On September 26, 2013, Crusader purchased land and a two-story building in Calabasas, California. The Company moved its home office to this location on October 9, 2015, and has been occupying the building through present time.
The office building has approximately 46,884 rentable square feet of office space. As of December 31, 2016, the Company utilized 32,403 square feet of space, while 10,292 square feet of the Calabasas building was leased to non-affiliated entities, and 4,189 square feet was vacant and available to be leased to non-affiliated entities.
For the year ended December 31, 2016, direct written premium as reported on Crusader’s statutory financial statement was $38,749,097 compared to $36,374,509, for the year ended December 31, 2015, an increase of $2,374,588 (6.5%). For the year ended December 31, 2015, direct written premium as reported on Crusader’s statutory financial statement was $36,374,509 compared to $32,810,088, for the year ended December 31, 2014, an increase of $3,564,421 (11%). The property casualty insurance marketplace continues to be intensely competitive. While Crusader attempts to meet such competition with competitive prices, its emphasis is on service, promotion, and distribution. Crusader believes that rate adequacy is more important than premium growth and that underwriting profit (net earned premium less losses and loss adjustment expenses and policy acquisition costs) is its primary goal. Nonetheless, Crusader believes that it can grow its sales and profitability by focusing upon five areas of its operations: (1) product development, (2) improved service to highly-specialized retail brokers, (3) appointment of highly-specialized independent retail agents, (4) geographical expansion, and (5) use of alternative marketing channels. While the Company’s PAS continues to support the Company’s current operations, the Company believes it would realize more competitive parity with respect to product and service by supplementing instead of replacing its existing PAS, on a short-term basis, as quickly as possible, while also working on a longer-term basis to ultimately replace its existing PAS with a more contemporary platform. To help make that determination, during 2016, the Company engaged outside IT advisors to evaluate the Company’s current IT environment and its alternatives.
Fluctuations in cash flows from operating activities relate to the timing of the collection and the payment of insurance-related receivables and payables. The variability of the Company’s losses and loss adjustment expenses is primarily due to its small population of claims which may result in greater fluctuations in claim frequency and/or severity. Although the Consolidated Statements of Cash Flows reflect net cash used by operating activities for the years ended December 31, 2016 and 2015, the Company does not anticipate future liquidity problems and continues to be well capitalized and adequately reserved.
The Company’s investment guidelines on equity securities limited investments in equity securities to an aggregate maximum of $2,000,000. The Company’s investment guidelines on fixed maturities limited those investments to high-grade obligations with a maximum term of eight years. The maximum investment authorized in any one issuer was $2,000,000. This dollar limitation excluded bond premium paid in excess of par value and U.S. government or U.S. government guaranteed issues. Investments in municipal securities were primarily pre-refunded and secured by U.S. treasury securities. The short-term investments were either U.S. government obligations, Federal Deposit Insurance Corporation (“FDIC”) insured, or were in an institution with a Moody's rating of at least P2 and/or a Standard & Poor's rating of A1. All of the Company's fixed maturity investment securities were rated, readily marketable, and could be liquidated without any materially adverse financial impact.
All fixed maturity real estate securities, except mortgage-backed securities (including pass through securities and collateralized mortgage obligations) that are backed by agency and non-agency collateral and commercial mortgage-backed securities.
Historically, the Company managed Crusader’s investments in-house. Effective April 1, 2017, an outside investment advisor will start managing Crusader’s investments. The advisor’s role will be limited to maintaining Crusader’s portfolio within the new investment guidelines and providing investment accounting services to the Company. The investments will continue to be held by Crusader’s current custodian, Union Bank Global Custody Services.
The investment marketplace in general, and in certain asset classes specifically, have been impacted by volatility as a result of uncertainty in the credit markets that began in 2007 and continued throughout 2016. The Company’s fixed maturity (amortized cost) investment portfolio as of December 31, 2016, consisted of 24% U.S. treasury securities and 76% FDIC insured certificates of deposit.
Crusader's statutory capital and surplus as of December 31, 2016, was $59,120,443, a decrease of $2,247,285 (4%) from December 31, 2015. Crusader's statutory capital and surplus as of December 31, 2015, was $61,367,728, a decrease of $2,124,641 (3%) from December 31, 2014. In the years ending December 31, 2016, 2015, and 2014, Crusader issued cash dividends of $2,000,000, $3,000,000, and $0 to Unico, its parent and sole shareholder, respectively. These dividends were used primarily for general corporate purposes. Based on Crusader’s statutory surplus for the year ended December 31, 2016, the maximum dividend that could be made by Crusader to Unico without prior regulatory approval in 2017 is $5,912,044.
