UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
☑
☐
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2019
OR
For the transition period from to
Commission file number 001-37536
Conifer Holdings, Inc.
(Exact name of registrant as specified in its charter)
Michigan
(State or other jurisdiction of
incorporation or organization)
550 West Merrill Street, Suite 200
Birmingham, Michigan
(Address of principal executive offices)
27-1298795
(I.R.S. Employer
Identification No.)
48009
(Zip code)
(248) 559-0840
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Common Stock, no par value
Trading Symbol(s)
CNFR
Name of each exchange on which registered
The Nasdaq Stock Market LLC
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☑
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☑
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the
past 90 days. Yes ☑ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of
Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☑
No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging
growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2
of the Exchange Act.
Large accelerated filer ☐
Accelerated filer ☐ Non-accelerated filer ☐
Smaller reporting company ☑
Emerging growth company ☑
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or
revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☑
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☑
The aggregate market value of the registrant’s Common Stock held by non-affiliates at June 28, 2019 was approximately $21.3 million, based on the Nasdaq
closing price for such shares on that date. The registrant has no non-voting common equity.
The number of outstanding shares of the registrant’s common stock, no par value, as of March 12, 2020, was 9,592,861.
CONIFER HOLDINGS, INC. AND SUBSIDIARIES
Form 10-K
INDEX
Part I
Item 1.
Item 1A.
Item 1B.
Item 2.
Item 3.
Item 4.
Part II
Item 5.
Item 6.
Item 7.
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
Part III
Items 10-14.
Part IV
Item 15.
Signatures
Business
Risk Factors
Unresolved Staff Comments
Properties
Legal Proceedings
Mine Safety Disclosures
Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Selected Consolidated Financial Data
Management's Discussion and Analysis of Financial Condition and Results of Operations
Quantitative and Qualitative Disclosures About Market Risk
Financial Statements and Supplementary Data
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Controls and Procedures
Other Information
Exhibits and Financial Statement Schedules
Page No.
1
13
30
30
30
30
31
33
35
57
58
58
58
58
60
60
105
CONIFER HOLDINGS, INC. AND SUBSIDIARIES
PART I
ITEM 1. BUSINESS
Legal Organization
Conifer Holdings, Inc. (Nasdaq: CNFR) is a Michigan‑domiciled insurance holding company formed in 2009. Our principal executive offices are located at
550 W. Merrill, Suite 200, Birmingham, MI 48009 (telephone number: (248) 559-0840). Our corporate website address is www.cnfrh.com.
As used in this Form 10-K, references to “Conifer,” “Conifer Holdings,” “the Company,” “our Company,” “we,” “us,” and “our” refer to Conifer Holdings,
Inc., a Michigan corporation, and its wholly owned subsidiaries Conifer Insurance Company (“CIC”), Red Cedar Insurance Company (“RCIC”), White Pine
Insurance Company (“WPIC”), American Colonial Insurance Services and Sycamore Insurance Agency, Inc. (“SIA”). CIC, RCIC and WPIC are collectively
referred to as the "Insurance Company Subsidiaries." On a stand-alone basis Conifer Holdings, Inc. is referred to as the "Parent Company."
Business Overview
The Company is engaged in the sale of property and casualty insurance products and has organized its business model around three classes of insurance
businesses: commercial lines, personal lines, and wholesale agency business. Within these three businesses, the company offers various insurance products and
insurance agency services.
Through our Insurance Company Subsidiaries, we offer insurance coverage in specialty commercial and specialty personal product lines. Currently, we are
authorized to write insurance as an excess and surplus lines (“E&S”) carrier in 45 states including the District of Columbia. We are also licensed to write insurance
as an admitted carrier in 42 states, including the District of Columbia, and we offer our insurance products in all 50 states.
Our revenues are primarily derived from premiums earned from our insurance operations. We also generate other revenues through investment income and
other income which mainly consists of: installment fees and policy issuance fees generally related to the policies we write, as well as commission revenue to our
wholesale agency business from third-party insurers.
Many of our products are targeted to traditionally profitable classes of policyholders that we believe are under-served by other insurers. We market and sell
these insurance products through a growing network of over 7,200 independent agents that distribute our policies through approximately 2,200 sales offices. We
are focused on growing our business in non‑commoditized property and casualty insurance markets, while maintaining underwriting discipline and a conservative
investment strategy.
We have substantial expertise in serving the unique commercial insurance needs of owner‑operated businesses in the following markets:
•
•
•
Hospitality, such as restaurants, bars, taverns, and bowling centers (that require, among other lines, liquor liability insurance), as well as small grocery
and convenience stores;
Artisan contractors, such as plumbers, painters, carpenters, electricians and other independent contractors; and
Security service providers, such as companies that provide security guard services, security alarm products and services, and private investigative
services.
In our commercial lines business, we seek to differentiate ourselves and provide value to small business owner‑operators by bundling different insurance
products that meet a significant portion of their insurance needs. For example, in the hospitality market we offer property, casualty, and liquor liability, as well as,
in some jurisdictions, workers’ compensation coverage. The breadth of our specialty commercial insurance products enables our agents and their small business
clients to avoid the administrative costs and time required to seek coverage for each of these items from separate insurers. As such, we
1
compete for commercial lines business based on our flexible product offerings and customer service, rather than on pricing alone. Our target commercial lines
customer has an average account size of $5,500 in premium.
We also have substantial expertise in providing specialty homeowners insurance products to targeted customers that are often under-served by other
homeowners' insurance carriers. Our personal lines products primarily include low-value dwelling insurance tailored for owners of lower valued homes, which we
currently offer in Illinois, Indiana, Louisiana and Texas.
In our personal lines business, we target homeowners in need of specific catastrophe coverage or dwelling insurance that are currently under-served by the
insurance market, due to the modest value of their homes or the exposure to natural catastrophes in their geographic area. Because these homeowners are under-
served, this portion of the market is typically subject to less pricing pressure from larger nationwide insurers that offer a more commoditized product. We believe
our underwriting expertise enables us to compete effectively in these markets by evaluating and appropriately pricing risk. In addition, we believe our willingness
to meet these under-served segments of the personal lines insurance market fosters deeper relationships with, and increased loyalty from, the agents who distribute
our products. Our target personal lines customer has an average account size of $1,100 in premium.
Overall, we structure the multi-line distribution of our premium between commercial and personal lines to better diversify our business and mitigate the
potential cyclical nature of either market. In serving these markets, we write business on both an “admitted” and “E&S” basis. As of December 31, 2019,
approximately 46.3% of our gross written premiums were admitted, and approximately 53.7% were E&S. Insurance companies writing on an admitted basis are
licensed by the states in which they sell policies and are required to offer policies using premium rates and forms that are typically filed with state insurance
regulators. Carriers writing in the E&S market are not bound by most of the rate and form regulations imposed on standard market companies, allowing them the
flexibility to change the coverage offered and the rate charged without the time constraints and financial costs associated with the filing process. Our corporate
structure allows us to offer both admitted and E&S products in select markets through either CIC or WPIC. Our experience with specialty insurance products
enables us to react to new market opportunities and underwrite multiple specialty lines.
The wholesale agency business provides non-risk bearing revenue through commissions and policy fees. The wholesale agency business increases the
product options to the Company’s independent retail agents by offering both insurance products from the Insurance Company Subsidiaries as well as products
offered by other insurers. This segment has expanded during 2019.
Geographic Diversity and Mix of Business
Over the past several years, we have increased our focus on specific core commercial lines of business. As part of this business strategy, we have
deemphasized our Florida homeowners' business and other wind-exposed business in Texas and Hawaii. We plan to continue to shift focus to low-value dwelling
lines of business in order to bring personal lines premium levels back up and to maintain a strategic balance of commercial and personal lines of business.
While we pursue top line premium growth, we do not do so at the expense of losing underwriting discipline. Our underwriters have the experience and
institutional flexibility to recognize when to exit certain products in favor of more profitable opportunities as insurance market conditions dictate. The following
tables summarize our gross written premiums by segment and state for the years indicated therein (dollars in thousands):
2019
%
2018
%
2017
%
Commercial
Personal
Total
$
$
94,391
7,462
101,853
93%
7%
100%
$
$
97,694
6,674
104,368
94%
6%
100%
$
$
92,112
22,172
114,284
81%
19%
100%
Gross Written Premium by Segment
2
Michigan
Florida
Texas
New York
California
Pennsylvania
Ohio
Indiana
Colorado
New Jersey
Montana
All Other States
Total
2019
%
2018
%
2017
%
Gross Written Premiums by State
$
$
19,346
16,993
8,236
7,955
7,037
6,015
4,129
3,937
3,044
2,051
1,945
21,165
101,853
19.0%
16.7%
8.1%
7.8%
6.9%
5.9%
4.1%
3.9%
3.0%
2.0%
1.9%
20.7%
100.0%
$
$
19,822
23,389
6,509
3,845
5,691
6,503
4,025
3,914
2,835
4,884
2,433
20,518
104,368
19.0%
22.4%
6.2%
3.7%
5.5%
6.2%
3.9%
3.8%
2.7%
4.7%
2.3%
19.6%
100.0%
$
$
21,099
26,562
12,910
3,095
2,218
8,859
3,850
4,356
2,998
3,960
2,409
21,968
114,284
18.5%
23.1%
11.3%
2.7%
1.9%
7.8%
3.4%
3.8%
2.6%
3.5%
2.1%
19.3%
100.0%
The Conifer Approach
We have built our business in a manner that is designed to adapt to changing market conditions and deliver predictable results over time. The following
highlights key aspects of our model that contribute to our balanced approach:
•
•
•
•
•
Focus on under-served markets. We focus on providing specialty insurance products to targeted policyholders in under-served markets. We believe
that most of our small business customers, many of which are owner‑operated, value the efficiency of dealing with a single insurer for multiple
products. By targeting small- to medium-sized accounts, we add value to the business owner directly without competing solely on price.
Strong relationships with our agents. We develop strong relationships with our independent agents providing them with responsive service, attractive
commissions and competitive products to offer policyholders. We believe our agents understand that we view them as key partners in risk selection that
help us serve our ultimate client-the insured.
Deep understanding of the business and regulatory landscapes of our markets. The competition for insurance business and the regulatory operating
environment vary significantly from state to state. We focus on tailoring our business to concentrate on the geographic markets and regulatory
environments with the greatest opportunities for growth and profitability. Our business plan centers on identification of market opportunities in
jurisdictions where our insurance products can profitably suit the needs of our potential customers.
Emphasis on flexibility. We offer coverage to our insureds both on an E&S and admitted basis. We believe this flexibility enables us to pivot
effectively between E&S and admitted policies as customer needs and regulatory conditions dictate.
Conservative risk management with an emphasis on lowering volatility. We focus on the risk/reward of insurance underwriting, while maintaining a
prudent investment policy. We employ conservative risk management practices and opportunistically purchase reinsurance to minimize our exposure to
liability for individual risks. In addition, we seek to maintain a diversified liquid investment portfolio to reduce overall balance sheet volatility. As of
December 31, 2019, our investments primarily consisted of fixed income investments with an average credit rating of “AA” and a duration-to-worst
average of 3.0 years.
3
Our Competitive Strengths
We believe the following competitive strengths have allowed us to grow our business and will continue to support our strategic growth initiatives:
•
•
•
•
•
Talented underwriters with broad expertise. Our underwriters have significant experience managing account profitability across market cycles. With
an average of over 26 years of experience, our senior underwriters possess the required expertise to respond appropriately to market forces.
Controlled and disciplined underwriting. We underwrite substantially all policies to our specific guidelines with our experienced, in-house
underwriting team. We customize the coverages we offer, and continually monitor our markets and respond to changes in our markets by adjusting our
pricing, product structures and underwriting guidelines. By tailoring the terms and conditions of our policies, we align our actual underwriting risk with
the profit of each insurance account that we write.
Proactive claims handling. We employ a proactive claims handling philosophy that utilizes an internal team of experienced in-house attorneys to
manage and supervise our claims from inception until resolution. We pay what we owe, contest what we don't, and make sound judgment for those
claims that fall in between. Our proactive handling of claims reinforces our relationships with our customers and agents by demonstrating our
willingness to defend our insureds aggressively and help them mitigate losses.
Proven management team. Our senior management team has an average of over 26 years of experience in the insurance industry. Our senior
management team has successfully created, managed and grown numerous insurance companies and books of business, and has longstanding
relationships with many independent agents and policyholders in our targeted markets.
Ability to leverage technology to drive efficiency. We utilize a web‑based information technology system that creates greater organizational efficiency
in our company. Leveraging the infrastructure of programmers and support staff of third‑party vendors allows our in‑house business analysts to focus
on new product development and roll‑out. We believe this capability reduces our time to market for new products, enhances services for insureds,
increases our ability to capture data, and reduces cost.
Marketing and Distribution
Independent agents are our main distribution source. The selection of an insurance company by a business or individual is strongly influenced by the
business or individual’s agent. We seek to maintain favorable relationships with our select group of agents. Our distribution philosophy is to treat our agents as
partners, and we provide them with competitive products, personal service and attractive commissions. We believe these factors contribute to our positive agency
retention.
In 2019, our top six independent agencies accounted for approximately 33% of our gross written premiums in our commercial lines, and our top four
independent agencies accounted for approximately 27% of our gross written premiums in our personal lines. We have long term relationships with each of these
agencies. We anticipate our concentration in these agencies will decrease in future periods as we establish relationships with additional agencies, as part of our
strategic growth plan. Our Insurance Company Subsidiaries market and distribute their products mainly through an independent agency network, however we
utilize managing general agents and certain key wholesalers when appropriate.
We recruit our producers through referrals from our existing network of agents, word‑of‑mouth, advertisement, as well as direct contacts initiated by
potential agents. Our marketing efforts are directed through our offices in Michigan, Florida and Pennsylvania.
We view our agents as key partners in risk selection. We actively solicit their input regarding potential improvements to our business methods and consult
with them in developing new products and entering new customer markets. At the same time, we take careful measure to appropriately control and monitor our
agents’ operations. Controls include frequent review of the quality of business, loss experience and other mechanisms. We retain sole binding authority on the
majority of our business. Binding authority is only granted to select long-term agents. When binding authority is granted, we restrict this authority to a specific set
of guidelines that are provided to each agent. Moreover, our experienced underwriters review each risk to ensure the guidelines are followed.
4
In addition to marketing to individual agents, our Sycamore Insurance Agency reviews specific opportunities to write select business on a direct basis. SIA
also owns 50% of a small insurance agency that places small commercial risks, mainly for alarm and security guard markets.
Underwriting
We are focused on underwriting profitability and effective enterprise risk management. With an average of over 26 years of experience, our senior
underwriters have the experience to properly manage account profitability across market cycles.
Our underwriting philosophy for our specialty commercial risks in the hospitality industry is to look at each risk individually and selectively before writing
any policies. We remain focused on small- to medium-sized businesses where the owner is often on site and in a better position to efficiently and safely run the
overall operations. We understand the risks associated with the smaller enterprises and, due to lighter competition, believe we can receive a fair premium to
compensate for the risk taken.
With respect to commercial property coverages, we believe it is important to focus on the profitability of the insureds’ business, as well as the traditional risk
factors. Therefore, in addition to obtaining inspections on commercial risks, we strive to understand the insureds’ business operations and bottom line to verify the
underlying business is an acceptable risk.
All commercial and personal policy applications are underwritten according to established guidelines that have been provided to our independent agency
force. These guidelines have been integrated into our information technology system framework and only policies that meet our guidelines are accepted by our
system. Our underwriting staff has substantial industry experience in matching policy terms, conditions, and pricing to the risk profiles of our policyholders and
therefore strengthens our ability to achieve profitability in the product lines we write.
Commercial Lines. In writing commercial lines policies, we frequently employ tailored limiting endorsements, rating surcharges and customized limits to
align our product offerings to the risk profile of the class and the specific policyholder being underwritten. Furthermore, we consistently monitor our markets so
that we are able to quickly implement changes in pricing, underwriting guidelines and product offerings as necessary to remain competitive. We do not pursue
commercial product lines where competition is based primarily on price. We augment our own internally developed pricing models with benchmark rates and
policy terms set forth by the Insurance Services Office, or ISO. The ISO system is a widely recognized industry resource for common and centralized rates and
forms. It provides advisory ratings, statistical and actuarial services, sample policy provisions and other services to its members.
Personal Lines. We employ internal product managers to review our position relative to our competition, create better segmentation of pricing and originate
premium rate changes as appropriate. Consistent with industry practice, we grant our personal lines agents limited binding authority within our specific
guidelines. Once a completed application and premium payment are submitted to us, the application is placed in a bound status, and reviewed for final approval. If
the agent has underwritten and submitted the account according to our guidelines, we process the application as complete. If our guidelines have not been
followed, the application may be cancelled or updated and re‑submitted for further underwriting review.
Claims
We believe that effective claims management is vitally important to our success, allowing us to cost effectively pay valid claims, while vigorously defending
those claims that lack merit. Our claims department consists of experienced claims professionals located in Michigan, Florida, Pennsylvania and Texas. We utilize
a proactive claims handling philosophy to internally manage or supervise all of our claims from inception through final disposition. By handling our claims
internally, we can quickly assess claims, improve communication with our policyholders and claimants and better control our claims management costs.
5
We have several in‑house attorneys with considerable legal experience in trying cases in the lines of business we write. Included among these attorneys is
our head in‑house litigator, who consults on all trials and has 26 years of litigation experience. We also have numerous seasoned property and liability adjusters
which allow us to manage our claims exposures more carefully, across all markets. In addition, our claims professionals utilize a network of independent local
adjusters and appraisers to assist with specific aspects of claims investigations, such as securing witness statements and conducting initial appraisals in states where
it is practical to do so. These outside vendors are mainly compensated based on pre‑negotiated fee schedules to control overall costs.
Claims personnel are organized by line of business, with specific managers assigned as supervisors for each line of business. Reserving and payment
authority levels of claims personnel are set by our Senior Vice President of claims and our Executive Vice President. Those limits of authority are integrated into
our claims information technology systems to ensure strict compliance.
Initial claim reserves are determined and set using our statistical averages of paid indemnity and loss adjustment expenses by line of business. After
reviewing statistical data and consulting with our internal actuary, our senior vice president of claims, together with other members of management, set initial
reserves by line of business. Once initial reserves have been set, reserves are evaluated periodically as specific claim information changes to generate
management’s overall best estimate of reserves. In addition, claim reviews with in‑house adjusters and attorneys provide a regular opportunity to review the
adequacy of reserves. Changes to claims reserves are made by senior management based on claim developments and input from these attorneys and adjusters. We
utilize an in‑house, experienced and fully credentialed actuary to support our financial efforts.
Reinsurance
We routinely purchase reinsurance for our commercial and personal lines to reduce volatility by limiting our exposure to large losses and to provide capacity
for growth. In a reinsurance transaction, an insurance company transfers, or cedes, all or part of its exposure in return for a portion of the premium. We remain
legally responsible for the entire obligation to policyholders, irrespective of any reinsurance coverage we may purchase.
On September 28, 2017, the Company entered into an adverse development cover (ADC) reinsurance agreement to cover loss development of up to $17.5
million in excess of stated reserves as of June 30, 2017, for accident years 2005 through 2016. The agreement attaches when net losses exceed $1.4 million of the
$36.6 million carried reserves at June 30, 2017, and extends to $19.5 million in coverage up to $57.5 million. The company retains a 10% co-participation for any
development in excess of the retention.
Information relating to our reinsurance structure and treaty information is included within Note 6 ~ Reinsurance.
6
Loss Reserve Development
The following table presents the development of our loss and loss adjustment expenses ("LAE") reserves from 2010 through 2019, net of reinsurance
recoverables (dollars in thousands).
Net liability for losses and
loss expenses
Liability re-estimated as of:
One year later
Two years later
Three years later
Four years later
Five years later
Six years later
Seven years later
Eight years later
Nine years later
Ten years later
Net cumulative redundancy
(deficiency)
Deferred gain on ADC
Net cumulative redundancy
(deficiency)
Cumulative amount of net
liability paid as of:
One year later
Two years later
Three years later
Four years later
Five years later
Six years later
Seven years later
Eight years later
Nine years later
Ten years later
Gross liability-end of year
Reinsurance recoverable on
unpaid losses
Net liability-end of year
Gross liability re-estimated
-latest
Reinsurance recoverable on
unpaid losses re-estimated
-latest
Net liability re-estimated
-latest
Gross cumulative
redundancy (deficiency)
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
Year Ended December 31,
$
18,795 $
17,164 $
17,547 $
24,956 $
28,307 $
30,017 $
47,993 $
67,830 $
63,122 $
84,667
16,565
13,071
10,300
10,698
10,926
11,215
11,402
11,463
11,396
12,807
9,870
10,038
10,064
10,227
10,414
10,471
10,404
13,508
13,601
13,821
13,860
13,980
14,048
13,982
23,763
25,521
26,560
27,784
27,920
28,339
29,321
33,274
38,569
40,822
42,274
40,239
52,321
58,251
62,185
57,452
60,453
69,833
71,186
87,536
79,351
7,399
—
6,760
—
3,565
—
(3,383)
—
(13,967)
—
(32,168)
—
(21,840)
(5,677)
(19,706)
(5,677)
(16,229)
(5,677)
$
7,399 $
6,760 $
3,565 $
(3,383) $
(13,967) $
(32,168) $
(16,163) $
(14,029) $
(10,552)
$
4,112 $
6,277
8,302
9,372
9,971
10,799
11,219
11,416
11,387
3,383 $
6,092
7,917
8,788
9,730
10,167
10,398
10,373
5,186 $
9,106
11,444
13,015
13,522
13,903
13,878
13,245 $
19,711
23,241
26,056
27,217
27,280
16,091 $
24,060
32,699
37,474
40,438
20,020 $
35,972
50,676
58,317
29,533 $
56,962
61,168
44,521
62,369
29,520
32,047
29,574
24,843
28,909
31,532
35,423
54,651
87,896
92,807
107,246
13,252
18,795
12,410
17,164
7,296
17,547
3,952
24,957
3,225
28,307
5,405
30,018
6,658
47,993
20,066
67,830
29,685
63,122
22,579
84,667
21,928
18,453
20,055
34,570
50,697
78,588
103,066
140,980
124,581
10,532
8,049
6,073
6,230
8,423
16,402
33,233
53,444
45,230
11,396
10,404
13,982
28,340
42,274
62,186
69,833
87,536
79,351
$
10,119 $
11,121 $
4,788 $
(5,661) $
(19,165) $
(43,165) $
(48,415) $
(53,084) $
(31,774)
The first line of the table presents the unpaid loss and LAE reserves at December 31 for each year, including the incurred but not reported ("IBNR")
reserve. The next section of the table sets forth the re‑estimates of incurred losses from later years, including payments, for the years indicated. The
increase/decrease from the original estimate would generally be a combination of factors, including, but not limited to:
•
•
Claims being settled for amounts different from the original estimates;
Reserves being increased or decreased for individual claims that remain open as more information becomes known about those individual claims; and
7
•
More or fewer claims being reported after the related year end, than had been expected to be reported before that date.
As our historical data for a particular line of business increases, both in terms of the number of years of loss experience and the size of our data pool, we will
increasingly rely upon our own loss experience rather than industry loss experience in establishing our loss and LAE reserves. We plan to continue to apply
reserving practices consistent with historical methodologies.
Additional information relating to our reserves is included within the Losses and Loss Adjustment Expenses section of Note 1 ~ Summary of Significant
Accounting Policies and Note 5 ~ Unpaid Losses and Loss Adjustment Expenses of the Notes to the Consolidated Financial Statements, as well as in the Critical
Accounting Policies: Loss and Loss Adjustment Expense Reserves section of Item 7, Management’s Discussion and Analysis.
Regulation
Insurance Company Regulation
Our Insurance Company Subsidiaries are subject to regulation in the states where they conduct business. State insurance regulations generally are designed to
protect the interests of policyholders, consumers or claimants rather than shareholders or other investors. The nature and extent of such state regulation varies by
jurisdiction, but generally involves:
•
•
•
•
•
•
•
•
Prior approval of the acquisition of control of an insurance company or of any company controlling an insurance company;
Regulation of certain transactions entered into by such insurance company subsidiary with any of its affiliates;
Approval of premium rates, forms and policies used for many lines of admitted insurance;
Standards of solvency and minimum amounts of capital and surplus that must be maintained;
Limitations on types and concentration of investments;
Licensing of insurers and agents;
Deposits of securities for the benefit of policyholders; and
The filing of periodic reports with state insurance regulators with respect to financial condition and other matters.
In addition, state regulatory examiners perform periodic examinations of our Insurance Company Subsidiaries. The results of these examinations can give
rise to regulatory orders requiring remedial, injunctive or other corrective action.
Insurance Holding Company Regulation
We operate as an insurance holding company and are subject to regulation in the jurisdictions in which we conduct business. These regulations require that
each of our Insurance Company Subsidiaries register with the insurance department of its state of domicile and furnish information concerning the operations of
companies within the holding company system that may materially affect the operations, management or financial condition of the insurers within the system. The
insurance laws similarly provide that all transactions among members of a holding company system must be fair and reasonable. Certain types of transactions
between our Insurance Company Subsidiaries and the Company and our other affiliates generally must be disclosed to the state regulators, and prior approval of the
state insurance regulator generally is required for any material or extraordinary transaction. In addition, a change of control of a domestic insurer or of any
controlling person requires the prior approval of the state of domicile insurance regulator.
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Various State and Federal Regulations
Insurance companies are also affected by a variety of state and federal legislative and regulatory measures and judicial decisions that define and extend the
risks and benefits for which insurance is sought and provided. In addition, for some classes of insureds individual state insurance departments may prevent
premium rates for some classes of insureds from reflecting the level of risk assumed by the insurer for those classes. Such developments may adversely affect the
profitability of various lines of insurance. In some cases, if permitted by applicable regulations, these adverse effects on profitability can be minimized through
repricing of coverages or limitations or cessation of the affected business.
Reinsurance Intermediary
Our reinsurance intermediaries are also subject to regulation. Under applicable regulations, an intermediary is responsible, as a fiduciary, for funds received
on account of the parties to the reinsurance transaction. The intermediaries are required to hold such funds in appropriate bank accounts subject to restrictions on
withdrawals and prohibitions on commingling.
Licensing and Agency Contracts
We, or certain of our designated employees, must be licensed to act as agents by regulatory authorities in the states in which we conduct
business. Regulations and licensing laws vary in each state and are often complex.
Insurance licenses are issued by state insurance regulators upon application and may be of perpetual duration or may require periodic renewal. There are
often requirements to obtain appropriate new licenses before we can begin writing or offer new coverages in a new state. The requirements are more stringent
when writing on an admitted basis, as opposed to on an E&S basis where there is greater form and rate flexibility.
Insurers operating on an admitted basis must file premium rate schedules and policy or coverage forms for review and approval by the insurance
regulators. In many states, rates and policy forms must be approved prior to use, and insurance regulators have broad discretion in judging whether or not an
insurer’s rates are adequate, excessive and unfairly discriminatory.
The applicable licensing laws and regulations in all states are subject to amendment or reinterpretation by state regulatory authorities, and such authorities are
vested in most cases with relatively broad discretion as to the granting, revocation, suspension and renewal of licenses. We, or our employees, could be excluded,
or temporarily suspended, from continuing with some or all of our activities in, or otherwise subjected to penalties by, a particular state.
Membership in Insolvency Funds and Associations, Mandatory Pools and Insurance Facilities
Most states require admitted property and casualty insurers to become members of insolvency funds or associations, which generally protect policyholders
against the insolvency of insurers. Members of the fund or association must contribute to the payment of certain claims made against insolvent insurers. The
Company's assessments from insolvency funds were minimal for the years ended December 31, 2019, 2018, and 2017.
Our Insurance Company Subsidiaries are also required to participate in various mandatory insurance facilities or in funding mandatory pools, which are
generally designed to provide insurance coverage for consumers who are unable to obtain insurance in the voluntary insurance market. Among the pools
participated in are those established in certain states to provide windstorm and other similar types of property coverage. These pools typically require all
companies writing applicable lines of insurance in the state for which the pool has been established to fund deficiencies experienced by the pool based upon each
company’s relative premium writings in that state, with any excess funding typically distributed to the participating companies on the same basis. To the extent
that reinsurance treaties do not cover these assessments, they may have an adverse effect on the Company. For the years ended December 31, 2019, 2018, and
2017, total assessments paid to all such facilities were minimal.
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Restrictions on Dividends and Risk-Based Capital
For information on Restrictions on Dividends and Risk-based Capital that affect us please refer to Note 9 ~ Statutory Financial Data, Risk-Based Capital and
Dividend Restrictions of the Notes to the Consolidated Financial Statements and the Regulatory and Rating Issues section within Item 7, Management’s Discussion
and Analysis.
NAIC-IRIS Ratios
The National Association of Insurance Commissioners’ (“NAIC”) Insurance Regulatory Information System (“IRIS”) was developed by a committee of state
insurance regulators and is primarily intended to assist state insurance departments in executing their statutory mandates to oversee the financial condition of
insurance companies operating in their respective states. IRIS identifies thirteen industry ratios and specifies “usual values” for each ratio. Departure from the
usual values on four or more ratios generally leads to inquiries or possible further review from individual state insurance commissioners. However, the generation
of ratios outside of the usual values does not necessarily indicate a financial problem. For example, premium growth, alone, can trigger one or more unusual
values. Refer to the Regulatory and Rating Issues section within Item 7, Management’s Discussion and Analysis.
Effect of Federal Legislation
The Terrorism Risk Insurance Act, (“TRIA”), was enacted in November 2002. After several extensions, Congress enacted the Terrorism Risk Insurance
Program Reauthorization of 2015 (“Act”). The Act extends the Federal Terrorism Insurance Program until December 31, 2020. The Act continues to require
insurance companies to offer terrorism coverage. There is minimal exposure to this coverage as most of our policyholders decline this coverage option.
Employees
At December 31, 2019, we had 147 employees. Substantially all of our employees are full-time. Our employees are not subject to any collective bargaining
agreement, and we are not aware of any current efforts to implement such an agreement. We believe we have good working relations with our employees.
Available Information
We maintain an internet website at http://www.cnfrh.com, where 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, Statements of Beneficial Ownership (Forms 3, 4, and 5), and any amendments to those reports, as soon as reasonably
practicable after we electronically file such material with, or furnish to, the SEC. In addition, the SEC maintains an Internet site that contains reports, proxy
statements, and other information that we file at www.sec.gov. The public may read and copy any materials we file with the Commission at the SEC's Public
Reference Room at 100 F Street, NE., Washington, DC 20549, on official business days during the hours of 10 a.m. to 3 p.m. The public may obtain information
on the operation of the Public Reference Room by calling the Commission at 1-800-SEC-0330. Information found on our website or any other website is not part
of this annual report on Form 10-K or any other report we file with, or furnish to the SEC.
Glossary
Accident year
Accident year combined ratio
The annual calendar accounting period in which loss events occurred, regardless of when the losses are actually
reported, booked or paid.
The accident year combined ratio is an insurance industry measure that excludes changes in net ultimate loss
estimates from prior accident year loss reserves. The accident year combined ratio provides management with
an assessment of the specific policy year’s profitability (which matches policy pricing with related losses) and
assists management in their evaluation of product pricing levels and quality of business written. Management
uses accident year combined ratio as one component to assess the Company's current year performance and as a
measure to evaluate, and if necessary, adjust current year pricing and underwriting.
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Adjusted operating income (loss)
Net income (loss) excluding net realized investment and other gains (losses), net of tax, the effects of tax
reform, the tax effect of changes in unrealized gains to the extent included in net income, the change in the fair
value of equity securities, net of tax, and the capitalization and amortization of deferred gains from the ADC.
Adjusted operating income (loss), per share
Adjusted operating income (loss) on a per share basis.
Assignment of Benefits
A legal tool that allows a third party to assert a claim and be paid for services performed for an insured who
would normally be reimbursed directly by the insurance company after making a claim themselves.
Book value per share
Total common shareholders' equity divided by the number of common shares outstanding.
Case reserves
Estimates of anticipated future payments to be made on each specific reported claim.
Combined Ratio based on accounting principles
generally accepted in the United States of
America (“GAAP”)
The Combined Ratio is the sum of the Loss Ratio and the Expense Ratio. These ratios differ from statutory
ratios to reflect GAAP accounting, as management evaluates the performance of our underwriting operations
using the GAAP combined ratio.
Combined Ratio based on statutory accounting
practices (“SAP”)
The combined ratio based on SAP, expressed as a percentage, is the key measure of underwriting profitability
traditionally used in the property and casualty insurance business. The combined ratio is a statutory accounting
measurement, which represents the sum of (i) the ratio of losses and loss expenses to net earned premiums (loss
ratio), plus (ii) the ratio of underwriting expenses to net written premiums (expense ratio).
Combined Ratio (Overall)
When the combined ratio is under 100%, underwriting results are generally considered profitable; when the
combined ratio is over 100%, underwriting results are generally considered unprofitable.
Deferred policy acquisition costs
Primarily commissions and premium-related taxes that vary with, and are primarily related to, the production of
new contracts and are deferred and amortized to achieve a matching of revenues and expenses when reported in
financial statements prepared in accordance with GAAP.
Deficiency
Expense Ratio
With regard to reserves for a given liability, a deficiency exists when it is estimated or determined that the
reserves are insufficient to pay the ultimate settlement value of the related liabilities. Where the deficiency is
the result of an estimate, the estimated amount of deficiency (or even the finding of whether or not a deficiency
exists) may change as new information becomes available.
For GAAP, it is the ratio of GAAP underwriting expenses incurred to net earned premiums plus other
income. For SAP, it is the ratio of Statutory underwriting expenses incurred to net written premiums.
Incurred but not reported (IBNR) reserves
Reserves for estimated losses and LAE that have been incurred but not yet reported to the insurer. This includes
amounts for unreported claims, development on known cases, and re-opened claims.
Loss
An occurrence that is the basis for submission and/or payment of a claim. Losses may be covered, limited or
excluded from coverage, depending on the terms of the policy.
Loss adjustment expenses (LAE)
The expenses of settling claims, including legal and other fees and the portion of general expenses allocated to
claim settlement costs.
Loss ratio
The ratio of incurred losses and loss adjustment expenses to net earned premiums plus other income.
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Loss reserves
Loss reserve development
Losses incurred
NAIC-IRIS ratios
Policyholders' surplus
Liabilities established by insurers and reinsurers to reflect the estimated cost of claims incurred that the insurer
or reinsurer will ultimately be required to pay in respect of insurance or reinsurance it has written. Reserves are
established for losses and for LAE, and consist of case reserves and IBNR reserves. As the term is used in this
document, “loss reserves” is meant to include reserves for both losses and LAE, unless stated otherwise.
The increase or decrease in Loss or LAE as a result of the re-estimation of claims and claim adjustment expense
reserves at successive valuation dates for a given group of claims. Loss reserve development may be related to
prior year or current year development.
The total losses sustained by an insurance company under a policy or policies, whether paid or unpaid. Incurred
losses include a provision for IBNR.
Financial ratios calculated by the NAIC to assist state insurance departments in monitoring the financial
condition of insurance companies.
As determined under SAP, the amount remaining after all liabilities are subtracted from all admitted
assets. Admitted assets are assets of an insurer prescribed or permitted by a state to be recognized on the
statutory balance sheet. Policyholders' surplus is also referred to as “surplus” or “statutory surplus” for statutory
accounting purposes.
Premium leverage ratio
The ratio of written premium (gross or net) to consolidated statutory surplus.
Redundancy
With regard to reserves for a given liability, a redundancy exists when it is estimated or determined that the
reserves are greater than what will be needed to pay the ultimate settlement value of the related
liabilities. Where the redundancy is the result of an estimate, the estimated amount of redundancy (or even the
finding of whether or not a redundancy exists) may change as new information becomes available.
Risk-Based Capital (RBC)
A measure adopted by the NAIC and enacted by states for determining the minimum statutory policyholders'
surplus requirements of insurers. Insurers having total adjusted capital less than that required by the RBC
calculation will be subject to varying degrees of regulatory action.
Statutory accounting practices (SAP)
The practices and procedures prescribed or permitted by domiciliary state insurance regulatory authorities in the
United States for recording transactions and preparing financial statements.
Underwriting gain or loss
Net earned premiums plus other income, less losses, LAE, commissions, and operating expenses.
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ITEM 1A. RISK FACTORS
Summary Risk Factors
You should read the following risk factors carefully in connection with evaluating our business and the forward-looking information contained in this Annual
Report on Form 10-K. Any of the following risks could materially and adversely affect our business, operating results, financial condition and the actual outcome
of matters as to which forward-looking statements are made in this Annual Report on Form 10-K. While we believe we have identified and discussed below the key
risk factors affecting our business, there may be additional risks and uncertainties that are not presently known or that are not currently believed to be significant
that may adversely affect our business, operating results or financial condition in the future.
Our actual incurred losses may be greater than our loss and loss adjustment expense reserves, which could have a material adverse effect on our
financial condition and results of operations.
Insurance companies’ financial condition and results of operations depend upon their ability to accurately assess the potential losses and loss adjustment
expenses under the terms of the insurance policies they underwrite. Reserves do not represent an exact calculation of liability. Rather, reserves represent an
estimate of what the expected ultimate settlement and administration of claims will cost, and the ultimate liability may be greater or less than the current estimate.
In the insurance industry, there is always the risk that reserves may prove inadequate as it is possible for insurance companies to underestimate the cost of claims.
We base our estimates on our assessment of known facts and circumstances, as well as estimates of future trends in claim severity, claim frequency, judicial
theories of liability and other factors. These variables are affected by both internal and external events that could increase our exposure to losses, including changes
in actuarial projections, claims handling procedures, inflation, severe weather, climate change, economic and judicial trends, and legislative changes. We
continually monitor reserves using new information on reported claims and a variety of statistical techniques to update our current estimate. Our estimates could
prove to be inadequate, and this underestimation could have a material adverse effect on our financial strength.
