ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Management's Discussion and Analysis of Financial Condition and Results of Operations is intended to provide the reader of the financial statements with a narrative from the perspective of management on the financial condition, results of operations, liquidity and certain other factors that may affect our operating results. The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the Consolidated Financial Statements and related Notes included in Item 8 of Part II of this Annual Report. In addition to historical financial information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties, and assumptions. Our actual results and timing of selected events may differ materially from those anticipated in these forward-looking statements as a result of many factors, including those discussed within "Risk Factors" in Item 1A of this report.
The following discussion contains references to the years ended December 31, 2023 and 2022. A discussion of the Company’s results of operations comparing results for the years ended December 31, 2022 and 2021 is included under the section entitled “Results of Operations” in Item 7 of Part II of the Annual Report on Form 10-K for the year ended December 31, 2022, and is incorporated by reference into this Annual Report for the year ended December 31, 2023.
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Overview
We are a market leader in providing insurance for classic cars and enthusiast vehicles. Through our insurance model, we act as an MGA by underwriting, selling and servicing classic car and enthusiast vehicle insurance policies. Then, due to our consistent track record of delivering strong underwriting results, we reinsure a large portion of the risks written by our MGA subsidiaries through our wholly owned subsidiary, Hagerty Re. In addition, we offer HDC memberships, which can be bundled with our insurance policies and give subscribers access to an array of products and services, including Hagerty Drivers Club Magazine, automotive enthusiast events, our proprietary vehicle valuation tool, emergency roadside assistance, and special vehicle-related discounts. Lastly, to complement our insurance and membership offerings, we also offer Marketplace, where car enthusiasts can buy, sell, and finance collector cars. Through these offerings, our goal is to be the world's most trusted and preferred brand for enthusiasts to protect, buy and sell, and enjoy the special cars that are their passion.
Business Review
In 2023, we conducted a review of certain components of our operations which resulted in the sale or reorganization of certain businesses, including Hagerty Garage + Social and DriveShare, as discussed below. This initiative supported our strategy to prioritize investments and resources in the areas of our business that offer the strongest growth and profit potential. As a result of this review, we recognized approximately $4.0 million of losses and impairments in the third quarter of 2023 related to actions taken with respect to Hagerty Garage + Social and DriveShare. We may incur additional losses and/or impairment charges in future periods as a result of actions which we may take related to this review.
Hagerty Garage + Social
On September 29, 2023, Hagerty Ventures LLC ("HV"), a wholly owned subsidiary of The Hagerty Group, entered into an agreement with HGS Hub Holdings LLC ("H3") to terminate the joint venture agreement governing Member Hubs Holding, LLC ("MHH"), which operates as Hagerty Garage + Social. In connection with this agreement, H3's 20% equity interest in MHH was redeemed and MHH's equity interests in the Palm Beach, Florida and Redmond, Washington locations of Hagerty Garage + Social were distributed to H3. Following the termination of the joint venture agreement, HV now owns 100% of MHH and its remaining Hagerty Garage + Social locations in Delray Beach, Florida; Miami, Florida; Van Nuys, California; and Burlington, Ontario.
As a result of the joint venture termination, we recognized a loss of $2.9 million in the third quarter of 2023, as well as a $0.6 million loss related to the termination of the real estate lease held by the Culver City, California location of Hagerty Garage + Social. Following this lease termination, MHH no longer operates a Hagerty Garage + Social location in Culver City, California. Refer to Note 10 — Losses and Impairments Related to Divestitures in Item 8 of Part II of this Annual Report for additional information.
Hagerty DriveShare
In the third quarter of 2023, The Hagerty Group entered into an agreement to sell Hagerty DriveShare, LLC ("DriveShare"), a peer-to-peer rental platform for collector vehicles, to a third party. The sale was completed on October 9, 2023. As a result of the sale, the Company recognized a $0.4 million loss in the third quarter of 2023. Refer to Note 10 — Losses and Impairments Related to Divestitures in Item 8 of Part II of this Annual Report for additional information.
Recent Developments
On January 12, 2024, our subsidiary, Hagerty Insurance Holdings, Inc., agreed to acquire all of the issued and outstanding capital stock of Consolidated National Insurance Company ("CNIC") for approximately $18.4 million, subject to upward or downward adjustment in accordance with the terms of the agreement. Theclosing price will be comprised of approximately $10 million for CNIC's approved state licenses and $8 million for the expected capital and surplus. We believe that the CNIC acquisition will allow us to continue driving high rates of written premium growth, better control our underwriting profits, and offer new products and coverages to fill an underserved segment of the enthusiast vehicle market. Subject to the satisfactory completion of various closing conditions, we expect to complete the CNIC acquisition during the second quarter of 2024.
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Key Performance Indicators
The tables below present a summary of our Key Performance Indicators, which include important operational metrics, as well as certain GAAP and non-GAAP financial measures as of and for the periods presented. We use these Key Performance Indicators to evaluate our business, measure our performance, identify trends against planned initiatives, prepare financial projections, and make strategic decisions. We believe these Key Performance Indicators are useful in evaluating our performance when read together with our Consolidated Financial Statements prepared in accordance with GAAP.
Year Ended December 31,
Operational Metrics
GAAP Measures
Operating Income (Loss) (in thousands) $ 10,408 $ (67,566)
Basic Earnings Per Share $ 0.19 $ 0.39
Diluted Earnings (Loss) Per Share $ 0.09 $ (0.07)
Non-GAAP Financial Measures
Adjusted EBITDA (in thousands) (4) $ 88,162 $ (1,940)
Adjusted Earnings (Loss) Per Share (4) $ 0.04 $ (0.20)
December 31,
Operational Metrics
Policies in Force Retention (6) 88.7 % 88.0 %
Net Promoter Score (9) 82 83
(1) Total Written Premium is the total amount of insurance premium written by our MGA subsidiaries on policies that were bound by our insurance carrier partners during the period. We view Total Written Premium as an important metric as it most closely correlates with our growth in insurance commission revenue and Hagerty Re earned premium. Total Written Premium reflects the actual business volume and direct economic benefit generated from our policy acquisition efforts.
(2) Loss Ratio, expressed as a percentage, is the ratio of (i) losses and loss adjustment expenses incurred to (ii) earned premium in Hagerty Re. We view Loss Ratio as an important metric because it is a powerful benchmark for profitability. This benchmark allows us to evaluate our historical loss patterns including incurred losses and make necessary and appropriate adjustments. In 2023, our Loss Ratio improved to 41.5% from 45.3% in the prior year due, in part, to better underwriting results. The comparison to the prior year is also favorably impacted by $10.0 million of catastrophe losses related to Hurricane Ian incurred in 2022 that were not repeated in the current year.
(3) New Business Count represents the number of new insurance policies issued by our MGA subsidiaries during the applicable period. We view New Business Count as an important metric to assess our financial performance because it is critical to achieving our growth objectives. While Hagerty benefits from strong renewal retention, new business policies more than offset those cancelled or non-renewed at expiration. Often new policies mean new relationships and an opportunity to sell additional products and services.
(4) Refer to "Non-GAAP Financial Measures" below for a description of this non-GAAP financial measure and a reconciliation to the most comparable GAAP amount.
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(5) Policies in Force ("PIF") represents the number of current and active insurance policies as of the applicable period end date. We view PIF as an important metric to assess our financial performance because policy growth drives our revenue growth, increases brand awareness and market penetration, generates additional insight to improve the performance of our platform, and provides key data to assist us in strategic decision making.
(6) PIF Retention represents the percentage of expiring insurance policies that are renewed on the renewal effective date, calculated on a rolling twelve months basis. We view PIF Retention as an important measurement of the number of policies retained each year, which contributes to recurring revenue streams from MGA commissions, membership fees, and earned premiums. It also contributes to maintaining our NPS, as discussed below.
(7) Vehicles in Force represents the number of current insured vehicles as of the applicable period end date. We view Vehicles in Force as an important metric to assess our financial performance because insured vehicle growth drives our revenue growth and increases market penetration.
(8) HDC Paid Member Count represents the number of current Members who pay an annual membership subscription as of the applicable period end date. We believe that HDC Paid Member Count is important because it helps us measure membership revenue growth and provides an opportunity to customize our value proposition and benefits to specific types of enthusiasts, both by demographic and vehicle interest.
(9) Hagerty uses Net Promoter Score ("NPS") as an important measure of the overall strength of our relationship with insurance policyholders and paid HDC subscribers (who are collectively referred to herein as Members). NPS is measured twice annually through a web-based survey sent by email invitation to a random sample of existing Members, which currently excludes customers in our new Marketplace business, and is reported annually using an average of the two surveys. Often referred to as a barometer of brand loyalty and engagement, NPS is well-known in our industry as a strong indicator of growth and retention.
Components of Our Results of Operations
Revenue
Commission and fee revenue
We generate commission and fee revenue through our MGA subsidiaries primarily from the underwriting, sale, and servicing of classic car and enthusiast vehicle insurance policies on behalf of our insurance carrier partners. Commissions are earned for both new and renewed policies. In addition, under the terms of certain of our contracts with insurance carriers, we have the opportunity to earn a CUC based on written or earned premium and the loss ratio results of the insurance book of business.
Historically, our MGA subsidiaries have earned, on average, a base commission of approximately 32% of written premium, as well as a CUC of up to 10%. In December 2023, our alliance agreement and associated agency agreement with Markel, which generated approximately 95% of our total commission revenue in 2023, was amended to increase the base commission rate to 37% and to adjust the profit share commission factors to scale from -5% to a maximum of +5% of written premium, with 80% of the expected CUC being paid monthly, beginning in 2024.
Commission and fee revenue is earned when the policy becomes effective, net of allowances for policy changes and cancellations, as our performance obligation is substantially complete when the policy is issued.
Earned premium
We earn reinsurance premium revenue for the risks assumed by Hagerty Re from the classic car and enthusiast vehicle insurance policies underwritten by our MGA subsidiaries. Hagerty Re is registered as a Class 3A reinsurer under the Bermuda Insurance Act of 1978.
Earned premium represents the earned portion of written premiums that Hagerty Re has assumed under quota share reinsurance agreements with our insurance carrier partners, net of premiums ceded to various reinsurers and the cost of catastrophe reinsurance coverage. Premiums assumed and ceded are recognized on a pro-rata basis over the term of the related reinsured policies, which is generally 12 months. The cost of catastrophe reinsurance coverage is recognized over the contract period in proportion to the related earned premium.
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Membership, marketplace and other revenue
We earn subscription revenue through HDC memberships, which can be bundled with our insurance policies and give subscribers access to an array of products and services, including Hagerty Drivers Club Magazine, automotive enthusiast events, our proprietary vehicle valuation tool, emergency roadside assistance, and special vehicle-related discounts. We also earn fee-based revenue from Hagerty Garage + Social memberships, which include storage services in addition to the HDC Member benefits. Revenue from the sale of HDC and storage memberships is recognized ratably over the period of the membership. The membership is treated as a single performance obligation to provide access to stated member benefits over the life of the membership, which is currently one year.
Marketplace earns fee-based revenue primarily from the sale of collector cars through live auctions, time-based online auctions, and brokered private sales. In addition, Marketplace earns revenue from financing provided to qualified collectors and businesses secured by their collector cars. Fee-based revenue earned by Marketplace is recognized when the underlying sale is completed. Finance revenue is recognized when earned based on the amount of the outstanding loan, the applicable interest rate on the loan, and the length of time the loan was outstanding during the period.
Lastly, other revenue includes sponsorship, admission, advertising, valuation and registration income. Other revenue is recognized when the performance obligation for the related product or service is satisfied.
Operating Expenses
Salaries and benefits
Salaries and benefits consist primarily of costs related to employee compensation, payroll taxes, employee benefits, and employee development costs. Employee compensation includes wages paid to employees, as well as various incentive compensation plans. Employee benefits include the costs of various employee benefit plans, including retirement, medical, dental, and wellness plans. Costs related to employee education, training, and recruiting are included in employee development costs. Salaries and benefits are expensed as incurred except for those costs which are required to be capitalized, which are then amortized over the useful life of the asset created, primarily software. Salaries and benefits are expected to increase over time as the business continues to grow but will likely decrease as a percent of revenue.
Ceding commission, net
Ceding commission, net represents the commissions paid by Hagerty Re to insurance carrier partners for the risk assumed under the quota share agreements with those carriers. These commissions represent Hagerty Re's pro-rata share of the carrier's costs including (i) policy acquisition costs, which primarily consists of the commissions earned by our MGA subsidiaries, (ii) general and administrative costs, and (iii) other costs. Ceding commissions paid is recorded net of commissions received by Hagerty Re related to ceded reinsurance premiums. Ceding commission, net is recognized ratably over the term of the related reinsured policies, which is generally 12 months.
