We lease our principal executive offices in Hamilton Bermuda, which also houses our reinsurance operations. Our U.S. executive offices are located in leased premises of approximately 34 thousand square feet in Poughkeepsie, New York, which we moved into on December 17, 2007. We operate our primary insurance segment east coast operations and fee based management services from these offices. Our west coast primary insurance segment operations are located in leased premises of approximately 26 thousand square feet in San Francisco, California, which we moved into in October 29, 2007. We also rent additional office for our primary insurance and fee based operations in 2 other locations. We believe that such leased properties are suitable and adequate for our current business operations.
The following table sets forth our selected historical consolidated financial information for the periods ended and as of the dates indicated. The selected consolidated statement of operations information for the years ended December 31, 2009, 2008 and 2007 and the selected consolidated balance sheet information as of December 31, 2009 and 2008 are derived from our audited consolidated financial statements included elsewhere in this Annual Report on Form 10-K. The selected consolidated statement of operations information for the years ended December 31, 2006 and 2005 and the selected consolidated balance sheet information as of December 31, 2007, 2006 and 2005 are derived from our audited consolidated financial statements not included in this Annual Report on Form 10-K.
On September 8, 2008, we ceased operations of our subsidiaries, CRM and Eimar. Accordingly, the results of operations of CRM and Eimar are reported as discontinued operations for all periods presented.
The historical results are not necessarily indicative of results to be expected in any future period. You should read the following selected consolidated financial information in conjunction with the information contained in this Annual Report on Form 10-K, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations” under
We did not achieve our overall business, financial and shareholder performance expectations for fiscal year 2009. Our net loss from continuing operations was $45.0 million compared to net income from continuing operations of $2.0 million for 2008. The major factors contributing to the swing in profits were:
In December 2009, A.M. Best downgraded the financial strength rating of Majestic to “B++” (Good) from “A-” (Excellent). These rating actions reflected A.M. Best’s concern over the potential impact on Majestic and Twin Bridges from the regulatory and litigation issues we face. In addition, A.M. Best’s concerns were further compounded by the sizeable deterioration in our overall earnings and the increased level of dependence on Majestic to support our holding company operations. The ratings will remain under review until the financial impact of the regulatory and litigation issues are evaluated and we provide A.M Best with additional information with respect to any funding that may be required in connection with these issues.
We are subject to an investigation and potential litigation by the NY Attorney General in connection with CRM’s self-insured group administration practices and our initial public offering in December 2005. In addition, the closure of our self-insured groups and our discontinued New York fee-based management services business has resulted in several lawsuits against us.
Lingering effects of soft insurance market pricing could continue to affect growth rates and earned premium levels into 2010 and perhaps later, depending on when insurance market conditions improve. These conditions continue to weaken loss ratios and hamper near-term profitability. Economic factors, including inflation, may increase our claims and settlement expenses related to medical care.
The weak economy may continue to affect policyholders by deflating insured payrolls, and until the economy significantly strengthens, we may not see significant premium growth.
Between 2004 and 2007, California benchmark rates experienced a significant downward trend, which resulted in soft market conditions. The reduction in rates was based on legislative reforms adopted by California in 2003 and 2004, which had the goal of reducing over time the medical and indemnity expenses incurred by insurance companies under workers’ compensation policies. The benchmark rates in California fell 63% percent from their high in 2003.
Beginning in 2008, market conditions indicated a stabilizing to California’s benchmark rates. However, the pricing in the California market has remained soft. The benchmark rating actions in California since 2008 have included:
In January 2008, the Commissioner recommended no change in workers’ compensation insurance benchmark rates based upon his review of the data provided by the WCIRB at that time.
The California Insurance Commissioner’s decisions are advisory only and insurance companies may choose whether or not to adopt the new rates. We set our own California premium rates based upon actuarial analysis of current and anticipated cost trends including any modifications to the workers’ compensation system, while maintaining our goal of achieving underwriting profits.
New York’s Premium Rates. Workers’ compensation rates in New York have experienced significant pricing pressure since the legislative reforms adopted in March 2007. Following almost two years of relatively stable rates, in July 2007, the New York State Superintendent of Insurance ordered that overall policyholders’ costs for workers’ compensation be reduced by an average of 20.5% effective October 1, 2007. This 20.5% reduction included both changes in the workers’ compensation rates set by the New York State Workers’ Compensation Board as well as a change to the New York State assessment. The rate reduction was based upon an analysis of the impact of the reforms and market trends associated with New York’s 2007 Workers’ Compensation Reform Act signed into law in March 2007, which was intended to create a significantly less expensive system of workers’ compensation in New York while increasing the weekly benefits paid to injured workers. In addition, in February 2008, New York State enacted related legislation that requires workers’ compensation insurers to establish premiums based on loss cost multipliers instead of a mandated rate. In August 2008, it was announced that workers’ compensation rates in New York would be reduced by an additional 5% percent for 2009, bringing the total reduction to about 25% from the 2007 pre-reform rates.
Ceded premiums earned also include reinstatement premiums. Reinstatement premiums represent additional premiums payable to reinsurers to maintain coverage purchased under excess of loss reinsurance contracts. These contracts generally contain provisions requiring payment of additional premiums based on a percentage of ceded losses in the event that losses of a defined magnitude are ceded under such contracts. Reserves are established for potential reinstatement premiums and are recorded once estimated actuarial loss reserves exceed the defined limits.
A portion of Majestic’s premiums are written on an adjustable basis, and premiums from those policies can be adjusted retrospectively in accordance with the actual loss experience of the policyholders’ claims arising during the policy term. These retrospective premium adjustments are periodically made to the net premiums earned to reflect the changes in the estimation of the policyholders’ ultimate losses as more information becomes available over time.
Earned but unbilled premiums include estimated future audit premiums and are subject to changes in payrolls due to growth, economic conditions and seasonality. The estimates are continually reviewed and adjusted as experience develops or new information becomes known. Any such adjustments are included in current operations. At the end of the policy terms, payroll-based premium audits are performed to determine earned premiums for that policy year and the premiums are adjusted and billed accordingly.
Investment Income. Our investment income is dependent upon the average invested assets in our portfolio and the yield that we earn on those invested assets. Our investment yield depends on market interest rates and the credit quality and maturity period of our invested assets. In addition, we realize capital gains or losses on sales of investments and realize losses on impairment of investments as a result of changing market conditions, including changes in market interest rates and changes in the credit quality of our invested assets. Investment income is recorded net of investment expenses.
Losses and Loss Adjustment Expenses. Losses and loss adjustment expenses reflect our best estimate, using various actuarial analyses, of ultimate losses and loss adjustment expenses, net of any reinsurance recoverables, we expect to incur on each primary insurance and reinsurance contract written. Actual losses and loss adjustment expenses will depend on actual costs to settle our claims and the actual expenses incurred in settling the claims.
Policy Acquisition Costs. Policy acquisition costs consist principally of commissions, premium taxes and certain underwriting and other policy issuance costs related to the production of new and renewal business.
Selling, General and Administrative Expenses. Selling, general and administrative expenses consist primarily of personnel expenses, professional fees and other operating costs.
Impact of Changes in Key Assumptions on Reserve Volatility. The most significant factor currently impacting our loss reserve estimates is the reliance on historical reserving patterns and loss payments from Majestic and Twin Bridges and the industry, also referred to as loss development patterns. The actuarial methods that we use depend at varying levels on loss development patterns based on past information. Development is defined as the difference, on successive valuation dates, between observed values of certain fundamental metrics that may be used in the loss reserve estimation process. For example, the data may be paid losses, case incurred losses and the change in case reserves or claim counts, including reported claims, closed claims or reopened claims. Development can be expected, meaning it is consistent with prior results; favorable (better than expected); or unfavorable (worse than expected). In all cases, we are comparing the actual development of the data in the current valuation with what was expected based on the historical patterns in the underlying data. Favorable development indicates a basis for reducing the estimated ultimate loss amounts, thereby increasing net income, while unfavorable development indicates a basis for increasing the estimated ultimate loss amounts, thereby decreasing net income. We reflect the favorable or unfavorable development in loss reserves in the results of operations in the period in which the ultimate loss estimates are changed.
The predictive ability of loss development factors is dependent on consistent underwriting, claims handling, and inflation, among other factors, and predictable legislatively and judicially imposed legal requirements. If all things remain equal, losses incurred in 2009 should develop similarly to losses incurred in 2008 and prior years. Thus, if the net loss ratio, which is calculated by dividing the loss and loss adjustment expense by net premiums earned, for premiums written in year one is 94% we expect that the net loss ratio for premiums written in year 2 also would be 94%. However, due to the inherent uncertainty in the loss development factors, our actual liabilities may differ significantly from our original estimates.
Our estimated ultimate losses for accident year 2009 are based on a combination of the three primary methods described in Item 1 above under the heading “Business - Primary Insurance Segment - Reserves for Losses and Loss Adjustment Expenses,” plus consideration of trended pure premiums. This is consistent with our reserving approach for the current accident year at prior year-end valuations. During the year ended December 31, 2009, we adjusted our current year estimated loss ratio in the primary insurance segment to 96% from 77%. We adjusted the estimated loss ratio for 2009 due to an increase in our claims’ severity trend in California in the fourth quarter of 2009 which resulted in higher than expected losses associated with primary insurance business underwritten in California.
