Meadowbrook Insurance Group, Inc. (the “Company”) is a publicly traded specialty risk management company, specializing in alternative market insurance and risk management solutions for agents, brokers, professional and trade associations, and insureds of all sizes. The alternative market includes a wide range of approaches to financing and managing risk exposures, such as captives, risk retention and risk purchasing groups, governmental pools and trusts, and self-insurance plans. The alternative market developed as a result of the historical volatility in the cost and availability of traditional commercial insurance coverages, and usually involves some form of self-insurance or risk-sharing on the part of the client. The Company develops and manages alternative risk management programs for defined client groups and their members. The Company also operates as an insurance agency representing policyholders in placing their insurance coverages with unaffiliated insurance companies. Management defines its business segments as specialty risk management operations and agency operations.
Reinsurance recoverables represent (1) amounts currently due from reinsurers on paid loss and LAE, (2) amounts recoverable from reinsurers on case basis estimates of reported losses and LAE, and (3) amounts recoverable from reinsurers on actuarial estimates of incurred but not reported (“IBNR”) losses and LAE. Such recoverables, by necessity, are based upon estimates. While management believes that the amount accrued is collectible, the ultimate recoverable may be greater or less than the amount accrued. At December 31, 2003 and 2002, reinsurance recoverables on paid and unpaid losses were $165.0 million and $202.2 million, respectively.
When a claim is reported to one of the Insurance Company Subsidiaries, its claims personnel establish a case reserve for the estimated amount of the ultimate payment. The amount of the reserve is primarily based
In accordance with industry practice, the Company maintains, in addition to case reserves, estimates of reserves for losses and LAE incurred but not yet reported. The Company projects an estimate of ultimate losses and LAE expenses at each reporting date. The difference between: (i) projected ultimate loss and LAE reserves and (ii) case loss reserves and LAE reserves thereon is carried as the IBNR reserve. By using both estimates of reported claims and IBNR determined using generally accepted actuarial reserving techniques, the Company estimates the ultimate liability for losses and LAE, net of reinsurance recoverables.
The key assumptions used in management’s selection of ultimate reserves included the underlying actuarial methodologies, a review of current pricing and underwriting initiatives, an evaluation of reinsurance costs and retention levels, and a detailed claims analysis with an emphasis on how aggressive claims handling may be impacting the paid and incurred loss data trends embedded in the traditional actuarial methods. With respect to the ultimate estimates for losses and LAE, the key assumptions remained consistent for the years ended December 31, 2003, 2002, and 2001.
Programs which lack adequate capital contributed by the risk-sharing partner or proven profitable experience.
In its risk-sharing programs, the Company is also subject to credit risk with respect to the payment of claims by its clients’ captive, rent-a-captive, large deductible programs, indemnification agreements, and on the portion of risk exposure either ceded to the captives, or retained by the clients. The capitalization and credit worthiness of prospective risk-sharing partners is one of the factors considered by the Company in entering into and renewing risk-sharing programs. The Company collateralizes balances due from its risk-sharing partners through funds withheld trusts or letters of credit. At December 31, 2003, the Company had risk exposure in excess of collateral in the amount of $9.5 million, compared to $11.6 million at December 31, 2002, on these programs, for which the Company has an allowance of $6.4 million at December 31, 2003, compared to $6.8 million at December 31, 2002, related to these exposures. The Company has historically maintained an allowance for the potential uncollectibility of certain reinsurance balances due from some risk-sharing partners, some of which are in litigation with the Company. At the end of each quarter an analysis of these exposures is conducted to determine the potential exposure to uncollectibility. At December 31, 2003, management believes that this allowance is adequate. To date, the Company has not, in the aggregate, experienced material difficulties in collecting balances from its risk-sharing partners. No assurance can be given, however, regarding the future ability of any of the Company’s risk-sharing partners to meet their obligations. At December 31, 2003 and 2002, the exposure amount in litigation with former risk-sharing partners which is not reserved or collateralized is $1.3 million and $1.9 million, respectively. During the third quarter of 2003, a settlement agreement was reached with a former risk-sharing partner that was previously in litigation. The agreement included receipt of cash and a collateralized note receivable approximating net book value. As a result of this agreement, exposures in excess of collateral amounts and related allowances have been reduced by $1.3 million and $600,000, respectively.
