appear high it must be considered that the combined ratio was the second best nine month ratio since 1986. These figures were released by ISO and Property Casualty Insurers Association of America.

Prior to the hurricanes the market had continue to soften from the last few harder years. It is predicted that the costs of the hurricane will drive premiums higher, as reinsurance premium increases. LTL carriers are expected to be hit harder as they tend to have greater risks, with more terminal exposure then a truckload carrier. Umbrella and excess coverage is also expected to increase for these carriers.

Under an amended Terrorism Risk Insurance Extension Act (TRIA) law, insurance companies' loss retention will grow incrementally over the next two years, but will vary depending on the severity, location and timing of the attack and on the insurer's overall exposure. The Act was signed into law as the year drew to a close and extends the Terrorism Risk Insurance Act of 2002 (TRIA) through the end of 2007.

Central Analysis Bureau

Now, more than ever, Central Analysis Bureau is the one stop source for the information you need to “know your insured”. During the past year we have introduced two new programs to help underwriters by providing the information they need when they need it in a user-friendly format.

These programs are still works in progress as we listen to our early subscribers and make refinements based on their feedback. As always, Central Analysis Bureau is dedicated to meeting the needs of underwriters and we will continue to work to expand and improve these programs in the year ahead. However, the current subscribers to these programs are already reaping the benefits of being able to make better decisions and minimize their liability under regulatory filings.

We urge all the subscribers to our financial analysis service who are not familiar with these new programs and those who do not subscribe to any CAB service currently to learn more about these valuable programs. To get more information about these programs or to schedule a demonstration please contact Judy Silpe at (212) 244-6575, extension 206 or jsilpe@cabfinancial.com

The first of our new programs is the Insurance Filing Monitoring program. Monthly, we scan through all the outstanding filings that an insurance company has registered with the U.S. Department of Transportation. Each individual filings is analyzed to determine whether or not it falls under any of the following categories which can potentially mean an insurance company is exposed to unnecessary liability: Filings with effective dates 5 years old or older; filings on behalf of carriers whose authority has either been revoked or never granted; filings utilizing a form that results in an effective filings with no dollar limit; filings for amounts in excess of the USDOT required limit; unnecessary cargo filings on behalf of contract carriers; filings for brokers (a broker does not require a filing); filings on behalf of Mexican carriers (filings not required for Mexican carriers). We then send subscribers reports which list all the potentially problematic filings, specifically highlighting new filings just made, and all outstanding filings for the subscribers insurance companies. Since an insurance company’s liability under a filing can range from $10,000 per accident for a cargo filing to up to $5,000,000 for a BIPD filing, avoiding even one payout from an unnecessary filing or limit will pay for the cost of this program for many years.

The second new program is the Safety Monitoring Program. The USDOT now collects a large amount of safety related information about motor carriers. This information comes from USDOT audits, roadside inspections, accident reports and other government operations. However, this information is spread over a number of different databases and some of the information is not available on any government website. The Safety Monitoring Program compiles this information all together on one report. It consists of three parts. First is a baseline report on all insureds that gives all the available data. Second is an update report that highlights changes in information that may indicate a problem or deterioration. Third is a report that is provided prior to the policy renewal date so that the underwriter will have a fresh report in an easy to understand format just at the time it is most needed. This program is designed to give underwriters the tools to be alerted to possible safety problems quickly so that action can be taken before there is a serious impact on underwriting results.

In our excitement over these new programs and how they can help underwriters to know their insureds and to make better decisions we certainly do not want to neglect our bedrock financial analysis service. In fact, in the current climate of high energy prices, monitoring the financial condition of your insureds, which is always important, is essential. As we wrote about in Bits and Pieces during 2005, a recent study has shown a correlation between fuel prices and bankruptcies and the conclusions of this report are supported by indications that trucking company failures increased substantially during 2005.

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.

Also, at renewal time automatic subscribers can use our “clearinghouse” to access the most current information in our files and can send us updated financial information for our review. Even for written accounts there is only one charge per year, regardless of how many times you use the “clearinghouse” to access information on that account or how often a subscriber asks us to review updated financial information received from an insured and send to us. Our service is structured this way to encourage underwriters to get frequent updates to their insured’s financials statements because financial condition can change rapidly.

For insurance companies who are subscribers both to our financial analysis service and our safety monitoring program we are planning to integrate our most recent financial analysis into the renewal report. This will allow underwriters at renewal time to have together financial and safety information. Where current financial information is not available this will be highlighted and the underwriter will have the time to secure this information, send it to us and have it analyzed before a decision is made on renewal.

Automatic subscribers to our financial analysis service get substantial discounts on our two new programs.

We continue to be gratified by all the positive comments we receive about our monthly e-mail newsletter, “Bits and Pieces”. We all get way too many e-mails in our inbox but this is one that we have been told many await every month and find to be a “must read”. This newsletter, which is sent free of charge to all subscribers, 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. As the government issues or changes rules and as the various courts of the land opine this newsletter gives underwriters the information to keep policies up to date. If you do not currently receive this newsletter but would like to please e-mail Mark Schweber at mschweber@cabfinancial.com.

In 2006 we have plans for more ways to help underwriters “know their insureds” so watch “Bits and Pieces” for further updates. For example, we have secured from the USDOT detailed information on individual inspections and accident reports and are working on ways to best present this information to underwriters.

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"