In our primary insurance policy business, our paid loss data for state act indemnity for California displayed increasing, or inflationary, trends over the most recent valuations at December 31, 2009. The increasing trends are exhibited in the paid loss development data for the 2008 accident year. The decision to increase the estimated ultimate losses for accident year 2008 was appropriately made, as the underlying loss data showed deterioration over the prior twelve months. We did not see similar increase in paid loss development for the 2004 through 2007 accident years. Accordingly, we have not increased the estimated ultimate losses for those accident years. We believe that our loss development factor selections are appropriate given the relative immaturity of our data. Over time, as the data for these accident years mature and uncertainty surrounding the ultimate outcome of the claim costs and associated loss adjustment expenses diminishes, the full impact of the actual loss development will be factored into our assumptions and selections.
Claim cost inflation can result from medical cost inflation, wage inflation and severity of injury. As discussed above, the actuarial methods employed include an amount for claim cost inflation based on historical experience with some adjustment in cases of legislative reforms. We assume that the historical effect of this factor, which is embedded in our experience and industry experience, is representative of future effects for claim inflation. To the extent that the historical factors and the actuarial methods utilized, are inadequate to recognize future inflationary trends, our unpaid loss and loss adjustment expense liabilities may be inadequate. The more recent accident years are subject to greater variability. If our estimate of future loss cost trends is three percentage points inadequate (e.g., if we estimate a 6% annual trend and the actual trend is 9%), our unpaid loss and loss adjustment expense liability in our primary insurance segment would be inadequate by approximately $7.8 million on a pre-tax basis, or 2%, as of December 31, 2009. Using the same assumptions for reinsurance segment, our unpaid loss and loss adjustment expense liabilities in our reinsurance segment would be inadequate by approximately $1.1 million on a pre-tax basis, or 3%, as of December 31, 2009. Under these assumptions, the inadequacy of approximately $8.9 million represents approximately 15% of total shareholders’ equity at December 31, 2009. The impact of any reserve deficiencies, or redundancies, on our reported results and future earnings is discussed below.
We review our reserves on a quarterly basis to determine whether they are consistent with our actual results. In the event of a discrepancy, we would seek to determine the causes (underwriting, claims, inflation, regulatory) and would adjust our reserves accordingly. In the event that our estimates of ultimate unpaid loss and loss adjustment expense liabilities prove to be greater or less than the ultimate liability, our earnings and financial position could be positively or negatively impacted. Earnings would be reduced by the amount of any deficiencies in the year(s) in which the claims are paid or the unpaid loss and loss adjustment expense liabilities are increased. For example, if we determined our unpaid loss and loss adjustment expense liability in our primary insurance segment of $283.8 million as of December 31, 2009 to be 5% inadequate, we would experience a pre-tax reduction in earnings of approximately $14.2 million. If we determined our unpaid loss and loss adjustment expense liability in our reinsurance segment of $33.7 million as of December 31, 2009 to be 5% inadequate, we would experience a pre-tax reduction in earnings of approximately $1.7 million. The reduction could be realized in the year when the deficiency is identified. The deficiency would also impact our financial position because our statutory surplus would be reduced by an amount equivalent to the reduction in net income. Any deficiency is typically recognized in the unpaid loss and loss adjustment expense liability and, accordingly, it typically does not have a material effect on our liquidity because the claims have not been paid. Since the claims will typically be paid out over a multi-year period, we have generally been able to adjust our investments to match the anticipated future claim payments. Conversely, if our estimates of ultimate unpaid loss and loss adjustment expense liabilities prove to be redundant, our future earnings and financial position would be improved.
our intent and ability to keep the security for a sufficient time period for it to recover its value;
Premiums receivable include primary insurance and reinsurance premium amounts due from policyholders. Premiums receivable are recorded net of any allowance for estimated uncollectible premiums. The allowance for doubtful accounts represents management’s best estimate of uncollectible premiums included in premiums receivable.
The estimate of a reporting unit’s fair value may be based on one or a combination of approaches including (1) the ratio of market value to book value for the unit’s peer companies, and (2) the sales prices of acquired peer companies relative to their trading stock market values. Other key inputs, judgments and assumptions relevant to the determination of the estimated fair value of the reporting unit include projected earnings, current book value, regulatory rating of the reporting unit, the level of economic capital required to support the mix of business, long-term growth rates, and projections of new and renewal business.
Based on the accounting guidance, our assumptions are limited to business strategies which we can control. Given these limitations, we concluded that estimated future taxable income and certain tax planning strategies no longer constituted sufficient positive evidence to assert that it is more likely than not that the net deferred tax assets would be realizable in the foreseeable future. Consequently, we recorded a net deferred tax valuation allowance of $17.1 million during the year ended December 31, 2009.
At and for the year ended December 31, 2009, we had consolidated shareholders’ equity of $60.7 million but a loss from continuing operations before taxes of $40.8 million. As a result, management evaluated whether we have the ability to continue as a going concern. In its analysis, management analyzed each subsidiary company to determine whether it had sufficient assets to meet its obligations as they become due in the foreseeable future.
Our insurance subsidiary, Majestic experienced an operating loss before income taxes of $21.6 million for the year ended December 31, 2009; it had $308.4 million in cash and invested assets, $30.0 million in retained earnings and total shareholders’ equity of $82.7 million. Our reinsurance subsidiary Twin Bridges had break even operating results for the year ended December 31, 2009, had cash and invested assets of $20.0 million, $23.8 million in additional paid in capital and total shareholders’ equity of $22.2 million. Consequently, management concluded that both Majestic and Twin Bridges had sufficient liquid assets to meet their obligations as they become due in the foreseeable future.
CRM Holdings, CRM USA Holdings and Embarcadero (the “Holding Companies”) generate no revenues and are obligated to pay expenses related to debt service, public company and other general corporate overhead expenses. The Holding Companies rely upon dividends and/or distributions of capital from their subsidiaries to meet these obligations. However, as regulated insurance companies, Majestic and Twin Bridges are subject to significant regulatory restrictions limiting their ability to declare and pay dividends and/or distribute capital as described in "Item 1 - Regulation" and Note 21 of the notes to our consolidated financial statements included in Item 8.
To conserve cash in order meet the obligations of the Holding Companies, CRM CA and discontinued operations, management has established a plan, which includes the following aspects:
Management has obtained approval from the Bermuda Monetary Authority for its Twin Bridges subsidiary to pay a substantial distribution to the parent company in 2010.
Management has begun cost cutting measures at the Holding Companies which include pay cuts for executive management and the Board of Directors. Further substantial cost cutting measures at the Holding Companies and operating companies are also commencing.
Given the recent downgrade by AM Best of Majestic’s rating to "B++," management is negotiating to partner with an A rated carrier to minimize the loss of clients that require policies issued by an A rated insurance company.
Based on this plan, management has concluded that the Holdings Companies as well as the operating companies and discontinued operations will have sufficient cash to meet their obligations as they become due in the foreseeable future.
In June 2009, the FASB issued revised guidance on the accounting for variable interest entities. The revised guidance, which is now part of ASC 810, Consolidations, amends the consolidation rules applicable to a variable interest entity (“VIE”). In addition, the revised guidance amends the rules governing the determination of whether an enterprise is the primary beneficiary of a VIE, and is therefore required to consolidate an entity, by requiring a qualitative analysis rather than a quantitative analysis. The qualitative analysis will include, among other things, consideration of who has the power to direct the activities of the entity that most significantly impact the entity’s economic performance and who has the obligation to absorb losses or the right to receive benefits of the VIE that could potentially be significant to the VIE and requires continuous reassessments of whether an enterprise is the primary beneficiary of a VIE. Previous guidance required reconsideration of whether an enterprise was the primary beneficiary of a VIE only when specific events had occurred. Finally, the revised guidance requires enhanced disclosures about an enterprise’s involvement with a VIE and is effective for fiscal years beginning after November 15, 2009, and for interim periods within those fiscal years. Early adoption is prohibited. We are currently evaluating the potential impact, if any, of the adoption of the revised guidance on our financial condition and results of operations.
a $1.0 million increase in our reserves for potentially uncollectible receivables in our primary insurance segment.
Provision for Income Taxes. We recorded income tax expense from continuing operations of $4.2 million in 2009, compared to an income tax benefit of $1.9 million in 2008. Our 2009 income tax expense includes the non-cash full valuation allowance established with respect to our net deferred tax asset, somewhat offset by the net income tax benefits on taxable losses of our U.S. domiciled subsidiaries that are included in continuing operations. CRM Holdings and Twin Bridges, our Bermuda domiciled subsidiaries, are not subject to U.S. income taxation.
Income tax expense for the year ended December 31, 2009 included a current tax benefit of $4.7 million, a deferred tax benefit of $7.7 million and a $16.7 million non-cash valuation allowance on our net deferred tax assets. For additional information concerning the valuation allowance related to our deferred tax asset, see “Item 8. Financial Statements - Note 14. Income Taxes.” The deferred tax benefit of $7.7 million included the tax benefit related to $15.4 million of net operating loss carryforwards as well as the impact of temporary differences from net loss reserves, unearned premiums and compensation and employee benefits being reported differently for financial statement purposes than for federal income tax purposes.
The income tax benefit for 2008 included a current tax benefit of $1.1 million and a deferred tax benefit of $0.8 million. The current tax benefit of $1.1 million in 2008 was primarily due to the tax impact of net losses of our corporate and other segment somewhat offset by net income in our primary insurance and fee-based management services segments. The deferred tax provision of $0.8 million was primarily due to temporary reporting differences of net loss reserves, unearned premium reserves and deferred policy acquisition costs for financial statement purposes and for federal income tax purposes.