Among the uncertainties we encounter in establishing our reserves for losses and related expenses in connection with our insurance businesses are as follows:
•
•
•
•
•
•
When we write “occurrence” policies, we are obligated to pay covered claims, up to the contractually agreed amount, for any covered loss that occurs
while the policy is in force. Accordingly, claims may be reported and develop many years after a policy has lapsed;
Even when a claim is received (irrespective of whether the policy is a "claims-made,” which requires claims to be reported during the policy period, or
an “occurrence” based form), it may take considerable time to fully appreciate the extent of the covered loss suffered by the insured and, consequently,
estimates of loss associated with specific claims can increase over time;
New theories of liability are enforced retroactively from time to time by courts;
Volatility in the financial markets, economic events, weather events and other external factors may result in an increase in the number of claims and the
severity of the claims reported. In addition, elevated inflationary conditions would, among other things, drive loss costs to increase;
If claims became more frequent, even if we had no liability for those claims, the cost of evaluating these potential claims could escalate beyond the
amount of the reserves we have established. If we enter new lines of business, or encounter new theories of claims liability, we may encounter an
increase in claims frequency and greater claims handling costs than we had anticipated; and
Estimation of IBNR losses is a complex and inherently uncertain process which involves a considerable degree of judgment and expertise, which adds
to the overall difficulty of estimating loss reserves.
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If any of our insurance reserves should prove to be inadequate for the reasons discussed above, or for any other reason, we will be required to increase
reserves, resulting in a reduction in our net income and shareholders’ equity in the period in which the deficiency is identified. Future loss experience substantially
in excess of established reserves could also have a material adverse effect on future earnings and liquidity and financial rating, which would affect our ability to
attract business and could affect our ability to retain or hire qualified personnel.
If we are unable to underwrite risks accurately and charge competitive yet profitable rates to our policyholders, our business, financial condition and
results of operations will be adversely affected.
In general, the premiums for our insurance policies are established at the time a policy is issued and, therefore, before all of our underlying costs are
known. Like other insurance companies, we rely on estimates and assumptions in setting our premium rates. Establishing adequate premium rates is necessary,
together with investment income, to generate sufficient revenue to offset losses, LAE and other underwriting costs and to earn a profit. If we do not accurately
assess the risks that we underwrite, we may not charge adequate premiums to cover our losses and expenses, which would adversely affect our results of operations
and our profitability. Alternatively, we could set our premiums too high, which could reduce our competitiveness and lead to lower revenues.
Pricing involves the acquisition and analysis of historical loss data and the projection of future trends, loss costs and expenses, and inflation trends, among
other factors, for each of our products in multiple risk tiers and many different markets. In order to accurately price our policies, we:
•
•
•
•
Collect and properly analyze a substantial volume of data from our insureds;
Develop, test and apply appropriate actuarial projections and rating formulas;
Closely monitor and timely recognize changes in trends; and
Project both frequency and severity of our insureds’ losses with reasonable accuracy.
We seek to implement our pricing accurately in accordance with our assumptions. Our ability to undertake these efforts successfully and, as a result,
accurately price our policies, is subject to a number of risks and uncertainties, including:
•
•
•
•
•
•
Insufficient or unreliable data;
Incorrect or incomplete analysis of available data;
Uncertainties generally inherent in estimates and assumptions;
Our failure to implement appropriate actuarial projections and rating formulas or other pricing methodologies;
Regulatory constraints on rate increases; and
Our failure to accurately estimate investment yields and the duration of our liability for loss and loss adjustment expenses, as well as unanticipated court
decisions, legislation or regulatory action.
In addition, as a result of current industry non-weather factors, such as the increase in litigation surrounding the Assignment of Benefits claims and lawsuits
in Florida, in particular, we may experience additional losses that could adversely affect our financial position or results of operations.
We operate in a highly competitive environment and we may not continue to be able to compete effectively against larger or more well‑established
business rivals.
We compete with a large number of other companies in our selected lines of business. Many of our competitors are substantially larger and may enjoy better
name recognition, substantially greater financial resources, higher financial strength ratings by rating agencies, broader and more diversified product lines and more
widespread agency relationships than us. Insurers in our markets generally compete on the basis of price, consumer recognition, coverages offered, claims
handling, financial stability, customer service and geographic coverage. Although pricing is influenced to some degree by that of our competitors, it is not in our
best interests to compete solely on price, and we may from time-to-time experience a loss of
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market share during periods of intense price competition. A number of new, proposed or potential legislative or industry developments could further increase
competition in our industry including, but not limited to:
•
•
•
An increase in capital‑raising by companies in our lines of business, which could result in new entrants to our markets and an excess of capital in the
industry;
The deregulation of commercial insurance lines in certain states and the possibility of federal regulatory reform of the insurance industry, which could
increase competition from standard carriers for our E&S lines of insurance business; and
Changing practices caused by the Internet may lead to greater competition in the insurance business. Among the possible changes are shifts in the way
insurance is purchased. If our distribution model was to be significantly altered by changes in the way products were marketed, including, without
limitation, through use of the Internet, it could have a material adverse effect on our premiums, underwriting results and profits.
There is no assurance that we will be able to continue to compete successfully in the insurance market. Increased competition in our market could result in a
change in the supply and/or demand for insurance, affect our ability to price our products at risk‑adequate rates and retain existing business, or underwrite new
business on favorable terms. If this increased competition so limits our ability to transact business, our operating results could be adversely affected.
Our ability to meet ongoing cash requirements, service debt and pay dividends may be limited by our holding company structure and regulatory
constraints restricting dividends or other distributions by our Insurance Company Subsidiaries.
We are a holding company that transacts the majority of our business through our Insurance Company Subsidiaries. Our ability to meet our obligations on
our outstanding debt, and to pay our expenses and shareholder dividends, depends upon the dividend paying capacity of our Insurance Company Subsidiaries. We
will be limited by the earnings of our Insurance Company Subsidiaries, and the distribution or other payment of such earnings to it in the form of dividends, loans,
advances or the reimbursement of expenses. Payments of dividends to us by our Insurance Company Subsidiaries are subject to various business considerations
and restricted by state insurance laws, including laws establishing minimum solvency and liquidity thresholds, and could be subject to revised restrictions in the
future. The ability to pay ordinary and extraordinary dividends must be reviewed in relation to the impact on key financial measurement ratios, including RBC
ratios. The Insurance Company Subsidiaries’ ability to pay future dividends without advance regulatory approval is dependent upon maintaining a positive level of
unassigned surplus. As a result, at times, we may not be able to receive dividends from our Insurance Company Subsidiaries in amounts necessary to meet our debt
obligations, to pay shareholder dividends on our capital stock or to pay corporate expenses. Therefore, the inability of our Insurance Company Subsidiaries to pay
dividends or make other distributions could have a material adverse effect on our business and financial condition.
The price of our common stock may be volatile and limited public float and low trading volume for our shares may have an adverse impact on the share
price or make it difficult to liquidate.
The trading price of our common stock is likely to be highly volatile and could be subject to wide fluctuations in response to various factors, some of which
are beyond our control and may not be related to our operating performance. These fluctuations could be significant and could cause a loss in the amount invested
in our shares of common stock.
In addition, the stock market in general, and the market for insurance companies in particular, has experienced extreme price and volume fluctuations that
have often been unrelated or disproportionate to the operating performance of those companies. Securities class action litigation has often been instituted against
companies following periods of volatility in the overall market and in the market price of a company’s securities. This litigation, if instituted against us, could
result in substantial costs, divert our management’s attention and resources, and harm our business, operating results, and financial condition.
As a result of these factors, investors in our common stock may not be able to resell their shares at or above their purchase price or may not be able to resell
them at all. These market and industry factors may materially reduce the market
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price of our common stock, regardless of our operating performance. In addition, price volatility may be greater if the public float and the trading volume of our
common stock remain low.
Our investment portfolio is subject to significant market and credit risks, which could result in an adverse impact on our financial conditions or results of
operations.
Our results of operations depend, in part, on the performance of our investment portfolio. We seek to hold a diversified portfolio of investments that is
managed by professional investment advisory management firms in accordance with our investment policy and routinely reviewed by our Investment
Committee. However, our investments are subject to general economic conditions and market risks as well as risks inherent to particular securities.
The value of our investment portfolio is subject to the risk that certain investments may default or become impaired due to deterioration in the financial
condition of one or more issuers of the securities held, or due to deterioration in the financial condition of an insurer that guarantees an issuer’s payments of such
investments. Such defaults and impairments could reduce our net investment income and result in realized investment losses.
Risks for all types of securities are managed through application of our investment policy, which establishes investment parameters that include but are not
limited to maximum percentages of investment in certain types of securities and minimum levels of credit quality, which we believe are within guidelines
established by the NAIC and various state insurance departments, as applicable.
A severe economic downturn could cause us to incur substantial realized and unrealized investment losses in future periods, which would have an adverse
impact on our financial condition, results of operations, debt and financial strength ratings, Insurance Company Subsidiaries’ capital liquidity and ability to access
capital markets.
Although we seek to preserve our capital, we cannot be certain that our investment objectives will be achieved, and results may vary substantially over
time. In addition, although we seek to employ investment strategies that are not correlated with our insurance exposures, losses in our investment portfolio may
occur at the same time as underwriting losses and, therefore, exacerbate the adverse effect of the losses on us.
We may be adversely affected by interest rate changes.
Our investment portfolio is predominantly comprised of fixed income securities. These securities are sensitive to changes in interest rates. An increase in
interest rates typically reduces the fair market value of fixed income securities. In addition, if interest rates decline, investment income earned from future
investments in fixed income securities will be lower. We generally hold our fixed income securities to maturity, so our interest rate exposure does not usually
result in realized losses. However, as noted above, rising interest rates could result in a significant reduction of our book value. A low investment yield
environment could adversely impact our net earnings, as a result of fixed income securities maturing and being replaced with lower yielding securities which
impact investing results.
Interest rates are highly sensitive to many factors beyond our control including general economic conditions, governmental monetary policy, and political
conditions. As discussed above, fluctuations in interest rates may adversely impact our business. See Item 7A ~ Qualitative and Quantitative Disclosures About
Market Risk for further discussion on interest rate risk.
A decline in our financial strength rating may result in a reduction of new or renewal business.
Participants in the insurance industry use ratings from independent ratings agencies, such as A.M. Best Company, Inc. (“A.M. Best”) and Kroll Bond Rating
Agency ("Kroll") as an important means of assessing the financial strength and quality of insurers. In setting their ratings, A.M. Best and Kroll utilize a
quantitative and qualitative analysis of a company’s balance sheet strength, operating performance and business profile. These analyses include comparisons to
peers and industry standards as well as assessments of operating plans, philosophy and management. For A.M. Best, the ratings range from A++, or superior, to F
for in liquidation. Kroll's ratings range from AAA (extremely strong) to R (under regulatory supervision). As of the date of this Form 10-K, A.M. Best has
assigned financial strength ratings of B++ (Good) for CIC and WPIC. A rating of B++ means A.M. Best considers both companies to have a “good” ability to meet
ongoing financial
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obligations. Kroll has given CIC and WPIC an insurance financial strength rating of BBB+ with a stable outlook (fourth highest rating level out of eleven) as of the
date of this Form 10-K. A BBB+ rating indicates that the insurer's financial condition is adequate.
A.M. Best and Kroll assign ratings that are intended to provide an independent opinion of an insurance company’s ability to meet its financial obligations to
policyholders and such ratings are not evaluations directed to investors. A.M. Best and Kroll periodically review our ratings and may revise ratings downward or
revoke them at their sole discretion based primarily on their analyses of our balance sheet strength (including capital adequacy and loss and loss adjustment
expense reserve adequacy), operating performance and business profile. Factors that could affect such analyses include but are not limited to:
•
•
•
•
•
•
•
If we change our business practices from our organizational business plan in a manner that no longer supports A.M. Best’s or Kroll's rating;
If unfavorable financial, regulatory or market trends affect us, including excess market capacity;
If we incur operating losses;
If we have unresolved issues with government regulators;
If we are unable to retain our senior management or other key personnel;
If our investment portfolio incurs significant losses; or
If A.M. Best or Kroll alters its capital adequacy assessment methodology in a manner that would adversely affect our rating.
These and other factors could result in a downgrade of our rating. A downgrade of our rating could cause our current and future agents, retail brokers and
insureds to choose other, more highly‑rated competitors. A downgrade of this rating could also increase the cost or reduce the availability of reinsurance to us.
In addition, in view of the earnings and capital pressures recently experienced by many financial institutions, including insurance companies, it is possible
that rating organizations will heighten the level of scrutiny that they apply to such institutions and may increase the capital and other requirements employed in the
rating organizations’ models for maintenance of certain ratings levels. It is possible that such reviews of us may result in adverse ratings consequences, which
could have a material adverse effect on our financial condition and results of operations. A downgrade or withdrawal of any rating could severely limit or prevent
us from writing new and renewal insurance contracts.
Increased information technology security threats and more sophisticated computer crimes pose a risk to our systems, networks, products and services.
Our business is dependent upon the uninterrupted functioning of our information technology and telecommunication systems. We rely upon our systems, as
well as the systems of our vendors, to underwrite and process our business; make claim payments; provide customer service; provide policy administration
services, such as endorsements, cancellations and premium collections; comply with insurance regulatory requirements; and perform actuarial and other analytical
functions necessary for pricing and product development. We have established security policies, processes and layers of defense designed to help identify and
protect against intentional and unintentional misappropriation or corruption of our systems and information and disruption of our operations. Our security
measures are focused on the prevention, detection and remediation of damage from computer viruses, natural disasters, unauthorized access, cyber-attack and other
similar disruptions.
Despite these efforts, our systems may be damaged, disrupted, or shut down due to attacks by unauthorized access, malicious software, undetected intrusion,
hardware failures, or other events, and in these circumstances our disaster recovery planning may be ineffective or inadequate. Information technology security
threats from user error to cybersecurity attacks are increasing in frequency and sophistication. Cybersecurity attacks may range from random attempts to
coordinated and targeted attacks, including sophisticated computer crime and advanced threats. These threats pose a risk to the security of our systems and
networks and the confidentiality, availability and integrity of our data. The potential consequences of a material cybersecurity attack include reputational damage,
litigation with third parties, and increased cybersecurity protection and
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remediation costs. A sustained business interruption or system failure could adversely impact our ability to process our business, provide customer service, pay
claims in a timely manner or perform other necessary business functions. We could also be subject to fines and penalties from a security breach. The cost to
remedy a severe breach could be substantial.
Severe weather conditions and other catastrophes are inherently unpredictable and may have a material adverse effect on our financial results and
financial condition.
Our property insurance business is exposed to the risk of severe weather conditions and other catastrophes. Catastrophes can be caused by various events,
including natural events such as hurricanes, winter weather, tornadoes, windstorms, earthquakes, hailstorms, severe thunderstorms, fires and other non-natural
events such as explosions or riots.
The incidence and severity of catastrophes and severe weather conditions are inherently unpredictable. The extent of losses from a catastrophe is a function
of both the total amount of insured exposure in the area affected by the event and the severity of the event. Severe weather conditions and catastrophes can cause
greater losses in our property lines and cause our liquidity and financial condition to deteriorate. In addition, our inability to obtain reinsurance coverage at
reasonable rates and in amounts adequate to mitigate the risks associated with severe weather conditions and other catastrophes could have a material adverse effect
on our business and results of operations.
We distribute our insurance products through a select group of agents, several of which account for a significant portion of our business, and there can
be no assurance that such relationships will continue, or if they do continue, that the relationship will be on favorable terms to us. In addition, reliance on
agents subjects us to their credit risk.
Our distribution model depends almost entirely on the agencies that distribute our products. In 2019, our top six independent agencies accounted for
approximately 33% of our gross written premiums in our commercial lines, and our top four independent agencies, accounted for approximately 27% of our gross
written premiums in our personal lines. We cannot assure you that these relationships, or our relationships with any of our agencies will continue. Even if the
relationships do continue, they may not be on terms that are profitable for us. The termination of a relationship with one or more significant agents could result in
lower direct written premiums and could have a material adverse effect on our results of operations or business prospects.
Certain premiums from policyholders, where the business is produced by agents, are collected directly by the agents and forwarded to our Insurance
Company Subsidiaries. In certain jurisdictions, when the insured pays its policy premium to these agents for payment on behalf of our Insurance Company
Subsidiaries, the premiums might be considered to have been paid under applicable insurance laws and regulations. Accordingly, the insured would no longer be
liable to us for those amounts, whether or not we have actually received the premiums from that agent. Consequently, we assume a degree of credit risk associated
with agents. There may be instances where agents collect premiums but do not remit them to us and we may be required under applicable law to provide the
coverage set forth in the policy despite the absence of premiums. If we are unable to collect premiums from agents in the future, underwriting profits may decline
and our financial condition and results of operations could be materially and adversely affected.
The property and casualty insurance business is historically cyclical in nature, and we may experience periods with excess underwriting capacity and
unfavorable premium rates, which could adversely affect our business.
Historically, insurers have experienced significant fluctuations in operating results due to competition, frequency and severity of catastrophic events, levels of
capacity, adverse litigation trends, regulatory constraints, general economic conditions and other factors. The supply of insurance is related to prevailing prices, the
level of insured losses and the level of capital available to the industry that, in turn, may fluctuate in response to changes in rates of return on investments being
earned in the insurance industry. As a result, the insurance business historically has been a cyclical industry characterized by periods of intense price competition
due to excessive underwriting capacity as well as periods when shortages of capacity increased premium levels. Demand for insurance depends on numerous
factors, including the frequency and severity of catastrophic events, levels of capacity, the introduction of new capital providers, and general economic
conditions. All of these factors fluctuate and may contribute to price declines generally in the insurance industry.
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We cannot predict with certainty whether market conditions will improve, remain constant or deteriorate. Negative market conditions may impair our ability
to underwrite insurance at rates we consider appropriate and commensurate relative to the risk assumed. If we cannot underwrite insurance at appropriate rates, our
ability to transact business will be materially and adversely affected. Any of these factors could lead to an adverse effect on our business, financial condition and
results of operations.
Adverse economic factors, including recession, inflation, periods of high unemployment or lower economic activity could result in the sale of fewer
policies than expected or an increase infrequency or severity of claims and premium defaults or both, which, in turn, could affect our growth and profitability.
Factors, such as business revenue, economic conditions, the volatility and strength of the capital markets and inflation can all affect the business and
economic environment in which we operate. These same factors affect our ability to generate revenue and profits. In an economic downturn that is characterized
by higher unemployment, declining spending and reduced corporate revenues, the demand for insurance products is adversely affected, which directly affects our
premium levels and profitability. Negative economic factors may also affect our ability to receive the appropriate rate for the risk we insure with our policyholders
and may adversely affect the number of policies we can write, including with respect to our opportunities to underwrite profitable business. In an economic
downturn, our customers may have less need for insurance coverage, cancel existing insurance policies, modify their coverage or not renew with us. Existing
policyholders may exaggerate or even falsify claims to obtain higher claims payments. These outcomes would reduce our underwriting profit to the extent these
factors are not reflected in the rates we charge.
We are subject to extensive regulation, which may adversely affect our ability to achieve our business objectives. In addition, if we fail to comply with
these regulations, we may be subject to penalties, including fines and suspensions, which may adversely affect our financial condition and results of operations.
As a holding company which owns insurance companies domiciled in the United States, we and our admitted Insurance Company Subsidiaries are subject to
extensive regulation, primarily by Michigan (the domiciliary state for CIC and WPIC) and to a lesser degree, the other jurisdictions in which we operate. Most
insurance regulations are designed to protect the interests of insurance policyholders, as opposed to the interests of shareholders. These regulations generally are
administered by a department of insurance in each state and relate to, among other things, authorizations to write certain lines of business, capital and surplus
requirements, reserve requirements, rate and form approvals, investment and underwriting limitations, affiliate transactions, dividend limitations, cancellation and
non‑renewal of policies, changes in control, solvency and a variety of other financial and non‑financial aspects of our business. These laws and regulations are
regularly re‑examined and any changes in these laws and regulations or new laws may be more restrictive, could make it more expensive to conduct business or
otherwise adversely affect our operations. State insurance departments also conduct periodic examinations of the affairs of insurance companies and require the
filing of annual and other reports relating to financial condition, holding company issues and other matters. These regulatory requirements may impose timing and
expense or other constraints that could adversely affect our ability to achieve some or all of our business objectives.
In addition, regulatory authorities have broad discretion to deny or revoke licenses for various reasons, including the violation of regulations. In some
instances, where there is uncertainty as to applicability, we follow practices based on our interpretations of regulations or practices that we believe are generally
followed by the industry. These practices may turn out to be different from the interpretations of regulatory authorities. If we do not have the requisite licenses and
approvals or do not comply with applicable regulatory requirements, insurance regulatory authorities could preclude or temporarily suspend us from carrying on
some or all of our activities or otherwise penalize us. This could adversely affect our ability to operate our business.
The admitted market is subject to more state regulation than the E&S market, particularly with regard to rate and form filing requirements, restrictions on the
ability to exit lines of business, premium tax payments and membership in various state associations, such as guaranty associations. Some states have deregulated
their commercial insurance markets. We cannot predict the effect that further deregulation would have on our business, financial condition or results of operations.
The NAIC has developed a system to test the adequacy of statutory capital of U.S.‑based insurers, known as Risk-Based Capital ("RBC"), that many states
have adopted. This system establishes the minimum amount of RBC necessary for a company to support its overall business operations. It identifies
property‑casualty insurers that may be inadequately capitalized by looking at certain inherent risks of each insurer’s assets and liabilities and its mix of
premiums. Insurers falling below a calculated threshold may be subject to varying degrees of regulatory action, including supervision,
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rehabilitation or liquidation. Failure to maintain adequate RBC at the required levels could adversely affect the ability of our Insurance Company Subsidiaries to
maintain regulatory authority to conduct their business.
In addition, the various state insurance regulators have increased their focus on risks within an insurer’s holding company system that may pose enterprise
risk to the insurer. In 2012, the NAIC adopted significant changes to the insurance holding company act and regulations (the “NAIC Amendments”). The NAIC
Amendments, when adopted by the various states, are designed to respond to perceived gaps in the regulation of insurance holding company systems in the United
States. One of the major changes is a requirement that an insurance holding company system’s ultimate controlling person submit annually to its lead state
insurance regulator an “enterprise risk report” that identifies activities, circumstances or events involving one or more affiliates of an insurer that, if not remedied
properly, are likely to have a material adverse effect upon the financial condition or liquidity of the insurer or its insurance holding company system as a
whole. Other changes include requiring a controlling person to submit prior notice to its domiciliary insurance regulator of a divestiture of control, having detailed
minimum requirements for cost sharing and management agreements between an insurer and its affiliates and expanding of the agreements between an insurer and
its affiliates to be filed with its domiciliary insurance regulator. The NAIC Amendments must be adopted by the individual state legislatures and insurance
regulators in order to be effective. Michigan (i.e., our main domiciliary state for both our CIC and WPIC subsidiaries), requires a form of the enterprise risk
report.
In 2012, the NAIC also adopted the Risk Management and Own Risk and Solvency Assessment Model Act (the “ORSA Model Act”). The ORSA Model
Act, when adopted by the various states, will require an insurance holding company system’s Chief Risk Officer to submit annually to its lead state insurance
regulator an Own Risk and Solvency Assessment Summary Report (“ORSA”). The ORSA is a confidential internal assessment appropriate to the nature, scale and
complexity of an insurer, conducted by that insurer of the material and relevant risks identified by the insurer associated with an insurer’s current business plan and
the sufficiency of capital resources to support those risks. The ORSA Model Act must be adopted by the individual state legislature and insurance regulators in
order to be effective. Michigan has adopted the ORSA Model Act. ORSA filings were required in Michigan starting in 2018. The Company is currently exempt
from providing an ORSA summary report as it does not meet the minimum premium requirements.
We cannot predict the impact, if any, that the NAIC Amendments, compliance with the ORSA Model Act or any other regulatory requirements may have on
our business, financial condition or results of operations.
We may become subject to additional government or market regulation which may have a material adverse impact on our business.
Market disruptions like those experienced during the credit‑driven financial market collapse in 2008, as well as the dramatic increase in the capital allocated
to alternative asset management during recent years, have led to increased governmental as well as self‑regulatory scrutiny of the insurance industry in general. In
addition, certain legislation proposing greater regulation of the industry is periodically considered by governing bodies of some jurisdictions, and the credit‑driven
equity market collapse may increase the likelihood that some increased regulation of the industry is mandated.
Our business could be adversely affected by changes in state laws, including those relating to asset and reserve valuation requirements, surplus requirements,
limitations on investments and dividends, enterprise risk and RBC requirements and, at the federal level, by laws and regulations that may affect certain aspects of
the insurance industry, including proposals for preemptive federal regulation. The U.S. federal government generally has not directly regulated the insurance
industry except for certain areas of the market, such as insurance for flood, nuclear and terrorism risks. However, the federal government has undertaken initiatives
or considered legislation in several areas that may affect the insurance industry, including tort reform and corporate governance. The Dodd‑Frank Wall Street
Reform and Consumer Protection Act (the “Dodd‑Frank Act”) also established the Federal Insurance Office, which is authorized to study, monitor and report to
Congress on the insurance industry and to recommend that the Financial Stability Oversight Council (the “FSOC”) designate an insurer as an entity posing risks to
U.S. financial stability in the event of the insurer’s material financial distress or failure. In December 2013, the Federal Insurance Office issued a report on
alternatives to modernize and improve the system of insurance regulation in the United States, including increasing national uniformity through either a federal
charter or effective action by the states. Any additional regulations established as a result of the Dodd‑Frank Act or actions in response to the Federal Insurance
Office Report could increase our costs of compliance or lead to disciplinary action. In addition, legislation has been introduced from time to time that, if enacted,
could result in the federal government assuming a more direct role in the regulation of the insurance industry, including federal licensing in addition to or in lieu of
state licensing and reinsurance
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for natural catastrophes. We are unable to predict whether any legislation will be enacted or any regulations will be adopted, or the effect any such developments
could have on our business, financial condition or results of operations.
It is impossible to predict what, if any, changes in the regulations applicable to us, the markets in which we operate, trade and invest or the counterparties
with which we do business may be instituted in the future. Any such regulation could have a material adverse impact on our business.
The effect of emerging claim and coverage issues on our business is uncertain.
As industry practices and legal, judicial, social and other environmental conditions change, unexpected and unintended issues related to claims and coverage
may emerge. These issues may adversely affect our business by either broadening coverage beyond our underwriting intent or by increasing the number or size of
claims. In some instances, these changes may not become apparent until sometime after we have issued insurance contracts that are affected by the changes. As a
result, the full extent of liability under our insurance contracts may not be known for many years after a contract is issued.
We may be unable to obtain reinsurance coverage at reasonable prices or on terms that provide us adequate protection.
We purchase reinsurance in many of our lines of business to help manage our exposure to insurance risks that we underwrite and to reduce volatility in our
results.
The availability and cost of reinsurance are subject to prevailing market conditions, both in terms of price and available capacity, each of which can affect our
business volume and profitability. The availability of reasonably affordable reinsurance is a critical element of our business plan. One important way we utilize
reinsurance is to reduce volatility in claims payments by limiting our exposure to losses from large risks. Another way we use reinsurance is to purchase
substantial protection against concentrated losses when we enter new markets. As a result, our ability to manage volatility and avoid significant losses, expand into
new markets or grow by offering insurance to new kinds of enterprises may be limited by the unavailability of reasonably priced reinsurance. We may not be able
to obtain reinsurance on acceptable terms or from entities with satisfactory creditworthiness. In such event, if we are unwilling to accept the terms or credit risk of
potential reinsurers, we would have to reduce the level of our underwriting commitments, which would reduce our revenues.
Many reinsurance companies have begun to exclude certain coverages from, or alter terms in, the reinsurance contracts we enter into with them. Some
exclusions relate to risks that we cannot in turn exclude from the policies we write due to business or regulatory constraints. In addition, reinsurers are imposing
terms, such as lower per occurrence and aggregate limits, on direct insurers that do not wholly cover the risks written by these direct insurers. As a result, we, like
other direct insurance companies, write insurance policies which to some extent do not have the benefit of reinsurance protection. These gaps in reinsurance
protection expose us to greater risk and greater potential losses. For example, certain reinsurers have excluded coverage for terrorist acts or priced such coverage at
unreasonably high rates.
If we are unable to retain key management and employees or recruit other qualified personnel, we may be adversely affected.
We believe that our future success depends, in large part, on our ability to retain our experienced management team and key employees, particularly our
chairman and chief executive officer, James G. Petcoff. There can be no assurance that we can attract and retain the necessary employees to conduct our business
activities on a timely basis or at all. Our competitors may offer more favorable compensation arrangements to our key management or employees to incentivize
them to leave our Company. Furthermore, our competitors may make it more difficult for us to hire their personnel by offering excessive compensation
arrangements to certain employees to induce them not to leave their current employment and bringing litigation against employees who do leave (and possibly us as
well) to join us. The loss of any of our executive officers or other key personnel, or our inability to recruit and retain additional qualified personnel as we grow,
could materially and adversely affect our business and results of operations, and could prevent us from fully implementing our growth strategies.
We may require additional capital in the future, which may not be available or available only on unfavorable terms.
Our future capital requirements depend on many factors, including our ability to write new and renewal business successfully and to establish premium rates
and reserves at levels sufficient to cover losses. Our ability to underwrite
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depends largely upon the expected quality of our claims paying process and our perceived financial strength as estimated by potential insureds, agents, brokers,
other intermediaries and independent rating agencies. To the extent that our existing capital is insufficient to fund our future operating requirements, cover claim
losses, or satisfy ratings agencies in order to maintain a satisfactory rating, we may need to raise additional capital in the future through offerings of debt or equity
securities or otherwise to:
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Fund liquidity needs caused by underwriting or investment losses;
Replace capital lost in the event of significant reinsurance losses or adverse reserve developments;
Satisfy letters of credit or guarantee bond requirements that may be imposed by our clients or by regulators;
Meet rating agency or regulatory capital requirements; or
Respond to competitive pressures.
Any equity or debt financing, if available at all, may be on terms that are unfavorable to us. Further, any additional capital raised through the sale of equity
could dilute your ownership interest in the Company and may cause the value of our shares to decline. Additional capital raised through the issuance of debt may
result in creditors having rights, preferences and privileges senior or otherwise superior to those of the holders of our shares and may limit our flexibility in
operating our business and make it more difficult to obtain capital in the future. Disruptions, uncertainty, or volatility in the capital and credit markets may also
limit our access to capital required to operate our business. If we are not able to obtain adequate capital, our business, financial condition and results of operations
could be materially adversely affected.
We are subject to credit risk with regard to our reinsurance counterparties.
Although reinsurance makes the assuming reinsurer liable to us to the extent of the risk ceded, we are not relieved of our primary liability to our insureds as
the direct insurer. We cannot be sure that our reinsurers will pay all reinsurance claims on a timely basis or at all. For example, reinsurers may default in their
financial obligations to us as the result of insolvency, lack of liquidity, operational failure, fraud, asserted defenses based on agreement wordings or the principle of
utmost good faith, asserted deficiencies in the documentation of agreements or other reasons. The failure of a reinsurer to pay us does not lessen our contractual
obligations to insureds. If a reinsurer fails to pay the expected portion of a claim or claims, our net losses might increase substantially and adversely affect our
financial condition. Any disputes with reinsurers regarding coverage under reinsurance contracts could be time‑consuming, costly and uncertain of success.
Downgrades to the credit ratings of our reinsurance counterparties may result in the reduction of rating agency capital credit provided by those reinsurance
contracts and could, therefore, result in a downgrade of our own credit ratings. We evaluate each reinsurance claim based on the facts of the case, historical
experience with the reinsurer on similar claims and existing case law and include any amounts deemed uncollectible from the reinsurer in our reserve for
uncollectible reinsurance.
Our Insurance Company Subsidiaries are subject to minimum capital and surplus requirements. Failure to meet these requirements could subject us to
regulatory action.
Our Insurance Company Subsidiaries are subject to minimum capital and surplus requirements imposed under the laws of their respective states of domicile
and each state in which they issue policies. As of December 31, 2019, our Insurance Company Subsidiaries were in compliance with all such reserves. Any failure
by one of our Insurance Company Subsidiaries to meet minimum capital and surplus requirements imposed by applicable state law will subject it to corrective
action. This may include requiring adoption of a comprehensive financial plan, revocation of its license to sell insurance products or placing the subsidiary under
state regulatory control. A decline in the risk based capital ratios of our Insurance Company Subsidiaries could limit their ability to make a dividend to us and
could be a factor in causing rating agencies to downgrade our ratings. Any new minimum capital and surplus requirements adopted in the future may require us to
increase the capital and surplus of our Insurance Company Subsidiaries, which we may not be able to do.
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Any debt service obligations will reduce the funds available for other business purposes, and the terms and covenants relating to our current and future
indebtedness could adversely impact our financial performance and liquidity.
As of December 31, 2019, we had $25.3 million of senior unsecured notes (the “Notes”) outstanding, $10.5 million of subordinated notes (the "Subordinated
Notes") outstanding, and $2.0 million outstanding on our line of credit. We are subject to risks typically associated with debt financing, such as insufficient cash
flow to meet required debt service payment obligations and the inability to refinance existing indebtedness.
The Subordinated Notes contain various restrictive covenants that relate to the Company’s tangible net worth, fixed-charge coverage ratios, dividend paying
capacity, reinsurance retentions, and RBC ratios. If we are unable to meet debt covenant requirements or to obtain future waivers regarding such failures, we could
be in breach of our credit agreement. Any such breach could cause significant disruption to our operations, including a requirement to immediately repay our
indebtedness, and would have severe adverse effects on our liquidity and financial flexibility.
The failure of any of the loss limitations or exclusions we employ, or changes in other claims or coverage issues, could have a material adverse effect on
our financial condition or results of operations.
Although we seek to mitigate our loss exposure through a variety of methods, the future is inherently unpredictable. It is difficult to predict the timing,
frequency and severity of losses with statistical certainty. It is not possible to completely eliminate our exposure to un‑forecasted or unpredictable events and, to
the extent that losses from such risks occur, our financial condition and results of operations could be materially adversely affected.
For instance, various provisions of our policies, such as limitations or exclusions from coverage or choice of forum, which have been negotiated to limit our
risks, may not be enforceable in the manner we intend. At the present time, we employ a variety of endorsements to our policies that limit exposure to known
risks. As industry practices and legal, judicial, social and other conditions change, unexpected and unintended issues related to claims and coverage may
emerge. These issues may adversely affect our business by either extending coverage beyond the underwriting intent or by increasing the size or number of claims.
In addition, we design our policy terms to manage our exposure to expanding theories of legal liability like those which have given rise to claims for lead
paint, asbestos, mold, construction defects and environmental matters. Many of the policies we issue also include conditions requiring the prompt reporting of
claims to us and entitle us to decline coverage in the event of a violation of that condition. Also, many of our policies limit the period during which a policyholder
may bring a claim under the policy, which in many cases is shorter than the statutory period under which such claims can be brought against our
policyholders. While these exclusions and limitations help us assess and reduce our loss exposure and help eliminate known exposures to certain risks, it is
possible that a court or regulatory authority could nullify or void an exclusion or legislation could be enacted modifying or barring the use of such endorsements
and limitations. These types of governmental actions could result in higher than anticipated losses and loss adjustment expenses, which could have a material
adverse effect on our financial condition or results of operations. In some instances, these changes may not become apparent until sometime after we have issued
insurance policies that are affected by the changes. As a result, the full extent of liability under our insurance contracts may not be known for many years after a
contract is issued.
We rely on our systems and employees, and those of certain third‑party vendors and service providers in conducting our operations, and certain failures,
including internal or external fraud, operational errors, or systems malfunctions, could materially adversely affect our operations.
We are exposed to many types of operational risk, including the risk of fraud by employees and outsiders, clerical and recordkeeping errors and computer or
telecommunications systems malfunctions. Our business depends on our ability to process a large number of increasingly complex transactions. If any of our
operational, accounting, or other data processing systems fail or have other significant shortcomings, we could be materially adversely affected. Similarly, we
depend on our employees. We could be materially adversely affected if one or more of our employees cause a significant operational breakdown or failure, either
as a result of human error or intentional sabotage or fraudulent manipulation of our operations or systems.
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Third parties with whom we do business, including vendors that provide services or security solutions for our operations, could also be sources of operational
and information security risk to us, including from breakdowns, failures, or capacity constraints of their own systems or employees. Any of these occurrences
could diminish our ability to operate our business, or cause financial loss, potential liability to insureds, inability to secure insurance, reputational damage or
regulatory intervention, which could materially adversely affect us.
We may not be able to manage our growth effectively.
We intend to continue to grow our business, which could require additional capital, systems development and skilled personnel. We cannot assure you that
we will be able to locate profitable business opportunities, meet our capital needs, expand our systems and our internal controls effectively, allocate our human
resources optimally, identify qualified employees or agents or incorporate effectively the components of any businesses we may acquire in our effort to achieve
growth. The failure to manage our growth effectively and maintain underwriting discipline could have a material adverse effect on our business, financial
condition and results of operations.
Our geographic concentration ties our performance to the business, economic, natural perils, man-made perils, and regulatory conditions within our
most concentrated region.
Our revenues and profitability are subject to the prevailing regulatory, legal, economic, political, demographic, competitive, weather and other conditions in
the principal states in which we do business. Changes in any of these conditions could make it less attractive for us to do business in such states and would have a
more pronounced effect on us compared to companies that are more geographically diversified. In addition, our exposure to severe losses from localized perils,
such as earthquakes, hurricanes, tropical storms, tornadoes, wind, ice storms, hail, fires, terrorism, riots and explosions, is increased in those areas where we have
written significant numbers of insurance policies.
Litigation and legal proceedings against our subsidiaries could have a material adverse effect on our business, financial condition and/or results of
operations.
