agency's backing and/or ability to assess policyholders and member companies for funding deficiencies. For recoverables from all other reinsurers, the Company has no reason to believe that the amounts will not be recovered in full.
In accordance with the provisions of SFAS No. 142, "Goodwill and Other Intangible Assets," goodwill and intangible assets with indefinite useful lives are no longer subject to periodic amortization. Rather they are subject to impairment tests that are required to be performed on at least an annual basis. These impairment tests require, among other things, the estimation of a fair market value of reporting units associated with a company's goodwill. The Company has unamortized goodwill totaling $4,513 associated with its November 1997 and March 1998 purchases of The Innovative Company (former 100% owner of UIC and PBP) and AFS, respectively. In estimating the fair value of these business units, the Company employs both an income-based approach and a market-based approach. Significant judgments and estimates involved in this estimation process include forecasts of future sustainable operations, the selection of appropriate discount rates and the identification of appropriate comparable companies and multiples of earnings.
The Company defers costs that are attributable to, and vary with, the production of insurance premiums to the extent that these costs are considered recoverable from future profits. These deferred policy acquisition costs (DPAC) amounted to $1,168 and $1,200 at December 31, 2002 and 2001, respectively, and are being amortized into income evenly over the life of the underlying insurance contracts. Periodic recoverability tests, including estimates of sustainable loss and operating expense ratios, are performed on the DPAC and estimated unrecoverable amounts are charged to earnings during the period in which they are deemed unrecoverable.
Management, in conjunction with the Company's consulting actuary, performs a complete review of the Company's recorded reserves for unpaid losses and LAE to evaluate the adequacy of such reserves. Management believes the reserves, which approximate the amount determined by independent actuarial reviews, are adequate. However, establishing reserves is an estimation process and the ultimate liability may be in excess of or less than the amount recorded. Changes in estimated loss reserves are recorded in the year so determined. For example, for the years ended December 31, 2002, 2001 and 2000, the Company experienced development in its December 31, 2001, 2000 and 1999 unpaid losses and LAE of $970, $23, and $2,355, respectively. The development was recorded during the years ended December 31, 2002, 2001 and 2000, the periods in which the development was determined.
Premiums and losses of the HDC Program are recorded on the books of SCIC and CAIC as direct insurance activity and ceded as applicable to reinsurers. SCIC and CAIC, in consultation with their consulting actuary, have established reserves for estimated unpaid losses and LAE, including estimates
Over the last 10 to 15 years the Company has generated substantial net operating losses, which have resulted in sizeable federal tax operating loss carryforwards and capital loss carryforwards of $92,198. In addition, the Company has experienced three "change in ownership" events since June 1998, which limit the Company's ability to fully utilize the benefit of these carryforwards. Due to its lack of consistent earnings, the Company has placed a full valuation reserve against its net deferred tax asset at December 31, 2002 and 2001. Subsequent revisions to the net realizable value of the net deferred tax asset could cause the Company's provision for income taxes to vary significantly from period to period, although its cash tax payments would remain unaffected until the benefit of the federal net operating loss carryforward expires or is utilized.
Under its Claims Administration Services Agreements with QualSure Holding and similar agreements with other customers, INS records service income and fees over the period in which the claims adjusting, file management and settlement services are performed. The most significant estimate INS must make in recording this income is the settlement status of individual claims within the monthly total portfolio of reported claims for each month in which fees were received. Simply stated, the faster INS is able to close these claims, the faster its deferred revenue will be amortized into income.
On November 15, 2002, the Company received approval from both FEMA and the SCDOI and then announced that it had completed a transaction with The Hartford under which The Hartford acquired the right to renew or assume all of SCIC and Catawba's in-force NFIP business. The purchase price of the renewal rights was $3,800 in cash at closing, plus up to $1,000 to be paid on November 15, 2003, if certain retention thresholds on the book of business are achieved. Provisions of the underlying sales agreement, as approved by FEMA, provide that The Hartford administer and report the Company's business to the NFIP over the transition period that ends September 30, 2003. As a result of the Company's continuing involvement with the book of business during the transition period, the gain on the transaction of $3,499 (purchase price of $3,800 less expenses of sale of $301) has been deferred and will be recognized evenly over the transition period. It is uncertain whether the Company will meet the retention thresholds to qualify for the additional $1,000. Any such additional amounts will only be reflected in revenue if and when the retention thresholds and related requirements are achieved. Included in other liabilities and deferred items as of December 31, 2002 is $3,149 of deferred revenue associated with this transaction.
(1) At December 31, 2001, the Company owned 32,676 shares of common stock of ISO which it had received in 1997 as a result of ISO converting from a mutual organization to a stock company. Since the equity security received in connection with the conversion was not marketable, the Company had historically valued the investment at cost ($0). In February 2002, ISO offered, and the Company accepted, to repurchase the Company's shares for a price of $64.80 per share, resulting in a realized investment gain of $2,117 allocated as follows:
The Company's net income (loss) by business segment is as follows:
UIC writes nonstandard automobile insurance (principally liability and physical damage coverages) primarily in the state of North Carolina. Approximately 57% and 59% of its total direct written premium in 2002 and 2001, respectively, are premiums for liability coverage, substantially all of which are ceded to the NC Facility. The NC Facility is a state-sponsored plan for assuring the availability of motor vehicle liability insurance to all North Carolina drivers outside of the voluntary market. UIC derives commission and service income from the NC Facility for writing and administering the premiums and servicing the related claims, but it retains no underwriting risk. UIC receives underwriting and claims commissions for the premiums and related claims it cedes to the NC Facility equal to approximately 27% and 14%, respectively, of premiums written in the NC Facility.
Substantially all of UIC's retained risk nonstandard automobile operations relate to its physical damage coverage, which are minimum limit policies partially reinsured through quota share reinsurance agreements. From December 31, 1999 through June 30, 2002, UIC reinsured its physical damage coverage through 75% quota share reinsurance agreements with unaffiliated reinsurers. Effective July 1, 2002, the 75% quota share reinsurance agreement was replaced with a 60% quota share reinsurance agreement. North Carolina is a "consent to rate" state for physical damage coverage premium charged by insurance companies. As such, UIC is not required to file its physical damage coverage premium rates with the NCDOI prior to making them effective, as long as those rates are within statutorily defined limits of rates established by the North Carolina Rate Bureau. This provides UIC with the ability to quickly respond to developing trends in its marketplace and the underwriting results of its operations.
A substantial portion of UIC's written premium has traditionally been financed through the Company's premium finance subsidiary, PBP. Under this arrangement, PBP received interest income from insureds on premiums it financed, as well as a variety of set up and maintenance fees associated with the related premium finance contracts. While PBP had proved to be an effective sales and marketing tool to facilitate premium growth for UIC over the years, management continually struggled with the challenge of limiting the volume of bad debt expenses associated with its operations. As a result of PBP's operating losses and reassessments of its core competencies, the Company entered into a management contract with an unaffiliated company effective June 1, 2001 to manage the operations of PBP. In December 2001, UIC introduced an installment billing program to its insureds and PBP was placed into runoff. Additionally, UIC continues to offer premium finance alternatives to its insureds
In contemplation of the runoff of the SC Facility, the Company introduced a voluntary nonstandard automobile program in South Carolina during 1997. In July 2000, the Company concluded that the operation could not generate profits in the foreseeable future and, therefore, placed the business into runoff. For the year ended December 31, 2002 there were no written premiums associated with this operation. Furthermore, as of December 31, 2002 only 64 claims with total net reserves for losses and LAE of $559 remained on this book of business.
All of the revenues reported for these operations for the year ended December 31, 2002 result from allocated realized gain from the sale of the Company's equity investment in ISO and allocated investment income associated with the operation's portfolio of outstanding losses and LAE.
Catawba is one of three servicing carriers for the SC Facility, a state-sponsored plan for insuring South Carolina drivers outside of the voluntary market. In its capacity as a servicing carrier, Catawba receives commission and service income from the SC Facility for writing and administering the premiums and servicing the related claims, but retains no underwriting risk because all of the premiums and losses are fully ceded to the SC Facility. These commissions amount to approximately 11% of premiums written in the SC Facility for policy administration and approximately 11% of paid losses ceded to the SC Facility for claims administration. The SC Facility began its planned runoff effective March 1, 1999, at which time no new business was accepted into the SC Facility. Effective October 1, 1999, voluntary renewals were no longer accepted by the SC Facility. However, servicing carriers were able to cede renewal business to the SC Facility until March 1, 2002, at which time final runoff of the SC Facility commenced. The SCAAIP became effective in March 1999 and survived the SC Facility. Although the SCAAIP offers the Company access to additional fee-based revenue with no underwriting risk, thus far into the runoff of the SC Facility, the Company has not experienced significant activity in the SCAAIP. Effective March 1, 2003, the SCAAIP began its planned runoff.
accounted for approximately 58%, 67% and 86% of its total revenues during 2002, 2001 and 2000, respectively, while commissions and fees from its agency operations accounted for approximately 41%, 33% and 11% of its total revenues for the same periods, respectively.
SCIC reentered the risk-bearing commercial lines market in February 1998 when it converted a substantial amount of premiums written in an MGA capacity for another insurance carrier to retained risk premiums. Under this program SCIC offers commercial package, business owners and garage liability policies primarily to small businesses in the states of South Carolina, North Carolina, Tennessee, Georgia and Kentucky. In April 1999, Catawba began offering a nonstandard tiered commercial automobile program in the state of South Carolina to capitalize upon the planned runoff of the SC Facility. Since that time SCIC and Catawba have capitalized on the long-standing relationships of their commercial lines agents and benefited from the experience of its qualified underwriters. The Company's commercial lines have historically been reinsured primarily through quota share reinsurance agreements. From April 1, 1999 through March 31, 2000 the Company's commercial lines were subject to a 90% quota share reinsurance agreement. Effective April 1, 2000, the 90% quota share reinsurance agreement was amended to become a 70% quota share reinsurance agreement, and the amended agreement was terminated at the Company's request effective April 1, 2001. The Company's commercial lines are presently reinsured through facultative, excess of loss, catastrophe and umbrella coverages.
on the Company's operations during the third and fourth quarters of 2002 (see Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations). The Company cannot reasonably estimate the effects of the Order on its future operations.
