UVE is the largest private personal residential insurance company in Florida by direct written premium in-force, with approximately 9.6% market share as of September 30, 2016, according to the most recent data reported by the FLOIR. We perform substantially all aspects of insurance underwriting, policy issuance, general administration and claims processing and settlement internally through our vertically integrated operations. Our wholly-owned licensed insurance subsidiaries, UPCIC and APPCIC, currently write personal residential insurance policies, predominantly in Florida with $860.6 million in direct written premium for the year ended December 31, 2016. UPCIC also writes homeowners insurance policies in Alabama, Delaware, Georgia, Hawaii, Indiana, Maryland, Massachusetts, Michigan, Minnesota, North Carolina, Pennsylvania, South Carolina, and Virginia with $94.0 million in direct written premium for the year ended December 31, 2016, and is licensed to issue policies in New Hampshire, New Jersey, New York, and West Virginia. We believe that our longevity in the Florida market and our resulting depth of experience will enable us to continue to successfully grow our business in both hard and soft markets.
We generate revenues primarily from the collection of premiums. The nature of our business tends to be seasonal, reflecting consumer behaviors in connection with the Florida residential real estate market and the hurricane season. The amount of direct written premium tends to increase just prior to the second quarter of our fiscal year and tends to decrease approaching the fourth quarter. Other sources of revenue include: commissions paid by our reinsurers to our reinsurance intermediary subsidiary, BARC, on reinsurance it places for the Insurance Entities, policy fees collected from policyholders by our managing general agency subsidiary, URA, and financing fees charged to policyholders who choose to defer premium payments. We also generate income by investing our assets.
We believe our ability to achieve rate adequacy relative to the risks written improves our underwriting profit. This, together with our improved financial strength was a key factor in our decision to retain a greater share of our profitable business by reducing our quota share cession rate in our 2014-2015 reinsurance program and eliminating the use of quota share reinsurance in our 2015-2016 and 2016-2017 reinsurance programs.
Net earned premiums grew by $128.4 million, or 25.5%, to $632.4 million compared to 2015.
Net income decreased by $7.1 million, or 6.6%, to $99.4 million.
Declared and paid dividends per common share of $0.69, including a $0.13 special dividend in December
Offered Universal DirectSM in all 14 states as of December 31, 2016.
Developing and implementing our reinsurance strategy to adequately protect us in the event of one or more catastrophes while maintaining efficient reinsurance costs has been a key focus for our leadership team. We believe that our reinsurance program is structured such that if we were to experience an active hurricane season like the hurricane seasons in 2004 and 2005, we would be able to pay policyholder claims, maintain sufficient surplus to grow profitably and take advantage of the resulting market dislocation that would likely follow. Effective June 1, 2016, we entered into multiple reinsurance agreements comprising our 2016-2017 reinsurance program. See “Item 8 - Note 4 (Reinsurance).”
We use reinsurance to reduce our exposure to catastrophic losses primarily through excess of loss reinsurance. We believe that the overall terms of the 2016-2017 reinsurance program are more favorable than the 2015-2016 reinsurance program. We eliminated our quota share reinsurance arrangements effective June 1, 2015; purchased additional excess of loss catastrophe cover; converted the exposure of all UPCIC states from a two-tower reinsurance program to a single tower reinsurance program; purchased a stand-alone non-Florida supplemental catastrophe reinsurance program; realized cost reductions in part due to market conditions and our preparation and efforts to manage risk exposure; and further enhanced our reinsurance coverage terms and conditions
be offset by as much as $30 million in coverage under the Other States (non-Florida) Reinsurance Program. These retention amounts are gross of any potential tax benefit we would receive in paying such losses. UPCIC has mandatory catastrophe coverage through the FHCF plus voluntary catastrophe coverage with private reinsurers.
APPCIC’s reinsurance program, which runs from June 1 through May 31 of the following year, consists of various forms of catastrophe and multiple line excess of loss coverage. Under the 2016-2017 reinsurance program, APPCIC has a net retention on its catastrophe program of $2 million for all losses per catastrophe event for losses incurred up to a first event loss of $30.9 million. The retention amount is gross of any potential tax benefit we would receive in paying such losses. APPCIC has mandatory catastrophe coverage through the FHCF plus voluntary catastrophe coverage with private reinsurers.
The estimated total net cost of APPCIC’s FHCF, per risk and catastrophe related coverage, including reinstatement premium protection coverage is $2.9 million. The largest private participants in APPCIC’s program include Everest Re, Chubb Tempest Re, Hiscox, Hannover Ruck and Lloyd’s of London syndicates. The table below provides the A.M. Best and Standard and Poor’s (“S&P”) financial strength ratings for each of the largest third party reinsurers in APPCIC’s 2016-2017 reinsurance program.
In establishing the liability for unpaid losses and LAE, actuarial judgment is relied upon in order to make appropriate assumptions to estimate a best estimate of ultimate losses. There are inherent uncertainties associated with this estimation process, especially when a company is undergoing changes in its claims settlement practices, or when a company has limited experience in a certain area. Claims reported in 2013 and 2014, for example, benefited from several initiatives designed to expedite claim closure rates and reduce settlement costs introduced in our claims department during those 24 months. A more dramatic change occurred during calendar year 2015 when we realigned our adjusting teams as well as launched our Fast Track initiative, reducing settlement costs and strengthening case reserve adequacy for claims reported during the year. These changes have had a meaningful influence on development pattern selections applied to 2012 through 2016 accident year claims in the reserving estimates for each of the methods described in “Item 8 - Note 17 (Liability for Unpaid Losses and Loss Adjustment Expenses)”. Most recently, in 2016 there has been a significant increase in efforts to pursue subrogation against third parties responsible for property damage losses to our insureds. As a result, anticipated subrogation recoveries are reviewed and estimated on a stand-alone basis in the Company’s reserve analysis. However, with the passing of each year, our own trends become more reliable for use in predicting future results, and the confidence in prior accident year estimates grows.
