Leased Properties. The Company leases space for its principal offices and for some of its insurance operations in an office building located in Atlanta, Georgia, from Delta Life Insurance Company under leases which expire at various times from July 31, 2005 to May 31, 2012. Under the current terms of the leases, the Company occupies approximately 65,489 square feet of office space. Delta Life Insurance Company, the owner of the building, is controlled by J. Mack Robinson, Chairman of the Board of Directors and the largest shareholder of the Company. The terms of the leases are believed by Company
Association Casualty leases space for its office in a building located in Austin, Texas. The lease term expires December 31, 2005. Under the terms of the lease, Association Casualty occupies 18,913 square feet.
Represents a cumulative effect of change in accounting principle with respect to the adoption of Statement of Financial Accounting Standards No. 142 regarding goodwill.
The following is management’s discussion and analysis of the financial condition and results of operations of Atlantic American Corporation (“Atlantic American” or the “Parent”) and its subsidiaries (collectively, the “Company”) for each of the three years in the period ended December 31, 2004. This discussion should be read in conjunction with the consolidated financial statements and notes thereto included elsewhere herein.
Unpaid loss and loss adjustment expense comprised 44% of the Company’s liabilities at December 31, 2004. This obligation includes estimates for: 1) unpaid losses on claims reported prior to December 31, 2004, 2) future development on those reported claims, 3) unpaid ultimate losses on claims incurred prior to December 31, 2004 but not yet reported to the Company and 4) unpaid loss adjustment expenses for reported and unreported claims incurred prior to December 31, 2004. Quantification of loss estimates for each of these components involves a significant degree of judgment and estimates may vary, materially, from period to period. Estimated unpaid losses on reported claims are developed based on historical experience with similar claims by the Company. Future development on reported claims, estimates of unpaid ultimate losses on claims incurred prior to December 31, 2004 but not yet reported to the Company, and estimates of unpaid loss adjustment expenses are developed based on the Company’s historical experience, using actuarial methods to assist in the analysis. The Company’s actuarial staff develops ranges of estimated future development on reported and unreported claims as well as loss adjustment expenses using various methods including the paid-loss development method, the reported-loss development method, the paid Bornhuetter-Ferguson method, the reported Bornhuetter-Ferguson method, the Berquist-Sherman method and a frequency-severity method. Any single method used to estimate ultimate losses has inherent advantages and disadvantages due to the trends and changes affecting the business environment and the Company’s administrative policies. Further, a variety of external factors, such as legislative changes, medical inflation, and others may directly or indirectly impact the relative adequacy of liabilities for unpaid losses and loss adjustment expenses. The Company’s approach is the selection of an estimate of ultimate losses based on comparing results of a variety of reserving methods, as opposed to total reliance on any single method. Unpaid loss and loss adjustment expenses are reviewed periodically for significant lines of business, and when current results differ from the original assumptions used to develop such estimates, the amount of the Company’s recorded liability for unpaid loss and loss adjustment expenses is adjusted. In the event the Company’s actual reported losses in any period are
Future policy benefits comprised 13% of the Company’s total liabilities at December 31, 2004. These liabilities relate to life insurance products and are based upon assumed future investment yields, mortality rates, and withdrawal rates after giving effect to possible risks of adverse deviation. The assumed mortality and withdrawal rates are based upon the Company’s experience. If actual results differ from the initial assumptions, the amount of the Company’s recorded liability could require adjustment.
Receivables are amounts due from reinsurers, insureds and agents and comprised 23% of the Company’s total assets at December 31, 2004. Allowances for uncollectible amounts are established, as and when a loss has been determined probable, against the related receivable. Annually, the Company using various data sources performs an analysis of the credit worthiness of the Company’s reinsurers. Failure of reinsurers to meet their obligations due to insolvencies or disputes could result in uncollectible amounts and losses to the Company. Insured and agent balances are evaluated periodically for collectibility. Losses are recognized when determined on a specific account basis and a general provision for loss is made based on the Company’s historical experience.
Deferred income taxes comprised less than 1% of the Company’s total assets at December 31, 2004. Deferred income taxes reflect the effect of temporary differences between assets and liabilities that are recognized for financial reporting purposes and the amounts that are recognized for tax purposes. These deferred income taxes are measured by applying currently enacted tax laws and rates. Valuation allowances are recognized to reduce the deferred tax assets to the amount that is more likely than not to be realized.
In assessing the likelihood of realization, management considers estimates of future taxable income and tax planning strategies.
