During the first quarter of 2008, the Company identified an error associated with the Company’s policy fee income. The error arose from the recognition of non-refundable policy fee income at policy inception rather than over the policy term in accordance with the SEC’s Staff Accounting Bulletin (SAB) No. 104, “Revenue Recognition,” and EITF 00-21, “Revenue Arrangements with Multiple Deliverables.”
Accordingly, in accordance with SAB No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements,” the prior year’s balance sheet, the consolidated statements of operations, comprehensive income, and cash flows have been revised to correct the immaterial error and to reflect the corrected balances as of that date (see Note 1 of “Notes to Consolidated Financial Statements”).
The property and casualty insurance industry is highly competitive and includes many insurers, ranging from large companies offering a wide variety of products worldwide to smaller, specialized companies in a single state or region offering only a single product. Many of the Company's existing or potential competitors have considerably greater financial and other resources, have a higher rating assigned by independent rating organizations such as A.M. Best Company, have greater experience in the insurance industry and offer a broader line of insurance products than the Company. As of December 31, 2008, Crusader was licensed as an admitted insurance carrier in the states of Arizona, California, Nevada, Oregon, and Washington. However, all Crusaders’ business was written in the State of California. During the year ended December 31, 2008, 98% of Crusader’s business was commercial multiple peril policies. Effective January 27, 2009, A.M. Best Company upgraded Crusader’s financial strength rating to A- (Excellent) from B++ (Good), and revised Crusader’s rating outlook to stable from positive. In addition, Crusader’s Issuer Credit Rating was upgraded to a- (Excellent) from bbb+ (Good).
A primary challenge of the property and casualty insurance company operation is contending with the fact that the Company sells its products before the ultimate costs are actually known. That is, when pricing its products, the Company must forecast the ultimate claim and loss adjustment costs. In addition, factors such as changes in regulations and legal environment, among other things, can all impact the accuracy of such cost.
Losses and loss adjustment expenses were 61% of net premium earned for the year ended December 31, 2008, compared to 60% of net premium earned for the year ended December 31, 2007, and compared to 42% of net premium earned for the year ended December 31, 2006.
AIB sells and services health insurance policies for individual/family and small business groups and receives commissions based on the premiums that it writes. Commission income increased 19% for the year ended December 31, 2008, compared to 2007. The increase is primarily due to the increase in sales of small group medical insurance offered through CIGNA HealthCare. All CIGNA small group medical insurance policyholders are members of AAQHC. In November 2008, AIB entered into a General Agent Contract with Blue Shield of California who will pay AIB override commissions for all business submitted to them. In June 2009, CIGNA plans to substantially reduce the medical plans offered to Small Group Employers in the state of California, from sixteen current plans to four. All new employer groups and existing employer groups, on their anniversary date, will have the option to choose from the four available plans. AIB will be assisting its CIGNA policyholders in obtaining new coverage in one of the four CIGNA plans or with other contracted carriers. This reduction in CIGNA medical plans offered to Small Group Employers in the state of California may result in a decrease in AIB commission income and AAQHC fee income. AAQHC will continue to underwrite and administer all remaining CIGNA business, including dental plans for Individuals and Small Group Employers.
AAC provides premium financing for Crusader policies that are produced by Unifax in California. Finance charges and fees earned by AAC during 2008 decreased 17% as compared to 2007. The decrease is primarily a result of a 11% decrease in the number of loans issued in 2008 compared to 2007. Average premium financed by AAC decreased to $2,653 in 2008 from $2,769 in 2007.
The daily automobile rental insurance program is produced by Bedford Insurance Services, Inc. Bedford receives a commission from a non-affiliated insurance company based on premium written. Commission in the daily automobile rental insurance program increased 3% as compared to 2007.
Cash flow used by operations in the year ended December 31, 2008, was $1,675,603, a decrease in cash flow of $1,561,963 compared to the cash flow for the year ending December 31, 2007. In 2008 the Company primarily utilized the cash from the maturity of its fixed maturity investments to purchase $63.6 million of fixed maturity securities.
Crusader generates a significant amount of cash as a result of its holdings of unearned premium reserves, its reserves for loss payments, and its capital and surplus. Crusader's loss and loss adjustment expense payments are the most significant cash flow requirement of the Company. These payments are continually monitored and projected to ensure that the Company has the liquidity to cover these payments without the need to liquidate its investments. Cash and investments (at amortized cost) at December 31, 2008, were $145,070,097 compared to $147,457,231 at December 31, 2007. Crusader's cash and investments at December 31, 2008, was 98% of the total held by the Company, compared to 97% of the total held by the Company at December 31, 2007.