Net Loss. Consolidated net loss for the year ended December 31, 2009 was $46.8 million compared to $1.5 million in 2008. The increase in our net loss is principally attributable to the establishment of a deferred tax valuation allowance, decreases in the operating results in our primary segment and reinsurance segments, severance expense for our former co-chief executive officers in our corporate and other segment, and the write off of goodwill in our primary insurance segment.
a $21.4 million increase in our consolidated loss and loss adjustment expenses where higher losses and loss adjustment expenses in both the primary and reinsurance segments resulting from increases in business underwritten, were offset by prior accident year favorable loss reserve development,
an $8.6 million increase in selling, general and administrative expenses in our primary insurance segment, offset by a $7.1 million decrease in selling, general and administrative expenses in our fee-based management services segment.
Provision for Income Taxes. We recorded an income tax benefit from continuing operations of $1.9 million for 2008, compared to a $1.0 million income tax provision for 2007.
The income tax benefit for 2008 included a current tax benefit of $1.1 million and a deferred tax benefit of $0.8 million. The current tax benefit of $1.1 million in 2008 was primarily due to the tax impact of net losses of our corporate and other segment somewhat offset by net income in our primary insurance and fee-based management services segment. The deferred tax provision of $0.8 million was primarily due to temporary reporting differences of net loss reserves, unearned premium reserves and deferred policy acquisition costs for financial statement purposes and for federal income tax purposes.
Discontinued Operations. We recorded net losses of $3.5 million and income of $2.1 million on discontinued operations for 2008 and 2007, respectively.
The loss and loss adjustment expense ratio is calculated by dividing losses and loss adjustment expenses by net premiums earned.
For losses incurred between July 1, 2009 and June 30, 2010, Majestic entered into a 43% ceded quota share agreement with Aspen Re and Axis. The cession percentage reflects the 80% placement with Aspen Re and Axis under the 43% quota share agreement.
These decreases were offset by a 1.9 million increase in premiums assumed from the National Council on Compensation Insurance, Inc (“NCCI”) residual New Jersey market pool in 2009 as compared to 2008.
Net Investment Income. Net investment income increased $3.4 million, or 27%, to $16.0 million in 2009, from $12.6 million in 2008. Of the increase, $3.2 million was attributable to higher net realized gains on our available for sale portfolio in 2009 as compared to 2008. In order to maximize after tax yields of our investment portfolio in 2009, Majestic sold municipal bond holdings and reinvested the proceeds in taxable fixed-maturity securities.
Losses and Loss Adjustment Expenses. Losses and loss adjustment expenses increased $5.4 million, or 8%, to $73.7 million in 2009, from $68.3 million in 2008. The losses and loss adjustment expense ratio for Majestic was 105% in 2009 as compared to 73% in 2008. Our losses and loss adjustment expenses did not decrease in the same proportion as the decrease in our net earned premiums. This was based on primarily two factors - an increased current year accident loss ratio and a change from favorable development to unfavorable development of prior accident years.
Policy Acquisition Costs. Policy acquisition costs increased $0.2 million, or 2%, to $12.9 million in 2009 compared to $12.7 million in 2008. Higher regulatory expenses on policies underwritten in New York and assumed under the NCCI Inc residual New Jersey market pool were offset by: (1) higher ceding commission income on the quota share agreements described above in “Primary Insurance Segment Results of Operations 2009 Compared to 2008 - Net Premiums Earned,” and (2) lower broker commissions and premiums taxes as a result of lower net earned premiums.
The effects of reduced premium volume, the goodwill impairment charge and an increase in our reserves for uncollectible receivables resulted in underwriting expense ratios of 47% and 34% for 2009 and 2008, respectively.
Interest Expense. Interest expense increased $0.4 million, or 41%, to $1.5 million in 2009 compared to $1.1 million in 2008 as a result of increased balances provided by third party reinsurers and Twin Bridges as collateral for unpaid ceded liabilities under reinsurance agreements.
(Loss) Income from Continuing Operations before Income Taxes. Loss from continuing operations before income taxes was $21.6 million in 2009 as compared to income from continuing operations before income taxes of $4.8 million in 2008. The change from net income to a net loss was principally attributable to lower net earned premiums, the goodwill impairment charge and increased reserves for uncollectible receivables.
Net Premiums Earned. Net premiums earned increased $1.7 million, or 2%, to $93.3 million in 2008 from $91.6 million in 2007.
During 2008, we increased our primary insurance gross earned premiums by $13.4 million, which was primarily attributable to growth in New York and New Jersey. The increase was offset by decreases in premiums in California and by premiums ceded to reinsurers under quota share agreements that were effective in 2008. Majestic ceded an average of 34% of its primary insurance premiums to affiliate and third party reinsurers during 2008, whereas Majestic had no primary quota share agreements in place during 2007. The increase was also offset by a decrease in premiums resulting from the run-off of insurance previously written under the United States Longshore and Harbor Workers’ Compensation Act, which we voluntarily ceased writing in 2007.
Net Investment Income. Net investment income increased $4.2 million, or 50%, to $12.6 million in 2008, from $8.4 million in 2007. This increase was primarily due to $4.1 million of recorded gains on our available-for-sale portfolio in 2008 and $2.2 million of investment income from increased investment holdings. These increases were somewhat offset by $1.9 million of recorded losses from available-for-sale securities that were either deemed to be other-than-temporarily impaired or were sold at a loss.
Policy Acquisition Costs. Policy acquisition costs decreased $2.7 million, or 17%, to $12.7 million in 2008, from $15.4 million in 2007. This decrease was primarily due to Majestic receiving ceding commission income on affiliate and third party primary quota share agreements effective during in 2008. There were no primary quota share agreements in place in 2007.
Selling, General and Administrative Expenses. Selling, general and administrative expenses increased $8.6 million, or 82%, to $19.1 million in 2008, from $10.5 million in 2007. The increase was primarily due to $7.8 million of allocated general corporate overhead expenses from our corporate and other segment and a $1.4 million reserve established for uncollectible receivables, offset by a decrease in state guarantee fund assessments.
Interest Expense. Interest expense increased $0.5 million, or 100%, to $1.0 million in 2008, from $0.5 million in 2007. The increase was primarily due to the full year effects of interest expense on funds provided by Twin Bridges as collateral for unpaid ceded liabilities under reinsurance agreements in place in during 2008. The funds withheld arrangement between Majestic and Twin Bridges was only in effect in the fourth quarter of 2007.
Income from Continuing Operations before Income Taxes. Income from continuing operations before income taxes attributable to the primary insurance segment in 2008 was $4.8 million compared to $16.2 million for 2007, a decrease of 70%. The decrease in income from continuing operations before taxes was principally attributed to increases in loss and loss adjustment expenses and selling, general and administrative expenses, somewhat offset by an increase in investment income, net premiums earned and ceding commission income.
The GAAP combined ratio is the sum of the loss and loss adjustment expense ratio and the underwriting expense ratio.
The decrease in net premiums earned was primarily attributable to lower premiums assumed by Twin Bridges from Majestic under affiliate reinsurance agreements. A decrease in Majestic’s gross earned premiums as discussed above in “Primary Segment Results of Operations 2009 Compared to 2008 - Net Premiums Earned” resulted in a lower base of premiums for Twin Bridges to assume. In addition, due to changes in the terms of the primary quota share and excess of loss reinsurance treaties, Twin Bridges assumed a lower percentage of premiums from Majestic under those reinsurance agreements in 2009 as compared to 2008.
Net Investment Income. Net investment income decreased $0.7 million, or 31%, to $1.4 million in 2009, from $2.1 million in 2008. During 2009, Twin Bridges distributed $6.0 million of capital to its parent company, CRM Holdings which resulted in lower investment holdings and investment income at Twin Bridges in 2009 as compared to 2008.
For Twin Bridges’ current accident year loss ratio, the factors described above in “Primary Segment Results of Operations 2009 Compared to 2008 - Losses and Loss Adjustment Expenses” resulted in a higher current year loss ratio on the primary policies assumed from Majestic.
In 2008, Twin Bridges experienced favorable loss reserve development of $2.0 million. This favorable development was from prior accident years for losses under its excess quota share agreements and was based on primarily two factors -- lower than expected claims frequency and a change to the selection of Twin Bridges' actuarial estimate. Twin Bridges' loss reserves were generally calculated using industry development data since it had limited historical loss experience. During 2008, Twin Bridges had fewer claims emerge under its excess quota share agreements than what was expected by the industry average number of reported claims. This reduced claims frequency resulted in Twin Bridges recognizing favorable development. In addition, based, in part, on the lower claims frequency, Twin Bridges changed the selection of its actuarial estimate. Prior to 2008, Twin Bridges established its loss reserves at the actuary's higher, moderately conservative level of expected outcomes for all risks. During 2008, based on the lower than industry average number of reported claims and other relevant business factors, Twin Bridges loss reserves were established at the actuary’s best estimate of expected outcomes for assumed risks originating in California, and at a higher, moderately conservative level for risks in other states. This change resulted in Twin Bridges recognizing favorable development related to prior years.
Net Premiums Earned. Net premiums earned increased $3.3 million, or 13%, to $28.6 million in 2008, from $25.3 million in 2007. The increase was primarily due to increases in premiums assumed by Twin Bridges from Majestic under the primary quota share agreement and excess of loss reinsurance treaty, offset by a reduction in premiums ceded from Majestic to Twin Bridges under the excess quota share agreement.
Twin Bridges assumed 40% of primary insurance policy premium for the three months ended March 31, 2008 and assumed 5% of primary insurance policy premiums from Majestic thereafter.
Twin Bridges current year accident loss ratio for 2008 was 67%, as compared to 37% for 2007. The increase was primarily attributable to a higher loss ratio resulting from the assumption of primary insurance business from Majestic under the primary quota shares agreement and excess of loss treaty, as described above in “Reinsurance Segment Results of Operations 2008 Compared to 2007 - Net Premiums Earned.”
