The Company utilizes for its own operations approximately 100% of the space it leases.
Revenue and Income Generation - ----------------------------- The Company receives its revenue primarily from earned premium derived from the insurance company operations, commission and fee income generated from the insurance agency operations, finance charges and fee income from the premium finance operations, and investment income from cash generated primarily from the insurance company operation. The insurance company operation generates approximately 90% of the Company's total revenue. The Company's remaining operations constitute a variety of specialty insurance services, each with unique characteristics and individually not material to consolidated revenues.
Insurance Company Operation - --------------------------- The property and casualty insurance industry is highly competitive and includes many insurers, ranging from large companies offering a wide variety of products worldwide to smaller, specialized companies in a single state or region offering only a single product. Many of the Company's existing or potential competitors have considerably greater financial and other resources, have a higher rating assigned by independent rating organizations such as A.M. Best Company, have greater experience in the insurance industry and offer a broader line of insurance products than the Company. Currently, Crusader is writing primarily Commercial Multiple Peril business only in the state of California and is rated B+ (Very Good) with a rating outlook of stable by A.M. Best Company.
The property and casualty insurance industry is characterized by periods of soft market conditions, in which premium rates are stable or falling and insurance is readily available, and by periods of hard market conditions, where rates rise, coverage may be more difficult to find and insurers' profits increase. The Company believes that the "hard market" that existed in California in the past few years has transitioned to a "soft market." The Company cannot determine how long the existing market conditions will continue, nor in which direction they might change. Despite the increased competition in the property and casualty marketplace, the Company believes that rate adequacy is more important than premium growth, and that underwriting profit is the Company's primary goal. For the year ended December 31, 2005, gross written premium was $60,268,784, a decrease of $8,603,237 (12%) compared to 2004.
AAC provides premium financing for Crusader policies that are produced by Unifax in California. Finance charges and fees earned by AAC during 2005 decreased 19% as compared to 2004. The decrease is primarily a result of a 19% decrease in the number of loans issued in 2005 compared to 2004. Average premium financed decreased 2% from $2,606 in 2004 to $2,557 in 2005.
The cash flow provided by operations in the year ended December 31, 2005, was $9,798,342, a decrease in cash flow of $5,025,495 compared to the cash flow for the year ending December 31, 2004. Cash flow provided by operations for the year ended December 31, 2004, was $14,823,837, a decrease of $701,549 in cash provided compared to the year ended December 31, 2003. The Company has utilized the cash provided from operating activities and from the maturity of its fixed maturity investments primarily to purchase $59.4 million of fixed maturity securities.
Company's current loss and loss expense reserves and expected current and future payments, the Company believes that there are no current liquidity issues.
In accordance with Statement of Financial Accounting Standard No. 115, "Accounting for Certain Investments in Debt and Equity Securities," the Company is required to classify its investment securities into one of three categories: held-to-maturity, available-for-sale or trading securities. Although all of the Company's investments are classified as available-for-sale and the Company may sell investment securities from time to time in response to economic and market conditions, its investment guidelines place primary emphasis on buying and holding high-quality investments to maturity.
On September 29, 2003, the Company borrowed $1,000,000 from Erwin Cheldin, a director and the Company's principal shareholder, president and chief executive officer. As of April 29, 2005, the note was paid in full.
Crusader's statutory capital and surplus as of December 31, 2005, was $36,586,441, an increase of $7,150,098 (24.3%) from December 31, 2004. Crusader's statutory capital and surplus as of December 31, 2004, was $29,436,343, an increase of $3,332,903 (12.8%) from December 31, 2003.
The Company has previously announced that its Board of Directors had authorized the repurchase in the open market from time to time of up to an aggregate of 945,000 shares of the common stock of the Company (see Note 17 of "Notes to Consolidated Financial Statements"). During the year ended December 31, 2005, the Company did not repurchase any shares of the Company's common stock. As of December 31, 2005, the Company has purchased and retired under the Board of Directors' authorization an aggregate of 868,958 shares of its common stock at a cost of $5,517,465.
Although material capital expenditures may also be funded through borrowings, the Company believes that its cash and short-term investments at year end, net of trust restriction of $265,668, statutory deposits of $700,000, cash deposited (with superior courts) in lieu of bond of $200,000 and California insurance company statutory dividend restrictions applicable to Crusader plus the cash to be generated from operations, should be sufficient to meet its operating requirements during the next twelve months without the necessity of borrowing funds.
* Unlike many other forms of contractual obligations, loss and loss adjustment expense reserves do not have definitive due dates and the ultimate payment dates are subject to a number of variables and uncertainties. As a result, the total loss and loss adjustment expense reserve payments to be made by period, as shown above, are estimates.
Results of Operations --------------------- General - ------- The Company had net income of $6,715,004 for the year ended December 31, 2005, compared to net income of $5,681,500 for the year ended December 31, 2004, and net income of $1,068,650 for the year ended December 31, 2003. Total revenue for the year ended December 31, 2005, was $61,182,522 compared to $61,903,310 for the year ended December 31, 2004, and $51,130,439 for the year ended December 31, 2003.
