Noida, India. We lease 15,000 square feet of office space for our information technology operations. The lease has an initial term of nine years commencing January 15, 2013. We are entitled to terminate the lease after the 36-month period following the commencement date by providing 3 months’ written notice to the landlord.
The following discussion should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this annual report on Form 10-K. All dollar amounts, except per share amounts stated in this Management’s Discussion and Analysis of Financial Condition and Results of Operations are in thousands unless specified otherwise.
HCI is a Florida-based holding company primarily providing property and casualty insurance to homeowners, condominium owners, and tenants in the state of Florida through its subsidiaries. We offer insurance products at competitive rates, while pursuing profitability using selective underwriting criteria.
On January 23, 2014, our Board of Directors declared a quarterly dividend of $0.275 per common share. The dividends will be paid March 21, 2014 to stockholders of record on February 21, 2014. In addition, HCPCI, our wholly-owned insurance subsidiary, announced it began writing flood insurance coverage in the state of Florida to eligible new and pre-existing Homeowners Choice customers.
In December 2013, we completed the issuance of our 3.875% convertible senior notes due 2019 for aggregate proceeds of $103,000 in a private offering. We used $29,923 of the proceeds to repurchase shares of our common stock.
Net Premiums Earned for the years ended December 31, 2013 and 2012 were $234,248 and $157,668, respectively, and reflect the gross premiums earned less reinsurance costs as described above.
Net Premiums Written during the years ended December 31, 2013 and 2012 totaled $251,906 and $203,240, respectively. Net premiums written represent the premiums charged on policies issued during a fiscal period less reinsurance costs.
Policy Fee Income for the years ended December 31, 2013 and 2012 was $3,098 and $2,538, respectively, and reflects the policy fee income we earn with respect to our issuance of renewal policies.
Our Losses and Loss Adjustment Expenses amounted to $65,123 and $66,310, respectively, during the years ended December 31, 2013 and 2012. During the year ended December 31, 2013, we experienced favorable development of $2,456 with respect to our net unpaid losses and loss adjustment expenses established as of December 31, 2012, which contributed to the overall favorable variance of $1,187 with respect to the total losses and loss adjustment expenses incurred in 2013 as compared with 2012. In addition, our losses and loss adjustment expenses for the year ended December 31, 2012 included approximately $3,500 related to claims from Tropical Storm Debby and Tropical Storm Isaac, which occurred in June and August 2012, respectively. See “Reserves for Losses and Loss Adjustment Expenses” under “Critical Accounting Policies and Estimates.”
Interest Expense totaled $3,607 for the year ended December 31, 2013 and relates to the two debt offerings we completed during 2013. See Note 10 - “Long-Term Debt” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.
Income Tax Expense for the years ended December 31, 2013 and 2012 were $40,891 and $19,423, respectively, for state, federal and foreign income taxes resulting in an effective tax rate of 38.4% for 2013 and 39.2% for 2012.
The loss ratio applicable to the year ended December 31, 2013 (losses and loss adjustment expenses related to net premiums earned) was 27.8% compared with 42.1% for the year ended December 31, 2012. Our loss ratio was positively impacted by a significant increase in our net premiums earned during 2013 combined with favorable development in claim trends for frequency and severity and favorable development of reserves for prior accident years (see Gross Premiums Earned and Losses and Loss Adjustment Expenses above).
Due to the impact our reinsurance costs have on net premiums earned from period to period, our management believes the combined loss and expense ratio measured to gross premiums earned is more relevant in assessing overall performance. The combined loss and expense ratio to gross premiums earned for the year ended December 31, 2013 was 39.9% compared with 48.6% for the year ended December 31, 2012.
Our results of operations for the year ended December 31, 2012 reflect income available to common stockholders of $29,835, or $3.02 earnings per diluted common share, compared with income available to common stockholders of $9,149, or $1.34 earnings per diluted common share, for the year ended December 31, 2011. Our results for the years ended December 31, 2012 and 2011 include bargain purchase gains on acquisitions of $179 ($110 net of tax) and $936 ($575 net of tax), respectively, or $0.01 and $0.08 diluted earnings per common share, respectively.
