OVERVIEW
We are a distributor and producer of non-standard personal automobile insurance
policies for individual consumers in targeted geographic markets. Non-standard
personal automobile insurance policies provide coverage to drivers who find it
difficult to obtain insurance from standard automobile insurance companies due
to their lack of prior insurance, age, driving record, limited financial
resources or other factors. Non-standard personal automobile insurance policies
generally require higher premiums than standard automobile insurance policies
for comparable coverage.
As of March 31, 2012, our subsidiaries included insurance companies licensed to
write insurance policies in 39 states, underwriting agencies, retail agencies
with 201 owned stores and a relationship with two unaffiliated underwriting
agencies. We are currently active in offering insurance directly to individual
consumers through retail stores in 9 states (Louisiana, Texas, Illinois,
Alabama, Missouri, Indiana, South Carolina, Kansas and Wisconsin) and
distributing our own insurance policies through our owned retail stores and
4,800 independent agents or brokers in 8 states (Louisiana, Texas, Illinois,
Alabama, California, Missouri, Indiana and South Carolina). In March 2011, we
discontinued writing new business in the state of Michigan, and in June 2011 we
discontinued writing renewals.
We believe that the delivery of non-standard personal automobile insurance
policies to individual consumers requires the interaction of four basic
operations, each with a specialized function:
• Insurance companies, which possess the regulatory authority and capital
necessary to issue insurance policies;
• Underwriting agencies, which supply centralized infrastructure and
personnel required to design and service insurance policies that are
distributed through retail agencies;
• Retail agencies, which provide multiple points of sale under established
local brands with personnel licensed and trained to sell insurance
policies and ancillary products to individual consumers; and
• Premium finance companies, which provide payment alternatives to
individual customers of our retail agencies.
Our four operating components often function as a vertically integrated unit,
capturing the premium and associated risk and commission income and fees
generated from the sale of an insurance policy. There are other instances,
however, when each of our operations functions with unaffiliated entities on an
unbundled basis, either independently or with one or two of the other
operations. For example, our retail stores earn commission income and fees from
sales of non-standard automobile insurance policies issued by third-party
insurance carriers.
We believe that our ability to enter into a variety of business relationships
with third parties allows us to maximize sales penetration and profitability
through industry cycles better than if we employed a single, vertically
integrated operating structure.
ADOPTED ACCOUNTING STANDARDS
In October 2010, the Financial Accounting Standards Board (FASB) issued
Accounting Standards Update (ASU) 2010-26, Accounting for Costs Associated with
Acquiring or Renewing Insurance Contracts. ASU 2010-26 modified the definitions
of the type of costs that can be capitalized in the successful acquisition of
new and renewal insurance contracts. ASU 2010-26 requires incremental direct
costs of successful contract acquisition as well as certain costs related to
underwriting, policy issuance and processing, medical and inspection and sales
force contract selling for successful contract acquisition to be capitalized.
These incremental direct costs and other costs are those that are essential to
the contract transaction and would not have been incurred had the contract
transaction not occurred. The Company retrospectively adopted ASU 2010-26 on
January 1, 2012. The cumulative effect of the adoption was a decrease of
shareholders' equity by $11.3 million, net of tax, as of January 1, 2011.
The following table illustrates the effect of adopting ASU 2010-26 in the
consolidated balance sheets (in thousands):
December 31, 2011
Previously As
Reported Adjusted
Deferred acquisition costs, net $ 3,206 $ (6,464 )
Retained deficit (71,307 ) (80,977 )
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The following table illustrates the effect of adopting ASU 2010-26 in the
consolidated statements of operations (in thousands, except per share amounts):
Three Months ended March 31, 2011
Previously
Reported As Adjusted
Selling, general and administrative expenses $ 33,701 $ 33,863
Net loss (9,648 ) (9,810 )
Net loss per share:
Basic (0.62 ) (0.63 )
Diluted (0.62 ) (0.63 )
ASU 2011-08, Intangibles-Goodwill and Other (Topic 350): Testing Goodwill for
Impairment, permits an entity to make a qualitative assessment of whether it is
more likely than not that a reporting unit's fair value is less than its
carrying amount before applying the two-step goodwill impairment test.
