In our opinion, the consolidated financial statements listed in the accompanying index present fairly, in all material respects, the financial position of United America Indemnity, Ltd. and its subsidiaries at December 31, 2008 and 2007, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2008 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedules listed in the accompanying index present fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for these financial statements and financial statement schedules, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in “Management’s Report on Internal Control over Financial Reporting” appearing under Item 9A. Our responsibility is to express opinions on these financial statements, on the financial statement schedules, and on the Company’s internal control over financial reporting based on our integrated audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
In 2008, “Diluted” loss per share is the same as “Basic” loss per share since there was a net loss for the year ended December 31, 2008.
The Company offers property and casualty insurance products in the excess and surplus lines marketplace and provides third party facultative reinsurance for writers of excess and surplus and specialty lines of property and casualty insurance. The Company manages its operations by differentiating them into three product classifications: Penn-America, which markets to small commercial businesses through a select network of wholesale general agents with specific binding authority; United National, which markets insurance products for targeted insured segments, including specialty products, such as property, general liability, and professional lines through program administrators with specific binding authority; and Diamond State, which markets property, casualty, and professional lines products, which are developed by the Company’s underwriting department by individuals with expertise in those lines of business, through wholesale brokers and also markets through program administrators having specific binding authority. Collectively, the Company’s U.S. insurance subsidiaries are licensed in all 50 states and the District of Columbia.
The Company’s investments in bonds, preferred stock, and common stock are classified as available for sale and are carried at their fair value. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The fair values of
The Company regularly performs various analytical valuation procedures with respect to its investments, including identifying any security where the fair value is below its cost. Upon identification of such securities, a detailed review is performed to determine whether the decline is considered other than temporary. This review includes an analysis of several factors, including but not limited to, the credit ratings and cash flows of the securities, and the magnitude and length of time that the fair value of such securities is below cost.
For an analysis of other than temporary losses that were recorded for the years ended December 31, 2008, 2007, and 2006, please see Note 4 below.
At December 31, 2008, the Company had approximately $12.1 million of cash and cash equivalents that was 100% invested in U.S. Treasuries and approximately $254.7 million of cash and cash equivalents that was invested in a diversified portfolio of high quality short-term debt securities that includes U.S. Treasuries.
On January 24, 2005, the Company recorded $102.0 million and $32.5 million of goodwill and intangible assets, respectively, as a result of the acquisition of Penn Independent Corporation and the merger with Penn-America Group, Inc. Goodwill of $17.0 million and intangible assets of $5.8 million from the Company’s Agency Operations were netted against the gain on the sale of substantially all of the assets of the Company’s Agency Operations on September 30, 2006. These amounts represented the net book values of goodwill and intangible assets of Agency Operations as of the date of the sale. See Note 3 for details about this sale.
In accordance with SFAS No. 142, “Goodwill and Other Intangible Assets” (“SFAS 142”), the Company is required to perform a test for impairment of goodwill and other definite and indefinite lived assets at least annually, and more frequently as circumstances warrant. The Company’s annual impairment review of goodwill is performed at December 31. Impairment of goodwill is recognized if the fair value of the reporting unit giving rise to the goodwill is less than its carrying amount. See Note 6 for details concerning the results of the Company’s 2008 impairment testing.
In accordance with SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity,” which establishes standards for classifying and measuring certain financial instruments with characteristics of both liabilities and equity, the Company’s junior subordinated debentures are classified as a liability on the balance sheets and the related distributions are recorded as interest expense in the Statements of Operations.
Certain professional general agencies of the Insurance Operations are paid special incentives when loss results of business produced by these agencies are more favorable than predetermined thresholds. These costs are charged to other underwriting expenses when incurred.
The Company accounts for stock options and other equity based compensation using the modified prospective application of the fair value-based method permitted by SFAS No. 123R, “Share-Based Payment” (“SFAS 123R”), which revised SFAS 123 “Accounting for Share-Based Compensation.” The Company adopted SFAS 123R effective January 1, 2006. See Note 14 for details.