On a consolidated basis, the Company had net income of $5.0 million, or $0.18 per diluted share in 2004. Net income was $6.8 million, or $.25 per diluted share in 2003. In 2002, the Company had a net loss of $12.2 million, or $.63 per diluted share. The net loss for 2002 was primarily the result of a non-cash charge of $15.8 million to reflect a change in accounting for goodwill. Total revenue for 2004 increased $18.5 million, or 10.8%, to $190.1 million from $171.6 million in 2003. The increase was primarily attributable to new program business at American Southern as well as premium growth generated by established agents and new agency appointments at Georgia Casualty. Premium revenue for 2004 increased $16.1 million, or 10.4%, over 2003. Total revenue for 2003 increased slightly to $171.6 million from $170.2 million in 2002. The slight increase in revenue during 2003 was primarily due to the non-renewal of several accounts that were unprofitable in addition to the loss of one of the Company’s larger contracts early in the second quarter of 2003, offset primarily by new business and premium increases on existing business. The decrease in net income during 2004 from 2003 was primarily due to hurricane related expenses of $3.8 million in the property and casualty operations as well as a $3.1 million reinsurance premium accrual related to the settlement of an arbitration proceeding between
Gross written premiums at American Southern increased $15.9 million, or 35.8%, during 2004 as compared to 2003. The increase in premiums was primarily attributable to new business opportunities in 2004 subsequent to the loss of American Southern’s largest account upon its contractual termination on April 30, 2003. This contract had previously represented annualized premiums of $14.3 million, or approximately 10% of annualized premium revenue for Atlantic American. Since losing that significant contract, American Southern has been successful in replacing the lost business with new accounts from a more diversified group of clients by underwriting several new programs, specifically in the general liability and surety lines of business. In addition, American Southern has generated new business and premium growth through new agency appointments and established agents.
Gross written premiums at American Southern decreased $4.3 million, or 8.9%, during 2003 as compared to 2002. The decrease in premiums was attributable to the loss of American Southern’s largest account, partially offset by new business opportunities.
The performance of an insurance company is often measured by the combined ratio. The combined ratio represents the percentage of losses, loss adjustment expenses and other expenses that are incurred for each dollar of premium earned by the company. A combined ratio of under 100% represents an underwriting profit while a combined ratio of over 100% indicates an underwriting loss. The combined ratio
The combined ratio for American Southern increased to 94.2% in 2004 from a combined ratio of 92.0% in 2003. The loss ratio decreased to 51.6% in 2004 from 56.2% in 2003. The decrease in the loss ratio during 2004 was primarily attributable to changes in American Southern’s book of business. The increased focus on new business writings in general liability and surety that began in the second half of 2003 resulted in a decrease in the loss ratio due to favorable loss experience in those lines of business during 2004. The 2004 hurricane related losses in the state of Florida, which contributed $1.0 million to the hurricane related expenses within the property and casualty operations partially offset the reported improvement in the loss ratio. The expense ratio for 2004 increased to 42.6% from 35.8% in 2003. The increase in the expense ratio for 2004 is a function of American Southern’s contractual arrangements, which compensate the company’s agents in relation to the loss ratios of the business they write. The majority of American Southern’s business is structured in such a way that the agents are rewarded or penalized based upon the loss ratio of the business they submit. By structuring its business in this manner, American Southern provides its agents with an economic incentive to place profitable business with American Southern. As a result of this arrangement, in periods where losses and the loss ratio decrease, commission and underwriting expenses increase. American Southern continues to experience increased acquisition costs associated with new programs and accounts the company has underwritten in 2004. As a percentage of gross written premiums, net fixed commissions increased to 16.3% in 2004 from 14.2% in 2003. Total commissions (fixed plus variable) increased to 26.3% in 2004 from 21.3% in 2003.
Written premiums assumed from Georgia Casualty under a quota share agreement and eliminated in consolidation.
Gross written premiums at Association Casualty increased $0.1 million in 2003 from 2002. The slight increase in gross written premiums was due primarily to new business in addition to $3.6 million in premiums assumed from Georgia Casualty under a quota share agreement, offset by the non-renewal of approximately $3.9 million in gross written premiums for certain accounts that were not profitable. In 2003, Association Casualty continued to re-underwrite the workers’ compensation book of business, increase rates on renewal business, and increase business writings for commercial lines other than workers’ compensation such as general liability, property and automobile.
