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| FMR > SEC Filings for FMR > Form 10-Q on 7-May-2009 | All Recent SEC Filings |
7-May-2009
Quarterly Report
On June 27, 2008, the Company sold all of the outstanding capital stock of
American Risk Pooling Consultants, Inc. ("ARPCO"). The results of ARPCO's
operations are presented as Discontinued Operations in the Condensed
Consolidated Statements of Income. ARPCO provided third party administrative
services for risk sharing pools of governmental entity risks, including
underwriting, claims, loss control and reinsurance services. ARPCO was solely a
fee-based business and received fees for these services and commissions on
excess per occurrence insurance placed in the commercial market with third party
companies on behalf of the pools.
On February 1, 2008, we acquired 100% of the issued and outstanding common
stock of American Management Corporation. AMC is a managing general agency
writing primarily commercial lines package policies focused primarily on the
niche fuel-related marketplace. AMC distributes these insurance policies through
a nationwide distribution system of independent general agencies. AMC
underwrites these policies for third party insurance carriers and receives
commission income for its services. AMC also provides claims handling and
adjustment services for policies produced by AMC and directly written for third
parties. In addition, AMC owns and operates American Underwriters Insurance
Company ("AUIC"), a single state, non-standard auto insurance company domiciled
in the state of Arkansas, and AMC Re, Inc. ("AMC Re"), a captive reinsurer
incorporated under the provisions of the laws of Arkansas. Effective July 1,
2008, FMIC and AUIC entered into an intercompany reinsurance agreement wherein
all premiums and losses of AUIC, including all past liabilities, are 100%
assumed by FMIC.
GAAP and Non-GAAP Financial Performance Metrics
Throughout this report, we present our operations in the way we believe will
be most meaningful, useful, and transparent to anyone using this financial
information to evaluate our performance. In addition to the GAAP (generally
accepted accounting principles in the United States of America) presentation of
net income and certain statutory reporting information, we show certain non-GAAP
financial measures that we believe are valuable in managing our business and
drawing comparisons to our peers. These measures are gross written premiums, net
written premiums, and combined ratio.
Following is a list of non-GAAP measures found throughout this report with
their definitions, relationships to GAAP measures, and explanations of their
importance to our operations:
Gross written premiums. While net premiums earned is the related GAAP measure
used in the statements of earnings, gross written premiums is the component of
net premiums earned that measures insurance business produced before the impact
of ceding reinsurance premiums, but without respect to when those premiums will
be recognized as actual revenue. We use this measure as an overall gauge of
gross business volume in our insurance underwriting operations with some
indication of profit potential subject to the levels of our retentions,
expenses, and loss costs.
Net written premiums. While net premiums earned is the related GAAP measure
used in the statements of earnings, net written premiums is the component of net
premiums earned that measures the difference between gross written premiums and
the impact of ceding reinsurance premiums, but without respect to when those
premiums will be recognized as actual revenue. We use this measure as an
indication of retained or net business volume in our insurance underwriting
operations. It is an indicator of future earnings potential subject to our
expenses and loss costs.
Combined ratio. This ratio is a common industry measure of profitability for
any underwriting operation, and is calculated in two components. First, the loss
ratio is losses and settlement expenses divided by net premiums earned. The
second component, the expense ratio, reflects the sum of policy acquisition
costs and insurance operating expenses, net of insurance underwriting
commissions and fees, divided by net premiums earned. The sum of the loss and
expense ratios is the combined ratio. The difference between the combined ratio
and 100 reflects the per-dollar rate of underwriting income or loss. For
example, a combined ratio of 85 implies that for every $100 of premium we earn,
we record $15 of pre-tax underwriting income.
Critical Accounting Policies
The critical accounting policies discussed below are important to the
portrayal of our financial condition and results of operations and require us to
exercise significant judgment. We use significant judgments concerning future
results and developments in making 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. We evaluate our
estimates on a continual basis using information that we believe to be relevant.
Actual results may differ materially from the estimates and assumptions used in
preparing the consolidated financial statements.
Readers are also urged to review "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Critical Accounting Policies"
and Note 1 to the audited consolidated financial statements thereto included in
the Annual Report on
Form 10-K for the year ended December 31, 2008 on file with the Securities and
Exchange Commission for a more complete description of our critical accounting
policies and estimates.
Use of Estimates
In preparing our consolidated financial statements, management is required to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosures of contingent assets and liabilities as of the
date of the consolidated financial statements, and revenues and expenses
reported for the periods then ended. Actual results may differ from those
estimates. Material estimates that are susceptible to significant change in the
near term relate primarily to the determination of the reserves for losses and
loss adjustment expenses and valuation of intangible assets.
