The selected financial data presented below for the fiscal years ended December 31 should be read in conjunction with FPIC’s consolidated financial statements and the notes thereto which are included elsewhere herein.
For additional information with respect to FPIC’s business see Item 7, management’s discussion and analysis of financial condition and results of operations.
The following discussion and analysis should be read in conjunction with the consolidated financial statements and the notes to the consolidated financial statements appearing elsewhere in this report. The consolidated financial statements include the results of all of FPIC’s wholly owned and majority owned subsidiaries.
• The competitive environment in which FPIC operates, including reliance on agents to place insurance, physicians electing to practice without insurance coverage, related trends and associated pricing pressures and developments;
We generally base our estimates on historical experience or other appropriate assumptions that we believe are reasonable and relevant under the circumstances. The results of these estimation processes form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
Effective January 1, 2002, we adopted Financial Accounting Standard No. (“FAS”) 142, “Goodwill and Other Intangible Assets.” Under FAS 142, goodwill and indefinite-lived intangible assets are no longer amortized through charges to income, but do continue to be subject to annual (or under certain circumstances more frequent) impairment testing based on estimated fair values. Other intangible assets that meet certain criteria continue to be amortized over their useful lives and will also be subject to impairment testing based on estimated fair values. During the first quarter of 2002, we performed transitional impairment testing required under the new standard and took a charge in the form of a cumulative effect of accounting change for $29.6 million, net of tax effects, as of the beginning of the year.
With regard to our core medical professional liability (“MPL”) business, which is written primarily on the claims-made policy form, the estimated liability for losses and LAE is basically comprised of our reserves on individual reported losses (“case reserves”), plus provisions for case reserve development and incurred but not reported (“IBNR”) reserves to arrive at our best estimate of what our losses and LAE will be once all cases are settled. These provisions are negative, in aggregate, or a net reduction from the sum total of our individual case reserve estimates for most years. This is because our case loss reserves have historically developed downward, in aggregate, from the time they become fully established to the time they are settled and we expect this trend to continue. Our core claims-made policies do not have IBNR losses, as do traditional occurrence based property and casualty insurance policies. We do estimate and set aside IBNR for LAE, tail coverage and covered extended reporting endorsements issued in the event of death, disability or retirement of claims-made insureds. We also have IBNR loss reserves on some of the direct MPL business we wrote in recent years and on our assumed reinsurance where the coverage is occurrence based.
Reinsurance. Reinsurance recoverables are the balances due for paid and unpaid losses and LAE that will be recovered from reinsurers, based on contracts in force. We estimate the amounts recoverable from reinsurers in a manner consistent with our estimates for the underlying claim liabilities that we reinsured. Reinsurance does not relieve us from our primary obligations to policyholders. Failure of reinsurers to honor their obligations could result in losses to us. We evaluate the financial condition of our reinsurers and monitor concentrations of credit risk with respect to the individual reinsurers that participate in our ceded programs to minimize our exposure to significant losses from reinsurer insolvencies. We hold collateral in the form of letters of credit or trust accounts for amounts recoverable from reinsurers that are not designated as authorized reinsurers by the domiciliary Departments of Insurance.
Income Taxes. We account for income taxes in accordance with FAS 109, “Accounting for Income Taxes.” Deferred tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance against deferred tax assets is recorded if it is more likely than not that all or some portion of the benefits related to the deferred tax assets will not be realized. Valuation allowances are based on estimates of taxable income and the period over which deferred tax assets will be recoverable. In the event that actual results differ from these estimates or these estimates are adjusted in future periods, we may need to establish a valuation allowance, which would impact our financial position and results of operations. No such valuation allowance has been established to date, as we believe it is more likely than not that our deferred tax assets will be fully realized.
We have three main operating segments: insurance, reciprocal management and third party administration (“TPA”). FPIC’s primary sources of revenue are management fees and dividends from its subsidiaries. The main sources of revenue for these amounts are premiums earned and investment income (insurance segment) and claims administration and management fees and commission income (reciprocal management and TPA segments).
Our insurance segment specializes in professional liability insurance products and services for physicians, dentists, other healthcare providers and attorneys. On October 3, 2002, Interlex entered into an agreement with an unrelated insurance organization to sell the renewal rights to all of its legal professional liability policies. The reciprocal management segment contains our subsidiary Administrators For The Professions (“AFP”), which serves as the exclusive manager and attorney-in-fact for PRI, an insurance reciprocal in New York. We do not own PRI and so its financial statements are not consolidated or included in ours. Instead, PRI is similar to a mutual insurer and the risks and rewards of ownership basically vest with the policyholders of PRI. The reciprocal management segment also provides brokerage, administration and intermediary services for insurance and reinsurance programs to PRI and FPIC. Our TPA segment markets and administers self-insured plans for both large and small employers, including group accident and health, workers’compensation and general liability and property insurance. Our financial position and results of operations are subject to fluctuations due to a variety of factors and our historical results of operations are not necessarily indicative of future earnings.
Our total expenses for the year ended December 31, 2002 increased less than 1% to $197.2 million from $196.5 million for the year ended December 31, 2001. Net losses and LAE incurred for the year ended December 31, 2002 increased $11.3 million or 9% when compared with the year ended December 31, 2001. Net losses and LAE incurred on our MPL business increased 17% to $137.7 million for the year ended December 31, 2002 from $117.4 million for the year ended December 31, 2001. Net losses and LAE incurred in 2002 were also reduced by losses and LAE incurred of $39.0 million, which was ceded under the Hannover Re reinsurance agreement. The increase in net losses and LAE incurred for the year ended December 31, 2002, reflects the growth in our business, taking into consideration expected loss trends. The increases in total expenses were offset primarily by ceding commissions related to the Hannover Re finite reinsurance agreement and our adoption of FAS 142. The adoption of FAS 142 eliminated amortization expense of approximately $3.5 million for the year ended December 31, 2002.
One of the most significant financial developments for us in 2002 was our new finite reinsurance agreement with Hannover Re. It is supplemental to our other reinsurance programs and represents a very large additional reinsurance cession for us. The following table summarizes the effects of the Hannover Re agreement on our condensed consolidated income statement and balance sheet accounts. These pro-forma condensed consolidated financial statements are non-GAAP presentations and are not intended to serve as a substitute for our audited consolidated financial statements presented elsewhere. Instead, this presentation is intended to help discern the impact of the Hannover Re agreement in the context of the overall trends in our reported operating results and financial position for 2002 discussed elsewhere.