Additionally, if the carrying amount of a reporting unit is zero or negative,
the second step of the impairment test shall be performed to measure the amount
of the impairment loss, if any, when it is more likely than not that a goodwill
impairment exists. In considering whether it is more likely than not that a
goodwill impairment exists, a qualitative assessment will be performed. If an
entity concludes it is not more likely than not that the fair value of a
reporting unit is less than its carrying amount, it need not perform the
two-step impairment test. This standard was effective for interim and annual
goodwill impairment tests performed for fiscal years beginning after
December 15, 2011. Our qualitative assessment consisted of consideration of
current and projected earnings, premium volume, and projected loss and expense
ratios over the next five years, as well as business trends and market
conditions. Based on this assessment, we do not believe it is not more likely
than not that goodwill impairment exists as of March 31, 2012. As a result, the
two-step impairment test was not performed.
In addition to the above, refer to Note 1 to the unaudited Consolidated
Financial Statements for a discussion of certain accounting standards that have
been adopted during 2012.
MEASUREMENT OF PERFORMANCE
We are an insurance holding company engaged in the underwriting, servicing and
distributing of non-standard personal automobile insurance policies and related
products and services. We distribute our products through three distinct
distribution channels: our retail stores, independent agents and unaffiliated
underwriting agencies. We generate earned premiums and fees from policyholders
through the sale of our insurance products. In addition, through our retail
stores, we sell insurance policies of third-party insurers and other products or
services of unaffiliated third-party providers and thereby earn commission
income from those third-party providers and insurers and fees from the
customers.
As part of our corporate strategy, we treat our retail stores as independent
agents, encouraging them to sell to their individual customers whatever products
are most appropriate for and affordable to those customers. We believe that this
offers our retail customers the best combination of service and value,
developing stronger customer loyalty and improving customer retention. In
practice, this means that in our retail stores, the relative proportion of the
sales of our own insurance products as compared to the sales of the third-party
policies will vary depending upon the competitiveness of our insurance products
in the marketplace during the period. This reflects our intention of maintaining
the margins in our insurance company subsidiaries, even at the cost of business
lost to third-party carriers.
In the independent agency distribution channel and the unaffiliated underwriting
agency distribution channel, the effect of competitive conditions is the same as
in our retail store distribution channel. As in our retail stores, independent
agents (either working directly with us or through unaffiliated underwriting
agencies) not only offer our products but also offer their customers a selection
of products by third-party carriers. Therefore, our insurance products must be
competitive in pricing, features, commission rates and ease of sale or the
independent agents will sell the products of those third parties instead of our
products. We believe that we are generally competitive in the markets we serve,
and we constantly evaluate our products relative to those of other carriers.
Premiums. One measurement of our performance is the level of gross premiums
written and a second measurement is the relative proportion of premiums written
through our three distribution channels. The following table displays our gross
premiums written and assumed by distribution channel (in thousands):
Three Months Ended
March 31,
2012 2011
Our underwriting agencies:
Retail agencies $ 46,753 $ 52,188
Independent agencies 15,670 21,131
Subtotal 62,423 73,319
Unaffiliated underwriting agencies 3,145 4,460
Total $ 65,568 $ 77,779
Total gross premiums written for the three months ended March 31, 2012 decreased
$12.2 million, or 15.7%, compared with the prior year quarter. This decrease was
due to a decline in renewal policies because of a number of actions taken during
2010 into 2011 to increase prices and strengthen underwriting standards to
improve the profitability of the gross premiums written. New business policies
increased 2.4% for the first three months of 2012 compared to the prior year,
which was comprised of a 2.6% increase from our retail stores and a 1.9%
increase from independent agents.