No dividends were declared or paid by Crusader to Unico in 2008, 2007, or 2006. Based on Crusader’s statutory net income for the year ended December 31, 2008, the maximum dividend that could be made by Crusader to Unico without prior regulatory approval in 2009 is $7,067,715.
In April 2000, the Company announced that its Board of Directors had authorized the purchase in the open market from time to time of up to an aggregate of 315,000 shares of the common stock of the Company. On August 8, 2000, the Board of Directors authorized the purchase of an additional 315,000 shares and on September 6, 2000, the Board of Directors authorized the purchase of another 315,000 shares of the common stock of the Company in the open market from time to time. On December 19, 2008, the Board of Directors authorized an additional stock repurchase program to acquire up to 500,000 shares of the Company’s common stock in the open market from time to time. This brought the total shares of the Company’s common stock authorized to be repurchased to 1,445,000 shares since the year 2000 (see Note 16 of “Notes to Consolidated Financial Statements”). The programs have no expiration date and may be terminated by the Board of Directors at any time. During the twelve months ended December 31, 2008, the Company repurchased 51,092 shares of the Company’s common stock at a cost of $416,583 of which $25,108 was allocated to capital and $391,475 was allocated to retained earnings. As of December 31, 2008, under the stock repurchase programs previously adopted by the Company, the Company had remaining authority to repurchase up to an aggregate of 515,467 shares of common stock. During the months of January and February 2009, the Company purchased and retired an additional 6,688 shares of its common stock at a total cost of $51,866. The Company has or will retire all stock purchased.
Although material capital expenditures may also be funded through borrowings, the Company believes that its cash and short-term investments at year end, net of trust restrictions of $236,104, statutory deposits of $700,000, and California insurance company statutory dividend restrictions applicable to Crusader plus the cash to be generated from operations, should be sufficient to meet its operating requirements during the next twelve months without the necessity of borrowing funds.
For the year ended December 31, 2007, the Company had income before taxes of $10,073,153 compared to income before taxes of $18,352,811 in the year ended December 31, 2006, a decrease in income before taxes of $8,279,658 (45%). The decrease in income before tax was primarily due to a decrease of $9,373,440 in the underwriting profit (net earned premium less losses and loss adjustment expenses and policy acquisition costs).
Crusader’s primary line of business is commercial multiple peril policies. This line of business represented approximately 98% of Crusader’s total written premium for the year ended December 31, 2008, 96% for the year ended December 31, 2007, and 97% for the year ended December 31, 2006.
For the year ended December 31, 2008, gross written premium decreased by $5,030,129 (11%) over 2007. For the year ended December 31, 2007, gross written premium decreased by $6,943,568 (13%) over 2006. The decrease in written premium in both 2008 and 2007 reflected heightened competition and management’s continued emphasis on rate adequacy and underwriting discipline. The Company cannot determine how long the existing market condition will continue, nor in which direction it might change.
Earned ceded premium for the 12 months ended December 31, 2008, decreased $2,761,239 (24%) to $8,771,069 compared to $11,532,308 for the 12 months ended December 31, 2007. Earned ceded premium for the 12 months ended December 31, 2007, decreased $2,226,116 (16%) to $11,532,308 compared to $13,758,424 for the 12 months ended December 31, 2006. Earned ceded premiums as a percentage of direct earned premiums were 21% in 2008, and 24% for 2007 and 2006, respectively.
The 2008 and 2007 excess of loss treaties do not provide for a contingent commission. Crusader’s 2006 1st layer primary excess of loss treaty provides for a contingent commission equal to 20% of the net profit, if any, accruing to the reinsurer. The first accounting period for the contingent commission covers the period from January 1, 2006, through December 31, 2006. The 2005 excess of loss treaties do not provide for a contingent commission. Crusader’s 2004 and 2003 1st layer primary excess of loss treaties provide for a contingent commission to the Company equal to 45% of the net profit, if any, accruing to the reinsurer. The first accounting period for the contingent commission covers the period from January 1, 2003, through December 31, 2004. For each accounting period as described above, the Company will calculate and report to the reinsurers its net profit (excluding incurred but not reported losses), if any, within 90 days after 36 months following the end of the first accounting period, and within 90 days after the end of each 12 month period thereafter until all losses subject to the agreement have been finally settled. Any contingent commission payment received is subject to return based on future development of ceded losses and loss adjustment expenses. In March 2007, the Company received an advance of $1 million from its reinsurer and in February 2008, the Company received an additional $2,419,940 to be applied against future contingent commission earned, if any. Based on the Company’s ceded losses and loss adjustment expenses (including ceded incurred but not reported losses) as of December 31, 2008, the Company recorded $2,500,211 of these payments as an advance from its reinsurer and it is included in “Accrued Expenses and Other Liabilities” in the consolidated balance sheets. Thus, the Company recognized $919,729 of contingent commission, of which $666,174 was recognized in the year ended December 31, 2008, and $253,555 was recognized in the year ended December 31, 2007.
