We own a 63,000 square foot building in Seven Hills, Ohio, which is a suburb of Cleveland. In addition, we lease an aggregate of approximately 75,000 square feet of office space in over fifteen cities. See “Certain Relationships and Related Transactions.”
The following tables set forth our selected historical consolidated financial and operating information for the periods ended and as of the dates indicated. The selected consolidated income statement data for the years ended December 31, 2006 and 2005 and the balance sheet data as of December 31, 2006 and 2005 are derived from our audited financial statements included elsewhere in this report, which have been audited by BDO Seidman LLP, our independent auditors. The selected consolidated income statement data for the year ended December 31, 2004, are derived from our audited financial statements included elsewhere in this report, which have been prepared in accordance with GAAP and have been audited by Berenson LLP, our former independent auditors. The selected consolidated income statement data for the years ended December 31, 2003 and 2002 and the balance sheet data as of December 31, 2004, 2003 and 2002 are derived from our audited financial statements, which have been prepared in accordance with GAAP and have been audited by Berenson LLP. These historical results are not necessarily indicative of results to be expected from any future period. You should read the following selected consolidated financial information together with the other information contained in this report, including the section captioned “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the consolidated financial statements and related notes included elsewhere in this report.
Results for a number of periods were affected by our various acquisitions from 2002 to 2006.
Also included is the finance income of AFS Capital Corporation prior to its disposition in April 2005.
Other insurance general and administrative expenses represent those costs other than policy acquisition expenses, as well as salaries and benefits, that are directly attributable to insurance activities. Policy acquisition expenses and salaries and benefits for 2002 were included in other insurance general and administrative expenses.
Other operating expenses are those expenses that are associated with fee and commission generating activities in which the Company engages.
In January 2006, the holder of our preferred stock agreed to a reduction of the dividend in 2005 to $1.2 million. Our preferred stock was exchanged for an aggregate of 10,285,714 shares of our common stock in February 2006.
Net loss ratio is calculated by dividing the loss and loss adjustment expense by net premiums earned.
Net expense ratio is calculated by dividing the total of the acquisition expenses, salaries and benefits as well as other insurance general and administrative expenses by net premiums earned.
AmTrust is a multinational specialty property and casualty insurer focused on generating consistent underwriting profits. We provide insurance coverage for small businesses and products with high volumes of insureds and loss profiles which we believe are predictable. We target lines of insurance that we believe are generally underserved by larger insurance carriers. AmTrust has grown by hiring teams of underwriters with expertise in our specialty lines and through acquisitions of producer networks and renewal rights to established books of specialty insurance business. Since our current majority stockholders acquired AmTrust in 1998, we have expanded our operations into three business segments:
Specialty middle-market property and casualty insurance. We write commercial insurance for relatively homogeneous, narrowly defined classes of insureds, requiring an in-depth knowledge of the insured’s industry segment through general and other wholesale agents.
Our business has grown substantially since 2002 when our annual gross premiums were $27.5 million. Our annual gross premiums written in 2004, 2005 and 2006 were $210.9, $286.1 and $526.1 million, respectively. Our annual premiums written in our workers’ compensation segment have increased substantially from $21.1 million in 2002. Annual gross premiums written in this segment in 2004, 2005 and 2006 were 137.9 million, $204.6 million and $258.9 million, respectively. Our annual gross premiums written in our specialty risk and extended warranty segment increased substantially from $6.4 million in 2002. Annual gross premiums written in this segment in 2004, 2005 and 2006 were $72.9 million, $81.6 million and $132.8 million, respectively. Our gross premiums written in the specialty middle-market property and casualty insurance business segment, which we acquired in December 2005, was $134.3 million for the year ended December 31, 2006. Our net income from continuing operations increased from $2.2 million in 2002 to $12.0 million, $20.5 million and $48.4 million in 2004, 2005 and 2006, respectively. Given the larger scale of our current operations, our past growth rate is likely not indicative of our future growth rate.
