As of December 31, 2010, the Company owned a building in Tucker, Georgia where part of its information technology facility is located. It also owned an office in Kitchener, Ontario and an additional office location in Stockport, England, both of which are utilized by the Company’s International Operations segment. As of December 31, 2010, the Company leased over 400 other office locations under various leases with varying terms. Other office locations are occupied under various short-term rental arrangements. The Company generally believes that its office locations are sufficient for its operations and that, if it were necessary to obtain different or additional office locations, such locations would be available at times, and on commercially reasonable terms, as would be necessary for the conduct of its business. No assurances can be given, however, that the Company would be able to obtain such office locations as and when needed, or on terms it considered to be reasonable, if at all.
This is a segment financial measure representing earnings (loss) before net corporate interest expense, stock option expense, amortization of customer-relationship intangible assets, other gains and expense, and income taxes.
Insurance companies, which represent the major source of our global revenues, customarily manage their own claims administration function, but often rely on third parties for certain services which we provide, primarily field investigation and the evaluation of property and casualty insurance claims. We also conduct inspections of building component products related to warranty and product performance claims.
In the insurance industry, the underwriting cycle is often said to be in either a “soft” or “hard” market. A soft market generally results when insurance companies focus more on increasing their premium income and focus less on controlling underwriting risks. A soft market often occurs in conjunction with strong financial markets or in a period with a lack of catastrophe losses. Insurance companies often attempt to derive a significant portion of their earnings from their investment portfolios, and their focus may turn to collecting more premium income to invest under the assumption that increased investment income and gains will offset higher claim costs that usually result from relaxed underwriting standards. Due to competition in the industry during a soft market, insurance companies usually concentrate on growing their premium base by increasing the number of policies in-force instead of raising individual policy premiums. When the insurance underwriting market is soft, insurance companies are generally more aggressive in the risks they underwrite, and insurance premiums and policy deductibles typically decline. This usually results in an increase in industry-wide claim referrals which generally will increase claim referrals to us, provided that we are able to maintain our existing market share. However, if a soft market coincides with a period of low catastrophic claims activity, industry-wide claim volumes may not increase.
We are also impacted by decisions insurance companies and other clients may make to change the level of claims outsourced to independent claim service firms as opposed to those handled by their own in-house claims adjusters or contracted to other third party administrators, whether or not associated with insurance companies. Our ability to grow our market share in a highly fragmented and competitive market is primarily dependent on the delivery of superior quality service and effective sales efforts.
For 2008, net income attributable to Crawford & Company was impacted by a non-taxable gain of $2.5 million related to the sale of a lower-tier subsidiary in the Netherlands (the “Netherlands subsidiary”). Our net income in 2008 also included a charge of $3.3 million, or approximately $2.4 million after income tax, from certain internal restructuring activities in our U.S. Property & Casualty and International Operations segments.
Compared to 2009, our consolidated revenues before reimbursements (“revenues”) were higher in 2010 due primarily to the Legal Settlement Administration segment's engagement in the Gulf Coast Claims Facility ("GCCF") special project. International Operations segment revenues increased due primarily to the net positive impact of changes in currency exchange rates and to weather-related claim surges in our Asia-Pacific operating region. U.S. Property & Casualty segment revenues were lower in 2010 due primarily to an overall industry-wide softness in domestic property and casualty claims. Broadspire segment revenues decreased in 2010, primarily due to the reduced number of workers’ compensation claims as a result of lower U.S. employment levels and the impact of a previously-announced 2009 non-renewal of a major contract within the segment.
Selling, general and administrative ("SG&A") expenses were 3.3% lower in 2010 than in 2009 and 4.2% lower in 2009 than in 2008, due primarily to lower expenses associated with our professional indemnity self-insured risks and lower expenses resulting from the termination in 2009 of a computer systems hosting contract.
We believe that a discussion and analysis of the operating earnings of our four operating segments is helpful in understanding the results of our operations. Operating earnings is our segment measure of profitability as discussed in Note 12, “Segment and Geographic Information," to the accompanying audited consolidated financial statements contained in Item 8 in this Annual Report on Form 10-K. Operating earnings is the primary financial performance measure used by our senior management and CODM to evaluate the financial performance of our operating segments and make resource allocation decisions. Unlike net income, our operating earnings measure is not a standard performance measure found in GAAP. However, since it is our segment measure of profitability presented in conformity with the Financial Accounting Standards Board’s (“FASB”) Accounting Standards Codification (“ASC”) Topic 280 “Segment Reporting,” it is not considered a non-GAAP measure requiring reconciliation pursuant to Securities and Exchange Commission (“SEC”) guidance contained in Regulation G and Item 10(e) of Regulation S-K. We believe this measure is useful to others in that it allows them to evaluate segment operating performance using the same criteria our management and CODM use. Operating earnings represent segment earnings excluding income tax expense, net corporate interest expense, amortization of customer-relationship intangible assets, stock option expense, certain other gains and expenses, and certain unallocated corporate and shared costs. Net income or loss attributable to noncontrolling interests has been removed from operating earnings.
Unallocated corporate and shared costs represent expenses and credits related to our CEO and Board of Directors, certain provisions for bad debt allowances or subsequent recoveries such as those related to bankrupt clients, defined benefit pension costs or credits for our frozen U.S. pension plan, and certain self-insurance costs and recoveries that are not allocated to our individual operating segments.
Additional discussion and analysis of our income taxes, net corporate interest expense, amortization of customer-relationship intangible assets, stock option expense, unallocated corporate and shared costs, and other gains and expenses follows the discussion and analysis of the results of operations of our four operating segments.
Operating results for our U.S. Property & Casualty, International Operations, Broadspire, and Legal Settlement Administration segments reconciled to pretax income (loss) and net income (loss) attributable to Crawford & Company, were as follows:
Operating earnings for our U.S. Property & Casualty segment decreased from $18.7 million in 2009 to $11.5 million in 2010, representing an operating margin of 6.1% in 2010 compared to 9.0% in 2009. The decrease in 2010 was primarily due to a decrease in revenues as discussed below.
U.S. Property & Casualty revenues are primarily generated from the domestic property and casualty insurance company markets, with additional revenues generated from the warranties and inspections marketplace and from our Contractor Connection direct repair network. U.S. Property & Casualty revenues before reimbursements by major service line were as follows:
U.S. Property & Casualty revenues before reimbursements decreased 8.4% to $190.0 million in 2010 compared to $207.5 million in 2009. The 8.4% revenue decline from 2009 to 2010 was due to a 1.6% decrease from changes in the mix of services provided and in the rates charged for those services, and a 6.8% decrease in segment unit volume, measured principally by cases received. The decrease in segment unit volume was due primarily to a decrease in Claims Field Operations driven by reduced property, casualty, vehicle and warranty services claims in 2010, and declines in Catastrophe Services resulting from an overall decrease in weather-related events in 2010. These reductions were partially offset by increases in revenues from our direct repair network, Contractor Connection, and from technical services, which primarily handles major commercial losses. The increase in technical services revenues despite the decline in cases received, as discussed below, is due to increased severity and difficulty in the mix of cases received, resulting in increased revenues.
U.S. Property & Casualty unit volumes by underlying case category, as measured by cases received, for 2010 and 2009 were as follows:
The 2010 decrease in property and casualty claims was due primarily to lower industry-wide claims volumes, which have resulted in fewer claims referred to us from our clients. The 2010 decline in vehicle claims was due primarily to general economic conditions which we believe have resulted in fewer miles driven and thus fewer claims, and also due to decisions by certain insurance companies to reduce third-party adjuster involvement in handling vehicle-related claims. We expect the trend of reduced third-party adjuster involvement in vehicle claims to continue. The 2010 decrease in warranty services claims resulted from the expiration of several long-running class action contracts. This trend is expected to continue as we are not aware of any large new class action warranty claims that will replace the expiring contracts. The slight increase in 2010 workers’ compensation and other claims was due primarily to increased referrals for outside investigations from insurance carriers and internal referrals from our Broadspire segment. The 2010 increase in Contractor Connection cases was due to the ongoing expansion of our contractor network and due to the trend of insurance carriers moving high-frequency, low-severity property claims directly to repair networks, which we expect to continue. The 2010 decreases in technical services and catastrophe services claims were due primarily to decreases in weather-related claims. As discussed in more detail elsewhere herein, we cannot predict the future trend of case volumes for a number of reasons, including the frequency and severity of weather-related claims and the occurrence of natural and man-made disasters, which are significant sources of claims for us and are generally not subject to accurate forecasting.
U.S. Property & Casualty direct compensation and fringe benefits expense, as a percent of segment revenues before reimbursements, increased to 61.7% in 2010 compared to 61.0% in 2009. This increase in 2010 was due primarily to a reduction in revenues as expenses declined 7.3%. There was an average of 1,427 full-time equivalent employees ("FTEs") (including 68 catastrophe adjusters) in 2010 compared to an average of 1,619 (including 90 catastrophe adjusters) in 2009.