Losses and loss adjustment expenses
Losses and loss adjustment expenses represents our best estimate of the losses related to the risk assumed by Hagerty Re. Losses consist of claims paid, case reserves, and incurred but not reported ("IBNR") costs, which are recorded net of estimated recoveries from reinsurance, salvage and subrogation. Loss adjustment expenses consist of the cost associated with the investigation and settlement of claims. The estimates utilized in determining the amount of losses and loss adjustment expenses recorded in a period are based on statistical analysis performed by our internal and external actuarial team. Reserves are reviewed regularly and adjusted, as necessary, to reflect our estimate of the ultimate cost of settlement. (Refer to "Critical Accounting Estimates" below.)
Sales expense
Sales expense includes costs related to the sale and servicing of insurance policies, as well as costs related to our Membership and Marketplace offerings, such as broker expense, cost of sales, promotion expense, and travel and entertainment expenses. Broker expense is the compensation paid to our agent partners and national broker partners when an insurance policy is written through a broker relationship. Broker expense generally tracks with written premium growth. Cost of sales includes payment processing fees, emergency roadside service costs, postage and other variable costs associated with the sale and servicing of a policy. Cost of sales also includes costs associated with vehicles held in our inventory and sold through Marketplace. Promotion expense includes various costs related to branding, events, advertising, marketing, and customer acquisition. Sales expenses, in general, are expensed as incurred and will trend with revenue growth.
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General and administrative services
General and administrative services primarily consist of expenses related to professional services, occupancy costs, and non-capitalized hardware and software. These costs are expensed as incurred. We expect this expense category to increase in dollar amount over time but will likely decrease as a percentage of revenue over the next few years after we reach scale to handle incoming business from new partnerships.
Depreciation and amortization
Depreciation and amortization reflects the recognition of the cost of our investments in various assets over their useful lives. Depreciation expense relates to leasehold improvements, furniture and equipment, vehicles, hardware, and purchased software. Amortization relates to investments associated with acquisitions, SaaS implementation, and internal software development, as well as investments made in and impairments of digital media content assets. Depreciation and amortization are expected to increase in dollar amount over time but will likely decrease as a percent of revenue as investments in platform technology reach scale.
Other Items
Change in fair value of warrant liabilities
Our warrants are accounted for as liabilities and measured at fair value each reporting period, with changes in fair value recognized as non-operating income (expense) in our Consolidated Statements of Operations. In general, under the fair value accounting model, in periods when our stock price increases, the warrant liability increases, and we recognize additional expense. In periods when our stock price decreases, the warrant liability decreases, and we recognize additional income. (Refer to "Critical Accounting Estimates" below.)
Interest and other income (expense)
Interest and other income (expense) primarily includes interest income related to our cash balances and interest expense related to outstanding borrowings, as well as changes in the value of the liability related to our TRA with Hagerty Holding Corp. ("HHC") and Markel. Refer to "Critical Accounting Estimates" and Note 22 — Taxation in Item 8 of Part II of this Annual Report for additional information related to the TRA.
Income tax expense
The Hagerty Group is taxed as a pass-through ownership structure under provisions of the IRC and a similar section of state income tax law, except certain U.S. corporate subsidiaries and foreign subsidiaries. Any taxable income or loss generated by The Hagerty Group is passed through to and included in the taxable income or loss of all holders of The Hagerty Group units, including Hagerty, Inc. Hagerty, Inc. is taxed as a corporation and pays corporate federal, state, and local taxes with respect to income allocated from The Hagerty Group.
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Results of Operations for the Years Ended December 31, 2023 and 2022
The following table summarizes our results of operations for the years ended December 31, 2023 and 2022, and the dollar and percentage change between the two periods:
Year Ended December 31,
REVENUE: in thousands (except percentages)
OPERATING EXPENSES:
Losses and impairments related to divestitures 4,013 — 4,013 100.0 %
Loss from equity method investment, net of tax — (1,676) 1,676 100.0 %
N/M = Not meaningful
Revenue
Commission and fee revenue
Commission and fee revenue was $365.5 million for the year ended December 31, 2023, an increase of $58.3 million, or 19.0%, compared to 2022, consisting of increases of $47.7 million related to renewal policies and $10.6 million related to new policies.
The increase in revenue from renewal policies was primarily related to an increase of 17.0% in the underlying policy premiums, as well as continued strong policy retention. The increase in renewal policy premiums reflects sustained year-over-year growth in PIF, as well as rate increases in several states due to inflation and higher vehicle repair costs, both of which contribute to higher premiums and, in turn, higher commission revenue.
The increase in revenue from new policies was driven by sustained year-over-year growth in New Business Count, as well as rate increases in several states. The average premium on a newly issued policy increased 7.0% when compared to the prior year period as a result of writing policies with higher insured values at higher premium rates. Accordingly, premiums from new policies increased $23.7 million, or 16.1%, during the year ended December 31, 2023. In turn, base commission revenue from newly issued policies grew by $7.6 million, or 16.5%, over the same period.
Commission and fee revenue from agent sources increased $34.3 million, or 20.6%, and Commission and fee revenue from direct sources increased $24.0 million, or 17.0%, during the year ended December 31, 2023. Commission rates vary based on geography, but do not differ by distribution channel (i.e., whether they are direct-sourced or agent-sourced).
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Earned premium
Earned premium at Hagerty Re was $531.9 million for the year ended December 31, 2023, an increase of $128.8 million, or 32.0%, compared to 2022. This increase correlates with the $162.1 million, or 34.2%, increase in assumed premium resulting from an increase in Hagerty Re's U.S. quota share from 70% in 2022 to approximately 80% in 2023.
Also contributing to the increase in Hagerty Re earned premium is the consistent growth in the volume of subject premiums written through our MGA subsidiaries in the U.S.
The following table presents premiums assumed by Hagerty Re and the related quota share percentages for the years ended December 31, 2023 and 2022:
U.S. Canada U.K. Total
in thousands (except percentages)
Reinsurance premiums ceded (33,070)
Change in unearned premiums (81,813)
Change in deferred reinsurance premiums 10,383
U.S. Canada U.K. Total
in thousands (except percentages)
Reinsurance premiums ceded (10,749)
Change in unearned premiums (60,264)
Change in deferred reinsurance premiums (220)
Membership, marketplace and other revenue
Membership, marketplace and other revenue was $102.8 million for the year ended December 31, 2023, an increase of $25.5 million, or 33.1%, compared to 2022.
Membership fee revenue was $52.5 million for the year ended December 31, 2023, an increase of $7.2 million, or 16.0%, compared to 2022, which was primarily attributable to an increase in new policies issued with a bundled HDC membership, as well as an increase in storage revenue attributable to more Hagerty Garage + Social locations being in operation for most of the current year. For the years ended December 31, 2023 and December 31, 2022, membership fees were 51.0% and 58.5%, respectively, of total Membership, marketplace and other revenue. Refer to Note 10 — Losses and Impairments Related to Divestitures in Item 8 of Part II of this Annual Report for additional information related to Hagerty Garage + Social.
Marketplace revenue was $28.6 million for the year ended December 31, 2023, an increase of $14.9 million, or 109.1%, compared to 2022, which was primarily attributable to the auction, private sale, and lending activities of Broad Arrow, which was acquired and consolidated into our results beginning in August 2022. For the years ended December 31, 2023 and 2022, Marketplace revenue was 27.8% and 17.7%, respectively, of total Membership, marketplace and other revenue.
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Other revenue, which primarily includes sponsorship, admission, advertising, valuation and registration income, was $21.8 million for the year ended December 31, 2023, an increase of $3.4 million, or 18.6%, compared to 2022, primarily due to increased event sponsorship and admission revenue. For the years ended December 31, 2023 and December 31, 2022, other revenue was 21.2% and 23.8%, respectively, of total Membership, marketplace and other revenue.
Costs and Expenses
Salaries and benefits
Salaries and benefits were $216.9 million for the year ended December 31, 2023, an increase of $17.4 million, or 8.7%, compared to 2022. This increase was principally due to an increase in incentive compensation consistent with our improved year-over-year results, as well as an increase in stock-based compensation expense. The overall increase in Salaries and benefits was partially offset by headcount reductions associated with the voluntary retirement program (the "VRP") and reductions in force implemented in the fourth quarter of 2022 and first quarter of 2023. Refer to Note 15 — Restructuring, Impairment and Related Charges in Item 8 of Part II of this Annual Report for information related to our restructuring plans.
Ceding commission, net
Ceding commission, net at Hagerty Re was $251.8 million for the year ended December 31, 2023, an increase of $60.7 million, or 31.7%, compared to 2022. This increase is consistent with the 32.0% increase in Hagerty Re Earned premium, as discussed above.
The following table summarizes the components of Ceding commission, net for the years ended December 31, 2023 and 2022:
Year Ended December 31,
in thousands (except percentages)
Ceding commission:
Ceding commission – reinsurance ceded (4,195) —
Percentage of earned premium 47.3 % 47.4 %
Losses and loss adjustment expenses
Losses and loss adjustment expenses at Hagerty Re were $220.7 million for the year ended December 31, 2023, an increase of $38.3 million, or 21.0%, compared to 2022. This increase reflects higher 2023 incurred losses related to the increase in Hagerty Re's U.S. quota share during the period from 70% in 2022 to approximately 80% in 2023, as well as underlying growth in our business. While incurred losses increased, Hagerty Re's loss ratio improved to 41.5% for the year ended December 31, 2023. This improvement was due, in part, to better underwriting results in the current year. In addition, prior year results include $10.0 million of catastrophe losses related to Hurricane Ian. For the year ended December 31, 2022, Hagerty Re's loss ratio was 45.3%, including the impact of Hurricane Ian, and 42.8%, excluding the impact of Hurricane Ian.
Sales expense
Sales expense was $156.4 million for the year ended December 31, 2023, an increase of $15.6 million, or 11.1%, compared to 2022, which was primarily attributable to an increase in broker expense of $9.4 million, consistent with written premium growth at our MGA subsidiaries across the agent distribution channel. In addition, cost of sales increased $7.2 million, primarily driven by Broad Arrow vehicles sales and related commissions. Lastly, credit card processing fees increased $2.1 million, primarily due to a shift in consumer preference towards credit cards as a payment method within our MGA subsidiaries. The overall increase in Sales expense was partially offset by reductions in promotion and travel and entertainment costs of $2.2 million and $1.3 million, respectively.
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General and administrative services
General and administrative services expense was $85.4 million for the year ended December 31, 2023, a decrease of $3.6 million, or 4.1%, compared to 2022. This decrease was driven by a reduction in professional services of $7.0 million, primarily in digital technology consulting, as well as a continued focus by management on expense management. The overall decrease in General and administrative services expense was partially offset by a $4.8 million increase in software subscription licenses.
Depreciation and amortization
Depreciation and amortization expense was $45.8 million for the year ended December 31, 2023, an increase of $11.9 million, or 35.2%, compared to 2022. This increase was due, in part, to a higher base of capital assets in 2023 as a result of digital platform investments made in recent years, which resulted in an increase in Depreciation and amortization of approximately $5.8 million. Additionally, we incurred a $4.3 million loss related to digital media content asset impairments in 2023 due to lower than anticipated advertising and sponsorship revenue associated with these assets.
Restructuring, impairment and related charges, net
During the year ended December 31, 2022, management approved an initiative to increase operational efficiencies and flexibility by transitioning to a "remote-first" work model for employees. In addition, in the fourth quarter of 2022, the Board approved the VRP, as well as a reduction in force (the "2022 RIF"). As a result, in 2022, we recognized restructuring, impairment and related charges of $18.3 million, which primarily consisted of $12.2 million in employee severance-related expenses related to the VRP and 2022 RIF and $6.2 million related to operating lease ROU asset impairments and related leasehold disposals.
During the year ended December 31, 2023, the Board approved an additional reduction in force (the "2023 RIF") in the first quarter of 2023 and as a result, recognized $5.4 million in employee severance-related expenses and a $0.4 million impairment charge to write-down the value of certain digital media content assets. Additionally, in 2023, we recognized $3.1 million of charges associated with operating lease ROU asset impairments and related leasehold disposals in connection with the Company's ongoing transition to a "remote-first" work model.
Refer to Note 15 — Restructuring, Impairment and Related Charges in Item 8 of Part II of this Annual Report for additional information with respect to our restructuring initiatives.
Losses and impairments related to divestitures
During the year ended December 31, 2023, the Company recognized $4.0 million of losses and impairments related to Hagerty Garage + Social and DriveShare, as discussed above under "Business Review". Refer to Note 10 — Losses and Impairments Related to Divestitures in Item 8 of Part II of this Annual Report for additional information.