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In our retail distribution channel, gross premiums written consist of premiums
written for our affiliated insurance carriers' products only and do not include
premiums written for third-party insurance carriers in our retail stores. We
earn commission income and fees in our retail distribution channel for sales of
third-party insurance policies. The following represents gross premiums written
produced by our retail agencies (in thousands):
Three Months Ended
March 31,
2012 2011
Our policies $ 46,753 $ 52,188
Third-party carrier policies 16,366 15,433
Total $ 63,119 $ 67,621
Gross premiums written of our policies in our retail distribution channel for
the three months ended March 31, 2012 decreased $5.4 million, or 10.4%, compared
with the same period in the prior year. This decrease is a result of the decline
in renewal policies. However, third-party policies for the three months ended
March 31, 2012 increased $0.9 million, or 6.0%, compared with the same period in
the prior year.
In our independent agency distribution channel, gross premiums written for the
three months ended March 31, 2012 decreased $5.5 million, or 25.8%, compared
with the same period in the prior year. We stopped writing new policies in
Michigan in March 2011 and renewing policies in June 2011. Michigan represented
$1.0 million of the decline.
Gross premiums written by our unaffiliated underwriting agencies for the three
months ended March 31, 2012 decreased $1.3 million, or 29.5%, compared with the
same period in the prior year.
The following table displays our gross premiums written and assumed by state (in
thousands):
Three Months Ended
March 31,
2012 2011
Louisiana $ 33,675 $ 39,375
Texas 10,359 12,111
Alabama 7,863 8,980
Illinois 7,268 8,054
California 3,130 4,432
Indiana 2,244 2,145
South Carolina 632 1,047
Missouri 423 669
Michigan (41 ) 960
Other 15 6
Total $ 65,568 $ 77,779
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The following table displays our net premiums written by distribution channel
(in thousands):
Three Months Ended
March 31,
2012 2011
Our underwriting agencies:
Retail agencies - gross premiums written $ 46,753 $ 52,188
Ceded reinsurance (7,117 ) (13,949 )
Subtotal retail agencies net premiums written 39,636 38,239
Independent agencies - gross premiums written 15,670 21,131
Ceded reinsurance (1,049 ) (6,524 )
Subtotal independent agencies net premiums written 14,621 14,607
Unaffiliated underwriting agencies - gross premiums
written
3,145 4,460
Ceded reinsurance 641 (17 )
Subtotal unaffiliated underwriting agencies net premium
written
3,786 4,443
Excess of loss coverages with various reinsurers (144 ) (968 )
Catastrophe coverages with various reinsurers (161 ) (84 )
Total net premiums written $ 57,738 $ 56,237
Total net premiums written for the three months ended March 31, 2012 increased
$1.5 million, or 2.7%, compared with the same period in the prior year primarily
due to the decline in ceded written premium related to the termination of a
quota-share reinsurance agreement on January 1, 2012. This contract, put in
place effective January 1, 2011, terminated on a cut-off basis and resulted in
the return of $11.8 million of ceded unearned premium, net of $4.3 million of
deferred ceding commissions during the three months ended March 31, 2012.
Effective October 1, 2010, we entered into a quota-share reinsurance agreement
with a third-party reinsurance company ceding 40% of premiums and losses on
policies in-force in all states other than Michigan on October 1, 2010 and
policies written through December 31, 2010 on a run-off basis. Written premiums
ceded under this agreement totaled $60.8 million through March 31, 2012.
In 2011, we entered into an additional quota-share agreement with a third-party
reinsurance company under which we ceded 10% of business produced in Louisiana,
Alabama, Texas and Illinois from September 1, 2011 through December 31, 2011. At
December 31, 2011, this contract converted to a 40% quota-share reinsurance
contract on the in-force business for the applicable states throughout 2012.
Written premiums ceded under this agreement totaled $23.6 million during the
three months ended March 31, 2012 and $46.5 million since inception.
RESULTS OF OPERATIONS
We had a net loss from continuing operations of $8.5 million and $9.8 million
for the three months ended March 31, 2012 and 2011, respectively.
Total revenues for the three months ended March 31, 2012 decreased $20.8
million, or 28.8%, compared with the three months ended March 31, 2011. The
decrease was due to decreases in net premiums earned, commission income and
fees, net investment income, net realized gains, and other income.
