Item 1A. Risk Factors
Many factors affect our business, financial condition and results of operations, some of which are beyond our control. If any of the following risks or uncertainties occur, our business, financial condition or results of operations may be materially and adversely affected. In that event, the trading price of our securities could decline, and investors could lose all or part of their investment in our securities. Before making an investment in our securities, investors should carefully consider the risk factors discussed below, together with the other information in this report, including the section entitled “Forward-looking Statements” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and the other reports and materials filed by us with the SEC.
RISKS RELATED TO OUR BUSINESS
As a property and casualty insurer, we may experience significant losses, and our financial results may vary from period to period, due to our exposure to catastrophic events and severe weather conditions, the frequency and severity of which could be affected by the unpredictability of future catastrophic events and severe weather conditions.
Our property and casualty insurance operations expose us to risks arising from catastrophes. Catastrophes can be caused by various natural events, including but not limited to hurricanes, tropical storms, tornadoes, windstorms, earthquakes, hail, sinkholes, severe winter weather and fires, or man-made events, such as terrorist attacks (including those involving nuclear, biological, chemical or radiological events), cybercrimes or consequences of war or political instability. We may incur catastrophe losses that exceed the amount of:
•catastrophe losses experienced in prior years;
•catastrophe losses projected to be incurred, using third-party catastrophe modeling software;
•catastrophe loss estimates used to develop prices for our products; or
•our current reinsurance coverage (which would cause us to have to pay such excess losses).
The frequency and severity of weather conditions are inherently unpredictable, but the frequency and severity of property claims generally increase when severe weather conditions occur. Florida, Louisiana, North Carolina, South Carolina and Texas, all states in which we write policies, have experienced significant hurricanes in recent years, which some weather analysts believe is consistent with a period of sustained greater hurricane activity. There is a growing consensus today that climate change is increasing the frequency and severity of catastrophic events or severe weather conditions which, in addition to the attendant increase in claims-related costs, may also cause an increase in our reinsurance costs and/or negatively impact our ability to provide insurance to our policyholders in the future. In addition, increased catastrophic events could result in increased credit exposure to the reinsurers we transact business with. Our actual losses from catastrophic events may be larger than anticipated should our reinsurers fail to meet their obligations.
We cannot predict how legal, regulatory and social responses to concerns around climate change may impact our business. Governmental entities may also respond to climate change by enacting laws and regulations that may increase our cost of providing insurance in the future, which could adversely affect demand.
Catastrophes could be more frequent or severe than contemplated in our pricing and risk management models, and may have a material adverse effect on our results of operations during any reporting period due to increases in our loss and loss adjustment expense. Catastrophes may also reduce liquidity and could impair our ability to maintain existing capital, or raise capital on acceptable terms or at all. In addition to catastrophes, the accumulation of losses from several smaller weather-related events in any reporting period may have a similar impact to our results of operations and financial condition.
Because we conduct a significant portion of our business in Florida, our financial results substantially depend on, and could be adversely affected by, the regulatory, legal, economic, political, demographic, competitive and weather conditions present in that state.
As of December 31, 2022, approximately 52.5% of our policies in-force and 43.4% of our total insured value were concentrated in Florida. Therefore, the prevailing regulatory, legal, economic, political, demographic, competitive, weather and other conditions in Florida will likely have a more significant impact on our revenues and profitability compared to such conditions in other jurisdictions in which we operate. Furthermore, changes in such conditions in Florida could make doing business in Florida less attractive for us, which could have a more pronounced effect on us than it would on other insurance companies that are more geographically diversified.
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In addition, due to Florida’s climate, we are subject to increased exposure to certain catastrophic events such as hurricanes, tropical storms and tornadoes, as well as an increased risk of losses from such events. The occurrence of one or more catastrophic events or other conditions affecting losses in Florida may cause a disproportionately adverse effect on our results of operations and financial condition.
We also face a substantial number of lawsuits arising primarily from assignment of benefits (AOB) in the State of Florida. In recent years, Florida homeowners have been assigning the benefit of their insurance recovery to third parties, leading to increases in the severity and frequency of claims and the amount of litigation under AOB agreements that insureds make with customers. In July 2019, the Florida legislature enacted an AOB reform bill that intends to limit AOB litigation by creating requirements for the execution of an AOB and allowing an insurance policy to prohibit any AOB. We cannot guarantee that this new legislation will reduce the future impact of AOB practices, or whether additional legislation will be passed to further address AOB.
We also face an increase in cost of claims as the result of one-way attorney fees in the State of Florida. Florida Statutes sections 627.428 and 57.105 provide that a prevailing party in litigation is entitled to attorney’s fees. In 2021, the Florida legislature enacted omnibus insurance reform that, among other measures, replaced the one-way attorney fee statute with a schedule whereby recovery of attorney fees is contingent upon obtaining a judgment that exceeds the pre-suit offer. In 2022, the Florida legislature enacted additional insurance reform designed to improve the affordability of property insurance and reduce frivolous lawsuits. We cannot guarantee that this new legislation will further reduce the impact of litigation and expenses related to litigation, or whether additional legislation will be passed to further address one-way attorney fees.
Our exposure in Louisiana and Texas represented approximately 24.9% of our policies in-force and 23.3% of our total insured value at December 31, 2022. Therefore, any changes in the prevailing regulatory, legal, economic, political, demographic, competitive, weather and other conditions in these states, when coupled with the conditions in Florida, will likely have a significant impact on our revenues and profitability.
Because we rely on insurance agents, the loss of these agent relationships, particularly our relationship with AmRisc, LLC (AmRisc), or our inability to attract and incentivize new agents could have an adverse impact on our business.
We market our policies to a broad range of prospective policyholders through approximately 2,693 independent agencies as of December 31, 2022. Many of these agents are independent insurance agents that own their customer relationships, and our agency contracts with them limit our ability to directly solicit business from our existing policyholders. Independent agents commonly represent other insurance companies, including our competitors, and we do not control their activities. As a result, we must compete with other insurers for independent agents’ business. Our competitors may offer a greater variety of insurance products, lower premiums for insurance coverage or higher commissions to their agents. As a result, our business is dependent on the marketing efforts of these independent agents and on our ability to offer products and services that meet their and their customers’ requirements. Historically, we have used marketing relationships with national insurance companies and associations of independent insurance agents to attract and retain agents and agency groups. The loss of these marketing relationships could adversely impact our ability to attract new agents or retain our agency network and policies in-force. Failure to grow or maintain our agency relationships, a failure to attract and incentivize new agents or the failure of agents to act as anticipated could adversely affect sales of our insurance products.
Additionally, ACIC has a managing agency contract (the MGA contract) with AmRisc, pursuant to which AmRisc serves as ACIC’s managing general agent for binding and writing commercial residential property lines for condominium, townhome and homeowners association insurance written in Florida. The contract between ACIC and AmRisc is exclusive. Under the MGA contract with ACIC, AmRisc must produce a certain volume of business for ACIC. Therefore, failure of AmRisc to produce the required volume of business could cause us to lose substantial premiums and could require us to seek one or more alternative managing general agents. If we were unable to find a replacement managing general agent, our revenues could decrease, which could have a material adverse effect on our business, financial condition and results of operations. Given the concentration of ACIC’s commercial business and operations with AmRisc, AmRisc may have substantial leverage in negotiations with ACIC regarding the MGA contract, and amendments to the terms and conditions of the MGA contract or other changes to the commercial relationship between AmRisc and ACIC could have a material adverse effect on our business, financial condition and results of operations. Following the termination or expiration of the MGA contract, ACIC’s ability to compete for and solicit renewals of business previously underwritten by AmRisc on their respective behalves may be limited by legal, commercial and other impediments, including AmRisc’s relationship with other insurance producers that control the business. Such impediments could have a material adverse effect on our financial condition and results of operations due to the concentration of ACIC’s business with AmRisc.
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Actual claims incurred may exceed our loss reserves for claims, which could adversely affect our results of operations and financial condition.
Loss reserves represent our estimate of ultimate unpaid losses for claims that have been reported and claims that have been incurred but not yet reported. Loss reserves do not represent an exact calculation of liability, but instead represent our best estimate, generally utilizing actuarial expertise, historical information and projection techniques at a given reporting date.
The process of estimating our loss reserves involves a high degree of judgment and is subject to a number of variables. These variables can be affected by both internal and external events, such as changes in claims handling procedures, economic inflation, legal trends, legislative changes, emerging economic and social trends and varying judgments and viewpoints of the individuals involved in the estimation process, among others. In addition, application of statistical and actuarial methods in estimating our loss reserves may require the adjustment of overall reserves upward or downward from time to time. Future loss experience substantially in excess of our loss reserves could substantially harm our results of operations and financial condition.
Because of the inherent uncertainty in estimating loss reserves, including reserves for catastrophes and litigated claims, additional liabilities resulting from one insured event, or an accumulation of insured events, may exceed our existing loss reserves. If our reserves are inadequate, it may cause us to overstate our earnings for the periods during which our reserves for expected losses was insufficient.
As a result of the uncertainties regarding the allocation of reinsurance recoveries, there is substantial doubt about our ability to continue as a going concern, which may hinder our ability to obtain future financing and reinsurance coverage.
As a result of our insurance subsidiary, UPC, being ordered into receivership for purposes of liquidation with the Florida Department of Financial Services (DFS) appointed as the receiver, uncertainty exists regarding the allocation of reinsurance recoveries under the Company’s core catastrophe reinsurance program, which provides coverage for both UPC and our other insurance subsidiary, ACIC. With the DFS having assumed full control of UPC, the reinsurance allocation agreement between UPC and ACIC which was previously approved by the Florida Office of Insurance Regulation, is subject to review by the DFS, the outcome or timing of which is uncertain. A significant delay in receiving funds owed to us, or the failure to receive any or all of the funds we believe to be owed to us, could adversely impact our future ability to operate as a going concern.
Absent these recoveries, uncertainty also exists regarding ACIC’s ability to obtain adequate catastrophe reinsurance coverage for the June 1, 2023 through May 31, 2024 renewal period. We are in negotiations with reinsurers for the 2023-2024 hurricane catastrophe cover and believe that capacity is available, although the cost of reinsurance will increase, possibly materially, for the June 1, 2023 through May 31, 2024 renewal period. If we are unable to obtain adequate catastrophe reinsurance coverage, or such coverage is prohibitively expensive, we may not be able to continue as a going concern. These factors raise substantial doubt about our ability to continue as a going concern within one year of the date that these financial statements are issued. This substantial doubt about our ability to continue as a going concern could materially limit our ability to raise new funds through the issuance of new debt or equity securities.
We may experience government-levied assessments. Although we may have the ability to collect this assessment from our policyholders, the timing of collection may have a material adverse effect on our results of operations.
Our insurance subsidiaries are subject to assessments levied by various governmental and quasi-governmental entities in the states in which we operate. While we may have the ability to recover these assessments from policyholders through policy surcharges in some states in which we operate, our payment of the assessments and our recoveries may not offset each other in the same reporting period in our financial statements and may cause a material adverse effect on our results of operations in a particular reporting period.
Our failure to implement and maintain adequate internal controls could have a material adverse effect on our business, financial condition, results of operations and stock price.
“Internal control over financial reporting” refers to those processes within a company that are designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements in accordance with generally accepted accounting principles. Section 404 of the Sarbanes-Oxley Act of 2002 requires our management to annually assess the effectiveness of our internal control over financial reporting.
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If we fail to maintain adequate internal controls in accordance with applicable standards, or if we have future material weaknesses in our internal controls, we may be unable to conclude on an ongoing basis that we have effective internal control over financial reporting in accordance with Section 404 of the Sarbanes-Oxley Act of 2002. Because effective internal controls are necessary for us to produce reliable financial reports, our business, financial condition and results of operations could be harmed, investors could lose confidence in our reported financial information, and the market price for our stock could decline if our internal controls do not remain effective or if future material weaknesses in our internal controls are identified.
If we experience difficulties with our information technology or data security systems and/or outsourcing relationships, our ability to conduct our business could be negatively impacted, which could adversely affect our financial condition or results of operations.
We use computer systems to store, retrieve, evaluate and utilize customer, employee, company and third-party data and information. Our business is highly dependent upon our information technology systems and the ability of key vendors and third-party administrators’ to perform necessary business functions efficiently and without interruption. Our ability to process policies and adjust claims in a timely manner could be impaired by an unplanned shutdown or failure of one or more systems or facilities due to man-made or natural disruption. These include an event leading to power outages, loss of facility access, a major internet failure, pandemic or a failure of one or more of our information technology, telecommunications or other systems. Because our information technology and telecommunications systems interface with and often depend on third-party systems, we could experience service denials if demand for such service exceeds capacity or a third-party system fails or experiences an interruption. If sustained or repeated, such a business interruption, system failure or service denial could result in a deterioration of our ability to write and process new and renewal business, provide customer service, pay claims in a timely manner or perform other necessary business functions.
Despite our continual evaluation of potential attackers’ techniques and tactics and our efforts in monitoring, training, planning and prevention, our information technology systems are vulnerable to computer viruses, natural disasters, unauthorized access, cyber-attacks, system failures, human error and negligence, and similar disruptions. There is no assurance that our security measures will provide fully effective protection from such disruptions. Because techniques used to obtain unauthorized access or to sabotage systems evolve rapidly, we may be unable to anticipate these techniques or to implement comprehensive counter measures. A material breach in the security of our information technology systems and data could include the theft of our confidential or proprietary information, including trade secrets, and the personally identifiable information of our customers, claimants, agents and employees. From time to time, we have experienced threats to our data and information technology systems, including malware and computer virus attacks, attempts of unauthorized access, system failures and disruptions. Disruptions or security breaches resulting in a loss or damage to our data or inappropriate disclosure of proprietary or confidential information, or the personally identifiable information of our customers, claimants, agents and employees, could cause significant damage to our reputation, adversely affect our relationships with our customers, result in litigation or regulatory investigations, increase remediation costs and/or regulatory penalties, and ultimately harm our business. Third parties to whom we outsource certain functions are also subject to the risks outlined above, any one of which may result in our incurring substantial costs and other negative consequences, including a material adverse effect on our business, financial condition and results of operations.
