Two significant sources of the Company's funds are dividends and distributions from its subsidiaries. As a holding company, the Company receives cash from its subsidiaries in the form of dividends and as reimbursement for operating and other administrative expenses it incurs. The Company's underwritten title companies collect premiums and fees and pay underwriting fees and operating expenses. These companies are restricted only to the extent of maintaining minimum levels of working capital and net worth, but are not restricted by state regulations or banking authorities in their ability to pay dividends and make distributions. The Company's other subsidiary operations collect revenue and pay operating expenses; however, they are not regulated by insurance regulatory or banking authorities. Positive cash flow from the underwritten title companies and other subsidiary operations is invested primarily in cash and cash equivalents.
In June 1998, the FASB issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, (collectively, "derivatives") and for hedging activities. SFAS 133 requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. If certain conditions are met, a derivative may be specifically designated as (a) a hedge of the exposure to changes in the fair value of a recognized asset or liability or an unrecognized firm commitment, (b) a hedge of the exposure to variable cash flows of a forecasted transaction, or (c) a hedge of the foreign currency exposure of a net investment in a foreign operation, an unrecognized firm commitment, an available-for-sale security, or a foreign-currency-denominated forecasted transaction. It requires changes in the fair value of a derivative instrument and the changes in fair value of assets or liabilities hedged by that instrument to be included in earnings. To the extent that the hedge transaction is effective, earnings are equally offset by both investments. Currently the changes in fair value of derivative instruments and hedged items are reported in net unrealized gain (loss) on securities.
Net title insurance premiums, escrow fees and other service charges are recognized as revenue at the time of closing of the related real estate transaction. Premiums from title policies written are presented net of the underwriting fee to affiliated underwriters on the accompanying consolidated statements of operations.
The Company has elected to follow Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (Opinion 25) and related Interpretations in accounting for its 1997 Incentive Plan. As discussed below, in management's opinion, the alternative fair value accounting provided for under Statement of Accounting Standards No. 123, "Accounting for Stock Based Compensation (Statement 123) requires use of option valuation models that were not developed for use in valuing employee stock options. Under Opinion 25, because the exercise price of the Company's stock options exceeds the market price of the underlying stock on the date of the grant, no compensation expense is recognized.
ATC, an underwritten title company in the state of California, and the other subsidiaries and operations of FNFI that were contributed to ATC, are engaged in the business of providing title insurance services and other related services in connection with real estate transactions. The Company operates throughout California and in Maricopa County, Arizona. ATC and Nations function as exclusive agents of Fidelity National Title Insurance Company ("FNTIC"), an affiliate and a wholly owned subsidiary of FNFI. Title insurance policies are underwritten by FNTIC for an underwriting fee. The underwriting agreement generally provides that ATC and Nations are liable under any single policy for only the first $5,000 of losses. As a result of the sale of 60% of ATC to ANFI, FNFI agreed to make no claim on ATC for claims arising from policies written prior to January 1, 1997.
ANFI Predecessor's operating results through July 1, 1997 are included in the income tax returns of FNFI for all periods since their acquisition by FNFI. The entities that comprise ANFI Predecessor have formal tax allocation agreements with FNFI whereby if these entities have taxable income, they will pay FNFI a monthly amount equal to the GAAP book tax provision established for Federal and state income taxes. If these entities have a taxable loss, FNFI will pay to them an amount equal to the tax benefits received by FNFI from the inclusion of these entities in the consolidated Federal and state income tax returns even if the entities could not have utilized its losses and/or credits on a separate return basis.
Additionally, title insurance premiums are collected by ANFI Predecessor on behalf of FNFI in accordance with an underwriting agreement (see Note 5).