As an insurance holding company, our subsidiaries are named as defendants in various legal actions in the ordinary course of business. We believe that the
outcome of presently pending matters, individually and in the aggregate, will not have a material adverse effect on our consolidated financial position, operating
results or liquidity. However, the outcomes of lawsuits cannot be predicted and, if determined adversely, could require us to pay significant damage amounts or to
change aspects of our operations, which could have a material adverse effect on our financial results.
We are subject to assessments and other surcharges from state guaranty funds, and mandatory state insurance facilities, which may reduce our
profitability.
Our Insurance Company Subsidiaries are subject to assessments in most states where we are licensed for the provision of funds necessary for the settlement of
covered claims under certain policies provided by impaired, insolvent or failed insurance companies. These assessments are levied by guaranty associations within
the state in proportion to the premiums written by member insures in the lines of business in which the impaired, insolvent or failed insurer was
engaged. Maximum contributions required by law in any one year vary by state, and have historically been less than one percent of annual premiums written. We
cannot predict with certainty the amount of future assessments because they depend on factors outside our control, such as insolvencies of other insurance
companies. Significant assessments could have a material adverse effect on our financial condition and results of operations.
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Risks Related to Ownership of Our Common Stock
We incur significant increased costs as a result of operating as a public company, and our management will be required to devote substantial time to new
compliance initiatives.
As a public company, we incur significant legal, accounting and other expenses that we did not incur as a private company. In addition, we are subject to the
reporting requirements of the Exchange Act, which require, among other things, that we file with the SEC, annual, quarterly and current reports with respect to our
business and financial condition. We are also subject to other reporting and corporate governance requirements, including certain requirements of Nasdaq and
provisions of the Sarbanes‑Oxley Act and the regulations promulgated thereunder, which will impose significant compliance obligations upon us.
The Sarbanes‑Oxley Act and the Dodd‑Frank Act, as well as new rules subsequently implemented by the SEC and Nasdaq, have increased regulation of, and
imposed enhanced disclosure and corporate governance requirements on, public companies. Our efforts to comply with these laws, regulations and standards have
increased our operating costs and may divert management’s time and attention from revenue‑generating activities.
Other expenses associated with being a public company include increases in auditing, accounting and legal fees and expenses, investor relations expenses,
increased directors’ fees and director and officer liability insurance costs, registrar and transfer agent fees and listing fees, as well as other expenses.
Certain provisions of our corporate governance documents and Michigan law could discourage, delay or prevent a merger or acquisition at a premium
price.
Our amended and restated articles of incorporation and bylaws will contain provisions that may make the acquisition of our Company more difficult without
the approval of our board of directors (our “Board”). These include provisions that, among other things:
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Permit the Board to issue up to 10 million shares of preferred stock, with any rights, preferences and privileges as they may determine (including the
right to approve an acquisition or other change in control);
Provide that the authorized number of directors may be fixed only by the Board in accordance with our amended and restated bylaws;
Do not provide for cumulative voting rights (therefore allowing the holders of a majority of the shares entitled to vote in any election of directors to
elect all of the directors standing for election);
Provide that all vacancies and newly created directorships may be filled by the affirmative vote of a majority of directors then in office, even if less than
a quorum;
Prohibit removal of directors without cause;
Prohibit shareholders from calling special meetings of shareholders;
Requires unanimous consent for shareholders to take action by written consent without approval of the action by our Board;
Provide that shareholders seeking to present proposals before a meeting of shareholders or to nominate candidates for election as directors at a meeting
of shareholders must provide advance notice in writing and also comply with specified requirements related to the form and content of a shareholder’s
notice;
Require at least 80% supermajority shareholder approval to alter, amend or repeal certain provisions of our amended and restated articles of
incorporation; and
Require at least 80% supermajority shareholder approval in order for shareholders to adopt, amend or repeal our amended and restated bylaws.
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These provisions may frustrate or prevent any attempts by our shareholders to replace or remove our current management by making it more difficult for
shareholders to replace members of the Board of Directors, which is responsible for appointing members of our management.
In addition, the 2015 Omnibus Incentive Plan permits the Board or a committee thereof to accelerate, vest or cause the restrictions to lapse with respect to
outstanding equity awards, in the event of, or immediately prior to, a change in control. Such vesting or acceleration could discourage the acquisition of our
Company.
We could also become subject to certain anti‑takeover provisions under Michigan law which may discourage, delay or prevent someone from acquiring us or
merging with us, whether or not an acquisition or merger is desired by or beneficial to our shareholders. If a corporation’s board of directors chooses to “opt in” to
certain provisions of Michigan Law, such corporation may not, in general, engage in a business combination with any beneficial owner, directly or indirectly, of
10% of the corporation’s outstanding voting shares unless the holder has held the shares for five years or more or, among other things, the board of directors has
approved the business combination. Our Board of Directors has not elected to be subject to this provision, but could do so in the future. Any provision of our
amended and restated articles of incorporation or bylaws or Michigan law that has the effect of delaying or deterring a change in control could limit the opportunity
for our shareholders to receive a premium for their shares, and could also affect the price that some investors are willing to pay for our common stock otherwise.
We cannot assure you that we will declare or pay dividends on our common shares in the future so any returns may be limited to the value of our stock.
We currently anticipate that we will retain future earnings for the development, operation and expansion of our business and do not anticipate declaring or
paying any cash dividends for the foreseeable future. Any return to shareholders will therefore be limited to appreciation in value of their stock, if any.
In addition, any determination to declare or pay future dividends to our shareholders will be at the discretion of our board of directors and will depend on a
variety of factors, including (1) our financial condition, liquidity, results of operations (including our ability to generate cash flow in excess of expenses and our
expected or actual net income), retained earnings and collateral and capital requirements, (2) general business conditions, (3) legal, tax and regulatory limitations,
(4) contractual prohibitions and other restrictions, (5) the effect of a dividend or dividends upon our financial strength ratings and (6) any other factors that our
board of directors deems relevant.
Our principal shareholders and management own a significant percentage of our stock and will be able to exert significant control over matters subject to
shareholder approval.
As of December 31, 2019, our executive officers, directors, 5% shareholders and their affiliates owned approximately 71.6% of our voting stock. Therefore,
these shareholders will have the ability to influence us through their ownership position. These shareholders may be able to significantly influence all matters
requiring shareholder approval. For example, these shareholders may be able to significantly influence elections of directors, amendments of our organizational
documents, or approval of any merger, sale of assets, or other major corporate transaction. This may prevent or discourage unsolicited acquisition proposals or
offers for our common stock that you may feel are in your best interest as one of our shareholders.
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Risks Related to Ownership of Our Publicly Traded Debt
Our ability to meet our obligations on our outstanding debt, including making principal and interest payments on the Notes and the Subordinated Notes,
may be limited by our holding company structure and regulatory constraints restricting dividends or other distributions by our Insurance Company
Subsidiaries.
We are a holding company that transacts the majority of our business through our Insurance Company Subsidiaries and, as a result, our principal sources of
funds are dividends and other payments from our Insurance Company Subsidiaries, including intercompany service fees. Our ability to meet our obligations on our
outstanding debt obligations, including making principal and interest payments on the Notes, depends on continuing to receive sufficient funds from our Insurance
Company Subsidiaries. We have met, and expect to continue to meet our outstanding debt obligations, including making principal and interest payments on the
Notes, primarily through intercompany service fees we receive. We also may use dividends paid to us by our Insurance Company Subsidiaries to meet part or all of
our debt obligations, including making principal and interest payments on the Notes. State insurance laws, however, limit the ability of our Insurance Company
Subsidiaries to pay dividends and require them to maintain specified minimum levels of statutory capital and surplus. The aggregate maximum amount of
dividends permitted by law to be paid by an insurance company does not necessarily define an insurance company’s actual ability to pay dividends. The actual
ability to pay dividends may be further constrained by business and regulatory considerations, such as the impact of dividends on surplus, by our competitive
position and by the amount of premiums that we can write. As a result, our ability to use dividends as a source of funds to meet part or all of our debt obligations,
including making principal and interest payments on the Notes, may be significantly limited. Any significant reduction in the intercompany service fees we
receive, and any regulatory and other limitations on the payment of dividends to us by our Insurance Company Subsidiaries, may adversely affect our ability to pay
interest on the Notes as it comes due and the principal of the Notes at their maturity.
Servicing our indebtedness will require a significant amount of cash. Our ability to generate sufficient cash depends on many factors, some of which are
not within our control.
Our ability to make payments on our indebtedness (including the Notes) will depend on our ability to generate cash in the future. To a certain extent, this is
subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. If we are unable to generate sufficient cash
flow to service our debt and meet our other commitments, we may need to restructure or refinance all or a portion of our debt, sell material assets or operations or
raise additional debt or equity capital. We may not be able to effect any of these actions on a timely basis, on commercially reasonable terms or at all, and these
actions may not be sufficient to meet our capital requirements. In addition, the terms of our existing or future debt arrangements may restrict us from effecting any
of these alternatives.
There are limited covenants in the Indenture.
In addition to our currently outstanding indebtedness and other liabilities, the Indenture does not restrict us or our subsidiaries from incurring additional debt
or other liabilities, including additional senior debt or secured debt under our secured credit facilities. If we incur additional debt or liabilities, our ability to pay the
obligations on the Notes could be adversely affected.
Our indebtedness, including the indebtedness we or our subsidiaries may incur in the future, could have important consequences for the holders of the Notes,
including:
•
•
•
•
limiting our ability to satisfy our obligations with respect to the Notes;
increasing our vulnerability to general adverse economic and industry conditions;
limiting our ability to obtain additional financing to fund future working capital, capital expenditures, and other general corporate requirements;
requiring a substantial portion of our cash flow from operations for the payment of principal of, and interest on, our indebtedness and thereby reducing
our ability to use our cash flow to fund working capital, capital expenditures and general corporate requirements; and
27
•
limiting our flexibility in planning for, or reacting to, changes in our business and the industry; and putting us at a disadvantage compared to
competitors with less indebtedness.
In addition, we have limited restrictions under the Indenture from granting security interests in our assets, paying dividends or issuing or repurchasing
securities.
Moreover, the Indenture does not require us to maintain any financial ratios or specific levels of net worth, revenues, income, cash flow or liquidity and,
accordingly, does not protect holders of the Notes in the event that we experience material adverse changes in our financial condition or results of
operations. Holders of the Notes have limited protection under the Indenture in the event of a highly leveraged transaction, reorganization, default under our
existing indebtedness, restructuring, merger or similar transaction.
For these reasons, you should not consider the covenants in the Indenture a significant factor in evaluating whether to invest in the Notes.
The Notes will be structurally subordinated to the indebtedness and other liabilities of our subsidiaries.
The Notes are obligations exclusively of Conifer Holdings, Inc. and not of any of our subsidiaries. None of our subsidiaries is a guarantor of the Notes and
the Notes are not required to be guaranteed by any subsidiary we may acquire or create in the future. Any assets of our subsidiaries will not be directly available to
satisfy the claims of our creditors, including holders of the Notes. Except to the extent we are a creditor with recognized claims against our subsidiaries, all claims
of creditors of our subsidiaries will have priority over our equity interests in such subsidiaries (and therefore the claims of our creditors, including holders of the
Notes) with respect to the assets of such subsidiaries. Even if we are recognized as a creditor of one or more of our subsidiaries, our claims would still be
effectively subordinated to any security interests in the assets of any such subsidiary and to any indebtedness or other liabilities of any such subsidiary senior to our
claims. Consequently, the Notes will be structurally subordinated to all indebtedness and other liabilities of any of our subsidiaries and any subsidiaries that we
may in the future acquire or establish. Our subsidiaries may incur substantial indebtedness in the future, all of which would be structurally senior to the Notes.
We may be able to incur substantially more debt.
Conifer may be able to incur substantial indebtedness in the future and such debt may be secured debt or debt of its subsidiaries. The terms of the Indenture
governing the notes will not prohibit Conifer or its subsidiaries from incurring unsecured debt and the limitation on incurring secured debt is subject to important
limitations, qualifications and exceptions. If Conifer incurs any secured debt (including secured revolving loans under our Senior Credit Facility) or any of its
subsidiaries incur any debt, all such debt will be effectively senior to the Notes either to the extent of the value of the collateral securing such debt or structurally,
and if Conifer incurs any additional indebtedness that ranks equally with the Notes, the holders of that debt will be entitled to share ratably with the holders of the
Notes in any proceeds distributed in connection with any insolvency, liquidation, reorganization, dissolution or other winding up of Conifer. If new debt is added
to Conifer’s current debt levels, or Conifer’s subsidiaries incur additional debt, the related risks Conifer faces will increase.
Although the Notes may be listed on the NASDAQ, an active trading market for the Notes may not develop, which could limit the market price of the
Notes or your ability to sell them.
Although the Notes may be listed on the NASDAQ, we cannot provide any assurances that an active trading market will develop for the Notes or that you
will be able to sell your Notes. If the Notes are traded after their initial issuance, they may trade at a discount from their initial offering price depending on
prevailing interest rates, the market for similar securities, our credit ratings, general economic conditions, our financial condition, performance and prospects and
other factors. The underwriters have advised us that they intend to make a market in the Notes, but they are not obligated to do so. The underwriters may
discontinue any market-making in the Notes at any time at their sole discretion. Accordingly, we cannot assure you that a liquid trading market will develop for the
Notes, that you will be able to sell your Notes at a particular time or that the price you receive when you sell will be favorable. To the extent an active trading
market does not develop, the liquidity and trading price for the Notes may be harmed. Accordingly, you may be required to bear the financial risk of an investment
in the Notes for an indefinite period of time.
28
No market currently exists for the Notes and an active trading market may not develop.
The Notes are securities with no established trading market. We have applied for listing of the Notes on the Nasdaq Global Market, but no assurance can be
given as to the approval of the Notes for listing or, if listed, the continued listing for the term of the Notes, or the liquidity or trading market for the Notes. There
can be no assurance that a secondary market for the Notes will develop. We are not required to maintain a listing on the Nasdaq Global Market or any other
exchange. Even if the listing of the Notes on the Nasdaq Global Market is approved, we cannot assure you that a market will develop, or continue, or that you will
be able to sell your Notes easily.
The liquidity of any market for the Notes will depend upon various factors, including:
•
•
•
•
•
the number of holders of the Notes;
the interest of securities dealers in making a market for the Notes;
the overall market for debt securities;
our financial performance and prospects; and
the prospects for companies in our industry generally.
Accordingly, we cannot assure you that an active trading market will develop, or continue, for the Notes. If the Notes are traded after their initial issuance,
they may trade at a discount from their initial offering price, depending upon prevailing interest rates and other factors, including those listed above.
Volatility in the market price and trading volume of our common stock could adversely impact the trading price of the Notes.
The stock market in recent years has experienced significant price and volume fluctuations that have often been unrelated to the operating performance of
companies. In addition, the market price of our common stock historically has been volatile. The market price of our common stock could fluctuate significantly
for many reasons, including in response to the risks described in this section or in our Annual Report for the fiscal year ended December 31, 2019, or our
subsequently filed quarterly reports on Form 10-Q or elsewhere in this prospectus for reasons unrelated to our operations, such as reports by industry analysts,
investor perceptions or negative announcements by our customers, competitors or suppliers regarding their own performance, as well as industry conditions and
general financial, economic and political instability. A decrease in the market price of our common stock would likely adversely impact the trading price of the
Notes. The market price of our common stock could also be affected by possible sales of our common stock by investors who view the Notes as a more attractive
means of equity participation in us and by hedging or arbitrage trading activity that may develop involving our common stock. This trading activity could, in turn,
affect the trading price of the Notes. This volatility in the market price of our common stock may affect the price at which you could sell the shares of our common
stock you receive upon conversion of your Notes, if any, and the sale of substantial amounts of our common stock could adversely affect the price of our common
stock and the value of your Notes.
If we default on our obligations to pay our other indebtedness, we may not be able to make payments on the Notes.
Any default under the agreements governing our indebtedness, including other indebtedness to which we may be a party that is not waived by the required
lenders, and the remedies sought by the holders of such indebtedness could make us unable to pay principal, premium, if any, and interest on the Notes and
substantially decrease the market value of the Notes. If we are unable to generate sufficient cash flow and are otherwise unable to obtain funds necessary to meet
required payments of principal, premium, if any, and interest on our indebtedness, or if we otherwise fail to comply with the various covenants, including financial
and operating covenants, in the instruments governing our indebtedness, we could be in default under the terms of the agreements governing such indebtedness. In
the event of such default, the holders of such indebtedness could elect to declare all the funds borrowed thereunder to be due and payable, together with accrued
and unpaid interest, the lenders under any other debt we may incur in the future could elect to terminate their commitments, cease making further loans and institute
foreclosure proceedings against our assets, and we could be forced into bankruptcy or liquidation. If our operating performance declines, we may in the future need
to seek to obtain waivers from the required lenders under other
29
debt that we may incur in the future to avoid being in default. If we breach our covenants under other debt and seek a waiver, we may not be able to obtain a
waiver from the required lenders. If this occurs, we would be in default under other debt, the lenders could exercise their rights as described above, and we could
be forced into bankruptcy or liquidation. If we are unable to repay debt, lenders having secured obligations could proceed against the collateral securing the debt.
The price at which holders will be able to sell their Notes prior to maturity will depend on a number of factors and may be substantially less than the
amount originally invested.
We believe that the value of the Notes in any secondary market will be affected by the supply and demand of the Notes, the interest rate, their ranking and a
number of other factors. The following factors, among others, may have an impact on the market value of the Notes:
•
•
•
•
•
United States interest rates. We expect that the market value of the Notes will be affected by actual or anticipated changes in interest rates in the United
States. In general, if U.S. interest rates increase, the market value of the Notes may decrease.
Our credit ratings, financial condition and results. Actual or anticipated changes in our A.M. Best ratings, other credit ratings, financial condition or
results of operations may affect the market value of the Notes.
Our other existing and future liabilities. Existing and any future indebtedness and other obligations of our, or of our subsidiaries, may affect the market
value of the Notes.
General economic conditions. General economic conditions may affect the market value of the Notes.
Market for similar securities. The market for similar securities may affect the market value of the Notes.
Some of these factors are interrelated in complex ways. As a result, the effect of any one factor, such as an increase in United States interest rates, may be
offset or magnified by the effect of one or more other factors.
We may redeem the Notes before maturity, and holders of the redeemed Notes may be unable to reinvest the proceeds at the same or a higher rate of
return.
We may redeem all or a portion of the Notes. If redemption does occur, holders of the redeemed Notes may be unable to reinvest the money received in the
redemption at a rate that is equal to or higher than the rate of return on the Notes.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
ITEM 2. PROPERTIES
We lease office space in Birmingham, Michigan, where our principal executive office is located. We also lease offices in Southfield, Michigan; Jacksonville,
Orlando and Miami, Florida; and Somerset, Pennsylvania. We believe that our facilities are adequate for our current needs and that suitable additional or substitute
space will be available as needed.
ITEM 3. LEGAL PROCEEDINGS
We are party to legal proceedings which arise in the ordinary course of business. We believe that the outcome of such matters, individually and in the
aggregate, will not have a material adverse effect on our consolidated financial position, operating results or liquidity.
ITEM 4. MINE SAFETY DISCLOSURES
Not Applicable.
30
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY
SECURITIES.
PART II
Shareholder Information
Corporate Headquarters
550 W. Merrill Street
Birmingham, MI 48009
Phone: (248) 559-0840
Corporate Counsel
Honigman Miller Schwartz and Cohn, LLP
600 Woodward Avenue
2290 First National Building
Detroit, MI 48226-3506
Shareholder Relations and Form 10-K
Transfer Agent & Registrar
American Stock Transfer & Trust Co, LLC
6201 15th Avenue
Brooklyn, NY 11219
A copy of our 2019 Annual Report and Form 10-K, as filed with the Securities and Exchange Commission, may be obtained upon written request to our
Financial Reporting Department at our corporate headquarters at ir@cnfrh.com.
Share Price and Dividend Information
Our common stock is traded on the Nasdaq under the symbol “CNFR.” The following table sets forth the high and low sale prices of our common shares as
reported by the Nasdaq for each period shown:
2019
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
2018
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
High
Low
4.86
4.80
4.00
4.50
6.85
6.40
7.20
5.90
3.70
3.42
3.20
3.50
5.15
5.60
5.60
3.06
Neither Michigan law nor our amended and restated articles of incorporation requires our board of directors to declare dividends on our common
stock. Conifer Holdings, Inc. is a holding company that has no substantial revenues of its own, and relies primarily on intercompany service fees, cash dividends or
distributions from its subsidiaries to pay operating expenses, service debts, and pay dividends to shareholders. The payment of dividends by the Insurance
Company Subsidiaries is limited under the laws and regulations of their respective state of domicile. These regulations stipulate the maximum amount of annual
dividends or other distributions available to shareholders without prior approval of the relevant regulatory authorities. Any future determination to declare cash
dividends on our common stock will be made at the discretion of the board of directors and will depend on the financial condition, results of operations, capital
requirements, general business conditions and other factors that the board of directors may deem relevant. The Parent Company has not historically paid dividends
and does not anticipate paying cash dividends on its common stock for the foreseeable future.
31
For additional information regarding dividend restrictions, refer to the Liquidity and Capital Resources section of Management’s Discussion and Analysis.
Shareholders of Record
As of March 12, 2020, there were 29 shareholders of record of our common stock. A substantially greater number of holders are beneficial owners whose
shares are held of record by banks, brokers and other nominees.
Repurchases of Company's Stock
On December 5, 2018, the Company's Board of Directors authorized a stock repurchase program, under which the Company may repurchase up to one
million shares of the Company's common stock. Shares may be purchased in the open market or through negotiated transactions. The program may be terminated
or suspended at any time, at the discretion of the Company. The Company may in the future enter into a Rule 10b5-1 trading plan to effect a portion of the
authorized purchases, if criteria set forth in the plan are met. Such a plan would enable the Company to repurchase its shares during periods outside of its normal
trading windows, when the Company typically would not be active in the market. The timing of purchases, and the exact number of any shares to be purchased,
will depend on market conditions. The repurchase program does not include specific price targets or timetables. For the year ended December 31, 2018 the
Company had repurchased 129,175 shares of stock valued at approximately $584,000 related to the stock repurchase program. The Company also repurchased
8,053 shares of stock valued at approximately $52,000 related to the vesting of the Company’s restricted stock units. For the year ended December 31, 2019, the
Company had repurchased 154,208 shares of stock valued at approximately $638,000 related to the stock repurchase program. Upon the repurchase of the
Company's shares, the shares remain authorized, but not issued or outstanding.
Recent Sales of Unregistered Securities
In the past three years, we have sold and issued the following unregistered securities:
In June 2019, the Company issued $5.0 million of common equity through a private placement for 1,176,471 shares priced at $4.25 per share. The
participants in the private placement consisted of members of the Company's Board of Directors. The Company used the proceeds for growth capital in the
Company's specialty core business segments.
On September 27, 2017, the Company’s Board of Directors authorized a private placement stock purchase offering wherein the Company was authorized to
sell a maximum of $7.0 million of the Company’s common stock, no par value per share, pursuant to Section 4(a)(2) of the Securities Act of 1933, as amended, and
Rule 506(b) of Regulation D as promulgated under the Securities Act and in accordance with applicable federal securities laws, including Rule 10b5-1 and 10b-18
of the Securities Exchange Act of 1934 as amended. The participants in the private placement consisted mainly of members of the Company’s management team
and Board of Directors, including the Company’s Chairman and CEO, James Petcoff.
Under this private placement offering, the Company issued $5.0 million of common equity consisting of 800,000 shares at the price of $6.25 per share on
September 28, 2017. The Company’s common stock closing market price on the Nasdaq Stock Market on September 28, 2017, was $6.05 per share. The offering
was made to accredited investors only. No commissions or other remuneration were paid in connection with the issuance. The actual timing, number and value of
shares to be issued under the private placement offering was determined by management in its discretion and depended on a number of factors, including the
market price of the Company’s stock, general marketing conditions, and other factors. The Company used the proceeds from the issuance to strengthen its balance
sheet through contributions to the Insurance Company Subsidiaries to support future growth, as well as to cover the cost of the ADC and reserve strengthening.
No underwriters were involved in the foregoing sales of securities. The issuances of the securities described above were deemed to be exempt from
registration under the Securities Act in reliance on Section 4(2) of the Securities Act as transactions by an issuer not involving a public offering.
32
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The following tables set forth selected consolidated historical financial information of Conifer Holdings, Inc. and Subsidiaries as of the dates and for the
periods indicated. The selected financial data for the years ended December 31, 2019, 2018, 2017, 2016, and 2015 were derived from our audited consolidated
financial statements and related notes thereto.
These historical results are not necessarily indicative of results to be expected for any future period. The following financial information should be read in
conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the
related notes thereto included elsewhere in this report (dollars in thousands, except for per share data).
Operating Results:
Gross written premiums
Ceded written premiums
Net written premiums
Net earned premiums
Net investment income
Net realized investment gains
Change in fair value of equity securities
Other gains (losses) (1)
Other income
Total revenue
Losses and loss adjustment expenses, net
Policy acquisition costs
Operating expenses
Interest expense
Total expenses
Income (loss) before income taxes
Equity earnings (losses) in affiliates, net of tax
Income tax expense (benefit)
Net income (loss)
Less net income (loss) for non-controlling
Net income (loss) for Conifer
Net income (loss) allocable to common shareholders
Net income (loss) per share allocable to common
shareholders, basic and diluted
Weighted average common shares outstanding,
basic and diluted
2019
2018
Year Ended December 31,
2017
2016
2015
$
$
$
$
$
$
101,853 $
(14,129)
87,724 $
89,089 $
4,031
1,196
(427)
—
2,109
95,998
59,744
24,911
17,582
2,882
105,119
(9,121)
386
(913)
(7,822)
—
104,368 $
(15,282)
89,086 $
93,811 $
3,336
61
121
—
1,582
98,911
62,515
25,534
17,683
2,644
108,376
(9,465)
290
52
(9,227)
—
114,284 $
(23,044)
91,240 $
91,729 $
2,728
70
—
750
1,560
96,837
73,917
26,245
17,367
1,362
118,891
(22,054)
65
(447)
(21,542)
—
114,923 $
(14,994)
99,929 $
89,627 $
2,173
1,365
—
(400)
1,118
93,883
59,003
25,280
17,596
647
102,526
(8,643)
129
(77)
(8,437)
—
93,750
(14,076)
79,674
66,765
1,902
285
—
104
1,667
70,723
38,882
16,183
14,806
769
70,640
83
(52)
48
(17)
(81)
(7,822) $
(9,227) $
(21,542) $
(8,437) $
64
(7,822) $
(9,227) $
(21,542) $
(8,437) $
(476)
(0.88) $
(1.08) $
(2.74) $
(1.11) $
(0.09)
8,880,107
8,543,876
7,867,344
7,618,588
5,369,960
33
Balance Sheet Data:
Cash and invested assets
Reinsurance recoverables
Total assets
Unpaid losses and loss adjustment expenses
Unearned premiums
Debt
Total liabilities
Total shareholders’ equity attributable to Conifer
Other Data:
Shareholders’ equity per common share outstanding
Regulatory capital and surplus (2)
Underwriting Ratios:
Loss ratio
Expense ratio
Combined ratio
2019
2018
Year Ended December 31,
2017
2016
2015
$
177,196 $
27,734
247,265
107,246
51,503
35,824
204,540
42,725
150,894 $
34,745
232,752
92,807
52,852
33,502
190,589
42,163
169,518 $
24,539
239,032
87,896
57,672
29,027
186,206
52,826
141,023 $
7,498
203,701
54,651
58,126
17,750
135,907
67,794
130,427
7,044
177,927
35,422
47,916
12,750
100,665
77,262
$
4.45 $
59,561
4.97 $
63,993
6.20 $
62,451
8.88 $
62,189
10.11
71,153
2019
2018
2017
2016
2015
66.8%
44.0%
110.8%
66.4%
45.9%
112.3%
79.9%
44.8%
124.7%
65.0%
47.2%
112.2%
56.8%
45.3%
102.1%
(1)
(2)
In 2017, the Company recognized a $750,000 gain on the sale of the renewal rights of a portion of the low value dwelling book of business to another
insurer. In 2016, the value of intangible assets recorded for insurance licenses were written off when two affiliated insurance subsidiaries were merged. In
2015, the Company recognized a gain as a result of the deconsolidation of an affiliate.
For our Insurance Company Subsidiaries, the excess of assets over liabilities are determined in accordance with statutory accounting principles as determined
by the domiciliary state for each Insurance Company Subsidiary. In 2018, CIC issued a surplus note to WPIC for $10.0 million. The regulatory capital and
surplus balance as of year ended December 31, 2019 eliminates the $10.0 million surplus note from the consolidated balance.
34
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following Management’s Discussion and Analysis of financial condition and results of operations should be read in conjunction with the Consolidated
Financial Statements, related notes and other financial information appearing elsewhere in this Annual Report on Form 10-K, filed with the U. S. Securities and
Exchange Commission (“SEC”).
Forward-Looking Statements
Certain statements contained in this Annual Report on Form 10-K, which are not statements of historical fact, are forward-looking statements within the meaning
of Section 27A of the Securities Act of 1933, as amended, as Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements give
current expectations or forecasts of future events or our future financial or operating performance. Words such as “anticipate,” “believe,” “estimate,” “expect,”
"will," “intend,” “may,” “plan,” “seek” and similar terms and phrases, or the negative thereof, may be used to identify forward-looking statements.
The forward-looking statements contained in this report are based on management’s good-faith belief and reasonable judgment based on current information. The
forward-looking statements are qualified by important factors, risks and uncertainties, many of which are beyond our control, which could cause our actual results
to differ materially from those in the forward-looking statements, including those described above in Item 1A Risk Factors and subsequent reports filed with or
furnished to the SEC. Any forward-looking statement made by us in this report speaks only as of the date hereof or as of the date specified herein. We undertake
no obligation to publicly update any forward-looking statement, whether as a result of new information, future developments or otherwise, except as may be
required by any applicable laws or regulations.
Business Overview
We are an insurance holding company that markets and services our product offerings through specialty commercial and specialty personal insurance
business lines. Our growth has been significant since our founding in 2009. Currently, we are authorized to write insurance as an excess and surplus lines carrier
in 45 states, including the District of Columbia. We are licensed to write insurance as an admitted carrier in 42 states, including the District of Columbia, and we
offer our insurance products in all 50 states.
Our revenues are primarily derived from premiums earned from our insurance operations. We also generate other revenues through investment income and
other income which mainly consists of: installment fees and policy issuance fees generally related to the policies we write.
Our expenses consist primarily of losses and loss adjustment expenses, agents’ commissions, and other underwriting and administrative expenses. We
organize our operations in three insurance businesses: commercial insurance lines, personal lines, and agency business. Together, the commercial and personal
lines refer to “underwriting” operations that take insurance risk, and the agency business refers to non-risk insurance business.
Through our commercial insurance lines, we offer coverage for both commercial property and commercial liability. We also offer coverage for commercial
automobiles and workers’ compensation. Our insurance policies are sold to targeted small and mid-sized businesses on a single or multiple-coverage basis.
Through our personal insurance lines, we offer homeowners insurance and dwelling fire insurance products to individuals in several states. Our specialty
homeowners insurance product line is primarily comprised of low-value dwelling insurance tailored for owners of lower valued homes, which we offer in Illinois,
Indiana and Texas. Due to recent Florida-based industry events, we have been de-emphasizing our Florida homeowners’ business and reducing our exposures in
that state, as well as other wind-exposed states like Texas and Hawaii.
Through our wholesale agency business segment, we offer commercial and personal lines insurance products for our Insurance Company Subsidiaries as well
as third-party insurers. We have expanded the wholesale agency business to develop more non-risk revenue streams, and to provide our agents with more insurance
product options.
35
Critical Accounting Policies and Estimates
General
We identified the accounting estimates below as critical to the understanding of our financial position and results of operations. Critical accounting estimates
are defined as those estimates that are both important to the portrayal of our financial condition and results of operations and which require us to exercise
significant judgment. We use significant judgment concerning future results and developments in applying these critical accounting estimates and in preparing our
consolidated financial statements. These judgments and estimates affect the reported amounts of assets, liabilities, revenues and expenses and the disclosure of
material contingent assets and liabilities. Actual results may differ materially from the estimates and assumptions used in preparing the consolidated financial
statements. We evaluate our estimates regularly using information that we believe to be relevant. See the Consolidated Financial Statements Note 1 ~ Summary of
Significant Accounting Policies, for further details.
Loss and Loss Adjustment Expense Reserves
Our recorded loss and loss adjustment expenses ("LAE") reserves represent management’s best estimate of unpaid loss and LAE at each balance sheet date,
based on information, facts and circumstances known at such time. Our loss and LAE reserves reflect our estimates at the balance sheet date of:
•
•
Case reserves, which are unpaid loss and LAE amounts that have been reported; and
Incurred but not reported ("IBNR") reserves, which are (1) unpaid loss and LAE amounts that have been incurred but not yet reported; and (2) the
expected development on case reserves.
We do not discount the loss and LAE reserves for the time value of money.
Case reserves are initially set by our claims personnel. When a claim is reported to us, our claims department completes a case‑basis valuation and
establishes a case reserve for the estimated amount of the probable ultimate losses and LAE associated with that claim. Our claims department updates their
case‑basis valuations upon receipt of additional information and reduces case reserves as claims are paid. The case reserve is based primarily upon an evaluation of
the following factors:
•
•
•
•
•
•
•
The type of loss;
The severity of injury or damage;
Our knowledge of the circumstances surrounding the claim;
The jurisdiction of the occurrence;
Policy provisions related to the claim;
Expenses intended to cover the ultimate cost of settling claims, including investigation and defense of lawsuits resulting from such claims, costs of
outside adjusters and experts, and all other expenses which are identified to the case; and
Any other information considered pertinent to estimating the indemnity and expense exposure presented by the claim.
IBNR reserves are determined by subtracting case reserves and paid loss and LAE from the estimated ultimate loss and LAE. Our actuarial department
develops estimated ultimate loss and LAE on a quarterly basis. Our Reserve Review Committee (which includes our Chief Executive Officer, President, Chief
Financial Officer, other members of executive management, and key actuarial, underwriting and claims personnel) meets each quarter to review our actuaries’
estimated ultimate expected loss and LAE.
36
We use several generally accepted actuarial methods to develop estimated ultimate loss and LAE estimates by line of business and accident year. This
process relies on the basic assumption that past experience, adjusted for the effects of current developments and likely trends, is a reasonable basis for predicting
future outcomes. These methods utilize various inputs, including:
•
•
•
•
Written and earned premiums;
Paid and reported losses and LAE;
Expected initial loss and LAE ratio, which is the ratio of incurred losses and LAE to earned premiums; and
Expected claim reporting and payout patterns based on our own loss experience and supplemented with insurance industry data where applicable.
The principal standard actuarial methods used by our actuaries for their comprehensive reviews include:
•
•
•
•
Loss ratio method—This method uses loss and LAE ratios for prior accident years, adjusted for current trends, to determine an appropriate expected
loss and LAE ratio for a given accident year;
Loss development methods—Loss development methods assume that the losses and LAE yet to emerge for an accident year are proportional to the paid
or reported loss and LAE amounts observed to‑date. The paid loss development method uses losses and LAE paid to date, while the reported loss
development method uses losses and LAE reported to date;
Bornheutter‑Ferguson method—This method is a combination of the loss ratio and loss development methods, where the loss development factor is
given more weight as an accident year matures; and
Frequency/severity method—This method projects claim counts and average cost per claim on a paid or reported basis for high frequency, low severity
products.
Our actuaries give different weights to each of these methods based upon the amount of historical experience data by line of business and by accident year,
and based on judgment as to what method is believed to result in the most accurate estimate. The application of each method by line of business and by accident
year may change in the future if it is determined that a different emphasis for each method would result in more accurate estimates.
Our actuaries also analyze several diagnostic measures by line of business and accident year, including but not limited to: reported and closed frequency and
severity, claim reporting and claim closing patterns, paid and incurred loss ratio development, and ratios of paid loss and LAE to incurred loss and LAE. After the
actuarial methods and diagnostic measures have been performed and analyzed, our actuaries use their judgment and expertise to select an estimated ultimate loss
and LAE by line of business and by accident year.
Our actuaries estimate an IBNR reserve for our unallocated LAE not specifically identified to a particular claim, namely our internal claims department
salaries and associated general overhead and administrative expenses associated with the adjustment and processing of claims. These estimates, which are referred
to as unallocated loss adjustment expense ("ULAE") reserves, are based on internal cost studies and analyses reflecting the relationship of ULAE paid to actual
paid and incurred losses. We select factors that are applied to case reserves and IBNR reserve estimates in order to estimate the amount of ULAE reserves
applicable to estimated loss reserves at the balance sheet date.
We allocate the applicable portion of our estimated loss and LAE reserves to amounts recoverable from reinsurers under reinsurance contracts and report
those amounts separately from our loss and LAE reserves as an asset on our balance sheet.
37
The estimation of ultimate liability for losses and LAE is a complex, imprecise and inherently uncertain process, and therefore involves a considerable degree
of judgment and expertise. Our loss and LAE reserves do not represent an exact measurement of liability, but are estimates based upon various factors, including
but not limited to:
•
•
•
•
Actuarial projections of what we, at a given time, expect to be the cost of the ultimate settlement and administration of claims reflecting facts and
circumstances then known;
Estimates of future trends in claims severity and frequency;
Assessment of asserted theories of liability; and
Analysis of other factors, such as variables in claims handling procedures, economic factors, and judicial and legislative trends and actions.
