The Company leases its principal offices, located at 395 Oyster Point Boulevard, South San Francisco, California 94080 pursuant to a lease agreement entered into in November 1992. The lease is for approximately 45,600 rentable square feet at lease payments ranging from approximately $49,400 per month in the first year to $66,500 per month in the seventh year. The Company leases approximately 22,000 square feet in Concord, California at approximately $25,500 per month. The Company relocated its loan tracking operations (excluding its computer operations) from Bellevue, Washington, to South San Francisco, California during 1994. In order to accommodate the Company's computer-related operations remaining in Bellevue, Washington, the Company entered into a new 3-year lease commencing approximately May 1, 1995, for approximately 5,060 square feet at a rental of approximately $7,600 per month. The Company also entered into a new lease for approximately 11,860 square feet of office facilities in Springfield, Ohio at lease payments of approximately $9,920 per month for the period August 1, 1995 through April 30, 1999, which lease may be terminated on July 31, 1997 upon three months prior notice and payment of a $3,000 termination fee. Some of the leases require the Company to pay certain operating expenses in addition to the lease payment.
National Insurance Group provides specialized information services and related insurance products to mortgage bankers and financial institutions located throughout the United States.
The Company's primary sources of revenues are premiums and commissions earned from its specialized insurance products, fees billed to customers who use Flood Zone Determination or Tracking Services and investment income. Net premiums written represent direct and assumed premiums generated by the Insurance Subsidiary, less premiums canceled or ceded to other insurers, and adjusted for changes in the reserve for return premiums. Net premiums earned represent net premiums written adjusted for changes in unearned premium reserves. Flood inquiry fees are generated by Flood Zone Determination Services and are based on the number of flood inquiries rendered. The Company provides either one-time flood determinations or higher fee, life-of-loan services where the Company updates the flood determinations over the periods in which the loans are outstanding. Revenues from flood zone determinations are generally related to the volume of mortgage loan originations, both new and refinanced. Tracking fees are generated by Tracking Services and are usually based on the number of loans and leases tracked. Net commission income represents commissions received from nonaffiliated insurance companies for force-placed insurance produced by the Agency and from the Federal Emergency Management Agency ("FEMA") for flood insurance written by the Company.
Loss and loss adjustment expenses ("LAE") represent losses paid related to force-placed insurance underwritten or reinsured by the Insurance Subsidiary, adjusted for changes in reserves for losses that are in the course of settlement and losses that have been incurred but not yet reported. Commissions paid to nonaffiliates represent amounts paid to third party agents and brokers, and other producers related to sales of the Company's services and products. Personnel expenses represent salaries, wages, sales commissions paid to Company employees and related employee benefits. All other expenses primarily consist of occupancy costs, including office rent and utilities, equipment maintenance and depreciation, amortization of acquisition costs, sales and marketing expenses and expenses related to the delivery of products and services such as postage and printing.
Flood inquiry fees increased from $8.0 million in 1994 to $10.6 million in 1995, an increase of $2.6 million or 32.5%. Flood determinations are performed as part of the mortgage loan origination process and the increase in flood inquiry fee revenues is primarily due to the decline in mortgage interest rates and the addition of new customers. Interest rates began to decline during the first quarter of 1995 contributing to increases in loan origination volumes. In addition, the Company added new customers and converted many of its existing customers to the higher priced life-of-loan product as the industry complies with recent federal regulations.
Net investment income for the period increased from $1.8 million in 1994 to $2.0 million in 1995, an increase of $200,000 or 11.1%. The increase is due to a rise in interest rates during 1995 which increased the Company's rate of return on investments.
The Company incurred expenses of a non-recurring nature in the amount of $6.3 million during 1995. On June 13, 1995, the California Department of Insurance notified the Company that its application for adjustment of its Proposition 103 return premium liability had been denied and the Company accrued an additional $4.1 million for the constitutionally mandated roll-back of insurance premiums under the Proposition. This amount is included on the balance sheet as Reserve for Prop 103 and on the income statement as non-recurring expense. The Company recorded additional non-recurring charges of $1.6 million in connection with the retirements of Mark Speizer who was the Company's Chief Executive Officer and Howard Herman who was the Company's President. The Company also recorded $600,000 for the write-off of software used to provide its information services products.
Net premiums earned decreased from $23.3 million in 1993 to $20.9 million in 1994, a decrease of $2.4 million or 10.3%. The decrease was primarily related to the same factors which caused the decline in net premiums written during the period.
Flood inquiry fees decreased from $11.7 million in 1993 to $8.0 million in 1994, a decrease of $3.7 million or 31.8%. Flood zone determinations are preformed as part of the mortgage loan origination process and the decline in flood inquiry fee revenues is consistent with the decline in mortgage loan origination and refinance volumes nationwide of approximately 50% beginning in the second quarter of 1994 in response to the sudden and sharp interest rate increases promulgated by the Federal Reserve Board.
Tracking fees for the period increased from $2.5 million in 1993 to $3.0 million in 1994, an increase of $500,000 or 21.6%. The increase is due to the addition of eight customers to the fee based outsourcing product line. Net commission income increased from $462,000 in 1993 to $1.1 million in 1994, an increase of $638,000 or 138.7%. The increase in net commission income primarily resulted from an increase in premiums underwritten by non-affiliated insurance companies from which the Company collects commissions and increased flood insurance premiums from which the Company receives a commission.
