The Company’s net income was $6,613,707 in 2007, $11,794,241 in 2006, and $6,715,004 in 2005.
The Company receives its revenue primarily from earned premium derived from the insurance company operations, commission and fee income generated from the insurance agency operations, finance charges and fee income from the premium finance operations, and investment income from cash generated primarily from the insurance company operation. The insurance company operation generates approximately 88% of the Company’s total revenue. The Company’s remaining operations constitute a variety of specialty insurance services, each with unique characteristics and individually not material to consolidated revenues.
The property and casualty insurance industry is characterized by periods of soft market conditions, in which premium rates are stable or falling and insurance is readily available, and by periods of hard market conditions, in which premium rates rise, coverage may be more difficult to find and insurers’ profits increase. The Company believes that the California property and casualty insurance market has transitioned to a “soft market” in the past few years. The Company cannot determine how long the existing market conditions will continue, nor in which direction they might change. Despite the increased competition in the property and casualty marketplace, the Company believes that rate adequacy is more important than premium growth, and that underwriting profit (net earned premium less losses and loss adjustment expenses and policy acquisition costs) is its primary goal. For the year ended December 31, 2007, gross written premium was $44,970,399, a decrease of $6,943,568 (13%) compared to 2006.
Unifax primarily sells and services insurance policies for Crusader. The commissions paid by Crusader to Unifax are eliminated as intercompany transactions and are not reflected as income in the financial statements. Policy fee income for the twelve months ended December 31, 2007, decreased 12% as compared to the prior year. The decrease in policy fee income is a result of a decrease in the number of policies issued during the twelve months ended December 31, 2007, as compared to 2006.
AAQHC provides various consumer benefits to its members, including participation in group health care insurance policies. For these services, AAQHC receives membership and fee income from its members. Membership and fee income increased 3% in the year ended December 31, 2007, compared to 2006. The increase is a result of the increase in the number of members. In May 2006, CIGNA HealthCare began offering new small group medical insurance policies in the state of California. Currently, all new CIGNA small group medical insurance policies are written through AIB and all CIGNA small group medical insurance policyholders are members of AAQHC.
The Company generates revenue from its investment portfolio, which consisted of approximately $147.3 million (at amortized cost) at both December 31, 2007, and December 31, 2006. Investment income for the twelve months ended December 31, 2007, increased $0.8 million (14%) in 2007 as compared to 2006. The increase was primarily due to an increase in the Company’s annualized yield on average invested assets from 4.2% in 2006 to 4.6% in 2007. The increase in the annualized yield on average invested assets is a result of higher yields in the marketplace on both new and reinvested assets. Due to the current interest rate environment, management believes it is prudent to purchase fixed maturity investments with maturities of five years or less and with minimal credit risk.
In accordance with Statement of Financial Accounting Standard No. 115, “Accounting for Certain Investments in Debt and Equity Securities,” the Company is required to classify its investment securities into one of three categories: held-to-maturity, available-for-sale, or trading securities. Although all of the Company's investment in fixed maturity securities are classified as available-for-sale and the Company may sell investment securities from time to time in response to economic and market conditions, its investment guidelines place primary emphasis on buying and holding high-quality investments to maturity.
The Company has previously announced that its Board of Directors had authorized the repurchase in the open market from time to time of up to an aggregate of 945,000 shares of the common stock of the Company (see Note 16 of “Notes to Consolidated Financial Statements”). During the twelve months ended December 31, 2007, the Company repurchased 9,483 shares of the Company’s common stock at a cost of $115,261 of which $4,660 was allocated to capital and $110,601 was allocated to retained earnings. As of December 31, 2007, the Company had purchased and retired under the Board of Directors’ authorization an aggregate of 878,441 shares of its common stock at a cost of $5,632,727.
Although material capital expenditures may also be funded through borrowings, the Company believes that its cash and short-term investments at year end, net of trust restriction of $1,172,913, statutory deposits of $700,000, and California insurance company statutory dividend restrictions applicable to Crusader plus the cash to be generated from operations, should be sufficient to meet its operating requirements during the next twelve months without the necessity of borrowing funds.