On September 30, 2006, the Company sold to Brown & Brown, Inc., an unrelated third party, substantially all of the assets of its Agency Operations. The gain on the sale was $9.4 million, net of applicable taxes of $4.5 million. As part of the sale agreement, 10% of the cash payment was originally held in escrow for a period of up to two years to cover indemnification obligations under the asset purchase agreement. All of that amount has been released as of December 31, 2008. As a result of this sale, the Company has terminated its Agency Operations segment and has classified the results of this segment, including the gain on the sale, as discontinued operations for 2008, 2007, and 2006.
The Company did not hold any debt or equity investments in a single issuer that was in excess of 10% of shareholders’ equity at December 31, 2008 or 2007.
The following table contains an analysis of the Company’s securities with gross unrealized losses, categorized by the period that the securities were in a continuous loss position as of December 31, 2008:
Subject to the risks and uncertainties in evaluating the potential impairment of a security’s value, the impairment evaluation conducted by the Company as of December 31, 2008, concluded the unrealized losses
discussed above are not other than temporary impairments. The impairment evaluation process is discussed in the “Investment” section of Note 2 (“Summary of Significant Accounting Policies”).
The Company recorded the following other than temporary impairments on its investment portfolio for the years ended December 31, 2008, 2007, and 2006:
As of December 31, 2008, the Company held insurance enhanced municipal bonds of approximately $151.2 million, which represented approximately 9.5% of the Company’s total invested assets. These securities had an average rating of “AA.” Approximately $54.0 million of these bonds are pre-refunded with U.S. treasury securities, meaning that funds have been set aside in escrow to satisfy the future interest and principal obligations of the bond. Of the remaining $97.2 million of insurance enhanced municipal bonds, $33.1 million would have carried a lower credit rating had they not been insured. The following table provides a breakdown of the ratings for these municipal bonds with and without insurance.
As of December 31, 2008, the Company also held unrated insurance enhanced asset-backed securities with a market value of approximately $3.0 million, which represented approximately 0.2% of the Company’s total invested assets. The financial guarantors of the Company’s $3.0 million of insurance enhanced asset-backed securities include Financial Guaranty Insurance Company ($1.4 million) and the Municipal Bond Insurance Association ($1.6 million).
The Company had no direct investments in the entities that have provided financial guarantees or other credit support to any security held by the Company at December 31, 2008.
The amortized cost and estimated fair value of bonds classified as available for sale at December 31, 2008, by contractual maturity, are shown below. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Proceeds from the sales of equity securities classified as available-for-sale resulting in net realized investment gains (losses) for the years ended December 31, 2008, 2007 and 2006 were $24.6 million, $34.9 million, and $36.9 million, respectively.
There was one non-income producing bond with an estimated fair value of $0.5 million as of December 31, 2006. In 2007, the estimated fair value of this bond was written down to $0.0 million.
The adoption of SFAS 159 has not had any impact on the Company’s consolidated financial condition or results of operations since the securities for which SFAS 159 was elected are already reported at fair value and the change in the value of the investment is included in income.
During the year ended December 31, 2008, the Company recognized a loss, net of taxes, of $3.9 million due to changes in the value of this investment. This loss is reflected on the Consolidated Statement of Operation as equity in net income (loss) of partnerships, net of taxes.
The Company also adopted SFAS 157, effective January 1, 2008. SFAS 157 defines fair value, establishes a framework for measuring fair value, outlines a fair value hierarchy based on inputs used to measure fair value, and enhances disclosure requirements for fair value measurements. SFAS 157 does not change existing guidance as to whether or not an instrument is carried at fair value. The Company has determined that its fair value measurements are in accordance with the requirements of SFAS 157. Therefore, the implementation of SFAS 157 has not had any impact on the Company’s consolidated financial condition or results of operations. The implementation of SFAS 157 resulted in expanded disclosures about securities measured at fair value, as discussed below.
The securities classified as Level 2 in the above table consist primarily of fixed maturity securities. Based on the typical trading volumes and the lack of quoted market prices for fixed maturities, security prices are derived through recent reported trades for identical or similar securities making adjustments through the reporting date based upon available market observable information. If there are no recent reported trades, matrix or model processes are used to develop a security price where future cash flow expectations are developed based upon collateral performance and discounted at an estimated market rate. Included in the pricing of asset-backed securities, collateralized mortgage obligations, and mortgage-backed securities are estimates of the rate of future prepayments of principal over the remaining life of the securities. Such estimates are derived based on the characteristics of the underlying structure and prepayment speeds previously experienced at the interest rate levels projected for the underlying collateral.