In the fourth quarter of 2002, the Company undertook a profitability and viability analysis of each of INS' service lines. As a result, INS has begun a process of discontinuing certain of its service lines and eliminating the related expenses. INS' continuing operations are centered on its Claims Administration Services Agreement with QualSure and complemented by its network glass claims handling, all-lines claims administration and catastrophe claims administration services. Though INS' revenues may be lower in 2003 as compared to 2002, management believes it will be more profitable as a result of its initiatives.
The All Other segment contains the runoff risk-bearing environmental and general liability operations from the 1980's, primarily written in the state of California. The segment also includes the Company's runoff risk-bearing workers' compensation operations primarily written in the state of Florida in the early 1990's.
The All Other segment also contains the runoff risk-bearing workers' compensation program written by SCIC and CAIC through the HDC Group and the fee-based managing general agency services of SBC. The workers' compensation program written by SCIC and CAIC through the HDC Group was effective January 1, 2002 and terminated December 31, 2002. The fee-based managing general agency services of SBC began July 1, 2002 and entered into runoff effective December 31, 2002.
Effective January 1, 2002, the Company, through SCIC and CAIC, issued two workers' compensation insurance master policies to the HDC Group. The HDC Group is a professional employment organization. SCIC and CAIC did not obtain the approval of the SCDOI prior to issuing the master policies and, therefore, subsequently canceled them. Litigation was initiated in the Superior Court of the State of Arizona on March 25, 2002 by the HDC Group against the Company, alleging that the Company wrongfully terminated workers compensation coverage, breached its implied duty of good faith and fair dealing by unilaterally rescinding HDC's workers compensation coverage and that the Company breached its contract with the HDC Group to provide workers compensation coverage. HDC claims its entitlement to punitive damages in an unspecified amount. On July 9, 2002, an Arizona Superior Court Judge ruled that the policies are in effect from January 1, 2002 through December 31, 2002. The Company intends to appeal the decision.
A summary of the impact of the HDC Program on the Company as of and for the year ended December 31, 2002 is as follows:
Effective July 1, 2002, one of the Company's subsidiaries, SBC, entered into an agreement with a Florida domiciled insurance company to serve as managing general agent for that company's low-value dwelling homeowners' insurance program in the state of Florida until such time as that program is runoff. Runoff began January 1, 2003; therefore, SBC will not earn significant revenue related to the agreement after December 31, 2002. In its capacity as managing general agent, SBC is responsible for policy issuance and administration, customer service and claims administration. SBC's claims
administration responsibilities are fulfilled through a Claims Administration Services Agreement with INS.
The Company's operations as it enters 2003 are substantially different than they were when it entered 2002. As a result of the SCDOI Order and the sale of the renewal rights to its NFIP book of business, the runoff of its managing general agent operations, the final runoff of the SC Facility and the SCAAIP, and the loss of its commercial lines business in the state of Kentucky, the Company has been forced to scale back its operations accordingly and is exploring opportunities for additional sources of revenue:
- On January 20, 2003 Catawba requested permission from the SCDOI to begin writing a new risk-bearing nonstandard automobile program in the state of South Carolina. The SCDOI approved Catawba's request on February 6, 2003. The new program is expected to be implemented in the second quarter of 2003 and is expected to generate approximately $2,000 in direct written premium during 2003.
- On January 20, 2003 Catawba requested permission from the SCDOI to begin writing a new risk-bearing homeowners program in the state of South Carolina. The SCDOI approved Catawba's request on February 6, 2003. The new program is expected to be effective in the third quarter of 2003 but is not expected to have a significant impact on the Company's operations in 2003.
- On March 7, 2003 UIC requested permission from the NCDOI to write new fee-based commercial automobile business through the NC Facility. This request is currently pending.
States. This was facilitated by geographic expansion and the introduction of new technology to its agency force, including internet-based policy rating and flood zone determination services. Through September 30, 2002, as compared to the same period of 2001, the Company's NFIP written premium had increased $1,730. During the fourth quarter of 2002, however, the Company's NFIP written premium decreased substantially over the same period of 2001 as a result of FEMA's decision not to offer SCIC and Catawba a Financial Assistance/Subsidy Arrangement with the Federal Insurance and Mitigation Administration for the fiscal year beginning October 1, 2002 and the Company's subsequent transaction with The Hartford under which The Hartford acquired the renewal rights to the Company's NFIP business. As a result, the Company's NFIP written premium for the years ended December 31, 2002 and 2001 amounted to $44,603 and $44,724, respectively. Though the Company's NFIP written premium was somewhat constant between years, the operation experienced increased commission and service income as a result of the higher commission rate in effect for the entire year of 2002. Further, as a result of its premium growth and the retention of its NFIP book of business, the Company received marketing bonuses from the NFIP of $615 in March 2002 and $553 in March 2001, an increase of $62. Largely offsetting the NFIP operation's increase in commission and service income was the decrease reported by AFS. For the year ended December 31, 2002, AFS reported commission and service income of $2,117, a decrease of $374 over the $2,491 reported for the same period of 2001. AFS actually experienced continued growth in volume during 2002 as a result of increased volume stemming from continually declining mortgage interest rates. However, AFS must defer a portion of the revenues associated with its "life of loan" product offering and amortize it into income over the estimated life of the original underlying loan. As of and for the year ended December 31, 2002, AFS' deferred approximately $500 of revenues.
Commission and service income reported by the all other segment was $2,147 and $75 for the years ended December 31, 2002 and 2001, respectively, an increase of $2,072. Approximately $1,349 of the overall increase resulted from the MGA operations of SBC that began in July 2002. This program began runoff effective December 31, 2002 and will not have a material impact on the Company's future results of operations. An additional $802 of the overall increase resulted from the fees earned under the HDC Program that was effective January 1, 2002. This program ended December 31, 2002 and will not be a recurring source of revenue for the Company. The remaining $79 decrease in commission and service income reported by the all other segment came from all of the segment's other runoff operations.
Net other interest income decreased $1,342 or 95.8%, to $59 for the year ended December 31, 2002 from $1,401 for the year ended December 31, 2001. The decrease is substantially due to a reduction in UIC premiums financed through PBP as a result of the implementation of UIC's installment billing program. A substantial portion of UIC's written premium has traditionally been financed through the Company's premium finance subsidiary, PBP. PBP received interest income from insureds on premiums it financed, as well as a variety of set up and maintenance fees associated with the related premium finance contracts. While PBP has proved to be an effective sales and marketing tool to facilitate premium growth for UIC over the years, management has continually struggled with the challenge of limiting the volume of bad debt expenses associated with its operations. As a result of PBP's operating losses and reassessments of its core competencies, the Company entered into a management contract with an unaffiliated company effective June 1, 2001 to manage the operations of PBP. In December 2001, UIC introduced an installment billing program to its insureds and PBP was placed into runoff. Net other interest income realized by PBP was $37 for the year ended
December 31, 2002 versus $1,132 for the same period of 2001, a decrease of $1,095. Another $227 of the decrease in other interest income was attributable to the continued runoff of the SC Facility, which began its final stage of runoff effective March 1, 2003. The remaining $20 decrease in net other interest income came from all other operations.
Net realized gains amounted to $3,084 for the year ended December 31, 2002. At December 31, 2001, the Company owned 32,676 shares of common stock of ISO that it had received in 1997 as a result of ISO converting from a mutual organization to a stock company. Since the equity security received in connection with the conversion was not marketable, the Company has historically valued the investment at cost ($0). In February 2002, ISO offered, and the Company accepted, to repurchase the Company's shares for a price of $64.80 per share, resulting in a realized investment gain of $2,117. In addition, the Company is the beneficiary of several key man life insurance policies maintained on certain former directors or officers of the Company. During the three months ended June 30, 2002, the Company recorded a gain on the settlement of one of these policies of $294. Effective October 3, 2002, the Company's combined ownership interest in QualSure Holding was redeemed by QualSure Holding for $4,775 resulting in a realized gain of $632. Another $68 in net gains were realized from the sale of investments. Finally, in connection with the sale of the renewal rights to its NFIP business to The Hartford, the Company impaired certain data processing equipment and software used in that operation, resulting in a realized loss of $27.
Other income decreased $1,020, or 30.0%, to $2,378 for the year ended December 31, 2002 from $3,398 for the year ended December 31, 2001. Historically, the Company's primary source of policy fees revenue was its Nashville nonstandard automobile operations and its premium financing operations of PBP, which were placed into runoff in June 2000 and December 2001, respectively. As a result, virtually no premiums were written through the Nashville operation or financed through PBP for the year ended December 31, 2002. Because the policy fees associated with each of these operations are directly correlated to premium writings and financing, they decreased $737 to a balance of $1 for the year ended December 31, 2002 versus $738 for the same period in 2001. Partially offsetting these decreases in other income was the $238 increase in other income earned by UIC associated with fees it is allowed to charge on the installment billing program that began in December 2001.
The automobile segment accounted for another $25 of the overall increase, reporting losses and LAE of $2,953 for the year ended December 31, 2002 versus $2,928 for the same period of 2001. The overall increase primarily resulted from three factors. First, in the second and third quarters of 2000, respectively, the Company announced the discontinuation of its Nashville operations and its withdrawal from the voluntary nonstandard automobile market in South Carolina. Losses and LAE associated with these operations for the year ended December 31, 2002 amounted to $30, an increase of $514 over the $(484) incurred for the same period of 2001. The favorable development experienced in 2001 resulted from the more precise estimation of ultimate losses and LAE as a result of the furthering runoff of those programs. Second, losses and LAE incurred through the nonstandard automobile risk-bearing operations of Catawba amounted to $3 and $41 for the years ended December 31, 2002 and 2001, respectively, a decrease of $38 that resulted from the re-estimation of reserves from the 2001 accident year as a result of new information obtained during 2002. Third, losses and LAE incurred by UIC amounted to $2,789 for the year ended December 31, 2002 versus $3,141 for the same period of 2001, a decrease of $352. As previously discussed, from December 31, 1999 until July 1, 2002, UIC's retained-risk automobile business had been subject to a 75% quota share reinsurance agreement. Effective July 1, 2002, the existing 75% quota share reinsurance agreement was canceled in favor of a 60% quota share reinsurance agreement. Retaining more premium under the new quota share reinsurance agreement had an unfavorable impact on UIC's losses and LAE incurred for the year ended December 31, 2002. However, the effect of the change of the quota share reinsurance agreement was substantially mitigated by the decreased premium volume discussed in PREMIUMS EARNED. Furthermore, in December 2002 a division of the adjusting services segment that performs certain loss adjudication services for UIC refunded approximately $150 of fees charged to and paid by UIC in excess of fees approved by the NCDOI. The remaining $99 decrease in losses and LAE incurred by the automobile segment came from business the Company is required to assume from the SC Facility.