U.S. Property & Casualty salaries and wages decreased 7.9%, to $98.2 million in 2010 from $106.6 million in 2009. The decrease in 2010 compared to 2009 was due primarily to the reduction in FTEs and lower incentive compensation expense. Incentive compensation is variable and is primarily tied to growth in revenues and operating earnings and to reductions in a days-sales-outstanding ("DSO") measure for accounts receivable. Payroll taxes and fringe benefits for U.S. Property & Casualty totaled $19.1 million in 2010, decreasing 4.0% from 2009 expenses of $19.9 million. The decrease in 2010 compared to 2009 was due primarily to the reduction in salaries and wages, partially offset by higher defined contribution retirement plan expense.
Substantially all International Operations segment revenues are earned from property and casualty insurance company markets outside of the U.S. International Operations revenues before reimbursements by major region were as follows:
Revenues before reimbursements from our International Operations segment totaled $430.7 million in 2010, a 9.9% increase from $391.7 million in 2009. This 2010 revenue increase was due to the net positive impact of changes in currency exchange rates and case volumes, partially offset by changes in the mix of services provided and in the rates charged for those services. Compared to 2009, the U.S. dollar was weaker in 2010 against most major foreign currencies, resulting in a positive impact from exchange rate movements of $24.9 million on this segment’s revenues from 2009 to 2010. The improvement in Canada's revenue from 2009 to 2010 is entirely due to a positive impact from exchange rate movements. Excluding the positive impact of exchange rate fluctuations, International Operations revenues would have been $405.8 million in 2010, reflecting growth in revenues on a constant dollar basis of 3.6%.
As a percent of segment revenues before reimbursements, direct compensation expense, including related payroll taxes and fringe benefits, decreased to 66.6% in 2010 from 68.3% in 2009. The percentage decrease primarily reflected increased utilization of our staff as a result of the increase in the number of cases received. The dollar amount of these expenses increased in 2010 by $19.5 million, primarily due to the weaker U.S. dollar in 2010 compared to 2009. There was an average of 4,247 International Operations FTEs in 2010, down slightly from 4,266 in 2009.
As disclosed in Note 3, “Goodwill and Intangible Assets,” to the accompanying audited consolidated financial statements in Item 8 of this Annual Report on Form 10-K, we recorded goodwill and intangible asset impairment charges related to our Broadspire segment totaling $10.8 million in 2010 and $140.9 million in 2009. These impairment charges have been excluded from Broadspire’s segment operating loss and are not included in the following discussion and analysis of Broadspire’s segment operating results.
The 2010 decline in workers' compensation claims reflected a continuing decline in reported workplace injuries in the U.S. primarily as a result of the continued overall lower level of employment due to the current economic climate, as well as the loss of a significant client discussed below. The U.S. market has experienced a decline in reported workplace injuries over the past decade resulting in a loss in revenue from our existing customer base. The significant increase in casualty claims in 2010 over 2009 is due to services provided in connection with a special project for one of our customers. While this project has continued into 2011, the extent to which our services related to this project will be needed in 2011 is currently uncertain. The 2010 increases in other claims were primarily due to increases in health management services resulting from employers that added such services to their employee benefits programs. We cannot predict the future trend of case volumes as they are generally dependent on the timing and extent of job creation in the U.S. and the occurrence of casualty-related events which are not subject to accurate forecasting.
During December 2010, we were notified by a major client of our Broadspire segment that the client was in bankruptcy and would terminate its relationship with us during the first quarter of 2011. For 2010, revenues related to this client totaled approximately $9.7 million. In 2009, we were notified by a major client that the client would not renew its existing contract with us effective on the scheduled expiration of that contract in December 2009. Revenues related to this client in 2009 were $21.1 million.
Broadspire’s direct compensation and fringe benefits expense, as a percent of the related revenues before reimbursements, increased to 59.3% in 2010, compared to 56.0% in 2009. This percentage increase primarily resulted from lower revenues as the actual amount of these expenses were 10.0% lower compared to 2009 as FTEs were reduced in an effort to control costs. Average FTEs totaled 1,977 in 2010, down from 2,243 in 2009.
Legal Settlement Administration revenues are primarily derived from securities, product liability and other legal settlements, and Chapter 11 bankruptcy administration, primarily in the U.S.
Reimbursements for out-of-pocket expenses included in total revenues for Legal Settlement Administration were $38.8 million in 2010, increasing from $32.1 million in 2009. The increase in 2010 was due primarily to the overall increase in activity in 2010, which required a significant amount of out-of-pocket reimbursable expenses. The nature and volume of work performed in our Legal Settlement Administration segment typically requires more incurred and reimbursable out-of-pocket expenditures than our other operating segments.
Legal Settlement Administration’s direct compensation expense, including related payroll taxes and fringe benefits, as a percent of segment revenues before reimbursements, decreased to 33.3% in 2010, compared to 43.7% in 2009. The 2010 percentage decrease was primarily due to operating efficiencies achieved as a result of the increase in revenues. The increase in the 2010 dollar amount of these expenses was due primarily to higher incentive compensation expense and the increased number of FTEs in 2010. There was an average of 390 FTEs in 2010, compared to an average of 347 in 2009.
Operating earnings for our U.S. Property & Casualty segment decreased from $22.6 million in 2008 to $18.7 million in 2009, representing an operating margin of 9.0% in 2009 compared to 10.4% in 2008. The decrease in 2009 was primarily due to a decrease in revenues as discussed below.
U.S. Property & Casualty revenues before reimbursements by major service line were as follows:
The 2009 decrease in property and casualty claims was due primarily to lower industry-wide claims volumes, which have resulted in fewer claims referred to us from our clients. The 2009 decline in vehicle claims was due primarily to general economic conditions which we believe resulted in fewer miles driven and thus fewer claims, and also due to decisions by certain insurance companies to reduce adjuster involvement in handling vehicle-related claims. The 2009 decrease in warranty services claims resulted from the expiration of several long-running class action contracts.The 2009 decrease in workers’ compensation claims was due primarily to decreased referrals for outside investigations from insurance carriers and internal referrals from our Broadspire segment. The 2009 increase in Contractor Connection cases was due to the ongoing expansion of our contractor network and due to the trend of insurance carriers moving high-frequency, low-severity property claims directly to repair networks. The 2009 increase in technical services claims was due primarily to our continued expansion in this market by increasing the number of executive general adjusters that we employ and due to the resulting increase in market share. The 2009 increase in catastrophe services claims was due primarily to severe weather earlier in the year.
U.S. Property & Casualty direct compensation and fringe benefits expense, as a percent of segment revenues before reimbursements, decreased to 61.0% in 2009 compared to 61.8% in 2008. This decrease in 2009 was due primarily to a reduction in FTEs and lower incentive compensation expense. There was an average of 1,619 FTEs (including 90 catastrophe adjusters) in 2009 compared to an average of 1,688 (including 132 catastrophe adjusters) in 2008. During the 2008 fourth quarter, we deployed over 300 catastrophe adjusters to the Gulf Coast region of the U.S. in response to hurricanes Dolly, Gustav and Ike.
U.S. Property & Casualty salaries and wages decreased 4.8%, to $106.6 million in 2009 from $112.0 million in 2008. The decrease in 2009 compared to 2008 was due primarily to the reduction in FTEs. Payroll taxes and fringe benefits for U.S. Property & Casualty totaled $19.9 million in 2009, decreasing 11.6% from 2008 expenses of $22.5 million. The decrease in 2009 compared to 2008 was due primarily to the reduction in FTEs, lower incentive compensation expense, and temporary reductions in planned contributions to defined contribution retirement plans.
U.S. Property & Casualty expenses other than reimbursements, direct compensation and related payroll taxes and fringe benefits increased as a percent of U.S. Property & Casualty revenues before reimbursements to 30.0% in 2009 from 27.9% in 2008. The increase in 2009 was primarily due to lower revenues in 2009 as these expenses tend to be more fixed in nature. In addition, the segment’s bad debt expense was $1.8 million lower in 2008 compared to 2009. In 2008, the segment collected a previously charged-off account receivable and also introduced an incentive compensation plan that included a focus on reducing outstanding accounts receivable balances.
International Operations’ operating earnings decreased to $33.8 million in 2009, a decrease of 14.5% from 2008 operating earnings of $39.5 million for the reasons described below. This decline resulted in a slight decline in the operating margin from 8.9% in 2008 to 8.6% in 2009.
The 2009 decrease in the U.K. was due primarily to a reduction of storm-related claims in 2009. The 2009 decrease in Canada was due primarily to a reduction in weather-related activity. The 2009 increase in CEMEA was due primarily to an increase in high-frequency, low severity claims in Scandinavia and Belgium. The changes in Asia-Pacific volumes were primarily due to high frequency, low severity claims activity in China and an increase in weather-related activity in Australia. The increase in the Americas was due primarily to an increase in high frequency, low severity claims in Brazil.
