At December 31, 2012, Fortegra Financial leased its principal executive offices located at Deerwood Park Boulevard, Building 100, Jacksonville, Florida, 32256, consisting of approximately 58,000 square feet, which is used by each of our businesses other than Brokerage. In addition, we lease approximately 120,000 square feet of office space in approximately 25 locations principally in the United States. Most of our leases have lease terms ranging from three to eleven years with provisions for renewals. We believe our properties are adequate for our business as presently conducted. Please see the Notes, "Property and Equipment" and "Leases," in the Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K for additional information.
The following tables set forth our consolidated selected financial data for the periods and as of the dates indicated and are derived from our audited Consolidated Financial Statements. The following consolidated financial data should be read in conjunction with Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") in Part II,
As discussed in Item 8. Financial Statements and Supplementary Data-Notes to Consolidated Financial Statements, in the Note, "Restatement of the Consolidated Financial Statements," we have restated our previously issued audited Consolidated Financial Statements for years ended December 31, 2011 and 2010 and our unaudited quarterly financial information for the quarterly periods ended March 31, June 30 and September 30, for the years 2012, 2011 and 2010, respectively. Accordingly, Management’s Discussion and Analysis of Financial Condition and Results of Operations have been revised for the effects of the restatement.
Our net income for the year ended December 31, 2012 increased $1.7 million, or 12.3%, to $15.2 million from $13.5 million for the year ended December 31, 2011, with the 2012 results including $1.1 million attributable to the change in accounting estimate associated with income recognition on our unearned premium reserves in the Payment Protection Segment, which is explained in Item 8, in the Note "Summary of Significant Accounting Policies," of the Notes to the Consolidated Financial Statements, and a full year of results from our October 2011 acquisition of PBG, while 2011 includes six months of results from our July 1, 2011 divestiture of CIRG and the related loss on the sale of that subsidiary as well as a higher level of realized gains on the sale of investments. Earnings per diluted share increased 15.6% to $0.74 for the year ended December 31, 2012 from $0.64 for the same period in 2011 and included a $0.05 per diluted share increase from the change in accounting estimate.
On April 24, 2012, we acquired a 100% ownership interest in MHA & Associates LLC, for $0.3 million, obtaining the renewal rights of the business and hiring the prior owner to maintain and increase the block of business.
commitments under the Facilities by an amount not to exceed $50.0 million. In connection with the new Credit Agreement, we terminated our $85.0 million revolving line of credit with SunTrust Bank, N.A. In conjunction with this termination we recorded a charge of $0.7 million to interest expense during 2012 for previously capitalized transaction costs. We feel this new Credit Agreement will give us additional liquidity to further expand our existing businesses and pursue strategic growth plans.
During 2012, we acquired a total of 508,080 shares under our share repurchase plan at an aggregate value of $3.9 million. Our share repurchase plan is an effective method of creating stockholder value and a prudent use of available cash.
In January 2013, we announced a plan to consolidate our fulfillment, claims administration and information technology functions for all our insurance related products (the "Plan"). Prior to the Plan, such functions resided in our individual business units. The decision is part of our efforts to streamline our operations, focus our resources and provide first in class service to our customers. When fully implemented, approximately 40 employee and contract positions will be eliminated.
During the period ended September 30, 2012, we reviewed our unearned premium reserves in relation to the loss patterns and the related recognition of income for certain types of credit property and vendor single interest payment protection products, and based on our analysis determined that a change to the Rule of 78s method results in a more accurate estimate of net earned premium reserves for these products. The change is being accounted for as a change in accounting estimate and was applied prospectively. See the Note, "Summary of Significant Accounting Policies" of the Notes to the Consolidated Financial Statements of this Form 10-K for the effect of this change in accounting estimate.
We utilize reinsurance for loss protection and capital management. See ITEM 1A. RISK FACTORS - "Risks Related to Our Payment Protection Business - Reinsurance may not be available or adequate to protect us against losses, and we are subject to the credit risk of reinsurers."
Property and equipment are carried at cost, net of accumulated depreciation and amortization of capitalized software. Gains and losses on sales and disposals of property and equipment are based on the net book value of the related asset at the disposal date using the specific identification method with the corresponding gain or loss recorded to operations when incurred. Maintenance and repairs, which do not materially extend asset useful life and minor replacements, are charged to earnings when incurred. Depreciation expense is computed using the straight-line method over the estimated useful lives of the respective assets with three years for computers and five years for furniture, fixtures and equipment. Amortization of capitalized software is computed using the straight-line method over the estimated useful lives of five years. Leasehold improvements are depreciated over the remaining life of the lease. We also lease certain equipment and software under a capital lease. Assets under capital leases are depreciated over the remaining life of the lease or their estimated productive lives.
We evaluate whether deferred acquisition costs - non-insurance related are recoverable at year-end, and periodically if deemed necessary. As a result of our evaluations, no write-offs for unrecoverable deferred acquisition costs were recognized during the years ended December 31, 2012, 2011 and 2010.
Our goodwill is not amortized but is reviewed annually in the fourth quarter for impairment or more frequently if certain indicators arise. Our impairment testing is performed at the segment level. In 2011 we adopted Accounting Standards Update ("ASU") 2011-08, Intangibles - Goodwill and Other (Topic 350): Testing Goodwill for Impairment. ASU 2011-08 allows for the goodwill impairment analysis to start with an assessment of qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the qualitative factors, management determines that it is more likely than not that the fair value of a reporting unit is less than its carrying amount, then we perform the two-part quantitative impairment test under Topic 350. If the carrying amount of the goodwill of the reporting unit exceeds the implied fair value, an impairment charge is recorded equal to the excess.
Management assessed goodwill as of December 31, 2012, 2011 and 2010 and determined that no impairment existed as of those dates.
Unpaid claims are reserve estimates that are established in accordance with U.S. GAAP using generally accepted actuarial methods. Credit life, credit disability and accidental death and dismemberment ("AD&D") unpaid claims reserves include claims in the course of settlement and incurred but not reported ("IBNR"). For all other product lines, unpaid claims reserves are entirely IBNR. We use a number of algorithms in establishing our unpaid claims reserves. These algorithms are used to calculate unpaid claims as a function of paid losses, earned premium, target loss ratios, in force amounts, unearned premium reserves; industry recognized morbidity tables or a combination of these factors. The factors used to develop the IBNR vary by product line. However, in general terms, the factor used to develop IBNR for credit life insurance is a function of the amount of life insurance in force. The factor can vary from $0.60 to $1.00 per $1,000 of in force coverage. The factor used to develop IBNR for credit disability is a function of the pro-rata unearned premium reserve and is typically 5% of the unearned premium reserve. Finally, IBNR for AD&D policies is a function of in force coverage and is currently $0.15 per $1,000 of in force coverage.
The following table provides unpaid claims reserve information by Payment Protection product line, net of reserves ceded under reinsurance arrangements:
Premiums written are earned over the life of the respective policy using the Rule of 78's, pro rata, or other actuarial method as appropriate for the type of business. Unearned premiums represent the portion of premiums that will be earned in the future. A premium deficiency reserve is recorded if anticipated losses, loss adjustment expenses, deferred acquisition costs - insurance related and policy maintenance costs exceed the recorded unearned premium reserve and anticipated investment income. As of December 31, 2012, 2011 and 2010, respectively, no such reserve was recorded.
Management has evaluated its deferred tax assets to determine realization in the foreseeable future and accordingly, a valuation allowance has been established. The detailed components of our deferred tax assets and liabilities are included in the Note, "Income Taxes" in the Notes to the Consolidated Financial Statements included in Item 8 of this Form 10-K.
The Payment Protection administrative service revenue is recognized consistent with the earnings recognition pattern of the underlying insurance policies, debt cancellation contracts and motor club memberships being administered, using Rule of 78's, modified Rule of 78's, pro rata, or other methods as appropriate for the contract. Management selects the appropriate method based on available information, and periodically reviews the selections as additional information becomes available.
The BPO service fee revenue is recognized as the services are performed. These services include fulfillment, BPO software development, and claims handling for our customers. Collateral tracking fee income is recognized when the service is performed and billed. Asset recovery service revenue is recognized upon the location of a recovered unit and or the location and delivery of a unit. Management reviews the financial results under each significant BPO contract on a monthly basis. Any losses that may occur due to a specific contract would be recognized in the period in which the loss occurs. During the years ended December 31, 2012, 2011 and 2010, we have not incurred a loss with respect to a specific significant BPO contract.
Ceding commissions earned under coinsurance agreements are based on contractual formulas that take into account, in part, underwriting performance and investment returns experienced by the assuming companies. As experience changes, adjustments to the ceding commissions are reflected in the period incurred. Experience adjustments are based on the claim experience of the related policy. The adjustment is calculated by adding the earned premium and investment income from the assets held in trust for our benefit less earned
The commission costs include the commissions paid to the distributors for credit insurance policies, -motor club memberships, and warranty service contracts. The commission costs for credit insurance also include retrospective commission adjustments. These retrospective commission adjustments are payments made or adjustments to future commission expense based on claims experience. Under these retrospective commission arrangements, the commissions paid are adjusted based on actual losses incurred compared to premium earned after a specified net allowance is retained by us.