Partially offsetting the overall increase in losses and LAE was the $102 decrease posted by the Company's runoff environmental and general liability operations. During the year ended December 31, 2001, the Company was engaged in a general strengthening of its reserves for these runoff operations. As a result, the operation posted losses and LAE incurred of $1,388. While no broad policy of reserve strengthening was employed during the year ended December 31, 2002, additional environmental reserves were incurred during the period as a result of the recent insolvency of Reliance Insurance Company. As a result of this insolvency, the Company was notified that all reinsurers who shared liability exposure with Reliance Insurance Company are required to absorb that company's share of loss exposure. Furthermore, the Company experienced a sharp increase in the trend of new claims associated with its runoff environmental and general liability business written in the 1980's alleging that the Company was liable for damages. Though the Company was found not to be liable in all cases, the LAE incurred in connection with defending the Company, as well as the strengthening of LAE reserves as a result of the change in trends, resulted in substantial adverse development during 2002. As a result of these factors, the runoff operations reported additional adverse development of $1,286 for the year ended December 31, 2002.
The remaining decrease in losses and LAE of $385 resulted from the Company's runoff flood operations. On November 15, 2002, the Company received approval from both FEMA and the SCDOI and then announced that it had sold the right to renew or assume all of SCIC and Catawba's in-force NFIP business to The Hartford.
Policy acquisition costs decreased $348, or 1.5%, from a balance of $23,162 for the year ended December 31, 2001 to a balance of $22,814 for the same period of 2002. Fluctuations in policy acquisition costs are directly correlated to fluctuations in, and the relative mix of, segmental direct written premium. Policy acquisition costs as a percentage of direct written premium was 23.2% and 20.6% for the years ended December 31, 2002 and 2001, respectively. The higher percentage of acquisition costs is primarily attributable to the decreasing premium volume of the SC Facility and NC Facility components of the automobile segment, as they pay much lower agent commissions than the other components of the Company's operations.
Interest expense was $180 and $728 for the years ended December 31, 2002 and 2001, respectively, a decrease of $548. On March 28, 2002, the Company issued 800,000 shares of Adjustable Rate Cumulative Nonvoting Preferred Special Stock to its majority shareholder, Chairman of the Board of Directors and Chief Executive Officer in exchange for $8,000. The Adjustable Rate Cumulative Nonvoting Preferred Special Stock is nonconvertible and nonredeemable and pays quarterly dividends at an annual adjustable rate of 3.5% plus LIBOR (4.9% at December 31, 2002). The Company used the proceeds from the transactions to fully repay the outstanding balance of its credit facility.
- A substantial portion of UIC's written premium has traditionally been financed through the Company's premium finance subsidiary, PBP. While PBP had proven to be an effective sales and marketing tool to facilitate premium growth for UIC over the years, management continually struggled with the challenge of limiting the volume of bad debt expenses associated with its operations. As a result of PBP's operating losses and reassessments of its core competencies, the Company entered into a management contract with an unaffiliated company effective June 1, 2001 to manage the operations of PBP. In December 2001, UIC introduced an installment billing program to its insureds and PBP was placed into runoff. Management fee expenses incurred for the years ended December 31, 2002 and 2001 were $24 and $669, respectively, a decrease of $645.
- Effective May 1, 2002, the Company changed service providers related to the statistical processing and reporting of its flood business written through the NFIP in order to capitalize on a more efficient fee structure charged for these services. Further, as a result of FEMA's decision not to offer the Company Financial Assistance/Subsidy Agreement for the fiscal year beginning October 1, 2002 and the subsequent sale of the renewal rights to the Company's NFIP business, the Company's NFIP written premium decreased $121 during 2002 as compared to 2001. As a result, the Company's processing and reporting expenses for its flood operations decreased $288 for the year ended December 31, 2002 as compared to the same period of 2001.
- On March 28, 2002, the Company repaid all amounts outstanding on its credit facility. In connection with this transaction, the unamortized portion of the deferred loan origination fees were expensed. As a result, other operating costs and expenses for the year ended December 31, 2002 includes additional amortization expense of $72 as compared to the same period of 2001.
- The Company or its subsidiaries were party to three primary pieces of litigation during the year ended December 31, 2002 (see Item 3. Legal Proceedings and the Notes to Financial Statements). As a result, legal expenses for the year ended December 31, 2002 are approximately $791 higher than for the corresponding period of 2001.
of long-lived assets associated with those operations. As of December 31, 2001, the restructuring plan associated with the restructuring charge was completed, resulting in a final revision of the initial estimate of $156 that was taken into income in September 2001.
Commission and service income increased $382 or 1.1%, to $36,272 for the year ended December 31, 2001 from $35,890 for the year ended December 31, 2000. The flood segment accounted for an increase of $2,193, posting commission and service income of $16,984 for the year ended December 31, 2001, versus $14,791 for the same period of 2000. As a servicing carrier for the NFIP, the Company recognizes income for the policies it processes and the related claims it services in the amount of 31.0% of gross written premium and 3.3% of gross incurred losses, respectively. During the year ended December 31, 2001, the Company's NFIP written premium has increased at a rate that surpassed that of the total NFIP, due primarily to obtaining several large books of flood business from independent insurance agents across the United States. This was facilitated by expanding the Company's product offering to independent agents and the introduction of new technology to its agency force, including internet-based policy rating and flood zone determination services. The Company's NFIP written premium for the years ended December 31, 2001 and 2000 amounted to $44,724 and $38,348, respectively, an increase of $6,376, or 16.6%. Further, as a result of its premium growth and the retention of its NFIP book of business, the Company received an unanticipated marketing bonus from the NFIP of $553 in March 2001. No such bonus was received during 2000.
activities during 2001 as compared to 2000. The remaining $12 decrease in commission and service income came from the Company's Nashville and South Carolina nonstandard automobile operations, which began runoff in the second and third quarters of 2000, respectively.
Net premiums earned decreased $10,704, or 42.6%, to $14,433 for the year ended December 31, 2001 from $25,137 for the year ended December 31, 2000. The automobile segment accounted for $14,930 of the overall decrease, posting premiums earned of $7,004 for the year ended December 31, 2001 versus $21,934 for the same period of 2000. The overall decrease is the result of three factors. First, in the second and third quarters of 2000, respectively, the Company announced the discontinuation of its Nashville operations and its withdrawal from the voluntary nonstandard automobile market in South Carolina. Premiums earned from these operations for the year ended December 31, 2001 amounted to $2,722, a decrease of $12,952 over the $15,674 earned for the same period of 2000. Second, in June 2000 the Company began running off its Second Tier rating program in North Carolina. This program was the only book of the Company's business not subject to a quota share reinsurance agreement. As the Second Tier business came up for renewal during the runoff period, prevailing rates of UIC were offered to the insureds. Accepted renewals were subject to UIC's 75% quota share reinsurance agreement. Therefore, UIC's year ended December 31, 2001 included a significant amount of premiums that were subject to its 75% quota share reinsurance agreement that were not subject to the agreement for the same period of 2000. Premiums earned from UIC's operations for the year ended December 31, 2001 amounted to $4,393, a decrease of $1,155 over the $5,548 earned for the same period of 2000. The third factor in the decrease in premiums earned by the automobile segment was the $823 reduction in premiums earned from business the Company is required to assume from the SC Facility. The SC Facility has been in runoff since March 1, 1999 and entered the final stage of runoff effective March 1, 2002.
Premiums earned by the commercial segment amounted to $7,379 for the year ended December 31, 2001, versus $3,040 for the same period of 2000, an increase of $4,339. The Company's commercial lines have been reinsured primarily through quota share reinsurance agreements since December 31, 1999. For the year ended December 31, 2000, the Company's commercial lines were subject to a 90% quota share reinsurance agreement. Effective April 1, 2000, the 90% quota share reinsurance agreement was amended to become a 70% quota share reinsurance agreement, and the amended agreement was terminated at the Company's request effective April 1, 2001. Premiums ceded to reinsurers by the commercial segment amounted to $2,067 for the year ended December 31, 2001 versus $10,525 for the same period of 2000, a decrease of $8,458. Retaining a larger portion of its commercial book of business had a positive impact on the Company's premiums earned for the year ended December 31, 2001 over the same period of 2000. Partially offsetting this increase was the impact of a decrease in direct commercial writings of $1,276 for the year ended December 31, 2001
Net investment income decreased $160, or 6.0%, to $2,500 for the year ended December 31, 2001 from $2,660 for the year ended December 31, 2000. The principal cause of the decrease was the gradual decrease throughout 2001 of the general level of market interest rates. For the year ended December 31, 2001, the Company's investment portfolio yielded an average return of 5.2%, a slight deterioration over the 5.6% averaged for the same period of 2000.
Net realized losses amounted to $211 for the year ended December 31, 2001 due to $301 of losses realized on the sale of automobiles no longer required for operations and the disposal of obsolete data processing equipment and software, partially offset by $90 in gains realized on the liquidation of a portion of the Company's bond portfolio to fund its operations. Sales of fully depreciated property and equipment during the year ended December 31, 2000 resulted in realized gains of $11, while realized
In December 2000, the Company sold its corporate headquarters to its majority shareholder, Chairman of the Board of Directors and Chief Executive Officer for a gain of $1,892. Concurrent with this transaction, the Company leased the property back for a fixed period of three years without an option for renewal. The gain resulting from this transaction was deferred and is being amortized into income evenly over the term of the related leaseback (see OTHER INCOME).