At December 31, 2003, the Company had a deferred tax asset of $15.2 million, $3.4 million of which is related to a net operating loss carryforward (“NOL”). Realization of the deferred tax asset is dependent on generating sufficient taxable income to absorb both the applicable reversing temporary differences and the NOL. At December 31, 2003, management concluded that the positive evidence, which includes cumulative pre-tax income of $7.0 million for the three years ended December 31, 2003, supporting the generation of future taxable income sufficient to realize the deferred tax asset outweighed the negative evidence of the previous cumulative losses reported for the periods ended December 31, 2001, 2000, and 1999, which generated the NOL. Furthermore, the current market conditions that supported the cumulative rate increases of 66.4% since the beginning of 2000 is expected to continue. In addition, while the Company had adverse development of $2.9 million, or 1.5% of $193.1 million of net loss and LAE reserves at December 31, 2002, loss reserves continue to stabilize with a calendar year 2003 loss and LAE ratio of 70.1% for the year ended December 31, 2003. Also, the Company continues to have alternative tax strategies, which could generate capital gains of $52.0 million, or utilization of $17.7 million of taxes. This capital gain would fully utilize the net operating loss of $3.4 million at December 31, 2003 from the potential sale of assets and/or subsidiaries.
Effective January 1, 2002, the Company adopted SFAS No. 142 “Goodwill and Other Intangible Assets”. SFAS No. 142 eliminates the amortization of goodwill. In addition, the Company is required to test, at least annually, all existing goodwill for impairment using a fair value approach, on a reporting unit basis. Also pursuant to SFAS No. 142, the Company is required to test for impairment more frequently if events or changes in circumstances indicate that the asset might be impaired. Upon implementation of SFAS No. 142 in 2002, the Company is no longer amortizing goodwill.
At December 31, 2003 and 2002, the Company had other intangible assets, net of related accumulated amortization, of $1.4 million and $206,000, respectively, recorded as part of other assets. The Company did not have any other intangible assets in 2001.
During the fourth quarter of 2002 and the first quarter of 2003, the Company purchased three unrelated agency books of business. The Company will amortize these intangible assets over their estimated lives based on the expected retention of the purchased books of business. These intangible assets have a weighted average amortization period of five years.
The Company’s investment securities at December 31, 2003 and 2002 are classified as available for sale. Investments classified as available for sale securities are available to be sold in the future in response to the Company’s liquidity needs, changes in market interest rates, tax strategies and asset-liability management strategies, among other reasons. Available for sale securities are reported at fair value, with unrealized gains and losses reported in the accumulated other comprehensive income component of shareholders’ equity, net of deferred taxes.
Other Than Temporary Impairments of Securities and Unrealized Losses on Investments
As of December 31, 2003 and 2002, gross unrealized losses on available for sale securities were $893,000 and $648,000, respectively.
In 2003, the Company reported positive cash flow from operations of $47.5 million, increased statutory surplus $6.1 million to $99.9 million, and stabilized reserves. In 2003, net income improved $8.4 million to $10.1 million, compared to a net income of $1.7 million in 2002.
new business written in 2003 of $22.7 million. This includes $1.5 million of net earned premium from the conversion of existing business into an insured program within the Company’s underwriting subsidiary. The increase in net earned premiums is also the result of growth in existing business of $19.7 million primarily related to rate increases. Offsetting the increase in net earned premiums is a $36.6 million reduction in net earned premium related to programs discontinued in 1999 and programs terminated for leverage ratio purposes.
Net investment income decreased $474,000, or 3.4%, to $13.5 million in 2003, from $14.0 million in 2002. Average invested assets increased $41.7 million, or 16.0%, to $301.6 million in 2003, from $259.9 million in 2002. The average investment yield for 2003 was 4.5% compared to 5.4% in 2002. The current pre-tax book yield is 4.2% and current after tax book yield is 2.9%. The current pre-tax reinvested yield is 3.2%. The decrease in investment yields reflects the accelerated prepayments in the mortgage-backed securities, and reinvestment of cashflows in municipal bonds and other securities in an interest rate environment where interest rates are still relatively low compared with recent history. The average increase in invested assets reflects $37.5 million in proceeds from the public offering in June 2002 and cash flows from underwriting.
