The following table sets forth selected financial data for the Company. The financial data for 2001 through 2003 reflects the results of operations and financial position of the Insurance Company. The financial data for 2005 and 2004 reflects the consolidated results of operations and financial position of the Holding Company and the Insurance Company including the effects of the Conversion which occurred on October 15, 2004. You should read this data in conjunction with the Company’s consolidated financial statements and accompanying notes, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and other financial information included elsewhere in this report.
(2) Effective November 30, 2001, the Insurance Company terminated the sponsored defined benefit plan. As of January 1, 2001, the Insurance Company had estimated that plan assets would exceed the projected benefit obligation as of the date of termination and a prepaid benefit cost was recorded. As a result of the
During 2002 the Insurance Company recorded net periodic benefit income of approximately $138,000 and a $424,808 settlement loss. After giving effect to the 2002 net periodic benefit income and settlement loss, the remaining prepaid benefit cost was liquidated in August of 2002. In accordance with the terms of the liquidation, the Insurance Company received approximately $701,000 upon settlement. In addition to the net periodic benefit income, the Insurance Company also contributed approximately $293,000 to the Insurance Company’s 401(k) plan and approximately $175,000 was paid in excise taxes as a result of the termination. The impact of the net periodic benefit income, 401(k) contribution and excise taxes recorded during 2002 which approximated $330,000, is reflected within policy acquisition and other underwriting expenses in the 2002 statement of operations.
(4) The expense ratio is the policy acquisition and other underwriting expenses in relation to net premium earned.
(6) The sum of the ratio of policy acquisition and other underwriting expenses divided by net premiums written, and the ratio of net losses and loss adjustment expenses divided by net premiums earned.
(8) Earnings per share data for 2004 reflects only net income for the period from October 16, 2004 through December 31, 2004, the period after the Conversion. Net income during this period was $902,711.
Underwriting Results. The following table shows the components of the Company’s underwriting gain or loss for the years ended December 31, 2005 and 2004.
Overall, direct premiums written were up 8.4% with new business premiums down 1.3% and renewal premiums up 9.8%. The total in-force policy count continues to grow and is up 3.1%. Direct premiums written for the personal segment increased 11.6% driven by renewal premium volume which was up 15.2% as a result of a 1.2 point increase in premium retention and an overall 5% rate increase achieved in 2004 and 2005. New business premium volume for the personal segment was down 11.8%. The decline in new business premium volume is a result of the softening of the market which extended into the personal segment during 2005. The two main product lines within the personal segment include personal auto and homeowners which make up 38.4% and 51.7%, respectively, of the personal segment’s direct premiums written. Direct premiums written for personal auto and homeowner policies increased 29.4% and 4.1%, respectively during 2005 as compared to 2004. The total in-force policy count for the personal segment increased 3.6% driven by personal auto which was up 17.8%.
Farm direct premiums written were up 5.4% driven by renewal premiums which were up 6.8% driven by rate increases of 6.3% in 2004 and 3.7% in 2005, with new business premium down 14.1%. Direct premiums written for the marine business increased 16.1% driven by both an increase in new and renewal premiums of 4.2% and 20.1%, respectively and an increase in policy count of 6.7%.
Net premiums written by business segment for the years ended December 31 were as follows:
Policy Acquisition and Other Underwriting Expenses. Policy acquisition and other underwriting expenses for the years ended December 31 were as follows:
affecting the decline in other underwriting expenses include a decrease of $490,000 in the net periodic benefit cost related to the post-retirement benefit plan as a result of the plan amendment made at the end of 2004 coupled with a decrease of $128,000 in assessments from state mandated associations and guaranty funds. These decreases were offset by an increase in agent marketing incentives and profit sharing commissions of $219,000 and an increase in salaries and wages of $227,000 as a result of annual merit increases and the accrual of employee profit sharing which is directly tied to the performance and profitability of the Company. The expense ratio, defined as the ratio of policy acquisition and other underwriting expenses to net premiums earned, decreased to 31.8% from 34.8%. The decline in the ratio is due to the previously mentioned decrease in other underwriting expenses coupled with the increase in net premiums earned which is primarily attributable to the effects of the quota share runoff.