As indicated in the above table, the loss ratio for the year ended December 31, 2008, increased to 60.7% from 59.7% in 2007 and 41.5% in 2006. The slight increase in the 2008 loss ratio was primarily due to a slight decrease in the amount of favorable development of prior years’ losses recognized in 2008 as compared to 2007. During 2008, the Company recognized $3,556,801 of favorable development of prior years’ losses as compared to $4,118,101 of favorable developments of prior years’ losses recognized during 2007. Generally, if the combined ratio is below 100%, an insurance company has an underwriting profit; if it is above 100%, a company has an underwriting loss.
The favorable development in the above table is not necessarily indicative of the results that may be expected in future periods.
*In accordance with Financial Accounting Standards Board Statement No. 113, “Accounting and Reporting for Reinsurance of Short-Duration and Long-Duration Contracts,” reinsurance recoverable on unpaid losses and loss adjustment expenses are reported for GAAP as assets rather than netted against the corresponding liability for such items on the consolidated balance sheet.
Membership and fee income for the year ended December 31, 2008, decreased $9,498 (3%), compared to the year ended December 31, 2007. Membership and fee income for the year ended December 31, 2007, increased $9,185 (3%), compared to the year ended December 31, 2006.
Policy fee income for the year ended December 31, 2007, decreased $355,804 (13%) as compared to the year ended December 31, 2006. The 13% decrease in policy fee income is primarily a result of a 1,650 (11%) decrease in the number of policies issued during 2007 as compared to 2006.
The daily automobile rental insurance program commission and fee income for the year ended December 31, 2008, increased $13,284 (3%) compared to the year ended December 31, 2007. For the year ended December 31, 2007, commission and fee income increased $15,307 (4%) compared to the year ended December 31, 2006. The daily automobile rental insurance program commission and fee income excluding claim administration fee and contingent commission increased $1,230 (0%) to $345,350 in 2008, from $344,120 in 2007. The daily automobile rental insurance program commission and fee income excluding claim administration fee and contingent commission increased $26,441 (8%) to $344,120 in 2007 from $317,679 in 2006. Premium written in 2008 and 2007 remained comparable to premium written in 2007. Premium written in 2007 increased 8% compared to premium written in 2006. The daily automobile rental insurance program is still impacted by the intense price competition in the marketplace during the periods covered by this report. The Company cannot determine how long the existing market conditions will continue, nor in which direction they might change. To avoid underwriting losses for the non-affiliated insurance company that it represents, Bedford continues to produce business only at rates that it believes to be adequate.
AAC provides premium financing for Crusader policies produced by Unifax in California. The growth of this program is dependent and directly related to the growth of Crusader's written premium and AAC’s ability to market its competitive rates and service. Premium finance charges and fees earned decreased $93,575 (17%) in the year ended December 31, 2008, compared to 2007 primarily due to the fact that there were 312 (11%) fewer loans financed in the current year. Premium finance charges and fees earned decreased $124,743 (18%) in the year ended December 31, 2007, compared to 2006 primarily due to the fact that there were 761 (21%) fewer loans financed in the current year. During 2008, 28% of all Unifax policies were financed and 81% of those policies were financed by AAC. During 2007, 28% of all Unifax policies were financed and 72% of those policies were financed by AAC. During 2006, 32% of all Unifax policies were financed and 75% of those policies were financed by AAC.
In the year ended December 31, 2007, while the Company’s average invested assets (at amortized value) increased $3,372,388 (2%) compared to the year ended December 31, 2006, investment income earned, excluding realized gains, increased $842,706 (14%) compared to the year ended December 31, 2006. The yield on average invested assets increased to 4.65% in 2007 from 4.17% in 2006. The increase in the yield on average invested assets is primarily the result of an increase in the average return on new and reinvested assets in the Company’s investment portfolio. The weighted average maturity of the Company’s fixed maturity investments as of December 31, 2007, was 2.0 years compared to 1.3 years as of December 31, 2006. The Company’s invested assets (at amortized value) as of December 31, 2007, were $147,348,367 as compared to $147,312,335 as of December 31, 2006. However, the average invested assets increased in the year ending December 31, 2007, as compared to 2006, primarily as a result of the significant increase in invested assets during the year ended December 31, 2006.