Condensed Pro-Forma (“Non-GAAP”) Consolidated Statements of Financial Position and (Loss) Income
As of and for the years ended December 31, 2002 and 2001
Total revenues for the year ended December 31, 2001 increased 9%, to $197.6 million, from $182.1 million for the year ended December 31, 2000. Annual revenue growth was driven primarily by growth in earned premiums, which contributed $10.6 million to such growth. Significant improvements in pricing and the addition of MPL policyholders, primarily in Florida and Missouri, were the primary source of premium growth. Commission income and claims administration and management fees earned by our non-insurance subsidiaries in New York and Florida also grew, contributing $7.2 million to the growth in total revenues. The growth in total revenues during 2001 was offset by a $1.4 million decline in investment income as a result of lower market yields.
Our insurance segment is made up of our four insurance subsidiaries, First Professionals, Anesthesiologists Professional Assurance Company (“APAC”) and The Tenere Group, Inc. (“Tenere”) companies, Intermed Insurance Company and Interlex Insurance Company. FPIC operations are also included in the insurance segment due to its size and prominence and the substantial attention the holding company devotes to the segment.
Effective October 3, 2002, we sold the renewal rights on Interlex’s legal professional liability insurance business to a subsidiary of Professionals Direct, Inc., a non-affiliate, for $0.4 million. The sale of Interlex’s renewal rights allows us to re-dedicate Interlex’s capital to our core MPL business.
Financial and selected other data of our insurance segment for the years ended December 31, 2002, 2001 and 2000 is summarized in the table below. Dollar amounts are in thousands.
Net paid losses and LAE on professional liability claims $ 92,497
Direct and assumed premiums written increased 40% to $344.7 million for the year ended December 31, 2002 from $245.4 million for the year ended December 30, 2001. The increase primarily results from rate increases realized and growth in the number of policyholders in our core MPL business. First Professionals implemented rate increases in January and December 2001, and again in December 2002; APAC implemented rate increases in July 2001 and 2002; and Intermed implemented rate increases in November 2001 and July 2002. We also experienced growth in direct premiums written under fronting arrangements for workers’ compensation business of $19.4 million for the year ended December 31, 2002 when compared to the year ended December 31, 2001. The growth in direct premiums written was partially offset by a decline of $7.8 million in group accident and health (“A&H”) programs for the year ended December 31, 2002, which were discontinued in November of 2001.
Net premiums written decreased 5% to $140.2 million for the year ended December 31, 2002 from $147.1 million for the year ended December 31, 2001. The decline in net premiums written is related to the finite quota share reinsurance agreement effective July 1, 2002 between our largest subsidiary, First Professionals, and Hannover Re. Under the terms of the Hannover Re agreement, we ceded approximately $50.8 million of our unearned premiums, and $34.7 million of our direct written premiums, net of other reinsurance. The agreement, which calls for First Professionals to cede quota share portions of its 2002 and 2003 written premiums, contains adjustable features, including a loss corridor, sliding scale ceding commissions and a cap on the amount of losses that may be ceded to the reinsurer. The effect of these features is to limit the reinsurers’ aggregate exposure to loss and reduce the ultimate costs of this reinsurance to First Professionals as the ceding company. These features also have the effect of reducing the amount of protection relative to the quota share amount of premiums ceded by First Professionals. While First Professionals does not receive pro-rata protection relative to the amount of premiums ceded, the amount of reinsurance protection is significant, as determined in accordance with guidance under both GAAP and statutory accounting practices. In addition to ceding a significant portion of our risks to Hannover Re, the agreement also allows us to reduce our financial leverage and to realize immediate reimbursement for our up-front acquisition costs, which, in turn, lessens the strain on our capital.
Net realized investment gains increased 228% to $4.7 million for the year ended December 31, 2002 from $1.4 million for the year ended December 31, 2001. Our investment strategy remains focused on high quality, fixed income securities held for the long-term; however, certain securities may be liquidated from time to time in order to reposition the portfolio or to take advantage of current market and economic conditions. The increase in net realized investment gains in 2002 is a reflection of this strategy.
Net losses and LAE incurred increased 9% to $139.6 million for the year ended December 31, 2002 from $128.3 million for the year ended December 31, 2001. Net losses and LAE incurred in 2002 were reduced by an increase in ceded losses and LAE incurred under the Hannover Re reinsurance agreement of $39.0 million. The increase in net losses and LAE incurred for the year ended December 31, 2002 reflects growth in business, taking into consideration expected loss trends. Our loss ratios for the years ended December 31, 2002 and 2001 were 92% and 98%, respectively. A loss ratio is defined as the ratio of loss and LAE incurred to net premiums earned. The 6% decrease in the reported loss ratio for the year ended December 31, 2002 is primarily due to a significant prior year reserve charge taken in 2001, which was not necessary in 2002 (-5%), loss expense reduction and productivity (-2%), our exit from our former group A&H business (-1%) and other (-1%); which were partially offset by the effects of the new Hannover Re agreement (3%).
Net losses and LAE incurred increased 5% to $128.3 million for the year ended December 31, 2001 from $122.8 million for the year ended December 31, 2000. The loss ratios for such periods were 98% and 102%, respectively. During the fourth quarter of 2001, we made a decision to adjust reserves upward by $8.8 million, pre-tax. Our decision to increase reserves reflects our policy to maintain our reserves at a conservative level. Excluding the prior year portions of pre-tax reserve charges in 2001 and 2000 of $8.6 million and $6.5 million, respectively, net losses and LAE incurred increased $3.5 million, or 3% during the year 2001. The increase in losses and LAE incurred was partially offset by a decline in our group A&H business corresponding with the withdrawal from our group A&H programs in 2001. The remaining increase is consistent with the growth in business during 2001 and continues to reflect our stated objective of maintaining our reserves at conservative levels, taking into consideration expected loss trends and all other pertinent considerations.
Other underwriting expenses increased 25% to $25.9 million for the year ended December 31, 2001 from $20.6 million for the year ended December 31, 2000. The increase in other underwriting expenses is primarily attributable to additional operating expenses associated with the growth in business and expenses incurred to improve our information systems. In addition, two of our insurance subsidiaries, First Professionals and APAC, increased their accruals for guarantee fund assessments by approximately $0.9 million, combined. Offsetting these increases was a reduction in the allowance for bad debts of $1.0 million.
Other expenses decreased 54% to $0.5 million for the year ended December 31, 2002 from $1.0 million for the year ended December 31, 2001. The decline in other expenses is due to our adoption of FAS 142. In accordance with FAS 142, we ceased the amortization of goodwill and indefinite lived intangible assets during the first quarter of 2002.
