THE FOLLOWING DISCUSSION UPDATES THE MD&A CONTAINED IN THE COMPANY'S ANNUAL
REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED IN 2011, AND THE TWO DISCUSSIONS
SHOULD BE READ TOGETHER.
GENERAL
We are a diversified insurance agency, wholesale brokerage, insurance programs
and services organization headquartered in Daytona Beach and Tampa, Florida. As
an insurance intermediary, our principal sources of revenues are commissions
paid by insurance companies and, to a lesser extent, fees paid directly by
customers. Commission revenues generally represent a percentage of the premium
paid by an insured and are materially affected by fluctuations in both premium
rate levels charged by insurance companies and the insureds' underlying
"insurable exposure units," which are units that insurance companies use to
measure or express insurance exposed to risk (such as property values, sales and
payroll levels) to determine what premium to charge the insured. Insurance
companies establish these premium rates based upon many factors, including
reinsurance rates paid by such insurance companies, none of which we control.
The volume of business from new and existing customers, fluctuations in
insurable exposure units and changes in general economic and competitive
conditions all affect our revenues. For example, level rates of inflation or a
continuing general decline in economic activity could limit increases in the
values of insurable exposure units. Conversely, the increasing costs of
litigation settlements and awards have caused some customers to seek higher
levels of insurance coverage. Historically, our revenues have typically grown as
a result of an intense focus on net new business growth and acquisitions.
We foster a strong, decentralized sales culture with a goal of consistent,
sustained growth over the long term. As of January 2012, our senior leadership
group included eight executive officers with regional responsibility for
oversight of designated operations within the Company and four regional vice
presidents in our Retail Division, each of whom reports directly to one of our
executive officers. Also, on June 6, 2012, the Company announced that Linda S.
Downs, CPCU, AIA, Regional President, has been named Chief Operating Officer of
the Company, and Charles H. ("Charlie") Lydecker, CPCU, CIC, AIM, has been named
to the newly-created position of President of the Company's Retail Division.
We increased revenues every year from 1993 to 2008. In 2009, our revenues
dropped to $967.9 million, then increased 0.6% to $973.5 million in 2010 and
4.1% to $1.0 billion in 2011. Our revenues grew from $95.6 million in 1993 to
$1.0 billion in 2011, reflecting a compound annual growth rate of 14.0%. In the
same period, we increased net income from $8.0 million to $164.0 million, a
compound annual growth rate of 18.3%.
The past five years have posed significant challenges for us and for our
industry in the form of a prevailing decline in insurance premium rates,
commonly referred to as a "soft market"; increased significant governmental
involvement in the Florida insurance marketplace since 2007, resulting in a
substantial loss of revenues for us; and, beginning in the second half of 2008
and continuing throughout 2011, increased pressure on the values of insurable
exposure units as the consequence of the general weakening of the economy in the
United States.
From the first quarter of 2007 through the fourth quarter of 2011 we experienced
negative internal revenue growth each quarter. This was due primarily to the
"soft market," and, beginning in the second half of 2008 and throughout 2011,
the decline in insurable exposure units, which further reduced our commissions
and fees revenue. Beginning in 2012, insurable exposure units seemed to
stabilize, which, combined with some increases in insurance premium rates,
created positive internal revenue growth for both the first and second quarters
of 2012. Part of the decline in 2007 was the result of the increased
governmental involvement in the Florida insurance marketplace, as described
below in "The Florida Insurance Overview." One industry segment that was hit
especially hard during these years was the home-building industry in southern
California and, to a lesser extent in Nevada, Arizona and Florida. We had a
wholesale brokerage operation that focused on placing property and casualty
insurance products for that home-building segment. The revenues of this
operation were significantly adversely impacted during 2007 through 2009 by
these national economic trends, and by 2010 these revenues were insignificant.
While insurance premium rates continued to decline for most lines of coverage
during 2011, the rate of decline slowed, and in some cases premium rates
increased for certain lines of coverages such as coastal property. For the first
time in the last five years, we began to observe some upward pressure on general
insurance premium rates. In the first quarter of 2012 and continuing through the
second quarter of 2012, there was a modest and gradual increase in insurance
premium rates primarily related to workers' compensation insurance and coastal
property insurance.
We also earn "profit-sharing contingent commissions," which are profit-sharing
commissions based primarily on underwriting results, but may also reflect
considerations for volume, growth and/or retention. These commissions are
primarily received in the first and second quarters of each year, based on the
aforementioned considerations for the prior year(s). Over the last three years,
profit-sharing contingent commissions have averaged approximately 5.0% of the
previous year's total commissions and fees revenue. Profit-sharing contingent
commissions are typically included in our total commissions and fees in the
Consolidated Statements of Income in the year received.
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In recent years, six national insurance companies replaced their loss-ratio
based profit-sharing contingent commission calculation with a guaranteed
fixed-base methodology, referred to as "Guaranteed Supplemental Commissions"
("GSCs"). Since these GSCs are not subject to the uncertainty of loss ratios,
they are accrued throughout the year based on actual premium written. As of
December 31, 2011, we accrued and earned $12.1 million in GSCs during 2011, most
of which was collected in the first quarter of 2012. For 2012, two of the six
national insurance companies eliminated their GSC contracts and reverted back to
their previous loss-ratio based profit-sharing contingent commission contracts.
As a result, any profit-sharing contingent commissions earned from these
companies will not be recognized until 2013. For the three-month periods ended
June 30, 2012 and 2011, we earned $2.3 million and $2.9 million, respectively,
from GSCs. For the six-month periods ended June 30, 2012 and 2011, we earned
$4.9 million and $6.2 million, respectively, from GSCs.
The term "core commissions and fees" excludes profit-sharing contingent
commissions and GSCs, and therefore represents the revenues earned directly from
specific insurance policies sold, and specific fee-based services rendered. In
contrast, the term "core organic commissions and fees" is our core commissions
and fees less (i) the core commissions and fees earned for the first twelve
months by newly acquired operations and (ii) divested business (core commissions
and fees generated from offices, books of business or niches sold or terminated
during the comparable period). Core organic commissions and fees attempts to
express the current year's core commissions and fees on a comparable basis with
the prior year's core commissions and fees. The resulting net change reflects
the aggregate changes from (i) net new and lost accounts, (ii) net changes in
our clients' exposure units, and (iii) net changes in insurance premium rates.
The net changes in each of these three components can be determined for each of
our customers. However, because our agency management accounting systems do not
aggregate such data, it is not reportable. Core organic commissions and fees can
reflect either "positive" growth with a net increase in revenues, or "negative"
growth with a net decrease in revenues.
In 2010 and 2011, continued declining exposure units had a greater negative
impact on our commissions and fees revenues than declining insurance premium
rates. However, in the first half of 2012, the exposure units of many of our
middle-market customers seem to have stabilized. With a stabilizing
middle-market economy and continued upward pressure on general insurance
premiums, we believe that we could continue to see positive growth in our core
organic commissions and fees for the remainder of 2012.
Fee revenues include fees negotiated in lieu of commissions, and are recognized
as services are rendered. Fee revenues are generated primarily by: (1) our
Services Division, which provides insurance-related services, including
third-party claims administration and comprehensive medical utilization
management services in both the workers' compensation and all-lines liability
arenas, as well as Medicare set-aside services, and Social Security disability
and Medicare benefits advocacy services, and (2) our National Programs and
Wholesale Brokerage Divisions, which earn fees primarily for the issuance of
insurance policies on behalf of insurance companies. These services are provided
over a period of time, typically one year. Fee revenues as a percentage of our
total commissions and fees as of the six months ended June 30, 2012 and 2011
represented 18.4% and 14.9%, respectively. Fee revenues as a percentage of our
annual total commissions and fees as of December 31, 2011 and 2010, represented
16.4% and 14.6%, respectively.
Historically, investment income has consisted primarily of interest earnings on
premiums and advance premiums collected and held in a fiduciary capacity before
being remitted to insurance companies. Our policy is to invest available funds
in high-quality, short-term fixed income investment securities. As a result of
the bank liquidity and solvency issues in the United States in the last quarter
of 2008, we moved substantial amounts of our cash into non-interest bearing
checking accounts so that they would be fully insured by the Federal Depository
Insurance Corporation ("FDIC") or into money-market investment funds (a portion
of which is FDIC insured) of SunTrust and Wells Fargo, two large national banks.
Investment income also includes gains and losses realized from the sale of
investments.