Other income decreased $1,780, or 37.9%, to $2,913 for the year ended December 31, 2001 from $4,693 for the year ended December 31, 2000. This overall decrease is the net result of several significant factors. The Company's primary source of policy fees revenues is its Nashville nonstandard automobile and PBP premium finance operations. The Nashville nonstandard automobile operations were placed into runoff in June 2000. As a result of this action, direct premiums written through the Nashville operation declined to a balance of $(13) for the year ended December 31, 2001 from a balance of $8,129 for the same period in 2000. Because policy fees are directly correlated to premium writings, the operation's policy fees decreased $1,340 to a balance of $41 for the year ended December 31, 2001 versus $1,381 for the same period in 2000. Further, PBP receives a variety of set up, maintenance and other policy-related fees associated with the premiums it finances for insureds of UIC. As a result of PBP's operating losses and reassessments of its core competencies, the Company entered into a management contract with an unaffiliated company effective June 1, 2001 to manage the operations of PBP. Under the contract, all policy related fees previously retained by PBP now belong to the vendor. Policy fees associated with PBP's operations decreased $161 to a balance of $697 for the year ended December 31, 2001 versus $858 for the same period in 2000.
Further contributing to the overall decrease in other income was a decrease of $371 associated with a division of the adjusting services segment. The division posted other income of $1,657 for the year ended December 31, 2001 versus $2,028 for the same period of 2000. The decrease is attributable to a general decrease in business volumes within the division's primary market of South Carolina resulting from the runoff of the SC Facility, the Company's withdrawal of its voluntary operations in the state, and the withdrawal of other key customers' automobile programs in the state.
In December 2000, the Company sold its corporate headquarters to its majority shareholder, Chairman of the Board of Directors and Chief Executive Officer for a gain of $1,892. Concurrent with this transaction, the Company leased the property back for a fixed period of three years without an option for renewal. The gain resulting from this transaction was deferred and is being amortized into income evenly over the term of the related leaseback. Included in other income for the year ended December 31, 2001 is $631 of amortized gain.
Partially offsetting the overall decrease in losses and LAE was the $1,472 increase posted by the commercial segment. As previously discussed, the Company's commercial lines have been reinsured primarily through quota share reinsurance agreements since December 31, 1999. For the year ended December 31, 2000, the Company's commercial lines were subject to a 90% quota share reinsurance agreement. Effective April 1, 2000, the 90% quota share reinsurance agreement was amended to become a 70% quota share reinsurance agreement, and the amended agreement was terminated at the Company's request effective April 1, 2001. By retaining a larger portion of its commercial book of business, the Company's commercial operations experienced an increase in losses and LAE for the year ended December 31, 2001 over the same period of 2000. However, somewhat offsetting this increase was the impact of a decrease in commercial writings for the year ended December 31, 2001 over the same period of 2000. In accordance with a mandate from the NCDOI, the Company ceased writing new risk-bearing commercial business in the state of North Carolina at the beginning of the third quarter of 2000. The Company may, however, continue renewing existing risk-bearing commercial business at its discretion. The mandate was issued as a result of the deteriorated financial condition of SCIC that resulted from the discontinuation of the Company's Nashville operations in the second quarter of 2000.
Policy acquisition costs decreased $1,841, or 7.4%, to $23,162 for the year ended December 31, 2001 from $25,003 for the year ended December 31, 2000. Fluctuations in policy acquisition costs are directly correlated to fluctuations in direct written premium of each of the Company's business segments. Direct written premium for the year ended December 31, 2001 amounted to $112,282, a $12,736, or 10.2%, decrease from the $125,018 written during the same period in 2000. See Property and Casualty Premiums Earned for discussion concerning the decrease in premium volume for the year ended December 31, 2001 versus the same period of 2000.
Interest expense was $728 and $1,436 for the years ended December 31, 2001 and 2000, respectively, a decrease of $708. The Company's credit facility bore interest at a pre-determined spread over LIBOR. The decrease in interest expense for the year ended December 31, 2001 as compared to the same period of 2000 is due to lower average interest rates in 2001 versus 2000, coupled with interest saved through the pay down of debt. The average interest rate of the Company's debt was 6.89% between December 31, 2000 and December 31, 2001 versus 9.24% between December 31, 1999 and December 31, 2000. Further, at December 31, 2001, the outstanding balance of the Credit Facility was $7,721, a $2,438 decrease over the balance existing at December 31, 2000.
Other operating costs and expenses decreased $5,023, or 19.0%, to $21,438 for the year ended December 31, 2001 from $26,461 for the year ended December 31, 2000. The most significant causes of the overall decrease are expense reductions directly associated with the Company's discontinuation of its Nashville operations and its withdrawal from the voluntary nonstandard automobile market in South Carolina in the second and third quarters of 2000, respectively. Most notably, the Company experienced reductions in force between December 31, 2000 and 2001 that led to consolidated salary and benefit expense savings of $4,309. In addition, when announcing the discontinuation of its Nashville operations in September 2000, the Company recorded goodwill and fixed asset impairment charges for assets associated with that operation. This was the leading cause of reduced goodwill amortization and fixed asset depreciation charges of $1,259 for the year ended December 31, 2001 over the same period of 2000. The Company has also experienced a wide array of other expense reductions directly associated with the Company's decreasing premium volume, including reduced licensing fees ($123); data processing costs ($158); premium taxes ($264); telephone expenses ($164); and postage costs ($305). Also contributing to the overall decrease in other operating costs and expenses was the decrease in settlement costs related to a lawsuit involving Wells Fargo Financial Resources, Inc. (Wells Fargo) (formerly known as Norwest Financial Resources, Inc.). During the second quarter of 2001, the Company reduced its estimated settlement amount associated with this lawsuit by $370. Effective July 31, 2001, the Company settled the lawsuit at the revised estimated settlement amount.
Partially offsetting these expense reductions were $852 in increased salary and benefits expenses associated with the Company's accrual of obligations under a newly approved incentive compensation plan for certain members of its management team. Further offsetting the overall reduction in other operating costs and expenses between periods were increased municipal tax expenses during the year ended December 31, 2001 over the same period of 2000. In March 2000, the Company settled a claim with the Municipal Association of South Carolina which claimed it had a potential deficiency of certain South Carolina municipality taxes. The claim was settled for $1,525, resulting in a reduction in expense of $902 that was recorded as an offset to municipal tax expense for the year ended December 31, 2000. In addition, on December 21, 2000, the Company sold its corporate headquarters to its majority shareholder, Chairman of the Board of Directors and Chief Executive Officer. Concurrent with this transaction, the Company leased the property back for a fixed period of three years without an option for renewal. Lease expense incurred under this related party lease amounted to $458 and $13 for the years ended December 31, 2001 and 2000, respectively, an increase of $445. Finally, as a result of PBP's operating losses and reassessments of its core competencies, the Company entered into a management contract with an unaffiliated company effective June 1, 2001 to manage the operations of PBP. Management fees paid to the vendor amounted to $669 for the year ended December 31, 2001. No such fees were incurred for the same period of 2000.
Though the Company's bad debt expenses remained relatively consistent for the years ended December 31, 2001 and 2000, the sources of the expenses did not. Of the $1,716 total bad debt expense incurred for the year ended December 31, 2000, approximately $1,148 related to the operations of PBP, $266 related to the rest of the automobile segment, and $302 related to all other operations combined. Of the $1,835 total bad debt expense incurred for the year ended December 31, 2001, approximately $2,666 related to the operations of PBP, a recovery of $678 related to the rest of the automobile segment, and a recovery of $153 related to all other operations combined. The bad debt expenses experienced by the PBP operation was the primary factor leading to the aforementioned PBP management contract and eventual discontinuation of the operation. The significant recovery of bad debt expense by the other components of the automobile segment came substantially from the Nashville operation and resulted from policy cancellations during 2001 related to fully reserved receivables at December 31, 2000. Neither of the sources of the Company's unusual bad debt expense results (PBP and Nashville) are expected to be material in the Company's future operations.
The following table presents, on a GAAP basis, a three-year analysis of losses and LAE, net of ceded reinsurance recoverable, with the net liability reconciled to the gross liability as reported in the Company's financial statements:
The ceded reinsurance recoverable on unpaid losses and LAE, classified as an asset, includes $23,473, $31,369 and $37,318 at December 31, 2002, 2001 and 2000, respectively, of balances recoverable from the SC Facility, the NC Facility and the NFIP.
The following table presents an analysis of loss and LAE development (all amounts are in millions):
The above table presents the development of balance sheet liabilities for 1992 through 2001. The top portion of the table shows a reconciliation of the direct and net estimated liabilities for unpaid losses and LAE recorded at the balance sheet date for each of the indicated years. The next section of the table shows the cumulative amount paid with respect to the previously recorded liability as of the end of each succeeding year. The following portion of the table shows the re-estimated amount of the previously recorded liability based on experience as of the end of each succeeding year. The estimate is increased or decreased as more information about the claims becomes known for individual years. For example, as of December 31, 2002 the companies had paid $126,000 of the currently estimated $149,000 of losses and LAE that had been incurred through the end of 1992. Thus an estimated $23,000 of losses incurred during 1992 remain unpaid as of the current financial statement date. The next portion of the table represents the aggregate change in the original reserve estimates over all subsequent years through December 31, 2002. For example, the 1992 liability has developed unfavorably by $31,000 over the ensuing ten years.