Premiums Ceded for the years ended December 31, 2012 and 2011 were $75,939 and $55,525, respectively. Our premiums ceded represent amounts paid to reinsurers to cover losses from catastrophes that exceed the thresholds defined by our catastrophe excess of loss reinsurance treaties. Our reinsurance rates are based primarily on policy exposures reflected in gross premiums earned. Premiums ceded were 32.5% and 38.7% of gross premiums earned during the years ended December 31, 2012 and 2011, respectively. The percentage decrease in 2012 is primarily due to lower costs during the first five months of 2012 related to policies assumed from HomeWise, which were subject to minimal reinsurance premiums. In addition, we had approximately two months of earned premium in 2012 related to the November 2012 Citizens assumption with no associated increase in reinsurance premium.
Net Premiums Written during the years ended December 31, 2012 and 2011 totaled $203,240 and $131,724, respectively. Net premiums written represent the premiums charged on policies issued during a fiscal period less reinsurance costs.
Net Investment Income for the years ended December 31, 2012 and 2011 was $980 and $2,061, respectively. The decline in 2012 is primarily due to operating losses incurred with respect to certain operations of our real estate investments.
Income Tax Expense for the years ended December 31, 2012 and 2011 were $19,423 and $6,441, respectively, for state, federal and foreign income taxes resulting in an effective tax rate of 39.2% for 2012 and 39.3% for 2011.
The loss ratio applicable to the year ended December 31, 2012 was 42.1% compared with 54.8% for the year ended December 31, 2011. Our loss ratio was positively impacted by a significant increase in our gross premiums earned during 2012 (see Gross Premiums Earned above).
Our combined ratio for the year ended December 31, 2012 was 72.0% compared with 87.9% for the year ended December 31, 2011.
Our combined loss and expense ratio to gross premiums earned for the year ended December 31, 2012 was 48.6% compared with 53.9% for the year ended December 31, 2011.
We believe that we maintain sufficient liquidity to pay HCPCI’s claims and expenses, as well as to satisfy commitments in the event of unforeseen events such as reinsurer insolvencies, inadequate premium rates, or reserve deficiencies. We maintain a comprehensive reinsurance program at levels management considers adequate to diversify risk and safeguard our financial position.
In the future, we anticipate our primary use of funds will be to pay claims, reinsurance premiums and interest, and also to fund operating expenses.
In 2012, we sold an aggregate of 1,840,000 shares of our common stock for net proceeds of $20,082 after underwriting commissions and offering expenses. See Note 15 - “Stockholders’ Equity” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.
In 2011, a total of 1,247,700 shares of our Series A cumulative convertible preferred stock were sold for net proceeds of $11,307 after offering costs. See Note 15 - “Stockholders’ Equity” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.
Net cash provided by operating activities for the year ended December 31, 2012 was $106,266, which consisted primarily of cash received from net written premiums less cash disbursed for operating expenses and losses and loss adjustment expenses. Net cash used in investing activities amounted to $1,211 and was primarily due to $8,157 used to complete our business acquisitions in 2012, $16,538 used for the purchases of fixed-maturity and equity securities, and $2,796 used for the purchases of property, equipment and other investments offset by $10,726 from the proceeds from sales of fixed-maturity and equity securities, $3,127 of proceeds from calls, repayments, and maturities of fixed-maturity securities and $12,427 from time deposit redemptions. Net cash provided by financing activities totaled $24,799, which was primarily due to $20,082 from the issuance of common stock, $12,152 related to the exercise of stock options and warrants and $1,161 excess tax benefit from stock options exercised offset by $8,561 in cash dividends paid.
With the exception of large national banks, it is our current practice not to maintain cash deposits of more than an aggregate of $5,500 in any one bank at any time. From time to time, we may have in excess of $5,500 of cash designated for investment and on deposit at a single national brokerage firm. In the future, we may alter our investment policy to include or increase investments in federal, state and municipal obligations, preferred and common equity securities, real estate and real estate mortgages. The types of investments held by HCPCI and HCA are limited by insurance law and regulations.
As of December 31, 2013 and 2012, we had no off-balance sheet arrangements as defined in Item 303(a)(4) of SEC Regulation S-K.
The following table summarizes our contractual obligations as of December 31, 2013:
(1) Represents the lease and maintenance service agreement for office space in Noida, India. Liabilities were converted from India Rupee to U.S. dollars using the December 31, 2013 exchange rate.
(2) Amounts represent principal and interest payments over the life of the debts. See Note 10 - “Long-Term Debt” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.
