There have also been significant changes in the Company’s health insurance operation in 2011 and 2010. AIB markets health, life and dental insurance programs and receives a commission from the insurance company based on premium written. AAQHC administers some of the group health care insurance programs for AIB and provides various consumer benefits to its members, including participation in these insurance programs. For these services, AAQHC receives membership and fee income from its members. On September 30, 2010, AIB discontinued marketing CIGNA medical and dental plans and on December 1, 2010, AAQHC, ceased administration of all CIGNA medical and dental plans. The CIGNA programs had accounted for approximately 56% of the Company’s health insurance income in 2010 and 76% in 2009. The termination of the marketing and administrative agreement with CIGNA has resulted in a decrease in AIB commission income and AAQHC fee income. Effective October 1, 2010, AIB developed a new partnership with Guardian Life Insurance Company of America (GLIC). AIB began marketing, to brokers and to the public, GLIC’s dental and group life products that were created specifically for AIB. In 2011, approximately 34% of health insurance commission and fee income is from Guardian products.
The investment marketplace in general, and in certain asset classes specifically, has been impacted by volatility as a result of uncertainty in the credit markets that began in 2007 and continued throughout 2011. The Company’s fixed maturity (amortized cost) investment portfolio as of December 31, 2011, consisted of 82% U.S. treasury securities and 18% FDIC insured certificates of deposit.
The Company’s net losses and loss adjustment expenses for the calendar years ended December 31, 2011, December 31, 2010 and December 31, 2009, were $14,387,327, $18,470,115 and $19,545,761, respectively.
Income tax expense for the year ended December 31, 2010, was $891,429 compared to income tax expense of $1,236,603 for the year ended December 31, 2009. The effective combined income tax rates for 2010 and 2009 were 28% and 30%, respectively. The decrease in income tax expense was primarily due to the decrease in pre-tax income of $943,397 (23%) to $3,220,581 in the year ended December 31, 2010, compared to pre-tax income of $4,163,978 in the year ended December 31, 2009. The decrease in the effective tax rate in 2010 was primarily due to the recognition of a decrease in the percentage of undistributed dividends subject to California franchise tax that reduced the Company’s deferred tax liability by approximately $143,000.
There is a high level of uncertainty inherent in the evaluation of the required loss and loss adjustment expense reserves for the Company. The long-tailed nature of liability claims and the volatility of jury awards exacerbate that uncertainty. The Company records loss and loss adjustment expense reserves at each balance sheet date based upon management’s best estimate of the ultimate payments that it anticipates will be made to settle all losses incurred and related expenses incurred as of that date for both reported and unreported losses. The ultimate cost of claims is dependent upon future events, the outcomes of which are affected by many factors. Company claim reserving procedures and settlement philosophy, current and perceived social and economic inflation, current and future court rulings and jury attitudes, improvements in medical technology, and many other economic, scientific, legal, political, and social factors all can have significant effects on the ultimate costs of claims. Changes in Company operations and management philosophy also may cause actual developments to vary from the past. Since the emergence and disposition of claims are subject to uncertainties, the net amounts that will ultimately be paid to settle claims may vary significantly from the estimated amounts provided for in the accompanying consolidated financial statements. Any adjustments to reserves are reflected in the operating results of the periods in which they are made. Management believes that the aggregate reserves for losses and loss adjustment expenses are reasonable and adequate to cover the cost of claims, both reported and unreported.
Level 3 - Financial assets and financial liabilities whose values are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement. These inputs reflect the Company’s estimates of the assumptions that market participants would use in valuing the financial assets and financial liabilities.
The following table summarizes information regarding the stock options outstanding at December 31, 2011:
Although realization is not assured, management believes it is more likely than not that all of the deferred tax assets will be realized. The amount of the deferred tax assets considered realizable could be reduced in the near term if estimates of future taxable income during the carry-forward period are reduced.
The Company has identified an error related to valuation of investments as previously reported for interim periods ended September 30 and June 30, 2011. The error has no impact on amounts presented in the accompanying consolidated financial statements or on the selected quarterly financial data presented above. The error resulted in an overstatement of accumulated other comprehensive income and stockholders’ equity as of September 30, 2011 and June 30, 2011 of $659,980 and $417,884, respectively; an (understatement)/overstatement of comprehensive income for the three and nine months ended September 30, 2011 of ($242,096) and $417,884, respectively; and an overstatement of comprehensive income for the three and six months ended June 30, 2011, of $659,980. Management concluded the error was immaterial to all periods presented and will revise the June 2011 and September 2011 previously reported amounts in the Company’s June 2012 and September 2012 Form 10-Q’s to reflect correction of the error.