Most or all of these factors are not directly or precisely quantifiable, particularly on a prospective basis, and are subject to a significant degree of variability
over time. In addition, the establishment of loss and LAE reserves makes no provision for the broadening of coverage by legislative action or judicial interpretation
or for the extraordinary future emergence of new types of losses not sufficiently represented in our historical experience or which cannot yet be quantified. As a
result, an integral component of our loss and LAE reserving process is the use of informed subjective estimates and judgments about our ultimate exposure to
losses and LAE. Accordingly, the ultimate liability may vary significantly from the current estimate. The effects of change in the estimated loss and LAE reserves
are included in the results of operations in the period in which the estimate is revised.
Our reserves consist entirely of reserves for property and liability losses, consistent with the coverages provided for in the insurance policies directly written
or assumed by us under reinsurance contracts. Several years may elapse between the occurrence of an insured loss, the reporting of the loss to us and our payment
of the loss. The level of IBNR reserves in relation to total reserves depends upon the characteristics of the specific line of business, particularly related to the speed
with which claims are reported and outstanding claims are paid. Lines of business for which claims are reported slowly will have a higher percentage of IBNR
reserves than lines of business that report and settle claims more quickly.
The following table shows the ratio of IBNR reserves to total reserves net of reinsurance recoverables as of December 31, 2019 (dollars in thousands):
Line of Business
Commercial Lines
Personal Lines
Total Lines
Case
Reserves
IBNR
Reserves
Total
Reserves
$
$
43,299
1,802
45,101
$
$
38,501
1,065
39,566
$
$
81,800
2,867
84,667
Ratio of
IBNR to
Total
Reserves
47.1%
37.1%
46.7%
Although we believe that our reserve estimates are reasonable, it is possible that our actual loss and LAE experience may not conform to our assumptions and
may, in fact, vary significantly from our assumptions. Accordingly, the ultimate settlement of losses and the related LAE may vary significantly from the estimates
included in our financial statements. We continually review our estimates and adjust them as we believe appropriate as our experience develops or new
information becomes known to us. Such adjustments are included in current operations.
Our loss and LAE reserves do not represent an exact measurement of liability, but are estimates. The most significant assumptions affecting our IBNR
reserve estimates are the loss development factors applied to paid losses and case reserves to develop IBNR by line of business and accident year. Although
historical loss development provides us with an indication of future loss development, it typically varies from year to year. Thus, for each accident year within
each line of business we select one loss development factor out of a range of historical factors.
38
We generated a sensitivity analysis of our net reserves which represents reasonably likely levels of variability in our selected loss development factors. We
believe the most meaningful approach to the sensitivity analysis is to vary the loss development factors that drive the ultimate loss and LAE estimates. We applied
this approach on an accident year basis, reflecting the reasonably likely differences in variability by level of maturity of the underlying loss experience for each
accident year. Generally, the most recent accident years are characterized by more unreported losses and less information available for settling claims, and have
more inherent uncertainty than the reserve estimates for more mature accident years. Therefore, we used variability factors of plus or minus 10% for the most
recent accident year, 5% for the preceding accident year, and 2.5% for the second preceding accident year. There is minimal expected variability for accident years
at four or more years’ maturity.
The following table displays ultimate net loss and LAE and net loss and LAE reserves by accident year for the year ended December 31, 2019. We applied
the sensitivity factors to each accident year amount and have calculated the amount of potential net loss and LAE reserve change and the impact on 2019 reported
pre-tax income and on net income and shareholders’ equity at December 31, 2019. We believe it is not appropriate to sum the illustrated amounts as it is not
reasonably likely that each accident year’s reserve estimate assumptions will vary simultaneously in the same direction to the full extent of the sensitivity
factor. We also believe that such changes to our reserve balance would not have a material impact on our operating results, financial position, or liquidity. The net
income and shareholders' equity amounts include an income tax rate assumption of 21%. The dollar amounts in the table are in thousands.
December 31,
2019
Potential
Impact on
2019
Ultimate
Loss and
LAE
Sensitivity
Factor
Net Ultimate
Loss and
LAE
Net Loss and
LAE
Reserves
Pre-
Tax Income
Shareholders'
Equity
10.0% $
5.0%
2.5%
—%
49,128 $
53,080
69,977
—
34,835 $
24,664
16,502
8,665
(10.0)%
(5.0)%
(2.5)%
49,128
53,080
69,977
34,835
24,664
16,502
8,665
4,913 $
2,654
1,749
—
(4,913)
(2,654)
(1,749)
—
3,881
2,097
1,382
—
(3,881)
(2,097)
(1,382)
—
Increased Ultimate Losses & LAE
Accident Year 2019
Accident Year 2018
Accident Year 2017
Prior to 2017 Accident Years
Decreased Ultimate Losses & LAE
Accident Year 2019
Accident Year 2018
Accident Year 2017
Prior to 2017 Accident Years
Investment Valuation and Impairment
We carry debt securities classified as available‑for‑sale at fair value, and unrealized gains and losses on such securities, net of any deferred taxes, are reported
as a separate component of accumulated other comprehensive income. Our equity securities that do not result in consolidation and are not accounted for under the
equity method are measured at fair value and any changes in fair value are recognized in net income. We carry other equity investments that do not have a readily
determinable fair value at cost, less impairment and adjusted for observable price changes under the measurement alternative provided under GAAP. We review
these investments for impairment during each reporting period. We do not have any securities classified as trading or held‑to‑maturity.
We evaluate our available‑for‑sale investments regularly to determine whether there have been declines in value that are other‑than‑temporary. Our outside
investment managers assist us in this evaluation. When we determine that a security has experienced an other‑than‑temporary impairment, the impairment loss is
recognized as a realized investment loss.
39
We consider a number of factors in assessing whether an impairment is other‑than‑temporary, including (1) the amount and percentage that current fair value
is below cost or amortized cost, (2) the length of time that the fair value has been below cost or amortized cost and (3) recent corporate developments or other
factors that may impact an issuer’s near term prospects. In addition, for debt securities, we consider the credit quality ratings for the securities, with a special
emphasis on securities downgraded to below investment grade. We also consider our intent to sell available‑for‑sale debt securities in an unrealized loss position,
and if it is more likely than not that we will be required to sell these securities before a recovery in fair value to their cost or amortized cost basis.
Fair values are measured in accordance with ASC 820, Fair Value Measurements. The guidance establishes a framework for measuring fair value and a
three‑level hierarchy based upon the quality of inputs used to measure fair value. The three levels of the fair value hierarchy are: (1) Level 1: inputs are based on
quoted prices (unadjusted) in active markets for identical assets or liabilities, (2) Level 2: inputs are other than quoted prices that are observable for the asset or
liabilities, either directly or indirectly, for substantially the full term of the asset or liability and (3) Level 3: unobservable inputs that are supported by little or no
market activity. The unobservable inputs represent the Company’s best assumption of how market participants would price the assets or liabilities. The Company
also has investment company limited partnership investments, which are measured at net asset value (NAV). The fair value of these investments is based on the
capital account balances reported by the investment funds subject to their management review and adjustment. The capital account balances reflect the fair value of
the investment funds.
The fair values of debt and equity securities have been determined using fair value prices provided by our investment managers, who utilize internationally
recognized independent pricing services. The prices provided by the independent pricing services are generally based on observable market data in active markets
(e.g., broker quotes and prices observed for comparable securities).
The values for publicly‑traded equity securities are generally based on Level 1 inputs which use the market approach valuation technique. The values for
debt securities generally incorporate significant Level 2 inputs. The carrying value of cash and short‑term investments approximate their fair values due to their
short‑term maturity.
We review fair value prices provided by our outside investment managers for reasonableness by comparing the fair values provided by the managers to those
provided by our investment custodian. We also review and monitor changes in unrealized gains and losses. We obtain an understanding of the methods, models
and inputs used by our investment managers and independent pricing services, and controls are in place to validate that prices provided represent fair values. Our
control process includes initial and ongoing evaluation of the methodologies used, a review of specific securities and an assessment for proper classification within
the fair value hierarchy.
Income Taxes
Our income tax expense, deferred tax assets and liabilities, and liabilities for unrecognized tax benefits reflect management’s best assessment of estimated
current and future taxes to be paid. We are subject to income taxes in the United States and numerous state jurisdictions. Significant judgment is required in
determining the consolidated income tax expense.
On December 22, 2017, the U.S. federal government enacted H.R. 1, “An Act to Provide for Reconciliation Pursuant to Titles II and V of the Concurrent
Resolution on the Budget for Fiscal Year 2018” (the “Act”). The Act provided for significant changes to corporate taxation including the decrease of the corporate
tax rate from 34% to 21%.
In 2018, the Company recognized a measurement period adjustment of $42,735 related to loss reserve discounting, which reduced deferred tax expense. The
Company also recognized a measurement period adjustment of $42,735 related to the loss reserve discounting transitional adjustment, which increased deferred tax
expense. The measurement period adjustments were based upon obtaining additional information about facts and circumstances that existed as of the enactment
date that, if known, would have affected the income tax effects initially reported as provisional amounts under the Act. The measurement period adjustments had
no effect on the effective tax rate for the year ending December 31, 2018. The accounting for the income tax effects of the Act pursuant to SAB 118 has been
completed as of the end of the December 22, 2018, measurement period and for the year ended December 31, 2018.
40
Deferred income taxes arise from temporary differences between the tax basis of assets and liabilities and their reported amounts in the financial statements,
which will result in taxable or deductible amounts in the future. In evaluating our ability to recover our deferred tax assets within the jurisdiction from which they
arise, we consider all available positive and negative evidence, including scheduled reversals of deferred tax liabilities, projected future taxable income,
tax‑planning strategies, and results of recent operations. In projecting future taxable income, we begin with historical results and incorporate assumptions about the
amount of future state and federal pretax operating income adjusted for items that do not have tax consequences. The assumptions about future taxable income
require significant judgment and are consistent with the plans and estimates we are using to manage the underlying businesses. In evaluating the objective evidence
that historical results provide, we consider three years of cumulative operating income or loss.
As of December 31, 2019, we have federal and state income tax net operating loss (“NOL”) carryforwards of $60.0 million and $17.7 million,
respectively. Of the NOL carryforwards, $50.0 million will expire in tax years 2020 through 2039 and $10.0 million will never expire. Of the federal NOL
amount, $14.1 million are subject to limitations under Section 382 of the Internal Revenue Code. These net NOL carryforwards are limited in the amount that can
be utilized in any one year and may expire before they are realized. At this time we do not expect that any of the remaining NOL carryforwards will expire before
utilized.
The carrying value of our gross deferred tax asset for the NOL carryforwards is equal to the total NOL carryforward amount times the applicable federal and
state tax rates, and was $13.5 million and $10.7 million as of December 31, 2019 and 2018, respectively. Total gross deferred tax assets were $17.2 million and
$15.4 million as of December 31, 2019 and 2018. A valuation allowance of $13.6 million and $12.6 million has been recorded against the gross deferred tax assets
as of December 31, 2019 and 2018, respectively, as the Company has recognized a three-year cumulative loss as of December 31, 2019 which is significant
negative evidence to support the lack of recoverability of those deferred tax assets in accordance with ASC 740, Income Taxes. If the $13.6 million valuation
allowance as of December 31, 2019 were reversed in the future, it would increase book value by $1.41. The net deferred tax liabilities were zero and $115,000 as
of December 31, 2019 and 2018.
If, in the future, we determine we can support the recoverability of a portion or all of the deferred tax assets under the guidance, the tax benefits relating to
any reversal of the valuation allowance on deferred tax assets will be accounted for as a reduction of income tax expense and result in an increase in
equity. Changes in tax laws and rates may affect recorded deferred tax assets and liabilities and our effective tax rate in the future.
41
Non-GAAP Financial Measures
Adjusted Operating Income (Loss) and Adjusted Operating Income (Loss) Per Share
Adjusted operating income (loss) and adjusted operating income (loss) per share are non-GAAP measures that represent net income allocable to common
shareholders excluding net realized investment and other gains (losses), net of tax, the effects of tax reform, the tax effect of changes in unrealized gains to the
extent included in net income, the change in the fair value of equity securities, net of tax, and the capitalization and amortization of deferred gains from the
ADC. The most directly comparable financial GAAP measures to adjusted operating income and adjusted operating income per share are net income and net
income per share, respectively. Adjusted operating income and adjusted operating income per share are intended as supplemental information and are not meant to
replace net income or net income per share. Adjusted operating income and adjusted operating income per share should be read in conjunction with the GAAP
financial results. Our definition of adjusted operating income may be different from that used by other companies. The following is a reconciliation of net income
to adjusted operating income (dollars in thousands), as well as net income per share to adjusted operating income per share:
Net income (loss)
Less:
Net realized investment gains and other gains, net
of tax
Effect of tax law change
Tax effect of unrealized gains and losses on
investments
Change in fair value of equity securities, net of tax
Net (increase) decrease in deferred gain on losses ceded to ADC, net of
tax
Adjusted operating income (loss)
For the Years Ended December 31,
2018
2017
2019
$
(7,822) $
(9,227) $
(21,542)
1,196
—
824
(427)
61
—
—
121
820
63
356
—
5,677
(15,092) $
(5,677)
(3,732) $
—
(22,781)
$
Weighted average common shares, diluted
8,880,107
8,543,876
7,867,344
Diluted (loss) per common share:
Net income (loss)
Net realized investment gains and other gains, net
of tax
Effect of tax law change
Tax effect of unrealized gains and losses on
investments
Change in fair value of equity securities, net of tax
Net (increase) decrease in deferred gain on losses ceded to ADC, net of
tax
Adjusted operating (loss) per share
$
(0.88) $
(1.08) $
(2.74)
0.13
0.09
—
(0.05)
0.64
(1.69) $
0.01
—
—
0.01
(0.66)
(0.44) $
0.10
0.01
0.05
—
—
(2.90)
$
We use adjusted operating income and adjusted operating income per share, in conjunction with other financial measures, to assess our performance and to
evaluate the results of our business. We believe these measures provide investors with valuable information relating to our ongoing performance that may be
obscured by the effect of investment gains and losses as a result of our market risk sensitive instruments, which primarily relate to fixed income securities that are
available-for-sale and not held for trading purposes. Realized investment gains and losses may vary significantly between periods and are generally driven by
external economic developments, such as capital market conditions. Accordingly, adjusted operating income excludes the effect of items that tend to be highly
variable from period to period and highlights the results from our ongoing business operations and the underlying loss or profitability of our business. We believe
that it is useful for investors to evaluate adjusted operating income and adjusted operating income per share, along with net income and net income per share, when
reviewing and evaluating our performance.
42
Executive Overview
For the year ended December 31, 2019, we continued to expand our commercial lines in areas where we have had the most success, reduced exposure in the
more challenging areas, and repositioned our personal lines of business. Our commercial lines gross written premiums decreased by $3.3 million, or 3.4%, to $94.4
million in 2019, compared to $97.7 million in 2018. Personal lines gross written premiums increased by $788,000, or 11.8% to $7.5 million in 2019, compared to
$6.7 million in 2018.
The Company reported a net loss of $7.8 million, or $0.88 per share, in 2019, compared to a net loss of $9.2 million, or $1.08 per share, in 2018.
Adjusted operating loss, a non-GAAP measure, was $15.1 million, or $1.69 per share, for the year ended December 31, 2019, compared to an adjusted
operating loss of $3.7 million, or $0.44 per share, for the year ended December 31, 2018.
The 2019 results were mainly driven by $10.6 million of adverse development. The largest difference between net loss and adjusted operating loss is related
to the ADC (described below) in which the $5.7 million deferred gain as of December 31, 2018 was fully utilized in 2019.
In 2019, there was $313,000 of loss development on Hurricane Harvey and $495,000 of catastrophe reinsurance statement costs relating to Hurricane
Irma. In 2018, there was $583,000 of loss development on Hurricane Harvey and $1.0 million of catastrophe reinsurance reinstatement costs relating to Hurricane
Irma. The reinstatement costs, plus a short-term reduction in net earned premiums as we repositioned our business profile, contributed to a slightly higher expense
ratio.
In an effort to reduce interest costs, we restructured our debt during 2018 by issuing $25.3 million of public senior unsecured notes (the "Notes") and paid
down $19.5 million of our subordinated notes to $10.5 million.
In 2017, we entered into the ADC to protect against loss development of up to $17.5 million in excess of stated reserves as of June 30, 2017. The agreement
provides up to $17.5 million of reinsurance for adverse net loss reserve development for accident years 2005 through 2016. The agreement attaches when net
losses exceed $1.4 million of the $36.6 million carried reserves at June 30, 2017, and extends to $19.5 million in coverage up to $57.5 million (inclusive of
a 10% co-participation).
The 2017 results were mainly driven by adverse development on prior-year reserves, the cost of the ADC, and losses from Hurricanes Irma and Harvey.
Adverse Development Cover
In 2017, we purchased the ADC to greatly reduce our exposure to prior-year adverse development. In 2017, we recorded $7.2 million in ceded premiums
under the ADC, and ceded $7.2 million in losses. The benefits of the ADC can be seen during 2018 wherein we ceded $10.3 million of adverse development to the
ADC. Of the $10.3 million of ceded losses, $4.6 million was amortized in 2018, and reduced losses and LAE expense. The remaining $5.7 million was recognized
in 2019. As of December 31, 2019, the deferred gain from the ADC was fully utilized.
43
Results of Operations - 2019 Compared to 2018
The following table summarizes our operating results for the years indicated (dollars in thousands):
Gross written premiums
Summary Operating Results
Years Ended December 31,
2018
2019
104,368
101,853
$
$
Net written premiums
$
87,724
Net earned premiums
Other income
Losses and loss adjustment expenses, net
Policy acquisition costs
Operating expenses
Underwriting gain (loss)
Net investment income
Net realized investment gains
Change in fair value of equity securities
Interest expense
Income (loss) before income taxes
Equity earnings (losses) in affiliates, net of tax
Income tax expense (benefit)
Net income (loss)
Underwriting Ratios:
Loss ratio (1)
Expense ratio (2)
Combined ratio (3)
$
$
89,089
2,109
59,744
24,911
17,582
(11,039)
4,031
1,196
(427)
2,882
(9,121)
386
(913)
(7,822)
66.8%
44.0%
110.8%
$
$
$
89,086
93,811
1,582
62,515
25,534
17,683
(10,339)
3,336
61
121
2,644
(9,465)
290
52
(9,227)
66.4%
45.9%
112.3%
$ Change
% Change
$
$
$
$
(2,515)
(1,362)
(4,722)
527
(2,771)
(623)
(101)
(700)
695
1,135
(548)
238
344
96
(965)
1,405
(2.4%)
(1.5%)
(5.0%)
33.3%
(4.4%)
(2.4%)
(0.6%)
*
20.8%
*
*
9.0%
*
33.1%
*
*
(1) The loss ratio is the ratio, expressed as a percentage, of net losses and loss adjustment expenses to net earned premiums and other income from underwriting
operations. The 2018 ratios have been recast to reflect the new presentation. Refer to Note 17 ~ Segment Information for further details.
(2) The expense ratio is the ratio, expressed as a percentage, of policy acquisition costs and operating expenses to net earned premiums and other income from
underwriting operations. The 2018 ratios have been recast to reflect the new presentation. Refer to Note 17 ~ Segment Information for further details.
(3) The combined ratio is the sum of the loss ratio and the expense ratio. A combined ratio under 100% indicates an underwriting profit. A combined ratio over
100% indicates an underwriting loss.
* Percentage change is not meaningful
Premiums
Earned premiums are earned ratably over the term of the policy, whereas written premiums are reflected on the effective date of the policy. Almost all
commercial lines and homeowners products have annual policies, under which premiums are earned evenly over one year. Almost all personal automobile policies
are six month term policies under which premiums are earned evenly over a six-month period. The resulting net earned premiums are impacted by the gross and
ceded written premiums, earned ratably over time.
44
Our premiums are presented below for the years ended December 31, 2019 and 2018 (dollars in thousands):
Summary of Premium Revenue
Gross written premiums
Commercial lines
Personal lines
Total
Net written premiums
Commercial lines
Personal lines
Total
Net Earned premiums
Commercial lines
Personal lines
Total
Years Ended December 31,
2019
2018
$ Change
% Change
$
$
$
$
$
$
94,391
7,462
101,853
81,966
5,758
87,724
83,858
5,231
89,089
$
$
$
$
$
$
97,694
6,674
104,368
87,038
2,048
89,086
83,352
10,459
93,811
$
$
$
$
$
$
(3,303)
788
(2,515)
(5,072)
3,710
(1,362)
506
(5,228)
(4,722)
(3.4%)
11.8%
(2.4%)
(5.8%)
181.2%
(1.5%)
0.6%
(50.0%)
(5.0%)
Gross written premiums decreased by $2.5 million, or 2.4%, to $101.9 million for the year ended December 31, 2019, as compared to $104.4 for the year
ended December 31, 2018. The decrease was attributable to a reduction in written premium in our hospitality programs, which was slightly offset by an increase in
written premium in our small business programs.
Commercial lines gross written premiums decreased $3.3 million, or 3.4%, to $94.4 million for the year ended December 31, 2019, as compared to $97.7
million for the year ended December 31, 2018. Our hospitality programs’ gross written premiums decreased $6.6 million, or 12.0%, to $48.4 million for the year
ended December 31, 2019, as compared to $55.0 million for the year ended December 31, 2018. However, gross written premiums for our small business
programs increased by $3.3 million, or 7.7%, to $46.0 million for the year ended December 31, 2019, as compared to $42.7 million for the year ended December
31, 2018.
Personal lines gross written premiums increased $788,000, or 11.8%, to $7.5 million for the year ended December 31, 2019, as compared to $6.7 million for
the same period in 2018. This was largely driven by an increase in our low value dwelling business.
Net written premiums decreased $1.4 million, or 1.5%, to $87.7 million, for the year ended December 31, 2019, as compared to $89.1 million for the year
ended December 31, 2018. The decrease was primarily due to the reduction in the commercial lines business.
Other Income
Other income consists primarily of fees charged to policyholders by the Company for services outside of the premium charge, such as installment billings or
policy issuance costs. Commission income is also received by the Company’s insurance agencies for writing policies for third party insurance companies. Other
income increased by $527,000, or 33.3%, to $2.1 million for the year ended December 31, 2019, as compared to $1.6 million in 2018. The increase in other
income was primarily due to additional commission income in the Agency operations as well as increased fees charged on existing business.
45
Losses and Loss Adjustment Expenses
The tables below detail our losses and LAE and loss ratios for the years ended December 31, 2019 and 2018 (dollars in thousands).
We have changed the calculation to remove wholesale agency operations and corporate headquarters operations to provide a better measure of the
underwriting operations’ efficiency. The loss ratio calculation excludes other income from wholesale agency and Corporate. The 2018 ratios have been recast to
reflect the new presentation. Refer to Note 17 ~ Segment Information for further details.
Year Ended December 31, 2019
Accident year net losses and LAE
Net (favorable) adverse development
Calendar year net loss and LAE
Accident year loss ratio
Net (favorable) adverse development
Calendar year loss ratio
Year Ended December 31, 2018
Accident year net losses and LAE
Net (favorable) adverse development
Calendar year net loss and LAE
Accident year loss ratio
Net (favorable) adverse development
Calendar year loss ratio
$
$
$
$
Commercial
Lines
Personal
Lines
45,690
7,566
53,256
$
$
54.3%
9.0%
63.3%
3,502
2,986
6,488
65.2%
55.5%
120.7%
Commercial
Lines
Personal
Lines
46,816
6,249
53,065
$
$
6,665
2,785
9,450
$
$
Total
49,192
10,552
59,744
$
$
55.0%
11.8%
66.8%
Total
53,481
9,034
62,515
56.1%
7.5%
63.6%
62.3%
26.1%
88.4%
56.8%
9.6%
66.4%
Net losses and LAE decreased by $2.7 million, or 4.4%, for the year ended December 31, 2019, as compared to the same period in 2018. The calendar year
loss ratios were 66.8% and 66.4% for the years ended December 31, 2019 and 2018, respectively.
The $10.6 million of adverse development in 2019 consisted of $7.6 million from commercial lines and $3.0 million from personal lines and mostly related to
the 2017 and 2016 accident years.
The $9.0 million of adverse development in 2018 consisted of $6.2 million from commercial lines and $2.8 million from personal lines and mostly related to
the 2016 and 2015 accident years.
Expense Ratio
Our expense ratio is a measure of the efficiency and performance of the commercial and personal lines of business (our risk-bearing underwriting
operations). It is calculated by dividing the sum of policy acquisition costs and other underwriting expenses by the sum of net earned premiums and other income
of the underwriting business. Costs that cannot be readily identifiable as a direct cost of a segment or product line remain in Corporate for segment reporting
purposes. The expense ratio excludes wholesale agency and Corporate expenses. In prior periods the wholesale agency operations and Corporate expenses were
included in expense ratio calculation. We have changed the calculation to remove wholesale agency operations and Corporate expenses to provide a better measure
of the underwriting operations’ efficiency. The 2018 ratios have been recast to reflect the new presentation. Refer to Note 17 ~ Segment Information for further
details.
46
The table below provides the expense ratio by major component:
Commercial Lines
Policy acquisition costs
Operating expenses
Total
Personal Lines
Policy acquisition costs
Operating expenses
Total
Total Underwriting
Policy acquisition costs
Operating expenses
Total
Years Ended December 31,
2019
2018
28.0%
15.3%
43.3%
32.4%
23.0%
55.4%
28.2%
15.8%
44.0%
28.2%
17.6%
45.8%
36.0%
10.2%
46.2%
29.2%
16.7%
45.9%
Our expense ratio decreased by 1.9%, to 44.0% for the year ended December 31, 2019, as compared to the same period in 2018. The decrease in the expense
ratio was primarily due to lower operating and reinsurance costs in 2019 compared to 2018. The reduction in the expense ratio was partially offset by lower net
earned premium in 2019 compared to 2018.
Policy acquisition costs are costs we incur to issue policies, which include commissions, premium taxes, underwriting reports and underwriter compensation
costs. The Company offsets direct commissions with ceded commissions from reinsurers. The percentage of policy acquisition costs to net earned premiums and
other income decreased by 1.0%, from 29.2% in 2018, to 28.2% in 2019.
Operating expenses consist primarily of employee compensation, information technology and occupancy costs, such as rent and utilities. Operating expenses
as a percent of net earned premiums and other income was 15.8% and 16.7% for the years ended December 31, 2019 and 2018, respectively.
Underwriting Results
We measure the performance of our consolidated results, in part, based on our underwriting gain or loss. The following table provides the underwriting gain
or loss for the years ended December 31, 2019 and 2018 (dollars in thousands):
Underwriting Gain (Loss)
Commercial Lines
Personal Lines
Total Underwriting
Wholesale Agency
Corporate
Eliminations
Total underwriting income (loss)
Years Ended December 31,
2019
2018
Change
$
$
(5,574) $
(4,091)
(9,665)
830
(1,064)
(1,140)
(11,039) $
(7,858) $
(3,700)
(11,558)
1,432
(213)
—
(10,339) $
2,284
(391)
1,893
(602)
(851)
(1,140)
(700)
47
Investment Income
Net investment income increased by $695,000, or 20.8%, to $4.0 million for the year ended December 31, 2019, as compared to $3.3 million for the year
ended December 31, 2018. This increase was mainly due to an increase in average invested assets during 2019. Average invested assets as of December 31, 2019
were $154.9 million, compared to $148.9 million as of December 31, 2018, an increase of $6.0 million, or 4.0%. As of December 31, 2019, the average invested
asset balance was comprised of 81.1% debt securities, 5.8% equity securities and 13.1% short-term investments, compared to the December 31, 2018 mix of 86.3%
debt securities, 6.9% equity securities and 6.8% short term investments.
The portfolio’s average quality was AA at December 31, 2019 and 2018. The portfolio produced a tax-equivalent book yield of 2.6% and 2.8% for the years
ended December 31, 2019 and 2018, respectively. The duration-to-worst average of the debt securities portfolio was 3.0 years and 3.1 years at December 31, 2019
and 2018, respectively.
The Company received a one-time dividend from an investment for $213,000 in the third quarter of 2019.
Interest Expense
Interest expense was $2.9 million and $2.6 million for the years ended December 31, 2019 and 2018, respectively. We issued $22.0 million of public senior
unsecured notes (the "Notes") in the third quarter of 2018. We issued an additional $3.3 million of the Notes in the fourth quarter of 2018. Proceeds from the notes
were used to pay down $19.5 million of the $30.0 million of subordinated notes that were issued in the third quarter of 2017. Interest expense includes the
amortization of debt issuance costs relating to the new Notes which is $260,000 per annum over the 5-year life of the Notes. The interest expense relating to the
amortization of debt issuance costs for the existing $10.5 million of the subordinated notes is $50,000 per annum over the 20-year life of the subordinated notes.
The Company has a $10.0 million line of credit, which it drew upon and paid down at various times throughout 2019, and which contributed to interest
expense.
Income Tax Expense (Benefit)
For the year ended December 31, 2019, the Company reported $0 of current federal income tax expense and $27,000 of current state income tax
expense. The Company reported a deferred tax benefit of $940,000 and $0 for the years ended December 31, 2019 and 2018, respectively. The increase in the
deferred tax benefit in 2019 was a result of the change in the net deferred tax asset valuation allowance related to the changes in unrealized gains.
There is a $13.6 million valuation allowance against 100% of the net deferred tax assets at December 31, 2019, which would increase book value by $1.41
per share if reversed in the future. The valuation allowance was $12.6 million as of December 31, 2018. As of December 31, 2019, the Company has net operating
loss carryforwards for federal income tax purposes of $60.0 million, of which $50.0 million expire in tax years 2020 through 2039 and $10.0 million never
expire. Of this amount, $14.1 million are limited in the amount that can be utilized in any one year and may expire before they are realized under Section 382 of
the Internal Revenue Code. The Company has state net operating loss carryforwards of $17.7 million, which expire in tax years 2021 through 2039.
In 2018, the Company recognized a measurement period adjustment of $42,735 related to loss reserve discounting, which reduced deferred tax expense. The
Company also recognized a measurement period adjustment of $42,735 related to the loss reserve discounting transitional adjustment, which increased deferred tax
expense. The measurement period adjustments were based upon obtaining additional information about facts and circumstances that existed as of the enactment
date that, if known, would have affected the income tax effects initially reported as provisional amounts under the Act. The measurement period adjustments had
no effect on the effective tax rate for the year ended December 31, 2018. The accounting for the income tax effects of the Act pursuant to SAB 118 has been
completed as of the end of the December 22, 2018, measurement period and for the year ended December 31, 2018.
Results of Operations - 2018 Compared to 2017
The following table summarizes our operating results for the years indicated (dollars in thousands):
48
Gross written premiums
Net written premiums
$
$
$
Net earned premiums
Other income
Losses and loss adjustment expenses, net
Policy acquisition costs
Operating expenses
Underwriting gain (loss)
Net investment income
Net realized investment gains
Change in fair value of equity securities
Other gains (losses)
Interest expense
Income (loss) before income taxes
Income tax expense (benefit)
Equity earnings (losses) in affiliates, net of tax
Net income (loss)
$
Underwriting Ratios:
Loss ratio (1)
Expense ratio (2)
Combined ratio (3)
Summary Operating Results
Years Ended December 31,
2018
104,368
89,086
93,811
1,582
62,515
25,534
17,683
(10,339)
3,336
61
121
—
2,644
(9,465)
52
290
(9,227)
66.4%
45.9%
112.3%
$
$
$
$
$
$
2017
114,284
91,240
91,729
1,560
73,917
26,245
17,367
(24,240)
2,728
70
—
750
1,362
(22,054)
(447)
65
$
(21,542)
$
79.9%
44.8%
124.7%
$ Change
% Change
(9,916)
(2,154)
2,082
22
(11,402)
(711)
316
13,901
608
(9)
121
(750)
1,282
12,589
499
225
12,315
(8.7%)
(2.4%)
2.3%
1.4%
(15.4%)
(2.7%)
1.8%
*
22.3%
(12.86%)
*
*
94.1%
*
*
*
*
(1) The loss ratio is the ratio, expressed as a percentage, of net losses and loss adjustment expenses to net earned premiums and other income from underwriting
operations. The 2018 and 2017 ratios have been recast to reflect the new presentation. Refer to Note 17 ~ Segment Information for further details.
(2) The expense ratio is the ratio, expressed as a percentage, of policy acquisition costs and operating expenses to net earned premiums and other income from
underwriting operations. The 2018 and 2017 ratios have been recast to reflect the new presentation. Refer to Note 17 ~ Segment Information for further
details.
(3) The combined ratio is the sum of the loss ratio and the expense ratio. A combined ratio under 100% indicates an underwriting profit. A combined ratio over
100% indicates an underwriting loss.
* Percentage change is not meaningful
Premiums
Earned premiums are earned ratably over the term of the policy, whereas written premiums are reflected on the effective date of the policy. All commercial
lines and homeowners products have annual policies, under which premiums are earned evenly over one year. Almost all personal automobile policies are six-
month term policies under which premiums are earned evenly over a six-month period. The resulting net earned premiums are impacted by the gross and ceded
written premiums, earned ratably over time.
49
Our premiums are presented below for the years ended December 31, 2018 and 2017 (dollars in thousands):
Summary of Premium Revenue
Years Ended December 31,
2017
2018
$ Change
% Change
Gross written premiums
Commercial lines
Personal lines
Total
Net written premiums
Commercial lines
Personal lines
Total
Net Earned premiums
Commercial lines
Personal lines
Total
$
$
$
$
$
$
97,694
6,674
104,368
87,038
2,048
89,086
83,352
10,459
93,811
$
$
$
$
$
$
92,112
22,172
114,284
78,217
13,023
91,240
76,786
14,943
91,729
$
$
$
$
$
$
5,582
(15,498)
(9,916)
8,821
(10,975)
(2,154)
6,566
(4,484)
2,082
6.1%
(69.9)%
(8.7)%
11.3%
(84.3)%
(2.4)%
8.6%
(30.0)%
2.3%
Gross written premiums decreased by $9.9 million, or 8.7%, to $104.4 million for the year ended December 31, 2018, as compared to $114.3 million for the
year ended December 31, 2017. These results reflect our continued execution of our growth initiatives in the niche commercial insurance markets and our strategic
change in the mix of business of our personal lines.
Commercial lines gross written premiums increased $5.6 million, or 6.1%, to $97.7 million for the year ended December 31, 2018, as compared to $92.1
million for the year ended December 31, 2017. This increase was seen across many commercial product lines as a result of our continued strategic expansion
efforts.
Personal lines gross written premiums decreased $15.5 million, or 69.9%, to $6.7 million for the year ended December 31, 2018, as compared to $22.2
million for the same period in 2017. This was largely driven by a reduction in wind-exposed homeowners business in both Hawaii and Florida.
Net written premiums decreased $2.2 million, or 2.4%, to $89.1 million for the year ended December 31, 2018, as compared to $91.2 million for the year
ended December 31, 2017. The decrease was primarily due to the reduction in wind-exposed homeowners business.
Other Income
Other income consists primarily of fees charged to policyholders by the Company for services outside of the premium charge, such as installment billings or
policy issuance costs. Commission income is also received by the Company’s insurance agencies for writing policies for third party insurance companies. Other
income for the year December 31, 2018 and December 31, 2017 remained flat at $1.6 million.
50
Losses and Loss Adjustment Expenses
The tables below detail our losses and LAE and loss ratios for the years ended December 31, 2018 and 2017 (dollars in thousands).
We have changed the calculation to remove wholesale agency operations and Corporate expenses to provide a better measure of the underwriting operations’
efficiency. The loss ratio calculation excludes other income from wholesale agency and Corporate. The 2018 and 2017 ratios have been recast to reflect the new
presentation. Refer to Note 17 ~ Segment Information for further details.
Year Ended December 31, 2018
Accident year net losses and LAE
Net (favorable) adverse development
Calendar year net loss and LAE
Accident year loss ratio
Net (favorable) adverse development
Calendar year loss ratio
Year Ended December 31, 2017
Accident year net losses and LAE
Net (favorable) adverse development
Calendar year net loss and LAE
Accident year loss ratio
Net (favorable) adverse development
Calendar year loss ratio
$
$
$
$
Commercial
Lines
46,816
6,249
53,065
56.1%
7.5%
63.6%
Commercial
Lines
48,520
7,181
55,701
63.0%
9.3%
72.3%
Personal
Lines
$
$
6,665
2,785
9,450
Total
53,481
9,034
62,515
$
$
62.4%
26.1%
88.5%
56.8%
9.6%
66.4%
Personal
Lines
$
$
15,937
2,279
18,216
Total
64,457
9,460
73,917
$
$
102.7%
14.7%
117.4%
69.7%
10.2%
79.9%
Net losses and LAE decreased by $11.4 million, or 15.4%, for the year ended December 31, 2018, as compared to the same period in 2017. The calendar year
loss ratios were 66.4% and 79.9% for the years ended December 31, 2018 and 2017, respectively.
The $9.0 million of adverse development in 2018 consisted of $6.2 million from commercial lines and $2.8 million from personal lines and mostly related to
the 2016 and 2015 accident years.
The $9.5 million of adverse development in 2017 consisted of $7.2 million from commercial lines and $2.3 million from personal lines and mostly related to
the 2016 and 2015 accident years. This development primarily consisted of $5.1 million from commercial liability business, $1.6 million from the commercial
property, $1.7 million from Florida homeowners and $0.5 million from commercial auto business.
Expense Ratio
Our expense ratio is a measure of the efficiency and performance of the commercial and personal lines of business (our risk-bearing underwriting
operations). It is calculated by dividing the sum of policy acquisition costs and other underwriting expenses by the sum of net earned premiums and other income
of the underwriting business. Costs that cannot be readily identifiable as a direct cost of a segment or product line remain in Corporate for segment reporting
purposes. The expense ratio excludes wholesale agency and Corporate expenses. In prior periods the wholesale agency operations and Corporate expenses were
included in expense ratio calculation. We have changed the calculation to remove wholesale agency operations and Corporate expenses to provide a better measure
of the underwriting operations’ efficiency. The 2018 and 2017 ratios have been recast to reflect the new presentation. Refer to Note 17 ~ Segment Information for
further details.