Service and Administrative Fees. We earn service and administrative fees from our Payment Protection and BPO business segments. Such fees are typically positively correlated with transaction volume and are recognized as revenue as they become both realized and earned. We earn service and administrative fees from a variety of activities, including the administration of credit insurance, the administration of debt cancellation programs, the administration of motor club programs, the administration of warranty programs and the administration of collateral tracking and asset recovery programs.
Our Payment Protection products are sold as complementary products to consumer retail and credit transactions and are thus subject to the volatility of volume of consumer purchase and credit activities. We receive service and administrative fees for administering Payment Protection products that are sold by our clients, such as credit insurance, debt protection, motor club and warranty solutions. We earn administrative fees for administering debt cancellation plans, facilitating the distribution and administration of warranty or extended service contracts, providing motor club membership benefits and providing related services for our clients. For credit insurance products, our clients typically retain the risk associated with credit insurance products that they sell to their customers through economic arrangements with us. Our Payment Protection revenue includes revenue earned from reinsurance arrangements with producer owned reinsurance companies owned by our clients. Our clients own producer owned reinsurance companies ("PORCs") that assume the credit insurance premiums and associated risk that they originate in exchange for fees paid to us for ceding the premiums. In addition, our Payment Protection revenue includes administrative fees charged by us under retrospective commission arrangements with producers, where the commissions paid are adjusted based on actual losses incurred compared to premium earned after a specified net allowance retained by us. Under these arrangements, our insurance companies receive the insurance premiums and administer the policies that are distributed by our clients. The producer of the credit insurance policies receives a retrospective commission if the premium generated by that producer in the accounting period exceeds the costs associated with those polices, which includes our administrative fees, incurred claims, reserves and premium taxes. If the net result is negative, we either offset that negative amount against future retrospective commission payments, reduce the producer's up-front commission on a prospective basis to increase the likelihood that it will return to a positive position or request payment of the negative amount from the producer. Revenues in our Payment Protection business may fluctuate seasonally based on consumer spending trends, where consumer spending has historically been higher in September and December, corresponding to back-to-school and the holiday season. Accordingly, our Payment Protection revenues may reflect higher third and fourth quarters than in the first half of the year.
BPO. The BPO revenues are recognized as the services are performed and consist primarily of service and administrative fees for providing a broad set of administrative services tailored to insurance and other financial services companies including ongoing sales and marketing support, premium billing and collections, policy administration, claims adjudication, call center management services and the development of web-hosted applications for the reinsurance market. In addition, our BPO segment markets and sells health, accident, critical illness and life insurance policies to customers in the U.S. Our BPO revenues are based on the volume of business that we manage on behalf of our clients. Our BPO segment typically charges fees on a per-unit of service basis as a percentage of our client's insurance premiums.
We also receive profit commissions for certain arrangements with certain insurance carriers on binding authority business. These profit commissions are based on the profitability of the business that we underwrite or broker on the insurance carrier's behalf. Profit commissions typically range from 0.6% to 1.7% of the annual premium and are paid periodically based on the terms of the individual carrier contract.
We limit the underwriting risk we take in our Payment Protection insurance policies. When we do assume risk in our Payment Protection insurance policies, we utilize both reinsurance (e.g., quota share and excess of loss) and retrospective commission agreements to manage and mitigate our risk.
Net Investment Income. We earn net investment income from interest payments and dividends received from our investment portfolio, and interest earned on our cash accounts and notes receivable, less portfolio management expenses. Our investment portfolio is invested primarily in fixed maturity securities which tend to produce consistent levels of investment income. The fair value of the fixed maturity securities in our portfolio and the investment income from these securities fluctuate depending on general economic and market conditions. The fair value generally increases or decreases in an inverse relationship with fluctuations in interest rates. Investment income can be significantly impacted by changes in interest rates. Interest rate volatility can increase or reduce unrealized gains or unrealized losses in our portfolios. Interest rates are highly sensitive to many factors, including governmental monetary policies, domestic and international economic and political conditions and other factors beyond our control. Fluctuations in interest rates affect our returns on, and the fair value of, fixed maturity and short-term investments.
Other Income. Other income consists primarily of miscellaneous fees generated by our Brokerage and Payment Protection segments.
Unpaid claims are reserve estimates that are established in accordance with U.S. GAAP using generally accepted actuarial methods. Credit life and AD&D unpaid claims reserves include claims in the course of settlement and incurred but not reported ("IBNR"). Credit disability unpaid claims reserves also include continuing claim reserves for open disability claims. For all other product lines, unpaid claims reserves are bulk reserves and are entirely IBNR. We use a number of algorithms in establishing our unpaid claims reserves. These algorithms are used to calculate unpaid claims as a function of paid losses, earned premium, target loss ratios, in-force amounts, unearned premium reserves, industry recognized morbidity tables or a combination of these factors.
In arriving at our unpaid claims reserves, we conduct an actuarial analysis on a basis gross of reinsurance. The same estimates used as a basis in calculating the gross unpaid claims reserves are then used as the basis for calculating the net unpaid claims reserves, which take into account the impact of reinsurance. Anticipated future loss development patterns form a key assumption underlying these analyses. Our claims are generally reported and settled quickly, resulting in a consistent historical loss development pattern. From the anticipated loss development patterns, a variety of actuarial loss projection techniques are employed, such as the chain ladder method, the Bornhuetter-Ferguson method and expected loss ratio method.
Our unpaid claims reserves do not represent an exact calculation of exposure, but instead represent our best estimates, generally involving actuarial projections at a given time. The process used in determining our unpaid claims reserves cannot be exact since actual claim costs are dependent upon a number of complex factors such as changes in doctrines of legal liabilities and damage awards. These factors are not directly quantifiable, particularly on a prospective basis. We periodically review and update our methods of making
Member Benefit Claims represent claims paid on behalf of contract holders directly to third parties providers for roadside assistance and for the repair or replacement of covered products. Claims can also be paid directly to contract holders as a reimbursement payment provided supporting documentation of loss is submitted to us. Claims are recognized as expense when incurred.
Commissions. Commissions include the commissions paid to distributors selling credit insurance policies, motor club memberships, and warranty service contracts offered by our Payment Protection segment. Credit insurance commission rates, in many instances, are set by state regulators and are also impacted by market conditions. In certain instances, our commissions are subject to retrospective adjustment based on the profitability of the related policies. These retrospective commission adjustments are payments made or adjustments to future commission expense based on claims experience. Under these retrospective commission arrangements, the producer of the credit insurance policies, which is typically our client, receives a retrospective commission if the premium generated by that producer in the accounting period exceeds the costs associated with those policies, which includes our administrative fees, claims, reserves and premium taxes. If the net result is negative, we either offset that negative amount against future retrospective commission payments, reduce the producer's up-front commission on a prospective basis to increase the likelihood that it will return to a positive position or request payment of the negative amount from the producer.
Personnel Costs. Personnel costs represent the amounts attributable to wages, salaries, bonuses and benefits for our full and part-time employees, as well as expense related to our stock-based compensation. In addition to our general personnel costs, some of the employees in our Brokerage and Payment Protections segments are paid a percentage of revenues they generate. Accordingly, compensation for brokers in our Brokerage segment is predominantly variable. Bonuses for the remaining employees are discretionary and are based on an evaluation of their individual performance and the performance of their particular business segment, as well as our entire company.
Service and administrative fees for the year ended December 31, 2012 decreased $3.9 million, or 4.1%, to $90.6 million from $94.5 million for the year ended December 31, 2011. The decrease resulted primarily from a $5.6 million decrease in our Motor Clubs division revenues resulting from lower revenues in Continental and Auto Knight and $0.7 million related to the sale of CIRG in July 2011. This decrease was partially offset by a $2.7 million increase in administrative fees from our acquisition of PBG in October 2011.
and from an additional growth in our core business of $0.6 million. These increases were partially offset by a $1.5 million reduction in our BPO segment revenues and $1.9 million of lower debt collection and collection recovery fees.
Brokerage commissions and fees for the year ended December 31, 2011 increased $9.8 million or 39.7%, to $34.4 million from $24.6 for the year ended December 31, 2010. The acquisition of eReinsure in March 2011 contributed $8.8 million in fees and Bliss & Glennon contributed an increase of $1.0 million in contingent commissions and net commissions and fees.
Ceding commissions for the year ended December 31, 2011 increased $0.7 million, or 2.5%, to $29.5 million from $28.8 million for the year ended December 31, 2010. This increase was due to additional service and administrative fees of $1.4 million from increased insurance production in 2011. In addition, underwriting profits increased $1.2 million due to positive underwriting performance. Net investment income, including realized gains, from assets held in trust by our reinsurers decreased $1.9 million during the period. For the year ended December 31, 2011, ceding commissions included $21.0 million in service and administrative fees, $7.2 million in underwriting profits from positive underwriting performance and $1.3 million in net investment income.