We have prepared our consolidated financial statements in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires us to make estimates and judgments to develop amounts reflected and disclosed in our financial statements. Material estimates that are particularly susceptible to significant change in the near term are related to our losses and loss adjustment expenses, which include amounts estimated for claims incurred but not yet reported. We base our estimates on various assumptions and actuarial data we believe to be reasonable under the circumstances. Actual results may differ materially from these estimates.
We maintain IBNR Reserves to provide for claims that have been incurred but have not been reported and subsequent development on reported claims. The IBNR reserve is determined by estimating our insurance company’s ultimate net liability for both reported and unreported claims and then subtracting the case reserves and payments made to date for reported claims.
Description of Ultimate Loss Estimation Methods. The reported loss development method relies on the assumption that, at any given state of maturity, ultimate losses can be predicted by multiplying cumulative reported losses (paid losses plus case reserves) by a cumulative development factor. The validity of the results of this method depends on the stability of claim reporting and settlement rates, as well as the consistency of case reserve levels. Case reserves do not have to be adequately stated for this method to be effective; they only need to have a fairly consistent level of adequacy at all stages of maturity. Because of our limited loss experience, we select loss development factors based on industry data found in current A.M. Best’s Aggregates and Averages - Property/Casualty - United States & Canada. We assume that our loss development patterns will be reasonably consistent with industry averages, and use the selected factors to assist in the projection of the ultimate losses.
Currently, our estimated ultimate liability is calculated monthly using these principles and procedures applicable to the lines of business written. However, because the establishment of loss reserves is an inherently uncertain process, we cannot be certain that ultimate losses will not exceed the established loss reserves and have a material, adverse effect on our results of operations and financial condition. Changes in estimates, or differences between estimates and amounts ultimately paid, are reflected in the operating results of the period during which such adjustments are made.
There were no benefits recognized prior to 2013. For the year ended December 31, 2013, we have accrued a benefit of $8,815 and deferred recognition of $3,706 in ceded premiums for a total reduction in 2013 ceded premiums of $12,521 in connection with these agreements, an amount that would be charged to earnings in the event we experience a catastrophic loss that exceeds the coverage retention limits provided under such agreements.
Stock-Based Compensation. We account for our stock option and incentive plan under the fair value recognition provisions of U.S. GAAP, which requires the measurement, and recognition of compensation for all stock-based awards made to employees and directors including stock options and restricted stock issuances based on estimated fair values. We recognize stock-based compensation in the consolidated statements of income on a straight-line basis over the vesting period. We use the Black-Scholes option-pricing model, which requires the following variables for input to calculate the fair value of each stock award on the option grant date: 1) expected volatility of our stock price, 2) the risk-free interest rate, 3) expected term of each award, 4) expected dividends, and 5) an expected forfeiture rate. For restricted stock awards with market-based conditions, we estimate their fair values by using a Monte Carlo simulation model, which requires for input the following variables: 1) expected dividends per share, 2) expected volatility, 3) risk-free interest rate, 4) estimated cost of capital, and 5) expected term of each award.
Reports of Dixon Hughes Goodman LLP, Independent Registered Public Accounting firm
Consolidated Statements of Stockholders’ Equity for the Years Ended December 31, 2013, 2012 and
We have audited the accompanying consolidated balance sheet of HCI Group, Inc. and Subsidiaries (the “Company”) as of December 31, 2013, and the related consolidated statements of income, comprehensive income, stockholders’ equity, and cash flows for the year ended December 31, 2013. The Company’s management is responsible for these consolidated financial statements. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
We have audited HCI Group, Inc. and Subsidiaries’ (the “Company”) internal control over financial reporting as of December 31, 2013, based on criteria established in Internal Control-Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway Commission. The Company’s management is responsible 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 the Company’s internal control over financial reporting based on our audit.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements of HCI Group, Inc. and Subsidiaries as of and for the year ended December 31, 2013, and our report dated March 12, 2014, expressed an unqualified opinion on those consolidated financial statements.
The accompanying consolidated financial statements of HCI Group, Inc. (“HCI” or the “Company”), formerly known as Homeowners Choice, Inc., include the accounts of HCI, Homeowners Choice Property & Casualty Insurance Company, Inc. (“HCPCI”), HCI’s principal operating subsidiary, and certain other insurance and non-insurance subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation.
Through its subsidiaries, the Company is primarily engaged in the property and casualty insurance business. HCPCI is authorized to underwrite various homeowners’ property and casualty insurance products in the state of Florida. HCPCI’s operations are supported by the following HCI subsidiaries:
Southern Administration, Inc. - provides policy administration services to HCPCI; and
In addition, while not material to the consolidated financial statements, HCI has various subsidiaries primarily engaged in the businesses of owning and leasing real estate, operating marina facilities and one restaurant and developing software.