Reserve estimates are developed based on the processes and historical development trends discussed in “Item 8 - Note 17 (Liability for Unpaid Losses and Loss Adjustment Expenses)” to the consolidated financial statements. These estimates are considered in conjunction with known facts and interpretations of circumstances and factors including our experience with similar cases, actual claims paid, differing payment patterns and pending levels of unpaid claims, loss management programs, product mix and contractual terms, changes in law and regulation, judicial decisions, and economic conditions. When these types of changes are experienced, actuarial judgment is applied in the determination and selection of development factors in order to better reflect new trends or expectations. For example, if a change in law is expected to have a significant impact on the development of claim severity, actuarial judgment is applied to determine appropriate development factors that will most accurately reflect the expected impact on that specific estimate. This example appropriately describes the reserving methodology selection for use in estimating sinkhole liabilities after the passing of legislation, as noted in “Item 8 -Note 17 (Liability for Unpaid Losses and Loss Adjustment Expenses)” to the
plaintiffs targeting property and casualty insurers, in purported class action litigation related to claims-handling and other practices.
The estimation of claims and claims expense reserves for catastrophes also comprises estimates of losses from reported and unreported claims, primarily for damage to property. In general, estimates for catastrophe reserves are based on claim adjuster inspections and the application of historical loss development factors as described previously and in “Item 8 -Note 17 (Liability for Unpaid Losses and Loss Adjustment Expenses)” to the consolidated financial statements. However, depending on the nature of the catastrophe, as noted above, the estimation process can be further complicated. For example, for hurricanes, complications could include the inability of insureds to be able to promptly report losses, limitations placed on claims adjusting staff affecting their ability to inspect losses, determining whether losses are covered by our homeowners policy (generally for damage caused by wind or wind driven rain), or specifically excluded coverage caused by flood, estimating additional living expenses, and assessing the impact of demand surge and exposure to mold damage. The effects of numerous other considerations, include the timing of a catastrophe in relation to other events, such as at or near the end of a financial reporting period, which can affect the availability of information needed to estimate reserves for that reporting period. In these situations, practices are adapted to accommodate these circumstances in order to determine a best estimate of losses from a catastrophe.
In selecting development factors and averages described in “Item 8 -Note 17 (Liability for Unpaid Losses and Loss Adjustment Expenses)” to the consolidated financial statements, due consideration is given to how the historical experience patterns change from one year to the next over the course of several consecutive years of recent history. Predictions surrounding these patterns drive the estimates that are produced by each method, and are based on statistical techniques that follow standard actuarial practices.
In compliance with annual statutory reporting requirements, our appointed independent actuary provides a Statement of Actuarial Opinion (“SAO”) indicating that carried loss and LAE reserves recorded at each annual balance sheet date make a reasonable provision for all of the Insurance Entities’ unpaid loss and LAE obligations under the terms of contracts and agreements with our policyholders. Recorded reserves are compared to the indicated range provided in the actuary’s report accompanying the SAO. At December 31, 2016, the recorded amount for net loss and LAE falls within the range determined by the appointed independent actuaries and approximates their best estimate.
The inherent uncertainty associated with our loss and LAE liability is magnified due to our concentration of property business in catastrophe-exposed coastal states, primarily Florida. As an example, the 2004 and 2005 hurricanes created great uncertainty in determining ultimate losses for these natural catastrophes due to issues related to applicability of deductibles, availability and cost of repair services and materials, and other factors. UPCIC experienced unanticipated unfavorable loss development on catastrophe losses from claims related to 2004 and 2005 being reopened and new claims being opened due to public adjusters encouraging policyholders to file new claims, and from homeowners’ association assessments related to condominium policies. Due to the inherent uncertainty, the parameters of the loss estimation methodologies are updated on an annual basis as new information emerges.
We incur costs in connection with the production of new and renewal insurance policies that are referred to as policy acquisition costs. Commissions and state premium taxes are costs of acquiring insurance policies that vary with, and are directly related to, the successful production of new and renewal business. These costs are deferred and amortized over the period during which the premiums are earned on the underlying policies. We have collected ceding commissions from certain reinsurers in connection with our use of quota share reinsurance contracts in the past. As discussed above, we eliminated the use of quota share reinsurance effective June 1, 2015. We estimated the amount of ceding commissions to be deferred on a basis consistent with the deferral of acquisition costs incurred with the production of the original policies issued and the terms of the applicable reinsurance contracts. The deferred ceding commissions were offset against the deferred policy acquisition costs with the net result presented as “deferred policy acquisition costs, net” on our Consolidated Balance Sheets. As of December 31, 2016, deferred policy acquisition costs, net, were $64.9 million compared to deferred policy acquisition costs, net of $60.0 million as of December 31, 2015.
We evaluate and recognize losses on insurance contracts when estimated future claims and maintenance costs under a group of existing policy contracts will exceed anticipated future premiums and investment income. The determination of the provision for premium deficiency requires estimation of the costs of losses, catastrophic reinsurance and policy maintenance to be incurred and investment income to be earned over the remaining policy period. Management has determined that a provision for premium deficiency was not warranted as of December 31, 2016.
In the normal course of business, we seek to reduce the risk of loss that may arise from catastrophes or other events that cause unfavorable underwriting results by reinsuring certain levels of risk in various areas of exposure with other insurance enterprises or reinsurers. While ceding premiums to reinsurers reduces our risk of exposure in the event of catastrophic losses, it also reduces our potential for greater profits in the event that such catastrophic events do not occur. We believe that the extent of our reinsurance is typical of a company of our size in the Florida homeowners’ insurance market. Amounts recoverable from reinsurers are estimated in a manner consistent with the provisions of the reinsurance agreement and consistent with the establishment of our liability. The Insurance Entities’ reinsurance policies do not relieve them from their obligations to policyholders. Failure of reinsurers to honor their obligations could result in losses; consequently, allowances are established for amounts deemed uncollectible. No such allowance was deemed necessary as of December 31, 2016.
year ended December 31, 2016 COMPARED TO YEAR ENDED DECEMBER 31, 2015
Premium earned, net in the current period includes premium written over the past 12 months and any changes in rates or policy count during that time. Premiums earned, net were $632.4 million for the year ended December 31, 2016, compared to $504.0 million for the year ended December 31, 2015. The increase in net earned premiums of $128.4 million, or 25.5%, includes an increase in direct earned premiums of $84.4 million and a decrease in ceded earned premiums of $44.0 million. The increase in direct earned premium includes organic growth in all states during 2016 as well as rate changes that took effect over the past twelve months. Direct written premiums increased $71.2 million or 8.1% which was made up of an increase in Florida business of $42.9 million or 5.3% over the prior year and direct written premiums in other states increased $28.3 million or 43.0% over the prior year.