The policies corresponding to these claims were written on a direct basis. The Company has excess of loss reinsurance with company retention through 1980 of $100 and between $250 and $500 thereafter. The claims are reserved as follows as of December 31, 2002 and 2001:
Liquidity relates to the Company's ability to produce sufficient cash to fulfill its contractual obligations. In addition to payments for its routine and recurring operating expenses, the Company's principal contractual obligations include the payment of liabilities to its policyholders for unpaid losses, LAE and unearned premiums, the payment of dividends on its Adjustable Rate Cumulative Nonvoting Preferred Special Stock, and the future lease payments under its various operating leases. The Company's direct reserves for losses and LAE under the HDC Program have been reduced by estimated deductibles recoverable of $9,800. The Company is contingently liable for reserves for unpaid losses and LAE of the HDC Program, gross of the estimated deductibles recoverable, with the deductible recoverable representing an off balance-sheet credit risk to the Company. To mitigate these risks, the Company relies on the Court-Ordered Interim Agreement that clearly and specifically states that HDC is responsible for funding all claims of the large deductible program. Furthermore, the Court has required HDC to place funds totaling approximately $4,300 in a Court-restricted commercial checking account at an Arizona financial institution to serve as the funds from which losses of the HDC Program are to be paid--effectively collateralizing a significant portion of the Company's estimated ultimate off balance sheet credit risk for deductible recoverables. The Court has further required HDC to obtain an independent actuarial review of the HDC Program and to share the results of that review with the Company's actuary for the purpose of agreeing upon estimated ultimate losses and loss adjustment expenses of the HDC Program and for adjusting the balance of the Court-restricted commercial checking account. The appointed actuary for HDC has submitted a report that is the basis for the $4,300 deposit. The report is currently being reviewed by the Company's actuary. The Company currently believes that, should additional depository funding be ordered by the Court in response to actuarial findings, HDC will provide such funds. The Company is not party to, or contingently liable for, any other off balance sheet financing arrangements or guarantees of any related or unaffiliated third party debt.
Net cash provided by operations was $7,898 for the year ended December 31, 2002 on net income of $6,123 (see "Results of Operations"). Included in the net income for the year is a gain on sale of previously nonmarketable equity securities of $2,117 as well as a $632 gain on the redemption of the Company's combined ownership interest in QualSure Holding by QualSure Holding (see INVESTING ACTIVITIES below). In addition, the Company is the beneficiary of several key man life insurance policies
maintained on certain former directors or officers of the Company. Included in the net income for the year is a $294 gain on the settlement of one of these policies. Cash provided by the settlement amounted to $848.
On November 15, 2002, the Company received approval from both FEMA and the SCDOI and then announced that it had completed a transaction with The Hartford under which The Hartford acquired the right to renew or assume all of SCIC and Catawba's in-force NFIP business. The purchase price of the renewal rights was $3,800 in cash at closing, plus up to $1,000 to be paid on November 15, 2003, if certain retention thresholds on the book of business are achieved. Provisions of the underlying sales agreement, as approved by FEMA, provide that The Hartford administer and report the Company's business to the NFIP over the transition period that ends September 30, 2003. As a result of the Company's continuing involvement with the book of business during the transition period, the gain on the transaction of $3,499 (purchase price of $3,800 less expenses of sale of $301) has been deferred and will be recognized evenly over the transition period.
Effective July 1, 2002 SBC entered into an agreement with a Florida domiciled insurance company to serve as managing general agent for that company's low-value dwelling homeowners' insurance program in the state of Florida until such time as that program is runoff. SBC collected cash in the amount of $897 related to this program for the year ended December 31, 2002.
Significant uses of cash flows from operating activities include reductions in the liability for losses and LAE of $13,165 and the liability for unearned premiums of $6,306. The primary cause of these reductions is the continued runoff of the Company's environmental, workers compensation, Nashville
In September 2001, the Compensation Committee of the Company's Board of Directors recommended, and the Board of Directors approved, the adoption of an incentive compensation program covering certain members of management. The program was terminated by the Company's Board of Directors on October 31, 2002. Expenses under the program for the years ended December 31, 2002 and 2001 were $0 and $852, respectively.
Investing activities for the year ended December 31, 2002 used cash in the amount of $1,109. Cash expended for the purchase of fixed assets amounted to $655 as the Company upgraded certain obsolete computer equipment, installed a backup generator at its corporate headquarters, and made leasehold improvements to its corporate headquarters. In connection with the sale of the renewal rights to its NFIP business to The Hartford, the Company impaired certain data processing equipment and software used in that operation, resulting in a realized loss of $27. Cash expended in the net acquisition of investments amounted to $454 for the period primarily as a result of the Company's profitable operations.
Effective October 3, 2002, the Company's ownership interest in QualSure Holding with a carrying value of $4,143 was redeemed by QualSure Holding for $4,775. Under the terms of the underlying redemption agreement, INS continues to provide claim administration services to QualSure under an amended contract at a reduced rate for terms that expire from October 4, 2005 through January 21, 2010.
In its investment strategy, the Company attempts to match the average duration of its investment portfolio with the approximate duration of its liabilities. Total cash and investments at December 31, 2002 and December 31, 2001 was $49,639 and $45,874, respectively. All debt securities are considered available-for-sale and are carried at fair value as of December 31, 2002 and 2001. The weighted-average maturity of the fixed income investments as of December 31, 2002 and 2001 was approximately 2.14 and 2.17 years, respectively. The average net investment yield on the Company's investment portfolio was 4.6% and 5.2% for the years ended December 31, 2002 and 2001, respectively.
Financing activities for the year ended December 31, 2002 used cash in the amount of $2,741. On March 28, 2002, the Company issued 800,000 shares of Adjustable Rate Cumulative Nonvoting Preferred Special Stock to its majority shareholder, Chairman of the Board of Directors and Chief Executive Officer for an aggregate purchase price of $8,000. The proceeds from the transaction were used to repay the outstanding balance of the Credit Facility and for general corporate purposes. The
The Court has ordered HDC to retain an independent actuary to estimate the HDC program unpaid losses and LAE, subject to the deductible, as of December 31, 2002, and has ordered HDC to deposit funds in an equivalent amount in accounts collateralizing HDC's liabilities under the deductible program. The actuary retained by HDC has issued a report estimating HDC's liability for such deductibles at December 31, 2002 to be $4,300. HDC has deposited funds totaling $4,300 into a Court-restricted commercial checking account ($3,000 on January 29, 2003 and $1,300 on February 21, 2003. Pursuant to court order, the Company has retained an actuary to review the work of the actuary retained by HDC. The actuary retained by the Company has raised questions regarding aspects of the methodology used by the actuary retained by HDC. As of March 26, 2003, the Company has not received a response to those questions. The Company, in consultation with its consulting actuary, has estimated that HDC's liability for such deductibles as of December 31, 2002 may be as much as $9,800.
The Company has unused tax operating loss carryforwards and capital loss carryforwards of $92,198 for income tax purposes. However, due to "change in ownership" events that occurred in June 1998, January 1997, and January 1995, the Company's use of the net operating loss carryforwards are subject to maximum limitations in future years of approximately $2,205 per year. Net operating loss carryforwards available for use in 2003 are approximately $6,428 due to losses incurred after the June 1998 change in ownership event occurred and the carryover of previous years' unused limitations. The Company has determined, based on its recent earnings history, that a valuation allowance should be maintained against the deferred tax asset at December 31, 2002 and 2001.
We have audited the consolidated balance sheet of The Seibels Bruce Group, Inc. and subsidiaries (collectively the "Company") as of December 31, 2002, and the related consolidated statements of operations, changes in shareholders' equity and cash flows for the year then ended. These financial statements and the schedules referred to below are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audit. The Company's consolidated balance sheet as of December 31, 2001 and the related consolidated statements of operations, changes in shareholders' equity and cash flows for each of the two years in the period ended December 31, 2001, were audited by other auditors whose dual dated opinion of March 7 and March 28, 2002 expressed an unqualified opinion on those financial statements and also indicated that the schedules listed in Part IV, Item 15 are fairly stated in all material respects in relation to the December 31, 2001 financial statements taken as a whole.
We have audited the accompanying consolidated balance sheets of The Seibels Bruce Group, Inc. (the Parent Company--a South Carolina corporation) and subsidiaries (collectively the "Company") as of December 31, 2001 and 2000, and the related consolidated statements of operations, changes in shareholders' equity and cash flows for each of the three years in the period ended December 31, 2001. These financial statements and the schedules referred to below are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.
Our audits were made for the purpose of forming an opinion on the basic financial statements taken as a whole. The Schedules I, II, III, IV, V and VI listed in Part IV, Item 14 are presented for purposes of complying with the Securities and Exchange Commission's rules and are not part of the basic financial statements. These schedules have been subjected to the auditing procedures applied in the audits of the basic financial statements, and in our opinion, fairly state in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole.
Columbia, South Carolina, March 7, 2002, except for Note 17, as to which the date is March 28, 2002.
The Company's subsidiary, Insurance Network Services, Inc. ("INS"), provides a variety of claims-related management and adjudication services to the insurance industry, including all-lines claims administration, networked glass claims administration and catastrophe claims services. Approximately 13.6%, 10.8% and 9.6% of the Company's commission and service income for the years ended December 31, 2002, 2001 and 2000, respectively, was earned from INS' largest customer, QualSure Insurance Corporation (see Note 2).
NOTE 1 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) In this capacity, each company is responsible for all aspects of policy administration over the term of the policies, including underwriting, processing and statistical reporting, subject to administration guidelines of the NC Facility. The companies are also responsible for all aspects of claims administration associated with claims reported under the business they produce. SCIC and UIC receive commission and service income from the NC Facility for these policy and claims administration services, but retain no underwriting risk on any of the business produced because all of the premiums and associated losses are fully ceded to the NC Facility. While UIC currently cedes substantially all of its motor vehicle liability premiums to the NC Facility, SCIC's NC Facility operations have been in runoff since the third quarter of 2000. Approximately 18.5%, 20.2% and 20.8% of the Company's commission and service income for the years ended December 31, 2002, 2001 and 2000, respectively, was earned through the NC Facility.
The Company's subsidiary, America's Flood Services, Inc. ("AFS") offers flood zone determinations and flood zone mapping services to customers located throughout the United States. These services are provided primarily to real estate lenders to determine whether or not homes are located in flood zones and, therefore, require flood insurance for loan closing. As a complementary product, AFS also offers flood insurance as an agent through servicing carriers of the NFIP. The operations of AFS are not dependent upon any single customer or class of customers.