Income tax expense increased to $4.3 million for the year ended December 31, 2002 from an income tax benefit of $4.4 million for the year ended December 31, 2001. Income tax expense in 2002 increased primarily as a result of an increase in pre-tax income when compared with 2001. We recognized an income tax benefit in the prior year because our permanent differences, primarily tax-exempt interest, were greater than our pre-tax income. The effect of these permanent differences was proportionately less when compared with pre-tax income in 2002, resulting in tax expense at an effective rate of 37%. In 2001, we also engaged outside investment managers and began re-positioning investments including the re-positioning of investments in tax-exempt municipal securities to investments in taxable securities.
Commission income increased 50% to $3.7 million for the year ended December 31, 2002 from $2.5 million for the year ended December 31, 2001. The increase in commission income is due to an increase in brokerage commissions earned by Intermediaries for the placement of reinsurance, which is the result of an increase in written premiums placed and the rates for reinsurance. In addition, commission income of approximately $0.5 million was recognized as a result of a brokerage fee earned from Hannover Re related to the placement of our finite reinsurance agreement.
Commission income increased 106% to $2.5 million for the year ended December 31, 2001 from $1.2 million for the year ended December 31, 2000. The increase in commission income corresponds with the increase in the amount of reinsurance brokered by Intermediaries in 2001.
Claims administration and management expenses increased 3% to $18.9 million for the year ended December 31, 2002 from $18.4 million for the year ended December 31, 2001. The increase in claims administration and management expenses for the year ended December 31, 2002 is due to an increase in operating expenses incurred to manage the growth in business at PRI, offset partially by a decline in risk management department expenses when compared to the year ended December 31, 2001. As noted above, the management agreement between AFP and PRI was amended in 2002. As part of the amended agreement, PRI is to reimburse AFP for 100% of risk management department expenses as compared with 50% under the former agreement.
Claims administration and management expenses increased 23% to $18.4 million for the year ended December 31, 2001 from $15.0 million for the year ended December 31, 2000. The increase in claims administration and management expense is primarily attributable to an increase in commission expense incurred as a result of growth in brokerage and administration business at AFP and PMA. Under terms of the management agreement between AFP and PRI, AFP is responsible for brokerage costs incurred by PRI. In addition, AFP incurred additional operating expenses related to the growth in direct business at PRI.
Other expenses decreased 98% to $0.04 million for the year ended December 31, 2002 from $2.2 million for the year ended December 31, 2001. The decline in other expenses is due to the effects of the adoption of FAS 142. In accordance with FAS 142, we ceased the amortization of goodwill and indefinite lived intangible assets during the first quarter of 2002. The reciprocal management segment also recorded a transitional impairment charge of $24.4 million, after-tax, which is accounted for as the cumulative effect of accounting change. The non-cash transitional impairment charge primarily reflects certain intangibles and synergies, which, in our opinion, are opportunistic in nature and carry a significant degree of uncertainty; therefore, we treated these intangibles conservatively in the valuation required by FAS 142.
Our TPA segment is made up of our subsidiary EMI. Financial and selected other data for our TPA segment for the years ended December 31, 2002, 2001 and 2000 is summarized in the table below. Dollar amounts are in thousands.
Net loss $ (4,904 ) % (571 ) % (821 )
Claims administration and management fees increased 1% to $12.7 million for the year ended December 31, 2002 from $12.5 million for the year ended December 31, 2001. Our results of operations for the period ended December 31, 2001 include our Albuquerque TPA division, which was disposed of in December 2001. Excluding the effect of the Albuquerque TPA division, claims administration and management fees increased $2.7 million for the year ended December 31, 2002, when compared with the year ended December 31, 2001. The increase in claims administration and management fees reflects growth in new business.
Commission income was $2.5 million for the year ended December 31, 2002 and relatively flat when compared to commission income for the year ended December 31, 2001. The amount of premium placed by the TPA segment increased during the years 2002 and 2001; however, we decreased the commission rates paid by customers during 2002 and as a result, commission income was relatively flat when compared with the prior year.
Commission income increased 19% to $2.5 million for the year ended December 31, 2001 from $2.1 million for the year ended December 31, 2000. The increase in commission income corresponds with increases in the underlying rates paid by customers for reinsurance being placed by the TPA segment under alternative market arrangements.
Net realized investment losses for the year ended December 31, 2000 were $0.4 million, largely due to the write down of our investment in a joint venture, Bexar Credentials, Inc. (“Bexar”) in the fourth quarter of 2000. Our stock in Bexar was redeemed for $70 thousand in cash and notes receivable in January 2001. All amounts receivable from the sale have been collected.
Claims administration and management expenses declined 5%, to $14.8 million for the year ended December 31, 2001 from $15.5 million for the year ended December 31, 2000. The decline in claims administration and management expenses is due to the termination of certain non-profitable contracts at our Albuquerque division. Excluding the effect of the terminated contracts, claims administration and management expenses increased $1.0 million for the year ended December 31, 2001, as compared to the same period in 2000.
Other expenses decreased 100% for the year ended December 31, 2002 from $1.3 million for the year ended December 31, 2001. The decline in other expenses is due to the adoption of FAS 142. In accordance with FAS 142, we ceased the amortization of goodwill and indefinite lived intangible assets during the first quarter of 2002. In addition, and as noted above, in 2001 we recognized a pre-tax charge of approximately $0.6 million in connection with the disposition of the Brokerage Services, Inc. (“BSI”) division of EMI in Albuquerque, New Mexico, which did not recur in 2002.
The TPA segment also recorded a transitional impairment charge of $5.2 million, after-tax in 2002, which is accounted for as the cumulative effect of accounting change. In our opinion, the non-cash transitional impairment charge primarily reflects changes in market conditions and an increase in competition in recent years in the markets served by the TPA segment.
Cash and invested assets increased 22% to $538.7 million as of December 31, 2002 from $442.0 million as of December 31, 2001. The increase in cash and invested assets is due primarily to the growth in premiums and related cash flows from operating activities, which increased the amounts available for investment.
Gerling’s actions, including placing itself in run-off with respect to its U.S. non-life reinsurance business, have been voluntary and as recently as March 10, 2003, it has publicly stated that it is paying its outstanding claims. Consequently, we currently expect that Gerling will fully meet its obligations to us. We will continue to monitor developments at Gerling and should its financial condition worsen, we could, in-turn, recognize a charge for uncollectible reinsurance recoverables.
Deferred income taxes increased 74% to $34.7 million as of December 31, 2002 from $19.9 million as of December 31, 2001. The increase in deferred income taxes is primarily due to the adoption of FAS 142. As a result of the transitional impairment tests required by FAS 142, in 2002 we recognized a one-time, non-cash pre-tax charge of $48.4 million and recorded deferred tax assets for tax-deductible goodwill, in the amount of $18.8 million.