Net investment income was $9.5 million for the year ended December 31, 2016, an increase of 85.1%, compared to $5.2 million for the year ended December 31, 2015. The increase in net investment income of $4.4 million is principally the result of increases in our fixed income investment portfolio fueled by cash flows generated from operations and actions taken to increase yield by investing
We sold investment securities available for sale during the year ended December 31, 2016 resulting in a net realized gain of $2.3 million compared to a net realized gain of $1.1 million during the year ended December 31, 2015.
Income taxes decreased by $5.1 million, or 7.4% primarily as a result of a decrease in income before income taxes. The effective tax rate decreased to 39.0% from 39.2% for the years ended December 31, 2016 and 2015, respectively. See “Item 8 - Note 12 (Income Taxes)” for a reconciliation from the statutory income tax rates to our effective tax rates for these periods.
Net income increased by $33.5 million, or 45.9%, to $106.5 million for the year ended December 31, 2015 compared to the year ended December 31, 2014. Diluted earnings per common share increased by $0.89, or 42.8%, to $2.97 for the year ended December 31, 2015 compared to the year ended December 31, 2014, as a result of an increase in net income.
The increase in net income of $33.5 million, or 45.9%, for the year ended December 31, 2015 compared to the year ended December 31, 2014 reflects an increase in net earned premiums, net investment income, commissions and policy fees. These were partially offset by a decrease in realized gains from investments sold from our portfolio of investments available-for-sale and an increase in operating expenses. The elimination of our quota share reinsurance contracts is a significant factor behind our results. A more detailed discussion of this and other factors follows the table below.
The decrease in ceded earned premiums is attributable to the reduction and ultimate elimination of quota share reinsurance. Our reinsurance programs run from June 1 to May 31 of the following year. In June 2014, we reduced our quota share cession rate from 45% in our 2013-2014 reinsurance program to 30% in our 2014-2015 reinsurance program. In June 2015, we eliminated the quota share in our 2015-2016 reinsurance program. The termination of our quota share reinsurance agreement in 2015 was done on a cut-off basis resulting in the return of $128.3 million of unearned ceded premium at June 1, 2015 and $36.7 million of ceded unearned commissions at June 1, 2015. As discussed above in “-Overview,” we have taken what we believe to be prudent measures leading to our decision to eliminate quota share reinsurance.
increased 27.2% to $689.1 million at December 31, 2015 compared to $541.6 million at December 31, 2014. Also, management rebalanced the fixed maturities (bonds) portfolio by selling lower yielding investments and reinvesting cash and maturities into fixed income investments with longer maturities resulting in an increase in yield.
We believe that cash flows generated from operations will be sufficient to meet our working capital requirements for at least the next twelve months. Our policy is to invest amounts considered to be in excess of those retained for claims-paying obligations and working capital requirements.
Prepaid reinsurance premiums represent the portion of unearned ceded written premium that will be earned pro rata in the future. The increase of $9.7 million to $124.4 as of December 31, 2016 was due primarily to increased reinsurance costs relating to our catastrophe reinsurance program beginning June 1, 2016.
Reinsurance recoverable represents the estimated amount of losses and LAE that are recoverable from reinsurers. The decrease of $22.7 million to $106 thousand as of December 31, 2016 was primarily due to the general wind down of the quota share since it was terminated in June 2015.
Property and equipment, net increased by $5.1 million to $32.1 million as of December 31, 2016 primarily from the purchases of building improvements and capitalized software.
See “Item 8 - Note 5 (Insurance Operations)” for a roll-forward in the balance of our deferred policy acquisition costs, net.
Unearned premium represents the portion of direct written premium that will be earned pro rata in the future. The increase of $33.4 million to $475.8 million as of December 31, 2016 reflects both organic growth and seasonality of our business as described under “- Overview”.
Additional paid-in-capital increased $11.5 million resulting from the reissuance of treasury shares pursuant to the RenaissanceRe Ventures Ltd. (“RenRe”) sale of UVE common stock of $7.7 million, share-based compensation expense for the year ended December 31, 2016 of $10.3 million and stock option exercises of $0.9 million. This was offset by tax withholdings for share-based compensation of $6.2 million and a tax shortfall for share-based compensation of $1.2 million.
The balance of cash and cash equivalents as of December 31, 2016 was $105.7 million compared to $197.0 million at December 31, 2015. See “Item 8 - Consolidated Statements of Cash Flows” for a reconciliation of the balance of cash and cash equivalents between December 31, 2016 and 2015. The decrease in cash and cash equivalents was driven by cash flows used for investing and financing activities in excess of those generated from profits and operations. Most of the balance of cash and cash equivalents maintained is available to pay claims in the event of a catastrophic event in addition to any amounts recovered under our reinsurance agreements.