For the year ended December 31, 2005, the Company had income before taxes of $10,466,430 compared to income before taxes of $8,672,458 in the year ended December 31, 2004, an increase in income before taxes of $1,793,972. The increase in pre-tax income was primarily due to an increase of $3,114,856 in the underwriting profit (net earned premium less losses and loss adjustment expenses and policy acquisition costs) from Crusader offset by $995,849 decrease in gross commissions and fees income.
The effect of inflation on the net income of the Company during the years ended December 31, 2005, 2004, and 2003 was not significant.
Crusader's primary line of business is commercial multiple peril policies. This line of business represented approximately 97% of Crusader's total written premium for the year ended December 31, 2005, 98% for the year ended December 31, 2004, and 97% for the year ended December 31, 2003.
Year Ended Direct Written Policies Average December 31 Premium Issued Premium ----------- ------- ------ ------- 2005 $60,268,784 17,927 $3,362 2004 $68,872,021 20,885 $3,298 2003 $64,047,717 21,425 $2,989
As indicated in the above table, the number of policies issued during the 12 months ended December 31, 2005, decreased by 2,958 (14%) as compared to the prior year. The average premium per policy in 2005 increased by $64 (2%) as compared to the 12 months ended December 31, 2004. As previously discussed, the decrease in the number of policies issued in 2005 compared to 2004 is primarily a result of the increased competition. The Company believes that rate adequacy is more important than premium growth and that underwriting profit is the Company's primary goal. Thus, the average premium per policy issued remained relatively comparable to the prior year. Management's assessment of trends and underwriting results is a primary factor in its decisions to expand or contract its business. The Company continues to believe that it can compete effectively and profitably by offering better service and by marketing its policies through independent agents and brokers.
The Company writes annual policies and, therefore, earns written premium daily over the one-year policy term. Premium earned before reinsurance decreased $3,178,044 (5%) in the year ended December 31, 2005, compared to the year ended December 31, 2004, and increased $14,136,689 (26%) in the year ended December 31, 2004, compared to the year ended December 31, 2003. The decrease in earned premium before reinsurance in 2005 is a direct result of the decrease in written premium in 2005. The increase in earned premium before reinsurance in 2004 is a direct result of the increase in written premium during 2004 and 2003.
Ceding commissions on the Company's excess of loss treaties is 35% and is a component of policy acquisition costs. Primarily due to favorable loss experience in 2004 and 2003, reinsurance premium on the Company's 1st layer primary excess of loss treaty ($700,000 in excess of $300,000) decreased in 2005 by 24% compared to 2004. In 2005, Crusader retained a participation in its excess of loss reinsurance treaties of 10% in its 1st layer ($700,000 in excess of $300,000), 10% in its 2nd layer ($1,000,000 in excess of $1,000,000), and 30% in its property and casualty clash treaties. In 2004 Crusader retained a participation in its excess of loss reinsurance treaties of 10% in its 1st layer ($750,000 in excess of $250,000), 10% in its 2nd layer ($1,000,000 in excess of $1,000,000), and 30% in its property and casualty clash treaties. In 2003 Crusader retained a participation in its excess of loss reinsurance treaties of 5% in its 1st layer ($750,000 in excess of $250,000), 10% in its 2nd layer ($1,000,000 in excess of $1,000,000), and 30% in its property and casualty clash treaties. Premium ceded under the provisionally rated contract, which was canceled on a runoff basis effective December 31, 1997, is subject to adjustment based on the amount of losses ceded, limited by a maximum percentage that can be charged by the reinsurer.
Crusader's 2004 and 2003 1st layer primary excess of loss treaty provides for a contingent commission equal to 45% of the net profit, if any, accruing to the reinsurer. The first accounting period for the contingent commission covers the period from January 1, 2003, through December 31, 2005. The Company will calculate and report to the reinsurer its net profit, if any, within 90 days after 36 months following the end of the first accounting period,
and within 90 days after the end of each 12 month period thereafter until all losses subject the to agreement have been finally settled. Based on losses and loss adjustment expenses ceded (including incurred but not reported losses) as of December 31, 2005, no contingent commission has been accrued. The 2005 1st layer primary excess of loss treaty does not provide for a contingent commission.
Loss ratio 62.4% 68.8% 85.5% Expense ratio 20.8% 20.6% 21.4% ---- ---- ----- Combined ratio 83.2% 89.4% 106.9% ==== ==== =====
As indicated in the above table, the loss ratio for the year ended December 31, 2005, decreased to 62.4% from 68.8% in 2004 and 85.5% in 2003. The continuous decrease in the loss ratio was primarily due to improvements in the provision for prior years' incurred losses. Generally, if the combined ratio is below 100%, an insurance company has an underwriting profit; if it is above 100%, a company has an underwriting loss.