Twin Bridges experienced $2.0 million and $2.7 million of net favorable development on prior accident years in 2008 and 2007, respectively. The prior year favorable development experienced in 2008 is described above in “Reinsurance Segment Results of Operations 2009 Compared to 2008 - Losses and Loss Adjustment Expenses.” In 2007, the favorable development on prior accident years resulted from lower than industry average number of reported claims on its assumed excess policies.
Policy Acquisition Costs. Policy acquisition costs increased $2.9 million, or 65%, to $7.4 million in 2008, from $4.5 million in 2007. The increase was primarily due to policy acquisition costs on the reinsurance activity described above in “Reinsurance Segment Results of Operations 2008 Compared to 2007 - Net Premiums Earned.”
Income from Continuing Operations before Income Taxes. Income from continuing operations before income taxes was $5.1 million in 2008 compared to $16.1 million in 2007, a decrease of 68%. The decrease in income from continuing operations before income taxes between the years ended December 31, 2008 and 2007 was principally attributable to increased losses and loss adjustment expenses and policy acquisition costs related to the increased net premiums ceded to Twin Bridges on Majestic’s primary insurance business as described above.
Fee-Based Management Services Segment Results of Operations 2009 Compared to 2008
Revenues from Fee-Based Management Services. Revenues from fee-based management services decreased $3.1 million, or 38%, to $5.1 million in 2009, from $8.2 million in 2008 principally as a result of
a reduction in the number of self-insured groups under management, and
Fees Paid to General Agents and Brokers. Fees paid to general agents and brokers decreased $2.1 million, or 51%, to $1.9 million in 2009 from $4.0 million in 2008. Similar to the reduction in revenues, the decline arises from fewer groups under management and lower payrolls of the groups’ members.
Fee-Based Management Services Segment Results of Operations 2008 Compared to 2007
Fees Paid to General Agents and Brokers. Fees paid to general agents and brokers increased $1.6 million, or 63%, to $4.0 million in 2008, from $2.4 million in 2007. This increase primarily resulted from the Cornerstone settlement described in “Item 8. Financial Statements - Note 16. Commitments.”
Net Investment Income. Net investment income was $0.1 million in 2009 compared to $0.2 million in 2008, a decrease of $0.1 million, or 60%. The decrease was primarily due to a decrease in the amount of invested assets in 2009 compared to 2008.
The retention of certain general corporate overhead expenses within our corporate and other segment in 2009 that were previously allocated to our primary insurance segment in 2008. General corporate overhead expenses retained by our corporate and other segment increased by $3.8 million in 2009. During 2009, Majestic paid $3.0 million in dividends to CRM USA Holdings, whereas Majestic did not pay any dividends during 2008.
Corporate and Other Segment Results of Operations 2008 Compared to 2007
Net Investment Income. Net investment income was $0.2 million in 2008 compared to $0.3 million in 2007, a decrease of $0.1 million, or 39%. The decrease was primarily due to a decrease in the amount of invested assets in 2008 compared to 2007.
the allocation of selling, general and administrative expenses to our primary insurance segment in 2008 whereas no expenses were allocated to the primary insurance segment in 2007, and
We are a holding company and our operating subsidiaries are the primary source of funds for our operations. We have two primary concerns in managing our liquidity. First, we need to ensure that there is adequate cash available in the insurance subsidiaries to pay claims. Second, we need to ensure that our holding companies, CRM Holdings, CRM USA Holdings and Embarcadero, which have no operating revenues, all have adequate cash to service their debt obligations and to pay income taxes and any other expenses. The management of capital resources is primarily concerned with ensuring that there is adequate capital to operate our insurance business within the criteria imposed by regulatory requirements and by rating agencies with respect to our financial strength ratings.
Sources of Liquidity. Majestic and Twin Bridges, our insurance and reinsurance subsidiaries, generally create liquidity because insurance and reinsurance premiums are collected prior to disbursements for claims which may take place many years after the collection of premiums. Collected premiums may be invested, until claims must be paid and investment income provides additional cash receipts. In periods in which disbursements for claims and benefits, current policy acquisition costs and current operating and other expenses exceed operating cash receipts, cash flow is negative. Such negative cash flow is offset by cash flow from investments, principally short-term investments and maturities of longer-term investments. The exact timing of the payment of claims and benefits cannot be predicted with certainty.
Majestic and Twin Bridges are subject to insurance regulations which restrict their ability to distribute dividends as discussed in greater detail in Item 1 under the heading “Regulation.” In addition, Majestic has agreed not to pay any dividends without prior approval of the California Department of Insurance as discussed in “Item 1 - Regulation - State Insurance Regulation in the United States - Dividend Limitations.” At December 31, 2009, Twin Bridges, which is required to have approximately $5.1 million in statutory capital and surplus in order to pay dividends, had approximately $22.1 million in statutory capital and surplus. In addition to these limitations, our U.S. operating subsidiaries are subject to a U.S. federal withholding tax of 30% on any dividends paid to CRM Holdings.
Majestic has the following letters of credit outstanding under the Comerica Credit Facility:
$21.0 million to the California Department of Insurance with respect to its unaffiliated reinsurers;
$1.5 million for lease obligations under its lease for San Francisco office space;
For obligations associated with liabilities ceded from Majestic, Twin Bridges posts collateral in the form of funds withheld. For obligations other than Majestic, Twin Bridges generally posts collateral in the form of letters of credit. In the past, Twin Bridges has relied on an informal arrangement with Morgan Stanley Smith Barney to obtain secured letters of credit. Under this arrangement, Twin Bridges has obtained collateralized letters of credit that are secured by cash, investments or a combination thereof. Letters of credit in the principal amount of $0.8 million were outstanding at December 31, 2009.
Net cash used in financing activities decreased $0.5 million in 2009 as compared to 2008. This increase was primarily attributable to an increase in restricted cash and cash equivalents on deposit with various regulatory agencies as required by law.
In securing its rating from A.M. Best, Majestic purchased quota share reinsurance coverage and ceded premiums and losses under the agreements as described above in “Item 1. Business - Primary Insurance Segment - Reinsurance.” Majestic’s purchase of quota share reinsurance was based, in part, on A.M. Best’s concern over limited capital being readily available. Under quota share reinsurance, the reinsurer accepts a pro rata share of the insurer’s, or ceding company’s, losses and an equal share of the applicable premiums. The reinsurer also pays the ceding company a fee, known as a ceding commission, which is usually a percentage of the premiums ceded. Quota share reinsurance allows the ceding company to increase the amount of business it could otherwise write by sharing the risks with the reinsurer. The effect of the quota share reinsurance on the ceding company is similar to increasing its capital which is the principal constraint on the amount of business an insurance company can prudently write.
We are currently exploring ways to enhance our capital position so that we can reduce or completely eliminate the need for quota share reinsurance arrangements without jeopardizing our financial strength ratings from A.M. Best. Our explorations are at the preliminary stage and we cannot determine whether or when additional capital will be available to us or what the amount, form or cost of the capital will be. If capital is available, it could involve substantial dilution to existing shareholders. Furthermore, we believe that our ability to raise additional capital will be adversely affected until there is greater clarity with respect to the pending regulatory matters and litigation as described above in “Item 3. Legal Proceedings.” If we cannot maintain or obtain adequate capital to manage our business strategy, our business, results of operations and financial condition would be materially and adversely affected.
Our common shares are currently traded on the Nasdaq Global Select Market under the symbol “CRMH.” Our common shares could be delisted from the Nasdaq Global Select Market if we fail to meet any of the continued listing standards of the Nasdaq Global Select Market. These continued listing standards include specifically enumerated criteria, including a $1.00 minimum closing bid price. On November 10, 2009, we received a Nasdaq Staff Deficiency Letter indicating that we fail to comply with the minimum bid price requirement for continued listing on the Nasdaq Global Select Market as set forth in Marketplace Rule 5450(a)(1). For additional information and the risks associated with the Nasdaq’s notice, see “Item 1A. Risk Factors - Our common shares could be delisted from the Nasdaq Global Select Market if we fail to continue to meet all applicable Nasdaq Global Select Market requirements” above.
We partially financed our acquisition of Embarcadero through the issuance of $36.1 million in junior subordinated debentures to CRM USA Holdings Trust I, a newly formed Delaware statutory trust that issued capital securities of $35.0 million and common securities of $1.1 million. We own 100% of the common securities issued by the trust. The junior subordinated debentures mature on December 15, 2036 and are callable after five years at our option at par plus accrued interest. The annual interest rate on the junior subordinated debentures is fixed until December 15, 2011 at 8.65%. Thereafter, the interest rate is three month LIBOR plus 3.65%. We do not consolidate the interest in the statutory business trust because we are not the primary beneficiary of the trusts. Our investment in common trust securities of the statutory business trust is reported in investments as equity securities. We report the outstanding subordinated debentures as a liability.
During the deferral period, we may not, except for intercompany dividends and distributions and subject to certain other exceptions, (a) declare or pay any dividends or distributions on, or redeem, purchase, acquire, or make a liquidation payment with respect to, any of their capital stock, (b) make any payments on, repay, repurchase or redeem any debt securities other than those that rank senior to the Debt Securities, (c) make any payment under any guarantees with respect thereto, or (d) enter into any contracts with 10% or greater shareholders.
On August 27, 2008, Majestic entered into a License and Services Agreement with Stone River Insurance Solutions Inc., formerly Fiserv Insurance Solutions, Inc. This License and Services Agreement is an integral part of our plans to replace components of our data processing systems, providing us with enhanced technology to remain competitive. We expect the implementation of this technology will increase the effectiveness and efficiency of our operations and facilitate future growth.
