The following selected consolidated financial data should be read in conjunction with the consolidated financial statements and notes thereto and “
We generate revenues primarily from the collection of premiums. The nature of our business tends to be seasonal, reflecting consumer behaviors in connection with the Florida residential real estate market and the hurricane season. The amount of direct written premium tends to increase just prior to the second quarter of our fiscal year and tends to decrease approaching the fourth quarter. Other sources of revenue include: commissions paid by our reinsurers to our reinsurance intermediary subsidiary, BARC, on reinsurance it places for the Insurance Entities, service revenue from claims handling on ceded claims, policy fees collected from policyholders by our managing general agent subsidiary, URA, and financing fees charged to policyholders who choose to defer premium payments. We also generate income by investing our assets.
The initial net loss and LAE reported by the Company in the third quarter of 2017 related to Hurricane Irma was $37.0 million. In the fourth quarter this amount lowered to $27.8 million by favorable revisions to ceded losses and LAE of $9.2 million to reflect recoveries related to our Other States Reinsurance Program (as further discussed below). Additionally, our service company subsidiaries generated substantial additional revenues following Hurricane Irma that led to approximately $35.0 million of estimated pretax profit generated by service company subsidiaries during the fourth quarter of 2017. In total, for the year ended December 31, 2017, the Company estimates that profit attributable to increased service revenues exceeded the Company’s net retained losses attributable to Hurricane Irma by approximately $7.2 million on a pretax basis.
Our comprehensive reinsurance program substantially limited the net losses from Hurricane Irma, as gross losses and LAE were contained well within the limits of our catastrophe reinsurance program, and certain aspects of our program served to reduce our overall net retention.
During the quarter ended September 30, 2017, the Company recorded gross losses and loss adjustment expenses of $452.0 million resulting from Hurricane Irma, reflecting gross losses and LAE of $450.0 million at UPCIC and $2.0 million at APPCIC. The Company’s reinsurance protection performed as expected, reducing exposure to the maximum retention limits, limiting net losses and loss adjustment expenses from Hurricane Irma to $37.0 million. Under the Company’s reinsurance program, UPCIC cedes losses and LAE greater than $35.0 million in all states up to a maximum of $2.78 billion, while APPCIC cedes losses and LAE greater than $2.0 million up to a maximum amount of $28.1 million.
During a major storm such as Hurricane Irma when losses exceed our net retention, claims service costs are passed on to our reinsurance partners, who reimburse the Insurance Entities for losses and loss adjustment expenses that were incurred relating to losses above the Company’s net retention. These reimbursements for loss adjustment expenses benefit the Company’s service entities by providing incremental revenue which is funded by the reinsurers, resulting in incremental profits to the service entities. The billing for services between the Company’s service companies and Insurance Entities is based on “arm’s length” market rates and approved by our regulator, the FLOIR.
As a result of Hurricane Irma, the quarter and year ended December 31, 2017 included the benefit of additional net revenues within our service provider subsidiaries, particularly UAC and BARC, which led to a higher level of profitability than would otherwise be the case in a quarter or year with more typical service activity. In aggregate, the Company estimates that these additional revenues at service company subsidiaries resulted in approximately $35.0 million of net pretax benefit during the fourth quarter and full year 2017. This benefit related primarily to two factors: (1) as a result of the increased level of claims following Hurricane Irma, UAC, which manages our claims processing and adjustment functions, experienced a significant increase in net revenues and net profit in the months following the storm, and (2) Commission Revenue included a benefit of approximately $2.0 million related to reinstatement premium commissions received by BARC.
Several days after Hurricane Irma made landfall, the FLOIR issued an emergency order that temporarily suspended policy cancellations and nonrenewals by insurance companies. Specifically, the order barred insurance companies from cancelling or non-renewing policies between September 4, 2017 and October 15, 2017; barred the cancellation or nonrenewal of policies covering residential properties damaged by Hurricane Irma until at least 90 days after the properties are repaired; and required that any cancellations or nonrenewals issued or mailed from August 25, 2017 through September 3, 2017 were withdrawn and reissued no earlier than October 15, 2017. The effect of the emergency order, coupled with policyholders’ increased attention to maintaining coverage prior to and following the hurricane, resulted in increased levels of premium and policy fee volume as compared to both the prior year and our internal expectations.
The Tax Cuts and Jobs Act of 2017 (“the Tax Act”)
On December 22, 2017, the Tax Cuts and Jobs Act of 2017 (“the Tax Act”) was enacted, thereby significantly changing the Internal Revenue Code. Notable changes include a reduction in the federal corporate tax rate from 35.0% to 21.0% effective January 1, 2018. The Tax Act's impact on the Company in 2017 was a non-cash charge to earnings for the re-measurement of deferred taxes. Although the Company anticipates an overall benefit from the reduction of lower tax rates in 2018, we are unable to make definitive estimates on the impact of the reduction, due to the final impact of the Act being subject to changes in interpretations, assumptions, and additional guidance that may be issued by the Internal Revenue Service. See “Item 8 - Note 12 (Income Taxes).”
Direct premiums written overall grew $101.3 million, or 10.6%, to $1,055.9 million, compared year-over-year to 2016.
Net earned premiums grew by $56.4 million, or 8.9%, to $688.8 million, compared year-over-year to 2016.
Total revenues increased by $66.6 million, or 9.7%, to $751.9 million, compared year-over-year to 2016.
Net income increased by $7.5 million, or 7.6%, to $106.9 million, compared year-over-year to 2016.
Developing and implementing our reinsurance strategy to adequately protect us in the event of one or more catastrophes while maintaining efficient reinsurance costs has been a key focus for our leadership team. We believe that our reinsurance program is structured such that if we were to experience an active hurricane season like the hurricane seasons in 2017, 2016, 2005 and 2004 we are able to pay policyholder claims, maintain sufficient surplus to grow profitably and take advantage of the resulting market dislocation that could potentially follow. Effective June 1, 2017, we entered into multiple reinsurance agreements comprising our 2017-2018 reinsurance program. See “Item 8 - Note 4 (Reinsurance).”
that, unless losses exhaust the top layer of our coverage, we are exposed to only $35 million in losses, pre-tax, per catastrophe for each of the first four events.