51
The table below provides the expense ratio by major component:
Years Ended December 31,
Commercial Lines
Policy acquisition costs
Operating expenses
Total
Personal Lines
Policy acquisition costs
Operating expenses
Total
Total Underwriting
Policy acquisition costs
Operating expenses
Total
2018
28.2%
17.6%
45.8%
36.0%
10.2%
46.2%
29.2%
16.7%
45.9%
2017
29.0%
13.7%
42.7%
42.1%
12.5%
54.6%
31.3%
13.5%
44.8%
Our expense ratio increased by 1.1%, to 45.9 for the year ended December 31, 2018, as compared to the same period in 2017. The increase in the expense
ratio was due to lower net earned premium in 2018 in our personal lines of business, as much of the wind-exposed homeowners business rolled off.
Policy acquisition costs are costs we incur to issue policies, which include commissions, premium taxes, underwriting reports and underwriter compensation
costs. The Company offsets direct commissions with ceded commissions from reinsurers. The percentage of policy acquisition costs to net earned premiums and
other income decreased by 2.1 percentage points from 31.3% in 2017, to 29.2% in 2018.
Operating expenses consist primarily of employee compensation, information technology and occupancy costs, such as rent and utilities. Operating expenses
as a percent of net earned premiums and other income were 16.7% and 13.5% for the years ended December 31, 2018 and 2017, respectively.
Underwriting Results
We measure the performance of our consolidated results, in part, based on our underwriting gain or loss. The following table provides the underwriting gain
or loss for the years ended December 31, 2018 and 2017 (dollars in thousands):
Underwriting Gain (Loss)
Commercial Lines
Personal Lines
Total Underwriting
Wholesale Agency
Corporate
Eliminations
Total underwriting income (loss)
Years Ended December 31,
2018
(7,858) $
(3,700)
(11,558)
1,432
(213)
—
(10,339) $
2017
(11,645) $
(11,176)
(22,821)
1,046
(2,465)
—
(24,240) $
$
$
Change
3,787
7,476
11,263
386
2,252
—
13,901
52
Investment Income
Net investment income increased by $608,000, or 22.3%, to $3.3 million for the year ended December 31, 2018, as compared to 2.7 million for the year
ended December 31, 2017. This increase was mainly due to an increase in interest rates and average invested assets during 2018. Average invested assets as of
December 31, 2018, were $148.9 million as compared to $143.1 million at December 31, 2017, an increase of $5.8 million, or 4.1%. As of December 31, 2018, the
average invested asset balance was comprised of 86.3% debt securities, 6.9% equity securities and 6.8% short-term investments, compared to the December 31,
2017 mix of 87.3% debt securities, 5.0% equity securities and 7.9% short term investments.
The portfolio’s average quality was AA at December 31, 2018 and 2017. The portfolio produced a tax-equivalent book yield of 2.8% and 2.5% for the years
ended December 31, 2018 and 2017, respectively. The duration-to-worst average of the debt securities portfolio was 3.1 years and 3.2 years at December 31, 2018
and 2017, respectively.
Other Gains (Losses)
There were no other gains in 2018. In 2017, we recognized a $750,000 gain on the sale of the renewal rights of a portion of the low-value dwelling book of
business to another insurer.
Interest Expense
Interest expense was $2.6 million and $1.4 million for the years ended December 31, 2018 and 2017, respectively. Interest expense increased due to the
increase in outstanding debt throughout the year. We issued $22.0 million of public senior unsecured notes (the "Notes") in the third quarter of 2018. We issued an
additional $3.3 million of the Notes in the fourth quarter of 2018. Proceeds from the notes were used to pay down $19.5 million of the $30.0 million of
subordinated notes that were issued in the third quarter of 2017. Interest expense includes the amortization of debt issuance costs relating to the new Notes which
is $260,000 per annum over the 5-year life of the Notes. The interest expense relating to the amortization of debt issuance costs for the existing $10.5 million of
the subordinated notes is $50,000 per annum over the 20-year life of the subordinated notes.
Income Tax Expense (Benefit)
On December 22, 2017, the U.S. federal government enacted H.R. 1, “An Act to Provide for Reconciliation Pursuant to Titles II and V of the Concurrent
Resolution on the Budget for Fiscal Year 2018” (the “Act”). The Act provided for significant changes to corporate taxation including the decrease of the corporate
tax rate from 34% to 21%. In 2017, the Company completed an analysis of the impact of the Act and followed the additional guidance provided by the Security
and Exchange Commission’s Staff Accounting Bulletin No. 118 (“SAB 118”). There were no material provisional balances as of December 31, 2017.
In 2018, the Company recognized a measurement period adjustment of $42,735 related to loss reserve discounting, which reduced deferred tax expense. The
Company also recognized a measurement period adjustment of $42,735 related to the loss reserve discounting transitional adjustment, which increased deferred tax
expense. The measurement period adjustments were based upon obtaining additional information about facts and circumstances that existed as of the enactment
date that, if known, would have affected the income tax effects initially reported as provisional amounts under the Act. The measurement period adjustments had
no effect on the effective tax rate for the year ended December 31, 2018. The accounting for the income tax effects of the Act pursuant to SAB 118 has been
completed as of the end of the December 22, 2018, measurement period and for the year ending December 31, 2018.
For the year ended December 31, 2018, the Company reported $0 of current federal income tax expense and $52,000 of current state income tax
expense. The Company also reported a deferred tax benefit of $0. For the year ended December 31, 2017, the Company reported $16,000 of current federal
income tax benefit and $12,000 of current state income tax benefit. For the year ended December 31, 2017, the Company also reported a deferred tax benefit of
$419,000 which was largely the result of changes in the net deferred tax asset valuation allowance related to changes in unrealized gains.
53
There is a $12.6 million valuation allowance against 100% of the net deferred tax assets at December 31, 2018, which would increase book value by $1.49 per
share if reversed in the future. The valuation allowance was $9.9 million for 2017. As of December 31, 2018, the Company has net operating loss carryforwards
for federal income tax purposes of $48.3 million, of which $43.3 million expire in tax years 2019 through 2038 and $5.0 million never expire. Of this amount,
$14.1 million are limited in the amount that can be utilized in any one year and may expire before they are realized under Section 382 of the Internal Revenue
Code. The Company has state net operating loss carryforwards of $11.9 million, which expire in tax years 2021 through 2038.
Liquidity and Capital Resources
Sources and Uses of Funds
At December 31, 2019, we had $38.9 million in cash, cash equivalents, and short-term investments. Our principal sources of funds are insurance premiums,
investment income, proceeds from maturity and sale of invested assets and other income. These funds are primarily used to pay claims, commissions, employee
compensation, taxes and other operating expenses, and service debt.
We believe that our existing cash, cash equivalents, short-term investments and investment securities balances will be adequate to meet our capital and
liquidity needs and the needs of our subsidiaries on a short-term and long-term basis.
We conduct our business operations primarily through our Insurance Company Subsidiaries. Our ability to service debt, and pay administrative expenses is
primarily reliant upon our intercompany service fees paid by the Insurance Company Subsidiaries to the holding company for management, administrative, and
information technology services provided to the Insurance Company Subsidiaries by the Parent Company. Secondarily, the Parent Company may receive dividends
from the Insurance Company Subsidiaries; however, this is not the primary means in which the holding company supports its funding as state insurance laws
restrict the ability of our Insurance Company Subsidiaries to declare dividends to the Parent Company. Generally, the limitations are based on the greater of
statutory net income for the preceding year or 10% of statutory surplus at the end of the preceding year. No dividends were paid from our Insurance Company
Subsidiaries in 2019, 2018 or 2017.
We contributed $3.9 million to our Insurance Company Subsidiaries in 2019. No contributions to our Insurance Company Subsidiaries were made in
2018. We contributed $20.9 million to our Insurance Company Subsidiaries in 2017. We believe that the current statutory surplus levels and the funds available at
the holding company level will provide the necessary statutory capital to support our premium volume growth over the next two years.
We are aware that our outstanding debt securities are currently trading at a substantial discount to their face amount. In order to reduce future cash interest
payments, as well as future amounts due at maturity or upon redemption, we may, from time to time, purchase such debt for cash, in exchange for common stock,
or for a combination of cash and common stock, in open market or privately negotiated transactions. We will evaluate any such transactions in light of then-
existing market conditions, taking into account our current liquidity and prospects for future access to capital. The amounts involved in such transactions,
individually or in the aggregate, may be material.
Cash Flows
Operating Activities. Cash provided by operating activities for the year ended December 31, 2019, was $15.4 million as compared to cash used in operating
activities of $17.0 million for the year ended December 31, 2018. The $32.4 million increase in cash from operations was mostly due to a $28.4 million increase in
cash received from reinsurers due to ceded losses, including $12.5 million of cash received in 2019 from the ADC. Also, ceded premiums paid to reinsurers
decreased by $2.6 million in 2019 compared to 2018.
Cash used in operating activities for the year ended December 31, 2018, was $17.0 million as compared to cash provided by operating activities of $9.1
million for the year ended December 31, 2017. The $26.1 million fluctuation in cash from operations was due to a $10.0 million decrease in cash collected on
gross premiums, mostly due to the reduction in wind-exposed homeowners premiums, a $2.8M increase in paid ceded premiums due to the ceded premiums paid
on the ADC and
54
reinstatement premiums, and a $10.1 million increase in net paid losses due, in part, to losses incurred from the 2017 hurricanes.
Investing Activities. Cash used in investing activities for the year ended December 31, 2019, was $25.0 million as compared to cash provided by investing
activities of $12.2 million for the year ended December 31, 2018. The increase in funds used in investing activities was due to an increase in funds available to be
invested in our investment portfolio in the insurance subsidiaries.
Cash provided by investing activities for the year ended December 31, 2018, was $12.2 million as compared to $26.0 million used in investing activities for
the same period in 2017. The increase in funds provided by investing activities was due to a decrease in funds available to be invested in our investment portfolios
in the insurance subsidiaries as cash collections decreased and paid losses increased from operating activities.
Financing Activities. Cash provided by financing activities for the years ended December 31, 2019 and 2018, were $6.3 million and $3.7 million,
respectively. The $2.6 million increase in 2019 compared to 2018 was largely due to a $5.0 million issuance of common stock in 2019, and no issuance of common
stock in 2018.
Cash provided by financing activities for the years ended December 31, 2018 and 2017, were $3.7 million and $16.2 million, respectively. There was a $5.0
million issuance of common stock in 2017 and none in 2018. Also, there was $6.9 million greater cash flow from debt, net of repayments and debt issuance costs
in 2017, than in 2018.
Outstanding Debt
In September and October 2018, we issued $25.3 million of public senior unsecured notes (the “Notes”). The Notes mature on September 30, 2023, and bear
interest, payable quarterly, at the annual rate of 6.75%. We used a portion of the proceeds from the Notes to pay down $19.5 million of the $30.0 million
subordinated notes originally entered into on September 29, 2017 (“Subordinated Notes”). Effective September 24, 2018, the Subordinated Notes agreement was
amended. Under the new terms, the Subordinated Notes carry a principle value of $10.5 million, mature on September 30, 2038, and bear an annual interest rate of
7.5% until September 30, 2023, and 12.5% thereafter. Interest is payable quarterly. Beginning September 30, 2021, the Company may redeem the Subordinated
Notes, in whole or in part, or any quarter thereafter, for a call premium of $1.1 million. The call premium escalates quarterly to $1.75 million on September 30,
2023, then steps up to $3.05 million on December 31, 2023, and increases quarterly at a 12.5% per annum rate thereafter. The debt covenants are consistent with
the existing Subordinated Note terms. A $105,000 loan origination fee was paid on the effective date.
The carrying value of the Notes and Subordinated Notes are offset by $2.3 million of debt issuance costs that will be amortized through interest expense over
the life of the loans. Refer to Note 7 ~ Debt of the Notes to the Consolidated Financial Statements, for additional information regarding our outstanding debt.
On June 21, 2018, the Company entered into a $10.0 million line of credit. The line of credit bears interest at the London Interbank rate ("LIBOR") plus
2.75% per annum, payable monthly. The agreement includes several covenants, including but not limited to a minimum tangible net worth, a minimum fixed-
charge coverage ratio, and minimum statutory risk-based capital levels. As of December 31, 2019, the Company had $2.0 million outstanding on the line of credit,
and was in compliance with all of its debt financial covenants.
55
Contractual Obligations and Commitments
The following table is a summary of our contractual obligations and commitments as of December 31, 2019 (dollars in thousands):
Senior unsecured notes
Interest on senior unsecured notes
Subordinated notes
Interest on subordinated notes
Lease obligations
Line of credit
Loss and loss adjustment expense (1)
Purchase Obligations (2)
Total
Total
25,300
6,404
10,500
22,969
3,498
2,000
107,246
990
178,907
$
$
Less than
one year
Payments due by period
One to
three years
Three to
five years
More than
five years
$
$
—
1,708
—
788
864
2,000
40,495
360
46,215
$
$
—
3,415
—
1,575
1,598
47,132
630
54,350
$
$
25,300
1,281
—
2,231
1,036
14,791
—
44,639
$
$
—
—
10,500
18,375
—
4,828
—
33,703
(1) The estimated unpaid loss and loss adjustment expense payments were made using estimates based on historical payment patterns. However, future payments
may be different than historical payment patterns.
(2)
Includes estimated future payments under the software license agreement relating to our policy issuance system. This agreement requires minimum monthly
payments of $30,000, and is variable with premium volume. The future payment assumptions are based on the minimum monthly payments. The software
license agreement expires on September 30, 2022.
Regulatory and Rating Issues
The NAIC has a RBC formula to be applied to all property and casualty insurance companies. The formula measures required capital and surplus based on an
insurance company’s products and investment portfolio and is used as a tool to evaluate the capital adequacy of regulated companies. The RBC formula is used by
state insurance regulators to monitor trends in statutory capital and surplus for the purpose of initiating regulatory action. In general, an insurance company must
submit a calculation of its RBC formula to the insurance department of its state of domicile as of the end of the previous calendar year. These laws require
increasing degrees of regulatory oversight and intervention as an insurance company’s RBC declines.
At December 31, 2019, all of our Insurance Company Subsidiaries were in excess of any minimum threshold at which corrective action would be required.
Insurance operations are subject to various leverage tests (e.g., premium-to-statutory surplus ratios), which are evaluated by regulators and rating
agencies. As of December 31, 2019, on a trailing twelve-month statutory combined basis, the gross written and net written premium leverage ratios were 1.7 to 1.0
and 1.5 to 1.0, respectively.
The NAIC’s Insurance Regulatory Information System (“IRIS”) was developed to assist state insurance departments in executing their statutory mandates to
oversee the financial condition of insurance companies operating in their respective states. IRIS identifies thirteen industry ratios and specifies “usual values” for
each ratio. State insurance regulators review the IRIS ratio results to determine if an insurer is in need of further regulatory scrutiny or action. While the ratios,
individually and collectively, are useful tools for identifying companies that may be experiencing financial difficulty, they are only a guide for regulators and
should not be considered an absolute indicator of a Company's financial condition. While inquiries from regulators are not uncommon, our Insurance Company
Subsidiaries have not experienced any regulatory actions due to their IRIS ratio results or otherwise.
56
Recently Issued Accounting Pronouncements
Refer to Note 1 ~ Summary of Significant Accounting Policies: Recently Issued Accounting Guidance of the Notes to the Consolidated Financial Statements
for detailed information.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss arising from adverse changes in market rates and prices such as interest rates, other relevant market rates or price changes. The
volatility and liquidity in the markets in which the underlying assets are traded directly influence market risk. The following is a discussion of our primary risk
exposures and how those exposures are currently managed as of December 31, 2019. Our market risk sensitive instruments are primarily related to fixed income
securities, which are available-for-sale and not held for trading purposes.
Interest Rate Risk
At December 31, 2019 and 2018, the fair value of our investment portfolio, excluding cash and cash equivalents, was $169.7 million and $140.1 million,
respectively. Our investment portfolio consists principally of investment-grade, fixed-income securities, classified as debt securities. Accordingly, the primary
market risk exposure to our debt portfolio is interest rate risk. In general, the fair market value of a portfolio of fixed-income securities increases or decreases
inversely with changes in market interest rates, while net investment income realized from future investments in fixed-income securities increases or decreases
along with interest rates. We attempt to mitigate interest rate risks by investing in securities with varied maturity dates and by managing the duration of our
investment portfolio to a defined range of three to four years. The duration-to-worst average of the debt securities portfolio was 3.0 and 3.1 years as of
December 31, 2019 and 2018, respectively.
The table below summarizes our interest rate risk. The table also illustrates the sensitivity of the fair value of our investments, classified as debt securities
and short-term investments, to selected hypothetical changes in interest rates as of December 31, 2019. The selected scenarios are not predictions of future events,
but rather illustrate the effect that events may have on the fair value of the fixed-income portfolio and shareholders’ equity (dollars in thousands).
Hypothetical Change in Interest Rates As of
December 31, 2019
200 basis point increase
100 basis point increase
No change
100 basis point decrease
200 basis point decrease
Credit Risk
Estimated
Fair Value
$
$
152,599
157,569
162,426
166,698
170,028
Estimated
Change in
Fair Value
(9,827)
(4,857)
—
4,272
7,602
Hypothetical Percentage
Increase (Decrease) in
Fair
Value
Shareholders'
Equity
(6.05)%
(2.99)%
—
2.63%
4.68%
(23.0)%
(11.4)%
—%
10.0%
17.8%
An additional exposure to our debt securities portfolio is credit risk. We manage our credit risk by investing only in investment-grade securities. In addition,
we comply with applicable statutory requirements which limit the portion of our total investment portfolio that we can invest in any one security.
We are subject to credit risks with respect to our reinsurers. Although a reinsurer is liable for losses to the extent of the coverage which it assumes, our
reinsurance contracts do not discharge our insurance companies from primary liability to each policyholder for the full amount of the applicable policy, and
consequently our insurance companies remain obligated to pay claims in accordance with the terms of the policies regardless of whether a reinsurer fulfills or
defaults on its obligations under the related reinsurance agreement. To mitigate our credit risk to reinsurance companies, we attempt to select financially strong
reinsurers with an A.M. Best rating of "A-" or better and continue to evaluate their financial condition throughout the duration of our agreements.
At December 31, 2019 and 2018, the net amount due to the Company from reinsurers, including prepaid reinsurance, was $29.0 million and $36.6 million,
respectively. We believe all amounts recorded as due from reinsurers are recoverable.
57
Effects of Inflation
We do not believe that inflation has a material effect on our results of operations, except for the effect that inflation may have on interest rates and claims
costs. We consider the effects of inflation in pricing and estimating reserves for unpaid losses and LAE. The actual effects of inflation on our results are not
known until claims are ultimately settled. In addition to general price inflation, we are exposed to a long-term upward trend in the cost of judicial awards for
damages.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Refer to list of Financial Statement Schedules (including the Report of Independent Registered Public Accounting Firm referenced therein) set forth in Item
15 of this Annual Report on Form 10-K and Note 18 ~ Quarterly Financial Data (Unaudited) of the Notes to the Consolidated Financial Statements.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
The Company’s management, including its Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure
controls and procedures, as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act") as of December 31,
2019. Based on such evaluations, the Chief Executive Officer and Chief Financial Officer have concluded the Company’s disclosure controls and procedures are
effective in recording, processing, summarizing, and reporting, on a timely basis, information required to be disclosed by the Company in the reports that it files or
submits under the Exchange Act, and that information is accumulated and communicated to the Company’s management, including the Company’s Chief
Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
Management’s Annual Report on Internal Control over Financial Reporting
The Company’s 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). The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has
evaluated the effectiveness of the Company’s internal control over financial reporting based on the framework in Internal Control-Integrated Framework (2013)
issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this evaluation, the Company’s management has concluded that, as
of December 31, 2019, the Company’s internal control over financial reporting was effective.
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 risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the
policies or procedures may deteriorate.
There was no change in internal controls over financial reporting during the quarter ended December 31, 2019 that has materially affected, or is reasonably
likely to materially effect, our internal controls over financial reporting.
Attestation Report of the Registered Public Accounting Firm
This Annual Report does not include an attestation report of our registered public accounting firm regarding internal control over financial reporting as
required by Section 404(c) of the Sarbanes Oxley Act of 2002. Because we qualify as an emerging growth company under the JOBS Act, management's report was
not subject to attestation by our independent registered public accounting firm.
ITEM 9B. OTHER INFORMATION
None.
58
PART III
Certain information required by Part III is omitted from this Report in that the Registrant will file a definitive Proxy Statement pursuant to Regulation 14A
(the “Proxy Statement”) not later than 120 days after the end of the fiscal year covered by this report and certain information included therein is incorporated herein
by reference. Only those sections of the Proxy Statement that specifically address the items set forth herein are incorporated by reference.
ITEMS 10 to 14
Items 10 through 14 (inclusive) of this Part III are not included herein because the Company will file a definitive Proxy Statement with the SEC that will
include the information required by such Items, and such information is incorporated herein by reference. The Company’s Proxy Statement will be filed with the
SEC and delivered to stockholders in connection with the Annual Meeting of Shareholders to be held on May 20, 2020 and the information under the following
captions is included in such incorporation by reference: “Information about the Nominees, the Incumbent Directors and Other Executive Officers,” “Corporate
Governance,” “Code of Conduct,” “Report of the Audit Committee,” “Section 16(a) Beneficial Ownership Reporting Compliance,”“Compensation of Executive
Officers,” “Director Compensation,” “Report of the Compensation Committee of the Board on Executive Compensation,” “Compensation Committee Interlocks
and Insider Participation”,“Security Ownership of Certain Beneficial Owners and Management”, “Certain Relationships and Related Party
Transactions,” “Independence Determination,” and “The Second Proposal on Which You are Voting on Ratification of Appointment of Independent Registered
Public Accounting Firm." Our Code of Business Conduct and Ethics can be found on our website www.cnfrh.com.
59
CONIFER HOLDINGS, INC. AND SUBSIDIARIES
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
The following documents are filed as part of this Report:
1.
2.
3.
List of Financial Statements
Report of Independent Registered Public Accounting Firm on Financial Statements
Consolidated Balance Sheets – December 31, 2019 and 2018
Consolidated Statements of Operations – For Years Ended December 31, 2019, 2018 and 2017
Consolidated Statements of Comprehensive Income (Loss) – For Years Ended December 31, 2019, 2018 and 2017
Consolidated Statement of Changes in Shareholders’ Equity – For Years Ended December 31, 2019, 2018 and 2017
Consolidated Statements of Cash Flows – For Years Ended December 31, 2019, 2018 and 2017
Notes to Consolidated Financial Statements
Financial Statement Schedules
Schedule I – Summary of Investments Other Than Investments in Related Parties – Omitted as information is included in the consolidated
financial statements or notes thereto - See Note 2 ~ Investments
Schedule II – Condensed Financial Information of Registrant
Schedule III – Supplementary Insurance Information – Omitted as information is included in the consolidated financial statements or notes
thereto - See Note 17 ~ Segment Information
Schedule IV – Reinsurance – Omitted as information is included in the consolidated financial statements or notes thereto See Note 6 ~
Reinsurance
Schedule V – Valuation and Qualifying Accounts
Schedule VI – Supplemental Information Concerning Property and Casualty Insurance Operations – Omitted as information is included in the
consolidated financial statements or notes thereto
Exhibits – The Exhibits listed on the accompanying Exhibit Index immediately following the Financial Statement Schedules are filed as part of,
or incorporated by reference into, this Form 10-K
Page No.
61
62
63
64
65
66
67
98
102
103
60
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholders and the Board of Directors of Conifer Holdings, Inc.
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Conifer Holdings, Inc. and subsidiaries (the "Company") as of December 31, 2019 and 2018, the
related consolidated statements of operations, comprehensive income (loss), changes in shareholders' equity, and cash flows, for each of the three years in the
period ended December 31, 2019, and the related notes and the schedules listed in the Index at Item 15 (collectively referred to as the "financial statements"). In
our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2019 and 2018, and the
results of its operations and its cash flows for each of the three years in the period ended December 31, 2019, in conformity with accounting principles generally
accepted in the United States of America.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements
based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required
to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and
Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were
we engaged to perform, an audit of its internal control over financial reporting. As part of our audits, we are required to obtain an understanding of internal control
over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial
reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing
procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial
statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall
presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Deloitte & Touche LLP
Detroit, Michigan
March 12, 2020
We have served as the Company's auditor since 2010.
61
CONIFER HOLDINGS, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(dollars in thousands)
Assets
Investment securities:
Debt securities, at fair value (amortized cost of $129,313 and $122,678,
respectively)
Equity securities, at fair value (cost of $6,554 and $9,559, respectively)
Short-term investments, at fair value
Total investments
Cash and cash equivalents
Premiums and agents' balances receivable, net
Receivable from Affiliate
Reinsurance recoverables on unpaid losses
Reinsurance recoverables on paid losses
Prepaid reinsurance premiums
Deferred policy acquisition costs
Other assets
Total assets
Liabilities:
Liabilities and Shareholders' Equity
Unpaid losses and loss adjustment expenses
Unearned premiums
Debt
Deferred gain on ADC
Accounts payable and accrued expenses
Total liabilities
Commitments and contingencies
Shareholders' equity:
Common stock, no par value (100,000,000 shares authorized; 9,592,861 and 8,478,202 issued and
outstanding, respectively)
Accumulated deficit
Accumulated other comprehensive income (loss)
Total shareholders' equity
Total liabilities and shareholders' equity
December 31,
2019
2018
$
$
$
$
131,000
7,306
31,426
169,732
7,464
20,168
313
22,579
5,155
1,250
11,906
8,698
247,265
107,246
51,503
35,824
—
9,967
204,540
—
91,816
(49,580)
489
42,725
247,265
$
$
$
$
120,440
10,737
8,925
140,102
10,792
21,247
3,582
29,685
5,060
1,829
12,011
8,444
232,752
92,807
52,852
33,502
5,677
5,751
190,589
—
86,533
(41,758)
(2,612)
42,163
232,752
The accompanying notes are an integral part of the Consolidated Financial Statements.
62
CONIFER HOLDINGS, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
(dollars in thousands, except per share data)
Revenue
Gross earned premiums
Ceded earned premiums
Net earned premiums
Net investment income
Net realized investment gains
Change in fair value of equity securities
Other gains (losses)
Other income
Total revenue
Expenses
Losses and loss adjustment expenses, net
Policy acquisition costs
Operating expenses
Interest expense
Total expenses
Income (loss) before income taxes
Equity earnings in Affiliate, net of tax
Income tax expense (benefit)
Net income (loss)
Net income (loss) per share, basic and diluted
Weighted average common shares outstanding, basic and
diluted
2019
Year Ended December 31,
2018
2017
$
$
$
103,203
(14,114)
89,089
4,031
1,196
(427)
—
2,109
95,998
59,744
24,911
17,582
2,882
105,119
(9,121)
386
(913)
(7,822)
(0.88)
$
$
$
109,188
(15,377)
93,811
3,336
61
121
—
1,582
98,911
62,515
25,534
17,683
2,644
108,376
(9,465)
290
52
(9,227)
(1.08)
$
$
$
114,737
(23,008)
91,729
2,728
70
—
750
1,560
96,837
73,917
26,245
17,367
1,362
118,891
(22,054)
65
(447)
(21,542)
(2.74)
8,880,107
8,543,876
7,867,344
The accompanying notes are an integral part of the Consolidated Financial Statements.
63
CONIFER HOLDINGS, INC. AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income (Loss)
(dollars in thousands)
Net income (loss)
Other comprehensive income (loss), net of tax:
Unrealized investment gains (losses):
Unrealized investment gains (losses) during the period
Income tax expense (benefit)
Unrealized investment gains (losses), net of tax
Less: reclassification adjustments to:
Net realized investment gains (losses) included in net
income (loss)
Income tax expense (benefit)
Total reclassifications included in net income (loss),
net of tax
Other comprehensive income (loss)
Total comprehensive income (loss)
2019
Year Ended December 31,
2018
$
(7,822)
$
(9,227)
$
2017
(21,542)
3,725
824
2,901
(200)
—
(200)
3,101
(4,721)
$
(1,825)
—
(1,825)
(55)
—
1,151
356
795
78
—
(55)
(1,770)
(10,997)
$
$
78
717
(20,825)
The accompanying notes are an integral part of the Consolidated Financial Statements.
64
CONIFER HOLDINGS, INC. AND SUBSIDIARIES
Consolidated Statement of Changes in Shareholders' Equity
(dollars in thousands)
Balances at December 31, 2016
Net loss
Issuance of common stock in private placement
Common stock issuance costs
Restricted stock units expense, net
Other comprehensive income
Balances at December 31, 2017
Cumulative effect of adoption of ASU No. 2016-01,
net of taxes
Cumulative effect of adoption of ASU No. 2018-02,
net of taxes
Balances after cumulative effects
Net loss
Repurchase of common stock
Restricted stock units expense
Other comprehensive loss
Balances at December 31, 2018
Net loss
Repurchase of common stock
Issuance of common stock in private placement
Restricted stock units expense
Other comprehensive income
Balances at December 31, 2019
No Par, Common
Stock
Shares
Amount
Retained
Earnings
(Accumulated
deficit)
Accumulated
Other
Comprehensive
Income (Loss)
Total
Shareholders'
Equity
7,633,070 $
—
800,000
87,258
—
8,520,328 $
80,342 $
—
5,000
(38)
895
—
86,199 $
(11,468) $
(21,542)
—
—
—
—
(33,010) $
(1,080) $
—
—
—
—
717
(363) $
67,794
(21,542)
5,000
(38)
895
717
52,826
—
—
556
(556)
—
—
8,520,328 $
—
(137,228)
95,102
—
8,478,202 $
—
(163,527)
1,176,471
101,715
—
9,592,861 $
—
86,199 $
—
(636)
970
—
86,533 $
—
(676)
5,000
959
—
91,816 $
(77)
(32,531) $
(9,227)
—
—
—
(41,758) $
(7,822)
—
—
—
—
(49,580) $
77
(842) $
—
—
—
(1,770)
(2,612) $
—
—
—
—
3,101
489 $
—
52,826
(9,227)
(636)
970
(1,770)
42,163
(7,822)
(676)
5,000
959
3,101
42,725
The accompanying notes are an integral part of the Consolidated Financial Statements.
65
CONIFER HOLDINGS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(dollars in thousands)
Cash Flows from Operating Activities
Net income (loss)
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation and amortization
Amortization of bond premium and discount, net
Net realized investment gains
Change in fair value of equity securities
Restricted stock unit expenses
Other
Changes in operating assets and liabilities:
(Increase) decrease in:
Premiums, agents' balances and other receivables
Reinsurance recoverables
Prepaid reinsurance premiums
Deferred policy acquisition costs
Other assets
Increase (decrease) in:
Unpaid losses and loss adjustment expenses
Unearned premiums
Reinsurance premiums payable
Accounts payable and other liabilities
Net cash provided by (used in) operating activities
Cash Flows From Investing Activities
Purchases of investments
Proceeds from maturities and redemptions of investments
Proceeds from sales of investments
Purchases of property and equipment
Net cash provided by (used in) investing activities
Cash Flows From Financing Activities
Proceeds received from issuance of shares of common stock
Repurchase of common stock
Borrowings under debt arrangements
Repayment of borrowings under debt arrangements
Stock and debt issuance costs
Net cash provided by financing activities
Net increase (decrease) in cash
Cash at beginning of period
Cash at end of period
Supplemental Disclosure of Cash Flow Information:
Interest paid
Net income taxes paid (refunded)
Increase (decrease) in net payable for securities
2019
Year Ended December 31,
2018
2017
$
(7,822) $
(9,227) $
(21,542)
453
568
(1,196)
427
959
(1,210)
4,348
7,011
579
105
(489)
14,439
(1,349)
—
(1,462)
15,361
(157,235)
22,401
109,882
(61)
(25,013)
5,000
(676)
2,100
(100)
—
6,324
(3,328)
10,792
7,464 $
2,547 $
35
1,579
386
455
(61)
(121)
970
(290)
(789)
(10,206)
(748)
770
(1,252)
4,911
(4,820)
(3,299)
6,313
(17,008)
(91,293)
22,827
80,774
(86)
12,222
—
(636)
25,300
(19,500)
(1,454)
3,710
(1,076)
11,868
10,792 $
3,116 $
(83)
(3,642)
372
532
(70)
—
895
(484)
2,249
(17,041)
3,039
509
4,239
33,245
(454)
3,299
302
9,090
(218,492)
25,213
167,338
(13)
(25,954)
5,000
—
32,000
(19,750)
(1,011)
16,239
(625)
12,493
11,868
876
—
2,691
$
$
The accompanying notes are an integral part of the Consolidated Financial Statements.
66
CONIFER HOLDINGS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
1. Summary Of Significant Accounting Policies
Basis of Presentation and Management Representation
The consolidated financial statements include accounts, after elimination of intercompany accounts and transactions, of Conifer Holdings, Inc. (the
“Company” or “Conifer”), its wholly owned subsidiaries Conifer Insurance Company ("CIC"), Red Cedar Insurance Company ("RCIC"), White Pine Insurance
Company ("WPIC"), and Sycamore Insurance Agency, Inc. ("SIA"). CIC, WPIC, and RCIC are collectively referred to as the "Insurance Company
Subsidiaries." On a stand-alone basis Conifer Holdings, Inc is referred to as the "Parent Company."
The accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of
America (“GAAP”), which differ from statutory accounting practices prescribed or permitted for insurance companies by regulatory authorities.
Business
The Company is engaged in the sale of property and casualty insurance products and has organized its principal operations into three types of insurance
businesses: commercial lines, personal lines, and agency business. The Company underwrites a variety of specialty insurance products, including property, general
liability, liquor liability, automobile, and homeowners and dwelling policies. The Company markets and sells its insurance products through a network of
independent agents, including managing general agents, whereby policies are written in all 50 states in the United States (“U.S.”). The Company’s corporate
headquarters are located in Birmingham, Michigan with additional office facilities in Florida and Pennsylvania.
Public Debt Offering
In September and October of 2018, the Company completed a public debt offering of $25.3 million of senior unsecured notes. Refer to Note 7 ~ Debt for
further details.
Summary of Significant Accounting Policies
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make 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 reporting period. While management believes the amounts included in the consolidated financial statements reflect management's best estimates and
assumptions, actual results may differ from these estimates.
Cash, Cash Equivalents, and Short-term Investments
Cash consists of cash deposits in banks, generally in operating accounts. Cash equivalents consist of money-market funds that are specifically used as
overnight investments tied to cash deposit accounts. Short-term investments, consisting of money-market funds, are classified as investments in the consolidated
balance sheets as they relate to the Company’s investment activities.
Lease Accounting
Effective January 1, 2019, the Company adopted FASB Accounting Standards Update ("ASU") No. 2016-02, Leases (Topic 842), which addresses the
financial reporting of leasing transactions. This update required the recognition of a right-of-use asset and a corresponding lease liability, discounted to the present
value, for all leases that extend beyond 12 months. For operating leases, the asset and liability will be amortized over the lease term on a straight-line basis, with all
cash flows included in the operating section of the consolidated statement of cash flows. We do not have any financing leases. The Company elected to use the
transition option of practical expedients permitted within the new standard, which allows for the
67
adoption of the new standard at the effective date without adjusting the comparative prior periods presented. Our operating leases consist primarily of real estate
utilized in the operation of our businesses with lease terms ranging from 5 to 10 years. Management has determined the appropriate discount rate to use in
calculating the right-to-use asset and lease liability is 6.75%. The Company recorded a right-of-use asset of $3.9 million and lease liabilities of $3.9 million
included in Other Assets and Other Liabilities in the Consolidated Balance Sheets on January 1, 2019.
Investment Securities
Debt securities are classified as available-for-sale and reported at fair value. The Company determines the fair value using the market approach, which uses
quoted prices or other relevant data based on market transactions involving identical or comparable assets. The Company purchases the available-for-sale debt
securities with the expectation that they will be held to maturity, however the Company may sell them if market conditions or credit‑related risk warrant earlier
sales. The Company does not have any securities classified as held-to-maturity or trading.
The change in unrealized gain and loss on debt securities is recorded as a component of accumulated other comprehensive income (loss), net of the related
deferred tax effect, until realized.
The debt securities portfolio includes structured securities. The Company recognizes income from these securities using a constant effective yield based on
anticipated prepayments and the estimated economic life of the securities. When actual prepayments differ significantly from anticipated prepayments, the
estimated economic life is recalculated and the remaining unamortized premium or discount is amortized prospectively over the remaining economic
life. Premiums and discounts on structured securities are amortized or accreted over the life of the related available‑for‑sale security as an adjustment to yield
using the effective interest method. Such amortization and accretion is included in interest income in the consolidated statements of operations. Dividend and
interest income are recognized when earned.
Realized gains and losses from the sale of available-for-sale securities are determined on a specific-identification basis and included in earnings on the trade
date.
Equity securities that do not result in consolidation and are not accounted for under the equity method are measured at fair value and any changes in fair value
are recognized in net income in the Consolidated Statements of Operations.
Mutual fund and similar investments are measured at their net asset value, which approximates fair value. Any changes in the net asset value are recognized
in net income in the Consolidated Statements of Operations. This policy was effective in 2018 and 2017 amounts were not recasted.
The Company carries other equity investments that do not have a readily determinable fair value at cost, less impairment and adjusted for observable price
changes under the measurement alternative provided under GAAP. We review these investments for impairment during each reporting period. These investments
are a component of Other Assets in the Consolidated Balance Sheets.