(2) review and approve any pricing sources changed during month end pricing;
(5) review and approve all price changes exceeding the established pricing tolerance, all securities having negative yields and all securities with unchanged valuations for more than two month over month periods;
(1) Examining market value changes on an overall portfolio basis to determine if the market value reported by the Investment Manager appears reasonable. Duration of the portfolio and changes to benchmark yields are compared to the market value change reported by the Investment Manager to make this determination. The Company does not validate pricing at the individual security level.
(2) Reviewing periodic reports provided by the Investment Manager that provides information regarding rating changes and securities placed on watch. This procedure allows the Company to understand why a particular security’s market value may have changed.
During 2008, the Company performed impairment reviews of goodwill and other indefinite lived assets during the second and third quarters of 2008 due to a reduction in the market value of the Company’s Class A common shares and a decline in the gross written premium of the Penn-America Group and concluded that goodwill and other indefinite lived assets were not impaired at those times. However, the Company’s Quarterly Report on Form 10-Q for the period ended September 30, 2008 noted that if the gross written premium of the Penn-America Group declined below its then current annualized level or if the market value of the Company’s Class A common shares continued to decline, impairment of goodwill that was associated with the Company’s 2005 merger with the Penn-America Group might be necessary.
During the fourth quarter of 2008, the gross written premium of the Penn-America Group declined, and the Company’s and certain of its competitors’ market values continued to decline, indicating that goodwill and other indefinite lived assets might be impaired. After further testing, the Company concluded that impairment of goodwill
SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” requires that intangible assets with definite lives are to be tested for impairment whenever events or changes in circumstances indicate that its carrying amount exceeds fair value and the carrying amount is not be recoverable.
The following tables present details of the Company’s intangible assets as of December 31, 2007:
The Company cedes insurance to unrelated insurers on a pro rata (“quota share”) and excess of loss basis in the ordinary course of business to limit its net loss exposure on insurance contracts. Reinsurance ceded arrangements do not discharge the Company of primary liability as the originating insurer. Moreover, reinsurers may fail to pay the Company due to a lack of reinsurer liquidity, perceived improper underwriting, losses for risks that are excluded from reinsurance coverage, and other similar factors, all of which could adversely affect the Company’s financial results.
During 2008 and 2007, the Company’s reinsurance receivables and related unpaid losses and loss adjustment expenses were decreased by $40.4 million and $262.8 million, respectively. Of these amounts, an increase of $12.4 million in 2008 and a decrease of $147.1 million in 2007 were due to the Company’s review of unpaid loss and loss adjustment expenses, and the remainder was due to the payment of losses in the ordinary course of business. At the Wind River Acquisition date, discounts and risk margins were applied to reinsurance receivables related to ceded loss reserves. During 2007, the Company decreased its discount and risk margin purchase adjustment by $1.0 million due to (1) reductions in ceded loss reserves that existed as of the Wind River Acquisition date and (2) decreases to the amount of discount due to the passage of time. This adjustment equally affected reinsurance receivables and loss reserves and had no impact on the net income of the Company during 2007. There was no such adjustment in 2008.
At December 31, 2008 and 2007, the Company held collateral securing its reinsurance receivables of $477.1 million and $520.8 million, respectively. Prepaid reinsurance premiums were $24.0 million and $29.2 million at December 31, 2008 and 2007, respectively. Reinsurance receivables, net of collateral held, were $202.2 million and $198.9 million at December 31, 2008 and 2007, respectively.
During the years ended December 31, 2008, 2007, and 2006, the Company recorded the following ceded amounts:
The Company regularly evaluates retention levels to ensure that the ultimate reinsurance cessions are aligned with corporate risk tolerance and capital levels, as follows:
On January 1, 2009, the Company renewed its professional liability excess of loss treaty. The Company’s has increased its retention for professional liability to $1.0 million per occurrence. Additionally, the company has reduced the total amount of reinsurance it buys in excess of the $1.0 million retention per occurrence to $4.0 million. This change was due to the fact that the Company did not need the capacity. The Company’s professional liability excess of loss treaty now has limits of $4.0 million in excess of $1.0 million.
