Tampa, Florida. The real estate consists of 3.5 acres of land, a three-story building with gross area of 122,000 square feet, and a four-level parking garage. This facility is used by us and our U.S. subsidiaries and serves as our headquarters. In addition, we lease an aggregate of approximately 38,200 square feet to non-affiliates.
Ocala, Florida. The real estate consists of 1.6 acres of land and an office building with gross area of approximately 16,000 square feet. The facility is designated for our insurance operations and will be used as an alternative location in the event a catastrophic event impacts our operations in Tampa, Florida.
Riverview, Florida. The real estate currently under development consists of 2.57 acres of land on which a retail center will be constructed for lease or for sale. This development project is operated and managed through a consolidated joint venture.
Sorrento, Florida. The real estate includes 5.42 acres of outparcel land intended for ground lease or resale and a retail shopping center with 61,400 square feet of net rentable area. This retail shopping center was acquired by us through the ADC Arrangement in August 2016. Approximately 74% of the rentable space is currently leased to a large, well-known grocery retailer.
We began insurance operations in 2007 by participating in a “take-out program” which is a legislatively mandated program designed to encourage private companies to assume policies from Citizens, a Florida state sponsored insurance carrier. Our growth since inception has resulted primarily from a series of policy assumptions from Citizens and policies assumed from one Florida insurance company. This growth track was beneficial to us in terms of reduced policy acquisition costs and, depending on the timing of the transaction, temporarily lower reinsurance costs.
Policy Fee Income for the years ended December 31, 2016 and 2015 was approximately $3,914,000 and $3,496,000, respectively. Beginning in March 2015, we have used actual policy cancellations in our calculation of policy fee income whereas estimated attrition rates were used in this calculation prior to March 2015. In addition, the unearned portion of nonrefundable policy fee income was fully recognized for policies that were cancelled during 2016. As a result, our 2016 policy fee income was higher than in 2015 despite the decline in gross premiums earned.
Our Losses and Loss Adjustment Expenses amounted to approximately $124,667,000 and $87,224,000, respectively, for the years ended December 31, 2016 and 2015. Our 2016 losses and loss adjustment expenses were impacted by weather-related events in both years and two hurricanes, Hermine and Matthew, in 2016. Hurricane Matthew accounted for approximately $21,000,000 of our 2016 losses. In addition, trends involving assignment of insurance benefits and related litigation has caused us to continue strengthening our loss reserves. See “Reserves for Losses and Loss Adjustment Expenses” under “Critical Accounting Policies and Estimates.”
Salaries and Wages for the years ended December 31, 2016 and 2015 were approximately $19,037,000 and $20,140,000, respectively. The $1,103,000 decrease in 2016 was primarily attributable to a decrease in discretionary incentive pay in 2016. The level of discretionary incentive pay in 2016 was influenced in large part by our financial results for the year, which were negatively impacted by Hurricane Matthew in the fourth quarter. As of December 31, 2016, we had 243 employees located at our offices in Florida compared with 220 employees as of December 31, 2015. We also had 80 employees located in Noida, India at December 31, 2016 versus 84 at December 31, 2015.
The combined ratio (total of all expenses in relation to net premiums earned) is the measure of overall underwriting profitability before other income. Our combined ratio for the year ended December 31, 2016 was 89.3% compared with 63.6% for the year ended December 31, 2015. Our combined ratio was negatively impacted by increased expenses for losses and loss adjustment expenses and a reduction in 2016 net premiums earned.
Comparison of the Year Ended December 31, 2015 with the Year Ended December 31, 2014
Gross Premiums Earned for the years ended December 31, 2015 and 2014 were approximately $423,120,000 and $365,488,000, respectively. The increase in 2015 was primarily attributable to the assumption from Citizens of approximately 6,000 homeowners multi-peril policies and approximately 30,000 wind-only policies in December 2014 and the assumption of 4,000 primarily homeowners multi-peril policies in February 2015. For the year ended December 31, 2015, gross premiums earned included approximately $93,296,000 and $8,411,000 from the December 2014 and February 2015 assumptions and the renewals of those assumed policies, respectively.
Premiums Ceded for the years ended December 31, 2015 and 2014 were approximately $140,614,000 and $113,423,000, respectively, representing 33.2% and 31.0%, respectively, of gross premiums earned. The $27,191,000 increase in net ceded premiums is attributable to higher rates implemented by the Florida Hurricane Catastrophe Fund and an overall increase in units of reinsurance purchased for the 2015/16 reinsurance program. Our reinsurance program for 2015/16 provides coverage, which according to catastrophe models approved by the FLOIR, is sufficient to cover the probable maximum loss resulting from a 1 in 260 year event. Our reinsurance program for 2014/15 provided coverage for a probable maximum loss resulting from a 1 in 182 year event. In addition, our reduction to ceded premiums attributable to retrospective provisions under certain reinsurance contracts was lower as compared with the corresponding period in 2014.
Net Premiums Written for the years ended December 31, 2015 and 2014 totaled approximately $255,724,000 and $294,230,000, respectively. The decrease in 2015 resulted from an increase of approximately $27,191,000 in premiums ceded during the year combined with a decrease of approximately $11,314,000 in gross premiums written. We had approximately 160,000 policies in force at December 31, 2015 compared to approximately 180,000 policies in force at December 31, 2014.
Salaries and Wages for the years ended December 31, 2015 and 2014 were approximately $20,140,000 and $16,483,000, respectively. The $3,657,000 increase in 2015 was primarily attributable to an increase in salaries due to an increase in employee headcount as well as merit increases during 2015. As of December 31, 2015, we had 220 employees located at our offices in Florida compared with 200 employees as of December 31, 2014. We also had 84 employees located in Noida, India at December 31, 2015 versus 79 at December 31, 2014.
The loss ratio applicable to the year ended December 31, 2015 was 30.9% compared with 31.5% for the year ended December 31, 2014. Losses on our wind-only policies, which we assumed from Citizens in December 2014, were minimal. This benefit, net of unfavorable development related to losses on our non-wind policies, contributed to this slight year over year improvement.
See Note 13 - “Long-Term Debt” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.