Cash and Cash Equivalents. The Company considers all short-term highly liquid investments with original maturities of less than three months to be cash and cash equivalents. At December 31, 2013 and 2012, cash and cash equivalents consist of cash on deposit with financial institutions and securities brokerage firms and also includes a $300 statutory deposit held by the State of Florida for the benefit of all policyholders.
intend to sell nor is it more likely than not that the Company will be required to sell before recovery of its amortized cost, only the credit loss component of the impairment is recognized in income, while the impairment related to all other factors is recognized in other comprehensive income. The Company considers various factors in determining whether an individual security is other-than-temporarily impaired (see Note 4 - “Investments”).
Deferred policy acquisition costs. Deferred policy acquisition costs (“DAC”) primarily represent commissions paid to outside agents at the time of collection of the policy premium and premium taxes and are amortized over the life of the related policy in relation to the amount of gross premiums earned.
Income Taxes. The Company files consolidated federal and state income tax returns and allocates taxes among its wholly-owned subsidiaries in accordance with a written tax-allocation agreement approved by the Company’s Board of Directors.
Fair Value of Financial Instruments. The carrying amounts for the Company’s cash and cash equivalents approximate their fair values at December 31, 2013 and 2012. Fair values for securities are based on the framework for measuring fair value established by U.S. GAAP (see Note 5 - “Fair Value Measurements”).
Accounting Standards Update No. 2013-02. In February 2013, the Financial Accounting Standards Board issued Accounting Standards Update No. 2013-02 (“ASU 2013-02”), Comprehensive Income (Topic 220), Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income. ASU 2013-02 does not change the current requirements for reporting net income or other comprehensive income in the financial statements. However, the amendments require an entity to provide information about the amounts reclassified out of accumulated other comprehensive income by component. In addition, an entity is required to present, either on the face of the statement where net income is presented or in the notes, significant amounts reclassified out of accumulated other comprehensive income by the respective line items of net income but only if the amount reclassified is
The Company holds investments in fixed-maturity securities as well as equity securities, which are classified as available-for-sale. At December 31, 2013 and 2012, the cost or amortized cost, gross unrealized gains and losses, and estimated fair value of the Company’s available-for-sale securities by security type were as follows:
Proceeds received, and the gross realized gains and losses from sales of available-for-sale securities, for the years ended December 31, 2013, 2012 and 2011 were as follows:
* Amounts reported for the year ended December 31, 2011 include the gross realized gains and losses from equity option contracts. During the year ended December 31, 2011, the Company entered into equity contracts for exchange-traded call and put options to meet certain investment objectives. With respect to these option contracts, the Company received net proceeds of $89 and realized gains of $49 during the year ended December 31, 2011. Such gains are included in the realized investment gains in the Consolidated Statements of Income. There were no open option contracts at December 31, 2011 or in subsequent years.
The Company believes there were no fundamental issues such as credit losses or other factors with respect to any of its available-for-sale securities. The unrealized losses on investments in fixed-maturity securities were caused by interest rate changes. It is expected that the securities would not be settled at a price less than the par value of the investments. In determining whether equity securities are
other than temporarily impaired, the Company considers its intent and ability to hold a security for a period of time sufficient to allow for the recovery of cost. Because the decline in fair value is attributable to changes in interest rates or market conditions and not credit quality, and because the Company has the ability and intent to hold its available-for-sale investments until a market price recovery or maturity, the Company does not consider any of its investments to be other-than-temporarily impaired at December 31, 2013 and 2012.
Other investments consist primarily of the Company’s real estate portfolio and the related assets of the marina and restaurant facilities acquired in 2012 and 2011. Operating activities related to the Company’s real estate investments include leasing of office and retail space to tenants, wet and dry boat storage, a restaurant, and fuel services with respect to marina clients and recreational boaters.
Depreciation and amortization expense for other investments was $388 and $279, respectively, for the years ended December 31, 2013 and 2012.
At December 31, 2013, $241,378 or 82.3% of the Company’s cash and cash equivalents were deposited at three national banks and included $22,252 in two custodial accounts. At December 31, 2012, deposits at two national banks totaled $208,890, representing 90.7% of the Company’s cash and cash equivalents and included $22,957 in two custodial accounts.