General Liability Excess of Loss - On May 1, 2008, the Company renewed its general liability excess of loss treaty. The Company’s retention on this treaty, not including loss adjustment expenses which are allocated in
There were no other significant changes to any of the Company’s other reinsurance treaties during 2008.
As of December 31, 2008, the Company had aggregate unsecured reinsurance receivables that exceeded 3% of shareholders’ equity from the following groups of reinsurers. Unsecured reinsurance receivables include amounts receivable for paid and unpaid losses and loss adjustment expenses and prepaid reinsurance premiums, less amounts secured by collateral.
The Company’s income from continuing operations before income taxes from the Non-U.S. Subsidiaries and U.S. Subsidiaries, including the results of the quota share agreement between Wind River Reinsurance and the Insurance Operations, for the years ended December 31, 2008, 2007, and 2006 were as follows:
The tax effects of temporary differences that give rise to significant portions of the net deferred tax assets at December 31, 2008 and 2007 are presented below:
As a result of the 2008 capital loss carryback and net operating loss carryback, the Company has an alternative minimum tax credit carryforward of $0.8 million as of December 31, 2008, which can be carried forward indefinitely.
The Company or one of its subsidiaries files income tax returns in the U.S. federal jurisdiction, and various states and foreign jurisdictions. The Company is no longer subject to U.S. federal tax examinations by tax authorities for tax years before 2005. The Internal Revenue Service (“IRS”) initiated examination of the U.S. income tax return of Penn-America Group, Inc. and its subsidiaries for the period January 1, 2005 through January 24, 2005 in the third quarter of 2007. The IRS completed its examination during the first quarter of 2008. No audit adjustments were made.
The Company adopted the provisions of FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109” (“FIN 48”), on January 1, 2007. As a result, the Company now applies a more-likely-than-not recognition threshold for all tax uncertainties. FIN 48 only allows the recognition of those tax benefits that have a greater than 50% likelihood of being sustained upon examination by the taxing authorities. The Company’s unrecognized tax benefits were $3.1 million and $3.6 million as of December 31, 2008 and 2007, respectively.
In 2008, the Company increased its prior accident year loss reserves by $31.8 million and increased its allowance for uncollectible reinsurance by $3.1 million. The loss reserves increase of $31.8 million consisted of increases of $15.3 million in our general liability lines and $18.3 million in our professional liability lines, offset by reductions of $1.2 million in our property lines and $0.6 million in our umbrella lines. The increase to the general liability lines consisted of increases of $20.4 million related to accident years 2006, 2007, and 2001 and prior, offset by reductions of $5.1 million related to accident years 2002 through 2005. The increase to the professional liability lines consisted of increases of $20.3 million related to accident years 2006 and 2007, offset by reductions of $2.0 million related to accident years 2005 and prior. The reduction in property lines consisted of reductions of $2.6 million related to accident years 2007 and 2003 and prior, offset by increases of $1.4 million related to accident years 2004 through 2006. The reduction in umbrella lines was primarily related to accident years 2004 and prior.
In 2006, the Company reduced its prior accident year loss reserves by $7.0 million and reduced its allowance for uncollectible reinsurance by $8.6 million. The loss reserves reduction of $7.0 million consisted of reductions related to accident years 2005 and prior in our property lines related to construction defect losses, as well as primary general liability, umbrella and excess, and asbestos and environmental.
Prior to 2001, the Company underwrote multi-peril business insuring general contractors, developers, and sub-contractors primarily involved in residential construction that has resulted in significant exposure to construction defect (“CD”) claims. Management believes its reserves for CD claims ($58.1 million and $49.3 million as of December 31, 2008 and 2007, net of reinsurance, respectively) are appropriately established based upon known facts, existing case law and generally accepted actuarial methodologies. However, due to the inherent uncertainty concerning this type of business, the ultimate exposure for these claims may vary significantly from the amounts currently recorded.