Ceded premiums at Association Casualty increased $0.4 million, or 10.0%, during 2003 from 2002. In 2003, Association Casualty’s primary reinsurance agreement expired. Due to the proposed renewal rates and terms associated therewith, Association Casualty terminated the relationship with its then-existing reinsurer and entered into a new reinsurance agreement. The new reinsurance rates resulted in a prospective pricing increase over previous rates. Furthermore, Association Casualty experienced higher
reinsurance rates due to the change in the company’s book of business. Ceded premiums increased disproportionately due to the higher reinsurance costs associated with these new lines of business. Excluding assumed written premiums of $3.6 million in 2003 that were not subject to reinsurance and did not exist in 2002, reinsurance premiums ceded as a percentage of direct written premiums increased to 19.7% in 2003 from 15.6% in 2002.
The combined ratio for Association Casualty decreased to 102.2% in 2004 from 114.9% in 2003. The loss ratio decreased to 60.8% in 2004 from 74.9% in 2003. The decrease in the loss ratio was primarily attributable to an extensive re-underwriting of the workers’ compensation book of business that began in 2002. Association Casualty has benefited from these initiatives and continues to diversify its book of business and improve underwriting criteria. Association Casualty’s overall number of claims reported and the severity of those claims has decreased significantly. The expense ratio increased to 41.4% in 2004 from 40.0% in 2003 primarily due to increased data processing and conversion costs associated with the conversion of Association Casualty’s underlying information systems to mirror those of Georgia Casualty.
The combined ratio for Association Casualty decreased to 114.9% in 2003 from 118.0% in 2002. The loss ratio decreased to 74.9% in 2003 from 84.2% in 2002. The decrease in the loss ratio was primarily due to the re-underwriting of its workers’ compensation book of business. Although Association Casualty benefited from the re-underwriting of its workers’ compensation business, it continued to be adversely impacted by the liberal interpretation of the workers’ compensation laws in the state of Texas. Interpretive changes in the application of “life time medical” and “impairment rating” provisions of Texas workers’ compensation laws resulted in increased medical costs and the need to provide for additional reserves. In 2003, Association Casualty increased pricing and improved underwriting criteria to help to mitigate these costs, as well as others. The expense ratio increased to 40.0% in 2003 from 33.8% in 2002, primarily as a result of a consistent level of fixed expenses coupled with a decrease in earned premiums.
Written premiums ceded to Association Casualty under a quota share agreement and eliminated in consolidation.
Gross written premiums at Georgia Casualty increased $2.9 million, or 5.6%, in 2003 as compared to 2002. The increase in premiums was primarily attributable to new business and increased rates on renewal business. The increase in premiums was partially offset by the non-renewal of several large accounts in 2003 and the complete elimination of a substandard underwriting program, which began during the latter part of 2002. During 2003, approximately $4.3 million in gross written premiums were non-renewed from these initiatives.
Ceded premiums at Georgia Casualty increased $0.2 million, or 1.0%, in 2003 as compared to 2002. The increase in ceded premiums was primarily due to the 10% quota share reinsurance agreement with Association Casualty that was established in 2003. Under this quota share agreement, Georgia Casualty ceded $3.6 million of premiums to Association Casualty in 2003, while no such premiums were ceded in
2002. Offsetting the increase in ceded premiums in 2003 was a reduction in the cession rate in the external quota share agreement. During 2003, the 30% quota share reinsurance agreement that Georgia Casualty had established in the first quarter of 2002 was decreased to a 20% rate (10% with Association Casualty and 10% with a third party reinsurer) retroactive to January 1, 2003. The reduction in the cession rate in the quota share agreement resulted in a decrease in ceded premiums of approximately $3.6 million in 2003 as compared to 2002.
The combined ratio for Georgia Casualty decreased to 106.1% in 2003 from 111.9% in 2002. The loss ratio decreased to 64.9% in 2003 from 67.1% in 2002. The decrease in the loss ratio was primarily attributable to better experience on Georgia Casualty’s net book of business during 2003 than in 2002. In 2003, Georgia Casualty incurred fewer large losses than in 2002. The expense ratio decreased to 41.2% in 2003 from 44.8% in 2002. The decrease in the expense ratio was primarily due to the reversal in 2003 of
Investment income for 2004 of $15.9 million increased slightly by $0.2 million, or 1.5%, from 2003. Investment income for 2003 of $15.6 million increased $1.6 million, or 11.5%, from 2002. The increase in investment income during 2003 was primarily due to a shift from short-term investments to higher yielding fixed maturities. The Company’s investment in fixed maturities increased from $207.0 million at December 31, 2002 to $229.5 million as of December 31, 2004 and 2003.