The Company monitors its investments closely. If an unrealized loss is determined to be other than temporary, it is written off as a realized loss through the Consolidated Statements of Operations. The Company’s methodology of assessing other-than-temporary impairments is based on security-specific analysis as of the balance sheet date and considers various factors including the length of time to maturity and the extent to which the fair value has been less than the cost, the financial condition and the near-term prospects of the issuer, and whether the debtor is current on its contractually obligated interest and principal payments. The Company has the ability and intent to hold its fixed maturity investments for a period of time sufficient to allow the Company to recover its costs. The Company has concluded that the gross unrealized losses of $65,725 at December 31, 2008, were temporary in nature. However, facts and circumstances may change which could result in a decline in fair value considered to be other than temporary. The Company sold one fixed maturity investment in the year ended December 31, 2008, with net realized gain in the amount of $6,306. The Company did not sell any fixed maturity investments in the year ended December 31, 2007.
Commissions to agents/brokers (not including commissions on Crusader policies that are reflected in policy acquisition costs) are generally related to gross commission income from the health insurance program, the daily automobile rental insurance program, and the earthquake program. Commissions to agents and brokers increased $277,050 (28%) for the year ended December 31, 2008, as compared to the year ended December 31, 2007. The increase is primarily the result of the increase in written premium in the health insurance program and is related to the increase in commission income from that program.
Other operating expenses generally do not change significantly with changes in production. This is true for both increases and decreases in production. Other operating expenses increased $79,951 (3%) for the year ended December 31, 2008, compared to the year ended December 31, 2007. Other operating expenses decreased $72,554 (2%) for the year ended December 31, 2007, compared to the year ended December 31, 2006.
Income tax expense for the year ended December 31, 2008, was $2,701,450 compared to an income tax expense of $3,360,709 for the year ended December 31, 2007. The effective combined income tax rates for 2008 and 2007 were 34% and 33%, respectively. The pre-tax income decreased $2,088,687 (21%) for the year ended December 31, 2008, compared to the year ended December 31, 2007, which resulted in a decreased income tax expense in 2008.
The income tax expense for the year ended December 31, 2007, was $3,360,709 compared to an income tax expense of $6,427,345 for the year ended December 31, 2006. The effective combined income tax rates for 2007 and 2006 were 33% and 35%, respectively. The pre-tax income decreased $8,279,658 for the year ended December 31, 2007, compared to the year ended December 31, 2006, which resulted in a decreased income tax expense in 2007.
Effective January 1, 2008, the Company adopted Statement of Financial Accounting Standards No. 157 “Fair Value Measurements,” (SFAS No. 157) for financial assets and liabilities. In December 2007, the FASB provided a one-year deferral of SFAS No. 157 for non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value on a recurring basis, at least annually. SFAS No. 157 redefines fair values as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date, establishes a framework for measuring fair value in GAAP, and expands disclosures about fair value measurements. Specifically, SFAS No. 157 establishes a three-level hierarchy for fair value measurements based upon the nature of the inputs to the valuation of an asset or liability. SFAS No. 157 applies where other accounting pronouncements require or permit fair value measurements. In October 2008, the FASB issued FASB Staff Position No. 157-3 “Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active” (FSP FAS 157-3), which clarifies the application of SFAS No. 157 in a market that is not active and provides an example to illustrate key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. Such considerations include inputs to broker quotes, assumptions regarding future cash flows and use of risk-adjusted discount rates. The adoption of FSP FAS No. 157-3 did not have a material impact on the Company’s consolidated financial statements.
In December 2007, FASB Statements No. 141 (revised 2007), “Business Combinations” (SFAS No. 141R) was issued. SFAS No. 141R replaces FASB Statement No. 141, “Business Combinations.” SFAS No. 141R requires the acquiring entity in a business combination to recognize all (and only) the assets acquired and liabilities assumed in the transaction; establishes the acquisition-date fair value as the measurement objective for all assets acquired and liabilities assumed; and requires the acquirer to disclose additional information regarding the nature and financial effect of the business combination. The Company will adopt SFAS No. 141R for any business combinations initiated after December 31, 2008.
The preparation of the Company’s financial statements requires judgments and estimates. The most significant is the estimate of loss reserves as required by SFAS No. 60, “Accounting and Reporting by Insurance Enterprises” and Statement of Financial Accounting Standards No. 5 (SFAS No. 5), “Accounting for Contingencies.”
The Company underwrites four statutory annual statement lines of business: (1) commercial multiple peril, (2) liability other than automobile and products, (3) fire, and (4) allied lines. Commercial multiple peril policies comprised 98% and 96% of the Company’s 2008 and 2007 premium volume, respectively. Commercial multiple peril policies include both property and liability coverages. For all of the Company’s coverages and lines of business, the Company’s actuarial loss and loss adjustment expense reserving methods require assumptions that can be grouped into two key categories: (1) expected loss and loss adjustment expense, required by the expected loss ratio and Bornhuetter-Ferguson methods, and (2) expected development patterns, required by the loss development and Bornhuetter-Ferguson methods.