Loss and Loss Adjustment Expense Reserves
The reserves for losses and loss adjustment expenses represent our estimated
ultimate costs of all reported and unreported losses and loss adjustment
expenses incurred and unpaid at the balance sheet date. Our reserves reflect our
estimates at a given time of amounts that we expect to pay for losses that have
been reported, which are referred to as Case reserves, and losses that have been
incurred but not reported and the expected development of losses and allocated
loss adjustment expenses on reported cases, which are referred to as IBNR
reserves. We do not discount the reserves for losses and loss adjustment
expenses.
We allocate the applicable portion of our estimated loss and loss adjustment
expense reserves to amounts recoverable from reinsurers under ceded reinsurance
contracts and report those amounts separately from our loss and loss adjustment
expense reserves as an asset on our balance sheet.
The estimation of ultimate liability for losses and loss adjustment expenses
is an inherently uncertain process, requiring the use of informed estimates and
judgments. Our loss and loss adjustment expense reserves do not represent an
exact measurement of liability, but are our estimates based upon various
factors, including:
• 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 loss
adjustment expense 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. Accordingly, the ultimate
liability may be more or less than the current estimate. The effects of changes
in the estimated reserves are included in the results of operations in the
period in which the estimate is revised.
Our reserves consist of reserves for property and liability losses,
consistent with the coverages provided for in the insurance policies directly
written or assumed by the Company under reinsurance contracts. In many cases,
several years may elapse between the occurrence of an insured loss, the
reporting of the loss to us and our payment of the loss. Although we believe
that our reserve estimates are reasonable, it is possible that our actual loss
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 loss adjustment expenses 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.
Our reserves for losses and loss adjustment expenses at March 31, 2009 and December 31, 2008, gross and net of ceded reinsurance were as follows:
March 31, December 31,
2009 2008
(Dollars in thousands)
Gross
Case reserves $ 95,135 $ 91,057
IBNR and ULAE reserves 305,017 281,664
Total reserves $ 400,152 $ 372,721
Net of reinsurance
Case reserves $ 64,259 $ 62,497
IBNR and ULAE reserves 196,950 181,672
Total $ 261,209 $ 244,169
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Revenue Recognition
Premiums. Premiums are recognized as earned using the daily pro rata method
over the terms of the policies. When premium rates change, the effect of those
changes will not immediately affect earned premium. Rather, those changes will
be recognized ratably over the period of coverage. Unearned premiums represent
the portion of premiums written that relate to the unexpired terms of
policies-in-force. As policies expire, we audit those policies comparing the
estimated premium rating units that were used to set the initial premium to the
actual premiums rating units for the period and adjust the premiums accordingly.
Premium adjustments identified as a result of these audits are recognized as
earned when identified.
Commissions and Fees. Wholesale agency commissions and fee income from
unaffiliated companies are earned at the effective date of the related insurance
policies produced or as services are provided under the terms of the
administrative and service provider contracts. Related commissions to retail
agencies are concurrently expensed at the effective date of the related
insurance policies produced. Profit sharing commissions due from certain
insurance companies, based on losses and loss adjustment expense experience, are
earned when determined and communicated by the applicable insurance company.
Investments
Our marketable investment securities, including money market accounts held in
our investment portfolio, are classified as available-for-sale and, as a result,
are reported at market value. Effective January 1, 2008, we adopted SFAS
No. 157, "Fair Value Measurements," which resulted in no material changes in
valuation techniques we previously used to measure fair values. See Note 11 to
the Condensed Consolidated Financial Statements for a more complete description.
A decline in the market value of any security below cost that is deemed other
than temporary is charged to earnings and results in the establishment of a new
cost basis for the security. In most cases, declines in market value that are
deemed temporary are excluded from earnings and reported as a separate component
of stockholders' equity, net of the related taxes, until realized. The exception
to this rule relates to investments in convertible securities with embedded
derivatives and our alternative investments. Convertible securities were
accounted for under FASB Statement No. 155, "Accounting for Certain Hybrid
Financial Instruments" ("SFAS 155") for the three months ended March 31, 2009
and 2008. Alternative investments consist of our investments in limited
partnerships, which invest in high yield convertible securities and distressed
structured finance products. These alternative investments are accounted for
under FASB Statement No. 159, "The Fair Value Option of Financial Assets and
Financial Liabilities" ("SFAS 159"), for the three months ended March 31, 2009
and 2008.
Premiums and discounts are amortized or accreted over the life of the related
debt security as an adjustment to yield using the effective-interest method.
Dividend and interest income are recognized when earned. Realized gains and
losses are included in earnings and are derived using the specific
identification method for determining the cost of securities sold.
Impairment of Investment Securities
Impairment of investment securities results in a charge to operations when a
market decline below cost is other-than-temporary. Management regularly reviews
our fixed maturity securities portfolio to evaluate the necessity of recording
impairment losses for other-than-temporary declines in the fair value of
investments. Factors considered in evaluating potential impairment include, but
are not limited to, the current fair value as compared to cost or amortized cost
of the security, as appropriate, the length of time the
investment has been below cost or amortized cost and by how much, our intent and
ability to retain the investment for a period of time sufficient to allow for an
anticipated recovery in value, specific credit issues related to the issuer and
current economic conditions. Other-than-temporary impairment losses result in a
permanent reduction of the cost basis of the underlying investment. Significant
changes in the factors we consider when evaluating investments for impairment
losses could result in a significant change in impairment losses reported in the
consolidated financial statements.
