Palomar Holdings Inc

Palomar Holdings,** Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements (Unaudited)

1. Summary of Operations and Basis of Presentation

Summary of Operations

Palomar Holdings, Inc. (the “Company”) is a Delaware incorporated insurance holding company that was founded in2014. The Company has several wholly owned subsidiaries including an Oregon domiciled insurance company, Palomar Specialty Insurance Company (“PSIC”), a Bermuda based reinsurance company, Palomar Specialty Reinsurance Company Bermuda Ltd. (“PSRE”), an Arizona domiciled surplus lines insurance company, Palomar Excess and Surplus Insurance Company (“PESIC”), a California domiciled property and casualty insurance agency, Palomar Insurance Agency, DBA Palomar General Insurance Agency (“PGIA”), and a Delaware incorporated management company, Palomar Underwriters Exchange Organization, Inc. ("PUEO"), that provides services to Laulima Exchange (“Laulima”), a Hawaii domiciled reciprocal exchange, as its attorney-in-fact.

Basis of Presentation

The accompanying condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and include the accounts of the Company and its wholly‑owned subsidiaries. The condensed consolidated financial statements also include the accounts of Laulima, as Laulima is a variable interest entity ("VIE") for which the Company is the primary beneficiary. Within footnote7, certain prior year amounts have been reclassified to conform to the current year presentation.

These condensed consolidated financial statements donot contain all information and footnotes required by U.S. GAAP for complete consolidated financial statements. For a more complete description of the Company’s business and accounting policies, these condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Company’s Annual Report on Form10-K for the year ended* December 31, 2023*, filed with the SEC on* February 23, 2024 (the“2023* Annual Report on Form10-K”). In the opinion of management, all adjustments necessary for a fair presentation of the condensed consolidated financial statements have been included. Such adjustments consist only of normal recurring items. All intercompany balances and transactions have been eliminated in consolidation. Interim results arenot necessarily indicative of results of operations for the full year.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect amounts reported in the condensed consolidated financial statements and accompanying notes. Such estimates and assumptions could change in the future as more information becomes known, which could impact the amounts reported and disclosed herein. All revisions to accounting estimates are recognized in the period in which the estimates are revised. Significant estimates reflected in the Company’s condensed consolidated financial statements include, but arenot limited to, reserves for losses and loss adjustment expenses, reinsurance recoverables on unpaid losses, and the fair values of investments.

Recent Accounting Pronouncements

Recently adopted accounting pronouncements

The Company hasnot adopted any new accounting guidance during thenine months ended* September 30, 2024*.

Recently issued accounting pronouncementsnot* yet adopted*

Segment Reporting

In* November 2023,the FASB issued ASUNo.* 2023-07, Segment Reporting (Topic280*): Improvements to Reportable Segment Disclosures*, which is intended to improve reportable segment disclosure requirements, primarily through enhanced disclosures about significant segment expenses, allowing financial statement users to better understand the components of a segment's profit or loss to assess potential future cash flows for each reportable segment and the entity as a whole. The amendments expand a public entity's segment disclosures by requiring disclosure of significant segment expenses that are regularly provided to the chief operating decision maker ("CODM"), clarifying when an entity* mayreportone* or more additional measures to assess segment performance, requiring enhanced interim disclosures, providing new disclosure requirements for entities with a single reportable segment, and requiring other new disclosures. ASU2023-07 is effective for fiscal years beginning after* December15,* 2023, and interim periods within fiscal years beginning after* December15,* 2024. Early adoption is permitted. The Company is currently evaluating the impact the adoption of this standard will have on its consolidated financial statements.

Income Taxes

In* December 2023,the FASB issued ASUNo.* 2023-09, Income Taxes (Topic740*): Improvements to Income Tax Disclosures*. ASU2023-09 requires public business entities to disclose additional information with respect to the reconciliation of the effective tax rate to the statutory rate. Additionally, public business entities will need to disaggregate federal, state and foreign taxes paid in their financial statements. ASU2023-09 is effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after* December 15, 2024.*The Company is currently evaluating the impact the adoption of this standard will have on its consolidated financial statements.

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2. Investments

The Company’s available‑for‑sale investments are summarized as follows:

Security holdings in an unrealized loss position

As of* September 30, 2024*, the Company held 399 fixed maturity securities in an unrealized loss position with a total estimated fair value of $387.5 million and total gross unrealized losses of $23.6 million. As of* December 31, 2023*, the Company held 483 fixed maturity securities in an unrealized loss position with a total estimated fair value of $451.0 million and total gross unrealized losses of $34.3 million.