The effect of inflation on the net income of the Company during the years ended December 31, 2007, 2006, and 2005 was not significant.
Crusader’s primary line of business is commercial multiple peril policies. This line of business represented approximately 96% of Crusader’s total written premium for the year ended December 31, 2007, 97% for the year ended December 31, 2006, and 97% for the year ended December 31, 2005.
As of December 31, 2007, Crusader was licensed as an admitted insurance company in the states of Arizona, California, Nevada, Oregon, and Washington and is approved as a non-admitted surplus lines writer in other states.
For the year ended December 31, 2007, gross written premium decreased by $6,943,568 (13%) over 2006. For the year ended December 31, 2006, gross written premium decreased by $8,354,817 (14%) over 2005. The decrease in written premium in both 2007 and 2006 reflected heightened competition and management’s continued emphasis on rate adequacy and underwriting discipline. The Company cannot determine how long the existing market condition will continue, nor in which direction it might change.
Earned ceded premium for the 12 months ended December 31, 2007, decreased $2,226,116 (16%) to $11,532,308 compared to $13,758,424 for the 12 months ended December 31, 2006. Earned ceded premiums as a percentage of direct earned premiums were 24% for 2007 and 2006, respectively. Earned ceded premium for the 12 months ended December 31, 2006, decreased $476,420 (3%) to $13,758,424 compared to $14,234,844 for the 12 months ended December 31, 2005. Earned ceded premiums as a percentage of direct earned premiums were 24% and 22% for 2006 and 2005, respectively.
The 2007 excess of loss treaties do not provide for a contingent commission. Crusader’s 2006 1st layer primary excess of loss treaty provides for a contingent commission equal to 20% of the net profit, if any, accruing to the reinsurer. The first accounting period for the contingent commission covers the period from January 1, 2006, through December 31, 2006. The 2005 excess of loss treaties do not provide for a contingent commission. Crusader’s 2004 and 2003 1st layer primary excess of loss treaty provides for a contingent commission to the Company equal to 45% of the net profit, if any, accruing to the reinsurer. The first accounting period for the contingent commission covers the period from January 1, 2003, through December 31, 2004. For each accounting period as described above, the Company will calculate and report to the reinsurers its net profit (excluding incurred but not reported losses), if any, within 90 days after 36 months following the end of the first accounting period, and within 90 days after the end of each 12 month period thereafter until all losses subject to the agreement have been finally settled. Any contingent commission payment received is subject to return based on future development of ceded losses and loss adjustment expenses. Based on the Company’s ceded losses and loss adjustment expenses (including ceded incurred but not reported losses) as of December 31, 2007, the Company recognized $253,555 of contingent commission. In March 2007, the Company received an advance of $1 million from its reinsurer to be applied against future contingent commission earned, if any. As of December 31, 2007, the Company recorded $746,445 of this payment as an advance from its reinsurer and it is included in accrued expenses and other liabilities in the consolidated balance sheets.
Any reduction in losses and loss adjustment expenses from redundancies in the Company’s December 31, 2007, reserves over actual future payments, and/or any additional losses and loss adjustment expenses from actual future payments that exceed the Company’s reserves, will be recognized in the consolidated statements of operations of future accounting periods. The Company’s current expected loss and loss adjustment expense ratio assumption closely approximates the Company’s historical average loss and loss adjustment expense ratio. A difference between the Company’s current expected loss and loss adjustment expense ratio assumption and the actual loss and loss adjustment expense ratio for a given accident year will ultimately result in a dollar change (either higher or lower) that is a multiple of the earned premium for that year. The actual loss and loss adjustment expense ratio has been within five percentage points of the current expected loss and loss adjustment expense ratio in five of the Company’s twenty-three years. Since the Company’s net earned premium in 2007 was $37,129,665 a difference between the accident year 2007 actual and current expected loss and loss adjustment expense ratios of only five percentage points will ultimately impact losses and loss adjustment expenses by $1,856,483. The actual loss and loss adjustment expense ratio has been within ten percentage points of the current expected loss and loss adjustment expense ratio in ten of the Company’s twenty-three years. A difference of ten percentage points on accident year 2007 will ultimately impact losses and loss adjustment expenses by $3,712,967. The actual loss and loss adjustment expense ratio has been within twenty percentage points of the current expected loss and loss adjustment expense ratio in sixteen of the Company’s twenty-three years. A twenty percentage point difference between the accident year 2007 actual and the current expected loss and loss adjustment expense ratios will ultimately impact losses and loss adjustment expenses by $7,425,933. In addition, accident years 2007 and prior are still developing. Future development on those years might either offset or add to any future development that emerges on accident year 2007.