The Company’s expense ratio improved 2.2 percentage points to 34.3% for the year ended December 31, 2003, from 36.5% for the same period in 2002. This ratio is the unconsolidated policy acquisition and other underwriting expenses in relation to net earned premium. The improvement reflects a reduction in gross commissions and the effect of leveraging fixed costs.
Net earned premiums decreased $18.3 million, or 11.2%, to $145.4 million in the year ended December 31, 2002, from $163.7 million in the comparable period in 2001. This decrease is the result of a reduction in earned premium of $16.8 million related to programs discontinued in 1999 and a decrease of $40.4 million related to programs terminated for leverage ratio purposes. Offsetting this decrease is a $32.8 million reduction in ceded earned premium associated with the cancellation in 2002 of the surplus relief treaty relating to several workers’ compensation programs and growth in existing programs of $6.1 million, primarily due to rate increases achieved in 2002 and 2001 and growth in policy counts.
Management fees decreased $557,000, or 4.2%, to $12.8 million from $13.3 million. This decrease is the result of a $1.1 million decrease in fees related to a specific account for which the client moved the services in-house. This decrease is partially offset by $248,000 in fees related to the addition of new fee-for-service agreements. The overall decrease is also offset by net growth in the Company’s existing managed programs.
Claim fees decreased $518,000, or 6.0%, to $8.1 million from $8.6 million. This decrease is the result of a $1.6 million profit sharing fee recognized in 2001. Also contributing to this decrease is a $311,000 decrease in fees related to a specific account for which the client moved the services in-house. Offsetting this decrease is $500,000 in fees related to the addition of new fee-for-service agreements, as well as, net growth in existing programs.
Loss control fees increased $264,000, or 11.3%, to $2.6 million from $2.3 million. This increase is the result of net growth in existing programs. Offsetting this increase is a $153,000 decrease in fees related to a specific account for which the client moved the services in-house.
For the year ended December 31, 2002, the Company reported net adverse development on loss and LAE of $6.1 million, or 3.1% of net loss and LAE reserves, compared to net adverse development of $14.4 million reported in 2001. The adverse development reflected revisions in the estimated reserves as a result of actual claims activity in calendar year 2002 that differed from the projected activity. There were no significant changes in the key assumptions utilized in the analysis and calculations of the Company’s reserves during 2002. The net adverse development reflects $3.3 million related to unprofitable discontinued programs and
$3.3 million related to programs terminated in late 2000 and 2001 to reduce leverage ratios. The net adverse development was offset by net favorable development of $515,000 related to continuing programs. The net adverse development in 2001 reflected adverse development related to unprofitable discontinued programs, a provision for uncollectible reinsurance, and claims activity.
The following table sets forth the revenues and results from agency operations (in thousands):
Revenue from agency operations, which consists primarily of agency commission revenue, increased $624,000, or 4.4%, to $15.0 million for the year ended December 31, 2003, from $14.3 million for the comparable period in 2002. This increase is primarily the result of rate increases, increases in contingent commissions, and an increase in revenue from new producers. This increase is partially offset by $220,000 of commission revenue earned in 2002 related to the sale of a book of business, which was sold in 2002.
Agency operations generated pre-tax income of $6.4 million for the year ended December 31, 2003, compared to $6.1 million for the comparable period in 2002. The slight improvement in the pre-tax margin is primarily attributable to the overall increase in revenue.
Agency operations generated pre-tax income of $6.1 million for the year ended December 31, 2002, compared to $5.3 million for the comparable period in 2001. The improvement in the pre-tax margin is the result of rate increases and overall expense reductions.
At December 31, 2003, management’s best estimate for the ultimate liability for loss and LAE reserves, net of reinsurance recoverables, was $192.0 million. Management established a reasonable range of reserves of approximately $178.7 million to $205.9 million. This range was established primarily by considering the
Reserves are reviewed by internal and independent actuaries for adequacy on a quarterly basis. When reviewing reserves, the Company analyzes historical data and estimates the impact of numerous factors such as (i) per claim information; (ii) Company and industry historical loss experience; (iii) legislative enactments, judicial decisions, legal developments in the imposition of damages, and changes in political attitudes; and (iv) trends in general economic conditions, including the effects of inflation. This process assumes that past experience, adjusted for the effects of current developments and anticipated trends, is an appropriate basis for predicting future events. There is no precise method for subsequently evaluating the impact of any specific factor on the adequacy of reserves, because the eventual deficiency or redundancy is affected by multiple factors.