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The aggregate fair value and gross unrealized losses of the Company’s investments aggregated by investment category and the length of time these individual securities have been in a continuous unrealized loss position as of* September 30, 2024* and* December 31, 2023*, are as follows:

The Company reviews all securities with unrealized losses on a quarterly basis to assess whether the decline in the securities fair value necessitates the recognition of an allowance for credit losses. The Company considers numerous factors in its review as described in Footnote1 of the Notes to the Consolidated Financial Statements in the2023 Annual Report on Form10-K.

The Company has recorded an immaterial allowance for credit losses fortwo investment securities. Based on the Company’s review as of* September 30, 2024*, for the remainder of securities, the Company determined that the fixed maturity securities’ unrealized losses were primarily the result of the interest rate environment andnot the credit quality of the issuers. The Company doesnot intend to sell the investments and it isnot more likely thannot that the Company will be required to sell the investments before the recovery of their amortized cost basis.

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Contractual maturities of available‑for‑sale fixed maturity securities

The amortized cost and fair value of fixed maturity securities at* September 30, 2024*, by contractual maturity, are shown below.

Expected maturities* maydiffer from contractual maturities because borrowers may*have the right to call or prepay obligations.

Net investment income summary

Net investment income is summarized as follows:

Net realized and unrealized investment gains and losses

The following table presents net realized and unrealized investment gains and losses:

Realized gains and losses on disposition of investments are based on specific identification of the investments sold on the settlement date.

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Proceeds from the sale of fixed maturity securities were $3.2 million and insignificant for thethree months ended* September 30, 2024and2023*, respectively.

Proceeds from the sale of fixed maturity securities were $5.4 and $9.8 million for thenine months ended* September 30, 2024and2023*, respectively.

The Company places securities on statutory deposit with certain state agencies to retain the right to do business in those states. These securities are included in available‑for‑sale investments on the balance sheet. As of* September 30, 2024* and* December 31, 2023*, the carrying value of securities on deposit with state regulatory authorities was $7.8 million and $8.6 million, respectively.

The Company has investments in limited partnerships, recorded in the Other Investments line of the Unaudited Condensed Consolidated Balance Sheets. These investments are measured at estimated fair value utilizing a net asset value per share (or its equivalent) as a practical expedient. As of* September 30, 2024*, the Company had unfunded commitments to invest an additional $50.1 million in these limited partnerships.

3. Fair Value Measurements

Fair value is defined as the price that the Company would receive upon selling an investment in an orderly transaction to an independent buyer in the principal or most advantageous market of the investment.

The three‑tier hierarchy of inputs is summarized in thethree broad levels listed below:

Level1—Unadjusted quoted prices are available in active markets for identical investments as of the reporting date.

Level2—Pricing inputs are quoted prices for similar investments in active markets; quoted prices for identical or similar investments in inactive markets; or valuations based on models where the significant inputs are observable or can be corroborated by observable market data.

Level3—Pricing inputs into models are unobservable for the investment. The unobservable inputs require significant management judgment or estimation.

To measure fair value, the Company obtains quoted market prices for its investment securities from its outside investment managers. If a quoted market price isnot available, the Company uses prices of similar securities. The fair values obtained from the outside investment managers are reviewed for reasonableness and any discrepancies are investigated for final valuation.

The fair value of the Company’s investments in fixed maturity securities is estimated using relevant inputs, including available market information, benchmark curves, benchmarking of like securities, sector groupings, and matrix pricing. An Option Adjusted Spread model is also used to develop prepayment and interest rate scenarios. Industry standard models are used to analyze and value securities with embedded options or prepayment sensitivities. These fair value measurements are estimated based on observable, objectively verifiable market information rather than market quotes. Therefore, these investments are classified and disclosed in Level2 of the hierarchy.

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The following tables present the hierarchy for financial assets and liabilities measured at fair value on a recurring basis as of* September 30, 2024* and* December 31, 2023*.

The carrying amounts of financial assets and liabilities reported in the accompanying condensed consolidated balance sheet including cash and cash equivalents, restricted cash, receivables, reinsurance recoverable, and accounts payable and other accrued liabilities approximate fair value due to their short term‑maturity. The carrying amount of any borrowings under the Federal Home Loan Bank (“FHLB”) line of credit and U.S. Bank credit agreement (the “Credit Agreement”) approximate fair value as the credit agreements have variable rates which frequently reprice at market rates.