The Company also applies several additional standard actuarial methods to the historical claims costs data to estimate its unpaid claims liability for each accident year. The additional standard methods include loss development methods and Bornhuetter-Ferguson methods, both of which can be applied to paid loss and loss adjustment expense (claims costs), reported incurred (paid plus case reserve) claims costs, and/or claim counts. These methodologies do not vary by tail length; however, certain parameters do vary. In particular, loss development factors for short-tail property claims are different than for long-tail liability claims.
The Company’s actuarially based loss and loss adjustment expense reserve methodology does not include an implicit or explicit provision for uncertainty. Insurance claims costs are inherently uncertain. There is not a precise means of quantifying a provision for uncertainty when determining an appropriate liability for unpaid claims costs. Rather, the potential for claims costs being less than estimated and the potential for claims costs being more than estimated are considered when selecting the parameters to be used in the application of the actuarial methods and when testing the estimates for reasonableness. Management believes that its recorded loss and loss adjustment expense reserve makes reasonable provision for its liability for unpaid claims costs.
At each quarterly review, actual claims costs that emerge are compared with the claims costs that were expected to emerge during that development period. Sometimes the previous claims costs estimates prove to have been too high; sometimes they prove to have been too low. In the case of the Company, the estimates proved to be too high in each of the past three years. The favorable development in 2006 through 2008 underscores the inherent uncertainty in insurance claims costs, especially for a very small insurer.
In accordance with SFAS No. 115, the Company is required to classify its investments in debt and equity securities into one of three categories: held-to-maturity, available-for-sale or trading securities.
The Company’s fixed maturity investments are classified as available-for-sale and are stated at market value. Although all of the Company's investments are classified as available-for-sale and the Company may sell investment securities from time to time in response to economic and market conditions, its investment guidelines place primary emphasis on buying and holding high-quality investments to maturity. Short-term investments are carried at cost, which approximates market value. Investments in equity securities are carried at market value. The unrealized gains or losses from fixed maturities and equity securities are reported as “accumulated other comprehensive income (loss),” which is a separate component of stockholders’ equity, net of any deferred tax effect. When a decline in value of a fixed maturity or equity security is considered other than temporary, a loss is recognized in the Consolidated Statements of Operations. Realized gains and losses are included in the Consolidated Statements of Operations based on the specific identification method.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Unico American Corporation and subsidiaries as of December 31, 2008 and 2007, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2008, in conformity with U.S. generally accepted accounting principles.
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect its reported amounts of assets and liabilities and its disclosure of any contingent assets and liabilities at the date of its financial statements, as well as its reported amounts of revenues and expenses during the reporting period. While every effort is made to ensure the integrity of such estimates, actual results may differ.
Accordingly, in accordance with SAB No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements,” the prior year’s consolidated balance sheets, consolidated statements of operations, consolidated statements of comprehensive income, consolidated statements of changes in stockholders’ equity , and the consolidated statements of cash flows herein have been revised to correct the immaterial error and to reflect the corrected balances as of that date.
Statement of Financial Accounting Standards No. 157 “Fair Value Measurements,” (SFAS No. 157) was adopted by the Company as of January 1, 2008. SFAS No. 157 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The fair value of a financial instrument is the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (the exit price). Financial assets and financial liabilities recorded on the consolidated balance sheets at fair value are categorized based on the reliability of inputs to the valuation techniques as follows:
The Company’s fixed maturities investments are all classified within Level 1 of the fair value hierarchy because they are valued using quoted market prices, broker or dealer quotations, or alternative pricing sources in active markets for identical assets with reasonable levels of price transparency. Fair value measurements are not adjusted for transaction costs.
All of the Company’s fixed maturity investments are classified as available-for-sale and are stated at fair value. Although all of the Company's investments are classified as available-for-sale and the Company may sell investment securities from time to time in response to economic and market conditions, its investment guidelines place primary emphasis on buying and holding high-quality investments to maturity. Short-term investments are carried at cost, which approximates fair value. The unrealized gains or losses from fixed maturities are reported as “accumulated other comprehensive income (loss),” which is a separate component of stockholders’ equity, net of any deferred tax effect. When a decline in value of a fixed maturity or equity security is considered other than temporary, a loss is recognized in the Consolidated Statements of Operations. Realized gains and losses, if any, are included in the Consolidated Statements of Operations based on the specific identification method.
The Company had unrealized investment gain, net of deferred taxes of $4,904,873 as of December 31, 2008, and unrealized investment gains, net of deferred taxes of $1,916,154 as of December 31, 2007.