Interest Expense. Interest expense decreased approximately $178,000 to $309,000 in 2005 from $487,000 in 2004. Approximately $132,000 of the decrease is attributable to the reduction in the surplus note balance which occurred in October 2004 as part of the Conversion which was previously discussed above under Part I, Item 1.-Business. The remaining decrease of $46,000 is due to the decline in the balance of the quota share funds withheld account.
Consolidated Results of Operations. The following table shows the underwriting gain or loss as well as other revenue and expense items included in our consolidated statements of income for the years ended December 31, 2004 and 2003. The Company’s underwriting gain or loss consists of net premiums earned less loss and LAE and policy acquisition and other underwriting expenses. The Company’s underwriting performance is the most important factor in evaluating the overall results of operations given the fluctuations which can occur in loss and LAE due to weather related events as well as the uncertainties involved in the process of estimating reserves for losses and LAE. The underwriting results and the fluctuations in other revenue and expense items are discussed in greater detail below.
Underwriting Results. The following table shows the components of the Company’s underwriting gain or loss for the years ended December 31, 2004 and 2003.
Net premiums written for the year ended December 31, 2004 increased $17,613,000 or 93.2%. Approximately $14,925,000 of the increase is due to a reduction in written premium ceded under the quota share reinsurance contract which was placed into runoff on January 1, 2004. Further contributing to the increase is approximately $3,055,000 from overall premium volume growth offset by a net increase of approximately $367,000 in written premiums ceded under other reinsurance agreements.
The loss and LAE ratio decreased from 62.8% for the year ended December 31, 2003 to 62.4% for the same period in 2004. During the year ended December 31, 2004, the personal segment was negatively impacted by weather related losses as well as increased severity in the homeowner and personal auto product lines. During July 2004 severe thunderstorms which included hail and high winds passed through the northeast section of Michigan resulting in net incurred loss and LAE of approximately $1.0 million which added approximately 5.9 percentage points to the 2004 loss and LAE ratio for the personal segment as compared to 2003. Also contributing to the increase in the personal segment’s loss and LAE ratio over the prior year period is increased severity in the homeowner line as a result of higher fire losses and higher personal auto losses. The increased severity was tempered by higher earned premiums retained by the Insurance Company as a result of the quota share contract runoff.
The decline in the commercial segment’s loss and LAE ratio is due to a decline in claim frequency and severity coupled with increased net earned premium. Commercial claim frequency decreased 20.9% in 2004 as compared to 2003 while the average net incurred loss and LAE per claim decreased 54.8%. The net incurred loss and LAE decreased during 2004 as a result of redundant reserve development and an increase in losses ceded to our reinsurers. During 2004 the commercial segment’s product lines of commercial multiple peril and workers compensation experienced favorable development of $1,076,000 primarily in accident years 2000, 2002 and 2003. Furthermore in 2004 commercial incurred losses ceded to our reinsurers as a percentage of direct incurred losses was 72% compared to 52% in 2003. The increase is due to the fact that the Company experienced an increase in the dollar amount of individual commercial claims which exceeded the retention level of $125,000
under the excess of loss reinsurance agreement. The commercial segment’s loss and LAE ratio was significantly higher during 2003 as a result of increased claim severity specifically in the commercial multiple peril product line. The increased severity in 2003 was partly attributable to the fact that the commercial multiple peril line includes larger liability exposures which have increased the dollar amount of individual claims not experienced by the Company in the past.
The farm segment’s loss and LAE ratio increased from 48.3% for the year ended December 31, 2003 to 68.4% during the year ended December 31, 2004. The increase is a result of a combination of both increased frequency and severity. The marine segment’s loss and LAE ratio increased from 35.7% for the year ended December 31, 2003 to 75.6% during the year ended December 31, 2004. The increase in the marine segments loss and LAE ratio is due to increased severity coupled with the fact that for the year ended December 31, 2003 the segment had an increase in net recoverable loss and LAE due to salvage and subrogation recoveries. Given that the marine segment is relatively small it is subject to more volatility with respect to its loss and LAE ratios.
