The following tables provide selected historical consolidated financial and operating data of the Company at the dates and for the periods indicated. In conjunction with the data provided in the following tables and in order to more fully understand our historical consolidated financial and operating data, you should also read our “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the accompanying notes included in this report. We derived our selected historical consolidated financial data at December 31, 2016, and 2015 and for the years ended December 31, 2016, 2015, and 2014 from our consolidated financial statements included in this report. We derived our selected historical consolidated financial data at December 31, 2014, 2013 and 2012 and for the years ended December 31, 2013 and 2012 from our consolidated financial statements which are not included in this report. The results for past periods are not necessarily indicative of the results to be expected for any future period.
The unaudited pro forma results should not be considered indicative of actual results that would have been achieved had the Titan acquisition and related transactions been consummated on January 1, 2014 and do not purport to indicate results of operations for any future periods.
The (benefit) provision for income taxes for the year ended December 31, 2014 includes a decrease in the valuation allowance for the deferred tax asset of $22.4 million.
the anticipated effects on our results of operations or financial condition from recent and expected developments or events, including the acquisition of the Titan Agencies;
Our common stock is listed on the New York Stock Exchange (the “NYSE”). On October 14, 2016, we received notice from the NYSE that we were not in compliance with the NYSE’s continued listing standards set forth in the NYSE Listed Company Manual, which require the average closing price of our common stock to be at least $1.00 per share over a consecutive 30 trading-day period. On December 1, 2016, we received notice from the NYSE that the 30 trading-day average closing price of our common stock was now above $1.00 per share and that we were once again in compliance with this listing standard. We expect that our common stock will continue to be listed on the NYSE, subject to our continued compliance with all of the NYSE’s continued listing standards.
At December 31, 2016, we leased and operated 355 retail locations (or “stores”) and a call center staffed by employee-agents who primarily sell non-standard personal automobile insurance products underwritten by us as well as certain commissionable ancillary products. In most states, our employee-agents also sell a complementary insurance product providing personal property and liability coverage for renters underwritten by us. In addition, retail locations in some markets offer non-standard personal automobile insurance serviced and underwritten by other third-party insurance carriers for which we receive a commission.
We have filed and received approval for substantial rate increases and structural changes in our rating programs in response to our increase in claim frequency. The magnitude and frequency of these changes are unprecedented in our recent history;
We increased our statutory capital and surplus by selling available-for-sale securities with unrealized gains ($4.9 million) and through capital contributions from net income derived from our insurance agency operations ($4.7 million).
Effective July 1, 2015, we acquired certain assets of Titan Insurance Services, Inc. and Titan Auto Insurance of New Mexico, Inc. (the “Titan Agencies”). These 82 retail locations, which are now rebranded under our Acceptance Insurance name, primarily sell private passenger non-standard automobile insurance policies underwritten by unrelated insurance companies for which our revenues are in the form of commission and fee income. We currently offer our own product through these stores, on a limited basis, in California and Texas.
The following table presents gross premiums earned by state (in thousands). Driven by a 13.6% year-over-year increase in our average in-force premium at the end of each year, net premiums earned for the year ended December 31, 2016 increased 13.6% compared with the prior year.
Our insurance segment presents a combined ratio as a measure of their overall underwriting profitability. The components of the combined ratio are as follows.
The value of our other investments was $10.0 million at December 31, 2016 and consisted of two limited partnership interests carried at net asset value, which approximates fair value, with unrealized gains and losses reported as investment income, and a privately-held real estate investment trust carried at fair value, with unrealized gains and losses reported in a separate component of stockholders’ equity. At December 31, 2016, we had gross unrealized gains attributable to our privately-held real estate investment trust of $0.9 million in our consolidated other investments portfolio.
At December 31, 2016, 96% of the fair value of our fixed maturities portfolio was rated “investment grade” (a credit rating of AAA to BBB-) by nationally recognized statistical rating organizations. Investment grade securities generally bear lower yields and have lower degrees of risk than those that are unrated or non-investment grade. We believe that a high quality investment portfolio is more likely to generate a stable and predictable investment return.