Net realized gains on the sale of investments totaled $3 thousand for the year ended December 31, 2012 compared to net realized gains of $4.2 million for the year ended December 31, 2011. The decrease for 2012 was due to higher levels of investment sales occurring in 2011 that were not repeated in 2012. This net gain for 2012 included a $16.0 thousand net realized loss attributable to an OTTI charge for the write-down of a single equity security compared to an OTTI charge of $0.2 million for the year ended December 31, 2011 for ten equity securities.
Net realized gains for the year ended December 31, 2011 totaled $4.2 million, an increase of $3.5 million from the same period in 2010, from the sale of approximately $62.3 million in securities during the year compared to $8.8 million sold in 2010.
Net earned premium for the year ended December 31, 2012 increased $12.1 million, or 10.5%, to $127.6 million from $115.5 million for the year ended December 31, 2011, with the change in accounting estimate increasing net earned premium by $2.5 million for the 2012 period. For the 2012 period, direct and assumed earned premium increased $38.4 million resulting from increased production from existing clients and new clients distributing our credit insurance and warranty products and geographic expansion. Because of this increase, ceded earned premiums increased $26.3 million, or 12.8%, for the year ended December 31, 2012. On average, we maintained a 64.5% overall cession rate of direct and assumed earned premium for the year ended December 31, 2012 compared with 64.1% in 2011.
Net earned premium for the year ended December 31, 2011 increased $3.7 million, or 3.3%, to $115.5 million from $111.8 million for the year ended December 31, 2010. Direct and assumed earned premium increased $13.5 million resulting from an increase in direct
Other income was relatively consistent for all periods presented and totaled $0.3 million, $0.2 million and $0.2 million for the years ended December 31, 2012, 2011 and 2010, respectively.
Net losses and loss adjustment expenses for the year ended December 31, 2011 increased $1.9 million, or 5.3% to $37.9 million, from $36.0 million for the year ended December 31, 2010. For the year ended December 31, 2011, our direct and assumed losses increased by $2.4 million, or 3.1%, as compared with the same period in 2010 due to a slightly unfavorable loss experience for 2011. For the year ended December 31, 2011, our ceded losses were higher by $0.5 million, or 1.2%, compared with the year ended December 31, 2010, thereby decreasing our net losses and loss adjustment expenses by the corresponding amount. On average, we maintained a 54% overall cession rate of direct and assumed losses and loss adjustment expenses for the year ended December 31, 2011, compared to 55% for the year ended December 31, 2010.
Member benefit claims for the year ended December 31, 2012 increased $0.2 million, or 5.3%, to $4.6 million, from $4.4 million for the year ended December 31, 2011. The increase for 2012, compared to 2011, resulted from higher than expected claims paid for one Auto Knight program that was terminated in 2012.
Member benefit claims for the year ended December 31, 2011 increased $3.9 million, or 846.1%, to $4.4 million, from $0.5 million for the year ended December 31, 2010. The increase for 2011, compared to 2010, was principally due to 2011 results containing a full year of results for Auto Knight, Continental, and United, whereas 2010 results included only eight months of activity for Continental and four months of activity for United.
545 compared to 460 at December 31, 2010. For the year ended December 31, 2011 we recorded total stock based compensation expense of $0.6 million compared to $0.2 million for the year ended December 31, 2010.
Amortization expense on intangibles totaled $5.0 million for the year ended December 31, 2012 and 2011, respectively. Amortization expense on intangibles increased $1.7 million, or 53.2%, to $5.0 million for the year ended December 31, 2011 from $3.2 million for the year ended December 31, 2010. The increase was primarily due to the 2011 and 2010 acquisitions which increased the level of amortizable intangibles in 2011.
Interest expense for the year ended December 31, 2012 decreased $1.0 million, or 13.3%, to $6.6 million from $7.6 million for the year ended December 31, 2011 and was positively impacted by a lower interest rate on outstanding borrowings and our new credit facility with Wells Fargo Bank, N.A., which took effect on August 2, 2012 and the impact of the interest rate swap, which took effect in mid-June 2012. These decreases were partially offset by a $0.7 million charge to interest expense for previously capitalized transaction costs associated with the termination of the SunTrust Bank, N.A. revolving credit facility in August.
In this Form 10-K, we present EBITDA, segment EBITDA margin and Adjusted EBITDA. These financial measures as presented in this Form 10-K are considered Non-GAAP financial measures and are not recognized terms under U.S. GAAP and should not be used as an indicator of, and are not an alternative to, net income as a measure of operating performance. EBITDA as used in this Form 10-K is net income before interest expense, income taxes, non-controlling interest, depreciation and amortization. Adjusted EBITDA, as used in this Form 10-K means "Consolidated Adjusted EBITDA" which is defined under our credit facility with Well Fargo Bank, N.A., is generally consolidated net income before consolidated interest expense, consolidated amortization expense, consolidated depreciation expense and consolidated income tax expense. The other items excluded in this calculation may include if applicable, but are not limited to, specified acquisition costs, impairment of goodwill and other non-cash charges, stock-based compensation expense and unusual or non-recurring charges. The calculation below does not give effect to certain additional adjustments permitted under our credit facility, which if included, would increase the amount of Adjusted EBITDA reflected in this table. We believe presenting EBITDA and Adjusted EBITDA provides investors with a supplemental financial measure of our operating performance.
(2)- Includes a $477 loss on the sale of subsidiary for the year ended December 31, 2011.
Net revenues for the year ended December 31, 2012 increased $2.9 million, or 4.8%, to $62.6 million from $59.7 million for the year ended December 31, 2011. The change in accounting estimate increased net revenues by $1.3 million for the 2012 period. Ceding commission increased $2.5 million, after deducting the impact from the change in accounting estimate, primarily from improved underwriting results due to growth in ceded earned premiums and favorable loss experience along with additional administrative fees earned from increased insurance production in 2012, which was partially offset by a $5.9 million decrease in service and administrative fees in our Motor Clubs Division. In addition, after deducting the impact from the change in accounting estimate, net earned premium was $9.7 million above the 2011 period and resulted from increased premium growth.Net loss and loss adjustment expenses were $2.3 million above the 2011 period due to increased earned premium and warranty claims. Commissions decreased $2.1 million, after deducting the impact from the change in accounting estimate, primarily due to the decrease in Motor Club service and administrative fees partially offset by growth in commissions in our credit insurance products. Net investment income on our portfolio decreased by $0.3 million due to lower investment yields. Net realized gains on the sale of investments decreased by $4.2 million due to the sale of investment securities in 2011 not repeated in the 2012 period. Service fee income decreased by $2.4 million primarily due to reduced motor club revenue.
Net revenues for the year ended December 31, 2011 increased $8.8 million, or 17.2%, to $59.7 million from $50.9 million for the year ended December 31, 2010. The 2011 results include a full year of revenues from the acquisitions of Auto Knight, Continental and United, which added $6.9 million of revenue. Net realized gains on the sale of investments increased by $3.5 million. Service and administrative fee income for the core business was $0.6 million above prior year and resulted from increased debt cancellation and service fees primarily in the Consumer Finance channel. Ceding commission increased $0.7 million due to additional service and administrative fees from increased insurance production in 2011. These increases were offset by lower net investment income on our portfolio of $0.7 million due to lower investment yields. In addition, underwriting revenue was $1.3 million below prior year 2010 and resulted from increased commissions in the Consumer Finance channel and an increase in loss ratio in our risk retained business.
EBITDA for the year ended December 31, 2012 increased $0.1 million, or 0.2%, to $26.1 million from $26.2 million for the same period in 2011. EBITDA margin was 41.8% and 43.9% for the years ended December 31, 2012 and 2011, respectively.
EBITDA for the year ended December 31, 2011 increased $0.4 million, or 1.4%, to $26.2 million from $25.8 million for the year ended December 31, 2010. As a result, EBITDA margin for the year ended December 31, 2011 was 43.9% compared with 50.7% for the year ended December 31, 2010.
Revenues for the year ended December 31, 2012 increased $2.8 million, or 18.2%, to $18.4 million from $15.6 million for the year ended December 31, 2011. The increase in 2012 primarily reflects additional revenues of $2.7 million from our PBG acquisition and an increase in service and administrative fees of $0.9 million on debt cancellation programs for credit card companies and $0.3 million fee for the implementation of a new term life program for a new life insurance carrier client. These increases were partially offset by lower service and administrative fees for our insurance company clients, which decreased $1.2 million due to regulatory changes that slowed the production for one of our main customers in 2012.
EBITDA for the year ended December 31, 2012 was $4.2 million compared to $4.0 million for the same period in 2011. EBITDA margin was 22.8% and 25.6% for the years ended December 31, 2012 and 2011, respectively.
The Brokerage segment for 2012 includes a full year of results for eReinsure while 2011 includes eReinsure's results from the date of acquisition on March 3, 2011 and six months of CIRG results, which was sold in July 2011.
Operating expenses for the year ended December 31, 2011 were $29.3 million, which includes a $0.5 million loss on sale of CIRG, compared to $23.5 million for the same period in 2010. For the year ended December 31, 2011 and 2010, the majority of our expenses were personnel costs, which totaled $19.8 million and $16.5 million, respectively.