In May 2013, UVE also entered into a $20 million unsecured term loan agreement and related term loan (“Term Loan”) with RenRe Ventures also discussed in “Item 8 - Note 7 (Long-Term Debt).” The Term Loan provided an interest rate of 50 basis points per annum and matured on the earlier of May 23, 2016, or the date that all principal under the Term Loan was prepaid or deemed paid in full. The Term Loan was amortized over the three-year term and UVE could elect to prepay the loan without penalty. The Term Loan contained certain covenants and restrictions applicable while amounts were outstanding thereunder, including limitations with respect to our indebtedness, liens, distributions, mergers or dispositions of assets, organizational structure, transactions with affiliates and business activities. On April 28, 2016, the Company repaid the Term Loan in connection with the sale of $10 million of UVE common stock to RenRe. Refer to “Item 8 - Note 7 (Long-Term Debt) and Note 8 (Stockholder’ Equity)” for details on the cancellation of the Term Loan.
Liquidity for the Insurance Entities is primarily required to cover payments for reinsurance premiums, claims payments including potential payments of catastrophe losses offset by recovery of any reimbursement amounts under our reinsurance agreements, fees paid to affiliates for managing general agency services, inspections and claims adjusting services, agent commissions, premiums and income taxes, regulatory assessments, general operating expenses, and interest and principal payments on debt obligations. The principal source of liquidity for the Insurance Entities consists of the revenue generated from the collection of net premiums, after deductions for expenses and the collection of reinsurance recoverable.
The Insurance Entities are responsible for losses related to catastrophic events in excess of coverage provided by the Insurance Entities’ reinsurance programs and for losses that otherwise are not covered by the reinsurance programs, which could have a material adverse effect on either the Insurance Entities or our business, financial condition, results of operations and liquidity.
Capital resources provide protection for policyholders, furnish the financial strength to support the business of underwriting insurance risks, and facilitate continued business growth. At December 31, 2016, we had total capital of $386.2 million, comprised of stockholders’ equity of $371.2 million and total long term debt of $15.0 million. Our debt-to-total-capital ratio and debt-to-equity ratio were 3.9% and 4.0%, respectively, at December 31, 2016. At December 31, 2015, we had total capital of $317.2 million, comprised of stockholders’ equity of $293.1 million and total long term debt of $24.1 million. Our debt-to-total-capital ratio and debt-to-equity ratio were 7.6% and 8.2%, respectively, at December 31, 2015.
On August 31, 2016, we declared a cash dividend of $0.14 per share on our outstanding common stock which was paid on October 24, 2016 to shareholders of record at the close of business on September 12, 2016.
We are required to periodically estimate and reflect on our balance sheet the amount needed to pay losses and related loss adjustment expenses on reported and unreported claims. See “Item 1 - Business-Liability for Unpaid Losses and LAE,” for a description of this process. The following table sets forth a reconciliation of beginning and ending liability for unpaid losses and LAE as shown in our consolidated financial statements for the periods presented (in thousands):
During 2016 reserves for unpaid losses and loss adjustment expenses were reduced by 40.8% from $98.8 million as of December 31, 2015 to $58.5 million as of December 31, 2016. This reduction was the result of continuing initiatives to expedite claims payments including the ability of our mobile claims teams to rapidly settle certain claims, referred to as “Fast Track.”
Based upon consultations with our independent actuarial consultants and their statement of opinion on losses and LAE, we believe that the liability for unpaid losses and LAE is currently adequate to cover all claims and related expenses that may arise from incidents reported and IBNR. Our carried reserves as of December 31, 2016 were confirmed by our year end independent actuarial analysis and are in excess of their point or central estimate of their findings. Our annual actuarial process includes two reviews during the year by our independent actuarial firm. We use these external reviews to confirm data and emerging trends to observed changes. The actuarial process, including the external independent reviews, results in re-estimates of carried reserves for both current and prior accident years. See “Item 7 - (Liability for Unpaid Losses and LAE)” and “Item 8 - Note 17 (Liability for Unpaid Losses and Loss Adjustment Expenses)” for a further discussion of the actuarial estimation process used for loss and LAE reserving. As a result of the ongoing actuarial process, reserves for the current accident year were strengthened in the fourth quarter to align with 2016 full year actuarial loss estimates and the impact of weather events that occurred in 2016. Re-estimates of prior accident years ultimate losses and LAE were performed during the year and changes resulting in both favorable and unfavorable development were recorded. We believe the
The ratios are net of reinsurance, including catastrophe reinsurance premiums which comprise a significant cost, and inclusive of LAE. The expense ratio includes management fees and commissions, including a markup, paid to an affiliate of the Insurance Entities in the amount of $78.0 million and $70.7 million for UPCIC for the years ended December 31, 2016 and 2015, respectively and $0.7 million and $0.8 million for the years ended December 31, 2016 and 2015, respectively for APPCIC. The management fees and commissions paid to the affiliate are eliminated in consolidation.
In November 2016, Demotech, Inc. affirmed the Financial Stability Rating® of “A” for the Insurance Entities. According to Demotech, Inc., the assigned rating represents a company’s continued positive surplus related to policyholders, liquidity of invested assets, an acceptable level of financial leverage, reasonable loss and loss adjustment expense reserves, and realistic pricing. The ratings of the Insurance Entities are subject to at least annual review by Demotech, Inc., and may be revised upward or downward or revoked at the sole discretion of Demotech, Inc. Financial Stability Ratings® are primarily directed towards policyholders, and are not evaluations directed toward the protection of investors in the company, including holders of the company’s common stock, and are not recommendations to buy, sell or hold securities. See “Item 1A - Risk Factors-A downgrade in our Financial Stability Rating® may have an adverse effect on our competitive position, the marketability of our product offerings, and our liquidity, operating results and financial condition.”
The following table represents our contractual obligations for which cash flows are fixed or determinable as of December 31, 2016 (in thousands):
There are generally no notional or stated amounts related to unpaid losses and LAE. Both the amounts and timing of future loss and LAE payments are estimates and subject to the inherent variability of legal and market conditions affecting the obligations and make the timing of cash outflows uncertain. The ultimate amount and timing of unpaid losses and LAE could differ materially from the amounts in the table above. Further, the unpaid losses and LAE do not represent all of the obligations that will arise under the contracts, but rather only the estimated liability incurred through December 31, 2016.