APPCIC’s multiple line excess of loss reinsurance program has a property retention of $0.5 million with coverage up to $8.5 million per individual property loss and a casualty retention of $0.3 million with coverage up to $1.0 million per individual casualty loss.
of estimate in the recognition of liabilities for unpaid losses, loss adjustment expenses, subrogation recoveries and reinsurance recoveries which are described below.
A liability, net of estimated subrogation, is established to provide for the estimated costs of paying losses and LAE under insurance policies the Insurance Entities have issued. Underwriting results are significantly influenced by an estimate of a liability for unpaid losses and LAE. The liability is an estimate of amounts necessary to settle all outstanding claims, including claims that have been incurred, but not yet reported as of the financial statement date. The Company estimates and accrues its right to subrogate reported or estimated claims against other parties. Subrogated claims are recorded at amounts estimated to be received from the subrogated parties, net of expenses and netted against unpaid losses and LAE.
See “Item 8 - Note 17 (Liability for Unpaid Losses and Loss Adjustment Expenses)” for a discussion of the Company’s basis and methodologies used to establish its liability for unpaid losses and loss adjustment expenses along with the following quantitative disclosures:
Five-year accident year table on incurred claim and allocated claim adjustment expenses, net of reinsurance including columns of:
Five-year accident year table on cumulative paid claims and allocated claim adjustment expenses, net of reinsurance
Key assumptions that may materially affect the estimate of the reserve for loss and LAE relate to the effects of emerging claim and coverage issues. As industry practices and legal, judicial, social and other environmental conditions change, unexpected and unintended issues related to claim and coverage may emerge. These issues may adversely affect our business by either extending coverage beyond our underwriting intent or by increasing the number or size of claims. Key assumptions that are premised on future emergence that are inconsistent with historical loss reserve development patterns include but are not limited to:
The methods employed by actuaries include a range of estimated unpaid losses, each reflecting a level of uncertainty. Projections of loss and LAE liabilities are subject to potentially large variability in the estimation process since the ultimate disposition of claims incurred prior to the financial statement date, whether reported or not, is subject to the outcome of events that have not yet occurred. Examples of these events include jury decisions, court interpretations, legislative changes, public attitudes, and social/economic conditions such as inflation. Any estimate of future costs is subject to the inherent limitation on one’s ability to predict the aggregate course of future events. It should therefore be expected that the actual emergence of losses and LAE will vary, perhaps materially, from any estimate.
We believe our net loss and LAE reserves are appropriately established based on available methodology, facts, technology, laws and regulations. We calculate and record a single best reserve estimate, in conformance with generally accepted actuarial standards, for reported losses and IBNR losses and as a result we believe no other estimate is better than our recorded amount.
Due to the uncertainties involved, the ultimate cost of losses may vary materially from recorded amounts, which are based on our best estimates. The liability for unpaid losses and LAE at December 31, 2017 is $248.4 million.
We incur acquisition costs in connection with the production of new and renewal insurance policies which are deferred and recognized over the life of the underlying insurance policy. Acquisition costs not yet recognized are deferred and reported as “Deferred Policy Acquisition Costs”. Acquisition costs are commissions and state premium taxes incurred in acquiring insurance policies that related to the successful production of new and renewal business. We have collected ceding commissions from certain reinsurers in connection with our use of quota share reinsurance contracts. We record the amount of ceding commissions or defer such amounts over the terms of the applicable reinsurance contracts. The deferred ceding commissions were offset against the deferred policy acquisition costs with the net result presented as “deferred policy acquisition costs, net” on our Consolidated Balance Sheets. As of December 31, 2017, deferred policy acquisition costs, were $73.1 million compared to deferred policy acquisition costs of $64.9 million as of December 31, 2016.
We evaluate and recognize losses on insurance contracts when estimated future claims, deferred policy acquisition costs, and maintenance costs under a group of existing policy contracts will exceed anticipated future premiums and investment income. The determination of the provision for premium deficiency requires estimation of the costs of losses, catastrophic reinsurance and policy maintenance to be incurred and investment income to be earned over the remaining policy period. Management has determined that a provision for premium deficiency was not warranted as of December 31, 2017.
For the year ended December 31, 2017, our growth in direct premiums written increased by 10.6% overall to $1,055.9 million, including an increase of 7.4% to $924.0 million within Florida and an increase of 40.4% to $131.9 million in our Other States book. Growth within Florida includes both continued organic growth and the positive effect of increased policyholder retention and the associated premium volume surrounding Hurricane Irma (as discussed above in the Recent Developments - Hurricane Irma Overview), while growth in our Other States book includes continued expansion within states where we already had a presence prior to 2017, as well as the addition of two new states during the year (New Jersey and New York).
Ceded premium earned was $310.4 million for the year ended December 31, 2017, compared to $288.8 million for the year ended December 31, 2016. The increase in ceded earned premiums of $21.6 million is attributable to increased costs associated with our 2017/2018 reinsurance program (which runs from June 1 to May 31 of the following year), reflecting increased ceded exposure from policy growth as well as coverage and limit improvements as compared to the 2016/2017 reinsurance program. Our overall reinsurance spend as a percentage of direct premiums earned held steady at 31% for the year ended December 31, 2017 as compared to the prior year.
Net premiums earned increased by 8.9% to $688.8 million for the year ended December 31, 2017, compared to $632.4 million for the year ended December 31, 2016. The growth was the result of the increase in direct premiums earned and was partially offset by the increase in ceded premium earned, both of which are discussed above.
Net investment income was $13.5 million for the year ended December 31, 2017, compared to $9.5 million for the year ended December 31, 2016, representing an increase of 41.1%. The $4.0 million increase in net investment income is principally the result of the increasing size of our investment portfolio, coupled with favorable market trends and actions taken to increase portfolio yield while maintaining high credit quality. Total average investments were $666.3 million with an average credit rating of AA- during the year ended December 31, 2017 compared to $592.6 million with an average credit rating of AA- for the same period in 2016.
Commission revenue is comprised principally of brokerage commissions we earn from reinsurers on reinsurance placed for the Insurance Entities. For the year ended December 31, 2017, commission revenue grew by $3.6 million, or 19.8%, to $21.3 million, compared to $17.7 million for the year ended December 31, 2016. The increase was the result of overall changes in the structure of the reinsurance programs in effect, the amount of premiums paid for reinsurance on our growing exposures and the types of reinsurance contracts used in each program, as well as a benefit of approximately $2.0 million related to reinstatement premium commissions received by BARC following Hurricane Irma, discussed above in the Recent Developments - Hurricane Irma Overview.
