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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 SEPTEMBER 30, 2020
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM ___________________TO _______________________

Commission File number 000-25001
 FedNat Holding Company
(Exact name of registrant as specified in its charter)
Florida 65-0248866
(State or other jurisdiction of incorporation or organization) (IRS Employer Identification Number)
   
14050 N.W. 14th Street, Suite 180, Sunrise, FL
33323
(Address of principal executive offices) (Zip Code)
800-293-2532
(Registrant’s telephone number, including area code)
 
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Trading Symbol Name of each exchange on which registered
Common Stock FNHC Nasdaq Global Market
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 þ   No ¨
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).     Yes þ   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 the 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
þ
Non-accelerated Filer ¨
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 þ

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
As of November 2, 2020, the registrant had 13,717,525 shares of common stock outstanding.



FEDNAT HOLDING COMPANY
TABLE OF CONTENTS
 
    
PART I: FINANCIAL INFORMATION PAGE
     
ITEM 1
1
     
ITEM 2
     
ITEM 3
     
ITEM 4
     
PART II: OTHER INFORMATION  
     
ITEM 1
     
ITEM 1A
     
ITEM 2
     
ITEM 3
     
ITEM 4
     
ITEM 5
     
ITEM 6
     
SIGNATURES





PART I: FINANCIAL INFORMATION
Item 1.  Financial Statements
FEDNAT HOLDING COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share data)
(Unaudited)
໿
  September 30, December 31,
  2020 2019
ASSETS
Investments:
Debt securities, available-for-sale, at fair value (amortized cost of $519,557 and $512,645, respectively)
$ 540,443  $ 526,265 
Debt securities, held-to-maturity, at amortized cost —  4,337 
Equity securities, at fair value 13,108  20,039 
Total investments 553,551  550,641 
Cash and cash equivalents 49,286  133,361 
Prepaid reinsurance premiums 286,128  145,659 
Premiums receivable, net of allowance of $118 and $159, respectively
52,753  41,422 
Reinsurance recoverable, net of allowance of $52 and $0, respectively
452,194  209,615 
Deferred acquisition costs and value of business acquired, net 51,157  56,136 
Current and deferred income taxes, net 24,099  2,552 
Goodwill 10,997  10,997 
Other assets 34,643  28,633 
Total assets $ 1,514,808  $ 1,179,016 
     
LIABILITIES AND SHAREHOLDERS’ EQUITY
Liabilities
Loss and loss adjustment expense reserves $ 553,980  $ 324,362 
Unearned premiums 380,374  360,870 
Reinsurance payable and funds withheld liabilities 230,987  102,467 
Long-term debt, net of deferred financing costs of $1,357 and $1,478, respectively
98,643  98,522 
Deferred revenue 6,795  6,856 
Other liabilities 42,553  37,246 
Total liabilities 1,313,332  930,323 
Commitments and contingencies (see Note 11)
Shareholders' Equity
Preferred stock, $0.01 par value: 1,000,000 shares authorized
—  — 
Common stock, $0.01 par value: 25,000,000 shares authorized; 13,717,525 and 14,414,821 issued and outstanding, respectively
137  144 
Additional paid-in capital 168,912  167,677 
Accumulated other comprehensive income (loss) 15,763  10,281 
Retained earnings 16,664  70,591 
Total shareholders’ equity 201,476  248,693 
Total liabilities and shareholders' equity $ 1,514,808  $ 1,179,016 

The accompanying notes are an integral part of the unaudited consolidated financial statements.
-1-


FEDNAT HOLDING COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except share and per share data)
(Unaudited)
໿
Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
Revenues:    
Net premiums earned $ 83,546  $ 87,374  $ 300,934  $ 268,464 
Net investment income 2,404  4,068  9,637  12,037 
Net realized and unrealized investment gains (losses) 1,324  794  8,882  5,050 
Direct written policy fees 3,603  2,514  10,662  7,308 
Other income 6,439  4,726  16,919  13,115 
Total revenues 97,316  99,476  347,034  305,974 
     
Costs and expenses:    
Losses and loss adjustment expenses 99,016  62,105  297,862  194,284 
Commissions and other underwriting expenses 24,580  24,854  90,205  75,650 
General and administrative expenses 5,333  5,246  17,241  17,336 
Interest expense 1,915  1,894  5,745  8,860 
Total costs and expenses 130,844  94,099  411,053  296,130 
     
Income (loss) before income taxes (33,528) 5,377  (64,019) 9,844 
Income tax expense (benefit) (12,783) 718  (23,928) 1,940 
Net income (loss) $ (20,745) $ 4,659  $ (40,091) $ 7,904 
   
Net Income (Loss) Per Common Share    
Basic $ (1.51) $ 0.36  $ (2.89) $ 0.62 
Diluted (1.51) 0.36  (2.89) 0.61 
   
Weighted Average Number of Shares of Common Stock Outstanding    
Basic 13,708  12,854  13,890  12,831 
Diluted 13,708  12,897  13,890  12,880 
   
Dividends Declared Per Common Share $ 0.09  $ 0.08  $ 0.27  $ 0.24 

The accompanying notes are an integral part of the unaudited consolidated financial statements.
-2-


FEDNAT HOLDING COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In thousands)
(Unaudited)
໿
Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
Net income (loss) $ (20,745) $ 4,659  $ (40,091) $ 7,904 
   
Change in net unrealized gains (losses) on investments, available-for-sale, net of tax
1,373  2,388  5,482  15,398 
Comprehensive income (loss) $ (19,372) $ 7,047  $ (34,609) $ 23,302 

The accompanying notes are an integral part of the unaudited consolidated financial statements.
 

-3-


FEDNAT HOLDING COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(In thousands, except share data)
(Unaudited)

໿
Accumulated
Common Stock Additional Other Total
Preferred Issued Paid-in Comprehensive Retained Shareholders'
Stock Shares Amount Capital Income (Loss) Earnings Equity
Balance as of July 1, 2020 $ —  13,703,175  $ 137  $ 168,485  $ 14,390  $ 38,668  $ 221,680 
Net income (loss) —  —  —  —  —  (20,745) (20,745)
Other comprehensive income (loss) —  —  —  —  1,373  —  1,373 
Dividends declared —  —  —  —  —  (1,259) (1,259)
Shares issued under share-based compensation plans —  14,350  —  41  —  —  41 
Share-based compensation —  —  —  386  —  —  386 
Balance as of September 30, 2020 $ —  13,717,525  $ 137  $ 168,912  $ 15,763  $ 16,664  $ 201,476 

Accumulated
Common Stock Additional Other Total
Preferred Issued Paid-in Comprehensive Retained Shareholders'
Stock Shares Amount Capital Income (Loss) Earnings Equity
Balance as of July 1, 2019 $ —  12,849,319  $ 128  $ 142,486  $ 9,260  $ 78,911  $ 230,785 
Net income (loss) —  —  —  —  —  4,659  4,659 
Other comprehensive income (loss) —  —  —  —  2,388  —  2,388 
Dividends declared —  —  —  —  —  (1,046) (1,046)
Shares issued under share-based compensation plans —  20,047  —  —  — 
Share-based compensation —  —  —  602  —  —  602 
Balance as of September 30, 2019 $ —  12,869,366  $ 129  $ 143,088  $ 11,648  $ 82,524  $ 237,389 

The accompanying notes are an integral part of the unaudited consolidated financial statements.
-4-


FEDNAT HOLDING COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY (CONTINUED)
(In thousands, except share data)
(Unaudited)

Accumulated
Common Stock Additional Other Total
Preferred Issued Paid-in Comprehensive Retained Shareholders'
Stock Shares Amount Capital Income (Loss) Earnings Equity
Balance as of January 1, 2020 $ —  14,414,821  $ 144  $ 167,677  $ 10,281  $ 70,591  $ 248,693 
Cumulative effect of new accounting standards —  —  —  —  —  (25) (25)
Net income (loss) —  —  —  —  —  (40,091) (40,091)
Other comprehensive income (loss) —  —  —  —  5,482  —  5,482 
Dividends declared —  —  —  —  —  (3,819) (3,819)
Shares issued under share-based compensation plans —  102,939  41  —  —  42 
Repurchases of common stock —  (800,235) (8) —  —  (9,992) (10,000)
Share-based compensation —  —  —  1,194  —  —  1,194 
Balance as of September 30, 2020 $ —  13,717,525  $ 137  $ 168,912  $ 15,763  $ 16,664  $ 201,476 

Accumulated
Common Stock Additional Other Total
Preferred Issued Paid-in Comprehensive Retained Shareholders'
Stock Shares Amount Capital Income (Loss) Earnings Equity
Balance as of January 1, 2019 $ —  12,784,444  $ 128  $ 141,128  $ (3,750) $ 77,753  $ 215,259 
Net income (loss) —  —  —  —  —  7,904  7,904 
Other comprehensive income (loss) —  —  —  —  15,398  —  15,398 
Dividends declared —  —  —  —  —  (3,133) (3,133)
Shares issued under share-based compensation plans —  84,922  —  —  — 
Share-based compensation —  —  —  1,960  —  —  1,960 
Balance as of September 30, 2019 $ —  12,869,366  $ 129  $ 143,088  $ 11,648  $ 82,524  $ 237,389 

The accompanying notes are an integral part of the unaudited consolidated financial statements.
-5-


FEDNAT HOLDING COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)