Reserves for losses and loss adjustment expenses before reinsurance increased $14,445,548 (17%) from $87,469,000 as of December 31, 2004, to $101,914,548 as of December 31, 2005. The increase in loss and loss adjustment expense reserves in 2005 is primarily a result of an $11,030,000 increase to direct IBNR reserves, from $67,770,000 as of December 31, 2004 to $78,800,000 as of December 31, 2005.
Reserves for losses and loss adjustment expenses before reinsurance increased $9,329,910 (12%) from $78,139,090 as of December 31, 2003, to $87,469,000 as of December 31, 2004. The increase in loss and loss adjustment expense reserves in 2004 is primarily a result of a $14,330,000 increase to direct IBNR reserves, from $53,440,000 as of December 31, 2003 to $67,770,000 as of December 31, 2004.
The Company`s consolidated financial statements include estimated reserves for unpaid losses and related loss adjustment expenses of the insurance company operation. Crusader sets loss and loss adjustment expense reserves at each balance sheet date at management's best estimate of the ultimate payments that it anticipates will be made to settle all losses incurred and related loss adjustment expenses incurred as of that date for both reported and unreported losses. Estimating loss reserves is a difficult process as there are many factors that can ultimately affect the final settlement of a claim and, therefore, the reserve that is needed. Changes in the regulatory and legal environment, results of litigation, medical costs, the cost of repair materials and labor rates can all impact ultimate claim costs. In addition, time can be a critical part of reserving determinations since the longer the span between the incidence of a loss and the payment or settlement of the claim, the more variable the ultimate settlement amount can be. Accordingly, short-tail claims, such as property damage claims, tend to be more reasonably predictable than long-tail liability claims. The liability for unpaid losses and loss adjustment expenses is based upon the accumulation of individual case estimates for losses reported prior to the close of the accounting period plus estimates based on experience and industry data for development of case estimates and for unreported losses and loss adjustment expenses. Since the emergence and disposition of claims are subject to uncertainties, the net amounts that will ultimately be paid to settle claims may vary significantly from the estimated amounts provided for in the accompanying consolidated financial statements. Any adjustments to reserves are reflected in the operating results of the periods in which they are made. Management believes that the aggregate reserves for losses and loss adjustment expenses are reasonable and adequate to cover the cost of claims, both reported and unreported.
Losses and loss adjustment expenses - ----------------------------------- Losses and loss adjustment expenses were $31,513,732 or 62% of net premium earned for the year ended December 31, 2005, compared to $34,450,738 or 69% of net premium earned for the year ended December 31, 2004, and compared to $31,720,533 or 85% of net premium earned for the year ended December 31, 2003. The Company incurred favorable development of prior years' losses of $3,824,464 for the year ended December 31, 2005, compared to favorable development of prior years' losses of $835,434 for the year ended December 31, 2004. The Company incurred adverse development of prior years' losses of $2,751,585 for the year ended December 31, 2003.
Analysis of the roll forward of losses and loss adjustment expenses - ------------------------------------------------------------------- The following table provides an analysis of the roll forward of Crusader's losses and loss adjustment expenses, including a reconciliation of the ending balance sheet liability for the periods indicated:
Other Insurance Operations - -------------------------- Association Operation --------------------- Membership and fee income from the association program of AAQHC is as follows:
Year ended December 31 ---------------------- 2005 2004 2003 ---- ---- ---- Commission income $1,628,061 $2,156,924 $3,312,715
Commissions from other carriers for the year ended December 31, 2005, remained relatively comparable to 2004. Commissions from other carriers for the year ended December 31, 2004, increased 96% over 2003 as AIB was able secure other insurance for approximately half of the 2,200 Cigna members that were terminated by CIGNA. AIB could not obtain insurance for the remaining CIGNA individuals and family members primarily due to their pre-existing health conditions or that they were able to secure other insurance.
Policy Fee Income ----------------- Unifax sells and services insurance policies for Crusader. The policy fee charged to the policyholder by Unifax is recognized as income in the consolidated financial statements. Policy fee income of Unifax is as follows:
Daily Automobile Rental Insurance Program ----------------------------------------- The daily automobile rental insurance program is produced by Bedford. Bedford receives a commission from a non-affiliated insurance company based on premium written. Prior to December 31, 2003, Bedford also received a claim administration fee from the non-affiliated insurance company.
Commission and fee income from the daily automobile rental insurance program are as follows:
Year ended December 31 ---------------------- 2005 2004 2003 ---- ---- ---- Rental program commission $411,189 $555,964 $574,197 Claim administration fee 70,000 - 241,428 Contingent commission 29,877 9,488 - ------- ------- ------- Total commission and fee income $511,066 $565,452 $815,625 ======= ======= =======
Commission and fee income during the year ended December 31, 2005, were $511,066, a decrease of $54,386 (10%) as compared to the year ended December 31, 2004. Commission and fee income during the year ended December 31, 2004, were $565,452, a decrease of $250,173 (31%) as compared to the year ended December 31, 2003.