The following table summarizes our investments available-for-sale at December 31, 2016 (in thousands).
Revenues from insurance operations were $388.3 million for the year ended December 31, 2016, compared with $331.8 million for the year ended December 31, 2015. Loss before income taxes from insurance operations for the year ended December 31, 2016 was $40.7 million, compared with income before income taxes from insurance operations of $0.3 million for the year ended December 31, 2015.
During the six months ended December 31, 2016, we closed 55 poorly-performing stores. The cost of these closures, primarily for lease buyouts, was $1.0 million and is included in insurance operating expenses.
The expense ratio was 14.6% for the year ended December 31, 2016, compared with 17.8% for the year ended December 31, 2015. The year-over-year decrease in the expense ratio was primarily due to the increase in premiums earned which resulted in a lower percentage of fixed expenses in our retail operations (such as rent) and the Company’s efforts on cost containment.
In assessing our ability to realize the DTA, both positive and negative evidence are used to evaluate the allowance. Although we have incurred a pre-tax loss of $45.1 million which is a source of negative evidence, we placed greater weight on our outlook for future taxable income over the allowable time period for realization of the DTA and concluded that it is more likely than not that the remaining DTA will be realized. Regarding the length of time available to realize the DTA, at December 31, 2016, $24.2 million of the DTA related to net operating loss carryforwards do not expire until 2031 through 2036 and $2.0 million in AMT (“Alternative Minimum Tax”) carryforwards have no expiration date. The DTA valuation allowance may be adjusted in future periods if management determines that it is more likely than not that some portion or all of the DTA will not be realized. In the event the DTA valuation allowance is adjusted, we would record an income tax expense for the adjustment. Likewise, we would record an income tax expense in the period in which any reduction in the corporate tax rate was enacted.
Loss before income taxes from real estate and corporate operations for the year ended December 31, 2016 was $4.4 million, compared with $2.9 million for the year ended December 31, 2015. Segment losses consist of other operating expenses not directly related to our insurance operations, interest expense and stock-based compensation offset by offset by a gain on the sale of foreclosed real estate and investment income on corporate invested assets. On May 4, 2016, we sold one of our two remaining tracts of land resulting in a gain of $1.2 million.
Revenues for the year ended December 31, 2015 increased 26% to $331.9 million from $263.2 million in the prior year. Loss before income taxes for the year ended December 31, 2015 was $2.6 million, compared with income before income taxes of $9.7 million for the year ended December 31, 2014. Net loss for the year ended December 31, 2015 was $1.9 million, compared with net income of $28.1 million for the year ended December 31, 2014. The benefit for income taxes for the year ended December 31, 2014 included a decrease in the valuation allowance for the deferred tax asset of $22.4 million. Basic and diluted net loss per share was $0.05, for the year ended December 31, 2015, compared with basic and diluted net income per share of $0.68 for the year ended December 31, 2014.
Excluding litigation settlement costs of $3.7 million and Titan acquisition and integration costs of $1.6 million, for the year ended December 31, 2015, income before income taxes was $2.7 million.
Commission and fee income increased by $20.2 million, or 51%, to $59.9 million for the year ended December 31, 2015, from $39.7 million for the year ended December 31, 2014. Revenue from the former Titan retail locations acquired on July 1, 2015 accounted for $12.6 million of this increase. The remaining increase in commission and fee income was a result of higher fee income related to commissionable ancillary products sold through our previously-existing retail locations and the increase in the number of policies in force.
Our primary sources of funds are premiums, fees and investment income from our insurance company subsidiaries and commissions and fee income from our non-insurance company subsidiaries. Our primary uses of funds are the payment of claims and operating expenses. Net cash used by operating activities for the year ended December 31, 2016 was $13.6 million, compared with net cash provided by operating activities of $29.3 million for the year ended December 31, 2015. This change was primarily a result of the net loss in the current year. Net cash provided by investing activities for the year ended December 31, 2016 was $16.7 million, compared with net cash used in investing activities of $46.2 million for the year ended December 31, 2015. Sales, maturities, and redemptions of investments, available-for-sale, net of purchases, resulted in an increase of $14.9 million in cash provided by investing activities for the year ended December 31, 2016. Investing activities for the current year were impacted by the sale of certain fixed maturities in an unrealized gain position to increase the statutory capital and surplus of the insurance company subsidiaries and their subsequent reinvestment. The current year also included $1.8 million of proceeds from the sale of foreclosed real estate. The year ended December 31, 2015 included the Titan business acquisition of $33.8 million. Net cash provided by financing activities for the year ended December 31, 2015 included $30.0 million from a term loan from our principal stockholder to partially fund the Titan acquisition.