We currently have development projects through various limited liability companies. Although we have no outstanding commitment to fund any of the existing projects and we expect to finance existing and future development projects with cash from real estate operations and through property financings, we may be required to make additional capital contributions to maintain and complete these projects.
At December 31, 2016, we had an outstanding loan balance of $9,463,000 with respect to one revolving credit facility. See Note 12 - “Revolving Credit Facility” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.
Our cash flows from operating, investing and financing activities for the years ended December 31, 2016, 2015 and 2014 are summarized below.
Net cash provided by operating activities for the year ended December 31, 2016 was approximately $87,975,000, which consisted primarily of cash received from net premiums written less cash disbursed for operating expenses, losses and loss adjustment expenses and interest payments. Net cash used in investing activities of $49,028,000 was primarily due to the purchases of available-for-sale securities of $107,964,000, $12,056,000 of net cash used in acquiring one business, and the limited partnership investments of $4,670,000, offset by the proceeds from sales of available-for-sale securities of $63,581,000 and the $10,200,000 proceeds from the ADC Arrangement. Net cash used in financing activities totaled $26,157,000, which was primarily due to $11,347,000 used in the repurchases of our convertible senior notes, $20,026,000 used in our share repurchase plan and $11,691,000 of net cash dividend payments, offset by $18,200,000 in aggregate proceeds from the issuance of two promissory notes.
Net cash provided by operating activities for the year ended December 31, 2014 totaled $88,729,000, which consisted primarily of cash received from net written premiums less cash disbursed for operating expenses, losses and loss adjustment expenses and interest payments. Net cash used in investing activities of $18,652,000 was primarily due to the purchases of available-for-sale securities of $127,622,000, the funding of the ADC Arrangement of $2,803,000 and the $4,500,000 cash contribution to a joint venture, offset by redemptions and repayments of fixed-maturity securities of $4,603,000, and the proceeds from sales of available-for-sale securities of $115,175,000. Net cash used in financing activities totaled $48,730,000, which was primarily due to $38,354,000 used in our share repurchase plan and $11,670,000 of net cash dividend payments.
At December 31, 2016, we had $219,283,000 of available-for-sale investments, which are carried at fair value. Changes in the general interest rate environment affect the returns available on new fixed-maturity investments. While a rising interest rate environment enhances the returns available on new investments, it reduces the market value of existing fixed-maturity investments and thus the availability of gains on disposition. A decline in interest rates reduces the returns available on new fixed-maturity investments but increases the market value of existing fixed-maturity investments, creating the opportunity for realized investment gains on disposition.
With the exception of large national banks, it is our current policy not to maintain cash deposits of more than an aggregate of $10,000,000 in any one bank at any time. From time to time, we may have in excess of $10,000,000 of cash designated for investment and on deposit at a single national brokerage firm. In the future, we may alter our investment policy as to investments in federal, state and municipal obligations, preferred and common equity securities and real estate mortgages, as permitted by applicable law, including insurance regulations.
The following table summarizes our material contractual obligations and commitments as of December 31, 2016 (amounts in thousands):
(1) Represents the lease for office space in Miami, Florida and the lease and maintenance service agreement for office space in Noida, India. Liabilities related to our India operations were converted from India Rupee to U.S. dollars using the January 3, 2017 exchange rate, the first available rate subsequent to December 31, 2016, which was a non-business day.
(5) Amounts represent principal and interest payments over the life of the convertible notes due March 15, 2019, the senior notes due January 30, 2020, one promissory note due through February 1, 2031 and one promissory note due through September 1, 2036.
Reserves represent estimates of the ultimate unpaid cost of all losses incurred, including losses for claims that have not yet been reported to our insurance companies. The amount of loss reserves for reported claims consist of case reserves established by our claims department (based on a case-by-case evaluation of the kind of risk involved, knowledge of the circumstances surrounding each claim and the insurance policy provisions relating to the type of loss) and bulk reserves for additional growth on carried case reserves on known claims established by senior management (based on historical patterns of development on aggregate claims grouped by loss date). The amounts of reserves for unreported claims and LAE (incurred but not reported claims, or IBNR) are determined using our historical information for each line of business adjusted to reflect current conditions. Inflation is ordinarily implicitly provided for in the reserving function through analysis of costs, trends and reviews of historical reserving results over multiple years.
Reserves are closely monitored and are recalculated periodically using the most recent information on reported claims and a variety of actuarial techniques. Specifically, claims management personnel complete weekly and ongoing reviews of existing case reserves, new claims, changes to existing case reserves, and paid losses with respect to the current and prior years. As we continue to expand historical data regarding paid and incurred losses, we use this data to develop expected ultimate loss and loss adjustment expense ratios. We then apply these expected loss and loss adjustment expense ratios to earned premium to derive a reserve level for each line of business. In connection with the determination of these reserves, we will also consider other specific factors such as recent weather-related losses, trends in historical reported and paid losses, and litigation and judicial trends regarding liability. Most of our business was gained through policy acquisitions and assumptions. Therefore, we use the loss ratio method, among other methods, to project an ultimate loss expectation, and then the related loss history must be regularly evaluated and loss expectations updated, with the possibility of variability from the initial estimate of ultimate losses.
When a claim is reported to us, our claims personnel establish a “case reserve” for the estimated amount of the ultimate amount payable to settle the claim. This estimate reflects an informed judgment based upon general insurance reserving practices and on the experience and knowledge of the claims adjuster. The individual estimating the reserve considers the nature and
value of the specific claim, the severity of injury or damage, location, and the policy provisions relating to the type of loss. Case reserves are adjusted by us as more information becomes available. It is our policy to settle each claim as expeditiously as possible.
have a leveraging effect that can lead to significant distortions in estimated ultimate losses for these highly leveraged accident quarters. Therefore, ultimate values for immature accident quarters are often based on alternative estimation techniques than more mature accident quarters.