Under the License and Service Agreement, we are licensing integrated core technology and ancillary systems from Stone River. The core technology being licensed includes an integrated policy administration software system that provides processing for workers compensation insurance, including billing, underwriting, and policy administration functionality. Stone River is obligated to provide professional services for installation of the technology and training, and maintenance support services. The License and Service Agreement provides for an initial five year license and maintenance period and automatic renewal of the maintenance period after the initial five year term unless either party notifies the other of its intent not to renew. We are subject to termination fees for early termination of the initial term. Amounts capitalized under the License and Service Agreement will be financed through an operating lease. At December 31, 2009, we have entered into four installments under the operating lease and have $3.5 million of lease obligations outstanding under the License and Service Agreement. We estimate that remaining payments under the License and Service Agreement approximate $2.4 million and expect these amounts to be financed under the operating lease.
All of our outstanding financing obligations are included in the Consolidated Financial Statements and accompanying Notes contained in Item 8. The table below sets forth the amounts of our contractual obligations, including interest payable, at December 31, 2009.
Other than the VIE described in “Item 8. Financial Statements and Supplementary Data - Note 1. Variable Interest Entity,” we have no off-balance sheet arrangements or transactions with unconsolidated, special purpose entities.
We have audited the consolidated balance sheet of CRM Holdings, Ltd. as of December 31, 2009, and the related consolidated statements of operations, shareholders' equity, and cash flows for the year then ended. Our audit also included the financial statement schedules listed in the Index at Item 15. These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audit.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of CRM Holdings, Ltd. at December 31, 2009, and the consolidated results of its operations and its cash flows for the year ended December 31, 2009, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
In our opinion, CRM Holdings Ltd. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2009, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of CRM Holdings Ltd. as of December 31, 2009, and the related statements of operations, shareholder’s equity, and cash flows for the year then ended and our report dated March 19, 2010 expressed an unqualified opinion thereon.
CRM USA Holdings has two other subsidiaries, CRM and Eimar, neither of which has active business operations. The Company ceased operations of CRM and Eimar effective September 8, 2008. Accordingly, the results of CRM and Eimar are reported as discontinued operations, as more fully described in Note 2.
The preparation of financial statements in conformity with GAAP requires management to adopt accounting policies and make estimates and assumptions that affect certain reported amounts and disclosures. These estimates are inherently subject to change, and actual results may ultimately differ materially from those estimates.
Certain prior year amounts have been reclassified to conform to the basis of presentation used in 2009.
The Company’s fixed-maturity securities are classified as available-for-sale and are reported at their estimated fair value based on quoted market prices or dealer quotes. Unrealized investment gains and losses on these securities are recorded as a separate component of accumulated other comprehensive income (loss), net of deferred income taxes to the extent the underlying investment is held in a taxable entity.
The cost of fixed-maturity securities is adjusted for impairments in value deemed to be other-than-temporary in the period in which the determination is made. These adjustments are recorded as realized losses. The Company does not change the revised cost basis for subsequent recoveries in value. The assessment of whether such impairment has occurred is based on management's case-by-case evaluation of the underlying reasons for the decline in fair value. The Company also considers the length and severity of the temporary impairment of an investment to determine whether the impairment is other than temporary.
Certain investments have been pledged as security under certain credit facilities, as more fully described in Note 12.
Certain short-term investments have been pledged as security under certain credit facilities, as more fully described in Note 12.
Restricted cash and cash equivalent balances have been pledged as security under certain credit facilities, as more fully described in Note 12.
Premiums receivable include primary insurance and reinsurance premiums due from policyholders and insurance carriers which cede premiums to the Company. Premiums receivable are reported net of any allowance for estimated uncollectible premiums. The allowance for doubtful accounts represents the Company’s best estimate of uncollectible premiums included in premiums receivable and amounted to $1.6 million and $0.7 million at December 31, 2009 and 2008, respectively. Premium receivables of $1.6 million, $1.3 million and $0.1 million were written off in 2009, 2008 and 2007, respectively.
Accounts receivable consist primarily of guarantee fund assessments from primary insurance policyholders, receivables for property tax credits, billed and unbilled management fees and other services receivable from the self-insured groups currently managed by CRM CA and formerly managed by CRM, and billed and unbilled commissions on excess insurance policies placed on behalf of these groups. Accounts receivable are carried at face value less any allowance for doubtful accounts.
Deferred policy acquisition costs include ceding commissions, broker commissions, premium taxes and certain underwriting and other policy issuance costs and are primarily related to the production of new and renewal business. These costs are deferred and amortized as the related insurance and reinsurance premiums are earned. Deferred policy acquisition costs are evaluated to determine if recorded amounts exceed estimated recoverable amounts after allowing for anticipated investment income. Premium deficiency, if any, is recorded as amortization of deferred policy acquisition costs. All other acquisition expenses are charged to operations as incurred.
The Company recorded goodwill impairment charges of $2.7 million and $0.1 million for the years ended December 31, 2009 and 2008, respectively, as described in Note 8. There were no goodwill impairment charges recorded for the year ended December 31, 2007.
The Company is subject to guaranty fund and other assessments by the states in which it writes business. These assessments are for the general welfare and protection of workers’ compensation policyholders. Guaranty fund assessments are accrued at the time premiums are written. Other assessments are accrued either at the time of assessment, or, in the case of premium-based assessments, at the time the premiums are written, or, in the case of loss-based assessments, at the time the losses are incurred. Liabilities for guaranty funds and other insurance-related assessments are not discounted and are included in other liabilities in the consolidated balance sheets.
The Company is permitted to pass certain assessments through to the policyholders. Assessment receivables are billed to policyholders as the assessments become due and are included in accounts receivable in the consolidated balances sheets as discussed above.
Premiums written are recognized in income ratably over the term of the policy. In respect to most of the policies written, premiums are based on the estimated payroll and loss experience of an employer and applicable premium rates. Unearned premiums represent the portion of premiums written which relate to the unexpired terms of policies in force.
Through excess of loss, quota share, and facultative reinsurance agreements, the Company cedes a portion of the risks it has underwritten to affiliate and third party reinsurers. Assumed reinsurance refers to the Company’s acceptance of certain insurance risks that affiliated and third party insurers have underwritten.
Reinsurance premiums assumed are accounted for on a basis consistent with the terms of the reinsurance contracts. The portion of reinsurance premiums assumed that relate to the remaining terms of the reinsurance policies at the balance sheet date are recorded as unearned premiums.
Reinsurance premiums ceded are reported as a reduction of premiums written. The portion of the reinsurance premiums ceded that relate to the remaining terms of the reinsurance policies at the balance sheet date are recorded as prepaid reinsurance premiums and included in Reinsurance Recoverable and Prepaid Reinsurance Premiums as described above.
Reinsurance premiums are subject to adjustment based upon modification to the premiums charged on the underlying policies. Such adjustments are reflected in current operations when estimable.
During the year ended December 31, 2009, the Company provided management and other related services to three self-insured groups. At December 31, 2009, the Company provided its services to one of these groups. During the years ended December 31, 2008 and 2007, the Company provided management and other related services to five self-insured groups. All of the fee-based management services revenues were from self-insured groups located in California.
Two self-insured groups accounted for 61% and 37% of the Company’s fee-based management services revenues for the year ended December 31, 2009, for 56% and 31% of the Company’s fee-based management services revenues for the year ended December 31, 2008 and for 59% and 27% of the Company’s fee-based management services revenues for the year ended December 31, 2007.
Advertising costs, including selling and marketing expenses, are expensed as incurred. Advertising costs totaling $0.5 million, $0.6 million and $0.7 million were included in selling, general and administrative expense for the years ended December 31, 2009, 2008 and 2007, respectively.
On March 13, 2009, Daniel G. Hickey Jr., resigned as the Company’s Chief Executive Officer, Chairman of the Board, and as a director and officer of the Company’s subsidiaries. The Company entered into a separation agreement with Mr. Hickey under which the Company (a) agreed to make cash payments of $3.3 million over the next three years; (b) immediately vested and distributed 46 thousand shares of restricted stock; and (c) agreed to pay medical and life insurance benefits for up to three years. The separation agreement prohibits Mr. Hickey from competing with the Company in the California self-insured group market until March 13, 2012 and from soliciting employees and customers through March 13, 2011. In conjunction with Mr. Hickey’s separation agreement, the Company recorded $3.8 million of severance expense in the first quarter of 2009.
CRM USA Holdings and its subsidiaries file a consolidated U.S. federal income tax return in accordance with a tax sharing agreement, under which the income tax provision (benefit) is allocated in accordance with each entity’s proportionate share of the consolidated provision (benefit) for income taxes.
In June 2009, the FASB issued FASB Statement No. 168, The FASB Accounting Standard Codification and Hierarchy of Generally Accepted Accounting Principles, a replacement of FASB Statement No. 162 which establishes the Accounting Standards Codification (the “ASC”) and Securities Exchange Commission (“SEC”) interpretive releases as the sources for authoritative GAAP. The ASC supersedes all existing non-SEC accounting and reporting standards under GAAP effective July 1, 2009 and is effective on a prospective basis for interim and annual reporting periods ending after September 15, 2009. The ASC is not intended to change existing GAAP. The adoption of the ASC changed the Company’s references to GAAP accounting standards but did not impact the Company’s consolidated financial condition and results of operations.