Expenses other than reimbursements, direct compensation and related payroll taxes and fringe benefits decreased as a percent of segment revenues before reimbursements from 23.9% in 2008 to 23.1% in 2009. This percentage decrease in 2009 was due primarily to increased operational efficiencies which allowed us to service additional revenue when measured on a constant-dollar basis without adding an equivalent amount of these costs which are generally more fixed in nature. The dollar amount of these expenses decreased in 2009 by $15.8 million due primarily to a stronger U.S. dollar in 2009.
Our Broadspire segment recorded an operating loss of $(1.6) million, or (0.6)% of segment revenues before reimbursements in 2009 compared to operating earnings of $3.5 million, or 1.1% of segment revenues before reimbursements in 2008. Declining case volumes in 2009 and the weakened labor market in the U.S. negatively impacted Broadspire’s operating results.
Reimbursements for out-of-pocket expenses included in total revenues for our Broadspire segment were $5.2 million in 2009, decreasing slightly from $5.3 million in 2008. This decrease was primarily attributable to the declines in case volumes, substantially offset by increased out-of-pocket expenses for the medical management of workers’ compensation claims.
Broadspire unit volumes by major underlying case category, as measured by cases received, for 2009 and 2008 were as follows:
At December 31, 2009 we had an estimated backlog of awarded projects totaling approximately $55.0 million, compared to $41.9 million at December 31, 2008.
Income tax provisions totaled $9.7 million, $2.6 million, and $11.6 million for 2010, 2009, and 2008, respectively. Our consolidated effective income tax rate for financial reporting purposes may change periodically due to changes in enacted tax rates, fluctuations in the mix of income earned from our various domestic and international operations, which may be subject to differing tax rates, our ability to utilize net operating loss and tax credit carryforwards, and amounts related to uncertain income tax positions. Our effective tax rate, including discrete items and adjustments related to uncertain tax positions, for financial reporting purposes was 25.2%, (2.3)%, and 26.0% for 2010, 2009, and 2008, respectively. After adjusting for the $10.8 million and $140.3 million non-deductible goodwill charges in 2010 and 2009, respectively, our effective tax rate was 19.7% in 2010 and 9.7% in 2009. The 2010 rate reflects the continuing tax benefit from the 2009 restructuring. The lower rate in 2009 was due to a one-time $3.3 million income tax benefit for foreign tax credits and $2.4 million in ongoing reduced foreign taxes as a result of the completion of an internal restructuring of certain of our international operations in the second quarter of 2009. Based on our 2011 operating plans, we anticipate our effective tax rate for financial reporting purposes in 2011 to be in the 29% to 31% range.
Our most significant deferred tax asset is related to the unfunded liability of our defined benefit pension plans. The tax deduction for defined benefit pension plans generally occurs upon the timing of funding of plan liabilities. Assuming that the estimated minimum funding requirements for the defined benefit pension plans are met, the deferred tax asset should be realized. In accordance with GAAP, we have considered the four possible sources of taxable income that may be available to realize a tax benefit for deductible temporary differences and carryforwards and have recorded a $4.8 million valuation allowance on certain net operating loss carryforwards in our international operations and a $5.5 million valuation allowance on certain foreign tax credits in our domestic operations. Management believes that it is more likely than not that we will realize our net deferred tax assets based on our forecast of future taxable income. Future changes in the valuation allowance should not affect our liquidity or our compliance with any existing debt covenants.
Amortization of customer-relationship intangible assets represents the non-cash amortization expense of customer-relationship intangible assets arising from our 2006 acquisitions of BMSI and Specialty Liability Services, Ltd. Amortization expense associated with these intangible assets totaled $6.0 million in 2010, 2009, and 2008, respectively. This amortization is included in SG&A expenses in our Consolidated Statements of Operations.
Certain unallocated costs and credits are excluded from the determination of segment operating earnings. These unallocated corporate and shared costs primarily represent pension costs or credits related to our frozen U.S. defined benefit pension plan, expenses for our CEO and our Board of Directors, certain adjustments to our self-insured liabilities, and certain adjustments to our allowances for doubtful accounts receivable. From time to time, we evaluate which corporate costs and credits are appropriately allocated to our four operating segments. If changes are made to our allocation methodology, prior period allocations are revised to conform to our then-current allocation methodology.
On October 27, 2010, the independent arbitrator arbitrating the Broadspire Accounting Arbitration issued a decision and determination in connection therewith, which is described more fully in Note 3, "Goodwill and Intangible Assets," to the accompanying audited consolidated financial statements. As a result of this determination, we made payments to Platinum Equity, LLC ("Platinum") totaling $13.5 million during 2010, representing additional purchase price consideration for the acquisition of BMSI. We have accrued an additional $1.3 million representing interest on a portion of the additional purchase price consideration which we expect to be required to pay at the conclusion of a separate arbitration proceeding with Platinum, which is also more fully described in Note 3, "Goodwill and Intangible Assets," to the accompanying audited consolidated financial statements. All of the goodwill in the Broadspire segment was previously impaired and the fair value of the Broadspire segment does not support additional goodwill. Accordingly, the Company recorded additional goodwill impairment charges of $14.8 million in 2010. All but the interest portion of the charge is nondeductible for tax purposes.
Also, during 2010, we recorded a $4.0 million reduction to an estimated tax payable accrued as part of the BMSI acquisition. Accordingly, the goodwill impairment charge was reduced in 2010 as such amount was not material for prior year restatement.
We are not aware of any additional restrictions placed on us, or being considered to be placed on us, related to our ability to access capital, such as borrowing against the revolving credit portion of our credit agreement dated as of October 31, 2006, by and among the Company, Crawford & Company International, Inc., SunTrust Bank, as agent and a lender, and the other lenders party thereto (as amended, the "Credit Agreement"). We do not rely on repurchase agreements or the commercial paper market to meet our short-term or long-term funding needs. At December 31, 2010, we were in compliance with all of the covenants in our Credit Agreement. The previously discussed impairment charges related to goodwill and an intangible asset in 2010 and 2009 did not impact this covenant compliance. In 2009 we entered into a fifth amendment to our Credit Agreement in order to extend the maturity date of the revolving credit facility and to obtain certain additional operational and financing flexibility. We entered into a sixth amendment to our Credit Agreement in the fourth quarter of 2010 to, among other items, obtain additional term loans in an aggregate principal amount of $50.0 million, which enabled us to make $50.0 million in accelerated contributions to the frozen U.S. defined benefit pension plan in December 2010 and January 2011.
In May 2010, the three-year interest rate swap agreement that effectively converted the LIBOR-based portion of the interest rate under our Credit Agreement on an initial notional amount of $175.0 million of our floating-rate debt to a fixed rate of 5.25% expired. In 2009, this interest rate swap was discontinued as a cash flow hedge of exposure to changes in cash flows due to changes in interest rates and future changes to the fair value of this swap agreement were recorded by the Company as an expense adjustment rather than a component of the Company's accumulated other comprehensive loss. This amount was $1.6 million for the year ended December 31, 2010. In November 2009, the Company entered into a two-year forward-starting interest rate swap agreement that was effective beginning on June 30, 2010. The swap effectively converts the LIBOR-based portion of the interest rate on an initial notional amount of $90.0 million of the Company’s floating-rate debt to a fixed rate of 3.05% plus the applicable credit spread. The Company designated the interest rate swap as a cash flow hedge of exposure to changes in cash flows due to changes in interest rates on an equivalent amount of debt. The notional amount of the swap is reduced to $85.0 million on March 31, 2011 to match the expected repayment of the Company’s outstanding debt. The swap expires on September 30, 2012.
addition, we have seen a decade-long trend in the U.S. of a decline in the number of reported injuries in the workplace, which we attribute to the shift of the U.S. economy to service-related industries from manufacturing-related industries. This trend has lowered the occurrence of workers’ compensation claims.
Cash provided by operating activities decreased by $25.5 million in 2010, from $51.7 million in 2009 to $26.2 million in 2010. This decrease was due primarily to higher contributions to the Company's frozen U.S. defined benefit pension plan. The Company made $30.0 million of accelerated contributions to the Company's frozen U.S. defined benefit pension plan in 2010, which reduced operating cash flow. In 2010, we reduced the average DSO in billed and unbilled accounts receivable by 8.5 days. Our DSO was significantly influenced by the prompt payment terms of the special project in the Legal Settlement Administration segment. We expect our DSO to rise in 2011 as the special project winds down. Interest payments on our debt were $14.2 million in 2010, and tax payments, net of refunds, were $6.2 million in 2010.
Cash used in investing activities increased by $11.3 million in 2010, from $31.2 million in 2009 to $42.5 million in 2010. Cash used to acquire property and equipment and capitalized software, including capitalization of internal software development costs, was $27.8 million in 2010 compared to $24.7 million in 2009. In addition, we incurred $14.8 million of additional purchase price consideration for the previous acquisition of BMSI. We forecast that our property and equipment additions in 2011, including capitalized software, will approximate $26.0 million.