໿
Nine Months Ended
September 30,
2020 2019
Cash flow from operating activities:    
Net income (loss) $ (40,091) $ 7,904 
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:    
Net realized and unrealized investment (gains) losses (8,882) (5,050)
Loss (gain) on early extinguishment of debt —  3,575 
Amortization of investment premium or discount, net 2,353  606 
Depreciation and amortization 1,427  1,088 
Share-based compensation 1,194  1,960 
Changes in operating assets and liabilities:    
Prepaid reinsurance premiums (140,469) (61,717)
Premiums receivable, net (11,331) (10,141)
Reinsurance recoverable, net (242,611) 8,549 
Deferred acquisition costs and value of business acquired, net 4,979  (9,103)
Income taxes, net (23,322) (893)
Deferred revenue (61) 1,654 
Loss and loss adjustment expense reserves 229,618  (9,282)
Unearned premiums 19,504  35,401 
Reinsurance payable and funds withheld liabilities 128,520  59,203 
Other 401  2,632 
Net cash provided by (used in) operating activities (78,772) 26,386 
Cash flow from investing activities:    
Proceeds from sales of equity securities 11,441  7,461 
Proceeds from sales of debt securities 346,890  123,415 
Purchases of equity securities (4,727) (5,190)
Purchases of debt securities (402,894) (169,933)
Maturities and redemptions of debt securities 60,767  29,158 
Purchases of property and equipment (2,585) (1,562)
Net cash provided by (used in) investing activities 8,892  (16,651)
Cash flow from financing activities:    
Proceeds from issuance of long-term debt, net of issuance costs —  98,390 
Payment of long-term debt and prepayment penalties —  (48,000)
Purchases of FedNat Holding Company common stock (10,418) — 
Issuance of common stock for share-based awards 42 
Dividends paid (3,819) (3,131)
Net cash provided by (used in) financing activities (14,195) 47,260 
Net increase (decrease) in cash and cash equivalents (84,075) 56,995 
Cash and cash equivalents at beginning-of-period 133,361  64,423 
Cash and cash equivalents at end-of-period $ 49,286  $ 121,418 

The accompanying notes are an integral part of the unaudited consolidated financial statements.

-6-



FEDNAT HOLDING COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
(Continued)
 
໿
Nine Months Ended
September 30,
2020 2019
Supplemental disclosure of cash flow information:    
Cash paid (received) during the period for interest $ 7,500  $ 4,860 
Cash paid (received) during the period for income taxes (598) 2,729 
Significant non-cash investing and financing transactions:
Right-of-use asset (7,605) (7,860)
Lease liability 7,605  7,860 

The accompanying notes are an integral part of the unaudited consolidated financial statements.


-7-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements
September 30, 2020

1. ORGANIZATION, CONSOLIDATION AND BASIS OF PRESENTATION

Organization

FedNat Holding Company (“FNHC,” the “Company,” “we,” “us,” or “our”) is a regional insurance holding company that controls substantially all aspects of the insurance underwriting, distribution and claims processes through our subsidiaries and contractual relationships with independent agents and general agents.  We, through our wholly owned subsidiaries, are authorized to underwrite and/or place homeowners multi-peril (“homeowners”), federal flood and other lines of insurance in Florida and other states. We market, distribute and service our own and third-party insurers’ products and other services through a network of independent and general agents.

FedNat Insurance Company (“FNIC”), our largest wholly owned insurance subsidiary, is licensed as an admitted carrier to write homeowners property and casualty insurance by the state’s insurance departments, in Florida, Louisiana, Texas, Georgia, South Carolina, Alabama and Mississippi.

Maison Insurance Company ("MIC"), an insurance subsidiary, is licensed as an admitted carrier to write homeowners property and casualty insurance as well as wind/hail-only exposures by the state's insurance departments in Louisiana, Texas and Florida.

Monarch National Insurance Company (“MNIC”), an insurance subsidiary, is licensed as an admitted carrier to write homeowners property and casualty insurance in Florida.

Material Distribution Relationships

Ivantage Select Agency, Inc.
The Company is a party to an insurance agency master agreement with Ivantage Select Agency, Inc. (“ISA”), an affiliate of Allstate Insurance Company (“Allstate”), pursuant to which the Company has been authorized by ISA to appoint Allstate agents to offer our FNIC homeowners insurance products to consumers in Florida. As a percentage of the total homeowners premiums we underwrote, 20.9% and 23.6% were from Allstate’s network of Florida agents, for the three months ended September 30, 2020 and 2019, respectively. As a percentage of the total homeowners premiums we underwrote, 20.9% and 23.5% were from Allstate’s network of Florida agents, for the nine months ended September 30, 2020 and 2019, respectively.

SageSure Insurance Managers, LLC
The Company is a party to a managing general underwriting agreement with SageSure Insurance Managers, LLC (“SageSure”) to facilitate growth in our FNIC homeowners business outside of Florida.  As a percentage of the total homeowners premiums, 26.2% and 25.2% of the Company’s premiums were underwritten by SageSure, for the three months ended September 30, 2020 and 2019, respectively. As a percentage of the total homeowners premiums, 26.0% and 22.4% of the Company’s premiums were underwritten by SageSure, for the nine months ended September 30, 2020 and 2019, respectively. As part of our partnership with SageSure, we entered into a profit share agreement, whereby we share 50% of net profits of this line of business, as calculated per the terms of the agreement, subject to certain limitations, which include limits on the net losses that SageSure can realize. The limit is consistent with the amount of inception to date profits of the profit share agreement. In addition, refer to Note 6 for information regarding a fully collateralized quota-share treaty on this book of business.

Basis of Presentation and Principles of Consolidation

The accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States (“GAAP”).  The consolidated financial statements include the accounts of FNHC and its wholly-owned subsidiaries and all entities in which the Company has a controlling financial interest and any variable interest entity (“VIE”) of which the Company is the primary beneficiary. The Company’s management believes the consolidated financial statements reflect all material adjustments, including normal recurring adjustments, necessary to fairly state the financial position, results of operations and cash flows of the Company for the periods presented. All significant intercompany accounts and transactions have been eliminated in consolidation.

The Company identifies a VIE as an entity that does not have sufficient equity to finance its own activities without additional financial support or where the equity investors lack certain characteristics of a controlling financial interest.  The Company assesses its contractual, ownership or other interests in a VIE to determine if the Company’s interest participates in the variability the VIE
-8-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

was designed to absorb and pass onto variable interest holders.  The Company performs an ongoing qualitative assessment of its variable interests in a VIE to determine whether the Company has a controlling financial interest and would therefore be considered the primary beneficiary of the VIE.  If the Company determines it is the primary beneficiary of a VIE, the Company consolidates the assets and liabilities of the VIE in its consolidated financial statements.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND PRACTICES

Our significant accounting policies were described in Note 2 of our 2019 Form 10-K. Other than the changes noted in "Recently Issued Accounting Pronouncements, Adopted" below, there have been no significant changes in our significant accounting policies for the nine months ended September 30, 2020.

Accounting Estimates and Assumptions

The Company prepares the accompanying consolidated financial statements in accordance with GAAP, which requires management to make estimates and assumptions about future events that affect the amounts reported in the financial statements and accompanying notes. Future events and their effects cannot be determined with absolute certainty. Therefore, the determination of estimates requires the exercise of judgment. Actual results may materially differ from those estimates.

Similar to other property and casualty insurers, the Company’s liability for loss and loss adjustment expenses ("LAE") reserves, although supported by actuarial projections and other data, is ultimately based on management’s reasoned expectations of future events. Although considerable variability is inherent in these estimates, the Company believes that the liability and LAE reserve is adequate. The Company reviews and evaluates its estimates and assumptions regularly and makes adjustments, reflected in current operations, as necessary, on an ongoing basis.

Recently Issued Accounting Pronouncements, Adopted

In June 2016, the FASB issued ASU 2016-13, Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which significantly changes the measurement of credit losses for most financial assets and certain other instruments that are not measured at fair value through net income. The update requires entities to record allowances for available-for-sale debt securities rather than reduce the carrying amount, as currently performed under the other-than-temporary impairment ("OTTI") model. The update also requires enhanced disclosures for financial assets measured at amortized cost and available-for-sale debt securities to help the financial statement users better understand significant judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an entity’s portfolio. The Company adopted the guidance effective January 1, 2020, by reflecting a cumulative effect adjustment of less than $0.1 million, after-tax, which decreased retained earnings, held-to-maturity debt securities and reinsurance recoverable.

Refer to Note 7 for additional information regarding allowances for credit loss.

In August 2018, the FASB issued ASU 2018-15, Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. ASU 2018-15 requires a customer in a cloud computing arrangement that is a service contract to follow the internal-use software guidance in Accounting Standards Codification 350-40 to determine which implementation costs to defer and recognize as an asset. The Company adopted the guidance effective January 1, 2020, which did not have any impact on the Company’s consolidated financial condition or results of operations.

Recently Issued Accounting Pronouncements, Not Yet Adopted

In January 2020, the FASB issued ASU 2020-1, Accounting for Equity Securities and Equity Investments, which clarifies the interaction between accounting standards related to equity securities (Topic 321), equity method investments (Topic 323), and certain derivatives (Topic 815). The update clarifies that an entity should consider observable transactions that require it to either apply or discontinue the equity method of accounting for the purposes of applying the measurement alternative in accordance with Topic 321 immediately before applying or upon discontinuing the equity method. The update is effective for interim and annual reporting periods beginning after December 15, 2021, with early adoption permitted. The Company is in the early stage of evaluating the impact that the update will have on the Company’s consolidated financial position or results of operations.