During the years ended December 31, 2016, 2015, and 2014, no cash dividends were declared or issued by the Company to its shareholders. Declaration of future cash dividends will be subject to the Company’s profitability and its cash requirements.
One of the Company’s agents, which was appointed in 2008 to assist the Company in implementing its Trucking Program, failed to pay the net premium and policy fees due Unifax, the exclusive general agent for Crusader. The agent was initially late in paying its February 2009 production that was due to Unifax on April 15, 2009. In May 2009, as a result of the agent’s failure to timely pay its balance due to Unifax, the Company terminated its agency agreement and assumed ownership and control of that agent’s policy expirations written with the Company. The Company subsequently commenced legal proceedings against the agent corporation, its three principals (who personally guaranteed the agent’s obligations) and another individual for the recovery of the balance due and any related recovery costs incurred. All related recovery costs have been expensed as incurred. The agent corporation and two of its principals filed bankruptcy. The corporation was adjudicated bankrupt. The Company obtained judgments, non-dischargeable in bankruptcy, for the full amount due from the two principals who filed bankruptcy. The other principal stipulated to a judgment of $1,200,000. The claim against the fourth individual was resolved. The Company collected $0, $0, and $75,000 during the years ended December 31, 2016, 2015, and 2014. As of December 31, 2016 and 2015, the agent’s balance due to Unifax was $1,181,272. As of December 31, 2016 and 2015, the Company’s bad debt reserve associated with this matter was $1,181,272 which represents approximately 100% of the balance due to Unifax. Although the receivable is fully reserved for financial reporting purposes at December 31, 2016, the Company continues to pursue collection of the judgments from the three principals. Bad debt expense was $5,833, $(1,460), and $255,299 for the years ended December 31, 2016, 2015, and 2014, respectively.
Although material capital expenditures may also be funded through borrowings, the Company believes that its cash and short-term investments at December 31, 2016, net of statutory deposits of $700,000, restricted cash of $13,373,793, and California insurance company statutory dividend restrictions applicable to Crusader plus the cash to be generated from operations, should be sufficient to meet its operating requirements during the next 12 months without the necessity of borrowing funds. Trust restrictions on cash and short-term investments were $0 at December 31, 2016 and December 31, 2015.
The Company had certain contractual obligations at December 31, 2016, as follows:
*Unlike many other forms of contractual obligations, loss and loss adjustment expense reserves do not have definitive payment due dates, and the ultimate payment dates are subject to a number of variables and uncertainties. As a result, the total loss and loss adjustment expense reserve payments to be made by period, as shown above, are estimates.
Total revenue was $35,267,724, $33,264,639, and $30,470,240 for the years ended December 31, 2016, 2015, and 2014, respectively. This represents an increase of $2,003,085 (6%) for the 2016 year compared to the 2015 year and an increase of $2,794,399 (9%) for the 2015 year compared to the 2014 year. The Company had net loss of $1,404,277 and $1,182,870 for the years ended December 31, 2016 and 2015, respectively, and net income of $846,361 for the year ended December 31, 2014. This represents an increase in net loss of $221,407 (19%) for the 2016 year compared to the 2015 year and a decrease in net income of $2,029,231 (240%) for the 2015 year compared to the 2014 year.
For the year ended December 31, 2016, the Company had a loss before taxes of $2,114,238 compared to a loss before taxes of $1,734,958 for the year ended December 31, 2015, an increase in the loss before taxes of $379,280 (22%). This increase in the loss before taxes was due primarily to increased losses and loss adjustment expenses partially offset by an increase in total revenues and a reduction in other operating expenses.
The effect of inflation on the Company’s net income during the years ended December 31, 2016, 2015, and 2014 was not significant.
Crusader’s primary line of business is commercial multi-peril policies. This line of business represented approximately 98% of Crusader’s total written premium for the years ended December 31, 2016, 2015, and 2014.
Ceded earned premium for the year ended December 31, 2016, increased $768,609 (14%) to $6,097,248 compared to $5,328,639 for the year ended December 31, 2015. Ceded earned premium for the year ended December 31, 2015, increased $238,371 (5%) to $5,328,639 compared to $5,090,268 for the year ended December 31, 2014.
In calendar years 2016, 2015, and 2014, Crusader retained a participation in its excess of loss reinsurance treaties of 10% in its 1st layer ($500,000 in excess of $500,000), 0% in its 2nd layer ($2,000,000 in excess of $1,000,000), and 0% in its property and casualty clash treaty.
The Company evaluates each of its ceded reinsurance contracts at its inception to determine if there is a sufficient risk transfer to allow the contract to be accounted for as reinsurance under current accounting literature. As of December 31, 2016, all such ceded contracts are accounted for as risk transfer reinsurance.