The largest component of revenue is net premiums earned on insurance policies.
Due to the decline in net written premiums, net premiums earned for the current
quarter decreased $16.4 million, or 32.4%, to $34.2 million compared with the
prior year quarter of $50.6 million. Since insurance premiums are earned over
the service period of the policies, the revenue in the current quarter includes
premiums earned on insurance products written through our three distribution
channels in both current and previous periods.
Commission Income and Fees. Another measurement of our performance is the
relative level of production of commission income and fees. Commission income
and fees consist of (a) policy, installment, premium finance and agency fees
earned for business written or assumed by our insurance companies both through
independent agents and our retail agencies and (b) the commission, premium
finance and agency fee income earned on sales of unaffiliated, third-party
companies' insurance policies or other products sold by our retail agencies.
These various types of commission income and fees are impacted in different ways
by the decisions we make in pursuing our corporate strategy.
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Policy, installment, premium finance and agency fees are earned for business
written or assumed by our insurance companies both through independent agents
and our retail agencies. Generally, we can increase or decrease agency fees,
installment fees, and interest rates subject to limited regulatory restrictions,
but policy fees must be approved by the applicable state's department of
insurance. Premium finance fees are financing fees earned by our premium finance
subsidiaries, and consist of origination and servicing fees as well as interest
on premiums that customers choose to finance.
Commissions, premium finance and agency fees are earned on sales of third-party
companies' products sold by our retail agencies. As described above, in our
owned stores, there can be a shift in the relative proportion of the sales of
third-party insurance products as compared to sales of our own carriers'
products due to the relative competitiveness of our insurance products that
could result in an increase in our commission income and fees from
non-affiliated third-party insurers. We negotiate commission rates with the
various third-party carriers whose products we agree to sell in our retail
stores. As a result, the level of third-party commission income will also vary
depending upon the mix by carrier of third-party products that are sold. In
addition, we earn fees from the sales of other products and services such as
auto club memberships and bond cards offered by unaffiliated companies.
The following sets forth the components of consolidated commission income and
fees earned for the current quarter and the prior year quarter (in thousands):
Three Months Ended
March 31,
2012 2011
Policyholder fees $ 4,774 $ 7,850
Premium finance revenue 5,541 6,113
Commissions and fees 4,759 4,707
Agency fees 1,109 1,360
Total commission income and fees $ 16,183 $ 20,030
Total commission income and fees decreased $3.8 million, or 19.2%, compared with
the same period in the prior year. Policyholder fees decreased $3.1 million, or
39.2%, due to the lower overall volume of premiums written and a change in mix
of states. Premium finance revenue decreased $0.6 million, or 9.4%, due to
decreases in the number of policies financed and revenue per policy. Commissions
and fees increased $0.1 million, or 1.1%, due to more of our retail customers
choosing third-party products and an expansion of our ancillary product sales.
Net Investment Income and Other Income. Net investment income includes income on
our portfolio of debt securities and net rental income from our investment in
real property. Net investment income for the three months ended March 31, 2012
decreased $0.5 million, or 30.4%, compared with the same period in the prior
year. The decrease was primarily due to a 45.4% decrease in total average
invested assets to $106.4 million during the current quarter from $194.9 million
in the prior year period, which was partially offset by a $0.1 million increase
in income from our investment in real estate. The average investment yield was
2.2% (2.4% on a taxable equivalent basis) in the current quarter, compared with
2.6% (2.7% on a taxable equivalent basis) in the prior year period.