The Company's liability for unpaid loss and loss adjustment expense (reserves) consists of case reserves and reserves for incurred but not reported (IBNR) claims. Case reserves are established by claims personnel based on a review of the facts known at the time the claim is reported and are subsequently revised as more information about a claim becomes known. IBNR is computed using various actuarial methods and techniques and includes (1) reserves for losses and loss adjustment expenses on claims that have occurred but for which claims have not yet been reported to the Company, and (2) a provision for expected future development on case reserves for information not currently known.
The Company’s net loss and loss adjustment expense reserve was $66,305,287 as of December 31, 2007. Since underwriting profit is a significant part of income, a small percentage change in reserve estimates may result in a substantial effect on future reported earnings. Such changes might result from a variety of factors, including claims costs emerging in a different pattern than the average historical development patterns. Considering the continuum of possible development patterns, none of which is necessarily more or less likely than the next, one must consider the varying probabilities that the development pattern is off in varying degrees. If future development ultimately ends up being five percent different than the Company’s 2007 reserve, approximately $3.3 million would be reflected in future periods as an increase or decrease in the provision for events of prior years and would be recognized in the Company’s consolidated statement of operations in future periods. A variance of five percent of net loss and loss adjustment expense reserves is not an unlikely scenario. Similarly, a variance of ten percent of the Company’s 2007 reserves would be reflected in approximately $6.6 million in future periods as an increase or decrease in the provision for events of prior years and would be recognized in the Company’s consolidated statements of operations in future periods. This is also not an unlikely scenario. Differences of more than ten percent are also possible, though not quite as likely as differences of ten percent or less.
Unifax sells and services insurance policies for Crusader. The policy fee charged to the policyholder by Unifax is recognized as income in the consolidated financial statements. Policy fee income of Unifax is as follows:
Policy fee income for the year ended December 31, 2007, decreased $306,581 (12%) as compared to the year ended December 31, 2006. The 12% decrease in policy fee income is primarily a result of a 1,650 (11%) decrease in the number of policies issued during 2007 as compared to 2006
The daily automobile rental insurance program commission and fee income increased $15,307 (4%) from $375,352 in 2006 to $390,659 in 2007. Commission and fee income decreased $135,714 (27%) from $511,066 in 2005 to $375,352 in 2006. The daily automobile rental insurance program commission and fee income excluding claim administration fee and contingent commission increased $26,441 (8%) from $317,679 in 2006 to $344,120 in 2007. The daily automobile rental insurance program commission and fee income excluding claim administration fee and contingent commission decreased $93,510 (23%) from $411,189 in 2005 to $317,679 in 2006. Premium written in 2007 increased 8% compared to premium written in 2006, and premium written in 2006 decreased 25% compared to premium written in 2005. Although written premium increased in 2007 primarily as a result of enhanced marketing efforts, there continues to be intense price competition in the daily automobile rental insurance program during the periods covered by this report. The Company cannot determine how long the existing market conditions will continue, nor in which direction they might change. To avoid underwriting losses for the non-affiliated insurance company that it represents, Bedford continues to produce business only at rates that it believes to be adequate.