One of the key financial measures that we use to evaluate our operating performance is return on average equity. We calculate return on average equity by dividing net income by the average of stockholders’ equity. Our return on average equity was 13.0% in 2004, 31.7% in 2005 and 21.3% in 2006. Our overall financial objective is to produce a return on average equity of 15.0% or more over the long term. In addition, we target a net combined ratio of 95.0% or lower over the long term, while maintaining optimal operating leverage in our insurance subsidiaries commensurate with our A.M. Best rating objectives. Our net combined ratio was 94.8% in 2004, 95.1% in 2005 and 91.9% for 2006. A key factor in achieving our targeted net combined ratio is improvement of our net expense ratio. We plan to write additional premiums without a proportional increase in expenses and further reduce the expense component of our net combined ratio over time.
Our consolidated results include the results for our holding company and our wholly-owned subsidiaries which principally include:
Technology Insurance Company, Inc. (“TIC”) which underwrites workers’ compensation insurance, specialty risk insurance and extended warranty coverage, and specialty middle-market property and casualty coverages in the United States;
Wesco Insurance Company (“WIC”), which underwrites workers’ compensation insurance, specialty risk insurance and extended warranty coverage, and specialty middle-market property and casualty coverages in the United States:
Through a combination of acquisitions and organic growth, we have expanded geographically and acquired additional distribution channels, without acquiring the legacy liabilities of other insurance carriers, by primarily structuring our acquisitions as “renewal rights” acquisitions, including the following:
In December 2003, we acquired from The Covenant Group, Inc. (“Covenant”) access to its distribution network, the renewal rights to its workers compensation book, non-competition covenants and its proprietary claims handling systems. We also hired several experienced claims adjusters. This transaction increased our presence in the Southeast and enabled us to move the adjustment of claims arising from our small business workers’ compensation segment from third party administrators to an experienced internal claims staff.
In August 2004, we expanded our business to Florida by acquiring from Associated access to its distribution network, non-competition covenants and the renewal rights to a book of workers’ compensation business.
As a result of our integration efforts, each of the businesses we acquired, prior to the Alea acquisition, is processed using our proprietary systems. At present, the workers’ compensation portion of our specialty middle market property and casualty business and approximately one-quarter of the other commercial lines are being processed using our propriety systems. We expect to process all of this business using our systems over time.
On February 9, 2006, the Company sold 25,568,000 shares of Common Stock in a private placement in reliance on exemptions from registration under the Securities Act of 1933 at a price of $7.00 per share, subject to an initial purchaser’s discount and placement fee of $0.49 per share. The proceeds to the Company after expenses totaled $165.6 million.
Also, as a result of the conversion of the preferred stock into common stock, the preferred stockholders waived the rights to receive any further undeclared or accrued dividends.
On February 1, 2007, we participated with H.I.G. Capital in financing its acquisition of Warrantech Corporation (“Warrantech”) in a cash merger. Warrantech is an independent developer, marketer and third party administrator of service contracts and after-market warranties primarily for the motor vehicle and consumer products industries. We currently provide insurance coverage for Warrantech’s consumer product group programs. In connection with the financing, Warrantech granted to us a right of first refusal to underwrite all of its warranty programs. As the Company does not exhibit control over Warrantech, the Company will account for this investment under the equity method.
On July 25, 2006, the Company issued $30 million in principal amount of a junior subordinated debenture (the “2006 Debenture”) in connection with the issuance of trust preferred securities by a trust pursuant to an indenture agreement with Wilmington Trust Company as trustee. The 2006 Debenture matures on September 15, 2036 and bears interest at a rate per annum of 8.83% until September 15, 2011 and, thereafter, at a floating rate per annum equal to the sum of the LIBOR rate determined each quarter plus 3.30%. The 2006 Debenture is redeemable at par at the Company's election after September 15, 2011.
Net Premiums Written. Net premiums written are gross premiums written less that portion of premium that is ceded to third party reinsurers under reinsurance agreements. The amount ceded under these reinsurance agreements is based on a contractual formula contained in the individual reinsurance agreement.
Loss and Loss Adjustment Expenses Incurred. Loss and loss adjustment expenses ("LAE") incurred represent our largest expense item and, for any given reporting period, include estimates of future claim payments, changes in those estimates from prior reporting periods and costs associated with investigating, defending and servicing claims. These expenses fluctuate based on the amount and types of risks we insure. We record loss and loss adjustment expenses related to estimates of future claim payments based on case-by-case valuations and statistical analyses. We seek to establish all reserves at the most likely ultimate exposure based on our historical claims experience. It is typical for our more serious claims to take several years to settle and we revise our estimates as we receive additional information about the condition of injured employees and the costs of their medical treatment. Our ability to estimate loss and loss adjustment expenses accurately at the time of pricing our insurance policies is a critical factor in our profitability.