-9-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020


3. ACQUISITIONS

On December 2, 2019, the Company completed its acquisition of the insurance operations of 1347 Property Insurance Holdings, Inc. ("PIH"). Specifically, the Company purchased from PIH all of the outstanding equity of MIC, Maison Managers, Inc., and ClaimCor LLC (collectively, the "Maison Companies"). The Maison Companies provide multi-peril and wind/hail only coverage to personal residential dwellings and manufactured/mobile homes in Louisiana, Texas and Florida. The acquisition enables us to increase geographic diversification of our book of business outside Florida and generate additional business with operating synergies and general and administrative expense savings.

Revenues and net loss of the business acquired were $14.4 million and $5.2 million, respectively, for the three months ended September 30, 2020. Revenues and net loss of the business acquired were $46.7 million and $10.2 million, respectively, for the nine months ended September 30, 2020.

The following unaudited pro forma condensed consolidated statements of operations of the Company assume that the acquisition of the Maison Companies was completed on January 1, 2019:

Three Nine
Months Months
Ended Ended
September 30, 2019 September 30, 2019
(In thousands)
Revenue $ 114,675  $ 352,291 
Net income (loss) 1,128  581 

Pro forma adjustments include the revenue and net income (loss) of the Maison Companies for each period as well as estimates for amortization of identifiable intangible assets acquired and fair value adjustments associated with investments, VOBA (different than deferred acquisition costs) and reinsurance recoverable. Other pro forma adjustments include the incremental increase to interest expense attributable to financing the acquisition and the impact of reflecting acquisition and integration costs earlier in 2019.

For more information regarding our acquisition, refer to Note 3 of our 2019 Form 10-K.

4. FAIR VALUE

Fair Value Disclosures of Financial Instruments

The Company accounts for financial instruments at fair value or the price that would be received to sell 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 recorded at fair value are classified and disclosed in one of the following three categories:

Level 1 - Quoted market prices (unadjusted) for identical assets or liabilities in active markets is defined as a market where transactions for the financial statement occur with sufficient frequency and volume to provide pricing information on an ongoing basis, or observable inputs.
Level 2 - Quoted market prices for similar assets or liabilities and valuations, using models or other valuation techniques using observable market data.  Significant other observable that can be corroborated by observable market data; and
Level 3 - Instruments that use non-binding broker quotes or model driven valuations that do not have observable market data or those that are estimated based on an ownership interest to which a proportionate share of net assets is attributed.

If the inputs used to measure fair value fall within different levels of the hierarchy, the category level is based on the lowest priority level input that is significant to the fair value measurement of the instrument.

-10-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020


The Company’s financial instruments measured at fair value on a recurring basis and the level of the fair value hierarchy of inputs used consisted of the following:
September 30, 2020
Level 1 Level 2 Level 3 Total
(In thousands)
Debt securities - available-for-sale, at fair value:        
United States government obligations and authorities $ 36,115  $ 155,418  $ —  $ 191,533 
Obligations of states and political subdivisions —  22,226  —  22,226 
Corporate securities —  295,745  —  295,745 
International securities —  30,939  —  30,939 
Debt securities, at fair value 36,115  504,328  —  540,443 
       
Equity securities, at fair value 10,724  2,384  —  13,108 
       
Total investments, at fair value $ 46,839  $ 506,712  $ —  $ 553,551 
໿
December 31, 2019
Level 1 Level 2 Level 3 Total
(In thousands)
Debt securities - available-for-sale, at fair value:        
United States government obligations and authorities $ 83,764  $ 110,429  $ —  $ 194,193 
Obligations of states and political subdivisions —  24,020  —  24,020 
Corporate securities —  278,302  —  278,302 
International securities —  29,750  —  29,750 
Debt securities, at fair value 83,764  442,501  —  526,265 
       
Equity securities, at fair value 17,361  2,678  —  20,039 
       
Total investments, at fair value $ 101,125  $ 445,179  $ —  $ 546,304 

Held-to-maturity debt securities reported on the consolidated balance sheets at amortized cost and disclosed at fair value below (and in Note 5) and the level of fair value hierarchy of inputs used consisted of the following:

Level 1 Level 2 Level 3 Total
(In thousands)
September 30, 2020 $ —  $ —  $ —  $ — 
December 31, 2019 3,453  878  —  4,331 

We measure the fair value of our securities based on assumptions used by market participants in pricing the security. The most appropriate valuation methodology is selected based on the specific characteristics of the security, and we consistently apply the valuation methodology to measure the security’s fair value. Our fair value measurement is based on a market approach that utilizes prices and other relevant information generated by market transactions involving identical or comparable securities. We review the third-party pricing methodologies on a quarterly basis and validate the fair value prices to a separate independent data service and ensure there are no material differences. Additionally, market indicators, industry and economic events are monitored.


-11-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

A summary of the significant valuation techniques and market inputs for each financial instrument carried at fair value includes the following:

United States Government Obligations and Authorities - In determining the fair value for United States government securities in Level 1, the Company uses quoted prices (unadjusted) in active markets for identical or similar assets. In determining the fair value for United States government securities in Level 2, the Company uses the market approach utilizing primary valuation inputs including reported trades, dealer quotes for identical or similar assets in markets that are not active, benchmark yields, credit spreads, reference data and industry and economic events.
Obligations of States and Political Subdivisions - In determining the fair value for state and municipal securities, the Company uses the market approach utilizing primary valuation inputs including reported trades, dealer quotes for identical or similar assets in markets that are not active, benchmark yields, credit spreads, reference data and industry and economic events.
Corporate and International Securities - In determining the fair value for corporate securities the Company uses the market approach utilizing primary valuation inputs including reported trades, dealer quotes for identical or similar assets in markets that are not active, benchmark yields, credit spreads (for investment grade securities), observations of equity and credit default swap curves (for high-yield corporates), reference data and industry and economic events.
Equity Securities - In determining the fair value for equity securities in Level 1, the Company uses quoted prices (unadjusted) in active markets for identical or similar assets. In determining the fair value for equity securities in Level 2, the Company uses the market approach utilizing primary valuation inputs including reported trades, dealer quotes for identical or similar assets in markets that are not active, benchmark yields, credit spreads, reference data and industry and economic events.

We did not have securities trading in less liquid or illiquid markets with limited or no pricing information, therefore we did not use unobservable inputs to measure fair value as of September 30, 2020 and December 31, 2019. Additionally, we did not have any assets or liabilities measured at fair value on a nonrecurring basis as of September 30, 2020 or December 31, 2019, and we noted no significant changes in our valuation methodologies between those periods.

There were no changes to the Company’s valuation methodology and the Company is not aware of any events or circumstances that would have a significant adverse effect on the carrying value of its assets and liabilities measured at fair value as of September 30, 2020 and December 31, 2019. There were no transfers between the fair value hierarchy levels during the nine months ended September 30, 2020 and 2019.

5. INVESTMENTS

Unrealized Gains and Losses

The difference between amortized cost or cost and estimated fair value and gross unrealized gains and losses, by major investment category, consisted of the following:
໿
Amortized Gross Gross  
Cost Unrealized Unrealized  
or Cost Gains Losses Fair Value
(In thousands)
September 30, 2020        
Debt securities - available-for-sale:        
United States government obligations and authorities $ 188,805  $ 2,835  $ 107  $ 191,533 
Obligations of states and political subdivisions 21,332  909  15  22,226 
Corporate 279,670  16,394  319  295,745 
International 29,750  1,204  15  30,939 
$ 519,557  $ 21,342  $ 456  $ 540,443 
໿

-12-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

Amortized Gross Gross  
Cost Unrealized Unrealized  
or Cost Gains Losses Fair Value
(In thousands)
December 31, 2019        
Debt securities - available-for-sale:        
United States government obligations and authorities $ 191,546  $ 3,073  $ 426  $ 194,193 
Obligations of states and political subdivisions 23,748  294  22  24,020 
Corporate 268,182  10,252  132  278,302 
International 29,169  593  12  29,750 
512,645  14,212  592  526,265 
       
Debt securities - held-to-maturity:        
United States government obligations and authorities 3,585  12  39  3,558 
Corporate 697  20  —  717 
International 55  —  56 
4,337  33  39  4,331 
Total investments, excluding equity securities $ 516,982  $ 14,245  $ 631  $ 530,596 

Net Realized and Unrealized Gains and Losses

The Company calculates the gain or loss realized on the sale of investments by comparing the sales price (fair value) to the cost or amortized cost of the security sold. Net realized gains and losses on investments are determined in accordance with the specific identification method.

Net realized and unrealized gains (losses) recognized in earnings, by major investment category, consisted of the following:

໿
Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
(In thousands)
Gross realized and unrealized gains:    
Debt securities $ 919  $ 897  $ 11,708  $ 2,048 
Equity securities 1,361  326  3,566  4,633 
Total gross realized and unrealized gains 2,280  1,223  15,274  6,681 
   
Gross realized and unrealized losses:    
Debt securities (121) (4) (2,608) (524)
Equity securities (835) (425) (3,784) (1,107)
Total gross realized and unrealized losses (956) (429) (6,392) (1,631)
Net realized and unrealized gains (losses) on investments $ 1,324  $ 794  $ 8,882  $ 5,050 

-13-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020


The above line item, net realized and unrealized gains (losses) on investments, includes the following equity securities gains (losses) recognized in earnings:

Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
(In thousands)
Net realized and unrealized gains (losses) $ 526  $ (99) $ (218) $ 3,526 
Less:
Net realized and unrealized gains (losses) on securities sold 2,635  1,012  2,053  394 
Net realized and unrealized gains (losses) recognized during the period still held as of the end-of-period
$ (2,109) $ (1,111) $ (2,271) $ 3,132 

Contractual Maturity

Actual maturities may differ from contractual maturities because issuers may have the right to call or pre-pay obligations.