Level 2 - Other inputs that are observable for the asset, either directly or indirectly.
The estimated fair values for securities that do not trade on a daily basis are determined by management, utilizing prices obtained from an independent pricing service and information provided by brokers. Management reviews the assumptions and methods utilized by the pricing service and then compares the relevant data and pricing to broker-provided data. The Company gains assurance of the overall reasonableness and consistent application of the assumptions and methodologies and compliance with accounting standards for fair value determination through ongoing monitoring of the reported fair values.
Long-term debt includes the Company’s 8% senior notes due 2020 and 3.875% convertible senior notes due 2019. The 8% senior notes were initially sold to the public in January 2013 and trade on the New York Stock Exchange. The estimated fair value of the 8% senior notes is based on the closing market price on December 31, 2013. The 3.875% convertible senior notes were sold in a private offering completed December 30, 2013. The fair value of the 3.875% convertible senior notes is estimated using a discounted cash flow method that relies on Level 3 inputs.
During the second quarter of 2013, the Company analyzed its investment portfolio and determined the municipal bonds, which were previously classified as Level 1, should be classified as Level 2 based on the inputs used to measure fair value and the level of market activity in those instruments. As such, transfers into Level 2 from Level 1 were $10,684 during the year ended December 31, 2013. In addition, $11,066 related to municipal bonds included in the table related to December 31, 2012 was transferred from Level 1 to Level 2. There were no transfers between Level 1, 2 or 3 during the year ended December 31, 2012.
With respect to the Company’s business acquisition completed in 2012 (see Note 6 - “Business Acquisitions”), all assets acquired, aside from cash which was valued based on Level 1 measurements, and liabilities assumed were valued based on Level 3 measurements. Property, plant and equipment acquired in April 2012 was valued based on an external appraisal using the sales comparison approach and other unobservable inputs. The carrying amounts of all other acquired assets and assumed liabilities approximated their fair values at the acquisition date.
The fair value of the net assets acquired was approximately $8,285, which exceeded the $8,157 purchase price. As a result, the Company recognized a gain on bargain purchase in the amount of $179 ($119 net of tax), which is included in operations for the year ended December 31, 2012. The following table summarizes the Company’s preliminary allocation of the net consideration paid to the fair value of the assets acquired, identifiable intangible assets acquired and liabilities assumed at April 2, 2012:
Depreciation and amortization expense under property and equipment was $1,151, $848 and $466, respectively, for the years ended December 31, 2013, 2012 and 2011.
Other assets include a $757 receivable related to the settlement of a 2009 revenue sharing agreement. The full settlement amount was received in January 2014.
On January 17, 2013, the Company completed the sale of unsecured senior notes in a public offering for an aggregate principal amount of $35,000. In addition, effective January 25, 2013, the Company received an aggregate principal amount of $5,250 pursuant to the underwriters’ exercise of the over-allotment option. The offering was made pursuant to the Company’s effective registration statement on Form S-3, as amended (Registration Statement No. 333-185228) and the prospectus supplement dated January 10, 2013. The combined net proceeds were $38,690 after underwriting and issuance costs of approximately $1,560, $1,525 of which was paid during the year ended December 31, 2013. The notes will mature on January 30, 2020 and bear interest at a fixed annual rate of 8% payable quarterly on January 30, April 30, July 30 and October 30, commencing on April 30, 2013. The notes may be redeemed, in whole or in part, at any time on and after January 30, 2016 upon not less than 30 or more than 60 days’ notice. The redemption price will be equal to 100% of the principal amount redeemed plus accrued and unpaid interest. Additionally, the Company may, at any time, repurchase the senior notes at any price in the open market and may hold, resell or surrender the notes for cancellation.
The senior notes contain customary restrictive covenants relating to merger, modification of the indenture, subordination, issuance of debt securities and sale of assets, the most significant of which include limitations with respect to certain designated subsidiaries on the incurrence of additional indebtedness or guarantees secured by any security interest on any shares of their capital stock. The senior note covenants also limit the Company’s ability to sell or otherwise dispose of any shares of capital stock of such designated subsidiaries. The senior note covenants do not contain any restrictions on the Company’s payment or declaration of dividends nor require a sinking fund to be established for the purpose of redemption.