EBITDA, for the year ended December 31, 2012 was $8.7 million compared to $7.7 million for the same period in 2011. EBITDA margin was 23.5% and 20.9% for the years ended December 31, 2012 and 2011, respectively.
Service and administrative fees for the three months ended September 30, 2012 decreased $4.1 million, or 15.1% to $22.9 million from $27.0 million for the same period in 2011. The decrease resulted primarily from lower Motor Club revenues of $5.0 million offset primarily from a $1.1 million increase in our BPO segment revenues, including the benefit of a $1.0 million increase in administrative fees from our acquisition of PBG in October 2011 and an increase in Consecta of $0.1 million.
Service and administrative fees increased 165.7%, or $13.2 million, to $21.2 million for the three months ended March 31, 2011 from $8.0 million for the three months ended March 31, 2010. The increase resulted from a $14.9 million increase in administrative fees in our Payment Protection segment. This resulted principally from a $14.7 million increase from our 2011 acquisition of Auto Knight and the full impact of our 2010 acquisitions, which mostly occurred in the latter part of 2010. These increases were partially offset by a $0.5 million reduction in our Brokerage service and administrative
Service and administrative fees increased $9.2 million, or 77.1%, to $21.1 million for the three months ended June 30, 2011, from $11.9 million for the three months ended June 30, 2010. The increase resulted principally from a $10.9 million increase from our 2011 acquisition of Auto Knight and the full impact of our 2010 acquisitions, which mostly occurred in the latter part of 2010. These increases were offset by a $0.6 million reduction in our BPO segment revenues and $0.6 million of lower debt collection and collection recovery fees.
Service and administrative fees for the three months ended September 30, 2011 increased $9.0 million or50.0% to $27.0 million from $18.0 million for the three months ended September 30, 2010. This increase resulted from a $10.6 million increase in administrative fees in our Payment Protection segment. This resulted principally from a $10.2 million increase from our 2011 acquisition of Auto Knight and the full impact of our 2010 acquisitions, which mostly occurred in the latter part of 2010, and growth in our core business of $0.4 million. These increases were offset by a $0.9 million reduction in our BPO segment revenues and $0.5 million of lower debt collection and collection recovery fees.
Member benefit claims for the three months ended September 30, 2012 increased $0.2 million, or 22.4%, to $1.1 million from $0.9 million for the same period in 2011. The increase was attributable principally to higher claims expense associated with one Motor Club program.
Member benefit claims were $1.3 million for the three months ended June 30, 2011. There was no comparable claims cost in the same period 2010 as the Continental Car Club acquisition did not occur until the latter part of the quarter.
Member benefit claims for the three months ended September 30, 2011 increased $0.7 to $0.9 million from $0.2 million for the three months ended September 30, 2010. The increase in member benefit claims reflects the full impact of the Motor Club acquisitions in the third quarter 2011 compared to only partial operations during the third quarter 2010.
Commissions increased $7.8 million, or 37.1%, to $28.7 million for the three months ended June 30, 2011, from $20.1 million for the three months ended June 30, 2010. The increase in commission expense resulted from a $8.3 million increase in commissions expense associated with our 2011 acquisition of Auto Knight and the full impact of our 2010 acquisitions and a $0.8 million increase in net commissions due to growth in net written premium. This increase was offset in part by a $0.5 million decrease in commissions earned on assumed credit insurance products sold, lower retrospective commission expense of $0.4 million due to unfavorable underwriting results and lower deferred policy acquisition amortization cost of $0.3 million.
Commissions for the three months ended September 30, 2011 increased $9.0 million, or 36.0%, to $33.9 million for the three months ended September 30, 2011, from $25.0 million for the three months ended September 30, 2010. Motor Club commission expense increased $7.5 million during the third quarter 2011 compared to the same 2010 period. In addition, deferred policy acquisition cost amortization increased by $1.4 million.
The following tables present our restated results of operations for our segments for the quarters ending March, 31, June 30, and September 30 for years 2012, 2011 and 2010, respectively, as discussed in the Note, "Restatement of the Consolidated Financial Statements," of the Notes to the Consolidated Financial Statements
Operating expenses for the three months ended March 31, 2012 decreased $0.9 million, or 9.8%, to $7.9 million from $8.8 million for the three months ended March 31, 2011. This decrease resulted primarily from $0.2 million in reduced personnel costs in our core business.
EBITDA for the three months ended March 31, 2012 decreased $0.2 million, or 4.1%, to $5.2 million from $5.4 million for the three months ended March 31, 2011. As a result, EBITDA margin three months ended March 31, 2012 was 39.6% compared with 38.1 % for the three months ended March 31, 2011.
Operating expenses for the three months ended June 30, 2012 increased $0.1 million, or 1.0%, to $8.7 million from $8.6 million for the three months ended June 30, 2011. This increase resulted primarily from growth in variable expenses to expand the business.
EBITDA for the three months ended June 30, 2012 increased $1.5 million, or 31.1%, to $6.2 million from $4.7 million for the three months ended June 30, 2011. As a result, EBITDA margin three months ended June 30, 2012 was 41.5% compared with 35.3% for the three months ended June 30, 2011.
Net revenues for the three months ended September 30, 2012 increased $1.7 million, or 10.9%, to $17.3 million from $15.3 million for the three months ended September 30, 2011. The change in accounting estimate increased net revenues by $1.2 million for the
2012 period. Ceding commission increased $2.0 million, after deducting the impact from the change in accounting estimate, primarily from improved underwriting results due to growth in earned premiums and favorable loss experience along with additional administrative fees earned from increased insurance production in 2012. In addition, after deducting the impact from the change in accounting estimate, underwriting revenue was $0.8 million above the 2011 period and resulted from increased earned premiums offset by growth in commissions due to an increase in direct and assumed earned premium and a decrease in loss ratio in our risk retained business.
EBITDA for the three months ended March 31, 2011 increased $1.3 million, or 30.1%, to $5.4 million from $4.2 million for the three months ended March 31, 2010. As a result, EBITDA margin three months ended March 31, 2011 was 38.1% compared with 41.9% for the three months ended March 31, 2010.
Operating expenses for the three months ended June 30, 2011 increased $2.3 million, or 36.0%, to $8.6 million from $6.3 million for the three months ended June 30, 2010. This increase resulted primarily from the acquisitions of Auto Knight, Continental Car Club and United Motor Club which increased personnel costs by $0.6 million and other operating expense by $0.3 million. In addition, the increase resulted from additional costs associated with being a public company.
Net revenues for the three months ended September 30, 2012 increased $1.0 million, or 6.8%, to $15.6 million from $14.6 million for the three months ended September 30, 2011. The 2011 and 2010 acquisitions contributed $1.7 million of revenue (service fee revenue less applicable commissions) and our core business added services fees of $0.4 million. Net realized gains on the sale of investments increased by $1.1 million. Net underwriting revenue (net earned premium less net losses and loss adjustment expenses less commissions) increased $0.2 million due to favorable underwriting results. These increases were partially offset by a decrease in ceding commission revenue of $2.4 million due to the third quarter 2010 realized gain of $2.0 million on the sale of assets held in trust for our benefit that was not repeated in the third quarter of 2011.
Our primary cash requirements include the payment of our operating expenses, interest and principal payments on our debt, capital expenditures and acquisitions. We may also incur unexpected costs and operating expenses related to any unforeseen disruptions to our facilities and equipment, the loss of key personnel or changes in the credit markets and interest rates, which could increase our immediate cash requirements or otherwise impact our liquidity.
We believe that our cash flow from operations and our availability under our revolving credit facility, combined with our low capital expenditure requirements will provide us with sufficient capital to continue to grow our business over the next several years. We intend to use a portion of our available cash flow to pay interest on our outstanding debt, thus limiting the amount available for working capital, capital expenditures and other general corporate purposes. As we continue to expand our business and make acquisitions, we may in the future require additional working capital to meet our future business needs. This additional working capital may be in the form of additional debt or equity. Although we believe we have sufficient liquidity under our revolving credit facility, as discussed above, under adverse market conditions or in the event of a default under our revolving credit facility, there can be no assurance that such funds would be available or sufficient, and, in such a case, we may not be able to successfully obtain additional financing on favorable terms, or at all, or replace our existing credit facility upon maturity in August 2017.
During the fourth quarter of 2011, our Board of Directors approved a share repurchase plan. The share repurchase plan allows us to purchase up to $10.0 million of our common stock to be purchased from time to time through open market or private transactions. The plan provides for shares to be repurchased for general corporate purposes, which may include serving as a subsequent resource for funding potential acquisitions and employee benefit plans. The timing, price and quantity of purchases are at our discretion, and the plan may be discontinued or suspended at any time. For the year ended December 31, 2012, we repurchased a total of 508,080 common shares with an average price of $7.72 per share and a total cost of $3.9 million compared to 471,554 common shares at an average price of $5.41 per share at a total cost of $2.6 million for same period in 2011. All repurchased common shares are held in treasury and none of the repurchased common shares have been retired. See Part II, Item 5 and the Note, "Share Repurchase Plan," of the Notes to Consolidated Financial Statements for more information on the share repurchase plan.