Florida Insurance Overview
Many states have established "Residual Markets," which are governmental or
quasi-governmental insurance facilities that provide coverage to individuals
and/or businesses that cannot buy insurance in the private marketplace, i.e.,
"insurers of last resort." These facilities can be designed to cover any type of
risk or exposure; however, the exposures most commonly subject to such
facilities are automobile or high-risk property exposures. Residual Markets can
also be referred to as FAIR Plans, Windstorm Pools, Joint Underwriting
Associations, or may even be given names styled after the private sector like
"Citizens Property Insurance Corporation" ("Citizens") in Florida.
In August 2002, the Florida Legislature created Citizens, to be the "insurer of
last resort" in Florida. Initially, Citizens charged insurance rates that were
higher than those generally prevailing in the private insurance marketplace. In
each of 2004 and 2005, four major hurricanes made landfall in Florida. As a
result of the ensuing significant insurance property losses, Florida property
insurance rates increased in 2006. To counter the higher property insurance
rates, the State of Florida instructed Citizens to significantly reduce its
property insurance rates beginning in January 2007. By state law, Citizens
guaranteed these rates through January 1, 2010. As a result, Citizens became one
of the most, if not the most, competitive risk-bearers for a large percentage of
Florida's commercial habitational coastal property exposures, such as
condominiums, apartments, and certain assisted living facilities. Additionally,
Citizens became the only insurance market for certain homeowner policies
throughout Florida. Today, Citizens is one of the largest underwriters of
coastal property exposures in Florida.
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In 2007, Citizens became the principal direct competitor of the insurance
companies that underwrite the condominium program administered by one of our
indirect subsidiaries, Florida Intracoastal Underwriters, Limited Company
("FIU"), and the excess and surplus lines insurers represented by wholesale
brokers such as Hull & Company, Inc., another of our subsidiaries. Consequently,
these operations lost significant amounts of revenues to Citizens. From 2008
through 2011, Citizens' impact was not as dramatic as it had been in 2007; FIU's
core commissions and fees decreased 16.8% from 2008 through 2011. Citizens
continued to be competitive against the excess and surplus lines insurers, and
therefore Citizens negatively affected the revenues of our Florida-based
wholesale brokerage operations, such as Hull & Company, Inc., from 2007 through
2011, although the impact has been decreasing each year.
Citizens' impact on our Florida Retail Division was less severe than on our
National Programs and Wholesale Brokerage Divisions because our retail offices
have the ability to place business with Citizens, although at slightly lower
commission rates and with greater difficulty than is the case with other
insurance companies.
Effective January 1, 2010, Citizens raised its insurance rates, on average, 10%
for properties with values of less than $10 million, and more than 10% for
properties with values in excess of $10 million. Citizens raised its insurance
rates again in 2011 and 2012. Our commission revenues from Citizens for 2011 and
2010 were approximately $7.8 million and $8.3 million, respectively. If, as
expected, Citizens continues to attempt to reduce its insured exposures, the
financial impact of Citizens on our business should continue to be reduced in
2012.
Company Overview - Second Quarter of 2012
We achieved a positive growth rate of 3.2% in our core organic commissions and
fees in the second quarter of 2012, which continued the positive trend that
began in the first quarter of 2012. This positive growth, which accounted for
$7.7 million of new commissions and fees, was the combined result of stabilizing
exposure units in the middle-market economy and slight increases in insurance
premium rates.
Even though our core organic commissions and fees grew in the second quarter of
2012, our profit-sharing contingent commissions and GSCs decreased by $1.8
million from the second quarter of 2011, primarily as a result of increasing
loss ratios experienced by our insurance company partners.
Additionally, we had $41.1 million of core commissions and fees from
acquisitions that had no comparable revenues in the second quarter of 2011. Of
the $41.1 million of core commissions and fees from acquisitions, $27.7 million
was attributable to our acquisition of Arrowhead General Insurance Agency
Superholding Corporation ("Arrowhead"), a national insurance program manager and
one of the largest managing general agents ("MGA") in the property and casualty
insurance industry.
Income before income taxes in the three-month period ended June 30, 2012
increased over the same period in 2011 by 15.7%, or $9.7 million, to $71.1
million. Of the $9.7 million increase, $10.3 million related to the operations
of the new acquisitions that were stand-alone offices. However, partially
offsetting the increase in income before income taxes from acquisitions were
increases in compensation for new producers ($0.2 million), health insurance
costs ($0.6 million), and a special one-time production bonus for the 2012 year
to our commissioned producers in our Retail Division ($1.5 million).
Acquisitions
Approximately 37,500 independent insurance agencies are estimated to be
operating in the United States. Part of our continuing business strategy is to
attract high-quality insurance intermediaries to join our operations. From 1993
through the second quarter of 2012, we have acquired 428 insurance intermediary
operations, excluding acquired books of business (customer accounts).
Acquisition activity slowed in 2009 in part because potential sellers were
unhappy with reduced agency valuations that were the consequence of lower
revenues and operating profits due to the continuing "soft market" and
decreasing exposure units, and therefore opted to defer the sales of their
insurance agencies. The economic outlook in 2011 and 2010 improved slightly over
2009 and as a result, certain sellers viewed 2011 and 2010 as a better time in
which to join our organization, and we were able to close a greater number of
acquisitions.
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A summary of our acquisitions for the six months ended June 30, 2012 and 2011 is
as follows (in millions, except for number of acquisitions):
Number of Acquisitions Estimated Recorded Aggregate
Annual Cash Notes Other Liabilities Earn-out Purchase
For the six months ended June 30: Asset
Stock Revenues Paid Issued Payable Assumed Payable Price
2012 7 1 $ 123.1 $ 428.6 $ 0.1 $ 23.6 $ 133.9 $ 12.9 $ 599.1
2011 22 1 $ 47.0 $ 90.4 $ 0.6 $ - $ 9.3 $ 13.8 $ 114.1
Critical Accounting Policies
Our Condensed Consolidated Financial Statements are prepared in accordance with
accounting principles generally accepted in the United States of America
("GAAP"). The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenues and expenses. We continually evaluate our estimates, which are based on
historical experience and on various other assumptions that we believe to be
reasonable under the circumstances. These estimates form the basis for our
judgments about the carrying values of our assets and liabilities, which values
are not readily apparent from other sources. Actual results may differ from
these estimates under different assumptions or conditions.
We believe that of our significant accounting and reporting policies, the more
critical policies include our accounting for revenue recognition, business
acquisitions and purchase price allocations, intangible asset impairments and
reserves for litigation. In particular, the accounting for these areas requires
significant judgments to be made by management. Different assumptions in the
application of these policies could result in material changes in our
consolidated financial position or consolidated results of operations. Refer to
Note 1 in the "Notes to Consolidated Financial Statements" in our Annual Report
on Form 10-K for the year ended December 31, 2011 on file with the Securities
and Exchange Commission ("SEC") for details regarding our critical and
significant accounting policies.
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RESULTS OF OPERATIONS FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2012 AND 2011
The following discussion and analysis regarding results of operations and
liquidity and capital resources should be considered in conjunction with the
accompanying Condensed Consolidated Financial Statements and related Notes.
