We lease office space in Birmingham, Michigan, where our principal executive office is located. We also lease offices in Southfield, Michigan; Jacksonville, Orlando and Miami, Florida; and Somerset, Pennsylvania. We believe that our facilities are adequate for our current needs and that suitable additional or substitute space will be available as needed.
In 2017, the Company recognized a $750,000 gain on the sale of the renewal rights of a portion of the low value dwelling book of business to another insurer. In 2016, the value of intangible assets recorded for insurance licenses were written off when two affiliated insurance subsidiaries were merged.
Regulatory and capital surplus is the excess of assets over liabilities of our Insurance Company Subsidiaries and is determined in accordance with statutory accounting principles as determined by the domiciliary state for each Insurance Company Subsidiary. In 2018, CIC issued a surplus note to WPIC for $10.0 million. The $10.0 million surplus note is eliminated from the combined regulatory capital and surplus balance as of December 31, 2020, 2019, and 2018.
Our revenues are primarily derived from premiums earned from our insurance operations. We also generate other revenues through investment income and other income which mainly consists of: installment fees and policy issuance fees generally related to the policies we write.
Through our personal insurance lines, we offer homeowners insurance and dwelling fire insurance products to individuals in several states. Our specialty homeowners insurance product line is primarily comprised of low-value dwelling
insurance tailored for owners of lower valued homes, which we offer in Illinois, Indiana and Texas. Due to ongoing Florida-based industry events, we have been de-emphasizing our Florida homeowners’ business and reducing our exposures in that state, as well as other wind-exposed states like Texas and Hawaii.
We do not discount the loss and LAE reserves for the time value of money.
IBNR reserves are determined by subtracting case reserves and paid loss and LAE from the estimated ultimate loss and LAE. Our actuarial department develops estimated ultimate loss and LAE on a quarterly basis. Our Reserve Review
We use several generally accepted actuarial methods to develop estimated ultimate loss and LAE estimates by line of business and accident year. This process relies on the basic assumption that past experience, adjusted for the effects of current developments and likely trends, is a reasonable basis for predicting future outcomes. These methods utilize various inputs, including:
Loss development methods-Loss development methods assume that the losses and LAE yet to emerge for an accident year are proportional to the paid or reported loss and LAE amounts observed to-date. The paid loss development method uses losses and LAE paid to date, while the reported loss development method uses losses and LAE reported to date;
Bornheutter-Ferguson method-This method is a combination of the loss ratio and loss development methods, where the loss development factor is given more weight as an accident year matures; and
Our actuaries also analyze several diagnostic measures by line of business and accident year, including but not limited to: reported and closed frequency and severity, claim reporting and claim closing patterns, paid and incurred loss ratio development, and ratios of paid loss and LAE to incurred loss and LAE. After the actuarial methods and diagnostic measures have been performed and analyzed, our actuaries use their judgment and expertise to select an estimated ultimate loss and LAE by line of business and by accident year.
The estimation of ultimate liability for losses and LAE is a complex, imprecise and inherently uncertain process, and therefore involves a considerable degree of judgment and expertise. Our loss and LAE reserves do not represent an exact measurement of liability, but are estimates based upon various factors, including but not limited to:
The following table shows the ratio of IBNR reserves to total reserves net of reinsurance recoverables as of December 31, 2020 (dollars in thousands):
The carrying value of our gross deferred tax asset for the NOL carryforwards is equal to the total NOL carryforward amount times the applicable federal and state tax rates, and was $13.3 million and $13.5 million as of December 31, 2020 and 2019, respectively. Total gross deferred tax assets were $17.2 million as of December 31, 2020 and 2019. A valuation allowance of $13.3 million and $13.6 million has been recorded against the gross deferred tax assets as of December 31, 2020 and 2019, respectively, as the Company has recognized a three-year cumulative loss as of December 31, 2020 which is significant negative evidence to support the lack of recoverability of those deferred tax assets in accordance with ASC 740, Income Taxes. If the $13.3 million valuation allowance as of December 31, 2020 were reversed in the future, it would increase book value by $1.37 per share. The net deferred tax liabilities were zero as of December 31, 2020 and 2019.