Policy fees are fees collected from policyholders by our wholly-owned managing general agent for business that is written through that subsidiary. Policy fees for the year ended December 31, 2017 grew by $1.9 million, or 11.6% to $18.8 million compared to $16.9 million for the year ended December 31, 2016. The increase was the result of growth in the number of policies written during the year ended December 31, 2017 compared to the same period in 2016.
Losses and LAE, net of reinsurance were $350.4 million for the year ended December 31, 2017 compared to $301.2 million for the same period in 2016 as follows:
Recent Developments - Hurricane Irma Overview discussed above. In addition, the Company experienced approximately $2.4 million of gross losses and loss adjustment expenses related to hailstorms in Minnesota that occurred in June/July of 2017, for which the Company ultimately recorded only $1.0 million of net losses and LAE. This recovery was a result of aggregate loss clauses within our reinsurance program triggered by Hurricane Irma. Weather events in 2016 were comprised of a series of severe storms in the first quarter, as well as the impact of Hurricane Hermine in the third quarter and Hurricane Matthew in the fourth quarter.
For the year ended December 31, 2017, general and administrative expenses were $231.0 million, compared to $221.2 million for the same period in 2016 as detailed below (dollars in thousands):
YEAR ended December 31, 2016 COMPARED TO YEAR ENDED DECEMBER 31, 2015
The following table summarizes, by type, the carrying values of investments as of the dates presented (in thousands):
Deferred income tax assets and liabilities represent temporary differences between U.S. GAAP and tax basis of a company's assets and liabilities. During the year ended December 31, 2017, net deferred tax assets decreased by $1.4 million to $9.3 million, primarily due to the re-measurement of deferred tax assets and liabilities as a result of the enactment of the Tax Cuts and Jobs Act of 2017 on December 22, 2017. The legislation made broad and complex changes to the Internal Revenue Code including a reduction in the federal corporate tax rate from 35% to 21% effective January 1, 2018. Affecting the Company in 2017 was a $4.7 million non-cash charge to earnings for the re-measurement of net deferred tax assets as a result of the new lower rates.
Unearned premium represents the portion of direct written premium that will be earned pro rata in the future. The increase of $56.7 million to $532.4 million as of December 31, 2017 reflects both organic growth and seasonality of our business as described under “- Overview”.
Other liabilities and accrued expenses increased by $7.4 million to $45.1 million as of December 31, 2017 as a result of increased expenses that relate to Hurricane Irma and costs, such as commissions and taxes, related to increases in our business.
Capital resources increased net by $66.6 million and includes increases in stockholders’ equity of $68.8 million offset by a reduction in long-term debt of $2.2 million. The increases in stockholders’ equity was principally the result of 2017 net income offset by treasury stock purchases, dividends to shareholders and stock based compensation. The reduction in long-term debt was the result of principal payments on debt during 2017. See “- Liquidity and Capital Resources” and “Item 8 - Note 8 (Stockholders’ Equity)” for explanation of changes in treasury stock.
Liquidity is a measure of a company’s ability to generate sufficient cash flows to meet its short and long-term obligations. Funds generated from operations have been sufficient to meet our liquidity requirements and we expect that, in the future, funds from operations will continue to meet such requirements.
The balance of cash and cash equivalents as of December 31, 2017 was $213.5 million, compared to $105.7 million at December 31, 2016. See “Item 8 - Consolidated Statements of Cash Flows” for a reconciliation of the balance of cash and cash equivalents between December 31, 2017 and 2016. The increase in cash and cash equivalents was driven by significant cash flows generated from operating activities in excess of those used for investing and financing activities. In 2017, the Company implemented a new short-term investment cash sweep to maximize investment returns on cash balances. Due to the sweep activities, certain outstanding items were recorded as “Book Overdraft” in the Consolidated Financial Statements. Cash and cash equivalents balances are available to settle book overdrafts, pay expenses and to pay claims.
The balance of restricted cash and cash equivalents as of December 31, 2017 and 2016 includes cash equivalents on deposit with regulatory agencies in the various states in which our Insurance Entities do business.
Liquidity for UVE and its non-insurance subsidiaries is required to cover the payment of general operating expenses, dividends to shareholders (if and when authorized and declared by our Board of Directors), payment for the possible repurchase of our common stock (if and when authorized by our Board of Directors), payment of income taxes, and interest and principal payments on outstanding debt obligations, if any. The declaration and payment of future dividends by UVE to its shareholders, and any future repurchases of UVE common stock, will be at the discretion of our Board of Directors and will depend upon many factors, including our operating results, financial condition, debt covenants and any regulatory constraints. Principal sources of liquidity for UVE and its non-insurance subsidiaries include revenues generated from fees paid by the Insurance Entities to affiliated companies for policy administration, inspections and claims adjusting services. Additional sources of liquidity include brokerage commissions earned on reinsurance contracts, and policy fees. UVE also maintains investments, which are a source of ongoing interest and dividend income and would generate funds upon sale. As discussed in “Item 8 - Note 5 (Insurance Operations),” there are limitations on the dividends the Insurance Entities may pay to their immediate parent company, UVECF.
The maximum amount of dividends that can be paid by Florida insurance companies without prior approval of the Commissioner of the FLOIR is subject to restrictions relating to statutory surplus. The maximum dividend that may be paid by the Insurance Entities to UVECF without prior approval is limited to the lesser of statutory net income from operations of the preceding calendar year or statutory unassigned surplus as of the preceding year end. During the year ended December 31, 2017, UPCIC paid $30.0 million to UVECF. The Insurance Entities did not pay dividends to UVECF during the year December 31, 2016.
Liquidity for the Insurance Entities is primarily required to cover payments for reinsurance premiums, claims payments including potential payments of catastrophe losses offset by recovery of any reimbursement amounts under our reinsurance agreements, fees paid to affiliates for managing general agency services, inspections and claims adjusting services, agent commissions, premiums and income taxes, regulatory assessments, general operating expenses, and interest and principal payments on debt obligations. The principal source of liquidity for the Insurance Entities consists of the revenue generated from the collection of net premiums, interest and dividend income from the investment portfolio and the collection of reinsurance recoverable.