The liability for losses and LAE increased 38% to $440.2 million as of December 31, 2002 from $318.5 million as of December 31, 2001. Excluding the effect of the return of loss and LAE reserves of approximately $9.3 million on business previously assumed from PRI, which was commuted in the first quarter of 2002, the increase in our liability for loss and LAE was approximately $131.0 million. The increase in the liability for losses and LAE is primarily attributable to the growth in our core MPL book of business, taking into consideration expected loss trends and other pertinent considerations.
Unearned premiums increased 18% to $173.4 million as of December 31, 2002 from $146.8 million as of December 31, 2001. The increase in unearned premiums is the result of the growth in premiums written at our insurance subsidiaries.
Accrued expenses and other liabilities increased 142% to $75.7 million as of December 31, 2002 from $31.3 million as of December 31, 2001. Approximately $32.6 million of the increase in accrued expenses and other liabilities is related to the purchase of investments for which the costs from the purchase had not been paid at December 31, 2002 and a payable to broker was recorded. Approximately $4.9 million of the increase in accrued expenses and other liabilities is related to commissions payable associated with an increase in insurance business.
Under our stock repurchase programs, we may repurchase shares at such times, and in such amounts, as management deems appropriate, subject to the requirement of our credit facility. In accordance with an amendment to our credit facility dated November 21, 2002, we must obtain the consent of our lenders to repurchase any of our stock. We did not repurchase any shares during 2002. Since the commencement of these repurchase programs, we have repurchased 875,000 of our shares at a cost of approximately $16.2 million. A total of 365,500 shares remain available to be repurchased under the programs.
The payment of losses and LAE, operating expenses, interest expense and income taxes in the ordinary course of business and the repayment of debt and assignment of collateral are the principal needs for our liquid funds. Cash provided by operating activities has been used to pay these items and was sufficient during 2002 to meet these needs. As reported in the consolidated statement of cash flows, we generated positive net cash from operating activities of $98.1 million for the year ended December 31, 2002. At December 31, 2002, we had cash and cash equivalents of $86.6 million and held fixed maturity debt securities with a fair value of approximately $9.2 million with scheduled maturities during the next twelve months. We believe that cash and cash equivalents as of December 31, 2002, combined with cash flows from operating activities and the scheduled maturities of investments in 2003, will be sufficient to meet our cash needs for operating purposes for at least the next twelve months. A number of factors could cause unexpected changes in liquidity and capital resources available, including but not limited to the following:
i) Unexpected changes in premium revenue due to higher or lower than expected new business or retention of insurance policies in force;
vi) Uncertainties surrounding the availability and costs associated with our bank credit financing.
(ii) Monitor our reserve positions and regularly perform actuarial reviews of loss and LAE reserves; and
(iii) Attempt to maintain adequate asset diversification and liquidity (by managing our cash flow from operations coupled with the maturities from our fixed income portfolio investments).
ii) Combined net premiums written to combined statutory capital and surplus may not exceed 1.75:1;
iii) Funded debt to total capital plus funded debt may not exceed 0.27:1;
v) Combined gross premiums written to combined statutory capital and surplus may not exceed 2.75:1.
The National Association of Insurance Commissioners has developed risk-based capital (“RBC”) measurements for insurers, which have been adopted by the Florida and Missouri Departments of Insurance. RBC measurements provide state regulators with varying levels of authority based on the adequacy of an insurer’s adjusted surplus. At December 31, 2002, our insurance subsidiaries maintained adjusted surplus in excess of their required RBC thresholds.
Our insurance subsidiaries are also subject to assessment by the financial guaranty associations in the states in which they conduct business for the provision of funds necessary for the settlement of covered claims under certain policies of insolvent insurers. Generally, these associations can assess member insurers on the basis of written premiums in their particular states. In addition to standard assessments, the Florida and Missouri legislatures may also levy special assessments to settle claims caused by certain catastrophic losses. We would be assessed on a basis of premiums written. During 2001, a special assessment was levied on First Professionals and APAC that totaled $0.9 million. No special assessments were made in 2002 or 2000. In addition, we could be subject to additional assessments in the future as a result of damages caused by catastrophic losses, such as a hurricane.
Income tax (benefit) expense related to unrealized gains and losses (3,232 )
Realized (gain) loss on sale of investments (4,688 ) (1,429 )
Due from reinsurers on unpaid losses and advance premiums (87,749 ) (22,712 )
Proceeds from sale or maturity of bonds and U.S. Government securities 313,313
Purchase of bonds and U.S. Government securities (395,070 ) (182,930 ) (59,351 )
Receipt of proceeds from revolving credit facility and term loan -
The accompanying notes are an intregal part of the consolidated financial statements.
FPIC Insurance Group, Inc. (“FPIC”) was formed in 1996 in a reorganization of First Professionals Insurance Company, Inc. (“First Professionals,” formerly named Florida Physicians Insurance Company, Inc.) and McCreary Corporation (“McCreary”). Under the reorganization plan, First Professionals’shareholders became the shareholders of FPIC. They received five shares of FPIC common stock for each share of their First Professionals’ common stock. McCreary also became a subsidiary of FPIC. Effective January 1, 2002, McCreary was merged into its subsidiary, Employers Mutual, Inc. (“EMI”), with EMI continuing as the surviving entity. FPIC and its subsidiaries operate in three business segments: Insurance, Reciprocal Management and Third Party Administration (“TPA”). The following table provides additional information about FPIC, its business segments and subsidiaries.
• Effective December 1, 2002, Interlex ceased writing LPL Insurance. Interlex sold the renewal rights to its LPL policies to an unrelated insurance organization on October 3, 2002.
TPA • Provides administrative and claims management services to self-insured employer groups for group accident and health insurance, workers’ compensation insurance and general liability and property insurance plans.
The main sources of revenue for FPIC are dividends and management fees from our subsidiaries. The main sources of revenue for the subsidiaries are premiums earned and investment income (insurance segment) and claims administration and management fees and commission income (reciprocal management and TPA segments).
Legal/Regulatory Risk is the risk that changes in the legal or regulatory environment in which FPIC operates will change and create additional costs or expenses not anticipated in pricing our products. That is, regulatory initiatives designed to reduce FPIC’s profits or new legal theories may create costs for FPIC beyond those currently reflected in the consolidated financial statements. This risk is concentrated in Florida, Missouri and New York, where FPIC has written or assumed approximately 52%, 20% and 13%, respectively, of the insurance and reinsurance business we have retained for our own account.