Our holding company requires cash for general corporate overhead expenses and for debt service related to our debentures and term loan payable. The holding company’s primary source of unrestricted cash to meet its obligations is the sale of ancillary products and insurance policies on behalf of third-party carriers by our agency operations, including the 2015 Titan acquisition. At December 31, 2016, our holding company had $3.5 million available in unrestricted cash and investments. These funds and the additional unrestricted cash from the sources noted above will be used to pay our future cash requirements outside of the insurance company subsidiaries.
The holding company has debt service requirements related to the debentures payable and the term loan to a principal stockholder. The debentures are interest-only and mature in full in July 2037. The debentures accrue interest at a variable rate equal to Three-Month LIBOR plus 375 basis points, which resets quarterly. The interest rate related to the debentures for the year ended December 31, 2016 ranged from 4.366% to 4.637%. In January 2017 the interest rate reset to 4.789% through April 2017. The term loan is interest-only and matures in full in June 2025. The interest rate on the term loan is 8%.
State insurance laws limit the amount of dividends that may be paid from our insurance company subsidiaries. At December 31, 2016, our insurance company subsidiaries could not pay any dividends due to a negative unassigned surplus position.
For the year ended December 31, 2016, the insurance company subsidiaries experienced a reduction in statutory capital and surplus of $39.9 million primarily as a result of unfavorable loss development. The National Association of Insurance Commissioners (“NAIC”) Model Act for risk-based capital provides formulas to determine each December 31 on an annual basis the amount of statutory capital and surplus that an insurance company needs to ensure that it has an acceptable expectation of not becoming financially impaired. Failure to meet applicable risk-based capital requirements could subject our insurance company subsidiaries to further examination or corrective action imposed by state regulators, including limitations on their writing of additional business, state supervision or even liquidation. As of December 31, 2016 the insurance company subsidiaries remain above the company action levels. There are also statutory guidelines that suggest that on an annual calendar year basis an insurance company should not exceed a ratio of net premiums written to statutory capital and surplus of 3-to-1. On a combined basis, the ratio for our insurance company subsidiaries of net premiums written for the last twelve months to statutory capital and surplus was 5.08-to-1 at December 31, 2016 which is in excess of the suggested guidelines.
Payments due by period assume a contractual variable interest rate of LIBOR plus 375 basis points, or 4.789% at January 31, 2017.
Payments due by period assume the flat contractual interest rate of 8%.
On June 15, 2007, First Acceptance Statutory Trust I (“FAST I”), our wholly-owned unconsolidated subsidiary trust entity, completed a private placement whereby FAST I issued 40,000 shares of preferred securities at $1,000 per share to outside investors and 1,240 shares of common securities to us, also at $1,000 per share. FAST I used the proceeds from the sale of the preferred securities to purchase $41.2 million of junior subordinated debentures from us. The debentures will mature on July 30, 2037 and are currently redeemable by the Company in whole or in part and the preferred securities are callable. The debentures paid a fixed rate of 9.277% until July 30, 2012, after which the rate became variable (Three-Month LIBOR plus 375 basis points, resetting quarterly). During 2016, the interest rate related to the debentures ranged from 4.366% to 4.637%. The obligations of the Company under the junior subordinated debentures represent full and unconditional guarantees by the Company of FAST I’s obligations for the preferred securities. Dividends on the preferred securities are cumulative, payable quarterly in arrears and are deferrable at the Company’s option for up to five years. The dividends on these securities, which have not been deferred, are the same as the interest on the debentures. The Company cannot pay dividends on its common stock during any such deferments. FAST I does not meet the requirements for consolidation of FASB ASC 810, Consolidation.