Other-than-Temporary Impairments
The Company reviews its impaired securities for possible other-than-temporary impairment ("OTTI") at each quarter-end. A security has an impairment loss
when its fair value is less than its cost or amortized cost at the balance sheet date. The Company considers the following factors in performing its review: (i) the
amount by which the security’s fair value is less than its cost, (ii) length of time the security has been impaired, (iii) whether management has the intent to sell the
security, (iv) if it is more likely than not that management will be required to sell the security before recovery of its amortized cost basis, (v) whether the
impairment is due to an issuer‑specific event, credit issues or change in market interest rates, (vi) the security’s credit rating and any recent downgrades or
(vii) stress testing of expected cash flows under different scenarios. If the Company cannot assert these conditions, an OTTI loss is recorded through the
Consolidated Statements of Operations in the current period.
For all other impaired securities, the Company will assess whether the net present value of the cash flows expected to be collected from the security is less
than its amortized cost basis. Such a shortfall in cash flows is referred to as a “credit loss.” For any such security, the Company separates the impairment loss into:
(i) the credit loss and (ii) the non-credit loss, which is
68
the amount related to all other factors such as interest rate changes, fluctuations in exchange rates and market conditions. The credit loss charge is recorded to the
current period statements of operations and the non-credit loss is recorded to accumulated other comprehensive income (loss), within shareholders’ equity, on an
after-tax basis. A security’s cost basis is permanently reduced by the amount of a credit loss. Income is accreted over the remaining life of a security based on the
interest rate necessary to discount the expected future cash flows to the new basis. If the security is non-income producing, any cash proceeds are applied as a
reduction of principal when received.
Recognition of Premium Revenues
All of the property and casualty policies written by our insurance companies are considered short-duration contracts. These policy premiums are earned on a
daily pro-rata basis, net of reinsurance, over the term of the policy, which are six or twelve months in duration. The portion of premiums written that relate to the
unexpired terms of policies in force are deferred and reported as unearned premium at the balance sheet date.
Reinsurance
Reinsurance premiums, commissions, losses and loss adjustment expenses ("LAE") on reinsured business are accounted for on a basis consistent with that
used in accounting for the original policies issued and the terms of the reinsurance contracts. The amounts reported as reinsurance recoverables include amounts
billed to reinsurers on losses and LAE paid as well as estimates of amounts expected to be recovered from reinsurers on insurance liabilities that have not yet been
paid. Reinsurance recoverables on unpaid losses and LAE are estimated based upon assumptions consistent with those used in establishing the gross liabilities as
they are applied to the underlying reinsured contracts. The Company records an allowance for uncollectible reinsurance recoverables based on an assessment of the
reinsurer’s creditworthiness and collectability of the recorded amounts. Management believes an allowance for uncollectible recoverable from its reinsurers was
not necessary for the periods presented.
The Company receives ceding commissions in connection with certain ceded reinsurance. The ceding commissions are recorded as a reduction of operating
expenses.
In 2017, the Company entered into an adverse development cover reinsurance agreement (the "ADC"). The ADC is a retroactive reinsurance contract. If the
cumulative losses and loss adjustment expenses ceded under the ADC exceed the consideration paid, the resulting gain from such excess is deferred and amortized
into earnings in future periods using the interest method. In any period in which there is a gain position and a revised estimate of claim and allocated claim
adjustment expenses, a portion of the deferred gain is cumulatively recognized in earnings as if the revised estimate was available at the inception date of the
ADC. As of December 31, 2019, the deferred gain on the ADC was fully recognized.
Deferred Policy Acquisition Costs
Costs incurred which are incremental and directly related to the successful acquisition of new or renewal insurance business is deferred. These deferred costs
consist of commissions paid to agents, premium taxes, and underwriting costs, including compensation and payroll related benefits. Proceeds from reinsurance
transactions that represent recovery of acquisition costs reduce applicable unamortized acquisition costs in such a manner that net acquisition costs are capitalized
and charged to expense. Amortization of such policy acquisition costs is charged to expense in proportion to premium earned over the estimated policy term.
To the extent that unearned premiums on existing policies are not adequate to cover the sum of expected losses and LAE, unamortized acquisition costs and
policy maintenance costs, unamortized deferred policy acquisition costs are charged to expense to the extent required to eliminate the premium deficiency. If the
premium deficiency is greater than the unamortized policy acquisition costs, a liability is recorded for any such deficiency. The Company considers anticipated
investment income in determining whether a premium deficiency exists. Management performs this evaluation at each insurance product line level.
69
Unpaid Losses and Loss Adjustment Expenses
The liability for unpaid losses and LAE in the Consolidated Balance Sheets represents the Company’s estimate of the amount it expects to pay for the
ultimate cost of all losses and LAE incurred that remain unpaid at the balance sheet date. The liability is recorded on an undiscounted basis, except for the liability
for unpaid losses and LAE assumed related to acquired companies which are initially recorded at fair value. The process of estimating the liability for unpaid
losses and LAE is a complex process that requires a high degree of judgment.
The liability for unpaid losses and LAE represent the accumulation of individual case estimates for reported losses and LAE, and actuarially determined
estimates for incurred but not reported losses and LAE. The liability for unpaid losses and LAE is intended to include the ultimate net cost of all losses and LAE
incurred but unpaid as of the balance sheet date. The liability is stated net of anticipated deductibles, salvage and subrogation, and gross of reinsurance ceded. The
estimate of the unpaid losses and LAE liability is continually reviewed and updated. Although management believes the liability for losses and LAE is reasonable,
the ultimate liability may be more or less than the current estimate.
The estimation of ultimate liability for unpaid losses and LAE is a complex, imprecise and inherently uncertain process, and therefore involves a considerable
degree of judgment and expertise. The Company utilizes various actuarially‑accepted reserving methodologies in deriving the continuum of expected outcomes
and ultimately determining its estimated liability amount. These methodologies utilize various inputs, including but not limited to written and earned premiums,
paid and reported losses and LAE, expected initial loss and LAE ratio, which is the ratio of incurred losses and LAE to earned premiums, and expected claim
reporting and payout patterns (including company-specific and industry data). The liability for unpaid loss and LAE does not represent an exact measurement of
liability, but is an estimate that is not directly or precisely quantifiable, particularly on a prospective basis, and is subject to a significant degree of variability over
time. In addition, the establishment of the liability for unpaid losses and LAE makes no provision for the broadening of coverage by legislative action or judicial
interpretation or for the extraordinary future emergence of new types of losses not sufficiently represented in the Company’s historical experience or which cannot
yet be quantified. As a result, an integral component of estimating the liability for unpaid losses and LAE is the use of informed subjective estimates and
judgments about the ultimate exposure to unpaid losses and LAE. The effects of changes in the estimated liability are included in the results of operations in the
period in which the estimates are revised.
The Company allocates the applicable portion of the unpaid losses and LAE to amounts recoverable from reinsurers under reinsurance contracts and reports
those amounts separately as assets on the consolidated balance sheets.
Income Taxes
Income taxes are accounted for 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 bases and operating loss and
tax-credit carryforwards. 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.
Deferred tax assets are recognized to the extent that there is sufficient positive evidence, as allowed under the Accounting Standard Codification
("ASC") 740, Income Taxes, to support the recoverability of those deferred tax assets. The Company establishes a valuation allowance to the extent that there is
insufficient evidence to support the recoverability of the deferred tax asset under ASC 740. In making such a determination, management considers all available
positive and negative evidence, including future reversals of existing taxable temporary differences, projected future taxable income, tax‑planning strategies, and
results of recent operations. If it is determined that the deferred tax assets would be realizable in the future in excess of their net recorded amount, an adjustment
would be made to the deferred tax asset valuation allowance, which would reduce the provision for income taxes.
As of December 31, 2019 and 2018, the Company did not have any unrecognized tax benefits and had no accrued interest or penalties related to uncertain tax
positions.
70
Other Income
Other income consists primarily of fees charged to policyholders by the Company for services outside of the premium charge, such as installment billings or
policy issuance costs. Commission income is also received by the Company’s insurance agencies for writing policies for third party insurance companies. The
Company recognizes commission income on the later of the effective date of the policy, the date when the premium can be reasonably established, or the date when
substantially all services related to the insurance placement have been rendered.
Operating Expenses
Operating expenses consist primarily of other underwriting, compensation and benefits, information technology, facility and other administrative expenses.
Recently Issued Accounting Guidance
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326), which amends the current methodology and timing for
recognizing credit losses. This amendment will replace the current GAAP "incurred loss" methodology for credit losses with a methodology based on expected
credit losses. The new guidance will also require expanded consideration of a broader range of reasonable and increased supportable information for the credit loss
estimates. This ASU is effective for annual and interim reporting periods beginning after December 15, 2022. Management is currently evaluating the impact of
the guidance.
In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820), which modifies the disclosure requirements for assets and
liabilities measured at fair value. The requirements to disclose the amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy, the
policy for timing of transfers between levels and the valuation processes for Level 3 fair value measurements have all been removed. However, the changes in
unrealized gains and losses included in other comprehensive income for recurring Level 3 fair value measurements held at the end of the reporting period must be
disclosed along with the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements (or other quantitative
information if it is more reasonable). Finally, for investments measured at net asset value, the requirements have been modified so that the timing of liquidation
and the date when restrictions from redemption might lapse are only disclosed if the investee has communicated the timing to the entity or announced the timing
publicly. This ASU is effective for annual and interim reporting periods beginning after December 15, 2019. Early adoption is permitted upon the issuance of this
update. Management does not expect the new guidance to have a material impact on the Company’s consolidated financial statements.
2. Investments
The cost or amortized cost, gross unrealized gain or loss, and estimated fair value of the investments in securities classified as available-for-sale at
December 31, 2019 and 2018 were as follows (dollars in thousands):
Debt securities:
U.S. Government
State and local government
Corporate debt
Asset-backed securities
Mortgage-backed securities
Commercial mortgage-backed securities
Collateralized mortgage obligations
Total debt securities available for sale
Cost or
Amortized
Cost
December 31, 2019
Gross Unrealized
Gains
Losses
Estimated
Fair Value
9,392
14,388
39,550
19,549
31,389
9,972
5,073
129,313
$
$
66
545
865
81
238
116
29
1,940
$
$
(6)
—
(21)
(55)
(112)
(45)
(14)
(253)
$
$
9,452
14,933
40,394
19,575
31,515
10,043
5,088
131,000
$
$
71
Debt securities:
U.S. Government
State and local government
Corporate debt
Asset-backed securities
Mortgage-backed securities
Commercial mortgage-backed securities
Collateralized mortgage obligations
Total debt securities available for sale
Cost or
Amortized
Cost
December 31, 2018
Gross Unrealized
Gains
Losses
Estimated
Fair Value
15,360
15,847
30,423
24,468
30,377
4,025
2,178
122,678
$
$
3
115
74
24
18
5
9
248
$
$
(178)
(174)
(651)
(208)
(1,155)
(77)
(43)
(2,486)
$
$
15,185
15,788
29,846
24,284
29,240
3,953
2,144
120,440
$
$
72
The following table summarizes the aggregate fair value and gross unrealized losses, by security type, of the available-for-sale securities in unrealized loss
positions. The table segregates the holdings based on the length of time that individual securities have been in a continuous unrealized loss position (dollars in
thousands):
Less than 12 months
Fair Value of
Investments
with
Unrealized
Losses
No.
of
Issues
Gross
Unrealized
Losses
No.
of
Issues
December 31, 2019
12 months or More
Fair Value of
Investments
with
Unrealized
Losses
Gross
Unrealized
Losses
No.
of
Issues
Total
Fair Value of
Investments
with
Unrealized
Losses
Gross
Unrealized
Losses
Debt securities:
U.S. Government
State and local
government
Corporate debt
Asset-backed securities
Mortgage-backed
securities
Commercial mortgage
-backed securities
Collateralized mortgage
obligations
Total debt securities
available for sale
Debt securities:
U.S. Government
State and local
government
Corporate debt
Asset-backed securities
Mortgage-backed
securities
Commercial mortgage
-backed securities
Collateralized mortgage
obligations
Total debt securities
available for sale
-
-
7
3
3
6
8
$
-
$
-
4
$
1,047
$
(6)
4
$
1,047
$
-
3,720
2,596
715
6,837
2,081
-
(17)
(1)
(1)
(45)
(14)
-
3
18
13
-
-
-
1,697
11,836
-
(4)
(54)
7,812
(111)
-
-
-
-
-
10
21
16
6
8
-
5,417
14,432
(6)
-
(21)
(55)
8,527
(112)
6,837
2,081
(45)
(14)
27
15,949
(78)
38
22,392
(175)
65
38,341
(253)
Less than 12 months
Fair Value of
Investments
with
Unrealized
Losses
No.
of
Issues
Gross
Unrealized
Losses
No.
of
Issues
December 31, 2018
12 months or More
Fair Value of
Investments
with
Unrealized
Losses
Gross
Unrealized
Losses
No.
of
Issues
Total
Fair Value of
Investments
with
Unrealized
Losses
Gross
Unrealized
Losses
1
$
2,470
$
(24)
16
$
11,725
$
(154)
17
$
14,195
$
(178)
21
36
25
20
4
4
4,935
12,096
17,743
(40)
(140)
(148)
5,474
(138)
1,082
116
(12)
(1)
16
25
9
30
3
6
4,273
11,993
4,166
(134)
(511)
(60)
21,715
(1,017)
2,632
1,587
(65)
(42)
37
61
34
50
7
10
9,208
24,089
21,909
(174)
(651)
(208)
27,189
(1,155)
3,714
1,703
(77)
(43)
111
43,916
(503)
105
58,091
(1,983)
216
102,007
(2,486)
The Company analyzed its investment portfolio in accordance with its OTTI review procedures and determined the Company did not need to record a credit-
related OTTI loss, nor recognize a non credit-related OTTI loss in other comprehensive income for the years ended December 31, 2019, 2018, and 2017.
73
The Company’s sources of net investment income are as follows (dollars in thousands):
Debt securities
Equity securities
Cash, cash equivalents, and short-term investments
Total investment income
Investment expenses
Net investment income
December 31,
2019
2018
2017
$
$
3,476
352
487
4,315
(284)
4,031
$
$
3,419
129
85
3,633
(297)
3,336
$
$
2,757
124
122
3,003
(275)
2,728
The following table summarizes the gross realized gains and losses from sales or maturities of available-for-sale debt securities and equity securities, as
follows (dollars in thousands):
Debt securities:
Gross realized gains
Gross realized losses
Total debt securities
Equity securities:
Gross realized gains
Gross realized losses
Total equity securities
$
Total net investment realized gains
$
December 31,
2019
2018
2017
269 $
(54)
215
1,020
(39)
981
1,196 $
54 $
(256)
(202)
337
(74)
263
61 $
32
(8)
24
76
(30)
46
70
Proceeds from the sales of available-for-sale securities were $33.7 million, $14.6 million and $1.8 million for the years ended December 31, 2019, 2018, and
2017, respectively. The gross realized gains from sales of available-for-sale securities for the years ended December 31, 2019, 2018, and 2017 were $274,000,
$7,000, and $106,000, respectively. The gross realized losses from sales of available-for-sale securities for the years ended December 31, 2019, 2018, and 2017
were $53,000, $199,000, and $37,000, respectively. The year ended December 31, 2017 has not been recast to confirm to the current presentation of ASU No.
2016-01. Refer to Note 1 ~ Summary of Significant Accounting Policies for further details.
The Company carries other equity investments that do not have a readily determinable fair value at cost, less impairment or observable changes in price. We
review these investments for impairment during each reporting period. There was no impairment or observable changes in price recorded during 2019 related to
the Company's equity securities without readily determinable fair value. These investments are a component of Other Assets in the Consolidated Balance
Sheets. The value of these investments as of December 31, 2019 were $665,000.
74
The table below summarizes the amortized cost and fair value of available-for-sale debt securities by contractual maturity at December 31, 2019. Actual
maturities may differ from contractual maturities because certain borrowers have the right to call or prepay obligations with or without call or prepayment penalties
(dollars in thousands):
Due in one year or less
Due after one year through five years
Due after five years through ten years
Due after ten years
Securities with contractual maturities
Asset-backed securities
Mortgage-backed securities
Commercial mortgage-backed securities
Collateralized mortgage obligations
Total debt securities
Amortized
Cost
Estimated
Fair Value
$
$
7,276
31,575
15,237
9,242
63,330
19,549
31,389
9,972
5,073
129,313
$
$
7,293
32,152
15,767
9,567
64,779
19,575
31,515
10,043
5,088
131,000
At December 31, 2019 and 2018, the Insurance Companies Subsidiaries had an aggregate of $8.0 million and $8.5 million, respectively, on deposit in trust
accounts to meet the deposit requirements of various state insurance departments. At December 31, 2019 and 2018, the Company had $58.4 million and $45.4
million held in trust accounts to meet collateral requirements with other third-party insurers, relating to various fronting arrangements. There are withdrawal and
other restrictions on these deposits, including the type of investments that may be held, however, the Company may generally invest in high-grade bonds and short-
term investments and earn interest on the funds.
3. Fair Value Measurements
The Company’s financial instruments include assets carried at fair value, as well as debt carried at face value, net of unamortized debt issuance costs, but
disclosed at fair value in this note. Fair value is defined as the price that would be received for an asset or paid to transfer a liability in the principal most
advantageous market for the asset or liability in an orderly transaction between market participants. In determining fair value, the Company applies the market
approach, which uses prices and other relevant data based on market transactions involving identical or comparable assets and liabilities. The inputs to valuation
techniques used to measure fair value are prioritized into a three-level hierarchy. The hierarchy gives the highest priority to quoted prices from sources
independent of the reporting entity (“observable inputs”) and the lowest priority to prices determined by the reporting entity’s own assumptions about market
participant assumptions developed based on the best information available in the circumstances (“unobservable inputs”). The fair value hierarchy is as follows:
Level 1—Valuations that are based on quoted prices (unadjusted) in active markets for identical assets or liabilities.
Level 2—Valuations that are based on observable inputs (other than Level 1 prices) such as quoted prices for similar assets or liabilities at the measurement
date; quoted prices in markets that are not active; or other inputs that are observable, either directly or indirectly, for substantially the full term of the asset or
liability.
Level 3—Unobservable inputs that are supported by little or no market activity. The unobservable inputs represent the Company’s best assumption of how
market participants would price the assets or liabilities.
NAV—The fair values of investment company limited partnership investments are based on the capital account balances reported by the investment funds
subject to their management review and adjustment. These capital account balances reflect the fair value of the investment funds.
75
The following tables present the Company’s assets and liabilities measured at fair value, classified by the valuation hierarchy as of December 31, 2019 and
2018 (dollars in thousands):
$
Assets:
Debt Securities:
U.S. Government
State and local government
Corporate debt
Asset-backed securities
Mortgage-backed securities
Commercial mortgage-backed securities
Collateralized mortgage obligations
Total debt securities
Equity Securities
Short-term investments
Total marketable investments measured at fair value $
Investments measured at NAV:
Investment in limited partnership
Total assets measured at fair value
Liabilities:
Senior Unsecured Notes *
Subordinated Notes *
Total Liabilities measured at fair value
$
$
$
December 31, 2019
Fair Value Measurements Using
Total
Level 1
Level 2
Level 3
9,452
14,933
40,394
19,575
31,515
10,043
5,088
131,000
6,599
31,426
169,025
707
169,732
22,669
11,222
33,891
$
$
$
$
—
—
—
—
—
—
—
—
6,335
31,426
37,761
—
—
—
$
$
$
$
9,452
14,933
40,394
19,575
31,515
10,043
5,088
131,000
264
—
131,264
22,669
—
22,669
$
$
$
$
—
—
—
—
—
—
—
—
—
—
—
—
11,222
11,222
* Carried at face value of debt net of unamortized debt issuance costs on the consolidated balance sheet
76
$
Assets:
Debt Securities:
U.S. Government
State and local government
Corporate debt
Asset-backed securities
Mortgage-backed securities
Commercial mortgage-backed securities
Collateralized mortgage obligations
Total debt securities
Equity Securities
Short-term investments
Total marketable investments measured at fair value
$
Investments measured at NAV:
Investment in limited partnership
Total assets measured at fair value
Liabilities:
Senior Unsecured Notes *
Subordinated Notes *
Total Liabilities measured at fair value
$
$
$
December 31, 2018
Fair Value Measurements Using
Total
Level 1
Level 2
Level 3
15,185
15,788
29,846
24,284
29,240
3,953
2,144
120,440
6,587
8,925
135,952
4,150
140,102
21,252
10,640
31,892
$
$
$
$
—
—
—
—
—
—
—
—
6,323
8,925
15,248
—
—
—
$
$
$
$
15,185
15,788
29,846
24,284
29,240
3,953
2,144
120,440
264
—
120,704
$
$
—
—
—
—
—
—
—
—
—
—
—
21,252
—
21,252
$
$
—
10,640
10,640
* Carried at face value of debt net of unamortized debt issuance costs on the consolidated balance sheet
Level 1 investments consist of equity securities traded in an active exchange market. The Company uses unadjusted quoted prices for identical instruments to
measure fair value. Level 1 also includes money market funds and other interest-bearing deposits at banks, which are reported as short-term investments. The fair
value measurements that were based on Level 1 inputs comprise 22.2% of the fair value of the total investment portfolio as of December 31, 2019.
Level 2 investments include debt securities and equity securities, which consist of U.S. government agency securities, state and local municipal bonds
(including those held as restricted securities), corporate debt securities, mortgage-backed and asset-backed securities. The fair value of securities included in the
Level 2 category were based on the market values obtained from a third party pricing service that were evaluated using pricing models that vary by asset class and
incorporate available trade, bid and other observable market information. The third party pricing service monitors market indicators, as well as industry and
economic events. The fair value measurements that were based on Level 2 inputs comprise 77.3% of the fair value of the total investment portfolio as of
December 31, 2019.
The Company obtains pricing for each security from independent pricing services, investment managers or consultants to assist in determining fair value for
its Level 2 investments. To validate that these quoted prices are reasonable estimates of fair value, the Company performs various quantitative and qualitative
procedures, such as (i) evaluation of the underlying methodologies, (ii) analysis of recent sales activity, (iii) analytical review of our fair values against current
market prices and (iv) comparison of the pricing services’ fair value to other pricing services’ fair value for the same investment. No markets for the investments
were determined to be inactive at period-ends. Based on these procedures, the Company did not adjust the prices or quotes provided from independent pricing
services, investment managers or consultants.
77
As of December 31, 2019 and 2018, Level 3 liabilities are entirely comprised of the Company's subordinated notes. In determining the fair value of the
subordinated debt outstanding at December 31, 2019 and 2018, the security attributes (issue date, maturity, coupon, calls, etc.) and market rates on September 24,
2018 (the date of the restated and amended agreement which was repriced at that time) were fed into a valuation model. A lognormal trinomial interest rate lattice
was created within the model to compute the option adjusted spread (“OAS”) which is the amount, in basis points, of interest rate required to be paid under the debt
agreement over the risk-free U.S. Treasury rates. The OAS was then fed back into the model along with the December 31, 2019 and 2018, U.S. Treasury rates,
respectively. A new lattice was generated and the fair value was computed from the OAS. There were no changes in assumptions of credit risk from the issuance
date.
The Company’s policy on recognizing transfers between hierarchy levels is applied at the end of each reporting period. There were no transfers between
Levels 1, 2 and 3 for the years ended December 31, 2019 and 2018, respectively.
4. Deferred Policy Acquisition Costs
The Company defers costs incurred which are incremental and directly related to the successful acquisition of new or renewal insurance business, net of
corresponding amounts of ceded reinsurance commissions. Net deferred policy acquisition costs are amortized and charged to expense in proportion to premium
earned over the estimated policy term. The Company anticipates that its deferred policy acquisition costs will be fully recoverable and there were no premium
deficiencies for the years December 31, 2019, 2018, and 2017. The activity in deferred policy acquisition costs, net of reinsurance transactions, is as follows
(dollars in thousands):
Balance at beginning of period
Deferred policy acquisition costs
Amortization of policy acquisition costs
Net change
Balance at end of period
5. Unpaid Losses and Loss Adjustment Expenses
2019
December 31,
2018
$
$
12,011 $
24,806
(24,911)
(105)
11,906 $
12,781 $
24,764
(25,534)
(770)
12,011 $
2017
13,290
25,736
(26,245)
(509)
12,781
The Company establishes reserves for unpaid losses and LAE which represent the estimated ultimate cost of all losses incurred that were both reported and
unreported (i.e., incurred but not yet reported losses, or “IBNR”) and LAE incurred that remain unpaid at the balance sheet date. The Company’s reserving process
takes into account known facts and interpretations of circumstances and factors including the Company’s experience with similar cases, actual claims paid,
historical trends involving claim payment patterns and pending levels of unpaid claims, loss management programs, product mix and contractual terms, changes in
law and regulation, judicial decisions, and economic conditions. In the normal course of business, the Company may also supplement its claims processes by
utilizing third party adjusters, appraisers, engineers, inspectors, and other professionals and information sources to assess and settle catastrophe and non-catastrophe
related claims. The effects of inflation are implicitly considered in the reserving process.
Reserves are estimates of unpaid portions of losses that have occurred, including IBNR losses, therefore the establishment of appropriate reserves, is an
inherently uncertain and complex process. The ultimate cost of losses may vary materially from recorded amounts, which are based on management’s best
estimates. The highest degree of uncertainty is associated with reserves for losses incurred in the current reporting period as it contains the greatest proportion of
losses that have not been reported or settled. The Company regularly updates its reserve estimates as new information becomes available and as events unfold that
may affect the resolution of unsettled claims. Changes in prior year reserve estimates, which may be material, are reported in the results of operations in the period
such changes are determined to be needed and recorded.
Management believes that the reserve for losses and LAE, net of reinsurance recoverables, is appropriately established in the aggregate and adequate to cover
the ultimate net cost of reported and unreported claims arising from losses which had
78
occurred by the date of the consolidated financial statements based on available facts and in accordance with applicable laws and regulations.
The table below provides the changes in the reserves for losses and LAE, net of recoverables from reinsurers, for the periods indicated (dollars in thousands):
Gross reserves - beginning of period
Less: reinsurance recoverables on unpaid losses
Plus: deferred gain on ADC
Net reserves - beginning of period
Add: incurred losses and loss adjustment expenses, net
of reinsurance
Current period
Prior period
Total net incurred losses and loss adjustment
expenses
Deduct: loss and loss adjustment expense payments,
net of reinsurance
Current period
Prior period
Total net loss and loss adjustment expense
payments
Net reserves - end of period
Plus: reinsurance recoverables on unpaid losses
Less: deferred gain on ADC
Gross reserves - end of period
$
2019
December 31,
2018
92,807 $
29,685
(5,677)
68,799
87,896 $
20,066
—
67,830
2017
54,651
6,658
—
47,993
49,192
10,552
53,482
9,033
64,458
9,459
59,744
62,515
73,917
14,357
29,519
17,025
44,521
43,876
84,667
22,579
—
107,246 $
61,546
68,799
29,685
(5,677)
92,807 $
24,547
29,533
54,080
67,830
20,066
—
87,896
$
There was $10.6 million, $9.0 million, and $9.5 million of adverse development on prior accident year reserves in 2019, 2018 and 2017, respectively. There
were no significant changes in the key methods utilized in the analysis and calculations of the Company’s reserves during 2019, 2018 or 2017.
In 2019, the adverse development consisted of $7.6 million from commercial lines and $3.0 million from personal lines. Of the $7.6 million of adverse
development in commercial lines, the company experienced $11.0 million and $2.4 million of adverse development in its hospitality and small business lines of
business, respectively. This was partially offset by the remaining $5.7 million of benefit from the ADC that was recognized in 2019. Of the $3.0 million of adverse
development in personal lines in 2019, $1.7 million was related to Florida homeowners business.
In 2018, the adverse development consisted of $6.2 million from commercial lines and $2.8 million from personal lines. Of the $6.2 million of adverse
development in commercial lines, $4.2 million was related to the commercial liability business. Of the $2.8 million of adverse development in personal lines, $2.0
million and $727,000 were related to the Florida homeowners and Texas homeowners business, respectively. This included $960,000 of adverse development
related to hurricanes Harvey and Irma.
In 2017, the adverse development consisted of $7.2 million from commercial lines and $2.3 million from personal lines and was mostly related to the 2016
and 2015 accident years. This development consisted of $5.1 million from the commercial liability business, $1.6 million from commercial property, $1.7 million
from Florida homeowners and $0.5 million from commercial auto business.
79
On September 28, 2017, the Company entered into an ADC reinsurance agreement to cover loss development of up to $17.5 million in excess of stated
reserves as of June 30, 2017, for accident years 2005 through 2016. The agreement attaches when net losses exceed $1.4 million of the $36.6 million carried
reserves at June 30, 2017, and extends to $19.5 million in coverage up to $57.5 million. The company retains a 10% co-participation for any development in excess
of the retention.
As of December 31, 2019, the deferred gain from the ADC was fully utilized. In 2018, the Company ceded $10.3 million of losses under the ADC. Of the
$10.3 million, $4.6 million was recognized as a benefit, reducing losses and LAE expense, and $5.7 million was deferred (recorded as a liability on the
Consolidated Balance Sheets) and was amortized into income as a benefit in future periods. As of December 31, 2018, the Company had ceded to the limit of the
ADC. In 2017, $7.2 million of adverse development was ceded to the ADC. Discussion of adverse development is net of benefits recognized under the ADC in
that period.
Incurred losses during 2018 also included $583,000 in net catastrophe losses in the current calendar year related to Hurricane Harvey in Texas. Of the
$583,000 in net catastrophe losses, personal lines accounted for $960,000 of the losses while commercial lines saw $377,000 of favorable development in calendar
year 2018. Losses from Hurricane Irma were in excess of the Company’s $4.0 million retention on its catastrophe reinsurance treaty which resulted in $10.0
million of losses being ceded to the treaty during 2018. This also resulted in a $1.0 million charge for catastrophe reinstatement premiums which was recorded as
ceded premiums in 2018.
In 2017, incurred losses included $5.4 million in net catastrophe losses related to Hurricane Harvey in Texas and Hurricane Irma in Florida. Approximately
34% of the losses were generated in Commercial Lines and 66% in Personal lines. Losses from Hurricane Irma were in excess of the Company’s $4.0 million
retention on its catastrophe reinsurance treaty which resulted in $5.2 million of losses being ceded to the treaty as of December 31, 2017. This also resulted in a
$806,000 charge for catastrophe reinstatement premiums which was recorded as ceded premiums in 2017.
Loss Development Tables
The following tables represent cumulative incurred loss and allocated loss adjustment expenses ("ALAE"), net of reinsurance, by accident year and
cumulative paid loss and ALAE, net of reinsurance, by accident year, for the years ended December 31, 2009 to 2019, as well as total IBNR and the cumulative
number of reported claims for the year ended December 31, 2019, by reportable segment and accident year (dollars in thousands).
2009*
2011*
2010*
$ 11,400 $ 12,066 $ 10,312
8,568
6,753
7,346
Accident
Year
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
Commercial Lines
Incurred loss and allocated loss adjustment expenses, net of reinsurance
2012*
$ 8,943
7,255
5,758
7,745
2013*
$ 8,232
6,357
5,326
6,421
10,018
2014*
$ 8,403
6,170
5,049
6,288
9,435
19,709
2015*
$ 8,359
6,074
4,932
6,384
9,893
19,907
22,442
2016
$ 8,414
6,207
4,903
6,253
10,237
22,711
26,633
32,396
2017
$ 8,442
6,292
4,935
6,190
11,252
26,367
31,861
34,935
44,251
Total
2018
$ 8,441
6,312
4,933
6,209
11,218
28,145
34,478
40,440
44,495
42,624
2019
$
8,441
6,312
4,933
6,209
11,624
28,766
36,372
44,355
49,749
42,432
41,286
$ 280,479
80
Cumulative
number of
reported
claims
2019
877
771
590
560
608
1,752
2,352
3,544
5,776
5,993
5,774
Total
IBNR
$
2019
—
—
—
—
50
100
200
1,125
3,658
8,619
20,265
$ 34,018
Accident
Year
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
Cumulative paid loss and allocated loss adjustment expenses, net of reinsurance
For the years ended December 31,
2009*
2010*
2011*
2012*
2013*
2014*
2015*
2016
2017
2018
2019
$
4,436 $
5,942 $
3,066
6,410 $
4,488
2,645
7,233 $
5,219
3,534
2,325
7,800 $
5,910
3,964
3,703
3,979
7,867 $
6,040
4,449
4,696
6,211
8,715
7,933 $
6,065
4,641
5,558
7,643
13,977
10,470
8,321 $
6,166
4,744
5,994
8,622
17,458
17,817
10,255
8,441 $
6,258
4,872
6,065
10,147
22,446
22,549
19,135
12,448
Total
8,441 $
6,312
4,903
6,209
10,650
25,609
30,475
27,785
23,020
10,375
8,441
6,312
4,907
6,209
11,137
27,544
34,497
37,967
34,205
19,799
10,078
$ 201,096
Unpaid losses and ALAE - years 2009 through 2019 $
Unpaid losses and ALAE - prior to 2009 (1)*
Unpaid ADC
Unpaid losses and ALAE, net of reinsurance $
79,383
8
(2,075)
77,316
* Presented as unaudited required supplementary information.
(1) The Company's formation was in 2009, however, as a result of the acquisition of WPIC in 2010, incurred losses prior to the 2009 accident year remain
outstanding.
Personal Lines
Incurred loss and allocated loss adjustment expenses, net of reinsurance
For the years ended December 31,
Cumulative
number of
reported
claims
Total
IBNR
2019
2019
2019
Accident
Year
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
2009* 2010* 2011* 2012*
$
667 $
639 $
320
2017
2016
2015*
2014*
2013*
634 $
184
634 $
184
634 $
184
634 $
184
634 $
184
634 $
184
634 $
188
2018
634
$
184
1,678 1,758 1,981 2,031 2,030 2,045 2,027 2,024
634 $ —
—
184
—
2,024
—
9,960 11,690 11,740 12,159 12,390 12,365 12,357 12,369
—
18,034 17,996 18,925 19,138 19,167 19,202 19,222
—
17,951 17,471 17,735 17,880 17,929 18,082
—
10,877 13,445 14,721 15,285 15,364
—
11,619 13,418 14,949 15,550
—
14,058 13,550 14,493
321
6,378
5,893
609
3,099
929
$ 107,399 $
Total
65
77
717
3,338
5,206
3,730
2,141
1,813
2,852
800
305
81
Accident
Year
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
2009*
2010*
2011*
Cumulative paid loss and allocated loss adjustment expenses, net of reinsurance
For the years ended December 31,
2014*
2013*
2012*
2015*
2016
2017
$
537 $
634 $
151
634 $
174
787
634 $
184
1,292
5,665
634 $
184
1,633
9,251
9,955
634 $
184
1,859
10,844
15,883
12,819
634 $
184
1,983
11,777
18,052
16,515
7,771
634 $
184
2,021
12,202
18,600
17,260
11,873
7,119
634 $
184
2,024
12,306
19,014
17,746
13,844
11,238
8,320
Total
2018
2019
$
634
184
2,024
12,329
19,174
17,855
15,159
14,442
12,944
4,296
634
184
2,024
12,349
19,214
18,047
15,250
15,110
14,004
5,618
2,119
$ 104,553
Unpaid losses and ALAE - years 2009 through 2019 $
Unpaid losses and ALAE - prior to 2009 (1)*
Unpaid ADC
Unpaid losses and ALAE, net of reinsurance $
2,846
—
(112)
2,734
* Presented as unaudited required supplementary information.
Total Lines
Accident
Year
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
2009*
2010*
2011*
2012*
2013*
2014*
2015*
2016
2017
2018
2019
Incurred loss and allocated loss adjustment expenses, net of reinsurance
For the years ended December 31,
12,066
12,705
7,666
10,946
8,756
8,431
9,577
7,439
7,517
17,705
8,866
6,541
7,307
18,111
28,052
9,037
6,354
7,081
18,028
27,431
37,660
9,048
6,391
6,949
18,642
29,375
40,446
40,078
44,015
9,075
6,496
6,957
18,566
30,420
46,074
49,763
55,389
58,045
48,517
9,076
6,476
6,964
18,554
30,419
44,247
46,581
48,353
58,309
Total
9,075
6,496
6,957
18,578
30,846
46,848
51,736
59,905
64,242
48,810
44,385
387,878
8,993
6,258
6,963
18,544
28,817
37,378
33,319
82
Cumulative
number of
reported
claims
2019
942
848
1,307
3,898
5,814
5,482
4,493
5,357
8,628
6,793
6,079
Total
IBNR
2019
—
—
—
—
50
100
200
1,125
3,658
8,940
20,874
34,947
Cumulative paid loss and allocated loss adjustment expenses, net of reinsurance
For the years ended December 31,
2009*
2010*
2011*
2012*
2013*
2014*
2015*
2016
2017
2018
2019
Accident
Year
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
$
4,973
$
$
6,576
3,217
$
7,043
4,662
3,432
$
7,867
5,403
4,826
7,990
$
8,434
6,094
5,597
12,954
13,934
$
8,501
6,223
6,308
15,540
22,094
21,534
$
8,567
6,248
6,624
17,335
25,695
30,492
18,241
$
8,955
6,350
6,766
18,195
27,223
34,718
29,690
17,374
$
9,075
6,442
6,897
18,369
29,162
40,192
36,393
30,373
20,768
Total
9,075
6,496
6,927
18,538
29,824
43,464
45,634
42,227
35,964
14,671
$
9,075
6,496
6,931
18,558
30,351
45,591
49,747
53,077
48,209
25,417
12,197
$ 305,649
82,229
8
(2,187)
80,050
Unpaid losses and ALAE - years 2009 through 2019 $
Unpaid losses and ALAE - prior to 2009 (1)*
Unpaid ADC
Unpaid losses and ALAE, net of reinsurance $
* Presented as unaudited required supplementary information.
The following table reconciles the loss development information to the consolidated balance sheet for the year ended December 31, 2019, by reportable
segment (dollars in thousands).