Underwriting Risk is the risk that actual ultimate losses are higher than the losses we estimated in our decisions regarding pricing and selecting of insured risks. Such criteria are generally based upon the expected loss experience for particular types, classes and geographic locations of the insured risks. Unlike other businesses, we must price and sell our insurance policies before the actual loss costs associated with those policies are known. Therefore, to the extent the actual insurance-related results of an insurer, before consideration of investment income, fail to correspond with the related pricing and/or selection criteria, an underwriting gain or loss occurs.
Market Risk is the risk that a change in interest rates will cause a decrease in the value of FPIC’s investments. To the extent that liabilities come due more quickly than assets mature, we would have to sell assets prior to maturity and recognize a gain or loss.
Cash and Cash Equivalents. For purposes of the consolidated statements of cash flows, FPIC considers cash equivalents to include all demand deposits, overnight investments and instruments with a maturity of three months or less.
Investments. We account for our investments in debt and equity securities under Statement of Financial Accounting Standard No. (“FAS”) 115, “Accounting for Certain Investments in Debt and Equity Securities.” Under the provisions of FAS 115, FPIC is required to classify investments in debt and equity securities into one of three categories: held-to-maturity, available-for-sale or trading. All of our investments in debt and marketable equity securities are classified as available-for-sale on the consolidated statements of financial position, with the change in fair value during the period excluded from earnings and recorded net of tax as a component of other comprehensive income.
Market values for debt and marketable equity securities were based on quoted market prices. Other invested assets include investments in two limited partnerships. One of these partnerships invests in stocks and other financial securities of both publicly and non-publicly traded companies, primarily in the insurance and financial services industries. The other partnership is a diversified real estate fund. FPIC also has a private equity investment in one corporation. The carrying values for these investments approximate their fair values.
In addition, FPIC has non-controlling interests in a corporation and another limited partnership, which are accounted for under the equity method of accounting due to the significance of FPIC’s investment.
Deferred Policy Acquisition Costs.Deferred policy acquisition costs consist primarily of commissions and premium taxes that are related to the production of new and renewal insurance business. Acquisition costs are deferred and amortized over the period in which the related premium is earned. Deferred policy acquisition costs are reviewed to determine if they are recoverable from future income, including investment income. If such costs are estimated to be unrecoverable, they are expensed. Commissions and brokerage fee expenses incurred by FPIC’s non-insurance businesses are expensed as incurred.
Effective January 1, 2002, we adopted FAS 142, “Goodwill and Other Intangible Assets.” In accordance with FAS 142, goodwill and indefinite lived intangible assets are no longer amortized. Instead, they are subject to an annual (or under certain circumstances more frequent) impairment test based on their estimated fair value. Other intangible assets that meet certain criteria continue to be amortized over their useful lives and are also subject to an impairment test based on estimated fair value. We completed the transitional impairment analysis required by FAS 142 during the first quarter 2002 and recorded an impairment charge of $29.6 million, net of an $18.8 million income tax benefit, as the cumulative effect of accounting change. There are many assumptions and estimates underlying the determination of an impairment loss. Another estimate using different, but still reasonable, assumptions could produce a significantly different result. Therefore, additional impairment losses could be recorded in the future.
Revenue Recognition. Premiums are earned and recognized as revenues on a monthly pro rata basis over the terms of our insurance policies. Policy terms do not exceed one year. Unearned premiums represent the portion of written premiums that remain to be earned in future periods. Premiums received in advance of the policy year are recorded as premiums collected in advance in the consolidated statements of financial position. Claims administration and management fee income is comprised of revenues from the reciprocal management and TPA segments. Management fees of the reciprocal management segment, determined as a percentage of PRI’s premiums, are recognized as billed and earned under the contract, which generally corresponds with the reported premiums written of PRI, net of an estimate for premium refunds, for the calendar year. Such management fees are estimated, billed and earned for quarterly reporting purposes based upon semi-annual estimates of the reported premiums written of PRI rather than actual written premiums for a quarter, which may vary significantly from quarter to quarter. This convention is used so that management fees are recognized more ratably over the period in relation to the services provided by the reciprocal management segment to PRI. Claims administration and management fees of the TPA segment are subject to contractual arrangements, some of which exceed one year. These revenues are recognized as earned and billed under the terms of these contracts, which generally correspond with the provision of services to customers.
Commission income for both non-insurance segments is associated with the placement of reinsurance with outside reinsurers on behalf of PRI, various TPA customers and in some cases, FPIC, where commissions or brokerage fees related to a transaction are payable by the reinsurer. Commissions and brokerage fees are recognized as revenues at the later of the billing or the effective date as there is not an obligation to perform any services after that date.
The liabilities for losses and LAE and the related estimation methods are continually reviewed and revised to reflect current conditions and trends. The resulting adjustments are reflected in current year net income. While management believes the liabilities for losses and LAE are adequate to cover the ultimate liability, the actual ultimate loss costs may vary from the amounts presently estimated and such differences may be material.
FPIC also has direct and assumed liabilities associated with covered extended reporting endorsements under claims-made MPL policy forms, which provide, at no additional charge, continuing MPL coverage for claims-made insureds in the event of death, disability or retirement. These liabilities, which possess elements of both loss reserves and pension-type liabilities, are carried within unearned premiums and are estimated using assumptions for mortality, morbidity, retirement, interest and inflation.
Per Share Data.Basic earnings per share are calculated by dividing net income by the weighted average number of common shares outstanding during the year. Diluted earnings per common share are calculated using the combination of dilutive common share equivalents and the weighted average number of common shares outstanding during the period.
Accounting for Stock-based Compensation.FAS 123, “Accounting for Stock-based Compensation,” requires the fair value of stock options and other stock-based compensation issued to employees to either be recognized as compensation expense in the income statement, or be disclosed as a pro forma effect on net income and earnings per share in the footnotes to FPIC’s consolidated financial statements. FPIC elected to adopt FAS 123 on a disclosure basis only and measures stock-based compensation in accordance with Accounting Principles Board Opinion No. (“APB”) 25, “Accounting for Stock Issued to Employees,” using intrinsic values with appropriate disclosures under the fair value based method as required by FAS 123 and the new accounting pronouncement FAS 148 (see discussion of FAS 148 below.)
Interest Rate Swap.We account for our interest rate swaps in accordance with FAS 133, “Accounting for Derivative Instruments and Hedging Activities” as amended by FAS 138, “Accounting for Certain Derivative Instruments and Certain Hedging Activities.” FPIC uses derivative financial instruments to manage market risks related to changes in interest rates associated with its revolving credit facility and term loan. The differential to be paid or received as interest rates change is accrued and recognized as an adjustment to interest expense related to the debt. The related amount payable to or receivable from the counter parties are included as adjustments to accrued interest. See Note 15 for additional information related to the interest rate swaps. FPIC does not currently hold and has not issued any other derivative financial instruments.