Financial information relating to our Consolidated Financial Results for the
three and six months ended June 30, 2012 and 2011 is as follows (in thousands,
except percentages):
For the three months For the six months
ended June 30, ended June 30,
% %
2012 2011 Change 2012 2011 Change
REVENUES
Core commissions and fees $ 286,641 $ 240,852 19.0 % $ 556,361 $ 470,120 18.3 %
Profit-sharing contingent
commissions 1,043 2,275 (54.2 )% 25,264 31,155 (18.9 )%
Guaranteed supplemental
commissions 2,258 2,856 (20.9 )% 4,850 6,160 (21.3 )%
Investment income 187 393 (52.4 )% 322 617 (47.8 )%
Other income, net 787 440 78.9 % 6,605 992 565.8 %
Total revenues 290,916 246,816 17.9 % 593,402 509,044 16.6 %
EXPENSES
Employee compensation and benefits 150,752 125,852 19.8 % 300,348 252,409
19.0 %
Non-cash stock-based compensation 3,738 2,709 38.0 % 7,485 5,482 36.5 %
Other operating expenses 42,220 34,979 20.7 % 85,620 71,055 20.5 %
Amortization 15,881 13,556 17.2 % 31,494 27,065 16.4 %
Depreciation 3,784 3,079 22.9 % 7,425 6,214 19.5 %
Interest 4,000 3,608 10.9 % 8,087 7,215 12.1 %
Change in estimated acquisition
earn-out payables (604 ) 1,565 (138.6 )% (992 ) 1,466 (167.7 )%
Total expenses 219,771 185,348 18.6 % 439,467 370,906 18.5 %
Income before income taxes 71,145 61,468 15.7 % 153,935 138,138 11.4 %
Income taxes 28,674 24,433 17.4 % 62,031 54,810 13.2 %
NET INCOME $ 42,471 $ 37,035 14.7 % $ 91,904 $ 83,328 10.3 %
Net internal growth rate - core
organic commissions and fees 3.2 % (4.4 )% 2.1 % (3.4 )%
Employee compensation and benefits
ratio 51.8 % 51.0 % 50.6 % 49.6 %
Other operating expenses ratio 14.5 % 14.2 % 14.4 % 14.0 %
Capital expenditures $ 6,772 $ 3,596 $ 12,677 $ 6,513
Total assets at June 30, 2012 and
2011 $ 3,097,291 $ 2,524,872
Commissions and Fees
Commissions and fees, including profit-sharing contingent commissions and GSCs,
for the second quarter of 2012 increased $44.0 million, or 17.9%, over the same
period in 2011. Profit-sharing contingent commissions and GSCs for the second
quarter of 2012 decreased $1.8 million or 35.7%, from the second quarter of
2011, to $3.3 million, due primarily to $1.6 million and $0.5 million reductions
in profit-sharing contingent commissions and GSCs in our Wholesale Brokerage and
National Programs Divisions, respectively. Core organic commissions and fees are
our core commissions and fees, less (i) the core commissions and fees earned for
the first twelve months by newly acquired operations and (ii) divested business
(core commissions and fees generated from sold or terminated offices, books of
business or niches). Core commissions and fees revenue for the second quarter of
2012 increased $45.8 million on a net basis, of which approximately $41.1
million represented core commissions and fees from agencies acquired since the
third quarter of 2011. After divested business of $3.0 million, the remaining
net increase of $7.7 million represented net new business, which reflects a
3.2% internal growth rate for core organic commissions and fees.
Commissions and fees, including profit-sharing contingent commissions and GSCs,
for the six months ended June 30, 2012 increased $79.0 million, or 15.6%, over
the same period in 2011. Profit-sharing contingent commissions and GSCs for the
six months ended June 30, 2012 decreased $7.2 million or 19.3%, from the first
half of 2011, to $30.1 million, due primarily to $2.6 million, $2.3
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million, and $2.3 million reductions in profit-sharing contingent commissions
and GSCs in our Retail, National Program and Wholesales Brokerage Divisions,
respectively. Core commissions and fees revenue for the six months ended
June 30, 2012 increased $86.2 million on a net basis, of which approximately
$82.5 million represented core commissions and fees from agencies acquired since
the third quarter of 2011. After divested business of $6.1 million, the
remaining net increase of $9.8 million represented net new business, which
reflects a 2.1% internal growth rate for core organic commissions and fees.
Investment Income
Investment income for the three months ended June 30, 2012, decreased $0.2
million, or 52.4%, from the same period in 2011. Investment income for the six
months ended June 30, 2012, decreased $0.3 million, or 47.8%, from the same
period in 2011. These decreases are the result of lower average invested
balances in 2012, primarily due to the use of our cash for recent acquisitions.
Other Income, net
Other income for the three months ended June 30, 2012, reflected income of $0.8
million, compared with $0.4 million in the same period in 2011. Other income for
the six months ended June 30, 2012, reflected income of $6.6 million, compared
with $1.0 million in the same period in 2011. Other income consists primarily of
gains and losses from the sale and disposition of assets. Although we are not in
the business of selling customer accounts, we periodically will sell an office
or a book of business (one or more customer accounts) that we believe does not
produce reasonable margins or demonstrate a potential for growth, or when doing
so is otherwise in the Company's interest. The $0.3 million increase for the
three months ended June 30, 2012 over the comparable period of 2011 is primarily
due to a sale of a book of business. Of the $5.6 million increase for the six
months ended June 30, 2012 over the comparable period of 2011, $2.2 million
represented gains on the sale of books of business and $3.1 million related to a
legal settlement that we received on the enforcement of non-piracy covenants in
our employment agreements.
Employee Compensation and Benefits
Employee compensation and benefits expense as a percentage of total revenues
increased to 51.8% for the three months ended June 30, 2012, over the 51.0% for
the three months ended June 30, 2011. Employee compensation and benefits for the
second quarter of 2012 increased, on a net basis, approximately 19.8%, or $24.9
million, over the same period in 2011. However, that net increase included $19.2
million of new compensation costs related to new acquisitions that were
stand-alone offices. Therefore, employee compensation and benefits expense
attributable to those offices that existed in the same three-month period ended
June 30, 2012 and 2011 (including the new acquisitions that combined with, or
"folded into" those offices) increased by $5.7 million. The employee
compensation and benefits expense increases in these offices were primarily
related to a special one-time, 2012 production bonus to be paid to our
commissioned producers in our Retail Division ($1.5 million), an increase in
profit center and other incentive bonuses ($1.9 million), an increase in our
group health insurance costs ($0.6 million), an increase in producer salaries
due to our hiring of new producer trainees ($0.2 million), and an increase in
related payroll taxes ($0.3 million). The 2012 special one-time production bonus
will be paid in the first quarter of 2013 to commissioned producers in our
Retail Division who grow their 2012 annual production by more than 5% over their
2011 annual production in the amount of 5% of their 2012 annual production. We
estimate the cost of this production bonus in 2012 will be approximately $6.0
million to $8.0 million.
Employee compensation and benefits expense as a percentage of total revenues
increased to 50.6% for the six months ended June 30, 2012, over the 49.6% for
the six months ended June 30, 2011. Employee compensation and benefits for the
six months ended June 30, 2012 increased, on a net basis, approximately 19.0%,
or $47.9 million, over the same period in 2011. However, that net increase
included $39.7 million of new compensation costs related to new acquisitions
that were stand-alone offices. Therefore, employee compensation and benefits
expense attributable to those offices that existed in the same six-month period
ended June 30, 2012 and 2011 (including the new acquisitions that combined with,
or "folded into" those offices) increased by $8.3 million. The employee
compensation and benefits expense increases in these offices were primarily
related to the special one-time, 2012 production bonus to be paid to our
commissioned producers in our Retail Division ($2.8 million), an increase in
profit center and other incentive bonuses ($2.0 million), an increase in our
group health insurance costs ($1.1 million), an increase in producer salaries
due to our hiring of new producer trainees ($0.6 million), and an increase in
related payroll taxes ($0.6 million).
Non-Cash Stock-Based Compensation
The Company has an employee stock purchase plan, and grants stock options and
non-vested stock awards under other equity-based plans to its employees.
Compensation expense for all share-based awards is recognized in the financial
statements based upon the grant-date fair value of those awards. Non-cash
stock-based compensation expense for the three months ended June 30, 2012
increased $1.0 million, or 38.0%, over the same period in 2011. Non-cash
stock-based compensation expense for the six months ended June 30, 2012
increased $2.0 million, or 36.5%, over the same period in 2011. These increases
were the result of new grants issued in January 2012 under our Stock Incentive
Plan ("SIP").
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Other Operating Expenses
As a percentage of total revenues, other operating expenses represented 14.5% in
the second quarter of 2012, an increase over the 14.2% for the second quarter of
2011. Other operating expenses for the second quarter of 2012 increased $7.2
million, or 20.7%, over the same period of 2011, of which $7.6 million related
to acquisitions that joined us as stand-alone offices since April 2011.
Therefore, other operating expenses from those offices that existed in both the
three-month periods ended June 30, 2012 and 2011 (including the new acquisitions
that "folded into" those offices) decreased by $0.4 million. Of the $0.4 million
decrease, $0.7 million related to decreased office rents with a slight offset of
$0.3 million in net additional costs.
Other operating expenses represented 14.4% of total revenues for the six months
ended June 30, 2012, an increase over the 14.0% ratio for the six months ended
June 30, 2011. Other operating expenses for the six months ended June 30, 2012
increased $14.6 million, or 20.5%, over the same period of 2011, of which $15.8
million related to acquisitions that joined us as stand-alone offices since July
2011. Therefore, other operating expenses from those offices that existed in
both the six-month periods ended June 30, 2012 and 2011 (including the new
acquisitions that "folded into" those offices) decreased by $1.2 million. Of the
$1.2 million decrease, $1.7 million related to decreased office rents with a
slight offset of $0.5 million in net additional costs.