For the year ended December 31, 2003, the Company reported an increase in net ultimate loss estimates for accident years 2002 and prior to be $2.9 million, or 1.5% of $193.1 million of net loss and LAE reserves at December 31, 2002. The increase in net ultimate loss estimates reflected revisions in the estimated reserves as a result of actual claims activity in calendar year 2003 that differed from the projected activity. There were no significant changes in the key assumptions utilized in the analysis and calculations of the Company’s reserves during 2003. The major components of this change in ultimates are as follows:
The projected net ultimate loss estimate for the workers’ compensation line of business, excluding residual markets, decreased $2.7 million, or 3.2% of net reserves. This net overall decrease reflects an increase of $350,000 in accident year 2002 and a reduction of $3.1 million in the ultimate estimate for loss and loss adjustment for accident year 2001 and prior. The reduction in loss and allocated expense reserves primarily reflects a decrease in net ultimate loss estimates of $1.6 million in accident year 2001, $2.0 million in accident year 2000, and an increase of $500,000 in accident year 1996. The increase in ultimate loss estimates for accident years 2002 and 1996, during the twelve months ended December 31, 2003, reflect higher than expected emergence of claim activity, primarily in the Florida operations. The decreases in ultimate loss estimates for accident years 2001 and 2000, during the twelve months ended December 31, 2003, reflect lower than expected emergence of claim activity primarily with discontinued programs which had aggregate stop loss provisions and the impact of a commutation of a terminated program with a risk-sharing partner.
The commercial multiple peril/ general liability line of business had an increase in net ultimate loss estimates of $5.3 million, or 10.4% of commercial multiple peril/ general liability line of business net reserves. The net increase was $2.1 million, $900,000, $1.5 million, and $950,000 in accident years 2001, 2000, 1999, and 1994, respectively. These increases in ultimate loss estimates reflect higher than expected emergence in claim activity, primarily related to general liability occurrence policies within the Kansas City branch, during the twelve months ended December 31, 2003. The 2002 accident year resulted in a $250,000 decrease in ultimate loss estimates. The change in ultimate net loss estimates for all other accident years was insignificant.
The projected net ultimate loss estimate for the commercial automobile line of business decreased $35,000, or 0.1% of net commercial automobile reserves. This net overall decrease reflects reductions of $1.4 million, $900,000, and $200,000 in accident years 2002, 2000, and 1999, respectively. The reduction in accident year 2002 primarily reflects lower than expected claims activity in automobile physical damage. These reductions were offset by an increase of $3.1 million in the ultimate estimate for loss and loss adjustment for accident year 2001. The increase in accident year 2001 includes a $2.2 million increase from one commercial trucking program which was terminated during 2001. The change in ultimate net loss estimates for all other accident years was insignificant.
Salary and employee benefits decreased $6.5 million, or 14.8%, to $37.7 million in 2002, from $44.2 million for the comparable period in 2001. The decrease in salary and employee benefits in 2002 in comparison to 2001 is primarily the result of staff reductions and severance payments made in 2001. The staff reductions were a result of the Company’s expense control initiatives.
Other administrative expenses increased $238,000, or 1%, to $23.0 million in 2002, from $22.8 million for the comparable period in 2001.
Interest expense for 2003, 2002, and 2001 was $977,000, $3.0 million, and $4.5 million, respectively. This interest expense relates primarily to the Company’s line of credit. The average debt outstanding was approximately $26.0 million, $44.0 million, and $54.0 million in 2003, 2002, and 2001, respectively. The average interest rate was approximately 4.0%, 7.0%, and 8.0%, in 2003, 2002, and 2001, respectively.
On September 30, 2003, an unconsolidated subsidiary trust of the Company issued $10.0 million of mandatory redeemable trust preferred securities (“TPS”) to a trust formed by an institutional investor. The Company’s trust received a total of $9.7 million in net proceeds, after the deduction of approximately $300,000 of commissions paid to the placement agents in the transaction. The gross proceeds from the issuance of the TPS were used to purchase floating rate junior subordinated deferrable interest debentures (the “Debentures”) issued by the Company. The Company contributed $6.3 million of the proceeds to its insurance company subsidiaries and the remaining balance will be used for general corporate purposes. The Debentures mature in 30 years and provide for interest at the three-month LIBOR, plus 4.05%, which started in December 2003.