The Company and its subsidiaries file federal and state income tax returns. Management does not believe that the ultimate outcome of any future examinations of open tax years will have a material impact on the Company’s results of operations. Tax years that remain subject to examination by major taxing jurisdictions are 2007 through 2008 for federal income taxes and 2004 through 2008 for California state income taxes. On April 30, 2008, the Company was notified by the Internal Revenue Service that the Company’s consolidated federal income tax return on Form 1120 for the tax year ended December 31, 2006, was selected for examination. On December 18, 2008, the Company was notified by the Internal Revenue Service that its Form 1120 for the tax year ended December 31, 2006, was accepted with no change.
As required by law, the Company segregates from its operating accounts the premiums collected from insureds which are payable to insurance companies into separate trust accounts. These amounts are included in cash and short-term investments.
Included in fixed maturity investments are statutory deposits assigned to and held by the California State Treasurer and the Insurance Commissioner of the State of Nevada. These deposits are required for writing certain lines of business in California and for admission in states other than California.
Policy acquisition costs consist of costs associated with the production of insurance policies such as commissions, premium taxes, and certain other underwriting expenses that vary with and are primarily related to the production of the insurance policy. Policy acquisition costs are deferred and amortized as the related premiums are earned and are limited to their estimated realizable value based on the related unearned premiums plus investment income less anticipated losses and loss adjustment expenses. Ceding commission applicable to the unexpired terms of policies in force is recorded as unearned ceding commission, which is included in deferred policy acquisition costs.
The Company cedes reinsurance to provide for greater diversification of business to allow management to control exposure to potential losses arising from large risks by reinsuring certain levels of risk in various areas of exposure, to reduce the loss that may arise from catastrophes, and to provide additional capacity for growth. Prepaid reinsurance premiums and reinsurance receivables are reported as assets and represent ceded unearned premiums and reinsurance recoverable on both paid and unpaid losses, respectively. Amounts recoverable from reinsurers are estimated in a manner consistent with the claim liability associated with the reinsured policies. The Company evaluates each of its ceded reinsurance contracts at their inception to determine if there is a sufficient risk transfer to allow the contract to be accounted for as reinsurance under current accounting literature. As of December 31, 2008, all such ceded contracts are accounted for as risk transfer reinsurance.
The insurance company operation is conducted through the Company’s wholly owned subsidiary Crusader Insurance Company (Crusader), which as of December 31, 2008, was licensed as an admitted insurance carrier in the states of Arizona, California, Nevada, Oregon, and Washington. Crusader is a multiple-line property and casualty insurance company, which began transacting business on January 1, 1985. For the year ended December 31, 2008, 98% of Crusader’s business was commercial multiple peril (CMP) insurance policies. CMP policies provide a combination of property and liability coverage for businesses. Commercial property coverages insure against loss or damage to buildings, inventory and equipment from natural disasters, including hurricanes, windstorms, hail, water, explosions, severe winter weather, and other events such as theft and vandalism, fires and storms and financial loss due to business interruption resulting from covered property damage. However, Crusader does not write earthquake coverage. Commercial liability coverages insure against third party liability from accidents occurring on the insured’s premises or arising out of its operations, such as injuries sustained from products sold or the operation of the insured premises. In addition to commercial multiple peril policies, Crusader also writes separate policies to insure commercial property and commercial liability risks on a mono-line basis.
In 2008 and 2007, 100% of Crusader’s gross premium written was derived from California. In 2008 approximately 82% of the $2,754,293 commission and fee income from the Company’s health insurance program was from CIGNA HealthCare medical and dental plan programs. In 2007 approximately 79% of the $2,320,161 commission and fee income from the Company’s health insurance program was from CIGNA HealthCare medical and dental plan programs.
Prior to January 1, 2006, the Company applied the intrinsic-value based method of accounting prescribed by Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations including FASB Interpretation No. 44, “Accounting for Certain Transactions Involving Stock Compensation,” an interpretation of APB Opinion No. 25, to account for its fixed-plan stock options. Under this method, compensation expense was recorded on the date of grant only if the current market price of the underlying stock exceeded the exercise price. FASB Statement No. 123, “Accounting for Stock-Based Compensation,” (SFAS 123), and FASB Statement No. 148, “Accounting for Stock Based Compensation - Transition and Disclosure,” an amendment of SFAS 123, established accounting and disclosure requirements using a fair-value based method of accounting for stock-based employee compensation plans. As permitted by existing accounting standards, the Company elected to continue to apply the intrinsic-value based method of accounting described above and has adopted only the disclosure requirements of SFAS 123, as amended for applicable periods prior to 2006. In December 2004, FASB Statement No. 123R (SFAS 123R) which revised SFAS 123 was issued and was adopted by the Company in 2006 (see Note 14).