The Company's risk-bearing property and casualty insurance operations include the following:
The Company's North Carolina domiciled insurance subsidiary, UIC, provides nonstandard automobile insurance coverage to insureds located primarily in the state of North Carolina. In this capacity, UIC retains the risk of loss for the physical damage coverage components of the policy and cedes substantially all of the liability coverage components of the policy to the NC Facility as discussed above.
Through its nonowners automobile program, Catawba provides supplemental automobile insurance coverage policies in South Carolina to employee drivers of company owned, operated and insured vehicles (see ORDER IMPOSING ADMINISTRATIVE SUPERVISION AND APPOINTING SUPERVISOR).
SCIC, Catawba and UIC offer various commercial lines insurance products to its insureds, including commercial automobile, commercial package, business owners policies and garage liability policies. This business is marketed primarily to small businesses in the states of South Carolina, North Carolina, Tennessee, Georgia and Kentucky (see ORDER IMPOSING ADMINISTRATIVE SUPERVISION AND APPOINTING SUPERVISOR).
On August 21, 2002, the South Carolina Department of Insurance (the "SCDOI") issued an Order Imposing Administrative Supervision and Appointing Supervisor (the "Order") that placed SCIC, Catawba and CAIC under administrative supervision for at least six months as a result of the disputes associated with the workers' compensation program of SCIC and CAIC (see HDC WORKERS' COMPENSATION PROGRAM and Note 14). Provisions of the Order provided for SCIC, Catawba and CAIC to immediately cease writing risk-bearing business and for SCIC and CAIC to immediately cease renewal of existing risk-bearing business. On August 23, 2002, SCIC and Catawba submitted to the
NOTE 1 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) SCDOI a request to permit Catawba (1) to continue to write its existing risk-bearing business (the nonowners automobile program) and (2) to renew, in all states in which Catawba is also licensed, the risk-bearing commercial lines business previously written through SCIC. On September 4, 2002, the SCDOI notified Catawba that this request had been approved (the "Approval"). The Approval permits Catawba to continue to write new and renewal premiums in its risk-bearing automobile business and allows it to renew the risk-bearing commercial lines business previously written through SCIC in the states of South Carolina, Georgia and Tennessee. A subsequent request of, and approval from, the SCDOI and the Georgia Department of Insurance permits Catawba to also write new commercial lines business in South Carolina and Georgia. On September 12, 2002, SCIC and UIC submitted to the NCDOI a request to permit UIC to renew the risk-bearing commercial lines business previously written through SCIC in the state of North Carolina. This request was granted on November 25, 2002 and UIC subsequently began renewing the North Carolina commercial lines business of SCIC. The only other state in which SCIC wrote risk-bearing commercial lines business is Kentucky. Catawba's application to the Kentucky Department of Insurance to write this business was withdrawn and this business is being runoff.
On September 12, 2002, the Company announced that it had received notice from the Federal Emergency Management Agency ("FEMA") that FEMA did not intend to offer SCIC and Catawba a Financial Assistance/Subsidy Arrangement with the Federal Insurance and Mitigation Administration for the fiscal year beginning October 1, 2002, effectively terminating their participation in the NFIP. The Company obtained an extension of the existing arrangement for renewal business only through December 31, 2002, at which time the inforce policies were to be transitioned to the NFIP, or to another carrier in the NFIP, and the Company's servicing carrier status would be terminated. On November 15, 2002, the Company received approval from both FEMA and the SCDOI and then announced that it had completed a transaction with The Hartford under which The Hartford acquired the right to renew or assume all of SCIC and Catawba's in-force NFIP business. The purchase price of the renewal rights was $3,800 in cash at closing, plus up to $1,000 to be paid on November 15, 2003, if certain retention thresholds on the book of business are achieved. Provisions of the underlying sales agreement, as approved by the SCDOI and FEMA, provide that The Hartford administer and report the Company's business to the NFIP over the transition period that ends September 30, 2003. As a result of the Company's continuing involvement with the book of business during the transition period, the gain on the transaction of $3,499 (purchase price of $3,800 less expenses of sale of $301) has been deferred and will be recognized evenly over the transition period. Included in the Other Income line item of the accompanying Statements of Operations for the year ended December 31, 2002 is $350 of amortized gain associated with the Company's transaction with The Hartford. It is uncertain whether the Company will meet the retention thresholds to qualify for the additional $1,000. Any such additional amounts will only be reflected in revenue if and when the retention thresholds and related requirements are achieved.
Investments in debt securities and marketable equity securities are classified as either held-to-maturity, available for sale or trading. All of the Company's debt securities are classified as available-for-sale and are reported at estimated fair value. Changes in fair value are reflected as unrealized investment gains and losses, net of tax, and are credited or charged directly to accumulated other comprehensive income included in shareholders' equity. The Company owned no marketable equity securities at December 31, 2002 or 2001.
Investments in equity securities exceeding 20% of the equity of the investee company, but short of the ownership required for consolidation, are accounted for using the equity method. Under the equity method, the Company's equity in the undistributed earnings of the unconsolidated affiliates is included in current earnings and the Company's equity in the unrealized gains and losses of the unconsolidated affiliates is credited or charged directly to accumulated other comprehensive income included in shareholders' equity. From the acquisition date of its equity method investees through December 31, 2000, 2001 and 2002, the Company has recorded equity in the undistributed net earnings of the investees amounting to $577, $92 and $20.
When, in the opinion of management, a decline in the estimated fair value of an investment is considered to be "other than temporary", the investment is written down to its estimated fair value. The determination of an "other than temporary" decline in estimated fair value includes, in addition to other relevant factors, a presumption that if the estimated fair value is significantly below cost for an extended period of time, a write down is necessary. Any such write downs are reported as net realized losses on investments. No write downs for other than temporary impairment were recorded for the years ended December 31, 2002, 2001 and 2000.
NOTE 1 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) PREMIUM NOTES RECEIVABLE
PBP has historically offered premium financing arrangements to the insureds of UIC. Under these arrangements, UIC received full payment of its premiums receivable from PBP who, in turn, collected a down payment from the insureds and financed the remaining premium balance over a six month term. PBP received interest income from insureds on premiums it financed, as well as a variety of set-up and maintenance fees associated with the related premium finance contracts. Beginning in December 2001, UIC initiated an installment billing program for its insureds as an alternative to PBP's premium financing arrangements and PBP began runoff. At December 31, 2002 the runoff of PBP was substantially complete.
NOTE 1 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) they are subject to impairment tests that are required to be performed on at least an annual basis. At December 31, 2002 and 2001, the Company had unamortized goodwill totaling $4,513 associated with its November 1997 and March 1998 purchases of The Innovative Company (former 100% owner of UIC and PBP) and AFS, respectively. Annual amortization of goodwill, which ceased to be recorded effective January 1, 2002 upon the adoption of SFAS No. 142, was $125. Had the Company not incurred amortization expenses associated with its goodwill during 2001 and 2000, its basic and diluted earnings per share would have been $0.55 and $(1.94), respectively. The Company determined that there was no impairment to either component of the goodwill as a result of adopting SFAS No. 142.
(4) The deduction of estimated amounts recoverable from salvage, subrogation, and second injury funds.
The Company uses the asset and liability method of accounting for income taxes. Under the asset and liability method, deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. This method also requires the recognition of future tax benefits such as net operating loss carryforwards to the extent that realization of such benefits is more likely than not. Deferred tax assets and liabilities are measured using enacted tax rates expected
Commission and service income is predominately derived from servicing carrier, managing general agent, claims processing activities and flood zone determination and mapping services. The commission income related to producing and underwriting the business is recognized in the period in which the business is written. Service income is earned over the period in which the related services are performed. Included in other liabilities and deferred items as of December 31, 2002 and 2001 is $1,046 and $368, respectively, of deferred revenue for services to be performed in the future.
Effective January 1, 2002, the Company, through SCIC and CAIC, issued two workers' compensation insurance master policies to Human Dynamics Corporation ("HDC") and included as named insureds Infinet Holdings, Inc. and HDC Financial Services Corporation (collectively, the "HDC Group") (the "HDC Program"). Certain significant matters related to these policies have been litigated and mediated (see Note 14). Pursuant to proceedings of the Arizona Superior Court, it was ordered that the HDC Program is to function as a large deductible workers' compensation program with HDC being responsible for all losses and LAE of the HDC Program up to $1,000 per occurrence (the "deductible"). Coverage for losses and LAE in excess of the deductible is provided by the Company, subject to its reinsurance for losses and LAE of $15,000 in excess of $5,000 per occurrence. As a large deductible workers' compensation program, estimated reserves for losses and LAE for claims arising under the HDC Program have been established by the Company net of the deductible that HDC is required to pay under order of the Court.
During 2001, the Compensation Committee of the Company's Board of Directors recommended, and the Board of Directors approved, the adoption of an incentive compensation program covering certain members of management. Awards under the plan were payable each March and were based upon the Company's performance during the prior year ended December 31. The provisions of the plan required recipients to achieve a designated market value based ownership level in the Company to be eligible to participate in the plan. The Company had accrued $852 for its obligations under the plan at December 31, 2001 and paid these obligations in March 2002. On October 3, 2002, the Plan was terminated by the Company's Board of Directors.
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 disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
NOTE 2 INVESTMENTS (CONTINUED) Actual maturities of debt securities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without penalties. The amortized cost and estimated fair value of debt securities at December 31, 2002, by contractual maturity, are as follows:
At December 31, 2001, the Company's equity securities included its investments in Sunshine State Holding Corporation ("Sunshine") and QualSure Holding Corporation ("QualSure"). As each of these investments exceeds 20% of the equity of each respective company, the Company follows the equity method of accounting for these investments. During 1997, the Company invested $854 in Sunshine for an ownership interest of 21.49%. Sunshine owns 100% of the issued and outstanding stock of Sunshine State Insurance Company, a Florida-based writer of homeowners insurance. Effective January 21, 2000, three of the Company's insurance subsidiaries collectively acquired a 30.625% equity ownership interest in QualSure for $4,900. QualSure is the holding company parent of QualSure Insurance Corporation, a homeowners take-out insurance company domiciled in the State of Florida. Effective October 3, 2002, the Company's ownership interest in QualSure with a carrying value of $4,143 was redeemed by QualSure for $4,775.