Unifax began producing commercial earthquake insurance policies in California for non-affiliated insurance companies in 1999. Unifax receives a commission from these insurance companies based on premium written. Commission income on the earthquake program for the year ended December 31, 2005, decreased $4,621 (9%) compared to 2004. Commission income on the earthquake program for the year ended December 31, 2004, increased $13,125 (33%) compared to 2003.
Year ended December 31 ---------------------- 2005 2004 2003 ---- ---- ---- Premium finance charges and fees earned $758,325 $933,529 $952,543 New loans 4,200 5,156 6,216
AAC provides premium financing for Crusader policies produced by Unifax in California. The growth of this program is dependent and directly related to the growth of Crusader's written premium and AAC's ability to market its competitive rates and service. Premium finance charges and fees earned decreased $175,204 (19%) in the year ended December 31, 2005, compared to 2004 due primarily to the fact that there were 956 (19%) fewer loans financed in the current year. Premium finance charges and fees earned decreased $19,014 (2%) in the year ended December 31, 2004, compared to 2003 due to the fact that there were 1,060 (17%) fewer loans financed in the current year offset by the 13% increase in the average premium financed as compared to 2003. During 2005, 32% of all Unifax policies were financed and 75% of those policies were financed by AAC. During 2004, 33% of all Unifax policies were financed and 74% of those policies were financed by AAC.
Year ended December 31 ---------------------- 2005 2004 2003 ---- ---- ---- Average Invested Assets $136,355,683 $125,331,342 $110,614,379
Interest income Insurance company operations $4,248,399 $4,204,573 $4,801,133 Other operations 68,828 38,250 47,010 --------- --------- --------- Total investment income and realized gains $4,317,227 $4,242,823 $4,848,143 ========= ========= =========
In the year ended December 31, 2005, while the Company's average invested assets (at amortized value) increased $11,024,341 (9%) compared to the year ended December 31, 2004, investment income earned increased $74,404 (2%) compared to the year ended December 31, 2004. The yield on average invested assets decreased to 3.17% in 2005 from 3.39% in 2004. The decrease in the yield on average invested assets is primarily the result of a decline in the average return on reinvested assets in the Company's investment portfolio. Also contributing to the decline in the yield on average invested assets is a shorter weighted average maturity of new and reinvested assets. Due to the current interest rate environment, management believes it prudent to
In the year ended December 31, 2004, while the Company's average invested assets (at amortized value) increased $14,716,855 (13%) compared to the year ended December 31, 2003, investment income earned (excluding net realized gains) decreased $605,320 (12%) compared to the year ended December 31, 2003. The decrease in investment income is primarily the result of a decline in the average return on new and reinvested assets in the Company's investment portfolio. Also contributing to the decline in average return is a shorter weighted average maturity of new and reinvested assets. Due to the 2004 interest rate environment, management believed it was prudent to purchase fixed maturity investments with shorter maturities, and therefore, the weighted average maturity of the Company's fixed maturity investments has decreased to 1.4 years as of December 31, 2004, from 1.9 years as of December 31, 2003. In the year ended December 31, 2004, the Company's average yield on invested assets (at amortized value) was 3.39% compared to 4.38% at the year ended December 31, 2003. The Company's average invested assets increased in the year ending December 31, 2004, primarily as a result of increased cash flows from operations. The mix of taxable and tax-exempt securities in the portfolio affects the investment income return percentage. Tax-exempt securities generally carry a lower yield than taxable securities. These securities (at amortized value) decreased to $970,343 (1% of total investments) at December 31, 2004, compared to $2,029,891 (2% of total investments) at December 31, 2003.
The Company monitors its investments closely. If an unrealized loss is determined to be other than temporary, it is written off as a realized loss through the Consolidated Statements of Operations. The Company's methodology of assessing other-than-temporary impairments is based on security-specific analysis as of the balance sheet date and considers various factors including the length of time to maturity and the extent to which the fair value has been less than the cost, the financial condition and the near term prospects of the issuer, whether the debtor is current on its contractually obligated interest and principal payments, and the Company's intent to hold the investment for a period of time sufficient to allow the Company to recover its costs. The Company has concluded that the gross unrealized losses of $842,040 at December 31, 2005, were temporary in nature. However, facts and circumstances may change which could result in a decline in market value considered to be other than temporary. The Company did not sell any fixed maturity investment in the years ended December 31, 2005 and 2004.
Operating Expenses ------------------ POLICY ACQUISITION COSTS are as follows: Year ended December 31 ---------------------- 2005 2004 2003 ---- ---- ---- Policy acquisition costs $10,512,688 $10,319,186 $7,941,199 Ratio to net earned premium (GAAP ratio) 21% 21% 21%
Policy acquisition costs consist of commissions, premium taxes, inspection fees, and certain other underwriting costs that are directly related to and vary with the production of Crusader insurance policies. These costs include both Crusader expenses and allocated expenses of other Unico subsidiaries. On certain reinsurance treaties, Crusader receives a ceding commission from its reinsurer that represents a reimbursement of the acquisition costs related to the premium ceded. No ceding commission is received on facultative, catastrophe, or provisionally rated ceded premium. Policy acquisition costs, net of ceding commission, are deferred and amortized as the related premiums are earned. The ratio of policy acquisition cost to net earned premium in 2005, 2004 and 2003 were comparable at 21%.