While the property and casualty industry has incurred substantial aggregate losses from claims related to asbestos-related illnesses, environmental remediation, product and mold, and other uncertain or environmental exposures, we have not experienced significant losses from these types of claims. We have experienced material losses associated with sinkholes in past years, but the materiality of this hazard has decreased significantly since the passing of Florida Senate Bill 408 in 2011. We continue to segregate this data in our derivation of estimated required reserves. While the losses we have experienced from exposures to catastrophes have not historically been material, we have experienced significant losses related to recent catastrophes. These losses have followed materially different development patterns than the balance of our experience. To address this situation, we separate this exposure from the remainder of the business and derive reserves specific to each catastrophe event. Total reserves are determined by adding the reserves related to each line of business.
our results of operations and financial condition. Changes in estimates, or differences between estimates and amounts ultimately paid, are reflected in the operating results of the period during which such adjustments are made.
Economic Impact of Reinsurance Contracts with Retrospective Provisions. Certain of our reinsurance contracts include retrospective provisions that adjust premiums, increase the amount of future coverage, or result in profit commissions in the event losses are minimal or zero. In accordance with U.S. GAAP, we will recognize an asset in the period in which the absence of loss experience gives rise to an increase in future coverage or obligates the reinsurer to pay cash or other consideration under the contract. In the event that a loss arises, we will derecognize such asset in the period in which a loss arises. Such adjustments to the asset, which accrue throughout the contract term, will negatively impact our operating results when a catastrophic loss event occurs during the contract term. Effective June 1, 2016, retrospective provisions include premium adjustments only.
For the years ended December 31, 2016 and 2015, we accrued benefits of $13,610,000 and $21,692,000, respectively. For the year ended December 31, 2016, we recognized net ceded premiums of $933,000, representing amortization of $1,219,000 of previously deferred reinsurance costs for increased coverage offset by $2,152,000 of ceded premiums deferred for the period. For the year ended December 31, 2015, we recognized net ceded premiums of $3,370,000, representing amortization of previously deferred reinsurance costs for increased coverage decreased by an increase of ceded premiums deferred for the period. For the years ended December 31, 2016 and 2015, net reductions in ceded premiums totaled $12,677,000 and $18,322,000, respectively.
Consolidated Statements of Cash Flows for the Years Ended December 31, 2016, 2015 and 2014
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of HCI Group, Inc. and Subsidiaries as of December 31, 2016 and 2015, and the results of its operations and its cash flows for each of the years in the three year period ended December 31, 2016, in conformity with accounting principles generally accepted in the United States of America.
In our opinion, HCI Group, Inc. and Subsidiaries maintained, in all material respects, effective internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets and the related consolidated statements of income, comprehensive income, stockholders’ equity, and cash flows of HCI Group, Inc. and Subsidiaries as of and for the year ended December 31, 2016, and our report dated February 22, 2017, expressed an unqualified opinion on those consolidated financial statements.
HCI Group, Inc., together with its subsidiaries (“HCI” or the “Company”), is primarily engaged in the property and casualty insurance business through Homeowners Choice Property & Casualty Insurance Company, Inc. (“HCPCI”), its principal operating subsidiary. HCPCI is authorized to underwrite various homeowners’ property and casualty insurance products and allied lines business in the state of Florida. HCPCI also offers flood-endorsed and wind-only policies to new and pre-existing Florida customers. HCPCI’s operations are supported by HCI Group, Inc. and the following HCI subsidiaries:
The Company obtained a majority of its policies through participation in a “take-out program” with Citizens Property Insurance Corporation (“Citizens”), a Florida state supported insurer. Policies were obtained in separate assumption transactions with Citizens that took place from July 2007 through November 2016. The Company is required to offer renewals on the policies acquired for a period of three years subsequent to the initial expiration of the assumed policies. During the first full year after assumption, such renewals are required to have rates that are equivalent to or less than the rates charged by Citizens. Substantially all of the Company’s premium revenue since inception comes from these assumptions and one additional assumption through which the Company acquired the Florida policies of another Florida insurance carrier.
As of December 31, 2016, the Company adopted Accounting Standards Update No. 2015-09, Financial Services - Insurance (Topic 944), which improves disclosure requirements for all insurance entities that issue short-duration contracts. The amendments in this update were applied retrospectively with supplementary information for each prior period presented, except for those requirements applying only to the current period which were applied prospectively. The adoption of this standard had no effect on the Company’s consolidated results of operations and comprehensive income.
In addition, The Company adopted Accounting Standards Update No. 2014-15, Presentation of Financial Statements - Going Concern (Subtopic 205-40), which provides guidance about management’s responsibility to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern and requirements for related footnote disclosures. The adoption of this standard in December 2016 had no effect on the Company’s consolidated financial statements.
Principles of Consolidation. The accompanying consolidated financial statements include the accounts of HCI Group, Inc. and its majority-owned and controlled subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation. In addition, the Company evaluates its relationships or investments for consolidation pursuant to authoritative accounting guidance related to the consolidation of variable interest entities under the Variable Interest Model prescribed by the Financial Accounting Standards Board (“FASB”). A variable interest entity is consolidated when the Company has the power to direct activities that most
When reviewing impaired fixed-maturity securities, the Company considers its ability and intent to hold these securities and whether it is probable that the Company will be required to sell these securities prior to their anticipated recovery or maturity. For the fixed-maturity securities that the Company intends to sell or it is probable that the Company will have to sell the fixed-maturity securities before recovery or maturity, the unrealized losses are recognized as other-than-temporary losses in income. In instances where there are credit related losses associated with the impaired fixed-maturity securities for which the Company asserts that it does not have the intent to sell, and it is probable that the Company will not be required to sell until a market price recovery or maturity, the amount of the other-than-temporary impairment loss related to credit losses is recognized in income, and the amount of the other-than-temporary impairment loss related to other non-credit factors such as changes in interest rates or market conditions is recorded as a component of other comprehensive income.
When determining impairment due to a credit related loss, the Company carefully considers factors such as the issuer’s financial ratios and condition, the security’s current ratings and maturity date, and overall market conditions in estimating the cash flows expected to be collected. The expected cash flows discounted at the effective interest rate of the security implicit at the date of acquisition is then compared with the security’s amortized cost at the measurement date. A credit loss is incurred when the present value of the expected cash flows is less than the security’s amortized cost. The Company considers various factors in determining whether an individual security is other-than-temporarily impaired (see Note 4 - “Investments”).