Reclassification. Certain amounts for 2001 and 2000 have been reclassified to conform to the 2002 presentation.
FAS 148, “Accounting for Stock-Based Compensation- Transition and Disclosure,” amends FAS 123, “Accounting for Stock-Based Compensation,” to provide transition guidance for a change to the fair value based method of accounting for stock-based employee compensation. In addition, this statement amends the disclosure requirements of FAS 123 for both annual and interim financial statements. FAS 148 is effective December 31, 2002. The adoption of FAS 148 did not have a material effect on our financial statements. The disclosure requirements of FAS 148 have been incorporated into Note 19.
On March 22, 2000, FPIC entered into agreements (the “new agreements”) with the sellers of McCreary and EMI to lock in the remaining payments due under their prior respective acquisition agreements, and thereby effectively eliminated the contingent terms under those agreements. Under the new agreements, FPIC paid the sellers of McCreary $1.7 million on July 31, 2000, and agreed to pay the sellers of EMI $227 and $538 on March 27, 2000 and March 1, 2001, respectively. These payments increased the original purchase price and the recorded goodwill, accordingly.
Fair value estimates are based on existing financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of FPIC. For certain assets and liabilities, the information required is supplemented with additional information relevant to an understanding of the fair value.
• Revolving credit facility - Carrying value approximates the fair value.
As of December 31, 2002, investments in securities and cash with an amortized cost of $15,168 and a market value of $16,546 were on deposit with the insurance departments in various states as required by law. Investments in securities and cash with an amortized cost of $86,116 and a market value of $88,850 were held in trust as collateral for reinsurance assumed as required by law in various states in which we assume insurance business.
Total depreciation expense on real estate investments was $286, $256 and $256 in 2002, 2001 and 2000, respectively.
At December 31, 2002 and 2001, property and equipment consisted of the following:
FPIC’s provision for income taxes for 2002, 2001 and 2000 consisted of the following:
At December 31, 2002 and 2001, the significant components of the net deferred tax asset were as follows:
FPIC adopted FAS 142 effective January 1, 2002. In connection with the adoption, in the first quarter of 2002, FPIC discontinued the amortization of goodwill and engaged independent valuation consultants to perform transitional impairment tests at each of its operating segments: insurance, reciprocal management and TPA. These operating segments meet the reporting unit requirements as defined by FAS 142.
• Under the asset approach, the value of a reporting unit is the difference in the fair value of total assets and the fair value of total liabilities. The fair value of each asset and liability may in turn be estimated using an income approach, market approach or cost approach.
Based on the results of the impairment tests, goodwill was not deemed to be impaired at the insurance segment, since the fair value of the reporting unit exceeded its carrying value. Therefore, the second step of the goodwill impairment test was not performed. However, the carrying values of the reciprocal management and TPA segments exceeded their respective fair values, indicating a potential impairment of goodwill. Under step 2 of the test, the implied fair values of the reciprocal management and TPA goodwill were compared to their carrying values to measure the amount of impairment loss. As a result, a non-cash transitional impairment charge of $48,362 ($29,578, net of an income tax benefit of $18,784) was recognized and recorded as a cumulative effect of accounting change in the accompanying consolidated statements of income for the year ended December 31, 2002. The results of the transitional impairment tests and charges were as follows:
The transitional impairment charge at the reciprocal management segment primarily reflects certain intangibles and synergies, which, in our opinion, are opportunistic in nature and carry a relatively significant degree of uncertainty; therefore, we treated these intangibles conservatively in the valuation required by FAS 142. The transitional impairment charge at the TPA segment primarily reflects changes in market conditions and an increase in competition in recent years in the markets served by FPIC’s TPA segment. The following table provides comparative disclosures of net income excluding the cumulative effect of accounting change and goodwill amortization, net of taxes, for 2002, 2001 and 2000.
At December 31, 2002, 2001 and 2000, identifiable intangibles consisted of the following:
As of December 31, 2002 As of December 31, 2001 As of December 31, 2000
FPIC cedes certain premiums and losses to other insurance and reinsurance carriers under various reinsurance agreements and fronting programs. FPIC’s reinsurance agreements do not relieve FPIC from its obligations as primary insurer to its policyholders. To the extent that any reinsurer might be unable to meet its obligations, FPIC would nonetheless continue to be liable to its policyholders for the insured losses and LAE.
In 2002, FPIC reinsured under its main excess of loss program losses incurred in excess of $500 (retention on FPIC’s anesthesiology programs was $375 per loss because 25% of that business is already ceded to American Professional Assurance Ltd. (“APAL”), a Cayman Island insurance company of which FPIC owns 9.9%). In 2000 and 2001, we reinsured losses incurred under this program in excess of $250 (retention on FPIC’s anesthesiology programs was $187 per loss because of the program between FPIC and APAL). The 2001 and 2000 programs included an annual aggregate deductible. In 2001, FPIC’s annual aggregate deductible was 10.73% of subject written premium or approximately $12.9 million. In 2000, FPIC’s annual aggregate deductible was $9.0 million.
(Dollars in Thousands, Except Per Share Amounts and Elsewhere as Noted)
On August 31, 2001, FPIC entered into a Revolving Credit and Term Loan Agreement (the “credit facility”) with five financial institutions. The initial aggregate principal amount of the credit facility was $55 million, including (i) a $37.5 million revolving credit facility (with a $15 million letter of credit sub-facility), which matures on August 31, 2004, and which FPIC has the right to increase up to $47.5 million by securing additional lenders to participate in the facility; and (ii) a $17.5 million term loan facility, repayable in twelve equal quarterly installments of approximately $1.5 million that commenced on December 31, 2001.