Total salaries and employee benefits incurred for the year ended December 31, 2005, increased $274,828 (3%) compared to the year ended December 31, 2004. Factors that affected the 3% were general salary increases (less than 6%) and increases in employee benefits costs, offset by reduction in the number of employees.
Total salaries and employee benefits incurred for the year ended December 31, 2004, increased $349,347 (4%) compared to the year ended December 31, 2003.
COMMISSIONS TO AGENTS/BROKERS are as follows: Year ended December 31 ---------------------- 2005 2004 2003 ---- ---- ---- Commission to agents/brokers $674,674 $934,452 $1,460,684
Commissions to agents/brokers (not including commissions on Crusader policies that are reflected in policy acquisition costs) are generally related to gross commission income from the health and life insurance program, the daily automobile rental insurance program, and the earthquake program. Commissions to agents and brokers decreased $259,778 (28%) for the year ended December 31, 2005, as compared to the year ended December 31, 2004. Commissions to agents and brokers decreased $526,232 (36%) for the year ended December 31, 2004, as compared to the year ended December 31, 2003. The decreases in both years are primarily the result of a decrease in premiums written and the related decrease in the commission expense in the health and life insurance program.
Losses and Loss Adjustment Expenses ----------------------------------- The preparation of the Company's financial statements requires judgments and estimates. The most significant is the estimate of loss reserves as required by Statement of Financial Accounting Standards No. 60 (SFAS No. 60), "Accounting and Reporting by Insurance Enterprises" and Statement of Financial Accounting Standards No. 5 (SFAS No. 5), "Accounting for Contingencies." Estimating loss reserves is a difficult process as there are many factors that can ultimately affect the final settlement of a claim and, therefore, the reserve that is needed. Changes in the regulatory and legal environment, results of litigation, medical costs, the cost of repair materials and labor rates can all impact ultimate claim costs. In addition, time can be a critical part of reserving determinations since the longer the span between the incidence of a loss and the payment or settlement of the claim, the more variable the ultimate settlement amount can be. Accordingly, short-tail claims, such as property damage claims, tend to be more reasonably predictable than long-tail liability claims. The liability for unpaid losses and loss adjustment expenses is based upon the accumulation of individual case estimates for losses reported
Reinsurance ----------- The Company's receivable from reinsurers represents an estimate of the amount of our future loss payments that will be recoverable from the Company's reinsurers. These estimates are based upon our estimates of the ultimate losses that the Company expects to incur and the portion of those losses that are expected to be allocable to reinsurers based upon the terms of the reinsurance agreements. Given the uncertainty of the ultimate amounts of our losses, the estimates may vary significantly from the eventual outcome. The Company's estimate of the amounts receivable from reinsurers is regularly reviewed and updated by management as new data becomes available. The Company's assessment of the collectibility of the recorded amounts receivable from reinsurers is based primarily upon public financial statements and rating agency data. Any adjustments necessary are reflected in then current operations. We evaluate each of our ceded reinsurance contracts at their inception to determine if there is sufficient risk transfer to allow the contract to be accounted for as reinsurance under current accounting literature. At December 31, 2005, all such ceded contracts are accounted for as risk transfer reinsurance.
On September 29, 2003, the Company borrowed $1,000,000 from Erwin Cheldin, the Company's president, chairman and principal stockholder. As of April 29, 2005, the note was paid in full.
Forward Looking Statements - -------------------------- Certain statements contained herein, including the Sections entitled "Business," "Legal Proceedings" and "Management's Discussion and Analysis of Financial Condition and Results of Operations," that are not historical facts are forward looking. These statements, which may be identified by forward looking words or phrases such as "anticipate," "appears," "believe," "estimates," "expect," "intend," "may," "should," and "would," involve risks and uncertainties, many of which are beyond the control of the Company. Such risks and uncertainties could cause actual results to differ materially from these forward looking statements. Factors which could cause actual results to differ materially include those described under Item 1 - "Business - Competition" and Item 1A - "Risk Factors"; premium rate adequacy relating to competition or regulation; actual versus estimated claim experience; the outcome of rate change filings with regulatory authorities; acceptance by insureds of rate changes; adequacy of rate changes; changes in Crusader's A.M. Best rating; regulatory changes or developments; the outcome of regulatory proceedings; unforeseen calamities; general market conditions; and the Company's ability to introduce new profitable products.