Adjusted operating income (loss) and adjusted operating income (loss) per share are non-GAAP measures that represent net income allocable to common shareholders excluding net realized investment and other gains (losses), net of tax, the effects of tax reform, the tax effect of changes in unrealized gains to the extent included in net income, the change in the fair value of equity securities, net of tax, and the capitalization and amortization of deferred gains from the ADC. The most directly comparable financial GAAP measures to adjusted operating income and adjusted operating income per share are net income and net income per share, respectively. Adjusted operating income and adjusted operating income per share are intended as supplemental information and are not meant to replace net income or net income per share. Adjusted operating income and adjusted operating income per share should be read in conjunction with the GAAP financial results. Our definition of adjusted operating income may be different from that used by other companies. The following is a reconciliation of net income to adjusted operating income (dollars in thousands), as well as net income per share to adjusted operating income per share:
We use adjusted operating income and adjusted operating income per share, in conjunction with other financial measures, to assess our performance and to evaluate the results of our business. We believe these measures provide investors with valuable information relating to our ongoing performance that may be obscured by the effect of investment gains and losses as a result of our market risk sensitive instruments, which primarily relate to fixed income securities that are available-for-sale and not held for trading purposes. Realized investment gains and losses may vary significantly between periods and are generally driven by external economic developments, such as capital market conditions. Accordingly, adjusted operating income excludes the effect of items that tend to be highly variable from period to period and highlights the results from our ongoing business operations and the underlying loss or profitability of our business. We believe that it is useful for investors to evaluate adjusted operating income and adjusted operating income per share, along with net income and net income per share, when reviewing and evaluating our performance.
The Company reported net income of $595,000, or $0.06 per share, in 2020, compared to a net loss of $7.8 million, or $0.88 per share, in 2019.
Adjusted operating loss, a non-GAAP measure, was $8.0 million, or $0.83 per share, for the year ended December 31, 2020, compared to an adjusted operating loss of $15.1 million, or $1.69 per share, for the year ended December 31, 2019.
The loss ratio is the ratio, expressed as a percentage, of net losses and loss adjustment expenses to net earned premiums and other income from underwriting operations.
Our premiums are presented below for the years ended December 31, 2020 and 2019 (dollars in thousands):
Gross written premiums increased by $9.5 million, or 9.3%, to $111.3 million for the year ended December 31, 2020, as compared to $101.9 for the year ended December 31, 2019. The increase was attributable to an increase in written premium in our small business programs, which was slightly offset by a decrease in written premium in our hospitality programs.
Commercial lines gross written premiums increased $8.4 million, or 8.9%, to $102.8 million for the year ended December 31, 2020, as compared to $94.4 million for the year ended December 31, 2019. Gross written premiums for our small business programs increased by $19.1 million, or 41.5%, to $65.1 million for the year ended December 31, 2020, compared to $46.0 million for the year ended December 31, 2019. This increase was offset by our hospitality programs gross written premiums, which decreased by $10.7 million, or 22.1%, to $37.7 million for the year ended December 31, 2020, compared to $48.4 million for the year ended December 31, 2019.
Net written premiums increased $5.2 million, or 5.9%, to $92.9 million, for the year ended December 31, 2020, as compared to $87.7 million for the year ended December 31, 2019. The increase was primarily due to the growth experienced in the commercial lines business. However, increased reinsurance rates tempered the growth of gross written premiums.
The tables below detail our losses and LAE and loss ratios for the years ended December 31, 2020 and 2019 (dollars in thousands).
Net losses and LAE decreased by $3.5 million, or 5.9%, for the year ended December 31, 2020, as compared to the same period in 2019. The calendar year loss ratios were 62.8% and 66.8% for the years ended December 31, 2020 and 2019, respectively.
Our expense ratio increased by 1.6%, to 45.6% for the year ended December 31, 2020, as compared to the same period in 2019.
Operating expenses consist primarily of employee compensation, information technology and occupancy costs, such as rent and utilities. Operating expenses as a percent of net earned premiums and other income was 15.3% and 15.8% for the years ended December 31, 2020 and 2019, respectively. The operating expense ratio was lower due to our expense reduction efforts, partially offset by higher ceded premium rates discussed above.
We measure the performance of our consolidated results, in part, based on our underwriting gain or loss. The following table provides the underwriting gain or loss for the years ended December 31, 2020 and 2019 (dollars in thousands):
Interest expense was $2.9 million for the years ended December 31, 2020 and 2019. We issued $25.3 million of public senior unsecured notes (the "Notes") in 2018. Proceeds from the Notes were used to pay down $19.5 million of the $30.0 million of subordinated notes that were issued in the third quarter of 2017. The Company repurchased 36,761 units of the Notes in the public market in 2020. Interest expense includes the amortization of debt issuance costs relating to the Notes which is $260,000 per annum over the 5-year life of the Notes. The interest expense relating to the amortization of debt issuance costs for the existing $10.5 million of the subordinated notes is $51,000 per annum over the 20-year life of the subordinated notes.