Cash provided by financing activities was $39.5 million in 2010. In 2010, we borrowed an additional $50.6 million in long-term debt, primarily in conjunction with the sixth amendment to our Credit Agreement in order to fund an aggregate of $50.0 million in accelerated contributions to our frozen U.S. defined benefit pension plan at the end of 2010 and beginning of 2011. We repaid a net of $8.8 million of short- and long-term borrowings and incurred $1.9 million of costs in connection with the sixth amendment to our Credit Agreement. Also in 2010, we used shares of our Class A common stock to settle $703,000 of withholding taxes owed on the issuance of restricted and performance shares.
As a component of our Credit Agreement, we maintain a committed $100.0 million revolving credit line with a syndicate of lenders in order to meet seasonal working capital requirements and other financing needs that may arise. This revolving credit line expires on October 30, 2013. As a component of this credit line, we maintain a letter of credit facility to satisfy certain contractual obligations. Including $20.3 million and $19.6 million of undrawn letters of credit issued under the letter of credit facility, the balance of our unused line of credit totaled $79.7 million and $80.4 million at December 31, 2010 and 2009, respectively. Our short-term debt obligations typically peak during the first quarter of each year due to the annual payment of incentive compensation, contributions to retirement plans, and certain other recurring payments, and generally decline during the balance of the year. Our maximum month-end short-term debt obligations were $31.2 million and $15.9 million in 2010 and 2009, respectively. Our average month-end short-term debt obligations were $19.9 million and $9.9 million in 2010 and 2009, respectively. At December 31, 2010 and 2009, the outstanding balances, excluding outstanding but undrawn letters of credit under our revolving line of credit facility were zero. Long-term borrowings outstanding, including current installments, totaled $223.3 million as of December 31, 2010, compared to $181.3 million at December 31, 2009. We have historically used the proceeds from our long-term borrowings to finance, among other things, business acquisitions. During 2010 and 2011, we used $50.0 million of long-term borrowings to fund a portion of our obligations under our frozen U.S. defined benefit pension plan.
As disclosed in Note 4, “Short-Term and Long-Term Debt, Including Capital Leases,” to our accompanying audited consolidated financial statements in Item 8 of this Annual Report on Form 10-K, we have three principal financial covenants in our Credit Agreement. Of the three financial covenants contained in our Credit Agreement, we believe the leverage ratio and fixed charge coverage ratio covenants are potentially the most restrictive. The leverage ratio covenant requires us to comply with a maximum leverage ratio, defined in our Credit Agreement as the ratio of consolidated total funded debt to earnings before interest expense, income taxes, depreciation, amortization, stock-based compensation expense, and certain other charges and expenses (“EBITDA”), of no more than (i) 3.50 to 1.00 from December 31, 2010 through March 31, 2012, (ii) 3.00 to 1.00 from June 30, 2012 through December 31, 2012, and (iii) 2.50 to 1.00 after March 31, 2013. At December 31, 2010, our actual leverage ratio was 2.47 to 1.00, compared to the maximum of 3.50 to 1.00 allowed by our Credit Agreement. As noted above, the maximum allowable leverage ratio remains at 3.50 to 1.00 for all of 2011. In order to make a dividend payment the leverage ratio (after giving pro forma effect to the dividend payment) cannot exceed 3.25 to 1.00 through March 31, 2012, at which time it follows the ratio specified in the covenant. The fixed charge coverage ratio covenant requires us to comply with a minimum fixed charge coverage ratio, defined in our Credit Agreement as the ratio of EBITDA to total fixed charges consisting of scheduled principal payments and interest payments, and restricted payments as defined in the Credit Agreement. The fixed charge coverage ratio must not be less than 1.50 to 1.00 for the four quarter period ending at the end of each fiscal quarter. At December 31, 2010, our actual fixed charge coverage ratio was 3.47 to 1.00, compared to the minimum of 1.50 to 1.00 allowed by our Credit Agreement. Based on our financial plans, we expect to remain in compliance with all required covenants throughout 2011. Our compliance with the leverage ratio and fixed charge coverage ratio is particularly sensitive to changes in our EBITDA, and if our financial plans for 2011 or other future periods do not meet our current projections, we could fail to remain in compliance with these or other financial covenants in our Credit Agreement.
Our compliance with the leverage ratio covenant is also sensitive to changes in our level of consolidated total funded debt, as defined in our Credit Agreement. In addition to short- and long-term borrowings, capital leases, and bank overdrafts, among other things, consolidated total funded debt includes letters of credit, the need for which can fluctuate based on our business requirements. An increase in borrowings under our Credit Agreement could negatively impact our leverage ratio, unless those increased borrowings are offset by a corresponding increase in our EBITDA. In addition, a reduction in EBITDA in the future could limit our ability to utilize available credit under the revolving credit facility contained in our Credit Agreement, which could negatively impact our ability to fund our current operations or make needed capital investments.
As of December 31, 2010, the impact that our contractual obligations, including estimated interest payments, are expected to have on our liquidity and cash flow in future periods is as follows:
Approximately $22.0 million of operating lease obligations included in the table above are expected to be funded by sublessors under existing sublease agreements.
We are required to make substantial future payments on borrowings outstanding under our Credit Agreement, which payments will vary based on prevailing interest rates. Based on interest rates and borrowings at December 31, 2010, the preceding table shows estimated future interest payments over the remaining term of the term loan and revolving credit facility under our Credit Agreement, after considering the impact of required minimum quarterly principal payments on the term loan facility. The actual amounts of interest that we will ultimately pay will likely differ from the amounts presented above due to future changes in interest rates, which we are unable to predict, and possibly due to any accelerated principal payments that we may voluntarily make.
The Company may be required to make additional annual debt repayments if the Company generates excess cash flows and fails to meet certain leverage ratios as defined in the Credit Agreement. The Company is not required to make any excess cash flow payments in 2011.
Deferred income tax liabilities as of December 31, 2010 were approximately $17.1 million. This amount is not included in the contractual obligations table because we believe this presentation would not be meaningful. Deferred income tax liabilities are calculated based on temporary differences between the tax basis of assets and liabilities and their respective book basis, which will result in taxable amounts in future years when the liabilities are settled at their reported financial statement amounts. The results of these calculations do not have a direct connection with the amount of cash taxes to be paid in any future periods. As a result, scheduling deferred income tax liabilities as payments due by period could be misleading, because this scheduling would not relate to liquidity needs.
As a component of our Credit Agreement, we maintain a letter of credit facility to satisfy certain contractual obligations. At December 31, 2010, the total issued, but undrawn, letters of credit totaled approximately $20.3 million. These letters of credit expire as follows:
We maintain funds in trusts to administer claims for certain clients. These funds are not available for our general operating activities and, as such, have not been recorded in the accompanying consolidated balance sheets. We have concluded that we do not have material off-balance sheet financial risk related to these funds at December 31, 2010.
Legislation enacted on November 6, 2009 contained a provision that allowed U.S. businesses with net operating losses (“NOLs”) in 2008 or 2009 to carry those losses back five years and obtain tax refunds. We filed a carryback claim for our 2008 U.S. NOL and received a $4.2 million tax refund in 2010. It is possible that cash outlays for income taxes may exceed income tax expense during the next three years as some deferred tax liabilities may enter into the determination of current taxable income.
Unbilled revenues increased by $29.1 million due to increased revenue in the fourth quarter of 2010, primarily in our Legal Settlement Administration segment.
Based upon our historical averages, we close approximately 99% of all cases referred to us under lifetime claim service arrangements within five years from the date of referral. Also, within that five-year period, the percentage of claims remaining open in any one particular year has remained relatively consistent from period to period. Each quarter we evaluate our historical claim closing rates by type of claim and make adjustments as necessary. Any changes in estimates are recognized in the period in which they are determined.
rates over the last ten years has ranged from a decrease of 3.5% to an increase of 1.8%, and has averaged 1.1%. A 1% change is a reasonable likely change in our estimate based on historical data. Absent an increase in per-claim fees from our clients, a 1%
As of December 31, 2010 and 2009, our allowance for doubtful accounts totaled $10.5 million and $12.0 million, respectively, or approximately 6.9% and 7.9%, respectively, of gross billed receivables. If the financial condition of our clients deteriorates, resulting in an inability to make required payments to us, or if economic conditions deteriorate, additional allowances may be required. If the allowance for doubtful accounts changed by 1% of gross billed receivables, reflecting either an increase or decrease in expected future write-offs, the impact to consolidated pretax income would have been approximately $1.5 million in each of 2010 and 2009, and $1.7 million in 2008.