In addition, we may transmit, receive and store personally identifiable, confidential and proprietary information by any number of standard data transmission methods or other electronic means. We may be unable to keep such information confidential, in all events, especially with clients, vendors, service providers, counterparties and other third parties who may not have or use appropriate controls to protect confidential information. Furthermore, we are subject to compliance with laws and regulations enacted by U.S. federal and state governments, or enacted by various regulatory organizations or exchanges relating to the privacy and security of the information of clients, employees or others. The compromise of personally identifiable, confidential or proprietary information could result in remediation costs, legal liability, regulatory action and reputational harm.
Additionally, in the absence of overarching federal law, individual states are adopting their own privacy and cybersecurity laws and regulations. For example, in an effort to protect information systems, the New York State Department of Financial Services (NYDFS) adopted regulation providing minimum standards for an organization’s cybersecurity program and requiring additional certification confirming compliance. In October 2017, the National Association of Insurance Commissioners (NAIC) adopted a new Insurance Data Security Model Law, which is intended to establish the standards for data security and standards for the investigation and notification of data breaches applicable to insurance licensees in states adopting such law, with provisions that are generally consistent with the NYDFS cybersecurity regulation. Though the NYDFS cybersecurity regulation helps to reduce the third-party risk and imposes specific technical safeguards, the evolving compliance and operational requirements of privacy and cybersecurity laws and regulations impose significant costs that are likely to increase over time and may restrict the way services involving data are offered, all of which may adversely affect our business and results of operations.
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Loss of key vendor relationships or failure of a vendor to protect personally identifiable information of our customers, claimants or employees could have an adverse effect on our business, results of operations or financial condition.
We rely on services and products provided by many third-party vendors. These include, for example, vendors of computer hardware and software and vendors of services such as claim adjustment services and payroll and benefits vendors who process sensitive personally identifiable information. In the event that one or more of our vendors suffers a bankruptcy, renews its contractual arrangement on terms less favorable to us, fails to comply with legal or regulatory requirements or otherwise becomes unable to continue to provide products or services, or fails to protect personally identifiable information of our customers, claimants or employees, we may suffer operational impairments and financial losses. An interruption in or the cessation of service by any service provider as a result of system failures, capacity constraints, financial difficulties or for any other reason could disrupt our operations, impact our ability to offer certain products and services and result in contractual or regulatory penalties, liability claims from clients or employees, damage to our reputation and harm to our business. Moreover, in the event of a data breach involving any of our third-party vendors, our customers’, claimants’ or employees’ personally identifiable information could also be put at risk. Any such data breach involving our third-party vendors could result in significant mitigation or legal expenses for us, which could materially and adversely affect our reputation, relationships with our customers, business, results of operations and financial condition.
Our success has been and will continue to be greatly influenced by our ability to attract and retain the services of senior management, the loss of any of whom could have an adverse effect on our business, financial condition or results of operations.
Our senior executive officers play an integral role in the development and management of our business given their skills, knowledge of our business, years of industry experience and the potential difficulty of promptly finding qualified replacement employees. Due to the intense competition in our industry for senior executive officers with demonstrated ability, we cannot guarantee that any such officers will continue their employment with us. Additionally, we do not maintain any key person life insurance policies on any of our officers or employees. Losing any of our senior executive officers and/or not succeeding in attracting and retaining senior executive officers could have an adverse effect on our results of operations and financial condition.
Our mergers, dispositions and other strategic transactions may not be as successful as we anticipate, and could be difficult to integrate, divert management resources, result in unanticipated costs or dilute our existing stockholders.
Part of our continuing business strategy is to evaluate opportunities to merge with companies that complement our business model or enter into other strategic transactions that facilitate or expedite the accomplishment of our business goals. We may be unable to identify suitable counterparties to such a transaction. Even if we enter into an agreement in respect of a merger with another business, disposition of a business or other strategic transaction, we may not be able to finalize a transaction after significant investments of time and resources due to, among other things, a lack of regulatory approval or imposition of a burdensome condition by the regulator.
In connection with a merger, disposition or other strategic transaction, we could incur debt, amortization expenses related to intangible assets, large and immediate write-offs, assume liabilities or issue stock that would dilute our current stockholders’ percentage of ownership. As a result, there is a risk of transaction-related litigation. Such strategic transactions could pose numerous risks to our operations, including risks relating to:
•incurring substantial unanticipated integration costs;
•diverting significant management attention and financial resources from our other operations and disrupting our ongoing business during the integration process;
•losing key employees, particularly those of the merged operations;
•keeping existing customers and retaining the merged business’ customers;
•failing to realize the strategic benefits or the potential cost savings or other financial benefits of the mergers;
•incurring unanticipated liabilities or claims from the acquired businesses and contractually-based time and monetary limitations on the seller’s obligation to indemnify us for such liabilities or claims; and
•limitations on our ability to access additional capital when needed.
We are also subject to a certain level of risk regarding the actual condition of the businesses that we acquire. Until we actually assume operating control of such businesses and their assets and operations, we may not be able to ascertain the actual value or understand the potential liabilities of the acquired entities and their operations. As a result, we may not be able to complete acquisitions, mergers or other strategic transactions or integrate the operations, products or personnel gained through
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any such acquisition, merger or other strategic transaction without a material adverse effect on our business, financial condition and results of operations.
We may engage in future dispositions or wind-downs of certain business. These dispositions pose risks to our operations in addition to those previously mentioned, including risks related to:
•the ability to price a sale transaction appropriately and otherwise negotiate acceptable terms;
•the ability to replace legacy earnings from the business position with new revenues;
•the ability to collect proceeds from the disposition in a timely manner, which may be earmarked for other strategic transactions and may hinder our ability to carry out those strategic transactions; and
•the ability to run-off segments of our business while staying compliant with all applicable regulatory requirements.
In addition, the disposition of any portion of our business may adversely affect the price of our stock and result in losses to investors of shares.
We face risks associated with investments in which we share ownership or management with third parties.
From time to time, we have and may continue to invest in entities in which we share ownership or management with third parties. In certain circumstances, we may not have complete control over governance, financial reporting, operations, legal and regulatory compliance or other matters relating to such entities. As a result, we may face certain operating, financial, legal, regulatory, compliance and other risks relating to these entities, including, but not limited to, risks related to the financial strength of other investors; the willingness of other investors to provide adequate funding for the entity; differing goals, strategies, priorities or objectives between us and other investors; our inability to unilaterally implement actions, policies or procedures with respect to the entity that we believe are favorable; legal and regulatory compliance risks relating to actions of the entity or other investors; and the risk that we will be unable to resolve disputes with other investors. As a result, investments in which we share ownership or management subject us to risk and may contribute significantly less than anticipated to our earnings and cash flows.
Our Senior Notes place certain restrictions on our operations and our failure to comply with such restrictions, including as a result of events beyond our control, could result in an event of default, which could materially and adversely affect our liquidity, financial condition and results of operations.
Our Senior Notes due 2027 (Senior Notes) place certain restrictions on the Company’s financial operations. Because we are a holding company, our assets consist primarily of the securities of our subsidiaries. The negative pledge provisions in the Senior Notes limit our ability to pledge securities of our subsidiaries and restrict dispositions of the capital stock of our subsidiaries. Our Senior Notes require us to maintain certain financial ratios and to comply with various operational and other covenants, including limitations on our ability to incur any indebtedness unless certain conditions are met. Details of these covenants can be found in Note 11 in our Notes to Consolidated Financial Statements. Our failure to comply with such restrictions, including as a result of events beyond our control, could result in an event of default and an acceleration of the maturity of the Senior Notes. We cannot assure you that our assets or cash flow would be sufficient to fully repay the Senior Notes if accelerated, or that we would be able to restructure the payments on the Senior Notes. This could have a material adverse impact on our liquidity, financial condition and results of operations.
The outbreak of the novel coronavirus (COVID-19) pandemic and related business disruption and economic uncertainty could adversely impact our business, results of operations and financial condition.
During 2020, a novel strain of coronavirus (COVID-19) spread to many countries in the world, including the United States, and the outbreak was declared a pandemic by the World Health Organization in March 2020.
Considerable uncertainty still surrounds the COVID-19 virus and its potential impact, and the extent of and effectiveness of responses taken on international, national and local levels. The extent of the impact of COVID-19 on our business, results of operations and financial condition will depend, in large part, on future developments, which are highly uncertain and cannot be predicted with confidence such as:
•the duration and severity of the spread;
•the extent and duration of business closures, travel restrictions, social distancing and other actions taken to contain and treat COVID-19;
•the effectiveness of vaccines for COVID-19;
•the effectiveness of therapies for COVID-19; and
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•the effectiveness of actions taken by governmental authorities to contain and treat the virus.
Measures taken to limit the impact of COVID-19, including shelter-in-place orders, social distancing measures, travel bans and restrictions, and business and government shutdowns, resulted in significant negative economic impacts on the United States and globally. However, since January 2021, we have seen reduced risk from COVID-19 as a result of the availability of vaccinations, the number of people opting for vaccination, and the easing of travel and social distancing restrictions. While we have not incurred any significant disruptions to our business operations, financial position, liquidity or our ability to service our policyholders as of the date of this Form 10-K, with the exception of fluctuations in our investment portfolios due to the volatility in the equity securities markets in 2020, the continued impacts of COVID-19 (including a severe or prolonged economic downturn due to impacts from COVID-19) could result in a variety of risks to our business, including:
•an increase in the default of insurance premiums coinciding with an increase in unemployment rates and customers' inability to pay premiums;
•our ability to meet regulatory and debt service requirements;
•more stringent regulatory requirements or a rating agency downgrade that would impact both agency and consumer confidence;
•travel restrictions and quarantines leading to a lack of in-person meetings, which could hinder the efficiency of our internal operations and our ability to establish relationships with agents to generate new business;
•contraction of the global reinsurance markets resulting from uncertainties related to current and future COVID-19 claims on underlying risks;
•higher frequency and/or severity of claims from certain perils such as theft, fire and liability, as well as fraudulent insurance loss schemes and litigation attempting to force coverage;
•legislative, judicial and regulatory actions may expand coverage definitions, retroactively mandate coverage or otherwise require us to pay losses for damages that our insurance policies explicitly excluded or were not intended or priced to cover;
•changes in the equity markets, changes in interest rates, and reduced liquidity leading to a decline in the value of our investment portfolio;
•a recession or market correction could materially affect the value of our common stock; and
•our third-party vendors experiencing business disruptions or reduced service levels resulting from lack of an available and qualified workforce, which impact our ability to conduct our business in the manner and on the timelines presently planned.
RISKS RELATED TO THE INSURANCE INDUSTRY
Because we are operating in a highly competitive market, we may lack the resources to control our market share, which could adversely impact our business and results of operations.
The property and casualty insurance industry is highly competitive, and we believe it will remain highly competitive for the foreseeable future. The principal competitive factors in our industry are price, service, coverage options, underwriting guidelines, commission structure and financial condition. We compete with other property and casualty insurers that underwrite property and casualty insurance in the same geographic areas in which we operate and some of those insurers have greater financial resources and have a longer operating history than we do. In addition, our competitors may offer products for alternative forms of risk protection that we presently do not offer or are not similarly regulated in the admitted market, which could adversely affect the sales of our products. Customers may turn to our competitors as a result of our failure to deliver on customer expectations, service flaws, technology issues, gaps in operational support or other issues affecting customer experience. We also compete with new companies that continue to enter the insurance market. We may have difficulty controlling our market share while rates are increasing due to an increase in reinsurance costs and losses from the high frequency of catastrophe events in recent years.Competition could limit our ability to retain existing business or to write new business at adequate rates, and such limitation may cause a material adverse effect on our results of operations and financial position.
In addition, industry developments could further increase competition in our industry. These developments could include:
•an influx of new capital in the marketplace as existing companies attempt to expand their businesses and new companies attempt to enter the insurance business as a result of better premium pricing and/or policy terms;
•an increase in programs in which state-sponsored entities provide property insurance in catastrophe-prone areas;
•changes in state regulatory climates; and
•the passage of federal proposals for an optional federal charter that would allow some competing insurers to operate under regulations different or less stringent than those applicable to us.
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These developments and others could make the property and casualty insurance marketplace more competitive by increasing the supply of insurance available. If competition limits our ability to write new business at adequate rates, our future results of operations would be adversely affected.
Changes in state regulation may adversely affect our results of operation and financial condition.
As a holding company with operating insurance company subsidiaries, we are subject to the laws and regulations of the various states in which our insurance subsidiaries operate. From time to time, states pass legislation, and regulators take action, that has the effect of limiting the ability of insurers to manage risk, such as legislation prohibiting insurers from reducing exposures or withdrawing from catastrophe-prone areas, or mandating that insurers participate in residual markets. In addition, legislative initiatives and court decisions can seek to expand insurance coverage for insured losses beyond the original intent of the policies, which could cause our actual loss and loss adjustment expense to exceed our estimates. Further, our ability to increase pricing to the extent necessary to offset rising loss or operating costs requires approval of insurance regulatory authorities.
Our ability to appropriately manage our catastrophe exposure by raising prices, modifying underwriting terms or reducing exposure to certain geographies may be limited due to considerations of public policy and the evolving political environment, which may cause a material adverse effect on our results of operations, financial condition and cash flows. We cannot predict whether and to what extent the adoption of new legislation and regulations would affect our ability to manage our exposure to catastrophic events.
The insurance industry is heavily regulated and further restrictive regulation may reduce our profitability and limit our growth.
The insurance industry is extensively regulated and supervised. Insurance regulatory authorities generally design insurance rules and regulations to protect the interests of policyholders, and not necessarily the interests of insurers, their stockholders, and other investors. This regulation relates to authorization for lines of business, capital and surplus requirements, investment limitations, underwriting limitations, transactions with affiliates, dividend limitations, changes in control, premium rates and a variety of other financial and non-financial components of an insurance company's business. We are subject to comprehensive regulation and supervision by state insurance departments in all states in which our insurance subsidiaries are domiciled, as well as all states in which they are licensed, sell insurance products, issue policies, or handle claims. The regulations of each state are unique and complex and subject to change, and certain states may have regulations that conflict with the regulations of other states in which we operate. As a result, we are subject to the risk that compliance with the regulations in one state may not result in compliance with the regulations in another state.