In November 2016, the Financial Accounting Standards Board (“FASB”) issued guidance intended to reduce diversity in the classification and presentation of changes in restricted cash in the statement of cash flows. The new standard requires that the statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Entities will also be required to reconcile such total to amounts on the balance sheet and disclose the nature of the restrictions. The guidance is effective in fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. We are currently evaluating the impact that this standard will have on our consolidated financial statements.
We have audited the accompanying consolidated balance sheets of Universal Insurance Holdings, Inc. and Subsidiaries (the “Company”) as of December 31, 2016 and 2015, and the related consolidated statements of income, comprehensive income, stockholders’ equity and cash flows for each of the years in the three-year period ended December 31, 2016. We also have audited the Company’s internal control over financial reporting as of December 31, 2016, based on criteria established in the 2013 Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying “Management’s Report on Internal Control over Financial Reporting.” Our responsibility is to express an opinion on these consolidated financial statements and an opinion on the Company’s internal control over financial reporting based on our audits.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Universal Insurance Holdings, Inc. and Subsidiaries as of December 31, 2016 and 2015, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2016 in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2016, based on the criteria established in the 2013 Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
Universal Insurance Holdings, Inc. (“UVE”) is a Delaware corporation incorporated in 1990. UVE with its wholly-owned subsidiaries (the “Company”), is a vertically integrated insurance holding company performing all aspects of insurance underwriting, distribution and claims. Through its wholly-owned subsidiaries, Universal Property & Casualty Insurance Company (“UPCIC”) and American Platinum Property and Casualty Insurance Company (“APPCIC”), together referred to as the “Insurance Entities,” the Company is principally engaged in the property and casualty insurance business offered primarily through a network of independent agents. Risk from catastrophic losses is managed through the use of reinsurance agreements. The Company’s primary product is homeowners’ insurance currently offered in fourteen states as of December 31, 2016, including Florida, which comprises the vast majority of the Company’s in-force policies. See “- Note 5 (Insurance Operations),” for more information regarding the Company’s insurance operations.
The consolidated financial statements have been prepared in conformity with generally accepted accounting principles in the United States of America (“GAAP”). The consolidated financial statements include the accounts of UVE and its wholly owned subsidiaries. All material intercompany balances and transactions have been eliminated in consolidation.
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. The Company’s primary areas of estimate are the recognition of premium revenues, liabilities for unpaid losses and loss adjustment expenses, provision for premium deficiency and reinsurance. Actual results could differ from those estimates.
Cash and Cash Equivalents. The Company includes in cash equivalents all short-term, highly liquid investments that are readily convertible to known amounts of cash and have an original maturity of three months or less. These amounts are carried at cost, which approximates fair value. The Company excludes any net negative cash balances from cash and cash equivalents that the Company has with any single financial institution. These amounts represent outstanding checks not yet presented to the financial institution and are reclassified to liabilities and presented as book overdraft in the Company’s Consolidated Balance Sheets.
The assessment of whether the impairment of a security’s fair value is other than temporary is performed using a portfolio review as well as a case-by-case review considering a wide range of factors. There are a number of assumptions and estimates inherent in evaluating impairments and determining if they are other than temporary, including: 1) the Company’s ability and intent to hold the investment for a period of time sufficient to allow for an anticipated recovery in value; 2) the expected recoverability of principal and interest; 3) the extent and length of time to which the fair value has been less than amortized cost for fixed maturity securities or cost for equity securities and short-term investments referred to as severity and duration; 4) the financial condition, near-term and long-term prospects of the issue or issuer, including relevant industry conditions and trends, and implications of rating agency actions and offering prices referred to as credit quality; and 5) the specific reasons that a security is in a significant unrealized loss position, including market conditions which could affect liquidity. Additionally, once assumptions and estimates are made, any number of changes in facts and circumstances could cause the Company to subsequently determine that an impairment is other than temporary, including: 1) general economic conditions that are worse than previously forecasted or that have a greater adverse effect on a particular issuer or industry sector than originally estimated; 2) changes in the facts and circumstances related to a particular issue or issuer’s ability to meet all of its contractual obligations; and 3) changes in facts and circumstances obtained that causes a change in our ability or intent to hold a security to maturity or until it recovers in value. Management’s intent and ability to hold securities is a determination that is made at each respective balance sheet date giving consideration to factors known to management for each individual issuer of securities such as credit quality and other publicly available information.
Premiums Receivable. Generally, premiums are collected prior to providing risk coverage, minimizing the Company’s exposure to credit risk. The Company performs a policy level evaluation to determine the extent the premiums receivable balance exceeds the unearned premiums balance. The Company then ages this exposure to establish an allowance for doubtful accounts based on prior experience. As of December 31, 2016 and 2015, the Company had recorded allowances for doubtful accounts in the amounts of $527 thousand and $344 thousand, respectively.
Inherent in the estimates of ultimate claims are expected trends in claim severity, frequency and other factors that may vary as claims are settled. The amount of uncertainty in the estimates for casualty coverage is significantly affected by such factors as the amount of claims experience relative to the development period, knowledge of the actual facts and circumstances and the amount of insurance risk retained. In addition, the Company’s policyholders are currently concentrated in South Florida, which is periodically subject to adverse weather conditions, such as hurricanes and tropical storms. The methods for making such estimates and for establishing the resulting liability are periodically reviewed, and any adjustments are reflected in current earnings.
Provision for Premium Deficiency. It is the Company’s policy to evaluate and recognize losses on insurance contracts when estimated future claims and maintenance costs under a group of existing contracts will exceed anticipated future premiums. No accruals for premium deficiency were considered necessary as of December 31, 2016 and 2015.
Reinsurance. Ceded written premium is recorded upon the effective date of the reinsurance contracts and earned over the contract period. Amounts recoverable from reinsurers are estimated in a manner consistent with the provisions of the reinsurance agreements and consistent with the establishment of the liability of the Company. Allowances are established for amounts deemed uncollectible if any.