Net unpaid losses claims and ALAE
Commercial Lines
Personal Lines
Total unpaid losses and LAE, net of reinsurance
Reinsurance recoverable on losses and LAE
Commercial Lines
Personal Lines
Total reinsurance recoverable on unpaid losses and LAE
Unpaid ULAE
Total gross unpaid losses and LAE
December 31,
2019
$
$
77,316
2,734
80,050
20,051
2,528
22,579
4,617
107,246
Loss Duration Disclosure (unaudited)
The following table represents the average annual percentage payout of incurred losses by age, net of reinsurance, for each reportable segment.
Average annual percentage payout of incurred losses by age, net of reinsurance
Commercial Lines
Personal Lines
Total Lines
Year 1
35.7%
79.5%
37.7%
Year 2
26.9%
11.8%
26.2%
Year 3
18.4%
5.5%
17.8%
Year 4
9.5%
1.9%
9.2%
83
Year 5 Year 6 Year 7 Year 8 Year 9
4.8%
1.0%
4.6%
2.3%
0.3%
2.2%
1.3%
—%
1.2%
0.7%
—%
0.7%
0.3%
—%
0.3%
Year
10+
0.1%
—%
0.1%
6. Reinsurance
In the normal course of business, the Company participates in reinsurance agreements in order to limit losses that may arise from catastrophes or other
individually severe events. The Company primarily ceded all specific commercial liability risks in excess of $400,000 in 2019 and $500,000 in 2018 and 2017, and
ceded all specific commercial property risks in excess of $400,000 in 2019, $300,000 in 2018, and $500,000 in 2017. The Company ceded homeowners specific
risks in excess of $300,000 in 2019, 2018 and 2017. A "treaty" is a reinsurance agreement in which coverage is provided for a class of risks and does not require
policy by policy underwriting of the reinsurer. "Facultative" reinsurance is where a reinsurer negotiates an individual reinsurance agreement for every policy it will
reinsure on a policy by policy basis. A loss is covered under a reinsurance contract if the loss occurs within the effective dates of the agreement notwithstanding
when the loss is reported.
Reinsurance does not discharge the Company, as the direct insurer, from liability to its policyholders. Failure of reinsurers to honor their obligations could
result in losses to the Company. The Company evaluates the financial condition of its reinsurers and monitors the concentration of credit risk arising from similar
geographic regions, activities, or economic characteristics of the reinsurers to minimize its exposure to significant losses from reinsurer insolvencies. To date, the
Company has not experienced any significant difficulties in collecting reinsurance recoverables. The Company's current reinsurance structure includes the
following primary categories:
Casualty Clash
Effective January 1, 2019 through December 31, 2019, the Company was party to a workers' compensation and casualty clash reinsurance treaty with
limits up to $19.0 million in excess of a $1.0 million retention. Clash coverage is a type of reinsurance that provides additional coverage in the event
that one casualty loss event results in two or more claims and recovery under the reinsurance treaties may otherwise be limited due to the amount, type
or number of claims. Clash reinsurance further protects the balance sheet as it reduces the potential maximum loss on either a single risk or a large
number of risks.
Effective January 1, 2015 through December 31, 2018, the Company was party to a casualty clash reinsurance treaty with limits up to $18.0 million in
excess of a $2.0 million retention.
•
•
Facultative
•
The Company was party to a facultative reinsurance agreement with a large reinsurer for property risks with total insured values above the other
reinsurance treaty limits.
Liability
•
Effective January 1, 2019 through December 31, 2019, the Company was party to an excess of loss reinsurance treaty for commercial liability coverage
with limits up to $600,000 in excess of $400,000.
Property
•
•
•
•
Effective November 1, 2014 through December 31, 2019, the Company was party to an excess of loss reinsurance treaty for personal property coverage
with limits up to $2.7 million in excess of $300,000, for homeowners' and dwelling fire business.
Effective January 1, 2019 through December 31, 2019, the Company was party to an excess of loss reinsurance treaty for commercial property coverage
with limits up to $3.7 million in excess of $300,000.
Effective January 1, 2018 through December 31, 2018, the Company was party to an excess of loss reinsurance treaty for commercial property coverage
with limits up to $200,000 in excess of $300,000.
Effective July 1, 2015 through December 31, 2018, the Company was party to an excess of loss reinsurance agreement for commercial property
coverage with limits up to $2.0 million in excess of $2.0 million.
84
•
•
•
At December 31, 2019, the Company was covered for property catastrophe losses up to $28.0 million in excess of a $2.0 million retention for the first
event. This treaty terminates on June 1, 2020.
At December 31, 2018, the Company was covered for property catastrophe losses up to $96.0 million in excess of a $4.0 million retention for the first
event. The treaty terminated on June 1, 2019.
At December 31, 2017, the Company was covered for property catastrophe losses up to $106.0 million in excess of a $4.0 million retention for the first
event. The treaty terminated on June 1, 2018.
Multiple Line
•
•
Effective January 1, 2019 through December 31, 2019, the Company was party to a multi-line excess of loss treaty that covers commercial property and
casualty losses up to $600,000 in excess of a $400,000 retention.
Effective January 1, 2015 through December 31, 2018, the Company was party to a multi-line excess of loss treaty that covers commercial property and
casualty losses up to $1.5 million in excess of a $500,000 retention.
Quota Share
•
The Company cedes 90% to 100% of its commercial umbrella coverages under quota share treaties. Under a quota share agreement, the reinsurer pays
a percentage of all losses the insurer sustains in return for a similar percent of the premiums written on that risk. A ceding commission is paid by the
reinsurer to the insurer to cover acquisition and operating expenses.
Adverse Development Cover
•
Effective September 28, 2017, the Company entered into an ADC to cover loss development of up to $17.5 million in excess of stated reserves as of
June 30, 2017. The consideration for the ADC was $7.2 million, which resulted in a one-time charge to ceded premiums fully earned in the third
quarter. The agreement provided up to $17.5 million of reinsurance for adverse net loss reserve development for accident years 2005 through 2016. As
of December 31, 2019, the Company had fully utilized the ADC.
Equipment Breakdown, Employment Practice Liability, and Data Compromise and Identity Recovery
•
The Company ceded 100% of a small number of equipment breakdown, employment practices liability, and data compromise coverages that are
occasionally bundled with other products under a quota share agreement with a reinsurer.
The Company assumes written premiums under a few fronting arrangements. The fronting arrangements are with unaffiliated insurers who write on behalf of
the Company in markets that require a higher A.M. Best rating than the Company’s rating, or where the policies are written in a state where the Company is not
licensed or for other strategic reasons.
The Company assumed $33.5 million, $31.1 million, and $28.0 million of written premiums under the insurance fronting arrangements for the years ended
December 31, 2019, 2018, and 2017, respectively.
85
The following table presents the effects of reinsurance and assumption transactions on written premiums, earned premiums and losses and LAE (dollars in
thousands). The 2019, 2018 and 2017 ceded written and earned premium amounts include $495,000, $1.0 million and $806,000 of reinsurance reinstatement costs
relating to Hurricane Irma, respectively.
Written premiums:
Direct
Assumed
Ceded
Net written premiums
Earned premiums:
Direct
Assumed
Ceded
Net earned premiums
Loss and loss adjustment expenses:
Direct
Assumed
Ceded
Net loss and LAE
Year Ended December 31,
2018
2017
2019
$
$
68,394
33,459
(14,129)
87,724
$
$
70,911
32,292
(14,114)
89,089
$
$
66,256
25,510
(32,022)
59,744
$
$
$
$
$
$
73,290
31,078
(15,282)
89,086
80,691
28,497
(15,377)
93,811
65,284
20,671
(23,440)
62,515
$
$
$
$
$
$
86,251
28,033
(23,044)
91,240
87,656
27,081
(23,008)
91,729
79,035
19,524
(24,642)
73,917
Percentage of Assumed Written Premiums to Net
Written Premiums
38.1%
34.9%
30.7%
7. Debt
At December 31, 2019, the Company's debt was comprised of three instruments: $25.3 million of publicly traded senior unsecured notes which were issued in
September and October of 2018, a $10.0 million line of credit which commenced in June 2018, and $10.5 million of privately placed subordinated notes (the
“Subordinated Notes”). A summary of the Company's outstanding debt is as follows (dollars in thousands):
Senior unsecured notes
Subordinated notes
Line of credit
Total
December 31,
2019
2018
$
$
24,288
9,536
2,000
35,824
$
$
24,018
9,484
—
33,502
On September 24, 2018, the Company issued $22.0 million of public senior unsecured notes (the "Notes"). Maturing on September 30, 2023, the Notes bear
interest at a rate of 6.75% per annum, payable quarterly at the end of March, June, September and December. The Company may redeem the Notes, in whole or in
part, at face value at any time after September 30, 2021.
On October 12, 2018 the Company issued an additional $3.3 million of the Notes as the underwriters fully exercised their over-allotment option. The total
aggregate principal amount of Notes sold by the Company in the public offering increased to $25.3 million. Proceeds from the Notes were primarily used to pay
down $19.5 million of the Subordinated Notes.
86
Effective September 24, 2018, the Company amended the terms of the Subordinated Notes to reduce the principle value to $10.5 million, change the maturity
to September 30, 2038 and modify the call provisions. The amended Subordinated Notes bear interest at a rate of 7.5% per annum until September 30, 2023, and
12.5% thereafter, and allow for four quarterly interest payment deferrals. Interest is payable quarterly at the end of March, June, September and
December. Beginning September 30, 2021, the Company may redeem the Subordinated Notes, in whole or in part, for a call premium of $1.1 million. The call
premium escalates each quarter to ultimately $1.75 million on September 30, 2023, then steps up to $3.05 million on December 31, 2023, and increases quarterly at
a 12.5% per annum rate thereafter. The debt covenants are consistent with the original Subordinated Note terms. The Company paid a $105,000 loan origination
fee on the effective date. The company recorded the Subordinated Notes amendment as a debt modification and retained the unamortized debt issuance costs from
the original loan which will be amortized over the 20-year life of the amended Subordinated Notes in conjunction with the $105,000 origination fee.
The carrying value of the Notes and Subordinated Notes are offset by $1.0 million and $965,000 of debt issuance costs, respectively. The debt issuance costs
will be amortized through interest expense over the life of the loans.
The Subordinated Notes contain various restrictive covenants that relate to the Company’s minimum tangible net worth, minimum fixed-charge coverage
ratios, dividend paying capacity, reinsurance retentions, and risk-based capital ratios. At December 31, 2019, the Company was in compliance with all of its debt
financial covenants.
On June 21, 2018, the Company entered into a $10.0 million line of credit. The line of credit bears interest at the London Interbank rate ("LIBOR") plus
2.75% per annum, payable monthly. The agreement includes several covenants, including but not limited to a minimum tangible net worth, a minimum fixed-
charge coverage ratio, and minimum statutory risk-based capital levels. As of December 31, 2019, the Company had $2.0 million outstanding on the line of credit,
and was in compliance with all of its debt financial covenants.
On September 29, 2017, the Company executed $30.0 million of Subordinated Notes. These Subordinated Notes were amended as described, above. These
Subordinated Notes had a maturity date of September 29, 2032, bore interest, payable quarterly at a fixed annual rate of 8.0%, and allowed for up to four quarterly
interest deferrals. On the fifth and tenth anniversary of the notes, the interest rate reset to 1,250 basis points and 1,500 basis points, respectively, above the 5-year
mid-swap rate.
8. Income Taxes
At December 31, 2019 and 2018, the Company had current income taxes receivable of $87,000 and $79,000, respectively, included in other assets in the
consolidated balance sheets.
The income tax expense (benefit) is comprised of the following (dollars in thousands):
Current tax expense (benefit)
Deferred tax expense (benefit)
Total income tax expense (benefit)
Year Ended December 31,
2018
2017
2019
$
$
27
(940)
(913)
$
$
52
—
52
$
$
(28)
(419)
(447)
87
The income tax expense (benefit) differed from the amounts computed by applying the statutory U.S. federal income tax rate of 21% in 2019 and 2018 and
34% in 2017 to pretax income as a result of the following (dollars in thousands):
Income (loss) before income taxes
Statutory U.S. federal income tax rate
State income taxes, net of federal benefit
Tax‑exempt investment income and dividend received deduction
Nondeductible meals and entertainment
Valuation allowance on deferred tax assets
Change in federal tax rate
Other
Income tax expense (benefit)
Effective tax rate
Year Ended December 31,
2019
$ (9,121)
(1,915)
(230)
(79)
38
966
—
307
(913)
$
2018
$ (9,465)
(1,988)
(156)
(70)
38
2,331
—
(103)
52
$
2017
$ (22,054)
(7,498)
(106)
(123)
54
1,515
5,612
99
(447)
$
10.0%
(0.5)%
2.0%
On December 22, 2017, the U.S. federal government enacted H.R. 1, “An Act to Provide for Reconciliation Pursuant to Titles II and V of the Concurrent
Resolution on the Budget for Fiscal Year 2018” (the “Act”). The Act provided for significant changes to corporate taxation including the decrease of the corporate
tax rate from 34% to 21%. In 2017, the Company completed an analysis of the impact of the Act and followed the additional guidance provided by the Security
and Exchange Commission’s Staff Accounting Bulletin No. 118 (“SAB 118”). There were no material provisional balances as of December 31, 2017.
In 2018, the Company recognized a measurement period adjustment of $42,735 related to loss reserve discounting, which reduced deferred tax expense. The
Company also recognized a measurement period adjustment of $42,735 related to the loss reserve discounting transitional adjustment, which increased deferred tax
expense. The measurement period adjustments were based upon obtaining additional information about facts and circumstances that existed as of the enactment
date that, if known, would have affected the income tax effects initially reported as provisional amounts under the Act. The measurement period adjustments had
no effect on the effective tax rate for the year ending December 31, 2018. The accounting for the income tax effects of the Act pursuant to SAB 118 has been
completed as of the end of the December 22, 2018, measurement period and for the year ending December 31, 2018.
88
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities are presented below (dollars
in thousands):
Deferred tax assets:
Discounted unpaid losses and loss adjustment expenses
Unearned premiums
Net operating loss carryforwards
Net unrealized losses on investments
State net operating loss carryforwards
Deferred gain from ADC
Other
Gross deferred tax assets
Less valuation allowance
Total deferred tax assets, net of allowance
Deferred tax liabilities:
Investment basis difference
Net unrealized gains on investments
Deferred policy acquisition costs
Intangible assets
Property and equipment
Other
Total deferred tax liabilities
Net deferred tax liability
December 31,
2019
2018
1,264
2,266
12,593
—
873
—
248
17,244
(13,572)
3,672
28
512
2,500
115
57
460
3,672
—
$
$
937
2,329
10,144
222
567
1,254
123
15,576
(12,606)
2,970
22
—
2,522
112
63
366
3,085
(115)
$
$
The net deferred tax liability is recorded in accounts payable and accrued expenses in the consolidated balance sheets.
As of December 31, 2019, the Company has net operating loss carryforwards for federal income tax purposes of $60.0 million, of which $50.0 million expire
in tax years 2020 through 2039 and $10.0 million never expire. Of this amount, $14.1 million are limited in the amount that can be utilized in any one year and may
expire before they are realized under Section 382 of the Internal Revenue Code. The Company has state net operating loss carryforwards of $17.7 million, which
expire in tax years 2021 through 2039.
Management assesses the available positive and negative evidence to estimate whether sufficient future taxable income will be generated to permit the use of
the existing deferred tax assets under the guidance of ASC 740. A significant piece of objective negative evidence evaluated was the cumulative loss incurred over
the three‑year period ended December 31, 2019. Such objective evidence limits the Company's ability to consider other subjective evidence, such as management's
projections for future growth.
Based on its evaluation, the Company has recorded a valuation allowance of $13.6 million and $12.6 million at December 31, 2019 and 2018, respectively, to
reduce the deferred tax assets to an amount that is more likely than not to be realized based on the provisions in ASC 740. The amount of the deferred tax assets
considered realizable, however, could be adjusted if estimates of future taxable income during the carryforward period are reduced or if objective negative evidence
in the form of cumulative losses is no longer present, and additional weight may be given to subjective evidence, such as the Company’s projections for growth.
The Company files consolidated federal income tax returns. For the years before 2016, the Company is no longer subject to U.S. federal examinations;
however, the Internal Revenue Service has the ability to review years prior to 2016 to the extent the Company utilized tax attributes carried forward from those
prior years. The statute of limitations on state filings is generally three to four years.
89
9. Statutory Financial Data, Risk-Based Capital and Dividend Restrictions
U.S. state insurance laws and regulations prescribe accounting practices for determining statutory net income and capital and surplus for insurance
companies. In addition, state regulators may permit statutory accounting practices that differ from prescribed practices. Statutory accounting practices prescribed
or permitted by regulatory authorities for the Company’s Insurance Company Subsidiaries differ from GAAP. The principal differences between statutory
accounting practices ("SAP") and GAAP as they relate to the financial statements of the Company’s Insurance Company Subsidiaries are (i) policy acquisition
costs are expensed as incurred under SAP, whereas they are deferred and amortized under GAAP, (ii) deferred tax assets are subject to more limitations regarding
what amounts can be recorded under SAP and (iii) bonds are recorded at amortized cost under SAP and fair value under GAAP.
Risk-Based Capital ("RBC") requirements as promulgated by the National Association of Insurance Commissioners (‘‘NAIC’’) require property and casualty
insurers to maintain minimum capitalization levels determined based on formulas incorporating various business risks (e.g., investment risk, underwriting
profitability, etc.) of the Insurance Company Subsidiaries. As of December 31, 2019, 2018, and 2017, the Insurance Company Subsidiaries’ adjusted capital and
surplus exceeded their authorized control level as determined by the NAIC’s risk-based capital models.
Summarized 2019, 2018, and 2017 statutory basis information for the non-captive Insurance Company Subsidiaries, which differs from generally accepted
accounting principles, is as follows (dollars in thousands).
2019
Statutory capital and surplus
RBC authorized control level
Statutory net income (loss)
RBC %
2018
Statutory capital and surplus
RBC authorized control level
Statutory net income (loss)
RBC %
2017
Statutory capital and surplus
RBC authorized control level
Statutory net income (loss)
RBC %
$
$
$
CIC
WPIC
$
46,206
12,868
(3,627)
359%
23,261
4,266
(3,652)
545%
CIC
WPIC
47,121
11,901
1,244
396%
CIC
35,848
8,873
(6,993)
404%
$
$
26,588
4,682
834
568%
WPIC
26,075
6,224
(13,737)
419%
Dividend Restrictions
The state insurance statutes in which the Insurance Company Subsidiaries are domiciled limit the amount of dividends that they may pay annually without
first obtaining regulatory approval. Generally, the limitations are based on the greater of statutory net income for the preceding year or 10% of statutory surplus at
the end of the preceding year. The Company must receive regulatory approval in order to pay dividends to the Parent Company from its Insurance Company
Subsidiaries in 2019.
90
10. Shareholders’ Equity
Common Stock
In June 2019, the Company issued $5.0 million of common equity through a private placement for 1,176,471 shares priced at $4.25 per share. The
participants in the private placement consisted of members of the Company's Board of Directors. The Company used the proceeds for growth capital in the
Company's specialty core business segments.
On December 5, 2018, the Company's Board of Directors authorized a stock repurchase program, under which the Company may repurchase up to one
million shares of the Company's common stock. Shares may be purchased in the open market or through negotiated transactions. The program may be terminated
or suspended at any time, at the discretion of the Company. The Company may in the future enter into a Rule 10b5-1 trading plan to effect a portion of the
authorized purchases, if criteria set forth in the plan are met. Such a plan would enable the Company to repurchase its shares during periods outside of its normal
trading windows, when the Company typically would not be active in the market. The timing of purchases, and the exact number of any shares to be purchased,
will depend on market conditions. The repurchase program does not include specific price targets or timetables. For the year ended December 31, 2018 the
Company had repurchased 129,175 shares of stock valued at approximately $584,000 related to the stock repurchase program. The Company also repurchased
8,053 shares of stock valued at approximately $52,000 related to the vesting of the Company’s restricted stock units. For the year ended December 31, 2019, the
Company had repurchased 154,208 shares of stock valued at approximately $638,000 related to the stock repurchase program. The Company also repurchased
9,319 shares of stock valued at approximately $38,000 related to the vesting of the Company’s restricted stock units. Upon the repurchase of the Company's shares,
the shares remain authorized, but not issued or outstanding.
In September 2017, the Company issued $5.0 million of common equity through a private placement for 800,000 shares priced at $6.25. The participants in
the private placement consisted mainly of members of the Company’s management team and insiders, including Chairman and CEO James Petcoff. The Company
used the proceeds to strengthen its balance sheet through contributions to the Insurance Company Subsidiaries to support their future growth, and to cover the cost
of the ADC and reserve strengthening.
As of December 31, 2019, 2018, and 2017, the Company had 9,592,861, 8,478,202, and 8,520,328 issued and outstanding shares of common stock,
respectively.
Holders of common stock are entitled to one vote per share and to receive dividends only when and if declared by the board of directors. The holders have no
preemptive, conversion or subscription rights.
11. Accumulated Other Comprehensive Income (Loss)
The following table presents changes in accumulated other comprehensive income (loss) for unrealized gains and losses on available-for-sale securities
(dollars in thousands):
Balance at beginning of period
Cumulative effect of adoption of ASU No. 2016-01,
net of taxes
Cumulative effect of adoption of ASU No. 2018-02,
net of taxes
Balance after cumulative effects
Other comprehensive income (loss) before
reclassifications
Less: amounts reclassified from accumulated other
comprehensive income (loss)
Net current period other comprehensive income (loss)
Balance at end of period
91
Year Ended
December 31,
2019
2018
$
(2,612)
$
(363)
—
—
(2,612)
(556)
77
(842)
2,901
(1,825)
(200)
3,101
489
$
(55)
(1,770)
(2,612)
$
12. Earnings Per Share
Basic and diluted earnings (loss) per share are computed by dividing net income by the weighted average number of common shares outstanding during the
period. The following table presents the calculation of basic and diluted earnings (loss) per common share, as follows (dollars in thousands, except share and per
share amounts):
Net income (loss)
Weighted average common shares, basic and diluted*
Earnings (loss) per share, basic and diluted
Year Ended
December 31,
2018
2019
$
$
(7,822) $
8,880,107
(0.88) $
(9,227) $
8,543,876
(1.08) $
2017
(21,542)
7,867,344
(2.74)
* The non-vested shares of the restricted stock units were anti-dilutive as of December 31, 2019, 2018, and 2017. Therefore, the non-vested shares are excluded
from earnings (loss) per share in December 31, 2019, 2018, and 2017.
13. Stock-based Compensation
In 2015, the Company established the Conifer Holdings, Inc. 2015 Omnibus Incentive Plan (“2015 Plan”), which permits the granting of stock options, stock
appreciation rights, restricted stock units ("RSU") and other stock-based awards. The 2015 Plan authorizes up to 1,377,000 shares of common stock for awards to
be issued to employees, directors or consultants of the Company. The RSUs are issued at no less than the market price on the date the awards are granted. The
awards vest in five annual installments, commencing on the first anniversary from the date of grant. The Company will expense the grant date fair value of the
RSUs as compensation expense on a straight-line basis over the requisite service period. Upon vesting, each RSU will convert into one share of common
stock. The unvested RSUs are subject to forfeiture in the event the employee is involuntarily or voluntarily terminated. If the employee is terminated by the
Company for cause, the Company has the option to forfeit the terminated employees’ vested shares for no consideration and to cause the employee to have no
further rights or interest in the vested RSUs.
The following summarizes our RSU activity (units in thousands):
Outstanding at December 31, 2016
Units vested
Units forfeited
Outstanding at December 31, 2017
Units granted
Units vested
Units forfeited
Outstanding at December 31, 2018
Units vested
Units forfeited
Outstanding at December 31, 2019
Number of
Units
Weighted
Average
Grant-Date
Fair Value
416
(95)
(14)
307
70
(95)
(18)
264
(102)
(6)
156
$
$
$
$
9.87
9.97
9.94
9.84
5.76
9.84
8.96
8.91
9.47
7.37
8.45
The scheduled vesting for the restricted stock units at December 31, 2019, was as follows (units in thousands):
Scheduled vesting - RSUs
2020
102
2021
31
2022
13
2023
10
Total
156
92
In 2015, the Company issued 390,352 RSUs to executive officers and other employees to be settled in shares of common stock. The total RSUs were valued
at $4.1 million on the date of grant. In 2016, the Company issued 111,281 RSUs to executive officers and other employees valued at $909,000 on the date of
grant. In 2018, the Company issued 70,000 RSUs to executive officers and other employees valued at $404,000 on the dates of grant.
The Company recorded $959,000, $970,000, and $948,000 of compensation expense related to the RSUs for the years ended December 31, 2019, 2018 and
2017, respectively. The total compensation cost related to the non-vested portion of the restricted stock units which has not been recognized as of December 31,
2019 was $1.3 million.
14. Related Party Transactions
The Company employs B. Matthew Petcoff as Vice President of SIA. B. Matthew Petcoff is the brother of the Chairman and Chief Executive Officer, James
G. Petcoff.
The Company employs Nicholas J. Petcoff as its Executive Vice President and a director, Andrew D. Petcoff as its Senior Vice President of Personal Lines,
President of SIA and a director, and Hilary Petcoff as its Vice President of Enterprise Risk Management. Nicholas J. Petcoff and Andrew D. Petcoff have been
employed with the Company since 2009. They are the sons of the Company's Chairman and Chief Executive Officer, James G. Petcoff. Hilary Petcoff has been
employed with the Company since 2009 and was appointed as its Vice President of Enterprise Risk Management in May 2018. Ms. Petcoff is the daughter of the
Company’s Chairman and Chief Executive Officer, James G. Petcoff.
15. Employee Benefit Plans
The Company maintains a retirement savings plan under section 401(k) of the Internal Revenue Code (the “Plan”) for certain eligible employees. Eligible
employees electing to participate in the 401(k) plan may defer and contribute from 1% to 100% of their compensation on a pre‑tax or post-tax basis, subject to
statutory limits. The Company will match the employees’ contributions up to the first 4% of their compensation. The Company’s Plan expense amounted to
$501,000, $479,000 and $432,000 for the years ended December 31, 2019, 2018 and 2017, respectively.
16. Commitments and Contingencies
Legal proceedings
The Company and its subsidiaries are subject at times to various claims, lawsuits and proceedings relating principally to alleged errors or omissions in the
placement of insurance, claims administration, and other business transactions arising in the ordinary course of business. Where appropriate, the Company
vigorously defends such claims, lawsuits and proceedings. Some of these claims, lawsuits and proceedings seek damages, including consequential, exemplary or
punitive damages, in amounts that could, if awarded, be significant. Most of the claims, lawsuits and proceedings arising in the ordinary course of business are
covered by the insurance policy at issue. We account for such activity through the establishment of unpaid losses and LAE reserves. In accordance with
accounting guidance, if it is probable that a liability has been incurred as of the date of the financial statements and the amount of loss is reasonably estimable; then
an accrual for the costs to resolve these claims is recorded by the Company in the accompanying consolidated balance sheets. Periodic expenses related to the
defense of such claims are included in the accompanying consolidated statements of operations. On the basis of current information, the Company does not believe
that there is a reasonable possibility that any material loss exceeding amounts already accrued, if any, will result from any of the claims, lawsuits and proceedings
to which the Company is subject to, either individually, or in the aggregate.
Commitments
The Company is party to an agreement with an unaffiliated company to provide a policy administration, billing, and claims system for the Company. The
scope of work and fee structure has changed over time. Currently, the agreement requires a minimum monthly payment of $30,000 with a fee schedule that is
scalable with the premium volume, and expires on September 30, 2022.
93
17. Segment Information
The Company is engaged in the sale of property and casualty insurance products and has organized its business model around three classes of insurance
businesses: commercial lines, personal lines, and wholesale agency business. Within these three businesses, the Company offers various insurance products and
insurance agency services. Such insurance businesses are engaged in underwriting and marketing insurance coverages, and administering claims processing for
such policies. The Company views the commercial and personal lines segments as underwriting business (business that takes on insurance underwriting risk). The
wholesale agency business provides non-risk bearing revenue through commissions and policy fees. The wholesale agency business increases the product options
to the Company’s independent retail agents by offering both insurance products from the Insurance Company Subsidiaries as well as products offered by other
insurers. This segment has expanded in 2019, resulting in its separate disclosure. Prior periods have been recast to reflect the separate disclosure of the wholesale
agency segment.
The Company defines its operating segments as components of the business where separate financial information is available and used by the chief operating
decision maker in deciding how to allocate resources to its segments and in assessing its performance. In assessing performance of its operating segments, the
Company’s chief operating decision maker, the Chief Executive Officer, reviews a number of financial measures including gross written premiums, net earned
premiums, losses and LAE, net of reinsurance recoveries, and other revenue and expenses. The primary measure used for making decisions about resources to be
allocated to an operating segment and assessing its performance is segment underwriting gain or loss which is defined as segment revenues, consisting of net
earned premiums and other income, less segment expenses, consisting of losses and LAE, policy acquisition costs and operating expenses of the operating
segments. Operating expenses primarily include compensation and related benefits for personnel, policy issuance and claims systems, rent and utilities. The
Company markets, distributes and sells its insurance products through its own insurance agencies and a network of independent agents. All of the Company’s
insurance activities are conducted in the United States with a concentration of activity in Florida, Michigan, Texas and New York. For the years ended
December 31, 2019, 2018, and 2017, gross written premiums attributable to these four states were 51.6%, 51.3%, and 55.7% respectively, of the Company’s total
gross written premiums.
The following table summarizes our net earned premiums:
Commercial
Personal
Total
2019
Net Earned Premium
2018
2017
94%
6%
100%
89%
11%
100%
84%
16%
100%
The following provides a description of the Company’s two insurance businesses and product offerings within these businesses:
•
•
Commercial lines—offers coverage for property, liability, automobile and other miscellaneous coverage primarily to owner-operated small and mid-
sized businesses, professional organizations and hospitality businesses such as restaurants, bars and taverns.
Personal lines—offers coverage for low-value dwelling, and wind-exposed homeowners.
The Agency business sells insurance products on behalf of the Company’s commercial and personal lines businesses as well as to third-party insurers. Certain
acquisition costs incurred by the commercial and personal lines businesses are reflected as commission revenue for the Agency business and are eliminated in the
Eliminations category.
In addition to the reportable segments, the Company maintains a Corporate and Other category to reconcile segment results to the consolidated totals. The
Corporate and Other category includes: (i) corporate operating expenses such as salaries and related benefits of the Company’s executive management team, some
finance and information technology
94
personnel, and other corporate headquarters expenses, (ii) interest expense on the Company’s debt obligations; (iii) depreciation and amortization on property and
equipment, and (iv) all investment income activity. All investment income activity is reported within net investment income, net realized investment gains, and
change in fair value of equity securities on the consolidated statements of operations. The Company’s assets on the consolidated balance sheet are not allocated to
the reportable segments.
The following tables present information by reportable segment (dollars in thousands):
Year Ended December 31, 2019
Gross written premiums
Net written premiums
Net earned premiums
Other income
Segment revenue
Loss and loss adjustment expenses, net
Policy acquisition costs
Operating expenses
Segment expenses
Segment underwriting gain (loss)
Investment income
Net realized investment gains
Change in fair value of equity securities
Interest expense
Income (loss) before income taxes
Selected Balance Sheet Data:
Deferred policy acquisition costs
Unearned premiums
Unpaid losses and loss adjustment expenses
$
$
$
$
$
Commercial
Lines
Personal
Lines
Under-
writing
Wholesale
Agency
Corp-
orate
Elim-
inations
94,391 $
7,462 $
101,853 $
— $
— $
— $
Total
101,853
81,966 $
5,758 $
87,724 $
—
$
— $
— $
87,724
83,858 $
216
84,074
5,231 $
143
5,374
89,089 $
359
89,448
$
—
9,073
9,073
—
224
224
53,256
23,511
12,881
89,648
6,488
1,744
1,233
9,465
59,744
25,255
14,114
99,113
—
6,063
2,180
8,243
(5,574)
(4,091)
(9,665)
830
—
—
1,288
1,288
(1,064)
4,031
1,196
(427)
(2,882)
$
— $
(7,547)
(7,547)
—
(6,407)
—
(6,407)
(1,140)
(5,574) $
(4,091)
$
(9,665)
$
830 $
854 $
(1,140) $
12,033 $
47,674
101,850
1,007
3,829
5,396
95
$
(1,134) $
89,089
2,109
91,198
59,744
24,911
17,582
102,237
(11,039)
4,031
1,196
(427)
(2,882)
(9,121)
11,906
51,503
107,246
Year Ended December 31, 2018
Gross written premiums
Net written premiums
Net earned premiums
Other income
Segment revenue
Loss and loss adjustment expenses, net
Policy acquisition costs
Operating expenses
Segment expenses
Segment underwriting gain (loss)
Investment income
Net realized investment gains
Change in fair value of equity securities
Interest expense
Income (loss) before income taxes
$
$
$
Commercial
Lines
Personal
Lines
Under-
writing
Wholesale
Agency
Corp-
orate
Elim-
inations
Total
97,694 $
6,674 $
104,368 $
— $
— $
— $
104,368
87,038 $
2,048 $
89,086 $
—
$
—
$
— $
89,086
83,352 $
101
83,453
10,459 $
225
10,684
93,811 $
326
94,137
$
—
9,251
9,251
53,065
23,584
14,662
91,311
9,450
3,846
1,088
14,384
62,515
27,430
15,750
105,695
—
6,255
1,564
7,819
—
156
156
—
—
369
369
$
— $
(8,151)
(8,151)
—
(8,151)
—
(8,151)
93,811
1,582
95,393
62,515
25,534
17,683
105,732
(7,858)
(3,700)
(11,558)
1,432
(213) $
—
(10,339)
$
(7,858) $
(3,700) $
(11,558) $
1,432 $
661 $
— $
3,336
61
121
(2,644)
Selected Balance Sheet Data:
Deferred policy acquisition costs
Unearned premiums
Unpaid losses and loss adjustment expenses
$
11,258 $
49,549
87,643
753
3,303
5,164
$
3,336
61
121
(2,644)
(9,465)
12,011
52,852
92,807
Year Ended December 31, 2017
Gross written premiums
Net written premiums
Net earned premiums
Other income
Segment revenue
Loss and loss adjustment expenses, net
Policy acquisition costs
Operating expenses
Segment expenses
Segment underwriting gain (loss)
Investment income
Net realized investment gains
Other gains (losses)
Interest expense
Income (loss) before income taxes
Selected Balance Sheet Data:
Deferred policy acquisition costs
Unearned premiums
Unpaid losses and loss adjustment expenses
$
$
$
$
$
Commercial
Lines
Personal
Lines
Under-
writing
Wholesale
Agency
Corp-
orate
Elim-
inations
92,112 $
22,172 $
114,284 $
— $
— $
—
$
Total
114,284
78,217
$
13,023
$
91,240
$
—
$
—
$
—
$
91,240
76,786
$
14,943
$
91,729
$
—
$
221
77,007
55,701
22,366
10,585
88,652
573
15,516
18,216
6,537
1,939
26,692
794
92,523
73,917
28,903
12,524
115,344
10,380
10,380
—
7,086
2,248
9,334
$
—
130
130
—
—
2,595
2,595
$
—
(9,744)
(9,744)
—
(9,744)
—
(9,744)
(11,645)
(11,176)
(22,821)
1,046
(2,465) $
—
(11,645) $
(11,176) $
(22,821) $
1,046 $
(279) $
—
$
2,728
70
750
(1,362)
91,729
1,560
93,289
73,917
26,245
17,367
117,529
(24,240)
2,728
70
750
(1,362)
(22,054)
10,116 $
45,951
76,586
2,665
11,721
11,310
96
$
12,781
57,672
87,896
18. Quarterly Financial Data (Unaudited)
The following is a summary of quarterly results of operations for 2019 and 2018 (in thousands, except per share and ratio data). The fluctuations between
periods and changes in reserves, as disclosed in Note 5, are due to the normal fluctuations in operations from quarter to quarter. The combined ratios in 2018 have
been recast as a result of the addition of the wholesale agency segment. See Note 17 ~ Segment Information for further details.
2019
Gross written premiums
Net written premiums
Net earned premiums
Net investment income
Net realized gains
Change in fair value of equity securities
Other income
Losses and loss adjustment expenses, net
Policy acquisition costs
Operating expenses
Interest expense
Income tax expense (benefit)
Equity earnings (losses) in affiliates, net of tax
Net income (loss)
Net income (loss) per share, basic and diluted (1)
Combined ratio
2018
Gross written premiums
Net written premiums
Net earned premiums
Net investment income
Net realized gains (losses)
Change in fair value of equity securities
Other income
Losses and loss adjustment expenses, net
Policy acquisition costs
Operating expenses
Interest expense
Income tax expense (benefit)
Equity earnings in affiliates, net of tax
Net income (loss)
Net income (loss) per share, basic and diluted (1)
Combined ratio
1st
Quarter
2nd
Quarter
3rd
Quarter
4th
Quarter
$
$
$
$
$
$
$
$
$
$
24,216
20,322
21,687
910
19
1,265
422
14,456
5,589
4,323
710
11
106
(680)
(0.08)
108.1%
23,737
19,845
23,800
802
161
(297)
357
13,328
6,513
4,187
619
18
55
213
0.02
99.7%
$
$
$
$
$
$
$
$
$
$
25,169
21,434
21,349
1,051
715
(915)
581
14,382
6,210
4,340
725
—
(8)
(2,884)
(0.34)
113.0%
26,562
22,595
23,938
837
12
29
450
15,068
6,472
4,303
617
10
89
(1,113)
(0.13)
108.8%
$
$
$
$
$
$
$
$
$
$
27,077
23,806
22,775
1,210
390
(1,065)
564
14,857
6,153
4,297
720
(802)
121
(1,230)
(0.13)
109.2%
26,629
22,846
23,450
786
(21)
152
405
16,554
6,452
4,786
598
24
93
(3,551)
(0.42)
118.2%
$
$
$
$
$
$
$
$
$
$
25,391
22,162
23,278
860
72
288
542
16,049
6,959
4,622
727
(122)
167
(3,028)
(0.32)
112.9%
27,440
23,800
22,623
911
(91)
237
370
17,565
6,097
4,407
810
—
53
(4,776)
(0.56)
123.0%
(1) Due to changes in the outstanding shares of the Company (Note 10 ~ Shareholders' Equity) the weighted average common shares outstanding has fluctuated
over the past two years and therefore the quarterly earnings (loss) per common share does not total the full-year earnings (loss) per common share stated on
the face of the Consolidated Statements of Operations.