We strive to maintain all required licenses and approvals. However, we may not fully comply with the wide variety of applicable laws and regulations. The relevant authority's interpretation of the laws and regulations also may change from time to time. Regulatory authorities have relatively broad discretion to impose fines, and grant, renew or revoke licenses and approvals. If we do not have the required licenses and approvals or do not comply with applicable regulatory requirements, these authorities could preclude or temporarily suspend us from carrying on some or all of our activities or impose substantial fines. In addition, we may face individual and class action lawsuits by insured and other parties for alleged violations of certain of these laws or regulations.
State statutes and administrative rules generally require each insurance company to register with the department of insurance in its state of domicile and to furnish information concerning the operations of the companies within the holding company system. Failure to comply with such requirements may materially affect the operations, management or financial condition of the insurers. As part of its registration, each insurance company must identify material agreements, relationships and transactions with affiliates, including loans, investments, asset transfers, transactions outside of the ordinary course of business, certain management, service, and cost sharing agreements, reinsurance transactions, dividends, and other financial and non-financial components of an insurer’s business. Some states impose restrictions or require prior regulatory approval of specific corporate actions, which may adversely affect our ability to operate, innovate, obtain necessary rate adjustments in a timely manner or grow our business profitably. Our ability to comply with these laws and regulations, and to obtain necessary regulatory action in a timely manner is, and will continue to be, critical to our success.
Currently, the federal government’s role in regulating or dictating the policies of insurance companies is limited. However, from time to time Congress has considered and may in the future consider proposals that would increase the role of the federal government in insurance regulation, either in addition to or in lieu of state regulation. For example, the Dodd-Frank Act established a Federal Insurance Office (FIO) within the U.S. Department of Treasury Department to collect data on the insurance industry, recommend changes to the state system of insurance regulation and preempt certain state insurance laws.
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The potential impact on our business as a result of the Dodd-Frank Act and the FIO’s current and future recommendations remains unclear; however, the implementation of any federal insurance regulations that constrain our business opportunities or reduce investment flexibility could negatively impact our business.
In recent years, the state insurance regulatory framework has come under increased federal scrutiny. Changes in federal legislation, regulation and/or administrative policies in several areas, including changes in financial services regulation and federal taxation, could negatively affect the insurance industry and us. In addition, Congress and some federal agencies from time to time investigate the current condition of insurance regulation in the United States to determine whether to impose federal or national regulation or to allow an optional federal charter, similar to the option available to most banks. Further, the NAIC and state insurance regulators continually reexamine existing laws and regulations, specifically focusing on modifications to holding company regulations, interpretations of existing laws and the development of new laws and regulations. We cannot predict what effect, if any, proposed or future legislation or NAIC initiatives may have on the manner in which we conduct our business.
As part of potential, or future, industry-wide investigations, we may from time to time receive requests for information from government agencies and authorities at the state or federal level. If we are subpoenaed for information by government agencies and authorities, potential outcomes could include law enforcement proceedings or settlements resulting in fines, penalties and/or changes in business practices that could cause a material adverse effect on our results of operations. In addition, these investigations may result in changes to laws and regulations affecting the industry.
Changes to insurance laws or regulations, or new insurance laws and regulations, may be more restrictive than current laws or regulations and could significantly increase our compliance costs, which could have a material adverse effect on our results of operations and our prospects for future growth. Additionally, our failure to comply with certain provisions of applicable insurance laws and regulations could result in significant fines or penalties being levied against us and may cause a material adverse effect on our results of operations or financial condition.
Our inability to obtain reinsurance on acceptable terms could increase our loss exposure or limit our ability to underwrite policies, which could adversely affect our results of operations and financial condition.
We use, and we expect to continue to use, reinsurance to help manage our exposure to property risks. Reinsurance is insurance for insurers and is fundamentally a promise by the reinsurer to pay possible future claims in exchange for the payment of a premium by the insurance company seeking reinsurance. Both the availability of reinsurance and the cost of reinsurance are subject to prevailing market conditions beyond our control, which can affect business volume and profitability. We may be unable to maintain our current reinsurance coverage, to obtain additional reinsurance coverage in the event our current reinsurance coverage is exhausted by a catastrophic event, or to obtain other reinsurance coverage in adequate amounts or at acceptable rates. Similar risks exist whether we are seeking to replace coverage terminated during the applicable coverage period or to renew or replace coverage upon its expiration. Market conditions beyond our control determine the availability and cost of reinsurance. For example, reinsurance may be more difficult or costly to obtain after several years with higher frequencies of major catastrophes. We may be unable to reduce per event or aggregate retentions when renewing or replacing our coverage due, in part, to the frequency of storms in prior years and the litigation trends in the state of Florida, which would increase our risk exposure and could ultimately lead to us paying higher claims. We provide no assurance that we can obtain sufficient reinsurance to cover losses resulting from one or more storms or other events in the future, or that we can obtain such reinsurance in a timely or cost-effective manner. If we are unable to renew our expiring coverage or to obtain new reinsurance coverage, either our net exposure to risk would increase or, if we are unwilling to accept an increase in net risk exposures, we may have to reduce the amount of risk we underwrite or accept higher reinsurance costs. Any of these alternatives may cause a material adverse effect on our results of operations and our financial condition.
Our inability to collect from our reinsurers on our reinsurance claims could have a material adverse effect on our business, results of operation, financial condition and cash flow.
We use reinsurance as a tool to manage risks associated with our business. However, we remain primarily liable as the direct insurer on all risks for which we obtain reinsurance. Our reinsurance agreements do not eliminate our obligation to pay claims to insureds. As a result, we are subject to counterparty risk with respect to our ability to recover amounts due from reinsurers. The risk could arise in two situations: (i) our reinsurers may dispute some of our reinsurance claims based on contract terms, and we may ultimately receive partial or no payment, or (ii) the amount of losses that reinsurers incur related to worldwide catastrophes may materially harm the financial condition of our reinsurers and cause them to default on their obligations. Collectability of reinsurance is subject to the solvency of the reinsurers, interpretation of contract language and other factors. A reinsurer’s insolvency, inability to make payments, or dispute of its obligations under the terms of a reinsurance contract could have a material adverse effect on our business, results of operations, financial condition and cash flow.
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Our efforts to manage these risks through underwriting guidelines, collateral requirements, financial strength ratings and other oversight mechanisms may not be successful. As a result, our exposure to counterparty risk under our reinsurance agreements may have a material adverse effect on our results of operations, financial condition and cash flow.
Our investments are subject to market risks that may result in reduced returns or losses.
Our investment assets are invested by professional investment management firms under the direction of our management team in accordance with investment guidelines approved by the Investment Committee of the Board of Directors. Our investments are subject to market risks and risks inherent in individual securities. In particular, interest rates are highly sensitive to many factors, including monetary and fiscal policy, domestic and international economic and political issues, geopolitical events, economic sanctions, blockades, the impact of domestic and international decisions regarding the COVID-19 pandemic and other factors beyond our control.
Our portfolio is primarily invested in fixed income securities and changes in the general interest rate environment will affect our returns on, and the fair value of, our fixed maturity and short-term investments. A decline in interest rates reduces the interest rate payable on new fixed income investments, thereby negatively impacting our net investment income. Conversely, rising interest rates reduce the fair value of existing fixed maturities. The volatility of any losses may force us to liquidate securities, which may cause us to incur capital losses. Realized fixed income and equity and unrealized equity losses in our investment portfolio would generally reduce our book value and, if significant, could affect our ability to conduct business. In addition, defaults under, or impairments of, any of these investments as a result of financial problems with the issuer and, where applicable, its guarantor could reduce our net investment income and net realized investment gains or result in investment losses.
We are subject to risks associated with potential declines in credit quality related to specific issuers and a general weakening in the economy. We may experience credit or default losses in our portfolio, including as a result of the failure of the procedures we have implemented to monitor the credit risk of our invested assets, which could adversely affect our results of operations and financial condition.
We may decide to invest an additional portion of our assets in equity securities, private equity limited partnership interests or other investments, which are generally subject to greater volatility than fixed maturity investments. Moreover, our private equity limited partnership interests are subject to transfer restrictions and may be illiquid. General economic conditions, stock market conditions, geopolitical events and many other factors beyond our control can adversely affect the fair value of our equity securities or other investments and could adversely affect our realization of net investment income. As a result of these factors, we may not realize an adequate return on our investments or we may incur losses on sales of our investments, which could reduce our net investment income and net realized investment gains or result in investment losses.
The fair value of our investment portfolio is also subject to valuation uncertainties. The valuation of investments is more subjective when the markets for these investments are illiquid and may increase the risk that the estimated fair value of our investment portfolio is not reflective of prices at which actual transactions would occur. Additionally, in the case of our private equity limited partnership interests, such valuations are determined by outside managers. Since the majority of our investments are held by our insurance subsidiaries, significant decreases in the fair value of these investments will produce significant declines in the statutory surplus of our insurance business. A long-term material decline in statutory surplus could have an adverse effect on our financial strength ratings and our ability to write new and renewal insurance business, thus potentially reducing our future underwriting profits.
Our determination of the amount of credit allowances to record varies by investment type and is based upon our periodic evaluation and assessment of known and inherent credit risks associated with the respective investment type. We revise our evaluations and assessments as conditions change and new information becomes available, and we reflect changes in the credit allowance in our Consolidated Statements of Comprehensive Loss. We base our assessment of whether a credit allowance is required based on our case-by-case evaluation of the underlying reasons for the decline in fair value. However, we may not accurately assess whether a credit allowance is required and the recorded amounts for a credit allowance in our financial statements may be inadequate.
Federal and/or state tax legislation could be enacted that would lessen or eliminate some or all of the tax advantages we currently benefit from, including those governing received deductions and tax credits, which could adversely affect the value of our investment portfolio.
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The property and casualty insurance and reinsurance industry is historically cyclical and the pricing and terms for our products may decline, which would adversely affect our profitability.
Historically, the financial performance of the property and casualty insurance and reinsurance industry has been cyclical, characterized by periods of severe price competition and excess underwriting capacity, or “soft” markets, followed by periods of high premium rates and shortages of underwriting capacity, or “hard” markets. We cannot predict with certainty when such a period may occur or how long any given hard or soft market will last. Downturns in the property and casualty market may cause a material adverse effect on our results of operations and our financial condition.
Losses from legal actions may materially affect our operating results, cash flows and financial condition.
Trends in the insurance industry regarding claims and coverage issues, such as increased litigation and the willingness of courts to expand covered causes of loss, may contribute to increased litigation costs and increase our loss exposure under the policies that we underwrite.
As industry practices and legal, judicial, social and other environmental conditions change, unexpected and unintended issues related to claims and coverage may emerge. Examples of emerging claims and coverage issues include, but are not limited to:
•judicial expansion of policy coverage and the impact of new theories of liability; and
•plaintiffs targeting property and casualty insurers in purported class-action litigation relating to claims-handling and other practices.
Multiparty or class action claims may present additional exposure to substantial economic, non-economic or punitive damage awards. The loss of even one of these claims, if it resulted in a significant award or a judicial ruling that was otherwise detrimental, could create a precedent in our industry that could have a material adverse effect on our results of operations and financial condition. This risk of potential liability may make reasonable settlements of claims more difficult to obtain.
We may be named a defendant in a number of legal actions relating to those emerging claim and coverage issues. The propensity of policyholders and third-party claimants to litigate and the willingness of courts to expand causes of loss and the size of awards may result in increased costs associated with litigation, render our loss reserves inadequate and may be material to our operating results and cash flows for a particular quarter or annual period and to our financial condition. In addition, claims and coverage issues may not become apparent to us for some time after our issuance of the affected insurance policies. As a result, we may not know the full extent of liability under insurance policies we issue for many years after the policies are issued.
A downgrade in or withdrawal of our financial strength or stability ratings could adversely impact our business volume and our ability to access additional debt or equity financing.
Financial strength or stability ratings are important to an insurer’s competitive position. Ratings measure an insurance company’s ability to meet its obligation to contract holders and policyholders. High ratings help maintain public confidence in a company’s products, facilitate the marketing of its products and enhance the company’s competitive position. Rating agencies review their ratings periodically, and our current ratings may not be maintained in the future. If significant losses, such as those resulting from one or more major catastrophes, or significant reserve additions were to cause our capital position to deteriorate significantly, or if one or more rating agencies substantially increase their capital requirements, we may need to raise equity capital in the future to maintain our ratings or limit the extent of a downgrade. For example, a trend of more frequent and severe weather-related catastrophes may lead rating agencies to substantially increase their capital requirements.
We cannot guarantee that our insurance subsidiaries, IIC and ACIC will maintain their current A (Exceptional) or higher ratings by Demotech and A- ratings by Kroll. Any downgrade or withdrawal of these ratings could impact the acceptability of our products to mortgage lenders that require homeowners to buy insurance, reduce our ability to retain and attract policyholders and agents and damage our ability to compete, which may cause a material adverse effect on our results of operations and financial condition. These material adverse effects could include, but are not limited to:
•reducing demand for new sales of insurance products;
•requiring us to modify our existing products or services, introduce new products or services or reduce prices for our products and services, in order to remain competitive;
•adversely affecting our relationships with our independent agents;
•materially increasing the number or amount of policy cancellations and non-renewals by policyholders;
•requiring us to post additional collateral under certain of our financing transactions;
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•limiting financial flexibility and access to capital markets;
•adversely affecting our ability to obtain reinsurance at reasonable prices or at all; and
•increasing the interest rates on our outstanding Senior Notes.
During the third quarter of 2022, we received notice from Demotech that the financial stability rating for our insurance subsidiary, UPC, was withdrawn. We believe that without the Demotech financial stability rating, there is uncertainty around the future availability of reinsurance coverage for UPC. Therefore, the Company has filed plans of withdrawal in Florida, Louisiana and New York which was effective on January 1, 2023, and in Texas, which was effective on November 1, 2022. As a result, during the fourth quarter of 2022 the Florida Office of Insurance Regulation (FLOIR) issued Consent Order No. 303643-22-CO that provides for the administrative supervision and approval of UPC’s run-off plan. In addition, during the fourth quarter of 2022, we received notice from Kroll that the rating of our insurance subsidiary, UPC, was withdrawn.