Amortized cost and estimated fair value of debt securities, by contractual maturity, consisted of the following:

໿
September 30, 2020
Amortized  
Cost Fair Value
Securities with Maturity Dates (In thousands)
Debt securities, available-for-sale:    
One year or less $ 18,875  $ 19,022 
Over one through five years 195,641  203,440 
Over five through ten years 132,764  140,422 
Over ten years 172,277  177,559 
Total $ 519,557  $ 540,443 

Net Investment Income

Net investment income consisted of the following:
໿
Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
(In thousands)
Interest income $ 2,374  $ 4,005  $ 9,445  $ 11,831 
Dividends income 30  63  192  206 
Net investment income $ 2,404  $ 4,068  $ 9,637  $ 12,037 



-14-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020


Aging of Gross Unrealized Losses

Gross unrealized losses and related fair values for debt securities, grouped by duration of time in a continuous unrealized loss position, consisted of the following:
໿
Less than 12 months 12 months or longer Total
  Gross   Gross   Gross
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
    (In thousands)    
September 30, 2020
Debt securities - available-for-sale:            
United States government obligations and authorities
$ 30,860  $ 105  $ 82  $ $ 30,942  $ 107 
Obligations of states and political subdivisions 1,679  15  —  —  1,679  15 
Corporate 22,669  319  —  —  22,669  319 
International 4,158  14  132  4,290  15 
$ 59,366  $ 453  $ 214  $ $ 59,580  $ 456 


Less than 12 months 12 months or longer Total
  Gross   Gross   Gross
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
    (In thousands)    
December 31, 2019
Debt securities - available-for-sale:          
United States government obligations and authorities
$ 49,833  $ 409  $ 2,218  $ 17  $ 52,051  $ 426 
Obligations of states and political subdivisions 6,810  22  —  —  6,810  22 
Corporate 15,872  94  7,694  38  23,566  132 
International 3,856  10  179  4,035  12 
76,371  535  10,091  57  86,462  592 
           
Debt securities, held-to-maturity:
United States government obligations and authorities
—  —  2,287  39  2,287  39 
Total investments, excluding equity securities $ 76,371  $ 535  $ 12,378  $ 96  $ 88,749  $ 631 

As of September 30, 2020, the Company held a total of 103 debt securities that were in an unrealized loss position, of which 3 securities were in an unrealized loss position continuously for 12 months or more. As of December 31, 2019, the Company held a total of 203 debt securities that were in an unrealized loss position, of which 24 securities were in an unrealized loss position continuously for 12 months or more. The unrealized losses associated with these securities consisted primarily of losses related to corporate securities.

-15-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020


Collateral Deposits

Cash and cash equivalents and investments, the majority of which were debt securities, with fair values of $9.5 million and $11.2 million, were deposited with governmental authorities and into custodial bank accounts as required by law or contractual obligations as of September 30, 2020 and December 31, 2019, respectively.

Reclassification of Held-to-Maturity Securities to Available-for-Sale

The Company sold held-to-maturity securities with a carrying value of $70 thousand and realized a loss of less than $1 thousand during the second quarter of 2020 due to credit concerns for certain securities. The Company, as of the date of the aforementioned sales, reclassified its remaining held-to-maturity securities to available-for-sale. The held-to-maturity securities transferred had an amortized cost of $4.2 million and fair value of $4.3 million and resulted in $0 and $58 thousand of unrealized gains, pre-tax, recognized in other comprehensive income, respectively in the three and nine months ended September 30, 2020.

6. REINSURANCE

Overview

Reinsurance is used to mitigate the exposure to losses, manage capacity and protect capital resources. The Company reinsures (cedes) a portion of written premiums on an excess of loss or a quota-share basis in order to limit the Company’s loss exposure. To the extent that reinsuring companies are unable to meet their obligations assumed under these reinsurance agreements, the Company remains primarily liable to its policyholders.

The Company is selective in choosing reinsurers and considers numerous factors, the most important of which is the financial stability of the reinsurer or capital specifically pledged to uphold the contract, its history of responding to claims and its overall reputation.  In an effort to minimize the Company’s exposure to the insolvency of a reinsurer, the Company evaluates the acceptability and review the financial condition of the reinsurer at least annually with the assistance of the Company’s reinsurance broker.

Significant Reinsurance Contracts

2019-2020 Catastrophe Excess of Loss Reinsurance Program
Given the December 2, 2019 acquisition of the Maison Companies, the Company and PIH agreed to combine FNIC, MNIC, and MIC under a single reinsurance program allowing the carriers to capitalize on efficiencies, spread of risk and scale.

The combined reinsurance treaties provide approximately $1.3 billion of single-event reinsurance coverage in excess of a $27 million retention for catastrophic losses on the first event (and $15 million on the second and third events), including hurricanes, and aggregate coverage of $1.9 billion, at an approximate total cost of $224.3 million.

The combined FNIC, MIC and MNIC private market excess of loss treaties, covering both Florida and non-Florida exposures, became effective July 1, 2019 and all private layers have prepaid automatic reinstatement protection, which affords the carriers additional coverage for subsequent events. This private market excess of loss treaty structure breaks coverage into layers, with a cascading feature such that substantially all layers attach after $20 million in losses for FNIC, $2 million in losses for MNIC and $5 million in losses for MIC. For FNIC and MNIC, the second and third event attaches at $10 million per event, on a combined basis. If the aggregate limit of the preceding layer is exhausted, the next layer drops down (cascades) in its place. Additionally, any unused layer protection drops down for subsequent events until exhausted. The overall reinsurance program is with reinsurers that currently have an A.M. Best Company or Standard & Poor’s rating of “A-” or better or have fully collateralized their maximum potential obligations in dedicated trusts. 

As indicated above, FNIC, MIC and MNIC's combined 2019-2020 reinsurance program is estimated to cost $224.3 million. This amount includes approximately $178.5 million for private reinsurance for the carriers’ exposure described above, including prepaid automatic premium reinstatement protection, along with approximately $45.8 million payable to the FHCF. The combination of private and FHCF reinsurance treaties affords FNIC, MNIC, and MIC approximately $1.9 billion of aggregate coverage with a maximum single event coverage totaling approximately $1.3 billion, exclusive of retentions. Each carrier will directly pay its allocated portion of the aggregate reinsurance ceded premium cost. The allocation methodology by which FNIC, MNIC, and MIC determines
-16-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

their share of the premium and distribution of reinsurance recoveries under the combined reinsurance tower is based on catastrophe loss modeling of the separate books of business. Each carrier shares the combined program cost in proportion to its contribution to the total expected loss in each reinsurance layer. Each carrier's reinsurance recoveries will be based on that carrier's contributing share of a given event's total loss. Both FNIC and MNIC maintained their FHCF participation at 75% for the 2019 hurricane season, and MIC increased its FHCF participation to 90%.

FNIC’s non-Florida excess of loss reinsurance treaty affords us an additional $18 million of coverage for a second event, which applies to hurricane losses only. The result is a non-Florida retention of $20 million for FNIC for the first event and $2 million for the second event, although these retentions are reduced to $10 million and $1 million after taking into account the profit-sharing agreement that FNIC has with the non-affiliated managing general underwriter that writes FNIC’s non-Florida property business. FNIC’s non-Florida reinsurance program cost for the above specific coverage approximates $1.8 million for this private reinsurance.

The insurance carriers’ cost and amounts of reinsurance are based on current analysis of exposure to catastrophic risk. The data is subjected to exposure level analysis at various dates through December 31, 2019. This analysis of the carriers’ exposure level in relation to the total exposures to the FHCF and excess of loss treaties may produce changes in retentions, limits and reinsurance premiums in total, and by carrier, as a result of increases or decreases in the carriers’ exposure levels.

2020-2021 Catastrophe Excess of Loss Reinsurance Program
The Company’s excess of loss catastrophe reinsurance program for 2020-2021 (the “Program”), which covers the Company and its wholly-owned insurance subsidiaries, FNIC, MIC and MNIC was renewed effective July 1, 2020. FNIC, MIC, and MNIC are collectively referred to herein as the “carriers”. The Program provides up to approximately $1.3 billion of single-event reinsurance coverage in excess of up to a $31 million retention for catastrophic losses, including hurricanes, and aggregate coverage up to $1.9 billion, at an approximate total cost of $283.3 million, subject to adjustments based on actual exposure or premium of policies at different points in time in the coming months. The Company will retain 100% of the first $25 million retention on each event plus up to an additional $6 million in retention on the first event by retaining an approximate 8.6% co-participation of the next $70 million of limit after the first $25 million. More specifically, the Program includes up to approximately $1.3 billion in aggregate private reinsurance for coverage in all states in which the Company operates, of which up to approximately $650 million is limited to any one event, plus an additional $650 million of reinsurance provided by the Florida Hurricane Catastrophe Fund (“FHCF”), that responds on both a per occurrence and in the aggregate basis, and which coverage is exclusive to the state of Florida.