Statutory Accounting. UPCIC and APPCIC prepare statutory financial statements in conformity with accounting practices prescribed or permitted by the Florida Office of Insurance Regulation (the “FLOIR”). The FLOIR requires that insurance companies domiciled in Florida prepare their statutory financial statements in accordance with the Manual (the “Manual”), as modified by the FLOIR.
In May 2015, the Financial Accounting Standards Board (“FASB”) issued guidance addressing enhanced disclosure requirements for insurers relating to short-duration insurance contract claims and the unpaid claims liability rollforward for short-duration contracts. The disclosures are intended to provide users of financial statements with more transparent information about an insurance entity’s initial claim estimates and subsequent adjustments to those estimates, the methodologies and judgments used to estimate claims, and the timing, frequency, and severity of claims. The guidance is effective for annual reporting periods beginning after December 15, 2015. Early application is permitted. The Company adopted this guidance effective January 1, 2016. The adoption of this guidance results in additional disclosures but did not impact the Company’s results of operations, financial position or liquidity.
The following table provides the cost or amortized cost and fair value of securities available for sale as of the dates presented (in thousands):
The following table provides the credit quality of investment securities with contractual maturities or the issuer of such securities as of the dates presented (in thousands):
The following table summarizes the cost or amortized cost and fair value of mortgage-backed and asset-backed securities as of the dates presented (in thousands):
The Company eliminated the quota share ceded by UPCIC to its reinsurers beginning with the reinsurance program effective June 1, 2015. Under the quota share contracts that were effective June 1, 2014 through May 31, 2015, the quota share ceded by UPCIC to its reinsurers was 30%. By eliminating the quota share, the Company expects to increase its profitability by retaining all premiums. The elimination of the quota share also decreases the amount of losses and LAE that may be ceded by UPCIC and effectively increases the amount of risk retained by UPCIC and the Company. The elimination of the quota share also eliminates ceding commissions earned from the Company’s quota share reinsurer during the contract term and eliminates deferred ceding commissions, netted against deferred policy acquisition costs.
The following table presents quota-share cession rates by reinsurance program and the years they were in effect:
Amounts recoverable from reinsurers are estimated in a manner consistent with the terms of the reinsurance contracts. Reinsurance premiums, losses and LAE are accounted for on a basis consistent with those used in accounting for the original policies issued and the terms of the reinsurance contracts. Ceding commissions received in connection with quota share reinsurance are deferred and netted against deferred policy acquisition costs and amortized over the effective period of the related insurance policies.
The Florida Insurance Code requires insurance companies to maintain capitalization equivalent to the greater of ten percent of the insurer’s total liabilities or $10.0 million. The following table presents the amount of capital and surplus calculated in accordance with statutory accounting principles, which differ from GAAP, and an amount representing ten percent of total liabilities for both UPCIC and APPCIC as of the dates presented (in thousands):
As of the dates in the table above, both UPCIC and APPCIC exceeded the minimum statutory capitalization requirement. UPCIC also met the capitalization requirements of the other states in which it is licensed as of December 31, 2016. UPCIC and APPCIC are also required to adhere to prescribed premium-to-capital surplus ratios and have met those requirements at such dates.
UVECF made this contribution to APPCIC’s capital in conjunction with APPCIC’s request for FLOIR approval to transact commercial residential insurance products in Florida. The FLOIR granted APPCIC’s request.
Depreciation and amortization was $3.1 million, $1.9 million and $1.2 million for the years ended December 31, 2016, 2015 and 2014, respectively.
The following table provides realized gains (losses) on the disposal of property and equipment during the periods presented (in thousands):
On November 9, 2006, UPCIC entered into a $25.0 million surplus note with the State Board of Administration of Florida (the “SBA”) under Florida’s Insurance Capital Build-Up Incentive Program (the “ICBUI”). The surplus note has a twenty-year term and accrues interest, adjusted quarterly based on the 10-year Constant Maturity Treasury Index. The carrying amount of the surplus note is included in the statutory capital and surplus of UPCIC of approximately $14.3 million as of December 31, 2016.
UPCIC is in compliance with each of the loan’s covenants as implemented by rules promulgated by the SBA. An event of default will occur under the surplus note, as amended, if UPCIC: (i) defaults in the payment of the surplus note; (ii) fails to submit quarterly filings to the FLOIR; (iii) fails to maintain at least $50 million of surplus during the term of the surplus note, except for certain situations; (iv) misuses proceeds of the surplus note; (v) makes any misrepresentations in the application for the program; (vi) pays any dividend when principal or interest payments are past due under the surplus note; or (vii) fails to maintain a level of surplus and reinsurance sufficient to cover in excess of UPCIC’s 1-in-100 year probable maximum loss as determined by a hurricane loss model accepted by the Florida Commission on Hurricane Loss Projection Methodology as certified by the FLOIR annually. To avoid a penalty rate, UPCIC must maintain either a ratio of net written premium to surplus of 2:1 or a ratio of gross written premiums to surplus of 6:1
according to a calculation method set forth in the surplus note. As of December 31, 2016, UPCIC’s net written premium to surplus ratio and gross written premium to surplus ratio were in excess of the required minimums and, therefore, UPCIC is not subject to increases in interest rates.
The Term Loan provided an interest at the rate of 0.50% per annum and matured on the earlier of May 23, 2016 or the date that all principal under the Term Loan was pre-paid or deemed paid in full. The Term Loan was amortized over the three-year term and UVE could elect whether to prepay the loan without penalty. Principal was paid annually on the anniversary of the closing date in three annual installments and interest was payable in arrears on the same dates as the principal payments. The Term Loan contained financial covenants.
The stated interest rate of the Term Loan of 0.50% was below the Company’s borrowing rate resulting in imputed interest and an original issue discount computed by calculating the present value of the future principal and interest payments which utilized the Company’s borrowing rate. Concurrent with the establishment of the original issue discount, the Company recorded a deferred credit, a component of other liabilities and accrued expenses, for an equal amount against premium payments the Company made in connection with a catastrophe risk-linked transaction contract entered into with RenRe on the same date and with the same maturity date as the Term Loan. The original issue discount was amortized to interest expense over the life of the Term Loan and the deferred credit was amortized as a reduction in insurance expense, a component of general and administrative expenses, over the life of a covered loss index swap with RenRe.