The Company has a $10.0 million line of credit, which it drew upon and paid down at various times throughout 2020, and which contributed to interest expense.
There is a $13.3 million valuation allowance against 100% of the net deferred tax assets at December 31, 2020, which would increase book value by $1.37 per share if reversed in the future. The valuation allowance was $13.6 million as of December 31, 2019. As of December 31, 2020, the Company has net operating loss carryforwards for federal income tax purposes of $59.2 million, of which $49.3 million expire in tax years 2028 through 2039 and $9.9 million never expire. Of this amount, $14.1 million are limited in the amount that can be utilized in any one year and may expire before they are realized under Section 382 of the Internal Revenue Code. The Company has state net operating loss carryforwards of $17.1 million, which expire in tax years 2021 through 2040.
The loss ratio is the ratio, expressed as a percentage, of net losses and loss adjustment expenses to net earned premiums and other income from underwriting operations. The 2018 ratios have been recast to reflect the new presentation. Refer to Note 17 ~ Segment Information for further details.
Net written premiums decreased $1.4 million, or 1.5%, to $87.7 million, for the year ended December 31, 2019, as compared to $89.1 million for the year ended December 31, 2018. The decrease was primarily due to the reduction in the commercial lines business.
At December 31, 2020, we had $21.5 million in cash, cash equivalents, and short-term investments. Our principal sources of funds are insurance premiums, investment income, proceeds from maturity and sale of invested assets and other income. These funds are primarily used to pay claims, commissions, employee compensation, taxes and other operating expenses, and service debt.
We contributed $1.2 million to our Insurance Company Subsidiaries in 2020. We contributed $3.9 million to our Insurance Company Subsidiaries in 2019. No contributions to our Insurance Company Subsidiaries were made in 2018. We believe that the current statutory surplus levels and the funds available at the holding company level will provide the necessary statutory capital to support our premium volume growth over the next two years.
Cash provided by financing activities for the years ended December 31, 2019 and 2018, was $6.3 million and $3.7 million, respectively. The $2.6 million increase in 2019 compared to 2018 was largely due to a $5.0 million issuance of common stock in 2019, and no issuance of common stock in 2018.
On April 24, 2020, the Company received a $2.7 million PPP loan from the line of credit Lender pursuant to the Paycheck Protection Program of the CARES Act administered by the SBA. The PPP loan was incorporated into the existing line of credit facility and utilizes a portion of the line of credit’s limit. However, the PPP loan has a different maturity date (April 24, 2022) in accordance with the SBA requirements and bears interest at a rate of 1.0% per annum. The Company amended its $10.0 million line of credit facility with the Lender to incorporate this loan as a reduction of the available line of credit. The loan may be prepaid by the Company at any time prior to maturity with no prepayment penalties. This loan may be subject to forgiveness under the CARES Act provisions. The Company applied for forgiveness of the loan in 2020, at which point the principal and interest payments were deferred until the SBA remits the loan forgiveness amount to the Lender. No assumptions were made relative to potential forgiveness as of December 31, 2020.
In 2018, the Company issued $25.3 million of Notes. The Notes bear an interest rate of 6.75% annum, payable quarterly at the end of March, June, September and December and mature on September 30, 2023. Proceeds from the Notes were used to pay down $19.5 million of the $30.0 million of subordinated notes that were issued in the third quarter of 2017. The Company repurchased 36,761 units of the Notes in the public market during 2020 with a face value of $919,000. The Notes were repurchased at a discount to face value, which resulted in a $260,000 gain on extinguishment in 2020. This gain is reflected in the Consolidated Statement of Operations as Other gains.
The carrying value of the Notes and subordinated notes are offset by $1.6 million of debt issuance costs that will be amortized through interest expense over the life of the loans. Refer to Note 7 ~ Debt of the Notes to the Consolidated Financial Statements, for additional information regarding our outstanding debt.
The following table is a summary of our contractual obligations and commitments as of December 31, 2020 (dollars in thousands):
The NAIC has a RBC formula to be applied to all property and casualty insurance companies. The formula measures required capital and surplus based on an insurance company’s products and investment portfolio and is used as a tool to evaluate the capital adequacy of regulated companies. The RBC formula is used by state insurance regulators to monitor trends in statutory capital and surplus for the purpose of initiating regulatory action. In general, an insurance company must submit a calculation of its RBC formula to the insurance department of its state of domicile as of the end of the previous calendar year. These laws require increasing degrees of regulatory oversight and intervention as an insurance company’s RBC declines.
At December 31, 2020, all of our Insurance Company Subsidiaries were in excess of any minimum threshold at which corrective action would be required.