As noted above, the Tax Act has decreased the statutory corporate tax rate from 35.0% to 21.0% for tax years beginning after December 31, 2017. The Act’s impact on the Company in 2017 was a non-cash charge to earnings for the re-measurement of net deferred taxes. Going forward the Company expects to see an overall benefit from the Act, primarily from lower statutory tax rates offset by certain other provisions, principally the provision limiting the deductibility of certain executive compensation.
The Insurance Entities are required annually to comply with the NAIC RBC requirements. RBC requirements prescribe a method of measuring the amount of capital appropriate for an insurance company to support its overall business operations in light of its size and risk profile. NAIC’s RBC requirements are used by regulators to determine appropriate regulatory actions relating to insurers who show signs of weak or deteriorating condition. As of December 31, 2017, based on calculations using the appropriate NAIC RBC formula, the Insurance Entities’ reported and respective total adjusted capital was in excess of the requirements. Failure by the Insurance Entities to maintain the required level of statutory capital and surplus could result in the suspension of their authority to write new or renewal business, other regulatory actions, or ultimately, in the revocation of their certificate of authority by the FLOIR.
In 2006, UPCIC entered into a $25.0 million surplus note with the State Board of Administration of Florida (the “SBA”) under Florida’s Insurance Capital Build-Up Incentive Program (the “ICBUI”). The surplus note has a twenty-year term and accrues interest, adjusted quarterly based on the 10-year Constant Maturity Treasury Index. UPCIC is in compliance with each of the loan’s covenants as implemented by rules promulgated by the SBA. An event of default will occur under the surplus note, as amended, if UPCIC: (i) defaults in the payment of the surplus note; (ii) fails to submit quarterly filings to the FLOIR; (iii) fails to maintain at least $50 million of surplus during the term of the surplus note, except for certain situations; (iv) misuses proceeds of the surplus note; (v) makes any misrepresentations in the application for the program; (vi) pays any dividend when principal or interest payments are past due under the surplus note; or (vii) fails to maintain a level of surplus and reinsurance sufficient to cover in excess of UPCIC’s 1-in-100 year probable maximum loss as determined by a hurricane loss model accepted by the Florida Commission on Hurricane Loss Projection Methodology as certified by the FLOIR annually. To avoid a penalty rate, UPCIC must maintain either a ratio of net written premium to surplus of 2:1 or a ratio of gross written premium of 6:1 according to a calculation method set forth in the surplus note. As of December 31, 2017, UPCIC’s net written premium to surplus ratio and gross written premium to surplus ratio were in excess of the required minimums and, therefore, UPCIC is not subject to increases in interest rates. At December 31, 2017, UPCIC was in compliance with the terms of the surplus note. Total adjusted capital surplus, which includes the surplus note, was in excess of regulatory requirements for both UPCIC and APPCIC.
The following table summarizes the dividends declared and paid by the Company during the year ended December 31, 2017:
We are required to periodically estimate and reflect on our balance sheet the amount needed to pay losses and related LAE on reported and unreported claims, net of estimated subrogation. See “Item 1 - Business-Liability for Unpaid Losses and LAE,” for a description of this process. The following table sets forth a reconciliation of beginning and ending liability for unpaid losses and LAE, net of subrogation as shown in our consolidated financial statements for the periods presented (in thousands):
During 2017 the liability for unpaid losses and loss adjustment expenses increased by $189.9 million from $58.5 million as of December 31, 2016 to $248.4 million as of December 31, 2017. This increase was primarily a result of Hurricane Irma, for which the Company has reinsurance recoverable of $182.4 million. Other factors leading to the increase include the increase in our underlying exposure due to increased writings in Florida and other states, as well as prior year adverse development reserve of $27.5 million, primarily driven by AOB related claims within our Florida book, including the increased litigation frequency experienced during 2017 surrounding the AOB issue.
The ratios are net of ceded premiums and losses, including premiums ceded to the Company’s catastrophe reinsurers which comprise a significant cost, and losses and LAE ceded to reinsurers. The expense ratio includes management fees and commissions, which are based on market rates, paid to an affiliate of the Insurance Entities in the amount of $84.7 million and $78.0 million for UPCIC for the years ended December 31, 2017 and 2016, respectively, and $0.6 million and $0.7 million for the years ended December 31, 2017 and 2016, respectively, for APPCIC. The management fees and commissions paid to the affiliate are eliminated in consolidation.
In November 2017, Demotech, Inc. affirmed the Financial Stability Rating® of “A” for the Insurance Entities. According to Demotech, Inc., the assigned rating represents a company’s continued positive surplus related to policyholders, liquidity of invested assets, an acceptable level of financial leverage, reasonable loss and loss adjustment expense reserves, and realistic pricing. The ratings of the Insurance Entities are subject to at least annual review by Demotech, Inc., and may be revised upward or downward or revoked at the sole discretion of Demotech, Inc. Financial Stability Ratings® are primarily directed towards policyholders, and are not evaluations directed toward the protection of investors in a company, including holders of a company’s common stock, and are not recommendations to buy, sell or hold securities. See “Item 1A - Risk Factors-A downgrade in our Financial Stability Rating® may
There are generally no notional or stated amounts related to unpaid losses and LAE. Both the amounts and timing of future loss and LAE payments are estimates and subject to the inherent variability of legal and market conditions affecting the obligations and make the timing of cash outflows uncertain. The ultimate amount and timing of unpaid losses and LAE could differ materially from the amounts in the table above. Further, the unpaid losses and LAE do not represent all of the obligations that will arise under the contracts, but rather only the estimated liability incurred through December 31, 2017.
The financial statements and related data presented herein have been prepared in accordance with U.S. generally accepted accounting principles which require the measurement of financial position and operating results in terms of historical dollars without considering changes in the relative purchasing power of money over time due to inflation. Our primary assets are monetary in nature. As a result, interest rates have a more significant impact on our performance than the effects of the general levels of inflation. Interest rates do not necessarily move in the same direction or with the same magnitude as the cost of paying losses and LAE.