The Insurance Company’s loss adjustment expense ratio decreased to 10.2% for the year ended December 31, 2004 compared to 11.6% for the same period in 2003. Despite an increase in loss adjustment expenses during 2004 the decline in the ratio is driven primarily by the increase in net premium earned due to overall premium growth and the quota share runoff.
The decline in the rate of return is attributable to a slight decrease in the yields earned on the portfolio coupled with the fact that the average invested asset balance was driven higher due to the purchase of additional securities in late October 2004 as a result of the stock proceeds of approximately $5,007,000. Gross investment income before investment expenses increased approximately $205,000 or 14.9% which is due to an increase in invested assets during 2004. The growth in average invested assets was primarily due to net cash flow provided from operating activities of $6,779,000 coupled with the net cash proceeds of $5,181,000 from the stock offering which was completed on October 15, 2004.
Interest Expense. Interest expense decreased approximately $90,000 during the year ended December 31, 2004 compared to the same period in 2003. The decrease is due to lower interest expense related to the quota share funds withheld account coupled with a decline in the average outstanding balance of surplus notes during the year ended December 31, 2004 compared to the same period in 2003. The quota share reinsurance contract was structured on a funds withheld basis and requires the Insurance Company to accrue interest at an annual rate of 2.5%. On October 15, 2004, approximately $2,374,000 of surplus notes were converted into stock of the Company as part of the Conversion.
Cash flow provided by operations was $6,953,000 in 2004 compared to $11,362,000 in 2003 a decrease of $4,409,000. During the year ended December 31, 2004 as compared to 2003 net premiums collected increased $14,133,000 due to policy growth and the quota share contract runoff, net loss and LAE paid increased $4,488,000 while policy acquisition and other underwriting expenses paid increased $5,671,000 due to the fact that the Company did not receive any ceding commission in 2004 as a result of the quota share contract runoff. During the year ended December 31, 2004, net cash used under the quota share funds withheld account was $5,599,000 while during the same period in 2003 net cash provided was $3,166,000, a change of $8,765,000. In 2003 the funds withheld account included both ceded written premiums retained by the Company as well as loss and LAE. Effective January 1, 2004 no new written premiums are ceded under the quota share reinsurance agreement however loss and LAE payments on policies in force at December 31, 2003 and covered by the quota share reinsurance agreement will continue to be paid out of the funds withheld account until all claims have been settled. Other cash provided by operational activities increased $382,000 during the year ended December 31, 2004 compared to 2003.
Our debt structure consists of surplus notes which carry a 7 percent interest rate and mature on September 30, 2007. At December 31, 2005 and December 31, 2004, there were approximately $2,890,000 of Series B Surplus Notes outstanding. During 2004 approximately $2,374,000 of surplus notes were converted into stock of the Company as part of the Conversion.
other administrative expenses related to annual filings such as income tax returns and other compliance type filings. The Holding Company retained $250,000 of the net proceeds of the offering to cover such expenses. As of December 31, 2005 the Holding Company had a cash balance of $201,000.
We have audited the accompanying consolidated balance sheet of Fremont Michigan InsuraCorp Inc. and subsidiary (the Company) as of December 31, 2005 and the related consolidated statements of income, stockholders’ equity and comprehensive income, and cash flows for the year ended December 31, 2005. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Fremont Michigan InsuraCorp Inc. and subsidiary at December 31, 2005, and the results of their operations and their cash flows for the year ended December 31, 2005, in conformity with accounting principles generally accepted in the United States of America.
At December 31, 2005 and 2004, all of the Company’s investments are classified as available-for-sale and are those investments that would be available to be sold in response to the Company’s liquidity needs, changes in market interest rates and asset-liability management strategies, among others. Available-for-sale investments are recorded at fair value, with the corresponding unrealized appreciation or depreciation, net of deferred income taxes and any corresponding deferred tax asset valuation allowance, reported as a component of accumulated other comprehensive income or loss until realized.