Limited Partnership Investments. The Company has interests in limited partnerships that are not registered under the United Stated Securities Act of 1933, as amended, the securities laws of
any state or the securities laws of any other jurisdictions. The partnership interest cannot be resold in the public market and any withdrawal is subject to the terms and conditions of the partnership agreement. The Company has no influence over partnership operating and financial policies. The Company did not elect the fair value option and, therefore, uses the equity method to account for these investments (see Note 4 - “Investments”). The Company will generally recognize its share of the limited partnership’s earnings or losses on a three- to six-month lag.
Ownership of the retail shopping center was distributed to members of the limited liability company in December 2016. The operating agreement also contained an embedded purchase option which allowed the Company to purchase the entire interest of the other party to the venture after the expiration of a restricted period. The Company purchased the other member’s interest in December 2016 (see Note 4 - “Investments”).
Real Estate Investments. Real estate investments include real estate and the related assets purchased for investment purposes (see Note 4 - “Investments”).
Prior to August 16, 2016, there was one Acquisition, Development and Construction loan agreement (“ADC Arrangement”). Under the ADC Arrangement, the Company provided financing to the property developer for the acquisition, development, and construction of a retail shopping center. The Company also expected to participate in the residual profit resulting from the ultimate sale or other use of the property. Classification and accounting for the ADC Arrangement as a loan, an investment in real estate, or a joint venture was determined by the Company’s evaluation of the characteristics and the risks and rewards of the ADC Arrangement. Because the Company expected to receive more than 50% of the residual profit from the ADC Arrangement which had characteristics similar to a real estate investment, the costs of the real estate project were capitalized and interest was recognized in net investment income.
Deferred policy acquisition costs. Deferred policy acquisition costs (“DAC”) represent direct costs to acquire insurance contacts including premium taxes and commissions paid to outside agents at the time of collection of the policy premium. DAC is amortized over the life of the related policy in relation to the amount of gross premiums earned.
Property and Equipment. Property and equipment is stated at cost less accumulated depreciation and amortization, which is included in other operating expenses. Depreciation is calculated on a straight-line basis over the estimated useful lives as follows: building 39 years; computer hardware and software 3 years; and office and furniture equipment 3 to 7 years. Leasehold improvements are amortized over the shorter of the lease term or the asset’s useful life. Land is not depreciated. Expenditures for improvements are capitalized to the property accounts. Replacements and maintenance and repairs that do not improve or extend the life of the respective assets are expensed as incurred.
long-lived assets by determining whether the assets can be recovered from undiscounted future cash flows. Recoverability of long-lived assets is dependent upon, among other things, the Company’s ability to maintain profitability, so as to be able to meet its obligations when they become due. In the opinion of management, based upon current information and projections, long-lived assets will be recovered over the period of benefit.
Intangible Assets. Intangibles consist of the value attributable to the acquired in-place leases and the primary, or anchor, tenant relationships. The value attributable to the anchor tenant relationship represents the economic benefits of having a nationally recognized retailer as the lead tenant, which draws traffic and other tenants to the retail center. These intangibles are amortized to expense over the related lease term. Amortization of the intangibles related to real estate investments is reflected in net investment income in the consolidated statement of income. The Company reviews these intangible assets for impairment annually or when events or changes in circumstances indicate the carrying value may not be recoverable. In the event the Company determines the carrying value is not recoverable, an impairment loss is recorded in the Company’s consolidated statement of income.
Prepaid Share Repurchase Forward Contract. A prepaid share repurchase forward contract is generally a contract that allows the Company to buy from the counterparty a specified number of
The estimates of unpaid losses and LAE are subject to trends in claim severity and frequency and are continually reviewed. As part of the process, the Company reviews historical data and considers various factors, including known and anticipated regulatory and legal developments, changes in social attitudes, inflation and economic conditions. As experience develops and other data becomes available, these estimates are revised, as required, resulting in increases or decreases to the existing unpaid losses and LAE. Adjustments are reflected in the results of operations in the period in which they are made and the liabilities may deviate substantially from prior estimates.
Advance Premiums. Premium payments received prior to the policy effective date are recorded as advance premiums. Once the policy is in force, the premiums are recorded as described under “Premium Revenue” below.
Certain of the Company’s current reinsurance contracts contain retrospective provisions including terms and conditions that adjust premiums, increase the amount of future coverage, or result in profit commissions based on the loss experience under the contracts. In such cases, a with-and-without method is used to estimate the asset or liability amount to be recognized at each reporting date. The amount of the estimate is the difference between the net contract costs before and after the loss experience under the contract. Estimates related to premium adjustments, profit
Stock-Based Compensation. The Company accounts for stock-based compensation under the fair value recognition provisions of U.S. GAAP which requires the measurement and recognition of compensation for all stock-based awards made to employees and directors including stock options and restricted stock issuances based on estimated fair values. In accordance with U.S. GAAP, the fair value of stock-based awards to employees is generally recognized as compensation expense over the requisite service period, which is defined as the period during which an employee is required to provide service in exchange for an award. The Company uses a straight-line attribution method for all grants that include only a service condition. The Company’s restricted stock awards include service, market and performance conditions. As a result, restricted stock grants with market conditions are expensed over the derived service period for each separately vesting tranche. For awards with performance conditions, the Company recognizes compensation expense over the requisite service period when it is probable that the performance condition will be achieved. Compensation expense related to all awards is included in other operating expense. In addition, the Company receives and recognizes in additional paid-in capital a windfall tax benefit for certain stock option exercises during the period of exercise and for restricted stock awards if these awards vest at a higher value than the value used to recognize compensation expense. In the event the restricted stock awards vest at a lower value than the value used to recognize compensation expense, the Company experiences a tax shortfall. This shortfall is charged to additional paid-in-capital in the consolidated statements of stockholders’ equity to the extent of the Company’s pool of windfall tax benefits with any remainder recognized in income tax expense. For 2016 and 2015, all shortfall amounts were charged to additional paid-in-capital with no additional income tax expense recognized for these shortfalls.