Net Loss Ratio. The net loss ratio is a measure of the underwriting profitability of an insurance company's business. Expressed as a percentage, this is the ratio of net losses and LAE incurred to net premiums earned.
It is important to understand our accounting policies in order to understand our financial statements. We consider some of these policies to be very important to the presentation of our financial results because they require us to make estimates and assumptions. The Company’s management has discussed the development, selection and disclosure of the estimates and assumptions used with the audit committee. These estimates and assumptions affect the reported amounts of our assets, liabilities, revenues and expenses and the related disclosures. Some of the estimates result from judgments that can be subjective and complex, and, consequently, actual results in future periods might differ significantly from these estimates.
We utilize a combination of the Company's incurred loss development factors and industry-wide incurred loss development factors. Our actuary generates a range within which it is reasonably likely that our ultimate loss and loss adjustment expenses will fall. The low end of the range is established by assigning a weight of 75% to our ultimate losses obtained by application of the Company’s own loss development factors and 25% to our ultimate losses developed through application of industry wide loss development factors. The high end is established by assigning a weight of 50% each to our ultimate losses as developed through application of Company and industry wide loss development factors. The determination to assign particular weights to ultimate losses developed through application of Company loss development factors and industry-wide loss development factors is made by our actuary and is a matter of actuarial judgment. In connection with the generation of the range, we have not made any shifts in the relative weights assigned to ultimate losses developed through application of Company and industry-wide loss development factors. However, in the selection of our reserves, the Company, based on the increasing of its data, has given greater consideration to the results attributable to its own loss development factors. Nevertheless, we continue to record our reserves at the higher end of the range, above the midpoint, which we believe to be prudent in light of the uncertainty inherent in estimating reserves.
Premiums. Insurance premiums, other than specialty risk and extended warranty, are recognized as earned on the straight-line basis over the contract period. Insurance premiums on specialty risk and extended warranty are earned based on estimated program coverage period. These estimates are based on the expected distribution of coverage periods by contract at inception, because a single contract may contain multiple coverage period options and these estimates are revised based on actual coverage period selected by the insured. Unearned premiums represent the portion of premiums written which is applicable to the unexpired term of the contract or policy in force. Premium adjustments on contracts and audit premiums are based on estimates made over the contract period.. The Company also estimates an allowance for doubtful accounts.
Net Premiums Written. Net premiums written increased from $259.2 million to $436.3 million for the years ended December 31, 2005 and 2006, respectively. This $177.1 million or 68.3% increase was the result of an increase in gross premiums written in the year ended period. The increase by segment was: small business workers’ compensation - $51.2 million; specialty risk and extended warranty - $42.6 million; and specialty middle market property and casualty - $83.3 million.
Loss and Loss Adjustment Expenses. Loss and loss adjustment expenses increased $69.1 million or 48.0% from $142.0 million for the year ended December 31, 2005 to $210.1 million for the year ended December 31, 2006. Nevertheless, the Company’s loss ratio for the year ended December 31, 2006 decreased to 63.9% from 65.7% for the year ended December 31, 2005. The decrease in the loss ratio resulted from revised actuarially projected ultimate losses based on the Company’s experience. As the Company writes more business in the small workers’ compensation segment and its data becomes more reliable, the Company assigns more weight to its individual loss development factors than to industry-wide factors in setting its reserves. Because the Company’s losses have developed more favorably than the industry, as a whole, the Company’s actuarially projected reserves have proportionally decreased.
Interest Expense. Interest expense for the year ended December 31, 2006 was $5.3 million, compared to $2.8 million for the same period in 2005. The increase was attributable to interest expense on $50.0 million of junior subordinated debentures issued by the Company in 2005 and $30.0 million of junior subordinated debentures issued by the Company in July of 2006.