The private layers of the Program, covering both Florida and non-Florida exposures have prepaid automatic reinstatement protection, which affords the carriers additional coverage for subsequent events. The private reinsurance market continued to harden this year due to a number of factors, including issues unique to the U.S. coastal catastrophe reinsurance marketplace generally and the Florida market specifically. These factors resulted in more restrictive terms by some of our individual reinsurers. The change in terms from the prior year’s program includes some portion of the program having a single aggregate retention for our carriers taken as a whole, versus each carrier’s own individual retention, plus some portions of the program not “cascading”, which could create less broad coverage on events, if any, beyond two large events and generate potential gaps in coverage that will need to be filled with additional post renewal reinsurance protection or be retained net by the Company. As of September 30, 2020, the overall reinsurance Program was placed with reinsurers with an A.M. Best Company or Standard & Poor’s rating of “A-” or better, or that have fully collateralized their maximum potential obligations in dedicated trusts. For the purpose of debt covenant compliance, if any reinsurer on the program is not collateralized or has a rating lower than “A-” by A.M. Best Company or Standard & Poor’s then the Company treats that reinsurer’s participation as if it was part of the Company’s net retention. Refer to "Part II, Item 1A., Risk Factors” for more information.

The total Program cost includes approximately $235.9 million for private reinsurance for the carriers’ exposure described above, including prepaid automatic reinstatement premium protection, along with approximately $47.4 million payable to the FHCF. The combination of private and FHCF reinsurance treaties will afford the carriers up to approximately $1.9 billion of aggregate coverage within Florida and $1.3 billion in states outside Florida with a maximum single event coverage totaling up to approximately $1.3 billion within Florida and approximately $650 million outside Florida, exclusive of retentions.

Each carrier will share the combined program cost in proportion to its contribution to the total expected loss in each reinsurance layer. Each carrier’s reinsurance recoveries will be based on that carrier’s contributing share of a given event’s total loss and each carrier will be responsible for its portion of the Program’s $25 million per event retention ($31 million for the first event only) based on a specific allocation formula. Both FNIC and MNIC increased their FHCF participation to 90% for the 2020 hurricane season, and MIC maintained its FHCF participation at 90%.

-17-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

In addition, the Company purchased subsequent event reinsurance coverage that has a lower retention than the first event. Under the Program, FNIC’s non-Florida book of business as written by SageSure has excess of loss reinsurance treaties which afford this specific book of business additional protection through an additional $16 million of coverage for a second event, which applies to hurricane losses only. This additional reinsurance coverage is specific to FNIC's non-Florida business and does not afford coverage to MIC's non-Florida business. The result is a retention of approximately $18 million for FNIC's book with SageSure for the first event and approximately $2 million for the second event, although these retentions are reduced to approximately $9 million and approximately $1 million after taking into account the profit-sharing agreement that FNIC has with SageSure. Furthermore, for Florida only losses, the carriers purchased second and third event coverage of 71.5% of $15 million excess of $10 million that reduces the second and third event retention for the carriers, from $25 million to $14.3 million per event, on a combined basis, which could be reduced further by an additional 28.5% placed on a parametric basis with an Excess and Surplus lines carrier that will provide coverage for the second and third Florida hurricane loss, if the first event loss criteria has been satisfied to the carriers after the inception of treaty. The amount of recovery with the parametric product is based on the magnitude of the hurricane and the proximity of the individual insured risk to the hurricane path. This coverage terminates on May 31, 2021.

Furthermore, on September 3, 2020, the Company secured $39.2 million of reinsurance limit at an approximate cost of $11.2 million. This limit is available for Hurricane Delta and any subsequent events that occur during the remainder of the current treaty year. In addition, on October 13, 2020, the Company secured 50% of $10 million excess of $8 million of reinsurance limit at an approximate cost of $875 thousand to lower its retention and further protect FNIC’s non-Florida book of business written by SageSure. This limit is available for any named storm event during the remainder of the calendar year. On November 5, 2020, the Company secured an additional $13.5 million of reinsurance limit at an approximate cost of $2.0 million. This limit will be available for any subsequent events that occur for the remainder of the calendar year, except for Tropical Depression Eta.

The carriers’ cost and amounts of reinsurance are based on current analysis of exposure to catastrophic risk. The data is subjected to exposure level analysis at various dates through December 31, 2020. This analysis of the carriers’ exposure levels in relation to the total exposures to the FHCF and excess of loss treaties may produce changes in retentions, limits and reinsurance premiums in total, and by carrier, as a result of increases or decreases in the carriers’ exposure levels.

Quota-Share Reinsurance Programs
FNIC's reinsurance programs also include quota-share treaties. One such treaty for 30% became effective July 1, 2014, and another for 10% became effective on July 1, 2015 with each running for two years. The combined treaties provided up to a 40% quota-share reinsurance on covered losses for the homeowners’ property and liability insurance program in Florida. The treaties are accounted for as retrospectively rated contracts whereby the estimated ultimate premium or commission is recognized over the period of the contracts.

On July 1, 2016, the 30% quota-share treaty expired on a cut-off basis, which means as of that date the Company retained an incremental 30% of its unearned premiums and losses. On July 1, 2017, the 10% quota-share treaty expired on a cut-off basis, which means as of that date we retained an incremental 10% of the underlying unearned premiums and losses. The reinsurers remain liable for the paid losses occurring during the terms of the treaties, until each treaty is commuted.

On July 1, 2017, FNIC bound a 10% quota-share on its Florida homeowners book of business, which excluded named storms, subject to certain limitations. This treaty is not subject to accounting as a retrospectively rated contract. This treaty expired on July 1, 2018 on a cut-off basis, meaning that the reinsurer will not be liable (under this agreement) for losses as a result of occurrences taking place after the date of termination, and the unearned premium previously ceded was returned to FNIC.

On July 1, 2018, FNIC renewed the quota-share treaty on its Florida homeowners book of business, on an in-force, new and renewal basis, excluding named storms, which was initially set at a 2%, cession and is subject to certain limitations. In addition, this quota-share allowed FNIC to prospectively increase or decrease the cession percentage up to three times during the term of the agreement. Effective October 1, 2018, FNIC elected to increase the cession percentage from 2% to 10% on an in-force, new and renewal basis. The treaty expired on July 1, 2019 on a cut-off basis, meaning that the reinsurer will not be liable (under this agreement) for losses as a result of occurrences taking place after the date of termination, and the unearned premium previously ceded was returned to FNIC.

On July 1, 2019, FNIC renewed the quota-share treaty on its Florida homeowners book of business, on an in-force, new and renewal basis, excluding named storms, which was set at a 10% cession and is subject to certain limitations. In addition, this quota-share allows FNIC the flexibility to prospectively increase or decrease the cession percentage up to three times during the term of the agreement. The treaty expired on July 1, 2020 on a cut-off basis, meaning that the reinsurer will not be liable (under this
-18-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

agreement) for losses as a result of occurrences taking place after the date of termination, and the unearned premium previously ceded was returned to FNIC.

On July 1, 2020, FNIC renewed the quota-share treaty on its Florida homeowners book of business, on an in-force, new and renewal basis, excluding named storms, which was set at a 10% cession and is subject to certain limitations. In addition, this quota-share allows FNIC the flexibility to prospectively increase or decrease the cession percentage up to three times during the term of the agreement. Effective October 1, 2020, FNIC, with the agreement of Swiss Re, increased its cession percentage on this treaty from 10% to 20% on an in-force, new and renewal basis.

On July 1, 2020, FNIC entered into a new quota-share treaty with Anchor Re, Inc. ("Anchor Re"), which is an Arizona captive reinsurance entity that is under the same ownership umbrella as SageSure. The treaty provides 50% quota-share reinsurance protection on in-force, new and renewal business through June 30, 2021, subject to certain limitations, which include limits on the net losses that Anchor Re can realize during the treaty year. The limit is consistent with the amount of inception to date profits of the profit share agreement, as discussed earlier, at the effective date of this treaty. The treaty arrangement is fully collateralized through Anchor Re, Inc. The financial economics of this treaty essentially supplement the 50% profit-sharing agreement that has been and will continue to be in place with SageSure. Thus, this treaty is not expected to have any impact on the pre-tax operating results of the Company, though the components of the combined ratio will be affected by the ceding of premiums, claims and commissions. On November 3, 2020, FNIC, with the agreement of Anchor Re, increased its cession percentage from 50% to 80%, effective December 1, 2020, on its non-Florida homeowners book of business, on an in-force, new and renewal basis. The Company expects FNIC will receive statutory surplus relief from this new quota-share treaty and increase in cession, as described above.

Associated Trust Agreements
Certain reinsurance agreements require FNIC to secure the credit, regulatory and business risk. Fully funded trust agreements securing these risks totaled less than $0.1 million as of September 30, 2020 and December 31, 2019.

Reinsurance Recoverable, Net

Amounts recoverable from reinsurers are recognized in a manner consistent with the claims liabilities associated with the reinsurance placement and presented on the consolidated balance sheet as reinsurance recoverable. Reinsurance recoverable, net consisted of the following:
໿
September 30, December 31,
2020 2019
(In thousands)
Reinsurance recoverable on paid losses $ 102,973  $ 45,186 
Reinsurance recoverable on unpaid losses 349,221  164,429 
Reinsurance recoverable, net $ 452,194  $ 209,615 

As of September 30, 2020, and December 31, 2019, the Company had reinsurance recoverable of $304.7 million (as a result of Hurricanes Irma, Laura and Sally) and $163.7 million (as a result of Hurricanes Irma and Michael). Hurricane Sally made landfall in Alabama on September 16, 2020 as a Category 2 hurricane impacting both Alabama and the Florida panhandle. Hurricane Laura made landfall in Louisiana on August 27, 2020 as a Category 4 hurricane impacting both Louisiana and eastern Texas.