Change in fair value of warrant liabilities
During the years ended December 31, 2023 and 2022, the change in the fair value of our warrant liabilities resulted in a gain of $11.5 million and $41.9 million, respectively. Refer to Note 16 — Fair Value Measurements in Item 8 of Part II of this Annual Report for additional information with respect to our warrants.
Revaluation gain on previously held equity method investment
During the year ended December 31, 2022, the Company recognized a revaluation gain on a previously held equity method investment of $34.7 million, which represents the remeasurement of our 40% equity interest in Broad Arrow immediately prior to the Broad Arrow Acquisition in August 2022. Refer to Note 9 — Acquisitions and Investments in Item 8 of Part II of this Annual Report for additional information with respect to our acquisition of Broad Arrow.
Interest and other income (expense)
Interest and other income (expense) was $22.8 million of income for the year ended December 31, 2023, compared to $2.0 million of income for the year ended December 31, 2022. This increase was primarily due to a $19.5 million increase in interest income on cash balances, resulting from higher variable interest rates and increased cash balances. In addition, the value of the TRA liability decreased by $2.6 million. These factors were partially offset by an increase in interest expense of $0.5 million related to outstanding JPM Credit Facility borrowings due to higher variable interest rates.
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Income tax expense
Income tax expense was $16.6 million for the year ended December 31, 2023, an increase of $9.6 million compared to 2022. The increase in income tax expense for the year ended December 31, 2023 compared to 2022 was primarily due to an increase in income before income tax expense of $46.0 million within Hagerty Re, which is taxed as a corporation in the U.S. Refer to Note 22 — Taxation in Item 8 of Part II of this Annual Report for additional information with respect to items affecting our effective tax rate.
Liquidity and Capital Resources
Maintaining a strong balance sheet and capital position is a top priority for us. We manage liquidity globally and across all operating subsidiaries.
Key Developments — Financing Activities
In 2023, we took a number of actions to enhance our capital structure, strengthen our liquidity position, and provide additional financial flexibility including the following:
•On June 23, 2023, Hagerty, Inc. issued 8,483,561 shares of our newly-designated Series A Convertible Preferred Stock for an aggregate purchase price of $80.0 million. This capital raise bolsters our cash balances and liquidity and provides working capital to drive profitable growth. Refer to Note 18 — Convertible Preferred Stock in Item 8 of Part II of this Annual Report for additional information related to the Series A Convertible Preferred Stock.
•On September 19, 2023, Hagerty Re entered into an unsecured term loan credit facility with State Farm Mutual Automobile Insurance Company ("State Farm") in the aggregate principal amount of $25.0 million (the "State Farm Term Loan"). As of December 31, 2023, Hagerty Re's statutory capital and surplus included $25.0 million related to the State Farm Term Loan, which is recorded for statutory purposes as "Other Fixed Capital" and is also eligible as "Tier 2 Ancillary Capital". This capital raise supports Hagerty Re's growth and we believe raising this additional capital was a positive factor that helped Hagerty Re be assigned a financial strength rating of A- (Excellent) from AM Best. Refer to Note 17 — Long-Term Debt in Item 8 of Part II of this Annual Report for additional information related to the State Farm Term Loan.
•On November 28, 2023, The Hagerty Group entered into a Tenth Amendment to the JPM Credit Agreement (as defined below), which provides additional operational flexibility to The Hagerty Group and its subsidiaries, and includes, among other things (i) additional baskets for investments, incurrence of indebtedness and liens; (ii) changes to financial covenants; and (iii) the ability to issue additional indebtedness in the form of either incremental debt on a pari-passu basis or on an asset-backed securitization basis. Refer to Note 17 — Long-Term Debt in Item 8 of Part II of this Annual Report for additional information related to the JPM Credit Agreement.
•On December 21, 2023, Broad Arrow Capital LLC, as initial servicer, and its wholly owned subsidiary BAC Funding 2023-1, LLC, as borrower, entered into a revolving credit agreement with a certain lender (the "BAC Credit Agreement"). The BAC Credit Agreement provides for a revolving credit facility (the "BAC Credit Facility") with an aggregate borrowing capacity of $75.0 million which will be used to fund the growth of BAC's asset-based lending activities. Refer to Note 17 — Long-Term Debt in Item 8 of Part II of this Annual Report for additional information related to the BAC Credit Facility.
Sources and Uses of Liquidity
Our sources of liquidity include our: (i) balances of cash and cash equivalents; (ii) net working capital; (iii) cash flows from operations; (iv) borrowings from the JPM Credit Facility (as defined below) to fund the general corporate needs of The Hagerty Group and its subsidiaries; and (v) borrowings from the BAC Credit Facility to fund a substantial portion of the lending activities of BAC.
Our primary liquidity needs and capital requirements include cash required for: (i) the funding of business operations, including strategic investments; (ii) the servicing and repayment of borrowings under the JPM Credit Facility, the BAC Credit Facility, and the State Farm Term Loan; (iii) the payment of income taxes; and (iv) the funding of potential payments under the TRA.
Based on our current expectations, we believe that these sources of liquidity will be sufficient to provide an adequate level of capital to support our anticipated short and long-term commitments, operating needs, and capital requirements.
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Financing Arrangements
JPM Credit Facility
The Hagerty Group has a credit agreement with JPMorgan Chase Bank, N.A., as administrative agent, and the other financial institutions party thereto from time to time as lenders, as amended (the "JPM Credit Agreement"). The JPM Credit Agreement provides for a revolving credit facility (the "JPM Credit Facility") with an aggregate borrowing capacity of $230.0 million. The JPM Credit Agreement matures in October 2026, but may be extended if agreed to by us and the lenders party thereto. As of December 31, 2023, total outstanding borrowings under the JPM Credit Facility were $77.3 million. JPM Credit Facility borrowings are collateralized by the assets of and equity interests in The Hagerty Group and its consolidated subsidiaries, except for (a) the assets held by the special purpose entities related to the BAC Credit Facility and (b) all or a portion of certain foreign and certain excluded or immaterial subsidiaries. Under the JPM Credit Agreement, we are required, among other things, to meet certain financial covenants, including a fixed charge coverage ratio and a leverage ratio. We were in compliance with these financial covenants as of December 31, 2023.
Refer to Note 17 — Long-Term Debt in Item 8 of Part II of this Annual Report for additional information on the JPM Credit Facility.
BAC Credit Facility
On December 21, 2023, Broad Arrow Capital LLC and its wholly owned subsidiary BAC Funding 2023-1, LLC, as borrower, entered into the BAC Credit Agreement. The BAC Credit Agreement provides for the BAC Credit Facility, which has an aggregate borrowing capacity of $75.0 million and is subject to a borrowing base that is determined by a calculation that is primarily based upon a percentage of the carrying value of certain BAC notes receivable. As of December 31, 2023, the borrowing base for the BAC Credit Agreement was $25.8 million.
The revolving borrowing period provided by the BAC Credit Agreement expires on December 21, 2025 and the BAC Credit Agreement matures on December 21, 2026. The revolving borrowing period and the maturity date of the BAC Credit Agreement may be extended by one year if requested by Broad Arrow Capital LLC and agreed to by the administrative agent. Broad Arrow Capital LLC is not a borrower or guarantor of the BAC Credit Facility.
In conjunction with the BAC Credit Agreement, Broad Arrow Capital LLC and certain of its subsidiaries transfer certain notes receivable originated by Broad Arrow Capital LLC and certain of its subsidiaries to wholly owned, bankruptcy remote special purpose entities (each, an "SPE") to secure the borrowings under the BAC Credit Agreement. These SPEs have the limited purpose of acquiring notes receivable or a certificate representing beneficial ownership interest therein from Broad Arrow Capital LLC and certain of its subsidiaries, with BAC Funding 2023-1, LLC also being the borrower under the BAC Credit Agreement. Assets transferred to each SPE are legally isolated from the Company and its subsidiaries. Further, the assets of each SPE are owned by such SPE and are not available to satisfy the debts or other obligations of the Company or any of its other subsidiaries. Broad Arrow Capital LLC continues to service the notes receivable transferred to the SPEs.
Recourse to the Company and its subsidiaries that originated and transferred notes receivable that represent collateral under the BAC Credit Facility is limited to (i) an obligation of the applicable seller to repurchase a note receivable if it is determined that there was a breach of any representation or warranty relating to such note receivable as of the relevant date specified in the related transfer agreement and (ii) a limited guarantee covering certain liabilities that may result under certain foreign exchange hedging activity of one of the SPEs.
Under the BAC Credit Agreement, Broad Arrow Capital LLC and BAC Funding 2023-1, LLC are required, among other things, to meet certain financial covenants, including the requirement of Broad Arrow Capital LLC, as the servicer, to maintain a minimum tangible net worth, minimum liquidity balances, and an indebtedness to tangible net worth ratio.As of December 31, 2023, the Company was in compliance with the financial covenants under the BAC Credit Agreement.
Refer to Note 17 — Long-Term Debt in Item 8 of Part II of this Annual Report for additional information related to the BAC Credit Agreement.
Capital and Dividend Restrictions
Through our reinsurance subsidiary, Hagerty Re, we reinsure the same personal lines risks that are underwritten by our MGA subsidiaries on behalf of our insurance carrier partners. Hagerty Re's reinsurance operations are funded primarily through existing capital and net cash flows from operations. In addition, as discussed above under "Key Developments — Financing Activities," on September 19, 2023, Hagerty Re bolstered its balance of cash and cash equivalents with the $25.0 million in gross proceeds from the State Farm Term Loan. As of December 31, 2023, Hagerty Re had approximately $558.2 million in "Cash and cash equivalents" and "Restricted cash and cash equivalents".
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We, and particularly Hagerty Re, pay close attention to the underlying underwriting and reserving risks by monitoring the pricing and loss development of the underlying business written through our MGA subsidiaries. Additionally, Hagerty Re manages its investment portfolio in accordance with an investment policy approved by its Board of Directors that seeks to generate an attractive total return on an after-tax basis on its investment assets, over the long-term, subject to compliance with several constraints and objectives including a requirement to assume only a modest amount of risk of principal loss.
Capital Restrictions
In Bermuda, Hagerty Re is subject to the Bermuda Solvency Capital Requirement ("BSCR") administered by the BMA. No regulatory action is taken by the BMA if an insurer’s capital and surplus is equal to or in excess of their enhanced capital requirement, as determined by the BSCR model. In addition, the BMA has established a target capital level for each insurer which is 120% of the enhanced capital requirement. Hagerty Re maintained sufficient statutory capital and surplus to comply with regulatory requirements as of December 31, 2023.
Dividend Restrictions
Under Bermuda law, Hagerty Re is prohibited from declaring or issuing a dividend if it fails to meet its minimum solvency margin or minimum liquidity ratio. Prior approval from the BMA is also required if Hagerty Re's proposed dividend payments would exceed 25% of its prior year-end total statutory capital and surplus. The amount of dividends which could be paid by Hagerty Re in 2024 without prior approval is $54.7 million.
We believe that Hagerty Re's existing cash and cash equivalents, municipal securities, and cash flow from operations will be sufficient to support its working capital and capital expenditure requirements for at least the next 12 months. Hagerty Re's future capital requirements will depend on many factors, including its reinsurance premium growth rate, renewal rates, underwriting results, successful entry in new geographic markets, and the continuing market adoption of its product offerings.
Comparative Cash Flows
The following table summarizes our cash flow data for the years ended December 31, 2023 and 2022:
Year Ended December 31,
in thousands (except percentages)
N/M = Not meaningful
Operating Activities
Cash provided by operating activities primarily consists of net income, adjusted for non-cash items, and changes in working capital balances. Net cash provided by operating activities for the years ended December 31, 2023 and 2022 is presented below:
Year Ended December 31,
in thousands (except percentages)
N/M = Not meaningful
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Net cash provided by operating activities for the year ended December 31, 2023 was $133.7 million, an increase of $78.4 million, or 141.7%, compared to 2022. This increase was due to a $102.6 million increase in Net income, after excluding non-cash adjustments, partially offset by a $24.2 million decrease in cash from operating assets and liabilities.
The increase in Net income, after excluding non-cash adjustments, was primarily driven by organic growth across all areas of our business, as well as management's cost containment measures. Also contributing to the favorable comparison to the prior year is an increase in interest income due to higher variable interest rates earned on cash balances.
The decrease in cash from operating assets and liabilities was primarily due to a decrease in Losses payable as a result of the settlement of claims, including those related to Hurricane Ian. Also contributing to the change in operating assets and liabilities was the increase in Hagerty Re's U.S. quota share percentage and organic revenue growth across our business.