We follow the accounting guidelines, which allows companies to waive comparing the fair value of goodwill and identifiable intangible assets to their carrying amounts in assessing their recoverability if, based on qualitative factors, it is more likely than not that the fair value of goodwill and identifiable intangible assets is greater than their carrying amounts. The qualitative factors include such things as our financial performance, legal and regulatory factors, industry and market considerations, and entity-specific events, all of which are subjective. Based on recent entity-specific events, the Company elected to prepare a quantitative analysis for its annual impairment testing as of October 1, 2016. This review did not indicate any impairment.
Losses and loss adjustment expense reserves represent our best estimate of our ultimate liability for losses and loss adjustment expenses relating to events that occurred prior to the end of any given accounting period but have not been paid. Months and potentially years may elapse between the occurrence of an automobile accident covered by one of our insurance policies, the reporting of the accident and the payment of the claim. We record a liability for estimates of losses that will be paid for accidents that have been reported, which is referred to as case reserves. As accidents are not always reported when they occur, we estimate liabilities for accidents that have occurred but have not been reported (“IBNR”).
The determination of whether unrealized losses are “other-than-temporary” requires judgment based on the length of time the security’s market value has been below its cost, as well as other subjective and objective factors. We routinely monitor our investment portfolio for changes in fair value that might indicate potential impairments and perform detailed reviews on such securities. Changes in fair value are evaluated to determine the extent to which such changes are attributable to (i) fundamental factors specific to the issuer or (ii) market-related factors such as interest rates or sector declines.
In reviewing our investment portfolio for impairment at December 31, 2016, we were able to rely upon the objective factor that the unrealized losses as of this date were related to the increase in market interest rates.
We have audited First Acceptance Corporation and subsidiaries’ (the “Company”) internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 Framework) (the “COSO criteria”). The Company's management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Annual Report on Internal Control Over Financial Reporting listed as item 9A. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.
First Acceptance Corporation (the “Company”) is a holding company based in Nashville, Tennessee with operating subsidiaries whose primary operations include the selling, servicing, and underwriting of non-standard personal automobile insurance and related products. In 2016, our insurance operations generated revenue from selling non-standard personal automobile insurance products and related products in 17 states and conducted our servicing and underwriting operations in 14 states. In December 2016, we closed all of our retail locations and ceased writing new business in the state of Missouri. The Company issued policies of insurance through three wholly-owned subsidiaries: First Acceptance Insurance Company, Inc., First Acceptance Insurance Company of Georgia, Inc. and First Acceptance Insurance Company of Tennessee, Inc. (collectively, the “Insurance Companies”).
The change in net asset value of limited partnership interests and any dividends paid by the REIT are recorded in investment income in the consolidated statements of comprehensive (loss) income.
Foreclosed real estate held for sale is recorded at the lower of cost or fair value less estimated costs to sell. The Company periodically reviews its portfolio of foreclosed real estate held for sale using current information including (i) independent appraisals, (ii) general economic factors affecting the area where the property is located, (iii) recent sales activity and asking prices for comparable properties and (iv) costs to sell and/or develop that would serve to lower the expected proceeds from the disposal of the real estate. Gains (losses) realized on liquidation are recorded directly to operations and included in revenues. Foreclosed real estate held for sale assets of $0.2 million and $0.8 million at December 31, 2016 and 2015, respectively, are included within other assets in the accompanying consolidated balance sheets.
Conformity with U.S. generally accepted accounting principles requires the Company to evaluate whether there are conditions and events that raise substantial doubt about the Company’s ability to continue as a going concern within one year after the financial statements are issued. Management’s evaluation determined that the Company does not have substantial doubt continuing one year after the financial statements are issued.