-19-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

Net Premiums Written and Net Premiums Earned

Net premiums written and net premiums earned consisted of the following:
໿
໿
Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
(In thousands)
Net Premiums Written        
Direct $ 180,152  $ 159,131  $ 558,492  $ 460,534 
Ceded (304,751) (146,231) (379,268) (220,363)
$ (124,599) $ 12,900  $ 179,224  $ 240,171 
Net Premiums Earned        
Direct $ 183,518  $ 145,546  $ 538,988  $ 425,133 
Ceded (99,972) (58,172) (238,054) (156,669)
$ 83,546  $ 87,374  $ 300,934  $ 268,464 


7. ALLOWANCES FOR CREDIT LOSS

Overview

There is significant risk and judgment involved in determining estimates of our allowances for credit loss, which reduce the amortized cost of an asset to produce an estimate of the net amount that will be collected over the asset's contractual life. Longer time horizons generally present more uncertainty in expected cash flow. We evaluate the expected credit loss of assets on an individual basis, except in cases where assets collectively share similar risk characteristics where we pool them together. We evaluate and estimate our allowances for credit loss by considering reasonable, relevant and supportable available information.

Activity in the allowances for credit loss, by asset line item on the consolidated balance sheet, is summarized as follows:

Debt
Securities, Reinsurance
Held-to- Premiums Recoverable,
Maturity Receivable Net Total
(In thousands)
Balance as of December 31, 2019 $ —  $ 159  $ —  $ 159 
Cumulative effect of new accounting standard (1) —  32  33 
Credit loss expense (recovery) (2) (1) (41) 20  (22)
Balance as of September 30, 2020 $ —  $ 118  $ 52  $ 170 

(1)Refer to Note 2 above for information about our adoption of ASU 2016-13 on January 1, 2020.
(2)Reflected in commissions and other underwriting expenses on the consolidated statements of comprehensive income (loss).

Accrued investment income is included in other assets on the consolidated balance sheet. We immediately write-off accrued investment income if it becomes uncollectible, therefore we do not measure or record an allowance for credit losses.


-20-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

Investments

Our investment policy is established by the Board of Directors’ Investment Committee and is reviewed on a regular basis. This policy currently limits investment in non-investment-grade debt securities (including high-yield bonds), and limits total investments in preferred stock, common stock and mortgage notes receivable. We also comply with applicable laws and regulations that further restrict the type, quality and concentration of our investments. We do not use any swaps, options, futures or forward contracts to hedge or enhance our investment portfolio.

Our investment portfolio has inherent risks because it contains volatility associated with market pricing and interest rate sensitive instruments, such as bonds, which may be adversely affected by changes in interest rates or credit worthiness. The effects of market volatility, declining economic conditions, such as a U.S. or global economic slowdown, whether due to COVID-19, or other factors, could adversely impact the credit quality of securities in our portfolio and may have unforeseen consequences on the liquidity and financial stability of the issuers of securities we hold.

Our debt securities portfolio includes securities that:

Are explicitly guaranteed by a sovereign entity that can print its own currency;
The currency is routinely held by central banks, used in international commerce and commonly viewed as a reserve currency; and
Have experienced a consistent high credit rating by rating agencies and a long history with no credit losses.


We believe if these governments were to technically default it is reasonable to assume an expectation of immaterial losses, even in the current strained market conditions. Refer to Note 5 above for the balances of these sovereign debt securities, which are reported in the following investment categories:

United States government obligations and authorities;
Obligations of states and political subdivisions; and
International.

For our debt securities, available-for-sale, the fact that a security’s fair value is below its amortized cost is not a decisive indicator of credit loss. In many cases, a security’s fair value may decline due to factors that are unrelated to the issuer’s ability to pay. For this reason, we consider the extent to which fair value is below amortized cost in determining whether a credit-related loss exists. The Company also considers the credit quality rating of the security, with a special emphasis on securities downgraded below investment grade. A comparison is made between the present value of expected future cash flows for a security and its amortized cost. If the present value of future expected cash flows is less than amortized cost, a credit loss is presumed to exist and an allowance for credit loss is established. Management may conclude that a qualitative analysis is sufficient to support its conclusion that the present value of the expected cash flows equals or exceeds a security’s amortized cost. As a result of this review, management concluded that there were no credit-related impairments of our available-for-sale securities as of January 1, 2020, and September 30, 2020. Management does not intend to sell available-for-sale securities in an unrealized loss position, and it is not “more likely than not” that the Company will be required to sell these securities before a recovery in their value to their amortized cost basis occurs.

Our equity investments are measured at fair value through net income (loss), therefore they do not require an allowance for credit loss.
We measure and record our valuation allowances for credit losses on our held-to-maturity corporate securities assets by multiplying the probability the asset would default within a given timeframe (“PD”) by the percentage of the asset not expected to be collected upon default, or loss given default (“LGD”), and multiplying that percentage by the amortized cost of the asset. We use market observable data for our PD and LGD assumptions.


-21-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

Premiums Receivable

We do have collectability risk, but our homeowners policy terms are one year or less and our policyholders are dispersed throughout the southeast United States, although the majority of our policyholders are located in Florida.

We write-off premiums receivable if the individual policy becomes uncollectible. Because collectively our premiums receivable share similar risk characteristics, we pool them to measure our valuation allowance for credit losses using an aging method approach. This method applies historical loss rates to levels of delinquency for our policy terms that are one year or less. Based upon historical collectability, adjusted for current and future economic conditions, we have measured and recorded our valuation allowances for premiums receivable.

The aging of our premiums receivable and associated allowance for credit loss as of September 30, 2020 was as follows:

Days Past Due
Current 1-29 30-59 60-89 90 plus 0 Total
(In thousands)
Amortized cost $ 52,177  $ 527  $ 51  $ 11  $ 105  $ 52,871 
Allowance for credit loss —  (7) (3) (3) (105) (118)
Net $ 52,177  $ 520  $ 48  $ $ —  $ 52,753 

Reinsurance Recoverable

Refer to Note 6 above for details of our efforts to minimize our exposure to losses from a reinsurer’s inability to pay.

We measure and record our valuation allowances for credit losses on our reinsurance recoverables asset by multiplying the PD by the LGD and multiplying the result by the amortized cost of the asset. We use market observable data for our PD and LGD assumptions, and in cases where we are unable to observe LGD, we assume it is 100%.



-22-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

8. LOSS AND LOSS ADJUSTMENT RESERVES

The liability for loss and LAE reserves is determined on an individual-case basis for all claims reported. The liability also includes amounts for unallocated expenses, anticipated future claim development and incurred but not reported ("IBNR").

Activity in the liability for loss and LAE reserves is summarized as follows:

Nine Months Ended
September 30,
2020 2019
(In thousands)
Gross reserves, beginning-of-period $ 324,362  $ 296,230 
Less: reinsurance recoverable (1) (164,429) (166,396)
Net reserves, beginning-of-period 159,933  129,834 
   
Incurred loss, net of reinsurance, related to:    
Current year 291,741  195,024 
Prior year loss development (redundancy) (2) 6,912  1,238 
Ceded losses subject to offsetting experience account adjustments (3) (744) (1,978)
Prior years 6,168  (740)
Amortization of acquisition fair value adjustment (47) — 
Total incurred loss and LAE, net of reinsurance 297,862  194,284 
   
Paid loss, net of reinsurance, related to:    
Current year 143,106  114,790 
Prior years 109,930  77,398 
Total paid loss and LAE, net of reinsurance 253,036  192,188 
   
Net reserves, end-of-period 204,759  131,930 
Plus: reinsurance recoverable (1) 349,221  155,018 
Gross reserves, end-of-period $ 553,980  $ 286,948 

(1)Reinsurance recoverable in this table includes only ceded loss and LAE reserves.
(2)Reflects loss development from prior accident years impacting pre-tax net income. Excludes losses ceded under retrospective reinsurance treaties to the extent there is an offsetting experience account adjustment.
(3)Reflects losses ceded under retrospective reinsurance treaties to the extent there is an offsetting experience account adjustment, such that there is no impact on pre-tax net income (loss).

The establishment of loss reserves is an inherently uncertain process and changes in loss reserve estimates are expected as such estimates are subject to the outcome of future events. The factors influencing changes in claim costs are often difficult to isolate or quantify and developments in paid and incurred losses from historical trends are frequently subject to multiple interpretations. Changes in estimates, or differences between estimates and amounts ultimately paid, are reflected in the operating results of the period during which such adjustments are made.

During the nine months ended September 30, 2020, the Company experienced $6.9 million of unfavorable loss and LAE reserve development on prior accident years in its Florida homeowners and commercial general liability lines of business, offset by redundancy in the homeowners line of business as a result of lower LAE associated with several catastrophe events.