The variability of Crusader’s losses and loss adjustment expenses for the periods presented is due primarily to the small size and diverse nature of populations that represent Crusader’s policyholders and claims, which may result in greater fluctuations in claim frequency and/or severity. Also, Crusader’s reinsurance retention, which is relatively high in relationship to its net earned premium, can result in increased loss ratio volatility when large losses are incurred in a relatively short period of time. Nevertheless, management believes that its reinsurance retention is reasonable given the amount of Crusader’s surplus, its targeted ultimate loss ratios, and its goal to minimize ceded premium. The favorable (adverse) development by accident year is as follows:
In 2016, approximately 40% and 41% of the $959,810 commission income from the Company’s health insurance program was from Guardian Life Insurance Company of America dental and group life plan programs and the Blue Shield Care Trust health and life insurance programs, respectively. In 2015, approximately 39% and 40% of the $960,670 commission income from the Company’s health insurance program was from Guardian Life Insurance Company of America dental and group life plan programs and the Blue Shield Care Trust health and life insurance programs, respectively. In 2014, approximately 38% and 39% of the $1,082,412 commission income from the Company’s health insurance program was from Guardian Life Insurance Company of America dental and group life plan programs and the Blue Shield Care Trust health and life insurance programs, respectively.
Membership and fee income for the year ended December 31, 2016, decreased $10,511 (12%) compared to the year ended December 31, 2015. Membership and fee income for the year ended December 31, 2015, decreased $11,802 (12%) compared to the year ended December 31, 2014. The decrease for each of the years presented is a result of a decrease in the number of association members primarily due to increased competition.
Policy fee income for the year ended December 31, 2016, decreased $14,479 (1%) as compared to the year ended December 31, 2015. This decrease in policy fee income in 2016 compared to 2015 was primarily the result of a 331 (3%) decrease in the number of policies issued during 2016 compared to 2015. Policy fee income for the year ended December 31, 2015, increased $87,074 (5%) as compared to the year ended December 31, 2014. The increase in policy fee income in 2015 compared to 2014 is primarily the result of a 437 (5%) increase in the number of policies issued during 2015 as compared to 2014.
Bedford stopped selling and servicing the daily automobile rental polices in 2015. As a result of this decision, the daily automobile rental insurance program commission income and contingent commission for the year ended December 31, 2016, decreased $9,589 (52%) compared to the year ended December 31, 2015. For the year ended December 31, 2015, rental insurance program commission income and contingent commission decreased $97,752 (84%) compared to the year ended December 31, 2014.
The contingent commission Bedford received in 2016 is based on the profitability of premiums written in prior years for one of the non-affiliated insurance companies it represented.
The insurance premium financing operation currently finances policies produced only through its sister company, Unifax. Consequently, AAC’s growth is dependent primarily on the growth of Crusader and Unifax business. Since July 2010, AAC has offered 0% financing on policies written by Unifax for Crusader as a promotion to increase the sale of Crusader policies. Due to the low interest rate environment, the cost of money to provide this incentive is not material. The Company monitors the cost of providing this incentive and, depending on the cost/benefit determination, can continue to offer it or withdraw it at any time. Income generated by AAC consists of late fees, returned check fees and payment processing fees.
In the year ended December 31, 2016, investment income earned, excluding realized losses and investment income earned on cash deposits in lieu of appeal bonds, increased $288,388 (60%) compared to the year ended December 31, 2015. The yield on average invested assets excluding interest earned on the cash deposits in lieu of appeal bonds, increased to 0.81% in 2016 from 0.47% in 2015. The increase in the annualized yield on average invested assets is primarily a result of a decrease in short-term investments and an increase in fixed maturity investments that provide a higher yield. Due to the current interest rate environment, management believes it is prudent to purchase fixed maturity investments with maturities of 5 years or less. Thus, the weighted average maturity of the Company’s fixed maturity investments as of December 31, 2016, was 1.0 year compared to 1.5 years as of December 31, 2015. The Company’s invested assets (at amortized cost) as of December 31, 2016, were $90,576,445 as compared to $97,843,530 as of December 31, 2015.
The Company monitors its investments closely. If an unrealized loss is determined to be other-than-temporary, it is written off as a realized loss through the Consolidated Statements of Operations. The Company’s methodology of assessing other-than-temporary impairments is based on security-specific analysis as of the balance sheet date and considers various factors including the length of time to maturity and the extent to which the fair value has been less than the cost, the financial condition and the near-term prospects of the issuer, and whether the debtor is current on its contractually obligated interest and principal payments. The unrealized losses on the U.S. treasury securities in unrealized loss positions as of December 31, 2016, and December 31, 2015, were determined to be temporary. The unrealized gains or losses from fixed maturities are reported as “Accumulated other comprehensive income (loss),” which is a separate component of stockholders’ equity, net of any deferred tax effect.