The Company reviews the status and market value changes of its investment portfolio on at least a quarterly basis during the year, and any provisions for other than temporary impairments in the portfolio’s value are evaluated and established at each quarterly balance sheet date. In reviewing investments for other than temporary
Realized gains and losses on sales of investments are computed based on a specific identification basis and include write downs on available-for-sale investments considered to have other than temporary declines in market value.
Dividend and interest income are recognized when earned. Discount or premium on fixed maturities purchased at other than par value is amortized using the effective interest method.
Insurance premium income is recognized on a daily pro rata basis over the respective terms of the policies in-force and unearned premiums represent the portion of premiums written which is applicable to the unexpired terms of the policies in-force. Generally, premiums are collected in advance of providing risk coverage, minimizing the Company’s exposure to credit risk. Premiums due from policyholders are net of an allowance for doubtful accounts of $79,443 and $63,116 at December 31, 2005 and 2004, respectively.
Losses and loss adjustment expense (“LAE”) reserves represent the estimated liability for reported losses and loss adjustment expenses and actuarial estimates for incurred but not reported losses and loss adjustment expenses based upon the Company’s actual experience, assumptions and projections as to claims frequency, severity, inflationary trends and settlement payments. The reserve for losses and loss adjustment expenses is intended to cover the ultimate net cost of all losses and loss adjustment expenses incurred but unsettled through the balance sheet date. The reserves are reported gross of any amounts recoverable from reinsurers and are reduced for anticipated salvage and subrogation. The methods of making estimates and establishing these reserves are reviewed regularly, and resulting adjustments are reflected in income currently. The liability for losses and loss adjustment expenses is necessarily an estimate and while it is believed to be adequate, the ultimate liability could exceed or be less than such estimate. The anticipated recoverable salvage and subrogation at December 31, 2005 and 2004 was approximately $223,000 and $473,000, respectively.
Reinsurance recoverables include balances due from reinsurance companies for paid and unpaid losses and LAE that will be recovered from reinsurers, based on contracts in force. Amounts recoverable from reinsurers are
operating loss carryforwards pursuant to Internal Revenue Code Section 382 (“Section 382”), future income projections and the overall prospects of our business. Based upon management’s assessment of all available evidence, including the Company’s cumulative net income for recent fiscal years, estimates of current and future profitability and the overall prospects of our business, it has been determined that as of December 31, 2005 it is more likely than not that sufficient taxable income will exist in the periods of reversal and therefore a portion of the recorded deferred tax asset will be realized. Accordingly, the Company has reversed a portion of the deferred tax asset valuation allowance as of the beginning of the year ended December 31, 2005. Prior to January 1, 2005 the Company had maintained a deferred tax asset valuation allowance for the entire net deferred tax asset.
The cost or amortized cost, gross unrealized gains, gross unrealized losses and estimated fair value of investments at December 31, 2005 and 2004 are as follows:
Net realized gains (losses) on investments for the years ended December 31, 2005, 2004 and 2003 are summarized as follows:
During 2005 the property excess of loss coverage provided up to $2,850,000 over the $150,000 retention. During 2004 and 2003 the property excess of loss coverage provided up to $2,375,000 over the $125,000 retention.
An additional workers compensation catastrophe excess of loss program provided an additional $5,000,000 in 2005 and 2004 and $3,000,000 in 2003 of coverage to cover a catastrophic event.
The Company had 3 layers of catastrophic excess of loss reinsurance providing coverage for up to $22,000,000 in 2005 and $20,000,000 in 2004 and 2003 above a $1,000,000 retention. The Company had an automatic reinstatement provision after the first loss for each layer to provide coverage in the event of subsequent catastrophes during the year. Coverage would have lapsed after the second event, in which case the Company would have evaluated the need for a new contract for the remainder of a particular year. During 2005, 2004 and 2003 the coverage could be reinstated for a fee of 100% of the original premium.