Amortization
Amortization expense for the second quarter of 2012 increased $2.3 million, or
17.2%, over the second quarter of 2011. Amortization expense for the six months
ended June 30, 2012, increased $4.4 million, or 16.4%, over the first six months
of 2011. These increases are primarily due to the amortization of additional
intangible assets as the result of recent acquisitions.
Depreciation
Depreciation expense for the second quarter of 2012 increased $0.7 million, or
22.9%, over the second quarter of 2011. Depreciation expense for the six months
ended June 30, 2012, increased $1.2 million, or 19.5%, over the six months ended
June 30, 2011. These increases are due primarily to the addition of fixed assets
as a result of recent acquisitions.
Interest Expense
Interest expense for the second quarter of 2012 increased $0.4 million, or
10.9%, over the second quarter of 2011. Interest expense for the six months
ended June 30, 2012 increased $0.9 million, or 12.1%, over the same period in
2011. These increases are the result of additional debt borrowed in connection
with our acquisition of Arrowhead.
Change in Estimated Acquisition Earn-out Payables
As of June 30, 2012, the fair values of the estimated acquisition earn-out
payables were re-evaluated and measured at fair value on a recurring basis using
unobservable inputs (Level 3). The resulting net changes, as well as the
interest expense accretion on the estimated acquisition earn-out payables, for
the three and six months ended June 30, 2012 and 2011, were as follows:
For the three months For the six months
ended June 30, ended June 30,
(in thousands) 2012 2011 2012 2011
Net change in earnings from estimated
acquisition earn- out payables:
Change in fair value on estimated
acquisition earn-out payables $ (1,236 ) $ 1,104 $ (2,206 ) $ 589
Interest expense accretion 632 461 1,214 877
Net change in earnings from estimated
acquisition earn-out payables $ (604 ) $ 1,565 $ (992 ) $ 1,466
For the three months ended June 30, 2012, and 2011, the fair value of the
estimated earn-out payables was re-evaluated and decreased by $1.2 million and
increased by $1.1 million, respectively, which resulted in a credit and charge
to the Condensed Consolidated Statement of Income, respectively. For the six
months ended June 30, 2012, and 2011, the fair value of the estimated earn-out
payables was re-evaluated and decreased by $2.2 million and increased by $0.6
million, respectively, which resulted in a credit and charge to the Condensed
Consolidated Statement of Income, respectively. Additionally, the interest
expense accretion (included in the amounts above) to the Condensed Consolidated
Statement of Income for the three months ended June 30, 2012, and 2011 was $0.6
million and $0.5 million, respectively. The interest expense accretion (included
in the amounts above) to the Condensed Consolidated Statement of Income for the
six months ended June 30, 2012, and 2011 was $1.2 million and $0.9 million,
respectively.
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RESULTS OF OPERATIONS - SEGMENT INFORMATION
As discussed in Note 11 of the Notes to Condensed Consolidated Financial
Statements, we operate four reportable segments or divisions: the Retail,
National Programs, Wholesale Brokerage, and Services Divisions. On a divisional
basis, increases in amortization, depreciation and interest expenses result from
completed acquisitions within a given division in a particular year. Likewise,
other income in each division primarily reflects net gains on sales of customer
accounts and fixed assets. As such, in evaluating the operational efficiency of
a division, management places emphasis on the net internal growth rate of core
organic commissions and fees revenues, the gradual improvement of the ratio of
total employee compensation and benefits expenses to total revenues, and the
gradual improvement of the ratio of other operating expenses to total revenues.
The term "core commissions and fees" excludes profit-sharing contingent
commissions and GSCs, and therefore represents the revenues earned directly from
specific insurance policies sold, and specific fee-based services rendered. In
contrast, the term "core organic commissions and fees" is our core commissions
and fees less (i) the core commissions and fees earned for the first twelve
months by newly acquired operations and (ii) divested business (core commissions
and fees generated from offices, books of business or niches sold or terminated
during the comparable period). Core organic commissions and fees attempts to
express the current year's core commissions and fees on a comparable basis with
the prior year's core commissions and fees. The resulting net change reflects
the aggregate changes attributable to (i) net new and lost accounts, (ii) net
changes in our clients' exposure units, and (iii) net changes in insurance
premium rates. The net changes in each of these three components can be
determined for each of our customers. However, because our agency management
accounting systems do not aggregate such data, it is not reportable. Core
organic commissions and fees reflect either "positive" growth with a net
increase in revenues, or "negative" growth with a net decrease in revenues.
The internal growth rates for our core organic commissions and fees for the
three months ended June 30, 2012, and 2011, by Division, are as follows (in
thousands, except percentages):
For the three months Less Internal Internal
2012 ended June 30, Total Net Total Net Acquisition Net Net
2012 2011 Change Growth % Revenues Growth $ Growth %
Retail(1) $ 159,684 $ 147,826 $ 11,858 8.0 % $ 11,431 $ 427 0.3 %
National Programs 53,135 31,424 21,711 69.1 % 19,464 2,247 7.2 %
Wholesale Brokerage 46,301 42,493 3,808 9.0 % 443 3,365 7.9 %
Services 27,521 16,120 11,401 70.7 % 9,772 1,629 10.1 %
Total core commissions and fees $ 286,641$ 237,863$ 48,778
20.5 % $ 41,110 $ 7,668 3.2 %
The reconciliation of the above internal growth schedule to the total
Commissions and Fees included in the Condensed Consolidated Statements of Income
for the three months ended June 30, 2012, and 2011, is as follows (in
thousands):
For the three months
ended June 30,
2012 2011
Total core commissions and fees $ 286,641 $ 237,863
Profit-sharing contingent commissions 1,043 2,275
Guaranteed supplemental commissions 2,258 2,856
Divested business - 2,989
Total commission and fees $ 289,942 $ 245,983
The internal growth rates for our core organic commissions and fees for the
three months ended June 30, 2011, and 2010, by Division, are as follows (in
thousands, except percentages):
For the three months Less Internal Internal
2011 ended June 30, Total Net Total Net Acquisition Net Net
2011 2010 Change Growth % Revenues Growth $ Growth %
Retail(1) $ 150,313 $ 142,362 $ 7,951 5.6 % $ 14,542 $ (6,591 ) (4.6 )%
National Programs 31,424 35,467 (4,043 ) (11.4 )% - (4,043 ) (11.4 )%
Wholesale Brokerage 42,995 42,381 614 1.4 % 91 523 1.2 %
Services 16,120 9,729 6,391 65.7 % 6,468 (77 ) (0.8 )%
Total core commissions and fees $ 240,852 $ 229,939 $ 10,913 4.7 % $ 21,101 $ (10,188 ) (4.4 )%
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The reconciliation of the above internal growth schedule to the total
Commissions and Fees included in the Condensed Consolidated Statements of Income
for the three months ended June 30, 2011, and 2010 is as follows (in thousands):
For the three months
ended June 30,
2011 2010
Total core commissions and fees $ 240,852 $ 229,939
Profit-sharing contingent commissions 2,275 6,444
Guaranteed supplemental commissions 2,856 3,692
Divested business - 978
Total commission and fees $ 245,983 $ 241,053
(1) The Retail segment includes commissions and fees reported in the
"Other" column of the Segment Information in Note 11 of the Notes
to the Condensed Consolidated Financial Statements, which includes
corporate and consolidation items.