As mentioned above, the Company considers its intent and ability to hold a
security until the value recovers as part of the process of evaluating whether a
security's unrealized loss represents an other-than-temporary decline. The
Company's ability to hold such securities is supported by sufficient cash flow
from its operations and from maturities within its investment portfolio in order
to meet its claims payment and other disbursement obligations arising from its
underwriting operations without selling such investments. With respect to
securities where the decline in value is determined to be temporary and the
security's value is not written down, a subsequent decision may be made to sell
that security and realize a loss. Subsequent decisions on security sales are
made within the context of overall risk monitoring, changing information and
market conditions. Management of the Company's investment portfolio is
outsourced to third party investment managers, which is directed and monitored
by the investment committee. While these investment managers may, at a given
point in time, believe that the preferred course of action is to hold securities
with unrealized losses that are considered temporary until such losses are
recovered, the dynamic nature of the portfolio management may result in a
subsequent decision to sell the security and realize the loss, based upon a
change in market and other factors described above. The Company believes that
subsequent decisions to sell such securities are consistent with the
classification of the Company's portfolio as available-for-sale.
Investment managers are required to notify management of rating agency
downgrades of securities in their portfolios as well as any potential investment
valuation issues no later than the end of each quarter. Investment managers are
also required to notify management, and receive prior approval, prior to the
execution of a transaction or series of related transactions that may result in
a realized loss above a certain threshold. Additionally, investment managers are
required to notify management, and receive approval, prior to the execution of a
transaction or series of related transactions that may result in any realized
loss up until a certain period beyond the close of a quarterly accounting
period.
Deferred Policy Acquisition Costs
Policy acquisition costs related to direct and assumed premiums consist of
commissions, underwriting, policy issuance, and other costs that vary with and
are primarily related to the production of new and renewal business, and are
deferred, subject to ultimate recoverability, and expensed over the period in
which the related premiums are earned. Investment income is included in the
calculation of ultimate recoverability.
Goodwill and Intangible Assets
In accordance with SFAS No. 142, "Goodwill and Other Intangible Assets,"
goodwill and intangible assets that are not subject to amortization shall be
tested for impairment annually, or more frequently if events or changes in
circumstances indicate that the asset might be impaired. The impairment test for
goodwill shall consist of a comparison of the fair value of the goodwill with
the carrying amount of the reporting unit to which it is assigned. The
impairment test for intangible assets shall consist of a comparison of the fair
value of the intangible assets with their carrying amounts. If the carrying
amount of the goodwill or intangible assets exceed their fair value, an
impairment loss shall be recognized in an amount equal to that excess.
In accordance with SFAS No. 144, "Accounting for the Impairment or Disposal
of Long-lived Assets," the carrying value of long-lived assets, including
amortizable intangibles and property and equipment, are evaluated whenever
events or changes in circumstances indicate that a potential impairment has
occurred relative to a given asset or assets. Impairment is deemed to have
occurred if projected undiscounted cash flows associated with an asset are less
than the carrying value of the asset. The estimated cash flows include
management's assumptions of cash inflows and outflows directly resulting from
the use of that asset in operations. The amount of the impairment loss
recognized is equal to the excess of the carrying value of the asset over its
then estimated fair value.
Results of Operations
Three Months Ended March 31, 2009 Compared to Three Months Ended March 31,
2008
The following table summarizes our results for the three months ended
March 31, 2009 and 2008:
Three Months Ended
March 31,
2009 2008 Change
(Dollars in thousands)
Operating Revenue
Net earned premiums $ 52,594 $ 43,571 21 %
Commissions and fees 6,894 4,053 70
Net investment income 6,434 4,848 33
Net realized gains on investments 1,757 1 N/M
Total Operating Revenues 67,679 52,473 29
Operating Expenses
Losses and loss adjustment expenses, net 30,493 23,444 30
Amortization of intangible assets 575 399 44
Other operating expenses 22,552 14,197 59
Total Operating Expenses 53,620 38,040 41
Operating Income 14,059 14,433 (3 )
Interest Expense 1,310 1,899 (31 )
Income From Continuing Operations Before Income Taxes 12,749 12,534 2
Income Taxes 4,068 3,898 4
Income From Continuing Operations 8,681 8,636 1 %
Income From Discontinued Operations,
Net of Income Taxes - 1,085 (100 )
Net Income $ 8,681 $ 9,721 (11 )%
Loss Ratio 58.0 % 53.8 % 4.2 points
Underwriting Expense Ratio 30.4 % 21.2 % 9.2 points
Combined Ratio 88.4 % 75.0 % 13.4 points
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