Interest expense of $3.1 million decreased 1.6%, during 2004 as compared to 2003. On June 30, 2004, the Company’s $15.0 million notional amount interest rate swap agreement with Wachovia Bank, N.A. (“Wachovia”) matured. During the term of this agreement, the Company paid a fixed interest rate of 5.1% and received interest equal to the three-month London Interbank Offer Rate (“LIBOR”). Given the maturity of the interest rate swap and the decline in interest rates subsequent to the inception of the interest rate swap agreement in 2001, interest expense decreased by $0.2 million during 2004 as compared to 2003. Additionally, during 2004, the Company repaid $3.0 million in principal of its term loan (as described below in “Liquidity and Capital Resources”) to Wachovia, which also decreased interest expense. The increase in average debt levels resulting from the second pooled private placement offering of trust preferred securities in 2003 (as described in “Liquidity and Capital Resources”), along with the increased variable rate paid thereon, substantially offset the discussed decreases in interest expense during 2004.
Interest expense increased $0.6 million, or 21.8%, during 2003 to $3.1 million from $2.6 million in 2002. As of December 31, 2003, total debt increased $6.2 million to $56.2 million, from $50.0 million at December 31, 2002. On December 4, 2002, the Company participated in a pooled private placement offering of trust preferred securities. In that offering, the Company issued to a newly created Connecticut statutory trust approximately $18.0 million in thirty year junior subordinated debentures, and the trust sold $17.5 million of trust preferred securities to third party investors. Of the $17.0 million in net proceeds, $12.0 million was used to reduce the principal balance on the Company’s outstanding term loan to $32.0 million from $44.0 million. On May 15, 2003, the Company participated in a second pooled private placement offering of trust preferred securities. In that offering, the Company issued to a separate newly created Connecticut statutory trust approximately $23.2 million in thirty year junior subordinated debentures, and that trust sold $22.5 million of trust preferred securities to third party investors. Of the $21.8 million in net proceeds, $17.0 million was used to reduce the principal balance on the Company’s outstanding term loan to $15.0 million from $32.0 million. Both trust preferred securities issuances, which
Other expenses increased $4.1 million, or 7.5%, in 2003 as compared to 2002. The increase in other expenses during 2003 was due to several factors. First, the Company experienced an increase in acquisition costs on new and renewal business at American Southern, which increased $1.9 million over 2002. Of the $1.9 million increase in acquisition costs in 2003, agents’ profit sharing commissions at American Southern accounted for $0.7 million of the increase due primarily to lower loss ratios. In addition, the bad debt reserve was increased by $0.3 million due to uncertainty as to the collectibility of certain agent and customer receivables. Also contributing to the increase in other expenses was an overall increase in operating expenses, primarily compensation which increased $1.2 million as compared to 2002. On a consolidated basis, as a percentage of earned premiums, other expenses increased to 38.5% from 35.9% in 2002.
Dividend payments to the Parent by its insurance subsidiaries are subject to annual limitations and are restricted to the greater of 10% of statutory surplus or statutory earnings before recognizing realized
investment gains of the individual insurance subsidiaries. At December 31, 2004, the Parent’s insurance subsidiaries had statutory surplus of $111.5 million.
At December 31, 2004, the Company’s $53.2 million of borrowings consisted of $12.0 million of bank debt (the “Term Loan”) with Wachovia and an aggregate of $41.2 million of outstanding junior subordinated deferrable interest debentures (“Junior Subordinated Debentures”). The Term Loan requires the Company to pay $0.5 million in principal on June 30 and $1.3 million in principal on December 31 of each year beginning in 2005, with one final payment of $6.8 million at maturity on June 30, 2008. The interest rate on the Term Loan is equivalent to three-month LIBOR plus an applicable margin, which was 2.00% at December 31, 2004. The margin varies based upon the Company’s leverage ratio (debt to total capitalization, each as defined) and ranges from 1.75% to 2.50%. The Term Loan requires the Company to comply with certain covenants including, among others, ratios that relate funded debt, as defined, to total capitalization and earnings before interest, taxes, depreciation, and amortization, as well as the maintenance of minimum levels of tangible net worth. The Company must also comply with limitations on capital expenditures, additional debt obligations, equity repurchases and redemptions, as well as minimum risk-based capital levels. During 2004, in accordance with the Term Loan, the Company repaid $3.0 million in principal thereby reducing the outstanding amount of the Term Loan to $12.0 million and resulting in a decreased interest rate on the remaining outstanding balance of three-month LIBOR plus 2.00%.