We are a holding company and have limited direct operations. Our holding company assets consist primarily of the capital stock of our subsidiaries. Accordingly, our future cash flows depend upon the availability of dividends and other payments from our subsidiaries, including statutorily permissible payments from our insurance company subsidiaries, as well as payments under our tax allocation agreement and management agreements with our subsidiaries. The ability of our insurance company subsidiaries to pay such dividends
and to make such other payments are limited by applicable laws and regulations of the states in which our subsidiaries are domiciled, which vary from state to state and by type of insurance provided by the applicable subsidiary. These laws and regulations require, among other things, our insurance subsidiaries to maintain minimum solvency requirements and limit the amount of dividends these subsidiaries can pay to the holding company. Along with solvency regulations, the primary factor in determining the amount of capital available for potential dividends is the level of capital needed to maintain desired financial strength ratings from A.M. Best for our insurance company subsidiaries. Given recent economic events that have affected the insurance industry, both regulators and rating agencies could become more conservative in their methodology and criteria, including increasing capital requirements for our insurance subsidiaries which, in turn, could negatively affect our capital resources. The following table sets forth the dividends paid to us by our insurance company subsidiaries during the following periods:
In addition to interest payable on the principal amount of indebtedness outstanding from time to time under the Credit Agreement, we are required to pay a commitment fee, initially equal to 0.40% per annum of the unused amount of the Revolving Facility. The percentage rate of such fee may increase (to a maximum amount of .45%) or decrease (to a minimum amount of .25%) based on changes in the Borrowers' leverage ratio. The amount of outstanding swingline loans is not considered usage of the Revolving Facility for the purpose of calculating the commitment fee. We are also required to pay letter of credit participation fees on the undrawn amount of all outstanding letters of credit. We paid one-time upfront fees of approximately $1.3 million to Wells Fargo in connection with the execution of the Credit Agreement.
We may, at our option, prepay any borrowing, in whole or in part, at any time and from time to time without premium or penalty. However, after the end of our fiscal year (commencing with the fiscal year ending December 31, 2015), we are required to make mandatory principal prepayments of loans under the Facilities in an amount determined under the Credit Agreement based upon a percentage (from a maximum of 50% to a minimum of 0% based on the Borrowers' leverage ratio) of our Excess Cash Flow (as defined in the Credit Agreement) minus certain off set amounts relating to permitted acquisitions of ours.
a minimum NAIC RBC Ratio (as defined in the NAIC) standards, calculated as of the end of each fiscal year, to the "authorized control level," as defined by the NAIC in its standards) of 250.0%, applicable to each regulated insurance subsidiary of the Borrowers.
As of December 31, 2012, we were in compliance with the financial covenants contained in the Credit Agreement.
securities, although we can give no assurances. At December 31, 2012, based on management's quarterly review, we deemed that a single equity security was other than temporarily impaired and recorded an impairment charge of $16 thousand for the year ended December 31, 2012.
Net cash provided from operating activities was $13.1 million for the year ended December 31, 2010, and primarily reflected our net income and collections of reinsurance and other receivables, partially offset by payments made for accrued expenses, accounts payable and other liabilities.
Net cash used in investing activities was $59.3 million for the year ended December 31, 2012 and was primarily for the purchase of fixed maturity and equity securities, our acquisitions of ProtectCELL and 4Warranty, an increase in restricted cash and the purchase of property and equipment. These uses of cash were partially offset by the cash provided by the proceeds from maturities and sales of maturity of fixed maturity investments.
Net cash provided by financing activities was $11.2 million for the year ended December 31, 2012 primarily reflected the borrowings under our lines of credit of $146.9 million, which was nearly offset by the use of $130.5 million used to pay-down our credit facilities and use of $3.9 million to repurchase 508,080 shares of our common stock under our share repurchase plan. Payments and proceeds from our notes payables were also higher for the year ended December 31, 2012, compared to the same period in 2011, due to the payoff of our SunTrust Bank, N.A revolving credit facility and the entry into the new Wells Fargo Bank, N.A. credit facility.
(1) - For more information on the credit facility with Wells Fargo Bank, N.A., please see the section above titled "$125.0 Million Credit Facility" in this MD&A and the Note, "Note Payable" in the Notes to the Consolidated Financial Statements.
For interest payable on the note payable, we assumed scheduled principal payments 1,250 per quarter and used the 1-month forward LIBOR curve rate when estimating interest payable on the outstanding principal balance.
(3) - Includes the interest portion of the capital lease payments.
The benefits of such additional funding would inure to Fortegra and to the non-controlling ownership interest of ProtectCell, in proportion to their respective ownership interests. However, in return for each $1,000 of Additional Fortegra Capital Contributions, the Fortegra Members shall receive one Series A Preferred Unit. Any unreturned Series A Preferred contribution is deducted from ProtectCELL's valuation in determining the option price.
These Consolidated Financial Statements reflect the consolidated financial statements of Fortegra Financial Corporation and its subsidiaries. The accompanying Consolidated Financial Statements of Fortegra have been prepared in conformity with generally accepted accounting principles in the United States of America ("U.S. GAAP") promulgated by the Financial Accounting Standards Board ("FASB"), Accounting Standards Codification ("ASC" or "the guidance").
Comprehensive income (loss) includes both net income and other items of comprehensive income comprised of unrealized gains and losses on investment securities classified as available-for-sale and unrealized gains and losses on the interest rate swap, net of the related tax effects.
Change in Accounting Estimate - Unearned Premium Reserves for the Payment Protection Segment
Level 1 - Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities traded in active
Fixed maturity securities: Fair values were obtained from market value quotations provided by an independent pricing service.
The estimated fair values presented for the Company's investment portfolio are based on prices provided by an independent pricing service and a third party investment manager. The prices provided by these services are based on quoted market prices, when available, non-binding broker quotes, or matrix pricing. The independent pricing service and the third party investment manager provide a single price or quote per security. The Company obtains an understanding of the methods, models and inputs used by the independent pricing service and the third party investment manager, and has controls in place to validate that the amounts provided represent fair values.
The Company's revenues are primarily derived from service and administrative fees, wholesale brokerage commissions and related fees, ceding commissions, net investment income and net earned premiums.
Net earned premium is from direct and assumed earned premium consisting of revenue generated from the direct sale of Payment Protection insurance policies by the Company's distributors and premiums written for Payment Protection insurance policies by another carrier and assumed by the Company. Whether direct or assumed, the premium is earned over the life of the respective policy using methods appropriate to the pattern of losses for the type of business. Methods used include the Rule of 78's, pro rata, and actuarial methods. Management selects the appropriate method based on available information, and periodically reviews the selections as additional information becomes available. Direct and assumed premiums are offset by premiums ceded to the Company's reinsurers, including producer owned reinsurance companies ("PORCs"), earned in the same manner. The amount ceded is proportional to the amount of risk assumed by the reinsurer.
In arriving at the unpaid claims reserves, the Company conducts an actuarial analysis on a basis gross of reinsurance. The same estimates used as a basis in calculating the gross unpaid claims reserves are then used as the basis for calculating the net unpaid claims reserves, which take into account the impact of reinsurance. Anticipated future loss development patterns form a key assumption underlying these analyses. Our claims are generally reported and settled quickly, resulting in a consistent historical loss development pattern. From the anticipated loss development patterns, a variety of actuarial loss projection techniques are employed, such as the chain ladder method, the Bornhuetter-Ferguson method and expected loss ratio method.
The Company conducts a quarterly review of all fixed maturity and equity securities with fair values less than their cost basis or amortized cost to determine if the decline in the fair value is other-than-temporary. In estimating other-than-temporary impairment ("OTTI") losses, the Company considers the following factors in assessing OTTI for fixed maturity and equity securities:
OTTI is a subjective process, and different judgments and assumptions could affect the fair value determination and the timing of loss realization.
Short-term investments consist of certificates of deposits issued by federally insured depository institutions and normally have maturities of less than one year. At various times throughout the year, the Company may have certificates of deposits with financial institutions that exceed the Federal Deposit Insurance Corporation ("FDIC") insurance limit amount of $250,000.The Company had $0 and $0.1 million in certificates of deposit at December 31, 2012 and 2011, respectively, that exceeded the FDIC insurance limit of $250,000. Management reviews the financial viability of these financial institutions on a periodic basis and does not anticipate nonperformance by the financial institutions.
Restricted cash primarily represents unremitted premiums received from agents, unremitted claims received from insurers, fiduciary cash for reinsurers and pledged assets for the protection of policy holders in various state jurisdictions. Restricted cash is generally required to be kept in certain bank accounts subject to guidelines which emphasize capital preservation and liquidity; pursuant to the laws of certain states in which the Company's subsidiaries operate and applicable contractual obligations, such funds are not available to service the Company's debt or for other general corporate purposes. The Company is entitled to retain investment income earned on these fiduciary funds. None of the restricted cash was held in interest bearing money market accounts, subject to the FDIC insurance limit of $250,000, at December 31, 2012 and 2011, respectively.