Consolidated Statements of Changes in Stockholders' Equity for the years ended December 31, 2005, December 31, 2004, and December 31, 2003 38
We have audited the accompanying consolidated balance sheets of Unico American Corporation and subsidiaries as of December 31, 2005 and 2004, and the related consolidated statements of operations, comprehensive income, changes in stockholders' equity, and cash flows for each of the years in the three-year period ended December 31, 2005. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
Basis of Presentation - --------------------- The consolidated financial statements have been prepared in conformity with U.S. generally accepted accounting principles (GAAP). As described in Note 14, the Company's insurance subsidiary also files financial statements with regulatory agencies prepared on a statutory basis of accounting that differs from GAAP.
o Investment Securities - Fair values for fixed maturity securities are obtained from a national quotation service. The fair values for equity securities are based on quoted market prices.
Revenue Recognition - ------------------- a. General Agency Operations ----------------------------- Commissions and policy fees due the Company are recognized as income on the effective date of the insurance policies.
There is a high level of uncertainty inherent in the evaluation of the required loss and loss adjustment expense reserves for the Company. The long-tailed nature of liability claims and the volatility of jury awards exacerbate that uncertainty. The Company sets loss and loss adjustment expense reserves at each balance sheet date at management's best estimate of the ultimate payments that it anticipates will be made to settle all losses incurred and related expenses incurred as of that date for both reported and unreported losses. The ultimate cost of claims is dependent upon future events, the outcomes of which are affected by many factors. Company claim reserving procedures and settlement philosophy, current and perceived social and economic inflation, current and future court rulings and jury attitudes, improvements in medical technology, and many other economic, scientific, legal, political, and social factors all can have significant effects on the ultimate costs of claims. Changes in Company operations and management philosophy also may cause actual developments to vary from the past. Since the emergence and disposition of claims are subject to uncertainties, the net amounts that will ultimately be paid to settle claims may vary significantly from the estimated amounts provided for in the accompanying consolidated financial statements. Any adjustments to reserves are reflected in the operating results of the periods in which they are made. Management believes that the aggregate reserves for losses and loss adjustment expenses are reasonable and adequate to cover the cost of claims, both reported and unreported.
Restricted Funds - ---------------- Restricted funds are as follows: Year ended December 31 ---------------------- 2005 2004 ---- ---- Premium trust funds (1) $265,668 $773,404 Cash deposited in lieu of bond (2) 200,000 752,659 Assigned to state agencies (3) 700,000 700,000 --------- --------- Total restricted funds $1,165,668 $2,226,063 ========= =========
Segment Reporting - ----------------- Statement of Financial Accounting Standards No. 131 (SFAS No. 131), "Disclosures about Segments of an Enterprise and Related Information", became effective for fiscal years effective after December 15, 1997. SFAS No. 131 establishes standards for the way information about operating segments is reported in financial statements. The Company has identified its insurance company operation as its primary reporting segment. Revenues from this segment comprised 90% of consolidated revenues in the year ended December 31, 2005, 88% of consolidated revenues in the year ended December 31, 2004, and 82% for the year ended December 31, 2003. The Company's remaining operations constitute a variety of specialty insurance services, each with unique characteristics and individually insignificant to consolidated revenues.
The insurance company operation is conducted through the Company's wholly owned subsidiary Crusader Insurance Company (Crusader), which as of December 31, 2005, was licensed as an admitted insurance carrier in the states of Arizona, California, Montana, Nevada, Oregon, and Washington. Crusader is a multiple-line property and casualty insurance company, which began transacting business on January 1, 1985. As of December 31, 2005, 97% of Crusader's business was commercial multiple peril insurance policies. Commercial multiple peril
Other insurance operations 22,847,069 26,380,789 26,684,721 Intersegment elimination (1) (16,498,059) (18,892,426) (17,559,756) ---------- ---------- --------- Total other insurance operations 6,349,010 7,488,363 9,124,965 --------- --------- ---------
Income (loss) before income taxes - --------------------------------- Insurance company operation $9,615,682 $5,333,273 $(3,208,657) Other insurance operations 850,748 3,339,185 5,358,028 ---------- --------- --------- Total income before income taxes $10,466,430 $8,672,458 $2,149,371 ========== ========= =========
Concentration of Risks - ---------------------- In 2005 100% of Crusader's gross premium written was derived from California. In 2005 approximately 72% of the $1,628,062 commission and fee income from the Company's health and life insurance program was from CIGNA HealthCare medical and dental plan programs.