At December 31, 2004, the Company had one series of preferred stock outstanding, substantially all of which was held by affiliates of the Company’s chairman and principal shareholders. The outstanding shares of Series B Preferred Stock (“Series B Preferred Stock”) have a stated value of $100 per share; accrue annual dividends at a rate of $9.00 per share and are cumulative; in certain circumstances may be convertible into an aggregate of approximately 3,358,000 shares of common stock; and are redeemable at the Company’s option. The Series B Preferred Stock is not currently convertible. At December 31, 2004,
In March 2004, the Emerging Issues Task Force (“EITF”) reached a final consensus on EITF Issue No. 03-1, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments” (“EITF Issue No. 03-1”). EITF Issue No. 03-1 was effective for periods beginning after June 15, 2004 and required a three-step impairment model for investments within its scope. In September 2004, the FASB staff issued clarifying guidance for comment in FASB Staff Positions (“FSP”) EITF Issue No. 03-1-a, “Implementation Guidance for the Application of Paragraph 16 of EITF Issue No. 03-1” (“FSP Issue No. 03-1-a”) and subsequently voted to delay the implementation of the impairment measurement and recognition guidance contained in paragraphs 10-20 of EITF Issue No. 03-1 in order to re-deliberate certain aspects of the consensus as well as the implementation guidance included in the FSP Issue No. 03-1-a. The disclosure requirements including quantitative and qualitative information regarding investments in an unrealized loss position remain effective and are included in Note 2 of Notes to Consolidated Financial Statements. The ultimate impact the adoption of EITF Issue No. 03-1 will have on the Company’s consolidated financial condition and results of operations is still unknown. Depending on the nature of the ultimate guidance, adoption of the standard could result in the recognition of unrealized losses, including those declines in value that are attributable to interest rate
Interest payable is based on interest rates as of December 31, 2004 and assumes that all debt remains outstanding until its stated contractual maturity. The interest rates on outstanding bank debt and trust preferred obligations are variable and is equal to three-month LIBOR plus an applicable predetermined margin.
Represents balances due for goods and/or services which have been contractually committed as of December 31, 2004. To the extent contracts provide for early termination with notice but without penalty, only the amounts contractually due during the notice period have been included.
Unearned premiums represent future revenue for the Company; however, under certain circumstances, such premiums may be refundable with cancellation of the underlying policy. Significantly all unearned premium will be earned within the following twelve month period as the related future insurance protection is provided. Significantly all costs related to such unearned premiums have
As discussed in Note 1 to the consolidated financial statements, the Company changed its method of accounting for goodwill and other intangible assets to conform to Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets, which was adopted by the Company as of January 1, 2002.
Goodwill represents the difference between the purchase prices of acquired assets and the related fair values of net assets acquired and accounted for by the purchase method of accounting. Statement of Financial Accounting Standards (“SFAS”) No. 142, “Goodwill and Other Intangible Assets” (“SFAS No. 142”) provides guidance on the financial accounting and reporting for acquired goodwill and other intangible assets. The Company adopted SFAS No. 142 on January 1, 2002 and accordingly goodwill is no longer amortized but is subject to impairment tests in accordance with the statement. Intangible assets with finite lives continue to be amortized over their useful lives. The criteria for recognizing an intangible asset have also been revised. SFAS No. 142 requires that goodwill be tested for impairment at least annually and be allocated to reporting units. The impact of adopting SFAS No. 142 resulted in an impairment loss of $15,816 in the property and casualty division, and such loss was reflected as a cumulative effect of change in accounting principle in the Company’s 2002 results of operations. For each of the three years presented, there was no goodwill amortization recorded.
The Company’s investments in both fixed maturity securities, which include bonds and redeemable preferred stocks, and equity securities, which include common and non-redeemable preferred stocks, are classified as “available-for-sale” and, accordingly, are carried at fair value with the after-tax difference from amortized cost reflected in shareholders’ equity as a component of accumulated other comprehensive income. The fair values for fixed maturity and equity securities are largely determined by either independent methods prescribed by the National Association of Insurance Commissioners (“NAIC”), which do not differ materially from nationally quoted market prices, or independent broker quotations. Certain non-redeemable preferred stocks that do not have quoted values are carried at estimated fair value as determined by management. With the exception of short-term securities for which amortized cost is predominately used to approximate fair value, security prices are first sought from NAIC pricing services with the remaining unpriced securities submitted to brokers for prices. Mortgage loans, policy and student loans, and real estate are carried at historical cost. Other invested assets are comprised of investments in limited partnerships, limited liability companies, and real estate joint ventures. Those which are publicly traded are carried at estimated fair value and the others are accounted for using the equity method. If the value of a common stock, preferred stock, other invested asset, or publicly traded bond declines below its cost or amortized cost, and the decline is considered to be other than temporary, a realized loss is recorded to reduce the carrying value of the investment to its estimated fair value, which becomes the new cost basis. In evaluating impairment, the Company considers, among other factors, the expected holding period, the nature of the investment and the prospects for the company and its industry. Premiums and discounts related to investments are amortized or accreted over the life of the related investment as an adjustment to yield using the effective interest method. Dividends and interest income are recognized when earned or declared. The cost of securities sold is based on specific identification. Unrealized gains (losses) in the value of invested assets are accounted for as a direct increase (decrease) in accumulated other comprehensive income in shareholders’ equity, net of deferred tax and, accordingly, have no effect on net income.