Primarily due to declining sales, in April 2006 Bedford hired a new general manager who had substantial experience in the daily automobile rental insurance business. Due to the fact that Bedford’s sales objectives were not achieved, it ended the employment of the general manager in January 2008. During 2007, the Company negotiated with the non-affiliated insurance company the need to approve and implement various product enhancements that Bedford recommended. As of December 31, 2007, the negotiations had not resulted in any significant enhancement.
The Company's subsidiary U.S. Risk Managers, Inc., (U.S. Risk) ceased providing insurance claim administration services to the non-affiliated daily automobile insurer as of December 31, 2003, and is currently inactive. As of December 31, 2003, the non-affiliated insurer assumed the claim administration responsibility for all outstanding and IBNR claims. During 2003, the Company recognized $200,000 of claim administration fees that were unearned as of December 31, 2002. Although U.S. Risk is inactive, the Company is still responsible for all claim administration cost arising from losses covered by premiums for which it received a claim administration fee. During 2004 and 2005, the Company did not receive any claim administration fees and did not incur any future internal claim administration costs. During 2005, the Company recognized an additional amount of $70,000 of the $100,000 claim administration fees that were unearned as of December 31, 2004. As of December 31, 2006, the non-affiliated insurer had billed the Company for the final claim administration costs due and the Company recognized the remaining balance in the amount of $4,035 as a claim administration fee income.
Unifax began producing commercial earthquake insurance policies in California for non-affiliated insurance companies in 1999. Unifax receives a commission from these insurance companies based on premium written. Commission income on the earthquake program for the year ended December 31, 2007, decreased $24,896 (66%) compared to 2006. Commission income on the earthquake program for the year ended December 31, 2006, decreased $10,605 (22%) compared to 2005.
AAC provides premium financing for Crusader policies produced by Unifax in California. The growth of this program is dependent and directly related to the growth of Crusader's written premium and AAC’s ability to market its competitive rates and service. Premium finance charges and fees earned decreased $124,743 (18%) in the year ended December 31, 2007, compared to 2006 primarily due to the fact that there were 761 (21%) fewer loans financed in the current year. Premium finance charges and fees earned decreased $79,585 (10%) in the year ended December 31, 2006, compared to 2005 due primarily to the fact that there were 604 (14%) fewer loans financed in the current year. During 2007, 28% of all Unifax policies were financed and 74% of those policies were financed by AAC. During 2006, 32% of all Unifax policies were financed and 75% of those policies were financed by AAC.
The par value, amortized cost, estimated market value and weighted average yield of fixed maturity investments at December 31, 2007, by contractual maturity are as follows. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without penalties.
The following table summarizes for all fixed maturities in an unrealized loss position at December 31, 2007, the aggregate fair value and gross unrealized loss by length of time those fixed maturities have been continuously in an unrealized loss. No securities were sold at a loss during 2007, 2006, or 2005.
Total salaries and employee benefits incurred for the year ended December 31, 2007, decreased $127,970 (1%) compared to the year ended December 31, 2006. The decrease in total salaries and employee benefits incurred is primarily a result of a lower number of employees as compared to the prior year offset by general salary increases and increases in employee benefits costs. Total salaries and employee benefits incurred for the year ended December 31, 2006, increased $511,983 (5%) compared to the year ended December 31, 2005. Factors that affected the 5% increase were primarily general salary increases and increases in employee benefits costs.
In June 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109, Accounting for Income Taxes” (FIN 48). This interpretation clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes.” FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. This interpretation became effective January 1, 2007. The Company’s adoption of FIN 48 did not have an effect on its results of operations or financial position.
Effective January 1, 2007, the Company adopted SFAS No. 155, “Accounting for Certain Hybrid Financial Instruments, an amendment of FASB Statements No. 133 and 140” (“SFAS No. 155”). The provisions of SFAS No. 155 are effective for all financial instruments acquired or issued after the beginning of the first fiscal year after September 15, 2006. SFAS No. 155 amends the accounting for hybrid financial instruments and eliminates the exclusion of beneficial interests in securitized financial assets from the guidance under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” It also eliminates the prohibition on the type of derivative instruments that qualified special purpose entities may hold under SFAS No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities.” Furthermore, SFAS No. 155 clarifies that concentrations of credit risk in the form of subordination are not embedded derivatives. The Company’s adoption of SFAS No. 155 did not have a material impact on its consolidated financial statements.