Accounting Standards Update No. 2016-18. In November 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update No. 2016-18 (“ASU 2016-18”), Statement of Cash Flows - Restricted Cash (Topic 230), which amends ASC 230 to add or clarify guidance on the classification and presentation of restricted cash in the statement of cash flows. Under the new standard, the Company should include in its cash and cash equivalent balances in the statement of cash flows those amounts that are deemed to be restricted cash and restricted cash equivalents. Appropriate disclosures and reconciliations pertaining to restricted cash should continue to be provided. ASU 2016-18 is effective beginning with the first quarter of 2018. Early adoption is permitted. The adoption of this guidance is not expected to have a significant impact on the Company’s consolidated financial position.
Accounting Standards Update No. 2016-17. In October 2016, the FASB issued Accounting Standards Update No. 2016-17 (“ASU 2016-17”), Consolidation - Interests Held Through Related Parties that are Under Common Control (Topic 810), which amends the consolidation requirements that apply to a single decision maker’s evaluation of interests held through related parties that are under common control when determining whether it is the primary beneficiary of a variable interest entity. Under this new guidance, a single decision maker of a variable interest entity evaluating whether it is the primary beneficiary of a variable interest entity will need to consider its proportionate indirect interests in the variable interest entity held through a common control party as indirect interests. These interests were previously to be treated as the equivalent of direct interests. ASU 2016-17 is effective beginning with the first quarter of 2017. Early adoption is permitted. Application of this guidance is not expected to have any effect on the Company’s consolidated financial statements.
Accounting Standards Update No. 2016-15. In August 2016, the FASB issued Accounting Standards Update No. 2016-15 (“ASU 2016-15”), Statement of Cash Flows - Classification of Certain Cash Receipts and Cash Payments (Topic 230), which clarifies or provides specific guidance on how certain cash receipts and cash payments are presented and classified. Some of the guidelines that may have potential impact on the Company’s consolidated statements of cash flows are cash payments for debt prepayment, distributions received from equity method investments, and proceeds from the settlement of insurance claims. ASU 2016-15 is effective beginning with the first quarter of 2018. Early adoption is permitted, including adoption in an interim period. The Company did elect to early adopt ASU 2016-15 and has applied this new guidance retrospectively to each prior period presented. The adoption did not have a significant impact on the Company’s consolidated statements of cash flows.
The Company holds investments in fixed-maturity securities and equity securities that are classified as available-for-sale. At December 31, 2016 and 2015, the cost or amortized cost, gross unrealized gains and losses, and estimated fair value of the Company’s available-for-sale securities by security type were as follows:
Expected maturities will differ from contractual maturities as borrowers may have the right to call or prepay obligations with or without penalties. The scheduled contractual maturities of fixed-maturity securities at December 31, 2016 and 2015 are as follows:
Proceeds received, and the gross realized gains and losses from sales of available-for-sale securities, for the years ended December 31, 2016, 2015 and 2014 were as follows:
In determining whether equity securities are other than temporarily impaired, the Company considers its intent and ability to hold a security for a period of time sufficient to allow for the recovery of cost, the length of time each security has been in an unrealized loss position, the extent of the decline and the near term prospect for recovery. At December 31, 2016, the Company had nine equity securities that were other-than-temporarily impaired. This compares to 17 equity securities and one equity security that were other-than-temporarily impaired at December 31, 2015 and 2014, respectively. The Company recognized impairment losses of $917, $4,570 and $107 in the consolidated statement of income for the years ended December 31, 2016, 2015 and 2014, respectively.
At December 31, 2016, there were 134 securities in an unrealized loss position. Of these securities, 20 securities had been in an unrealized loss position for 12 months or longer. The gross unrealized loss of corporate bonds in an unrealized loss position for twelve months or more included $76 of other-than-temporary impairment losses related to non-credit factors.
At December 31, 2015, there were 101 securities in an unrealized loss position. Of these securities, 10 securities had been in an unrealized loss position for 12 months or longer. The gross unrealized loss of corporate bonds in an unrealized loss position for twelve months or more included $581 of other-than-temporary impairment losses related to non-credit factors.
The Company has interests in limited partnerships that are not registered or readily tradeable on a securities exchange. These partnerships are private equity funds managed by general partners who make decisions with regard to financial policies and operations. As such, the Company is not the primary beneficiary and does not consolidate these partnerships. The following table provides information related to the Company’s investments in limited partnerships:
(e) At the fund manager’s discretion, the term of the fund may be extended for up to two additional one-year periods.
(h) With the consent of a super majority, the term of the fund may be extended for up to three additional one-year periods.
dates. In applying the equity method of accounting, the Company uses the most recently available financial information provided by the general partner of each of these partnerships. The financial statements of these limited partnerships are audited annually.
For the year ended December 31, 2016, the Company recognized net investment income of $1,207 for these investments. For the year ended December 31, 2015, the Company recognized net investment loss of $3,244. At December 31, 2016 and 2015, the Company’s cumulative contributed capital to the partnerships totaled $31,946 and $27,276, respectively, and the Company’s maximum exposure to loss aggregated $29,263 and $23,930, respectively. During the year ended December 31, 2016, the Company received total cash distributions of $544. There were no cash distributions received by the Company during the year ended December 31, 2015.
In 2014, Melbourne FMA, LLC, a wholly owned subsidiary, entered into an agreement with FMKT Sponsor, LLC to organize FMKT Mel JV, LLC (“FMJV”), a Florida limited liability company treated as a joint venture under U.S. GAAP to construct a retail shopping center for lease or for sale in Melbourne, Florida. Melbourne FMA and FMKT Sponsor initially contributed cash of $4,500 and $500, respectively, for equity interests in FMJV of 90% and 10%, respectively. The Company subsequently contributed additional cash of $525 to FMJV. FMJV is deemed a variable interest entity due to its lack of sufficient equity to finance its operations without direct or indirect additional financial support from parties to the joint venture. Although Melbourne FMA holds a majority interest in FMJV, certain major economic decisions specified in the agreement are not under Melbourne FMA’s control. As a result, Melbourne FMA is not the primary beneficiary and is not required to consolidate FMJV.
In addition, the agreement included FMKT Sponsor’s right of sale and first offer as well as an embedded option under which Melbourne FMA could purchase the entire interest of FMKT Sponsor. Under the right of sale and first offer, Melbourne FMA could either choose to purchase the interest of FMKT Sponsor in the developed property or approve the sale of the developed property to a third party buyer. Either party could initiate these provisions after the expiration of a restricted period.