The Company has exposure to asbestos & environmental (“A&E”) claims. The asbestos exposure primarily arises from the sale of product liability insurance, and the environmental exposure arises from the sale of general liability and commercial multi-peril insurance. In establishing the liability for unpaid losses and loss adjustment expenses related to A&E exposures, management considers facts currently known and the current state of the law and coverage litigation. Liabilities are recognized for known claims (including the cost of related litigation) when sufficient information has been developed to indicate the involvement of a specific insurance policy, and management can reasonably estimate its liability. In addition, liabilities have been established to cover additional exposures on both known and unasserted claims. Estimates of the liabilities are reviewed and updated regularly. Case law continues to evolve for such claims, and significant uncertainty exists about the outcome of coverage litigation and whether past claim experience will be representative of future claim experience. Included in net unpaid losses and loss adjustment expenses as of December 31, 2008, 2007, and 2006 were IBNR reserves of $31.8 million, $21.5 million, and $10.9 million, respectively, and case reserves of approximately $5.2 million, $8.7 million, and $6.1 million, respectively, for known A&E-related claims.
Establishing reserves for A&E and other mass tort claims involves more judgment than other types of claims due to, among other things, inconsistent court decisions, an increase in bankruptcy filings as a result of asbestos-related liabilities, and judicial interpretations that often expand theories of recovery and broaden the scope of coverage. The insurance industry continues to receive a substantial number of asbestos-related bodily injury claims, with an increasing focus being directed toward other parties, including installers of products containing asbestos rather than against asbestos manufacturers. This shift has resulted in significant insurance coverage litigation implicating applicable coverage defenses or determinations, if any, including but not limited to, determinations as to whether or not an asbestos related bodily injury claim is subject to aggregate limits of liability found in most comprehensive general liability policies. In response to these developments, management increased gross and net A&E reserves during the third quarter of 2007 to reflect its best estimate of A&E exposures. One of the Company’s insurance companies was recently dismissed from a lawsuit seeking coverage from it and other unrelated insurance companies. The suit involved issues related to approximately 3,900 existing asbestos related bodily injury claims and future claims. The dismissal was the result of a settlement of a disputed claim related to accident year 1984. The settlement is conditioned upon certain legal events occurring which will trigger financial obligations by the insurance company. Management will continue to monitor the developments of the litigation to determine if any additional financial exposure is present.
As of December 31, 2008, 2007, and 2006, the survival ratio on a gross basis for the Company’s open A&E claims was 9.2 years, 8.2 years, and 5.0 years, respectively. As of December 31, 2008, 2007, and 2006, the survival ratio on a net basis for the Company’s open A&E claims was 13.8 years, 6.3 years, and 3.0 years, respectively. The survival ratio, which is the ratio of gross or net reserves to the 3-year average of annual paid claims, is a non-GAAP financial measure that indicates how long the current amount of gross or net reserves are expected to last based on the current rate of paid claims.
Debt consisted of the following as of December 31, 2008 and 2007:
On May 15, 2008, we redeemed all of the $15.0 million issued and outstanding notes of Penn Trust II. In conjunction with this redemption, the $15.5 million of junior subordinated debentures of PAGI, which are the sole assets of Penn Trust II, were also redeemed. The registration of Penn Trust II was cancelled effective February 2, 2009.
Payable quarterly at the three month London Interbank Offered Rate (“LIBOR”) plus 4.05%
During 2002, the Company established a $25.0 million Revolving Credit Facility with a financial institution. Interest is payable monthly at LIBOR plus 65 basis points or the Prime Rate. The Revolving Credit Facility was converted to a Demand Discretionary Facility in February 2003. As of December 31, 2008, there was no balance due in connection with this credit facility. The financial institution that is providing this credit facility has temporarily precluded the Company from drawing on the line.
Notes payable and term loans assumed through the acquisition of Penn Independent Corporation consisted of a $2.5 million revolving line of credit, bearing interest at the bank’s prime rate less 1.25% payable monthly. During September 2007, all amounts due on the line were paid, and the line was terminated. Interest expense resulting from the line of credit was $0.02 million and $0.2 million for 2007 and 2006, respectively.
At December 31, 2008 and 2007, Wind River Reinsurance was a limited partner in the Fox Paine Capital Fund, II, which is managed by Fox Paine & Company. This investment was originally made by United National Insurance Company in June 2000 and pre-dates the September 5, 2003 acquisition by Fox Paine & Company of Wind River Investment Corporation, the holding company for the Company’s Predecessor Insurance Operations. The Company’s investment in this limited partnership was valued at $6.8 million and $5.6 million at December 31, 2008 and 2007, respectively. At December 31, 2008, the Company had an unfunded capital commitment of $3.8 million to the partnership.