Amounts outstanding under the credit facility bear interest at a variable rate, primarily based upon LIBOR plus a current margin of 3.00 percentage points, which may be reduced to a minimum of 2.75 percentage points as FPIC reduces its outstanding indebtedness. The credit facility replaced a $75 million revolving credit facility (the “prior facility”) that was scheduled to have matured on January 4, 2002. Approximately $67.2 million of principal was outstanding under the prior facility at the time of refinancing. FPIC used available funds to pay down the difference between the outstanding principal amount of the prior facility and the initial amount of the new facility. We have also deposited $3.0 million (of which, $1.0 million was deposited in January 2003) as collateral under the terms of the credit facility, and are required to either pre-pay principal or make additional collateral deposits of $0.35 million quarterly in 2003. The credit facility also requires that we pre-pay principal or make additional collateral deposits of approximately $1.3 million each at March 31 and June 30, 2004. As of December 31, 2002 and 2001, the interest rates on FPIC’s credit facilities were 6.25% (as of January 2, 2003, the interest rate was 4.38%) and 4.16%, respectively. FPIC is not required to maintain compensating balances in connection with these credit facilities but is charged a fee on the unused portion, which ranges from 30 to 40 basis points.
iv) The fixed charge coverage ratio may not be less than 2.00:1 at the end of each quarter through December 31, 2002, and thereafter the fixed charge coverage ratio may not be less than 2.25:1; and
The following is a summary of FPIC’s interest risk management strategy and the effect of this strategy on FPIC’s consolidated financial statements:
Under the swap agreements, FPIC agrees to pay an amount equal to a specified fixed-rate of interest times a notional principal amount and to receive in return an amount equal to a specified variable-rate of interest times the same notional principal amount. The notional amounts on the contract are not exchanged. No other cash payments are made unless the contract is terminated prior to maturity, in which case the amount paid or received in settlement is established by agreement at the time of termination, and usually represents the net present value, at current interest rates, of the remaining obligations to exchange payments under the terms of the contract.
FPIC’s swap agreements provide a hedge against changes in the amount of cash flows associated with FPIC’s revolving credit facility and term loan. Accordingly, the swap agreements are reflected at fair value in FPIC’s consolidated statements of financial position and the effective portion of the related gains or losses on the agreements are recognized in shareholders’ equity (as a component of accumulated other comprehensive income (loss)). The net effect of this accounting on FPIC’s operating results is that interest expense on the variable debt being hedged is recorded based on fixed interest rates.
FPIC formally documents the relationships between the hedging instruments and the revolving credit facility and term loan. FPIC also assesses the effectiveness of the hedging instruments on a quarterly basis. If it is determined that the hedging instruments are no longer highly effective, the change in the fair value of the ineffective portion of the swaps would be included in earnings rather than comprehensive income. For the year ended December 31, 2002, the net gain or loss on the ineffective portion of the swap agreements was not material.
FPIC’s insurance subsidiaries from time to time become subject to claims for extra-contractual obligations or risks in excess of policy limits in connection with their insurance claims. These claims are sometimes referred to as “bad faith” actions as it is alleged that the insurance company acted in bad faith in the administration of a claim against an insured. Bad faith actions are infrequent and generally occur in instances where a jury verdict exceeds the insured’s policy limits. Under such circumstances, it is routinely alleged that the insurance company failed to negotiate a settlement of a claim in good faith within the insured’s policy limit. FPIC has evaluated such exposures as of December 31, 2002, and believes its position and defenses are meritorious. However, there can be no absolute assurance as to the outcome of such exposures. FPIC currently maintains insurance for such occurrences, which serves to limit exposure to such claims. However, in one such case, arising in 1993, no such coverage is available and an estimate of possible loss currently cannot be made. In addition, multiple claims for extra contractual obligations in a single year could result in potential exposures materially in excess of insurance coverage or in increased costs of insurance coverage.
Data with respect to FPIC’s basic and diluted earnings per common share are shown below:
During 2000, FPIC offered a stock purchase incentive program (the “incentive plan”) to eligible employees, including executive officers. Under the incentive plan, employees who purchased shares of FPIC’s common stock in the open market during the term of the incentive plan were granted matching nonqualified stock options on a one-for-one basis, up to the maximum of 5,000 options per employee. The incentive plan began January 2000 and ended April 2000. Option grants under the incentive plan were made as of May 1, 2000 at an exercise price equal to the closing market price of FPIC’s common stock on that date. Options granted under the incentive plan vest in three equal annual installments commencing on the one-year anniversary of their grant. Options under this plan were granted under the employee plan.
FPIC also maintains an Employee Stock Purchase Plan that allows employees to purchase FPIC’s common stock at 85% of the market value on the first or last day of the offering period, whichever is lower. At December 31, 2002 and 2001, 11,279 and 36,032 shares of FPIC’s common stock were reserved for issuance in connection with this plan.
The following table summarizes information for options outstanding and exercisable at December 31, 2002:
On a pro-forma basis, assuming compensation expense for FPIC’s stock options had been recognized based on their fair values on the grant date under the methodology prescribed by FAS 123, FPIC’s net income, tax expense and diluted earnings per share for the three years ended December 31, 2002, 2001 and 2000, would have been impacted as follows:
FIG also has a SERP that provides certain executives with income at retirement equal to 60% of pre-retirement base compensation, less qualified pension plan benefits paid by FPIC and all predecessor plans and Social Security benefits. The plan has no vesting prior to age 55. The total liability included in the financial statements for this plan amounted to approximately $1,541 and $1,353 as of December 31, 2002 and 2001, respectively. FPIC had a net periodic pension cost of $258, $386 and $395 under this plan in 2002, 2001 and 2000, respectively.
The Tenere money purchase plan is available to all employees of Tenere upon meeting certain eligibility requirements. The plan is designed to reward long and loyal service, whereby Tenere will make contributions to the plan on behalf of the participants for each year of service until the employee retires. At retirement, the employee will be eligible to receive the value of the contributions made to the plan on the employee’s behalf. Tenere contributes on behalf of each participant an amount equal to 6.0% of the employee’s annual compensation plus 5.7% of the employee’s annual compensation in excess of the Social Security Taxable Wage Base. At December 31, 2002 and 2001, the fair market value of plan assets was $358 and $445, respectively. The expense for this plan amounted to $94, $94 and $75 in 2002, 2001 and 2000, respectively.
The AFP defined contribution and profit sharing and defined benefit plans are available to all eligible employees of AFP. The benefits under these plans are based on years of service and employee compensation. AFP’s funding policy is to contribute to the plans an amount sufficient to meet the minimum funding requirements set forth in the Employee Retirement Income Security Act of 1974, plus any additional amounts determined to be appropriate from time to time. Contributions are intended to be sufficient to cover the costs of benefits earned for service to date and an estimate of those costs for future service. AFP contributed $1,221, $957 and $650 to the plans in 2002, 2001 and 2000, respectively. The invested assets of the plans consist of investments in various types and categories of stocks and bonds. At December 31, 2002 and 2001, the fair market value of plan assets was $6,732 and $6,185, respectively. Pension costs for the years 2002, 2001 and 2000 amounted to $1,255, $978 and $748, respectively.
Expected return on plan assets (548 ) (541 ) (500 )
Projected benefit obligations for service rendered to date $ (13,718 ) (10,680 ) (9,456 )
Projected benefit obligations in excess of plan assets (5,335 ) (2,911 ) (2,030 )
Unrecognized net loss from past experience different from that assumed 4,288
The following tables set forth the status of our two defined benefit plans combined for the fiscal years ending December 31, 2002 and 2001, respectively.