Due to declines in current and forecasted operating results for our Broadspire reportable segment and reporting unit, the impact that declining U.S. employment levels had on Broadspire’s revenue, and the weakness in our stock prices, we recorded a noncash goodwill and intangible asset impairment charge of $140.9 million in 2009 and an additional charge of $10.8 million in 2010. At the time the additional purchase price payments for BMSI were made in 2010, we concluded that the fair value of the Broadspire segment did not support additional goodwill. Accordingly, the additional goodwill resulting from the additional purchase price payments was immediately expensed as additional goodwill impairment charges. The $140.3 million goodwill impairment charge in 2009 is not deductible for income tax purposes. Approximately $2.5 million of the 2010 charge is related to interest and is therefore deductible for income tax purposes. The other intangible asset portion of the 2009 charge relates to the value of a trade name indefinite-lived intangible asset used in a small portion of the Broadspire reporting unit and was $600,000 of the total charge. These impairment charges are not reflected in Broadspire’s segment operating loss. These impairment charges do not affect the Company’s liquidity or cash flows and have no effect on the Company’s compliance with the financial covenants under its Credit Agreement.
The first step of the goodwill impairment testing and measurement process involved estimating the fair value of the reporting unit using an internally prepared discounted cash flow analysis. The discount rate utilized in estimating the fair value of Broadspire in 2009 was 14%, reflecting our assessment of a market participant’s view of the risks associated with the projected cash flows. The terminal growth rate used in the analysis was 3%. The results of step 1 of the process indicated potential impairment of the goodwill balance, as the carrying value of Broadspire exceeded its estimated fair value. As a result, we performed step 2 of the process to quantify the amount of the goodwill impairment. In this step, the estimated fair value of Broadspire was allocated among its respective assets and liabilities in order to determine an implied value of goodwill, in a manner similar to the calculations performed in the accounting for a business combination. The allocation process was performed only for purposes of measuring the goodwill impairment, and not to adjust the carrying values of recognized tangible assets or liabilities. Accordingly, no impairment charge or carrying value adjustments were made to the basis of any tangible asset or liability as a result of this process. We also updated our impairment review of other intangible assets, which identified no additional impairments at that time.
Investment objectives for the Company’s U.S. and U.K. pension plan assets are to:
The current rules for pension accounting are complex and can produce tremendous volatility in our results, financial condition and liquidity. Our pension expense is primarily a function of the value of our plan assets and the discount rate used to measure our pension liability at a single point in time at the end of our fiscal year (the measurement date). Both of these factors are significantly influenced by the stock and bond markets, which in recent years have experienced substantial volatility.
the types of investment classes in which we invest our pension plan assets and the expected return we can reasonably expect those investment classes to earn over time; and
Our effective tax rate, defined as our provision for income taxes divided by income (loss) before income taxes, for financial reporting purposes in 2010, 2009, and 2008 was 25.2%, (2.3)%, and 26.0%, respectively. In 2010, $8.3 million of the $10.8 million goodwill impairment charges that we recorded is not deductible for income tax purposes. In 2009, $140.3 million of the $140.9 million goodwill and intangible asset impairment charges that we recorded was not deductible for income tax purposes. In determining the following sensitivity to changes in our effective tax rate, we added this amount to our pretax results. If our effective tax rate used for financial reporting purposes changed by 1%, we would have recognized an increase or decrease to income tax expense of approximately $468,000, $275,000, and $438,000 for the years ended December 31, 2010, 2009, and 2008, respectively. Our effective tax rate for financial reporting purposes is expected to range between 29% and 31% in 2011. This estimated tax rate range reflects enacted law as well as the impact of estimated discrete items that may affect our tax rate in 2011.
We self-insure certain insurable risks consisting primarily of professional liability, auto liability, employee medical, disability, and workers’ compensation. Insurance coverage is obtained for catastrophic property and casualty exposures, including professional liability on a claims-made basis, and those risks required to be insured by law or contract. Most of these self-insured risks are in the United States. Provisions for claims incurred under self-insured programs are made based on our estimates of the aggregate liabilities for claims incurred, losses that have occurred but have not been reported to us, and the adverse developments on reported losses. These estimated liabilities are calculated based on historical claim payment experience, the expected life of the claims, and other factors considered relevant to the claims. The liabilities for claims incurred under our self-insured workers’ compensation and employee disability programs are discounted at the prevailing risk-free rate for government issues of an appropriate duration. All other self-insured liabilities are undiscounted. Each quarter we evaluate the adequacy of the assumptions used in developing these estimated liabilities and make adjustments as necessary. Changes in estimates are recognized in the period in which they are determined. Historically, our estimates have been materially accurate.
Consolidated Statements of Shareholders’ Investment, Noncontrolling Interests, and Comprehensive Income (Loss)
For variable interest entities (“VIE”), the Company determines when it should include the assets, liabilities, and results of operations of a VIE in its consolidated financial statements. The Company consolidates the liabilities of its deferred compensation plan and the related assets, which are held in a rabbi trust and considered a VIE of the Company. The rabbi trust was created to fund the liabilities of the Company's deferred compensation plan. The Company is considered the primary beneficiary of the rabbi trust because the Company directs the activities of the trust and can use the assets of the trust to satisfy the liabilities of the Company's deferred compensation plan. At December 31, 2010 and 2009, the liabilities of this deferred compensation plan were $9,503,000 and $8,570,000, respectively, and the values of the assets held in the related rabbi trust were $14,022,000 and $13,551,000, respectively. These liabilities and assets are included in Other Noncurrent Liabilities and Other Noncurrent Assets on the Company’s Consolidated Balance Sheets, respectively.
The U.S. Property & Casualty segment primarily serves the U.S. property and casualty insurance company market. The International Operations segment primarily serves the property and casualty insurance company markets outside of the U.S. The Broadspire segment serves the U.S. self-insurance marketplace. The Legal Settlement Administration segment serves the securities, bankruptcy, and other legal settlement markets, primarily in the U.S.
Both the U.S. Property & Casualty segment and the International Operations segment earn revenues by providing field investigation and evaluation of property and casualty claims for insurance companies. The Company’s Broadspire segment earns revenues by providing field investigation and claims evaluation of workers’ compensation and liability claims, initial loss reporting services for its clients' claimants, loss mitigation services such as medical bill review, medical case management and vocational rehabilitation, administration of trust funds established to pay claims, and risk management information services. The Legal Settlement Administration segment earns revenues by providing administration services related to settlements of securities cases, product liability cases, Chapter 11 bankruptcy noticing and distribution, and other legal settlements by identifying and qualifying class members, determining and dispensing settlement payments, and administering settlement funds.
Fees for professional services are recognized in unbilled revenues at the time such services are rendered, at estimated collectible amounts. Substantially all unbilled revenues are billed within one year.
In the normal course of business, the Company incurs certain out-of-pocket expenses that are thereafter reimbursed by the Company’s clients. Under GAAP, these out-of-pocket expenses and associated reimbursements are required to be included when reporting revenues and expenses in the Company’s consolidated results of operations. The amounts of reimbursed expenses and related revenues from reimbursements offset each other in the Company’s consolidated statements of operations with no impact to its net income (loss).
Cash and cash equivalents consist of cash on hand and marketable securities with original maturities of three months or less. The fair value of cash and cash equivalents approximates carrying value due to their short-term nature. At December 31, 2010, time deposits with original maturities of less than three months totaling approximately $1,402,000 were in financial institutions outside the United States.
to revenue. These allowances are established using historical write-off information to project future experience and by considering the current creditworthiness of clients, any known specific collection problems, and an assessment of current industry and economic conditions. Actual experience may differ significantly from historical or expected loss results. The Company writes off accounts receivable when they become uncollectible, and any payments subsequently received are accounted for as recoveries. A summary of the activities in the allowance for doubtful accounts for the years ended December 31, 2010, 2009, and 2008 is as follows:
For the years ended December 31, 2010, 2009, and 2008, the Company’s adjustments to revenues associated with client invoice adjustments totaled $2,669,000, $3,151,000, and $4,665,000, respectively.
Subsequent to a business acquisition in which goodwill was recorded as an asset, post-acquisition accounting requires that goodwill be tested to determine whether there has been an impairment loss. The Company performs an impairment test of goodwill and indefinite-lived intangible assets at least annually on October 1 of each year. The Company regularly evaluates whether events and circumstances have occurred which indicate potential impairment of goodwill, indefinite-lived intangible assets, or other long-lived assets. When factors indicate that such assets should be evaluated for possible impairment between the scheduled annual impairment tests, the Company performs an impairment test. The Company believes its goodwill, indefinite-lived intangible assets, and other long-lived assets were appropriately valued and not impaired at December 31, 2010.
Goodwill impairment testing is a two-step process performed on a reporting unit basis. In step 1 of the testing process, the fair value of each reporting unit is determined and compared to its book value. If the fair value of the reporting unit exceeds its book value, goodwill is not deemed impaired. If the book value of the reporting unit exceeds its fair value, the testing proceeds to step 2. In step 2, the reporting unit’s fair value is allocated to its assets and liabilities following acquisition accounting procedures to determine the implied fair value of goodwill. This hypothetical acquisition accounting process is applied only for the purpose of determining whether goodwill must be reduced; it is not used to adjust the book values of other assets or liabilities. There is an impairment if (and to the extent) the carrying value of goodwill exceeds its implied fair value. An impairment loss reduces the recorded goodwill and cannot subsequently be reversed.