Investing Activities
Cash used in investing activities for the year ended December 31, 2023 decreased $38.9 million when compared to 2022. The lower level of cash used in investing activities was primarily due to a decrease in spending on internally developed software, as well as a lower level of acquisitions. Also contributing to the year-over-year decrease is the $15.3 million Broad Arrow equity method investment made in January 2022 for which there was no comparable investment made in the current year. The overall decrease in cash used in investing activities was partially offset by net cash outflows associated with the lending activities of Broad Arrow, which increased $8.8 million compared to 2022. Refer to Note 4 — Notes Receivable and Note 9 — Acquisitions and Investments in Item 8 of Part II of this Annual Report for additional information related to the acquisition of Broad Arrow and its lending activities.
Financing Activities
Cash provided by financing activities for the year ended December 31, 2023 increased $131.2 million when compared to 2022, primarily due to the issuance of the Series A Convertible Preferred Stock, which resulted in net cash proceeds of $79.2 million, after deducting issuance costs. In addition, Hagerty Re entered into the State Farm Term Loan resulting in net cash inflows of $24.4 million, after deducting issuance costs, and Broad Arrow Capital LLC, as initial servicer, and its wholly owned subsidiary BAC Funding 2023-1, LLC, as borrower, entered into the BAC Credit Agreement, resulting in net cash inflows of $22.9 million, after deducting issuance costs.
Tax Receivable Agreement
Hagerty, Inc. expects to have adequate capital resources to meet the requirements and obligations under the TRA entered into with the Legacy Unit Holders on December 2, 2021. The TRA provides for the payment by Hagerty, Inc. to the Legacy Unit Holders of 85% of the amount of cash savings, if any, under U.S. federal, state and local income tax or franchise tax realized as a result of (i) any increase in tax basis of Hagerty, Inc.'s assets resulting from (a) the purchase of The Hagerty Group unitsfrom any of the Legacy Unit Holders using the net proceeds from any future offering, (b) redemptions or exchanges by the Legacy Unit Holders of Class V Common Stock and The Hagerty Group units for shares of Class A Common Stock or (c) payments under the TRA and (ii) tax benefits related to imputed interest deemed arising as a result of payments made under the TRA.
Legacy Unit Holders may, subject to certain conditions and transfer restrictions as described in the Legacy Unit Holders Exchange Agreement executed in connection with the Business Combination, redeem or exchange their Class V Common Stock and The Hagerty Group units for shares of Class A Common Stock of Hagerty, Inc. on a one-for-one basis. The Hagerty Group made an election under Section 754 of the IRC with the filing of its 2019 income tax return, which cannot be revoked without the permission of the IRS Commissioner and will be in place for any future exchange of The Hagerty Group units. The redemptions and exchanges are expected to result in increases in the tax basis of the tangible and intangible assets of The Hagerty Group. These increases in tax basis may reduce the amount of tax that Hagerty, Inc. would otherwise be required to pay in the future. This payment obligation as a part of the TRA is an obligation of Hagerty, Inc. and not of The Hagerty Group. For purposes of the TRA, the cash tax savings in income tax will be computed by comparing the actual income tax liability of Hagerty, Inc. (calculated with certain assumptions) to the amount of such taxes that Hagerty, Inc. would have been required to pay had there been no increase to the tax basis of the assets of The Hagerty Group as a result of the redemptions or exchanges and had Hagerty, Inc. not entered into the TRA. Estimating the amount of payments that may be made under the TRA is by nature imprecise, insofar as the calculation of amounts payable depends on a variety of factors.
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Contractual Obligations
The following table summarizes our significant contractual obligations and other commitments as of December 31, 2023:
Payments Due by Period
Total Less than 1 year 1-3 years 3-5 years More than 5 years
in thousands
(1) Refer to Note 17 — Long-Term Debt within Item 8 of Part II of this Annual Report for additional information regarding outstanding debt balances.
(2) Excludes variable rate debt interest payments and commitment fees related to borrowings under our JPM Credit Facility and BAC Credit Facility.
On June 23, 2023, we issued 8,483,561 shares of Series A Convertible Preferred Stock for an aggregate purchase price of $80.0 million. Dividends on the Series A Convertible Preferred Stock are cumulative and accrue from the date of issuance at the rate per annum of 7% of the Series A Purchase Price of each share, plus the amount of previously accrued dividends, compounded annually (the "Accruing Dividends"). The Company may elect to pay the Accruing Dividends either in cash or in additional shares of Series A Convertible Preferred Stock. In addition, shares of the Series A Convertible Preferred Stock are contingently redeemable for cash under certain circumstances. The table of contractual obligations above excludes any potential cash payments related to the Series A Convertible Preferred Stock. Refer to Note 18 — Convertible Preferred Stock in Item 8 of Part II of this Annual Report for additional information on the Series A Convertible Preferred Stock.
Off-Balance Sheet Arrangements
We do not have any material off-balance sheet arrangements as of December 31, 2023.
Critical Accounting Estimates
The preparation of financial statements in accordance with GAAP requires management to make significant judgments, assumptions, and estimates that materially affect the amounts reported in the Company's Consolidated Financial Statements. Management's judgments, assumptions, and estimates are based on historical experience, future expectations, and other factors that are believed to be reasonable as of the date of the Consolidated Financial Statements. Actual results may ultimately differ from management's original estimates, as future events and circumstances sometimes do not develop as expected. The following is a discussion of the critical accounting estimates that may have a material impact on our Consolidated Financial Statements.
Provision for Unpaid Losses and Loss Adjustment Expenses
Description
The provision for unpaid losses and loss adjustment expenses is the difference between management's estimate of the ultimate cost of losses incurred by Hagerty Re and the amount of paid losses as of the reporting date. These reserves reflect management's best estimate of unpaid losses related to both reported claims and IBNR claims. These reserves also include management's best estimate of all expenses associated with processing and settling reported and unreported claims. Management regularly reviews its reserve estimates and updates those estimates as new information becomes available or as events emerge that may affect the resolution of unsettled claims. Updates made to reserve estimates based on new information may cause changes in prior reserve estimates. These changes are recorded within losses and loss adjustment expenses in the period such changes are determined.
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The following table presents Hagerty Re's provision for losses and loss adjustment expenses, both gross and net of reinsurance recoverables, as of December 31, 2023 and 2022:
Gross % of Total Net % of Total
in thousands (except percentages)
Gross % of Total Net % of Total
in thousands (except percentages)
The following table summarizes the development of management's estimate of gross and net ultimate losses and loss adjustment expenses for the 2019 to 2022 accident years:
in thousands
Judgments and Uncertainties
Estimating the ultimate cost of claims and claims expenses is an inherently complex and subjective process that involves a high degree of judgment. The factors considered by management in estimating the provision for unpaid losses and loss adjustment expenses include the following:
•historical trends in claim frequency and severity;
•the changing mix of business due to the large growth in modern collectible cars which carry a different risk profile than the risks associated with classic cars;
•emerging economic and social trends;
•inflation, both economic and social;
•retention limits under current catastrophe and treaty reinsurance programs;
•legislative and judicial changes in the jurisdictions in which we write insurance; and
•management's assessment of broader industry experience and trends.
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Claims are analyzed and reported based on the year in which the loss occurred - i.e., on an accident year basis. Accident year data is classified and utilized within actuarial models to prepare estimates of required reserves for payments to be made in the future. The timing of claim settlement varies and depends on the type of claim being reported. Claims involving property damage are generally settled faster than bodily injury claims. Historical loss patterns are then applied to actual paid losses and reported losses by accident year to develop expectations of future claim payments. Implicit within the actuarial models are estimates of the impacts of inflation, especially for claims with longer expected cycle times. Refer to Note 12 — Provision for Unpaid Losses and Loss Adjustment Expenses in Item 8 of Part II of this Annual Report for additional information regarding the methodologies used to estimate loss and loss adjustment expense reserves.
Reserves are reviewed quarterly and periodically throughout the year by combining historical results and current actual results to calculate new development factors. When estimating loss and loss adjustment expense reserves, our actuarial reserving group considers claim cycle time, claims settlement practices, adequacy of case reserves over time, the seasonality of our business, and current economic conditions.
Effect if Actual Results Differ From Estimates and Assumptions
Because actual experience can differ from key assumptions used in estimating reserves, there may be significant variation in the development of reserves and the amount of actual losses and loss adjustment expenses ultimately paid in the future. Any adjustments to the provision for losses and loss adjustment expenses are recognized in our Consolidated Statements of Operations in the period in which management determines that an adjustment is required.
If the actual level of loss frequency and/or severity is higher or lower than our expectations, the ultimate cost of claims paid will differ from management's estimates. An illustration of the potential effect of higher or lower levels of loss frequency and severity on our ultimate cost of claims for the 2023 accident year is provided in the following table:
in thousands
Deferred Income Taxes
Description
Where applicable, income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying values of existing assets and liabilities and their respective tax basis and operating loss and tax-credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. In determining the provision for income taxes for financial statement purposes, we make estimates and judgments which affect our evaluation of the carrying value of our deferred tax assets, as well as our calculation of certain tax liabilities.
Judgments and Uncertainties
We evaluate the carrying value of our deferred tax assets on a quarterly basis. In completing this evaluation, we consider all available positive and negative evidence. Such evidence includes historical operating results, the existence of cumulative earnings and losses in the most recent fiscal years, taxable income in prior carryback year(s) if permitted under the tax law, expectations for future taxable income, the time period over which our temporary differences will reverse, and the implementation of feasible and prudent tax planning strategies. Estimating future taxable income is inherently uncertain and requires judgment. Deferred tax assets are reduced by a valuation allowance if, based on the weight of this evidence, it is more likely than not that all or a portion of the recorded deferred tax assets will not be realized in future periods.
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As of December 31, 2023, the Company has recorded deferred tax assets of $184.2 million, of which $146.0 million relates to the difference between the outside tax basis and book basis of its investment in the assets of The Hagerty Group. As of December 31, 2023, based on an assessment of all available positive and negative evidence, management believes it is more likely than not that certain deferred tax assets, including the deferred tax asset for the investment in the assets of The Hagerty Group, will not be realized. As a result, the Company has recorded a valuation allowance of $169.6 million against its deferred tax assets as of December 31, 2023.
Effect if Actual Results Differ From Estimates and Assumptions
If management's projections of future taxable income and other positive evidence considered in evaluating the need for the valuation allowance prove, with the benefit of hindsight, to be inaccurate, it could prove more difficult to support the realization of the net deferred tax asset. As a result, an additional valuation allowance could be required, which would have an adverse impact on the Company’s effective income tax rate and results. Conversely, if management determines that sufficient positive evidence exists in the jurisdiction in which a valuation allowance is recorded, the Company may reverse all or a portion of the valuation allowance in that jurisdiction. In such situations, the adjustment made to the deferred tax asset would have a favorable impact on the Company’s effective income tax rate and results in the period such determination was made.
Liabilities under Tax Receivable Agreement
Description
In connection with the Business Combination, Hagerty, Inc. entered into a TRA with the Legacy Unit Holders. The TRA provides for payment to the Legacy Unit Holders of 85% of the U.S. federal, state and local income tax savings realized by Hagerty, Inc. as a result of the increases in tax basis and certain other tax benefits as outlined in the Business Combination Agreement (provided as Exhibit 2.1, incorporated by reference within Item 6. Exhibits, in this Annual Report) upon the exchange of The Hagerty Group units and Hagerty, Inc. Class V Common Stock for Hagerty, Inc. Class A Common Stock or cash. The Hagerty Group made an election under Section 754 of the IRC with the filing of its 2019 income tax return, which cannot be revoked without the permission of the IRS Commissioner and will be in place for any future exchange of The Hagerty Group units. The remaining 15% cash tax savings resulting from the basis adjustments will be retained by Hagerty, Inc.
Judgments and Uncertainties
The amount and timing of any payments under the TRA will vary depending on a number of factors, including, but not limited to, the increase in tax basis of The Hagerty Group's assets, the timing of any future redemptions, exchanges or purchases of The Hagerty Group units held by Legacy Unit Holders, the price of Hagerty, Inc. Class A Common Stock at the time of the purchase, redemption or exchange, the extent to which redemptions or exchanges are taxable, the amount and timing of the taxable income that Hagerty, Inc. generates in the future, the tax rates then applicable and the portion of the payments under the TRA constituting imputed interest.
If we do not generate sufficient taxable income in the aggregate over the term of the TRA to utilize the tax benefits, then we would not be required to make the related payment under the TRA. Therefore, we only recognize a liability for the TRA if we determine it is probable that we will generate sufficient future taxable income over the term of the TRA to utilize the related tax benefits. Estimating future taxable income is inherently uncertain and requires significant management judgment.