The Company's net realized gain (loss) and the change in its net unrealized gain (loss) on investments are summarized as follows:
The Company's share of the net unrealized gain on the debt securities of Sunshine was $19 at December 31, 2002 and the Company's share of the net unrealized gain on the debt securities of Sunshine and QualSure was $103 and $(37) at December 31, 2001 and 2000, respectively.
In December 2000, the Company sold its corporate headquarters with a net book value of $2,589 to its majority shareholder, Chairman of the Board of Directors and Chief Executive Officer for $4,500, resulting in a gain of $1,892. Expenses incurred in connection with the sale were $19. Concurrent with this transaction, the Company leased the property back for a fixed period of three years without an option for renewal. The gain resulting from this transaction has been deferred and is being amortized into income evenly over the term of the leaseback. Included in the Other Income line item of the accompanying Statements of Operations for the years ended December 31, 2002 and 2001 is $631 of amortized gain associated with this transaction.
NOTE 5 REINSURANCE (CONTINUED) A significant portion of the Company's direct business is ceded to the SC Facility, the NC Facility and the NFIP. Therefore, the Company retains no risk of loss related to this business. Each of these programs is guaranteed by the applicable state or the Federal government. In the event that premiums charged for the business are not sufficient to cover the individual program's liabilities, the applicable state or the Federal government has the ability to increase premium rates, assess member companies and charge premium surcharges to the insureds. The Company is subject to periodic examination by the state or the Federal government to ensure its compliance with the guidelines of the servicing carrier operation.
Reinsurance contracts do not relieve the Company of its obligations to 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 concentrations of credit risk arising from similar geographic regions, activities, or economic characteristics of the reinsurer to minimize its exposure to significant losses from reinsurer insolvency. Amounts due from reinsurance companies for prepaid reinsurance premiums, unpaid losses and LAE, and paid losses and LAE are as follows:
Direct losses and LAE incurred have been reduced by recoveries made and estimated to be made from reinsurers based on projected ultimate losses. Such amounts also include substantial amounts related to the business produced as a servicing carrier for the SC Facility, the NC Facility and the NFIP.
The ceded reinsurance recoverable on unpaid losses and LAE, classified as an asset, includes $23,473, $31,369 and $37,318 at December 31, 2002, 2001 and 2000, respectively of balances recoverable from the SC Facility, the NC Facility and the NFIP.
NOTE 6 PROPERTY AND CASUALTY UNPAID LOSSES AND LAE (CONTINUED) 2001, additional environmental reserves for prior accident years were recorded during 2002 as a result of the Company receiving notification that it would be required to assume a proportionally larger share of liability for claims shared with the insolvent Reliance Insurance Company. Furthermore, the Company experienced a sharp increase in the trend of new claims associated with its runoff environmental and general liability business during 2002. The LAE incurred in connection with defending the Company, as well as the strengthening of LAE reserves as a result of the change in trends, resulted in additional adverse development.
A part of the Company's reserve for losses and LAE is for environmental, pollution, and toxic tort claims. These claims relate to business written by the Company's previously owned West Coast operation prior to 1986. On June 7, 1994, the Company settled a dispute related to approximately 400 of these claims. Any future liability on these claims is limited to 50% of the direct loss and LAE paid. The Company's obligation does not begin until the other company involved in the settled dispute pays, subsequent to the settlement date, a total of $20,000 in losses and LAE. Current third party actuarial estimates indicate that the other company involved in the settled dispute will not reach the threshold at which the Company must begin sharing the liability.
The policies corresponding to these claims were written on a direct basis. The Company has excess of loss reinsurance with company retention through 1980 of $100 and between $250 and $500 thereafter. The claims are reserved as follows as of December 31:
In estimating the liability for reported and estimated losses and LAE related to environmental and construction defect claims, management considers facts currently known along with current laws and coverage litigation. Liabilities are recognized for known claims (including the cost of related litigation)
NOTE 6 PROPERTY AND CASUALTY UNPAID LOSSES AND LAE (CONTINUED) when sufficient information has been developed to indicate the involvement of a specific insurance policy and management can reasonably estimate its liability. In exposures on both known and unasserted claims, estimates of the liabilities are reviewed and updated continually. The potential development of losses is restricted by policy limits.
The (benefit) provision for income taxes on income from operations consists of current income taxes resulting from the effects of alternative minimum tax. The change in deferred amounts has been offset by the valuation allowance.
NOTE 8 INCOME TAXES (CONTINUED) Deferred tax liabilities and assets at December 31, 2002 and 2001 are comprised of the following:
The Company has determined, based on its recent earnings history, that a valuation allowance should be maintained against the deferred tax asset at December 31, 2002 and 2001.
On March 31, 1998, the Company issued 50,000 shares of Cumulative, Convertible, Redeemable, Nonvoting Special Preferred Stock ("AFS Special Stock") in connection with its acquisition of AFS. The Company determined the value of the AFS Special Stock at the issuance date to be $500. The AFS Special Stock paid quarterly dividends at an annual rate of $0.625 per share. The Company paid $20, $31 and $31 in special stock dividends for the years ended December 31, 2002, 2001 and 2000, respectively. On August 15, 2002, the Company redeemed the AFS Special Stock at a price of $10.00 per share.
The following table shows the computation of the Company's income (loss) per share:
Options and warrants to purchase shares of common stock that were outstanding during the year but not included in the computation of diluted EPS because their effect would be antidilutive is summarized as follows:
UIC is regulated by the NCDOI. The North Carolina Insurance Holding Company System Regulatory Act allows payment of non-extraordinary dividends without prior approval of the Commissioner of the NCDOI provided that, in the Commissioner's judgment, the dividends do not impair the financial soundness of the company or are not detrimental to its policyholders. Extraordinary dividends are defined as dividends within a 12-month period that exceed the lesser of (i) 10% of an insurer's surplus as regards policyholders as of the preceding December 31, or (ii) net income, not including realized capital gains, for the 12-month period ending the preceding December 31. In determining whether a dividend or distribution is extraordinary, an insurer other than a life insurer may carry forward net income from the previous two calendar years that has not already been paid out as dividends. Extraordinary dividends must be approved by the Commissioner of the NCDOI prior to payment.
The Company's insurance subsidiaries' assets, liabilities and results of operations have been reported in these consolidated financial statements in accordance with GAAP, which varies from statutory accounting practices ("SAP") prescribed or permitted by insurance regulatory authorities. Prescribed statutory accounting practices are found in a variety of publications of the National Association of Insurance Commissioners ("NAIC"), state laws and regulations, as well as through general practices. The principal differences between SAP and GAAP are that under SAP: (1) certain assets that are not admitted assets are eliminated from the balance sheet, (2) acquisition costs for policies are expensed as incurred, while they may be deferred and amortized over the estimated life of the policies under GAAP, (3) deferred tax assets calculated for statutory purposes are subject to an admissibility test and (4) the gains on the sale-leaseback of property and the sale of the renewal rights to the Company's NFIP business are not deferred. Each of the Company's insurance subsidiaries must file with applicable state insurance regulatory authorities an "Annual Statement" which reports, among other items, net income (loss) and shareholders' equity (called "surplus as regards policyholders" in statutory reporting).
Effective January 1, 2001, both the North Carolina and South Carolina Departments of Insurance adopted the Codification of Statutory Accounting Principles ("Codification") as the prescribed basis of accounting for insurance companies domiciled in their respective states. Accordingly, all of the Company's statutory subsidiaries adopted Codification effective January 1, 2001. Adoption of Codification did not have a material effect on the financial statements of any of the Company's statutory subsidiaries.
NOTE 11 DIVIDEND RESTRICTIONS AND STATUTORY REPORTING (CONTINUED) the RAD, UIC is required to submit monthly financial statements to the NCDOI. On August 21, 2002, the SCDOI issued an Order Imposing Administrative Supervision and Appointing Supervisor that placed SCIC, Catawba and CAIC under administrative supervision (see Note 1).
The Employee Plan became effective on November 1, 1995. The Employee Plan has reserved 2,500,000 shares of the Company's common stock for issuance under the plan as options and incentive stock to employees and consultants of the Company. Activity in the Employee Plan is summarized as follows:
Options vest at the discretion of the Compensation Committee of the Company's Board of Directors. All grants made under the Employee Plan have exercise prices no lower than the market price at the date of grant. At December 31, 2002, 1,933,968 shares of the Company's common stock have been reserved for future grants. Following is a summary of options outstanding and exercisable by price range as of December 31, 2002:
NOTE 12 BENEFIT AND STOCK OPTION PLANS (CONTINUED) Under the Directors Plan, all non-employee directors holding office on June 15 of each year are granted 1,250 fully vested options to purchase the Company's common stock. All grants made under the Directors Plan have exercise prices no lower than the market price at the date of grant. Options granted during 2002, 2001 and 2000 were granted at exercise prices of $2.50, $2.55 and $1.09, respectively. At December 31, 2002, 182,500 shares of the Company's common stock have been reserved for future grants. Following is a summary of options outstanding and exercisable by price range as of December 31, 2002:
The Company has adopted the disclosure-only provisions of SFAS No. 123, "Accounting for Stock-Based Compensation." Accordingly, no compensation cost has been recognized for its three stock option plans. Had compensation costs for the Company's stock option plans been determined based on the fair value at the grant date for awards in 2002, 2001 and 2000 consistent with the provisions of SFAS No. 123, the Company's net income (loss) and income (loss) per share would have been as follows:
During the year ended December 31, 2001, the Company issued warrants to purchase 75,000 shares of its common stock at a price of $2.00 per share and an additional 75,000 shares of its common stock at a price of $1.00 per share in connection with the settlement of liabilities assumed in an acquisition. The warrants expire February 19, 2006.
