First Central Insurance subleased 3,900 square feet of its leased office space to Simon General under a sublease agreement that expired November 30, 1995. During 1995, Simon General paid $88,323 in rent to First Central Insurance. Effective December 1, 1995 Simon General entered into a lease for 3,900 square feet, which provides for an annual rent of $78,000. Simon General's rent under the lease is comparable to that paid by other tenants who occupy the building.
The following selected financial data should be read in conjunction with the consolidated financial statements of First Central and related footnotes appearing elsewhere herein and Management's Discussion and Analysis of Financial Condition and Results of Operations. The selected financial data, with the exception of the ratio of earnings to fixed charges for each of the five years in the period ended December 31, 1995, are derived from First Central's audited consolidated financial statements for such years.
* Restated to conform to the 1995, 1994 and 1993 presentation as a result of adopting Statement of Financial Accounting Standards No. 113.
Direct premiums written increased from 1994 to 1995 and from 1993 to 1994, by 10.2% and 23.7%, respectively. Such increases, were attributable principally to the expansion of First Central Insurance's markets and concentrated efforts by First Central Insurance's marketing department.
Net premiums earned increased from 1994 to 1995 and from 1993 to 1994, by 5.9% and 16.9%, respectively. These increases, are attributable to the increases in premiums written due to an expansion of First Central Insurance's markets.
During 1995 First Central Insurance, in an effort to upgrade its investment portfolio, sold approximately $16,400,000 of preferred stock and corporate notes and purchased government securities, therefore showing an increase in interest received on government securities while a decrease in corporate bond interest and dividends on preferred stock. In 1995, net investment income increased 2.5% when compared to 1994. This increase was due to the 22.7% (approximately $18,600,000) increase in invested assets during 1995. First Central Insurance recognized a net realized gain of $1,100,200 in 1995 as compared to the net realized gain of $950,898 in 1994. The 15.7% increase in realized gains in 1995 was principally due to an increase in the market value of First Central Insurance's investment portfolio resulting from favorable stock and bond market conditions evident in 1995.
GAAP and SEC Staff Accounting Bulletin No. 59 require the portion of the unrealized loss of an individual security to be recognized as a realized loss in the accounting period when the holder determines that such portion of the decline in the market value is other than temporary. Temporary declines in the market value of First Central's debt securities held to maturity do not affect First Central's carrying value of such securities, since First Central has the ability and the intent to hold these investments to maturity, at which time their full face value is expected to be received at no loss to First Central. Temporary fluctuations in the market value of available for sale securities are reflected in shareholders' equity as unrealized appreciation or depreciation net of applicable deferred federal income taxes; however, any decline in the value of the security below its cost considered to be "other than temporary" is reflected as a realized loss in First Central's income statement. Once an investment is written down to reflect an other than temporary decline, the writedown, which is charged against operations, establishes a new cost basis for the security.
At December 31, 1995, the total net unrealized gain applicable to First Central's available-for-sale securities amounted to $759,806. The unrealized gain is net of deferred taxes of $392,000 for a total gross unrealized gain of $1,151,806. At December 31, 1994, the total net unrealized loss applicable to First Central's available-for-sale securities amounted to $5,829,873, net of deferred taxes of $3,003,000 for a total gross unrealized loss of $8,832,873. The unrealized gain in 1995 was a result of a increase in the market value of First Central Insurance's investment portfolio in 1995. The
1994 increase in unrealized losses when compared to 1993 was a result of a decline in bond prices and weak stock market conditions evident in 1994.
The amount of losses and the related loss adjustment expenses are dependent upon a number of factors, including claims frequency and the number and type of policies written. These factors may fluctuate from year to year, and not necessarily in any relationship to the amount of premiums written or earned.
First Central Insurance periodically reviews its programs and reevaluates classes of insurance which it writes.