The Company is holding one fixed-maturity security issued by Lehman Brothers Holdings Inc. (“Lehman”) that was determined to be other-than-temporarily impaired. In September 2008, the Company recorded impairment charges on this investment as a result of Lehman’s bankruptcy filing. Consequently, the Company has determined that the other-than-temporary impairment was entirely due to credit loss and the adoption of the new other-than-temporary impairment guidance did not result in any cumulative-effect adjustment to the Company’s beginning retained earnings at April 1, 2009 or any material impact on its financial condition or results of operations.
In April 2009, the FASB issued new guidance related to the disclosure of the fair value of financial instruments. The new guidance, which is now part of ASC 825, Financial Instruments, requires disclosures about fair value of financial instruments in interim financial statements, as well as in annual financial statements. The new guidance requires disclosure of fair value information about financial instruments for which it is practical to estimate such fair value and excludes certain insurance related financial assets and liabilities and all non-financial instruments. The adoption of the new guidance did not have a material effect on the Company’s consolidated financial condition and results of operations.
In April 2009, the FASB issued new guidance for determining when a transaction is not orderly and for estimating fair value when there has been a significant decrease in the volume and level of activity for an asset or liability. Under the new guidance, which is now part of ASC 820, Fair Value Measurements and Disclosures, if an entity determines that there has been a significant decrease in the volume and level of activity for the asset or the liability in relation to the normal market activity for the asset or liability (or similar assets or liabilities), then transactions or quoted prices may not accurately reflect fair value. In addition, if there is evidence that the transaction for the asset or liability is not orderly, the entity shall place little, if any, weight on that transaction price as an indicator of fair value. The adoption of the new guidance did not have a material effect on the Company’s consolidated financial condition and results of operations.
In February 2008, the FASB issued new guidance for the accounting for non-financial assets and non-financial liabilities. The new guidance, which is now part of ASC 820, Fair Value Measurements and Disclosure, requires nonfinancial assets and nonfinancial liabilities that are measured on a nonrecurring basis in periods subsequent to initial recognition to be classified and disclosed based on the three level hierarchy described in Note 6. The adoption of the new guidance did not have a material effect on the Company’s consolidated financial condition and results of operations.
CRM no longer has self-insured groups under management in New York. The administration of the claims for all of the New York self-insured groups was transferred to third party administrators appointed by the New York Workers’ Compensation Board, and in accordance with the terms of a settlement agreement entered into between CRM and the New York Workers’ Compensation Board, CRM surrendered its third-party administrator’s license in New York on September 8, 2008. The surrender of CRM’s administrator’s license prohibits CRM from actively engaging in this business in New York. Consequently, the Company does not expect to derive any revenues from fee-based management services in New York currently or in the future and does not expect to incur any significant ongoing operating expenses, except for legal defense costs, in this component of fee-based management services.
For the year ended December 31, 2009, expenses primarily consisted of $1.6 million of legal defense costs related to the pending regulatory proceedings and litigation described in Note 20.
On October 1, 2007, the Company acquired the assets of Medical Expense Management, Incorporated (“Medical Expense Management”) whose operations were merged into Eimar. The acquisition was deemed to be an immaterial acquisition, and as such, additional disclosures have been omitted. Effective September 8, 2008, the results of Eimar, including the former Medical Expense Management operations, have been classified as discontinued operations. Consequently, goodwill and other intangible assets recorded upon the acquisition of Medical Expense Management have been impaired and written off as more fully described in Note 8.
Basic earnings per share is calculated using the weighted average number of common and Class B shares outstanding excluding any dilutive effects of warrants, options and convertible securities. As of December 31, 2009 and 2008, there were 423 thousand and 380 thousand restricted shares outstanding, respectively, and no warrants, options or convertible securities outstanding during the periods ended December 31, 2009 and 2008.
Diluted earnings per share is calculated assuming conversion of dilutive convertible securities and the exercise of all dilutive stock options and warrants using the treasury stock method. For the years ended December 31, 2009 and 2008, 326 thousand and 346 thousand restricted shares, respectively, were excluded from the computation of diluted earnings per share because their effects were anti-dilutive.
The amortized cost and estimated fair value of the Company’s available-for-sale investments at December 31, 2009 by contractual maturity are set forth below. Actual maturities may differ from contractual maturities because certain borrowers have the right to call or prepay obligations with or without call or prepayment penalties.
The following table sets forth the ratings distribution of the Company’s available-for-sale investments:
The following table sets forth the gross unrealized losses included in accumulated other comprehensive income in the consolidated balance sheets related to available-for-sale fixed-maturity securities. The table segregates investments that have been in a continuous unrealized loss position for less than 12 months from those that have been in a continuous unrealized loss position for 12 months or longer.
The Company regularly evaluates its fixed-income securities to determine whether impairment represents other-than-temporary declines in the fair value of the investments. Criteria considered during this process include but is not limited to:
Part of the evaluation of whether particular securities are other-than-temporarily impaired involves assessing whether the Company has both the intent and ability to continue to hold securities in an unrealized loss position until recovery. Significant changes in these factors could result in a charge to net earnings for impairment losses.
The Company determined that the decline in fair value of remaining available-for-sale investments is temporary based on the Company’s analysis of the securities, considering timing, liquidity, financial condition of the issuers, actual credit losses to date, severity and duration of the impairment and the Company’s intent not to sell and the likelihood it would not be required to sell the securities before they recover their value.
Majestic had available-for-sale and short-term investments with a fair value of $182.5 million and $153.2 million, at December 31, 2009 and 2008, respectively, on deposit with various regulatory agencies as required by law. At December 31, 2009 and 2008, Twin Bridges had $0.8 million of available-for-sale investments and cash pledged as security under letter of credit facilities to secure reserves assumed under third party ceded quota share agreements.
The fair value guidance establishes a three-level hierarchy for fair value measurements that distinguishes between market participant assumptions developed based on market data obtained from sources independent of the reporting entity (“observable inputs”) and the reporting entity’s own assumptions about market participant assumptions developed based on the best information available in the circumstances (“unobservable inputs”) and requires that the most observable inputs be used when available. The hierarchy is broken down into three levels based on the reliability of inputs as follows:
Level 1 - Valuation based on unadjusted quoted prices in active markets for identical assets or liabilities that the Company has the ability to access. Since valuations are based on quoted prices that are readily and regularly available in an active market, valuation of these products does not entail a significant degree of judgment. Financial assets utilizing Level 1 inputs include U.S. Treasury securities.
Level 2 - Valuation based on quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in inactive markets; or valuations based on models where the significant inputs are observable (e.g. interest rates, yield curves, prepayment speeds, etc.) or can be corroborated by observable market data. Financial assets utilizing Level 2 inputs include: U.S. government and agency securities; non-U.S. government obligations; corporate and municipal bonds; and mortgage-backed securities.
The Company outsources its investment accounting services to a third party. The third party uses nationally recognized pricing services to estimate fair value measurements for its available-for-sale investment portfolio. These pricing services include FT Interactive Data, Hub Data, J. J. Kenny, Standard & Poors, Reuters and the Bloomberg Financial Market Services. The pricing services use market quotations for securities that have quoted prices in active markets. When quoted prices are unavailable, other significant observable inputs are used, such as pricing models or other financial analytical methods. To validate the techniques or models used by the pricing services, the Company compares the fair value estimates to its perception of the current market and challenges any prices deemed not to be representative of fair value.
The following table presents the level within the fair value hierarchy at which the Company’s financial assets are measured on a recurring basis at December 31, 2009:
Fair value guidance requires disclosure of fair value information about other financial instruments for which it is practicable to estimate such fair value and excludes certain insurance related financial assets and liabilities. Estimates of the fair value of these financial instruments at December 31, 2009 are as follows:
Effective September 8, 2008, the results of Eimar, including the operations of the former Medical Expense Management, were classified as discontinued operations. Consequently, goodwill of $0.1 million and the unamortized portion of the covenant not to compete of $0.1 million were deemed to be impaired. These amounts were written off in the third quarter of 2008 and are included in loss from discontinued operations for the year ended December 31, 2008.
The cost of the information technology other intangible asset is being amortized over a 5 year period and has a remaining life of 3 years. Amortization expense for the years ended December 31, 2009, 2008 and 2007 was $0.2 million, $0.1 million and $0.0 million, respectively. Amortization expense for intangible assets is estimated to be $0.2 million in 2010 and $0.1 million in 2011 and 2012.
For primary insurance in California, for which Majestic has a significant amount of historical claims data, management estimates future liabilities by using actuarially acceptable methods based upon historical development patterns. These methods look at historical paid and reported claim counts and average costs of incurred losses, average case reserves, claim closing rates, counts and average values of unpaid losses, as well as variations of such techniques. For other jurisdictions for which Majestic does not have extensive historical claims data, management relies heavily on industry loss development factors in combination with price, rating bureau loss cost estimates by class code, and exposure information. Estimates of ultimate claims liability for each accident year are derived using such techniques.
In addition, for the most current accident year, Majestic also uses a loss ratio method that starts with a projected loss ratio for each line of business, estimated from the prior accident year, adjusted for projected wage inflation, loss cost inflation, and pricing adjustments. This adjusted loss ratio is applied to the earned premium for the current accident year to derive the ultimate estimated claims liability. These estimates are reviewed quarterly and are adjusted throughout the current year whenever there is enough overall evidence that one or more of the assumptions used have changed such as to materially impact the total estimated ultimate liability for claims reported on the Company’s consolidated balance sheet. Additional factors that influence incurred losses and loss adjustment expenses for a given period include the number of exposures covered in the current year, trends in the frequency and severity of claims, and changes in the cost of adjusting claims.