In conjunction with the issuance of the Convertible Notes, the Company entered into a prepaid stock repurchase forward contract and used $29,923 of the net proceeds from the Convertible Notes offering to repurchase the Company’s common stock. See Note 15 - “Stockholders’ Equity” for the effect of the repurchase forward contract on earnings per share.
The following table summarizes information regarding the equity and liability components of the Convertible Notes:
The note holders who elect to convert their Convertible Notes in connection with a fundamental change as described in the indenture will be entitled to a “make-whole” adjustment in the form of an increase in the conversion rate. Upon conversion, the Company has options to satisfy its conversion obligation by paying or delivering cash, shares of its common stock or a combination of cash and shares of its common stock. As of December 31, 2013, none of the conditions allowing the note holders to convert had been met.
The Company determined that the embedded conversion feature is not a derivative financial instrument but rather is required to be separately accounted for in equity because the Company may elect to settle the conversion option entirely or partially in cash. At issuance, the Company accounted for the equity component of the embedded conversion feature, which amounted to $16,457, as a reduction in the carrying amount of the debt and an increase in additional paid-in capital. The increase in additional paid-in capital was offset in part by $557 in related transaction costs.
The impact of the catastrophe excess of loss reinsurance treaties on premiums written and earned is as follows:
During the years ended December 31, 2013, 2012 and 2011, there were no recoveries pertaining to reinsurance contracts that were deducted from losses incurred. Prepaid reinsurance premiums related to 27 reinsurers at December 31, 2013 and 31 reinsurers at December 31, 2012, respectively. There were no amounts receivable with respect to reinsurers at December 31, 2013 and 2012. Thus, there were no concentrations of credit risk associated with reinsurance receivables and prepaid reinsurance premiums as of December 31, 2013 and 2012. The ratio of assumed premiums earned to net premiums earned for the years ended December 31, 2013, 2012 and 2011 were 27.4%, 41.0%, and 27.1%, respectively.
The establishment of loss reserves is an inherently uncertain process and changes in loss reserve estimates are expected as such estimates are subject to the outcome of future events. Changes in estimates, or differences between estimates and amounts ultimately paid, are reflected in the operating results of the period during which such adjustments are made. During the year ended December 31, 2013, the Company experienced favorable development of $2,456 with respect to its net unpaid losses and loss adjustment expenses established for the year ended December 31, 2012. Factors attributable to this favorable development include a lower severity of claims and reduced frequency of reported claims.
On October 17, 2013, the Company’s Board of Directors declared a dividend of one preferred share purchase right (“Right”) for each outstanding share of its common stock to shareholders of record at the close of business on November 15, 2013. Each Right entitles the common shareholder to purchase from the Company one one-hundredth of a share of Series B Junior Participating Preferred Stock, no par value, at a price of $125.00 per one one-hundredth of such preferred share, subject to adjustment for certain events. The Right is intended to prevent any unsolicited takeover attempt that is unfair and unfavorable to the Company’s shareholders. The Right will not interfere with any merger approved by the Company’s Board of Directors.
The Company determined that the forward contract does not meet the characteristic of a derivative instrument and, as such, the transaction resulted in an immediate reduction of the outstanding shares used to calculate the weighted-average common shares outstanding for both basic and diluted earnings per share.
On September 26, 2012, the Company’s Board of Directors fixed October 27, 2012 as the cancellation date for the warrants that were issued in 2008 in connection with the Company’s initial public offering (“IPO”). As such, the record holders of the IPO warrants had no further rights under the warrants on and after October 27, 2012.
Effective December 31, 2012, 500,000 shares of common stock were issued upon the exercise of 1,000,000 warrants that were issued in 2011 in connection with the HomeWise assumption transaction. The fair value of the warrants issued in 2011 was estimated on the date of issuance using the following assumptions and the Black-Scholes option pricing model:
The $754 aggregate value of the warrants was deferred and amortized over the expected policy term of the policies assumed in the transaction. During the years ended December 31, 2013, 2012 and 2011, the Company recognized $241, $463, and $50 of expense, respectively, which is included in other operating expenses.