The internal growth rates for our core organic commissions and fees for the six
months ended June 30, 2012, and 2011, by Division, are as follows (in thousands,
except percentages):
For the six months Less Internal Internal
2012 ended June 30, Total Net Total Net Acquisition Net Net
2012 2011 Change Growth % Revenues Growth $ Growth %
Retail(1) $ 311,630 $ 288,191 $ 23,439 8.1 % $ 23,975 $ (536 ) (0.2 )%
National Programs 106,765 65,519 41,246 63.0 % 38,788 2,458 3.8 %
Wholesale Brokerage 84,683 78,364 6,319 8.1 % 992 5,327 6.8 %
Services 53,283 31,943 21,340 66.8 % 18,832 2,508 7.9 %
Total core commissions and fees $ 556,361$ 464,017$ 92,344
19.9 % $ 82,587 $ 9,757 2.1 %
The reconciliation of the above internal growth schedule to the total
Commissions and Fees included in the Condensed Consolidated Statements of Income
for the six months ended June 30, 2012, and 2011, is as follows (in thousands):
For the six months
ended June 30,
2012 2011
Total core commissions and fees $ 556,361 $ 464,017
Profit-sharing contingent commissions 25,264 31,155
Guaranteed supplemental commissions 4,850 6,160
Divested business - 6,103
Total commission and fees $ 586,475 $ 507,435
The internal growth rates for our core organic commissions and fees for the six
months ended June 30, 2011, and 2010, by Division, are as follows (in thousands,
except percentages):
For the six months Less Internal Internal
2011 ended June 30, Total Net Total Net Acquisition Net Net
2011 2010 Change Growth % Revenues Growth $ Growth %
Retail(1) $ 293,495 $ 277,344 $ 16,151 5.8 % $ 26,971 $ (10,820 ) (3.9 )%
National Programs 65,519 72,010 (6,491 ) (9.0 )% - (6,491 ) (9.0 )%
Wholesale Brokerage 79,163 77,002 2,161 2.8 % 91 2,070 2.7 %
Services 31,943 18,725 13,218 70.6 % 13,324 (106 ) (0.6 )%
Total core commissions and fees $ 470,120 $ 445,081 $ 25,039 5.6 % $ 40,386 $ (15,347 ) (3.4 )%
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The reconciliation of the above internal growth schedule to the total
Commissions and Fees included in the Condensed Consolidated Statements of Income
for the six months ended June 30, 2011 and 2010 is as follows (in thousands):
For the six months
ended June 30,
2011 2010
Total core commissions and fees $ 470,120 $ 445,081
Profit-sharing contingent commissions 31,155 38,680
Guaranteed supplemental commissions 6,160 6,697
Divested business - 1,269
Total commission and fees $ 507,435 $ 491,727
(1) The Retail segment includes commissions and fees reported in the
"Other" column of the Segment Information in Note 11 of the Notes
to the Condensed Consolidated Financial Statements, which includes
corporate and consolidation items.
Retail Division
The Retail Division provides a broad range of insurance products and services to
commercial, public and quasi-public, professional and individual insured
customers. More than 96.0% of the Retail Division's commissions and fees
revenues are commission-based. Because the majority of our operating expenses do
not change as premiums fluctuate, we believe that most of any fluctuation in the
commissions (net of related producer compensation and bonuses) that we receive
will be reflected in our pre-tax income.
Financial information relating to Brown & Brown's Retail Division for the three
and six months ended June 30, 2012, and 2011 is as follows (in thousands, except
percentages):
For the three months For the six months
ended June 30, ended June 30,
% %
2012 2011 Change 2012 2011 Change
REVENUES
Core commissions and fees $ 159,851 $ 150,369 6.3 % $ 312,443 $ 293,611 6.4 %
Profit-sharing contingent commissions 1,009 281 259.1 % 10,543 12,160 (13.3 )%
Guaranteed supplemental commissions 1,648 2,282 (27.8 )% 3,661 4,636 (21.0 )%
Investment income 27 28 (3.6 )% 52 44 18.2 %
Other (loss) income, net (516 ) 175 (394.9 )% 2,524 464 444.0 %
Total revenues 162,019 153,135 5.8 % 329,223 310,915 5.9 %
EXPENSES
Employee compensation and benefits 82,087 76,341 7.5 % 164,748 153,028 7.7 %
Non-cash stock-based compensation 1,407 1,610 (12.6 )% 2,711 3,143 (13.7 )%
Other operating expenses 25,391 25,500 (0.4 )% 50,385 49,969 0.8 %
Amortization 8,652 8,236 5.1 % 17,179 16,440 4.5 %
Depreciation 1,294 1,238 4.5 % 2,552 2,496 2.2 %
Interest 6,704 6,799 (1.4 )% 13,638 13,713 (0.5 )%
Change in estimated acquisition
earn-out payables 2,598 839 209.7 % 1,924 576 234.0 %
Total expenses 128,133 120,563 6.3 % 253,137 239,365 5.8 %
Income before income taxes $ 33,886 $ 32,572 4.0 % $ 76,086 $ 71,550 6.3 %
Net internal growth rate - core
organic commissions and fees 0.3 % (4.6 )% (0.2 )% (3.9 )%
Employee compensation and benefits
ratio 50.7 % 49.9 % 50.0 % 49.2 %
Other operating expenses ratio 15.7 % 16.7 % 15.3 % 16.1 %
Capital expenditures $ 1,574 $ 1,824 $ 2,635 $ 3,116
Total assets at June 30, 2012 and
2011 $ 2,229,198 $ 2,063,215
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The Retail Division's total revenues during the three months ended June 30,
2012, increased 5.8%, or $8.9 million, over the same period in 2011, to $162.0
million. Profit-sharing contingent commissions and GSCs for the second quarter
of 2012 increased $0.1 million, or 3.7%, over the second quarter of 2011, to
$2.7 million. The $9.5 million net increase in core commissions and fees revenue
resulted from the following factors: (i) an increase of approximately $11.4
million related to the core commissions and fees revenues from acquisitions that
had no comparable revenues in the same period of 2011; (ii) a decrease of $2.3
million related to commissions and fees revenues recorded in the second quarter
of 2011 from business divested during 2012; and (iii) the remaining net increase
of $0.4 million primarily related to net new business. The Retail Division's
internal growth rate for core organic commissions and fees revenue was 0.3% for
the second quarter of 2012, and was driven primarily by stabilizing insurable
exposure units with slightly stronger upward pressure on general insurance
premium rates.
Income before income taxes for the three months ended June 30, 2012, increased
4.0%, or $1.3 million, over the same period in 2011, to $33.9 million. This
increase was primarily due to the core commissions and fees generated by new
acquisitions. Additionally, there were continued improved efficiencies relating
to certain other operating expenses, such as data processing, insurance, legal,
claims and settlements, postage and office rent expenses. However, commissioned
producer compensation increased $1.5 million for the three months ended June 30,
2012 over the same period in 2011 as a result of a special one-time program
whereby our commissioned producers are eligible for an extra 5% commission on
their 2012 production results if their 2012 production exceeds their 2011
production by at least 5%.
The Retail Division's total revenues during the six months ended June 30, 2012,
increased 5.9%, or $18.3 million, over the same period in 2011, to $329.2
million. Profit-sharing contingent commissions and GSCs for the six months ended
June 30, 2012 decreased $2.6 million, or 15.4%, from the same period of 2011, to
$14.2 million, primarily as a result of increased loss ratios at our insurance
carrier partners. The $18.8 million net increase in core commissions and fees
revenue resulted from the following factors: (i) an increase of approximately
$24.0 million related to the core commissions and fees revenues from
acquisitions that had no comparable revenues in the same period of 2011; (ii) a
decrease of $4.6 million related to commissions and fees revenues recorded in
the six-month period ended June 30, 2011 from business divested during 2012; and
(iii) the remaining net decrease of $0.6 million primarily related to net lost
business. The Retail Division's negative internal growth rate for core organic
commissions and fees revenue was (0.2)% for the six months ended June 30, 2012,
and was driven by slightly reduced insurable exposure units in most areas of the
United States, which was partially offset by mild upward pressure on general
insurance premium rates. Virtually all of the $2.1 million increase in Other
Income for the six months ended June 30, 2012 over the comparable period of 2011
represented gains on the sale of books of business.
Income before income taxes for the six months ended June 30, 2012, increased
6.3%, or $4.5 million, over the same period in 2011, to $76.1 million. This
increase was primarily due to the core commissions and fees generated by new
acquisitions. Additionally, there were continued improved efficiencies relating
to certain other operating expenses, such as data processing, insurance, legal,
claims and settlements, postage and office rent expenses. However, commissioned
producer compensation increased $2.8 million for the six months ended June 30,
2012 over the same period in 2011 as a result of a special one-time program
whereby our commissioned producers are eligible for an extra 5% commission on
their 2012 production results if their 2012 production exceeds their 2011
production by at least 5%.
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National Programs Division
The National Programs Division is comprised of two units: Professional Programs,
which provides professional liability and related package products for certain
professionals delivered through nationwide networks of independent agents; and
Special Programs, which markets targeted products and services designated for
specific industries, trade groups, public and quasi-public entities and market
niches. Like the Retail and Wholesale Brokerage Divisions, the National Programs
Division's revenues are primarily commission-based.