Losses and Loss Adjustment Expenses. Since the largest expenses of an insurance
company are the losses and loss adjustment expenses, another measurement of our
insurance carriers' performance is the level of such expenses, specifically as a
ratio to earned premiums. Our losses and loss adjustment expenses are a blend of
the specific estimated and actual costs of providing the coverage contracted by
the purchasers of our insurance policies. We maintain reserves to cover our
estimated ultimate liability for losses and related loss adjustment expenses for
both reported and unreported claims on the insurance policies issued by our
insurance companies. The establishment of appropriate reserves is an inherently
uncertain process, involving actuarial and statistical projections of what we
expect to be the cost of the ultimate settlement and administration of claims
based on historical claims information, estimates of future trends in claims
severity and other variable factors such as inflation. The change in claims
practices that began in the third quarter of 2009 and throughout 2010 added
additional uncertainty to the reserving process. Due to the inherent uncertainty
of estimating reserves, reserve estimates can be expected to vary from period to
period. To the extent that our reserves prove to be inadequate in the future, we
would be required to increase our reserves for losses and loss adjustment
expenses and incur a charge to earnings in the period during which such reserves
are increased. The historic development of our reserves for losses and loss
adjustment expenses is not necessarily indicative of future trends in the
development of these amounts.
Net losses and loss adjustment expenses for the current quarter decreased $14.7
million, or 36.5%, compared with the prior year quarter. The percentage of net
losses and loss adjustment expense to net premiums earned (the net loss ratio)
was 75.1% in the current quarter, compared with 79.9% in the prior year quarter.
The accident year decline in the net loss ratio for the quarter compared with
the 2011 accident year was due to the pricing and underwriting actions that were
taken as well as additional process changes implemented in the handling of
claims to mitigate the significant increases in severity that occurred due to
the claims initiatives. The accident year decline was even more significant
taking into account the impact of the quota-share treaties. Loss adjustment
expenses include all of the business subject to the quota-share treaties with
ceding commission income booked as an offset to selling, general and
administrative expenses. As such, the quota-share treaties' impact on the loss
ratio was to increase it by 6.5 points for the three months ended March 31, 2012
and 4.7 points for the prior year quarter.
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Selling, General and Administrative Expenses. Another measurement of our
performance that addresses our overall efficiency is the level of selling,
general and administrative expenses. We recognize that our customers are
primarily motivated by low prices. As a result, we strive to keep our costs as
low as possible to be able to keep our prices affordable and thus to maximize
our sales while still maintaining profitability. Our selling, general and
administrative expenses include not only the cost of acquiring the insurance
policies through our insurance carriers (the amortization of the deferred
acquisition costs) and managing our insurance carriers and the retail stores,
but also the costs of the holding company. The largest component of selling,
general and administrative expenses is personnel costs, including compensation
and benefits. Selling, general and administrative expenses decreased $7.0
million, or 20.8%, compared with the prior year quarter, primarily due to a $4.2
million decline in distribution costs and a $2.4 million decline in other costs
due to management actions to reduce expenses.
Deferred policy acquisition costs represent the deferral of expenses that we
incur related to successful contract acquisition of new business or renewal of
existing business. Policy acquisition costs, consisting of primarily commission
expenses and premium taxes, are initially deferred and then charged against
income ratably over the terms of the related policies through amortization of
the deferred policy acquisition costs. Thus, the amortization of deferred
acquisition costs is correlated with earned premium and the ratio of
amortization of deferred acquisition costs to earned premium in an accounting
period is another measurement of performance.
Amortization of deferred policy acquisition costs is a major component of SG&A
expenses. The following table sets forth the impact that amortization of
deferred acquisition costs had on SG&A expenses and the change in deferred
acquisition costs (in thousands):
Three Months Ended
March 31,
2012 2011
(As Adjusted)
Amortization of deferred acquisition costs, net $ (1,902 ) $ 738
Other selling, general and administrative
expenses 28,723 33,125
Total selling, general and administrative
expenses $ 26,821 $ 33,863
Total as a percentage of net premiums earned 78.5 % 67.0 %
Beginning deferred acquisition costs, net $ (6,464 ) $ 460
Additions, net of ceding commission 2,303 375
Amortization, net of ceding commissions 1,902 (738 )
Ending deferred acquisition costs $ (2,259 ) $ 97
Amortization of deferred acquisition costs, net,
as a percentage of net premiums earned (5.6 %) 1.5 %
Interest Expense. Interest expense for the three months ended March 31, 2012
decreased $0.1 million, or 1.7%, compared with the same period in the prior
year. This decrease was due to a decrease in the average debt outstanding and a
decrease in interest expense on the lease obligation entered into in May 2010,
partially offset by higher interest rates on the notes payable. Amortization of
debt discount was $1.0 million in the current quarter as compared with $1.2
million for the prior year quarter.