In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of FASB Statement No. 115” (“SFAS No. 159”). SFAS No. 159 permits an entity to measure certain financial assets and financial liabilities at fair value. The main objective of SFAS No. 159 is to improve financial reporting by allowing entities to mitigate volatility in reported earnings caused by the measurement of related assets and liabilities using different attributes, without having to apply complex hedge accounting provisions. Entities that elect the fair value option will report unrealized gains and losses in earnings at each subsequent reporting date. SFAS No. 159 establishes presentation and disclosure requirements to help financial statement users understand the effect of the entity’s election on its earnings, but does not eliminate disclosure requirements of other accounting standards. SFAS No. 159 is expected to expand the use of fair value measurement, which is consistent with the FASB’s long-term measurement objectives for accounting for financial instruments. SFAS No. 159 is effective as of the beginning of the first fiscal year that begins after November 15, 2007. The Company adopted SFAS No. 159 as of the beginning of 2008 by not electing the fair value option for any of its financial assets or liabilities.
Development patterns generally do not tend to change materially over time. Generally, the Company has very little property claim development subsequent to the end of an accident year. Although liability claims may take 10 or more years to fully develop, most of the development occurs in the first five to six years subsequent to the end of the accident year. However, liability claims are substantially developed by two years subsequent to the end of the accident year. Other than the change in the expected loss and loss adjustment expense ratio assumption discussed above, the Company’s reserving methodology assumptions have not changed in the years presented and the only significant effect on the Company’s financial statements has resulted from estimated costs being adjusted as actual costs emerge.
The effect of ceded reinsurance on financial position is as follows:
The effect of ceded reinsurance on cash flow is as follows:
The Company’s reinsurance strategy is to reduce volatility in its expected loss and loss adjustment expense results by protecting the Company against liabilities in excess of certain retentions, including major or catastrophic losses that may occur from any one or more of the property and/or casualty risks which it insures. On an annual basis, or sooner if warranted, the Company evaluates whether any changes to its retention, participation, or retained limits are necessary. The most significant change to the Company’s reinsurance program during the three years ended December 31, 2007, was increasing its catastrophic reinsurance in 2005 from $15 million to $35 million and to $40 million in 2006.
The Company’s fixed maturity investments are classified as available-for-sale and are stated at market value. Although all of the Company's investments are classified as available-for-sale and the Company may sell investment securities from time to time in response to economic and market conditions, its investment guidelines place primary emphasis on buying and holding high-quality investments to maturity. Short-term investments are carried at cost, which approximates market value. Investments in equity securities are carried at market value. The unrealized gains or losses from fixed maturities and equity securities are reported as “accumulated other comprehensive income (loss),” which is a separate component of stockholders’ equity, net of any deferred tax effect. When a decline in value of a fixed maturity or equity security is considered other than temporary, a loss is recognized in the consolidated statements of operations. Realized gains and losses are included in the Consolidated Statements of Operations based on the specific identification method.
Certain statements contained herein, including the sections entitled “Business,” “Legal Proceedings” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” that are not historical facts are forward looking. These statements, which may be identified by forward looking words or phrases such as “anticipate,” “appears,” “believe,” “estimates,” “expect,” “intend,” “may,” plans”, “should,” and “would” involve risks and uncertainties, many of which are beyond the control of the Company. Such risks and uncertainties could cause actual results to differ materially from these forward looking statements. Factors which could cause actual results to differ materially include those described under Item 1 - “Business - Competition” and Item 1A - “Risk Factors”; premium rate adequacy relating to competition or regulation; actual versus estimated claim experience; the outcome of rate change filings with regulatory authorities; acceptance by insureds of rate changes; adequacy of rate changes; changes in Crusader’s A.M. Best rating; regulatory changes or developments; the outcome of regulatory proceedings; unforeseen calamities; general market conditions; and the Company’s ability to introduce new profitable products.