As of December 31, 2023, the Company has recognized a liability of $0.6 million relating to its obligations under the TRA, which is limited by its ability to currently utilize the related tax benefits.
Effect if Actual Results Differ From Estimates and Assumptions
Changes in the liability resulting from historical exchanges under the TRA may occur based on changes in anticipated future taxable income, changes in applicable tax rates, or other changes in tax attributes that may occur and impact the expected future tax benefits to be received by the Company. Changes in the projected liability under the TRA are and will be recorded as a component of "Interest and other income (expense)" each period. Actual taxable income may differ from estimates, which could significantly impact the liability under the TRA and the Company's Consolidated Statements of Operations.
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Goodwill and Intangible Assets
Description
Goodwill represents the excess of the purchase price paid over the fair value of net assets acquired in a business combination. Goodwill is not amortized, but is tested annually for impairment at the reporting unit level as of October 1 and between annual tests if indicators of potential impairment exist. These indicators could include a decline in the Company’s stock price and market capitalization, a significant change in the outlook for the reporting unit's business, lower than expected operating results, increased competition, legal factors, or the sale or disposition of a significant portion of a reporting unit. For reporting units with goodwill, an impairment loss is recognized for the amount by which the reporting unit's carrying value, including goodwill, exceeds its fair value.
Our intangible assets are evaluated for impairment only when there is evidence that events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable.
Judgments and Uncertainties
Application of the goodwill impairment test requires judgment, including the identification of reporting units and the determination of the estimated fair value of reporting units. For reporting units with goodwill, we perform a qualitative analysis to determine whether it is more likely than not the fair value of the reporting unit is less than its carrying amount. When assessing goodwill for impairment, our decision to perform a qualitative assessment for an individual reporting unit is based on a number of factors, including the carrying value of the reporting unit's goodwill, the amount of time in between quantitative fair value assessments, macro-economic conditions, industry and market conditions and the operating performance of the reporting unit. If it is determined, based on qualitative factors, that it is more likely than not that the fair value of the reporting unit is less than its carrying amount, a quantitative impairment test is performed, in which we determine the estimated fair value of the reporting unit using a discounted cash flow analysis. This analysis requires significant judgment, including the estimation of future cash flows, which is dependent on internal forecasts, available industry/market data, the estimation of the long-term rate of growth for the reporting unit including expectations and assumptions regarding the impact of general economic conditions on the reporting unit, the estimation of the useful life over which cash flows will occur (including terminal multiples), the determination of the respective weighted average cost of capital and market participant assumptions. Changes in these estimates and assumptions could materially affect the determination of estimated fair value and potential impairment for each reporting unit.
As of December 31, 2023, the Company has recorded goodwill of $114.2 million, including $103.6 million attributable to the Marketplace reporting unit, and intangible assets of $91.9 million, consisting principally of internally developed software, renewal rights, and trade names and trademarks.
Effect if Actual Results Differ from Estimates and Assumptions
Fair value determinations require considerable judgment and are sensitive to changes in underlying assumptions and factors. As a result, there can be no assurance that the estimates and assumptions made for purposes of the annual goodwill impairment test will prove to be an accurate prediction of the future. Examples of events or circumstances that could reasonably be expected to negatively affect the underlying key assumptions and ultimately impact the estimated fair value of our reporting units may include such items as: (i) failure to meet business plans; (ii) deterioration of the U.S. economy; (iii) an increase in interest rates; or (iv) other unanticipated events and circumstances that may decrease the projected cash flows or increase the discount rates and could potentially result in an impairment charge.
While historical performance and current expectations have generally resulted in the conclusion that our goodwill is not impaired, if our assumptions are not realized, it is possible that an impairment charge may need to be recorded in the future. There can be no assurance that the estimates and assumptions made for purposes of the annual goodwill impairment tests will prove to be an accurate prediction of the future.
Warrant Liabilities
Description
As of December 31, 2023, the Company had 5,750,000 Public Warrants outstanding, 257,500 Private Placement Warrants outstanding, 28,750 Underwriter Warrants, 1,300,000 OTM Warrants outstanding, and 12,147,300 PIPE Warrants outstanding.
The Company accounts for these warrants as liabilities as they do not meet the criteria for equity treatment. Accordingly, the warrants are measured at fair value each reporting period with the change in fair value between reporting periods recorded within "Change in fair value of warrant liabilities" in the Consolidated Statements of Operations.
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Judgments and Uncertainties
The Company's Private Placement Warrants, Underwriter Warrants, OTM Warrants, and PIPE Warrants are Level 3 within the fair value hierarchy. The Company utilizes a Monte Carlo simulation model to measure the fair value of these warrants. The Company’s Monte Carlo simulation model includes assumptions related to the expected stock price volatility, expected term, dividend yield, and risk-free interest rate.
The following table summarizes the significant inputs used in the valuation model for the private warrants as of December 31, 2023:
Dividend yield —% —% —% —%
Effect if Actual Results Differ from Estimates and Assumptions
We believe that the significant inputs and assumptions used in the Monte Carlo simulation model are reasonable and appropriately value our Level 3 warrants. However, to the extent that the significant inputs and assumptions used in the valuation model change between reporting periods, the recorded amount of our warrant liabilities would be impacted, resulting in an increase or decrease to the liability and our earnings.
Refer to Note 16 — Fair Value Measurements, in Item 8 of Part II of this Annual Report, for additional information related to the significant inputs to the Monte Carlo simulation model.
New Accounting Standards
New accounting standards are described in Note 1 — Summary of Significant Accounting Policies and New Accounting Standards, in Item 8 of Part II of this Annual Report, which are incorporated herein by reference.
Non-GAAP Financial Measures
Adjusted EBITDA
We define Adjusted EBITDA as consolidated Net income excluding interest and other income (expense), income tax expense, and depreciation and amortization, adjusted to exclude (i) changes in the fair value of our warrant liabilities; (ii) share-based compensation expense; and when applicable, (iii) restructuring, impairment and related charges, net; (iv) the net gain or loss from asset disposals; (v) losses and impairments related to divestitures; (vi) the revaluation gain on a previously held equity method investment; and (vii) certain other unusual items.
We present Adjusted EBITDA because we consider it to be an important supplemental measure of the Company's performance and believe it is frequently used by securities analysts, investors, and other interested parties in the evaluation of companies in our industry. Management uses Adjusted EBITDA as a measure of the operating performance of our business on a consistent basis, as it removes the impact of items not directly resulting from our core operations.
By providing this non-GAAP financial measure, together with a reconciliation to net income (loss), which is the most comparable GAAP measure, we believe we are enhancing investors’ understanding of our business and our results of operations, as well as assisting investors in evaluating how well we are executing our strategic initiatives. However, Adjusted EBITDA has limitations as an analytical tool, and should not be considered in isolation, or as an alternative to, or a substitute for net income (loss) or other financial statement data presented in our Consolidated Financial Statements as indicators of financial performance. Hagerty's definition of Adjusted EBITDA may be different than similarly titled measures used by other companies in our industry, which could reduce the usefulness of this non-GAAP financial measure when comparing our performance to that of other companies.
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The following table reconciles Adjusted EBITDA to the most directly comparable GAAP measure, which is Net income:
Year Ended December 31,
in thousands
Restructuring, impairment and related charges, net 8,812 18,324
Change in fair value of warrant liabilities (11,543) (41,899)
Losses and impairments related to divestitures 4,013 —
Revaluation gain previously held equity method investment — (34,735)
Net loss from asset disposals — 1,970
(1) Other unusual items primarily includes certain legal settlement expenses (net) recognized in the years ended December 31, 2023 and 2022, and certain non-restructuring severance expenses recognized in the year ended December 31, 2022.
Adjusted EPS
We define Adjusted Earnings (Loss) Per Share ("Adjusted EPS") as consolidated Net income (loss), less changes in the fair value of our warrant liabilities and, when applicable, the revaluation gain on a previously held equity method investment, divided by our outstanding and total potentially dilutive securities, which includes (i) the weighted-average issued and outstanding shares of Class A Common Stock; (ii) all issued and outstanding non-controlling interest units of The Hagerty Group;(iii) all unexercised warrants; (iv) all unissued share-based compensation awards; and (v) all issued and outstanding shares of our Series A Convertible Preferred Stock on an as-converted basis.
The most directly comparable GAAP measure to Adjusted EPS is basic earnings per share ("Basic EPS"), which is calculated as Net income (loss) available to Class A Common Stockholders divided by the weighted average number of Class A Common Stock shares outstanding during the period.
We present Adjusted EPS because we consider it to be an important supplemental measure of our operating performance and believe it is used by securities analysts, investors and other interested parties in evaluating the consolidated performance of other companies in our industry. We also believe that Adjusted EPS, which compares our consolidated Net income (loss) with our outstanding and potentially dilutive shares, provides useful information to investors regarding our performance on a fully consolidated basis.
Management uses Adjusted EPS:
•as a measurement of operating performance of our business on a fully consolidated basis;
•to evaluate the performance and effectiveness of our operational strategies; and
•as a preferred predictor of core operating performance, comparisons to prior periods and competitive positioning.
We caution investors that Adjusted EPS is not a recognized measure under GAAP and should not be considered in isolation or as a substitute for, or superior to, the financial information prepared and presented in accordance with GAAP, including Basic EPS, and that Adjusted EPS, as we define it, may be defined or calculated differently by other companies. In addition, Adjusted EPS has limitations as an analytical tool and should not be considered as a measure of profit or loss per share.
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The following table reconciles Adjusted EPS to the most directly comparable GAAP measure, which is Basic EPS:
Year Ended December 31,
in thousands (except per share amounts)
Numerator:
Net income available to Class A Common Stockholders (1) $ 15,881 $ 32,078
Undistributed earnings allocated to Series A Convertible Preferred Stock 673 —
Accretion of Series A Convertible Preferred Stock 3,677 —
Net income (loss) attributable to non-controlling interest 7,948 (29,675)
Change in fair value of warrant liabilities (11,543) (41,899)
Revaluation gain on previously held equity method investment — (34,735)
Adjusted consolidated net income (loss) (2) $ 16,636 $ (74,231)
Denominator:
Total potentially dilutive securities outstanding:
Total unissued share-based compensation awards 8,385 6,902
(1) Numerator and Denominator, respectively, of the GAAP measure Basic EPS
(2) Numerator and Denominator, respectively, of the non-GAAP measure Adjusted EPS
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to interest rate risk as part of our ongoing business operations. Interest rate risk is the risk that the fair value of future cash flows of a financial instrument will fluctuate due to changes in prevailing market interest rates.
As of December 31, 2023, we had approximately $68.0 million of variable rate indebtedness (after taking into consideration $35.0 million in interest rate swaps which effectively convert variable-rate debt to fixed-rate debt), representing approximately 50% of our total debt outstanding, at an average interest rate during the year ended December 31, 2023 of approximately 7.30%. Based on variable-rate borrowings outstanding as of December 31, 2023, a 100-basis point (or 1.0%) change in our borrowing rates would result in our annual interest payments changing by approximately $0.7 million.
We also have a portfolio of loans secured by collector cars of approximately $52.9 million as of December 31, 2023, upon which interest is earned predominately at variable rates including Prime Rate and Term Secured Overnight Financing Rate ("SOFR").
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Financial Statements Page No.
Report of Independent Registered Public Accounting Firm (PCAOB ID No. 34) 69
Consolidated Balance Sheets as of December 31, 2023 and 2022 72
Consolidated Statements of Equity for the three years ended December 31, 2023 73
Notes Accompanying the Consolidated Financial Statements 76
Financial Statement Schedule:
Schedule I: Condensed Financial Information of Registrant Parent Company 124
Schedule II: Valuation and Qualifying Accounts 128
All other schedules are omitted because they are not applicable or the required information is shown in the Consolidated Financial Statements or Notes thereto.
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the stockholders and the Board of Directors of Hagerty, Inc.
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Hagerty, Inc. and subsidiaries (the "Company") as of December 31, 2023 and 2022, the related consolidated statements of operations, comprehensive income (loss), changes in temporary and stockholders' equity, and cash flows, for each of the three years in the period ended December 31, 2023, and the related notes and the schedules listed in the index at Item 8 (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2023, and 2022, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2023, in conformity with accounting principles generally accepted in the United States of America.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits, we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ DELOITTE & TOUCHE LLP
Detroit, Michigan
March 12, 2024
We have served as the Company’s auditor since 2019.
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Hagerty, Inc.