Net investment income for the period remained unchanged at $1.8 million for both 1993 and 1994. Although interest rates increased during 1994, there is a lag between interest rate increases and the effects on the yields of the Company's investment portfolio in interest income. In addition, the Company had a gain on the sale of investments of $85,000 in 1993 versus a loss of $52,000 in 1994.
Commissions paid to nonaffiliates decreased from $5.0 million (21.4% of premiums earned) in 1993 to $4.7 million (22.7% of premiums earned) in 1994, a decrease of $300,000, or 5.0%, due primarily to the mix of customers with different commission programs. Personnel expenses increased from $12.9 million in 1993 to $13.7 million in 1994, an increase of $800,000 or 6.1%. The increase in personnel expenses is due primarily to: (1) additional personnel expenses required during the first and second quarters of 1994 to support flood zone determination commitments made during the peak volume periods and prior to the sharp reduction in loan origination volumes, and (2) staffing overlaps (redundancies) during the transition period for the relocation of the Companies loan tracking and customer service operations from Bellevue, Washington to its South San Francisco headquarters. All other expenses increased from $7.5 million in 1993 to $9.1 million in 1994, an increase of $1.6 million or 20.8%. Of the $1.6 million increase: (1) approximately, $400,000 was due to taxes and fees on premiums assumed in 1993 but written on a direct basis in 1994; therefore, in 1994, the Company paid the premium taxes; (2) approximately $525,000 is attributed to printing and postage for fee based business and marketing efforts; (3) approximately $100,000 is due to a benefit to expense the Company received in 1993 when it assumed a book of business; (4) approximately $100,000 is due to miscellaneous charges received from the California FAIR Plan; and (5) the balance is due primarily to the recapture of deferred cost accounts, rent and depreciation expense.
In the second quarter of 1994, the Company accrued $1.0 million for restructuring charges in connection with the relocation of the Company's loan tracking and customer service operations from Bellevue, Washington to its South San Francisco headquarters. The relocation commenced in June 1994 and it was completed by year end 1994. Total expenses included approximately $360,000 for termination and/or relocation benefits for approximately 25 staff and approximately 19 key personnel. The balance of the restructuring charges are for facilities expenses and the write-off of capitalized costs. As of year end 1994, the Company has realized $195,000 in expenses for the termination and relocation of personnel and $260,000 in expenses for facility and capital writeoffs, and the Company expects that the balance of the accrual will cover the restructuring expenses anticipated during 1995 related to the relocation. The Company expects that upon its completion, the relocation will reduce expenses for rent, travel, staff redundancies and taxes attributable to the Bellevue, Washington business operations, which the Company believes will enable it to recover these restructuring costs in approximately two years. This paragraph contains forward-looking statements reflecting current expectations. There can be no assurance that the Company's actual future performance will meet the Company's current expectations. Investors are strongly encouraged to review the section entitled "Factors Affecting Future Operating Results" for a discussion of factors that could affect future performance.
Of the Company's cash and short-term investments, $11.2 million is held by the Insurance Subsidiary. Insurance companies, including the Insurance Subsidiary, are subject to laws and regulations which restrict their ability to pay dividends to parent companies or other shareholders. Under California law, the maximum amount of dividends that the Insurance Subsidiary may pay the Company in any twelve (12) month period without prior regulatory approval is the greater of (i) net investment income for the preceding calendar year, or (ii) 10% of policyholders' surplus (shareholders' equity adjusted to a statutory basis) as of the previous December 31. For the year ended December 31, 1995, the Insurance Subsidiary had net investment income of $1.9 million and as of December 31, 1995, statutory policyholders' surplus of $23.7 million. For the year ended December 31, 1995, the maximum dividend permitted to be paid by the Insurance Subsidiary to National was approximately $2.4 million. See "Market for Registrant's Common Equity and Related Stockholder Matters" and Note 14 of Notes to Consolidated Financial Statements.
The Company is not aware of any trends, requirements, commitments, or events that will or are reasonably likely to have a negative impact on the Company's liquidity during 1996. This paragraph contains forward-looking statements reflecting current expectations. There can be no assurance that the Company's actual future performance will meet the Company's current expectations. Investors are strongly encouraged to review the section entitled "Factors Affecting Future Operating Results" for a discussion of factors that could affect future performance.
Inflation generally affects the rate of investment return in the securities and financial markets, and increases and decreases in such investment return rates have a corresponding effect on the Company's investment income.
Traditional insurance companies underwrite risks individually or by class, following an in-depth analysis of such risks. Although the Company applies underwriting techniques to a small portion of insured risks, the immediate coverage required by purchasers of force-placed insurance generally requires the Company to write specialized insurance within predesignated limits and geographic area, at a flat rate, without the application of traditional underwriting criteria to individual risks. Accordingly, the Company may be insuring individual risks that it might not have insured had it applied traditional analysis to such risks and may not have adequate spread of risk in a particular geographic area. See "Insurance Operations -- Underwriting".
significant losses relating to properties insured by the Company. This increased exposure could have a material adverse effect on the Company's results of operation. See "Regulation -- Reinsurance".
The Company also indemnifies its customers from losses resulting from erroneous flood inquiry determinations, where a borrower was not properly advised whether the collateral was located in or out of a federally-designated flood zone. While to date the Company has experienced no significant losses in this regard and maintains reserves equal to its estimate of incurred but unreported indemnification losses, there can be no assurance such reserves will prove adequate in the future. The Company does not maintain errors and omissions insurance coverage against such losses.