The Company did not sell any fixed maturity investments in the years ended December 31, 2014. There were no realized investment gains or losses in the years ended December 31, 2014.
Other income from insurance company operation and other insurance operations decreased $570,845 (60%) in the year ended December 31, 2015, when compared to the year ended December 31, 2014. The decrease was primarily the result of a decrease of $620,357 (76%) in rental income received from the Crusader owned office building located in Calabasas, California, due to a major tenant vacating the building on September 7, 2014; the tenant occupied approximately 32,403 square feet. This vacated space was subsequently occupied by the Company on October 9, 2015. This decrease was partially offset by $108,778 (636%) increase in the contingent commission the Company recognized on the Company’s 2003, 2004, and 2006 excess of loss reinsurance treaties.
Total salaries and employee benefits incurred for the year ended December 31, 2016, increased $210,973 (3%) compared to the year ended December 31, 2015. Total salaries and employee benefits incurred for the year ended December 31, 2015, increased $175,463 (2%) compared to the year ended December 31, 2014.
Income tax was a benefit for the year ended December 31, 2016, of $709,961 compared to a benefit of $552,088 for the year ended December 31, 2015, an increase in the income tax benefit of $157,873. The effective income tax rates for the years ended December 31, 2016 and 2015, were 34% and 32%, respectively. The increase in the income tax benefit is related primarily to the $2,114,238 loss before taxes for the year ended December 31, 2016, compared to the $1,734,958 loss before taxes for the year ended December 31, 2015.
When there is clear evidence that the actual emerged claims costs are different than the claims costs that were expected for any prior accident year, the claims cost estimates for that year are revised accordingly. If the claims costs that emerge are less favorable than initially anticipated, generally, the Company increases its loss and loss adjustment expense reserves immediately. However, if the claims costs that emerge are more favorable than initially anticipated, generally, the Company reduces its loss and loss adjustment expense reserves over time while it continues to assess the validity of the observed trends based on the subsequent emerged claims costs.
Crusader underwrites four statutory annual statement lines of business: (1) commercial multi-peril, (2) liability other than automobile and products, (3) fire, and (4) allied lines. Commercial multi-peril policies comprised 98% of Crusader’s 2016, 2015, and 2014 premium. Commercial multi-peril policies include both property and liability coverages. For all of Crusader’s coverages and lines of business, Crusader’s actuarial loss and loss adjustment expense reserving methods require assumptions that can be grouped into two key categories: (1) expected loss and loss adjustment expense development patterns and (2) expected loss and loss adjustment expense per premium dollar.
The establishment of loss and loss adjustment expense reserves is a detailed process as there are many factors that can ultimately affect the final settlement of a claim and, therefore, the reserve that is needed. Estimates are based on a variety of industry data and on Crusader’s current and historical accident year claims data, including but not limited to reported claim counts, open claim counts, closed claim counts, closed claim counts with payments, paid losses, paid loss adjustment expenses, case loss reserves, case loss adjustment expense reserves, earned premium and policy exposures, salvage and subrogation, and unallocated loss adjustment expenses paid. Many other factors, including changes in reinsurance, changes in pricing, changes in policy forms and coverage, changes in underwriting and risk selection, legislative changes, results of litigation and inflation are also taken into account.
The Company must estimate its ultimate losses and loss adjustment expenses using a very small claim population size. At the beginning of 2016, Crusader had 619 open claim files. During 2016, 747 new claim files were opened and 779 claim files were closed, leaving 587 open claim files at the end of 2016. Due to the small size of Crusader and the related small population of claims, Crusader’s losses and loss adjustment expenses for any accident year can vary significantly from the initial expectations. Due to the small number of claims, changes in claim frequency and/or severity can materially affect Crusader’s reserve estimate. The potential variability from management’s best estimate cannot be measured from any meaningful statistical basis due to the numerous uncertainties in the claims reserving process and the small population of claims.
At each quarterly review, actual claims costs that emerge are compared with the claims costs that were expected to emerge during that development period. Sometimes the previous claims costs estimates prove to have been too high; sometimes they prove to have been too low. The favorable development in the 2014 through 2016 calendar years underscores the inherent uncertainty in insurance claims costs, especially for a very small insurer. While additional redundancies on losses and loss adjustment expenses may emerge, the Company believes that this trend may not be indicative of future results.
There were no catastrophe losses incurred during the years ended December 31, 2016, 2015, and 2014.