Shareholders of Series A Preferred may convert all or any portion of their shares, at their option, at any time, into shares of the Company’s common stock at an initial conversion rate of one share of common stock for each share of Series A Preferred, which is equivalent to an initial conversion price of $10 per share; provided, however, that the Company may terminate this conversion right on or after
On October 17, 2013, in connection with the declaration of the Right dividends, the Company’s Board of Directors established and fixed the rights and preferences of the Series B Preferred. Of the authorized shares, the Company designated 400,000 shares as Series B Preferred. Each Series B Preferred will be entitled to a minimum preferential quarterly dividend payment of $1.00 per share but will be entitled to an aggregate dividend of 100 times the dividend declared per common share of the Company. In the event of liquidation, the holders of the Series B Preferred will be entitled to a minimum preferential liquidation payment of $100 per share but will be entitled to an aggregate payment of 100 times the payment made per common share. Each Series B Preferred will have 100 votes per share, voting together as one class on all matters submitted to a vote of shareholders of the Company. Finally, in the event of any merger, consolidation or other transaction in which common shares are exchanged, each Series B Preferred will be entitled to receive 100 times the amount received per common share. The aforementioned rights of Series B Preferred are protected by customary anti-dilution provisions. As of December 31, 2013, there were no Series B Preferred issued or outstanding.
Stock options granted and outstanding under the Incentive Plan vest over periods ranging from immediately vested to five years and are exercisable over the contractual term of ten years.
Information with respect to the activity of unvested restricted stock awards during the years ended December 31, 2013 and 2012 is as follows:
For the year ended December 31, 2013, the Company realized tax benefits of approximately $277 related to cash dividends paid on restricted stock. The following presents assumptions used in a Monte Carlo simulation model to determine the fair value of the awards with market-based conditions:
Effective July 1, 2013, the Company implemented a 401(k) Safe Harbor Profit Sharing Plan (“401(k) Plan”) that qualifies as a defined contribution plan under Section 401(k) of the Internal Revenue Code. Under the 401(k) Plan, participating employees are eligible for company matching and discretionary profit sharing contributions. Plan participants may elect to defer up to one hundred percent of their pre-tax gross wages, subject to annual limitations. The company matching contribution is limited to a maximum of four percent of the employee’s annual salary or wage and is fully vested when contributed. Eligibility and vesting of the Company’s discretionary profit sharing contribution is subject to the plan participant’s years of service. During the year ended December 31, 2013, the Company contributed approximately $183 in matching contributions, which is included in other operating expenses. There was no discretionary profit sharing contribution in 2013.
Provided the lease is not early terminated, minimum future rental payments under operating leases after December 31, 2013 are as follows:
Provided the agreement is not early terminated, minimum future payments under the service agreement after December 31, 2013 are as follows:
As a direct premium writer in the state of Florida, the Company is subject to mandatory assessments by Citizens and the Florida Hurricane Catastrophe Fund (“FHCF”). These assessments are paid based on a percentage of the Company’s direct written premium by line of business. For the years ended December 31, 2013, 2012 and 2011, HCPCI paid assessments to FHCF amounting to $4,103, $2,517 and $1,592, respectively. Additionally, HCPCI paid assessments to Citizens of $3,156, $1,936 and $1,604, respectively, for the years ended December 31, 2013, 2012 and 2011. As of December 31, 2013, the Company’s other liabilities included $341 and $444 payable to Citizens and FHCF, respectively. These assessments are recorded as a surcharge in premium billings to insureds. As of December 31, 2013, 2012 and 2011, the surcharge rates in effect for FHCF and Citizens were 1.3% and 1.0%, respectively, for each of these years.
The Florida Insurance Guaranty Association may assess the Company to provide for the payment of covered claims of insolvent insurance entities. The assessments are generally based on a percentage of premiums written as of the end of the prior year in which the assessment is levied. Although the Company is permitted by Florida statutes to recover the entire amount of assessments from existing and future policyholders through policy surcharges, liabilities are recognized when the assessments are probable to be imposed on the premiums on which they are expected to be based and the amounts can be reasonably estimated. During 2012, the Company paid $1,139 of guaranty fund assessments, $482 of which was recognized as an asset recoverable from policyholders. The balance of $657 was charged to expense in 2012. As approved by the Florida Office of Insurance Regulation, the Company had recovered a total of $1,030 during 2013, $434 of which was credited to the asset recoverable from policyholders. The amount recovered in excess of $434 reduced the Company’s 2013 policy acquisition and other underwriting expenses and was offset by a $48 expense for the amount unrecovered from policyholders. At December 31, 2013, the Company has no liability related to guaranty fund assessments.