Net Investment Income. Net investment income for the year ended December 31, 2005 was $11.5 million, compared to $4.4 million for the same period in 2004, an increase of 159.8%. Investment income was increased by the sale of approximately $80.0 million in net assets previously held in real estate (which did not produce regular fixed income) the proceeds of which were placed in our investment portfolio as well as the issuance of $50.0 million of junior subordinated debentures in two trust preferred securities transactions during the year. Also the Company generated positive cash flows from operations of $109.8 million for the year ended December 31, 2005.
Loss and Loss Adjustment Expenses. Loss and loss adjustment expenses increased 57.5% from $90.2 million for the year ended December 31, 2004 to $142.0 million for the year ended December 31, 2005. The loss ratio remained comparable for the periods with a loss ratio of 65.0% for the year ended December 31, 2004 and 65.7% for the year ended December 31, 2005.
Policy Acquisition Expense, Salaries and Benefits Expense and Other Insurance General and Administrative Expense. Policy acquisition expense, salaries and benefits expense and other insurance general and administrative expense increased from $41.5 million for the year ended December 31, 2004 to $63.5 million for the year ended December 31, 2005, an increase of 53.2%. Despite this increase, the expense ratio decreased from 29.9% to 29.4% for the same period.
Operating Income From Continuing Operations. Income from continuing operations increased to $29.6 million for the year ended December 31, 2005 from $16.2 million for the year ended December 31, 2004, an increase of 83.1%. This increase is attributable to strong growth in revenue combined with an improvement in the net expense ratio.
Income Tax Expense (Benefit). Company income tax expense for the year ended December 31, 2005 was $6.7 million for an effective tax rate of 24.5% compared to income tax expense of $3.8 million for an effective tax rate of 24.2% for the same period in 2004. The decrease in the effective tax rate is the function of certain activities in our foreign operations that are not subject to United States Federal Taxation.
Small Business Workers’ Compensation Segment Results of Operation 2006 Compared to
Gross Premiums Written. Gross premiums written increased from $204.6 million for the year ended December 31, 2005 to $258.9 million for the year ended December 31, 2006. The increase of $54.4 million or 26.6% was attributable to the increase in our average policy premium and the number of policies written which accounted for $25.3 million. In addition, in 2006, Muirfield produced $14.0 million of gross premiums written and new assigned risk pools generated $10.6 million of gross premiums written.
Income from Continuing Operations Excluding Investment Income. Operating income from continuing operations excluding investment income increased to $19.5 million for the year ended December 31, 2006, from $6.4 million for the year ended December 31, 2005, an increase of $13.1 million or 204.7%. This increase is attributable to strong growth in revenue combined with an improvement in the loss ratio and a consistent expense ratio.
Small Business Worker’s Compensation Segment Results of Operation 2005 Compared to
Loss and Loss Adjustment Expenses - Small Business Workers’ Compensation. Loss and loss adjustment expenses incurred were $107.9 million for the year ended December 31, 2005, compared to $72.2 million for the year ended December 31, 2004, an increase of $35.7 million, or 49.4%. The net loss ratio increased from 63.4% to 65.0%.
Gross Premiums Written. Gross premiums written increased from $81.6 million for the year ended December 31, 2005 to $132.8 million for the year ended December 31, 2006. The increase of $51.3 million or 62.8% is the result of writing several new programs in 2006 as well as expanding programs with existing clients. The majority of the increase came from growth in the U.S. and this trend is expected to continue in 2007.
Loss and Loss Adjustment Expenses. Loss and loss adjustment expenses increased $15.2 million or 124% from $34.1 million for the year ended December 31, 2005 to $49.2 million for the year ended December 31, 2006. The loss ratio for the segment for the year ended December 31, 2006 increased to 77.9% from 68.1% for the year ended December 31, 2005. The strengthening of the Euro relative to the U.S. Dollar accounted for 43.5% or $2.7 million of the increase in loss ratio. The Company believes the loss ratio incurred in 2005 was artificially low and expects that the loss ratio incurred in 2006 to be more reflective of its ongoing business.
Income from Continuing Operations excluding investment income. Income from continuing operations excluding investment income increased to $4.3 million for the year ended December 31, 2006 from $4.1 million for the year ended December 31, 2005, a increase of $0.2 million or 14%. This increase is attributable to growth in revenue offset by an increase in the loss ratio.