In April 2015, the FASB issued ASU No. 2015-05, “Intangibles-Goodwill and Other-Internal Use Software (Subtopic 350-40): Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement” to clarify how customers in cloud computing arrangements should determine whether the arrangement includes a software license. The amendment also eliminates today’s requirement that customers analogize to the leases standard when determining the assets acquired in a software licensing arrangement. For calendar year-end entities, the guidance was effective January 1, 2016 with the option to apply the guidance either prospectively or retrospectively. The Company has elected to apply this guidance prospectively, which resulted in $5 thousand of software licenses included in identifiable intangibles assets on the consolidated balance sheet as of December 31, 2016. Prior to this guidance, these licenses would have been included in property and equipment on the consolidated balance sheet.
In January 2016, the FASB issued ASU No. 2016-01, “Financial Instruments - Overall (Subtopic 825-20): Recognition and Measure of Financial Assets and Financial Liabilities” which requires entities to measure many equity investments at fair value and recognize changes in fair value in net income (loss), as opposed to the current practice of other comprehensive income (loss). The requirement does not apply to equity investments that result in consolidation, those accounted for under the equity method and certain others. The guidance provides a new measurement alternative for equity investments that do not have readily determinable fair values and do not qualify for the net asset value practical expedient. Under this alternative, these investments can be measured at cost, less any impairment, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. The guidance is effective for public business entities for annual periods beginning after December 15, 2017, and interim periods within those years. The Company believes that its other investment in a REIT will fall under the guidance of the new measurement alternative and that future changes in fair value will be recognized in net income (loss), as opposed to the current practice of other comprehensive income (loss). The Company has not determined the impact on future consolidated financial statements once this is adopted.
Basic net (loss) income per share is computed by dividing net (loss) income available to common shareholders by the weighted average number of common shares, while diluted net (loss) income per share is computed by dividing net (loss) income available to
common shareholders by the weighted average number of such common shares and dilutive share equivalents. Dilutive share equivalents may result from the assumed exercise of employee stock options and restricted stock units and are calculated using the treasury stock method.
The following table represents the quantitative disclosure for those assets classified as Level 3 during the year ended December 31, 2016 (in thousands).
There were no fixed maturity securities in a continuous unrealized loss position for greater than 12 months as of December 31, 2016.The following table reflects the fair value and gross unrealized losses of those fixed maturity securities in a continuous unrealized loss position for greater than 12 months as of December 31, 2015. Gross unrealized losses are further segregated by the percentage of amortized cost (in thousands, except number of securities).
The Company believes that the remaining securities having unrealized losses at December 31, 2016 were impacted by the recent change in interest rates and are not other-than-temporarily impaired. The Company also does not intend to sell any of these securities and it is more likely than not that the Company will not be required to sell any of these securities before the recovery of their amortized cost basis.
The Insurance Companies utilize excess-of-loss reinsurance with an unaffiliated reinsurer to limit their exposure to losses under liability coverages for automobile policies issued with limits greater than the minimum statutory requirements and for tenant homeowner policies with higher liability limits. Although the reinsurance agreements contractually obligate the reinsurer to reimburse the Company for their share of losses, they do not discharge the primary liability of the Company, which remains contingently liable in the event the reinsurer is unable to meet their contractual obligations.
At December 31, 2016, the Insurance Companies had unsecured aggregate reinsurance receivables of $0.8 million.
Stock Option Awards were all granted with an exercise price equal to or greater than the market price of the Company’s stock at the date of grant. Stock Option Awards expire over five or ten years from the date of grant and were all fully vested as of January 2016. Compensation expense related to Stock Option Awards was calculated under the fair value method and recorded on a straight-line basis over the vesting period. No Stock Option Awards have been granted since January 2012, and of those outstanding, 750,000 expired unexercised at January 31, 2017 and 220,000 having a $3.04 exercise price expire on March 17, 2018.
On March 15, 2016 and March 10, 2015 respectively, the Compensation Committee of the Board of Directors of the Company awarded 146 thousand and 141 thousand Restricted Stock Units to executive officers. Such Restricted Stock Units will vest, and an equal number of shares of common stock will be deliverable upon the third anniversary of the dates of grants. Compensation expense related to the units was calculated based upon the closing market prices of the common stock on the dates of grants ($2.30 and $2.44) and is recorded on a straight-line basis over the vesting period.