Financial information relating to our National Programs Division for the three
and six months ended June 30, 2012, and 2011, is as follows (in thousands,
except percentages):
For the three months For the six months
ended June 30, ended June 30,
% %
2012 2011 Change 2012 2011 Change
REVENUES
Core commissions and fees $ 53,135 $ 31,424 69.1 % $ 106,765 $ 65,519 63.0 %
Profit-sharing contingent
commissions (400 ) 44 NMF % 10,119 12,259 (17.5 )%
Guaranteed supplemental
commissions 3 64 (95.3 )% 197 328 (39.9 )%
Investment income 11 - 100.0 % 11 - 100.0 %
Other income, net 217 19 NMF % 481 39 NMF %
Total revenues 52,966 31,551 67.9 % 117,573 78,145 50.5 %
EXPENSESEmployee compensation and benefits 25,851 15,315 68.8 %
52,338 32,393 61.6 %
Non-cash stock-based compensation 957 346 176.6 % 1,782 671 165.6 %
Other operating expenses 9,649 5,488 75.8 % 19,929 11,497 73.3 %
Amortization 3,278 1,923 70.5 % 6,454 3,847 67.8 %
Depreciation 1,136 739 53.7 % 2,278 1,524 49.5 %
Interest 4,351 322 NMF % 11,003 773 NMF %
Change in estimated acquisition
earn-out payables (1,494 ) 6 NMF % (1,406 ) 11 NMF %
Total expenses 43,728 24,139 81.2 % 92,378 50,716 82.1 %
Income before income taxes $ 9,238 $ 7,412 24.6 %
$ 25,195$ 27,429 (8.1 )%
Net internal growth rate - core
organic commissions and fees 7.2 % (11.4 )% 3.8 % (9.0 )%
Employee compensation and benefits
ratio 48.8 % 48.5 % 44.5 % 41.5 %
Other operating expenses ratio 18.2 % 17.4 % 17.0 % 14.7 %
Capital expenditures $ 3,434 $ 305 $ 5,850 $ 732
Total assets at June 30, 2012 and
2011
$ 1,149,268$ 633,179
NMF = Not a meaningful figure
Total revenues for National Programs for the three months ended June 30, 2012,
increased 67.9%, or $21.4 million, over the same period in 2011, to $53.0
million. Profit-sharing contingent commissions and GSCs for the second quarter
of 2012 decreased $0.5 million from the second quarter of 2011 due primarily to
a return of $0.5 million in profit-sharing contingent commissions by Proctor
Financial, Inc. ("Proctor") as a result of a "clawback" contract provision. The
$21.7 million net increase in core commissions and fees revenue resulted from
the following factors: (i) an increase of approximately $19.5 million related to
the core commissions and fees revenues from acquisitions that had no comparable
revenues in the same period of 2011; and (ii) the remaining net increase of $2.2
million primarily related to net new business. The National Programs Division's
internal growth rate for core organic commissions and fees revenue was 7.2% for
the three months ended June 30, 2012. Of the $2.2 million of net new business,
$1.2 million related to a net increase in commissions and fees revenues at
Proctor, with the remaining $1.0 million of net new business generated by
various other programs.
Income before income taxes for the three months ended June 30, 2012 increased
24.6%, or $1.8 million, over the same period in 2011, to $9.2 million. This net
increase was primarily due to the income credit generated from the change in
estimated acquisition earn-out payables of $1.5 million and $0.3 million from
the offices that existed in both three-month periods ended June 30, 2012 and
2011. Income before income taxes and inter-company interest expense related to
new acquisitions that were stand-alone offices (primarily the Arrowhead
acquisition) that had no comparable earnings in the same period of 2011 was
approximately $4.0 million; however those earnings were offset by $4.2 million
of inter-company interest expense allocation.
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Total revenues for National Programs for the six months ended June 30, 2012,
increased 50.5%, or $39.4 million, over the same period in 2011, to $117.6
million. Profit-sharing contingent commissions and GSCs for the six months ended
June 30, 2012 decreased $2.3 million from the same period of 2011 due primarily
to a $1.6 million reduction in profit-sharing contingent commissions received by
Proctor. Proctor's profit-sharing contingent commissions declined in the 2012
because written premiums were lower than in 2011 as compared to 2010. The $41.2
million net increase in core commissions and fees revenue resulted from the
following factors: (i) an increase of approximately $38.8 million related to the
core commissions and fees revenues from acquisitions that had no comparable
revenues in the same period of 2011; and (ii) the remaining net increase of $2.4
million primarily related to net new business. The National Programs Division's
internal growth rate for core organic commissions and fees revenue was 3.8% for
the six months ended June 30, 2012. Of the $2.4 million of net new business,
$2.1 million related to a net increase in commissions and fees revenues at
Proctor.
Income before income taxes for the six months ended June 30, 2012 decreased
8.1%, or $2.2 million, from the same period in 2011, to $25.2 million. This net
decrease was due to: (i) a reduction of $2.0 million from the offices that
existed in both six-month periods ended June 30, 2012 and 2011, primarily as a
result of increased compensation expense mainly related to increased staffing
levels at Proctor, (ii) a net loss before taxes of $1.6 million related to new
acquisitions, and (iii) a $1.4 million income credit generated from the change
in estimated acquisition earn-out payables. Income before income taxes and
inter-company interest expense related to new acquisitions that were stand-alone
offices (primarily the Arrowhead acquisition) that had no comparable earnings in
the same period of 2011 was approximately $9.1 million for the six months ended
June 30, 2012; however those earnings were offset by $10.7 million of
inter-company interest expense allocation.
Wholesale Brokerage Division
The Wholesale Brokerage Division markets and sells excess and surplus commercial
and personal lines insurance and reinsurance, primarily through independent
agents and brokers. Like the Retail and National Programs Divisions, the
Wholesale Brokerage Division's revenues are primarily commission-based.
Financial information relating to our Wholesale Brokerage Division for the three
and six months ended June 30, 2012 and 2011 is as follows (in thousands, except
percentages):
For the three months For the six months
ended June 30, ended June 30,
% %
2012 2011 Change 2012 2011 Change
REVENUES
Core commissions and fees $ 46,301 $ 42,995 7.7 % $ 84,683 $ 79,163 7.0 %
Profit-sharing contingent
commissions 434 1,950 (77.7 )% 4,602 6,736 (31.7 )%
Guaranteed supplemental commissions 607 651 (6.8 )% 1,204 1,366 (11.9 )%
Investment income 5 9 (44.4 )% 11 17 (35.3 )%
Other income, net 136 39 248.7 % 287 186 54.3 %
Total revenues 47,483 45,644 4.0 % 90,787 87,468 3.8 %
EXPENSES
Employee compensation and benefits 22,891 21,547 6.2 %
44,321 42,012 5.5 %
Non-cash stock-based compensation 328 378 (13.2 )% 630 752 (16.2 )%
Other operating expenses 8,708 7,730 12.7 % 16,693 15,304 9.1 %
Amortization 2,786 2,753 1.2 % 5,573 5,487 1.6 %
Depreciation 661 654 1.1 % 1,317 1,319 (0.2 )%
Interest 895 1,885 (52.5 )% 2,121 4,102 (48.3 )%
Change in estimated acquisition
earn-out payables 19 579 (96.7 )% 60 597 (89.9 )%
Total expenses 36,288 35,526 2.1 % 70,715 69,573 1.6 %
Income before income taxes $ 11,195 $ 10,118 10.6 % $ 20,072 $ 17,895 12.2 %
Net internal growth rate - core
organic commissions and fees 7.9 % 1.2 % 6.8 % 2.7 %
Employee compensation and benefits
ratio 48.2 % 47.2 % 48.8 % 48.0 %
Other operating expenses ratio 18.3 % 16.9 %
18.4 % 17.5 %
Capital expenditures $ 712 $ 984 $ 1,886 $ 1,617
Total assets at June 30, 2012 and
2011 $ 795,134 $ 735,848
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The Wholesale Brokerage Division's total revenues for the three months ended
June 30, 2012, increased 4.0%, or $1.8 million, over the same period in 2011, to
$47.5 million. Profit-sharing contingent commissions and GSCs for the second
quarter of 2012 decreased $1.6 million from the same quarter of 2011, primarily
due to developed losses and increased loss ratios at our insurance carrier
partners. The $3.3 million net increase in core commissions and fees revenue
resulted from the following factors: (i) an increase of approximately $0.4
million related to the core commissions and fees revenues from acquisitions that
had no comparable revenues in the same period of 2011; (ii) a decrease of $0.5
million related to commissions and fees revenues recorded in the second quarter
of 2011 from business divested during 2012; and (iii) the remaining net increase
of $3.4 million primarily related to net new business and continued increases in
premium rates on many lines of insurance, but primarily on coastal property. As
such, the Wholesale Brokerage Division's internal growth rate for core organic
commissions and fees revenue was 7.9% for the second quarter of 2012.