For years ended December 31, 2016, 2015, and 2014, Crusader wrote 99.5%, 99.5%, and 99.8% of its business in the state of California, respectively. The types of businesses and the coverage limits written by Crusader are not considered difficult lines for obtaining reinsurance. In addition, because the major catastrophe exposure is primarily from riots and from fire following earthquakes, Crusader does not anticipate significant limitations on its ability to cede future losses on a basis consistent with its historical results.
Consolidated Statements of Comprehensive Income (Loss) for the years ended December 31,
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Unico American Corporation and subsidiaries as of December 31, 2016 and 2015, and the results of their operations and their cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.
The preparation of financial statements in conformity with GAAP requires the Company to make estimates and assumptions that affect its reported amounts of assets and liabilities and its disclosure of any contingent assets and liabilities at the date of its financial statements, as well as its reported amounts of revenues and expenses during the reporting period. The most significant assumptions in the preparation of these consolidated financial statements relate to losses and loss adjustment expenses. While every effort is made to ensure the integrity of such estimates, actual results may differ.
Short-term investments include U.S. treasury bills, a U.S. treasury money market fund, certificates of deposit and bank money market and savings accounts that are all highly rated and redeemable within one year.
Receivables, net - The carrying amounts reported at cost in the Consolidated Balance Sheets approximate their fair values given the short-term nature of these instruments.
As of December 31, 2016, the Company had no unrecognized tax benefits or liabilities. In addition, the Company had not accrued interest and penalties related to unrecognized tax benefits or liabilities. However, if interest and penalties would need to be accrued related to unrecognized tax benefits or liabilities, such amounts would be recognized as a component of federal income tax expense.
At each balance sheet date, management assesses the need to establish a valuation allowance that reduces deferred tax assets when it is more-likely-than-not that any portion of the deferred tax asset will not be realized. The ultimate realization of deferred tax assets is dependent upon generating sufficient taxable income of the appropriate character within the carryback and carryforward periods available under the tax law. Management considers the reversal of deferred tax liabilities, projected future taxable income of an appropriate nature and tax-planning strategies when making this assessment. Although realization is not assured, management believes that it is more likely-than-not that the Company’s deferred tax assets net of the valuation allowance will be realized.
Commissions due the Company are recognized as income on the effective date of the insurance policies. Policy fee income is recognized on a pro-rata basis over the terms of the policies.
(2) $600,000 and $700,000 included in fixed maturity investments as of December 31, 2016 and 2015, respectively, and $100,000 and $0 included in short-term investments as of December 31, 2016 and 2015, respectively, are statutory deposits assigned to and held by the California State Treasurer and the Insurance Commissioner of the State of Nevada. These deposits are required for writing certain lines of business in California and for admission in states other than California.
Accounting Standards Codification (“ASC”) Topic 944, “Financial Services - Insurance,” establishes uniformity in the practice of determining costs related to the acquisition of new or renewal insurance contracts that qualify for deferral. Policy acquisition costs consist of commissions, premium taxes, inspection fees, and certain other underwriting costs, which are related to the successful production of Crusader insurance policies. Policy acquisition costs that are eligible for deferral are deferred and amortized as the related premium is earned and are limited to their estimated realizable value based on the related unearned premium plus investment income less anticipated losses and loss adjustment expenses. Ceding commission applicable to the unexpired terms of policies in force is recorded as unearned ceding commission, which is included in deferred policy acquisition costs.
ASC Topic 280, “Segment Reporting,” establishes standards for the way information about operating segments are reported in financial statements. The Company has identified its insurance company operation as its primary reporting segment. Revenues from this segment comprised 92% of consolidated revenues for the year ended December 31, 2016, 91% of consolidated revenues for the year ended December 31, 2015, and 90% of consolidated revenues for the year ended December 31, 2014. The Company’s remaining operations constitute a variety of specialty insurance services, each with unique characteristics and individually insignificant to consolidated revenues.
The insurance company operation is conducted through Crusader, which as of December 31, 2016, was licensed as an admitted insurance carrier in the states of Arizona, California, Nevada, Oregon, and Washington. Crusader is a multi-line property and casualty insurance company, which began transacting business on January 1, 1985. For the years ended December 31, 2016, 2015, and 2014, 98% of Crusader’s business was commercial multi-peril (CMP) insurance policies. CMP policies provide a combination of property and liability coverage for businesses. Commercial property coverage insures against loss or damage to buildings, inventory and equipment from natural disasters, including hurricanes, windstorms, hail, water, explosions, severe winter weather, and other events such as theft and vandalism, fires and storms and financial loss due to business interruption resulting from covered property damage. However, Crusader does not write earthquake coverage. Commercial liability coverage insures against third party liability from accidents occurring on the insured’s premises or arising out of its operations, such as injuries sustained from products sold or the operation of the insured’s premises. In addition to CMP policies, Crusader also writes separate policies to insure commercial property and commercial liability risks on a mono-line basis.