The accounting policies of the segments are the same as those described in the summary of significant accounting policies found in Note 2. FPIC evaluates a segment’s performance based on net income or loss and accounts for intersegment sales and transfers as if the sales or transfers were to a third party. Holding company operations are included within the insurance segment due to the size and prominence of the segment and the substantial attention devoted to it. Intersegment revenues for transactions between the segments are based on actual costs incurred and are similar to services that may have been obtained from an unrelated third party. All segments are managed separately because each business requires different technology and marketing strategies. Selected financial information by segment follows:
First Professionals, APAC, Intermed and Interlex are required to file statutory-basis financial statements with state insurance regulatory authorities. The insurance subsidiaries are restricted under the Florida and Missouri Insurance Codes as to the amount of dividends they may pay without regulatory consent. In 2003, dividends of $12,547 may be paid without regulatory consent.
FPIC’s insurance subsidiaries: First Professionals, APAC, Intermed and Interlex prepare financial statements for regulatory purposes on a statutory-basis in conformity with the accounting practices prescribed or permitted by the states of Florida and Missouri. Effective January 1, 2001, both states required all domiciled insurance companies to prepare their statutory-basis financial statements in accordance with the provisions of the Codification subject to the deviations prescribed or permitted by each state’s department of insurance. Accounting changes adopted to conform to the provisions of Codification are reported in the statutory financial statements as a cumulative effect of changes in accounting principles and are recorded as an adjustment to statutory surplus. As a result of the Codification, FPIC’s statutory surplus, on a consolidated basis, increased by $7.1 million for the year ended December 31, 2001. The components of this increase included surplus increases of $5.5 million, $1.2 million, $0.3 million and $0.1 million for First Professionals, APAC, Intermed and Interlex, respectively. In addition, on a consolidated basis and at the subsidiary level, FPIC’s statutory surplus after adoption continues to be in excess of the current regulatory and risk-based capital requirements.
Effective June 30, 1998, FPIC entered into a management services agreement with APA Management, Inc. (“APAM”) and Consulting Group of APA, Inc., (“CGA Consulting”), to provide FPIC with all necessary insurance management and administrative services for APAC, a wholly owned subsidiary of FPIC. FPIC has an indirect financial interest in APAM through its 9.9% interest in APAL, which owns 100% of APAM. The agreement terminates on December 31, 2003, subject to renewal as provided in the agreement. Prior to January 1, 2002, the agreement provided that APAM would receive an annual fee of 14.5% of direct premiums (net of refunds) consisting of an annual 10.5% service fee and 4% claims management fee. Effective January 1, 2002, the agreement was amended to implement a sliding fee scale of 14.5% on the first $8 million of written premiums, 11% on written premiums between $8 million and $10 million, and 10% on all written premiums in excess of $10 million. In addition, the CGA Consulting fee is $500 annually. The agreement as it concerns APAM, also provides that anesthesiologist business produced by First Professionals or its respective agents will be transferred to APAC upon renewal, assuming the insured agrees, and that APAM will receive an annual 1% service fee on such business. Management fees incurred by FPIC related to its agreement with APAM were as follows for the periods presented:
On July 1, 1998, First Professionals began assuming reinsurance from PRI, a writer of medical liability insurance in the state of New York. PRI is managed by an attorney-in-fact, AFP, which is a wholly owned subsidiary of FPIC. Under one contract, which reinsures PRI for policies with limits of $1.0 million in excess of $1.0 million, First Professionals assumes losses only and pays PRI a ceding commission on the premiums assumed. Effective April 1, 2002, the contract was changed to reinsure PRI for policies with limits of $1.0 million in excess of $1.3 million. Under another contract, which First Professionals and PRI ceased to renew for periods subsequent to December 31, 2000, First Professionals reinsured PRI for losses of $0.25 million in excess of $0.5 million on each claim. Premiums on these contracts are paid by PRI on a quarterly basis. The net premiums written under these agreements are subject to experience adjustments, which are estimated and accrued periodically based on loss experience.
Assumed premiums written, net premiums written, premiums earned, losses incurred and ceding commissions earned by FPIC related to these agreements with PRI were as follows for the periods presented:
As of December 31, 2002, 2001 and 2000, the net amounts due from PRI under these contracts were approximately $6.3 million, $2.4 million and $1.1 million, respectively.
In accordance with a management agreement, AFP performs underwriting, administrative and investment functions on PRI’s behalf for which it receives compensation. Compensation under the agreement as originally in effect was equal to 13% of PRI’s direct premiums written, with an adjustment for expected return premiums, plus or minus 10% of PRI’s statutory net income or loss. In addition, the management agreement provided that AFP is to be reimbursed by PRI for certain expenses paid by AFP on PRI’s behalf, namely salaries and related payroll costs of personnel in AFP’s claims, legal and risk management departments. Such directly reimbursed expenses are not reported in the accompanying consolidated financial statements.
During 2002, the agreement was amended by AFP and PRI to remove the sharing by AFP of 10% of PRI’s statutory net income or loss, effective January 1, 2002. With regard to profit sharing amounts already earned and collected, AFP has agreed to hold the years 1999, 2000 and 2001 open for re-determination and possible adjustment for a period of five years each (expiring 2004, 2005 and 2006, respectively.) Such adjustments would be based primarily on development of and related adjustments, if any, to loss and LAE reserves for those years. AFP has earned and collected profit sharing amounts under the original agreement totaling $3.6 million for the three years ended December 31, 2001. In accordance with the amended agreement, AFP has agreed to pay 6% annual interest on the 10% profit share amounts already earned and collected under the original agreement for 1999, 2000 and 2001, while those years remain open for possible future re-determination and adjustment, if any. In addition, AFP will be reimbursed for 100% of the costs of the risk management department it maintains for PRI insureds, for which it is not already reimbursed, compared with 50% under the previous agreement. The management agreement and amendments were reviewed and approved by the New York State Insurance Department.
FPIC’s revenues and results of operations are financially sensitive to the revenues and results of operations of PRI. In addition PRI, as an MPL insurer, is subject to many of the same types of risks as those of FPIC’s insurance subsidiaries.
Claims administration and management fees earned, profit sharing income earned and reimbursed expenses collected by FPIC related to its agreement with PRI were as follows for the periods presented:
(1) Includes the effect of the reclassification of a portion of the statutory-basis assumed reinsurance premiums written in the amount of $13.2 million related to the 100% Quota Share reinsurance agreement with PRI. This amount was finalized, reclassified and reported directly as a deferred credit in the balance sheet during the second quarter of 2000, after the initial reporting of the contract in the first quarter. This reclassification had no effect on revenues or income previously reported.