RISKS RELATED TO AN INVESTMENT IN OUR COMMON STOCK
Future sales of substantial amounts of our common stock by us or our existing stockholders could cause our stock price to decrease.
As of December 31, 2022, we had registered up to 101,000,000 of our securities (including both our preferred and common stock) authorized to issue from time to time in one or more offerings. Additional equity financings or other share issuances by us could adversely affect the market price of our common stock. Future share issuances in connection with merger transactions or other acquisitions could result in substantial additional dilution to our stockholders.
Dividend payments on our common stock in the future are uncertain, and our ability to pay dividends may be constrained by our holding company structure.
We have paid dividends on our common stock in the past. However, the declaration and payment of dividends will be at the discretion of our Board of Directors and will be dependent upon our profits, financial requirements and other factors, including legal and regulatory restrictions on the payment of dividends from our subsidiaries (as we are a holding company and do not have any significant operations or assets other than our ownership of the shares of our operating subsidiaries), capital adequacy, liquidity, general business conditions and such other factors as our Board of Directors deem relevant. Therefore, investors who purchase our common stock may only realize a return on their investment if the value of our common stock appreciates.
The ability of our subsidiaries to pay dividends may affect our liquidity and ability to meet our obligations.
The Company is a holding company with no significant operations. The principal assets are the stock of its subsidiaries and the holding company’s directly held investment portfolio. State insurance regulatory authorities limit the payment of dividends by insurance subsidiaries, as described in Note 15 in our Notes to Consolidated Financial Statements. The limitations are based on statutory income and surplus. In addition, competitive pressures generally require the subsidiaries to maintain insurance financial strength ratings. These restrictions and other regulatory requirements affect the ability of the subsidiaries to make dividend payments. Limits on the ability of the subsidiaries to pay dividends could adversely affect holding company liquidity, including our ability to pay dividends to stockholders and service our debt in the timeframe expected.
Management views enterprise economic capital as a combination of statutory surplus and invested assets at the parent holding company level. Deterioration in statutory surplus or earnings, from developments such as catastrophe losses, or changes in market conditions or interest rates, could adversely affect holding company liquidity by impacting the amount of dividends from our subsidiaries or the utilization of invested assets at the holding company to increase statutory surplus or for other corporate purposes.
In connection with the filed plan of withdrawal in New York for our insurance subsidiary, UPC, our insurance subsidiary, IIC, has agreed not to pay ordinary dividends until January 1, 2025, without the prior approval of the New York Department of Financial Services.
The substantial ownership of our common stock by R. Daniel Peed and his affiliates allows him to exert significant control over us, and the Company and R. Daniel Peed are subject to certain restrictive covenants that may restrict our ability to pursue certain opportunities.
R. Daniel Peed, our Chief Executive Officer and Chairman of the Board, beneficially owned approximately 32% of our issued and outstanding common stock at December 31, 2022. Mr. Peed also has a proxy from another member of RDX
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Holding, LLC, the former parent company of AmCo, who beneficially owns approximately 8% of our issued and outstanding common stock. As a result, Mr. Peed is able to exert substantial control over us. Moreover, Mr. Peed’s interests may conflict with the interests of other holders of our common stock and he may take actions affecting us with which other stockholders may disagree. Mr. Peed has the ability to exert significant influence over the following:
•the nomination, election and removal of our Board of Directors;
•the adoption of amendments to our charter documents;
•management and policies;
•our day-to-day operations; and
•the outcome of any corporate transaction or other matter submitted to our stockholders for approval, including mergers, consolidations and the sale of all or substantially all of our assets.
AmCo and ACIC are also subject to restrictive covenant agreements that contain non-competition, non-solicitation, confidentiality and other restrictive covenants that prohibit AmCo and ACIC from engaging in certain activities, including activities customarily performed by managing general agents and activities relating to segments of the commercial property insurance market for coastally exposed risks in the United States. Additionally, in connection with our merger with AmCo, we agreed to be subject to a restrictive covenant expiring on January 1, 2027 that will prohibit the formation, investment in or development, acquisition or ownership of any managing general agent or entity that performs activities customarily performed by managing general agents, or the engagement in customary managing general agent functions with respect to the commercial property insurance business. These restrictive covenants may restrict us from pursuing opportunities for expansion, including opportunities to act as or perform functions similar to a managing general agent, and therefore may limit our overall growth potential.
Further, we entered into a stockholder’s agreement with Mr. Peed and certain affiliates of Mr. Peed, which provides those stockholders with rights that our other stockholders do not have. Although the stockholder’s agreement requires shares beneficially owned by Mr. Peed and his affiliates to be voted in proportion to the votes cast by other stockholders on any proposal on which our stockholders are entitled to vote, this restriction terminated on April 3, 2022.
Transactions by Mr. Peed and his affiliates involving our common stock may have an adverse effect on the price of our common stock.
As noted above, Mr. Peed beneficially owned approximately 32% of our issued and outstanding common stock as of December 31, 2022. The Company has granted Mr. Peed and his affiliates customary demand and piggyback registration rights pursuant to which, subject to certain limitations, all of such shares eligible to be registered under the Securities Act of 1933, as amended (the Securities Act), and may be offered and sold to the public from time to time after the effectiveness of the related registration statement. Such shares may also be resold into the public markets in accordance with an exemption from registration under the Securities Act, including Rule 144, subject to the volume limitations, manner of sale requirements and notice requirements thereof. Sales of our common stock by Mr. Peed and his affiliates could have the effect of lowering our stock price. The perceived risk associated with the possible sale of a large number of shares by these stockholders could cause some of our other stockholders to sell their stock, thus causing the price of our stock to decline. In addition, actual or anticipated downward pressure on our stock price due to actual or anticipated sales of stock by Mr. Peed and his affiliates could cause other institutions or individuals to engage in short sales of our common stock, which may further cause the price of our stock to decline.
Provisions in our charter documents may make it harder for others to obtain control of us even though some stockholders might consider such a development to be favorable.
Our Second Amended and Restated Certificate of Incorporation and Amended and Restated Bylaws contain provisions that may discourage unsolicited takeover proposals our stockholders may consider to be in their best interests. Our Board of Directors is divided into two classes, each of which will generally serve for a term of two years with only one class of directors being elected in each year. At a given annual meeting, only a portion of our Board of Directors may be considered for election. Additionally, the Board of Directors and executive officers control greater than 50% of the Common Stock of the Company. Consequently, our “staggered board” and concentrated holdings may prevent our stockholders from replacing a majority of our Board of Directors at certain annual meetings, and may entrench our management and discourage unsolicited stockholder proposals that may be in the best interests of our stockholders.
Further, our Board of Directors has the ability to designate the terms of and issue one or more series of preferred stock, which may discourage transactions that otherwise could involve payment of a premium over prevailing market prices for our securities.
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Item 1B. Unresolved Staff Comments
None.
Item 2. Properties
We use all of our leased properties for office space. We lease in total approximately 34,900 square feet of office space located in Florida, New York, and Minnesota. These leases are generally short-term to medium-term leases of commercial office space.
Item 3. Legal Proceedings
We are involved in routine claims-related legal actions arising in the ordinary course of business. We accrue amounts resulting from claims-related legal actions in unpaid losses and loss adjustment expenses during the period that we determine an unfavorable outcome becomes probable and we can estimate the amounts. Management makes revisions to our estimates based on its analysis of subsequent information that we receive regarding various factors, including: (i) per claim information; (ii) company and industry historical loss experience; (iii) judicial decisions and legal developments in the awarding of damages; and (iv) trends in general economic conditions, including the effects of inflation.
On August 18, 2021, Jacqueline A. Miraglia v. United Insurance Holdings Corp., and United Property & Casualty Insurance Company was filed in the United States District Court for the District of Delaware alleging violations and damages arising under Title VII of the Civil Rights Act of 1964 and the Age Discrimination in Employment Act of 1967, and seeks damages in an unspecified amount. On September 27, 2022, venue was transferred to the United States District Court for the Middle District of Florida, Tampa Division. In November, 2022, the plaintiff filed an Amended Complaint styled Jacqueline A. Miraglia vs. United Insurance Holdings Corp., United Property & Casualty Insurance Company, and Skyway Claims Services, LLC, alleging violations arising under Title VII of the Civil Rights Act of 1964 and the Age Discrimination in Employment Act of 1967. The Company denies wrongdoing and believes that an unfavorable outcome is neither probable nor estimable.
Item 4. Mine Safety Disclosures
Not applicable.
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PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
MARKET INFORMATION
Our common stock trades on the Nasdaq Capital Market (Nasdaq) under the symbol “UIHC”.
HOLDERS OFCOMMON EQUITY
As of March 7, 2023, we had 3,763 holders of record of our common stock. The number of record holders does not include stockholders who are beneficial owners, but whose shares are held in street name by brokers and other nominees.
DIVIDENDS
During 2022, we paid a dividend of $0.06 per share of our common stock during the first quarter. While we did not pay a dividend during any other period in 2022, any future dividend payments will be at the discretion of our Board of Directors and will depend upon our profits, financial requirements and other factors, including legal and regulatory restrictions on the payment of dividends, general business conditions and such other factors as our Board of Directors deems relevant.
During November 2022, we received a $26,000,000 dividend from our insurance subsidiary, ACIC. During February 2021, we received a $3,500,000 dividend from our insurance subsidiary, IIC. During February 2020, we received a $12,000,000 dividend from IIC.
Under Florida law, Florida-domiciled insurers such as ACIC may not pay any dividend or distribute cash or other property to its shareholders except out of its available and accumulated surplus funds which are derived from realized net operating profits on its business and net realized capital gains. Additionally, Florida-domiciled insurers may not make dividend payments or distributions to shareholders without the prior approval of the insurance regulatory authority if the dividend or distribution would exceed the larger of:
1.the lesser of:
a.10% of the insurer’s capital surplus, or
b.100% of the insurer’s net income, not including realized capital gains, plus a two-year carryforward
2.10% of the insurer’s capital surplus with dividends payable constrained to unassigned funds minus 25% of unrealized capital gains, or
3.the lesser of:
a.10% of the insurer’s capital surplus, or
b.100% of the insurer’s net investment income plus a three-year carryforward with dividends payable constrained to unassigned funds minus 25% of unrealized capital gains.
Alternatively, ACIC may pay a dividend or distribution without the prior written approval of the insurance regulatory authority when:
1.the dividend is equal to or less than the greater of:
a.10% of the insurer’s surplus as to policyholders derived from realized net operating profits on its business and net realized capital gains, or
b.The insurer’s entire net operating profits and realized net capital gains derived during the immediately preceding calendar year, and:
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i.The insurer will have surplus as to policyholders equal to or exceeding 115% of the minimum required statutory surplus as to policyholders after the dividend or distribution is made, and
ii.The insurer files a notice of the dividend or distribution with the insurance regulatory authority at least ten business days prior to the dividend payment or distribution, and
iii.The notice includes a certification by an officer of the insurer attesting that, after the payment of the dividend or distribution the insurer will have at least 115% of required statutory surplus as to policyholders.
Except as provided above, Florida-domiciled insurers may only pay a dividend or make a distribution (i) subject to prior approval by the insurance regulatory authority, or (ii) 30 days after the insurance regulatory authority has received notice of intent to pay such dividend or distribution and has not disapproved it within such time. As of December 31, 2022, we were in compliance with these requirements.
Under the insurance regulations of New York, a New York-domiciled insurer such as IIC may not declare or distribute any dividend to shareholders which, together with all dividends declared or distributed by it during the next preceding twelve months, exceeds:
1.the lesser of:
a.10% of the insurer’s surplus to policyholders as shown on its latest statement on file with the Superintendent, or
b.100% of “adjusted net investment income” during that period.
New York law defines “adjusted net investment income” to mean net investment income for the twelve months immediately preceding the declaration or distribution of the current dividend increased by the excess, if any, of net investment income over dividends declared or distributed during the period commencing 36 months prior to the declaration or distribution of the current dividend and ending 12 months prior thereto.
See Note 15 to our Notes to Consolidated Financial Statements for further discussion of restrictions on future payments of dividends by our insurance affiliates.
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RECENT SALES OF UNREGISTERED SECURITIES
During 2022, we did not have any unregistered sales of our equity securities.
REPURCHASES OF EQUITY SECURITIES
During 2022, we did not repurchase any of our equity securities.
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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and related notes appearing in Part II, Item 8 of this Form 10-K. The following discussion provides an analysis of our results of operations and financial condition for 2022 as compared to 2021. Discussion regarding our results of operations and financial condition for 2021 as compared to 2020 is included in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2021. This discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Actual results may differ materially from those expressed or implied in these forward-looking statements as a result of certain known and unknown risks and uncertainties. See “Forward-Looking Statements.”
OVERVIEW
United Insurance Holding Corp. is a holding company primarily engaged in residential personal and commercial property and casualty insurance business with investments in the United States. During the periods presented, we conducted our business principally through three wholly-owned insurance subsidiaries: United Property & Casualty Insurance Company (UPC); American Coastal Insurance Company (ACIC); and Interboro Insurance Company (IIC). Collectively, we refer to the holding company and all our subsidiaries, including non-insurance subsidiaries, as “UPC Insurance,” which is the preferred brand identification for our Company. With UPC in receivership effective February 27, 2023 and IIC available for sale, the Company will be moving away from the “UPC Insurance” name and re-branding in support of American Coastal’s commercial operations during 2023.
Our Company’s primary source of revenue is generated from writing insurance in Florida and New York. Effective December 1, 2022, we no longer write in the state of North Carolina. Effective October 1, 2022, we no longer write in the state of Georgia. Effective June 1, 2022, we no longer write in the state of South Carolina. Effective April 1, 2022, we no longer write in the state of Massachusetts, and effective January 15, 2022, we no longer write in the state of New Jersey. Effective January 1, 2021, we no longer write in the state of Hawaii. Effective December 1, 2021, we no longer write in the states of Connecticut or Rhode Island. We are also licensed to write property and casualty insurance in an additional six states; however, we have not commenced writing or no longer write in these states. Our target market in such areas consists of states where the perceived threat of natural catastrophe has caused large national insurance carriers to reduce their concentration of policies. We believe an opportunity exists for UPC Insurance to write profitable business in such areas.