Consolidated Statements of Operations for the years ended December 31, 2007, 2006, and
Consolidated Statements of Comprehensive Income for the years ended December 31, 2007, 2006, and 2005
Consolidated Statements of Changes in Stockholders' Equity for the years ended December 31, 2007, 2006, and 2005
Consolidated Statements of Cash Flows for the years ended December 31, 2007, 2006, and
We have audited the accompanying consolidated balance sheets of Unico American Corporation and subsidiaries as of December 31, 2007 and 2006, and the related consolidated statements of operations, comprehensive income, changes in stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2007. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of certain assets and liabilities; disclosure of contingent assets and liabilities at the date of the financial statements; and the reported amounts of revenues and expenses during the reporting period. While every effort is made to ensure the integrity of such estimates, actual results may differ.
All of the Company’s fixed maturity investments are classified as available-for-sale and are stated at fair value. Although all of the Company's investments are classified as available-for-sale and the Company may sell investment securities from time to time in response to economic and market conditions, its investment guidelines place primary emphasis on buying and holding high-quality investments to maturity. Short-term investments are carried at cost, which approximates fair value. The unrealized gains or losses from fixed maturities are reported as “accumulated other comprehensive income (loss),” which is a separate component of stockholders’ equity, net of any deferred tax effect. When a decline in value of a fixed maturity or equity security is considered other than temporary, a loss is recognized in the consolidated statements of operations. Realized gains and losses, if any, are included in the Consolidated Statements of Operations based on the specific identification method.
In June 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109, Accounting for Income Taxes” (FIN 48). This interpretation clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes.” FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. This interpretation became effective January 1, 2007. The Company had no unrecognized tax benefits and recognized no additional liability or reduction in deferred tax asset as a result of the adoption of FIN 48 effective January 1, 2007. In addition, the Company has not accrued for interest and penalties related to unrecognized tax benefits. However, if interest and penalties would need to be accrued related to unrecognized tax benefits, such amounts would be recognized as a component of federal income tax expense.
The Company has used the following methods and assumptions in estimating its fair value disclosures:
Premiums are earned on a pro-rata basis over the terms of the policies. Premiums applicable to the unexpired terms of policies in force are recorded as unearned premiums. The Company earns a commission on policies that are ceded to its reinsurers. This commission is considered earned on a pro-rata basis over the terms of the policies.
The liability for unpaid losses and loss adjustment expenses is based upon the accumulation of individual case estimates for losses reported prior to the close of the accounting period plus estimates based on experience and industry data for development of case estimates and for unreported losses and loss adjustment expenses.
The insurance company operation is conducted through the Company’s wholly owned subsidiary Crusader Insurance Company (Crusader), which as of December 31, 2007, was licensed as an admitted insurance carrier in the states of Arizona, California, Nevada, Oregon, and Washington. Crusader is a multiple-line property and casualty insurance company, which began transacting business on January 1, 1985. As of December 31, 2007, 96% of Crusader’s business was commercial multiple peril insurance policies. Commercial multiple peril policies provide a combination of property and liability coverage for businesses. Commercial property coverages insure against loss or damage to buildings, inventory and equipment from natural disasters, including hurricanes, windstorms, hail, water, explosions, severe winter weather and other events such as theft and vandalism, fires and storms and financial loss due to business interruption resulting from covered property damage. However, Crusader does not write earthquake coverage. Commercial liability coverages insure against third party liability from accidents occurring on the insured’s premises or arising out of its operations, such as injuries sustained from products sold or operation of the insured premises. In addition to commercial multiple peril policies, Crusader also writes separate policies to insure commercial property and commercial liability risks on a mono-line basis.