Transfers between Level3 and Level2 securities result from changes in the availability of observable market inputs and are recorded at the beginning of the reporting period. As of* September 30, 2024* and* December 31, 2023*, the Company hadno fixed income securities classified as Level3.

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4. Reserve for Losses and Loss Adjustment Expenses

The following table represents a reconciliation of changes in the ending reserve balances for losses and loss adjustment expenses (“LAE”):

Considerable variability is inherent in the estimate of the reserve for losses and LAE. Although management believes the liability recorded for losses and LAE is adequate, the variability inherent in this estimate could result in changes to the ultimate liability, which* may*be material to stockholders’ equity.

The Company experienced favorable prior year development of $0.2 million and adverse prior year development $1.0 million during thethree months ended* September 30, 2024and2023*, respectively.

The Company experienced favorable prior year development of $2.6 million and adverse prior year development of $3.7 million during thenine months ended* September 30, 2024and2023*, respectively.

Favorable prior year development during thethree months ended* September 30, 2024* was primarily due to lower than anticipated severity of attritional losses. Adverse prior year development during thethree months ended* September 30, 2023* was primarily due to higher than anticipated severity of attritional losses, offset by lower than anticipated severity of catastrophe losses.

Favorable prior year development during thenine months ended* September 30, 2024* was primarily due to lower than anticipated severity of attritional losses. Adverse prior year development during thenine months ended* September 30, 2023* was primarily due to higher than anticipated severity of attritional losses, offset by lower than anticipated severity of catastrophe losses.

5. Stockholders’** Equity**

As of* September 30, 2024* and* December 31, 2023*, the Company had 5,000,000 preferred shares authorized with a par value of $0.0001 andno preferred shares issued and outstanding. As of* September 30, 2024* and* December 31, 2023*, the Company had 500,000,000 common shares authorized and 26,452,242 and 24,772,987 common shares issued and outstanding, respectively, with a par value of $0.0001. Additional paid in capital was $486.2 million as of* September 30, 2024* and $350.6 million as of* December 31, 2023*.

In* August 2024,the Company completed a registered sale ( August 2024Secondary Offering) of 1,380,000 shares of common stock at a public offering price of $88.00 per share, inclusive of 180,000 shares sold pursuant to the underwriter’s option to purchase additional shares. Our net proceeds from the August 2024*Secondary Offering were approximately $115.7 million, after deducting underwriting discounts and commissions and offering costs.

Common stock reserved for future issuance

Common stock reserved for future issuance consists of the following as of* September 30, 2024*:

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Stock based compensation

The below table summarizes the Company’s stock-based compensation expense for each period presented:

Stock-based compensation expense is recognized on a straight-line basis over the vesting period of equity-based awards. For performance stock units (“PSUs”), any changes to expense resulting from differences in actual performance versus target are recognized over the remaining vesting period of the awards. The Company doesnot apply a forfeiture rate to unvested awards and accounts for forfeitures as they occur. All stock-based compensation is included in other underwriting expenses in the Company’s unaudited condensed consolidated statement of income and comprehensive income.

2019 Equity Incentive Plan

On* April 16, 2019,the Company's2019* Equity Incentive Plan (the*“2019* Plan”) became effective. The2019 Plan provides for the grant of stock options, stock appreciation rights, restricted stock, restricted stock units (“RSUs”), performance shares and units, and other cash-based or share-based awards. In addition, the2019 Plan contains a mechanism through which the Company* may*adopt a deferred compensation arrangement in the future.

A total of 2,400,000 shares of common stock were initially authorized and reserved for issuance under the2019 Plan. This reserve increases on* January 1of each year through2029* by an amount equal to the smaller of:3% of the number of shares of common stock issued and outstanding on the immediately preceding* December 31,*or an amount determined by the board of directors.

Stock Options

Recipients of stock options can purchase shares of the Company’s common stock at a price equal to the stock's fair market value on the grant date, determined by the closing price of the Company's common stock on the grant date. Stock options vest over a period betweentwo andfour years with between 25% and 50% vesting on thefirst anniversary of the grant date and the remainder vesting monthly over the remaining period, subject to continued service to the Company. Stock options expireten years after the grant date.

The following table summarizes stock option transactions for thenine months ended* September 30, 2024*:

As of* September 30, 2024*, the Company had approximately $0.3 million of total unrecognized stock-based compensation expense related to stock options expected to be recognized over a weighted-average period of 0.4 years.

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Restricted Stock Units

RSUs are valued using the closing price of the Company’s common stock on their grant date. The Company has issued RSUs with vesting periods ofone tofive years. All vesting is subject to continued service.