On August 25, 2022, we announced that UPC had filed plans for withdrawal in the states of Florida, Louisiana, and Texas and intended to file a plan for withdrawal in the state of New York. All filed plans entail non-renewing personal lines policies in these states. Additionally, we announced that Demotech, Inc. (Demotech), an insurance rating agency, notified UPC of its intent to withdraw UPC's Financial Stability Rating On December 5, 2022, the Florida Office of Insurance Regulation ("FLOIR") issued Consent Order No. 303643-22- CO that provides for the administrative supervision and approval of the plan of run-off for UPC (the "Consent Order"). The Consent Order provides formal approval of UPC's Plan of Run-Off (the "Plan") to facilitate a solvent wind down of its affairs in an orderly fashion. Additionally, in connection with the Plan, IIC has agreed to not pay ordinary dividends without the prior approval of the New York Department of Financial Services until January 1, 2025. On February 10, 2023, we announced that a solvent run-off for UPC was unlikely and on February 27, 2023, UPC was placed into receivership with the Florida Department of Financial Services (DFS) which divested our ownership of UPC.
Our Company, together with wholly-owned subsidiaries UPC and United Insurance Management, L.C. (UIM), entered into a Renewal Rights Agreement (Southeast Renewal Agreement), dated as of December 30, 2021 with HCPCI, pursuant to which our Company, UPC and UIM agreed to sell, and HCPCI agreed to purchase, the renewal rights to UPC’s personal lines homeowners business in Georgia, South Carolina and North Carolina. The transfer of policies is subject to regulatory approval. Effective June 1, 2022, we began the transition of South Carolina policies to HCPCI and effective October 1, 2022, we transitioned Georgia Policies in connection with our renewal rights agreement. The sale was consummated on December 30, 2021.
Effective June 1, 2022, we entered into a quota share reinsurance agreement with TypTap Insurance Company (Typtap). Under the terms of this agreement, we cede 100% of our in-force, new, and renewal policies in the states of Georgia, North Carolina and South Carolina. This agreement replaces the 85% quota share agreement with Homeowners Choice Property and Casualty, Inc. (HCPCI) effective December 31, 2021. Also effective June 1, 2022, our third-party quota share reinsurance agreements were renewed to exclude these states. We will no longer retain any risk associated with these states.
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Our Company, together with wholly-owned subsidiaries UPC and UIM, entered into a Renewal Rights Agreement (Northeast Renewal Agreement), dated as of January 18, 2021 with HCPCI and HCI Group, Inc. (HCI), pursuant to which our Company, UPC and UIM agreed to sell, and HCPCI agreed to purchase, the renewal rights to UPC’s personal lines homeowners business in Connecticut, Massachusetts, New Jersey and Rhode Island. The transfer of all states was completed as
of June 30, 2022.
Effective June 1, 2021, we entered into a quota share reinsurance agreement with HCPCI and TypTap Insurance Company (TypTap) in connection with the Northeast Renewal Agreement. Under the terms of this agreement, we cede 100% of our in-force, new, and renewal policies in the states of Connecticut, New Jersey, Massachusetts, and Rhode Island. The cession of these policies is 50% to HCPCI and 50% to TypTap.
We have historically grown our business through organic growth complemented by strategic acquisitions and partnerships, including our acquisitions of AmCo Holding Company (AmCo) and its subsidiaries, including ACIC, in April 2017, IIC in April 2016, and Family Security Holdings, LLC (FSH), including its subsidiary FSIC in February 2015, and our strategic partnership with a subsidiary of Tokio Marine Kiln Group Limited (Kiln), which formed JIC in August 2018. Effective June 1, 2022, we merged JIC into ACIC, with ACIC being the surviving entity. Effective May 31, 2022, we merged FSIC into UPC, with UPC being the surviving entity.
As a result of underwriting actions implemented during 2022, as well as the transfer of Rhode Island, Connecticut, New Jersey, Massachusetts, North Carolina, South Carolina and Georgia policies to HCPCI, our policies in-force decreased by 46.1% from 471,724 policies in-force at December 31, 2021 to 254,275 policies in-force at December 31, 2022.
Our business is subject to the impact of weather-related catastrophes on our loss and loss adjustment expenses (LAE). Over the last three years, the frequency of these catastrophes has increased. As a result, we have experienced increased catastrophe losses incurred during the prior three years. During the years ended December 31, 2022, 2021 and 2020, two, seven, and thirteen named storms, respectively, made landfall in our geographic footprint, resulting in retained pre-tax catastrophe losses of $203,896,000, $35,872,000, and $208,157,000, respectively. In addition, during each of the three years we increased our loss and LAE reserves as a result of development trends from 2017’s Hurricane Irma, that indicated our ultimate gross loss estimate should be increased.
The following discussion highlights significant factors influencing the consolidated financial position and results of operations of UPC Insurance. In evaluating our results of operations, we use premiums written and earned, policies in-force and new and renewal policies by geographic concentration. We also consider the impact of catastrophe losses and prior year development on our loss ratios, expense ratios and combined ratios. In monitoring our investments, we use credit quality, investment income, cash flows, realized gains and losses, unrealized gains and losses, asset diversification and portfolio duration. To evaluate our financial condition, we consider our liquidity, financial strength, ratings, book value per share and return on equity.
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UNITED INSURANCE HOLDINGS CORP.
Consolidated Net Loss
Year Ended December 31,
REVENUE:
Net unrealized gains (losses) on equity securities (6,585) 3,237 (27,562)
EXPENSES:
Net loss per diluted share $ (10.91) $ (1.35) $ (2.25)
Return on equity based on GAAP net loss (307.4) % (16.9) % (20.2) %
Effect of current year catastrophe losses on combined ratio 61.2 % 19.3 % 38.5 %
Effect of prior year development on combined ratio 24.3 % 4.7 % (0.9) %
(1) Loss ratio, net is calculated as losses and LAE net of losses ceded to reinsurers, relative to net premiums earned. Management uses this operating metric to analyze our loss trends and believes it is useful for investors to evaluate this component separately from our other operating expenses.
(2) Expense ratio is calculated as the sum of all operating expenses less interest expense relative to net premiums earned. Management uses this operating metric to analyze our expense trends and believes it is useful for investors to evaluate these components separately from our loss expenses.
(3) Combined ratio is the sum of the loss ratio, net and expense ratio. Management uses this operating metric to analyze our total expense trends and believes it is a key indicator for investors when evaluating the overall profitability of our business.
(4) Underlying combined ratio, a measure that is not based on GAAP, is reconciled above to the combined ratio, the most directly comparable GAAP measure. Additional information regarding non-GAAP financial measures presented in this Form 10-K can be found in “Definitions of Non-GAAP Measures”, below.
(5) Included in both the expense ratio and the combined ratio is amortization expense predominately associated with the AmCo, IIC, and FSH acquisitions, which cause comparative differences among periods.
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UNITED INSURANCE HOLDINGS CORP.
DEFINITIONS OF NON-GAAP MEASURES
We believe that investors’ understanding of UPC Insurance’s performance is enhanced by our disclosure of the following non-GAAP measures. Our methods for calculating these measures may differ from those used by other companies and therefore comparability may be limited.
Combined ratio excluding the effects of current year catastrophe losses and prior year reserve development (underlying combined ratio) is a non-GAAP measure, that is computed by subtracting the effect of current year catastrophe losses and prior year development from the combined ratio. We believe that this ratio is useful to investors, and it is used by management to highlight the trends in our business that may be obscured by current year catastrophe losses and prior year development. Current year catastrophe losses cause our loss trends to vary significantly between periods as a result of their frequency of occurrence and magnitude, and can have a significant impact on the combined ratio. Prior year development is caused by unexpected loss development on historical reserves. We believe it is useful for investors to evaluate these components separately and in the aggregate when reviewing our performance. The most directly comparable GAAP measure is the combined ratio. The underlying combined ratio should not be considered as a substitute for the combined ratio and does not reflect the overall profitability of our business.
Net loss and LAE excluding the effects of current year catastrophe losses and prior year reserve development (underlying loss and LAE) is a non-GAAP measure that is computed by subtracting the effect of current year catastrophe losses and prior year reserve development from net loss and LAE. We use underlying loss and LAE figures to analyze our loss trends that may be impacted by current year catastrophe losses and prior year development on our reserves. As discussed previously, these two items can have a significant impact on our loss trends in a given period. We believe it is useful for investors to evaluate these components both separately and in the aggregate when reviewing our performance. The most directly comparable GAAP measure is net loss and LAE. The underlying loss and LAE measure should not be considered a substitute for net loss and LAE and does not reflect the overall profitability of our business.
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UNITED INSURANCE HOLDINGS CORP.
RESULTS OF OPERATIONS
Consolidated Results
Net loss attributable to UIHC for the year ended December 31, 2022 increased by $411,936,000 to $469,855,000, compared to $57,919,000 for the year ended December 31, 2021. The increase in net losses was primarily driven by an increase in loss & LAE expense for the year, as a result of Hurricane Ian making landfall in Florida as a category four hurricane and exhausting our personal lines reinsurance coverage for the event. In addition, our provision for income taxes increased from the recognition of a valuation allowance against our deferred tax asset in 2022. Total revenues also decreased, driven by decreased gross written premiums and realized losses on investments, as described below. These factors were partially offset by lower policy acquisition costs and decreased ceded premium earned, as described below.
Revenues
Our gross written premiums decreased by $205,382,000, or 15.4%, to $1,124,063,000 for the year ended December 31, 2022, from $1,329,445,000 for the year ended December 31, 2021, driven by the transition of the Northeast business to HCPCI in the fourth quarter of 2021 and the first half of 2022, and the transition of the Southeast business to HCPCI in the second half of 2022. In addition, we experienced a decline in written premiums across the personal lines business, due to underwriting actions taken throughout 2021 and 2022. The breakdown of the year-over-year changes in both direct and assumed written premiums by region and gross written premium by line of business are shown in the table below.
Direct Written and Assumed Premium By Region (1) 2022 2021 Change
Gross Written Premium by Line of Business
(1) "Gulf" is comprised of Louisiana and Texas; "Northeast" is comprised of Massachusetts, New Jersey and New York in 2022 and Connecticut, Massachusetts, New Jersey, New York and Rhode Island in 2021; and "Southeast" is comprised of Georgia, North Carolina and South Carolina. We are no longer writing in New Jersey as of January 15, 2022, Massachusetts as of April 1, 2022, South Carolina as of June 1, 2022, Georgia as of October 1, 2022 and North Carolina as of December 1, 2022 as the policies have transitioned to HCPCI.
(2) Assumed premium written for 2022 and 2021 primarily included commercial property business assumed from unaffiliated insurers.
(3) Includes gross written premium from flood policies.
(4) Commercial written premium for 2022 and 2021 was primarily written in Florida.
New and Renewal Policies(1) By Region(2) 2022 2021 Change
(1) Only includes new and renewal homeowner, commercial and dwelling fire policies written during the year.
(2) "Gulf" is comprised of Louisiana and Texas; "Northeast" is comprised of Massachusetts, New Jersey and New York in 2022 and Connecticut, Massachusetts, New Jersey, New York and Rhode Island in 2021; and "Southeast" is comprised of Georgia, North Carolina and South Carolina. We are no longer writing in New Jersey as of January 15, 2022, Massachusetts as of April 1, 2022, South Carolina as of June 1, 2022, Georgia as of October 1, 2022 and North Carolina as of December 1, 2022 as the policies have transitioned to HCPCI.
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UNITED INSURANCE HOLDINGS CORP.
Ceded premiums earned decreased by $58,125,000, or 7.1%, to $760,557,000 for the year ended December 31, 2022 from $818,682,000 for 2021. The decrease is primarily driven by a $57,134,000 decrease in ceded premiums earned from our quota share agreements. This decrease can be attributed to the transition of our Northeast and Southeast business to HCPCI, resulting in lower cessions to the associated quota share contracts in 2022. In addition, our cessions to our external contracts decreased in 2022 as the result of the decrease in personal lines gross written premium described above.
Net investment income remained relatively flat in 2022, decreasing by $239,000, or 1.7%, to $14,011,000 for the year ended December 31, 2022 from $13,772,000 for 2021.
Net realized investment gains (losses) and net unrealized gains (losses) on equity securities decreased by $45,471,000, or 668.3%, to a net loss of $38,667,000 for the year ended December 31, 2022 from a net gain of $6,804,000 for the year ended December 31, 2021, driven by $22,718,000 of impairment losses realized on the fixed maturity portfolio attributable to our personal lines operating segment. The remainder of this change can be attributed to rising interest rates and unfavorable market conditions in 2022 resulting in unrealized losses on our investment portfolio.
Expenses
Expenses for the year ended December 31, 2022 increased $191,730,000, or 26.7%, to $910,298,000, from $718,568,000 for 2021. The increase in expenses was primarily due to an increase in loss and LAE as a result of Hurricane Ian making landfall in Florida as a category four hurricane and exhausting our personal lines reinsurance coverage for the event. The calculations of our combined loss ratios and underlying loss ratios are shown below.
($ in thousands) Year ended
December 31,
% of Gross earned premiums 52.1 % 30.0 % 22.1 pts
Less:
% of Gross earned premiums 19.8 % 19.9 % (0.1) pts
% of Net earned premiums 52.3 % 47.6 % 4.7 pts
(1) Underlying loss and LAE is a non-GAAP financial measure and is reconciled above to net loss and LAE, the most directly comparable GAAP measure. Additional information regarding non-GAAP financial measures presented in this Form 10-K can be found in the “Definitions of Non-GAAP Measures” section, above.
The calculations of the Company’s expense ratios are shown below.
($ in thousands) Year ended
December 31,
% of Gross earned premiums 21.5 % 20.4 % 1.1 pts
% of Net earned premiums 56.9 % 48.7 % 8.2 pts
Loss and LAE increased by $215,513,000, or 51.1%, to $637,647,000 for the year ended December 31, 2022, from $422,134,000 for the year ended December 31, 2021. Loss and LAE expense as a percentage of net earned premiums increased 66.2 points to 137.8% for the year ended December 31, 2022, compared to 71.6% for the year ended December 31, 2021. During the year ended December 31, 2022, we experienced increased catastrophe losses as a result of the severity of Hurricane Ian in 2022. In addition, during the year ended December 31, 2022 prior year reserve unfavorable development was higher on
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UNITED INSURANCE HOLDINGS CORP.
both catastrophe and non-catastrophe losses. Excluding catastrophe losses and reserve development, our gross underlying loss and LAE ratio for the year ended December 31, 2022 would have been 19.8%, a decrease of 0.1 points from 19.9% during the year ended December 31, 2021.