For step 1 of goodwill impairment testing, the carrying value of each of the Company’s reporting units is compared to the estimated fair value of the reporting unit as determined utilizing an income approach. The income approach is based on projected debt-free cash flow which is discounted to the present value using discount factors that consider the timing and risk of the cash flows. The Company believes that this approach is appropriate because it provides a fair value estimate based upon the reporting unit’s expected long-term operating cash flow performance. The discount rate used reflects the Company’s assessment of a market participant’s view of the risks associated with the projected cash flows. Other significant assumptions include terminal value growth rates, terminal value margin rates, future capital expenditures and changes in future working capital requirements. While there are inherent uncertainties related to the assumptions used and to management’s application of these assumptions, the Company believes that the income approach provides a reasonable estimate of the fair value of its reporting units.
For impairment testing of indefinite-lived intangible assets, the carrying value is compared to the fair value, which represents the present value of the incremental after-tax cash flows (excess earnings) attributable solely to the asset over its estimated remaining useful life. Long-lived assets are tested at the asset or asset group level that is determined to be the lowest level for which identifiable cash flows are largely independent of the cash flows of other groups of assets and liabilities.
Property and equipment are stated at cost less accumulated depreciation. Property and equipment, including assets under capital leases, consisted of the following at December 31, 2010 and 2009:
Additions to property and equipment under capital leases totaled $545,000, $81,000, and $208,000 for 2010, 2009, and 2008, respectively. Additions to property and equipment that were funded directly by lessors totaled $875,000 and $100,000 for 2010 and 2009, respectively. There were no such additions in 2008.
Depreciation on property and equipment, including property under capital leases and amortization of leasehold improvements, was $14,741,000, $14,433,000, and $14,992,000 for the years ended December 31, 2010, 2009, and 2008, respectively.
Capitalized software reflects costs related to internally developed or purchased software used by the Company that has future economic benefits. Certain internal and external costs incurred during the application stage of development are capitalized. Costs incurred during the preliminary project and post implementation stages, including training and maintenance costs, are expensed as incurred. The majority of these capitalized software costs consists of internal payroll costs and external payments for software purchases and related services. These capitalized software costs are amortized over periods ranging from three to ten years, depending on the estimated life of each software application. At least annually, the Company evaluates capitalized software for impairment. Amortization expense for capitalized software was $9,424,000, $10,144,000, and $8,875,000 for the years ended December 31, 2010, 2009, and 2008, respectively.
The Company self insures certain insurable risks consisting primarily of professional liability, auto liability, and employee medical, disability, and workers’ compensation liability. Insurance coverage is obtained for catastrophic property and casualty exposures, including professional liability on a claims-made basis, and those risks required to be insured by law or contract. Most of these self-insured risks are in the U.S. Provisions for claims under the self-insured programs are made based on the Company’s estimates of the aggregate liabilities for claims incurred, losses that have occurred but have not been reported to the Company, and for adverse developments on reported losses. The estimated liabilities are calculated based on historical claims payment experience, the expected lives of the claims, and other factors considered relevant by management. Changes in these estimates may occur as additional information becomes available. The estimated liabilities for claims incurred under the Company’s self-insured workers’ compensation and employee disability programs are discounted at the prevailing risk-free interest rate for U.S. government securities of an appropriate duration. All other self-insured liabilities are undiscounted. At December 31, 2010 and 2009, accrued liabilities for self-insured risks totaled $33,368,000 and $33,299,000, respectively, including current liabilities of $15,094,000 and $18,475,000, respectively.
Other factors which influence the effective tax rate used for financial reporting purposes include changes in enacted statutory tax rates, changes in the composition of taxable income from the countries in which the Company operates, the ability of the Company to utilize net operating loss and tax credit carryforwards, and the Company’s accounting for any uncertain tax positions. See Note 8, “Income Taxes.”
Net Income (Loss) Attributable to Crawford & Company per Common Share
The computations of basic and diluted net income (loss) attributable to Crawford & Company per common share were as follows for the years ended December 31, 2010, 2009 and 2008:
Weighted-average outstanding stock options to purchase approximately 1,844,000 and 1,944,000 shares of CRDA were excluded from the computations of diluted EPS for the years ended December 31, 2010 and December 31, 2008, respectively, because their inclusion would have been antidilutive based on the average price of CRDA during 2010 and 2008.
For the year ended December 31, 2009, the Company excluded from its loss per share calculations all common share equivalents because their inclusion would have been anti-dilutive. The weighted-average number of these common share equivalents for the year ended December 31, 2009 totaled approximately 842,000. Also excluded from the loss per share calculations were weighted-average stock options to purchase approximately 2,496,000 shares of CRDA, because their inclusion would have been anti-dilutive based on the average price of CRDA during 2009.
Advertising costs are expensed in the period in which the costs are incurred. Advertising expenses were $3,980,000, $3,121,000, and $3,532,000, respectively, for the years ended December 31, 2010, 2009, and 2008.
On January 1, 2010, the Company adopted Accounting Standards Update ("ASU") 2009-17, “Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities,” which amended Accounting Standards Codification ("ASC") 810, "Consolidations," and other related guidance. ASU 2009-17 made certain changes to the guidance used to determine when an entity should consolidate a variable interest entity in its consolidated financial statements. Based on the status of the entities that are evaluated for consolidation in the Company's consolidated financial statements, the adoption of ASU 2009-17 did not impact the Company’s results of operations, financial condition, or cash flows.
On January 1, 2009, the Company adopted ASC 810-10-65-1, "Consolidation-Overall-Transition and Open Effective Date Information," which revised the classification of noncontrolling interests in consolidated statements of financial position and the accounting for and reporting of transactions between the reporting entity and holders of such noncontrolling interests. Under this guidance, noncontrolling interests are considered equity and the practice of classifying minority interests within a mezzanine section of the balance sheet was eliminated. Net income (loss) encompasses the total income (loss) of all consolidated subsidiaries and there is separate disclosure on the face of the statements of operations of the attribution of that income (loss) between the controlling and noncontrolling interests. Increases and decreases in the noncontrolling ownership interest amounts are accounted for as equity transactions. Any future issuance of noncontrolling interests that causes the controlling interest to lose control and deconsolidate a subsidiary will be accounted for by full gain or loss recognition. Upon
On January 1, 2009, the Company adopted ASC 260-10-45-60, "Earnings Per Share-Overall-Other Presentation Matters." Under this guidance, unvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are considered participating securities, and as such they are included in the computation of basic EPS using the two-class method. Upon adoption, all prior-period EPS data were adjusted retrospectively to conform to the provisions of ASC 260-10-45-60. The Company's grants of restricted shares of its Class A Common Stock made under its Executive Stock Bonus Plan provide for payment of nonforfeitable dividends, should any be declared and paid by the Company, during any vesting period for the restricted stock grants. As such, these unvested restricted stock grants are now considered participating securities and thus the two-class method of computing EPS applies to the Company. The impact of ASC 260-10-45-60 on the Company's basic and diluted EPS calculations of any time period depends upon the number of unvested restricted stock grants outstanding for the period. The adoption of this new guidance reduced basic EPS by $0.01 for the year ended December 31, 2008.
In 2006, the Company’s U.K. subsidiary acquired all of the outstanding stock of Specialty Liability Services Ltd. (“SLS”). The purchase price paid at acquisition was $7,965,000, less $1,099,000 cash acquired. The purchase price was increased by $1,545,000 and $888,000 in 2009 and 2008, respectively, due to earnout payments in 2009 and 2008. At December 31, 2010, all contingent amounts related to the SLS acquisition have been determined and paid.
The goodwill recognized, fair values of assets acquired, liabilities assumed, and the net cash paid in 2010 and 2009 related to acquired businesses, including adjustments for prior acquisitions, were as follows:
On October 31, 2006, the Company completed its acquisition of BMSI from Platinum Equity, LLC ("Platinum") in an agreement referred to as the "Stock Purchase Agreement". The Company and Platinum were engaged in an arbitration regarding the application of the purchase price mechanism contained in the Stock Purchase Agreement (the "Accounting Arbitration"). Any amounts payable resulting from the Accounting Arbitration were considered to be adjustments to the purchase price and would accrue interest at the prime rate from October 31, 2006. On July 30, 2010, the independent arbitrator arbitrating the Accounting Arbitration issued a decision and contingent determination in connection therewith, and the
The $10,788,000 net impairment charge is not reflected in Broadspire's segment operating loss in any period. This net impairment charge did not affect the Company’s liquidity and had no effect on the Company’s compliance with the financial covenants under its credit agreement in any period. As discussed below, all of the Broadspire segment goodwill was impaired in 2009 and the fair value of the segment did not support additional goodwill at the time these payments and adjustments were made.