In February 2018, the FASB revised U.S. GAAP with the issuance of ASU 2018-02, Income Statement-Reporting Comprehensive Income (Topic 220)- Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income in response to the enactment on December 22, 2017 of the Tax Act. Topic 220 allows for a reclassification from accumulated OCI to retained earnings for the stranded tax effects resulting from the remeasurement of deferred tax balances. Prior to the issuance of Topic 220, OCI was not impacted by the remeasurement of deferred taxes. Without this reclassification the tax effects of items in OCI would not reflect the appropriate tax rate. When Topic 220 is adopted, the Company will be required to provide certain disclosures regarding its accounting policy and effect of the implementation of the reclassification of the stranded tax effects in OCI. The ASU is effective for all entities for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted. When adopted by the Company this ASU will result in a reclassification of approximately $1.4 million from OCI to retained earnings.
In March 2017, the Financial Accounting Standards Board (“FASB”) revised U.S. GAAP with the issuance of Accounting Standards Update (“ASU”) 2017-08, Receivables - Nonrefundable Fees and Other Costs to amend the amortization period for certain purchased callable debt securities held at a premium. Current U.S. GAAP excludes certain callable debt securities from consideration of early repayment of principal even if the holder is certain that the call will be exercised. The new ASU shortens the amortization period of certain purchased callable debt securities to the earliest call date. The ASU is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption is permitted. Under the current U.S. GAAP, you could consider the call dates and estimate if you had a large number of similar securities and you were basing your judgment on actual experience. Our service provider (who processes the accounting for our investment transactions) has many similar securities on their system and can make that type of determination. As a result, we currently account for the amortization under the proposed ASU and there will be no impact to our results of operations, financial position or liquidity.
In November 2016, the FASB revised U.S. GAAP with the issuance of the ASU 2016-18, Statement of Cash Flows (Topic 230: Restricted Cash to reduce diversity in the classification and presentation of changes in restricted cash in the statement of cash flows. The new ASU requires that the statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Entities will also be required to reconcile such total to amounts on the balance sheet and disclose the nature of the restrictions. The ASU is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. The balance of restricted cash is currently not material and is not expected to be material and we will comply with the new ASU requirements at the time of adoption. The adoption of this ASU will result in a change in the presentation only in the statement of cash flows which is not expected to be material.
Consolidated Statements of Comprehensive Income for the Years Ended December 31, 2017, 2016 and 2015
We have audited the accompanying balance sheets of Universal Insurance Holdings, Inc. and Subsidiaries (the “Company”) as of December 31, 2017 and 2016, the related statements of income, comprehensive income, stockholders' equity, and cash flows for each of the years in the three-year period ended December 31, 2017, and the related notes and schedules (collectively referred to as the “financial statements”). We also have audited the Company's internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (the “COSO framework”).
Universal Insurance Holdings, Inc. (“UVE”) is a Delaware corporation incorporated in 1990. UVE with its wholly-owned subsidiaries (the “Company”), is a vertically integrated insurance holding company performing all aspects of insurance underwriting, distribution and claims. Through its wholly-owned insurance company subsidiaries, Universal Property & Casualty Insurance Company (“UPCIC”) and American Platinum Property and Casualty Insurance Company (“APPCIC”), together referred to as the “Insurance Entities,” the Company is principally engaged in the property and casualty insurance business offered primarily through its network of independent agents. Risk from catastrophic losses is managed through the use of reinsurance agreements. The Company’s primary product is residential homeowners’ insurance currently offered in sixteen states as of December 31, 2017, including Florida, which comprises the vast majority of the Company’s in-force policies. See “- Note 5 (Insurance Operations),” for more information regarding the Company’s insurance operations.
Investment Securities, Available for Sale. All investment securities are classified as available for sale and consist of fixed maturities, equity securities and short-term investments with maturities of greater than three months. Investment securities available for sale are recorded at fair value on the consolidated balance sheet. Unrealized gains and losses on securities available for sale are excluded from earnings and reported as a component of other comprehensive income, net of related deferred taxes until reclassified to earnings upon the consummation of sales transaction with an unrelated third party or when the decline in fair value is deemed other than temporary.
Other Than Temporary Impairment. The assessment of whether the impairment of a security’s fair value is other than temporary is performed using a portfolio review as well as a case-by-case review considering a wide range of factors. There are a number of assumptions and estimates inherent in evaluating impairments and determining if they are other than temporary, including: 1) the Company’s ability and intent to hold the investment for a period of time sufficient to allow for an anticipated recovery in value; 2) the expected recoverability of principal and interest; 3) the extent and length of time to which the fair value has been less than amortized cost for fixed maturity securities or cost for equity securities and short-term investments referred to as severity and duration; 4) the financial condition, near-term and long-term prospects of the issue or issuer, including relevant industry conditions and trends, and implications of rating agency actions and offering prices referred to as credit quality; and 5) the specific reasons that a security is in a significant unrealized loss position, including market conditions which could affect liquidity. Additionally, once assumptions and estimates are made, any number of changes in facts and circumstances could cause the Company to subsequently determine that an impairment is other than temporary, including: 1) general economic conditions that are worse than previously forecasted or that have a greater adverse effect on a particular issuer or industry sector than originally estimated; 2) changes in the facts and circumstances related to a particular issue or issuer’s ability to meet all of its contractual obligations; and 3) changes in facts and circumstances obtained that causes a change in our ability or intent to hold a security to maturity or until it recovers in value. Management’s intent and ability to hold securities is a determination that is made at each respective balance sheet date giving consideration to factors known to management for each individual issuer of securities such as credit quality and other publicly available information.
Property and Equipment. Property and equipment is recorded at cost less accumulated depreciation and are depreciated on the straight-line basis over the estimated useful life of the assets. Estimated useful life of all property and equipment ranges from three for equipment to twenty-seven-and-one-half years for buildings and improvements. Expenditures for improvements are capitalized and depreciated over the remaining useful life of the asset. Routine repairs and maintenance are expensed as incurred. Website development costs are capitalized and amortized over three years. Software is capitalized and amortized over three years. The Company reviews its property and equipment for impairment annually and/or whenever changes in circumstances indicate that the carrying amount may not be recoverable.
Policy Fees. Policy fees, which represents fees paid by policyholders to the Managing General Agent (MGA)’s on all new and renewal insurance policies, are recognized as income upon policy inception.
Other Revenue. The Company offers its policyholders the option of paying their policy premiums in full at inception or in installments. The Company charges fees to its policyholders that elect to pay their premium in installments and records such fees as revenue as the Company bills the fees to the policyholder.
Deferred Policy Acquisition Costs. The Company defers direct commissions and premium taxes relating to the successful acquisition or renewal of insurance policies and defers the costs until recognized as expense over the terms of the policies to which they are related. Commissions on ceded premiums are deferred and amortized over the effective period of the related reinsurance policies. Deferred policy acquisition costs and deferred ceding commissions are netted for balance sheet presentation purposes and are recorded at their estimated realizable value.
Inherent in the estimates of ultimate claims and subrogation are expected trends in claim severity, frequency and other factors that may vary as claims are settled. The amount of uncertainty in the estimates is significantly affected by such factors as the amount of claims experience relative to the development period, knowledge of the actual facts and circumstances and the amount of insurance risk retained. In addition, the Company’s policyholders are subject to adverse weather conditions, such as hurricanes, tornados, ice storms and tropical storms. The actuarial methods for making estimates for unpaid losses, LAE and subrogation recoveries and for establishing the resulting net liability are periodically reviewed, and any adjustments are reflected in current earnings.
Reinsurance. Ceded written premium is recorded upon the effective date of the reinsurance contracts and earned over the contract period. Amounts recoverable from reinsurers are estimated in a manner consistent with the provisions of the reinsurance agreements and consistent with the establishment of the gross liability to the Company. Allowances are established for amounts deemed uncollectible if any.
The tables above include comparable credit quality ratings by Standard and Poor’s Rating Services, Inc., Moody’s Investors Service, Inc. and Fitch Ratings, Inc.
As of December 31, 2017, the Company held fixed maturity and equity securities that were in an unrealized loss position as presented in the table above. For fixed maturity securities with significant declines in value, the Company performs quarterly fundamental credit analysis on a security-by-security basis, which includes consideration of credit quality and credit ratings, review of relevant industry analyst reports and other available market data. For fixed maturity, equity securities and short-term investments, the Company considers whether it has the intent and ability to hold the securities for a period of time sufficient to recover its cost basis. Where the Company lacks the intent and ability to hold to recovery, or believes the recovery period is extended, the security’s decline in fair value is considered other than temporary and is recorded in earnings. Based on our analysis, our fixed income portfolio is of high quality and we believe we will recover the amortized cost basis of our fixed income securities. We continually monitor the credit quality of our fixed income investments to assess if it is probable that we will receive our contractual or estimated cash flows in the form of principal and interest. Additionally, the Company considers management’s intent and ability to hold the securities until recovery and its credit analysis of the individual issuers of the securities. Based on this process and analysis, management has no reason to believe the unrealized losses for securities available for sale as of December 31, 2017 are other than temporary.
As of December 31, 2017, the Company held approximately $9.2 million equity securities that were in an unrealized loss position twelve months or longer. The unrealized loss on these securities was $2.1 million. Based on our analysis, the company believes each security will recover in a reasonable period of time and the Company has the intent and ability to hold them until recovery. There were no OTTI losses recognized in the periods on the equity portfolio.
The following table provides certain information related to securities available for sale during the periods presented (in thousands):
Includes interest earned on cash and cash equivalents and restricted cash and cash equivalents. Also includes investment income earned on real estate investments.
Includes bank fees, investment accounting and advisory fees, and expenses associated with real estate investments.
The Company seeks to reduce its risk of loss by reinsuring certain levels of risk in various areas of exposure with other insurance enterprises or reinsurers, generally as of the beginning of the hurricane season on June 1st of each year. The Company’s current reinsurance program consists of catastrophe excess of loss reinsurance, subject to the terms and conditions of the applicable agreements. The Company is responsible for deductible amounts before reinsurance attaches and insured losses related to catastrophes and other events in excess of coverage provided by its reinsurance program. The Company remains responsible for the settlement of insured losses irrespective of whether any of its reinsurers fail to make payments otherwise due to the Company.
The following table presents ratings from rating agencies and the unsecured amounts due from the Company’s reinsurers whose aggregate balance exceeded 3% of the Company’s stockholders’ equity as of the dates presented (in thousands):
The following prepaid reinsurance premiums (payable) and reinsurance recoverable and receivable are reflected in the Consolidated Balance Sheets as of the dates presented (in thousands):
The Company defers certain costs in connection with written policies, called Deferred Policy Acquisition Costs (“DPAC”), net of corresponding amounts of ceded reinsurance commissions, called Deferred Reinsurance Ceding Commissions (“DRCC”). Net DPAC is amortized over the effective period of the related insurance and reinsurance policies.
The following table presents the beginning and ending balances and the changes in DPAC, net of DRCC, for the periods presented (in thousands):
In accordance with Florida Insurance Code, and based on the calculations performed by the Company as of December 31, 2017, UPCIC has the capacity to pay ordinary dividends of $36.2 million during 2018. APPCIC does not meet the earning’s or surplus regulatory requirements to pay ordinary dividends during 2018. For the year ended December 31, 2017, UPCIC paid dividends of $30.0 million to UVECF. No dividends were paid from APPCIC to UVECF for the year ended December 31, 2017.
UPCIC and APPCIC are required annually to comply with the NAIC risk-based capital (“RBC”) requirements. RBC requirements prescribe a method of measuring the amount of capital appropriate for an insurance company to support its overall business operations in light of its size and risk profile. NAIC RBC requirements are used by regulators to determine appropriate regulatory actions relating to insurers who show signs of a weak or deteriorating condition. As of December 31, 2017, based on calculations using the appropriate NAIC RBC formula, UPCIC’s and APPCIC’s reported total adjusted capital was in excess of the requirements.
The effective interest rate paid on the surplus note was 2.31%, 1.88% and 2.21% for years ended December 31, 2017, 2016 and 2015, respectively. Any payment of principal or interest by UPCIC on the surplus note must be approved by the Commissioner of the OIR. Quarterly principal payments of $368 thousand are due through 2026. Aggregate principal payments of $1.5 million were made during each of the years ended December 31, 2017, 2016 and 2015.
UPCIC is in compliance with each of the loan’s covenants as implemented by rules promulgated by the SBA. An event of default will occur under the surplus note, as amended, if UPCIC: (i) defaults in the payment of the surplus note; (ii) fails to submit quarterly filings to the FLOIR; (iii) fails to maintain at least $50 million of surplus during the term of the surplus note, except for certain situations; (iv) misuses proceeds of the surplus note; (v) makes any misrepresentations in the application for the program; (vi) pays any dividend when principal or interest payments are past due under the surplus note; or (vii) fails to maintain a level of surplus and reinsurance sufficient to cover in excess of UPCIC’s 1-in-100 year probable maximum loss as determined by a hurricane loss model accepted by the Florida Commission on Hurricane Loss Projection Methodology as certified by the FLOIR annually. To avoid a penalty rate, UPCIC must maintain either a ratio of net written premium to surplus of 2:1 or a ratio of gross written premiums to surplus of 6:1 according to a calculation method set forth in the surplus note. As of December 31, 2017, UPCIC’s net written premium to surplus ratio and gross written premium to surplus ratio were in excess of the required minimums and, therefore, UPCIC is not subject to increases in interest rates.
The following table provides certain information for the convertible Series A preferred stock as of the dates presented (in thousands, except conversion factor):
UVE pays dividends to shareholders, which are funded by earnings on investments and distributions from the earnings of its consolidated subsidiaries. Generally, other than as disclosed above and in “-Note 7 (Long-Term Debt),” there are no restrictions for UVE limiting the payment of dividends. However, UVE’s ability to pay dividends to shareholders may be affected by restrictions on the ability of the Insurance Entities to pay dividends to UVE through UVECF. See “-Note 5 (Insurance Operations),” for a discussion of these restrictions. There are no such restrictions for UVE’s non-insurance consolidated subsidiaries. Notwithstanding the restriction on the net assets of the Insurance Entities, UVE received distributions from the earnings of its non-insurance consolidated subsidiaries of $122.2 million, $46.9 million and $58.2 million during the years ended December 31, 2017, 2016 and 2015, respectively. During the year ended December 31, 2016, UVE made a capital contribution of $2.0 million to APPCIC, in conjunction with APPCIC’s plan to begin writing commercial residential products in Florida. There were no capital contributions by UVE to the Insurance Entities during the years ended December 31, 2017 and 2015. The Company prepares and files a consolidated federal tax return for UVE and its consolidated subsidiaries with all U.S. GAAP tax related entries recorded on the books of UVE.
Awards under the Incentive Plan may include incentive stock options, non-qualified stock option awards (“Stock Option”), stock appreciation rights, non-vested shares of Common Stock (“Restricted Stock”), restricted stock units, performance share units (“PSUs”), other share-based awards and cash-based incentive awards. Awards under the Incentive Plan may be granted to employees, directors, consultants or other persons providing services to the Company or its affiliates.
The following table provides certain information related to Stock Options and PSUs during the year ended December 31, 2017 (in thousands, except per share data):
The following table provides the amount of unrecognized compensation expense as of the most recent balance sheet date and the weighted average period over which those expenses will be recorded for both Stock Options and PSUs (dollars in thousands):
Stock Options granted by the Company generally expire between 5 to 10 years from the grant date and generally vest over a 1 to 3 year service period commencing on the grant date.
outstanding. Expected volatilities are based on historical volatilities of our Common Stock. The dividend yield was based on expected dividends at the time of grant.
Restricted Stock grants are awarded to certain employees in consideration for services rendered pursuant to terms of employment agreements and or to provide to those employees with a continued incentive to share in the success of the Company. Restricted Stock generally vests over a three year service period commencing on the grant date.
The Company accrued for aggregate contributions of approximately $1.6 million, $1.2 million and $1.0 million to the 401(k) Plan during the years ended December 31, 2017, 2016 and 2015, respectively.
During the year ended December 31, 2017, the Company’s excess income tax benefit of $5.8 million was reflected as an income tax benefit in the consolidated statements of income as a component of the provision for income taxes as a result of the adoption of the accounting guidance for share-based payment transactions. See “-Note 2 (Significant Accounting Policies - Recently Adopted Accounting Pronouncements)” for more information.
In addition, during the year ended December 31, 2017, the Company recorded another discrete item as a credit to income tax expense of $1.2 million resulting from anticipated recoveries of income taxes paid for the 2014-2015 tax years.
The Company accounts for income taxes using a balance sheet approach. As of December 31, 2017 and 2016, the significant components of the Company’s deferred income taxes consisted of the following (in thousands):
The Company filed a consolidated federal income tax return for the tax years ended December 31, 2016, 2015 and 2014 and intends to file the same for the tax year ended December 31, 2017. The tax allocation agreement between the Company and the Insurance Entities provide that they will incur income taxes based on a computation of taxes as if they were stand-alone taxpayers. The computations are made utilizing the financial statements of the Insurance Entities prepared on a statutory basis of accounting and prior to consolidating entries which include the conversion of certain balances and transactions of the statutory financial statements to a U.S. GAAP basis.
The Company files its income tax returns as prescribed by the tax laws of the jurisdictions in which it operates. The Company’s 2014 through 2016 tax years are subject to examination by the Internal Revenue Service and various tax years remain open to examination in certain state jurisdiction. In February 2018, the Company received notification from the Internal Revenue Service for an examination of the 2015 tax return.
Basic earnings per share (“EPS”) is based on the weighted average number of common shares outstanding for the period, excluding any dilutive common share equivalents. Diluted EPS reflects the potential dilution resulting from exercises of stock options, vesting of performance share units, vesting of restricted stock, and conversion of preferred stock.
Represents the dilutive effect of unexercised Stock Options, unvested Performance Share Units, and unvested Restricted Stock.
The following table provides the components of other comprehensive income (loss) on a pretax and after-tax basis for the periods presented (in thousands):
The following table provides the reclassifications out of accumulated other comprehensive income for the periods presented (in thousands):
Summary of significant valuation techniques for assets measured at fair value on a recurring basis
Corporate bonds: Comprise investment-grade fixed income securities. The primary inputs to the valuation include quoted prices for identical assets in inactive markets or similar assets in active or inactive markets, contractual cash flows, benchmark yields and credit spreads.
Municipal bonds: Comprise fixed income securities issued by a state, municipality or county. The primary inputs to the valuation include quoted prices for identical assets in inactive markets or similar assets in active or inactive markets, contractual cash flows, benchmark yields and credit spreads.
Other: Comprise investment securities subject to re-measurement with original maturities beyond one year. The primary inputs to the valuation include quoted prices for identical or similar assets in markets that are not active.
The following table summarizes the carrying value and estimated fair values of the Company’s financial instruments that are not carried at fair value as of the dates presented (in thousands):
The liability for losses and loss adjustment expenses includes an amount determined from loss reports and individual cases and an amount, based on past experience, for losses incurred but not reported. Such liabilities are necessarily based on estimates and, although management believes that the amount is adequate, the ultimate liability may be in excess of or less than the amounts provided. The methods for making such estimates and for establishing the resulting liability are continually reviewed, and any adjustments are reflected in earnings currently. The reserve for losses and loss adjustment expenses is reported net of receivables for salvage and subrogation of approximately $85 million and $76 million at December 31, 2017 and 2016, respectively.
The information about unpaid losses and loss adjustment expenses for the years ended December 31, 2013 to 2015, is presented as supplementary information and is unaudited.
As a result of changes in estimates of insured events in prior years, the loss and loss adjustment expense increased by $27.5 million in 2017. During 2017 the liability for unpaid losses and loss adjustment expenses increased by $189.9 million from $58.5 million as of December 31, 2016 to $248.4 million as of December 31, 2017. This increase was primarily a result of Hurricane Irma, for which the Company has reinsurance recoverable of $182.4 million. Other factors leading to the increase include the increase in our underlying exposure due to increased writings in Florida and other states, as well as prior year adverse development reserve of $27.5 million, primarily driven by assignment of benefits (“AOB”) related claims within our Florida book, including the increased litigation frequency experienced during 2017 surrounding the AOB issue. Total reserve re-estimates conducted in 2016 and 2015, resulted in favorable development of $4.7 million in 2016, and $0.3 million in 2015. The favorable development in 2016 was principally the result of increases in estimated subrogation recoveries.
The Company establishes a liability to provide for the estimated unpaid portion of the costs of paying losses LAE under insurance policies the Insurance Entities have issued. Predominately all of the Company’s claims relate to the Company’s core product, homeowners insurance and the various policy forms in which it is available. The liability for unpaid losses and LAE consists of the following:
Incurred but not reported (“IBNR”), which are anticipated losses expected to be reported to the company and development of reported claims, including anticipated recoveries from either subrogation or ceded reinsurance.
Underwriting results are significantly influenced by the Company’s practices in establishing its estimated liability for unpaid losses and LAE. The liability is an estimate of amounts necessary to ultimately settle all current and future claims and LAE on claims occurring during the policy coverage period each year as of the financial statement date.
Reserves are estimated for both reported and unreported claims, and include estimates of all expenses associated with processing and settling all incurred claims, including consideration for anticipated subrogation recoveries that will offset future loss payments. The company updates reserve estimates periodically as new information becomes available or as events emerge that may affect the resolution of unsettled claims. Changes in prior year reserve estimates (reserve re-estimates), which may be material, are determined by comparing updated estimates of ultimate losses to prior estimates, and the differences are recorded as losses and LAE in the Consolidated Statements of Income in the period such changes are determined. Estimating the ultimate cost of losses and LAE is an inherently uncertain and complex process involving a high degree of subjective judgment and is subject to the interpretation and usage of numerous uncertain variables as discussed further below.
Reserve estimates for both unpaid losses and LAE are derived using several different actuarial estimation methods in order to provide the actuary with multiple predictive viewpoints to consider for each of the sectors discussed above. Each of the methods has merit,
A second method is the reported development method. This method is similar to the paid development method; however, case reserves are considered in the analysis. Successive periods of reported loss estimates (including paid loss, subrogation recoveries, paid LAE and held case reserves) are organized similar to the paid development method in order to evaluate and select Report-to-Report (“RTR”) development factors. This method has the advantage of recognizing the information provided by current case reserves. Its implicit assumption is that the relative adequacy of case reserves is consistent over time, and that there have been no material changes in the rate at which claims have been reported or settled. In cases where significant reserve strengthening or other changes have occurred, RTR factors are adjusted accordingly, utilizing appropriate actuarial techniques.
Estimation methods described above each produce estimates of ultimate losses and LAE. Based on the results of these methods, a single estimate (commonly referred to as an actuarial point/central estimate) of the ultimate loss and LAE is selected accordingly for each accident-year claim grouping. Estimated IBNR reserves are determined by subtracting reported losses from the selected ultimate loss, and the paid LAE from the ultimate LAE. The estimated loss IBNR reserves are added to case reserves to determine total estimated unpaid losses. Note that estimated IBNR reserves can be negative for an individual accident-year claim grouping if the selected ultimate loss includes a provision for anticipated subrogation, or if there is a possibility that case reserves are overstated. No case reserves are carried for LAE, therefore the estimated LAE IBNR reserves equal the total estimated unpaid LAE. For each sector, the reserving methods are carried out on both a net and direct basis in order to estimate liabilities accordingly. When selecting a single actuarial point/central estimate on a net basis, careful consideration is given for the reinsurance arrangements that were in place during each accident year, exposure period and segment being reviewed.
Reserve estimates are developed for both open claims and unreported claims. The actuarial methods described above are used to derive claim settlement patterns by determining development factors to be applied to specific data elements. Development factors are calculated for data elements such as claim counts reported and settled, paid losses and paid losses combined with case reserves, loss expense payments, and subrogation recoveries. Historical development patterns for these data elements are used as the assumptions to calculate reserve estimates.
Often, different estimates are prepared for each detailed component, incorporating alternative analyses of changing claim settlement patterns and other influences on losses, from which a best estimate is selected for each component, occasionally incorporating additional analyses and actuarial judgment as described above. These estimates are not based on a single set of assumptions. Based on a review of these estimates, the best estimate of required reserves is recorded for each accident year and the required reserves are summed to create the reserve balance carried on the Consolidated Balance Sheets.
The Company performed an evaluation of subsequent events through the date the financial statements were issued and determined there were no recognized or unrecognized subsequent events that would require an adjustment or additional disclosure in the consolidated financial statements as of December 31, 2017.
On January 22, 2018, the Company declared a dividend of $0.14 per share on its outstanding common stock payable on March 12, 2018, to shareholders of record on February 28, 2018.