As claims are incurred, provisions are made for unpaid losses and loss adjustment expenses, less related reinsurance by: accumulating individual case estimates for losses reported prior to the close of an accounting period; estimating unreported losses based upon past experience modified for current trends; and estimating expenses for investigating and adjusting claims based upon past experience. Such liabilities are necessarily subject to the impact of future changes in claims severity. Notwithstanding the variability inherent in such estimates, First Central Insurance's management believes that the provisions made for unpaid losses and loss adjustment expenses are adequate. Such estimates are continually reviewed, and as adjustments thereto become necessary, such adjustments are reflected in current operations. As of September 1991, First Central Insurance retained an actuarial firm, Stergiou and Gruber Risk Consultants, on a retainer, which reviews First Central Insurance's reserves quarterly and is available on a daily basis for consultation.
In 1995 incurred losses increased by 47.7% when compared to 1994. This increase was due primarily to an approximate $7,400,000 increase in incurred-but-not-reported ("IBNR") reserves and approximately $3,800,000 increase in paid losses during the 1995 year when compared to 1994. During 1995, an extensive review of the Company's loss reserves was conducted by the Company's independent actuary. As a result of this review IBNR reserves were increased $8,400,000 in the fourth quarter of 1995 for a total annual increase of approximately $11,300,000. In 1994 and 1993 incurred losses increased by 17.2% and 42.0%, respectively, when compared to the previous year. The increase in incurred losses was attributable to the strengthening of the case and "IBNR" reserves and due to increases in premiums written.
In 1995 incurred loss adjustment expenses increased 20.1% over the corresponding period in 1994. This increase was due primarily to an increase in paid loss adjustment expenses. In 1994 incurred loss adjustment expenses increased by 6.9%, in comparison to 1993. This increase was due to an increase in paid allocated and unallocated loss adjustment expenses.
First Central Insurance's loss ratio on its commercial multiple peril line of insurance increased to 70.2% in 1995 compared to 43.1% in 1994 and 33.4% in 1993. The increased loss ratio in the 1995 year was due primarily to approximately $6,800,000 increase in "IBNR" reserves when compared to 1994.
In 1995 First Central's loss ratio on its workers' compensation line of business increased to 50.9% in 1995 primarily due to approximately $1,600,000 increase in "IBNR" reserves when compared to 1994. In 1994, First Central Insurance's loss ratio on its workers' compensation line of
In 1995, 1994 and 1993, First Central Insurance's loss ratio on its general liability line of insurance increased in comparison to its prior year's loss ratio; the 1995 ratio of 62.0%, 1994 ratio of 47.6% and the 1993 ratio of 31.9%. The loss ratio in 1995 increased primarily due to an increase in IBNR reserves of approximately $2,400,000 when compared to 1994.
In 1995, First Central Insurance's loss ratio on automobile physical damage line of business decreased to 47.7% when compared to 50.4% in 1994 and 66.5% in 1993 due to the continuing review and limitation of writings on this line of business. First Central Insurance has implemented restrictive guidelines in respect of the underwriting of this line of business.
Underwriting Expenses are a combination of Policy Acquisition Costs and Other Operating Expenses as shown on the statement of income.
In 1994 First Central's underwriting expense increased by 5.7% over such expenses for 1993 while the underwriting expense ratio decreased from 35.2% in 1993 to 31.2% in 1994. The underwriting expenses in 1994 exceeded prior year amounts primarily due to additional premium tax expenses incurred and additional employee staffing, both as a result of an increase in premium writing, offset in part by a decrease in amortization expense.
First Central's interest expense in 1995, 1994 and 1993 was approximately $607,000, $642,000 and $827,000, respectively. The interest expenses were attributable primarily to interest paid under the Debentures which were sold between September 1988 and January 1989. The interest expense is decreasing due primarily to First Central's purchase, retirement and conversions of an aggregate of $5,920,000 principal amount of the original $12,250,000 aggregate principal amount of the Debentures. In 1995, 1994 and 1993, $425,000, $1,060,000 and $2,000,000 principal amount of the Debentures, respectively, were purchased and retired.
The provision for doubtful accounts during 1995, 1994, and 1993 was $695,865, $1,056,557 and $542,730, respectively. The 1995 decrease in the provision was due to a smaller
Operating expenses remained consistant for 1995 when compared to 1994. Operating expenses increased by 8.3% in 1994 when compared to 1993. This increase was due to additional personnel and the related increase in payroll expenses in 1994.