97
Schedule II
Conifer Holdings, Inc.
Condensed Financial Information of Registrant
Balance Sheets – Parent Company Only
(dollars in thousands)
Assets
December 31,
2019
2018
Investment in subsidiaries
Cash
Due from subsidiaries
Due from affiliate
Other assets
Total assets
Liabilities:
Debt
Other liabilities
Total liabilities
Shareholders' equity:
Liabilities and Shareholders' Equity
Common stock, no par value (100,000,000 shares authorized; 9,592,861
and 8,478,202 issued and outstanding, respectively)
Accumulated deficit
Accumulated other comprehensive income (loss)
Total shareholders' equity
Total liabilities and shareholders' equity
98
$
$
$
$
75,607 $
506
893
214
4,840
82,060 $
35,824 $
3,511
39,335
91,816
(49,580)
489
42,725
82,060 $
72,419
1,133
403
445
1,822
76,222
33,502
557
34,059
86,533
(41,758)
(2,612)
42,163
76,222
Schedule II
Conifer Holdings, Inc.
Condensed Financial Information of Registrant
Statements of Comprehensive Income (Loss) – Parent Company Only
(dollars in thousands)
Revenue
Management fees from subsidiaries
Other income
Total revenue
Expenses
Operating expenses
Interest expense
Total expenses
Income (loss) before equity in earnings (losses) of subsidiaries and
income tax expense (benefit)
Income tax expense (benefit)
Income (loss) before equity earnings (losses) of subsidiaries
Equity earnings (losses) in subsidiaries
Net income (loss)
Other Comprehensive Income
Equity in other comprehensive income (loss) of subsidiaries
Total Comprehensive income (loss)
99
Year Ended December 31,
2018
2017
2019
$
11,621 $
167
11,788
13,567 $
73
13,640
14,433
2,880
17,313
(5,525)
30
(5,555)
(2,267)
(7,822)
17,336
2,644
19,980
(6,340)
(581)
(5,759)
(3,468)
(9,227)
15,905
826
16,731
13,496
1,362
14,858
1,873
859
1,014
(22,556)
(21,542)
3,101
(4,721) $
(1,770)
(10,997) $
717
(20,825)
$
Schedule II
Conifer Holdings, Inc.
Condensed Financial Information of Registrant
Statement of Cash Flows – Parent Company Only
(dollars in thousands)
Cash Flows from Operating Activities
Net income (loss)
Adjustments to reconcile net income (loss) to net cash used in
operating activities:
Depreciation and amortization
Equity in undistributed (income) loss of subsidiaries
Incentive awards expenses - vesting of RSUs
Changes in operating assets and liabilities:
Due from subsidiaries
Due from affiliates
Current income tax recoverable
Other assets
Other liabilities
Net cash provided by (used in) operating activities
Cash Flows From Investing Activities
Contributions to subsidiaries
Dividends received from subsidiaries
Purchases of investments
Purchases of property and equipment
Net cash provided by (used in) investing activities
Cash Flows From Financing Activities
Proceeds received from issuance of shares of common stock
Repurchase of common stock
Borrowings under debt arrangements
Repayment of borrowings under debt arrangements
Stock and debt issuance costs
Net cash provided by financing activities
Net increase (decrease) in cash
Cash at beginning of period
Cash at end of period
Supplemental Disclosure of Cash Flow Information:
Interest paid
2019
Year Ended December 31,
2018
2017
$
(7,822) $
(9,227) $
(21,542)
447
2,267
959
(490)
231
21
(3,098)
2,954
(4,531)
(3,854)
1,500
—
(66)
(2,420)
5,000
(676)
2,000
—
—
6,324
(627)
1,133
506 $
379
3,468
970
110
(97)
(488)
(229)
(360)
(5,474)
—
—
400
(86)
314
—
(636)
25,300
(19,500)
(1,454)
3,710
(1,450)
2,583
1,133 $
347
22,556
895
(513)
598
(485)
532
590
2,978
(20,860)
—
(400)
(13)
(21,273)
5,000
—
32,000
(19,750)
(1,011)
16,239
(2,056)
4,639
2,583
2,547 $
3,116 $
876
$
$
100
Conifer Holding, Inc.
Condensed Financial Information of Registrant
Parent Company Only
Notes to Condensed Financial Statements
1. Accounting Policies
Organization
Conifer Holdings, Inc. (the “Parent”) is a Michigan‑domiciled holding company organized for the purpose of managing its insurance entities. The Parent
conducts its principal operations through these entities.
Basis of Presentation
The accompanying condensed financial information should be read in conjunction with the Consolidated Financial Statements and related Notes of Conifer
Holdings, Inc. and Subsidiaries. Investments in subsidiaries are accounted for using the equity method. Under the equity method, the investment in subsidiaries is
stated at cost plus contributions and equity in undistributed income (loss) of consolidated subsidiaries less dividends received since the date of acquisition.
The Parent’s operations consist of income earned from management and administrative services performed for the insurance entities pursuant to
intercompany services agreements. These management and administrative services include providing management, marketing, offices and equipment, and
premium collection, for which the insurance companies pay fees based on a percentage of gross premiums written. Also, the Parent receives commission income
for performing agency services. The primary operating costs of the Parent are salaries and related costs of personnel, information technology, administrative
expenses, and professional fees. The income received from the management and administrative services is used to cover operating costs, meet debt service
requirements and cover other holding company obligations.
Estimates and Assumptions
Preparation of the condensed financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts
reported in the condensed financial statements and accompanying disclosures. Those estimates are inherently subject to change, and actual results may ultimately
differ from those estimates.
Dividends
The Parent received $1.5 million in cash dividends from its subsidiaries in 2019 and no cash dividends in 2018 and 2017.
2. Guarantees
The Parent has guaranteed the principal and interest obligations of a $10 million surplus note issued by Conifer Insurance Company to White Pine Insurance
Company (both wholly owned subsidiaries). The note pays interest annually at a per annum rate of 4% and has no maturity.
101
Schedule V
Conifer Holdings, Inc. and Subsidiaries
Valuation and Qualifying Accounts
For the Years Ended December 31, 2019, 2018 and 2017
(dollars in thousands)
Balance at
Beginning of
Period
Charged to
Expense
Decrease to
Other
Comprehensive
Income
Deductions from
Allowance Account
Balance at
End of Period
Valuation for Deferred Tax Assets
2019
2018
2017
12,606
9,904
8,389
966
2,331
1,515
102
—
371
—
—
—
—
13,572
12,606
9,904
CONIFER HOLDINGS, INC.
Exhibit Index
Incorporated by Reference
Exhibit
Number
3.1
3.4
10.6
10.7
Exhibit Description
Second Amended and Restated Articles of Incorporation of
Conifer Holdings, Inc.
Form
8-K
September 30,
Period
Ending
2015
Exhibit /
Appendix
Number
3.1
Filing Date
August 28,
2015
Filed /
Furnished
Herewith
Amended and Restated Bylaws of Conifer Holdings, Inc.
S-1A
September 30,
3.4
July 30, 2015
2015
2015 Omnibus Incentive Plan
Lease Agreement, dated September 18, 2013, as amended
S-1
S-1
10.2
10.3
July 2, 2015
July 2, 2015
10.13
Employment agreements - Nicholas J. Petcoff, James G.
10-K
December 31,
10.13
March 15, 2017
Petcoff Andrew D. Petcoff, Brian J. Roney
2016
10.14
Note Purchase Agreement dated September 29, 2017
10-Q
September 30,
10.14
November 11,
between the Company and Elanus Capital Investments
Master SP Series 3
2017
2017
10.15
Credit Agreement Dated as of June 21, 2018 with The
10-K
December 31,
10.15
March 13, 2019
Huntington National Bank
2018
10.16
10.17
10.18
10.19
10.20
First Amendment to Note Purchase Agreement dated as of
June 21, 2018 between the Company and Elanus Capital
Investments Master SP Series 3
Amended and Restated Note Purchase Agreement dated
September 25, 2018 between the Company and Elanus
Capital Investments Master SP Series 3
Waiver and Consent from The Huntington National Bank
dated as of October 31, 2018, regarding the Amended and
Restated Note Purchase Agreement between the Company
and Elanus Capital Investments Master SP Series 3
First Amendment to Amended and Restated Note Purchase
Agreement dated as of December 13, 2018 between the
Company and Elanus Capital Investments Master SP
Series 3
First Amendment to Credit Agreement dated as of
December 27, 2018 between the Company and The
Huntington National Bank
10-K
December 31,
10.16
March 13, 2019
2018
10-K
December 31,
10.17
March 13, 2019
2018
10-K
December 31,
10.18
March 13, 2019
2018
10-K
December 31,
10.19
March 13, 2019
2018
10-K
December 31,
10.20
March 13, 2019
2018
103
10.21
Second Amendment to Amended and Restated Note
Purchase Agreement dated as of June 21, 2019 between the
Company and Elanus Capital Investments Master SP
Series
3
10.22
Second Amendment to Credit Agreement dated as of June
21, 2019 between the Company and The Huntington
National Bank
21.1
23.1
31.1
31.2
32.1*
32.2*
List of Subsidiaries of the Company
Consent of Deloitte & Touche LLP, Independent
Registered Public Accounting Firm
Section 302 Certification — CEO
Section 302 Certification — CFO
Section 906 Certification — CEO
Section 906 Certification — CFO
101.INS
101.SCH
101.CAL
101.DEF
101.LAB
101.PRE
XBRL Instance Document
XBRL Taxonomy Extension Schema Document
XBRL Taxonomy Extension Calculation Linkbase
XBRL Taxonomy Extension Definition Linkbase
XBRL Taxonomy Extension Label Linkbase
XBRL Taxonomy Extension Presentation Linkbase
*
*
*
*
*
*
*
*
*
*
*
*
*
*
* This certification is deemed not filed for purposes of section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that
section, nor shall it be deemed incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as
amended.
104
Pursuant to the requirements of Section 13 or 15(d) of the Securities and Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its
behalf by the undersigned, thereunto duly authorized.
SIGNATURES
CONIFER HOLDINGS, INC.
By:
By:
/s/ James G. Petcoff
James G. Petcoff
Chairman and Chief Executive Officer
(Principal Executive Officer)
/s/ Harold J. Meloche
Harold J. Meloche
Chief Financial Officer and Treasurer
(Principal Accounting and Financial Officer)
Dated: March 12, 2020
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 registrant
and in the capacities and on the dates indicated.
Signature
/s/ James G. Petcoff
James G. Petcoff
/s/ Harold J. Meloche
Harold J. Meloche
/s/ Jeffrey Hakala
Jeffrey Hakala
/s/ Nicholas J. Petcoff
Nicholas J. Petcoff
/s/ Jorge Morales
Jorge Morales
/s/ Richard J. Williams, Jr.
Richard J. Williams, Jr.
/s/ Joseph D. Sarafa
Joseph D. Sarafa
/s/ Isolde O'Hanlon
Isolde O'Hanlon
/s/ Andrew Petcoff
Andrew Petcoff
/s/ John Melstrom
John Melstrom
Title
Chairman and Chief Executive Officer
(Principal Executive Officer)
Chief Financial Officer and Treasurer
(Principal Accounting and Financial Officer)
Director
Director
Director
Director
Director
Director
Director
Director
105
Date
March 12, 2020
March 12, 2020
March 12, 2020
March 12, 2020
March 12, 2020
March 12, 2020
March 12, 2020
March 12, 2020
March 12, 2020
March 12, 2020
Exhibit 10.21
CONIFER HOLDINGS, INC.
___________________________________
SECOND AMENDMENT
Dated as of June 21, 2019
to the
AMENDED AND RESTATED NOTE PURCHASE AGREEMENT
Dated as of September 29, 2017
___________________________________
RE:
$30,000,000 8% Subordinated Notes due 2032
SECOND AMENDMENT TO THE NOTE PURCHASE AGREEMENT
This Second Amendment dated as of June 21, 2019 (the or this “First Amendment”) to the Note Purchase Agreement
dated as of September 29, 2017, is between Conifer Holdings, Inc., a Michigan corporation (the “Company”), and each of the
institutions which is a signatory to this First Amendment (collectively, the “Noteholders”).
R E C I T A L S :
A.The Company and each of the Purchasers listed on Schedule A to the Note Purchase Agreement (defined below) have heretofore
entered into the Note Purchase Agreement dated as of September 29, 2017 (the “Note Purchase Agreement”). The Company and
each of the Purchasers listed on Schedule A to the Note Purchase Agreement (defined below) have heretofore also entered into the
First Amendment to the Note Purchase Agreement dated as of September 29, 2017 on June 21, 2018, (the “First Amendment to the
Note Purchase Agreement”). The Company has heretofore issued $30,000,000 aggregate principal amount of its 8% Subordinated
Notes due September 29, 2032 (the “Notes”) pursuant to the Note Purchase Agreement and the First Amendment to the Note
Purchase Agreement. The Noteholders constitute the Required Holders as defined in the Note Purchase Agreement.
B.The Company and the Noteholders now desire to amend the Note Purchase Agreement again, in the respects, but only in the
respects, hereinafter set forth.
C.Capitalized terms used herein shall have the respective meanings ascribed thereto in the Note Purchase Agreement unless herein
defined or the context shall otherwise require.
NOW, THEREFORE, upon the full and complete satisfaction of the conditions precedent to the effectiveness of this First
Amendment set forth in Section 3.1 hereof, and in consideration of good and valuable consideration the receipt and sufficiency of
which are hereby acknowledged, the Company and the Noteholders do hereby agree as follows:
SECTION 1.
AMENDMENTS.
Section 1.1.The following definitions set forth in Schedule B of the Note Purchase Agreement are amended and restated in their
entireties to read as follows:
“Indebtedness” means, with respect to any Person, (a) all indebtedness for borrowed money (excluding trade liabilities incurred in
the ordinary course of business and payable in accordance with customary practices) which is evidenced by a note, bond, debenture
or similar instrument, (b) all obligations under Capital Leases, (c) all obligations in respect of letters of credit, acceptances or similar
obligations issued or created for the account of the Company or any of its Subsidiaries as of such date, other than insurance contracts
issued by the Company or any of its Subsidiaries in the ordinary course of business, (d) net obligations in respect of interest rate or
currency obligation swaps, hedges or similar arrangements (the amount of any such obligation to be equal at any time to the
termination value of such agreement or arrangement giving rise to such
obligation that would be payable by such Person at such time), (e) amounts owed as deferred purchase price for the purchase of any
property or services (other than trade payables incurred in the ordinary course of business), (f) all indebtedness of others secured by
any Lien on property owned or acquired by such Person, whether or not the indebtedness secured thereby has been assumed, (g) all
liabilities of Company or any Subsidiary under any securitization, any so-called “synthetic lease” or “tax ownership operating lease”
or any other off balance sheet transaction which is the functional equivalent of or takes the place of borrowing but which does not
constitute a liability on a balance sheet of such Person, based on the outstanding amount of such liability if it had been structured as a
financing on the balance sheet of such Person, (h) all obligations of such Person to purchase, redeem, retire, void or otherwise make
any payment in respect of any mandatorily redeemable capital stock, and (i) obligations to guarantee any of the foregoing obligations
on behalf of any Person other than the Company and its Subsidiaries; provided that standard trust accounts, deposit requirements or
obligations of regulatory agencies and any collateral requirements or obligations of other insurance business partners in the normal
course of business shall not constitute Indebtedness.
“Insurance Subsidiary” means any Subsidiary of the Company, the ability of which to pay dividends is regulated by an Insurance
Regulatory Authority or that is otherwise required to be regulated thereby in accordance with the applicable insurance rules and
regulations of its state of domicile.
“Permitted Liens” means, with respect to any Person, (A) to the extent incurred in the normal course of business (i) rights of third
parties with respect to standard trust accounts, (ii) deposit requirements or similar obligations of regulatory agencies, and (iii) any
collateral requirements or obligations of other insurance business partners including the Federal Home Loan Bank of Indiana relating
to loans issued to the Insurance Subsidiaries, (B) Liens securing Indebtedness permitted in Section 10.2(b), Section 10.2(c) or
Section 10.2(e), (C) Liens for taxes, fees, assessments or other governmental charges which are not past due or remain payable
without penalty or which are disputed in good faith and in appropriate proceedings, and for which the Company or a Subsidiary has
established adequate reserves therefor in accordance with GAAP on the books of the Company or such Subsidiary, (D) mechanics’,
materialmen’s, banker’s, carriers’, warehousemen’s and similar liens and encumbrances arising in the ordinary course of business
and securing obligations of such Person that are not overdue for a period of more than sixty (60) days or are disputed in good faith by
appropriate proceedings, provided that in the case of any such dispute (i) any proceedings commenced for the enforcement of such
liens and encumbrances shall have been duly suspended and (ii) such provision for the payment of such liens and encumbrances has
been made in accordance with GAAP on the books of such Person, (E) liens arising in connection with worker’s compensation,
unemployment insurance, old age pensions and social security benefits and similar statutory obligations which are not overdue or are
disputed in good faith by appropriate proceedings, provided that in the case of any such dispute (i) any proceedings commenced for
the enforcement of such liens shall have been duly suspended and (ii) such provision for the payment of such liens has been made in
accordance with GAAP on the books of such Person, (F)(i) liens incurred in the ordinary course of business to secure the
performance of statutory obligations arising in connection with progress payments or advance payments due under contracts with the
United States government or any agency thereof entered into in the ordinary course of business and (ii) liens incurred or deposits
made in the ordinary course of business to secure the performance of statutory obligations, bids, leases, fee and
2
expense arrangements with trustees and fiscal agents and other similar obligations (exclusive of obligations incurred in connection
with the borrowing of money, any lease-purchase arrangements or the payment of the deferred purchase price of property), provided
that full provision for the payment of all such obligations set forth in clauses (i) and (ii) has been made in accordance with GAAP on
the books of such Person, (G) minor survey exceptions or minor encumbrances, easements or reservations, or rights of others for
rights-of-way, utilities and other similar purposes, or zoning or other restrictions as to the use of real properties, which to not
materially interfere with the business of such Person, (H ) liens in respect of judgments that do not constitute an Event of Default
under clause (i) of Section 12 and (I) other Liens incurred in the ordinary course or which are not material in amount or nature and
which do not secure Indebtedness.
“Tangible Net Worth” means as of any date Net Worth less the Intangible Assets of the Company and its consolidated Subsidiaries,
excluding the cumulative impact to Tangible Net Worth from changes in net unrealized gains or losses from investments since
December 31, 2017, and plus the amount of liabilities recorded on the balance sheet attributable to deferred gains from the Adverse
Development Cover, all determined as of such date. For purposes of this Agreement, “Intangible Assets” means the amount (to the
extent reflected in determining such Net Worth) of goodwill, patents, trademarks, service marks, trade names, customer lists, renewal
rights, copyrights, organization, and research and/or development expenses. For purposes of this definition, net unrealized gains or
losses shall have the meaning as applied in GAAP without giving effect to the Financial Accounting Standards Board’s Accounting
Standards Update No. 2016-01, Financial Instruments (Topic 825): Recognition and Measurement of Financial Assets and Financial
Liabilities.
Section 1.2.The following shall be added as new definitions in alphabetical order to Schedule B of the Note Purchase Agreement:
“Adverse Development Cover” means the Swiss Re Adverse Development Cover as described in the document “ADC Binding
Quote Conifer 2017 08 31.”
“Hedging Contract” means any foreign exchange contract, currency swap agreement, futures contract, commodities hedge
agreement, interest rate protection agreement, interest rate future agreement, interest rate swap agreement, interest rate cap
agreement, interest rate collar agreement, option agreement or any other similar hedging agreement or arrangement entered into by a
Person in the ordinary course of business.
“Senior Loan Agreement” means that certain Credit Agreement dated as of June 21, 2018, between the Company and
The Huntington National Bank, as the same may be amended or modified from time to time.
Section 1.3.Section 10.2 of the Note Purchase Agreement is amended and restated in its entirety to read as follows:
10.2
Indebtedness.
The Company will not, and will not permit its Subsidiaries to, become or remain obligated for any Indebtedness, except:
3
(a) Indebtedness to each holder of a Note;
(b)
Indebtedness of the Company under Capital Leases for office machinery in existence as of the Closing
Date not to exceed in the aggregate $100,000;
(c)
Indebtedness of the Company arising under the Senior Loan Agreement or any replacement or
refinancing thereof in a principal amount not to exceed $10,000,000 in the aggregate;
(d)
Indebtedness existing as of the Closing Date and listed on Schedule 10.2;
(e)Indebtedness (including purchase money indebtedness) incurred in connection with the acquisition, construction or improvement
of fixed or capital assets (whether pursuant to a loan or a Capital Lease) in an aggregate amount not exceeding $1,000,000 during
any single fiscal year of the Company and $3,000,000 in the aggregate during the term of this Agreement at any time outstanding,
and any renewals or refinancing of such Indebtedness, on substantially the same terms or terms that are not more burdensome on the
Company as in effect on the date of incurrence of such Indebtedness and otherwise in compliance with this Agreement, provided that
no Default or Event of Default has occurred and is continuing, both before and after giving effect to the incurrence, renewal or
refinancing thereof; provided, further, that the principal amount of such renewed or refinanced Indebtedness shall not exceed the
principal amount of the Indebtedness so renewed or refinanced and shall in no event exceed the caps set forth above:
(f)Indebtedness in respect of Hedging Contracts authorized as required under Section 8.9 of the Senior Loan Agreement and
Hedging Contracts entered into in the ordinary course of business related loans from the Federal Home Loan Bank of Indiana for
interest rate management and not for speculative purposes.
(g)Guaranty Obligations to the extent permitted under Section 10.7;
(h)Indebtedness incurred in the ordinary course of business with respect to surety and appeal bonds, performance and return-of-
money bonds and other similar obligations or to or for the benefit of any Person providing workers’ compensation, health, disability
or other employee benefits or property, casualty or liability insurance, all in the ordinary course of business in accordance with
customary industry practices, in amounts and for the purposes customary in the Company’s industry;
(i)additional unsecured Indebtedness of the Company and its Subsidiaries not otherwise described above, not in excess of $1,500,000
in aggregate principal amount at any one time outstanding, provided that no Default or Event of Default shall have occurred and be
continuing at the time of incurring such Indebtedness or shall result from the incurrence of such Indebtedness; and
(j)Loans from the Federal Home Loan Bank of Indiana issued or created for the account of the Insurance Subsidiaries.
4
Section 1.4.
Section 10.7 of the Note Purchase Agreement is amended and restated in its entirety to read as follows:
10.7
Restriction on Guarantees.
The Company will not, and will not permit its Subsidiaries to, enter into any Guaranty of any Indebtedness of any other
Person, except (i) by endorsement for deposit in the ordinary course of business, (ii) guarantees of Indebtedness otherwise permitted
pursuant to Section 10.2, (iii) any guarantees required by regulatory authorities and (iv) guarantees of Indebtedness of other Persons
(including joint ventures) to the extent such indebtedness is permitted hereunder and under the Senior Loan Agreement and such
guarantees constitute investments permitted under Section 9.10 of the Senior Loan Agreement.
Section 1.5.
Section 11.1 of the Note Purchase Agreement is amended and restated in its entirety to read as follows:
11.1
Tangible Net Worth.
Maintain as of the end of each fiscal quarter of the Company a Tangible Net Worth of not less than $45,000,000 as of June
30, 2018 and each fiscal quarter thereafter.
Section 1.6.
The section heading of Section 11.6 of the Note Purchase Agreement is amended and restated in its
entirety to read as follows: “Consolidated Debt to Capital.”
Section 1.7.
Section 11.6 of the Note Purchase Agreement is amended and restated in its entirety to read as follows:
Commencing with the fiscal quarter ending June 30, 2018, not permit the ratio of the total Consolidated Indebtedness
(excluding from the calculation of Consolidated Indebtedness any loans from the Federal Home Loan Bank of Indiana the proceeds
of which were used solely to make investments as permitted under Section 9.10(a) of the Senior Loan Agreement and Indebtedness
under Hedging Contracts related to such Indebtedness) to the Total Capital to exceed 0.45 to 1.00. For purposes of the foregoing
calculation, solely with respect to any revolving credit facility of the Company permitted to be incurred hereunder, only amounts
drawn or otherwise outstanding thereunder shall be considered Indebtedness.
SECTION 2.
REPRESENTATIONS AND WARRANTIES OF THE COMPANY.
Section 2.1.To induce the Noteholders to execute and deliver this First Amendment (which representations shall survive the
execution and delivery of this First Amendment), the Company represents and warrants to the Noteholders that:
(a)this First Amendment has been duly authorized, executed and delivered by the Company and this First Amendment
constitutes the legal, valid and binding obligation, contract and agreement of the Company enforceable against the
Company in accordance with its terms, except as enforcement may be limited by bankruptcy, insolvency,
5
reorganization, moratorium or similar laws or equitable principles relating to or limiting creditors’ rights generally;
(b)the execution, delivery and performance by the Company of this First Amendment (i) have been duly authorized by all
requisite corporate action and, if required, shareholder action and (ii) do not require the consent or approval of any
governmental or regulatory body or agency; and
(c)as of the date hereof and after giving effect to this First Amendment, no Default or Event of Default has occurred which
is continuing.
SECTION 3.
CONDITIONS TO EFFECTIVENESS OF THIS FIRST AMENDMENT.
Section 3.1.This First Amendment shall not become effective until, and shall become effective when, each and every one of the
following conditions shall have been satisfied:
(a)executed counterparts of this First Amendment, duly executed by the Company and the holders of at least 50% of the
outstanding principal of the Notes, shall have been delivered to the holders of Notes;
(b)the holders of Notes shall have received evidence satisfactory to them that the Company has entered into the Senior
Loan Agreement; and
(c)the recitals set forth above and the representations and warranties of the Company set forth in Section 2 hereof are true
and correct on and with respect to the date hereof; and
(d)the Noteholders shall have been reimbursed for all reasonable and documented expenses incurred relating to this First
Amendment.
Upon receipt of all of the foregoing, this First Amendment shall become effective.
SECTION 4.
MISCELLANEOUS.
Section 4.1.This First Amendment shall be construed in connection with and as part of the Note Purchase Agreement, and except as
modified and expressly amended by this First Amendment, all terms, conditions and covenants contained in the Note Purchase
Agreement and the Notes are hereby ratified and shall be and remain in full force and effect.
Section 4.2.Any and all notices, requests, certificates and other instruments executed and delivered after the execution and delivery
of this First Amendment may refer to the Note Purchase Agreement without making specific reference to this First Amendment but
nevertheless all such references shall include this First Amendment unless the context otherwise requires.
6
Section 4.3.The descriptive headings of the various Sections or parts of this First Amendment are for convenience only and shall not
affect the meaning or construction of any of the provisions hereof.
Section 4.4.This First Amendment shall be governed by and construed in accordance with New York law, excluding choice-of-law
principles of the law of such State that would permit the application of the laws of a jurisdiction other than such State.
Section 4.5.The execution hereof by you shall constitute a contract between us for the uses and purposes hereinabove set forth, and
this First Amendment may be executed in any number of counterparts, each executed counterpart constituting an original, but all
together only one agreement.
[Signature Pages to Follow]
7
IN WITNESS WHEREOF, the parties hereto have caused their duly authorized officers to execute and deliver this Second
Amendment as of the date first set forth above.
CONIFER HOLDINGS, INC.
By
Brian Roney
Its: President
[Signature Page to Second Amendment]
Accepted and agreed to on the date first written above:
ELANUS CAPITAL INVESTMENTS MASTER SP
SERIES 3
Matthew Moniot
Its:Sole Director
By
[Signature Page to Second Amendment]
SECOND AMENDMENT TO CREDIT AGREEMENT
Exhibit 10.22
THIS SECOND AMENDMENT TO CREDIT AGREEMENT (“Amendment”), is made as of the ____ day of June, 2019
(and is effective as of June 21, 2019), by and among CONIFER HOLDINGS, INC. (“Borrower”) and THE HUNTINGTON
NATIONAL BANK (“Bank”).
RECITALS:
A.
Borrower and Bank entered into a Credit Agreement dated as of June 21, 2018, as amended by a First
Amendment to Credit Agreement dated December 27, 2018 (“Agreement”).
B.
Borrower and Bank desire to amend the Agreement, all as set forth below.
NOW, THEREFORE, the parties agree as follows:
1.
The definitions of Revolving Credit Maturity Date and Tangible Net Worth in Section 1.1 of the
Agreement are amended to read as follows:
“Revolving Credit Maturity Date” shall mean June 19, 2020.
“Tangible Net Worth” means as of any date Net Worth less the Intangible Assets of the Borrower
and its consolidated Subsidiaries, plus the amount of liabilities recorded on the balance sheet attributable to
deferred gains from the Adverse Development Cover, all determined as of such date. For purposes of this
Agreement, “Intangible Assets” means the amount (to the extent reflected in determining such Net Worth) of
goodwill, patents, trademarks, service marks, trade names, customer lists, renewal rights, copyrights,
organization, and research and/or development expenses.”
2.
The following definitions are added to Section 1.1 of the Agreement to read as follows:
“Beneficial Ownership Certification” shall mean a certification regarding beneficial ownership as
required by the Beneficial Ownership Regulation.
“Beneficial Ownership Regulation” shall mean 31 CFR § 1010.230.
“CC Reserve” shall mean Fifty Thousand Dollars ($50,000).”
3.
Section 2.3(v) of the Agreement is amended to read as follows:
“(v)
after giving effect to such Advance, the aggregate principal amount of the outstanding
Advances plus the Letter of Credit
“2.7
“2.10
Reserve, plus the CC Reserve does not exceed the Borrowing Limit; and”
4.
Section 2.7 of the Agreement is amended to read as follows:
Reduction of Obligations. If at any time and for any reason the aggregate outstanding
principal amount of Advances hereunder to Borrower plus the Letter of Credit Reserve plus the CC
Reserve, shall exceed the lesser of (i) the Revolving Credit Commitment and (ii) the Borrowing
Limit, then Borrower shall immediately reduce any pending request for an Advance on such day by
the amount of such excess and, to the extent any excess remains thereafter, immediately repay an
amount of the Obligations equal to such excess. Borrower acknowledges that, in connection with any
repayment required hereunder, it shall also be responsible for the reimbursement of any prepayment
or other costs required under the terms of the Revolving Credit Note.”
5.
Section 2.10 of the Agreement is amended to read as follows:
Unused Fee. From the Effective Date to the payment in full in cash of all Advances under the
Revolving Credit Note and the termination of any obligation under this Agreement or any Loan
Document on the part of Bank to extend Advances under the Revolving Credit Note to Borrower,
Borrower shall pay to Bank, an unused fee quarterly commencing on July 1, 2019, and on the first
day of each quarter thereafter for the previous quarter. The unused fee payable to Bank shall be
determined by multiplying twenty five (25) basis points per annum times the daily unused amount of
the Revolving Credit Commitment (which shall reflect a reduction for the aggregate undrawn face
amount of all issued, outstanding and undrawn Letters of Credit) each day during the relevant period
or portion thereof. The unused fee shall be computed in the same manner as interest is computed in
the Revolving Credit Note. Whenever any payment of the unused fee shall be due on a day which is
not a Business Day, the date for payment thereof shall be extended to the next Business Day. It is
expressly understood that the unused fee described in this Section 2.10 shall not be refundable under
any circumstances.”
6.
Section 8.16 is added to the Agreement to read as follows:
“8.16
Beneficial Ownership Certificate and Other Additional Information. Borrower shall promptly
provide information and documentation reasonably requested by Bank for purposes of compliance
with applicable “know your customer” and anti-money laundering rules and regulations, including,
without limitation, the Patriot Act and the Beneficial Ownership Regulation, if applicable.”
7.
Sections 8.15(a) and (f) of the Agreement are amended to read as follows:
2
“(a)
(f)
Borrower shall maintain as of the end of each fiscal quarter (commencing June 30, 2019)
of Borrower a Tangible Net Worth of not less than $30,000,000.
Borrower shall, commencing with the fiscal quarter ending June 30, 2019, not permit the
ratio of the total Consolidated Indebtedness (excluding from the calculation of
Consolidated Indebtedness any FHLB Debt the proceeds of which were used solely to
make investments of the types permitted under Section 9.10(a) and Indebtedness under
Hedging Contracts related to such Indebtedness) to the Total Capital to exceed 0.55 to
1.00. For purposes of the foregoing calculation, outstanding Advances shall be
considered Indebtedness.”
8.
Borrower hereby represents and warrants that, after giving effect to the amendments contained herein, (a)
execution, delivery and performance of this Amendment and any other documents and instruments required under this Amendment
or the Agreement are within its corporate powers, have been duly authorized, are not in contravention of law or the terms of such
Borrower’s Articles of Incorporation or Bylaws and do not require the consent or approval of any governmental body, agency, or
authority; and this Amendment and any other documents and instruments required under this Amendment or the Agreement, will be
valid and binding in accordance with their terms; (b) the continuing representations and warranties of Borrower set forth in the
Agreement are true and correct on and as of the date hereof with the same force and effect as made on and as of the date hereof;
(c) except as previously disclosed by Borrower to Bank, no Event of Default (as defined in the Agreement) or condition or event
which, with the giving of notice or the running of time, or both, would constitute an Event of Default under the Agreement, as hereby
amended, has occurred and is continuing as of the date hereof.
9.
Borrower hereby waives, discharges, and forever releases Bank, Bank’s employees, officers, directors, attorneys,
stockholders and successors and assigns, from and of any and all claims, causes of action, allegations or assertions that Borrower has
or may have had at any time up through and including the date of this Amendment, against any or all of the foregoing, regardless of
whether any such claims, causes of action, allegations or assertions arose as a result of Bank’s actions or omissions in connection
with the Agreement, or any amendments, extensions or modifications thereto, or Bank’s administration of debt evidenced by the
Agreement or otherwise.
10.
Except as expressly provided herein, all of the terms and conditions of the Agreement remain unchanged and in
full force and effect.
11.
This Amendment shall be effective as of June 21, 2019 upon (a) execution of this Amendment by Borrower
and Bank and (b) [discuss Amendment to Subordinated Notes].
3
IN WITNESS the due execution hereof as of the day and year first above written.
THE HUNTINGTON NATIONAL BANK
CONIFER HOLDINGS, INC.
By:
By:
Andrew R. Craig
Brian Roney
Its: Senior Vice President
Its:President
By:
Nicholas Petcoff
Its:
[Signature Page to Second Amendment to Credit Agreement (16131097)
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We consent to the incorporation by reference in Registration Statement No. 333-206355 on Form S-8 and Registration Statement No. 333-
226778 on Form S-1 of our report dated March 12, 2020, relating to the consolidated financial statements and financial statement schedules of
Conifer Holdings, Inc., appearing in this Annual Report on Form 10-K of Conifer Holdings, Inc. for the year ended December 31, 2019.
EXHIBIT 23.1
/s/ Deloitte & Touche LLP
Detroit, MI
March 12, 2020
Exhibit 31.1
I, James G. Petcoff, certify that:
CHIEF EXECUTIVE OFFICER’S 302 CERTIFICATION
1.
2.
I have reviewed this Annual Report on Form 10-K of Conifer Holdings, Inc.;
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3.
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4.
The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
(a)
Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this report is being prepared;
(b)
Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under
our supervision, 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;
(c)
Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about
the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
(d)
Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s
most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to
materially affect, the registrant’s internal control over financial reporting; and
5.
The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to
the registrant’s auditors and the audit committee of the registrant’s Board of Directors (or persons performing the equivalent functions):
(a)
All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
(b)
Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s
internal control over financial reporting.
Date: March 12, 2020
/s/ James G. Petcoff
James G. Petcoff
Chief Executive Officer
(principal executive officer)
Exhibit 31.2
I, Harold J. Meloche, certify that:
CHIEF FINANCIAL OFFICER’S 302 CERTIFICATION
1.
2.
I have reviewed this Annual Report on Form 10-K of Conifer Holdings, Inc.;
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3.
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4.
The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
(a)
Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this report is being prepared;
(b)
Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under
our supervision, 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;
(c)
Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about
the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
(d)
Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s
most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to
materially affect, the registrant’s internal control over financial reporting; and
5.
The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to
the registrant’s auditors and the audit committee of the registrant’s Board of Directors (or persons performing the equivalent functions):
(a)
All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
(b)
Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s
internal control over financial reporting.
Date: March 12, 2020
/s/ Harold J. Meloche
Harold J. Meloche
Chief Financial Officer
(principal financial officer)
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
Exhibit 32.1
In connection with the Annual Report of Conifer Holdings, Inc. (the “Company”) on Form 10-K for the year ended December 31, 2019, as filed with
the Securities and Exchange Commission on the date hereof (the “Report”), I, James G. Petcoff, Chief Executive Officer of the Company, certify, pursuant to 18
U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, that:
1.
2.
The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the
Company.
Date: March 12, 2020
/s/ James G. Petcoff
James G. Petcoff
Chief Executive Officer
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
Exhibit 32.2
In connection with the Annual Report of Conifer Holdings, Inc. (the “Company”) on Form 10-K for the year ended December 31, 2019, as filed with
the Securities and Exchange Commission on the date hereof (the “Report”), I, Harold J. Meloche, Chief Financial Officer of the Company, certify, pursuant to 18
U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, that:
1.
2.
The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the
Company.
Date: March 12, 2020
/s/ Harold J. Meloche
Harold J. Meloche
Chief Financial Officer