Question-and-Answer Session
Operator
Thank you. (Operator instructions) And our next question comes from the line of Matt Carletti from Fox-Pitt Kelton. Please go ahead.
Matt Carletti – Fox-Pitt Kelton
Good morning, guys.
Allen Bradley
Good morning, Matt.
Matt Carletti – Fox-Pitt Kelton
Couple of questions. First one is probably for you, Geoff. Could you go back to the – you have some comments on the new reinsurance policy and the benefit it had to the expense ratio, could you just a little bit more color on how that works and is the kind of 20% range, is that a run rate going forward or is that more related to just experience in this quarter?
Geoff Banta
No, let me tell you, I'll try to keep my comments brief but to the point, Matt, on this rather interesting agreement that is, by the way, documented in the 8-K that we released on February 15. But, if you take our gross earned premium, the gross rate that we're being charged for this FOREX of one cover is 4.85%. We then get a 30% ceding commission, which brings our net rate down to 3.4%. By the way, the ceding commission runs back through the expense lines as well, but it's different from the experience rated commission. Okay. So, we now pay a net rate of 3.4% on a quarterly basis. The reinsurers under this three-year agreement get a 14% profit share. The remaining 86% goes into an experience fund that until losses occur over the 20 million aggregate annual deductible, remain as an offset to expenses.
Matt Carletti – Fox-Pitt Kelton
Okay.
Geoff Banta
Should losses exceed the $20 million AAD, those – that commission, that experience rated commission, those moneys begin moving to ceded losses from expenses. So, you can see that if we were to hit $25 million, let's say, for the first year, in the fourth quarter, there would be a little bit of a change and expense ratio would go up and loss ratio would go down accordingly.
Matt Carletti – Fox-Pitt Kelton
Got you.
Geoff Banta
But, the EITF and the FASB do not allow us to accrue toward some sort of projection. You can't make that. You can't begin depositing into that loss fund until you actually have those losses – those recoverables recorded.
Matt Carletti – Fox-Pitt Kelton
Okay. That's very helpful.
Allen Bradley
Let me just talk a little bit about the strategy that we employed in purchasing this product. There were two things, two objectives we wanted to accomplish with respect to this working layer, which is a layer that attaches at $1 million and covers the next $4 million of subject losses. The first objective was we felt like we had reliable experience over the last six years, a steady book of business and we had fairly predictable burn cost. And so, we did not want to trade dollars with our reinsurers, so we retained the first $20 million of losses as its respects the FOREX one layer. The second objective was that during this time period of a softer market, we thought it prudent to move down retention from 2 million to 1 million once you get past what could be expected losses. So we moved that down. And these two strategies combined were what led us to purchase this product, which is a three-year product.
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