During 2003, the Company utilized a multi line quota share agreement which provided coverage for virtually all of the Company’s business. The Company ceded 45% of its premiums and losses on all business except boiler and machinery to the reinsurers. The agreement contained a “loss corridor” provision. Reimbursement stops on losses when the loss and LAE ratio on the premium ceded is between 60% and 74% and resumes when the ratio is between 74% and 82.5%. A loss and LAE ratio that exceeds 82.5% will trigger a “drop down coverage” feature that will reimburse the Company for 100% of the losses between the loss ratios of 60% to 65%. Reimbursement stops between the loss ratios of 65% to 74%. Payment resumes again when the loss ratios are 74% to 85%. Losses in excess of 85% are 100% retained by the Company. The Company received a 36% commission on the ceded premium. The agreement is structured on a funds withheld basis and requires the Company to accrue interest at an annual rate of approximately 2.5%. During 2005, 2004 and 2003 the Company recorded interest expense of approximately $106,000, $150,000 and $181,000, respectively, on the funds withheld balance. The agreement provides that a profit commission will be retained by the Company upon commutation equal to the positive balance in the funds withheld account. During 2005, 2004 and 2003 the Company accrued profit commission based on the experience of the underlying business ceded under this agreement of $1,400,000, $945,000 and $840,000, respectively. The profit commission reduces ceded written and earned premiums.
In addition to ceding a significant portion of its risks to the reinsurer, the agreement also allows the Company to reduce its financial leverage and to realize immediate reimbursement for related upfront acquisition costs, thus adding to its financial capacity. The following table illustrates the effects of the multi-line quota share agreement in effect during 2004 and 2003 on selected financial information of the Company (in thousands):
Although reinsurance agreements contractually obligate the Company’s reinsurers to reimburse the Company for their share of losses, they do not discharge the primary liability of the Company. The Company
Amounts recoverable from reinsurers are estimated in a manner consistent with the claim liability associated with the reinsured policy. At December 31, 2005, the Company had recoverables of $7,499,000. This balance was comprised of $1,353,000 for paid losses, $5,934,000 for unpaid losses and $212,000 in unearned premium ceded to the reinsurers. At December 31, 2004, the Company had recoverables of $10,880,000. This balance was comprised of $1,486,000 for paid losses, $9,187,000 for unpaid losses and $207,000 in unearned premium ceded to the reinsurers. The Company holds collateral in the form of letters of credit, trust accounts or funds withheld accounts for amounts recoverable from reinsurers that are not considered authorized insurers by the State of Michigan Office of Financial and Insurance Services. At December 31, 2005, the Company has letters of credit available of approximately $1,696,000 from unauthorized reinsurers. The Company did not utilize any of the letters of credit during 2005. At December 31, 2005, the Company had 6 reinsurance recoverable amounts from reinsurers whose individual recoverable balance exceeded 5% of the total recoverable amount. The amount due from these 6 reinsurers accounts for 79% of the total recoverable.
Losses and loss adjustment expenses reported on the statement of operations are net of ceded amounts of approximately $1,372,000, $8,935,000 and $11,190,000 for the years ended December 31, 2005, 2004 and 2003, respectively.
Amounts classified as ‘provision to return variance’ reflect adjustments to prior period deferred tax items used in calculating the tax provision so they are consistent with the final amounts reflected on the Company’s income tax return.
Deferred federal income tax assets and liabilities are recognized for the estimated future tax consequences attributable to the difference between financial statement carrying amounts of existing assets and liabilities, and their respective tax bases. A valuation allowance is established when necessary to reduce deferred tax assets to the amount expected to be realized. In determining the need for a valuation allowance, the Company’s management reviews both positive and negative evidence, including current and historical results of operations, the annual limitation on utilization of net operating loss carryforwards pursuant to Internal Revenue Code Section 382 (“Section 382”), future income projections and the overall prospects of our business. Based upon management’s assessment of all available evidence, including the Company’s cumulative net income for recent fiscal years, estimates of current and future profitability and the overall prospects of our business, it has been determined that as of December 31, 2005 it is more likely than not that sufficient taxable income will exist in the periods of reversal and therefore a portion of the recorded deferred tax asset will be realized. Accordingly, the Company has reversed approximately $3,855,000 of the deferred tax asset valuation allowance as of the beginning of the year ended December 31, 2005.