Gross Premiums Written - Specialty Risk and Extended Warranty. Gross premiums written for the year ended December 31, 2005 were $81.6 million, compared to $72.9 million for the same period in 2004, an increase of 11.9% or $8.7 million, the increase was due to new accounts being added in 2005 through increased market distribution.
Net Premiums Earned - Specialty Risk and Extended Warranty. Net premiums earned for the year ended December 31, 2005 were $50.0 million, compared to $24.8 million for the same period in 2004, an increase of 101.6%. This increase was primarily the result of an increase in premiums written during the twelve months ended December 31, 2005 compared to the twelve months ended December 31, 2004, which resulted in higher premiums earned in the year ended December 31, 2005 compared to the same period in 2004.
Loss and Loss Adjustment Expenses - Specialty Risk and Extended Warranty. Loss and loss adjustment expenses incurred totaled $34.1 million for the year ended December 31, 2005, compared to $18.0 million for the year ended December 31, 2004, an increase of $16.1 million, or 89.8%. The net loss ratio decreased from 72.3% to 68.1%.
Policy Acquisition Expense, Salaries and Benefits Expense and Other Insurance General and Administrative Expense - Specialty Risk and Extended Warranty. Policy acquisition expense, salaries and benefits expense and other insurance general and administrative expense increased by $4.6 million from $7.3 million for the year ended December 31, 2004 to $11.9 million for the year ended December 31, 2005. The expense ratio decreased from 29.5% for the year ended December 31, 2004 to 23.8% for the year ended December 31, 2005. This decrease was primarily attributable to an increase in Net Premium Earned as well as a reduction in allocated overhead which is based on written premium by segment.
We commenced operations in our specialty middle market segment in January 2006.
Gross Premiums Written . Gross premium was $134.3 million for the year ended December 31, 2006. The breakout of the gross written premium by line was $47.8 million of workers’ compensation, $59.3 million of commercial auto liability and commercial general liability and $27.2 million of other.
Policy Acquisition Expense, Salaries and Benefits Expense and Other Insurance General and Administrative Expense. Policy acquisition expense, salaries and benefits expense and other insurance general and administrative was $13.9 million for the year ended December 31, 2006. The expense ratio was 31.0%.
A summary of the Company’s fixed maturity securities at December 31, 2006, by contractual maturity, is shown below. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. As of December 31, 2006, the weighted average duration of our fixed income securities was 3.8 years.
The table below summarizes the average duration by type of fixed maturity as well as detailing the average yield.
During the year ended December 31, 2006, there were no other-than-temporary declines in the fair values of the securities held in our investment portfolio. The Company did not recording any impairment losses in 2006 primarily due to the ability and intent to hold impaired securities until recovery of fair value at or above cost. The table below summarizes the gross unrealized losses of our fixed maturity and equity securities as of December 31, 2006:
Our principal sources of operating funds are premiums, investment income and proceeds from sales and maturities of investments. Our primary uses of operating funds include payments of claims and operating expenses. Currently, we pay claims using cash flow from operations and invest our excess cash primarily in fixed maturity and equity securities. We expect that projected cash flow from operations will provide us sufficient liquidity to fund our anticipated growth, by providing capital to increase the surplus of our insurance company subsidiaries as well as for payment of claims and operating expenses, payment of interest on our junior subordinated debentures and other holding company expenses until at least December 31, 2007. However, if our growth attributable to potential acquisitions, internally generated growth or a combination of these, exceeds our projections, we may have to raise additional capital sooner to support our growth.
Pursuant to a General Agency Agreement, RIC and TIC have appointed our wholly-owned subsidiary, AmTrust North America, Inc. (“ANA”), as agent to solicit and accept applications for policies and to perform compliance, marketing, underwriting, administrative, billing and reporting duties. ANA also handles for RIC and TIC all reinsurance-related services and reporting. RIC and TIC pay ANA a commission for its services equal to 20% of gross premiums written.