In June 2002, prior to the revised credit agreement, the Company reached a settlement with its lead bank and paid $20.0 million from the proceeds of the public offering on its then existing line of credit. This settlement resulted in a gain on debt reduction of $359,000, which was to the benefit of the Company.
A non-insurance premium finance subsidiary of the Company maintains a line of credit with a bank, which permits borrowings up to 80% of the accounts receivable, which collateralize the line of credit. At December 31, 2003 and 2002, $3.5 million and $4.9 million, respectively, were outstanding under this line of credit. The line will expire on May 14, 2004. Management expects to renegotiate the line of credit prior to its expiration. The line bears interest at the Prime Rate, which was 4.00% and 4.25% at December 31, 2003 and 2002, respectively.
At December 31, 2003 and 2002, one letter of credit was outstanding in the amount of $100,000, which was provided as collateral for an insurance subsidiary’s obligations under a reinsurance agreement. The letter of credit is collateralized by a certificate of deposit for the same amount.
Shareholders’ equity increased to $155.1 million, or a book value of $5.34 per common share, at December 31, 2003, compared to $147.4 million, or a book value of $4.98 per common share, at December 31, 2002.
to an additional 1,000,000 shares of the Company’s common stock under the existing share repurchase plan. For the year ended December 31, 2003, the Company repurchased and retired 569,100 shares of common stock for a total cost of $1.6 million. For the year ended December 31, 2002, the Company repurchased and retired 195,700 shares of common stock for a total cost of $455,000. As of December 31, 2003, the cumulative amount the Company repurchased and retired was 764,800 shares of common stock for a total cost of approximately $2.0 million.
The Board of Directors of the Company did not declare a dividend in 2003 or 2002. The Board of Directors considers whether a dividend will be declared based on a variety of factors, including but not limited to, the Company’s cash flow, liquidity needs, results of operations and financial condition. As a holding company, the ability to pay cash dividends is partially dependent on dividends and other permitted payments from its subsidiaries. The Company did not receive any dividends from its regulated insurance subsidiaries in 2003 or 2002.
A significant portion of the Company’s consolidated assets represent assets of the Insurance Company Subsidiaries that at this time, without prior approval of the Michigan Office of Financial and Insurance Services (“OFIS”), cannot be transferred to the holding company in the form of dividends, loans or advances. The restriction on the transferability to the holding company from its Insurance Company Subsidiaries is dictated by Michigan insurance regulatory guidelines which, in general, are as follows: the maximum discretionary dividend that may be declared, based on data from the preceding calendar year, is the greater of each insurance company’s net income (excluding realized capital gains) or ten percent of the insurance company’s surplus (excluding unrealized gains). These dividends are further limited by a clause in the Michigan law that prohibits an insurer from declaring dividends except out of surplus earnings of the company. Earned surplus balances are calculated on a quarterly basis. Since Star is the parent insurance company, its maximum dividend calculation represents the combined Insurance Company Subsidiaries’ surplus. Based upon the 2003 statutory financial statements, Star may only pay dividends to the Company during 2004 with the prior approval of OFIS. Star’s earned surplus position at December 31, 2003 was negative $24.6 million. No dividends were paid in 2003 or 2002.
The Insurance Company Subsidiaries are required to maintain certain deposits with regulatory authorities, which totaled $102.4 million and $89.8 million at December 31, 2003 and 2002, respectively.
The following table is a summary of the Company’s contractual obligations as of December 31, 2003 (in thousands):
The National Association of Insurance Commissioners (“NAIC”) has adopted a risk-based capital (“RBC”) formula to be applied to all property and casualty insurance companies. The formula measures required capital and surplus based on an insurance company’s products and investment portfolio and is used as a tool to evaluate the capital of regulated companies. The RBC formula is used by state insurance regulators to monitor trends in statutory capital and surplus for the purpose of initiating regulatory action. In general, an insurance company must submit a report of its RBC formula to the insurance department of its state of domicile as of the end of the previous calendar year. These laws require increasing degrees of regulatory oversight and intervention as an insurance company’s RBC declines. The level of regulatory oversight ranges from requiring the insurance company to inform and obtain approval from the domiciliary insurance commissioner of a comprehensive financial plan for increasing its RBC to mandatory regulatory intervention requiring an insurance company to be placed under regulatory control in a rehabilitation or liquidating proceeding.