During the nine months ended September 30, 2019, the Company experienced $1.2 million of unfavorable loss and LAE reserve development on prior accident years in its commercial general liability and personal automobile lines of business, offset by redundancy in the homeowners line of business as a result of lower LAE associated primarily with Hurricane Irma.
-23-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020


As previously disclosed, the Company entered into 30% and 10% retrospectively-rated Florida-only property quota-share treaties, which ended on July 1, 2016 and 2017, respectively.  These agreements included a profit share (experience account) provision, under which the Company will receive ceded premium adjustments at the end of the treaty to the extent there is a positive balance in the experience account.  This experience account is based on paid losses rather than incurred losses.  Due to the retrospectively-rated nature of this treaty, when the experience account is positive we cede losses under these treaties as the claims are paid with an equal and offsetting adjustment to ceded premiums (in recognition of the related change to the experience account receivable), with no impact on net income.  Conversely, when the experience account is negative, the Company cedes losses on an incurred basis with no offsetting adjustment to ceded premiums, which impacts net income. Loss development can be either favorable or unfavorable regardless of whether the experience account is in a positive or negative position.

9. LONG-TERM DEBT

Refer to Note 8 of our 2019 Form 10-K for information regarding our long-term debt.

10. INCOME TAXES
In response to COVID-19, the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) was signed into law on March 27, 2020. The CARES Act contains several relief provisions for corporations and lifts certain deduction limitations originally imposed by the Tax Cut and Jobs Act. The CARES Act, among other things, includes temporary changes regarding the prior and future utilization of net operating losses (“NOL”), temporary changes to the prior and future limitations on interest deductions, temporary suspension of certain payment requirements for the employer portion of Social Security taxes and the creation of certain refundable employee retention credits. The Company has been evaluating the various provisions of the CARES Act. As described below, the Company did utilize the NOL provision in the current year.

Our effective income tax rate is the ratio of income tax expense (benefit) over our income (loss) before income taxes. The effective income tax rate was 38.1% and 13.4% for the three months ended September 30, 2020 and 2019, respectively. The effective income tax rate was 37.4% and 19.7% for the nine months ended September 30, 2020 and 2019, respectively. Differences in the effective tax and the statutory Federal income tax rate of 21% are driven by state income taxes and anticipated annual permanent differences, including estimates for tax-exempt interest, dividends received deduction, and executive compensation as well as NOL carrybacks from the impact of the CARES Act.

The Company had an uncertain tax position of $0.6 million and $0.4 million as of September 30, 2020 and December 31, 2019, respectively. The Company does not have a valuation allowance on its deferred income tax asset as of September 30, 2020 and December 31, 2019.

We recognize accrued interest and penalties related to unrecognized tax benefits in the consolidated statements of operations and statements of comprehensive income (loss). For the three and nine months ended September 30, 2020, the Company recognized $0.2 million of expense related to an uncertain tax position. For the three and nine months ended September 30, 2019, the Company recognized $0.2 million of benefit related to an uncertain tax position and our associated accrued interest and penalties was less than $0.1 million.

11. COMMITMENTS AND CONTINGENCIES

Litigation and Legal Proceedings

In the ordinary course of business, the Company is involved in various legal proceedings, specifically claims litigation.  The Company’s insurance subsidiaries participate in most of these proceedings by either defending third-party claims brought against insureds or litigating first-party coverage claims.  The Company accounts for such activity through the establishment of loss and LAE reserves. The Company’s management believes that the ultimate liability, if any, with respect to such ordinary-course claims litigation, after consideration of provisions made for potential losses and costs of defense, is immaterial to the Company’s consolidated financial statements. The Company is also occasionally involved in other legal and regulatory proceedings, some of which may assert claims for substantial amounts, making the Company party to individual actions in which extra-contractual damages, punitive damages or penalties, such as claims alleging bad faith in the handling of insurance claims, are sought.

-24-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

The Company reviews the outstanding matters, if any, on a quarterly basis. The Company accrues for estimated losses and contingent obligations in the consolidated financial statements if and when the obligation or potential loss from any litigation, legal proceeding or claim is considered probable and the amount of the potential exposure is reasonably estimable. The Company records such probable and estimable losses through the establishment of legal expense reserves. As events evolve, facts concerning litigation and contingencies become known and as additional information becomes available, the Company’s management reassesses its potential liabilities related to pending claims and litigation and may revise its previous estimates and make appropriate adjustment to the financial statements. Estimates that require judgment are subject to change and are based on management’s assessment, including the advice of legal counsel, the expected outcome of litigation and legal proceedings or other dispute resolution proceedings or the expected resolution of contingencies. The Company’s management believes that the Company’s accruals for probable and estimable losses are reasonable and that the amounts accrued do not have a material effect on the Company’s consolidated financial statements.

Assessment Related Activity

The Company operates in a regulatory environment where certain entities and organizations have the authority to require us to participate in assessments. Currently these entities and organizations include: Florida Insurance Guaranty Association (“FIGA”), Citizens Property Insurance Corporation (“Citizens”), FHCF, Georgia Insurers Insolvency Pool (“GIIP”), Special Insurance Fraud Fund (“SIIF”), Fair Access to Insurance Requirements Plan (“FAIRP”), Property Insurance Association of Louisiana (“PIAL”), South Carolina Property & Casualty Insurance Guaranty Association (“SCPCIGA”), Texas Property and Casualty Insurance Guaranty Association (“TPCIGA”), Texas Windstorm Insurance Association (“TWIA”), Alabama Insurance Guaranty Association (“AIGA”), and Alabama Insurance Underwriters Association (“AIUA”). As a direct premium writer, we are required to participate in certain insurer solvency associations under the applicable laws in the states in which we do business. One form of assessment requires us to collect the assessment from our policyholders and then remit the collected amounts to the assessing entity, which does not have any impact on our financial results. We are also subject to assessments that require us to pay the full amount of the assessment to the assessing entity and then we are permitted to make rate filings to allow us to recoup the amount of the assessment from our policyholders over time.

In connection with its automobile line of business, which is currently winding down, FNIC is also required to participate in an insurance apportionment plan under Florida law, which is referred to as a JUA Plan. The JUA Plan provides for the equitable apportionment of any profits realized, or losses and expenses incurred, among participating automobile insurers. In the event of an underwriting deficit incurred by the JUA Plan, which is not recovered through the policyholders in the JUA Plan, such deficit shall be recovered from the companies participating in the JUA Plan in the proportion that the net direct written premiums of each such member during the preceding calendar year bear to the aggregate net direct premiums written in this state by all members of the JUA Plan. There were no material assessments by the JUA Plan as of December 31, 2019. Future assessments by the JUA and the JUA Plan are indeterminable at this time.

-25-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

Leases

The Company is committed under various operating lease agreements for office space.

The right-of-use asset is reflected in other assets and the lease liability is reflected in other liabilities on our consolidated balance sheets. Lease expense, net of sublease income is reflected in general and administrative expenses on our consolidated statements of operations.

Additional information related to our operating lease agreement for office space consisted of the following:
September 30,
2020
(In thousands)
Right-of-use asset $ 7,605 
Accrued rent (245)
Right-of-use asset, net $ 7,360 
Lease liability $ 7,605 
Weighted average discount rate 4.70  %
Weighted average remaining years of lease term 7.9

Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
(In thousands)
Lease expense $ 280  $ 260  $ 839  $ 779 
Sublease income (34) (49) (303) (127)
Lease expense, net $ 246  $ 211  $ 536  $ 652 
Net cash provided by (used in) operating activities $ (223) $ (188) $ (456) $ (440)

The interest rates implicit in our leases were not known, therefore the weighted-average discount rate above was determined by what FedNat would have had to pay to borrow the lease payments in a similar economic environment that existed at inception of our leases while considering our general credit and the theoretical collateral of the office space. In the event of a change to lease term, the Company would re-evaluate all inputs and assumptions, including the discount rate.

12. SHAREHOLDERS' EQUITY

Common Stock Repurchases

The Company may repurchase shares in open market transactions in accordance with Rule 10b-18 or under Rule 10b5-1 of the Exchange Act from time to time in its discretion, based on ongoing assessments of the Company’s capital needs, the market price of its common stock and general market conditions. The amount and timing of all repurchase transactions are contingent upon market conditions, applicable legal requirements and other factors.

In December 2019, the Company’s Board of Directors authorized a share repurchase program under which the Company may repurchase up to $10.0 million of its outstanding shares of common stock from January 1, 2020 through December 31, 2020. In March 2020, the Company’s Board of Directors authorized an additional $10.0 million increase to the share repurchase program. This increased authorization will allow the Company to purchase up to $20 million of shares outstanding through December 31, 2020. During the nine months ended September 30, 2020, the Company repurchased 800,235 shares of its common stock at a total
-26-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

cost of $10.0 million, which is an average price per share of $12.50. As of September 30, 2020, and as of the filing of this report, the remaining availability for future repurchases of our common stock under this program was $10.0 million.

Securities Offerings

In June 2018, the Company filed with the Securities and Exchange Commission (“SEC”) on Form S-3, a shelf registration statement enabling the Company to offer and sell, from time to time, up to an aggregate of $150.0 million of securities. No securities have been offered or sold under this registration statement.

Share-Based Compensation Expense

Share-based compensation arrangements include the following:
໿
Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
(In thousands)
Restricted stock $ 344  $ 467  $ 1,066  $ 1,463 
Performance stock 42  135  128  497 
Total share-based compensation expense $ 386  $ 602  $ 1,194  $ 1,960 
       
Recognized tax benefit $ 95  $ 137  $ 293  $ 481 
Intrinsic value of options exercised 106  110 
Fair value of restricted stock vested 19  482  1,659  1,715 

The intrinsic value of options exercised represents the difference between the stock option exercise price and the weighted average closing stock price of FNHC common stock on the exercise dates, as reported on the NASDAQ Global Market.