In January 2016, FMJV sold a portion of its outparcel land for gross proceeds of $829, of which $515 was used to repay a portion of the construction loan obtained for this project. FMJV recognized a $404 gain on the outparcel sale of which $383 was allocated to the Company in accordance with the profit allocation specified in the operating agreement. On December 15, 2016, FMJV distributed its entire equity interest in FMKT Mel Manager, LLC (“FMKT MGA”), its wholly owned subsidiary, to Melbourne FMA and FMKT Sponsor, each of which received 90% and 10%, respectively. In addition to operating a retail shopping center business, FMKT MGA owns land which includes two outparcels. Melbourne FMA accounted for this transaction as a business step acquisition using the fair value method and, as a result, recognized a $4,005 gain on remeasurement of previously held interest. The gain represents the difference between the fair value of the 90% equity interest and its carrying value under the equity method. The fair value of the equity interest is comprised of the fair value of FMKT MGA’s underlying assets primarily determined by an independent appraiser offset by the fair value of liabilities assumed on the date of distribution. Inputs used by the appraiser included, but were not limited to, information about market and surrounding environments, demographics, and the sale or rent of similar types of property within the vicinity. Due to their short-term nature, the carrying value of current assets and assumed liabilities, including a variable interest rate revolving credit line, approximated fair value. See Pineda Landings - Melbourne, Florida in Note 6 - “Business Acquisitions” for additional information. Subsequent to this distribution, both limited liability company members agreed to amend the operating agreement and remove the provisions with regard to Melbourne FMA’s purchase option as described above. As a result, Melbourne FMA does not have the purchase option with respect to certain outparcels that continue to be owned by the limited liability company.
At December 31, 2016 and 2015, the Company’s maximum exposure to loss relating to the variable interest entity was $2,102 and $4,787, respectively, representing the carrying value of the investment. At December 31, 2016 and 2015, there were undistributed losses of $147 and $148, respectively, from this equity method investment, the amounts of which were included in the Company’s consolidated retained income. The limited liability company members received no cash distributions during 2016, 2015 and 2014. The following tables provide FMJV’s summarized unaudited financial results and the unaudited financial positions:
(a) Included in net investment income in the Company’s consolidated statements of income.
Real estate investments include office and retail space that is leased to tenants, wet and dry boat storage, one restaurant, and fuel services with respect to marina clients and recreational boaters. There was one ADC Arrangement which terminated August 16, 2016. Real estate investments consist of the following as of December 31, 2016 and 2015:
During 2016, the Company acquired properties through two business acquisitions. See Note 6 - “Business Acquisitions” for additional information. Depreciation and amortization expense related to real estate investments was $531, $370 and $402, respectively, for the years ended December 31, 2016, 2015 and 2014.
In June 2014, the Company’s wholly owned subsidiary, Greenleaf Capital, LLC, entered into the ADC Arrangement under which it agreed to provide financing up to a maximum of $9,785 for the acquisition, development and construction of a retail shopping center and appurtenant facilities. The loan amount was later increased from $9,785 to $10,200. Greenleaf Capital had an option to purchase the property upon the completion of the project with tenant rental commitments for at least 90% of the rentable space being secured. The purchase price would be calculated at maturity of the loan using a predetermined capitalization rate and the projected net operating income of the developed property. The loan had an initial term of 24 months and was extended until August 2016. The loan bore a fixed annual interest rate of 6% due monthly in arrears.
Under this ADC Arrangement, Greenleaf Capital provided substantially all funds necessary to complete the development and Greenleaf Capital would receive the entire residual profit of the developed property if it exercised the purchase option. Based on the characteristics of this ADC Arrangement, which were similar to those of an investment, combined with the expected residual profit being greater than 50%, the arrangement was accounted for and reported in the balance sheet at December 31, 2015 as a real estate investment.
On August 16, 2016, the Company exercised the purchase option and acquired the retail shopping center and its appurtenant facilities. The transaction was accounted for as a business acquisition. See Sorrento Hills Village - Sorrento, Florida in Note 6 - “Business Acquisitions” for additional information. In addition, the Company received $10,200 plus accrued investment income of $74 in full settlement of the note receivable associated with the ADC Arrangement.
Comprehensive income (loss) includes net income and other comprehensive income or loss, which for the Company includes changes in unrealized gains or losses of investments carried at fair value and changes in the unrealized other-than-temporary impairment losses related to these investments. Reclassification adjustments for realized (gains) losses are reflected in net realized investment gains (losses) on the consolidated statements of income. The components of other comprehensive income or loss and the related tax effects allocated to each component were as follows:
On August 16, 2016, the Company’s wholly owned subsidiary, Greenleaf Capital, LLC, assigned the right to purchase the developed property in the ADC Arrangement to its subsidiary, Sorrento PBX, LLC. Sorrento PBX simultaneously exercised the purchase option and acquired the property from Sorrento Retail Investments, LLC. The acquired assets included a retail shopping center and appurtenant facilities in Sorrento, Florida as well as existing tenant lease agreements to
With regard to the 90% equity interest in FMKT MGA distributed by FMJV as described in Investment in Unconsolidated Joint Venture in Note 4 - “Investments,” the transaction was accounted for as a business step acquisition resulting in the assets acquired and liabilities assumed being recorded at fair value. Immediately following FMJV’s distribution of the 90% equity interest, the Company elected to purchase the remaining 10% noncontrolling interest from FMKT Sponsor, LLC and pay $2,064 in cash, plus an additional $200 upon the execution of one lease agreement that was not finalized as of the acquisition date. That lease agreement was executed in January 2017. The Company funded the consideration paid with $871 of its own cash and $1,193 of additional borrowing from FMKT MGA’s revolving credit facility.
The table below presents the fair values of the net assets acquired at the acquisition date:
Subsequent to the acquisition date, the Company incurred an impairment loss of $388 resulting from the write-down of lease intangibles and other assets associated with the unexpected closure of one tenant’s business at this property.