The Company’s Board of Directors adopted the First Acceptance Corporation Employee Stock Purchase Plan (“ESPP”) whereby eligible employees may purchase shares of the Company’s common stock at a price equal to the lower of the closing market price on the first or last trading day of a six-month period. ESPP participants can authorize payroll deductions, administered through an independent plan custodian, of up to 15% of their salary to purchase semi-annually (June 30 and December 31) up to $25,000 of the Company’s common stock during each calendar year. The Company has reserved 600,000 shares of common stock for issuance under the ESPP. Employees purchased approximately 64,000, 37,000, and 31,000 shares during the years ended December 31, 2016, 2015 and 2014, respectively. Compensation expense attributable to subscriptions to purchase shares under the ESPP was $19 thousand, $12 thousand and $11 thousand for the years ended December 31, 2016, 2015 and 2014, respectively. At December 31, 2016, 186,174 shares remain available for issuance under the ESPP.
The Company sponsors a defined contribution retirement plan (“401k Plan”) under Section 401(k) of the Internal Revenue Code. The 401k Plan covers substantially all employees who meet specified service requirements. Under the 401k Plan, the Company may, at its discretion, match 100% of the first 3% of an employee’s salary plus 50% of the next 2% up to the maximum allowed by the Internal Revenue Code. The Company’s contributions to the 401k Plan for the years ended December 31, 2016, 2015 and 2014 were $1.1 million, $1.0 million and $0.7 million, respectively, and are included within insurance operating expenses in the accompanying consolidated statements of operations and comprehensive (loss) income.
The unfavorable change in the estimate of unpaid losses and loss adjustment expenses of $30.6 million for the year ended December 31, 2016 was the result of increased losses primarily from the 2015 accident year across all major coverages. The most significant causes of the development were a greater than usual emergence of reported claims and higher bodily injury severity.
The information about incurred and paid claims development for the 2007 to 2015 years, and the average annual percentage payout of incurred claims by age as of December 31, 2016, is presented as required supplementary information.
Prior to December 31, 2014, the Company had a full valuation allowance against its deferred tax asset based upon past negative evidence in the form of historical taxable losses. Based upon positive evidence from recent taxable income at the time and the Company’s then outlook for future profitability, the deferred tax valuation allowance for the year ended December 31, 2014 was decreased by $22.4 million.
The following table sets forth the computation of basic and diluted net (loss) income per share (in thousands, except per share data).
For the year ended December 31, 2016, the computation of diluted net income per share did not include options to purchase approximately 750 thousand shares, a dilutive effect of 127 thousand shares, and restricted stock units convertible into 169 thousand shares, a dilutive effect of 17 thousand shares, since their inclusion would have been anti-dilutive. Options to purchase 220 thousand shares for the year ended December 31, 2016 were not included in the computation of diluted net loss per share as their exercise prices were in excess of the average stock prices for the year.
For the year ended December 31, 2015, the computation of diluted net income per share did not include options to purchase approximately 825 thousand shares, a dilutive effect of 319 thousand shares, and restricted stock units convertible into 141 thousand shares, a dilutive effect of 26 thousand shares, since their inclusion would have been anti-dilutive. Options to purchase 260 thousand shares for the year ended December 31, 2015 were not included in the computation of diluted net loss per share as their exercise prices were in excess of the average stock prices for the year.
The Company is named as a defendant in various lawsuits, arising in the ordinary course of business, generally relating to its insurance operations. All legal actions relating to claims made under insurance policies are considered by the Company in establishing its loss and loss adjustment expense reserves. The Company also faces lawsuits from time to time that seek damages beyond policy limits, commonly known as bad faith claims, as well as class action and individual lawsuits that involve issues arising in the course of the Company’s business. The Company continually evaluates potential liabilities and reserves for litigation of these types using the criteria established by FASB ASC 450, Contingencies (“FASB ASC 450”). Pursuant to FASB ASC 450, reserves for a loss may only be recognized if the likelihood of occurrence is probable and the amount can be reasonably estimated. If a loss, while not probable, is judged to be reasonably possible, management will disclose, if it can be estimated, a possible range of loss or state that an estimate cannot be made. Management evaluates each legal action and records reserves for losses as warranted by establishing a reserve in its consolidated balance sheets in loss and loss adjustment expense reserves for bad faith claims and in other liabilities for other lawsuits. Amounts incurred are recorded in the Company’s consolidated statements of operations and comprehensive (loss) income in losses and loss adjustment expenses for bad faith claims and in insurance operating expenses for other lawsuits unless otherwise disclosed.