The Company cedes reinsurance to provide for greater diversification of business, to allow management to control exposure to potential losses arising from large risks by reinsuring certain levels of risk in various areas of exposure, to reduce the loss that may arise from catastrophes, and to provide additional capacity for growth. The Company evaluates each of its ceded reinsurance contracts at its inception to determine if there is a sufficient risk transfer to allow the contract to be accounted for as reinsurance under current accounting literature. As of December 31, 2008, all such ceded contracts are accounted for as risk transfer reinsurance. Prepaid reinsurance premiums and reinsurance receivables are reported as assets and represent ceded unearned premiums and reinsurance recoverable on both paid and unpaid losses, respectively. Amounts recoverable from reinsurers are estimated in a manner consistent with the claim liability associated with the reinsured policies.
In May 2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally Accepted Accounting Principles” (SFAS No. 162). SFAS No. 162 identifies the sources of accounting principles and the framework for selecting the principles to be used in the preparation of financial statements of nongovernmental entities that are presented in conformity with GAAP (GAAP hierarchy). The current GAAP hierarchy, as set forth in the American Institute of Certified Public Accountants (AICPA) Statement on Auditing Standards No. 69, “The Meaning of Present Fairly in Conformity With Generally Accepted Accounting Principles,” has been criticized because (1) it is directed to the auditor rather than the entity, (2) it is complex, and (3) it ranks FASB Statements of Financial Accounting Concepts, which are subject to the same level of due process as FASB Statements of Financial Accounting Standards, below industry practices that are widely recognized as generally accepted but that are not subject to due process. SFAS No. 162 shall be effective 60 days following the Securities and Exchange Commission’s approval of the Public Company Accounting Oversight Board amendments to U.S. Auditing Standards Section 411, “The Meaning of Present Fairly in Conformity With Generally Accepted Accounting Principles.” SFAS No. 162 is not expected to have a material impact on the Company’s consolidated financial statements.
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of FASB Statement No. 115.” SFAS No. 159 permits an entity to measure certain financial assets and financial liabilities at fair value. The main objective of SFAS No. 159 is to improve financial reporting by allowing entities to mitigate volatility in reported earnings caused by the measurement of related assets and liabilities using different attributes, without having to apply complex hedge accounting provisions. Entities that elect the fair value option will report unrealized gains and losses in earnings at each subsequent reporting date. SFAS No. 159 establishes presentation and disclosure requirements to help financial statement users understand the effect of the entity’s election on its earnings, but does not eliminate disclosure requirements of other accounting standards. SFAS No. 159 is expected to expand the use of fair value measurement, which is consistent with the FASB’s long-term measurement objectives for accounting for financial instruments. SFAS No. 159 is effective as of the beginning of the first fiscal year that begins after November 15, 2007. The Company adopted SFAS No. 159 as of the beginning of 2008 by not electing the fair value option for any of its financial assets or liabilities.
The amortized cost and estimated fair values of investments in fixed maturities by categories are as follows:
The following table illustrates the gross unrealized losses included in the Company’s investment portfolio and the fair value of those securities, aggregated by investment category. The table also illustrates the length of time that they have been in a continuous unrealized loss position as of December 31, 2008, and December 31, 2007.
* In accordance with Financial Accounting Standards Board Statement No. 113, “Accounting and Reporting for Reinsurance of Short-Duration and Long-Duration Contracts,” reinsurance recoverable on unpaid losses and loss adjustment expenses are reported for GAAP as assets rather than netted against the corresponding liability for such items on the consolidated balance sheet.
Crusader’s primary excess of loss reinsurance agreements since January 1, 1998, are as follows:
The 2008 and 2007 excess of loss treaties do not provide for a contingent commission. Crusader’s 2006 1st layer primary excess of loss treaty provides for a contingent commission equal to 20% of the net profit, if any, accruing to the reinsurer. The first accounting period for the contingent commission covers the period from January 1, 2006, through December 31, 2006. The 2005 excess of loss treaties do not provide for a contingent commission. Crusader’s 2004 and 2003 1st layer primary excess of loss treaties provide for a contingent commission to the Company equal to 45% of the net profit, if any, accruing to the reinsurer. The first accounting period for the contingent commission covers the period from January 1, 2003, through December 31, 2004. For each accounting period as described above, the Company will calculate and report to the reinsurers its net profit (excluding incurred but not reported losses), if any, within 90 days after 36 months following the end of the first accounting period, and within 90 days after the end of each 12 month period thereafter until all losses subject to the agreement have been settled. Any contingent commission payment received is subject to return based on future development of ceded losses and loss adjustment expenses. In March 2007, the Company received an advance of $1 million from its reinsurer; and in February 2008 the Company received an additional $2,419,940 to be applied against future contingent commission earned, if any. Based on the Company’s ceded losses and loss adjustment expenses (including ceded incurred but not reported losses) as of December 31, 2008, the Company recorded $2,500,211 of these payments as an advance from its reinsurer and it is included in “Accrued Expenses and Other Liabilities” in the consolidated balance sheets. As of December 31, 2008, the Company recognized $919,729 of contingent commission, of which $666,174 was recognized in the year ended December 31, 2008, and $253,555 was recognized in the year ended December 31, 2007.