Accounts and premiums receivable are presented net of the allowance for doubtful accounts and consist primarily of advance commissions and agents' balances in course of collection and billed but not collected policy premium. For policy premiums that have been billed but not collected, the Company records a receivable on its balance sheet for the full amount of the premium billed, with a corresponding liability, net of its commission, to insurance carriers. The Company earns interest on the premium cash during the period of time between receipt of the funds and payment of these funds to insurance carriers. The Company maintains an allowance for doubtful accounts based on an estimate of uncollectible accounts. The allowance for doubtful accounts totaled $0.5 million and $0.2 million at December 31, 2012 and 2011, respectively,
The Company has various reinsurance agreements in place whereby the amount of risk in excess of the Company's retention is reinsured by unrelated domestic and foreign insurance companies. The Company remains liable to policyholders in the event that the assuming companies are unable to meet their obligations. Reinsurance receivables include amounts related to paid benefits, unpaid benefits and prepaid reinsurance premiums. Reinsurance receivables are based upon estimates and are reported on the Consolidated Balance Sheets separately as assets, as reinsurance does not relieve the Company of its legal liability to policyholders. The Company is required to pay losses even if a reinsurer fails to meet its obligations under the applicable reinsurance agreement. Management continually monitors the financial condition and agency ratings of the Company's reinsurers and believes that the reinsurance receivables accrued are collectible. Balances recoverable from reinsurers and amounts ceded to reinsurers relating to the unexpired portion of reinsured policies are presented as assets. Experience refunds from reinsurers are recognized based on the underwriting experience of the underlying contracts.
The Company retrospectively adopted the new accounting standard ASU 2010-26, Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts, on January 1, 2012. Please see the Note "Recent Accounting Standards," for more information on the adoption and impact to the Consolidated Balance Sheets, Consolidated Statements of Income and Consolidated Statement of Stockholders' Equity, for the retrospective adoption of this new accounting standard.
The Company also leases certain office space and equipment under operating leases. The Company evaluates the impact of rent escalation clauses, renewal options, lease incentives, including rent abatements included in its operating leases. Rent escalation clauses, renewal options and lease incentives are considered in determining total rent expense to be recognized during the term of the lease, which begins on the date the Company takes control of the leased space. Rent expense related to lease agreements which contain escalation clauses are recorded on a straight-line basis. Renewal options are considered by evaluating the overall term of the lease. In the event that the Company terminates a lease prior to the expiration, the agreed upon lease termination penalty is charged to expense with a corresponding liability recorded on the Consolidated Balance Sheet. The liability is adjusted for changes, if any, resulting from revisions to the termination amount after the cease-use date.
The Company accounts for business combinations in accordance with ASC 805, Business Combinations, ("ASC 805"). These transactions are accounted for using the purchase method with the related net assets and results of operations being included in the Company’s Consolidated Financial Statements as of the respective acquisition date(s).
In certain instances, the Company may acquire less than 100% ownership of an entity, resulting in the recording of a non-controlling interest. The non-controlling interest is initially established at a preliminary estimate of fair value and may be adjusted during the measurement period based upon the results of a valuation study applicable to the business combination. See "Purchase Price Adjustments" below for more information on measurement period adjustments.
The values of certain assets and liabilities acquired in acquisitions are preliminary in nature, and are subject to adjustment as additional information is obtained, including, but not limited to, valuation of separately identifiable intangibles, fixed assets, deferred taxes and deferred revenue. The valuations will be finalized within one year of the close of the acquisition. When the valuations are finalized, any changes to the preliminary valuation of assets acquired or liabilities assumed may result in adjustments to separately identifiable intangible assets and goodwill. A change to the acquisition date value of the identifiable net assets during the measurement period (up to one year from the acquisition date) affects the amount of the purchase price allocated to goodwill. Changes to the purchase price allocation are adjusted retrospectively in the Consolidated Financial Statements.
Goodwill represents the excess cost of an acquisition over the fair value of the net assets acquired in a business combination and is carried as an asset on the Consolidated Balance Sheets. The Company's goodwill is not amortized but is reviewed annually in the fourth quarter for impairment or more frequently if certain indicators arise. The Company's impairment testing is performed at the segment level. In 2011, the Company early adopted Accounting Standards Update ("ASU") 2011-08, Intangibles - Goodwill and Other (Topic 350): Testing Goodwill for Impairment. ASU 2011-08 allows for the goodwill impairment analysis to start with an assessment of qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the qualitative factors, management determines that it is more likely than not that the fair value of a reporting unit is less than its carrying amount, then the Company performs the two-part quantitative impairment test under Topic 350. If the carrying amount of the goodwill of the reporting unit exceeds the implied fair value, an impairment charge is recorded equal to the excess.
lived Intangible assets are amortized over periods ranging from 1 to 15 years. Trademarks are not amortized since these assets have been determined to have indefinite useful lives. The costs to periodically renew other intangible assets are expensed as incurred. Intangible assets are tested for impairment at least annually, or whenever events or circumstances indicate that their carrying amount may not be recoverable using an analysis of expected future cash flows.
78's, modified Rule of 78's, pro rata, or other methods as appropriate for the contract. A deficiency reserve would be recorded if anticipated contract benefits, deferred acquisition costs and contract service costs exceed the recorded deferred revenues and anticipated investment income. As of December 31, 2012, and 2011, no deficiency reserve was recorded.
The Company uses interest rate swaps as part of its risk management strategy to manage interest rate risk and cash flow risk that may arise in connection with the variable interest rate provision of the Company's preferred trust securities. The Company accounts for its derivative financial instruments in accordance with ASC 815, Derivatives and Hedging, which requires all derivative instruments to be carried at fair value on the balance sheet.
The Company accounts for stock-based compensation in accordance with FASB Topic ASC 718, Compensation-Stock Compensation ("ASC 718"), which addresses accounting for stock-based awards, including stock options and restricted stock. The Company has stock options outstanding under its 2005 Equity Incentive Plan (the "2005 Plan") and time- and performance-based stock options and restricted stock awards outstanding under The 2010 Omnibus Incentive Plan (the "2010 Plan"). Time-based stock options and restricted stock awards are grants that vest based on the passage of time; whereas, performance-based stock options and restricted stock awards are grants that vest based on the Company attaining certain financial metrics.
stock option on the grant date using the Black-Scholes valuation model. The Company uses historical data to estimate expected employee behavior related to stock award exercises and forfeitures. Since there is not sufficient historical market experience for shares of the Company's stock, the Company has chosen to estimate volatility, by using the average volatility of a selected peer group of publicly traded companies operating in the same industry. Expected dividends are based on the assumption that no dividends were expected to be distributed in the near future. The risk-free rate is based on the U.S. Treasury yield curve in effect at the time of grant for periods corresponding with the expected life of the options. The fair value of restricted stock awards is based on the market price of Fortegra's common stock at the grant date. The Company typically recognizes stock-based compensation expense for time-based awards on a straight-line basis over the requisite service period and on a graded vesting attribution model for performance-based awards. Stock-based compensation expense for time- and performance-based stock options and restricted stock awards for employee grants is recognized in personnel costs, while expense for restricted stock awards to directors is included in other operating expenses on the Consolidated Statements of Income. The related income tax expense (benefit) on stock-based compensation is recognized in income tax expense on the Consolidated Statements of Income. The Company's current policy is to issue new shares upon the exercise of stock options.
Thus, the service and administrative fees revenues generated by the Motor Clubs division have been restated to present them on a gross basis with the corresponding gross amounts of member benefit claims and commissions expenses restated in the Consolidated Statements of Income.
The effect of this correction had no impact on net income, basic or diluted earnings per share amounts, balance sheet values, or net cash provided by operating activities.
Further, the Consolidated Balance Sheet data as of December 31, 2009, 2010, and 2011 have been revised to reflect the immaterial correction of the error associated with the B&G acquisition occurring during the year ended December 31, 2009, as previously disclosed in the Company's Form 10-Q for the period ended September 30, 2012. This correction increased goodwill by $0.4 million, decreased deferred income tax liabilities by $0.3 million and decreased other assets by $0.7 million.
The Company identified an error in the Consolidated Statement of Cash Flows for the year ended December 31, 2011 caused primarily by the reporting of certain changes in deferred income taxes as operating rather than investing activities. Management evaluated the materiality of the error from qualitative and quantitative perspectives and concluded that the error was immaterial to the statement. The correction is reflected in the schedule below, and had no effect on other statements.
Retrospective adoption of ASU 2010-26, Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts
The following tables present our restated Consolidated Statements of Income, Consolidated Balance Sheets and Consolidated Statements of Cash Flows for the years ended December 31, 2011 and 2010, respectively.
In June 2011, the FASB issued Accounting Standards Update ("ASU") No. 2011-05, Comprehensive Income (Topic 820), which changes the presentation of comprehensive income. These changes give an entity the option to present the total of comprehensive income, the components of net income and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements; the option to present components of other comprehensive income as part of the statement of changes in stockholders' equity was eliminated. This guidance became effective for the Company on January 1, 2012 and only required a change in the format of the presentation of comprehensive income. The adoption of this guidance did not impact the Company’s consolidated financial position, results of operations or cash flows.