Policy acquisition costs decreased by $17,485,000, or 10.1%, to $156,089,000 for the year ended December 31, 2022, from $173,574,000 for the year ended December 31, 2021. The primary driver of the decrease in expense was a decrease in agent commissions, premium taxes and policy administration fees of $24,871,000, $4,958,000 and $4,077,000, respectively, all of which fluctuated in conjunction with the year-over-year decrease in personal lines gross written premium. This was partially offset by a $8,071,000 increase in external management fees incurred as a result of an increased volume of commercial written premium year-over-year. In addition, ceding commission income decreased $9,783,000 due to changes in the terms of our quota share reinsurance agreements.
Operating and underwriting expenses decreased by $12,625,000, or 22.4%, to $43,632,000 for the year ended December 31, 2022, from $56,257,000 for the year ended December 31, 2021, primarily due to decreased expenses related to our investment in technology of $10,606,000. In addition, underwriting expenses decreased $2,888,000, driven by the decrease in personal lines premiums described above.
General and administrative expenses increased by $6,105,000, or 10.7%, to $63,317,000 for the year ended December 31, 2022, from $57,212,000 for the year ended December 31, 2021, primarily due to the impairment of goodwill attributable to our personal lines operating segment totaling $13,569,000. This was partially offset by a decrease in salary related expenses of $8,547,000 attributable to a reduction in payroll taxes attributable to an employee retention tax credit refund for taxes previously paid and recognized as an expense by the company, as well as a reduction in headcount in 2022.
We experienced adverse reserve development in the current year and its historical impact on our net loss and net underlying loss ratios is outlined in the following table.
Historical Reserve Development
(1) Underlying net loss and LAE Ratio is a non-GAAP measure and is reconciled above to the Consolidated net loss and LAE Ratio, the most directly comparable GAAP measure. Additional information regarding non-GAAP financial measures presented in this Form 10-K can be found in the “Definitions of Non-GAAP Measures” section, above.
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UNITED INSURANCE HOLDINGS CORP.
Personal Lines Operating Segment Results
Pretax losses attributable to our personal lines operating segment for the year ended December 31, 2022 increased by $376,597,000 to a pretax loss of $481,153,000, compared to a pretax loss of $104,556,000 for the year ended December 31, 2021. The increase in pretax net loss was primarily due to a $291,387,000 decrease in gross written premiums, as described below, and a $183,088,000 increase in losses and LAE during 2022, driven by the impact of Hurricane Ian making landfall in Florida as a category four hurricane and exhausting our personal lines reinsurance coverage for the event. We also experienced a $29,172,000 decrease in realized investment gains, as described below. These drivers were partially offset by a $18,283,000 decrease in policy acquisition costs and $11,734,000 decrease in operating costs year-over-year, as described below.
Revenues
Our gross written premiums attributable to our personal lines operating segment decreased by $291,387,000, or 32.1%, to $615,820,000 for the year ended December 31, 2022, from $907,207,000 for the year ended December 31, 2021, primarily reflecting the transition of the Northeast business to HCPCI in the fourth quarter of 2021 and first half of 2022, and the transition of the Southeast business to HCPCI in the second half of 2022. In addition, decreases across all regions are seen due to the underwriting actions taken during 2021 and 2022. The breakdown of the year-over-year changes in direct written premiums by region are shown in the table below.
Direct Written Premium By Region(1) 2022 2021 Change
(1) "Gulf" is comprised of Louisiana and Texas; "Northeast" is comprised of Massachusetts, New Jersey and New York in 2022 and Connecticut, Massachusetts, New Jersey, New York and Rhode Island in 2021; and "Southeast" is comprised of Georgia, North Carolina and South Carolina. We are no longer writing in New Jersey as of January 15, 2022, Massachusetts as of April 1, 2022, South Carolina as of June 1, 2022, Georgia as of October 1, 2022 and North Carolina as of December 1, 2022 as the policies have transitioned to HCPCI.
New and Renewal Policies(1) By Region(2) 2022 2021 Change
(1) Only includes new and renewal homeowner and dwelling fire policies written during the year.
(2) "Gulf" is comprised of Louisiana and Texas; "Northeast" is comprised of Massachusetts, New Jersey and New York in 2022 and Connecticut, Massachusetts, New Jersey, New York and Rhode Island in 2021; and "Southeast" is comprised of Georgia, North Carolina and South Carolina. We are no longer writing in New Jersey as of January 15, 2022, Massachusetts as of April 1, 2022, South Carolina as of June 1, 2022, Georgia as of October 1, 2022 and North Carolina as of December 1, 2022 as the policies have transitioned to HCPCI.
Ceded premiums earned attributable to our personal lines operating segment decreased by $66,362,000, or 11.4%, to $515,264,000 for the year ended December 31, 2022 from $581,626,000 for the year ended December 31, 2021. The decrease is primarily driven by a $65,755,000 decrease in ceded premiums earned from our quota share agreements. This decrease can be attributed to the transition of our Northeast and Southeast business to HCPCI, resulting in lower cessions to the associated quota share contracts in 2022. In addition, our cessions to our external contracts decreased in 2022 as the result of the decrease in gross written premium described above.
Net investment income attributable to our personal lines operating segment decreased by $865,000, or 9.7%, to $8,097,000 for the year ended December 31, 2022 from $8,962,000 for the year ended December 31, 2021. The decrease is driven by a $3,304,000 decrease in income from our fixed maturity investment portfolio as a result of a decrease in the size of our fixed maturity portfolio in 2022. This was partially offset by increased income on our cash equivalents of $1,976,000 as a result of increased holdings, and a decrease in investment related expenses of $292,000.
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UNITED INSURANCE HOLDINGS CORP.
Net realized investment gains (losses) and net unrealized gains (losses) on equity securities attributable to our personal lines operating segment decreased by $35,555,000, or 662.5%, to a net loss of $30,188,000 for the year ended December 31, 2022 from a net gain of $5,367,000 for the year ended December 31, 2021, primarily driven by $22,718,000 of impairment losses realized on our fixed maturity portfolio. The remainder of this change can be attributed to rising interest rates and unfavorable market conditions in 2022 resulting in unrealized losses on our investment portfolio still held of $4,617,000 during 2022 and realized losses on our portfolio sold during 2022 of $2,853,000.
Expenses
Expenses attributable to our personal lines operating segment for the year ended December 31, 2022 increased $157,504,000, or 28.1%, to $717,316,000 for the year ended December 31, 2022, from $559,812,000 for the year ended December 31, 2021. The increase in expenses was primarily due to an increase in loss and LAE as a result of Hurricane Ian making landfall in Florida as a category four hurricane and exhausting our personal lines reinsurance coverage for the event. This was partially offset by decreased policy acquisition and operating costs, described below. The calculations of our combined loss ratios and underlying loss ratios are shown below.
($ in thousands) Year ended
December 31,
% of Gross earned premiums 72.5 % 36.8 % 35.7 pts
Less:
% of Gross earned premiums 25.1 % 23.1 % 2.0 pts
% of Net earned premiums 78.0 % 55.5 % 22.5 pts
(1) Underlying loss and LAE is a non-GAAP financial measure and is reconciled above to net loss and LAE, the most directly comparable GAAP measure. Additional information regarding non-GAAP financial measures presented in this Form 10-K can be found in the “Definitions of Non-GAAP Measures” section, above.
The calculations of the Company’s personal lines operating segment expense ratios are shown below.
($ in thousands) Year ended
December 31,
% of Gross earned premiums 22.0 % 19.3 % 2.7 pts
% of Net earned premiums 68.4 % 46.2 % 22.2 pts
Loss and LAE attributable to our personal lines operating segment increased by $183,088,000, or 49.8%, to $550,504,000 for the year ended December 31, 2022, from $367,416,000 for the year ended December 31, 2021. Loss and LAE expense as a percentage of net earned premiums increased 137.7 points to 225.9% for the year ended December 31, 2022, compared to 88.2% for the year ended December 31, 2021. Excluding catastrophe losses and reserve development, our gross underlying loss and LAE ratio for the year ended December 31, 2022 would have been 25.1%, an increase of 2.0 points from 23.1% during the year ended December 31, 2021.
Policy acquisition costs attributable to our personal lines operating segment decreased by $18,283,000, or 19.6%, to $75,093,000 for the year ended December 31, 2022, from $93,376,000 for the year ended December 31, 2021. The primary driver of the decrease in costs was decreased agent commissions, premium taxes, and policy administration fees of $22,455,000, $7,427,000 and $4,042,000, respectively, which fluctuated in conjunction with the year-over-year decrease in
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UNITED INSURANCE HOLDINGS CORP.
written premium described above. This was partially offset by decreased ceding commission income of $17,075,000 related primarily to our quota share reinsurance agreements.
Operating and underwriting expenses attributable to our personal lines operating segment decreased by $11,734,000, or 23.0%, to $39,270,000 for the year ended December 31, 2022, from $51,004,000 for the year ended December 31, 2021, primarily due to decreased expenses related to our investment in technology of $9,413,000. In addition, underwriting expenses decreased $2,692,000, driven by the decrease in written premiums described above.
General and administrative expenses attributable to our personal lines operating segment increased by $4,391,000, or 9.2%, to $52,318,000 for the year ended December 31, 2022, from $47,927,000 for the year ended December 31, 2021, as the result of impairment of goodwill attributable to our personal lines operating segment of $13,569,000. This was partially offset by a decrease in salary related expenses of $9,244,000 attributable to a reduction in payroll taxes attributable to an employee retention tax credit refund for taxes previously paid and recognized as an expense by the company, as well as a reduction in headcount in 2022.
Commercial Lines Operating Segment Results
Pretax earnings attributable to our commercial lines operating segment for the year ended December 31, 2022 increased by $3,820,000 to pretax income of $35,841,000, compared to pretax income of $32,021,000 for the year ended December 31, 2021. The increase in pretax earnings was primarily due to an increase in revenue driven by increased gross written premium described below. This increase was partially offset by increased loss & LAE expense for the year as a result of Hurricane Ian making landfall in Florida as a category four hurricane.
Revenues
Our gross written premiums attributable to our commercial lines operating segment increased by $86,005,000, or 20.4%, to $508,243,000 for the year ended December 31, 2022, from $422,238,000 for the year ended December 31, 2021, primarily reflecting the impact of rate increases on renewal business generated in the state of Florida, as we focus on increasing commercial written premiums and transitioning to a specialty commercial lines underwriter. These increases were partially offset by a decrease in premiums written in Texas and South Carolina as we are no longer writing business in these states. The breakdown of the year-over-year changes in both direct and assumed written premiums by state are shown in the table below.
Direct Written and Assumed Premium By State 2022 2021 Change
(1) Assumed premium written for 2022 and 2021 primarily included commercial property business assumed from unaffiliated insurers.
New and Renewal Policies(1) By State 2022 2021 Change
(1) Only includes new and renewal commercial policies written during the year.
Ceded premiums earned attributable to our commercial lines operating segment increased by $8,237,000 or 3.5%, to $245,293,000 for the year ended December 31, 2022 from $237,056,000 for the year ended December 31, 2021. The increase is primarily driven by a $8,621,000 increase in ceded premiums earned from our quota share agreements, driven by the increase in gross written premium, described above resulting in increased cessions to these contracts during 2022.
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UNITED INSURANCE HOLDINGS CORP.
Net investment income attributable to our commercial lines operating segment increased by $1,097,000, or 23.0%, to $5,861,000 for the year ended December 31, 2022 from $4,764,000 for 2021. This increase is driven by a $999,000 increase in income from our cash and cash equivalent holdings, as a result of increased holdings year-over-year.
Net realized investment gains and net unrealized gains (losses) on equity securities attributable to our commercial lines operating segment decreased by $9,914,000, or 689.9%, to a net loss of $8,477,000 for the year ended December 31, 2022 from a net gain of $1,437,000 for 2021, primarily driven by the disposal of fixed maturities to meet liquidity needs during an unfavorable price environment, resulting in realized losses of $6,511,000 in 2022. The remainder of this change can be attributed to unrealized losses as a result of unfavorable market conditions experienced in 2022.
Expenses
Expenses attributable to our commercial lines operating segment for the year ended December 31, 2022 increased $34,256,000, or 23.2%, to $181,644,000 for the year ended December 31, 2022, from $147,388,000 for the year ended December 31, 2021. The increase in expenses was primarily due to an increase in loss and LAE as a result of Hurricane Ian making landfall in Florida as a category four hurricane. In addition, general and administrative costs increased $1,980,000 in 2022, as described below.
($ in thousands) Year ended
December 31,
% of Gross earned premiums 18.8 % 13.3 % 5.5 pts
% of Net earned premiums 39.8 % 31.6 % 8.2 pts
Less:
Prior year reserve favorable development (7,899) (4,353) (3,546)
% of Gross earned premiums 11.1 % 12.1 % (1.0) pts
% of Net earned premiums 23.6 % 28.6 % (5.0) pts
(1) Underlying loss and LAE is a non-GAAP financial measure and is reconciled above to net loss and LAE, the most directly comparable GAAP measure. Additional information regarding non-GAAP financial measures presented in this Form 10-K can be found in the “Definitions of Non-GAAP Measures” section, above.
The calculations of the Company’s commercial lines operating segment expense ratios are shown below.
($ in thousands) Year ended
December 31,
% of Gross earned premiums 20.4 % 22.6 % (2.2) pts
% of Net earned premiums 43.2 % 53.5 % (10.3) pts
Loss and LAE attributable to our commercial lines operating segment increased by $32,425,000, or 59.3%, to $87,143,000 for the year ended December 31, 2022, from $54,718,000 for the year ended December 31, 2021. Loss and LAE expense as a percentage of net earned premiums increased 8.2 points to 39.8% for the year ended December 31, 2022, compared to 31.6% for the year ended December 31, 2021. Excluding catastrophe losses and reserve development, our gross underlying loss and LAE ratio for the year ended December 31, 2022 would have been 11.1%, a decrease of 1.0 point from 12.1% during the year ended December 31, 2021.