On June 30, 2006, DVUA Massachusetts, Inc. repurchased twenty shares of common stock that it issued to a minority shareholder. As a result, DVUA Massachusetts, Inc. became a wholly owned subsidiary of the Company. On October 24, 2007, DVUA Massachusetts, Inc. was dissolved.
In 2008, 2007, and 2006, the Company paid $1.1 million, $1.3 million, and $0.2 million, respectively, to Cozen O’Connor for legal services rendered. Stephen A. Cozen, the chairman of Cozen O’Connor, is a member of the Company’s Board of Directors.
The following table provides information with respect to the Class A common shares that were surrendered or repurchased in 2008:
Includes 4,692 shares surrendered by employees as payment of taxes withheld on the vesting of restricted stock.
Purchased as part of the repurchase authorization announced in February 2008.
The fair value method of accounting recognizes share-based compensation in the statements of operations using the grant-date fair value of the stock options and other equity-based compensation expensed over the requisite service and vesting period.
Prior to the adoption of SFAS 123R, cash retained as a result of tax deductions relating to share-based compensation was presented in operating cash flows, along with other tax cash flows. SFAS 123R requires tax benefits relating to excess stock-based compensation deductions to be prospectively presented in the statement of cash flows as financing cash inflows. Tax expense (benefits) resulting from stock-based compensation deductions in excess of amounts reported for financial reporting purposes were $0.1 million, $(0.4) million and $(0.4) million for the years ended December 31, 2008, 2007 and 2006, respectively.
The above table excludes 55,000 warrants that were issued, at an exercise price of $10.00 per share, on September 5, 2003 and which expired on September 11, 2008. In addition, the Tranche A options were granted outside of the Plan.
On September 5, 2003, the Company granted options to purchase 256,074 Class A common shares to two officers of the Company (“Option-A Tranche”). The Option-A Tranche options have an exercise price of $6.50 per share, expire on September 5, 2013 and were fully vested at the time of the grant. The Company recorded $0.9 million of compensation expense during the period from September 5, 2003 to December 31, 2003, which represents the fair value of the Option-A Tranche on the date of the grant since they were fully vested on that date. During 2005, 93,825 of the Option-A Tranche options were forfeited and 78,000 options were exercised. During 2006, 28,175 Tranche-A options were exercised. There was no activity in the Option-A Tranche during 2007 or 2008.
During the period from September 5, 2003 to December 31, 2003, the Company granted 566,661 Time-Based Options and 895,989 Performance-Based Options under the Plan. The Time-Based Options were originally scheduled to vest in 20% increments over a five-year period, with any unvested options forfeitable upon termination of employment for any reason, and expire 10 years after the grant date. The first vesting period ended on
During 2005, the Company granted 261,484 Time-Based Options and 133,415 Performance-Based Options under the Plan. The Time-Based Options vest in 20% increments over a five-year period, with any unvested options forfeited upon termination of employment for any reason, and expire 10 years after grant date. The Performance- Based Options vest in 25% increments and are conditional upon the Company achieving various operating targets and expire 10 years after the grant date.
During 2006, the Company granted 202,429 Time-Based Options and 202,429 Performance-Based Options under the Plan. The Timed-Based Options vest in 25% increments over a five-year period, with any unvested options forfeited upon termination of employment for any reason and expire 10 years after grant date. The Performance-Based Options vest in 25% increments and are conditional upon the Company achieving various operating targets and expire 10 years after the grant date. During 2007, these Time-Based and Performance-Based Options were forfeited.
During 2008, the Company granted 249,419 Time-Based Options and 249,419 Performance-Based Options under the Plan. The Company also cancelled 197,473 Time-Based Options and 197,473 Performance-Based Options under the plan as a result of the amendment and restatement of Larry A. Frakes’ employment agreement. The Time-Based Options vest in 25% increments over a four-year period, with any unvested options being forfeited upon termination of employment for any reason, and expire 10 years after the grant date. The Performance-Based Options vest in 25% increments and are conditional upon the Company achieving various operating targets and expire 10 years after the grant date.