In February 2016, the FASB issued ASU 2016-02 “Leases.” This ASU requires lessees to recognize on the balance sheet the assets and liabilities for the rights and obligations created by all leases, including those historically accounted for as operating leases. The Company is currently evaluating the effect ASU 2016-02 will have on the Company's consolidated financial statements. The guidance is effective for interim and annual periods beginning after December 31, 2018, and will be applied under a modified retrospective approach for leases that exist or are entered into after the beginning of the earliest comparative period in the consolidated financial statements.
Some of the Company’s health and life programs require payments of premium prior to the effective date of coverage; and, accordingly, invoices are sent out as early as two months prior to the coverage effective date. Insurance premium received for coverage months effective after the balance sheet date are recorded as advance premium.
(1) Investment income from fixed maturities included $113,394, $0, and $0 of interest on the restricted cash for the years ended December 31, 2016, 2015, and 2014.
The Company monitors its investments closely. If an unrealized loss is determined to be other-than-temporary, it is written off as a realized loss through the Consolidated Statements of Operations. The Company’s methodology of assessing other-than-temporary impairments is based on security-specific analysis as of the balance sheet date and considers various factors including the length of time to maturity and the extent to which the fair value has been less than the cost, the financial condition and the near-term prospects of the issuer, and whether the debtor is current on its contractually obligated interest and principal payments. The unrealized losses on the U.S. treasury securities in unrealized loss positions as of December 31, 2016, and December 31, 2015, were determined to be temporary.
The Company’s investment in certificates of deposit included $60,780,000 and $57,527,000 of brokered certificates of deposit as of December 31, 2016, and December 31, 2015, respectively. Brokered certificates of deposit provide the safety and security of a certificate of deposit combined with the convenience gained by one-stop shopping for rates at various institutions. This allows the Company to spread its investments across multiple institutions so that all of its certificates of deposit are insured by the Federal Deposit Insurance Corporation (“FDIC”). Brokered certificates of deposit are purchased through UnionBanc Investment Services, LLC, a registered broker-dealer, investment advisor, member of FINRA/SIPC, and a subsidiary of MUFG Union Bank, N.A. Brokered certificates of deposit are a direct obligation of the issuing depository institution, are bank products of the issuing depository institution, are held by Union Bank Global Custody Services for the benefit of the Company, and are FDIC insured within permissible limits.
Level 2 - Financial assets and financial liabilities whose values are based on quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in non-active markets; or valuation models whose inputs are observable, directly or indirectly, for substantially the full term of the asset or liability as of the reporting date.
The following table presents information about the Company’s financial instruments and their estimated fair values, which are measured on a recurring basis, allocated among the three levels within the fair value hierarchy as of December 31, 2016 and 2015:
The total square footage of the Calabasas building is 46,884, including common areas. As of December 31, 2016, 10,292 square feet of the Calabasas building was leased to non-affiliated entities, and 4,189 square feet was vacant and available to be leased to non-affiliated entities.
One of the Company’s agents, which was appointed in 2008 to assist the Company in implementing its Trucking Program, failed to pay the net premium and policy fees due Unifax, the exclusive general agent for Crusader. The agent was initially late in paying its February 2009 production that was due to Unifax on April 15, 2009. In May 2009, as a result of the agent’s failure to timely pay its balance due to Unifax, the Company terminated its agency agreement and assumed ownership and control of that agent’s policy expirations written with the Company. The Company subsequently commenced legal proceedings against the agent corporation, its three principals (who personally guaranteed the agent’s obligations) and another individual for the recovery of the balance due and any related recovery costs incurred. All related recovery costs have been expensed as incurred. The agent corporation and two of its principals filed bankruptcy. The corporation was adjudicated bankrupt. The Company obtained judgments, non-dischargeable in bankruptcy, for the full amount due from the two principals who filed bankruptcy. The other principal stipulated to a judgment of $1,200,000. The claim against the fourth individual was resolved. The Company collected $0, $0, and $75,000 during the years ended December 31, 2016, 2015, and 2014. As of December 31, 2016 and 2015, the agent’s balance due to Unifax was $1,181,272. As of December 31, 2016 and 2015, the Company’s bad debt reserve associated with this matter was $1,181,272, which represents 100% of the balance due to Unifax. Although the receivable is fully reserved for financial reporting purposes at December 31, 2016, the Company continues to pursue collection of the judgments from the three principals. Bad debt expense was $5,833, $(1,460), and $255,299 for the years ended December 31, 2016, 2015, and 2014, respectively.