In December 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 123 (revised 2004), “Share-Based Payment” (“SFAS No. 123R”), which replaces SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS No. 123”) and supersedes APB Opinion No. 25, “Accounting for Stock Issued to Employees”. SFAS No. 123R requires all companies to recognize compensation costs for share-based payments to employees based on the grant-date fair value of the award for financial statements for reporting periods beginning after June 15, 2005. The pro forma disclosures previously permitted under SFAS No. 123 will no longer be an alternative to financial statement recognition. The transition methods include both prospective and retrospective adoption options. The Company will adopt SFAS No. 123R in the third quarter of 2005 using the prospective method, which requires that compensation expense be recorded for all unvested stock-based awards including those granted prior to adoption of the fair value recognition provisions of SFAS No. 123, at the beginning of the first quarter of adoption of SFAS No. 123R. The impact of adoption is anticipated to approximate that reflected in the existing SFAS No. 123 pro forma disclosures.
No. 03-1” (“FSP Issue No. 03-1-a”) and subsequently voted to delay the implementation of the impairment measurement and recognition guidance contained in paragraphs 10-20 of EITF Issue No. 03-1 in order to re-deliberate certain aspects of the consensus as well as the implementation guidance included in the FSP Issue No. 03-1-a. The disclosure requirements including quantitative and qualitative information regarding investments in an unrealized loss position, remain effective and are included in Note 2. The ultimate impact the adoption of EITF Issue No. 03-1 will have on the Company’s consolidated financial condition and results of operations is still unknown. Depending on the nature of the ultimate guidance, adoption of the standard could result in the recognition of unrealized losses, including those declines in value that are attributable to interest rate movements, as other-than-temporary impairments, except those deemed to be minor in nature. As of December 31, 2004, the Company had $2,157 of total gross unrealized losses. The amount of impairments to be recognized, if any, will depend on the final standard, market conditions and management’s intent and ability to hold investments with unrealized losses at the time of the impairment evaluation.
In December 2003, the FASB issued SFAS No. 132 (revised 2003), “Employers’ Disclosures about Pensions and Other Postretirement Benefits”. This statement requires additional detailed disclosures regarding pension plan assets, benefit obligations, cash flows, benefit costs and related information. The Company has adopted this statement. See Note 9.
Securities with unrealized losses at December 31, 2004 and 2003 were as follows:
Excluding U.S. Treasury securities and obligations of U.S. Government agencies and authorities, the Company held investments in 17 issuers at both December 31, 2004 and 2003 which had unrealized investment losses. At December 31, 2004, the Company had one corporate security investment that had a fair value less than 90% of the investment’s original amortized cost. The investment was in a Swiss based independent international muti-line reinsurer, which in the third quarter of 2004 announced a major reserve strengthening in its U.S. subsidiaries and at the same time chose to cease its underwriting business in its U.S. subsidiaries, in order to place its U.S. reinsurance operations into run-off and selectively write U.S. business from its corporate headquarters. While public information indicates that such actions have impacted this company as its management originally expected, the Company continues to monitor this investment but believes the impairment to be temporary. At December 31, 2003, the Company had two preferred stock investments that had fair values less than 90% of the investments’ original amortized cost. One of the redeemable preferred stocks was issued by a company providing scheduled air transportation of passengers and cargo. The other redeemable preferred stock was issued by a company providing parking and related services primarily in the U.S., but also in Europe and Central and South America.
During the years ended, December 31, 2004, 2003, and 2002, the Company recorded impairments related to the following investments.