As described in Note 4 - “Investments” under ADC Arrangement, the ADC Arrangement represented a financing agreement with a purchase option between Greenleaf Capital and a property developer. Based on the characteristics of this ADC Arrangement which are similar to those of an investment, combined with the expected residual profit being greater than 50%, the arrangement was included in real estate investments at its carrying value in the consolidated balance sheet as of December 31, 2015. Projected future cash inflows at maturity are discounted using a prevailing borrowing rate to estimate its fair value that relies on Level 3 inputs. This ADC Arrangement was terminated at the time the Company exercised the purchase option to acquire the related property in August 2016. This property was included in real estate investments at December 31, 2016.
The interest rate on the Company’s revolving credit facility is periodically adjusted based on the LIBOR rate plus a spread. As a result, its carrying value approximates fair value. See Note 12 - “Revolving Credit Facility.”
Long-term debt includes the Company’s 8% senior notes due 2020, 3.875% convertible senior notes due 2019, one promissory note due 2031 and one promissory note due in 2036. The 8% senior notes trade on the New York Stock Exchange. The estimated fair value of the 8% senior notes is based on the closing market price at each balance sheet date. The 3.875% convertible senior notes were sold in a private offering. The fair values of the 3.875% convertible senior notes and the promissory notes are estimated using a discounted cash flow method that relies on Level 3 inputs.
The following tables present information about the Company’s financial assets measured at estimated fair value on a recurring basis. The table indicates the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value as of December 31, 2016 and 2015:
Depreciation and amortization expense under property and equipment was $1,272, $1,338 and $1,304, respectively, for the years ended December 31, 2016, 2015 and 2014.
Amortization expense for intangible assets after December 31, 2016 is as follows:
In connection with FMJV’s distribution of the 90% ownership interest in FMKT MGA as described in Investment in Unconsolidated Joint Venture in Note 4 - “Investments,” the Company assumed a liability to repay $8,214 under a secured credit agreement. The agreement provides that the Company may borrow up to $9,550, which is guaranteed by Greenleaf Capital and collateralized primarily by the retail shopping center in Melbourne, Florida. The credit agreement currently bears interest at a rate equal to LIBOR plus 2.7% per annum. The agreement has an initial maturity date on February 27, 2017. The Company has an option to convert the outstanding balance at the initial maturity date into a three-year mortgage loan payable in 36 monthly installments at a fixed interest rate equal to the adjusted nominal yield on non-inflation-indexed U.S. government securities plus 2.5% per annum. On December 15, 2016, the Company drew an additional $1,193 from this credit line, which was used towards the purchase of the 10% noncontrolling interest as described in Pineda Landings - Melbourne, Florida in Note 6 - “Business Acquisitions.” At December 31, 2016, the loan balance totaled $9,463, which was included in other liabilities in the Company’s 2016 consolidated balance sheet. For the year ended December 31, 2016, interest expense for this revolving credit facility totaled $235, of which $11 related to the period from December 15 to 31, 2016.
The Company’s Convertible Senior Notes (the “Convertible Notes”) were initially issued in a private offering for an aggregate principal amount of $103,000. The Convertible Notes rank equally in right of payment to the Company’s existing and future unsecured and unsubordinated obligations. The Convertible Notes bear interest at a rate of 3.875% per year, payable semiannually in arrears on March 15 and September 15 of each year. The Convertible Notes will mature on March 15, 2019 unless repurchased or converted prior to such date. The Company may not redeem the Convertible Notes prior to maturity unless requested by the note holders under certain events specified in the indenture.
The Convertible Notes do not contain any financial or operating covenants or restrictions on the payments of dividends, the incurrence of indebtedness or the issuance or repurchase of securities by the Company or any of its subsidiaries. The Convertible Notes provide no protection to the note holders in the event of a fundamental change or other corporate transaction involving the Company except those described in the indenture to the Convertible Notes. The Convertible Notes do not require a sinking fund to be established for the purpose of redemption.
The Company cedes a portion of its homeowners’ insurance exposure to other entities under catastrophe excess of loss reinsurance treaties and one quota share arrangement which was terminated effective May 31, 2016. The Company remains liable for claims payments in the event that any reinsurer is unable to meet its obligations under the reinsurance agreements. Failure of reinsurers to honor their obligations could result in losses to the Company. The Company evaluates the financial condition of its reinsurers and monitors concentrations of credit risk arising from similar geographic regions, activities or economic characteristics of the reinsurers to minimize its exposure to significant losses from reinsurer insolvencies. The Company contracts with a number of reinsurers to secure its annual reinsurance coverage, which generally becomes effective June 1st each year. The Company purchases reinsurance each year taking into consideration probable maximum losses and reinsurance market conditions.
In addition, these adjustments are reflected in other assets and prepaid reinsurance premiums. At December 31, 2016 and 2015, other assets included $5,810 and $36,176, respectively, of which $1,043 and $6,499 related to the contract with Oxbridge and prepaid reinsurance premiums included $2,152 and $2,625, respectively, of which $338 and $513 related to the contract with Oxbridge. Management believes the credit risk associated with the collectability of these accrued benefits is minimal as the amount receivable is concentrated with one reinsurer and the Company monitors the creditworthiness of this reinsurer based on available information about the reinsurer’s financial position.
The following is supplementary and unaudited information about average historical claims duration as of December 31, 2016:
Due to their economic characteristics, the Company’s property and casualty insurance division and reinsurance division are grouped together into one reportable segment under insurance operations. For the years ended December 31, 2016, 2015 and 2014, revenues from the Company’s insurance operations before intracompany elimination represented 95.5%, 97.5% and 97.2%, respectively, of total revenues of all operating segments. At December 31, 2016, 2015 and 2014, insurance operations’ total assets represented 87.9%, 91.8% and 94.1%, respectively, of the combined assets of all operating segments. There was no other operating division representing ten percent or more of the Company’s total revenues or combined assets. In addition, there was no other operating division representing ten percent or more, in absolute amount, of the combined profits of all operating divisions reporting a profit and combined losses of all operating divisions reporting a
(a) Other revenue under corporate and other primarily consisted of rental income from investment properties and revenue from restaurant and marina businesses.