The “Mandatory Control Level,” is triggered if a company’s total adjusted capital is less than 70% of its risk-based capital, at which level the regulatory authority is mandated to place the company under its control.
At December 31, 2003, all of the Insurance Company Subsidiaries were in compliance with RBC requirements. Star reported statutory surplus of $99.9 million and $93.8 million at December 31, 2003 and 2002, respectively. The calculated RBC was $22.8 million in 2003 and $24.8 million in 2002. The threshold requiring the minimum regulatory involvement was $45.7 million in 2003 and $49.7 million in 2002.
In 2003, the Insurance Company Subsidiaries generated certain ratios that varied from the “usual value” range. The variations and reasons for these variations are set forth below:
While this ratio continues to show improvement from 116% in 2002 to 110% in 2003, it continues to be negatively impacted by the exclusion of the value of affiliated common stocks, as the value of affiliated common stocks is not considered in the ratio.
The Estimated Current Reserve Deficiency to Policyholders’ Surplus on Ameritrust was impacted by the elimination of the surplus relief reinsurance treaty in 2002.
On June 26, 2002, A.M. Best upgraded the Insurance Company Subsidiaries financial strength rating to a “B+” (Very Good) with a positive outlook. A positive outlook is placed on a company’s rating if its financial and market trends are favorable, relative to its current rating level. The upgrade reflects A.M. Best’s positive assessment of the Company’s improved financial condition as a result of the issuance of new common shares
The Company seeks to manage the risk exposure of its Insurance Company Subsidiaries and its clients through the purchase of excess-of-loss and quota share reinsurance. The Company’s reinsurance requirements are analyzed on a specific program basis to determine the appropriate retention levels and reinsurance coverage limits. The Company secures this reinsurance based on the availability, cost, and benefits of various reinsurance alternatives.
Reinsurance does not legally discharge an insurer from its primary liability for the full amount of risks assumed under insurance policies it issues, but it does make the assuming reinsurer liable to the insurer to the extent of the reinsurance ceded. Therefore, the Company is subject to credit risk with respect to the obligations of its reinsurers. In its selection of reinsurers, the Company evaluates the financial stability of its prospective reinsurers. To date, the Company has not, in the aggregate, experienced material difficulties in collecting reinsurance recoverables other than those balances related to Connecticut Insurance Company (“CSC”) and HIH America Compensation & Liability Company (“HIH”) in 2001, and for which allowances have been established. No assurance can be given regarding the future ability of any of the Company’s reinsurers to meet their obligations. The following table sets forth information relating to the Company’s five largest reinsurers (other than client captive quota-share reinsurers) as of December 31, 2003:
On June 6, 2003, the Company entered into a Guaranty Agreement with a bank. The Company is guaranteeing payment of a $1.5 million term loan issued by the bank to an unaffiliated insurance agency. In the event of default on the term loan by the insurance agency, the Company is obligated to pay any outstanding principal (up to a maximum of $1.5 million), as well as any accrued interest on the loan, and any costs incurred by the bank in the collection process. In exchange for the Company’s guaranty, the president and member of the insurance agency pledged 100% of the common shares of two other insurance agencies that he wholly owns. In the event of default on the term loan by the insurance agency, the Company has the right to sell any or all of the pledged insurance agencies’ common shares and use the proceeds from the sale to recover any amounts paid under the guaranty agreement. Any excess proceeds would be paid to the shareholder. As of December 31, 2003, no liability has been recorded with respect to the Company’s obligations under the guaranty agreement, since no premium exists in excess of the guaranteed amount.
Effective January 1, 2002, the Company adopted SFAS No. 142 “Goodwill and Other Intangible Assets”. SFAS No. 142 eliminates the amortization of goodwill. In addition, the Company is required to test, at least annually, all existing goodwill for impairment using a fair value approach, on a reporting unit basis. Also pursuant to SFAS No. 142, the Company is required to test for impairment more frequently if events or changes in circumstances indicate that the asset might be impaired. Upon implementation of SFAS No. 142 in 2002, the Company is no longer amortizing goodwill. Net income would have increased by $1,561,000 in 2001 if the amortization of goodwill had ceased as of January 1, 2001.
