The Company's operating subsidiaries rent or lease office space in the cities in which they are located. CCS and Qualex lease office space in Tampa, Florida from a company owned by Francis Williams, the Chairman of the Board of the Company, at a monthly rate of $12,876, pursuant to a lease that was executed June 1, 1999 and is effective through May 31, 2009.
The Company reviews long-lived assets, including goodwill and certain identifiable intangibles, for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. Upon determination that the carrying value of the asset is impaired, the Company would record an impairment charge or loss. Future adverse changes in market conditions or poor operating results of the underlying investment could result in losses or an inability to recover the carrying value of the investment that may not be reflected therein; and therefore, might require the Company to record an impairment charge in the future.
During the period ended December 31, 2001 and 2000, earned direct and assumed premium was $18,253,687 and $15,236,814, respectively. Overall earned premiums, net of ceded premiums increased 12.5% or $1,513,363. The increase in earned premiums is a result of CCS's continued growth in the surety bond market. The following table represents the written and earned premium for CCS and the percentage of change for the years ended December 31, 2001 and 2000, respectively.
Loss and loss adjustment expenses including derivative expense was $5,106,377 and $3,360,358 for the years ended December 31, 2001 and 2000, respectively. The increase of $1,746,019 or 52% is attributed to an increase in derivative expense and assumed claims expense when compared to the same period in the prior year. The increase on assumed claims is attributable to claims associated with the joint partnering agreement with SSI where CCS assumes a portion of the risk underwritten. The Company adopted SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities on January 1, 2001. CCS identified one product that met the definition of a derivative instrument under SFAS No. 133, and recorded an additional $1,060,799 in derivative expense during 2001. Derivative expenses represent additional charges recorded by CCS that are necessary to account for the derivative instrument at fair value. The fair value of the derivative instrument is calculated using a financial model, inclusive of certain assumptions and market data.
The following table reflects the 2001 activity for CCS as it pertains to earned premiums and incurred claims and derivative expense:
------------------------------------- Loss LAE and Earned Derivative Premiums Expense Ratio ------------------------------------- Direct surety premiums, net .......... $ 8,709,977 $ 2,874,915 33.0% Assumed surety premiums, net ......... 3,788,443 1,170,663 30.9% Other liability premiums, net ........ 1,142,896 1,060,799 92.8% ----------- ----------- Total ........................... $13,641,316 $ 5,106,377 =========== ===========
Interest expense on non-affiliated debt is interest paid to the former owners of The Surety Group and Surety Associates on notes due to agencies the Company purchased in 1995. Interest on affiliated debt represents interest on a note payable to TransCor, a division of KC.
The Company incurred income tax (benefit) expense during 2001 and 2000 of $(75,932) and $764,390, respectively. The Company's effective tax rate for the 2001 is 26.7% and 42% for 2000.
Written direct and assumed premiums reached a record $16,168,734 during 2000. Overall written premiums, net of ceded premiums, increased by $2,160,885 or 20.6% when compared to the same period in 1999. Earned premiums increased by $2,510,161 or 26.1% to $12,127,953 for 2000 compared to $9,617,792 for 1999. The increase in earned premiums resulted from CCS's continued growth in the direct surety bond market.
During 2000, premiums written by CCS increased as a result of the continued marketing direction of the Company, which is to penetrate the direct market while decreasing the volume of reinsurance premiums assumed through pooling agreements. CCS's reinsurance assumed premium is a result of quota share agreements whereby CCS assumes a portion of the premiums written by agencies contracted to produce business using The Company's Bond-Pro(R) issuance program. The increase in ceded premiums is correlated to the direct premium written and the association to excess of loss treaties on these premiums. The following table reflects the written premium activity, net of reinsurance ceded, for 2000 and 1999.
During the year ended December 31, 2000 and 1999, net investment income earned was $576,406 and $333,462, respectively. Net realized gains for the years ended December 31, 2000 and 1999 were $38,381 and $129,101, respectively. The increase in net investment income is attributed to a reallocation of investments from money market funds to the bond portfolio. Net realized gains includes other than temporary losses of $231,686 from certain investments.
Other income consists primarily of commissions earned by subsidiary agencies and fee revenue earned by a subsidiary claims consulting group. For the year ended December 31, 2000, other revenues increased by $307,249 or 22.3%, which is attributable to increased business by the Company's claim consulting subsidiary.
--------------------------------------------- Earned Loss and LAE Premiums Expense Incurred Ratio --------------------------------------------- Direct, net .............. $ 9,647,241 $ 3,182,274 33.0% Assumed, net ............. 2,480,712 178,084 7.2% ----------- ----------- ---- Total .................... $12,127,953 $ 3,360,358 27.7% =========== =========== ====
During the year ended December 31, 2000 the net amortization of deferred policy acquisitions costs increased to $3,767,107 from $2,895,834 for the year ended December 31, 1999. The increase is attributed to the increase in earned premiums.
Net cash provided by operating activities was $2,811,695, $214,494 and $1,965,077 for the years ended December 31, 2001, 2000 and 1999, respectively. In 2001 and 2000, the cash provided by operating activities was primarily attributed to an increase in policy liabilities and accruals. In 1999, the cash provided by operating activities was primarily attributable to increases in net income and accrued policy liabilities on claims and reinsurance.
Net cash used in investing activities was $(630,772), $(1,316,601) and $(4,133,973) for the years ended December 31, 2001, 2000 and 1999, respectively. Investing activities consist primarily of purchases and sales of investments.
The following summarizes the Company's contractual cash obligations at December 31, 2001 and the effect such obligations are expected to have on its liquidity and cash flow in future periods.
The following table provides a reconciliation of the beginning and ending liability balances, net of reinsurance recoverable, for 2001, 2000 and 1999 to the gross amounts reported in the Company's balance sheets:
The Company experienced $936,570, $1,003,077 and $416,000 in redundancies for losses and loss adjustment expenses in 2001, 2000 and 1999 respectively. The redundancies principally result from subrogation received on pooling agreement case base reserves and claims in prior years. KC and SSI entered into an agreement with an independent contractor, AEC on August 16, 1989 on a construction contract with the United States Navy ("Navy"). At the time the bonds were issued by CCS as surety, KC entered into an indemnification agreement, whereby KC indemnified CCS from any and all losses, costs and expenses incurred related to the bonds. In 1991, the Navy defaulted and terminated AEC on the contract. The contract was subsequently litigated and CCS was unsuccessful in its litigation activities with the Navy. As a result, KC reimbursed CCS $1,500,000 of the total subrogation recoverable of $1,851,000 in November 2001 on the contract. CCS wrote off the remaining $351,000 reinsurance recoverable as a charge to loss and loss adjustment expense and incurred an additional $240,000 in legal fees during 2001.
Liability for losses and LAE on a SAP basis (which is net of reinsurance recoverables on unpaid losses and LAE) ............................ $ 5,091,080 Subrogation recoverable ............................. 1,001,043 Derivative instrument ............................... (1,978,891) --------------- Liability for losses and LAE, as reported in the accompanying GAAP basis consolidated financial statements .............................. $ 4,113,232 ===============
The following table represents the development of the statutory liability for unpaid losses and LAE, net of reinsurance, for 1994 through 2001 (in thousands).
The following information presents unaudited quarterly operating results for the Company for 2001 and 2000. The data has been prepared by the Company on a basis consistent with the Consolidated Financial Statements included elsewhere in this Form 10-K, and include all adjustments, consisting of normal recurring accruals that the Company considers necessary for a fair presentation thereof.