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UNITED INSURANCE HOLDINGS CORP.
Policy acquisition costs attributable to our commercial lines operating segment remained relatively flat, increasing by $798,000, or 1.0%, to $80,996,000 for the year ended December 31, 2022, from $80,198,000 for the year ended December 31, 2021.
Operating and underwriting expenses attributable to our commercial lines operating segment decreased by $947,000, or 19.4%, to $3,926,000 for the year ended December 31, 2022, from $4,873,000 for the year ended December 31, 2021, primarily due to decreased expenses related to our investment in technology of $1,164,000.
General and administrative expenses attributable to our commercial lines operating segment increased by $1,980,000, or 26.1%, to $9,579,000 for the year ended December 31, 2022, from $7,599,000 for the year ended December 31, 2021. This increase was driven by a $1,131,000 increase of allocated external fees related to legal, audit, actuarial and tax services provided during the year. In addition, we incurred an additional $698,000 in allocated salary expenses in 2022 compared to 2021.
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UNITED INSURANCE HOLDINGS CORP.
ANALYSIS OF FINANCIAL CONDITION
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our accompanying consolidated financial statements and related notes in Part II, Item 8 in this Form 10-K.
Investments
The primary goals of our investment strategy are to preserve capital, maximize after-tax investment income, maintain liquidity and minimize risk. To accomplish our goals, we purchase debt securities in sectors that represent the most attractive relative value, and we maintain a moderate equity exposure. Limiting equity exposure manages risks and helps to preserve capital for two reasons: first, bond market returns are less volatile than stock market returns, and second, should the bond issuer enter bankruptcy liquidation, bondholders generally have a higher priority than equity holders in a bankruptcy proceeding. Our investment strategy is the same for both our personal lines and commercial lines operating segments.
We must comply with applicable state insurance regulations that prescribe the type, quality and concentrations of investments our insurance subsidiaries can make; therefore, our current investment policy limits investment in non-investment-grade fixed maturities and limits total investment amounts in preferred stock, common stock and mortgage notes receivable. We do not invest in derivative securities. Large catastrophe losses such as Hurricane Ian in 2022 can present significant liquidity demands to the Company stemming from higher than normal frequency and severity of insurance claims. This can lead to the selling of securities that we intended to hold until maturity and realizing untimely gains or losses.
Two outside asset management companies, which have authority and discretion to buy and sell securities for us, manage our investments subject to (i) the guidelines established by our Board of Directors and (ii) the direction of management. The Investment Committee of our Board of Directors reviews and approves our investment policy on a regular basis.
Our cash and investment portfolios totaled $715,721,000 at December 31, 2022 compared to $964,844,000 at December 31, 2021.
The following table summarizes our investments, by type:
Estimated Fair Value Percent of Total Estimated Fair Value Percent of Total
States, municipalities and political subdivisions 51,779 7.2 % 79,896 8.3 %
Public utilities 551 0.1 % — — %
We classify all of our investments as available-for-sale. Our investments at December 31, 2022 and 2021 consisted mainly of U.S. government and agency securities, states, municipalities and political subdivisions, mortgage-backed securities and securities of investment-grade corporate issuers. Our equity holdings in 2022 and 2021 consisted mainly of securities issued by
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UNITED INSURANCE HOLDINGS CORP.
companies in the financial, utilities and industrial sectors or mutual funds. Most of the corporate bonds we hold reflected a similar diversification. At December 31, 2022, approximately 84.4% of our fixed maturities were U.S. Treasuries, or corporate bonds rated “A” or better, and 15.6% were corporate bonds rated “BBB” or “BB”.
During the year ended December 31, 2022, as a result of UPC’s plan of run-off, management determined that it was more likely than not that we would be required to sell a portion or all of our fixed-income securities attributable to the entity before recovery of their amortized cost basis. These securities were evaluated and none of the unrealized loss position was the result of a credit loss. As a result, we realized impairment losses of $22,718,000 on these securities. Total shareholders’ equity (deficit) was not impacted by such charge; however, our net loss for the year ended December 31, 2022 worsened and other comprehensive income improved by $22,718,000, before tax impacts, in offsetting amounts. The remainder of our fixed-income securities remain in an unrealized position as of December 31, 2022, with net unrealized losses on the portfolio totaling $33,054,000 as of December 31, 2022.
The most significant impact of COVID-19 on our business occurred during the year ended December 31, 2020, where we saw fluctuations in our investment portfolio due to volatility in the equity securities markets that we were unable to predict. During the second half of the year ended December 31, 2020, we decreased our equity portfolio from 9.1% of our total invested assets (including cash, restricted cash and cash equivalents) at June 30, 2020 to 0.6% of our total invested assets (including cash, restricted cash and cash equivalents) at December 31, 2020. As a result of this decrease, we experienced a decreased impact from fluctuations in the equity securities markets on our financial statements for the second half of the year ended December 31, 2020. In the first quarter of 2021, we began to increase our investments in the equities market. Management is working closely with our investment managers to monitor the fluctuations in the markets and the corresponding impact to our portfolios.
Reinsurance
We follow industry practice of reinsuring a portion of our risks. Reinsurance involves transferring, or “ceding”, all or a portion of the risk exposure on policies we write to another insurer, known as a reinsurer. To the extent that our reinsurers are unable to meet the obligations they assume under our reinsurance agreements, we remain primarily liable for the entire insured loss under the policies we write.
Our reinsurance program is designed, utilizing our risk management methodology, to address our exposure to catastrophes. According to the Insurance Service Office (ISO), a catastrophe loss is defined as a single unpredictable incident or series of closely related incidents that result in $25,000,000 or more in U.S. industry-wide direct insured losses to property and that affect a significant number of policyholders and insurers (ISO catastrophes). In addition to ISO catastrophes, we also include as catastrophes those events (non-ISO catastrophes), which may include losses, that we believe are, or will be, material to our operations which we define as incidents that result in $1,000,000 or more in losses for multiple policyholders.
During the second quarter of 2022, we placed our reinsurance program for the 2022 hurricane season. We purchased catastrophe excess of loss reinsurance protection of $2,500,000,000 in the aggregate. The treaties reinsure personal and commercial lines property excess catastrophe losses caused by multiple perils including hurricanes and tropical storms. The agreements were effective as of June 1, 2022, for a one-year term and incorporate the mandatory coverage required by and placed with the Florida Hurricane Catastrophe Fund (FHCF) and coverage required under the Reinsurance to Assist Policyholders Program (RAP Program). The FHCF and RAP Program covers Florida risks only and we participate at 90%. Under our core catastrophe excess of loss treaty, retention on a first and second event is $16,400,000. During the third quarter, one of our reinsurer's participating on the $25,000,000 excess of $20,000,000 layer of the core catastrophe program exercised a contractual right to terminate their participation due to Demotech's downgrade of UPC's Financial Stability Rating. We were unsuccessful in replacing this coverage in the open market so our captive reinsurer, UPC Re, stepped into the $25,000,000 excess of $20,000,000 layer which was subsequently impacted by Hurricane Ian resulting in an additional retained loss of $20,100,000 million. The exhaustion point of IIC's catastrophe reinsurance program is approximately $200,000,000 in the aggregate, with a retention of $3,000,000 per occurrence, covering all perils.
During the third quarter of 2022, the Company's core catastrophe reinsurance program was impacted by Hurricane Ian. As a result, the Company has approximately $508 million of occurrence limit remaining for Ian, all of which is attributable to ACIC only. After reinstatement premiums of approximately $15.4 million, the Company has approximately $993 million of aggregate limit remaining after Ian, based on our estimated ultimate net loss subject to the core catastrophe reinsurance program.
Effective December 13, 2021, we renewed our all other perils (AOP) catastrophe excess of loss agreement. The agreement provides protection from catastrophe loss events other than named windstorms and earthquakes up to $110,000,000.
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During the third quarter of 2022, one of our private reinsurers who held a 100% share of the $15,000,000 in excess of $15,000,000 layer on our all other perils catastrophe excess of loss agreement notified us of their intent to terminate the agreement due to the contractual provision regarding the change in UPC's statutory surplus being greater than 25%. We agreed to a termination and commutation date of September 30, 2022 for this contract. This change resulted in approximately $1,300,000 of ceded premium savings that would have otherwise been due in the fourth quarter of 2022 and the Company retaining all the risk for any non-hurricane catastrophe losses up to $30,000,000, excluding any quota share recoveries.
The table below outlines our quota share agreements in effect for the years ended December 31, 2022 and 2021.
Reinsurer Companies in Scope (1) Effective Dates Cession Rate States in Scope
(1) Effective May 31, 2022, FSIC was merged into UPC, with UPC being the surviving entity.
(2) This treaty provides coverage for all catastrophe perils and attritional losses incurred. For all catastrophe perils, the quota share agreement provides ground-up protection effectively reducing our retention for catastrophe losses.
(3) This treaty provides coverage on our in-force, new and renewal policies until these states are transitioned to HCPCI or TypTap upon renewal.
(4) This treaty provides coverage on non-catastrophe losses on policies in-force on the effective date of the agreement.
(5) Cessions are split 50% to HCPCI and 50% to TypTap.
(6) This treaty was amended effective December 31, 2020 to include ACIC.
Reinsurance costs as a percent of gross earned premium during the years ended December 31, 2022 and 2021 were as follows:
Non-at-Risk (2.2) % (2.1) %
Total Ceding Ratio (62.1) % (58.2) %
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Reinsurance costs as a percent of gross earned premium for our commercial lines and personal lines operating segments during the years ended December 31, 2022 and 2021 were as follows:
Personal Commercial
Non-at-Risk (3.3) % (2.9) % (0.5) % (0.2) %
Please note that the sum of the percentages above will not reconcile to the consolidated percentages as they are calculated using each operating segments’ gross earned premium rather than our consolidated gross earned premium.
We amortize our ceded unearned premiums over the annual agreement period, and we record that amortization in ceded premiums earned on our Consolidated Statements of Comprehensive Loss. The table below summarizes the amounts of our ceded premiums written under the various types of agreements, as well as the amortization of ceded unearned premiums:
Year Ended December 31,
Equipment, identity theft, and cyber security (4,023) (1,562) (13,801)
(1) 2022 and 2021 quota share ceded written premium includes our quota share agreements with HCPCI and Typtap.
The breakdown of our ceded premiums written under the various types of agreements, as well as the amortization of ceded unearned premiums for our commercial lines and personal lines operating segments can be seen in the tables below. These values can be reconciled to the table above.
Personal Lines Operating Segment
Year Ended December 31,
Equipment, identity theft, and cyber security (1,754) (811) (11,724)
(1) 2022 and 2021 quota share ceded written premium includes our quota share agreements with HCPCI and Typtap.
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Commercial Lines Operating Segment Impact
Year Ended December 31,
Equipment, identity theft, and cyber security (2,269) (751) (2,077)
Current year catastrophe losses disaggregated between named and numbered storms and all other catastrophe loss events are shown in the following table.
Current period catastrophe losses incurred
Current period catastrophe losses incurred
Named and numbered storms 7 $ 35,872 6.1 %
Current period catastrophe losses incurred
(1) Incurred loss and LAE is equal to losses and LAE paid plus the change in case and incurred but not reported reserves. Shown net of losses ceded to reinsurers. Incurred loss and LAE and number of events includes the development on storms during the year in which it occurred.
The impact of the current year catastrophes to our commercial lines and personal lines operating segments can be seen in the table below. Please note that the catastrophe events may have impacted both operating segments. As a result, the sum of the number of events in the tables below will not reconcile to the consolidated number of events above. In addition, the combined ratio impact is calculated and sum of the ratios in the tables below will not reconcile to the ratios above.
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Personal Lines Operating Segment Impact
Current period catastrophe losses incurred
Current period catastrophe losses incurred
Named and numbered storms 7 $ 35,715 8.6 %
Current period catastrophe losses incurred
(1) Incurred loss and LAE is equal to losses and LAE paid plus the change in case and incurred but not reported reserves. Shown net of losses ceded to reinsurers. Incurred loss and LAE and number of events includes the development on storms during the year in which it occurred.
Commercial Lines Operating Segment Impact
Current period catastrophe losses incurred
All other catastrophe loss events 7 212 0.1 %
Current period catastrophe losses incurred
Named and numbered storms 4 $ 158 0.1 %
All other catastrophe loss events 4 9,372 5.4 %
Current period catastrophe losses incurred
Named and numbered storms 8 $ 16,684 8.5 %
All other catastrophe loss events 9 7,978 4.1 %
(1) Incurred loss and LAE is equal to losses and LAE paid plus the change in case and incurred but not reported reserves. Shown net of losses ceded to reinsurers. Incurred loss and LAE and number of events includes the development on storms during the year in which it occurred.
See Note 9 in our Notes to Consolidated Financial Statements for additional information regarding our reinsurance program.
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Unpaid Losses and Loss Adjustments
We generally use the term “loss(es)” to collectively refer to both loss and LAE. We establish reserves for both reported and unreported unpaid losses that have occurred at or before the balance sheet date for amounts we estimate we will be required to pay in the future, including provisions for claims that have been reported but are unpaid at the balance sheet date and for obligations on claims that have been incurred but not reported at the balance sheet date. Our policy is to establish these loss reserves after considering all information known to us at each reporting period. At any given point in time, our loss reserve represents our best estimate of the ultimate settlement and administration costs of our insured claims incurred and unpaid.
Unpaid losses and LAE totaled $1,946,938,000 and $1,084,450,000 as of December 31, 2022 and 2021, respectively. Of this total, $816,489,000 and $230,377,000 is related to our commercial lines operating segment, respectively. The remaining $1,130,449,000 and $854,073,000 is related to our personal lines operating segment, respectively. On a consolidated basis, this balance has increased year over year, driven by Hurricane Ian which made landfall in Florida as a category four hurricane during the third quarter of 2022. While we did have a higher frequency of storms in 2021, the severity of Hurricane Ian resulted in a year over year increase. Reinsurance recoverables also increased year over year due to the cession of these Hurricane Ian losses to our core catastrophe reinsurance program.