As part of the Company’s ongoing investment review, the Company has reviewed its investment portfolio and concluded that there were no additional investments with other than temporary impairments as of December 31, 2004 or 2003. The evaluation for other than temporary impairments is a quantitative and qualitative process, which is subject to risks and uncertainties in the determination of whether declines in the fair value of investments are other than temporary. The risks and uncertainties include changes in general economic conditions, the issuer’s financial condition or near term recovery prospects and the effects of changes in interest rates. Due to the issuers’ continued satisfaction of the investment obligations in accordance with their contractual terms, if applicable, and management’s expectation that they will continue to do so, management’s intent and ability to hold these securities, as well as the evaluation of the fundamentals of the issuers’ financial condition and other objective evidence, the Company believes that unrealized losses on investments at December 31, 2004 and 2003 were temporary.
The amortized cost and carrying value of fixed maturities and short-term investments at December 31, 2004 by contractual maturity were as follows. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
time does not have any reason to believe an allowance for uncollectible amounts should be established against the reinsurance receivables due from PMA Re. The Company will continue to monitor the ongoing progress of PMA Re and evaluate various alternatives, if necessary.
Premiums assumed of $20,410 in 2002 included a state contract with premiums of $14,309. The contract premiums represented 9.3% of net premiums earned for the year ended December 31, 2002 and was not renewed at its expiration date, April 30, 2003.
At December 31, 2004, the Company had regular federal net operating loss carryforwards of approximately $16,011 expiring generally between 2006 and 2009. As of December 31, 2004 and 2003, a valuation allowance of $1,055 and $2,346, respectively, was established against deferred income tax benefits relating primarily to net operating loss carryforwards that may not be realized. In 2004, 2003 and 2002, the decrease of $1,291, $1,478 and $1,249, respectively, in the valuation allowance was due primarily to the utilization of a portion of these benefits that were previously reserved for. Since the Company’s ability to generate taxable income from operations and utilize available tax-planning strategies in the near term is dependent upon various factors, many of which are beyond management’s control, management believes that the remaining deferred income tax benefits relating to the carryforwards may not be realized. However, realization of the remaining deferred income tax benefits will be assessed periodically based on the Company’s current and anticipated results of operations and amounts could increase or decrease in the near term if estimates of future taxable income change. The Company has formal tax-sharing agreements and files a consolidated income tax return with its subsidiaries.
At December 31, 2004, the Company’s $12,000 of bank debt with Wachovia Bank, N.A. (“Wachovia”) consisted of a single term loan. The loan matures on June 30, 2008 and requires minimum annual payments as follows: 2005 - $1,750; 2006 - $1,750; 2007 - $1,750; 2008 - $6,750. The interest rate on the borrowing is London Interbank Offer Rate (“LIBOR”) plus a margin ranging between 1.75% and 2.50%. The applicable margin rate is determined based on the ratio of funded debt to consolidated
From time to time, the Company and its subsidiaries are involved in various claims and lawsuits incidental to and in the ordinary course of their businesses. In the opinion of management, such claims are not expected to have a material effect on the business or financial condition of the Company.
In accordance with the Company’s 1992 Incentive Plan, the Board of Directors may grant up to 1,800,000 stock options or share awards. The Board of Directors may grant: (a) incentive stock options within the meaning of Section 422 of the Internal Revenue Code; (b) non-qualified stock options; (c) performance units; (d) awards of restricted shares of the Company’s common stock and other stock unit awards; (e) deferred shares of common stock; or (f) all or any combination of the foregoing to officers and key employees. Stock options granted under this plan expire five or ten years from the date of grant, as specified in an award agreement. Vesting occurs at 50% upon issuance of an option, and the remaining portion vests in 25% increments in each of the following two years. In accordance with the Company’s 1996 Director Stock Option Plan, a maximum of 200,000 stock options may be granted that fully vest six months after the grant date. In accordance with the Company’s 2002 Incentive Plan (the “2002 Plan”), the Board of Directors may grant up to 2,000,000 stock options or share awards. Subject to adjustment as provided in the 2002 Plan, the Board of Directors may grant: (a) incentive stock options; (b) non-qualified stock options; (c) stock appreciation rights; (d) restricted shares; (e) deferred shares; and (f) performance shares and/or performance units. Further, the Board may authorize the granting to non-employee directors of stock options and/or restricted shares. A total of 63,063, 41,503 and 29,997 restricted shares were issued to the Company’s Board of Directors under the 2002 Plan in 2004, 2003 and 2002, respectively. As of December 31, 2004, an aggregate of forty-eight employees, officers and directors held options under the three plans.
Data on options outstanding and exercisable at December 31, 2004 is as follows:
The weighted average fair value of options granted is estimated on the date of grant using the Black-Scholes option pricing model and was $1.15 and $1.62, for grants in 2003 and 2002, respectively. No options were granted in 2004. Fair value determinations were based on expected dividend yields of zero, expected lives of 5 or 10 years, risk free interest rates of 4.21% and 3.92% and expected volatility of 60.08% and 69.11% for the years ended December 31, 2003 and 2002, respectively.