The following table shows the changes in the carrying amount of goodwill for the years ended December 31, 2010 and 2009:
As a result of the Broadspire goodwill impairment noted above, the Company also performed impairment tests in 2010 and 2009 for its intangible assets arising from business acquisitions. As a result, the Company recorded a noncash intangible asset impairment charge of $600,000 during 2009. This intangible asset related to the value of a trade name indefinite-lived intangible asset used in a small portion of the Broadspire reporting unit. This impairment charge is not reflected in Broadspire’s segment operating loss in any period. This impairment charge did not affect the Company’s liquidity or cash flows and had no effect on the Company’s compliance with the financial covenants under its credit agreement.
Amortization of intangible assets was $6,434,000, $6,433,000, and $6,464,000 for the years ended December 31, 2010, 2009, and 2008, respectively. For the years ended December 31, 2010, 2009, and 2008, amortization expense for customer-relationship intangible assets in the amounts of $5,995,000, $5,994,000, and $6,025,000, respectively, were excluded from operating earnings (see Note 12, “Segment and Geographic Information”). Intangible assets subject to amortization are amortized on a straight-line basis over lives ranging from 5 to 15 years. At December 31, 2010, annual estimated aggregate amortization expense for intangible assets subject to amortization was $6,434,000 for 2011; $6,401,000 for 2012; and $6,375,000 for each year from 2013 through 2015.
On October 31, 2006, the Company entered into a secured credit agreement with a syndication of lenders. This agreement has been amended six times since October 31, 2006 (as amended, the "Credit Agreement"). All amendments to the Company’s Credit Agreement have been accounted for as modifications of existing debt. The Credit Agreement provides for a maximum borrowing capacity of $360,000,000, comprised of (i) an initial term loan facility (the “term loan”) with an original principal amount of $210,000,000, (ii) a term loan in December 2010 with an original principal amount of $50,000,000 and (iii) a revolving credit facility in the principal amount of $100,000,000 with a swingline subfacility, a letter of credit subfacility, and a foreign currency sublimit.
Short-term borrowings totaled $0 and $32,000 at December 31, 2010 and 2009, respectively.
The term loan currently requires minimum principal repayments of $650,000 at the end of each calendar quarter with a final balloon payment due on October 30, 2013. Outstanding borrowings under the revolving credit facility are also due in full on October 30, 2013. Interest is payable quarterly on the term loan. For the revolving credit facility, interest is payable at least quarterly. Under the Company’s Credit Agreement, the Company may be required to make additional annual debt repayments if the Company generates excess cash flows and fails to comply with certain leverage ratios as defined in the Credit Agreement. During 2010, the Company made required quarterly repayments of $525,000 on the term loan, plus an excess cash flow payment of $5,875,000, related to results for the year ended December 31, 2009. The Company is not required to make any excess cash flow payments in 2011.
In February 2009, the Company amended its Credit Agreement so that it could enhance certain operational and financial aspects of its business, including, among other things, undertaking an internal corporate realignment of certain of the Company’s operating subsidiaries and assets. A substantial portion of this realignment was completed in connection with the execution of this amendment. This corporate realignment did not impact the composition of the Company’s four operating segments. In addition, the amendment provided the Company with the ability to repurchase and retire, from time to time through December 2010, up to $25,000,000 of the outstanding term loan under the agreement. No additional repurchases or retirements were made in 2010 under this agreement.
In May 2007, the Company entered into a three-year interest rate swap agreement that effectively converted the LIBOR-based portion of the interest rate under the Company’s Credit Agreement for a portion of its floating-rate debt to a fixed rate of 5.25%. The Company designated the interest rate swap as a cash flow hedge of exposure to changes in cash flows due to changes in interest rates on an equivalent amount of debt. The notional amount of the swap was reduced over its three-year term. The swap agreement expired May 31, 2010.
The balances and changes in accumulated other comprehensive loss related to the effective portions of the Company’s interest rate hedges for the year ended December 31, 2010 and 2009 were as follows:
In 2009 and 2010, the Company entered into separate sublease agreements with another sublessor to sublease three of the four floors of our other leased building in Plantation, Florida. The subleases are for the remaining term of the Company’s lease on this building (expiring December 2021). This sublessor also had an option to lease the remaining space which expired unexercised. The Company recognized pretax losses of $2,663,000 and $1,810,000 on these subleases, which is included in "Restructuring and Other Costs" in the Company's Consolidated Statements of Operations for the years ended December 31, 2010 and 2009, respectively.
Deferred income taxes consisted of the following at December 31, 2010 and 2009:
At December 31, 2010, the Company had deferred tax assets related to net operating loss carryforwards of $22,119,000. An estimated $6,502,000 of the deferred tax asset will not expire, and $15,617,000 will expire over the next 20 years if not utilized by the Company. A valuation allowance is provided when it is deemed more-likely-than-not that some portion or all of a deferred tax asset will not be realized. At December 31, 2010, the Company has a $4,813,000 valuation allowance related to certain net operating loss carryforwards generated in its international operations. The remaining net operating loss deferred tax asset of $17,306,000 is expected to be fully utilized by the Company.
The Company accrues interest and, if applicable, penalties related to unrecognized tax benefits in income tax expense. For the years ended December 31, 2010, 2009, and 2008, the Company recorded net interest income related to unrecognized tax benefits of $16,000, $248,000, and $29,000, respectively. Total accrued interest expense at December 31, 2010, 2009, and 2008, was $635,000, $651,000, and $899,000, respectively.
The Company conducts business globally and, as a result, files U.S. federal and various state and foreign jurisdiction income tax returns. In the normal course of business, the Company is subject to examination by various taxing authorities throughout the world, including jurisdictions such as Canada, the United Kingdom, and the United States. With few exceptions, the Company is no longer subject to income tax examinations for years before 2004.
Certain other employees located in the Netherlands, Norway, and Germany (referred to herein as the “other international plans”) have retirement benefits that are accounted for as defined benefit pension plans under U.S. GAAP.
Net unrecognized actuarial losses included in accumulated other comprehensive loss and expected to be recognized in net periodic benefit costs during the year ending December 31, 2011 for the U.S. and U.K. plans are $10,490,000 ($6,914,000 net of tax).
The Company's two classes of stock have essentially identical rights, except that shares of CRDA generally do not have any voting rights. Under the Company’s Articles of Incorporation, the Board of Directors may pay higher (but not lower) cash dividends on CRDA than on CRDB. As described in Note 11, "Stock-Based Compensation," certain shares of CRDA are issued with restrictions under executive compensation plans.
As disclosed in Note 4, "Short-Term and Long-Term Debt, Including Capital Leases," the Company’s Credit Agreement contains restrictions on dividends and distributions.
The Company has various stock-based compensation plans for its employees and members of its board of directors. Only shares of CRDA can be issued under these plans. The fair value of an equity award is estimated on the grant date without regard to service or performance conditions. The fair value is recognized as compensation expense over the requisite service period for all awards that vest. When recognizing compensation costs, estimates are made for the number of awards that will vest, and subsequent adjustments are made to reflect both changes in the number of shares expected to vest and actual vesting. Compensation cost is not recognized for awards that do not vest because service or performance conditions are not satisfied. Compensation cost recognized at any date equals at least the portion of the grant-date value of an award that is vested at that date.
The Company has granted nonqualified and incentive stock options to key employees and directors. All stock options were for shares of CRDA. Option awards were granted with an exercise price equal to the closing market price of the Company’s stock on the date of grant. The Company’s stock option plans have been approved by shareholders, although the Company’s Board of Directors is authorized to make specific grants of stock options under active plans. Employee stock options typically are subject to graded vesting over five years (20% each year) and have a typical life of ten years. Compensation cost for stock options is recognized on a straight-line basis over the requisite service period for the entire award. For the years ended December 31, 2010, 2009, and 2008, compensation expense of $225,000, $418,000 and $469,000, respectively, was recognized for employee stock option awards.
Historically, stock options granted to members of the Company’s Board of Directors typically were fully vested on grant date with a typical life of ten years. For the year ended December 31, 2008, compensation expense of $28,000 was recognized for directors’ stock options. No stock options were granted to employees or members of the Board of Directors in 2010 or 2009.
A summary of option activity as of December 31, 2010, and changes during 2010, 2009, and 2008, is presented below:
The fair value of each option is estimated on the date of grant using the Black-Scholes-Merton option-pricing formula, with the following weighted-average assumptions:
A summary of the status of the Company’s nonvested performance shares as of December 31, 2010, and changes in 2010, 2009, and 2008, is presented below:
The total fair value of the 1,017,063, the 542,063, and the 1,063,754 performance shares that vested in 2010, 2009, and 2008 was $4,559,000, $2,412,000, and $4,957,000, respectively.
A summary of the status of the Company’s restricted shares of CRDA as of December 31, 2010, and changes during 2010, 2009, and 2008, is presented below:
Compensation expense recognized for all restricted shares for the years ended December 31, 2010, 2009, and 2008 was $597,000, $1,080,000, and $515,000, respectively. As of December 31, 2010, there was $147,000 of total unearned compensation cost related to nonvested restricted shares which is expected to be recognized in 2011.