As a result of changes in estimate of insured events in prior years, loss reserves for the year ended December 31, 2008 decreased by $5.6 million, of which $3.6 million was attributable to the primary insurance segment and $2.0 million was attributable to the reinsurance segment. Majestic experienced favorable loss development as a result of favorable loss cost trends in its primary and excess policy business in California, predominantly in accident years 2006 and 2007. Consequently, Twin Bridges also experienced favorable loss reserve development on both primary and excess policy business assumed from Majestic.
The Company’s consolidated financial statements reflect the effects of direct insurance and assumed and ceded reinsurance activity. The activities of Majestic are included in the primary insurance segment, and the activities of Twin Bridges are included in the reinsurance segment. All inter-company transactions are eliminated upon consolidation.
Majestic’s direct earned premiums consist of the expired portion of annual premiums accepted for primary policies issued to individual insured businesses and excess policies issued to self-insured groups or self-insured individual enterprises. Excluding the effects of the Novation Agreement as discussed below, primary insurance policies comprise over 90% of net earned premium for the years ended December 31, 2009, 2008 and 2007.
The effect of the Novation Agreement on the results of operations for the years ended December 31, 2009, 2008 and 2007 was:
Majestic recorded favorable development on novated policies for the years ended December 31, 2009, 2008 and 2007 of $0.5 million, $0.5 million and $1.4 million, respectively.
Majestic purchases excess of loss and quota share reinsurance from third party reinsurers and affiliates to reduce its maximum potential loss on individual risks and to protect against possible catastrophes. Reinsurance does not legally discharge the ceding insurer from primary liability for the full amount due under the reinsured policies. However, the assuming reinsurer is fully obligated to indemnify the ceding company to the extent of the coverage ceded.
As of December 31, 2009 and 2008, the third party reinsurers representing the largest balances of the Majestic’s reinsurance recoverable were as follows:
Twin Bridges is required to provide Majestic with security for all reinsurance agreements. As of December 31, 2009 and 2008, Majestic held $35.0 million and $29.6 million of cash as collateral for reinsurance agreements with Twin Bridges. For the excess policies not insured by Majestic, Twin Bridges is required to provide certain collateral to secure its obligations with third parties. Letters of credit totaling $0.8 million as of December 31, 2009 and 2008 were issued under letter of credit facilities to secure reserves assumed under third party quota share reinsurance agreements. These letters of credit were secured by cash and investments pursuant to a secured letter of credit facility.
Majestic has a secured letter of credit facility with Comerica Bank (“Comerica Credit Facility”), whereby Majestic is able to draw secured letters of credit in an amount equal to the funds posted by Majestic. The Comerica Credit Facility has a limit of $50.0 million and may be secured by cash, investments or a combination thereof. Majestic pays a fee of 0.30% to 0.50% of the principal amount of each letter of credit issued.
$21.0 million to the California Department of Insurance with respect to its unauthorized reinsurers;
$6.0 million for lease obligations related to its integrated policy administration software; and
The letters of credit for the benefit of the United States Department of Labor, the San Francisco office space, the integrated policy administration system and special excess workers’ compensation policy are secured by a combination of cash and the investments that are on deposit. The letter of credit for the benefit of the California Department of Insurance is secured by a third party letter of credit of $21.0 million with an unaffiliated reinsurer. There were no amounts drawn against the letters of credit at December 31, 2009 and 2008.
The Comerica Credit Facility has various financial covenants which require Majestic to maintain a minimum statutory net surplus of no less than $21.0 million and maintain an A.M. Best rating of at least B++. Failure to meet one or more of these covenants could result in an event of default, which ultimately could terminate the facility. Majestic believes it was in compliance with all of the covenants under the Comerica Credit Facility at December 31, 2009.
In connection with the financing of the acquisition of Embarcadero on November 14, 2006, CRM USA Holdings issued $36.1 million of Junior Debt in exchange for $35.0 million in aggregate proceeds from the sale of Trust capital securities and $1.1 million of Trust common securities as described in Note 1. The Junior Debt matures December 15, 2036 at which time the entire principal is due and bears interest at an annual fixed rate of 8.65% until December 15, 2011. After such date, the interest rate will adjust quarterly at a fixed spread of 3.65% above 3-month LIBOR per annum. The payments of all amounts due on the Junior Debt are guaranteed by the Company. This guarantee will remain in place until the full redemption of the Junior Debt.
As of December 31, 2009, the Company’s long term debt is as follows:
The net deferred tax asset comprises the tax effects of temporary differences related to the following assets and liabilities:
Based on the accounting guidance, the Company’s assumptions are limited to business strategies which it can control. Given these limitations, the Company concluded that estimated future taxable income and certain tax planning strategies no longer constituted sufficient positive evidence to conclude that it is more likely than not that the net deferred tax assets would be realizable in the foreseeable future. Consequently, the Company recorded a net deferred tax valuation allowance of $17.1 million during the year ended December 31, 2009.
CRM USA Holdings and its subsidiaries file federal income tax returns and income tax returns in various state jurisdictions in the United States. At December 31, 2009, CRM USA Holdings had $15.4 million of federal net operating loss carryforwards which expire in 2029. Tax years 2005 through 2008 and 2004 through 2008 are subject to examination by federal and state tax authorities, respectively. Tax years 2006 and 2007 are currently being examined by the Internal Revenue Service (“IRS”). It is possible that the IRS audit may result in additional payment.
The Company has analyzed its filing positions in the U.S. federal and state jurisdictions where it is required to file tax returns, as well as the open tax years in these jurisdictions. The Company believes that its income tax filing positions and deductions will be sustained upon audit and does not anticipate any adjustments that will result in a material change to its financial position. Therefore, no reserves for uncertain income tax positions have been recorded.
In June 2008, the Company entered into a settlement agreement for litigation commenced by Cornerstone Program Management & Insurance Services (“Cornerstone”), the former general agent for CAP, a self-insured group administered by CRM CA. Under the settlement agreement, CRM CA agreed to contribute towards CAP’s September 2006 settlement with Cornerstone, five annual payments of $0.4 million, the first of which was paid on July 1, 2009. The Company recorded the present value of the Cornerstone settlement using an interest rate of 8.65%, which approximated the fair value of the liability on the settlement date. At December 31, 2009 and 2008, $1.4 million and $1.6 million, respectively, related to the Cornerstone settlement are included in other liabilities in the consolidated balance sheets.
Majestic purchased annuities from life insurers under which certain claimants under Majestic insurance policies are payees. Majestic has incurred cumulative annuity premiums of $9.2 million representing the present value of future payments over the term of the various claims. The expected cost to settle these claims is $31.8 million as of December 31, 2009. Majestic has a contingent liability of $31.8 million should the issuers of these annuities fail to perform under the terms of the annuities.
The Company has adopted the 2005 Long-Term Incentive Plan that provides for grants of incentive stock options, non-qualified stock options, restricted shares, stock appreciation rights, performance awards, restricted share units, phantom shares and other share based awards to the Company’s executives, directors and key employees. Under the Plan, 1.5 million common shares are authorized for issuance. To date, the Company has only granted restricted shares under the plan. At December 31, 2009, 586 thousand shares are available for future awards or grants. Restricted stock issued under the plan has terms set by the compensation committee, and is subject to certain restrictions relating to, among other things, vesting and forfeiture in the event of termination of employment. The restricted shares generally vest in three equal installments over a three year period from when they are granted. The fair value of the shares awarded is calculated using the market price one day prior to the date of grant.
At December 31, 2009, there was $0.7 million of total unrecognized compensation cost related to non-vested share-based compensation arrangements, which is expected to be recognized over a weighted average period of 0.8 years. The Company recorded share-based compensation expense from continuing operations under the 2005 Long-Term Incentive Plan of $0.9 million (net of $0.4 million of income tax benefits), $1.0 million (net of $0.4 million of income tax benefits) and $0.8 million (net of $0.4 million of income tax benefits) during the years ended December 31, 2009, 2008 and 2007, respectively. Awards of restricted stock had no effect on cash flows for the years ended December 31, 2009, 2008 and 2007.
Compensation cost is recognized for each three month period and is based on the fair value of shares at the purchase date, less the price the participant pays for the shares.
On July 1, 2009, the Company suspended the Plan. Employees of the Company purchased substantially all of the remaining shares authorized for issuance under the Plan during the quarterly offering period ended June 30, 2009. During the year ended December 31, 2009, 114 thousand shares were purchased under the plan.
In March 2008, CRM was advised that the NY Attorney General had commenced an investigation of CRM and had issued a subpoena for documents related to CRM’s administration of the Healthcare Industry Trust of New York (HITNY). Subsequent NY Attorney General inquiries and requests for documents indicated a focus on the Company’s initial public offering in December 2005, and in August 2009, the Company was advised that the NY Attorney General would seek testimony of six current or former directors and officers of the Company and CRM. Thereafter, in December 2009, the Company received a “Notice of Imminent Enforcement Action” from the NY Attorney General. According to the Notice, the NY Attorney General stated that it intends to file civil claims against the Company, certain of our subsidiaries, and certain directors and officers to seek redress of allegedly unlawful practices, unless an acceptable settlement can be reached. The NY Attorney General has alleged that the Company and the other named parties engaged in fraudulent practices in connection with CRM’s administration and marketing of workers’ compensation group self-insurance trusts in New York and in connection with the Company’s initial public offering completed in December 2005. These practices are alleged to have violated New York’s Executive Law and Martin Act. The NY Attorney General intends to seek injunctive relief, restitution, damages, penalties, and costs.
On April 9, 2007, H.C.F.A. Associates Corp. and 17 related companies, all of which were members or former members of HITNY, sued HITNY and CRM in New York State Supreme Court, Ulster County, alleging, among other things, that HITNY and CRM failed to fulfill their obligations in connection with providing workers’ compensation claims services. CRM answered the complaint, denying the plaintiffs’ material allegations. This litigation is in its early stages. The court established a discovery schedule on September 22, 2008, and discovery is currently proceeding.