Income Taxes. Income tax expense for the current quarter was $0.1 million as
compared with income tax expense of $0.4 million for the same period in the
prior year. Income tax expense for both periods represents increasing deferred
tax liabilities arising from timing differences on goodwill and other intangible
assets.
Our gross deferred tax assets prior to recognition of valuation allowance were
$95.1 million and $92.7 million at March 31, 2012 and December 31, 2011,
respectively. In assessing the realizability of our deferred tax assets, we
considered whether it was more likely than not that our deferred tax assets will
be realized based upon all available evidence, including scheduled reversal of
deferred tax liabilities, historical operating results, projected future
operating results, tax carry-back availability, and limitations pursuant to
Section 382 of the Internal Revenue Code, among others. Based on this
assessment, we began recording a valuation allowance against deferred taxes in
December 2009. The valuation allowance was $91.6 million and $88.9 million at
March 31, 2012 and December 31, 2011, respectively.
LIQUIDITY AND CAPITAL RESOURCES
Sources and uses of funds. We are a holding company with no business operations
of our own. Consequently, our ability to pay dividends to stockholders, meet our
debt payment obligations and pay our taxes and administrative expenses is
largely dependent on dividends or other distributions from our subsidiaries.
There are no restrictions on the payment of dividends by our non-insurance
company subsidiaries other than state corporate laws regarding solvency. As a
result, our non-insurance company subsidiaries generate revenues, profits and
net cash flows that are generally unrestricted as to their availability for the
payment of dividends and we have and expect to continue to use those revenues to
service our corporate financial obligations, such as debt service and
stockholder dividends. As of March 31, 2012, we had $4.6 million of cash and
cash equivalents at our holding company and non-insurance company subsidiaries.
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State insurance laws restrict the ability of our insurance company subsidiaries
to declare stockholder dividends. These subsidiaries may not make an
"extraordinary dividend" until 30 days after the applicable commissioner of
insurance has received notice of the intended dividend and has not objected in
such time or until the commissioner has approved the payment of the
extraordinary dividend within the 30-day period. In most states, an
extraordinary dividend is defined as any dividend or distribution of cash or
other property whose fair market value, together with that of other dividends
and distributions made within the preceding 12 months, exceeds the greater of
10.0% of the insurance company's surplus as of the preceding year-end or the
insurance company's net income for the preceding year, in each case determined
in accordance with statutory accounting practices. In addition, dividends may
only be paid from unassigned earnings and an insurance company's remaining
surplus must be both reasonable in relation to its outstanding liabilities and
adequate to its financial needs. As of March 31, 2012, our insurance companies
could not pay ordinary dividends to us without prior regulatory approval due to
a negative unassigned surplus position of Affirmative Insurance Company.
However, as mentioned previously, our non-insurance company subsidiaries provide
adequate cash flow to fund their own operations.
The National Association of Insurance Commissioners' model law for risk-based
capital provides formulas to determine the amount of capital that an insurance
company needs to ensure that it has an acceptable expectation of not becoming
financially impaired. At March 31, 2012, each of our insurance subsidiaries
maintained a risk-based capital level that was in excess of an amount that would
require any corrective actions.
The Illinois Insurance Code includes a reserve requirement that an insurer
maintain an amount of qualifying investments, as defined, at least equal to the
lesser of $250.0 million or 100% of its adjusted loss reserves and loss
adjustment expenses reserves, as defined. As of December 31, 2011, Affirmative
Insurance Company was deficient in meeting the qualifying investments
requirement by $18.9 million. As a result of various actions that have occurred
through March 2012, including a $10.0 million extraordinary dividend received
from one of AIC's insurance company subsidiaries, the deficit has been reduced
to $2.2 million. Management has available means to cure the remaining deficiency
and the Illinois Department of Insurance approved management's plan to cure the
deficiency by September 30, 2012.