Income before income taxes for the three months ended June 30, 2012, increased
10.6%, or $1.1 million, over the same period in 2011, to $11.2 million,
primarily due to a net reduction in the inter-company interest expense
allocation of $1.0 million. Additionally, even though total revenues increased
by $1.8 million, employee compensation and benefits cost increased $1.3 million,
and other operating expenses increased by $1.0 million. Employee compensation
and benefit expense increased primarily due to higher bonus expense as a result
of the Division's increased profitability, and $0.3 million in new producer
salaries. Other operating expenses increased as a result of higher costs for
data processing, telephone and inter-company overhead charges, as well as some
foreign currency exchange losses.
The Wholesale Brokerage Division's total revenues for the six months ended
June 30, 2012 increased 3.8%, or $3.3 million, over the same period in 2011, to
$90.8 million. Profit-sharing contingent commissions and GSCs for the six months
ended June 30, 2012 decreased $2.3 million from the same period of 2011,
primarily due to developed losses and increased loss ratios at our insurance
carrier partners. Of the $5.5 million net increase in core commissions and fees
revenue: (i) an increase of approximately $1.0 million related to the core
commissions and fees revenues from acquisitions that had no comparable revenues
in the same period of 2011; (ii) a decrease of $0.8 million related to
commissions and fees revenues recorded in the first half of 2011 from business
divested during 2012; and (iii) the remaining net increase of $5.3 million
primarily related to net new business and continued increases in premium rates
on many lines of insurance, but primarily on coastal property. As such, the
Wholesale Brokerage Division's internal growth rate for core commissions and
fees revenue was 6.8% for the six months ended June 30, 2012.
Income before income taxes for the six months ended June 30, 2012, increased
12.2%, or $2.2 million, from the same period in 2011, to $20.1 million,
primarily due to a net reduction in the inter-company interest expense
allocation of $2.0 million. Additionally, even though total revenues increased
by $3.3 million, employee compensation and benefits cost increased $2.3 million,
and other operating expenses increased by $1.4 million. Employee compensation
and benefit expense increased primarily due to higher bonus expense as a result
of the Division's increased profitability, and $0.3 million in new producer
salaries. Other operating expenses increased as a result of higher costs for
data processing, telephone and inter-company overhead charges, as well as some
foreign currency exchange losses.
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Services Division
The Services Division provides insurance-related services, including third-party
claims administration and comprehensive medical utilization management services
in both the workers' compensation and all-lines liability arenas, as well as
Medicare set-aside services and Social Security disability advocacy services.
Unlike our other segments, approximately 99.8% of the Services Division's 2011
commissions and fees revenues are generated from fees, which are not
significantly affected by fluctuations in general insurance premiums.
Financial information relating to our Services Division for the three and six
months ended June 30, 2012, and 2011, is as follows (in thousands, except
percentages):
For the three months For the six months
ended June 30, ended June 30,
% %
2012 2011 Change 2012 2011 Change
REVENUES
Core commissions and fees $ 27,521 $ 16,120 70.7 % $ 53,283 $ 31,943 66.8 %
Profit-sharing contingent
commissions - - - % - - - %
Guaranteed supplemental
commissions - - - % - - - %
Investment income - 123 (100.0 )% - 126 (100.0 )%
Other income, net 139 197 (29.4 )% 207 217 (4.6 )%
Total revenues 27,660 16,440 68.2 % 53,490 32,286 65.7 %
EXPENSES
Employee compensation and benefits 14,360 8,570 67.6 % 28,228 17,340 62.8 %
Non-cash stock-based compensation 153 65 135.4 % 284 115 147.0 %
Other operating expenses 6,315 2,816 124.3 % 12,144 5,692 113.4 %
Amortization 1,156 635 82.0 % 2,269 1,272 78.4 %
Depreciation 304 147 106.8 % 529 279 89.6 %
Interest 4,481 1,479 203.0 % 6,001 2,988 100.8 %
Change in estimated acquisition
earn-out payables (1,727 ) 141 NMF % (1,570 ) 282 (656.7 )%
Total expenses 25,042 13,853 80.8 % 47,885 27,968 71.2 %
Income before income taxes $ 2,618 $ 2,587 1.2 % $ 5,605 $ 4,318 29.8 %
Net internal growth rate - core
organic commissions and fees 10.1 % (0.8 )% 7.9 % (0.6 )%
Employee compensation and benefits
ratio 51.9 % 52.1 % 52.8 % 53.7 %
Other operating expenses ratio 22.8 % 17.1 %
22.7 % 17.6 %
Capital expenditures $ 444 $ 209 $ 805 $ 504
Total assets at June 30, 2012 and
2011
$ 268,629$ 146,522
The Services Division's total revenues for the three months ended June 30, 2012
increased 68.2%, or $11.2 million, over the same period in 2011, to $27.7
million. The $11.4 million net increase in core commissions and fees revenue
resulted from the following factors: (i) an increase of approximately $9.8
million related to the core commissions and fees revenues from the third-party
claims administration business acquired as part of the Arrowhead acquisition, as
well as an additional acquisition of a property and casualty claims
administration operation, neither of which had comparable revenues in the same
period of 2011; and (ii) net new business of $1.6 million. As such, the Services
Division's internal growth rate for core organic commissions and fees revenue
was 10.1% for the second quarter of 2012.
Income before income taxes for the three months ended June 30, 2012 increased
1.2%, or less than $0.1 million, over the same period in 2011, to $2.6 million.
This net increase was due to: (i) an increase of $0.6 million from the offices
that existed in both three-month periods ended June 30, 2012 and 2011, primarily
due to net new business, (ii) a net loss before taxes of $2.4 million related to
new acquisitions, and (iii) a $1.9 million income credit generated from the
change in estimated acquisition earn-out payables. Income before income taxes
and inter-company interest expense related to new acquisitions that were
stand-alone offices (primarily from the Arrowhead acquisition) that had no
comparable earnings in the same period of 2011 was approximately $0.8 million
for the three months ended June 30, 2012; however those earnings were offset by
$3.2 million of inter-company interest expense allocation.
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The Services Division's total revenues for the six months ended June 30, 2012,
increased 65.7%, or $21.2 million, over the same period in 2011, to $53.5
million. The $21.3 million net increase in core commissions and fees revenue
resulted from the following factors: (i) an increase of approximately $18.8
million related to the core commissions and fees revenues from the third-party
claims administration business acquired as part of the Arrowhead acquisition, as
well as an additional acquisition of a property and casualty claims
administration operation, neither of which had comparable revenues in the same
period of 2011; and (ii) net new business of $2.5 million. As such, the Services
Division's internal growth rate for core organic commissions and fees revenue
was 7.9% for the six months ended June 30, 2012.
Income before income taxes for the six months ended June 30, 2012 increased
29.8%, or $1.3 million, over the same period in 2011, to $5.6 million. This net
increase was due to: (i) an increase of $1.4 million from the offices that
existed in both six-month periods ended June 30, 2012 and 2011, primarily as a
result net new business, (ii) a net loss before taxes of $2.0 million related to
new acquisitions, and (iii) a $1.9 million income credit generated from the
change in estimated acquisition earn-out payables. Income before income taxes
and inter-company interest expense related to new acquisitions that were
stand-alone offices (primarily from the Arrowhead acquisition) that had no
comparable earnings in the same period of 2011 was approximately $1.4 million
for the six months ended June 30, 2012; however those earnings were offset by
$3.3 million of inter-company interest expense allocation.
Other
As discussed in Note 11 of the Notes to Condensed Consolidated Financial
Statements, the "Other" column in the Segment Information table includes any
income and expenses not allocated to reportable segments, and corporate-related
items, including the inter-company interest expense charges to reporting
segments.
LIQUIDITY AND CAPITAL RESOURCES
Our cash and cash equivalents of $193.7 million at June 30, 2012, reflected a
decrease of $92.6 million from the $286.3 million balance at December 31, 2011.
For the six-month period ended June 30, 2012, $112.7 million of cash was
provided from operating activities. Also during this period, $369.7 million of
cash was used for acquisitions, $12.7 million was used for additions to fixed
assets, $200.0 million was provided from proceeds received on new long-term
debt, and $24.4 million was used for payment of dividends.
Our ratio of current assets to current liabilities (the "current ratio") was
1.17 and 1.47 at June 30, 2012, and December 31, 2011, respectively.