As of December 31, 2005, the Company has net operating loss carryforwards of approximately $8,066,000, which begin to expire in 2010 and fully expire in 2021, and alternative minimum tax credits of approximately $358,000, which may be carried forward indefinitely. As a result of the Conversion and demutualization discussed in Note 1 the aforementioned net operating losses are subject to certain “change in control” limitations under Section 382. The annual limitation on the utilization of the net operating losses is approximately $400,000. In addition to the net operating loss carryforwards, the Company’s alternative minimum tax credit carryforwards
The following table shows the allocation of the change in the deferred tax valuation allowance for the years ended December 31, 2005 and 2004.
The Company regularly updates its reserve estimates as new information becomes available and further events occur that may impact the resolution of unsettled claims. Changes in prior years’ reserve estimates are reflected in the results of operations in the year such changes are determined. Activity in the liability for loss and loss adjustment expenses is summarized as follows (in thousands):
In 2005, the Company experienced favorable development on losses and loss adjustment expenses for prior accident years of $2,355,000 which represents 24.1% of the loss and LAE reserves as of the beginning of the year. There were no significant changes in the key assumptions utilized in the analysis and calculations of the Company’s reserves during 2005. As a result of the adverse development experienced during 2003 the Company has placed an emphasis on the claim reserving process to ensure that we are establishing adequate reserves reflecting our best estimate of the ultimate loss. The favorable development in 2005 was primarily in the homeowner and personal auto product lines. The homeowner’s line, which is the Company’s largest product line, experienced redundant development of approximately $1,904,000 primarily in the accident years of 2004, 2003 and 2002 as a result of lower than expected losses on both incurred but not reported and existing case reserves as of December 31, 2004. The personal auto line experienced redundant development of approximately $426,000 primarily in the 2004 accident year. The Company began writing personal auto policies in 1999. Given that this is a newer product line for the Company our initial ultimate loss estimates on undeveloped years are based more on estimated industry loss ratios as opposed to our actual historical loss ratios. As the 2004 accident year continues to develop the Company has experienced redundant development on settled claims which has resulted in a decrease in the ultimate loss ratio as compared to the ultimate ratio used at December 31, 2004.
In several liability cases both factual and medical information were disclosed in years subsequent to the accident year causing adverse development. The delay in obtaining this information is due to increased regulations with respect to disclosing medical records as well as changes in the legal climate. Moreover, the commercial multiple peril line includes larger liability exposures which have increased the claim severity not experienced by the Company in the past. The average net incurred loss including loss adjustment expense for the commercial segment was $5,969 in 2003 compared to $1,566 in 2002. Based on the factors described above management strengthened the case base reserves during 2003. As a result, actuarial projections indicated higher ultimate losses on prior years and management increased its estimate of the reserve for incurred but not reported claims.
In December of 2002, the Company began issuing Series B notes with an annual interest rate of 7.0 percent with principal due on September 30, 2007. Interest only shall be paid annually on March 15. Repayment of any
The outstanding balance at December 31, 2005 and 2004 included approximately $1,955,000 of surplus notes held by related parties consisting of non-employee directors, agents of the Company and an investment broker who provided services to the Company. Interest expense on surplus notes held by related parties was approximately $137,000 in 2005, $223,000 in 2004 and $395,000 in 2003.
For measurement purposes as of December 31, 2005, 2004 and 2003 the annual rate of increase in the per capita cost of covered health care benefits assumed for the subsequent year was 9.0%, 9.5% and 10.0%, respectively. Each year the rate was assumed to decrease by 0.5% per year until the ultimate rate of 5.5% was reached.
Assumed health care cost trend rates have a significant effect on the amounts reported for the health care plan. A one percentage-point change in assumed health care cost trend rates would have the following effects:
The Company leases various vehicles under non-cancelable operating lease agreements which begin to expire in 2006 and fully expire in 2007. Rental expense was approximately $38,000, $57,000 and $80,000 in 2005, 2004 and 2003, respectively.