Since the process of estimating loss reserves requires significant judgment due to a number of variables, such as fluctuations in inflation, judicial decisions, legislative changes and changes in claims handling procedures, our ultimate liability will likely differ from these estimates. We revise our reserve for unpaid losses as additional information becomes available, and reflect adjustments, if any, in our earnings in the periods in which we determine the adjustments as necessary.
See Note 10 in our Notes to Consolidated Financial Statements for additional information regarding our losses and LAE.
LIQUIDITY AND CAPITAL RESOURCES
We generate cash through premium collections, reinsurance recoveries, investment income, the sale or maturity of invested assets, the issuance of debt and the issuance of additional shares of our stock. We use our cash to pay reinsurance premiums, claims and related costs, policy acquisition costs, salaries and employee benefits, other expenses and stockholder dividends, acquire subsidiaries and pay associated costs, as well as to repay debts and purchase investments.
As a holding company, we do not conduct any business operations of our own and, as a result, we rely on cash dividends or intercompany loans from our management subsidiaries to pay our general and administrative expenses. Insurance regulatory authorities heavily regulate our insurance subsidiaries, including restricting any dividends paid by our insurance subsidiaries and requiring approval of any management fees our insurance subsidiaries pay to our management subsidiaries for services rendered; however, nothing restricts our non-insurance company subsidiaries from paying us dividends other than state corporate laws regarding solvency. Our management subsidiaries pay us dividends primarily using cash from the collection of management fees from our insurance subsidiaries, pursuant to the management agreements in effect between those entities. In accordance with state laws, our insurance subsidiaries may pay dividends or make distributions out of that part of their statutory surplus derived from their net operating profit and their net realized capital gains. The RBC guidelines published by the NAIC may further restrict our insurance subsidiaries’ ability to pay dividends or make distributions if the amount of the intended dividend or distribution would cause their respective surplus as it regards policyholders to fall below minimum RBC guidelines. See Note 15 in our Notes to Consolidated Financial Statements and Part II, Item 5 for additional information.
During the year ended December 31, 2022, we contributed $81,000,000 and $11,200,000 to our insurance subsidiaries, UPC and FSIC, respectively. The contribution made to FSIC was made prior to the merging of FSIC into UPC. In addition, we contributed $9,574,000 to our reinsurance subsidiary, UPC Re. During the year ended December 31, 2021, we contributed $17,000,000, $8,000,000 and $17,500,000 to our insurance subsidiaries, UPC, FSIC, and ACIC, respectively. We may make future contributions of capital to our insurance subsidiaries as circumstances require.
During 2022, we received a dividend of $26,000,000 from ACIC. During February 2021, we received a dividend of $3,500,000 from IIC. During February 2020, we received a dividend of $12,000,000 from IIC.
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On December 13, 2017, we issued $150,000,000 of senior notes (Senior Notes) that will mature on December 15, 2027 and bear interest at a rate equal to 6.25% per annum payable semi-annually on each June 15 and December 15, commencing June 15, 2018. The Senior Notes are senior unsecured obligations of the Company. We may redeem the Senior Notes at our option, at any time and from time to time in whole or in part, at a redemption price equal to the greater of (i) 100% of the principal amount of the Senior Notes to be redeemed and (ii) the sum of the present values of the remaining scheduled payments of principal and interest thereon from the date of redemption to the date that is three months prior to maturity. On and after that date, we may redeem the Senior Notes at par. On December 8, 2022, the Kroll Bond Rating Agency, LLC announced a downgrade of our issuer and debt ratings BBB- to BB+. As a result, pursuant to our agreement, the interest rate of our Senior notes increased from 6.25% to 7.25% effective on the next Interest Payment date of June 15, 2023.
As a result of claim activity from the current and prior years, we have an obligation related to the unpaid policyholder losses and unpaid loss adjustment expenses associated with the settling of these claims. As of December 31, 2022, our total obligation related to these claim payments was $1,946,938,000, of which we estimate $874,255,000 to be short-term in nature (due in less than twelve months), based upon our cumulative claims paid over the last 22 years. While we believe that historical performance of loss payment patterns is a reasonable source for projecting future claim payments, there is inherent uncertainty in this estimated projected settlement, and as a result these estimates will differ, perhaps significantly, from actual future payments.
In addition to our unpaid loss and loss adjustment expenses, as of December 31, 2022 we have outstanding debt obligations related to our notes payable totaling $154,118,000. This is exclusive of interest costs, which we estimate will total $54,669,000 over the life of the debt, based on the current fixed and variable interest rates of these notes. Our short-term obligation related to these notes payable total $1,176,000 in principal payments and $11,015,000 in estimated interest payments. For more information regarding these outstanding notes, please see Note 11.
In connection with entering into contracts with our outside vendors, we have minimum obligations due to our vendors over the life of the contracts. Our main vendor obligations are related to underwriting tools, claims and policy administration systems, and software used by our information technology department in their daily operations. Our total obligation related to these three categories of obligations are $1,285,000, $2,200,000, and $6,250,000, respectively. Of these obligations, $597,000, $1,763,000, and $1,250,000, respectively are short-term in nature.
As described in Note 1 in the Notes to the Consolidated Financial Statements below, substantial doubt exists about the Company’s ability to continue as a going concern within the twelve-month period subsequent to the date that these consolidated financial statements are issued. The consolidated financial statements do not include any adjustments that might be necessary if the Company is unable to continue as a going concern. Accordingly, the consolidated financial statements have been prepared on a basis that assumes the Company will continue as a going concern and which contemplates the realization of assets and satisfaction of liability and commitments in the ordinary course of business.
Management’s strategic plans include the following:
•Working with the DFS to finalize a memorandum of understanding on how to allocate all shared reinsurance recoveries between UPCIC and ACIC;
•Providing additional information to our rating agencies for the affirmation of the Company’s current financial ratings;
•Successfully renewing our catastrophe reinsurance programs for ACIC and IIC effective June 1, 2023; and
•Exploring raising additional capital for ACIC, including in the form of surplus note contributions, to strengthen its statutory risk-based capital if necessary.
If the Company is unable to implement these actions, there is no assurance that the Company will be able to obtain the necessary amounts of additional capital to continue as a going concern. As of the date of this report we do not have any commitments from any source to provide such additional capital. Even if we are able to secure debt or equity financing, it may be unavailable in the amounts or time when we require. Furthermore, such financing would likely take the form of bank loans, surplus notes, private placement of debt or equity securities or some combination of these. The issuance of additional equity securities would dilute the stock ownership of current investors while incurring loans, surplus notes or other debt would increase our capital requirements and a possible loss of valuable assets if such obligations were not repaid in accordance with their terms.
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Cash Flows for the Year Ended December 31, (in millions)
Operating Activities
The principal cash inflows from our operating activities come from premium collections, reinsurance recoveries and investment income. The principal cash outflows from our operating activities are the result of claims and related costs, reinsurance premiums, policy acquisition costs and salaries and employee benefits. A primary liquidity concern with respect to these cash flows is the risk of large magnitude catastrophe events.
During the year ended December 31, 2022, several balance sheet items were impacted by Hurricane Ian, which made landfall in the state of Florida as a category four hurricane. Unpaid losses and loss adjustment expense increased during the period, driven by the severity of Hurricane Ian. This was partially offset by increased reinsurance recoverable on paid and unpaid losses during the period, as these losses were ceded to our core catastrophe reinsurance contracts. However, the severity of Hurricane Ian resulted in the exhausting of our personal lines operating segment reinsurance coverage for the event, resulting in a net increase of $228,240,000 year-over-year. In addition to this event, unearned premiums, ceded unearned premiums, and reinsurance payable on premiums all decreased year over year, driven by the transition of our northeast and southeast business in 2022, and continued underwriting actions taken in 2022. These actions resulted in lower gross written premiums and premiums ceded to our quota share contracts.
Investing Activities
The principal cash inflows from our investing activities come from repayments of principal, proceeds from maturities and sales of investments. We closely monitor and manage these risks through our comprehensive investment risk management process. The principal cash outflows relate to purchases of investments and cost of property, equipment and capitalized software acquired. Additional cash outflows relate to the purchase of fixed assets. The primary liquidity concerns with respect to these cash flows are the risk of default by debtors and market disruption. During the year ended December 31, 2022, cash provided by investing activities decreased $14,562,000 as the result of net sales of investments totaling $218,646,000 in 2022, compared to $256,648,000 in 2021. This was partially offset by $21,236,000 in proceeds from the sale of assets in 2022.
Financing Activities
The principal cash inflows from our financing activities come from issuances of debt and other securities. The principal cash outflows come from repayments of debt and payments of dividends. The primary liquidity concern with respect to these cash flows is market disruption in the cost and availability of credit. We believe our current capital resources, together with cash provided from our operations, are sufficient to meet currently anticipated working capital requirements. During the year ended December 31, 2022, cash used in financing activities increased by $13,184,000 due to a return of capital to Kiln of $18,335,000 as a result of the stock re-purchase agreement and termination agreements effective June 30, 2022. Additionally, during the third quarter of 2022 we repaid our Truist note in full, resulting in a $3,004,000 increase in repayments for the year. These increases were partially offset by a decrease in dividend payments of $7,761,000 since no dividends were declared in the second, third or fourth quarter of 2022.
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RECENT ACCOUNTING STANDARDS
Please refer to Note 2(u) in our Notes to Consolidated Financial Statements for a discussion of recent accounting standards that may affect us.
APPLICATION OF CRITICAL ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with GAAP requires management to adopt accounting policies and make estimates and assumptions that affect amounts reported in the consolidated financial statements. The most critical estimates include those used in determining:
•reserves for unpaid losses,
•fair value of investments,
•investment portfolio credit allowances, and
•goodwill.
In making these determinations, management makes subjective and complex judgments that frequently require estimates about matters that are inherently uncertain. Many of these policies, estimates and related judgments are common in the insurance industry. It is reasonably likely that changes in these estimates could occur from time to time and result in a material impact on our consolidated financial statements.
In addition, the preparation of our financial statements in accordance with GAAP prescribes when we may reserve for particular risks, including litigation exposures. Accordingly, our results for a given reporting period could be significantly affected if and when we establish a reserve for a major contingency. Therefore, the results we report in certain accounting periods may appear to be volatile and past results may not be indicative of results in future periods.
Reserves for Unpaid Losses and LAE
Reserves for unpaid losses and LAE represent the most significant accounting estimate inherent in the preparation of our financial statements. These reserves represent management’s best estimate of the amount we will ultimately pay for losses and we base the amount upon the application of various actuarial reserve estimation techniques as well as considering other material facts and circumstances known at the balance sheet date.
As discussed in Note 10 in our Notes to Consolidated Financial Statements, we determine our ultimate losses by using multiple actuarial methods to determine an actuarial estimate within a relevant range of indications that we calculate using generally accepted actuarial techniques. Our selection of the actuarial estimate is influenced by the analysis of our historical loss and claims experience since inception. For each accident year, we estimate the ultimate incurred losses for both reported and unreported claims. In establishing this estimate, we reviewed the results of various actuarial methods discussed in Note 10 in our Notes to Consolidated Financial Statements.
As of September 30, 2022, very little paid loss or case loss information was available related to Hurricane Ian. As a result, actuarial methodologies relied upon catastrophe model estimates as provided by catastrophe model vendors. The Company selected within the reasonable range of catastrophe model estimates at September 30, 2022. However, as of December 31, 2022, paid loss and case loss information was sufficient to establish additional methodologies, including paid loss & loss adjustment expense development, reported loss & loss adjustment expense development, case reserve development, claims decay analysis, paid loss and allocated loss adjustment expense B-F method, and reported loss & loss adjustment expense B-F method. These additional methodologies at December 31, 2022 supplemented the original catastrophe model estimates and pointed to a larger range of outcomes than considered at September 30, 2022. The Company adjusted the selection at December 31, 2022 in consideration of the larger range considering all available methodologies.
Fair Value of Investments
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. We are responsible for the determination of fair value of
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financial assets and the supporting assumptions and methodologies. We use quoted prices from active markets and we use an independent third-party valuation service to assist us in determining fair value. We obtain only one single quote or price for each financial instrument.
As discussed in Note 4 in our Notes to Consolidated Financial Statements, we value our investments at fair value using quoted prices from active markets, to the extent available. For securities for which quoted prices in active markets are unavailable, we use observable inputs such as quoted prices in inactive markets, quoted prices in active markets for similar instruments, benchmark interest rates, broker quotes and other relevant inputs. We also have investments in limited partnerships that require us to use the net asset value per share method of valuation to determine fair value.
See “Item 7a. Quantitative and Qualitative Disclosures about Market Risk” for more information regarding the sensitivity of our fixed maturity portfolio to changes in interest rates.
Investment Portfolio Credit Allowances
For investments classified as available for sale, the difference between fair value and cost or amortized cost for fixed income securities is reported as a component of accumulated other comprehensive loss on our Consolidated Balance Sheet and is not reflected in our net loss of any period until reclassified to net loss upon the consummation of a transaction with an unrelated third party. We have a portfolio monitoring process to identify and evaluate each fixed income security whose carrying value may be impaired as the result of a credit loss.
For each fixed-income security in an unrealized loss position, if we determine that we intend to sell the security or that it is more likely than not that we will be required to sell the security before recovery of the cost or amortized cost basis for reasons such as liquidity needs, contractual or regulatory requirements, the security's entire decline in fair value is recorded in earnings.
If our management decides not to sell the fixed-income security and it is more likely than not that we will not be required
to sell the fixed-income security before recovery of its amortized cost basis, we evaluate whether the decline in fair value has
resulted from credit losses or other factors. This is typically indicated by a change in the rating of the security assigned by a
rating agency, and any adverse conditions specifically related to the security or industry, among other factors. If the assessment
indicates that a credit loss may exist, the present value of cash flows expected to be collected from the security are compared to
the amortized cost basis of the security. If the present value of cash flows expected to be collected is less than the amortized
cost basis, a credit loss exists and an allowance for credit losses will be recorded in earnings. Credit loss is limited to the
difference between a security's amortized cost basis and its fair value. Any additional impairment not recorded through an
allowance for credit losses is recognized in other comprehensive loss.