On April 28, 2016, the Company entered into a Purchase and Exchange Agreement with RenRe, pursuant to which the Company sold 583,771 shares of UVE common stock in a private placement to RenRe Ventures at a price of $17.13 per share for total consideration of $10.0 million, which was comprised of $2.965 million in cash and $7.035 million in cancellation of outstanding indebtedness, including accrued interest. See “-Note 8 (Stockholders’ Equity)” for details of the cancellation of the Term Loan.
Should UVE default on the DB Loan, it will be prohibited from paying dividends to its shareholders.
The following table provides an estimate of principal payments to be made for the amounts due on the surplus note and the Term Loan as of December 31, 2016 (in thousands):
As of December 31, 2016 and 2015, the Company had shares outstanding of Series A Preferred Stock. Each share of Series A Preferred Stock is convertible by the Company into shares of Common Stock.
The Series A Preferred Stock pays a cumulative dividend of $0.25 per share per quarter. The Company declared and paid aggregate dividends to holders of record of the Company’s Series A Preferred Stock of $10 thousand for each of the years ended December 31, 2016 and 2015.
The following table summarizes the activity relating to shares of the Company’s Common Stock and Contingently Redeemable Common Stock during the periods presented (in thousands):
Privately negotiated transaction at $19.00 per share, subject to holding period restrictions as of December 31, 2014. Subsequent to December 31, 2014, such restrictions were removed and contingently redeemable common stock was reclassified to common stock.
In June 2016, UVE announced that its Board of Directors authorized a share repurchase program under which UVE may repurchase in the open market in compliance with the Exchange Act Rule 10b-18 up to $20.0 million of its outstanding shares of common stock through December 31, 2017. UVE repurchased 98,929 shares, at an aggregate price of approximately $2.1 million, pursuant to such repurchase program through December 2016.
During the year ended December 31, 2016, UVE repurchased an aggregate of 441,036 shares of its common stock in the open market in compliance with Rule 10b-18 under the Securities Exchange Act of 1934, as amended, at a total cost of $8.5 million.
UVE pays dividends to shareholders, which are funded by earnings on investments and distributions from the earnings of its consolidated subsidiaries. Generally, other than as disclosed above and in “-Note 7 (Long-Term Debt),” there are no restrictions for UVE limiting the payment of dividends. However, UVE’s ability to pay dividends to shareholders may be affected by restrictions on the ability of the Insurance Entities to pay dividends to UVE through UVECF. See “-Note 5 (Insurance Operations),” for a discussion of these restrictions. There are no such restrictions for UVE’s non-insurance consolidated subsidiaries. Notwithstanding the restriction on the net assets of the Insurance Entities, UVE received distributions from the earnings of its non-insurance consolidated subsidiaries of $46.9 million, $58.2 million and $55.8 million during the years ended December 31, 2016, 2015 and 2014, respectively. During the year ended December 31, 2016, UVE made a capital contribution of $2.0 million to one of our Insurance Entities, APPCIC, in conjunction with APPCIC’s plan to begin writing commercial residential products in Florida. There were no capital contributions by UVE to the Insurance Entities during the years ended December 31, 2015 and 2014. The Company prepares and files a consolidated federal tax return for UVE and its consolidated subsidiaries with all GAAP tax related entries recorded on the books of UVE. Since the GAAP tax related entries are not recorded at the subsidiary level, the Company does not have the ability to produce the amount of net assets for each of its subsidiaries in accordance with GAAP.
Under the Company’s 2009 Omnibus Incentive Plan, as amended (the “Incentive Plan”), 2,518,131 shares remained reserved for issuance and were available for new awards under the Incentive Plan as of December 31, 2016.
All shares outstanding as of December 31, 2016 are expected to vest.
The following table provides the amount of unrecognized compensation expense as of the most recent balance sheet date and the weighted average period over which those expenses will be recorded for both Stock Options, Restricted Stock, and PSUs (dollars in thousands):
PSUs are awarded to certain employees in consideration for services rendered pursuant to terms of employment agreements and to provide to those employees with a continued incentive to share in the success of the Company. Each performance share unit has a value equal to one share of common stock and generally vests over a three year service period commencing on the grant date.
The following table reconciles the statutory federal income tax rate to the Company’s effective tax rate for the periods presented (in thousands):
Deferred income taxes represent the temporary differences between the GAAP and tax basis of the Company’s assets and liabilities and available tax loss and credit carryforwards. As of December 31, 2016 and 2015, the significant components of the Company’s deferred taxes consisted of the following (in thousands):
As of December 31, 2016, the Company has state capital loss carryforwards of $8.3 million and $15.3 million for the periods ending December 31, 2012 and 2013, respectively. These state capital loss carryforwards will begin to expire beginning in 2017.
The Company has adopted ASC 740-10-05, Accounting for Uncertainty in Income Taxes, which clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements. ASC 740 provides a threshold for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The Company’s policy is to classify interest and penalties related to unrecognized tax positions in its provision for income taxes. As of December 31, 2016, 2015 and 2014, we have determined that no uncertain tax liabilities are required.
The Company filed a consolidated federal income tax return for the fiscal years ended December 31, 2015, 2014 and 2013 and intends to file the same for the year ended December 31, 2016. The tax allocation agreement between the Company and the Insurance Entities provide that they will incur income taxes based on a computation of taxes as if they were stand-alone taxpayers. The computations are made utilizing the financial statements of the Insurance Entities prepared on a statutory basis of accounting and prior to consolidating entries which include the conversion of certain balances and transactions of the statutory financial statements to a GAAP basis.