In connection with the acquisition of one of the Company’s properties located in Pinellas County, Florida, the Company assumed the liability to complete a site assessment and remediation of environmental contamination that resulted from a petroleum release at the marina site in late 2009. At acquisition, the Company recorded a liability of $150 with respect to the planned remedial action. Such liability was determined based on reasonably estimable costs of completing the actions defined in the work plan. As of December 31, 2013, a total of $117 has been expended with respect to the site assessment and remediation and the remaining $33 accrued at acquisition is included in other liabilities in the accompanying consolidated balance sheets. Even with the Company’s best effort in estimating the costs, it is possible that additional testing and additional environmental monitoring and remediation will be required as part of the Company’s ongoing discussions with the Florida Department of Health, the agency contracted by the Florida Department of Environmental Protection to administer cases of petroleum contamination in Pinellas County, in which case additional expenses could exceed the current estimated liability. However, based on information known at December 31, 2013, the Company does not expect that such additional expenses would have a material, adverse effect on the liquidity or financial condition of the Company.
The Company is party to claims and legal actions arising routinely in the ordinary course of business. In the opinion of management, the ultimate disposition of these matters will not have a material, adverse effect on the consolidated financial position or liquidity.
HCPCI, which is domiciled in Florida, prepares its statutory financial statements in accordance with accounting principles and practices prescribed or permitted by the Florida Department of Financial Services, Office of Insurance Regulation (the “FLOIR”), which Florida utilizes for determining solvency under the Florida Insurance Code (the “Code”). The commissioner of the FLOIR has the right to permit other practices that may deviate from prescribed practices. Prescribed statutory accounting practices are those practices that are incorporated directly or by reference in state laws, regulations, and general administrative rules applicable to all insurance enterprises domiciled in Florida. Permitted statutory accounting practices encompass all accounting practices that are not prescribed; such practices differ from state to state, may differ from entity to entity within a state, and may change in the future.
HCPCI may make dividend payments for the year ended December 31, 2013. At December 31, 2012 and 2011, no dividends were available to be paid by HCPCI.
In addition, a Florida insurance company is required to adhere to prescribed premium-to-capital surplus ratios. Florida state law requires that the ratio of 90% of written premiums divided by surplus as to policyholders does not exceed 10 to 1 for gross written premiums or 4 to 1 for net written premiums. The ratio of gross and net written premium to surplus for the year ended December 31, 2013, was 2.76 to 1, and 1.68 to 1, respectively. The ratio of gross and net written premium to surplus for the year ended December 31, 2012, was 3.63 to 1, and 2.27 to 1, respectively. The ratio of gross and net written premium to surplus for the year ended December 31, 2011, was 3.65 to 1, and 2.44 to 1, respectively.
Homeowners Choice Assurance Company, Inc. (“HCA”) is domiciled in Alabama and was organized in 2013. HCA is required to maintain minimum paid-in capital of $500. In addition, HCA must maintain a minimum deposit in trust of $100 with the Treasurer of Alabama. At December 31, 2013, HCA’s statutory capital and surplus was $1,969. Similar to HCPCI in Florida, HCA is required to file statutory-basis financial statements with the Alabama Department of Insurance, which has also adopted the NAIC Accounting Practices and Procedures Manual as the basis of its statutory accounting practices.
The Bermuda Monetary Authority requires Claddaugh to maintain minimum capital and surplus of $2,000. At December 31, 2013, 2012 and 2011, Claddaugh’s statutory capital and surplus was $15,526, $10,313 and $8,801, respectively. Claddaugh’s statutory net profit was $4,164, $4,818 and $4,259, respectively, for the years ended December 31, 2013, 2012 and 2011. During the years ended December 31, 2013, 2012 and 2011, Claddaugh paid its parent, HCI, cash dividends of $4,000, $6,000 and $0, respectively.
During 2011 and 2012, the Company leased office space under an operating lease agreement with one director. The lease required annual base rental payments of approximately $150. The lease was terminated in December 2012 and the total payments during 2012 and 2011 were $179 and $160, respectively.
One of the Company’s directors received a consulting fee and software license fees for development and use of the Company’s premium administration application software. Under this arrangement, the Company incurred a fee of $181 for the year ended December 31, 2011. Effective June 30, 2011, all rights to the software license were assigned to the Company in exchange for a one-time payment of $50. Such payment was made to the Company’s director who developed and licensed the software to the Company. The related software license and consulting agreements were terminated coincident with this exchange.
On January 23, 2014, the Company’s Board of Directors declared a quarterly dividend of $0.275 per common share. The dividends are scheduled for payment on March 21, 2014 to stockholders of record on February 21, 2014.