Contractual Cash Obligations
As of June 30, 2012, our contractual cash obligations were as follows:
Payments Due by Period
Less Than After 5
(in thousands) Total 1 Year 1-3 Years 4-5 Years Years
Long-term debt $ 450,696 $ 663 $ 125,033 $ 225,000 $ 100,000
Other liabilities(1) 44,177 20,534 19,420 2,160 2,063
Operating leases 133,832 28,973 48,225 31,942 24,692
Interest obligations 61,394 15,846 25,250 14,860 5,438
Unrecognized tax benefits 639 - 639 - -
Maximum future acquisition contingency
payments(2) 147,104 32,409 112,838 1,857 -
Total contractual cash obligations $ 837,842$ 98,425$ 331,405$ 275,819$ 132,193
(1) Includes the current portion of other long-term liabilities.
(2) Includes $58.0 million of current and non-current estimated earn-out payables
resulting from acquisitions consummated after January 1, 2009.
In July 2004, we completed a private placement of $200.0 million of unsecured
senior notes (the "Notes"). The $200.0 million was divided into two series:
(1) Series A, which closed on September 15, 2004, for $100.0 million due in 2011
and bearing interest at 5.57% per year; and (2) Series B, which closed on
July 15, 2004, for $100.0 million due in 2014 and bearing interest at 6.08% per
year. Brown & Brown has used the proceeds from the Notes for general corporate
purposes, including acquisitions and repayment of existing debt. On
September 15, 2011, the $100.0 million of Series A Notes were redeemed on their
normal maturity date. As of June 30, 2012 and December 31, 2011, there was an
outstanding balance on the Notes of $100.0 million.
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On December 22, 2006, we entered into a Master Shelf and Note Purchase Agreement
(the "Master Agreement") with a national insurance company (the "Purchaser"). On
September 30, 2009, we and the Purchaser amended the Master Agreement to extend
the term of the agreement until August 20, 2012. The Purchaser also purchased
Notes issued by us in 2004. The Master Agreement provides for a $200.0 million
private uncommitted "shelf" facility for the issuance of senior unsecured notes
over a three-year period, with interest rates that may be fixed or floating and
with such maturity dates, not to exceed ten years, as the parties may determine.
The Master Agreement includes various covenants, limitations and events of
default similar to the Notes issued in 2004. The initial issuance of notes under
the Master Agreement occurred on December 22, 2006, through the issuance of
$25.0 million in Series C Senior Notes due December 22, 2016, with a fixed
interest rate of 5.66% per year. On February 1, 2008, $25.0 million in Series D
Senior Notes due January 15, 2015, with a fixed interest rate of 5.37% per year,
were issued. On September 15, 2011, and pursuant to a Confirmation of
Acceptance, dated January 21, 2011 (the "Confirmation"), in connection with the
Master Agreement, $100.0 million in Series E Senior Notes due September 15,
2018, with a fixed interest rate of 4.50% per year, were issued. The Series E
Senior Notes were issued for the sole purpose of retiring the Series A Senior
Notes. As of June 30, 2012, and December 31, 2011, there was an outstanding debt
balance of $150.0 million attributable to notes issued under the provisions of
the Master Agreement.
On June 12, 2008, we entered into an Amended and Restated Revolving Loan
Agreement dated as of June 3, 2008 (the "Prior Loan Agreement"), with a national
banking institution, amending and restating the Revolving Loan Agreement dated
September 29, 2003, as amended (the "Revolving Agreement"), to increase the
lending commitment to $50.0 million (subject to potential increases up to $100.0
million) and to extend the maturity date from December 20, 2011, to June 3,
2013. The Revolving Agreement initially provided for a revolving credit facility
in the maximum principal amount of $75.0 million. After a series of amendments
that provided covenant exceptions for the notes issued or to be issued under the
Master Agreement and relaxed or deleted certain other covenants, the maximum
principal amount was reduced to $20.0 million. At June 30, 2012 and December 31,
2011, there were no borrowings against this facility.
On January 9, 2012, we entered into: (1) an amended and restated revolving and
term loan credit agreement (the "SunTrust Agreement") with SunTrust Bank
("SunTrust") that provides for (a) a $100.0 million term loan (the "SunTrust
Term Loan") and (b) a $50.0 million revolving line of credit (the "SunTrust
Revolver") and (2) a $50.0 million promissory note (the "JPM Note") in favor
of JPMorgan Chase Bank, N.A. ("JPMorgan"), pursuant to a letter agreement
executed by JP Morgan (together with the JPM Note, (the "JPM Agreement") that
provides for a $50.0 million uncommitted line of credit bridge facility (the
"JPM Bridge Facility"). The SunTrust Term Loan, the SunTrust Revolver and the
JPM Bridge Facility were each funded on January 9, 2012, and provided the
financing for the Arrowhead acquisition. The SunTrust Agreement amended and
restated the Prior Loan Agreement.
The maturity date for the SunTrust Term Loan and the SunTrust Revolver is
December 31, 2016, at which time all outstanding principal and unpaid interest
will be due. Both the SunTrust Term Loan and the SunTrust Revolver may be
increased by up to $50.0 million (bringing the total available to $150.0 million
for the SunTrust Term Loan and $100.0 million for the SunTrust Revolver). The
calculation of interest and fees for the SunTrust Agreement is generally based
on our funded debt-to-EBITDA ratio. Interest is charged at a rate equal to 1.00%
to 1.40% above LIBOR or 1.00% below the Base Rate, each as more fully described
in the SunTrust Agreement. Fees include an up-front fee, an availability fee of
0.175% to 0.25%, and a letter of credit margin fee of 1.00% to 1.40%. The
obligations under the SunTrust Term Loan and SunTrust Revolver are unsecured and
the SunTrust Agreement includes various covenants, limitations and events of
default that are customary for similar facilities for similar borrowers and that
are substantially similar to those contained in the Prior Loan Agreement.
The maturity date for the JPM Bridge Facility was February 3, 2012, at which
time all outstanding principal and unpaid interest would have been due. On
January 26, 2012, we entered into a term loan agreement (the "JPM Agreement")
with JPMorgan that provided for a $100.0 million term loan (the "JPM Term
Loan"). The JPM Term Loan was fully funded on January 26, 2012, and provided the
financing to fully repay (1) the JPM Bridge Facility and (2) the SunTrust
Revolver. As a result of the January 26, 2012 financing and repayments, the JPM
Bridge Facility was terminated and the SunTrust Revolver's amount outstanding
was brought to zero.
The maturity date for the JPM Term Loan is December 31, 2016, at which time all
outstanding principal and unpaid interest will be due. Interest is charged at a
rate equal to the Alternative Base Rate or 1.00% above the Adjusted LIBOR Rate,
each as more fully described in the JPM Agreement. Fees include an up-front
fee. The obligations under the JPM Term Loan are unsecured and the JPM Agreement
includes various covenants, limitations and events of default that are customary
for similar facilities for similar borrowers.
The 30-day LIBOR and Adjusted LIBOR Rate as of June 30, 2012 were 0.23875% and
0.25%, respectively.
The Notes, the Master Agreement, the SunTrust Agreement and the JPM Agreement
all require that we maintain certain financial ratios and comply with certain
other covenants. We were in compliance with all such covenants as of June 30,
2012 and December 31, 2011.
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Neither we nor our subsidiaries have ever incurred off-balance sheet obligations
through the use of, or investment in, off-balance sheet derivative financial
instruments or structured finance or special purpose entities organized as
corporations, partnerships or limited liability companies or trusts.
We believe that our existing cash, cash equivalents, short-term investment
portfolio and funds generated from operations, together with our Notes, the
Master Agreement, the SunTrust Agreement and the JPM Agreement, will be
sufficient to satisfy our normal liquidity needs through at least the end of
2012. Additionally, we believe that funds generated from future operations will
be sufficient to satisfy our normal liquidity needs, including the required
annual principal payments on our long-term debt.
Historically, much of our cash has been used for acquisitions. If additional
acquisition opportunities should become available that exceed our current cash
flow, we believe that given our relatively low debt-to-total-capitalization
ratio, we would be able to raise additional capital through either the private
or public debt markets.
For further discussion of our cash management and risk management policies, see
"Quantitative and Qualitative Disclosures About Market Risk."
The shelf registration statement with the SEC registering the potential sale of
an indeterminate amount of debt and equity securities in the future, from time
to time, to augment our liquidity and capital resources expired March 2012. We
intend to file a new shelf registration statement at some point within the next
year.