The following table provides an analysis of the roll forward of Crusader’s loss and loss adjustment expense reserves, including a reconciliation of the ending balance sheet liability for the periods indicated:
At each review period, actual claims costs that emerge are compared with the claims costs that were expected to emerge during that development period. Sometimes the previous claims costs estimates prove to have been too high; sometimes they prove to have been too low. In the case of Crusader, the estimates proved to be too high in each of the years reflected in the table. The favorable development in the 2014 through 2016 calendar years underscores the inherent uncertainty in insurance claims costs, especially for a very small insurer. Management reviews claims costs that appear to be different from the historical claims costs to determine whether those differences are a normal part of the process or an indication that a change in reserve assumptions is appropriate. Management concluded that the differences noted above are differences between actual and expected claims costs that emerge from time to time, particularly in an insurer the size of Crusader.
The following table presents loss development information by accident year, including cumulative incurred and paid losses and allocated loss adjustment expenses (“ALAE”), net of reinsurance, as well as cumulative claim frequency and the total of incurred but not reported liabilities plus expected development on reported claims as of December 31, 2016:
Deferred policy acquisition costs consist of commissions (net of ceding commission), premium taxes, inspection fees, and certain other underwriting costs, which are related to and vary with the production of Crusader policies. Policy acquisition costs are deferred and amortized as the related premium is earned. Deferred acquisition costs are reviewed to determine if they are recoverable from future income on insurance policies generated from these costs, including investment income.
Prior to October 9, 2015, the Company leased approximately 23,000 square feet of an office building located at 23251 Mulholland Drive, Woodland Hills, California. Erwin Cheldin, the Company's former president and a current director and principal stockholder, was the owner of the Woodland Hills building during the lease. The lease provided for an annual gross rent of $486,000 and was effective from April 1, 2012, through March 31, 2013. The lease provided for extension options at the same terms and conditions. The Company exercised its right to extend the lease through June 30, 2014, and the lease continued thereafter on a month-to-month basis. The Company believed that at the inception of the lease agreement, and at each subsequent extension, the terms of the lease were at least as favorable to the Company as could have been obtained from non-affiliated third parties. The Company utilized for its own operations 100% of the space it leased at the Woodland Hills building. The Company also leased storage space from Erwin Cheldin. Depending on usage, storage space rental was estimated to be approximately $15,000 annually. The total rent for the Woodland Hills building was $0, $406,796, and $501,258 for the years ended December 31, 2016, 2015, and 2014, respectively. The Company’s month-to-month lease of the home office in Woodland Hills, California, ended on October 15, 2015.
Likewise, the Company is sometimes named as a cross-defendant in litigation, which is principally directed against an insured who was issued a policy of insurance directly or indirectly through the Company. Incidental actions related to disputes concerning the issuance or non-issuance of individual policies are sometimes brought by customers or others. These items are also handled on a routine basis by counsel, and they do not generally affect the operations of the Company. Management is confident that the ultimate outcome of pending litigation should not have an adverse effect on the Company's consolidated results of operations or financial position. The Company vigorously defends itself unless a reasonable settlement appears appropriate.
In December 2015, a judgment was finalized on a Crusader policy liability claim. Crusader is appealing the judgment. As a part of the appeal, Crusader deposited $7,924,178 in cash with the Los Angeles Superior Court on December 28, 2015, in lieu of an appeal bond. This cash deposit was required to appeal the judgment. In March 2016, an additional judgment for plaintiff’s attorney fees and costs on this Crusader policy liability claim was finalized. The Company is also appealing this additional judgment. That additional appeal required an additional cash deposit in lieu of an appeal bond of $5,449,615. The additional cash deposit was made on March 21, 2016. These cash deposits for the appeals represent 150% of the judgments. Management believes the ultimate outcome of this litigation will be covered by Crusader’s reinsurance. Since this litigation was related to a Crusader claim in its normal course of business, management’s best estimate for ultimate liability related to this litigation was included in Crusader’s loss and loss adjustment expense reserves as of December 31, 2016 and 2015.