On September 30, 2008, CRM received a copy of a letter addressed to its errors and omissions insurance carrier from the New York State Workers’ Compensation Board indicating its intention to initiate legal proceedings against CRM on behalf of eight self-insured groups previously administered by CRM as it relates to CRM’s actions while acting as the administrator and broker of record for the eight self-insured groups. The New York State Workers’ Compensation Board has indicated that it is investigating CRM’s administration of the self-insured groups, and CRM believes that the WCB will allege that CRM breached certain duties to the self-insured groups and engaged in certain self-dealing and deceptive practices.
In response to this letter, CRM filed an action on October 3, 2008 in the New York State Supreme Court, Dutchess County, against the New York State Workers’ Compensation Board and the eight self-insured groups, namely the Healthcare Industry Trust of New York, Elite Contractors Trust of New York, Wholesale and Retail Workers’ Compensation Trust of New York, Trade Industry Workers Compensation Trust for Manufacturers, Real Estate Management Trust of New York, Transportation Industry Workers Compensation Trust, Public Entity Trust of New York and the New York State Association of Cemeteries Trust. Through this action, CRM is seeking a declaratory judgment that CRM did not breach any duty to the eight self-insured groups and did not engage in any self-dealing or deceptive practices. CRM is not currently seeking any monetary damages from the eight self-insured groups, their respective boards of trustees or the WCB.
On May 18, 2009, the New York State Workers’ Compensation Board filed a motion to dismiss CRM’s complaint, which CRM opposed. On October 18, 2009, the court granted the New York State Workers’ Compensation Board’s motion and dismissed CRM’s complaint. CRM is deciding whether to appeal the court’s decision.
RBG Management Corp. et al. v. Compensation Risk Managers, LLC, et al.
In November 2009, the plaintiffs served an amended complaint which seeks damages, in an undetermined amount, from CRM arising from allegations that CRM breached its fiduciary duties to the plaintiffs. The plaintiffs are seeking to bring the claim derivatively on behalf of WRWCTNY. The amended complaint does not name any current or former officer or director of CRM. On December 11, 2009, CRM filed a motion to dismiss the plaintiffs’ amended complaint. The motion is currently pending before the court.
Armstrong Brands, Inc., et al. v. Compensation Risk Managers, LLC. On March 6, 2009, Armstrong Brands, Inc., Metal Cladding, Inc., TREK, Inc., Petri Baking Products, Inc., Time Cap Laboratories, Inc., Custom Coatings, Inc., GPM Associates, LLC, d/b/a Forbes Products, PJR Industries, Inc., d/b/a Southside Precast Products, Lakeshore Metals, Inc. Duro-Shed, Inc., Tooling Enterprises, Inc. Northeast Concrete Products, Inc., d/b/a Concrete Building Supply and Superior Steel Studs, Inc., all of which were former members of Trade Industry Trust Workers’ Compensation Trust for Manufacturers (the “Trade Trust”), on their own behalf and on behalf of all others similarly situated, sued CRM in New York State Supreme Court, Erie County. The lawsuit seeks class action certification and alleges that CRM: (1) breached its contract with the Trade Trust; (2) breached its duty of good faith and fair dealing owed to the Trade Trust; (3) breached its fiduciary duties owed to Trade Trust; (4) was negligent in administering the Trade Trust; (5) engaged in deceptive business practices; (6) was unjustly enriched; and (7) should indemnify the plaintiffs for any assessments that they may incur. The plaintiffs are seeking damages (a) arising from the plaintiffs’ joint and several liability for the deficit of the Trade Trust which, as of December 31, 2006, was estimated at $4.9 million, (b) from any unpaid claims of the plaintiffs’ injured employees in an amount presently undetermined, (c) from potentially being liable for the costs of liquidation charged or to be charged by the WCB, and (d) from fees paid by the plaintiffs and the Trade Trust to CRM pursuant the service agreement between CRM and the Trade Trust. On August 17, 2009, CRM filed a motion to dismiss the plaintiffs’ complaint, and in response to CRM’s motion, on November 10, 2009, the plaintiffs filed an amended complaint alleging substantially the same claims and damages as contained in their original complaint. The plaintiffs have granted CRM an extension of time to respond to the amended complaint until 20 days after entry of the court’s decision on CRM’s motion to dismiss in the FS Kids LLC, et al. v. Compensation Risk Managers, LLC lawsuit.
On November 2, 2009, HITNY and 89 of its former members filed a lawsuit in New York State Supreme Court, Albany County against CRM, CRM USA Holdings, CRM Holdings, Majestic, Embarcadero, Twin Bridges, Eimar, and certain current and former directors and officers of CRM Holdings. The plaintiffs also named HITNY’s former actuaries, auditors, trustees and brokers as defendants in the lawsuit.
On March 12, 2010, the plaintiffs filed an amended complaint which contains substantially the same allegations as the original complaint, but seeks to add additional claims, including: (i) the imposition of a constructive trust upon certain assets of CRM, its affiliated entities and two former director and officers; (ii) an accounting to determine the amount and location of any assets improperly obtained CRM, its affiliated entities and two former directors and officers; (iii) indemnification from CRM for amounts paid by plaintiffs; and (iv) an injunction pursuant to New York’s Debtor and Creditor Law restraining the disposition and appointing a receiver to take charge of the property of CRM Holdings and two former directors and officers and the setting aside of certain payments. The plaintiffs have granted CRM and its affiliates an unlimited extension of time to respond to the complaint, which may be revoked on 20 days notice.
In January 2010, CRM CA was contacted by an attorney representing the Plastic Manufacturers Self Insurance Program of California (PMSIP) threatening litigation against CRM CA should members of PMSIP commence an action against PMSIP or its Board of Trustees. PMSIP’s attorney advised CRM CA that certain members of PMSIP were questioning PMSIP’s administration as a result of a deficit and corresponding assessment and that PMSIP’s members were alleging “gross negligence” and negligent administration by CRM CA in the administration of PMSIP. Accordingly, to the extent any litigation or formal legal claim was commenced, PMSIP threatened to tender the defense and indemnification of any claim or action filed by any past or current PMSIP member arising out of CRM CA’s administration of PMSIP. PMSIP alleges that the service agreement between PMSIP and CRM CA contained a contractual indemnity clause; however, CRM CA disagrees and intends to vigorously contest PMSIP’s claim and any subsequent litigation that may be brought by PMSIP or any of its members.
In April 2005, Cornerstone Program Management & Insurance Services (Cornerstone), the former general agent for the Contractors Access Program (CAP), a self-insured group formerly managed by CRM CA, commenced litigation against CAP, CRM and CRM CA in a case entitled Rierden, et al v. Compensation Risk Managers, LLC, et al. On September 6, 2006, CRM, CRM CA and CAP entered into a Confidential Settlement and Mutual Release Agreement (the Settlement Agreement) with Cornerstone and its affiliates. All settlement payments due under the Settlement Agreement were paid and the litigation was dismissed on December 31, 2006. Thereafter, on June 5, 2008, CRM CA and CAP entered into an Amendment to the Contractors Access Program of California Service Agreement. Under this amendment, CRM CA agreed to pay $2.0 million to CAP in five approximately equal annual payments commencing on or about July 1, 2009. In consideration thereof, CAP agreed to assume the remaining amount of the award in connection with the Cornerstone Litigation and Settlement Agreement.
Under the California Insurance Code, Majestic may make dividend distributions in a given year without prior approval of the Insurance Commissioner up to a maximum amount equal to the greater of its statutory net income for the preceding year or 10% of insurer’s policyholders’ surplus at the end of the preceding year, less dividends made within the preceding twelve months. In 2009, Majestic declared and paid dividends of $3.0 million to Embarcadero. Majestic did not declare or pay any dividends for the years ended December 31, 2008 and 2007. As part of its ongoing triennial examination by the California Department of Insurance, Majestic has agreed not to pay any dividends without the prior approval of the California Department of Insurance.
Under the Insurance Act 1978 of Bermuda and related regulations (the “Act”), Twin Bridges is required to prepare Statutory Financial Statements and to file a Statutory Financial Return. The Act also requires Twin Bridges to meet certain minimum capital and surplus requirements. Twin Bridges is required to maintain a minimum liquidity ratio, whereby the value of its relevant assets must be not less than 75% of its relevant liabilities. Twin Bridges exceeded its minimum capital and surplus requirements and minimum liquidity ratio at December 31, 2009 and 2008.
The following is a summary of Twin Bridges’ statutory net income for the years ended December 31, 2009, 2008 and 2007 and the statutory capital and surplus as of December 31:
The Company evaluates each segment based on primary insurance premiums earned, reinsurance premiums earned, fees and commission income or investment income, as applicable, and expenses that are associated with, and directly related to each segment. The determination for the primary insurance, reinsurance and fee-based management services segments is based on the Company’s methodology for monitoring the performance of the primary insurance, reinsurance and self-insured group business operations. The corporate and other segment reflects investment income, selling, general and administrative expenses, investments, cash and cash equivalents and long-term debt that are not allocable to the three operating segments. Accounting policies of the segments are the same as those of the Company.
Investment income of the reinsurance segment for the years ended December 31, 2009, 2008 and 2007 includes $1.2 million, $1.0 million and $0.5 million, respectively, of interest income on funds withheld by the primary insurance segment. Such amounts are reflected in interest expenses of the primary insurance segment.
Summarized below are the unaudited quarterly financial data for 2009 and 2008. Results from discontinued operations are segregated from continuing operations for all periods presented.