Future minimum lease payments required under the vehicle leases as of December 31, 2005 are as follows:
FIC’s statutory capital and surplus at December 31, 2005 and 2004 and statutory net income (loss) for the years ended December 31, 2005, 2004 and 2003 are as follows:
During 2005, the Company issued a $130,000 mortgage receivable to an agent of the Company. The note requires a monthly payment, including interest at 8%, of $1,097, which is based on a 15 year amortization. The
Two nonemployee directors of the Company are also owners of independent insurance agencies. Both individuals are currently appointed as agents with and write insurance for the Company. The terms and conditions of the agency agreements between these agencies and the Company are similar in all material respects to agency agreements with other agents of the Company. The Company pays all agencies commissions on business produced. All agencies are also able to earn profit sharing commissions based on the profit margins of the business produced. Total regular and profit sharing commissions earned by these two agencies approximated $422,000, $410,000 and $384,000 in 2005, 2004 and 2003, respectively. The commission rates, including profit sharing commission opportunity, are the same as other agents of the Company. Both agencies are independent agents and also write with regional and national insurers that may be competitors of the Company.
A nonemployee director of the Company is a partner in a law firm. The Company has retained this law firm for certain legal matters in the past and plans to continue to do so in the future. Legal fees paid by the Company to the law firm were approximately $55,000 in 2005, $261,000 in 2004 and $121,000 in 2003.
Various agents of the Company participated in the surplus note offerings and held surplus notes at December 31, 2005 and 2004, as disclosed in Note 9-Surplus Notes. The terms and conditions of the agency agreements between the agencies and the Company are similar in all material respects to agency agreements with other agents of the Company. The Company pays the agencies commissions on business produced. The agencies are also able to earn profit sharing commissions based on the profit margins of the business produced. For the years ending December 31, 2005, 2004 and 2003 agents holding surplus notes earned regular and profit sharing commissions of approximately $236,000, $1,800,000 and $1,830,000, respectively.
The Company also paid investment commissions to a firm controlled by an individual who held surplus notes at December 31, 2005 and 2004. Total investment commissions paid during the years ending December 31, 2005, 2004 and 2003 were approximately $20,000, $13,000 and $114,000, respectively.
The Company does not allocate assets, net investment income, net realized gains (losses) on investments, other income (expense), interest expense or demutualization expenses to its product lines. In addition, the Company does not separately identify depreciation expense related to the building by product line and such disclosure would be impracticable. Depreciation expense on the building, which is included as an investment expense within net investment income on the statements of operations, was $59,458 in 2005 and $54,140 in 2004 and 2003. The accounting policies of the operating segments are the same as those described in Note 1-Summary of Significant Accounting Policies.
Basic earnings per share has been calculated by dividing net income by the weighted-average common shares outstanding. Diluted earnings per share has been calculated by dividing net income by the weighted-average common shares outstanding and the weighted-average share equivalents outstanding. The computation of basic and diluted earnings per share is as follows:
Options to purchase 39,500 shares of common stock were not included in the computation of diluted earnings per share for the period from October 16, 2004 to December 31, 2004 because to do so would have been antidilutive for the period presented.
The Company has a stock-based compensation plan which is described below. The Company accounts for the fair value of its grants under the plan in accordance with FAS Statement No. 123R. The Company adopted the Fremont Michigan InsuraCorp, Inc. Stock-based Compensation Plan (the “Plan”) in November of 2003. Awards may include, among others, nonqualified stock options (“NQSOs”), restricted stock and stock appreciation rights.
During 2005 and 2004, the Company granted NQSOs to directors, executive officers and key employees. The Company does not receive any payment for granting the options. The options vest 20% per year. The options may fully vest upon the death or disability of the optionee or a change in control of the Company. The grants will be exercisable for up to 10 years from the grant date.
Net income (loss) per share for the periods prior to October 16, 2004 is not applicable.