Net income increased 27.0% in 1994 when compared to 1993. This was a result of increases in earned premiums, net investment income, and a decrease in interest expense offset in part by an increase in losses, loss adjustment expenses, underwriting expenses, doubtful accounts and other operating expenses, and a decrease in claims adjusting revenues and realized gains.
As a result of the actuarial report performed on the December 31, 1994 loss and loss adjustment expense reserves, the ceded IBNR was increased $10,000,000. The effect of this increase was offset by the additional direct IBNR of $13,900,000 .
Although First Central Insurance believes it will be able to maintain its heretofore satisfactory relations with its reinsurers, the ability of First Central Insurance to directly underwrite increased volumes of insurance could be materially adversely affected in the event that one or more of its reinsuring arrangements is terminated and First Central Insurance is unable to replace or increase its reinsurance coverage.
First Central and First Central Insurance's capital resources and liquidity relative to their assets have increased during the past number of years as a result of the infusion of $3.9 million net proceeds of First Central's initial public offering in 1985, $5.1 million net proceeds derived by First Central from the exercise of warrants in 1990 and the net proceeds of approximately $10.7 million derived by First Central from a private placement of its Debentures in 1988 and 1989.
During 1992, 114,286 units each consisting of a share of common stock and a three year warrant exercisable at $7.00 per share were privately placed with one institutional investor at a price of $7.00 per unit for a total purchase price of $800,002. In March 1993, 153,846 units each consisting of a share of common stock, a two year warrant exercisable at $7.00 per share and a three year warrant exercisable at $7.50 per share were privately placed with a second institutional investor at a price of $6.50 per unit for a total purchase price of $1,000,000. The first placement was rescinded and replaced with a sale of 123,077 units to the same investor on terms conforming to the second placement. $1,000,000 principal amount of First Central's 9% Convertible Subordinated Debentures due 2000 were purchased at par from the investor in the first placement. $1,500,000 principal amount of such debentures were purchased at par from the investor in the second placement. In December 1993, 153,846 units each consisting of a share of common stock and a warrant exercisable at $7.50 per share on or prior to March 19, 1996 were privately placed with the investor in the second placement at a price of $6.50 per unit for a total purchase price of $1,000,000. During 1994, 192,307 units each consisting of a share of common stock and a warrant exercisable at $7.50 per share on or before August 31, 1996, were privately placed with two institutional investors and a reinsurance company at $6.50 per unit for a total purchase price of $1,250,000.
In addition to the foregoing provisions of the 1986 Tax Act and the 1990 Tax Act, which specifically affects the tax treatment of property and casualty insurance companies, both Acts also contain provisions which are applicable to corporations generally, including First Central. Among such provisions are (1) a decrease of the maximum federal income tax rate on corporations to 34%; (2) a decline of the dividends received deduction for corporations to 70%; (3) a repeal of the investment tax credit; (4) a change in the depreciation rules; and (5) replacement of the 15% corporate add-on minimum tax with an expanded alternative minimum tax (imposed at a 20% rate) under which, among other items, (a) tax-exempt interest earned on certain newly issued bonds and (b) for years 1987 through 1989, 50% of the amount by which a corporation's pre-tax financial statement income (and for years after 1989, 75% of the adjusted current earnings and profits of the corporation) exceeds the alternative minimum taxable income are treated as tax preference items.
First Central had gross deferred tax assets of approximately $7,115,000 and gross deferred tax liabilities of approximately $2,650,000 as of December 31, 1995. A valuation allowance has not been established with respect to the deferred tax asset at December 31, 1995 since it is more likely than not that the deferred tax asset will be fully realized, primarily because future reversals of existing taxable temporary differences and taxable income in prior carryback years are sufficient to realize a substantial portion of the deferred tax assets. In addition, based on the strong earnings history of First Central, future taxable income is expected to be sufficient to realize the benefit of the deferred tax assets.
Information required by this item is submitted on pages 35 to 61.