The Company has three employee stock purchase plans: the U.S. Plan, the U.K. Plan, and the International Plan. The U.S. Plan is also available to eligible employees in Canada, Puerto Rico, and the U.S. Virgin Islands. The International Plan is for eligible employees located in certain other countries who are not covered by the U.S. Plan or the U.K. Plan. All plans are compensatory. The International Plan was opened for eligible employees of our Australian operations in July 2010.
During the years ended December 31, 2010 and 2009, a total of 226,512 and 136,874 shares, respectively, of CRDA were issued under the U.S. Plan to the Company’s employees at purchase prices of $2.09 and $3.11, respectively. At December 31, 2010, an estimated 311,000 shares will be purchased under the U.S. Plan in 2011. During the years ended December 31, 2010, 2009, and 2008, compensation expense of $406,000, $372,000, and $270,000, respectively, was recognized for the U.S. Plan.
Under the U.K. Plan, the Company is authorized to issue up to 1,000,000 shares of CRDA. Under the U.K. Plan, eligible employees can elect to have up to £250 withheld from payroll each month to purchase shares at the end of a three-year withholding period. The purchase price of a share of stock is 85% of the market price of the stock at the beginning of the withholding period. Participating employees may cease payroll withholdings and/or request a refund of all amounts withheld
Under the International Plan, up to 1,000,000 shares of CRDA may be issued. Participating employees can elect to have up to $25,000 of their eligible annual earnings withheld to purchase up to 5,000 shares of CRDA at the end of the one-year withholding period which starts each July 1 and ends each June 30. The purchase price of the stock is 85% of the lesser of the closing price for a share of such stock on the first day or the last day of the withholding period. Participating employees may cease payroll withholdings during the withholding period and/or request a refund of all amounts withheld before any shares are purchased. The first purchase period under the International Plan began on July 1, 2010.
The Company’s four reportable operating segments are organized based upon the nature of services and/or geographic areas served and include: U.S. Property & Casualty which serves the U.S. property and casualty insurance company market, International Operations which serves the property and casualty insurance company markets outside of the U.S., Broadspire which serves the U.S. self-insurance marketplace, and Legal Settlement Administration which serves the securities, bankruptcy, and other legal settlement markets. The Company’s four reportable segments represent components of the business for which separate financial information is available that is evaluated regularly by the Chief Operating Decision Maker ("CODM") in deciding how to allocate resources and in assessing performance. Intersegment sales are recorded at cost and are not material.
Revenue by major service line for the U.S. Property & Casualty and Broadspire segments is shown in the following table. It is not practicable to provide revenue by service line for the International Operations segment. Legal Settlement Administration considers all of its revenue to be derived from one service line.
Capital expenditures for the years ended December 31, 2010, 2009 and 2008 are shown in the following table:
The total of the Company’s reportable segments’ revenues reconciled to total consolidated revenues for the years ended December 31, 2010, 2009, and 2008 was as follows:
The Company’s reportable segments’ total assets reconciled to consolidated total assets of the Company at December 31, 2010 and 2009 are presented in the following table. All foreign-denominated cash and cash equivalents are reported within the International Operations segment, while all U.S. cash and cash equivalents are reported as corporate assets in the following table:
Substantially all international revenues were derived from the insurance company market.
As part of the Company’s Credit Agreement, the Company maintains a letter of credit facility to satisfy certain of its own contractual requirements. At December 31, 2010, the aggregate amount committed under the facility was $20,319,000.
As previously disclosed, on October 31, 2006, the Company completed its acquisition of BMSI from Platinum. BMSI and Platinum are together engaged in certain legal proceedings against the former owners of certain entities acquired by BMSI prior to the Company’s acquisition of BMSI. Pursuant to the Stock Purchase Agreement, Platinum has full responsibility to resolve all of these matters and is obligated to fully indemnify BMSI and the Company for all monetary payments that BMSI may be required to make as a result of any unfavorable outcomes related to these pre-existing legal proceedings. Pursuant thereto, Platinum has also agreed to indemnify the Company for any additional payments required under any purchase price adjustment mechanism, earnout, or similar provision in any of BMSI’s purchase and sale agreements entered into prior to the Company’s acquisition of BMSI. In the event of an unfavorable outcome in which Platinum does not indemnify the Company under the terms of the Stock Purchase Agreement, the Company may be responsible for funding any such unfavorable outcomes. At this time, the Company’s management does not believe the Company will be responsible for the funding of any of these matters. The Company has not recognized any loss contingencies for these matters in its consolidated financial statements.
Separately, the Company has asserted claims for damages from Platinum due to breaches in the representations and warranties contained in the Stock Purchase Agreement, which claims are in arbitration (the "Legal Arbitration"). Any damages awarded by the arbitration panel in connection with the Legal Arbitration are limited by the Stock Purchase Agreement to $15.0 million. The Company expects this arbitration to be completed in 2011 but is unable to determine any possible outcome of this arbitration. Any recovery resulting from the Legal Arbitration could result in a gain and will be recorded in the period in which the settlement is reached.
In 2003, BMSI acquired NATLSCO, Inc. from a wholly-owned subsidiary of Lumbermens Mutual Casualty Company (“LMC”). BMSI assumed certain obligations to service and administer a population of claims outstanding at the 2003 acquisition date. Liquidity to support these casualty claims operations for the foreseeable future was provided by cash infused by LMC at the 2003 acquisition date, and a receivable held in trust, which has and will continue to be distributed to Broadspire in accordance with a trust agreement through August 2012. Broadspire received total distributions from this trust of $1,812,000 during 2010, $2,272,000 during 2009, and $4,693,000 during 2008. Broadspire’s revenues from LMC totaled $7,261,000 for 2010, $9,071,000 for 2009, and $10,710,000 for 2008. Accounts receivable from LMC included in accounts receivable in the Company’s Consolidated Balance Sheets were approximately $850,000 and $955,000 at December 31, 2010 and 2009, respectively.
In 2010, the Company recorded pretax restructuring charges of $1,987,000 for severance costs related to reductions in administrative staff and $2,663,000 on the partial sublease of our Broadspire facility in Plantation, Florida (see Note 7, “Commitments Under Operating Leases”).
In 2009, the Company recorded pretax restructuring and other costs that totaled $4,059,000. Included in the 2009 restructuring costs were $1,815,000 in professional fees related to the internal realignment of certain of our legal entities in the U.S. and internationally that commenced in 2008, and $434,000 in severance expense in our International Operations segment. These restructuring efforts were substantially completed at December 31, 2009. The internal realignment did not impact the
composition of our segments for financial reporting purposes. Other costs of $1,810,000 in 2009 related to the partial sublease of our Broadspire facility in Plantation, Florida (see Note 7, “Commitments Under Operating Leases”).
In 2008, the Company recorded a pretax restructuring charge of $3,300,000. The charge consisted of $1,825,000 for severance and other costs in our International Operations segment, $300,000 for severance costs in our U.S. Property and Casualty segment, and $1,175,000 for professional fees incurred in connection with an internal restructuring of certain of the Company’s legal entities in the U.S. and internationally.
On February 1, 2011, the Board of Directors declared a quarterly dividend of $0.02 per share on CRDA and $0.02 per share on CRDB payable on March 22, 2011 to shareholders of record as of the close of business on March 7, 2011.
Management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2010. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework. Based on this assessment, management determined that the Company maintained effective internal control over financial reporting as of December 31, 2010.
We have audited the accompanying consolidated balance sheets of Crawford & Company as of December 31, 2010 and 2009, and the related consolidated statements of operations, shareholders’ investment, noncontrolling interests and comprehensive income (loss), and cash flows for each of the three years in the period ended December 31, 2010. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Crawford & Company at December 31, 2010 and 2009, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2010, in conformity with U.S. generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, in 2009 the Company adopted Financial Accounting Standards Board No. 160, Noncontrolling Interests in Consolidated Financial Statements (codified in FASB Accounting Standards Codification ASC 810, Consolidation) and FASB Staff Position No. EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities (codified in FASB Accounting Standards Codification ASC 260, Earnings Per Share).
In our opinion, Crawford & Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2010, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Crawford & Company as of December 31, 2010 and 2009, and the related consolidated statements of operations, shareholders’ investment, noncontrolling interests and comprehensive income (loss), and cash flows for each of the three years in the period ended December 31, 2010, and our report dated March 4, 2011 expressed an unqualified opinion thereon.
During the fourth quarter of 2010, the Company recorded an additional net $3.5 million goodwill impairment charge related in part to additional consideration paid for the purchase of BMSI. See Note 3, “Goodwill and Intangible Assets", to the audited consolidated financial statements contained in this Item 8.
During the fourth quarter of 2009, the Company recognized pretax charges of $2,244,000 for restructuring expenses and a sublease agreement. See Note 15, “Restructuring Activities and Other Charges”, to the audited consolidated financial statements contained in this Item 8.