The following table summarizes RSU transactions for thenine months ended* September 30, 2024*:

As of* September 30, 2024*, the Company had approximately $16.8 million of total unrecognized stock-based compensation expense related to RSUs expected to be recognized over a weighted-average period of 1.9 years.

Performance Stock Units

The Company issues PSUs with a combination of service, performance, and market conditions.

The majority of PSUs were issued via grants made to certain executives during2021. These PSUs are earned based on the achievement of stock price milestones. If the Company’s stock price reaches and remains at certain milestones for 30 days, the PSUs shall become earned units and will vest upon completion of a requisite service period of approximately five years from the date of grant. As of* September 30, 2024*, none of the stock price milestones have been achieved.

For other PSUs outstanding, vesting of PSUs requires a period of future service and the number of shares that vest depends on performance relative to predetermined targets of the Company’s Gross Written Premiums and Adjusted Return on Equity as set by the Compensation Committee. Prior to2023, the PSU’s performance period was the fiscal year of the grant. Beginning in2023, the PSU’s performance period is primarily athree-year period beginning with the grant date. At the end of the performance period, the actual results are measured against the predetermined targets to determine the number of PSUs to be earned as compensation. The earned PSUs are also subject to a required service period of approximately three years from the grant date before vesting and being issued as common stock.

The following table summarizes PSU transactions for thenine months ended* September 30, 2024*:

The PSU grants above represent the number of shares that would vest based on achievement of all stock price milestones in the2021 executive stock grants and the 100% achievement of the predetermined performance conditions for the other PSU grants. The actual number of PSUs which will vest is subject to adjustment based on the Company’s actual stock price performance and financial performance relative to the predetermined targets. As of* September 30, 2024*, the Company had approximately $9.1 million of total unrecognized stock-based compensation expense related to PSUs expected to be recognized over a weighted-average period of 1.9 years.

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2019 Employee Stock Purchase Plan

On* April 16, 2019,the Company's2019* Employee Stock Purchase Plan (the*“2019* ESPP”) became effective. A total of 240,000 shares of common stock are initially authorized and reserved for issuance under the2019 ESPP. In addition, the2019 ESPP provides for annual increases in the number of shares available for issuance on* January 1of each year through2029,* equal to the smaller of 240,000 shares of the Company’s common stock or such other amount as* may*be determined by the board of directors.

Under the2019 ESPP, employees can purchase Company stock at a discount via payroll withholdings. The2019 ESPP is administered through employee participation in discrete offering periods. During each discrete offering period employee funds are withheld, and the stock purchase occurs upon the conclusion of the offering period. The Company issued 17,100 shares pursuant to the ESPP during thenine months ended* September 30, 2024*.

Share repurchases

In* January 2022,Company's the Board of Directors approved a share repurchase program which replaced the existing program and authorized the repurchase of up to $100 million of outstanding shares of common stock. The program ended on March 31, 2024andno shares have been repurchased in2024.* The Company accounts for share repurchases by charging the excess of repurchase price over the common stock’s par value entirely to retained earnings. All repurchased shares are retired and become authorized but unissued shares.

6. Accumulated Other Comprehensive Income

Changes in accumulated other comprehensive income (loss) (“AOCI”) are as follows:

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7. Underwriting Information

The Company has a single reportable segment and offers specialty insurance products. Gross written premiums (“GWP”) by product are presented below:

(1) - Beginning in2024, the Company has updated the categorization of its products to align with management's current strategy and view of the business. Prior year amounts have been reclassified for comparability purposes. The recategorization is for presentation purposes only and doesnot impact overall gross written premiums.

Gross written premiums by state are as follows:

Gross written premiums by insurance subsidiary are as follows:

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8. Income Taxes

The Company calculates its tax provision in interim periods using its best estimate of the effective tax rate expected for the full year. During thethree months ended* September 30, 2024*, the Company’s income tax rate of 20.8% was lower than the statutory rate of 21% due primarily to the tax impact of the permanent component of employee stock option exercises. During thethree months ended* September 30, 2023*, the Company’s income tax rate of 24.9% was higher than the statutory rate of 21% due primarily to non-deductible executive compensation expense.

For thenine months ended* September 30, 2024*, the Company’s tax rate of 22.2% was higher than the statutory rate due primarily to non-deductible executive compensation expense. For thenine months ended* September 30, 2023*, the Company’s tax rate of 24.0% was higher than the statutory rate also due primarily to non-deductible executive compensation expense.