In 2007 and 2006, 100% of Crusader’s gross premium written was derived from California. In 2007 approximately 79% of the $2,320,160 commission income from the Company’s health insurance program was from CIGNA HealthCare medical and dental plan programs. In 2006 approximately 69% of the $1,136,306 commission and fee income from the Company’s health insurance program was from CIGNA HealthCare medical and dental plan programs.
At December 31, 2007, the Company’s reinsurance recoverable on paid and unpaid losses and loss adjustment expenses of $28,743,610 were as follows:
Had compensation cost for the Company’s stock-based compensation plan been reflected in the accompanying consolidated financial statements based on the fair value at the grant dates for option awards consistent with the method of SFAS 123, the Company’s net income for the year ended December 31, 2005, would have been reduced to the pro forma amount indicated in the following table:
Calculations of the fair value under the method prescribed by SFAS No. 123 were made using the Black-Scholes Option-Price Model with the following weighted average assumptions used for the 1999 and 2002 grants:
In June 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109, Accounting for Income Taxes” (FIN 48). This interpretation clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes.” FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. This interpretation became effective January 1, 2007. The Company’s adoption of FIN 48 did not have an effect on its results of operations or financial position.
In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of FASB Statement No. 115” (“SFAS No. 159”). SFAS No. 159 permits an entity to measure certain financial assets and financial liabilities at fair value. The main objective of SFAS No. 159 is to improve financial reporting by allowing entities to mitigate volatility in reported earnings caused by the measurement of related assets and liabilities using different attributes, without having to apply complex hedge accounting provisions. Entities that elect the fair value option will report unrealized gains and losses in earnings at each subsequent reporting date. SFAS No. 159 establishes presentation and disclosure requirements to help financial statement users understand the effect of the entity’s election on its earnings, but does not eliminate disclosure requirements of other accounting standards. SFAS No. 159 is expected to expand the use of fair-value measurement, which is consistent with the FASB’s long-term measurement objectives for accounting for financial instruments. SFAS No. 159 is effective as of the beginning of the first fiscal year that begins after November 15, 2007. The Company adopted SFAS No. 159 as of the beginning of 2008 by not electing the fair value option for any of its financial assets or liabilities.
There were no other accounting standards issued during 2007 that are expected to have a material impact on the Company’s consolidated financial statements.
The amortized cost and estimated fair value of fixed maturity investments at December 31, 2007, by contractual maturity are as follows. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without penalties.
At December 31, 2007, the fixed maturity investments with a gross unrealized loss for continuous periods of 0 to 6 months consisted of U.S. treasury securities. The fixed maturity investments with a gross unrealized loss position for a continuous period over 12 months consisted of U.S. treasury securities, investment grade industrial securities, and pre-refunded municipal bonds.
The Company monitors its investments closely. If an unrealized loss is determined to be other than temporary, it is written off as a realized loss through the Consolidated Statements of Operations. The Company’s methodology of assessing other-than-temporary impairments is based on security-specific analysis as of the balance sheet date and considers various factors including the length of time to maturity and the extent to which the fair value has been less than the cost, the financial condition and the near-term prospects of the issuer, and whether the debtor is current on its contractually obligated interest and principal payments. The Company has the ability and intent to hold its fixed maturity investments for a period of time sufficient to allow the Company to recover its costs. The Company has concluded that the gross unrealized losses of $16,121 at December 31, 2007, were temporary in nature. However, facts and circumstances may change which could result in a decline in fair value considered to be other than temporary.
Bad debt expense for the year ended December 31, 2007, and the year ended December 31, 2006, were $15,253 and $10,023, respectively. Premium finance notes receivable represent the balance due to the Company's premium finance subsidiary from policyholders who elect to finance their premiums over the policy term. These notes are net of unearned finance charges.