The Financial Account Standards Board (“FASB”) has issued SFAS No. 144 “Accounting for the Impairment or Disposal of Long-Lived Assets”. Under SFAS No. 144, for periods starting January 1, 2002 or thereafter, discontinued operations are measured at the lower of carrying value or fair value less costs to sell, rather than on a net realizable value basis. SFAS No. 144 also broadens the definition of discontinued operations to include a component of an entity (rather than only a segment of a business). The adoption of this statement had no effect on the Company’s financial statements.
Effective January 1, 2003, the Company adopted the requirements of SFAS No. 148 “Accounting for Stock-Based Compensation - Transition and Disclosure - an amendment of FASB Statement No. 123” utilizing the prospective method. SFAS No. 148, for periods starting after December 15, 2003 or thereafter, provides three optional transition methods for entities that decide to voluntarily adopt the fair value recognition principles of SFAS No 123, “Accounting for Stock-Based Compensation”, and modifies the disclosure requirements of that Statement. Under the prospective method, stock-based compensation expense is recognized for awards granted after the beginning of the fiscal year in which the change is made. The modified prospective method recognizes stock-based compensation expense related to new and unvested awards in the year of change equal to that which would have been recognized had SFAS No. 123 been adopted as of its effective date, fiscal years beginning after December 15, 1994. The retrospective restatement method recognizes stock compensation costs for the year of change and restates financial statements for all prior periods presented as though the fair value recognition provisions of SFAS No. 123 had been adopted as of its effective date. Upon implementation of SFAS No. 148 in 2003, the Company is recognizing stock-based compensation expense for awards granted after January 1, 2003. Compensation expense of $189,000 has been recorded for stock option grants issued during 2003. See Note 11 for additional information regarding the effect of the adoption of SFAS No. 148.
In January 2003, the FASB issued FIN No. 46, “Consolidation of Variable Interest Entities.” The primary objective of FIN No. 46 is to provide guidance on the identification of, and financial reporting for, entities over which control is achieved through means other than voting rights; such entities are known as variable interest entities. FIN No. 46 requires variable interest entities to be consolidated by the primary beneficiary of the variable interest entities and expands disclosure requirements for both variable interest entities that are consolidated as well as those within which an enterprise holds a significant variable interest. In accordance with FIN 46, the Company performed an evaluation of its business relationships and determined that Meadowbrook Capital Trust I (“Trust”) is a variable interest entity; however, the Trust did not meet the qualifications for consolidation as the Trust equity was deemed to not be at risk. The adoption of FIN No. 46 did not have a material impact on the Company’s consolidated balance sheet and had no impact on its consolidated statement of income. See Note 7 for additional information regarding the Company’s unconsolidated subsidiary trust.
In December 2003, the FASB issued FIN No. 46(R), “Consolidation of Variable Interest Entities.” FIN No. 46(R) addresses certain implementation issues that arose after the issuance of FIN No. 46, which it supercedes. The Company is required to adopt FIN No. 46(R) for the first quarter ending March 31, 2004. The Company is currently evaluating the impact FIN No. 46(R) will have on its financial statements.
This Form 10-K may provide information including certain statements which constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These include statements regarding the intent, belief, or current expectations of the Company’s management, including, but not limited to, those statements that use the words “believes”, “expects”, “anticipates”, “estimates”, or similar expressions. You are cautioned that any such forward-looking statements are not guarantees of future performance and involve a number of risks and uncertainties, and results could differ materially from those indicated by such forward-looking statements. Among the important factors that could cause actual results to differ materially from those indicated by such forward-looking statements are: the frequency and severity of claims; uncertainties inherent in reserve estimates; catastrophic events; a change in the demand for, pricing of, availability or collectibility of reinsurance; increased rate pressure on premiums; obtainment of certain rate increases in current market conditions; investment rate of return; changes in and adherence to insurance regulation; actions taken by regulators, rating agencies or lenders; obtainment of certain processing efficiencies; changing rates of inflation; general economic conditions and other risks identified in the Company’s reports and registration statements filed with the Securities and Exchange Commission. The Company is not under any obligation to (and expressly disclaims any such obligation to) update or alter its forward-looking statements whether as a result of new information, future events or otherwise.