In October 2010, the FASB issued ASU 2010-26, Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts, which updates the accounting for deferred acquisition costs. This guidance modifies the definition of the types of costs incurred by insurance entities that can be capitalized in the acquisition of new and renewal insurance contracts. The amendments in this guidance specify that the costs are limited to incremental direct costs that result directly from successful contract transactions and would not have been incurred by the insurance entity had the contract transactions not occurred. These costs must be directly related to underwriting, policy issuance and processing, medical and inspection reports and sales force contract selling. The amendments also specify that advertising costs are only included as deferred acquisition costs if the direct-response advertising criteria are met. ASU 2010-26 is effective for interim and annual reporting periods beginning after December 15, 2011. The Company retrospectively adopted the new standard on January 1, 2012. As of January 1, 2010, the beginning of the earliest period presented, the cumulative effect of the adjustment recorded to adopt this guidance resulted in decreases of $4.9 million to deferred acquisition costs, $1.7 million to deferred income taxes and $3.2 million to retained earnings. See the Note, "Restatement" for the effect of the retrospective adoption on the Company's Consolidated Financial Statement line items for the years ending December 31, 2011 and 2010, respectively.
On February 5, 2013, the FASB issued ASU No. 2013-02, Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income. This guidance is the culmination of the board’s redeliberation on reporting reclassification adjustments from AOCI. The new requirements will take effect for public companies in interim and annual reporting periods beginning after December 15, 2012 (the first quarter of 2013 for public, calendar-year companies). The Company is evaluating the impact of the ASU. The Company does not expect the adoption of this pronouncement to have a significant impact on the Company's consolidated financial position, results of operations or cash flows.
In July 2012, the FASB issued ASU No. 2012-02, Intangibles-Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment. The ASU permits entities to perform an optional qualitative assessment for determining whether it is more likely than not that an indefinite-lived intangible asset is impaired. The guidance is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012. The Company is evaluating the impact of the ASU. The Company does not expect the adoption of this pronouncement to have a significant impact on the Company's consolidated financial position, results of operations or cash flows.
In December 2011, the FASB issued ASU No. 2011-11, Disclosures About Offsetting Assets and Liabilities. This standard requires the disclosure of both gross and net information about instruments and transactions eligible for offset in the statement of financial position, as well as instruments and transactions subject to an agreement similar to a master netting arrangement. In addition, the standard requires disclosure of collateral received and posted in connection with master netting agreements or similar arrangements. The new requirements are effective for the Company beginning on January 1, 2013. As the provisions of ASU No. 2011-11 only impact the disclosure requirements related to the offsetting of assets and liabilities, the Company does not expect a significant impact on its consolidated financial position, results of operations or cash flows as a result of adoption of these new requirements.
(1) The weighted average anti-dilutive common shares presented in the 2011 Form 10-K for the year ended December 31, 2011 only included out-of-the money anti-dilutive stock options and has been revised to include all anti-dilutive stock options and restricted share awards calculated under the treasury method. The revision to the presentation of weighted average anti-dilutive common shares had no impact on the average basic and diluted common shares outstanding or the basic and diluted earnings per share calculations for the year ended December 31, 2011.
In July 2011, the Company sold its 100% interest in Creative Investigations Recovery Group, LLC ("CIRG"). The consideration included a note receivable, included on the Consolidated Balance Sheets, with a first priority lien security interest in the assets of CIRG and other property of the buyers. The Company performed a detailed analysis of the CIRG sale transaction and determined that CIRG is considered a VIE, as defined in ASC 810, because the Company has an interest due to the note financing. The Company further determined that it is not the primary beneficiary because the Company does not have the power to direct the activities of the VIE and has no right to receive the residual returns of CIRG. Therefore, CIRG is not consolidated in the Company's results of operations. The Company's maximum exposure to loss in the VIE is limited to the outstanding balance of the note receivable, which is presented in the table below:
On December 31, 2012, the Company acquired 100% of the outstanding stock ownership of 4Warranty Corporation, a leading warranty and extended service contract administrator with extensive expertise in furniture, electronics, appliance, lawn and garden, and fitness equipment. 4Warranty complements the Company's rapidly expanding warranty business. 4Warranty's results will be included in the Company's Payment Protection segment.
On April 24, 2012, the Company acquired a 100% ownership interest in MHA & Associates LLC ("MHA"), for $0.3 million, obtaining the renewal rights of the business and hiring the prior owner to maintain and increase the block of business.
The following unaudited pro forma summary presents the Company's consolidated financial information as if ProtectCELL and 4Warranty had been acquired on January 1 of each year. Due to the insignificant impact of the MHA acquisition, its pro forma results have been excluded from the table below. These amounts have been calculated after applying the Company's accounting policies and adjusting the results of the acquired company to reflect the additional interest expense associated with the funding necessary to complete the acquisition and any amortization of intangibles that would have been charged to operations assuming the intangible assets would have existed on January 1, 2012 and 2011, excluding the transaction costs and the consequential tax effect.
The unaudited pro forma results in the above table were prepared for comparative purposes only and do not purport to be indicative of the results of operations which may have actually resulted had the acquisitions of ProtectCELL and 4Warranty occurred at January 1, 2012 and 2011, respectively, nor is it indicative of any future operating results of the Company.
The following table presents the preliminary determination of the fair value of the amounts for the identifiable assets acquired, liabilities assumed, non-controlling interests and goodwill recorded for the 2012 acquisitions of ProtectCELL and 4Warranty and the final amounts recorded for the 2011 acquisitions based on their fair values as of the respective acquisition date and the effects of the measurement period adjustments recorded in 2012, as discussed above:
(1) - Reflects a purchase price reduction of $0.3 million for the final eReinsure working capital adjustments.
(2) - The purchase consideration for the 4Warranty acquisition includes $0.3 million of contingent consideration and $0.5 million of working capital and hold back reserves, which are expected to be paid out based on the agreed terms of the Stock Purchase Agreement.
The Company has determined that none of the goodwill acquired in 2012 is expected to be tax deductible. The following table presents goodwill attributable to acquisitions that is expected to be tax deductible by year of acquisition:
In July 2011, the Company sold its wholly owned subsidiary, CIRG, for a sales price of $1.2 million, comprised of cash and a $1.1 million secured note receivable. For the year ended December 31, 2011, the Company recorded a $0.5 million loss on the sale of CIRG. This disposition resulted in a non-consolidated VIE. For more information see the Note, "Variable Interest Entity."
(1) The January 1, 2011 balance includes an increasing adjustment of $0.4 million to goodwill for the immaterial correction of an error adjustment attributable to B&G acquisition for the year ending December 31, 2009, as discussed in the Note, "Restatement of the Consolidated Financial Statements" of Notes to the Consolidated Financial Statements in the section titled "Immaterial correction of Prior Period Errors - Purchase Accounting Adjustments."
The following table shows finite-lived other intangible assets and their respective amortization periods:
Pursuant to certain reinsurance agreements and statutory licensing requirements, the Company has deposited invested assets in custody accounts or insurance department safekeeping accounts. The Company is not permitted to remove invested assets from these accounts without prior approval of the contractual party or regulatory authority. The following table details the Company's restricted investments:
The following table provides information on unrealized losses on investment securities that have been in an unrealized loss position for less than twelve months, and twelve months or greater:
The Company does not intend to sell the investments that are in an unrealized loss position at December 31, 2012 and it is more likely than not that the Company will be able to hold these securities until full recovery of their amortized cost basis for fixed maturity securities or cost for equity securities. At December 31, 2012, based on management's review, the Company deemed that 1 individual equity security was other than temporarily impaired and recorded an impairment charge of $16.0 thousand for the year ended December 31, 2012. For the year ended December 31, 2011 the Company deemed that 10 equity securities were other than temporarily impaired and recorded an impairment charge of $0.2 million.
The following table summarizes the gross realized gains and gross realized losses for both fixed maturity and equity securities and realized losses for other-than-temporary impairments for available-for-sale investment securities:
The following table shows the amount included in reinsurance receivable that is recoverable from three unrelated insurers:
The following reflects depreciation on property and equipment and amortization expense related to capitalized software costs:
The Company leases certain office space and equipment under operating leases expiring on various dates from 2013 through 2022. The Company assumed operating leases for office space from related parties in conjunction with the ProtectCELL and 4Warranty acquisitions. The terms of the related party leases are substantially the same as those offered for comparable transactions with non-related parties. The Company did not make payments on the related party lease during 2012. Please see the Note, "Related Party Transactions," for more information. The following table shows the Company's future minimum lease payments under operating leases with initial or remaining non-cancelable lease terms in excess of one year at:
The Credit Agreement contains certain customary representations, warranties and covenants applicable to us for the benefit of the Administrative Agent and the lenders. The Company may not assign, sell, transfer or dispose of any collateral or effect certain changes to our capital structure and the capital structure of our subsidiaries without the Administrative Agent's prior consent. The Company obligations under the Facilities may be accelerated or the commitments terminated upon the occurrence of an event of default under the Credit Agreement, including payment defaults, defaults in the performance of affirmative and negative covenants, the inaccuracy of representations or warranties, bankruptcy and insolvency related defaults, cross defaults to other material indebtedness, defaults arising in connection with changes in control and other customary events of default.