At December 31, 2005, the Company's reinsurance recoverable on paid and unpaid losses and loss adjustment expenses of $27,390,791 were as follows:
A.M. Best Amount Name of Reinsurer Rating Recoverable - ----------------- ------ ----------- Platinum Reinsurance A $13,163,454 Partners Reinsurance of the U.S. A+ 4,779,820 Hannover Ruckversicherungs AG A 6,866,748 General Reinsurance Corporation A++ 1,725,709 QBE Reinsurance Corporation A 855,060 ---------- Total $27,390,791 ==========
Had compensation cost for the Company's stock-based compensation plan been reflected in the accompanying consolidated financial statements based on the fair value at the grant dates for option awards consistent with the method of SFAS 123, the Company's net income would have been reduced to the pro forma amounts indicated below:
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects - 43,604 51,639
Income per share As reported $1.22 $1.03 $0.19 Pro forma $1.21 $1.03 $0.19
Recently Issued Accounting Standards - ------------------------------------ In December 2004, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based Payment" ("SFAS No. 123R") that will require compensation costs related to share-based payment transactions to be recognized in the financial statements. With limited exceptions, the amount of compensation cost will be measured based on the grant-date fair value of the equity instrument issued. Compensation cost will be recognized over the period that an employee provides service in exchange for the award. SFAS No. 123R replaces Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" and supersedes APB Opinion No. 25, "Accounting for Stock Issued to Employees" and its related implementation guidance; the principles that the Company currently employs to account and report its employee stock option awards. On April 14, 2005, the Securities and Exchange Commission issued a Final Rule amending Regulation S-X to revise the date for compliance with SFAS No. 123R so that each registrant that is not a small business issuer will be required to prepare financial statements in accordance with SFAS No. 123R beginning with the first interim reporting period of the registrant's first fiscal year beginning on or after June 15, 2005. The Company will adopt the provisions of SFAS No. 123R in January 2006. The Company does not believe that the adoption of SFAS No. 123R will have a material impact on its consolidated financial statements.
In May 2005, the FASB issued Statement of Financial Accounting Standards No. 154, "Accounting Changes and Error Corrections" ("SFAS No. 154"). SFAS No. 154 establishes, unless impracticable, retrospective application as the required method for reporting a change in accounting principle in the absence of explicit transition requirements specific to a newly adopted accounting principle. The statement will be effective for the Company for all accounting changes and any error corrections occurring after January 1, 2006.
NOTE 2 - ADVANCE PREMIUM AND PREMIUM DEPOSITS - --------------------------------------------- Some of the Company's health and life programs require payments of premium prior to the effective date of coverage; and, accordingly, invoices are sent out as early as two months prior to the coverage effective date. Insurance premiums received for coverage months effective after the balance sheet date are recorded as advance premiums. The Company received deposits to guarantee the payment of premiums for past coverage months on its daily automobile rental program. These deposits are required when information such as gross receipts or
number of rental cars is required to compute the actual premium due, but is not available until after the coverage month.
The amortized cost and estimated fair value of fixed maturity investments at December 31, 2005, by contractual maturity are as follows. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without penalties.
Amortized Estimated Cost Fair Value ---------- ---------- Due in one year or less $62,721,805 $62,292,261 Due after one year through five years 73,406,623 73,257,039 Due after five years through ten years - - ----------- ----------- Total fixed maturities $136,128,428 $135,549,300 =========== ===========
*Deposits with superior courts to stay execution of judgment pending appeal of Crusader claims.
Fixed maturities $4,218,302 $4,200,190 $4,742,204 Short-term investments 98,925 42,633 105,939 --------- --------- --------- Total investment income $4,317,227 $4,242,823 $4,848,143 ========= ======== =========
NOTE 5 - PREMIUMS, COMMISSIONS AND NOTES RECEIVABLE, NET - -------------------------------------------------------- Premiums, commissions and notes receivable, net are as follows:
Premiums and notes receivable are substantially secured by unearned premiums and funds held as security for performance.
NOTE 6 - NOTES PAYABLE - RELATED PARTIES - ---------------------------------------- Notes payable - related parties consist of the following:
The Company`s consolidated financial statements include estimated reserves for unpaid losses and related claim settlement or loss adjustment expenses of our insurance company operation. Crusader sets loss and loss adjustment expense reserves at each balance sheet date at management's best estimate of the ultimate payments that it anticipates will be made to settle all losses incurred and related expenses incurred as of that date for both reported and unreported losses. The process of estimating loss and loss adjustment reserves involves significant judgment and is complex and imprecise due to the number of variables and assumptions inherent in the estimating process. Crusader establishes reserves for reported losses based on historical experience, upon case-by-case evaluation of facts surrounding each known loss and the related policy provisions. The amount of reserves for unreported losses is estimated by analysis of historical and statistical information. Reserves are monitored and adjusted when appropriate and reflected in the statement of operations in the period of adjustment.
Losses and loss adjustment expenses were $31,513,732 or 62% of net premium earned for the year ended December 31, 2005, compared to $34,450,738 or 69% of net premium earned for the year ended December 31, 2004, and compared to $31,720,533 or 85% of net premium earned for the year ended December 31, 2003. Incurred losses of prior years were $3,824,464 (favorable development) for the year ended December 31, 2004,
NOTE 9 - LEASE COMMITMENT TO RELATED PARTY - ------------------------------------------ The lease commitment provides for the following minimum annual rental commitments:
Year ending December 31, 2006 1,025,952 December 31, 2007 (through March 31, 2007) 256,488 --------- Total minimum payments $1,282,440 =========
The Company presently occupies a 46,000 square foot building located at 23251 Mulholland Drive, Woodland Hills, California, under a master lease expiring March 31, 2007. The total rent expense under this lease agreement was $1,025,952 for the year ended December 31, 2005; $1,025,952 for the year ended December 31, 2004; and $1,025,952 for the year ended December 31, 2003.