The reasons for the differences between the statutory Federal income tax rate and the effective tax rate are summarized as follows:
Significant components of the Company’s net deferred income tax assets are as follows:
In December 2015, the Company’s Board of Directors authorized a one-year plan to repurchase up to $20,000 of the Company’s common shares before commissions and fees. During the year ended December 31, 2016, the Company repurchased and retired a total of 643,703 shares at a weighted average price per share of $31.07. The total cost of shares repurchased, inclusive of fees and commissions, during the year ended December 31, 2016 was $20,026, or $31.11 per share.
The Right will not be exercisable until ten days following a public announcement that a person or group has acquired beneficial ownership of 10% or more of the Company’s common stock or until ten business days after a person or group begins a tender or exchange offer that would result in beneficial ownership of 10% or more of the Company’s common stock. The Right may be redeemed or exchanged by the Company for $0.001 per Right at any time until the Right’s expiration date on October 18, 2018.
In conjunction with the issuance of the Convertible Notes, the Company entered into a prepaid share repurchase forward contract (the “forward contract”) with Deutsche Bank AG, London Branch (the “forward counterparty”). Pursuant to the forward contract, the Company prepaid $29,923 of the net proceeds of the offering to repurchase 622,751 shares of the Company’s common stock, which shares will be delivered over a settlement period in 2019. The forward contract is subject to early settlement, in whole or in part, at any time prior to the final settlement date at the option of the forward counterparty, as well as early settlement or settlement with alternative consideration in the event of certain corporate transactions. In the event the Company pays any cash dividends on its common shares, the forward counterparty will pay an equivalent amount to the Company. The shares to be purchased under the prepaid forward contract will be treated as retired as of the effective date of the forward contract, but will remain outstanding for corporate law purposes, including for purposes of any future stockholders votes.
During the year ended December 31, 2015, a total of 120,000 options were exercised, of which 30,000 options were net settled by surrender of 2,013 shares. All outstanding stock options vested and their related compensation expense had been fully recognized prior to 2015. Compensation expense recognized for the year ended December 31, 2014 totaled approximately $6 and is included in other operating expenses. Deferred tax benefits related to stock options for the year ended December 31, 2014 were immaterial.
As of December 31, 2016, the Company had contractual obligations related to multi-year reinsurance contracts. These contracts have effective dates of June 1, 2016 and may be cancelled only with the other party’s consent. The future minimum aggregate premiums payable to the reinsurers is $19,400 due in 2017 and 2018.
Rental expense under all facility leases was $333, $304 and $222, respectively, during the years ended December 31, 2016, 2015 and 2014.
In connection with the lease for office space in India as described in the “Lease Commitments” above, the Company signed a long-term contract with the landlord to receive maintenance and facility services. The agreement has the same initial term of nine years with monthly payments of approximately $2 plus applicable service tax for the first year. Thereafter, the monthly payment will increase by five percent every year.
Provided the agreement is not early terminated, minimum future payments under the service agreement after December 31, 2016 are as follows:
As described in Note 4 - “Investments” under Limited Partnership Investments, the Company is contractually committed to capital contributions for limited partnership interests. At December 31, 2016, there was an aggregate unfunded balance of $13,554.
The tables below summarize unaudited quarterly results of operations for 2016, 2015 and 2014.
The Company has no restrictions on the payment of dividends to its shareholders except those restrictions imposed by the Florida Business Corporation Act and those restrictions imposed by insurance statutes and regulations applicable to the Company’s insurance subsidiaries. As of December 2016, without prior regulatory approval, $110,398 of the Company’s consolidated retained earnings was free from restriction under the insurance statutes and regulations and available for the payment of dividends in 2017. The following briefly describes certain related and other requirements and restrictions imposed by the states or jurisdiction in which the Company’s insurance subsidiaries are incorporated.
HCA, an Alabama domiciled insurance subsidiary, was organized in 2013. HCA was required to maintain minimum paid-in capital of $500. In addition, HCA must maintain a minimum deposit in trust of $100 with the Treasurer of Alabama. At December 31, 2015 and 2014, HCA’s statutory capital and surplus was $1,917 and $1,926, respectively. In June 2016, HCA voluntarily surrendered its certificate of authority to the Alabama Department of Insurance and, as a result, formally terminated its plan to conduct business in the state of Alabama. The withdrawal was effective on June 30, 2016 and HCA was dissolved in December 2016.
Claddaugh Casualty Insurance Company, Ltd. (“Claddaugh”), the Company’s Bermuda domiciled reinsurance subsidiary, has a reinsurance agreement with Oxbridge Reinsurance Limited (“Oxbridge”) whereby a portion of the business assumed from the Company’s insurance subsidiary, HCPCI, is ceded by Claddaugh to Oxbridge. With respect to the period from June 1, 2014 through May 31, 2015, Oxbridge assumed $8,800 of the total covered exposure for approximately $3,720 in premiums. With respect to the period from June 1, 2015 through May 31, 2016, Oxbridge assumed $11,600 of the total covered exposure for $3,340 in premiums. With respect to the period from June 1, 2016 through May 31, 2017, Oxbridge assumed $6,000 of the total covered exposure for approximately $3,400 in premiums. In addition, HCPCI had a reinsurance treaty with Oxbridge for the period from June 1, 2014 through May 31, 2015 under which Oxbridge assumed $9,000 of the total covered exposure for approximately $1,215 in premiums. See Note 14 - “Reinsurance” - which includes the amounts due from and paid by Oxbridge during the years ended December 31, 2016 and 2015 with respect to benefits accrued in connection with the Oxbridge agreements. The premiums charged by Oxbridge are at rates which management believes to be competitive with market rates available to Claddaugh. Oxbridge has deposited funds into trust accounts to satisfy certain collateral requirements under its reinsurance contract with Claddaugh. Trust assets may be withdrawn by Claddaugh, the trust beneficiary, in the event amounts are due under the Oxbridge reinsurance agreement. Among the Oxbridge shareholders are Paresh Patel, the Company’s chief executive officer, who is also chairman of the board of directors for Oxbridge, and members of his immediate family and three of the Company’s non-employee directors including Sanjay Madhu who serves as Oxbridge’s president and chief executive officer.
On January 16, 2017, the Company’s Board of Directors declared a quarterly dividend of $0.35 per common share. The dividends are scheduled for payment on March 17, 2017 to stockholders of record on February 17, 2017.