Consolidated Statements of Operations
Year Ended December 31,
REVENUE: in thousands (except per share amounts)
OPERATING EXPENSES:
Restructuring, impairment and related charges, net 8,812 18,324 —
Losses and impairments related to divestitures 4,013 — —
Revaluation gain on previously held equity method investment — 34,735 —
Loss from equity method investment, net of tax — (1,676) —
Net (income) loss attributable to non-controlling interest (7,948) 29,675 398
Net loss attributable to redeemable non-controlling interest — — 14,598
Accretion of Series A Convertible Preferred Stock (3,677) — —
Earnings (loss) per share of Class A Common Stock:
Weighted-average shares of Class A Common Stock outstanding:
The accompanying Notes are an integral part of these Consolidated Financial Statements.
See Note 23 for information regarding Related-Party Transactions.
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Hagerty, Inc.
Consolidated Statements of Comprehensive Income (Loss)
Year Ended December 31,
in thousands
Other comprehensive income, net of tax:
Foreign currency translation adjustments 1,564 (1,834) (792)
Accretion of Series A Convertible Preferred Stock (3,677) — —
The accompanying Notes are an integral part of these Consolidated Financial Statements.
See Note 23 for information regarding Related-Party Transactions.
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Hagerty, Inc.
Consolidated Balance Sheets
December 31,
ASSETS in thousands (except share amounts)
Current Assets:
LIABILITIES, TEMPORARY EQUITY AND STOCKHOLDERS' EQUITY
Current Liabilities:
Provision for unpaid losses and loss adjustment expenses 136,507 111,741
Commitments and Contingencies (Note 24) — —
TEMPORARY EQUITY
STOCKHOLDERS' EQUITY
Accumulated other comprehensive income (loss) (88) (213)
The accompanying Notes are an integral part of these Consolidated Financial Statements.
See Note 23 for information regarding Related-Party Transactions.
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Hagerty, Inc.
Consolidated Statements of Changes in Temporary Equity and Stockholders' Equity
Temporary Equity Stockholders' Equity
in thousands Shares Amount Shares Amount Shares Amount
Non-controlling interest issued capital — — — — — — — — — — 779 779
The accompanying Notes are an integral part of these Consolidated Financial Statements.
See Note 23 for information regarding Related-Party Transactions.
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Hagerty, Inc.
Consolidated Statements of Changes in Temporary Equity and Stockholders' Equity
Temporary Equity Stockholders' Equity
in thousands Shares Amount Shares Amount
Issuance of shares under employee plans — — 37 — — — — — — — — —
Non-controlling interest issued capital — — — — — — — — — — 1,700 1,700
The accompanying Notes are an integral part of these Consolidated Financial Statements.
See Note 23 for information regarding Related-Party Transactions.
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Hagerty, Inc.
Consolidated Statements of Cash Flows
Year Ended December 31,
OPERATING ACTIVITIES: in thousands
Loss on equity method investment — 1,676 —
Revaluation gain on previously held equity method investment — (34,735) —
Impairment of operating lease right-of-use assets 1,147 4,698 —
Loss on disposals of equipment, software and other assets 1,894 4,316 2,425
Losses and impairments related to divestitures 2,827 — —
Changes in operating assets and liabilities:
Provision for unpaid losses and loss adjustment expenses 24,766 36,872 19,882
Operating lease liabilities (11,243) (9,779) —
INVESTING ACTIVITIES:
Purchase of previously held equity method investment — (15,250) —
Issuance of notes receivable (24,939) (6,123) —
Collection of notes receivable 10,357 370 —
FINANCING ACTIVITIES:
Proceeds from issuance of preferred stock, net of issuance costs 79,159 — —
Contribution from non-controlling interest 779 1,700 1,580
Distributions — — (4,056)
Cash received in Business Combination — — 789,661
Cash consideration to HHC at closing of Business Combination — — (489,661)
Payment of capitalized transaction costs — (1,651) (30,991)
The accompanying Notes are an integral part of these Consolidated Financial Statements.
See Note 23 for information regarding Related-Party Transactions.
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Hagerty, Inc.
Notes To Consolidated Financial Statements
1 — Summary of Significant Accounting Policies and New Accounting Standards
In these Notes to the Consolidated Financial Statements, the terms "Hagerty," and "the Company" refer to Hagerty, Inc. and its consolidated subsidiaries, including The Hagerty Group, LLC ("The Hagerty Group"), unless the context requires otherwise. In addition, the Company's insurance policyholders and paid Hagerty Drivers Club ("HDC") subscribers are collectively referred to herein as "Members".
Description of Business — Hagerty is a market leader in providing insurance for classic cars and enthusiast vehicles. Through Hagerty's insurance model, the Company acts as a Managing General Agent ("MGA") by underwriting, selling and servicing classic car and enthusiast vehicle insurance policies. The Company then reinsures a large portion of the risks written by its MGA subsidiaries through its wholly owned subsidiary, Hagerty Reinsurance Limited ("Hagerty Re"). In addition, Hagerty offers HDC memberships, which can be bundled with its insurance policies and give subscribers access to an array of products and services, including Hagerty Drivers Club Magazine, automotive enthusiast events, Hagerty's proprietary vehicle valuation tool, emergency roadside assistance, and special vehicle-related discounts. Lastly, to complement its insurance membership offerings, the Company offers Hagerty Marketplace ("Marketplace"), where car enthusiasts can buy, sell, and finance collector cars.
Basis of Presentation — The Consolidated Financial Statements are prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP") and pursuant to the regulations of the Securities and Exchange Commission and include the accounts of Hagerty, Inc., which is comprised of The Hagerty Group and its consolidated subsidiaries.
The Consolidated Financial Statements reflect all normal recurring adjustments and accruals that are, in the opinion of management, necessary for a fair statement of the Company's financial position and results of operations for periods presented.
Principles of Consolidation — The Consolidated Financial Statements contain the accounts of Hagerty, Inc. and its majority-owned or controlled subsidiaries.
As of December 31, 2023 and 2022, Hagerty, Inc. had economic ownership of 24.9% and 24.5%, respectively, of The Hagerty Group and is its sole managing member. Hagerty, Inc. reports a non-controlling interest representing the economic interest in The Hagerty Group held by other parties.
As of December 31, 2023 and 2022, The Hagerty Group owned 100% and approximately 80%, respectively, of Member Hubs Holding, LLC ("MHH"), which operates as Hagerty Garage + Social. Refer to Note 10 — Losses and Impairments Related to Divestitures for additional information related to MHH and Hagerty Garage + Social.
The financial statements of The Hagerty Group and MHH are consolidated by the Company under the voting interest method guidance in accordance with Accounting Standards Codification ("ASC") Topic 810, Consolidations ("ASC 810"). The non-controlling interests related to The Hagerty Group and MHH are presented separately on the Consolidated Statements of Operations, Consolidated Statements of Comprehensive Income (Loss), Consolidated Balance Sheets, and Consolidated Statements of Changes in Temporary Equity and Stockholders' Equity.
All intercompany accounts and transactions have been eliminated in consolidation.
Variable Interest Entities — Broad Arrow Capital LLC ("BAC") and certain of its subsidiaries transfer notes receivable to wholly owned, bankruptcy-remote, special purpose entities (each, an "SPE") to secure borrowings under the BAC Credit Agreement (as defined in Note 17 — Long-Term Debt).
These SPEs are considered to be variable interest entities (each, a "VIE") under GAAP and their financial statements are consolidated by BAC, which is the primary beneficiary of the SPEs and a consolidated subsidiary of the Company. BAC is considered to be the primary beneficiary of the SPEs because it has (i) power over the significant activities of the SPEs through its role as servicer of the notes receivable used to secure borrowings under the BAC Credit Agreement and (ii) the obligation to absorb losses or the right to receive returns that could be significant through its interest in the residual cash flows of the SPEs.
Refer to 4 — Notes Receivable and Note 17 — Long-Term Debt for additional information.
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The following table presents the assets and liabilities of the Company's consolidated variable interest entities:
December 31,
ASSETS in thousands
Cash and cash equivalents $ 83 $ —
Restricted cash and cash equivalents 961 —
Accounts receivable 190 —
LIABILITIES
Accounts payable, accrued expenses and other current liabilities $ 1,881 $ —
Long-term debt, net 25,782 —
TOTAL LIABILITIES $ 27,663 $ —
Emerging Growth Company — The Company currently qualifies as an "emerging growth company" under the Jumpstart Our Business Startups Act of 2012 and can delay the adoption of new or revised accounting standards until those standards would apply to private companies.
The Company intends to avail itself of this extended transition period and, therefore, the Company may not be subject to the same new or revised accounting standards as other public companies that are not emerging growth companies or have opted out of using such extended transition period. As of December 31, 2023, the Company has not delayed the adoption of any new or revised accounting standards despite qualifying as an emerging growth company.
Use of Estimates — The preparation of the Consolidated Financial Statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and the disclosure of contingent assets and liabilities as of the date of the Consolidated Financial Statements, as well as the reported amounts of revenue and expenses during the reporting period. Although the estimates are considered reasonable, actual results could materially differ from those estimates.
Significant estimates made by management include, but are not limited to: (i) the provision for unpaid losses and loss adjustment expenses, including incurred but not reported ("IBNR") claims (see Note 12); (ii) the valuation of the Company's deferred income tax assets (see Note 22); (iii) the amount of the liability associated with the Tax Receivable Agreement ("TRA") (see Note 22); (iv) the fair values of the reporting units used in assessing the recoverability of goodwill (see Note 11); (v) the valuation and useful lives of intangible assets (see Note 11); and (vi) the fair value of the Company's warrant liabilities (see Note 16). Although some variability is inherent in these estimates, management believes that the current estimates are reasonable in all material respects. These estimates are reviewed regularly and adjusted as necessary. Adjustments related to changes in estimates are reflected in the Company’s results of operations in the period during which those estimates changed.
Segment Information — The Company has one operating segment and one reportable segment. The Company’s Chief Operating Decision Maker ("CODM") is the Chief Executive Officer ("CEO"), who makes resource allocation decisions and assesses performance based on consolidated financial information. The Company’s segment presentation reflects a management approach that utilizes a decision making framework with its Members and customers at the center of all decisions, which requires the CODM to have a consolidated view of the Company's results.
Foreign Currency Translation — The Company translates its foreign currency denominated assets and liabilities into United States ("U.S.") dollars at current rates of exchange as of the balance sheet date, and foreign currency denominated income and expense items at the average exchange rate for the reporting period. Translation adjustments resulting from exchange rate fluctuations are recorded in "Foreign currency translation adjustments", a component of Accumulated other comprehensive income (loss). Foreign currency transaction gains and losses are recognized within "Interest and other income (expense)" in the Consolidated Statements of Operations.
Cash and Cash Equivalents and Restricted Cash and Cash Equivalents — Cash and cash equivalents includes amounts held in banks in operating accounts and money market funds. The Company considers money market funds with maturities within 90 days of the purchase date to be equivalent to cash. At December 31, 2023 and 2022, the Company’s cash accounts exceeded federally insured limits.
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The Company's MGA subsidiaries collect premiums from insureds on behalf of insurance carriers. Prior to remittance to the insurance carrier, these funds are required to be held in trust and segregated from the Company's operating cash. These funds are recorded within "Restricted cash and cash equivalents" with a corresponding liability recorded within "Due to insurers" on the Consolidated Balance Sheets.
Hagerty Re maintains a trust account for the benefit of the ceding insurer as security for their obligations for losses, loss expenses, unearned premium and profit-sharing commissions. The use of the funds in this trust account is restricted to the payment of these amounts and is reported within "Restricted cash and cash equivalents" on the Consolidated Balance Sheets.
Broad Arrow Capital LLC and its consolidated subsidiaries maintain bank accounts that are required for the operation of the BAC Credit Facility (as defined in Note 17 — Long-Term Debt). The funds in these bank accounts represent security under the BAC Credit Facility and their use is restricted to the servicing of the debt outstanding under that facility. The funds held in these bank accounts are reported within "Restricted cash and cash equivalents" on the Consolidated Balance Sheets.
The following table provides a reconciliation of cash and cash equivalents and restricted cash and cash equivalents as of December 31, 2023 and 2022:
December 31,
in thousands
The table below presents information regarding the Company's non-cash investing and financing activities, as well as the cash paid for interest and taxes for the years ended December 31, 2023, 2022, and 2021:
Year Ended December 31,
NON-CASH INVESTING AND FINANCING ACTIVITIES: in thousands
Broad Arrow acquisition $ — $ 73,253 $ —
Warrant liabilities recognized in Business Combination $ — $ — $ 46,826
Termination of MHH Joint Venture (Refer to Note 10) $ 2,929 $ — $ —
CASH PAID FOR:
Deferred Acquisition Costs, net — Deferred acquisition costs are the ceding commissions paid by Hagerty Re to insurance carriers for the risk assumed under the quota share agreements with those carriers. Deferred acquisition costs are recorded net of commissions received by Hagerty Re for the risk ceded to various reinsurers. Net acquisition costs are deferred and recognized ratably over the term of the related policies, which is generally 12 months.