Crusader’s primary excess of loss reinsurance agreements during years ended December 31, 2016, 2015, and 2014 are as follows:
Crusader’s excess of loss reinsurance treaties provided for a contingent commission for accident years 2006, 2004, and 2003. Crusader’s 2006 1st layer primary excess of loss reinsurance treaty provided for a contingent commission equal to 20% of the net profit, if any, accruing to the reinsurer. Crusader’s 2004 and 2003 1st layer primary excess of loss reinsurance treaties provided for a contingent commission to the Company equal to 45% of the net profit, if any, accruing to the reinsurer. Any contingent commission received was subject to return based on future development of ceded losses and loss adjustment expenses. The contingent commission income (loss) recognized was $0, $91,686, and $(17,092) for the years ended December 31, 2016, 2015, and 2014, respectively. As of December 31, 2016, the contingent commission agreements had expired, and all contingent commission income due on these agreements had been recognized. As of December 31, 2016 and 2015, the unearned contingent commission balance included in “Accrued expenses and other liabilities” in the Consolidated Balance Sheets was $0.
In 2016, Crusader was outside the usual range on one of the 13 IRIS ratio tests. IRIS Ratio Test Number 6 considers Crusader’s 2016 investment yield. An unusual value for that ratio is an investment yield equal to or greater than 6.5% or equal to or less than 3.0%. Crusader’s 2016 investment yield, as computed for IRIS purposes, was 1.1%.
The Unico American Corporation 2011 Incentive Stock Plan covers 200,000 shares of the Company’s common stock (subject to adjustment in the case of stock splits, reverse stock splits, stock dividends, etc.) and was approved by shareholders on May 26, 2011. Options to purchase 8,760 and 91,240 shares of common stock were granted under the 2011 Plan to one non-executive employee during the years ended December 31, 2012 and 2011, respectively. As of December 31, 2016, 54,744 of these shares are currently vested and exercisable.
The Company recognized stock-based compensation expense in the amount of $23,104 for all awards issued under the Company’s 2011 Stock Option plan in the “Salaries and employee benefits” line item in the Consolidated Statements of Operations in each year ended December 31, 2016, 2015, and 2014. As of December 31, 2016, there was $112,914 of total unrecognized compensation cost, adjusted for estimated forfeitures, related to unvested stock-based payments which are expected to be recognized over a weighted average remaining period of 4.72 years.
Expected dividend yield is based on the historical dividend behavior as well as the expected dividend behavior of the Company. Expected volatility is based on the historical volatility of the Company’s stock. The risk-free rate for periods within the contractual life of the option is based on the U.S. treasury yield curve for a ten-year treasury in effect at the time of grant. The expected term represents an estimate of time the options are expected to remain outstanding. In accordance with ASC Topic 718, “Compensation - Stock Compensation”, the Company estimates forfeitures at the time of the grant and revises those estimates in subsequent periods if the actual forfeitures differ from those estimates.
The following table summarizes stock option activity for year ended December 31, 2016:
Significant components of the Company’s net deferred tax assets and liabilities are as follows:
The current valuation allowance is related to expected utilization of state tax net operating loss carryforwards to be realized prior to their expiration dates. The net increase to the valuation allowance during the year ended December 31, 2016, was $105,537 and included an increase of $176,440 to the reserve allowance offset by a decrease in the allowance of $70,902 due to expiration of the 2006 net operating loss carryforward that was applied to the valuation allowance. This compares to an increase in the valuation allowance of $305,756 during the year ended December 31, 2015.
As of December 31, 2016, the Company had no unrecognized tax benefits, no unrecognized additional liabilities or reduction in deferred tax asset, and no uncertain tax positions. In addition, the Company had not accrued interest and penalties related to unrecognized tax benefits. However, if interest and penalties would need to be accrued related to unrecognized tax benefits, such amounts would be recognized as a component of federal income tax expense.
On December 19, 2008, the Board of Directors authorized a stock repurchase program to acquire, from time to time, up to an aggregate of 500,000 shares of the Company’s common stock. This program has no expiration date and may be terminated by the Board of Directors at any time. As of December 31, 2016, and December 31, 2015, the Company had remaining authority under the 2008 program to repurchase up to an aggregate of 188,655 and 197,467 shares of its common stock, respectively. The 2008 program is the only program under which there is authority to repurchase shares of the Company’s common stock. The Company repurchased 8,812 shares of stock during the year ended December 31, 2016, in unsolicited transactions at a cost of $89,582 of which $4,331 was allocated to capital and $85,251 was allocated to retained earnings. The Company repurchased 25,202 shares of stock during the year ended December 31, 2015, in unsolicited transactions at a cost of $242,314 of which $12,385 was allocated to capital and $229,929 was allocated to retained earnings. The Company did not repurchase any stock during the year ended December 31, 2014. The Company has or will retire all stock repurchased.
Summarized unaudited quarterly financial data for each of the calendar years 2016 and 2015 is as follows:
The following table presents average annual percentage payout of incurred claims by age, net of reinsurance, as of December 31, 2016: