We currently have a co-location agreement with TierPoint that supports data center space and services. TierPoint serves as a production and disaster recovery location in Audubon, Pennsylvania. This agreement expires in June 2018.
See “Liquidity and Capital Resources-Radian Group-Short-Term Liquidity Needs-Capital Support for Subsidiaries” for additional information regarding these transactions, and “Regulation-Direct Federal Regulation-GSE Requirements” for additional information regarding the PMIERs.
Other Operating Expenses. Our other operating expenses are affected by the level of NIW, as well as the level of RIF. Additionally, in recent periods, our operating expenses have been impacted significantly by compensation expense associated with changes in the estimated fair value of certain of our long-term equity-based incentive awards that are settled in cash. The fair value of these awards, and associated compensation expense, have been dependent, in large part, on our stock price at any given point in time. Substantially all of these awards vested and were paid to grantees in June 2014 and June 2015. Therefore, although these awards had produced significant expense volatility in the past due to their valuation relative to Radian Group’s common stock price, the expense volatility from these awards will not continue in the future.
The change in expected economic loss or recovery associated with our previously owned VIEs is included in adjusted pretax operating income (loss) above for the years ended December 31, 2014 and 2013, although it represents amounts that are not included in net income. Therefore, for purposes of this reconciliation, net gains (losses) on investments and other financial instruments has been adjusted by income of $0.1 million and $0.6 million for the years ended December 31, 2014 and 2013, respectively, to reverse this item.
Adjusted Pretax Operating Income (Loss). Our Mortgage Insurance segment’s adjusted pretax operating income for 2015 was $513.1 million, compared to $336.9 million for 2014 and an adjusted pretax operating loss of $67.4 million in 2013. Our results for 2015 compared to 2014 and 2013 primarily reflect: (i) an increase in net premiums earned; (ii) a reduction in the provision for losses; and (iii) a reduction in other operating expenses.
Net of any previous Rescissions that were reinstated during the period. Such reinstated Rescissions may ultimately result in a paid claim.
The Surplus Note has a zero percent interest rate and is scheduled to mature on December 31, 2025. Based on our expectations regarding Radian Guaranty’s future financial performance, which are subject to risks and uncertainties, we currently expect that Radian Guaranty will be in a position to seek to redeem a portion and possibly all of the Surplus Note in 2016, and any remaining amounts in 2017. Any redemption of the Surplus Note would increase our holding company liquidity by the corresponding amount of the redemption. In all circumstances, any early redemption of the Surplus Note is subject to approval by the Pennsylvania Insurance Department. The GSEs have approved early redemption of the note based on the following criteria:
Radian Guaranty’s Risk-to-capital as of December 31, 2015 was 14.3 to 1. Radian Guaranty is not expected to need additional capital to satisfy current applicable state insurance regulatory requirements. Our combined Risk-to-capital, which represents the consolidated Risk-to-capital measure for all of our Mortgage Insurance subsidiaries, was 14.6 to 1 as of December 31, 2015.
During the first quarter of 2015, Clayton expanded its service offerings by acquiring Red Bell, a real estate brokerage company that provides products and services that include automated valuation models; broker price opinions used by investors, lenders and loan servicers; and advanced technology solutions for: (1) monitoring loan portfolio performance; (2) tracking non-performing loans; (3) managing REO assets; and (4) valuing and selling residential real estate through a secure platform. In addition, in October 2015, Clayton acquired ValuAmerica, a national title agency and appraisal management company with a technology platform that helps mortgage lenders and their vendors streamline and manage their supply chains and operational workflow. Red Bell and ValuAmerica are also included in the Services segment since the dates of acquisition. See Note 7 for additional information.
In order to comply with the PMIERs and to increase our financial flexibility, we executed the following transactions in the fourth quarter of 2015:
Radian Group contributed $50 million to an exclusive affiliated reinsurer of Radian Guaranty. See Note 14 for information on Radian Reinsurance.
Senior management regularly reviews the modeled frequency, Rescission, Claim Denial and Claim Severity estimates, which are based on historical trends, as described above. If recent emerging or projected trends differ significantly from the historical trends used to develop the modeled estimates, management evaluates these trends and determines how they should be considered in its reserve estimates.
The change in expected economic loss or recovery associated with our previously owned VIEs is included in adjusted pretax operating income above, although it represents amounts that are not included in net income. Therefore, for purposes of this reconciliation, net gains (losses) on investments and other financial instruments has been adjusted by income of $0.1 million and $0.6 million for the years ended December 31, 2014 and 2013, respectively, to reverse this item.
Net realized and unrealized gains (losses) on investments and other financial instruments consisted of:
Goodwill is deemed to have an indefinite useful life and is subject to review for impairment annually, or more frequently, whenever circumstances indicate potential impairment. We conducted our annual goodwill impairment analysis in the fourth quarters of 2014 and 2015. In 2014, we recorded a goodwill impairment of $2.1 million related to a small subsidiary within our Services segment that we had acquired in 2013. As part of the annual goodwill impairment assessment, we estimated the fair value of this subsidiary using an income approach. The key assumption in our fair value analysis was forecasted future cash flows, which were less than originally expected. There was no goodwill remaining for this subsidiary at December 31, 2014. The goodwill impairment test is a two-step process as required by the accounting standard related to intangible assets. Step one compares a reporting unit’s estimated fair value to its carrying value. If the carrying amount exceeds the estimated fair value, the second step must be completed to measure the amount of the reporting unit’s goodwill impairment loss, if any. For purposes of performing our 2015 annual goodwill impairment test, we concluded that the Services segment constitutes one reporting unit to which all of the goodwill recorded is related. In 2015, the estimated fair value of the reporting unit exceeded its carrying amount; therefore, there was no impairment as of December 31, 2015.
Senior Notes due 2015 and 2017. In June 2005, we issued $250 million of Senior Notes due 2015. During 2013, we exchanged $195.5 million of the Senior Notes due 2015 for a new series of 9.000% Senior Notes due June 2017 in order to improve our debt maturity profile. These transactions, which are accounted for as extinguishments of debt, resulted in a loss of $4.0 million, primarily as a result of the requirement to record the Senior Notes due 2017 at fair value. During 2014, in accordance with the optional redemption provisions of the notes, we redeemed all of the remaining outstanding principal amount of our Senior Notes due 2015 at a price established in accordance with the indenture governing these senior notes. We paid $57.2 million to holders of the notes at redemption and recorded a loss of $2.8 million.
We attempted to reach a compromised settlement with Appeals, but in September 2014 we received Notices of Deficiency covering the 2000 through 2007 tax years that assert unpaid taxes and penalties of approximately $157 million. The Deficiency Amount has not been reduced to reflect our NOL carryback ability. As of December 31, 2015, there also would be interest of approximately $125 million related to these matters. Depending on the outcome, additional state income taxes, penalties and interest (estimated in the aggregate to be approximately $32 million as of December 31, 2015) also may become due when a final resolution is reached. The Notices of Deficiency also reflected additional amounts due of approximately $105 million, which are primarily associated with the disallowance of the previously filed carryback of our 2008 NOL to the 2006 and 2007 tax years. We currently believe that the disallowance of our 2008 NOL carryback is a precautionary position by the IRS and that we will ultimately maintain the benefit of this NOL carryback claim.
In the event we are not successful in defense of our tax positions taken for U.S. federal income tax purposes, and for which we have recorded unrecognized tax benefits, then such adjustments originating in NOL or NOL carryback years may serve as a reduction to our existing NOL.
At December 31, 2015, Radian Guaranty had negative unassigned surplus of $679.9 million, compared to negative unassigned surplus of $715.7 million at December 31, 2014. Radian Reinsurance, which began operations in December 2015, had negative unassigned surplus of $127.3 million at December 31, 2015, as a result of the establishment of contingency reserves. If either of these insurers had positive unassigned surplus as of the end of the prior fiscal year, such insurer only may pay dividends or other distributions during any 12-month period in an aggregate amount less than or equal to the greater of: (i) 10% of the preceding year-end statutory policyholders’ surplus; or (ii) the preceding year’s statutory net income. Due to the negative unassigned surplus at the end of 2015, no dividends or other distributions can be paid from Radian Guaranty or Radian Reinsurance in 2016 without approval from the Pennsylvania Insurance Commissioner. Neither Radian Guaranty nor Radian Reinsurance paid any dividends in 2015 or 2014.
The 2014 Equity Plan authorizes the issuance of up to 6,416,180 shares of our common stock, plus such number of shares of common stock subject to outstanding awards that are payable in shares under the 2008 Equity Plan and which awards subsequently terminate, expire or are cancelled (“Prior Plan Shares”). There were 2,803,988 shares remaining available for grant under the 2014 Equity Plan as of December 31, 2015 (the “share reserve”), which includes Prior Plan Shares. Each grant of restricted stock, RSUs, or performance share awards under the 2014 Equity Plan (other than those settled in cash) reduces the reserve available for grant under the 2014 Equity Plan by 1.31 shares for every share subject to such grant. Awards under the 2014 Equity Plan that provide for settlement solely in cash (and not common shares) do not count against the share reserve. Absent this reserve adjustment for restricted stock, RSUs, phantom stock or performance share awards, our shares remaining available for grant under the 2014 Equity Plan would have been 4,694,662 shares as of December 31, 2015.
Performance-Based RSUs- In 2012, a total of 2,211,640 performance-based RSUs (to be settled in cash) were granted to eligible officers under the 2008 Equity Plan. These performance-based RSUs entitled grantees to a cash amount equal to the fair market value of RSUs that vested at the end of a three-year performance period in 2015. There were no cash-settled performance-based RSUs granted in 2015, 2014 or 2013.
As previously disclosed, for the three months ended March 31, 2015, the adjustments to the affected categories within the Consolidated Statements of Cash Flows consist of the following: (i) net cash provided by operating activities, continuing operations, reported as $80 will be adjusted to $666; (ii) net cash used in operating activities, discontinued operations, reported as $12,168 will be adjusted to $1,759; (iii) net cash provided by investing activities, discontinued operations, reported as $9,514 will be adjusted to $4,999; (iv) net increase in cash reported as $23,499 will be adjusted to $29,979; (v) change in cash of business held for sale represented as a decrease of $3,240 will be represented as an increase of $3,240.