Deferred acquisition costs are considered to be recoverable if the sum of expected future earned premiums exceeds expected future claims and expenses. Anticipated investment income is also a factor in the recoverability analysis. If, as a result of the recoverability analysis, a loss is determined to be probable, a premium deficiency reserve is recognized in the period in which such determination is made. At December 31, 2023 and 2022, deferred acquisition costs were considered fully recoverable and no premium deficiency reserve was recorded.
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Other Assets — Other assets, current and long-term, primarily consists of prepaid sales, general and administrative expenses, prepaid software-as-a-service ("SaaS") implementation costs, fixed income investments, and deferred reinsurance premiums ceded.
•Prepaid expenses are recorded at cost and amortized over the applicable service term.
•The Company expenses SaaS implementation costs incurred during the preliminary project stage and, upon management approval, capitalizes direct implementation costs once the development phase begins. Capitalized SaaS implementation costs are recorded within prepaid expenses and are amortized over the term of the underlying service agreement. The Company monitors SaaS implementation projects on an ongoing basis and capitalizes the costs of any major improvements or new functionality. Once the software is fully implemented, ongoing maintenance costs are expensed as incurred.
•Fixed income investments consist of Canadian provincial and municipal bonds which qualify as debt securities under ASC Topic 320, Investments – Debt Securities. Fixed income investments are classified as held-to-maturity because the Company has the intent and ability to hold these investments to maturity. As a result, fixed income investments are carried at amortized cost on the Consolidated Balance Sheets. Amortized cost is the amount at which an investment is acquired, adjusted for applicable accrued interest and accretion of discount or amortization of premium. Premium or discount is amortized on a straight-line basis to maturity. Refer to Note 16 — Fair Value Measurements for additional information.
•Deferred reinsurance premiums ceded consists of the unearned portion of premiums ceded by Hagerty Re to various reinsurers. Deferred reinsurance premiums are recognized on a pro-rata basis over the term of the related reinsured policies as a reduction to "Earned premium" in the Consolidated Statements of Operations.
Notes Receivable — Notes receivable includes loans underwritten by BAC secured by collector cars. Notes receivable are recorded on the date the loan is funded based on the amount stipulated in the underlying agreement. Loans made by BAC carry either a fixed or variable rate of interest and typically have an initial maturity of up to two years, often with an option for the borrower to renew for one year increments, provided the borrower remains in good standing. Finance revenue on the loans is recognized when earned based on the amount of the outstanding loan, the applicable interest rate on the loan, and the length of time the loan was outstanding during the period.
Notes receivable are recorded net of an allowance for expected credit losses, which is based on management's quarterly risk assessment and takes into consideration a number of factors including the level of historical losses for similar loans, the quality of collateral, the low loan-to-value ratio of the loans, management's overall assessment of the current circumstances and risks related to each loan, and, to a lesser extent, the circumstances related to each borrower. The valuation of collector cars is inherently subjective, and the realizable value of collector cars often fluctuates over time. Refer to Note 4 — Notes Receivable for additional information.
Property and Equipment — Property and equipment are recorded at cost and depreciated over the estimated useful life of each asset. Leasehold improvements are amortized over the shorter of either the lease term or the estimated useful lives of the improvements. Estimated useful lives range from three to seven years for computers, automobiles and office furniture. Building and building improvements have estimated useful lives of 39 years. Upon sale or retirement, the cost and related accumulated depreciation of the assets disposed are derecognized, and any resulting gain or loss is reflected in the Consolidated Statements of Operations. Annual depreciation is calculated based on the straight-line method. Maintenance, repair costs and minor renovations are expensed as incurred, while expenditures that increase the asset's estimated useful life are capitalized.
Leases — At inception, contracts are evaluated to determine whether they are or contain a lease. A contract is or contains a lease if it conveys the right to control the use of identified property, plant or equipment for a period of time in exchange for consideration. At commencement, leases are evaluated for classification as an operating lease or finance lease. Operating lease right-of-use ("ROU") assets and liabilities are recognized at the commencement date of the lease based on the present value of lease payments over the lease term, discounted using the Company's incremental borrowing rate. The Company estimates the incremental borrowing rate based on qualitative factors including company specific credit rating, lease term, impact of collateral, general economics and the interest rate environment. Operating lease liabilities represent the present value of lease payments not yet paid. Operating lease ROU assets are recorded based upon the operating lease liabilities adjusted for prepayments or accrued lease payments, initial direct costs, lease incentives, and previously recognized impairments. The Company does not recognize ROU assets and lease liabilities for short-term leases. The Company has real estate lease agreements that contain lease and non-lease components, which are accounted for as a single lease component.
The Company’s leases often contain fixed rent escalations over the lease term. The Company recognizes expense for these leases on a straight-line basis over the lease term. The Company also has lease agreements that are subject to annual changes in the Consumer Price Index ("CPI"). While lease liabilities are not remeasured as a result of changes to the CPI, changes to the CPI are treated as variable lease payments and recognized in the period in which the obligation for those payments has incurred.
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The Company’s lease agreements may contain variable costs such as common area maintenance, operating expenses, real estate taxes or other costs. Variable lease costs are expensed as incurred within "General and administrative services" in the Consolidated Statements of Operations. The Company’s lease agreements generally do not contain any residual value guarantees or restrictive covenants.
The Company has the option to extend most of its lease agreements, with renewals ranging from one to 20 years. The Company includes renewal options in lease terms that are deemed reasonably certain of being exercised in the lease term. As it is not reasonably certain that the Company will exercise these renewal options, they are not included in the lease terms for purposes of calculating the Company's lease liability. The Company adopted ASC Topic 842, Leases ("ASC 842") effective January 1, 2022 under the modified retrospective approach.
The Company’s primary operating leases consist of office space. The Company’s leases have remaining terms of one to 13 years. As of December 31, 2023 and 2022, the Company had not entered into any finance leases. Refer to Note 7 — Leases for additional information.
Intangible Assets — Intangible assets are recorded at cost and amortized over the estimated life of each intangible asset. Acquired intangible assets are initially recorded at fair value using generally accepted valuation methods appropriate for the type of intangible assets. Intangible assets primarily consist of insurance policy renewal rights, internally developed software, trade names, non-compete agreements and customer relationships. Amortization is recorded using the straight-line method over their estimated lives as it approximates the pattern over which economic benefits are realized. Insurance policy renewal rights, internally developed software, trade names, non-complete agreements and customer relationships are amortized over three to 25 years. The Company expenses internally developed software costs incurred during the preliminary project stage and, upon management approval, capitalizes direct development costs including the associated payroll and related costs for employees working on development and outside contractor costs.
Impairment of Long-Lived Assets — The Company reviews all long-lived assets that have finite lives for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable in accordance with ASC Topic 360, Impairment and Disposal of Long-Lived Assets ("ASC 360"). If it is determined the carrying amount of the asset (or asset group) is not recoverable, the Company recognizes an impairment loss as an operating expense in the current period in the Consolidated Statements of Operations.
The determination of the recoverability of a long-lived asset (or asset group) is based on an estimate of the undiscounted cash flows resulting from the use of the asset (or asset group) and its eventual disposition. If the carrying value of the long-lived asset (or asset group) is not recoverable on an undiscounted cash flow basis, an impairment is recognized to the extent that the carrying value exceeds its fair value. Fair value is determined through various valuation techniques including discounted cash flow models, quoted market values and third-party independent appraisals, as necessary.
Goodwill — Goodwill represents the excess of the cost of a business combination, as defined in ASC Topic 805, Business Combinations ("ASC 805"), over the fair value of net assets acquired, including identifiable intangible assets. Goodwill is not amortized, but is tested annually for impairment at the reporting unit level as of October 1 and between annual tests if indicators of potential impairment exist.
For reporting units with goodwill, the Company performs a qualitative analysis to determine whether it is more likely than not the fair value of the reporting unit is less than its carrying amount. When assessing goodwill for impairment, the Company's decision to perform a qualitative assessment for an individual reporting unit is based on a number of factors, including the carrying value of the reporting unit's goodwill, the amount of time in between quantitative fair value assessments, macro-economic conditions, industry and market conditions and the operating performance of the reporting unit. If it is determined, based on qualitative factors, that it is more likely than not that the fair value of the reporting unit is less than its carrying amount, a quantitative impairment test is performed, in which the Company determines the estimated fair value of the reporting unit using a discounted cash flow analysis. This analysis requires significant judgment, including the estimation of future cash flows, which is dependent on internal forecasts, available industry/market data, the estimation of the long-term rate of growth for the reporting unit including expectations and assumptions regarding the impact of general economic conditions on the reporting unit, the estimation of the useful life over which cash flows will occur (including terminal multiples), the determination of the respective weighted average cost of capital and market participant assumptions.
As of December 31, 2023, the Company has recorded goodwill of $114.2 million, including $103.6 million attributable to
the Marketplace reporting unit. The Company did not recognize any goodwill impairments during the years ended December 31, 2023, 2022, and 2021.
Losses Payable — Losses payable represents the amount due to insurance carriers by Hagerty Re for paid and billed losses as of the balance sheet date.
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Provision for Unpaid Losses and Loss Adjustment Expenses — The provision for unpaid losses and loss adjustment expenses is the difference between management's estimate of the ultimate cost of losses and loss adjustment expenses incurred by Hagerty Re and the amount of paid losses as of the reporting date. These reserves reflects management’s best estimate of unpaid losses related to both reported claims and IBNR claims.
Estimating the ultimate cost of claims and claims expenses is an inherently complex and subjective process that involves a high degree of judgment. Reserves are reviewed by management quarterly and periodically throughout the year by combining historical results and current actual results to calculate new development factors. When estimating loss and loss adjustment expense reserves, the Company's actuarial reserving group considers claim cycle time, claims settlement practices, adequacy of case reserves over time, seasonality, and current economic conditions. Because actual experience can differ from key assumptions used in estimating reserves, there may be significant variation in the development of reserves and the amount of actual losses and loss adjustment expenses ultimately paid in the future. Any adjustments to the provision for losses and loss adjustment expenses, and any related reinsurance recoverables, are recognized in the Consolidated Statements of Operations in the period in which management makes the determination that an adjustment is required.
The amount of any reinsurance recoverable is determined by applying the contract terms specific to Hagerty Re's various reinsurance treaties to incurred losses arising from a qualifying event. Reinsurance recoverables are recorded within "Other current assets" on the Consolidated Balance Sheets.
Refer to Note 12 — Provision for Unpaid Losses and Loss Adjustment Expenses for additional information regarding the methodologies used to estimate loss and loss adjustment expense reserves.
Due to Insurers — Due to insurers represents the net amount of premium owed to insurance carriers by the Company's MGA subsidiaries based on the respective contract with each carrier. The net amount due is equal to the gross written premium less the Company’s commission for policies that have reached their effective date.
Advanced Premiums — Advanced premiums represent the gross written premium received by the Company's MGA subsidiaries from insurance Members prior to the effective date of the policy. At the effective date of the policy, "Advanced premiums" are reclassified to "Due to insurers" in the Consolidated Balance Sheets and commission revenue is recognized in the Consolidated Statements of Operations.
Warrant Liabilities — The Company accounts for its outstanding warrants in accordance with ASC Topic 815, Derivatives and Hedging ("ASC 815"). The warrants do not meet the criteria for equity treatment and as such, are recorded at fair value as a non-cash liability. The warrant liability is subject to remeasurement each reporting period with the change in fair value between reporting periods recorded within "Change in fair value of warrant liabilities" in the Consolidated Statements of Operations. Refer to Note 16 — Fair Value Measurements for additional information.
Derivative Instruments — The Company enters into certain derivative financial instruments, when available on a cost-effective basis, to mitigate its risk associated with changes in interest rates and foreign currency exchange rates. The Company accounts for derivatives in accordance with ASC 815, which establishes accounting and reporting standards requiring that all derivative instruments (including certain derivative instruments embedded in other contracts), whether designated as hedging relationships or not, be recorded on the Consolidated Balance Sheets as either an asset or liability measured at fair value. If a derivative is designated as a cash flow hedge for accounting purposes, the effective portion of the change in the fair value of the derivative is recorded in "Other comprehensive income". If a derivative is not designated as a hedge for accounting purposes, the change in fair value is recognized within "Interest and other income (expense)" in the Consolidated Statements of Operations each reporting period. All derivative instruments are managed on a consolidated basis to efficiently minimize exposures.