The Company files its tax returns as prescribed by the tax laws of the jurisdictions in which it operates. The Company’s 2013 through 2015 tax years are still subject to examination in the U.S. Various state jurisdiction tax years remain open to examination. The Company has concluded its 2012 IRS examination, the results of which yielded no material change.
Lawsuits are filed against the Company from time to time. Many of these lawsuits involve claims under policies that we underwrite and reserve for as an insurer. We believe that the resolution of these claims will not have a material adverse effect on our financial condition or results of operations. We are also involved in various legal proceedings and litigation unrelated to claims under our policies that arise in the ordinary course of business operations. Management believes that any liabilities that may arise as a result of these legal matters will not have a material adverse effect on our financial condition or results of operations. The Company contests liability and/or the amount of damages as appropriate in each pending matter.
Legal proceedings are subject to many uncertain factors that generally cannot be predicted with assurance, and the Company may be exposed to losses in excess of any amounts accrued. The Company currently estimates that the reasonably possible losses for legal proceedings, whether in excess of a related accrued liability or where there is no accrued liability, and for which the Company is able to estimate a possible loss, are immaterial. This represents management’s estimate of possible loss with respect to these matters and is based on currently available information. These estimates of possible loss do not represent our maximum loss exposure, and actual results may vary significantly from current estimates.
As required by GAAP, assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. The Company’s assessment of the significance of a particular input to the fair value measurement requires judgment, and may affect the placement of the asset or liability within the fair value hierarchy levels.
The Company utilizes third-party independent pricing services that provide a price quote for each fixed maturity, equity security and short-term investment. Management reviews the methodology used by the pricing services. If management believes that the price used by the pricing service does not reflect an orderly transaction between participants, management will use an alternative valuation methodology. There were no adjustments made by the Company to the prices obtained from the independent pricing source for any fixed maturities or equity securities included in the tables above.
NOTE 17 - LIABILITY FOR UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES
Set forth in the following tables is information about unpaid losses and loss adjustment expenses as of December 31, 2016, net of reinsurance, as well as cumulative claim counts and the total of incurred-but-not-reported liabilities plus expected development on reported claims included within the liability for unpaid losses and LAE (in thousands).
Basis for estimating liabilities for unpaid claims and claim adjustment expenses
The company establishes a liability to provide for the estimated unpaid portion of the costs of paying losses LAE under insurance policies the Insurance Entities have issued. Predominately all of the company’s claims relate to the company’s core product, homeowner’s insurance and the various policy forms in which it is available. The liability for unpaid losses and LAE consists of the following:
Case reserves, which are the reserves established by the claims examiner on reported claims
Reserve estimates for both unpaid losses and LAE are derived using several different actuarial estimation methods in order to provide the actuary with multiple predictive viewpoints to consider for each of the sectors discussed above. Each of the methods has merit, because they each provide insight into emerging patterns. These methods are each variations on two primary actuarial techniques: “chain ladder development” techniques and “counts and average” techniques. The “chain ladder development” actuarial technique is an estimation process in which historical payment and reserving patterns are applied to actual paid and/or reported amounts (paid losses, recovered subrogation or LAE plus individual case reserves established by claim adjusters) for an accident period to create an estimate of how losses or recoveries are likely to develop over time. The “counts and average” technique includes an evaluation of historical and projected costs per claim, and late-reported claim counts, for open claims by accident period. An accident period refers to classification of claims based on the date in which the claims occurred, regardless of the date they were reported to the company. These analyses are used to prepare estimates of required reserves for payments or recoveries to be made in the future. Transactions are organized into half-year accident periods for purposes of the reserve estimates. Key data elements used to determine our reserve estimates include historical claim counts, loss and LAE payments, subrogation received, case reserves, earned policy exposures, and the related development factors applicable to this data.
A fourth method, called the counts and averages method, is utilized for estimates of loss, subrogation and LAE for each Florida sector. In this method, an estimate of unpaid losses or expenses is determined by separately projecting ultimate reported claim counts and ultimate claim severities (cost or recoveries per claim) on open and unreported claims for each accident period. Typically, chain ladder development methods are used to project ultimate claim counts and claim severities based on historical data using the same methodology described in the paid and reported development methods above. Estimated ultimate losses are then calculated as the product of the two items. This method is intended to avoid data distortions that may exist with the other methods for the most recent years as a result of changes in case reserve levels, settlement rates and claims handling fees. In addition, it may provide insight into the drivers of loss experience. For example, this method is utilized for sinkhole losses due to unique settlement patterns that have emerged since the passage of legislation that codified claim settlement practices with respect to sinkhole related claims and subsequent policy form changes we implemented. The method is also important as we implemented our Fast Track Initiative, which is an initiative to settle claims on an accelerated basis. These claims are expected to be reported and settled at different rates and ultimate values than historically observed, requiring a departure from traditional development methodologies.
Reserves are re-estimated periodically by combining historical payment and reserving patterns with current actual results. When actual development of claims reported, paid losses or case reserve changes are different than the historical development pattern used in a prior period reserve estimate, and as actuarial studies validate new trends based on indications of updated development factor calculations, new ultimate loss and LAE predictions are determined. This process incorporates the historic and latest trends, and other underlying changes in the data elements used to calculate reserve estimates. The difference between indicated reserves based on new reserve estimates and the previously recorded estimate of reserves is the amount of reserve re-estimates. The resulting increase or decrease in the reserve re-estimates is recorded and included in “Losses and loss adjustment expenses” in the Consolidated Statements of Income. Total reserve re-estimates conducted in 2016, 2015 and 2014, resulted in favorable development of $4.7 million in 2016, $0.3 million in 2015, and $0.7 million in 2014. The favorable development in 2016 was principally the result of increases in estimated subrogation recoveries.
The methodology used to determine claim counts is based first around the event and then based on coverage. One event could have one or more claims based on the policy coverage, for example an event could have a claim for the first party coverage and a claim for third party liability regardless of the number of third party claimants. If multiple third party liability claims are reported together they would be counted as one claim.