The insurance segment includes the former Titan retail locations since their July 1, 2015 acquisition. See Note 18 for additional information on this business combination.
The maximum amount of dividends which can be paid by First Acceptance Insurance Company, Inc. (“FAIC”) to the Company, without the prior approval of the Texas insurance commissioner, is limited to the greater of 10% of statutory capital and surplus at December 31st of the next preceding year or net income for the year. In addition, dividends may only be paid from unassigned funds (surplus) and an insurance company’s remaining surplus must be both reasonable in relation to its outstanding liabilities and adequate to its financial needs. At December 31, 2016, FAIC could not pay any dividends to the Company due to a negative unassigned surplus position.
On July 1, 2015, in order to expand its geographic presence, the Company completed the acquisition of certain assets of Titan Insurance Services, Inc. and Titan Auto Insurance of New Mexico, Inc. (the “Titan Agencies”). These agencies sell private passenger non-standard automobile insurance and complimentary products, principally in California, but also in Texas, Arizona, Florida, Nevada and New Mexico. The Titan Agencies were previously owned and operated by Nationwide. Pursuant to the Asset Purchase Agreement (the “APA”), the Company acquired the assets of 83 retail stores for total consideration of $36.0 million, which included liabilities assumed estimated to be $2.3 million. The Company has accounted for the acquisition as a business combination applying the acquisition method. The results of the acquired retail locations have been included in the Company’s consolidated statement of operations and comprehensive (loss) income from the July 1, 2015 acquisition date.
The Company has $70.0 million in long-term borrowings of which $40.0 million matures in 2037 and $30.0 million matures in 2025. At December 31, 2016, the Company was in compliance with the covenants related to these borrowings. Such borrowings are not obligations of the Company’s regulated insurance company subsidiaries who at December 31, 2016 had combined statutory capital and surplus of $58.9 million. The Company believes that it has sufficient liquidity to meet its current obligations in the foreseeable future, including the payment of interest on its long-term borrowings which it currently funds through the cash flows of its agency operations which are generated outside the Company’s regulated insurance company subsidiaries and are not subject to any limitation on the payment of dividends to the holding company.
The Company has three insurance company subsidiaries that are organized and domiciled under the insurance statutes of Texas, Georgia, and Tennessee. The insurance company subsidiaries operate under licenses issued by various state insurance authorities. Such licenses may be of perpetual duration or periodically renewable, provided the insurance company subsidiaries continue to meet applicable regulatory requirements.
For the year ended December 31, 2016, the insurance company subsidiaries experienced a reduction in combined statutory capital and surplus of $39.9 million, primarily as a result of unfavorable loss development. The National Association of Insurance Commissioners (“NAIC”) Model Act for risk-based capital provides formulas to determine each December 31 on an annual basis the amount of statutory capital and surplus that an insurance company needs to ensure that it has an acceptable expectation of not becoming financially impaired. Failure to meet applicable minimum risk-based capital requirements could subject our insurance company subsidiaries to further examination or corrective action imposed by state regulators, including limitations on their writing of additional business, state supervision or even liquidation. Risk-based capital calculations are only made as of each December 31, and the three insurance company subsidiaries were each above the minimum regulatory company action levels as of December 31, 2016. There are also statutory guidelines that suggest that on an annual calendar year basis an insurance company should not exceed a ratio of net premiums written to statutory capital and surplus of 3-to-1. On a combined basis, the ratio for the insurance company subsidiaries of net premiums written for the last twelve months to statutory capital and surplus was 5.08-to-1 at December 31, 2016 which is in excess of the suggested guidelines. Management is currently operating under a business plan to reduce premium writings and increase statutory capital and surplus to address the net premiums written to statutory capital and surplus guidelines.