The Company’s net losses and loss adjustment expenses for the calendar year ended December 31, 2007, were $22,182,237. This amount is comprised of accident year 2007 net losses and loss adjustment expenses of $26,300,338 and favorable development of prior accident years of $4,118,101. The Company’s net losses and loss adjustment expenses for the calendar year ended December 31, 2006, were $17,826,979. This amount is comprised of accident year 2006 net losses and loss adjustment expenses of $29,997,662 and favorable development of prior accident years of $12,170,683. The Company’s net losses and loss adjustment expenses for the calendar year ended December 31, 2005, were $31,513,732. This amount is comprised of accident year 2005 net losses and loss adjustment expenses of $35,338,196 and favorable development of prior accident years of $3,824,464. The favorable developments resulted from settling or re-estimating claims for lesser amounts than they were previously forecast.
The Company presently occupies a 46,000 square foot office building located at 23251 Mulholland Drive, Woodland Hills, California, under a master lease expiring March 31, 2012. Erwin Cheldin, the Company's president, chairman, and principal stockholder, is the owner of the building. The Company signed an extension to the lease with a 4% increase in rent effective April 1, 2007. The lease provides for an annual gross rent of $1,025,952 through March 31, 2007 and $1,066,990 from April 1, 2007 through March 31, 2012. In addition, the lease extension provides for two five-year options with a rent increase of 5% for each option period. The Company believes that at the inception of the lease agreement and at each subsequent extension, the terms of the lease were at least as favorable to the Company as could have been obtained from non-affiliated third parties. The Company utilizes for its own operations approximately 100% of the space it leases. The total rent expense under this lease agreement was $1,056,730 for the year ended December 31, 2007; $1,025,952 for the year ended December 31, 2006; and $1,025,952 for the year ended December 31, 2005.
The 2007 excess of loss treaties do not provide for a contingent commission. Crusader’s 2006 1st layer primary excess of loss treaty provides for a contingent commission equal to 20% of the net profit, if any, accruing to the reinsurer. The first accounting period for the contingent commission covers the period from January 1, 2006, through December 31, 2006. The 2005 excess of loss treaties do not provide for a contingent commission. Crusader’s 2004 and 2003 1st layer primary excess of loss treaty provides for a contingent commission to the Company equal to 45% of the net profit, if any, accruing to the reinsurer. The first accounting period for the contingent commission covers the period from January 1, 2003, through December 31, 2004. For each accounting period as described above, the Company will calculate and report to the reinsurers its net profit (excluding incurred but not reported losses), if any, within 90 days after 36 months following the end of the first accounting period, and within 90 days after the end of each 12 month period thereafter until all losses subject to the agreement have been finally settled. Any contingent commission payment received is subject to return based on future development of ceded losses and loss adjustment expenses. Based on the Company’s ceded losses and loss adjustment expenses (including ceded incurred but not reported losses) as of December 31, 2007, the Company recognized $253,555 of contingent commission. In March 2007, the Company received an advance of $1 million from its reinsurer to be applied against future contingent commission earned, if any. As of December 31, 2007, the Company recorded $746,445 of this payment as an unearned contingent commission from its reinsurer and it is included in accrued expenses and other liabilities in the consolidated balance sheets.
The effect of reinsurance on premiums written, premiums earned, and incurred losses are as follows:
Reinsurance ceded premium as a percentage of direct earned premium was 24% in 2007, 24% in 2006 and 22% in 2005.
The Company and its wholly owned subsidiaries file consolidated federal and combined California income tax returns. Pursuant to the tax allocation agreement, Crusader and American Acceptance Corporation are allocated taxes or (in the case of losses) tax credits at current corporate rates based on their own taxable income or loss.
The Company has previously announced that its Board of Directors had authorized the repurchase in the open market from time to time of up to an aggregate of 945,000 shares of the common stock of the Company. During the twelve months ended December 31, 2007, the Company repurchased 9,483 shares of the Company’s common stock at a cost of $115,261 of which $4,660 was allocated to capital and $110,601 was allocated to retained earnings. As of December 31, 2007, the Company had purchased and retired under the Board of Directors’ authorization an aggregate of 878,441 shares of its common stock at a cost of $5,632,727.
Summarized unaudited quarterly financial data for each of the calendar years 2007 and 2006 is as follows.