We forecast claim payments based on our historical trends. We seek to manage the funding of claim payments by actively managing available cash and forecasting cash flows on a short- and long-term basis. Cash payments for claims were $6.6 million in 2002, $14.3 million in 2003, $38.6 million in 2004, $76.6 million in 2005 and $108.8 million in 2006. Since December 31, 2001, we have funded claim payments from cash flow from operations (principally premiums) net of amounts ceded to our third party reinsurers. We presently expect to maintain sufficient cash flow from operations to meet our anticipated claim obligations and operating and capital expenditure needs. Our cash and investment portfolio has increased from $356.4 million (excluding $1.6 million of other investments) at December 31, 2005 to $780.9 million (excluding $4.9 million of other investments) at December 31, 2006. We do not anticipate selling securities in our investment portfolio to pay claims or to fund operating expenses. Accordingly, we currently classify most of our fixed maturity securities in the held-to-maturity category. Should circumstances arise that would require us to do so, we may incur losses on such sales, which would adversely affect our results of operations and could reduce investment income in future periods. If as the result of such sales we could no longer classify any portion of our fixed maturity portfolio as held-to-maturity we would be required to carry all of our fixed maturity securities at the market value. If the aggregate market value at the given balance sheet is below the aggregate amortized cost we would have a reduction to stockholders' equity. At December 31, 2006 our held-to-maturity fixed maturity portfolio had an aggregate unrealized loss of $2.9 million. If at December 31, 2006 we could not classify our fixed maturity portfolio as held-to-maturity our stockholders' equity would be reduced on an after tax basis by $1.9 million.
The use of reinsurance is an important component of our business strategy. See “Business- Reinsurance.” As losses are incurred and recorded, we record amounts recoverable from third party reinsurers for the portion of the paid losses ceded to third party reinsurers and reduce our loss and allocated loss adjustment expense reserves by the amount of unpaid losses allocated to third party reinsurers. In addition to the reinsurance currently in force, we intend to purchase reinsurance for the property portion of the specialty middle-market property and casualty business that we plan to write in connection with our acquisition of renewal rights from Alea. We do not plan to reinsure the general liability and auto liability portions of this business.
We purchase excess of loss workers’ compensation reinsurance to protect us from the impact of large losses. Under this reinsurance program, we pay our reinsurers a percentage of our net or gross earned insurance premiums, subject to certain minimum reinsurance premium requirements. Our reinsurance program for 2006 includes multiple reinsurers in five layers of reinsurance that provide us with coverage in excess of a certain specified amount per loss occurrence, or retention level. Our reinsurance program for 2006 provides coverage for claims in excess of $1.0 million per occurrence with coverage up to $130.0 million per occurrence, subject to certain exclusions and restrictions, including a $1.25 million aggregate deductible applicable to the first layer of this reinsurance coverage. Our reinsurance for workers’ compensation losses caused by acts of terrorism is more limited than our reinsurance for other types of workers’ compensation losses. We have obtained reinsurance for this line of business with higher limits as our exposures have increased. As the scale of our workers’ compensation business has increased, we have also increased the amount of risk we retain.
Since January, 2003, we have maintained quota share reinsurance for our extended warranty and accidental damage insurance underwritten in the European Union and certain coverage plans underwritten in the United States. This reinsurance also covers certain other risks we underwrite in the European Union. Under these quota share reinsurance arrangements, we cede a portion (35% for the majority of the risks) of each reinsured risk to our reinsurers and recover the same percentage of ceded loss and loss adjustment expenses, subject to certain exclusions and restrictions. In return for this reinsurance protection, we pay the reinsurers their pro rata shares of the insurance premiums on the ceded business, less a ceding or overriding commission. For the most part, coverage for losses arising out of acts of terrorism is excluded from this reinsurance. The majority of our extended warranty and accidental damage insurance underwritten in the United States is not reinsured with third party reinsurers. However, a portion of these risks as well as much of the risk that we retain under our various third party reinsurance arrangements are ceded under reinsurance arrangements with AII.
Net cash used in investing activities was $445.4 million for the year ended December 31, 2006. Net cash provided by investing activities was $12.5 million for the year ended December 31, 2005. In 2006, major components of net cash used in investing activities included purchases of equity and fixed maturity securities of $802.4 offset by proceeds of $398.7 from sales similar investments. In 2005, major components of net cash provided by investing activities included proceeds of $115.0 million from sales and maturities of investments and $161.6 million from the sale of all of the real estate assets which comprised the discontinued operations of APL, partially offset by net cash used in investing activities in the amount of $244.2 million for investment purchases.