During the year ended December 31, 1999, the Company adopted the Unico American Corporation Money Purchase Plan. This plan covers the present executive officers of the Company. Pursuant to the terms of this plan, the Company annually contributes to the account of each participant an amount equal to a percentage of the participant's eligible compensation as determined by the Board of Directors. However, amounts contributed to the Unico American Corporation Profit Sharing Plan will be considered first in determining the actual amount available under the Internal Revenue Service maximum contribution limits. Participants must be employed by the Company on the last day of the plan year to be eligible for contribution. Participants are entitled to receive distribution of benefits under this plan upon retirement, termination of employment, death, or disability.
The California Department of Insurance (the Insurance Department) conducts periodic financial examinations of Crusader. The Insurance Department has completed a financial examination of Crusader’s December 31, 2004, statutory financial statements. A final report on the examination was issued by the Insurance Department on May 10, 2006. No significant issues were reflected in the final report.
Crusader is restricted in the amount of dividends it may pay to its parent in any twelve (12) month period without prior approval of the California Department of Insurance. Presently, without prior approval, Crusader may pay a dividend in any twelve (12) month period to its parent equal to the greater of (a) 10% of Crusader's statutory policyholders' surplus or (b) Crusader's statutory net income for the preceding calendar year. Based on Crusader’s statutory net income for the year ended December 31, 2008, the maximum dividend that could be made by Crusader to Unico without prior regulatory approval in 2009 is $7,067,715. There were no dividends paid by Crusader to Unico in 2008, 2007, or in 2006.
In December 1993, the National Association of Insurance Commissioners (NAIC) adopted a Risk-Based Capital (RBC) Model Law for property and casualty companies. The RBC Model Law is intended to provide standards for calculating a variable regulatory capital requirement related to a company's current operations and its risk exposures (asset risk, underwriting risk, credit risk, and off-balance sheet risk). These standards are intended to serve as a diagnostic solvency tool for regulators that establishes uniform capital levels and specific authority levels for regulatory intervention when an insurer falls below minimum capital levels. The RBC Model Law specifies four distinct action levels at which a regulator can intervene with increasing degrees of authority over a domestic insurer if its RBC is equal to or less than 200% of its computed authorized control level RBC. A company's RBC is required to be disclosed in its statutory annual statement. The RBC is not intended to be used as a rating or ranking tool nor is it to be used in premium rate making or approval. Crusader’s adjusted capital at December 31, 2008, was 849% of authorized control level risk-based capital.
An unusual range of ratio results has been established from studies of the ratios of companies that have become insolvent or have experienced financial difficulties. In the analytical phase, companies that receive four or more financial ratio values outside the usual range are analyzed in order to identify those companies that appear to require immediate regulatory action. Subsequently, a more comprehensive review of the ratio results and the insurer’s annual statement is performed to confirm that an insurer’s situation calls for increased or close regulatory attention. In 2008, the Company was not outside the usual values on any of the thirteen IRIS ratio tests.
On December 18, 2002, the Company granted 182,000 incentive stock options under the Company’s 1999 Omnibus Stock Plan. On December 30, 2005, the Company accelerated the vesting of 37,500 options that were originally scheduled to vest on January 1, 2006, and 30,000 options that were originally scheduled to vest on January 1, 2007 (see Note 1). As of December 31, 2008, 64,650 of those options were outstanding and exercisable, 114,850 options had been exercised, and 2,500 options had been terminated. These options expire 10 years from the date of the grant.
Options exercisable were 124,650 at December 31, 2008, at a weighted average exercise price of $6.065; 124,650 at December 31, 2007, at a weighted average exercise price of $6.065; 172,250 at December 31, 2006, at a weighted average exercise price of $6.407. Aggregate intrinsic value of outstanding and currently exercisable options at December 31, 2008, was $266,069.
The following table summarizes information regarding the stock options outstanding at December 31, 2008:
NOTE 16 - REPURCHASE OF COMMON STOCK - EFFECT ON STOCKHOLDERS’ EQUITY