Gains and losses related to the derivative instruments are expected to be largely offset by gains and losses on the underlying asset or liability. The Company does not use derivative financial instruments for speculative purposes.
The Company is exposed to credit loss in the event of nonperformance by the counterparties on derivative contracts. It is the Company’s policy to manage its credit risk on these transactions by dealing only with financial institutions having a long-term credit rating of "A" or better.
Business Combinations — The Company accounts for acquisitions of entities or asset groups that qualify as a business
using the acquisition method in accordance with ASC 805. Purchase consideration is allocated to the tangible and intangible assets acquired and liabilities assumed based on the estimated fair values as of the acquisition date, which are measured in accordance with the principles outlined in ASC Topic 820, Fair Value Measurement ("ASC 820"). The determination of fair value requires management to make estimates about discount rates, future expected cash flows, market conditions and other future events that are highly subjective in nature. The excess of the total purchase consideration over the fair value of the identified net assets acquired is recognized as goodwill. The results of the acquired businesses are included in the results of operations beginning from the date of acquisition. Acquisition-related costs are expensed as incurred.
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During the measurement period, which may be up to one year from the acquisition date, the Company may record adjustments to the allocation of purchase consideration and to the fair values of assets acquired and liabilities assumed to the extent that additional information becomes available. After this period, any subsequent adjustments are recorded in the Consolidated Statements of Operations.
Revenue Recognition — The Company recognizes revenue under both ASC Topic 606, Revenue from Contracts with Customers ("ASC 606") and ASC Topic 944, Financial Services — Insurance ("ASC 944").
Commission and fee revenue
The Company's MGA subsidiaries earn commission and fee revenue primarily from the underwriting, sale, and servicing of classic car and enthusiast vehicle insurance policies written on behalf of the Company's insurance carrier partners. Approximately 93% of commission and fee revenue is earned through the policies sold by Hagerty's U.S. MGAs. These policies are underwritten by a subsidiary of Markel Group, Inc. ("Markel"), which is a related party. Refer to Note 23 — Related-Party Transactions for additional information.
The Company has identified the insurance carrier as its customer and determined that the transaction price is the estimated commissions to be received over the term of the policy. The transaction price is determined based on an estimate of premiums placed, net of a constraint for policy changes and cancellations. These commissions and fees, including those paid via installment plan, are earned when the policy becomes effective, as our performance obligation is substantially complete when the policy is issued, all rights are passed to the insured, and the obligation to pay a claim resides with the carrier.
Under the terms of certain of its contracts with insurance carriers, the Company has the opportunity to earn a contingent underwriting commission ("CUC"), or profit share, based on written or earned premium and the loss ratio results of the insurance book of business. Each insurance carrier partner contract and related CUC is calculated independently. The CUCs represent a form of variable consideration associated with the placement of insurance coverage. Under ASC 606, the Company must estimate the amount of consideration that it will become entitled to receive during the calendar year such that a significant reversal of revenue is not probable. As such, CUCs are recognized as a contract asset within "Commissions receivable" on the Consolidated Balance Sheets in the period that the policy is issued using the applicable premium and payout factors based on the estimated loss ratio from the contract.
Earned premium
Hagerty Re, which is registered as a Class 3A reinsurer under the Bermuda Insurance Act of 1978, earns reinsurance premium revenue for risks assumed primarily from the classic car and enthusiast vehicle insurance policies underwritten by the Company's MGA subsidiaries. In the third quarter of 2023, AM Best assigned a financial strength rating of A- (Excellent) to Hagerty Re.
Earned premium represents the earned portion of written premiums that Hagerty Re has assumed under quota share reinsurance agreements with the Company's insurance carrier partners, net of premiums ceded to various reinsurers and the cost of catastrophe reinsurance coverage. Premiums assumed and ceded are earned on a pro-rata basis over the term of the related insurance policies, which is generally 12 months, with the unearned portion recorded as "Unearned premiums" on the Consolidated Balance Sheets. The cost of catastrophe reinsurance coverage is recognized over the contract period in proportion to the related earned premium.
Membership, marketplace and other revenue
Subscription revenue is earned through HDC memberships, which can be bundled with the Company's insurance policies and give subscribers access to an array of products and services, including Hagerty Drivers Club Magazine, automotive enthusiast events, the Company's proprietary vehicle valuation tool, emergency roadside assistance, and special vehicle-related discounts. The Company also earns fee-based revenue from Hagerty Garage + Social memberships, which include storage services in addition to the HDC Member benefits. Revenue from the sale of HDC and storage memberships is recognized ratably over the period of the membership. The membership is treated as a single performance obligation to provide access to stated member benefits over the life of the membership, which is currently one year.
Marketplace earns fee-based revenue from the sale of collector cars through live auctions, time-based online auctions, and brokered private sales. In addition, Marketplace earns revenue from financing provided to qualified collectors and businesses secured by their collector cars. Fee-based revenue earned by Marketplace is recognized when the underlying sale is completed. Finance revenue is recognized when earned based on the amount of the outstanding loan, the applicable interest rate on the loan and the length of time the loan was outstanding during the period.
Lastly, other revenue includes sponsorship, admission, advertising, valuation and registration income. Other revenue is recognized when the performance obligation for the related product or service is satisfied.
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Contract Assets and Liabilities — The Company recognizes contract assets for amounts due to the Company's MGA subsidiaries for CUCs earned but not yet billed under terms of the contract. Contract assets are recorded within "Commissions receivable" on the Consolidated Balance Sheets.
Contract liabilities are recorded primarily as deferred revenue when payments are received in advance of performance under a contract before the transfer of goods or services to a customer or fulfillment of the contract obligations. Contract liabilities consist primarily of an advanced commission payment, along with the obligation to fulfill HDC membership benefits over the one-year life of a membership.
Contract Costs — The Company accounts for contract costs under ASC Topic 340, Other Assets and Deferred Costs, ("ASC 340"), which requires companies to defer certain incremental costs to obtain customer contracts and certain costs to fulfill customer contracts.
The Company capitalizes the incremental costs to obtain contracts, which are primarily related to commission payments on new policy sales. These deferred costs are amortized within "Sales expense" in the Consolidated Statements of Operations based on the average expected life of the insurance policy and are included within "Other current assets" on the Company’s Consolidated Balance Sheets as of December 31, 2023 and 2022.
Advertising — Advertising and sales promotion costs are expensed the first time the advertising or sales promotion takes place. Advertising costs were $25.5 million, $27.8 million, and $24.1 million for the years ended December 31, 2023, 2022, and 2021, respectively, and are reflected as a component of "Sales expense" in the Consolidated Statements of Operations.
Income Taxes — The Hagerty Group is taxed as a pass-through ownership structure under the Internal Revenue Code ("IRC") and a similar section of state income tax law, except for certain U.S. corporate subsidiaries and foreign subsidiaries. Any taxable income or loss generated by The Hagerty Group is passed through to and included in the taxable income or loss of all of The Hagerty Group unit holders, which includes Hagerty, Inc. Hagerty, Inc. is taxed as a corporation and pays corporate federal, state and local taxes with respect to income allocated from The Hagerty Group. Hagerty, Inc., Hagerty Re, Broad Arrow Group, Inc. ("Broad Arrow"), Hagerty Radwood, Inc., and various foreign subsidiaries are treated as taxable entities and income taxes are provided where applicable. Refer to Note 22 — Taxation for additional information.
Where applicable, income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying values of existing assets and liabilities and their respective tax basis and operating loss and tax-credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the Consolidated Statements of Operations in the period of the enactment date.
The Company evaluates the carrying value of its deferred tax assets on a quarterly basis. In completing this evaluation, management considers all available positive and negative evidence. Such evidence includes historical operating results, the existence of cumulative earnings and losses in the most recent fiscal years, taxable income in prior carryback year(s) if permitted under the tax law, expectations for future pre-tax operating income, the time period over which temporary differences will reverse, and the implementation of feasible and prudent tax planning strategies. Estimating future taxable income is inherently uncertain and requires judgment. Deferred tax assets are reduced by a valuation allowance if, based on the weight of this evidence, it is more likely than not that all or a portion of the recorded deferred tax assets will not be realized in future periods.
Tax Receivable Agreement Liability — In connection with the Business Combination, Hagerty, Inc. entered into a TRA with Hagerty Holding Corp. ("HHC") and Markel (together the "Legacy Unit Holders"). The TRA provides for payment to the Legacy Unit Holders of 85% of the U.S. federal, state and local income tax savings realized by Hagerty, Inc. as a result of the increases in tax basis and certain other tax benefits as outlined in the Business Combination Agreement (provided as Exhibit 2.1, incorporated by reference within Item 6. Exhibits, in this Annual Report) upon the exchange of The Hagerty Group units and Class V Common Stock of the Company for Class A Common Stock of the Company or cash. The Hagerty Group made an election under Section 754 of the IRC with the filing of the 2019 income tax return, which cannot be revoked without the permission of the Internal Revenue Service ("IRS") commissioner and will be in place for any future exchange of The Hagerty Group units. The remaining 15% cash tax savings resulting from the basis adjustments will be retained by Hagerty, Inc. Refer to Note 8 — Business Combination for additional information regarding the Business Combination.
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In general, cash tax savings result in a year when the tax liability of Hagerty, Inc. for the year, computed without regard to the deductions attributable to the amortization of the basis increase and other deductions that arise in connection with the payment of the cash consideration under the TRA or the exchange of The Hagerty Group units and Class V Common Stock for Class A Common Stock, would be more than the tax liability for the year taking into account such deductions. Payments under the TRA will not be due until the Company produces taxable income and the resulting cash tax liability is reduced by deducting the amortization of the basis increase on a filed tax return. The payments under the TRA are expected to be substantial. The estimated value of the TRA is recorded in "Other long-term liabilities" on the Consolidated Balance Sheets.
Hagerty, Inc. accounted for the effects of the basis increases as follows:
•Hagerty, Inc. recorded an increase in deferred tax assets for the income tax effects of the increases in tax basis based on enacted federal and state income tax rates at the date of the exchange.
•Hagerty, Inc. evaluated the ability to realize the full benefit represented by the deferred tax asset based on an analysis that considered expectations of future earnings, among other things. If Hagerty, Inc. determined that the full benefit is not likely to be realized, a valuation allowance was established to reduce the amount of the deferred tax assets to an amount that is more likely than not to be realized.
•Hagerty, Inc. recorded 85% of the estimated realizable tax benefit as an increase to the liability due under the TRA, which is recorded within "Other long-term liabilities", with a decrease to "Additional paid-in capital" on the Consolidated Balance Sheets. The remaining 15% of the estimated realizable tax benefit will be retained by Hagerty, Inc.
All of the effects of changes in any of the estimates after the date of the redemption or exchange are recorded within "Interest and other income (expense)" in the Consolidated Statements of Operations.
Earnings Per Share — The Company calculates basic and diluted earnings (loss) per share ("EPS") in accordance with ASC Topic 260, Earnings Per Share ("ASC 260").
Basic EPS is computed under the Two-Class Method by using Net income (loss) available to Class A Common Stockholders divided by the weighted-average number of shares of Class A Common Stock outstanding during the period.
Diluted earnings (loss) per share is calculated using diluted Net income (loss) available to Class A Common Stockholders divided by the weighted average number of shares of Class A Common Stock outstanding during the period, adjusted to give effect to potentially dilutive securities. The Company's potentially dilutive securities consist of (i) unexercised warrants, unvested share-based compensation awards, and shares issuable under the employee stock purchase plan, with the dilutive effect calculated using the Treasury Stock Method, and (ii) non-controlling interest units of The Hagerty Group and the Series A Convertible Preferred Stock, with the dilutive effect calculated using the more dilutive of the If-Converted Method and the Two-Class Method.
In periods in which the Company reports a net loss attributable to Class A Common Stockholders, diluted net loss per share attributable to Class A Common Stockholders would be equal to basic net loss per share since potentially dilutive Class A Common Stock is not assumed to be issued if their effect is anti-dilutive.
Share-Based Compensation — The Company issues restricted stock units and performance restricted stock units under the 2021 Equity Incentive Plan. The grant date fair value for restricted stock units is determined based on the closing price of the Company's Class A Common Stock on the business day prior to grant. The Company uses a Monte Carlo simulation model to estimate the fair value of performance restricted stock units when the terms of the grant are based on the Company's stock price. Share-based compensation expense is recognized over the applicable requisite service period of the award, generally using the straight-line method. Forfeitures are recorded in the period in which they occur. Refer to Note 21 — Share-Based Compensation for additional information.