Net cash provided by financing activities was $198.8 million for the year ended December 31, 2006 compared to net cash provided in 2005 of $43.4 million. The increase in cash provided by financing activities primarily arises from the proceeds of approximately $165.9 million received in the private placement in 2006 and the issuance by the Company of $30.0 million in principal amount of junior subordinated debentures.
Net cash provided by operating activities was $118.0 million for the year ended December 31, 2005 compared to $98.5 million for the year ended December 31, 2004. Major components of cash provided by operating activities in 2005 were net premiums collected of $234.6 million, partially offset by claim payments of $76.6 million. Major components of cash provided by operating activities in 2004 were net premiums collected of $157.2 million, partially offset by claim payments of $38.6 million.
Net cash provided by investing activities was $12.5 million for the year ended December 31, 2005. Net cash used by investing activities was $92.0 million for the year ended December 31, 2004. In 2005, major components of net cash provided by investing activities included proceeds of $115.0 million from sales and maturities of investments and $161.6 million from the sale of all of the real estate assets which comprised the discontinued operations of APL, partially offset by net cash used in investing activities in the amount of $244.2 million for investment purchases. In 2004, major components of net cash used in investing activities included investment purchases of $138.2 million, partially offset by proceeds from sales and maturities of investments of $42.5 million.
Net cash provided by financing activities was $43.4 million for the year ended December 31, 2005, which represents the issuance by the Company of an aggregate of $50.0 million in principal amount of junior subordinated debentures (the “Debentures”). Partially offsetting this was a $10.8 million payment of preferred dividends and the repayment of a $13.0 million advance from certain indirect shareholders. Other cash provided by financing activities include proceeds of $23.3 million from borrowings under the $25.0 million short term borrowing facility. In addition, $92.9 million of mortgage notes were paid in full from the proceeds of the sale of real estate which comprised the majority of APL’s discontinued operations. Net cash provided by financing activities was $11.0 million for the year ended December 31, 2004. The major component of cash provided by operating activities was a $13.0 million advance from shareholders, partially offset by repayment of $2.0 million on a credit facility.
On March 14, 2007, the Company agreed to issue $40 million in principal amount of a junior subordinated debenture (the “2007 Debenture”) in connection with the issuance of trust preferred securities by a trust pursuant to an indenture agreement with Wilmington Trust Company as trustee. The transaction is scheduled to close on March 22, 2007. The 2007 Debenture will mature in March 2037 and bear interest at a rate per annum of 7.93% until March 2012 and, thereafter, at a floating rate per annum equal to the sum of the 3-month London Interbank Offered Rate for U.S. dollars (LIBOR) determined each quarter plus 3.00%. The 2007 Debenture will be redeemable at par at the Company’s election after March 2012.
The following table sets forth certain of our contractual obligations as of December 31, 2006:
The loss and loss adjustment expense payments due by period in the table above are based upon the loss and loss adjustment expense estimates as of December 31, 2006 and actuarial estimates of expected payout patterns and are not contractual liabilities as to a time certain. Our contractual liability is to provide benefits under the policy. As a result, our calculation of loss and loss adjustment expense payments due by period is subject to the same uncertainties associated with determining the level of loss and loss adjustment expenses generally and to the additional uncertainties arising from the difficulty of predicting when claims (including claims that have not yet been reported to us) will be paid. For a discussion of our loss and loss adjustment expense estimate process, see “Business-Loss Reserves.” Actual payments of loss and loss adjustment expenses by period will vary, perhaps materially, from the table above to the extent that current estimates of loss and loss adjustment expenses vary from actual ultimate claims amounts and as a result of variations between expected and actual payout patterns. See “Risk Factors-Risks Related to Our Business-Our loss reserves are based on estimates and may be inadequate to cover our actual losses” for a discussion of the uncertainties associated with estimating loss and loss adjustment expenses.
Property and casualty insurance premiums are established before we know the amount of losses and loss adjustment expenses or the extent to which inflation may affect such amounts. We attempt to anticipate the potential impact of inflation in establishing our reserves, especially as it relates to medical and hospital rates where historical inflation rates have exceeded the general level of inflation. Inflation in excess of the levels we have assumed could cause loss and loss adjustment expenses to be higher than we anticipated, which would require us to increase reserves and reduce earnings.