The Company has both a funded and unfunded noncontributory defined benefit pension plan covering the employees of American Southern. The plans provide defined benefits based on years of service and average salary. The Company’s general funding policy is to contribute annually the maximum amount that can be deducted for income tax purposes.
The weighted-average assumptions used to determine the benefit obligation at December 31, 2004 and 2003 were as follows:
The qualified defined benefit plan assets were invested in the INVESCO Total Return Fund (the “Fund”), the prospectus for which indicates a 10 year average annual return of approximately 7%; accordingly, a 7.00% rate of return was used to calculate the periodic benefit cost for 2004. The Fund normally invests at least 65% of its assets in common stocks and at least 30% of its assets in debt securities that are investment grade at the time of purchase. The remaining assets of the Fund are allocated to other investments at the Fund manager’s discretion, based upon current business, economic and market conditions.
The Company’s investment strategy with respect to pension assets is to invest the assets in accordance with ERISA and fiduciary standards. The long-term primary investment objectives are to: 1) provide for a reasonable amount of long-term growth of capital, without undue exposure to risk, and protect the assets from erosion of purchasing power, and 2) provide investment results that meet or exceed the actuarially assumed long-term rate of return. The Fund has not included any equity securities of the Company at any time.
The Company had 134,000 shares of Series B Preferred Stock (“Series B Preferred Stock”) outstanding at December 31, 2004 and 2003, having a stated value of $100 per share. Annual dividends on the Series B Preferred Stock are $9.00 per share and are cumulative. Dividends accrue whether or not declared by the Board of Directors. The Series B Preferred Stock is not currently convertible, but may become convertible into shares of the Company’s common stock under certain circumstances. In such event, the Series B Preferred Stock would be convertible into an aggregate of approximately 3,358,000 shares of the Company’s common stock at a conversion rate of $3.99 per share. The Series B Preferred Stock is redeemable at the option of the Company. As of December 31, 2004 and 2003, the Company had accrued but unpaid dividends on the Series B Preferred Stock of $10,854 and $9,648, respectively. For all periods in which the Company had an accumulated deficit, dividends on the Series B Preferred Stock were accrued from additional paid in capital.
During 2004, in accordance with the terms of the then-outstanding Series C Preferred Stock, the Company exercised its right to redeem the 5,000 shares of outstanding Series C Preferred Stock. These shares were redeemed at the redemption price specified in the terms of the Series C Preferred Stock, $100 per share, for $500. The Company paid $10 and $143 in dividends to the holders of the Series C Preferred Stock during 2004 and 2003, respectively. For all periods in which the Company had an accumulated deficit, dividends on the Series C Preferred Stock were charged to additional paid in capital.
Average outstanding options of 59,000 and 335,000 were excluded from the earnings per common share calculation in 2004 and 2003, respectively, and outstanding stock options of 408,500 were excluded from the earnings per common share calculation in 2002 since their impact was antidilutive. The assumed conversions of the Series B and Series C Preferred Stock were also excluded from the earnings per common share calculation for all years presented since their impact was antidilutive.
The amount of statutory net income and surplus (shareholders’ equity) for the Parent’s insurance subsidiaries for the years ended December 31 were as follows:
In the normal course of business the Company has engaged in transactions with its Chairman and his affiliates from time to time. These transactions include leasing of office space as well as investing and financing activities. A brief description of each of these follows.
The Company has made mortgage loans to finance properties owned by Leath Furniture, LLC (“Leath”), which is owned by an affiliate of the Chairman. At December 31, 2004 and 2003, the balance of mortgage loans owed by Leath to the Company’s insurance subsidiary was $2,997 and $3,152, respectively. For 2004, 2003, and 2002, interest paid by Leath on the mortgage loans totaled $285, $299, and $311, respectively.
The fair value estimates as of December 31, 2004 and 2003 were based on pertinent information available to management as of the respective dates. Although management is not aware of any factors that
The Company’s comprehensive income (loss) consists of net income, unrealized gains and losses on securities available for sale, fair value adjustments to the interest rate swap described in Note 7 and minimum additional pension liability, net of applicable income taxes. Other than net income, the other components of comprehensive income (loss) for the years ended December 31, 2004, 2003 and 2002 were as follows:
The following table sets forth a summary of the quarterly unaudited results of operations for the two years in the period ended December 31, 2004: