UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2017

Commission File Number: 001-12117

 

FIRST ACCEPTANCE CORPORATION

(Exact name of registrant as specified in its charter)

 

 

Delaware

 

75-1328153

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

 

3813 Green Hills Village Drive

Nashville, Tennessee

 

37215

(Address of principal executive offices)

 

(Zip Code)

(615) 844-2800

(Registrant’s telephone number, including area code)

Not applicable

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes      No 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes      No 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer

 

  

Accelerated filer

 

 

 

 

 

Non-accelerated filer

 

  (Do not check if a smaller reporting company)

  

Smaller Reporting Company

 

Emerging growth company

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.    

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes      No 

At August 8, 2017, there were 41,199,854 shares outstanding of the registrant’s common stock, par value $0.01 per share.

 

 

 

 

 


FIRST ACCEPTANCE CORPORATION

FORM 10-Q

FOR THE QUARTER ENDED MARCH 31, 2017

INDEX

 

 

 

 

 

 

 

 

i


PART I – FINA NCIAL INFORMATION

Item 1. Financial Statements

FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(in thousands, except per share data)

 

 

 

June 30,

 

 

December 31,

 

 

 

2017

 

 

2016

 

 

 

(Unaudited)

 

 

 

 

 

ASSETS

 

 

 

 

 

 

 

 

Investments, available-for-sale at fair value (amortized cost of $115,233 and

   $117,902, respectively)

 

$

116,012

 

 

$

117,212

 

Cash, cash equivalents, and restricted cash

 

 

125,530

 

 

 

118,681

 

Premiums, fees, and commissions receivable, net of allowance of $378 and

   $279, respectively

 

 

76,847

 

 

 

66,393

 

Deferred tax assets, net

 

 

34,784

 

 

 

35,641

 

Other investments

 

 

10,468

 

 

 

9,994

 

Other assets

 

 

5,753

 

 

 

6,078

 

Property and equipment, net

 

 

3,475

 

 

 

4,213

 

Deferred acquisition costs

 

 

5,332

 

 

 

4,852

 

Goodwill

 

 

29,384

 

 

 

29,384

 

Identifiable intangible assets, net

 

 

7,243

 

 

 

7,626

 

TOTAL ASSETS

 

$

414,828

 

 

$

400,074

 

 

 

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

Loss and loss adjustment expense reserves

 

$

162,232

 

 

$

161,079

 

Unearned premiums and fees

 

 

91,644

 

 

 

78,861

 

Debentures payable

 

 

40,324

 

 

 

40,302

 

Term loan from principal stockholder

 

 

29,792

 

 

 

29,779

 

Accrued expenses

 

 

5,514

 

 

 

7,089

 

Other liabilities

 

 

11,701

 

 

 

10,476

 

Total liabilities

 

 

341,207

 

 

 

327,586

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

Preferred stock, $.01 par value, 10,000 shares authorized

 

 

 

 

 

 

Common stock, $.01 par value, 75,000 shares authorized; 41,200 and 41,160 issued and outstanding, respectively

 

 

412

 

 

 

412

 

Additional paid-in capital

 

 

457,898

 

 

 

457,750

 

Accumulated other comprehensive income, net of tax of $(482) and $(1,110), respectively

 

 

2,474

 

 

 

1,316

 

Accumulated deficit

 

 

(387,163

)

 

 

(386,990

)

     Total stockholders’ equity

 

 

73,621

 

 

 

72,488

 

     TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY

 

$

414,828

 

 

$

400,074

 

See notes to consolidated financial statements.

 

 

 

1


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME

(Unaudited)

(in thousands, except per share data)

 

 

 

Three Months Ended

 

 

Six Months Ended

 

 

 

June 30,

 

 

June 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Revenues:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Premiums earned

 

$

73,459

 

 

$

80,850

 

 

$

143,272

 

 

$

157,257

 

Commission and fee income

 

 

16,824

 

 

 

19,183

 

 

 

34,052

 

 

 

38,764

 

Investment income

 

 

1,123

 

 

 

1,646

 

 

 

2,156

 

 

 

2,608

 

Gain on sale of foreclosed real estate

 

 

 

 

 

1,237

 

 

 

 

 

 

1,237

 

Net realized gains (losses) on investments, available-for-sale

 

 

5

 

 

 

(162

)

 

 

 

 

 

(164

)

 

 

 

91,411

 

 

 

102,754

 

 

 

179,480

 

 

 

199,702

 

Costs and expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Losses and loss adjustment expenses

 

 

62,806

 

 

 

100,765

 

 

 

119,086

 

 

 

174,184

 

Insurance operating expenses

 

 

27,879

 

 

 

30,314

 

 

 

55,935

 

 

 

59,961

 

Other operating expenses

 

 

267

 

 

 

283

 

 

 

538

 

 

 

563

 

Stock-based compensation

 

 

74

 

 

 

68

 

 

 

113

 

 

 

105

 

Depreciation

 

 

540

 

 

 

616

 

 

 

1,086

 

 

 

1,267

 

Amortization of identifiable intangibles assets

 

 

195

 

 

 

239

 

 

 

398

 

 

 

477

 

Interest expense

 

 

1,130

 

 

 

1,076

 

 

 

2,228

 

 

 

2,126

 

 

 

 

92,891

 

 

 

133,361

 

 

 

179,384

 

 

 

238,683

 

(Loss) income before income taxes

 

 

(1,480

)

 

 

(30,607

)

 

 

96

 

 

 

(38,981

)

(Benefit) provision for income taxes

 

 

(577

)

 

 

(10,708

)

 

 

269

 

 

 

(13,577

)

Net loss

 

$

(903

)

 

$

(19,899

)

 

$

(173

)

 

$

(25,404

)

Net loss per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

(0.02

)

 

$

(0.48

)

 

$

(0.00

)

 

$

(0.62

)

Diluted

 

$

(0.02

)

 

$

(0.48

)

 

$

(0.00

)

 

$

(0.62

)

Number of shares used to calculate net loss per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

41,164

 

 

 

41,064

 

 

 

41,162

 

 

 

41,062

 

Diluted

 

 

41,164

 

 

 

41,064

 

 

 

41,162

 

 

 

41,062

 

Reconciliation of net loss income to other comprehensive (loss) income:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net loss

 

$

(903

)

 

$

(19,899

)

 

$

(173

)

 

$

(25,404

)

Net unrealized change in investments, net of tax of $388,

    $757, $628 and $1,668, respectively

 

 

720

 

 

 

1,407

 

 

 

1,158

 

 

 

3,098

 

Comprehensive (loss) income

 

$

(183

)

 

$

(18,492

)

 

$

985

 

 

$

(22,306

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Detail of net realized gains (losses) on investments, available-for-sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net realized gains (losses) on redemptions

 

$

5

 

 

$

(15

)

 

$

 

 

$

(17

)

Other-than-temporary impairment charges

 

 

 

 

 

(147

)

 

 

 

 

 

(147

)

Net realized gains (losses) on investments, available-for-sale

 

$

5

 

 

$

(162

)

 

$

-

 

 

$

(164

)

See notes to consolidated financial statements.

 

 

2


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

(in thousands)

 

 

 

Six Months Ended

 

 

 

June 30,

 

 

 

2017

 

 

2016

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

Net loss

 

$

(173

)

 

$

(25,404

)

Adjustments to reconcile net loss to cash provided by operating activities:

 

 

 

 

 

 

 

 

Depreciation

 

 

1,086

 

 

 

1,267

 

Amortization of identifiable intangibles assets

 

 

398

 

 

 

477

 

Stock-based compensation

 

 

113

 

 

 

105

 

Deferred income taxes

 

 

229

 

 

 

(13,736

)

Other-than-temporary impairment on investments, available-for-sale

 

 

 

 

 

147

 

Net realized losses on redemptions of investments

 

 

 

 

 

17

 

Investment income from other investments

 

 

(343

)

 

 

(355

)

Gain on sale of foreclosed real estate, net

 

 

 

 

 

(1,237

)

Other

 

 

118

 

 

 

61

 

Change in:

 

 

 

 

 

 

 

 

Premiums, fees, and commission receivable

 

 

(10,355

)

 

 

(9,230

)

Deferred acquisition costs

 

 

(480

)

 

 

(183

)

Loss and loss adjustment expense reserves

 

 

1,153

 

 

 

43,941

 

Unearned premiums and fees

 

 

12,783

 

 

 

11,920

 

Other liabilities

 

 

1,225

 

 

 

1,347

 

Other

 

 

(1,221

)

 

 

1,652

 

Net cash provided by operating activities

 

 

4,533

 

 

 

10,789

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

Purchases of investments, available-for-sale

 

 

(3,519

)

 

 

(156

)

Maturities and redemptions of investments, available-for-sale

 

 

5,977

 

 

 

6,968

 

Purchases of other investments

 

 

(133

)

 

 

(725

)

Distributions from other investments

 

 

319

 

 

 

2,190

 

Capital expenditures

 

 

(348

)

 

 

(1,983

)

Proceeds from sale of foreclosed real estate, net

 

 

 

 

 

1,769

 

Acquisition of identifiable intangible assets

 

 

(15

)

 

 

(40

)

Net cash provided by investing activities

 

 

2,281

 

 

 

8,023

 

Cash flows from financing activities:

 

 

 

 

 

 

 

 

Net proceeds from issuance of common stock

 

 

35

 

 

 

40

 

Net cash provided by financing activities

 

 

35

 

 

 

40

 

Net change in cash, cash equivalents, and restricted cash

 

 

6,849

 

 

 

18,852

 

Cash, cash equivalents, and restricted cash, beginning of period

 

 

118,681

 

 

 

115,587

 

Cash, cash equivalents, and restricted cash, end of period

 

$

125,530

 

 

$

134,439

 

See notes to consolidated financial statements.

 

 

 

3


 

FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

1. General

The consolidated financial statements of First Acceptance Corporation (the “Company”) included herein have been prepared without audit pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Accordingly, certain information and disclosures normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) have been omitted. In the opinion of management, the consolidated financial statements reflect all adjustments (consisting of normal recurring adjustments) necessary for a fair statement of the interim periods.

The results of operations for the interim periods are not necessarily indicative of the results of operations to be expected for the full year. These consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements included in its Annual Report on Form 10-K for the year ended December 31, 2016.

Cash, Cash Equivalents, and Restricted Cash

Cash, cash equivalents, and restricted cash consist of bank demand deposits and highly-liquid investments. All investments with maturities of three months or less at the date of purchase are considered cash equivalents. At June 30, 2017 and December 31, 2016, the Company had restricted cash equivalents of $17.3 million and $18.6 million, respectively.

 

2. Fair Value

Fair value is the price that would be received upon the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value measurements are generally based upon observable and unobservable inputs. Observable inputs are based on market data from independent sources, while unobservable inputs reflect the Company’s view of market assumptions in the absence of observable market information. All assets and liabilities that are carried at fair value are classified and disclosed in one of the following categories:

 

Level 1 -

Quoted prices in active markets for identical assets or liabilities.

 

L evel 2 -

Quoted market prices for similar assets or liabilities in active markets; quoted prices by independent pricing services for identical or similar assets or liabilities in markets that are not active; and valuations, using models or other valuation techniques, that use observable market data. All significant inputs are observable, or derived from observable information in the marketplace, or are supported by observable levels at which transactions are executed in the marketplace.

 

Level 3 -

Instruments that use non-binding broker quotes or model driven valuations that do not have observable market data.

NAV    -   Calculated net asset value (“NAV”) based on an ownership interest to which a proportionate share of net assets is attributed.

The Company considers the valuation methods used in both its identifiable intangible assets initial measurement and impairment tests as Level 3. To determine the fair value of acquired trademarks and trade names, the Company uses the relief-from-royalty method, which requires the Company to estimate the future revenue for the related brands, the appropriate royalty rate and the weighted average cost of capital. To determine the fair value of the acquired policy renewal rights and customer relationships, the Company uses an “excess earnings” method that relies on projected future net cash flows and includes key assumptions for the customer retention and renewal rates. The data used in these methods is not observable in the market.

4


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

Fair Value of Financial Instruments

The carrying values and fair values of certain financial instruments were as follows (in thousands).

 

 

 

June 30, 2017

 

 

December 31, 2016

 

 

 

Carrying

 

 

Fair

 

 

Carrying

 

 

Fair

 

 

 

Value

 

 

Value

 

 

Value

 

 

Value

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investments, available-for-sale

 

$

116,012

 

 

$

116,012

 

 

$

117,212

 

 

$

117,212

 

Other investments

 

 

10,468

 

 

 

10,468

 

 

 

9,994

 

 

 

9,994

 

Liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Debentures payable

 

 

40,324

 

 

 

17,266

 

 

 

40,302

 

 

 

11,488

 

Term loan from principal stockholder

 

 

29,792

 

 

 

22,126

 

 

 

29,779

 

 

 

15,000

 

 

The fair values as presented represent the Company’s best estimates and may not be substantiated by comparisons to independent markets. The fair value of the debentures payable and the term loan from principal shareholder are categorized as Level 3, since they were based on current market rates offered for debt with similar risks and maturities, an unobservable input categorized as Level 3. Carrying values of certain financial instruments, such as cash and cash equivalents and premiums, fees, and commissions receivable, approximate fair value due to the short-term nature of the instruments and are not required to be disclosed. Therefore, the aggregate of the fair values presented in the preceding table does not purport to represent the Company’s underlying value.

The following tables present the fair-value measurements for each major category of assets that are measured on a recurring basis (in thousands). Other investments are carried at net asset value which approximates fair value.

 

 

 

 

 

 

 

Fair Value Measurements Using

 

 

 

 

 

 

 

Quoted Prices

 

 

Significant

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

in Active

 

 

Other

 

 

Significant

 

 

Proportionate

 

 

 

 

 

 

 

Markets for

 

 

Observable

 

 

Unobservable

 

 

Share of

 

 

 

 

 

 

 

Identical Assets

 

 

Inputs

 

 

Inputs

 

 

Net Assets

 

June 30, 2017

 

Total

 

 

(Level 1)

 

 

(Level 2)

 

 

(Level 3)

 

 

(NAV)

 

Fixed maturities, available-for-sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agencies

 

$

19,499

 

 

$

19,499

 

 

$

 

 

$

 

 

$

 

Political subdivisions

 

 

4,183

 

 

 

 

 

 

4,183

 

 

 

 

 

 

 

Revenue and assessment

 

 

5,463

 

 

 

 

 

 

5,463

 

 

 

 

 

 

 

Corporate bonds

 

 

44,829

 

 

 

 

 

 

44,829

 

 

 

 

 

 

 

Collateralized mortgage obligations:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agency backed

 

 

21,610

 

 

 

 

 

 

21,610

 

 

 

 

 

 

 

Non-agency backed – residential

 

 

2,765

 

 

 

 

 

 

2,765

 

 

 

 

 

 

 

Non-agency backed – commercial

 

 

1,710

 

 

 

 

 

 

1,710

 

 

 

 

 

 

 

Total fixed maturities, available-for-sale

 

 

100,059

 

 

 

19,499

 

 

 

80,560

 

 

 

 

 

 

 

Preferred stocks, available-for-sale

 

 

3,266

 

 

 

3,266

 

 

 

 

 

 

 

 

 

 

Mutual funds, available-for-sale

 

 

12,687

 

 

 

12,687

 

 

 

 

 

 

 

 

 

Total investments, available-for-sale

 

 

116,012

 

 

 

35,452

 

 

 

80,560

 

 

 

 

 

 

 

Other investments

 

 

10,468

 

 

 

 

 

 

 

 

 

5,252

 

 

 

5,216

 

Cash, cash equivalents, and restricted cash

 

 

125,530

 

 

 

125,530

 

 

 

 

 

 

 

 

 

 

Total

 

$

252,010

 

 

$

160,982

 

 

$

80,560

 

 

$

5,252

 

 

$

5,216

 

 

 

5


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

 

 

 

 

 

 

Fair Value Measurements Using

 

 

 

 

 

 

 

Quoted Prices

 

 

Significant

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

in Active

 

 

Other

 

 

Significant

 

 

Proportionate

 

 

 

 

 

 

 

Markets for

 

 

Observable

 

 

Unobservable

 

 

Share of

 

 

 

 

 

 

 

Identical Assets

 

 

Inputs

 

 

Inputs

 

 

Net Assets

 

December 31, 2016

 

Total

 

 

(Level 1)

 

 

(Level 2)

 

 

(Level 3)

 

 

(NAV)

 

Fixed maturities, available-for-sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agencies

 

$

18,951

 

 

$

18,951

 

 

$

 

 

$

 

 

$

 

Political subdivisions

 

 

4,165

 

 

 

 

 

 

4,165

 

 

 

 

 

 

 

Revenue and assessment

 

 

5,683

 

 

 

 

 

 

5,683

 

 

 

 

 

 

 

Corporate bonds

 

 

45,540

 

 

 

 

 

 

45,540

 

 

 

 

 

 

 

Collateralized mortgage obligations:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agency backed

 

 

22,422

 

 

 

 

 

 

22,422

 

 

 

 

 

 

 

Non-agency backed – residential

 

 

2,933

 

 

 

 

 

 

2,933

 

 

 

 

 

 

 

Non-agency backed – commercial

 

 

1,895

 

 

 

 

 

 

1,895

 

 

 

 

 

 

 

Total fixed maturities, available-for-sale

 

 

101,589

 

 

 

18,951

 

 

 

82,638

 

 

 

 

 

 

 

Preferred stocks, available-for-sale

 

 

3,112

 

 

 

3,112

 

 

 

 

 

 

 

 

 

 

Mutual funds, available-for-sale

 

 

12,511

 

 

 

12,511

 

 

 

 

 

 

 

 

 

Total investments, available-for-sale

 

 

117,212

 

 

 

34,574

 

 

 

82,638

 

 

 

 

 

 

 

Other investment

 

 

9,994

 

 

 

 

 

 

 

 

 

4,858

 

 

 

5,136

 

Cash, cash equivalents, and restricted cash

 

 

118,681

 

 

 

118,681

 

 

 

 

 

 

 

 

 

 

Total

 

$

245,887

 

 

$

153,255

 

 

$

82,638

 

 

$

4,858

 

 

$

5,136

 

The fair values of the Company’s investments are determined by management after taking into consideration available sources of data. All of the portfolio valuations classified as Level 1 or Level 2 in the above tables are priced exclusively by utilizing the services of independent pricing sources using observable market data. The Level 2 classified security valuations are obtained from a single independent pricing service. The Level 3 classified security in the table above consists of an investment in the common stock of a real estate investment trust for which fair value has been determined using a model driven valuation that does not have observable market data. There were no transfers between Level 1 and Level 2 for the three and six months ended June 30, 2017 and 2016. The Company’s policy is to recognize transfers between levels at the end of the reporting period based on specific identification. The Company has not made any adjustments to the prices obtained from the independent pricing sources.

The Company has reviewed the pricing techniques and methodologies of the independent pricing service for Level 2 investments and believes that its policies adequately consider market activity, either based on specific transactions for the security valued or based on modeling of securities with similar credit quality, duration, yield and structure that were recently traded. The Company monitored security-specific valuation trends and has made inquiries with the pricing service about material changes or the absence of expected changes to understand the underlying factors and inputs and to validate the reasonableness of the pricing.  Likewise, the Company reviews the Level 3 valuation model to understand the underlying factors and inputs and to validate the reasonableness of the pricing.

 


6


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

The following table represents the quantitativ e disclosure for the asset classified as Level 3 during the six months ended June 30, 2017 (in thousands).

 

 

 

Fair Value

 

 

 

Measurements Using

 

 

 

Significant Unobservable

 

 

 

Inputs (Level 3)

 

 

 

 

 

 

 

 

Common Stock

 

 

 

at Fair Value

 

Balance at December 31, 2016

 

$

4,858

 

Gains included in net loss

 

 

 

Gains included in comprehensive income (loss)

 

 

317

 

Investments and capital calls

 

 

77

 

Distributions received

 

 

 

Transfers into and out of Level 3

 

 

 

Balance at June 30, 2017

 

$

5,252

 

 

3. Investments

Investments, Available-for-Sale

The following tables summarize the Company’s investment securities (in thousands).

 

 

 

 

Gross

 

Gross

 

 

 

 

Amortized

 

Unrealized

 

Unrealized

 

Fair

June 30, 2017

 

Cost

 

Gains

 

Losses

 

Value

U.S. government and agencies

 

$       19,641

 

$                 96

 

$              (238)

 

$          19,499

Political subdivisions

 

4,173

 

10

 

 

4,183

Revenue and assessment

 

5,255

 

208

 

 

5,463

Corporate bonds

 

45,908

 

67

 

(1,146)

 

44,829

Collateralized mortgage obligations:

 

 

 

 

 

 

 

 

Agency backed

 

22,149

 

68

 

(607)

 

21,610

Non-agency backed – residential

 

2,213

 

560

 

(8)

 

2,765

Non-agency backed – commercial

 

1,056

 

654

 

 

1,710

Total fixed maturities, available-for-sale

 

100,395

 

1,663

 

(1,999)

 

100,059

Preferred stocks, available-for-sale

 

3,025

 

281

 

(40)

 

3,266

Mutual funds, available-for-sale

 

11,813

 

874

 

 

 

12,687

 

 

$        115,233

 

$            2,818

 

$           (2,039)

 

$        116,012

 

 

 

 

 

 

 

Gross

 

 

Gross

 

 

 

 

 

 

 

Amortized

 

 

Unrealized

 

 

Unrealized

 

 

Fair

 

December 31, 2016

 

Cost

 

 

Gains

 

 

Losses

 

 

Value

 

U.S. government and agencies

 

$

19,142

 

 

$

112

 

 

$

(303

)

 

$

18,951

 

Political subdivisions

 

 

4,233

 

 

 

 

 

 

(68

)

 

 

4,165

 

Revenue and assessment

 

 

5,539

 

 

 

185

 

 

 

(41

)

 

 

5,683

 

Corporate bonds

 

 

47,238

 

 

 

107

 

 

 

(1,805

)

 

 

45,540

 

Collateralized mortgage obligations:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agency backed

 

 

23,093

 

 

 

73

 

 

 

(744

)

 

 

22,422

 

Non-agency backed – residential

 

 

2,411

 

 

 

529

 

 

 

(7

)

 

 

2,933

 

Non-agency backed – commercial

 

 

1,408

 

 

 

487

 

 

 

 

 

 

1,895

 

Total fixed maturities, available-for-sale

 

 

103,064

 

 

 

1,493

 

 

 

(2,968

)

 

 

101,589

 

Preferred stocks, available-for-sale

 

 

3,025

 

 

 

198

 

 

 

(111

)

 

 

3,112

 

Mutual funds, available-for-sale

 

 

11,813

 

 

 

698

 

 

 

 

 

 

12,511

 

 

 

$

117,902

 

 

$

2,389

 

 

$

(3,079

)

 

$

117,212

 

7


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

The following table sets forth the scheduled maturities of the Company’s fixed maturity securities based on their fair values (in thousands). Actual maturities may differ from contractual maturities because certain securities may be called or prepaid by the issuers.

 

 

 

 

 

 

 

 

 

 

 

Securities

 

 

 

 

 

 

 

Securities

 

 

Securities

 

 

with No

 

 

All

 

 

 

with

 

 

with

 

 

Unrealized

 

 

Fixed

 

 

 

Unrealized

 

 

Unrealized

 

 

Gains or

 

 

Maturity

 

June 30, 2017

 

Gains

 

 

Losses

 

 

Losses

 

 

Securities

 

One year or less

 

$

1,779

 

 

$

3,574

 

 

$

 

 

$

5,353

 

After one through five years

 

 

12,802

 

 

 

17,345

 

 

 

 

 

 

30,147

 

After five through ten years

 

 

2,844

 

 

 

30,879

 

 

 

 

 

 

33,723

 

After ten years

 

 

4,751

 

 

 

 

 

 

 

 

 

4,751

 

No single maturity date

 

 

4,818

 

 

 

21,267

 

 

 

 

 

 

26,085

 

 

 

$

26,994

 

 

$

73,065

 

 

$

 

 

$

100,059

 

 

The following table reflects the number of fixed maturity securities with gross unrealized gains and losses. Gross unrealized losses are further segregated by the length of time that individual securities have been in a continuous unrealized loss position.

 

 

 

Gross Unrealized Losses

 

 

 

 

 

 

 

Less than

 

 

Greater

 

 

Gross

 

 

 

or equal to

 

 

than 12

 

 

Unrealized

 

At:

 

12 months

 

 

months

 

 

Gains

 

June 30, 2017

 

 

36

 

 

 

1

 

 

 

39

 

December 31, 2016

 

 

37

 

 

 

 

 

 

40

 

 

The following table reflects the fair value and gross unrealized losses of those fixed maturity securities in a continuous unrealized loss position for greater than 12 months at June 30, 2017. There were no securities meeting these criteria at December 31, 2016. Gross unrealized losses are further segregated by the percentage of amortized cost (in thousands, except number of securities).

  

 

 

 

Number

 

 

 

 

 

 

Gross

 

Gross Unrealized Losses

 

of

 

 

Fair

 

 

Unrealized

 

at June 30, 2017:

 

Securities

 

 

Value

 

 

Losses

 

Less than or equal to 10%

 

 

1

 

 

$

108

 

 

$

(4

)

Greater than 10%

 

 

 

 

 

 

 

 

 

 

 

 

1

 

 

$

108

 

 

$

(4

)

 


8


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

The following tables set forth the amount of gross unrealized losses by current severity (as compared to amortized cost) and length of time that individual securities have been in a continuous unrealized loss position (in thousands).

 

 

 

Fair Value of

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Securities with

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Length of

 

Gross

 

 

Gross

 

 

Severity of Gross Unrealized Losses

 

Gross Unrealized Losses

 

Unrealized

 

 

Unrealized

 

 

Less

 

 

5% to

 

 

Greater

 

at June 30, 2017:

 

Losses

 

 

Losses

 

 

than 5%

 

 

 

10%

 

 

than 10%

 

Less than or equal to:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months

 

$

12,453

 

 

$

(39

)

 

$

(39

)

 

$

 

 

$

 

Six months

 

 

299

 

 

 

(3

)

 

 

(3

)

 

 

 

 

 

 

Nine months

 

 

34,834

 

 

 

(983

)

 

 

(983

)

 

 

 

 

 

 

Twelve months

 

 

27,008

 

 

 

(1,010

)

 

 

(839

)

 

 

(171

)

 

 

 

Greater than twelve months

 

 

108

 

 

 

(4

)

 

 

(4

)

 

 

 

 

 

 

Total

 

$

74,702

 

 

$

(2,039

)

 

$

(1,868

)

 

$

(171

)

 

$

 

 

 

 

Fair Value of

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Securities with

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Length of

 

Gross

 

 

Gross

 

 

Severity of Gross Unrealized Losses

 

Gross Unrealized Losses

 

Unrealized

 

 

Unrealized

 

 

Less

 

 

5% to

 

 

Greater

 

at December 31, 2016:

 

Losses

 

 

Losses

 

 

than 5%

 

 

 

10%

 

 

than 10%

 

Less than or equal to:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months

 

$

58,550

 

 

$

(1,886

)

 

$

(1,461

)

 

$

(425

)

 

$

 

Six months

 

 

27,193

 

 

 

(1,186

)

 

 

(232

)

 

 

(954

)

 

 

 

Nine months

 

 

152

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Twelve months

 

 

105

 

 

 

(7

)

 

 

 

 

 

(7

)

 

 

 

Greater than twelve months

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

86,000

 

 

$

(3,079

)

 

$

(1,693

)

 

$

(1,386

)

 

$

-

 

 

Other-Than-Temporary Impairment

For the six months ended June 30, 2017, the Company did not recognize any OTTI charges in net income (loss).

The Company believes that the securities having unrealized losses at June 30, 2017 were not other-than-temporarily impaired. The Company also does not intend to sell any of these securities and it is more likely than not that the Company will not be required to sell any of these securities before the recovery of their amortized cost basis.

For the six months ended June 30, 2016, the Company recognized OTTI charges in net income (loss) of $147 thousand related to one mutual fund.

Other Investments

Other investments consist of the common stock of a real estate investment trust and limited partnership interests in three funds that invest in (i) commercial real estate and secured commercial real estate loans acquired from financial intuitions, (ii) undervalued international publicly-traded equities and (iii)a pre-identified pool of select buyout private equity funds. These investments have redemption and transfer restrictions. The Company does not intend to sell these investments, and it is more likely than not that the Company will not be required to sell them before the expiration of such restrictions. At June 30, 2017, the Company had unfunded commitments to invest $2.5 million into two of these investments.

Restrictions

At June 30, 2017, fixed maturities and cash equivalents with a fair value and amortized cost of $6.4 million were on deposit with various insurance departments as a requirement of doing business in those states. Cash equivalents with a fair value and amortized cost of $17.2 million were on deposit with another insurance company as collateral for an assumed reinsurance contract.


9


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

Investment Income and Net Realized Gains and Losses

The major categories of investment income follow (in thousands).

 

 

 

Three Months Ended

 

 

Six Months Ended

 

 

 

June 30,

 

 

June 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Fixed maturities, available-for-sale

 

$

616

 

 

$

981

 

 

$

1,239

 

 

$

1,951

 

Mutual funds, available-for-sale

 

 

158

 

 

 

160

 

 

 

320

 

 

 

366

 

Preferred stocks

 

 

44

 

 

 

25

 

 

 

89

 

 

 

49

 

Other investments

 

 

194

 

 

 

525

 

 

 

343

 

 

 

355

 

Cash and cash equivalents

 

 

217

 

 

 

66

 

 

 

376

 

 

 

107

 

Other

 

 

17

 

 

 

14

 

 

 

31

 

 

 

27

 

Investment expenses

 

 

(123

)

 

 

(125

)

 

 

(242

)

 

 

(247

)

 

 

$

1,123

 

 

$

1,646

 

 

$

2,156

 

 

$

2,608

 

 

The components of net realized gains (losses) on investments, available-for-sale at fair value follow (in thousands).

 

 

 

Three Months Ended

 

 

Six Months Ended

 

 

 

June 30,

 

 

June 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Gains

 

$

8

 

 

$

 

 

$

8

 

 

$

 

Losses

 

 

(3

)

 

 

(15

)

 

 

(8

)

 

 

(17

)

Other-than-temporary impairment

 

 

 

 

 

(147

)

 

 

 

 

 

(147

)

 

 

$

5

 

 

$

(162

)

 

$

-

 

 

$

(164

)

 

Realized gains and losses on sales and redemptions are computed based on specific identification. The non-credit related portion of other-than-temporary impairment (“OTTI”) is included in other comprehensive loss. The amounts of non-credit OTTI for securities still owned was $1.1 million at both June 30, 2017 and December 31, 2016.

 

4. Net Loss Per Share

The following table sets forth the computation of basic and diluted net loss per share (in thousands, except per share data).

 

 

 

Three Months Ended

 

 

Six Months Ended

 

 

 

June 30,

 

 

June 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Net loss

 

$

(903

)

 

$

(19,899

)

 

$

(173

)

 

$

(25,404

)

Weighted average common basic shares

 

 

41,164

 

 

 

41,064

 

 

 

41,162

 

 

 

41,062

 

Effect of dilutive securities

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average common dilutive shares

 

 

41,164

 

 

 

41,064

 

 

 

41,162

 

 

 

41,062

 

Basic and diluted net loss per share

 

$

(0.02

)

 

$

(0.48

)

 

$

(0.00

)

 

$

(0.62

)

 

On May 9, 2017, the Compensation Committee of the Board of Directors of the Company awarded 500 thousand restricted stock units to an executive officer. Such restricted stock units will vest, and an equal number of shares of common stock will be deliverable upon the third anniversary of the date of grant. Compensation expense related to the units of $590 thousand was calculated based upon the closing market price of the common stock on the date of grant ($1.18) and is recorded on a straight-line basis over the vesting period.

 

For the three and six months ended June 30, 2017, the computation of diluted net loss per share did not include 576 thousand     restricted stock units having dilutive effects of 37 and 39 thousand shares, respectively, since their inclusion would have been anti-dilutive. Options to purchase 120 thousand shares and 93 thousand restricted stock units were not included in the computation of diluted net income per share for these periods, since the exercise price of the stock options was in excess of the average stock price for this period and the inclusion of the restricted stock units would have been anti-dilutive.

10


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

For the three and six months ended June 30, 2016 , the computation of diluted net loss per share did not include options to purchase 825 thousand shares and 270 thousand restricted stock units, a dilutive effect of 180 thousand shares and 237 thousand shares, respectively, since their inclusion would have been anti-dilutive. Options to purchase 24 0 thousand shares were not included in the computation of diluted net loss per share for the three and six months ended June 30, 2016 , since their exercise price was in excess of the aver age st ock price for these period s .     

 

5. Losses and Loss Adjustment Expenses Incurred and Paid

Information regarding the reserve for unpaid losses and loss adjustment expenses (“LAE”) is as follows (in thousands).

 

 

Three Months Ended

 

 

Six Months Ended

 

 

 

June 30,

 

 

June 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Liability for unpaid losses and LAE at beginning of period, gross

 

$

156,410

 

 

$

132,650

 

 

$

161,079

 

 

$

122,071

 

Reinsurance balances receivable

 

 

(763

)

 

 

(491

)

 

 

(769

)

 

 

(464

)

Liability for unpaid losses and LAE at beginning of period, net

 

 

155,647

 

 

 

132,159

 

 

 

160,310

 

 

 

121,607

 

Add: Provision for losses and LAE:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current period

 

 

62,599

 

 

 

74,974

 

 

 

119,665

 

 

 

143,173

 

Prior periods

 

 

207

 

 

 

25,791

 

 

 

(579

)

 

 

31,011

 

Net losses and LAE incurred

 

 

62,806

 

 

 

100,765

 

 

 

119,086

 

 

 

174,184

 

Less: Losses and LAE paid:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current period

 

 

30,182

 

 

 

40,345

 

 

 

46,319

 

 

 

58,750

 

Prior periods

 

 

26,833

 

 

 

27,241

 

 

 

71,639

 

 

 

71,703

 

Net losses and LAE paid

 

 

57,015

 

 

 

67,586

 

 

 

117,958

 

 

 

130,453

 

Liability for unpaid losses and LAE at end of period, net

 

 

161,438

 

 

 

165,338

 

 

 

161,438

 

 

 

165,338

 

Reinsurance balances receivable

 

 

794

 

 

 

674

 

 

 

794

 

 

 

674

 

Liability for unpaid losses and LAE at end of period, gross

 

$

162,232

 

 

$

166,012

 

 

$

162,232

 

 

$

166,012

 

 

The development for the three and six months ended June 30, 2017 was the net result of favorable LAE development related to bodily injury claims over multiple prior accident periods, offset by unfavorable development on losses related to bodily injury severity related to the 2016 and 2017 accident years.  

The unfavorable development for the three and six months ended June 30, 2016 was the result of increased losses primarily from the 2015 accident year across all major coverages. The most significant causes of the development were a greater than usual emergence of reported claims and higher bodily injury severity.

.

 

11


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

6 . Income Taxe s

The (benefit) provision for income taxes consisted of the following (in thousands).

 

 

 

Three Months Ended

 

 

Six Months Ended

 

 

 

June 30,

 

 

June 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Federal:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current

 

$

(92

)

 

$

 

 

$

30

 

 

$

 

Deferred

 

 

(398

)

 

 

(10,665

)

 

 

229

 

 

 

(13,627

)

 

 

 

(490

)

 

 

(10,665

)

 

 

259

 

 

 

(13,627

)

State:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current

 

 

(70

)

 

 

60

 

 

 

10

 

 

 

159

 

Deferred

 

 

(17

)

 

 

(103

)

 

 

 

 

 

(109

)

 

 

 

(87

)

 

 

(43

)

 

 

10

 

 

 

50

 

 

 

$

(577

)

 

$

(10,708

)

 

$

269

 

 

$

(13,577

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The (benefit) provision for income taxes differs from the amounts computed by applying the statutory federal corporate tax rate of 35% to loss before income taxes as a result of the following (in thousands).

 

 

Three Months Ended

 

 

Six Months Ended

 

 

 

June 30,

 

 

June 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

(Benefit) provision for income taxes at statutory rate

 

$

(518

)

 

$

(10,712

)

 

$

34

 

 

$

(13,643

)

Tax effect of:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Tax-exempt investment income

 

 

 

 

 

(10

)

 

 

 

 

 

(20

)

Stock option expirations

 

 

 

 

 

13

 

 

 

229

 

 

 

17

 

State income taxes, net of federal income tax benefit

   and state valuation allowance

 

 

(63

)

 

 

(65

)

 

 

6

 

 

 

(6

)

Other

 

 

4

 

 

 

66

 

 

 

 

 

 

75

 

 

 

$

(577

)

 

$

(10,708

)

 

$

269

 

 

$

(13,577

)

 

The Company had a deferred tax asset (“DTA”) valuation allowance of $1.8 million at both June 30, 2017 and  December 31, 2016, attributable to certain amounts related to state taxes and OTTI that are not more likely than not to be realized. In assessing the Company’s ability to realize the DTA, both positive and negative evidence are used to evaluate the allowance. Although the Company incurred a 2016 pre-tax loss of $45.1 million which is a source of negative evidence, it placed greater weight on its outlook for future taxable income over the allowable time period for realization of the DTA and concluded that it is more likely than not that the remaining DTA will be realized. Regarding the length of time available to realize the DTA, at June 30, 2017, $23.8 million of the DTA related to net operating loss carryforwards do not expire until 2031 through 2036 and $2.0 million in AMT (“Alternative Minimum Tax”) carryforwards have no expiration date. The DTA valuation allowance may be adjusted in future periods if management determines that it is more likely than not that some portion or all of the DTA will not be realized. In the event the DTA valuation allowance is increased, the Company would record an income tax expense for the adjustment.

 

12


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

7 . Segment Information

The Company operates in two business segments with its primary focus being the selling, servicing and underwriting of non-standard personal automobile insurance. The real estate and corporate segment consists of the activities related to the disposition of foreclosed real estate held for sale and other operating expenses not directly related to the insurance operations, interest expense and stock-based compensation, offset by investment income on corporate invested assets.

The following table presents selected financial data by business segment (in thousands).

 

 

 

Three Months Ended

 

 

Six Months Ended

 

 

 

June 30,

 

 

June 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Revenues:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Insurance

 

$

91,394

 

 

$

101,501

 

 

$

179,447

 

 

$

198,434

 

Real estate and corporate

 

 

17

 

 

 

1,253

 

 

 

33

 

 

 

1,268

 

Consolidated total

 

$

91,411

 

 

$

102,754

 

 

$

179,480

 

 

$

199,702

 

(Loss) income before income taxes:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Insurance

 

$

(26

)

 

$

(30,434

)

 

$

2,942

 

 

$

(37,455

)

Real estate and corporate

 

 

(1,454

)

 

 

(173

)

 

 

(2,846

)

 

 

(1,526

)

Consolidated total

 

$

(1,480

)

 

$

(30,607

)

 

$

96

 

 

$

(38,981

)

 

 

 

June 30,

 

 

December 31,

 

 

 

2017

 

 

2016

 

Total assets:

 

 

 

 

 

 

 

 

Insurance

 

$

369,700

 

 

$

354,008

 

Real estate and corporate

 

 

45,128

 

 

 

46,066

 

Consolidated total

 

$

414,828

 

 

$

400,074

 

 

8. Litigation

The Company is named as a defendant in various lawsuits, arising in the ordinary course of business, generally relating to its insurance operations. All legal actions relating to claims made under insurance policies are considered by the Company in establishing its loss and loss adjustment expense reserves. The Company also faces lawsuits from time to time that seek damages beyond policy limits, commonly known as bad faith claims, as well as class action and individual lawsuits that involve issues arising in the course of the Company’s business. The Company continually evaluates potential liabilities and reserves for litigation of these types using the criteria established by FASB ASC 450, Contingencies (“FASB ASC 450”). Pursuant to FASB ASC 450, reserves for a loss may only be recognized if the likelihood of occurrence is probable and the amount can be reasonably estimated. If a loss, while not probable, is judged to be reasonably possible, management will disclose, if it can be estimated, a possible range of loss or state that an estimate cannot be made. Management evaluates each legal action and records reserves for losses, as warranted, by establishing a reserve in its consolidated balance sheets in loss and loss adjustment expense reserves for bad faith claims and in other liabilities for other lawsuits. Amounts incurred are recorded in the Company’s consolidated statements of comprehensive income (loss) in losses and loss adjustment expenses for bad faith claims and in insurance operating expenses for other lawsuits unless otherwise disclosed.

 

9. Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (“FASB”) and the International Accounting Standards Board (“IASB”) jointly issued a new revenue recognition standard, Accounting Standard Update (“ASU”) No. 2014-09, “ Revenue from Contracts with Customers,” that will supersede virtually all revenue recognition guidance in GAAP and International Financial Reporting Standards (“IFRS”). This guidance had an effective date for public companies for annual and interim periods beginning after December 15, 2016, with early adoption not permitted. In July 2015, the FASB issued a one-year deferral of this effective date with the option for entities to early adopt at the original effective date. The standard is intended to increase comparability across industries and jurisdictions. The underlying principle of the new standard is that a business or other organization will recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects what it expects in exchange for the goods or services. The new standard will not change accounting guidance for insurance contracts. However, the Company has revenue from non-insurance arrangements which falls under this guidance, as would the sale of the Company’s tract of land that is held for sale. The Company is currently evaluating the applicability of this guidance to the various types of fee income related to its insurance contracts.

13


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

Approximately 20% of t he Company’s total revenues may be subject to the guidance in ASU No. 2014-09. Historically, approximately 40% of these revenues are in the form of commissions paid by third party insurance carriers which are earned upon the effective date of bound coverag e, less an estimated allowance for return commissions based upon historical experience, since no significant performance obligation remains in these arrangements after coverage is bound and the control of the underlying insurance policy is transferred to t he customer. Approximately 25% of these revenues are in the form of commissions paid by a third - party entity on the sales of ancillary insurance products that are earned on a pro-rata basis over the life of the underlying contracts, since the Company has a contractual performance obligation for these contracts. Approximately 3 5% of these r evenues are derived from various fees related to insurance contracts that are recognized into income as the related services are performed and c osts are incurred.     

The Company has not finalized the impact, if any, on our consolidated financial statements at this time. However, based on our initial evaluation of this guidance, including contract reviews, the Company does not expect the future impacts to be material.

In January 2016, the FASB issued ASU No. 2016-01, “ Financial Instruments – Overall (Subtopic 825-20): Recognition and Measure of Financial Assets and Financial Liabilities ” which requires entities to measure many equity investments at fair value and recognize changes in fair value in net income (loss), as opposed to the current practice of other comprehensive income (loss). The guidance provides a new measurement alternative for equity investments that do not have readily determinable fair values and do not qualify for the net asset value practical expedient. Under this alternative, these investments can be measured at cost, less any impairment, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. The guidance is effective for public business entities for annual periods beginning after December 15, 2017, and interim periods within those years. The Company has not determined the impact on future consolidated financial statements once this is adopted.

In February 2016, the FASB issued ASU No. 2016-02, “ Leases (Topic 842) ” which requires lessees to record most leases on their balance sheets as lease liabilities with corresponding right-of-use assets, but recognize expense in a manner similar to the current accounting treatment. The guidance is effective for public business entities for annual periods beginning after December 15, 2018, and interim periods within those years. Early adoption is permitted. Entities are required to use a modified retrospective approach for leases that exist or are entered into after the beginning of the earliest comparative period in their financial statements. The Company’s lease arrangements fall under this guidance and will be required to be shown on its consolidated balance sheet. The Company is currently evaluating controls and processes to ensure this guidance is reflected properly on future consolidated financial statements and expects to adopt this guidance in its consolidated balance sheet as of March 31 2019 along with a corresponding restatement of its consolidated balance sheet as of March 31, 2018, As detailed in Note 8 of the 2016 10-K, the undiscounted contractual cash payments remaining on leased properties was $16.8 million as of December 31, 2017.  

In March 2016, the FASB issued ASU No. 2016-09, “ Improvements to Employee Share-Based Payment Accounting ” which addressed the recognition, presentation and classification of awards, forfeitures and shares withheld for tax purposes. The standard was effective for fiscal periods beginning after December 15, 2016, with each provision having a different application method. The adoption of this standard effective January 1, 2017 did not have a material impact on our consolidated financial statements.

In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments – Credit Losses (Topic 326)” which requires financial assets measured at amortized cost basis to be presented at the net amount expected to be collected. The allowance for credit losses will be based on relevant information, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. The expected increases and decreases in the credit loss will be reflected on the consolidated statement of comprehensive income (loss). The guidance is effective for public business entities for annual periods beginning after December 15, 2019, and interim periods within those years. Early adoption is permitted. The Company has not determined the impact on future consolidated financial statements once this is adopted.

In August 2016, the FASB issued ASU No. 2016-15, “Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments” which clarifies how entities should classify certain cash receipts and cash payments, including how the predominance principle should be applied when cash receipts and cash payments have aspects of more than one class of cash flows. The guidance is effective for public business entities for fiscal years beginning after December 15, 2017, and interim periods within those years. Early adoption is permitted. Entities will have to apply the guidance retrospectively, but if it is impracticable to do so for an issue, the amendments related to that issue would be applied prospectively. The Company has not determined the impact on future consolidated financial statements once this is adopted.

In January 2017, the FASB issued ASU No. 2017-04, “Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment” which eliminates the requirement to calculate the implied fair value of goodwill to measure an impairment charge. Instead, entities will record an impairment charge based on the excess of a reporting unit’s carrying amount over its fair value.

14


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

The standard will be applied prospectively. The guidance is effective for annual and interim impairment tests performed by public business entities for periods beginning after December 15, 2019. Early adoption is permitted for impairment testing dates after January 1, 2017. The Company believes that it will be reasonably able to comply with these requirements.

In April 2017, the FASB issued ASU No. 2017-08, “Receivables-Nonrefundable Fees and Other Costs (Subtopic 310-20), Premium Amortization on Purchased Callable Debt Securities” which shortens the amortization period for the premium on certain purchased callable debt securities to the earliest call date instead of the current practice of amortizing the premium as a yield adjustment over the contractual life of the security. The guidance is effective for public business entities for periods beginning after December 15, 2018. Early adoption is permitted. The guidance calls for a modified retrospective transition approach under which a cumulative-effect adjustment will be made to retained earnings as of the beginning of the first reporting period in which the guidance is adopted. The Company believes that it will be reasonably able to comply with these requirements and has not determined the impact on future consolidated financial statements once this is adopted.

In May 2017, the FASB issued ASU No. 2017-09, “Compensation-Stock Compensation (Topic 718), Scope of Modification Accounting” that clarifies when changes to the terms or conditions of a share-based payment award must be accounted for as modifications. The new guidance will provide relief to entities that make non-substantive changes to their share-based payment awards. The guidance is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2017. Early adoption is permitted, including adoption in any interim period. The Company currently has no intentions to modify any of its currently outstanding share-based payment awards, however, it would likely consider early adoption of this guidance upon any such occurrence.

 

10. Related Parties

On June 29, 2015, to finance the acquisition of the Titan Agencies, the Company borrowed the full amount under a $30 million Loan Agreement (the “Loan Agreement”) with Diamond Family Investments, LP, an affiliate of Gerald J. Ford, the Company’s controlling stockholder.  The Loan Agreement provided a $30 million interest-only senior term loan facility, maturing in full on June 29, 2025. Commencing June 29, 2016, the Company has the right to prepay the loan in whole or in part, in cash, without premium or penalty, upon written notice to the lender. Amounts prepaid under the Loan Agreement may not be reborrowed. The term loan outstanding under the Loan Agreement bears interest at a rate of 8% per annum. The Loan Agreement contains certain representations, warranties and covenants. The Loan Agreement also contains customary events of default, including but not limited to: nonpayment; material inaccuracy of representations and warranties; violations of covenants; cross-default to material indebtedness; certain material judgments; certain bankruptcies and liquidations; invalidity of the loan documents and related events; and a change of control (as defined in the Loan Agreement).

In April 2016, the Company entered into standard agreements for treasury and investment custodial services with a bank in which our principal shareholder has a 15% indirect ownership interest. The fees under these agreements for the three and six months ended June 30, 2017 were $42 thousand and $91 thousand, respectively, and $32 thousand for the three months ended June 30, 2016.

 

11. Current Liquidity and Statutory Capital and Surplus

The Company has $70.0 million in long-term borrowings of which $40.0 million matures in 2037 and $30.0 million matures in 2025. At June 30, 2017, the Company was in compliance with the covenants related to these borrowings. Such borrowings are not obligations of the Company’s regulated insurance company subsidiaries who at June 30, 2017 had combined statutory capital and surplus of $60.6 million. The Company believes that it has sufficient liquidity to meet its current obligations in the foreseeable future, including the payment of interest on its long-term borrowings which it currently funds through the cash flows of its agency operations which are generated outside the Company’s regulated insurance company subsidiaries and are not subject to any limitation on the payment of dividends to the holding company.

The Company has three insurance company subsidiaries that are organized and domiciled under the insurance statutes of Texas, Georgia, and Tennessee. The insurance company subsidiaries operate under licenses issued by various state insurance authorities. Such licenses may be of perpetual duration or periodically renewable, provided the insurance company subsidiaries continue to meet applicable regulatory requirements.

15


FIRST ACCEPTANCE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 

The National Association of Insurance Commissioners (“NAIC”) Model Act for risk-based capital provides formulas to determine each December 31 on an annual basis the amount of statutory capital and surplus that an insurance company needs to ensure that it has an acceptable expectation of not becoming financially impaired. Failure to meet applicable risk-based capital requirements could subject our insurance company subsidiar ies to further examination or corrective action imposed by state regulators, including limitations on their writing of additional business, state supervision, or even liquidation. Although statutory risk-based capital calculations are only made as of each December 31, the Company estimated that the three insurance company subsidiaries are above the regulatory company action levels as of June 30, 2017 . There are also statutory guidelines that suggest that on an annual calendar year basis an insurance company should not exceed a ratio of net premiums written to statutory capital and surplus of 3-to-1. On a combined basis, the ratio for our insurance company subsidiaries of net premiums written for the last twelve months to statutory capital and surplus was 4.7 -to-1 at June 30, 2017 which is in excess of the suggested guidelines. Management is currently operating under a business plan to reduce premium writings and increase statutory capital and surplus to address the net premiums written to statutory capital an d surplus guidelines.

 

16


 

FIRST ACCEPTANCE CORPORATION 10-Q

 

Item 2. Management’s Discuss ion and Analysis of Financial Condition and Results of Operations

Management’s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements which involve risks and uncertainties. Our actual results may differ significantly from the results discussed in the forward-looking statements. Factors that might cause such a difference include those discussed in Item 1A. “Risk Factors” in our Annual Report on Form 10-K for year ended December 31, 2016. The following discussion should be read in conjunction with our consolidated financial statements included with this report and our consolidated financial statements and related Management’s Discussion and Analysis of Financial Condition and Results of Operations for year ended December 31, 2016 included in our Annual Report on Form 10-K for the year ended December 31, 2016.

Forward-Looking Statements

This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. All statements made in this report, other than statements of historical fact, are forward-looking statements. You can identify these statements from our use of the words “may,” “should,” “could,” “potential,” “continue,” “plan,” “forecast,” “estimate,” “project,” “believe,” “intent,” “anticipate,” “expect,” “target,” “is likely,” “will,” or the negative of these terms and similar expressions. These statements are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements may include, among other things, statements and assumptions relating to:

 

the accuracy and adequacy of our loss reserving methodologies;

 

income (loss), income (loss) per share and other financial performance measures;

 

the anticipated effects on our results of operations or financial condition from recent and expected developments or events;

 

the financial condition of, and other issues relating to the strength of and liquidity available to, issuers of securities held in our investment portfolio;

 

and our business and growth strategies.

We believe that our expectations are based on reasonable assumptions. However, these forward-looking statements involve known and unknown risks, uncertainties and other important factors that could cause our actual results, performance or achievements, or industry results to differ materially from our expectations of future results, performance or achievements expressed or implied by these forward-looking statements. In addition, our past results of operations do not necessarily indicate our future results. We discuss these and other uncertainties in “Item 1A. Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2016.

You should not place undue reliance on any forward-looking statements. These statements speak only as of the date of this report. Except as otherwise required by applicable laws, we undertake no obligation to publicly update or revise any forward-looking statements or the risk factors described in this report, whether as a result of new information, future events, changed circumstances or any other reason after the date of this report.

 

General

We are principally a retailer, servicer and underwriter of non-standard personal automobile insurance. Non-standard personal automobile insurance is made available to individuals because of their inability or unwillingness to obtain standard insurance coverage due to various factors, including payment history, payment preference, and failure in the past to maintain continuous insurance coverage, driving record and/or vehicle type. At June 30, 2017, we also owned a tract of land in San Antonio, Texas that is held for sale.

At June 30, 2017, we leased and operated 354 retail locations (or “stores”) and a call center staffed by employee-agents who primarily sell non-standard personal automobile insurance products underwritten by us as well as certain commissionable ancillary products. In most states, our employee-agents also sell a complementary insurance product providing personal property and liability coverage for renters underwritten by us. In addition, retail locations in some markets offer non-standard personal automobile insurance serviced and underwritten by other third-party insurance carriers for which we receive a commission.


17


 

FIRST ACCEPTANCE CORPORATION 10-Q

 

Our insurance operations actively generate revenue from selling non-standard personal automobile insurance products and rela ted products in 16 states. In December 2016, we closed all of our retail locations and ceased writing new business in the state of Missouri. As a result, we currently conduct our servicing and underwriting operations in 13 states and are licensed as an ins urer in 13 additional states. After obtaining a license in California, we began selling our non-standard personal automobile insurance product in late June 2016 on a limited basis.

At June 30, 2017, 277 of our 354 stores primarily sell non-standard personal automobile insurance products underwritten by us. The other retail locations primarily offer non-standard personal automobile insurance serviced and underwritten by other third-party insurance carriers for which we receive a commission .

See the discussion in Item 1. “Business—General” in our Annual Report on Form 10-K for the year ended December 31, 2016 for additional information with respect to our business.

The following table shows the number of our retail locations. Retail location counts are based upon the date that a location commenced or ceased writing business. Since December 31, 2015, 90 locations were closed which included 53 that were part of our recent actions to improve profitability, 24 in the Chicago-area whose leases expired in January 2016, and 13 others closed in the normal course of business. During this period, 4 new locations were strategically-placed to replace and consolidate the closed Chicago-area locations.

 

 

 

Three Months Ended

 

 

Six Months Ended

 

 

 

June 30,

 

 

June 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Retail locations – beginning of period

 

 

355

 

 

 

414

 

 

 

355

 

 

 

440

 

Opened

 

 

 

 

 

2

 

 

 

 

 

 

4

 

Closed

 

 

(1

)

 

 

(6

)

 

 

(1

)

 

 

(34

)

Retail locations – end of period

 

 

354

 

 

 

410

 

 

 

354

 

 

 

410

 

The following table shows the number of our retail locations by state.

 

 

June 30,

 

December 31,

 

 

2017

 

2016

 

2016

 

2015

Alabama

 

23

 

24

 

23

 

24

Arizona

 

10

 

10

 

10

 

10

California

 

47

 

48

 

47

 

48

Florida

 

34

 

34

 

34

 

39

Georgia

 

50

 

60

 

50

 

60

Illinois

 

38

 

41

 

39

 

61

Indiana

 

16

 

17

 

16

 

17

Mississippi

 

6

 

7

 

6

 

7

Missouri

 

 

9

 

 

9

Nevada

 

4

 

4

 

4

 

4

New Mexico

 

5

 

5

 

5

 

5

Ohio

 

27

 

27

 

27

 

27

Pennsylvania

 

11

 

13

 

11

 

14

South Carolina

 

15

 

23

 

15

 

24

Tennessee

 

23

 

23

 

23

 

23

Texas

 

45

 

65

 

45

 

68

Total

 

354

 

410

 

355

 

440

In response to consumer demand to purchase personal automobile insurance over the phone and through the internet, we offer customers the choice to purchase a policy through an employee-agent in our call center or via our www.acceptance.com website and mobile platform. As of June 30, 2017, approximately 13% of our policies in force were sold through a non-retail sales channel. 

 


18


 

FIRST ACCEPTANCE CORPORATION 10-Q

 

Recent Actions

Since August 2016, we have taken the following actions towards the goal of returning our ratio of net premiums written to statutory capital and surplus to within regulatory guidelines and improving profitability:

 

Strengthened our Product team and filed and received approval for substantial rate increases and structural changes in our rating programs in response to our increase in claim frequency.  The magnitude and frequency of these rate increases have been unprecedented in our recent history;

 

Reduced premium writings, through the closing of 53 poorly performing stores, by temporarily suspending or eliminating new business in selected areas of our business, and tightening our underwriting standards;

At June 30, 2017, these actions have resulted in a year-over year 23% decrease in our policies in force, which has been partially offset by a 17% year-over-year increase in our average in-force premium. This premium increase was driven by an estimated effective rate increase of 12% attained over the last twelve months.

Aggressive actions have been taken in our claims-handling operations. In October 2016, we hired a new Senior Vice President and restructured claims management to include three additional functional Vice President positions. This new structure makes optimal use of departmental availability and experience through redesigned workflows and increases accountability through recurring quality assurance review programs. In May 2017, a new text message status process was instituted allowing insureds and claimants to receive updates during the life cycle of their claim. Along with increased staffing and training, these efforts are helping reduce pending claims to targeted levels.

Collectively, we believe that these actions have contributed to the improved loss ratio for the current 2017 accident period.  

Consolidated Results of Operations

Overview

Our insurance operations actively generate revenues from selling non-standard personal automobile insurance products and related products in 16 states. We currently conduct our servicing and underwriting operations in 13 states through three insurance company subsidiaries: First Acceptance Insurance Company, Inc., First Acceptance Insurance Company of Georgia, Inc. and First Acceptance Insurance Company of Tennessee, Inc. (In December 2016, we closed all of our retail locations and ceased writing new business in the state of Missouri.) Our insurance revenues were primarily generated from:

 

 

premiums earned, including policy and renewal fees, from sales of policies written and assumed by our insurance company subsidiaries;

 

commission and fee income, including installment fees on policies written, agency fees and commissions and fees for other ancillary products and policies sold on behalf of third-party insurance carriers; and

 

investment income earned on the invested assets of the insurance company subsidiaries.

19


 

FIRST ACCEPTANCE CORPORATION 10-Q

 

The following table presents gross premiums earned by state (i n thousands). The e ffect of a 23 % decrease in our year-over-year policies in force offset by a 17 % year-over-year increase in our average in-force premium, resulted in net premiums earned for the three and six months ended June 30, 2017 decreasing by 9%   compared with the sam e period in the prior year.

 

 

 

Three Months Ended

 

Six Months Ended

 

 

June 30,

 

June 30,

 

 

2017

 

2016

 

2017

 

2016

Gross premiums earned:

 

 

 

 

 

 

 

 

Georgia

 

$          17,402

 

$          16,271

 

$          33,663

 

$          31,328

Florida

 

10,761

 

12,176

 

21,012

 

23,785

Texas

 

8,252

 

11,266

 

16,796

 

21,883

Alabama

 

8,442

 

7,286

 

15,896

 

14,050

Ohio

 

7,707

 

8,094

 

15,012

 

15,690

South Carolina

 

5,281

 

7,352

 

10,231

 

13,946

Tennessee

 

5,275

 

5,107

 

10,023

 

9,988

Illinois

 

3,868

 

5,516

 

8,075

 

11,256

Indiana

 

2,492

 

2,395

 

4,810

 

4,672

Pennsylvania

 

2,395

 

2,575

 

4,646

 

4,993

Mississippi

 

1,115

 

1,043

 

2,078

 

2,038

California

 

420

 

 

734

 

Missouri

 

60

 

1,633

 

302

 

3,386

Virginia

 

96

 

251

 

206

 

465

Total gross premiums earned

 

73,566

 

80,965

 

143,484

 

157,480

Premiums ceded to reinsurer

 

(107)

 

(115)

 

(212)

 

(223)

Total net premiums earned

 

$          73,459

 

$          80,850

 

$        143,272

 

$        157,257

 

Our insurance segment presents a combined ratio as a measure of its overall underwriting profitability. The components of the combined ratio are as follows:

Loss Ratio - Loss ratio is the ratio (expressed as a percentage) of losses and loss adjustment expenses incurred to premiums earned and is a basic element of underwriting profitability. We calculate this ratio based on all direct and assumed premiums earned, net of ceded reinsurance.

Expense Ratio - Expense ratio is the ratio (expressed as a percentage) of insurance operating expenses (including depreciation and amortization) to net premiums earned. Insurance operating expenses are reduced by commission and fee income from insureds. This is a measurement that illustrates relative management efficiency in administering our operations.

Combined Ratio - Combined ratio is the sum of the loss ratio and the expense ratio. If the combined ratio is at or above 100%, an insurance company cannot be profitable without sufficient investment income.

The following table presents the loss, expense, and combined ratios for our insurance operations:

 

 

 

Three Months Ended

 

 

Six Months Ended

 

 

 

June 30,

 

 

June 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Loss

 

 

85.5

%

 

 

124.6

%

 

 

83.1

%

 

 

110.8

%

Expense

 

 

16.0

%

 

 

14.8

%

 

 

16.3

%

 

 

14.6

%

Combined

 

 

101.5

%

 

 

139.4

%

 

 

99.4

%

 

 

125.4

%

 


20


 

FIRST ACCEPTANCE CORPORATION 10-Q

 

Investments

We use the services of an independent investment manager to manage our investment portfolio. The investment manager conducts, in accordance with our investment policy, all of the investment purchases and sales for our insurance company subsidiaries. Our investment policy has been established by the Investment Committee of our Board of Directors and specifically addresses overall investment goals and objectives, authorized investments, prohibited securities, restrictions on sales by the investment manager and guidelines as to asset allocation, duration and credit quality. Management and the Investment Committee meet regularly with our investment manager to review the performance of the portfolio and compliance with our investment guidelines.

The invested assets of the insurance company subsidiaries consist substantially of marketable, investment grade debt securities, and include U.S. government securities, municipal bonds, corporate bonds, mutual funds, and collateralized mortgage obligations (“CMOs”), in addition to other alternative investments made into limited partnership interests and a real estate investment trust. Investment income is comprised primarily of interest earned on these securities, net of related investment expenses. Although investments are generally purchased with the intention to hold them until maturity, realized gains and losses could occur from time to time as changes are made to our holdings based upon changes in interest rates or the credit quality of specific securities, or as we did in 2016, to increase the statutory capital and surplus of the insurance company subsidiaries that carry fixed maturity securities at amortized cost.

The value of our consolidated available-for-sale investment portfolio was $116.0 million at June 30, 2017 and consisted of fixed maturity securities, preferred stocks, and investments in mutual funds, all carried at fair value with unrealized gains and losses reported in a separate component of stockholders’ equity. At June 30, 2017, we had gross unrealized gains of $2.8 million and gross unrealized losses of $2.0 million in our consolidated investments available-for-sale portfolio.

The value of our other investments was $10.5 million at June 30, 2017 and consisted of limited partnership interests carried at net asset value, which approximates fair value, with unrealized gains and losses reported as investment income, and a privately-held real estate investment trust (“REIT”) carried at fair value, with unrealized gains and losses reported in a separate component of stockholders’ equity. At June 30, 2017, we had gross unrealized gains attributable to the REIT of $1.2 million in our consolidated other investments.

At June 30, 2017, 96% of the fair value of our fixed maturity portfolio was rated “investment grade” (a credit rating of AAA to BBB-) by nationally recognized statistical rating organizations. Investment grade securities generally bear lower yields and have lower degrees of risk than those that are unrated or non-investment grade. We believe that a high-quality investment portfolio is more likely to generate a stable and predictable investment return.

The following table summarizes our investment securities at June 30, 2017 (in thousands).

 

 

 

 

 

 

Gross

 

 

Gross

 

 

 

 

 

 

 

Amortized

 

 

Unrealized

 

 

Unrealized

 

 

Fair

 

June 30, 2017

 

Cost

 

 

Gains

 

 

Losses

 

 

Value

 

U.S. government and agencies

 

$

19,641

 

 

$

96

 

 

$

(238

)

 

$

19,499

 

Political subdivisions

 

 

4,173

 

 

 

10

 

 

 

 

 

 

4,183

 

Revenue and assessment

 

 

5,255

 

 

 

208

 

 

 

 

 

 

5,463

 

Corporate bonds

 

 

45,908

 

 

 

67

 

 

 

(1,146

)

 

 

44,829

 

Collateralized mortgage obligations:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agency backed

 

 

22,149

 

 

 

68

 

 

 

(607

)

 

 

21,610

 

Non-agency backed – residential

 

 

2,213

 

 

 

560

 

 

 

(8

)

 

 

2,765

 

Non-agency backed – commercial

 

 

1,056

 

 

 

654

 

 

 

 

 

 

1,710

 

Total fixed maturities, available-for-sale

 

 

100,395

 

 

 

1,663

 

 

 

(1,999

)

 

 

100,059

 

Preferred stocks, available-for-sale

 

 

3,025

 

 

 

281

 

 

 

(40

)

 

 

3,266

 

Mutual funds, available-for-sale

 

 

11,813

 

 

 

874

 

 

 

 

 

 

 

12,687

 

 

 

$

115,233

 

 

$

2,818

 

 

$

(2,039

)

 

$

116,012

 

 


21


 

FIRST ACCEPTANCE CORPORATION 10-Q

 

Three and Six Months Ended June 30 , 2017 Compared with the Three and Six Months Ended June 30 , 2016

Consolidated Results

Revenues for the three months ended June 30, 2017 decreased 11% to $91.4 million from $102.8 million in the same period in the prior year. Loss before income taxes, for the three months ended June 30, 2017 was $1.5 million, compared with a loss before income taxes of $30.6 million for the three months ended June 30, 2016. Net loss for the three months ended June 30, 2017 was $0.9 million, compared with a net loss of $19.9 million for the three months ended June 30, 2016. Basic and diluted net loss per share were $0.02 for the three months ended June 30, 2017, compared with a basic and diluted net loss per share of $0.48 for the same period in the prior year.

For the three months ended June 30, 2017 and 2016, we recognized $0.2 million and $25.8 million, respectively, of unfavorable prior period loss and LAE development.

Revenues for the six months ended June 30, 2017 decreased 10% to $179.5 million from $199.7 million in the same period in the prior year. Income before income taxes, for the six months ended June 30, 2017 was $96 thousand, compared with a loss before income taxes of $39.0 million for the six months ended June 30, 2016. Net loss for the six months ended June 30, 2017 was $173 thousand, compared with a net loss of $25.4 million for the six months ended June 30, 2016. Basic and diluted net loss per share were $0.004 for the six months ended June 30, 2017, compared with a basic and diluted net loss per share of $0.62 for the same period in the prior year.  

For the six months ended June 30, 2017, we recognized $0.6 million of favorable prior period loss and LAE development, and for the six months ended June 30, 2016, we recognized $31.0 million of unfavorable prior period loss and LAE development.     

Insurance Operations

Revenues from insurance operations were $91.4 million for the three months ended June 30, 2017, compared with $101.5 million for the three months ended June 30, 2016. Revenues from insurance operations were $179.4 million for six months ended June 30, 2017, compared with $198.4 million for the six months ended June 30, 2016   .

Loss before income taxes from insurance operations for the three months ended June 30, 2017 was $26 thousand, compared with a loss before income taxes of $30.4 million for the three months ended June 30, 2016. Income before income taxes from insurance operations for the six months ended June 30, 2017 was $2.9 million, compared with a loss before income taxes from insurance operations of $37.5 million for the six months ended June 30, 2016.

Premiums Earned

Premiums earned decreased by $7.4 million, or 9%, to $73.5 million for the three months ended June 30, 2017, from $80.9 million for the three months ended June 30, 2016. For the six months ended June 30, 2017, premiums earned decreased by $14.0 million, or 9%, to $143.3 million from $157.3 million for the six months ended June 30, 2016. These decreases were the result of a targeted decline in new policies written to eliminate unprofitable business through store closures, rate increases and the tightening of underwriting standards. These actions resulted in a 23% decrease in our year-over-year policies in force which was partially offset by a 17% year-over-year increase in our average in-force premium that was driven by our recent rate actions. The estimated effective rate increase attained over the last twelve months was 12%.

Commission and Fee Income

Commission and fee income decreased by $2.4 million, or 12%, to $16.8 million for the three months ended June 30, 2017, from $19.2 million for the three months ended June 30, 2016. For the six months ended June 30, 2017, commission and fee income decreased by $4.7 million, or 12%, to $34.1 million from $38.8 million for the six months ended June 30, 2016. This decrease was primarily the result of a decrease in monthly billing fees as a result of the previously-mentioned decline in the number of policies in force.

Investment Income

Investment income decreased to $1.1 million for the three months ended June 30, 2017 from $1.6 million for the three months ended June 30, 2016, and to $2.2 million for the six months ended June 30, 2017 from $2.6 million for the six months ended June 30, 2016.  

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FIRST ACCEPTANCE CORPORATION 10-Q

 

During the three months ended Septe mber 30, 2016, in order to increase the statutory capital and surplus of our insurance company subsidiaries by realizing gains on fixed maturities carried at amortized cost for statutory purposes, we sold $66.9 million of available-for-sale securities yiel ding 3.6% and reinvested the proceeds at 2.2%. As a result, our investment in come from fixed maturities in subsequent periods has decline d from the reduced yield in our fixed maturities portfolio. Recent results however have been favorable as a result of i ncreased yields on cash a nd cash equivalents while r eturns from limited partnership investments , although favorable, have fluctuated from period-to-period .

At June 30, 2017 and 2016, the tax-equivalent book yields for our managed fixed maturities and cash equivalents portfolio were 2.0% and 2.1%, respectively, with effective durations of 2.33 and 2.71 years, respectively.

Net Realized Gains (Losses) on Investments, Available-for-sale

  Net realized gains (losses) on investments, available-for-sale during the three and six months ended June 30, 2016 included $147 thousand of charges related to other-than-temporary-impairment (“OTTI”) on a mutual fund and other net realized losses from redemptions. Other amounts recognized relate to gains and losses realized on redemptions.

Loss and Loss Adjustment Expenses

The loss ratio was 85.5% for the three months ended June 30, 2017, compared with 124.6% for the three months ended June 30, 2016. For the six months ended June 30, 2017, the loss ratio was 83.1% compared with 110.8% for the six months ended June 30, 2016. We experienced unfavorable development related to prior periods of $0.2 million for the three months ended June 30, 2017, and favorable development of $0.6 million for the six months ended June 30, 2017, compared with unfavorable development of $25.8 million and $31.0 million for the three and six months ended June 30, 2016.

The development for the three and six months ended June 30, 2017 was the net result of favorable LAE development related to bodily injury claims over multiple prior accident periods and unfavorable development on losses related to bodily injury severity related to the 2016 and 2017 accident years. The unfavorable development for the three and six months ended June 30, 2016 was the result of an increase in losses across all major coverages and over multiple prior accident periods. The primary causes of the unfavorable development were a sharp increase in bodily injury severity and a greater than usual amount of subsequent payments on previously closed claims.

Excluding the development related to prior periods, the loss ratio for the three months ended June 30, 2017 was 85.2% as compared with 81.4% for the preceding three months ended March 31, 2017. The primary causes for this higher loss ratio were increases in frequency across all major coverages and in bodily injury severity.

Excluding the development related to prior periods, the loss ratio for the six months ended June 30, 2017 was 83.5% as compared with 91.8% for the year ended December 31, 2016. We believe that this improvement in the loss ratio was the result of our aggressive rate and underwriting actions in addition to a moderate reduction in claims frequency.

Insurance Operating Expenses

Insurance operating expenses decreased 8% to $27.9 million for the three months ended June 30, 2017, from $30.3 million for the three months ended June 30, 2016. For the six months ended June 30, 2017, insurance operating expenses decreased 7% to $56.0 million from $60.0 million for the six months ended June 30, 2016. These decreases in operating expenses were primarily due to the costs savings from the recent store closures, a reduction in advertising costs, and reduced variable expenses (e.g. underwriting reports and postage) as a result of the decline in new business written.

The expense ratio was 16.0% for the three months ended June 30, 2017, compared with 14.8% for the three months ended June 30, 2016. For the six months ended June 30, 2017, the expense ratio was 16.3% compared with 14.6% for the six months ended June 30, 2016. The year-over-year increases in the expense ratio were primarily due to the decrease in premiums earned which resulted in a higher percentage of fixed expenses and the previously-mentioned decline in commission and fee income.

Overall, the combined ratio decreased to 101.5% for the three months ended June 30, 2017 from 139.4% for the three months ended June 30, 2016. For the six months ended June 30, 2017, the combined ratio decreased to 99.4% from 125.4% for the six months ended June 30, 2016.

 

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FIRST ACCEPTANCE CORPORATION 10-Q

 

(Benefit) Provision for Income Taxes

The benefit for income taxes was $0.6 million for the three months ended June 30, 2017, compared with $10.7 million for the three months ended June 30, 2016. For the six months ended June 30, 2017, the provision for income taxes was $0.3 million compared with a benefit of $13.6 million for the six months ended June 30, 2016.

 

In assessing our ability to realize our deferred tax assets (“DTA”), both positive and negative evidence are used to evaluate the allowance. Although we incurred a 2016 pre-tax loss of $45.1 million which is a source of negative evidence, we placed greater weight on our outlook for future taxable income over the allowable time period for realization of the DTA and concluded that it is more likely than not that the remaining DTA will be realized. Regarding the length of time available to realize the DTA, at June 30, 2017, $23.8 million of the DTA related to net operating loss carryforwards do not expire until 2031 through 2036 and $2.0 million in AMT (“Alternative Minimum Tax”) carryforwards have no expiration date. The DTA valuation allowance may be adjusted in future periods if management determines that it is more likely than not that some portion or all of the DTA will not be realized. In the event the DTA valuation allowance is increased, we would record an income tax expense for the adjustment. Likewise, we would record an income tax expense in the period in which any reduction in the corporate tax rate was enacted.

Real Estate and Corporate

Loss before income taxes from real estate and corporate operations for the three months ended June 30, 2017, was $1.5 million, compared with a loss before income taxes of $0.2 million for the three months ended June 30, 2016. Loss before income taxes from real estate and corporate operations for the six months ended June 30, 2017, was $2.8 million, compared with a loss before income taxes of $1.5 million for the six months ended June 30, 2016. The three and six months ended June 30, 2016 include a $1.2 million gain on the sale of foreclosed real estate. Segment losses consist of other operating expenses not directly related to our insurance operations, interest expense and stock-based compensation, offset by investment income on corporate invested assets.

We incurred $1.1 million of interest expense for both the three months ended June 30, 2017 and 2016. For the six months ended June 30, 2017, interest expense increased to $2.2 million from $2.1 million for the six months ended June 30, 2016 as the result of an increase in LIBOR. Interest expense is from our debentures payable and the term loan from our principal stockholder to finance the July 1, 2015 Titan Agencies acquisition. For additional information, see “Liquidity and Capital Resources” in this report.

Liquidity and Capital Resources

Our primary sources of funds are premiums, fees and investment income from our insurance company subsidiaries and commissions and fee income from our non-insurance company subsidiaries. Our primary uses of funds are the payment of claims and operating expenses. Net cash provided by operating activities for the six months ended June 30, 2017 was $4.5 million, compared with net cash provided by operating activities of $10.8 million for the same period in the prior year. This decrease was primarily the result of the recent reduction in new business written. Net cash provided by investing activities for the six months ended June 30, 2017 was $2.3 million, compared to $8.0 million for the same period in the prior year. This decrease was primarily the result of a greater amount of purchases of investments, available-for-sale and a reduction in the amount of capital expenditures in the current year.

Our holding company requires cash for general corporate overhead expenses and for debt service related to our debentures and term loan payable. The holding company’s primary source of unrestricted cash to meet its obligations is the sale of ancillary products and insurance policies on behalf of third-party carriers by our agency operations, including the 2015 Titan Agencies acquisition. During the six months ended June 30, 2017, the holding company contributed $4.0 million to the statutory capital and surplus of the insurance company subsidiaries from our insurance agency net income. At June 30, 2017, our holding company had $3.2 million available remaining in unrestricted cash and investments. These funds and the additional unrestricted cash from our agency operations will be used to pay our future cash requirements outside of the insurance company subsidiaries in the short-term and foreseeable future.

The holding company has debt service requirements related to the debentures payable and the term loan to a principal stockholder. The debentures are interest-only and mature in full in July 2037. The debentures accrue interest at a variable rate equal to Three-Month LIBOR plus 375 basis points, which resets quarterly. The interest rate related to the debentures for the six months ended June 30, 2017 ranged from 4.637% to 4.920%. In July 2017, the interest rate reset to 5.061% through October 2017. The term loan is interest-only and matures in full in June 2025. The interest rate on the term loan is 8%.

State insurance laws limit the amount of dividends that may be paid from our insurance company subsidiaries. At June 30, 2017, our insurance company subsidiaries could not pay any dividends due to a negative unassigned surplus position.

24


 

FIRST ACCEPTANCE CORPORATION 10-Q

 

We have three insurance company subsidiaries that are organized and domiciled under the insurance statutes of Texas, Georgia, and Tennessee. Our insurance company subsidiaries also operate under licenses issued by various state insurance authorities. Such licenses may be of perpetual duration or periodically renewable, provided we continue to meet applicable regulatory requirements.

The National Association of Insurance Commissioners (“NAIC”) Model Act for risk-based capital provides formulas to determine each December 31 on an annual basis the amount of statutory capital and surplus that an insurance company needs to ensure that it has an acceptable expectation of not becoming financially impaired. Failure to meet applicable risk-based capital requirements could subject our insurance company subsidiaries to further examination or corrective action imposed by state regulators, including limitations on their writing of additional business, state supervision or even liquidation. Although statutory risk-based capital calculations are only made as of each December 31, we have estimated that the insurance company subsidiaries remain above the company action levels as of June 30, 2017. There are also statutory guidelines that suggest that on an annual calendar year basis an insurance company should not exceed a ratio of net premiums written to statutory capital and surplus of 3-to-1. On a combined basis, the ratio for our insurance company subsidiaries of net premiums written for the last twelve months to statutory capital and surplus was 4.7-to-1 at June 30, 2017 which is in excess of the suggested guidelines.

Management is currently operating under a business plan to reduce premium writings and increase statutory capital and surplus to address the net premiums written to statutory capital and surplus guidelines. We believe that existing cash and investment balances, when combined with anticipated cash flows as noted above, will be adequate to meet our expected liquidity needs, for both the holding company and our insurance company subsidiaries, in both the short-term and the foreseeable future.

Off-Balance Sheet Arrangements

We use off-balance sheet arrangements (e.g., operating leases) where the economics and sound business principles warrant their use. For information with respect to our off-balance sheet arrangements at December 31, 2016, see Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Off-Balance Sheet Arrangements” included in our Annual Report on Form 10-K for the year ended December 31, 2016. We have not entered into any new material off-balance sheet arrangements since December 31, 2016.

Critical Accounting Estimates

There have been no significant changes to our critical accounting estimates during the six months ended June 30, 2017 compared with those disclosed in Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Estimates” included in our Annual Report on Form 10-K for the year ended December 31, 2016.

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Market risk represents the potential economic loss arising from adverse changes in the fair value of financial instruments. Our exposures to market risk relate primarily to our investment portfolio, which is exposed primarily to interest rate risk and credit risk. The fair value of our investment portfolio is directly impacted by changes in market interest rates; generally, the fair value of fixed-income investments moves inversely with movements in market interest rates. Our fixed maturity portfolio is comprised of substantially all fixed rate investments with primarily short-term and intermediate-term maturities. Likewise, the underlying investments of our mutual fund investments are also primarily fixed-income investments. This portfolio composition allows flexibility in reacting to fluctuations of interest rates. Other investments offer additional risk through the diversity of their underlying investments and their lack of marketability. The portfolios of our insurance company subsidiaries are managed to achieve an adequate risk-adjusted return while maintaining sufficient liquidity to meet policyholder obligations.

Interest Rate Risk

The fair values of our fixed maturity investments fluctuate in response to changes in market interest rates. Increases and decreases in prevailing interest rates generally translate into decreases and increases, respectively, in the fair values of those instruments. Additionally, the fair values of interest rate sensitive instruments may be affected by the creditworthiness of the issuer, prepayment options, relative values of alternative investments, the liquidity of the instrument and other general market conditions.

The following table summarizes the estimated effects of hypothetical increases and decreases in interest rates resulting from parallel shifts in market yield curves on our fixed maturity portfolio (in thousands). It is assumed that the effects are realized immediately upon the change in interest rates. The hypothetical changes in market interest rates do not reflect what could be deemed

25


 

FIRST ACCEPTANCE CORPORATION 10-Q

 

best or worst case scenarios. Variations in market interest rates could produce significant changes in the t iming of repayments due to prepayment options available. For these and other reasons, actual results might differ from those reflected in the table.  

 

 

Sensitivity to Instantaneous Interest Rate Changes (basis points)

 

 

 

(100)

 

 

(50)

 

 

 

0

 

 

 

50

 

 

 

100

 

 

 

200

 

Fair value of fixed maturity portfolio

 

$

104,736

 

 

$

102,400

 

 

$

100,059

 

 

$

97,221

 

 

$

95,380

 

 

$

90,699

 

 

The following table provides information about our fixed maturity investments at June 30, 2017 which are sensitive to interest rate risk. The table shows expected principal cash flows (at par value, which differs from amortized cost as a result of premiums or discounts at the time of purchase and any previously recognized impairment) by expected maturity date for each of the next five fiscal years and collectively for all fiscal years thereafter (in thousands). Callable bonds and notes are included based on call date or maturity date depending upon which date produces the most conservative yield. CMOs and sinking fund issues are included based on maturity year adjusted for expected payment patterns. Actual cash flows may differ from those expected.

 

Year Ending December 31,

 

Securities

with

Unrealized

Gains

 

 

Securities

with

Unrealized

Losses

 

 

Securities

with No

Unrealized

Gains or

Losses

 

 

All Fixed

Maturity

Securities

 

2017

 

$

5,793

 

 

$

5,629

 

 

$

 

 

$

11,422

 

2018

 

 

3,472

 

 

 

4,075

 

 

 

 

 

 

7,547

 

2019

 

 

3,985

 

 

 

7,075

 

 

 

 

 

 

11,060

 

2020

 

 

1,769

 

 

 

9,575

 

 

 

 

 

 

11,344

 

2021

 

 

4,126

 

 

 

12,939

 

 

 

 

 

 

17,065

 

Thereafter

 

 

6,961

 

 

 

34,099

 

 

 

 

 

 

41,060

 

Total

 

$

26,106

 

 

$

73,392

 

 

$

 

 

$

99,498

 

Fair value

 

$

26,994

 

 

$

73,065

 

 

$

 

 

$

100,059

 

 

On June 15, 2007, our wholly-owned unconsolidated trust entity, First Acceptance Statutory Trust I (“FAST I”), used the proceeds from its sale of trust preferred securities to purchase $41.2 million of junior subordinated debentures. FAST I is a variable interest entity that does not meet the requirements for consolidation of FASB ASC 810, Consolidation . The debentures are interest-only and mature in full in July 2037. The debentures accrue interest at a variable rate equal to Three-Month LIBOR plus 375 basis points, which resets quarterly. The interest rate related to the debentures for the six months ended June 30, 2017 ranged from 4.637% to 4.920%. In July 2017, the interest rate reset to 5.061% through October 2017.

Credit Risk

Credit risk is managed by diversifying our investment portfolio to avoid concentrations in any single industry group or issuer and by limiting investments in securities with lower credit ratings. Our largest investment, excluding U.S. government and agency securities, is in a single mutual fund with a fair value of $7.8 million, or 7% of our available-for-sale portfolio. Our five largest investments make up 25% of our available-for-sale portfolio.

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FIRST ACCEPTANCE CORPORATION 10-Q

 

The following table presents the underlying ratings of our fixed maturity portfolio by nationally recognized statistical rating organizations at June 30, 2017 (in thousands).

 

Comparable Rating

 

Amortized

Cost

 

 

% of

Amortized

Cost

 

 

Fair

Value

 

 

% of

Fair

Value

 

AAA

 

$

1,375

 

 

 

1

%

 

$

1,385

 

 

 

1

%

AA+, AA, AA-

 

 

56,646

 

 

 

56

%

 

 

55,975

 

 

 

56

%

A+, A, A-

 

 

27,939

 

 

 

28

%

 

 

27,236

 

 

 

27

%

BBB+, BBB, BBB-

 

 

11,459

 

 

 

11

%

 

 

11,289

 

 

 

11

%

Total investment grade

 

 

97,419

 

 

 

97

%

 

 

95,885

 

 

 

96

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Not rated

 

 

 

 

 

0

%

 

 

 

 

 

0

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

BB+, BB, BB-

 

 

500

 

 

 

0

%

 

 

505

 

 

 

1

%

B+, B, B-

 

 

547

 

 

 

1

%

 

 

580

 

 

 

1

%

CCC+, CCC, CCC-

 

 

938

 

 

 

1

%

 

 

1,518

 

 

 

2

%

CC+, CC, CC-

 

 

 

 

 

0

%

 

 

 

 

 

0

%

C+, C, C-

 

 

165

 

 

 

0

%

 

 

512

 

 

 

1

%

D

 

 

826

 

 

 

1

%

 

 

1,059

 

 

 

1

%

Total non-investment grade

 

 

2,976

 

 

 

3

%

 

 

4,174

 

 

 

4

%

Total

 

$

100,395

 

 

 

100

%

 

$

100,059

 

 

 

100

%

 

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Under the supervision and with the participation of our management team, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended, or the “Exchange Act”) as of June 30, 2017. Based on that evaluation, our Chief Executive Officer (principal executive officer) and Chief Financial Officer (principal financial officer) concluded that our disclosure controls and procedures were effective as of June 30, 2017 to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

Changes in Internal Control Over Financial Reporting

During the period covered by this report, there has been no change in our internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

 

 

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FIRST ACCEPTANCE CORPORATION 10-Q

 

PART II – OTHE R INFORMATION

 

Item 1. Legal Proceedings

We and our subsidiaries are named from time to time as defendants in various legal actions that are incidental to our business, including those which arise out of or are related to the handling of claims made in connection with our insurance policies. The plaintiffs in some of these lawsuits have alleged bad faith or extra-contractual damages, and some have sought punitive damages or class action status. We believe that the resolution of these legal actions will not have a material adverse effect on our financial condition or results of operations. However, the ultimate outcome of these matters is uncertain. See Note 8 to our consolidated financial statements for further information about legal proceedings.

 

Item 4. Mine Safety Disclosures

None.

 

Item 6. Exhibits

The following exhibits are attached to this report:

 

 

 

 

28


 

FIRST ACCEPTANCE CORPORATION 10-Q

 

SIGNATU RES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

 

 

 

 

FIRST ACCEPTANCE CORPORATION

 

 

 

 

Date: August 9, 2017

 

 

 

By:

 

/s/ Brent J. Gay

 

 

 

 

 

 

Brent J. Gay

 

 

 

 

 

 

Chief Financial Officer

 

29

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