Stock Option Awards

A summary of the Company’s stock option activity includes the following:
໿
Number of Shares Weighted Average Option Exercise Price
Outstanding at January 1, 2020 38,850  $ 3.80 
Granted —  — 
Exercised (13,100) 3.24 
Cancelled —  — 
Outstanding at September 30, 2020 25,750  $ 3.99 

Restricted Stock Awards

The Company recognizes share-based compensation expense for all restricted stock awards (“RSAs”) held by the Company’s directors, executives and other key employees. For all RSA awards, excluding grants based on total relative shareholder return ("TSR"), the accounting charge is measured at the grant date as the fair value of FNHC common stock and expensed as non-cash compensation over the vesting term using the straight-line basis for service awards and over successive one-year requisite service periods for performance-based awards. Our expense for our performance awards depends on achievement of specified results; therefore, the ultimate expense can range from 0% to 250% of target. Our TSR-based cliff vesting awards contain performance criteria which are tied to the achievement of certain market conditions. The TSR grant date fair value was determined using a Monte Carlo simulation and, unlike the performance condition awards, the expense is not reversed if the performance condition is not met. This value is recognized as expense over the requisite service period using the straight-line recognition method.

-27-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

During the nine months ended September 30, 2020 and 2019, the Board of Directors granted 210,272 and 140,156 RSAs, respectively, vesting over three or five years, to the Company’s directors, executives and other key employees.

RSA activity includes the following:
Number of Shares Weighted Average Grant Date Fair Value
Outstanding at January 1, 2020 255,345  $ 17.82 
Granted 210,272  11.82 
Vested (89,839) 18.46 
Cancelled —  — 
Outstanding at September 30, 2020 375,778  $ 14.32 

The weighted average grant date fair value is measured using the closing price of FNHC common stock on the grant date, as reported on the NASDAQ Global Market.

Accumulated Other Comprehensive Income (Loss)

Accumulated other comprehensive income (loss) associated with debt securities - available-for-sale consisted of the following:

໿
Three Months Ended September 30,
2020 2019
Before Tax Income Tax Net Before Tax Income Tax Net
(In thousands)
Accumulated other comprehensive income (loss), beginning-of-period
$ 19,065  $ (4,675) $ 14,390  $ 12,404  $ (3,144) $ 9,260 
Other comprehensive income (loss) before reclassification
2,618  (642) 1,976  3,921  (854) 3,067 
Reclassification adjustment for realized losses (gains) included in net income
(798) 195  (603) (893) 214  (679)
1,820  (447) 1,373  3,028  (640) 2,388 
Accumulated other comprehensive income (loss), end-of-period
$ 20,885  $ (5,122) $ 15,763  $ 15,432  $ (3,784) $ 11,648 


Nine Months Ended September 30,
2020 2019
Before Tax Income Tax Net Before Tax Income Tax Net
(In thousands)
Accumulated other comprehensive income (loss), beginning-of-period
$ 13,621  $ (3,340) $ 10,281  $ (5,023) $ 1,273  $ (3,750)
Other comprehensive income (loss) due to debt securities - held to maturity reclassified to available-for-sale
(58) 14  (44) —  —  — 
Other comprehensive income (loss) before reclassification
16,422  (4,027) 12,395  21,979  (5,431) 16,548 
Reclassification adjustment for realized losses (gains) included in net income
(9,100) 2,231  (6,869) (1,524) 374  (1,150)
 7,264  (1,782) 5,482  20,455  (5,057) 15,398 
Accumulated other comprehensive income (loss), end-of-period
$ 20,885  $ (5,122) $ 15,763  $ 15,432  $ (3,784) $ 11,648 


-28-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020

13. EARNINGS PER SHARE

Basic earnings per share (“EPS”) is computed by dividing net income by the weighted average number of common shares outstanding for the period, including vested restricted stock awards during the period. Diluted EPS is computed by dividing net income by the weighted average number of shares outstanding, noted above, adjusted for the dilutive effect of stock options and unvested restricted stock awards.  Dilutive securities are common stock equivalents that are freely exercisable into common stock at less than market prices or otherwise dilute earnings if converted. The net effect of common stock equivalents is based on the incremental common stock that would be issued upon the assumed exercise of common stock options and the vesting of RSAs using the treasury stock method. Common stock equivalents are not included in diluted earnings per share when their inclusion is antidilutive.


The following table presents the calculation of basic and diluted EPS:
Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
(In thousands, except per share data)
Net income (loss) attributable to FedNat Holding Company shareholders $ (20,745) $ 4,659  $ (40,091) $ 7,904 
   
Weighted average number of common shares outstanding - basic 13,708  12,854  13,890  12,831 
Net income (loss) per common share - basic      $ (1.51) $ 0.36  $ (2.89) $ 0.62 
   
   
Weighted average number of common shares outstanding - basic 13,708  12,854  13,890  12,831 
Dilutive effect of stock compensation plans —  43  —  49 
Weighted average number of common shares outstanding - diluted 13,708  12,897  13,890  12,880 
Net income (loss) per common share - diluted $ (1.51) $ 0.36  $ (2.89) $ 0.61 
   
Dividends per share $ 0.09  $ 0.08  $ 0.27  $ 0.24 

Dividends Declared

In February 2020, our Board of Directors declared a $0.09 per common share dividend, payable in March 2020, to shareholders of record on February 14, 2020, amounting to $1.3 million.

In April 2020, our Board of Directors declared a $0.09 per common share dividend, payable in June 2020, to shareholders of record on May 15, 2020, amounting to $1.3 million.

In July 2020, our Board of Directors declared a $0.09 per common share dividend, payable in September 2020, to shareholders of record on August 14, 2020, amounting to $1.2 million.

In November 2020, our Board of Directors declared a $0.09 per common share dividend, payable in December 2020, to shareholders of record on November 16, 2020, amounting to $1.2 million.







-29-


FedNat Holding Company and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
September 30, 2020


14. SUBSEQUENT EVENTS

Dividends Declared

Refer to Note 13 above for information related to our dividend declared in November 2020.

Reinsurance

Refer to Note 6 above for information related to the following reinsurance treaties:

Effective October 1, 2020, FNIC, with the agreement of Swiss Re, increased its cession percentage from 10% to 20% on its Florida homeowners book of business, on an in-force, new and renewal basis.
On October 13, 2020, FNIC secured additional reinsurance limit for FNIC’s non-Florida book of business to lower its retention for any future named storm events during the remainder of the calendar year.
On November 3, 2020, FNIC, with the agreement of Anchor Re, increased its cession percentage from 50% to 80%, effective December 1, 2020, on its non-Florida homeowners book of business, on an in-force, new and renewal basis.
On November 5, 2020, FNIC secured additional reinsurance limit for all states for any future weather events, other than Tropical Depression Eta during the remainder of the calendar year.

Severe Weather Events

The Company experienced impacts from Hurricanes Delta and Zeta, both of which made landfall in the state of Louisiana during the month of October. We expect each storm to exceed our single-event aggregate reinsurance program retention. As of the date hereof, we have 5,042 reported claims and $41.4 million gross incurred losses across all of our states that we do business in and across all three insurance carriers for these two hurricanes. Our preliminary estimate is that we will incur approximately $27 million (pre-tax) of catastrophe losses, net of all recoveries, including reinsurance, on a combined basis for these storms.

Formation of Strategic Review Committee

The Company's Board of Directors has formed a Strategic Review Committee to oversee a review of strategic alternatives and the retention of a firm to serve as financial advisor.
-30-


General information about FedNat Holding Company can be found at www.FedNat.com; however, the information that can be accessed through our website is not part of our report. We make our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to these reports filed or furnished pursuant to the Securities and Exchange Act of 1934 available free of charge on our website, as soon as reasonably practicable after they are electronically filed with the SEC.

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

Overview

The following discussion and analysis should be read in conjunction with our unaudited consolidated financial statements and notes thereto included under Part I, Item 1 of this Quarterly Report on Form 10-Q (the “Form 10-Q”). In addition, please refer to our audited consolidated financial statements and notes thereto and related “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our most recent Annual Report on Form 10-K for the year ended December 31, 2019 (the “2019 Form 10-K”).

Unless the context requires otherwise, as used in the remainder of this Form 10-Q, the terms “FNHC,” “Company,” “we,” “us” and “our” refer to FedNat Holding Company and its consolidated subsidiaries.

Below, in addition to providing consolidated revenues and net income (loss), we also provide adjusted operating revenues and adjusted operating income (loss) because we believe these performance measures that are not United States of America generally accepted accounting principles ("GAAP") measures allow for a better understanding of the underlying trend in our business, as the excluded items are not necessarily indicative of our operating fundamentals or performance.
Non-GAAP measures do not replace the most directly comparable GAAP measures and we have included a detailed reconciliation thereof in "Results of Operations" below.

We exclude the after-tax (using our prevailing income tax rate) effects of the following items from GAAP net income (loss) to arrive at adjusted operating income (loss):

Net realized and unrealized gains (losses), including, but not limited to, gains (losses) associated with investments and early extinguishment of debt;
Acquisition/integration and other costs and the amortization of specifically identifiable intangibles (other than value of business acquired);
Impairment of intangibles;
Income (loss) from initial adoption of new regulations and accounting guidance; and
Income (loss) from discontinued operations.

We also exclude the pre-tax effect of the first bullet above from GAAP revenues to arrive at adjusted operating revenues.

Forward-Looking Statements

This Form 10-Q or the documents that are incorporated by reference into this Form 10-Q contains forward-looking statements within the meaning of Sect