On August 2, 2012, the Company terminated the Facility and entered into the Credit Agreement. In connection with the termination of the Facility, the Company recorded a charge of $0.7 million to interest expense for the year ending December 31, 2012, for previously capitalized transaction costs associated with the Facility.
Total Leverage Ratio - the ratio of (i) Consolidated Total Debt as of such date to (ii) Consolidated Adjusted Earnings Before Interest, Taxes, Depreciation and Amortization ("Adjusted EBITDA")for the Measurement Period ending on or immediately prior to such date.
Reinsurance Ratio - the ratio (expressed as a percentage) of (a) the aggregate amounts recoverable by the Borrowers and its Subsidiaries from reinsurers divided by (b) the sum of (i) policy and claim liabilities plus (ii) unearned premiums, in each case of the Borrowers and their Subsidiaries determined in accordance with GAAP.
Total leverage ratio - is the ratio of, as of any date, Consolidated Total Debt as of such date to the Consolidated Adjusted EBITDA for the four consecutive Fiscal Quarters ending on or immediately prior to such date.
Senior leverage ratio - is the ratio of, as of any date, Consolidated Senior Debt as of such date to the Consolidated Adjusted EBITDA for the four consecutive Fiscal Quarters ending on or immediately prior to such date.
The following is a summary of the Facility's more significant financial covenants in effect at December 31, 2011:
In April 2011, the Company entered into a forward interest rate swap (the "Swap") with Wells Fargo Bank, N.A, pursuant to which the Company swapped the floating rate portion of its outstanding preferred trust securities to a fixed rate. The Swap commenced in June 2012 and expires in June 2017 and is designated as a cash flow hedge.
The following table summarizes the pretax impact of the interest rate swap designated as a cash flow hedge on the Consolidated Financial Statements for the following periods:
At December 31, 2012, the Company has outstanding time-based stock options under its 2005 Plan and outstanding time- and performance-based stock options and restricted stock awards under its 2010 Plan. The 2005 Plan permits awards of (i) Incentive Stock Options, (ii) Non-qualified Stock Options, (iii) Stock Appreciation Rights, (iv) Restricted Stock and (v) Restricted Stock Units. The 2010 Plan permits awards of (i) Incentive Stock Options, (ii) Non-qualified Stock Options, (iii) Stock Appreciation Rights, (iv) Restricted Stock, (v) Other Stock-Based Awards and (vi) Performance-Based Compensation Awards. The following table details the 2005 Plan and the 2010 Plan at December 31, 2012:
A summary of the Company's time- and performance-based stock option activity is presented below:
The following presents the Company's outstanding and exercisable time- and performance-based stock options by exercise price at December 31, 2012:
The weighted average assumptions used to estimate the fair values of all stock options granted is as follows:
Total time- and performance-based stock-based compensation expense and the related income tax (benefit), as recognized on the Consolidated Statements of Income, is as follows:
The Company has an Employee Stock Purchase Plan ("ESPP"),which allows the Company to issue up to 1,000,000 shares of common stock to all eligible employees, including the Company's named executive officers, under the same offering and eligibility terms. The ESPP qualifies under Section 423 of the Internal Revenue Code and allows eligible employees to contribute, at their discretion, up to 10% of their payroll, up to $25,000 per year, to purchase up to a maximum of 3,500 shares of the Company's common stock per offering period. The purchase price of Fortegra's common stock is equal to 85% of the lesser of the fair market value of the closing stock price of Fortegra's common stock on either the first day of the offering period or the last day of the offering period. Each offering period has a duration of six months and begins on January 1st and July 1st of each year.
From January 1, 2013 through March 29, 2013, the Company did not purchase any of its common stock under the share repurchase plan.
At December 31, 2012, the Company had a net operating loss carry forward of $1.4 million, which is subject to certain limitations under IRC Section 382 and will begin to expire in 2019. The Company expects full utilization of the net operating loss carryforward by the end of 2013.
The Company has reviewed its uncertain tax positions and management has concluded that there are no additional amounts required to be recorded in accordance with ASC 740-10.
The Company's financial assets and liabilities accounted for at fair value by level within the fair value hierarchy are as follows:
There were no transfers between Level 1 and Level 2 for the year ended December 31, 2012. For the year ended December 31, 2012, a single equity security was transferred from Level 3 to Level 2. This transfer occurred due to the availability of Level 2 pricing for the equity security, which was unavailable in prior periods. The Company's use of Level 3 unobservable inputs included 7 individual securities that accounted for 1.0% of total investments at December 31, 2012. The Company utilized an independent third party pricing service to value 5 of the Level 3 securities. The value of 2 equity securities in Level 3, which are non-publicly traded preferred stocks, were calculated by the Company. One of the equity securities, with a value of $1.0 million was valued by taking into account the strength of the issuer's parent company guaranteeing the dividend of the issuer. The second Level 3 equity security, with a value of $13.0 thousand was valued by estimating the total value of the Class-A shares outstanding by the issuer and a review of the company's audited financial statements. At December 31, 2011, the Company had 12 individual securities valued under Level 3 that accounted for 1.3% of total investments.
The Company's insurance subsidiaries may pay dividends to the Company, subject to statutory restrictions. Payments in excess of statutory restrictions (extraordinary dividends) to the Company are permitted only with prior approval of the insurance departments of the applicable state of domicile. All dividends from subsidiaries were eliminated in the Consolidated Financial Statements. The following table sets forth the dividends paid to the Company by its insurance company subsidiaries for the following periods:
Under the NAIC's Risk-Based Capital Act of 1995, a company's RBC is calculated by applying certain risk factors to various asset, claim and reserve items. If a company's adjusted surplus falls below calculated RBC thresholds, regulatory intervention or oversight is required. The insurance subsidiaries' RBC levels, as calculated in accordance with the NAIC's RBC instructions, exceeded all RBC thresholds as of December 31, 2012 and 2011, respectively.
The Company, from time to time, may in the ordinary normal business enter into certain contractual obligations or commitments.
The Company measures the profitability of its business segments with the allocation of Corporate revenues and expenses and without taking into account amortization, depreciation, interest expense and income taxes. The Company refers to this financial performance measure as segment EBITDA (earnings before interest, taxes, depreciation and amortization). The Company's financial measure of segment EBITDA meets the definition of a Non-GAAP financial measure and is not a recognized term under U.S. GAAP, nor is it an alternative to the U.S. GAAP financial measures presented in this Form 10-K. The Non-GAAP financial measure in this Form 10-K should be used in addition to, but not as a substitute for, the U.S. GAAP financial measures presented elsewhere in this Form 10-K.
The following table reconciles segment information to the Company's Consolidated Statements of Income and provides a summary of other key financial information for each segment:
(1) - Includes loss on sale of subsidiary of $477 for the year ended December 31, 2011.
In conjunction with the December 31, 2012 acquisition of 4Warranty, the Company assumed an office space lease between 4Warranty and Source International Incorporated ("Source"), effective January 1, 2013. The ownership of Source is comprised of two individuals who have consulting relationships with the Company. The Company did not make any lease payments to Source for the year ended December 31, 2012.
In January 2012, the Company recorded a receivable due from an officer of the Company relating to the 2010 acquisition of South Bay Acceptance Corporation, which has a balance of $0.1 million at December 21, 2012 and 2011, respectively.
In December 2011, the Company entered into a marketing and referral agreement (the "Marketing Agreement") with a company in which a member serving on the Company's Board of Directors also serves on the board of the company providing the marketing services (the "Marketer"). The Marketing Agreement has a five year term and requires the Company to pay the Marketer a per account fee per month based on the number of enrolled customers the Marketer obtains for the Company.
In February 2013, the Company granted a total of 75,000 time-based restricted stock awards, equally distributed, to five of its Directors. The restricted stock vests equally on each of the three anniversaries of the grant date.
On February 1, 2013, the Company acquired 100% of the outstanding stock of Response Indemnity Company of California ("RICC"), from subsidiaries of the Kemper Corporation ("Kemper") for $4.8 million. RICC is a property/casualty insurance company domiciled and licensed in California. RICC has, at the time of purchase, approximately $4.2 million in capital and surplus and no policies in
On March 15, 2013, the Company's subsidiary ProtectCELL, received $6.1 million representing the full payoff of the outstanding balance of the note receivable from High Pointe.
The following tables present the Company's restated quarterly information for the quarters ending March 31, 2012, June 30, 2012 and September 30, 2012 and for the quarters ending March 31, June 30, September 30, and December 31, 2011 and 2010, respectively.
Adjustments in the 2012 and 2011 periods to service and administrative fees, member benefit claims, and commissions represent the effects of restatements for the errors in Motor Clubs revenue presentation and revenue recognition as discussed in Note "Restatement" of the Notes to Consolidated Financial Statements, unless otherwise noted.