In 2008, the Company recorded $1.2 million of compensation expense for the 944,569 outstanding options granted under the Plan. In 2007, the Company recorded $0.8 million of compensation expense for the 993,948
Option intrinsic values, which are the differences between the fair market value of $12.81 at December 31, 2008 and the strike price of the option, are as follows:
Option activity for the years ended December 31, 2006, 2007 and 2008 is as follows:
The following table summarizes the non-vested Restricted Shares activity for the years ended December 31, 2006, 2007, and 2008:
During 2005, the Company granted an aggregate of 79,756 Restricted Shares which vest in 20% increments over a five-year period . In addition, an aggregate of 29,734 Class A common shares with a weighted average grant date value of $17.40 per share were granted, subject to certain restrictions, to the non-employee directors of the Company under the Plan (“Director Restricted Shares”). Due to an amendment to the Directors’ Compensation Plan, effective June 30, 2005, all of these Director Restricted Shares have vested. As a result of this amendment, 17,331 units were converted into 14,977 Director Restricted Shares, which vested immediately, subject to certain holding requirements, and 10,590 Director Restricted Shares granted in 2004 and prior to June 2005 vested immediately, subject to certain holding requirements. Prior to the amendment, 957 Director Restricted Shares were forfeited.
During 2008, the Company granted an aggregate of 222,675 Restricted Shares to key employees of the Company and an aggregate of 47,404 fully vested Director Restricted Shares, at a weighted average fair value of $16.70 per share, to non-employee directors of the Company under the Plan. In 2008, the company granted 71,675 Restricted Shares to key employees and 37,541 fully vested Director Restricted Shares to non-employee directors of the Company out of shares held in treasury. Included in the 222,675 are 142,000 Restricted Shares granted by the Company to key executives of the Company in exchange for signed employment agreements. Included in the 142,000 are 12,000 shares that vest 331/3% on each subsequent anniversary date of the award for a period of three years, and 30,000 shares that vest 25% on each subsequent anniversary date of the award for a period of four years. Of the remaining 100,000 shares, 10,000 of the shares vested upon being granted and 90,000 of the shares vest 22.5% on each subsequent anniversary date of the award for a period of four years. The Company also granted 16,161 shares to a key executive in 2008. The 16,161 Restricted Shares vest 25% on each subsequent anniversary date of the award for a period of four years.
The Restricted Shares awards under the Plan are included in the Restricted Shares section above. In May 2005, shareholders approved the Amended and Restated United America Indemnity, Ltd. Annual Incentive Awards Program (the “Awards Program”). The purpose of the Awards Program is to encourage increased efficiency and profitability and reward employees’ contributions to corporate success. All employees of the Company and its subsidiaries are eligible to participate in the Awards Program, and Awards Program participants are selected by the Compensation Committee of the Board of Directors (the “Committee”). Incentive awards under the Awards Program are determined and paid in cash and/or restricted stock based upon objective performance-based criteria as determined by the Committee. The criteria relate to certain performance goals, such as net income, combined ratio, return on equity, and individual performance expectations as established by the Committee, except that certain specific performance targets will be approved by the Section 162(m) Committee of the Board of Directors with respect to the executives covered by Section 162(m) of the Internal Revenue Code (“Section 162(m)”). It is the Company’s intent that any compensation paid pursuant to the Awards Program comply with Section 162(m).
Second, the Compensation Committee approved an award of an Annual Integration Bonus relating to the 2006 fiscal year to the Integration Plan participants who were employed by Penn-America Group, Inc. as of February 15, 2006 (the “Current Plan Participants”). Such awards would have otherwise been determined and paid in full following the 2006 fiscal year. The decision by the Compensation Committee to modify the determination and award of the 2006 Annual Integration Bonus was based on: (i) the Compensation Committee’s recognition of the earlier-than-anticipated consolidation of the Company’s Insurance Operations, (ii) the Compensation Committee’s determination that the Penn-America Group, Inc. performance targets contained in the Integration Plan for the 2006 Bonus Determination Year were no longer appropriate performance targets on which to base plan awards given the earlier - than-anticipated consolidation, and the fact that the 2006 targets were exceeded in 2005, and (iii) the Compensation Committee’s desire to achieve parity among the Current Plan Participants and other executives of the Company entitled to receive awards of stock based on time versus performance-based vesting. Therefore, the Compensation Committee eliminated the performance criteria relating to the 2006 Bonus Determination Year, and
instead granted restricted stock to the Current Plan Participants, which will vest at the rate 20% on each of February 15, 2007 and February 15, 2008 and 60% on February 15, 2009, subject to certain employment-related requirements. Although the Current Plan Participants were granted restricted stock earlier than they otherwise would have, the restricted stock vests over time as set forth above. Under the original terms of the Integration Plan, the granted stock would have vested immediately.