9. Earnings Per Share

The following table sets out earnings per share of common stock:

Common share equivalents relate primarily to outstanding stock options, RSUs and PSUs under the2019 Plan and unpurchased shares under the2019 ESPP and are calculated using the treasury stock method.

10. Reinsurance

The Company utilizes reinsurance in order to limit its exposure to losses and enable it to underwrite policies with sufficient limits to meet policyholder needs. The Company utilizes both excess of loss (XOL) and quota share reinsurance.

As of* September 30, 2024*, the Company’s catastrophe event retention is $20 million for earthquake events and $15.5 million for hurricane events and all other perils, and the Company’s XOL reinsurance structure provides protection up to $3.06 billion for earthquake events, $735 million for Hawaii hurricane events, and $117.5 million for continental U.S. hurricane events.

In addition to reinsurance purchased from traditional reinsurers, the Company has historically incorporated collateralized protection from the insurance linked securities market via catastrophe bonds. During thesecond quarter of2022, the Company closed a $275 million144A catastrophe bond which became effective* June 1, 2022.This catastrophe bond was completed through Torrey Pines Re Ltd., a Bermuda-domiciled special purpose insurer that provides indemnity-based reinsurance covering earthquake events through June 1, 2025.During thesecond* quarter of2023, the Company closed a $200 million144A catastrophe bond which became effective* June 1, 2023.This catastrophe bond was also completed through Torrey Pines Re Ltd and provides indemnity-based reinsurance covering earthquake events through June 1, 2026.During thesecond* quarter of2024, the Company closed a $420 million144A catastrophe bond which became effective* June 1, 2024.This catastrophe bond was also completed through Torrey Pines Re Ltd and provides indemnity-based reinsurance covering earthquake events through June 1, 2027.*

11. Credit Agreements

U.S. Bank Credit Agreement

In* December 2021,the Company entered into a Credit Agreement with U.S. Bank National Association which provides a revolving credit facility of up to $100 million through December 8, 2026.Interest on the credit facility accrues on each SOFR rate loan at the applicable SOFR (as defined in the Credit Agreement) plus 1.75% and on each base rate loan at the applicable Alternate Base Rate (as defined in the Credit Agreement) plus 0.75%. A loan maybe either a SOFR rate loan or a base rate loan, at the Company’s discretion. Outstanding amounts under the Credit Agreement maybe prepaid in full or in part at any time withno* prepayment premium and* maybe reduced in full or in part at any time upon prior notice. In addition to interest on funds borrowed, the Company must pay an unused line fee of 0.25% on any amountsnot* borrowed.

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The Credit Agreement contains customary representations and warranties and customary affirmative and negative covenants, including, among other things, financial covenants, restrictions on indebtedness, liens, investments, mergers, dispositions, prepayment of other indebtedness and dividends and other distributions. The financial covenants include requirements to maintain a permissible debt to capital ratio, a minimum consolidated net worth, a minimum risk-based capital ratio and minimum A.M. Best financial strength rating. The Credit Agreement also contains customary events of default, such as non-compliance with financial covenants. If an event of default occurs, any debt* maybe declared immediately due and payable. As of September 30, 2024*, the Company was in compliance with all debt covenants.

As of* September 30, 2024* and* December 31, 2023*, the Company hadno borrowings outstanding on the Credit Agreement. Interest expense on the Credit Agreement was $0.1 million and $0.3 million for thethree andnine months ended* September 30, 2024*, respectively. Interest expense on the Credit Agreement was $0.1 million and $0.9 million for thethree andnine months ended* September 30, 2023*, respectively.

FHLB Line of Credit

The Company’s PSIC subsidiary is a member of the Federal Home Loan Bank of San Francisco (“FHLB”). Membership in the FHLB provides PSIC access to collateralized advances, which can be drawn for general corporate purposes and used to enhance liquidity management. All borrowings are fully secured by a pledge of specific investment securities of PSIC and the borrowing capacity is equal to 10% of PSIC’s statutory admitted assets. All advances have a predetermined term and the interest rate varies based on the term of the advance.

As of* September 30, 2024*, the Company hadno borrowings outstanding through the FHLB. Interest expense on the FHLB line of credit was immaterial and $0.8 million for thethree andnine months ended* September 30, 2024*, respectively. As of* December 31, 2023*, the Company had $52.6 million of borrowings outstanding through the FHLB at the overnight rate of 5.62%. Interest expense on the FHLB line of credit was $0.8 million and $2.1 million for thethree andnine months ended* September 30, 2023*, respectively.

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