Our insurance company subsidiaries are subject to risk-based capital standards
and other minimum capital and surplus requirements imposed under applicable
state laws, including the laws of their state of domicile. The risk-based
capital standards, based upon the Risk-Based Capital Model Act, adopted by the
National Association of Insurance Commissioners (NAIC), require our insurance
company subsidiaries to report their results of risk-based capital calculations
to state departments of insurance and the NAIC. Failure to meet applicable
risk-based capital requirements or minimum statutory capital requirements could
subject us to further examination or corrective action imposed by state
regulators, including limitations on our writing of additional business, state
supervision or liquidation. Any changes in existing risk-based capital
requirements or minimum statutory capital requirements may require us to
increase our statutory capital levels. At December 31, 2011, each of our
insurance subsidiaries maintained a risk-based capital level that was in excess
of an amount that would require any corrective actions. Effective January 1,
2012, the NAIC revised the Risk-Based Capital Model Act to include a risk-based
capital trend test as another manner under which the company action level could
be triggered and will be applied as of December 31, 2012. The test is applicable
when an insurance company has a risk-based capital ratio between 200% and 300%
and a combined ratio of more than 120%. If the risk-based capital trend test was
in place during 2011, Affirmative Insurance Company would not have met the
thresholds of the test as the combined ratio was 126%. However, we believe that
AIC will pass the test in 2012 based on the actions that we have taken including
the exit of the Michigan business, the underwriting and pricing actions that we
began in the second half of 2011 and expense reductions.
On February 28, 2012, the Company exercised its right to defer interest payments
on selected Notes Payable beginning with the scheduled interest payment due in
March 2012 and continuing for a period of up to five years. The affected notes
are associated with obligations to the Company's unconsolidated trusts. The
outstanding balance of the affected notes was $56.7 million as of March 31,
2012. The Company will continue to accrue interest on the principal during the
extension period and the unpaid deferred interest will also accrue
interest. Deferred interest will be due and payable at the expiration of the
extension period.
Our operating subsidiaries' primary sources of funds are premiums received,
commission and fee income, investment income and the proceeds from the sale and
maturity of investments. Funds are used to pay claims and operating expenses, to
purchase investments and to pay dividends to our holding company.
To supplement our consolidated financial statements presented in accordance with
U.S. GAAP, we have prepared a net cash loss for our ongoing operations for the
periods ended March 31, 2012 and 2011, which is a non-GAAP measure. This
non-GAAP measure is provided to enhance the understanding of our current
financial performance and prospects for the future. This measure should be
considered in addition to results prepared in conformity with GAAP and should
not be considered a substitute for, or superior to, GAAP results.
A reconciliation of the net loss as contained in our consolidated statement of
operations to net cash loss from ongoing operations is as follows (in millions):
Three Months Ended
March 31,
2012 2011
Net loss for the period $ (8.5 ) $ (9.8 )
Depreciation and amortization 2.4 2.4
Amortization of debt discount 1.0 1.2
Amortization of debt modification costs 0.1 0.1
Stock-based compensation expense 0.1 0.1
Non-cash portion of income taxes 0.1 0.3
Net cash loss for our ongoing operations for the period $ (4.8 ) $ (5.7 )
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We believe that existing cash and investment balances, as well as cash flows
generated from operations, and other actions taken by the Company will be
adequate to meet our liquidity needs, planned capital expenditures and the debt
service requirements of the senior secured credit facility and notes payable,
during the 12-month period following the date of this report at both the holding
company and insurance company levels. For the three months ended March 31, 2012,
our net cash used in operations was $16.9 million. We believe that this amount
will be significantly reduced for the year ending December 31, 2012 due to our
exit from the Michigan business, premium production stabilizing and quota-share
reinsurance already being in place in 2011. These items had a substantial impact
on the net cash used in operations during 2011. However, if premium production
levels were to continue to decline this could have a material negative impact on
operating results, financial position, cash flow and debt covenant compliance.
We do not currently know of any events that could cause a material increase or
decrease in our long-term liquidity needs other than the 2014 expiration of our
senior secured credit facility.