Effective May 9, 2007, Larry A. Frakes was hired as the Company’s President and Chief Operating Officer, as well as Chief Executive Officer of all of the Company Affiliates. Mr. Frakes’ four-year employment agreement includes several equity components including (a) the granting of $10.0 million of stock options, or 394,946 shares split evenly between time-based and performance-based options at the grant date market value of $25.32 per share; (b) an annual bonus program under which the first $0.5 million is paid in restricted stock based on the market value at December 31 of the subject Bonus Year; (c) the purchase of $1.0 million of the Company’s Class A common shares by Mr. Frakes; and (d) the requirement that, effective January 1, 2009, Mr. Frakes hold Class A common shares of the Company with a value of the lesser of two times his Annual Compensation or the sum of owned, granted, and vested Class A common shares. The time-based options vest at 25% on each December 31 of years 2008 through 2011. The performance-based options generally vest at the same rate based on the achievement of various Company financial performance goals. The restricted stock portion of the 2008, 2009, and 2010 bonuses vest at 25% per year each year after the bonus year, and awards for the 2010 bonus year and thereafter will vest at 33.3% per year each year after the bonus year.
On February 5, 2008, the Company entered into an amended and restated employment agreement with Mr. Frakes, which amended and restated Mr. Frakes’ original employment agreement that was entered into on May 10, 2007. The amended and restated employment agreement changes and clarifies the terms of options granted under the original employment agreement. The amended and restated agreement grants Mr. Frakes $10.0 million of options with a strike price equal to the average price per share that was paid by Mr. Frakes upon his purchase of $1.0 million of the Company’s Class A common shares.
Through December 31, 2006, the Company maintained two 401(k) defined contribution plans covering all U.S employees.
A reconciliation of weighted average shares for basic earnings per share to weighted average shares for diluted earnings per share for the years ended December 31, 2007 and 2006 is as follows:
Under SAP, certain assets designated as “Non-admitted Assets” (such as prepaid expenses) are charged against surplus.
Comprised of Wind River Reinsurance’s total assets less its investment in subsidiaries.
Includes excise tax of $2,390 related to cessions from U.S. Insurance Companies to Wind River Reinsurance.
On February 13, 2009, the Company received a notice of from the Listing Qualification Department of the NASDAQ Stock Market notifying that the Company is now in compliance with NASDAQ’s audit committee requirements set forth in NASDAQ Marketplace Rule 4350 as a result of the appointment of Mr. Chad A. Leat to our Audit Committee. A failure to regain compliance would have resulted in the Company being delisted from the NASDAQ Stock Market.
On February 17th, 2009, the Company filed a universal shelf registration statement on Form S-3 with the U.S. Securities and Exchange Commission covering up to $300.0 million of Class A common shares, preferred shares, depositary shares, debt securities, warrants to purchase Class A common shares, preferred shares or debt securities, stock purchase contracts, and stock purchase units. The filing was made in order to provide the Company with future financial flexibility.
On March 4, 2009, the Company announced a $100.0 million rights offering, fully back-stopped by Fox Paine & Company, under which the Company will distribute to holders of record of its Class A and Class B common shares on March 16, 2009 non-transferable rights to subscribe for Class A and Class B common shares. The Company also announced that its Board of Directors has approved a plan for the Company to re-domicile from the Cayman Islands to Switzerland. If approved by its shareholders, the Company expect its re-domestication to be effective during the second or third quarters of 2009.
“Diluted” earnings (loss) per share is the same as “Basic” earnings (loss) per share since there was a net loss for the year.