NOTE 12 - REINSURANCE - --------------------- A reinsurance transaction occurs when an insurance company transfers (cedes) a portion of its exposure on policies written by it to a reinsurer that assumes that risk for a premium (ceded premium). Reinsurance does not legally discharge the Company from primary liability under its policies. If the reinsurer fails to meet its obligations, the Company must nonetheless pay its policy obligations.
On most of the premium that Crusader cedes to the reinsurer, the reinsurer pays a commission to Crusader, which includes a reimbursement of the cost of acquiring the portion of the premium, which is ceded. Ceding commission was $4,647,748 in 2005, $6,031,987 in 2004, and $5,429,330 in 2003. Crusader does not currently assume any reinsurance. The Company intends to continue obtaining reinsurance although the availability and cost may vary from time to time. The unpaid losses ceded to the reinsurer are recorded as an asset on the balance sheet.
NOTE 13 - RETIREMENT PLANS - -------------------------- Profit Sharing Plan - ------------------- During the fiscal year ended March 31, 1986, the Company adopted the Unico American Corporation Profit Sharing Plan. Company employees who are at least 21 years of age and have been employed by the Company for at least two years are participants in such Plan. Pursuant to the terms of such Plan, the Company annually contributes for the account of each participant an amount equal to a percentage of the participant's eligible compensation as determined by the Board of Directors. Participants must be employed by the Company on the last day of the plan year to be eligible for contribution. Participants are entitled to receive distribution of benefits under the Plan upon retirement, termination of employment, death or disability.
As of December 31, 2005 $36,586,441 As of December 31, 2004 $29,436,343
The insurance department also conducts periodic financial examinations of Crusader. The insurance department has completed its financial examination of Crusader's December 31, 2004, statutory financial statements. A preliminary report on the examination was issued by the department of insurance on January 13, 2006. No significant issues were reported in the preliminary report.
Crusader is restricted in the amount of dividends it may pay to its parent in any twelve (12) month period without prior approval of the California Department of Insurance. Presently, without prior approval, Crusader may pay a dividend in any twelve (12) month period to its parent equal to the greater of (a) 10% of Crusader's statutory policyholders' surplus or (b) Crusader's statutory net income for the preceding calendar year. There were no dividends paid by Crusader to Unico in 2005, 2004, or in 2003. Based on Crusader's statutory surplus as regards policyholders as of December 31, 2005, the maximum dividend that could be made by Crusader to Unico without prior regulatory approval in 2006 is $3,658,644.
In December 1993, the National Association of Insurance Commissioners (NAIC) adopted a Risk-Based Capital (RBC) Model Law for property and casualty companies. The RBC Model Law is intended to provide standards for calculating a variable regulatory capital requirement related to a company's current operations and its risk exposures (asset risk, underwriting risk, credit risk and off-balance sheet risk). These standards are intended to serve as a diagnostic solvency tool for regulators that establishes uniform capital levels and specific authority levels for regulatory intervention when an insurer falls below minimum capital levels. The RBC Model Law specifies four distinct action levels at which a regulator can intervene with increasing degrees of authority over a domestic insurer if its RBC is equal to or less than 200% of its computed authorized control level RBC. A company's RBC is required to be disclosed in its statutory annual statement. The RBC is not intended to be used as a rating or ranking tool nor is it to be used in premium rate making or approval. Crusader's adjusted capital at December 31, 2005, was 400% of authorized control level risk-based capital.
On December 18, 2002, the Company granted 182,000 incentive stock options under the Company's 1999 Omnibus Stock Plan. On December 30, 2005, the Company accelerated the vesting of 37,500 options that were originally schedule to vest on January 1, 2006, and 30,000 options that were originally schedule to vest on January 1, 2007 (see Note 1). As of December 31, 2005, 173,000 of those options were outstanding and exercisable,
NOTE 16 - TAXES ON INCOME - ------------------------- The provision for taxes on income consists of the following:
Year ended December 31 ---------------------- 2005 2004 2003 ---- ---- ---- Current provision: Federal $3,319,904 $2,947,668 $703,663 State 142,923 64,400 572,822 --------- --------- --------- Total federal and state 3,462,827 3,012,068 1,276,485 Deferred 288,599 (21,110) (195,764) --------- --------- --------- Provision for taxes $3,751,426 $2,990,958 $1,080,721 ========= ========= =========
Deferred tax liabilities: Deferred acquisition costs $2,501,101 $2,789,102 Unrealized gain on investments - 193,785 State tax on undistributed insurance company earnings 283,663 157,249 Tax depreciation in excess of book depreciation 112,758 66,913 Other 173,849 169,539 --------- --------- Total deferred tax liabilities $3,071,371 $3,376,588 --------- ---------