In connection with the elimination of certain debt and the settlement of certain litigation during the year ended December 31, 2000, the Company issued warrants to purchase 25,000 shares of its common stock at a price of $3.00 per share and an additional 25,000 shares of its common stock at a price of $7.00 per share. The warrants expire upon the death of the holder.
During the year ended December 31, 1998, the Company issued warrants to purchase 57,971 shares of its common stock to the holder of its Credit Facility that was repaid on March 28, 2002 (see Note 7). The warrants currently allow for the purchase of the Company's stock at a price of $2.00 per share and expire September 30, 2004.
While the majority of revenues and expenses are captured directly by each reportable segment, the Company does have shared income and expenses. Shared income comprised approximately 67%, 35% and 35% of "all other income" in fiscal 2002, 2001 and 2000, respectively. The gain on the sale of investment in the common stock of ISO accounted for 26% of shared "all other income" for fiscal
(b) A contingent liability exists with respect to reinsurance placed with other companies (See Note 5).
(d) Litigation was initiated in the United States District Court for the Middle District of Florida, Tampa Division in November 2001 by QualSure, a Florida property and casualty insurance holding company that was formerly known as Magna Holding Corporation, and involves three of the Company's wholly-owned subsidiaries--SCIC, Catawba, and CAIC, who were the three defendants to the litigation and who collectively owned 30.625% of the stock of QualSure until October 3, 2002. Effective October 3, 2002, the ownership interest in QualSure held by SCIC, Catawba and CAIC was redeemed by QualSure. A condition of the redemption was that the litigation would be dismissed with prejudice. On October 17, 2002, the litigation was dismissed with prejudice.
NOTE 14 COMMITMENTS AND CONTINGENCIES (CONTINUED) received facsimile advertisements in violation of the federal Telephone Consumer Protection Act (TCPA). The plaintiffs seek statutory minimum damages of five hundred dollars per fax, plus additional damages of up to one thousand five hundred dollars per fax for allegedly knowingly violating the TCPA. AFS has filed a third-party claim against DeBroux Marketing Co. ("DeBroux") for fraud and indemnity stemming from DeBroux's transmission of the faxes at issue. Settlement discussions are ongoing, but the Company does not believe final resolution of the litigation will have a material impact on its financial statements.
In subsequent Court proceedings it was ordered that the HDC Program is to function as a large deductible workers' compensation program with HDC being responsible for all losses and LAE of the program up to $1,000 per occurrence (the "deductible"). Coverage for losses and LAE in excess of the deductible is provided by the Company, subject to its reinsurance for losses and LAE of $15,000 in excess of $5,000 per occurrence (see item (c) above).
With respect to punitive damages claimed by HDC, the Company intends to vigorously defend this matter and is considering filing a counterclaim. The ultimate outcome of this litigation cannot be reasonably determined at this time.
On December 21, 2000, the Company sold its corporate headquarters to its majority shareholder, Chairman of the Board of Directors and Chief Executive Officer. Concurrent with this transaction, the Company leased the property back for a fixed period of three years without an option for renewal. Lease expense incurred under this related party lease amounted to $290 and $458 in 2002 and 2001, respectively.
The following is a summary of unaudited quarterly information for the years ended December 31, 2002 and 2001:
Commission and service income showed a marked decrease in the fourth quarter of 2002 primarily as a result of the sale of the renewal rights to the Company's NFIP business to The Hartford. On September 12, 2002, the Company announced that it had received notice from FEMA that FEMA did not intend to offer SCIC and Catawba a Financial Assistance/Subsidy Arrangement with the Federal Insurance and Mitigation Administration for the fiscal year beginning October 1, 2002, effectively terminating their participation in the NFIP. On November 15, 2002, the Company announced completion of the transaction with The Hartford. Further negatively impacting overall commission and service income during 2002 was that reported by AFS. One of AFS' product offerings is a "life of loan" flood zone determination whereby AFS agrees to update the zoning status of the subject property throughout the life of the original underlying loan. AFS has deferred approximately $500 of commission and service income at December 31, 2002 associated with this product and will amortize it into income over the estimated life of the original underlying loans. Finally, commission and service income was negatively impacted during 2002 as a result of the pricing and other competitive initiatives effected by certain of UIC's competitors and the continued runoff of the SC Facility. UIC generally does not engage in pricing competitions with its competitors. Rather, UIC relies on its superior customer service, long standing agency relationships and proven commitment to the North Carolina marketplace to maintain or grow its premium volume. The SC Facility has been in runoff since March 1, 1999 but began its final stage of runoff effective March 1, 2002.
ordered that the HDC Program was to function as a large deductible workers' compensation program with HDC being responsible for all losses and LAE of the program up to $1,000 per occurrence (the "deductible"). The impact of this ruling is significant to the accounting treatment of the program because the premium equivalents for a large deductible program do not include amounts related to the deductible, as this risk is borne by the policyholder. Accordingly, during the fourth quarter of 2002, the Company recorded the changes to reflect the HDC Program cumulatively in 2002 as a large deductible program in accordance with the order of the Court.
Following is a comparison of the HDC Program for the quarter and nine months ended September 30, 2002 as reported (accounted for as a fronting type arrangement) and proforma disclosure of the HDC Program for the same period as if it had been accounted for as a large deductible program. The following table also includes a comparison to the actual amounts recorded with respect to this large deductible program year to date December 31, 2002:
The trend of net investment income during 2002 is directly related to the general level of market interest rates and the relative mix and duration of the Company's investment portfolio. In the fourth quarter of 2002, the Company received cash of $8,575 related to the sale of QualSure Holding and the renewal rights to its NFIP business. However, substantially all of these proceeds remained invested in lower yielding short duration cash equivalents at December 31, 2002.
The gradually decreasing balances of other interest income is a direct result of the runoff of the Company's North Carolina premium finance operation, PBP. Beginning in December 2001 no additional premiums were financed through PBP and its reported other interest income was, therefore, that received on the runoff of already financed premiums.
The fourth quarter increase in other income is primarily related to policy fees earned through SBC's managing general agent operation and amortization of the deferred gain on the sale of the renewal rights to the Company's NFIP business. Effective July 1, 2002, SBC entered into an agreement with a Florida domiciled insurance company to serve as managing general agent for that company's low-value dwelling homeowners' insurance program in the state of Florida until such time as that program is runoff. Therefore, the Company does not expect to recognize significant revenue related to the agreement after December 31, 2002. In its capacity as managing general agent SBC earned policy fees of $17 during the fourth quarter of 2002. On November 15, 2002, the Company announced that it had sold the right to renew or assume all of SCIC and Catawba's in-force NFIP business to The Hartford for $3,800 in cash at closing, plus up to $1,000 to be paid on November 15, 2003, if certain retention thresholds on the book of business are achieved. Provisions of the underlying sales agreement, as approved by FEMA, provide that The Hartford administer and report the Company's business to the NFIP over the transition period that ends September 30, 2003. As a result of the Company's continuing involvement with the book of business during the transition period, the gain on the transaction of $3,499 (purchase price of $3,800 less expenses of sale of $301) has been deferred and will be recognized evenly over the transition period. Included in other income for the fourth quarter of 2002 is $350 of amortized gain.
Commission and service income showed an overall modest increase over 2000. While the Company endured continuing decreases in its commission and service income related to the SC Facility, it also experienced significant premium growth in its NFIP operations. The SC Facility began its planned runoff effective March 1, 1999, at which time no new business was accepted into the SC Facility. Effective October 1, 1999, voluntary renewals were no longer accepted by the SC Facility. However, servicing carriers were able to cede renewals to the SC Facility until March 1, 2002, at which time final runoff of the SC Facility commenced. Commission and service income attributable to the Company's NFIP operations increased 14.8% for the year ended December 31, 2001 as compared to the same period of 2000. The increase is primarily due to obtaining several large books of flood business from independent insurance agents across the United States that was facilitated by the introduction of new
technology. During the second and third quarters of 2001, overall commission and service income exhibited modest increases primarily due to normal cyclical fluctuations of the Company's underwriting operations for the NFIP. However, as there was very little hurricane-related claims activity for the 2001 season, commission and service income related to the NFIP decreased sharply in the fourth quarter of 2001.
Other interest income experienced widely fluctuating results throughout 2001 as a result of the Company's mandatory participation in the numerous residual market pools and associations of the 46 states in which the Company's insurance subsidiaries are licensed. The Company's participation in each of these pools and associations is calculated by and communicated to the Company on a quarterly basis by a centralized statistical processing agency. Similar to the unusual fourth quarter fluctuation of other interest income in 2000, the second and third quarter fluctuations in 2001 are directly related to the time value of money consideration on recoupment premiums the Company writes for the SC Facility. The tendency for large fluctuations in this activity is heightened as the SC Facility is nearing the end stages of runoff. Excluding the effects of the mandatory residual market pools and associations, other interest income is substantially comprised of interest income on premium notes receivable earned by the Company's premium finance subsidiary, PBP. For a variety of reasons, including PBP's continuing operating losses and reassessments of the Company's strategic direction, PBP was placed into runoff in mid December 2001. Other interest income earned by PBP for the first through fourth quarters of 2001 was $266, $251, $348 and $266, respectively.
A substantial source of other income for the Company has historically been its Nashville and PBP operations. Other income showed substantial overall quarterly reductions in 2001 as compared to the quarterly results of 2000. This is largely attributable to the net effect of several factors. First, at the beginning of the third quarter of 2000, the Nashville operations were discontinued. During 2001, premium activity related to the Nashville operations, upon which its policy fees are based, was insignificant. Second, as a result of PBP's operating losses and reassessments of its core competencies, the Company entered into a management contract with an unaffiliated company effective June 1, 2001 to manage the operations of PBP. As such, policy setup and the related fee income previously retained by PBP became the responsibility of the vendor. Third, the Company holds equity investments in two unconsolidated affiliates. As each of the investments exceeds 20% of the equity of each respective
In June 2000, the Company's Board of Directors approved and the Company announced the Restructuring Plan centering on the discontinuation of its Nashville operations. The Restructuring Plan was completed by September 30, 2001, and included a final downward adjustment to the original estimated cost of $156.